State Tax Requirements Affecting Small Businesses; Part 2

This is part two in our series on State Issues that Affect the Survival of your Small Business.

Each state has the authority to impose its own tax laws - which means that not all businesses across the country are taxed equally. Understanding what your state obligations are and how it affects the success of your business can help you find the best tax environment for your business. See Part One for more information on state taxes that affect your small business.

Alternative Minimum Taxes

Many business owners do not realize that U.S. income tax operates on two parallel tax systems; regular tax and alternative tax. The alternative minimum tax was intended to compensate for those with high incomes who use multiple deductions to avoid appropriate levels of taxation. Unfortunately, the tax now affects many people outside its intended purpose and has become fairly controversial. For more information on the AMT, check out the Alternative Minimum Tax brief from the Congressional Budget Office.

The Individual AMT imposes a minimum tax rate that is required for those who meet its criteria - regardless of tax credits and deductions. This tax generally has a wider definition of taxable income and hurts the effectiveness of tax relief measures that are intended to encourage growth.

The Corporate AMT is an alternate system that imposes a tax on certain businesses or corporations - regardless of tax credits and deductions. This tax generally has a wider definition of taxable income and hurts the effectiveness of tax relief measures that are intended to encourage growth.

State Requirements: Certain states require individuals to pay alternative minimum taxes while other states do not. If yo-re unsure of whether or not your state requires the AMT or if you meet the criteria for the individual or corporate AMT, check out the Alternative Minimum Tax Assistant for Individuals or the 2009 Instructions for the AMT form from the IRS.

Indexing Personal Income Tax Brackets

Depending on how a state revenue agency accounts for inflation, an individual who closely borders the ceiling of a higher personal income tax bracket may be pushed into the higher bracket. This is especially significant for business owners that file their business income with their personal returns because they could be taxed at a rate where they are not actually meeting the income threshold.

Some states prevent this from happening by indexing their income tax brackets to account for inflation. The following states index their tax brackets: Alabama, Arizona, Connecticut, Delaware, the District of Columbia, Georgia, Hawaii, Kansas, Kentucky, Louisiana, Maryland, Mississippi, Missouri, Nebraska, New Jersey, New Mexico, New York, North Carolina, Ohio, Oklahoma, Utah, Virginia and West Virginia. States not listed do not index their personal income tax brackets.

Additional Income Tax on S Corporations

An S Corporation is a special type of corporation created through a tax election. An eligible domestic corporation can avoid double taxation (first to the shareholders and then again to the corporation) by electing to be treated as an S Corp. In these cases, businesses reap the benefits of a corporation but their income is taxed at an individual level. Several states require S Corporations to pay a an additional tax to make up for the savings they receive from this tax election- raising the cost of doing business.

Only ten states require an additional tax rate for S-Corporations. The District of Columbia requires the highest rate at 9.975%, closely followed by New Hampshire at 8.5%. Tennessee, Louisiana, Massachusetts, Michigan, and Alabama also impose a tax between 6.5% and 3.25%. The states that require the smallest amount of additional tax are California, Illinois, and Kentucky all requiring 1.5% or less. The remaining states do not require added tax for s-Corporations.

To Be Continue'

W'll continue to follow up with more state tax requirements that affect small business survival. We hope the first two articles have given business owners a better understanding of what to expect from their state when starting a business. As always, we appreciate your thoughts and feedback on state-specific issues that have affected your business.