IRS Publication 583: Starting a Business and Keeping Records
Starting a business is one of the most exciting and financially consequential decisions you will ever make. Publication 583 walks you through every tax-critical decision — from choosing the right business structure and registering for an EIN to building a bulletproof recordkeeping system that will protect you in an audit. Whether you are launching a side hustle, opening a storefront, or scaling a professional practice, this guide is your roadmap to starting on the right tax footing.
Choosing Your Business Structure
The business structure you choose determines how you file taxes, your personal liability, your self-employment tax obligations, and how the IRS will examine your return. This is the single most important tax decision a new business makes — and changing it later requires formal IRS filings. Publication 583 provides an overview of each structure; consult a tax professional before making your final decision.
Sole Proprietorship
The default structure for single-owner businesses — no formal registration required at the federal level. You report all business income and expenses on Schedule C of your personal Form 1040. You pay self-employment tax (15.3% on net earnings up to the Social Security wage base, then 2.9% Medicare tax plus 0.9% Additional Medicare Tax above thresholds) on all profits. Unlimited personal liability — your personal assets are exposed to business creditors. Simplest to administer but offers the least protection.
Partnership
Two or more owners who share profits, losses, and management responsibilities. The partnership files Form 1065 (informational return) and issues Schedule K-1 to each partner showing their distributive share of income, deductions, and credits. Each partner reports their K-1 items on their personal return. General partners are subject to self-employment tax on their share of partnership earnings. The partnership agreement should be in writing and specify profit-sharing ratios, capital contributions, management authority, and dissolution procedures.
C Corporation
A separate legal and tax entity that files Form 1120 and pays its own income tax at the corporate rate (currently 21% flat federal rate). Shareholders pay tax again on dividends received — the classic double-taxation structure. Offers the strongest liability protection and the ability to retain earnings inside the company. Can deduct fringe benefits (health insurance, group-term life, retirement contributions) for shareholder-employees. Best for businesses planning to reinvest profits, seek venture capital, or eventually go public.
S Corporation
A pass-through entity that files Form 1120S and issues K-1s. Income, deductions, and credits flow through to shareholders, avoiding corporate-level tax. Key restriction: no more than 100 shareholders, all must be U.S. citizens or residents, and only one class of stock is permitted. Shareholder-employees who perform services must receive reasonable compensation (W-2 wages) before taking distributions — this is a major IRS audit focus. Distributions in excess of stock basis are taxable as capital gains.
Limited Liability Company (LLC)
A state-law entity that provides liability protection like a corporation but with flexible tax treatment. A single-member LLC is disregarded for federal tax purposes — you file Schedule C like a sole proprietor. A multi-member LLC defaults to partnership taxation. Any LLC can elect to be taxed as a C-corp or S-corp by filing Form 8832 or Form 2553. The LLC structure is popular because it combines liability protection with pass-through tax simplicity, but state filing fees and annual reports add compliance costs.
Getting an EIN and Registering with Tax Authorities
Employer Identification Number (EIN)
Every business that has employees, operates as a corporation or partnership, or files employment, excise, or alcohol/tobacco/firearms returns must have an EIN. Sole proprietors without employees can use their Social Security number, but an EIN protects your SSN and is required by most banks to open a business account. Apply online at IRS.gov — the EIN is issued immediately, free of charge, through the online EIN Assistant. Never pay a third party for an EIN.
State & Local Registration
Most states require businesses to register with the Secretary of State (corporations, LLCs, partnerships) and obtain state tax identification numbers. You may need a seller's permit to collect sales tax, a state unemployment insurance account for employees, and a workers' compensation policy. Local requirements may include a business license, zoning permit, health department permit, or professional license. Check with your state's department of revenue and local city or county clerk's office.
Payroll Tax Registration
When you hire your first employee, you must register for federal payroll taxes using your EIN. This covers: federal income tax withholding (Form 941, quarterly), Social Security and Medicare taxes (FICA — employer and employee each pay 7.65%), and federal unemployment tax (FUTA — reported on Form 940 annually, 6% on first $7,000 of wages per employee, with a credit of up to 5.4% for state unemployment taxes paid). You must also register for state payroll taxes through your state's employment department.
