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Tax Incentives: A Guide to Saving Money for U.S. Small Businesses

Tax incentives are deductions, exemptions or exclusions from money owed in taxes to the government. Tax incentives are offered by the government to help individuals or businesses do certain activities, such as investing in expensive items like buildings, vehicles, machinery or equipment, according to Business Dictionary.

In this article, we’ll cover:

NOTE: FreshBooks Support team members are not certified income tax or accounting professionals and cannot provide advice in these areas, outside of supporting questions about FreshBooks. If you need income tax advice please contact an accountant in your area.

What Are Tax Incentives?

Tax incentives are exclusions, exemptions or deductions from taxes owed to the government. Businesses receive tax incentives from the government in order to invest back in their businesses, make environmentally-sound choices or to support minorities or disadvantaged business owners.

Tax incentives appear in a few forms, according to the University of Central Arkansas:

  • Tax exemptions: a business does not have to pay certain taxes
  • Tax reductions: the amount of tax a business has to pay is reduced
  • Tax refunds and rebates: these pay back a business part of their taxes after they’ve already paid the balance
  • Tax credits: these credits can be accumulated and used as desired, in one tax year or the next

To get a tax incentive, a business have to meet the government’s requirements. These can include:

  • Being part of a specific industry
  • Creating a certain number of jobs
  • Reaching a payroll minimum
  • Investing a certain minimum amount in a project

Tax incentives have different purposes according to what the government wants i.e. more private investment, more jobs, more research and development. They might specifically target industries they want to foster and see grow such as information technology, agriculture or biotechnology.

Tax Incentives for Small Businesses

Tax Credits

The IRS has a number of business tax credits available to small businesses and self-employed individuals. You can also carry forward credits from past years and add them to the total credits allowed in the current tax year.

Use Form 3800 to claim your business credits. There are also a number of forms owners can use to calculate different parts of the general business credit like the investment credit and the biodiesel and renewable diesel fuels credit. The electric vehicle credit is claimed separately using Form 8834.

Your allowable credit limit depends on whether you claim your business income on your personal tax return (self-proprietorships, partnerships and some LLCs) or you’re a corporation. These limits also depend on the outcome of Form 1040 (individuals) or Form 1120, Schedule J (corporations).

Tax Credits Specific to Small Business

The following tax credits are specific to small businesses in the U.S. and can prove to be valuable write-offs to reduce your tax burden, according to the Small Business Administration. These credits include:

  • Small employer health insurance premiums credit: credit 50 percent of premiums paid for your employees’ health coverage. Use Form 8491 for more information.
  • Small employer pension plan startup costs: there has to be at least one participant other than the owner. The credit is half your costs up to $1,000. Use Form 8881 for more information.
  • Increased research activities credit: you can get 20 percent back of your research-related expenses. Use Form 6765 for more information..
  • Family and medical leave credit. Includes maternity leave. You need to pay at least 50 percent of the employee’s normal wages. The credit covers up to 25 percent of the paid leave. It applies to the 2018 and 2019 tax years only. Use Form 8994 for more information.

People also ask:

Why Does the Government Use Incentives?

The government uses tax incentives in order to help increase economic development. Tax incentives make it less expensive and more profitable for a business to function. States can use tax incentives to encourage businesses to operate in their state, according to the University of Central Arkansas.

In a nutshell, tax incentives decrease the amount of tax businesses have to pay to the government. This helps them decrease the cost of doing business and be more profitable. The government wants this so that businesses create jobs or invest more in their state. Tax incentives are a popular tool by politicians to improve the local economy.

Are Employee Incentives Taxable?

Yes, some employee incentives are taxable, according to the IRS. Taxable employee incentives include:

  • Cash benefits like a bonus
  • Gift certificates that can be redeemed for merchandise or exchanged for cash
  • Achievement awards that are cash or equivalent, vacation, meals, lodging, theater or sports tickets, or securities

Non-taxable employee incentives include:

  • Holiday gifts
  • Occasional snacks
  • Occasional transportation fare or meal money when working overtime
  • Occasional tickets for entertainment events
  • Group-term life insurance for spouse or dependent, face value can’t exceed $2,000
  • Special occasion flowers, books, fruit etc.
  • Achievement awards as long as they don’t fit on the taxable categories listed above

How Is Incentive Pay Taxed?

If incentive pay is excluded from taxation (see above), then it doesn’t need to be reported on individual taxes. 

If the incentive pay is taxable, you need to include it with your wages on Form W-2 in box #1 “wages, tips or other compensation.” You can also report any incentive pay in box #14 “other.” The employee is then on these incentives as part of their income tax return.


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