7 Tax & Financial Planning Mistakes Solo Business Owners Make

Running a successful solo business can create some tremendous financial planning opportunities.

It can also create a surprising number of ways for otherwise smart business owners to make expensive mistakes.

I see this especially with consultants, Realtors, attorneys, physicians, fractional executives, and other professionals who earn good incomes without having many — or any — employees.

The problem usually isn’t that they’re ignoring their finances.

Often, it’s the opposite.

They may have a CPA preparing the tax return, a payroll company processing payroll, a financial advisor managing investments, and QuickBooks keeping track of the business.

Yet nobody is looking at how all those pieces fit together.

That’s where things can go sideways.

A decision that saves payroll tax might limit retirement plan contributions. A retirement account that’s easy to open might not be the best option. Clean bookkeeping can create the illusion that tax planning is already happening when nobody has actually projected the year’s tax liability.

I’m Dwight Dettloff, a CPA and financial planner at Winding Trail Financial Planning in Lafayette, Colorado. I work with retirees, people approaching retirement, and closely held business owners who want their tax planning, investments, retirement strategy, and business decisions to work together rather than being handled separately.

If you’re a business owner in Colorado and you’re looking for a more coordinated approach to tax and financial planning — particularly as retirement starts getting closer — you can Start Here⁠ to learn more about how I work with clients.

In the meantime, here are seven mistakes I see solo business owners make — and why seemingly smart decisions can sometimes work against each other.

1. Electing S Corporation Status Because Someone Said It “Saves Taxes”

Let’s start with one of my favorites.

Someone tells a profitable business owner:

“You should become an S corporation. It’ll save you a bunch of money in taxes.”

Sometimes that’s true.

But “S corporations save taxes” is an incomplete sentence.

One of the primary potential benefits of an S corporation is reducing the amount of business income subject to Social Security and Medicare payroll taxes. Instead of treating all business profit as self-employment income, an S-corp owner generally receives W-2 compensation for services performed, while additional profits may pass through as distributions that aren’t subject to employment taxes in the same way.

That can produce big savings.

But those savings aren’t free.

An S corporation also generally means payroll, an additional business tax return, more bookkeeping and compliance, reasonable-compensation considerations, shareholder basis tracking, distributions, and other administrative requirements.

And sometimes there are second-order effects that aren’t obvious when someone runs a quick “S corp versus Schedule C” tax calculation.

Retirement planning is a great example.

If you’re earning $300,000 or $400,000 from a solo business and want to aggressively fund retirement accounts, your entity structure and W-2 compensation can materially affect what’s possible.

There’s another wrinkle for business owners who also have a high-paying W-2 job. If your wages from that job have already exceeded the Social Security wage base for the year, additional Schedule C income generally isn’t subject to the Social Security portion of self-employment tax. Medicare taxes can still apply, but that can make the potential payroll-tax savings from an S-corp election considerably smaller than they first appear. In that situation, the additional cost and complexity of an S corporation deserves an even closer look.

The better question isn’t:

“Will an S corporation save me payroll tax?”

It’s:

“Does an S corporation make sense given my income, retirement goals, administrative costs, and overall financial plan?”

Those are very different questions.

2. Setting Your S-Corp Salary Based on the Tax Bill

Once a business owner elects S-corp status, the next conversation sometimes goes like this:

“How low can I make my salary?”

That’s the wrong starting point.

An S corporation generally must pay a shareholder-employee reasonable compensation for the services that person provides to the business.

There isn’t one magic percentage that works for everyone, despite what you might see on the socials.

A reasonable-compensation analysis can involve factors such as your responsibilities, experience, time devoted to the business, comparable compensation, and the nature of the company’s revenue.

That’s especially important for a solo service business.

If you’re a consultant generating $350,000 primarily because of your own knowledge and labor, simply deciding that $40,000 or $50,000 “sounds like a good salary” isn’t much of a methodology.

There’s also a larger planning point here.