Beneficial Ownership Information (BOI)
Under the Corporate Transparency Act, most LLCs, corporations, and other entities created by filing with a Secretary of State must report beneficial ownership information to FinCEN (Financial Crimes Enforcement Network). Entities created before 2024 had until January 1, 2025, to file. New entities must file within 90 days of formation (entities created 2024) or 30 days (2025 and later). Failure to file carries penalties of $591 per day up to $10,000 maximum and potential criminal liability. This is a separate obligation from your tax filings — do not overlook it.
Recordkeeping Requirements — What to Keep and for How Long
The single most important lesson from Publication 583: your records are your defense. The IRS does not take your word for a deduction — they require documentation. When records are missing or inadequate, the IRS can reconstruct your income by analyzing bank deposits, comparing your lifestyle to your reported income, or using industry averages for expenses — all of which tend to produce a far higher tax bill than your actual numbers. Build a recordkeeping system from day one.
Income Records
Keep all documents that show gross receipts: cash register tapes, bank deposit slips, receipt books, invoices, Forms 1099-NEC and 1099-K, credit card charge slips, and records of all cash payments received. For each deposit or receipt, you should be able to identify the source (customer/client), amount, and date. Digital payment platforms (PayPal, Venmo, Square, Stripe) must be reconciled — the IRS now receives Forms 1099-K from these processors and will match them against your return.
Expense Records & Proof of Payment
For every business expense you deduct, you need documentation showing: (1) the amount paid, (2) the date of payment, (3) the business purpose, and (4) the payee or vendor. Receipts, canceled checks, credit card statements, and invoices serve as proof. A handwritten note in a calendar or a digital entry in accounting software should capture the business purpose. For travel and entertainment (meals), also document the location and the business relationship of the people involved.
Asset Records & Depreciation Schedules
For every business asset — vehicles, equipment, computers, furniture, machinery, buildings, and leasehold improvements — keep the purchase contract, invoice or receipt, date placed in service, cost basis, and any financing documents. Maintain a depreciation schedule showing the method (MACRS, straight-line, Section 179), recovery period, convention, and accumulated depreciation for each asset. These records must be retained until the statute of limitations expires for the year you sell or otherwise dispose of the asset — which may be decades.
Employment Tax Records
For every employee: name, address, Social Security number, dates of employment, Form W-4 (withholding certificate), total compensation (wages, tips, fringe benefits), amounts and dates of tax deposits (federal income tax withheld, Social Security and Medicare taxes), Form W-2 copies, and any Forms 1099 issued. Keep employment tax records for at least 4 years after the date the tax becomes due or is paid, whichever is later — longer than the general 3-year business record period.
Bank Statements & Reconciliation
Maintain all business bank account statements and reconciliation reports. Never commingle personal and business funds in the same account — the IRS can disallow deductions from commingled accounts because they cannot determine which expenses were business and which were personal. A separate business checking account and business credit card create a clean paper trail that is easy to defend in an audit and difficult for the IRS to challenge.
Record Retention Periods — Know the Timelines
Publication 583 sets out specific retention periods based on the type of record and the potential for IRS examination. These are minimums — many tax professionals recommend keeping records longer, especially for assets and employment taxes. The clock starts from the later of the filing date or the due date of the return (including extensions).
3 Years — General Rule
The basic statute of limitations for the IRS to assess additional tax is 3 years from the date you filed your return, or 2 years from the date you paid the tax, whichever is later. Most income and expense records fall under this rule. If you filed on April 15, 2026, keep those records until at least April 15, 2029. File early? The 3 years run from the due date (April 15), not the filing date. File on extension (October 15)? The 3 years run from the actual filing date.
