Chapter 2 · Taxes 101
The taxes a small-business owner pays on business income and profit — explained so you know what you owe before tax day surprises you.
Learning objectives
- Understand federal income tax and the special self-employment tax.
- Know which business deductions a claw shop can claim.
- Understand how your business profit flows onto your personal return.
This is a plain-English orientation, not tax advice. Rates and rules change, and your situation is unique. Have a CPA confirm the specifics for your first few years — the cost is small and the peace of mind is worth it.
The two taxes that hit business owners
1 · Federal income tax (on profit)
You pay income tax on your net profit (revenue minus business expenses) — not on your gross revenue. For a single-member LLC (Vol 2), that profit flows through to your personal Form 1040 on Schedule C. Your income tax bracket is based on your total income (this business plus anything else you earn).
Two things reduce your income tax (confirm current-year numbers with a CPA):
- Standard deduction — for 2025, $15,000 (single). That's the first chunk of income you don't pay tax on.
- Qualified Business Income (QBI) deduction — as a pass-through owner you can usually deduct 20% of your qualified business income (subject to income thresholds ~$200K single). Net effect: your federal income tax is calculated on roughly 80% of your profit at the margin — a real discount.
For rough planning, 2025 single-filer taxable income brackets step up from 10% (up to ~$11,900) to 12% (~$11,900–$48,400), 22% (~$48,400–$103,300), and higher — but a CPA does the exact math.
2 · Self-employment tax (the one people forget)
Because you have no employer withholding, you pay both halves of Social Security and Medicare. This is the self-employment tax — roughly 15.3% (12.4% Social Security + 2.9% Medicare), calculated on 92.35% of your net self-employment earnings, and owed on profits over ~$400/year. The Social Security half applies up to the annual cap (~$176K in 2025) and Medicare is uncapped. This is on TOP of income tax and catches many new owners off guard. (It's also the tax an S-corp election can reduce — Vol 2 · ch 1.)
Plan to set aside roughly 25–35% of your net profit for federal taxes (income + self-employment). This is money you must not spend — it's the government's until you pay it.
How your profit gets figured (the deductions matter!)
Your taxable profit is revenue minus deductible business expenses. Deductions are how you pay less tax legally. A claw shop can typically deduct:
| Category | Examples |
|---|---|
| Rent & utilities | Monthly rent, CAM, electricity/internet |
| Prizes / inventory | Wholesale plush & prizes you put in machines |
| Equipment / machines | The claw machines themselves — usually depreciated over years (deducted over their useful life), though a one-time "Section 179" immediate deduction may be available; ask a CPA |
| Insurance | General liability, property |
| Marketing | Ads, promotional giveaways, window/signage |
| Software & services | Bookkeeping, card-processing fees, accounting |
| Vehicle | Business mileage for restocking/running the shop (standard deduction rate) |
| Home office | If you run some admin from home, a portion of home costs |
| Misc operating | Repairs, cleaning, office supplies |
The key: every legitimate business expense lowers your taxable profit. This is why the clean, separated books from Chapter 1 matter — you can only claim what you keep records for.
The big picture flow
Sales tax is handled separately (paid to your state from the sales you collect) — see Chapter 3.
What you file
- Schedule C (business profit/loss) — part of your personal 1040.
- Schedule SE — computes your self-employment tax.
- State filings — your state's income tax and any sales tax returns (Chapter 3).
- If you elect S-corp (Vol 2): a separate business return (1120-S) plus payroll filings.
Software (QuickBooks/TurboTax) and a CPA both handle the mechanics; the CPA is worth it year one.
Summary
As a single-member-LCC owner you pay income tax + ~15.3% self-employment tax on your net profit, which flows onto your personal return via Schedule C. Max out legal deductions (rent, prizes, machines — depreciated, insurance, marketing, vehicle mileage, home office) and set aside ~25–35% of profit for taxes. Sales tax on plays is separate (next chapter). Keep clean books and use a CPA year one.
Checklist
- ☐ Know your net profit (revenue − expenses) is what's taxed, not gross.
- ☐ Plan to set aside ~25–35% of profit for income + self-employment tax.
- ☐ Track deductible categories (rent, prizes, machines, insurance, marketing, mileage).
- ☐ Confirm machine deductibility/depreciation approach with a CPA.
- ☐ Understand Schedule C / Schedule SE structure.
Looking ahead
Chapter 3 tackles the genuinely tricky, state-specific question: is a claw machine play taxable as a good, a service, or not at all?