The goal shouldn’t necessarily be to minimize your salary. The goal should be to choose and document reasonable compensation while understanding what that salary affects elsewhere in your financial life.

Which brings us to mistake number three.

3. Keeping W-2 Wages Low While Trying to Maximize Retirement Savings

This is where optimizing one tax in isolation can produce unintended consequences.

Imagine a 58-year-old consultant earning $350,000 from her business.

She elects S-corp status and pays herself $50,000 in W-2 wages.

At first glance, that might look fantastic because she’s potentially reduced her payroll-tax bill.

But now suppose her bigger goal is to save aggressively for retirement over the next five or seven years.

There’s a problem.

For an S-corp shareholder, retirement plan contributions are generally based on W-2 compensation rather than S-corp distributions. That can make compensation an important input in determining how much the business can contribute to certain retirement plans.

So the question becomes:

How much payroll tax did we save — and what did that decision potentially cost somewhere else?

That doesn’t mean the S corporation was necessarily a mistake.

It means there wasn’t enough information to evaluate the decision based solely on payroll-tax savings.

This becomes especially important for older, high-income solo business owners because retirement plans can be one of their largest remaining tax-planning opportunities.

I recently wrote about this in more detail in Beyond the SEP IRA: 5 Retirement Plans for High-Income Solo Business Owners.

Your entity choice, compensation, retirement plan, and tax strategy shouldn’t be four separate conversations.

4. Defaulting to a SEP IRA Because It’s Easy

The SEP IRA has plenty going for it.

It’s relatively straightforward, widely available, and can allow a self-employed business owner to make meaningful tax-deferred retirement contributions.

But “easy” and “best” aren’t synonyms.

I often see solo business owners default to a SEP because that’s the retirement plan they’ve heard of or because a CPA or financial advisor suggested one years ago.

Depending on your income, age, entity structure, and whether you have employees, there may be other possibilities worth considering, including:

• Solo 401(k)

• Profit-sharing contributions

• SIMPLE IRA

• Cash balance or defined benefit plan

• A combination of a 401(k) and cash balance plan for certain high-income owners

For a 32-year-old freelancer earning $80,000, simplicity might appropriately be the priority.

For a 58-year-old consultant earning $300,000 with no employees and a goal of retiring in five years, the analysis can look very different.

That’s why retirement plan selection should start with the business owner’s goals rather than with a particular account.

How much are you trying to save? How stable is the business income? How old are you? Do you have employees? When might you retire? How much complexity are you willing to accept?

Then choose the tool.

Not the other way around.

5. DIYing Payroll Long After the Business Has Outgrown It

I understand why business owners DIY payroll.

When you’re getting started, every dollar matters. If you’re the only employee, paying someone else to run a tiny payroll can feel unnecessary.

But as the business becomes more profitable — and particularly after an S-corp election — payroll becomes more than writing yourself a check every couple of weeks.

There can be federal and state payroll deposits, quarterly filings, unemployment requirements, W-2 reporting, retirement contributions, shareholder health insurance, officer compensation, and other year-end adjustments.

This is where the classic December scramble starts.

Someone realizes on December 28 that payroll hasn’t been handled correctly all year. Or shareholder health insurance wasn’t included properly. Or retirement contributions don’t line up with compensation. Or nobody has looked at reasonable compensation.

At some point, the dollars saved by DIYing payroll aren’t worth the time, risk, and year-end cleanup.

That doesn’t mean every solo business needs an expensive outsourced HR department.

It means you should periodically ask:

Am I still saving money by doing this myself, or have I simply created another job for myself?

6. Assuming Clean Books Mean You’re Doing Tax Planning

Good bookkeeping matters.

But there’s an important distinction between books that are reconciled, accurate, and timely. Just because QuickBooks says an account is reconciled doesn’t necessarily mean every transaction was categorized correctly. And even perfectly accurate books aren’t particularly useful for decision-making if they’re six months behind.