6 Years — Substantial Omission
If you understate your gross income by more than 25% of the amount shown on your return, the IRS has 6 years to assess additional tax. For example, if your return reported $100,000 of gross income and you actually earned $130,000 ($30,000 omitted — 30%), the IRS has 6 full years. This extended statute applies frequently to cash-intensive businesses, businesses with poor recordkeeping, and situations where the IRS can demonstrate unreported income through bank deposits analysis or third-party reporting.
Indefinitely — Fraud or No Return
There is no statute of limitations — the IRS can assess tax at any time, with no time limit — if you (a) filed a fraudulent return with intent to evade tax, or (b) never filed a return for that year. This is a powerful enforcement tool. The IRS must prove fraud by clear and convincing evidence, and the fraud must be the taxpayer's — not the preparer's, unless the taxpayer participated. Even if you missed a year entirely, filing a late return starts the statute running. The cost of not filing is permanent, unlimited IRS exposure.
4 Years — Employment Tax Records
Employment tax records (Forms 940, 941, W-2, W-4, payroll registers, tax deposit confirmations) must be kept for at least 4 years after the later of the date the tax becomes due or the date it is paid. This longer period reflects the complexity of employment tax audits and the potential for worker misclassification disputes (employee vs. independent contractor). The IRS and Department of Labor often coordinate on employment tax examinations, increasing the risk of multi-agency exposure.
Property Records — Until Disposition + Statute
Records supporting the basis of property — purchase documents, settlement statements, improvement receipts, depreciation schedules, casualty loss documentation — must be kept until the statute of limitations expires for the year you sell or otherwise dispose of the property. If you own a building for 30 years and sell it in year 30, you need to produce purchase and improvement records from 30 years earlier to calculate your gain or loss. Digitize these records and store them securely in multiple locations.
Tax Returns — Keep Copies Forever
While the statute of limitations governs how long the IRS can assess additional tax, keeping copies of your filed tax returns (both federal and state) forever is strongly recommended. Returns are proof that you filed, evidence of carryforwards (net operating losses, capital losses, charitable contributions, foreign tax credits), and necessary for loan applications, mortgage underwriting, disability insurance claims, and Social Security earnings verification. A tax professional can request transcripts from the IRS for years you are missing, but the process is slow and transcripts lack the detail of a full return.
Accounting Methods: Cash vs. Accrual
Your accounting method determines when you report income and deduct expenses. The method you choose must clearly reflect your income and be used consistently — changing methods later requires IRS consent via Form 3115. Publication 583 introduces both methods; the choice has lasting tax implications.
Cash Method
Report income in the year you actually or constructively receive it — when a check is in your hands, a direct deposit hits your account, or payment is credited to your account and available for withdrawal. Deduct expenses in the year you actually pay them — when you mail the check, charge the credit card, or transfer the funds. The cash method is simpler, more intuitive, and available to most small businesses. It also gives you year-end tax planning flexibility: delay sending December invoices to push income into next year, or prepay January expenses in December to accelerate deductions.
Accrual Method
Report income in the year you earn it (when the sale occurs or services are performed), regardless of when you receive payment. Deduct expenses in the year you incur the liability (when the obligation becomes fixed and the amount is determinable), regardless of when you pay. The accrual method matches revenue with the expenses that generated it and is required for businesses that maintain inventory (with exceptions for qualifying small businesses under TCJA), C corporations with average annual gross receipts over $30 million, and tax shelters.
Hybrid Methods & Special Rules
Some businesses use a hybrid: accrual for inventory and cost of goods sold, cash for everything else. Special rules apply to long-term contracts (percentage of completion method), installment sales (report gain as payments are received), and prepaid income (generally must be recognized in the year received unless a deferral election is available). Construction contractors, manufacturers, and service businesses with retainers and prepayments need careful attention to these rules.
Choosing & Changing Methods
Most new small businesses start with the cash method — it is simpler, more flexible, and available unless inventory or gross receipts thresholds require accrual. As you grow, an accountant can help determine whether accrual accounting would better reflect your business's financial performance for lenders and investors. To change methods, file Form 3115 (Application for Change in Accounting Method) — many changes are automatic (no user fee), but some require IRS advance consent. An improper method change without filing Form 3115 can result in the IRS imposing its own accounting method adjustment, often with unfavorable timing.
