March 18, 2024

Tax Compliance for Marketing Agencies: How to Avoid Costly Penalties and Audits

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With the IRS scrutinizing every line item, the stakes for compliance are high, and the margin for error is slim. The proper handling of marketing campaign expenses and tax laws can mean the difference between a thriving agency and one beleaguered by fines.

From deciphering the intricacies of PPC marketing tax implications to mastering financial tracking specific to the industry, agencies find themselves in a constant battle to stay ahead. Understanding federal taxes and utilizing tax credits are two such hurdles. 

Marketing Agency Taxes - A General Overview

For marketing agencies, typical deductible business expenses include the costs of running and maintaining your company. Each marketing agency might offer slightly different services. But in general, tax deductions (also called write-offs) need to be ordinary and necessary for the industry you're claiming them.

The cost of creating a logo for a client, for example, is standard for most marketing agencies. Here are a few other examples.

  • Paid media: like paying for PPC ads on sites like Facebook or Google (also include traditional media like radio, newspaper, or TV ads)
  • Content creation: offering copywriting or content writing services for ads, newsletters, or blogs
  • SEO services: Helping a company get more exposure on search engines like Bing and Google
  • Social media: Activities that include growing a company's social media presence.

These can all be considered tax write-offs under business expenses. Agencies can also choose to write off maintenance costs like these below:

  • Website upkeep: The costs of updating your (or your client's) websites.
  • Building costs: The costs of renting and maintaining a building.
  • Home office expenses: There are specific rules that allow some businesses to take a home office deduction if they use their home for work.
  • Software expenses: The systems and scheduling tools, like CRMs, require regular subscriptions that usually can be written off.

Some digital marketing agencies might include unique expenses, such as costs for professional consultations or experimental marketing strategies. In these cases, you might review other companies to see if they have similar expenses. As you read earlier, these expenses need to be "ordinary and standard" to be deductible. Keeping your expenses to what's common for marketing agencies will help avoid potential audits.

Marketing agencies should work closely with tax professionals to ensure that deductible expenses are accounted for and that informed decisions are made. This can help them navigate the intricacies of income taxes, maximize tax deductions, and avoid penalties associated with late payments. Furthermore, accurate and diligent maintenance of financial statements, including an income statement, can help marketing agencies record their expenses correctly and reduce taxable income responsibly.

How Much Can You Write Off for Marketing Expenses?

Because most marketing expenses count as ordinary and common for both marketing agencies and other small businesses, they are generally 100% tax deductible.

This includes expenses for advertising, search engine optimization, and anything else a business does to help them gain more exposure. As long as it's clearly in support of the main business (or is a direct contributor to regular operations), it falls under this category.

This means if you spend $5,000 on Facebook PPC advertising, you can write off the whole $5,000. This write-off reduces your tax liability, leading to less owed throughout the year as you make tax payments.

4 Tax Tips for Marketing Agencies

1. Be careful when outsourcing

For marketing agencies and anyone running a digital marketing campaign, various campaign-related expenses are tax-deductible. Online advertising platforms like Google AdWords and social media advertising on Facebook, Instagram, and Twitter allow businesses to target specific audiences; these advertising expenses are considered a necessary part of conducting business and, thus, tax-deductible.

When it comes to external partners or outsourced services, the costs of hiring a separate entity to manage digital marketing campaigns are likewise deductible. This applies to both digital and traditional marketing initiatives. Working with an external agency that specializes elsewhere can help supplement your business.

Now, let's say that you've decided to outsource to an individual freelancer.

As long as the employee is considered a freelancer, you can deduct what you pay them just like any other business expense. Freelancers who don't seem to be in business for themselves (more financially dependent on you) could be considered full-time employees.

These full-time employees are subject to payroll tax, which includes both federal and state unemployment tax, adding to your potential tax liability. To avoid this situation and accurately calculate your taxes, ask yourself if you regularly rely on one freelancer and consider whether it would be more helpful to hire them full-time. Otherwise, you might shift your business strategy to ensure you have less reliance on any individual freelancer.

2. Streamline accounting practices

For marketing agencies, streamlined accounting practices are key to efficiency and compliance. Adopting accounting software that offers real-time collaboration can ease the process, providing immediate insight into financial performance. By integrating financial accounts with this software, agencies can minimize bookkeeping errors and save valuable administrative time.

For more guidance, check out our article on the best accounting software options for marketing agencies. Beyond the right software, you also need the right documentation.