For some solo business owners, bookkeeping really is simple enough to handle themselves. But it’s still worth asking whether that’s the highest and best use of your time. If an hour spent serving a client, developing new business, or improving your company is considerably more valuable than an hour spent categorizing transactions, outsourcing even relatively simple bookkeeping may make sense. Or, do you want to be doing your bookkeeping on a Saturday when you could be spending that time with friends or family?

A good bookkeeper or accountant can also help create consistent processes around invoicing, collections, expense documentation, and other administrative tasks that become increasingly important as a business grows.

Most importantly, though, good bookkeeping and tax planning are not the same thing.

You can have immaculate QuickBooks records on December 31 and still discover that nobody spent the year asking questions such as:

• What will taxable income likely be this year?

• Are estimated tax payments on track?

• Should we make a retirement plan contribution?

• Should compensation change?

• Are there major purchases or deductions we need to evaluate?

• Are there tax elections or planning opportunities with deadlines?

• How does the business income affect the owner’s personal tax situation?

Bookkeeping primarily tells us what happened.

Timely bookkeeping helps us understand what is happening now.

Tax planning should help us think about what’s likely to happen next and whether there’s anything we should do about it before the year is over.

That’s an important distinction.

The tax return itself is largely historical too. By the time you’re preparing the return, many of the best planning opportunities for that tax year may already be gone.

For a profitable business owner, tax planning should generally happen during the year — not for the first time when the return is being prepared.

7. Having Several Advisors Who Never Talk to Each Other

This may be the biggest mistake on the list.

A business owner can have perfectly competent professionals and still receive fragmented advice.

The CPA thinks about taxes.

The payroll provider processes payroll.

The financial advisor manages the investment portfolio.

The bookkeeper keeps QuickBooks clean.

The retirement plan administrator manages the plan.

Everybody may be doing exactly what they’re supposed to do.

But who is asking:

“What is this business owner actually trying to accomplish?”

Consider our hypothetical 58-year-old business owner again.

She’s making $350,000.

She has no employees.

She wants to retire in several years and save aggressively before she does.

Her CPA says:

“Let’s elect S-corp status and reduce payroll taxes.”

Her payroll company says:

“Okay. Tell us the salary.”

Her financial advisor says:

“Here’s how we’re investing your portfolio.”

All of those conversations can be reasonable individually.

But somebody still needs to ask:

What should the entire structure look like?

Should she be an S corporation?

What is reasonable compensation?

How much does she want to put toward retirement?

Would a Solo 401(k) work?

What about a cash balance plan?

How does the retirement contribution affect her current tax bracket?

How much money does she actually need from the business for personal spending?

When does she want to retire?

What happens to the business when she does?

Is all of this worth the return on hassle?

How does all of this eventually get unwound in retirement?

That’s planning.

And it’s very different from having five professionals each efficiently manage one piece of the puzzle.

The Bigger Issue: Don’t Optimize One Number

There’s a theme running through almost every mistake on this list.

Tax planning isn’t about minimizing one tax.

A business owner shouldn’t automatically choose the structure that produces the lowest payroll tax, the retirement account that’s easiest to open, or the salary that produces the largest S-corp distribution.

Instead, the objective should be to make the pieces work together.

Your tax return, business entity, payroll, retirement plan, investments, and personal financial plan aren’t six separate planning problems.

They’re one financial system.

Sometimes paying a little more in one area creates a better outcome somewhere else.

Sometimes added complexity is worth it.

Sometimes simplicity wins. Candidly, I tend to lean towards simplicity.

And sometimes the strategy you’ve used successfully for the last ten years no longer makes sense because your income, age, business, or retirement timeline has changed. It's not that it was wrong, it's more that the tool or solution is no longer serving you today.

That’s why I think these questions become particularly important for business owners approaching retirement.

The final five or ten working years can represent an unusually valuable planning window. You may be at peak earnings, have fewer family expenses, and finally have enough cash flow to make large retirement contributions.

That’s not the time to let each financial decision operate in its own silo.

Financial Planning for Business Owners in Colorado

At Winding Trail Financial Planning, I work with retirees, people approaching retirement, and closely held business owners to coordinate financial planning, investment management, and tax planning.

