Business Activity Code for Taxes – FundsNet

Denise Elizabeth P

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Source: IRS Form 1120-S

Whether you’re self-employed, a sole proprietor, or an employee responsible for tax returns, you’ll notice that various returns will require you to input a business activity code.

Then you wonder, “what is a business activity code?

Where do I get one?

How do I know which one is the right one for me?”

In this article, we will discuss what is a business activity code, what it is based on, what is its purpose, and what code is applicable for your business.

Business Activity Code: what is it?

A business activity code is a unique identifier (usually a number) that seeks to provide information about a business’s primary activity.

In the US, a business activity code (sometimes referred to as business code, or professional activity code) is a six-digit code that classifies the type of products or services a business offers.

It categorizes businesses by their activity and industry.

For example, businesses from the agriculture, forestry, hunting, and fishing industries have business activity codes that start with 11, while those from the manufacturing industry have business activity codes that start with 31, 32, or 33.

In IRS tax forms/returns, the business activity code to be filled up is the principal business activity code or professional activity code.

The principal business activity code is determined by a business’s primary activity or its top revenue-generating activity.

A list of the codes can be found on the instructions for specified forms.

For example, the list of principal business codes for S corporations can be found on the instructions for Form 1120-S.

What is the Business Activity Code based on?

The codes used in the IRS forms are based on the six-digit codes provided by the North American Industry Classification System (NAICS).

It was developed jointly by the U.S., Canadian, and Mexican governments.

It was adopted in 1997 and replaced the Stand Industrial Classification (SIC) system previously used.

It is to be updated every five years and was last updated in 2017.

Each digit of a NAICS code has a specific purpose.

To directly quote NAICS on one of their FAQs:

“NAICS is a two-through-six-digit hierarchical classification code system, offering five levels of detail. Each digit in the code is part of a series of progressively narrower categories, and the more digits in the code signify greater classification detail. The first two digits designate the economic sector, the third digit designates the sub-sector, the fourth digit designates the industry group, the fifth digit designates the NAICS industry, and the sixth digit designates the national industry.”

Who assigns business activity codes?

The short answer: you or the business itself.

Long answer: currently, there is no particular agency that is tasked with assigning, monitoring, or approving NAICS code, and consequently, the business activity code used in IRS forms.

Hence, business activity codes are self-assigned and are based on a business’s primary activity or the business’s top revenue-generating activity.

A business can assign itself multiple NAICS codes if it has multiple business activities.

However, for IRS forms, only the principal business activity code is required to be entered.

What is the purpose of business activity codes?

Some government agencies assign business activity codes to businesses for various purposes.

For example, the Census Bureau assigns a business activity code to a business depending on whether it responds to a survey or not, and if it did, what information was included in the survey.

The IRS and Census Bureau also use business activity codes for statistical purposes.

These agencies publish statistics reports on an annual basis such as the number of establishments per industry group, growth in particular industries, employment statistics, etc.

The Small Business Administration (SBA) uses the business activity codes to distinguish small businesses from medium and large corporations.

It is done by comparing the size of a business to its industry via its business activity code or NAICS code.

For example, if your business is a sporting goods store, then your business activity code will be 451110.

Using SBA’s size standards tool, you’ll see that the small business size standard for sporting goods stores is 500 employees or less.

Source: SBA size standards tool

Business Activity Codes and Tax Returns

When preparing your business’s income tax return, you’d find on the IRS form that a business activity code has to be entered.

This code is required for all kinds of business types be it a sole proprietorship, self-employment, partnership, LLC, or corporation.

If the business has multiple income-generating activities, the business activity code needed to be entered would be the business’s principal business activity code.

As per IRS’s definition, principal business activity is a business’s top revenue-generating activity (i.e. the business activity that contributes the most to a business’s total revenue).

For sole-proprietorships and self-employed professionals, the business activity code will have to be entered as item B of the IRS Schedule C (Form 1040) as illustrated below:

Source: IRS Schedule C (Form 1040)

A list of Principal Business or Professional Activity Codes for sole-proprietorships can be found on the instructions for IRS Schedule C (Form 1040), pages 17 to 19.

For partnerships, the business activity code will have to be entered as item C of the IRS Form 1605 as illustrated below:

Source: IRS Form 1065

A list of Principal Business or Professional Activity Codes for partnerships can be found on the instructions for IRS Form 1065, pages 58 to 60.

For S Corporations, the business activity code will have to be entered as item B of the IRS Form 1120-S as illustrated below:

Source: IRS Form 1120-S

A list of Principal Business or Professional Activity Codes for S Corporations can be found on the instructions for IRS Form 1120-S, pages 48 to 50.

For C Corporations, the business activity code will have to be entered as item 2a of schedule K of the IRS Form 1120 (page 4) as illustrated below:

Source: IRS Form 1120

A list of Principal Business or Professional Activity Codes for C Corporations can be found on the instructions for IRS Form 1120, pages 27 to 29.

For LLCs, it will depend on whether it is treated as a partnership, corporation, or “disregarded entity” (applicable single-member LLCs).

If an LLC is treated as a partnership, the business activity code will be entered as item C of IRS Form 1605.

If it is treated as an S corporation, the business activity code will be entered as item B of IRS Form 1120-S.

If it is treated as a C corporation, the business activity code will be entered as item 2a of schedule K of IRS Form 1120.

If it is treated as a disregarded entity, the business activity code will be entered item B of IRS Schedule C (Form 1040).

How do I know which Business Activity Code is applicable for me or my business?

First, you must identify what is your business’s primary activity.

Be as specific as you can.

For example, I have a business and I identify its primary activity as wholesaling.

To be specific, my business is a wholesaler of medical equipment and supplies.

Next, consult the NAICS website to determine under which category your business belongs.

Here’s a snapshot of the broader categories provided by the NAICS:

To continue with our example, I mentioned that my business is a wholesaler of medical equipment and supplies, which fall under 42 – Wholesale Trade.

So I now have my code.

But doesn’t a business activity code have six digits?

We have to go deeper then.

The next step is to narrow down the category of your business activity.

On the NAICs website, you can do this by clicking on the broader category, and it will give a list of narrower categories under it.

To continue our example, I clicked category 42 – Wholesale Trade and it brought me to a page where a list of narrower categories under it can be found:

I then navigated the page to see the code the best fits my business activity which is wholesaling of medical equipment and supplies.

And there it is highlighted with the green box.

My business activity code is 432450.

To summarize, identify your business’s primary activity.

Be as specific as you can be.

Next, consult the NAICs website and identify which category it belongs to.

Then click on the category and find a narrower category and the description that best fits your primary business activity.

You’ll have your business activity code after doing these steps.

If you can’t find the NAICS code that fits your primary business activity, then find the description that next best fits your business activity.

If you can’t still find it, you can consult the Census Bureau as they are the official US Government Authority who manages the NAICS Coding System.

For more information about the NAICS, you can check their FAQs page.

Article Sources & Citations

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1. naics.com “NAICS & SIC Identification Tools” Page 1 . October 5, 2021

2. Census.gov ” North American Industry Classification System – NAICS” Page 1. October 5, 2021

3. SBA.gov “Size Standards Tool” Page 1 . October 5, 2021