Marketing agencies must ensure accuracy in documenting deductible expenses. This includes carefully tracking advertising costs and professional services, both of which are essential to their operations. Proper documentation supports the agency's financial performance assessment and can help identify where resources should be allocated based on market trends and performance metrics.

Here are some of the three most important financial documents you should consider:

  • Balance sheets: A snapshot of your marketing company's financial position. They provide information on the assets, liabilities, and shareholders' equity (as needed).
  • Income statements: A look into the results of company operations. They include information on the expenses and revenues of a business. Also known as profit and loss statements.
  • Cash flow statements: A review of the money that has entered and left your business over a specific period.

These financial documents are intended to give you a good idea of your position. This helps you be more strategic in your financial approach. They also give you a good general idea of your tax liability.

There's also a greater awareness of assets and liabilities, which can also impact your taxes.

3. Know the Impact of Assets and Liabilities

Assets refer to the property you own, while liabilities refer to the debts you owe. For tax purposes, both can impact your tax liability (the amount you owe at the end of the year).

When you purchase an asset, for example, you can't just label it as a business expense. This is because the property you gained has value, like a new business computer. However, as that asset ages, it can depreciate (reduce in value), which is something you can deduct. 

For more information on how to depreciate property, check out Publication 946 on the official IRS website. So you know, software assets you purchase won’t apply to depreciation. In these cases, you can just depreciate these amounts.

If you take out a business loan or owe money (specific to your business), you incur a liability. Any payment you make toward that liability is a business expense, which is generally tax deductible. This reduces the other important liability for this article: tax liability, which is the amount you owe to the government for the things of value you get (like income or assets).

4. Create financial projections

Pay-per-click (PPC) marketing agencies face unique financial ebbs and flows, with revenues and expenses often fluctuating in tandem with campaign performance and client demand. This nature of business makes cash flow monitoring and effective tax planning particularly essential. Tax deductions are available for a range of advertising expenses, including those specific to PPC campaigns, which must be meticulously accounted for.

Optimizing tax savings is pivotal, as is ensuring compliance with tax laws, making the role of accounting systems indispensable. These systems facilitate the tracking of diverse expenses, from staff payroll to software subscriptions. Working with tax professionals who understand the distinct needs of PPC marketing agencies can prevent costly penalties and provide strategic advice on tax payment options and tax-deductible expenses, ensuring the financial health of these agencies.

To address this, you can create what-if scenarios (projections) for different potential situations. This will help you estimate potential taxes and plan for these situations. This doesn't necessarily mean you should expect failure. Instead, you should plan how you will respond to different situations. These include prospective financial projects, which you can produce with help from a CPA.

5. Know different company types

Some people might tell you that you need to transform your business into a limited liability company (LLC). Despite its popularity, this business formation doesn't result in better tax results.

Instead, LLCs provide some protection for your personal property. The key here is the "limited liability," which limits the liability of potential lawsuits to the company (not you). Under standard sole proprietorships and partnerships, your personal property could be at risk. This applies to both multi- and single-member LLCs.

LLCs are considered pass-through organizations for taxation. This means they are taxed at the same rate as the underlying organizations. For single-member LLCs, you are taxed at the same level as a self-employed person.

Alternatively, you can form a corporation, some of which are publicly traded. S-corporations result in some potential tax savings but require a healthy income and meet some limitations. 

Building a Tax Strategy as a Marketing Agency

These are just a few tips to consider when developing your marketing tax strategy. There are many more tax strategies worth considering. Understanding your tax options can help you take more deductions, saving you money during tax season.

Understanding taxes as a marketing agency also helps you avoid potential audits. The more standard your taxes look, the higher chances you have to reduce your chances for an audit when submitting tax returns.

If you need a financial and tax advisor, Contact Augur CPA for further assistance in managing your taxes.

FAQs

Is hiring a marketing agency a tax write-off?

Generally, hiring a marketing agency can be a tax write-off as long as it is for business purposes. These expenses are fairly regular for most businesses.

What is the tax code for marketing services?

The NAICS code for advertising agencies is 541810. This is the closest title that marketing agencies have for tax purposes.

How do you write off marketing expenses?

Companies write off marketing expenses the same way they do with any other expenses by properly categorizing them and using the proper form. For self-employed individuals, you might do this using Schedule C (to itemize deductions).

This content is for informational purposes only and does not constitute legal, business, or tax advice. You should consult your own attorney, business advisor, or tax advisor regarding matters mentioned in this post. We take no responsibility for actions taken based on the information provided.

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