For business owners in Lafayette, Boulder County, and throughout Colorado, that can mean looking beyond the business tax return to questions involving compensation, retirement plans, investments, personal cash flow, and the transition from running a business into retirement.

The objective isn’t simply to find every possible deduction and shove every tax strategy onto your tax return.

It’s to understand what you’re trying to accomplish and then determine how the pieces of your financial life can work together.

If retirement is becoming a bigger part of that conversation, you may also find these resources helpful:

• Retirement Planning in Lafayette, Colorado

• How Much Will You Spend in Retirement?

• Should You Downsize in Retirement?

• Estate Planning Before Retirement: 7 Things to Review Before You Retire

• Frequently Asked Questions

Thanks for reading.

Want to See How the Pieces Fit Together?

If you’re a profitable business owner and retirement is starting to come into view, this is a good time to look beyond individual tax tactics.

Your business entity, compensation, retirement plan, taxes, investments, and retirement timeline should support the same plan.

Start here to learn more about Winding Trail Financial Planning and schedule an introductory conversation.

Frequently Asked Questions About Tax Planning for Solo Business Owners

Here are answers to some common questions solo business owners have about S corporations, reasonable compensation, retirement plan contributions, and year-round tax planning.

What are the most common tax mistakes solo business owners make?

Common mistakes include electing S-corp status without evaluating the full costs and benefits, using an artificially low salary, choosing a retirement plan without comparing alternatives, waiting until tax-preparation season to do tax planning, and failing to coordinate advice among tax, payroll, retirement, and investment professionals.

Does an S corporation always save a business owner taxes?

No. An S corporation can potentially reduce employment taxes for some profitable businesses, but it also creates additional compliance costs and planning considerations. Whether it produces a better overall outcome depends on the owner’s income, reasonable compensation, business structure, retirement goals, and other factors.

How much salary should an S-corp owner pay themselves?

An S-corp shareholder who performs services for the company generally needs to receive reasonable compensation. There is no universal salary or percentage that’s appropriate for every owner. Factors can include duties, experience, responsibilities, time devoted to the business, comparable compensation, and the nature of the company’s revenue.

Can a low S-corp salary reduce retirement plan contributions?

Yes. For an S-corp shareholder, retirement plan contributions generally use W-2 compensation rather than shareholder distributions as compensation. Depending on the retirement plan, keeping W-2 wages low can therefore limit how much can be contributed.

Is a SEP IRA or Solo 401(k) better for a solo business owner?

It depends. A SEP IRA can be simple and effective, while a Solo 401(k) may provide more contribution flexibility because an eligible owner can potentially contribute in both employee and employer capacities. Age, income, entity structure, other retirement plans, and whether the business has employees all affect the analysis.

For high-income owners, additional strategies such as profit sharing or a cash balance plan may also be worth evaluating.

Should I update my LLC operating agreement after making an S-corp election?

It’s worth reviewing. Electing S-corporation taxation doesn’t automatically update an LLC’s legal documents. An older or boilerplate operating agreement may contain provisions that weren’t drafted with S-corp tax requirements in mind, including provisions involving ownership, distributions, or economic rights. A business attorney can review the operating agreement and other governing documents to make sure they’re consistent with how the company is actually being operated and taxed.

This can also be a good opportunity to review how the business is addressed in your estate plan, including what happens to the ownership interest at death or incapacity.

When should a small business owner do tax planning?

Ideally, tax planning happens throughout the year rather than only when the tax return is prepared. Business owners may benefit from reviewing projected income, estimated taxes, compensation, retirement contributions, and other planning opportunities before year-end, while there is still time to make changes.

Do I need both a CPA and a financial advisor as a business owner?

Not necessarily, but tax and financial decisions frequently overlap. If you work with multiple professionals, the important question is whether someone is coordinating decisions involving your business, taxes, retirement plan, investments, and personal financial goals rather than treating each one independently.