Types of Business Taxes You May Owe
Business taxes are not a single line item — they are a collection of federal, state, and local obligations that depend on your structure, industry, and whether you have employees. Publication 583 identifies the major categories every new business owner must understand before opening the doors.
Income Tax
All businesses except partnerships must file an annual income tax return: Schedule C for sole proprietors and single-member LLCs, Form 1120 for C corporations, and Form 1120S for S corporations. Partnerships file Form 1065 (informational) — tax is paid at the partner level. Estimated tax payments are generally required quarterly (April 15, June 15, September 15, January 15) if you expect to owe $1,000 or more. Failure to pay estimated taxes triggers underpayment penalties.
Self-Employment Tax
Self-employed individuals pay both the employer and employee portions of Social Security and Medicare taxes — a combined 15.3% on net earnings up to the Social Security wage base ($168,600 for 2024), then 2.9% Medicare tax on earnings above that. An additional 0.9% Additional Medicare Tax applies to earnings above $200,000 (single) or $250,000 (married filing jointly). You deduct the employer-equivalent portion (7.65%) as an above-the-line adjustment to income on your Form 1040. S-corp shareholder-employees avoid SE tax on distributions — only W-2 wages are subject to payroll tax.
Employment Taxes
When you have employees, you are responsible for: (1) withholding federal income tax from employee wages based on Form W-4; (2) withholding the employee's share of Social Security and Medicare taxes (7.65%); (3) paying the employer's matching share (7.65%); (4) paying federal unemployment tax (FUTA — 6% on the first $7,000 of each employee's wages, with up to 5.4% state credit); and (5) state payroll taxes including state unemployment insurance and, in some states, state disability insurance. These taxes are deposited on a semi-weekly or monthly schedule via the Electronic Federal Tax Payment System (EFTPS). Failure to deposit and report employment taxes triggers the Trust Fund Recovery Penalty — a 100% penalty assessed personally against responsible individuals.
Excise Taxes
Certain industries and products are subject to federal excise taxes: fuel, heavy trucks and trailers, tires, airline tickets, indoor tanning services, coal, firearms and ammunition, and environmental taxes on chemicals and petroleum products. If your business manufactures, sells, or uses these products, you must register with the IRS and file Form 720 (Quarterly Federal Excise Tax Return). Excise taxes are separate from income tax and often remitted more frequently — noncompliance carries significant penalties.
Sales & Use Tax (State & Local)
If you sell taxable goods or services, you must collect sales tax from customers and remit it to the state. Sales tax rates, nexus rules (what creates a filing obligation in a state), and taxable item definitions vary dramatically by state — and with economic nexus laws following South Dakota v. Wayfair, you may owe sales tax in states where you have no physical presence. Use tax is the counterpart: if you buy goods from out of state without paying sales tax, you owe use tax to your home state. Sales tax compliance is complex, state-audited, and carries personal liability for responsible officers.
State Business Taxes & Annual Fees
Most states impose a franchise tax, gross receipts tax, or annual report fee on LLCs and corporations — these are due whether or not your business is profitable. California's annual LLC fee ranges from $0 to $11,790 based on gross receipts; its minimum franchise tax is $800. Delaware's franchise tax is based on authorized shares or assumed par value. Late filing and nonpayment trigger penalties, interest, and potential administrative dissolution of your entity. Budget for these annual compliance costs as part of your operating expenses.
Starting a Business? Get Your Tax Foundation Right from Day One
The decisions you make in your first year — business structure, accounting method, recordkeeping system, tax registrations — will shape your tax obligations for years to come. Our CPA-led team helps new business owners choose the right entity, register correctly with every taxing authority, set up audit-proof recordkeeping, and avoid the expensive mistakes that trigger IRS examinations. Whether you are launching a side hustle or opening your third location, start with confidence. If you are already operating and worried your records are not where they need to be, it is not too late — we can help you organize, reconstruct, and get compliant before the IRS comes asking.