Start-Up companies do not need theoretical or impractical advice. They need tips and suggestions that they can easily and swiftly implement to improve their chances for success. In the spirit of this need, here are ten tips in the areas of accounting and finance that they should consider implementing in a hurry:
Anytime a presentation starts with “Implementing EITF 08-1 and EITF 09-3,” we know we may be in for a long meeting. Gregory P. Randall, Partner with KPMG, made a very technical topic interesting yesterday. The topic – the changes in revenue recognition guidelines for software companies and others with multiple deliverables packaged in the same revenue arrangements. If you are wondering why a CEO should care about revenue recognition, then please read my blog post from a few months ago: 2 Reasons CEOs Have to Care about Revenue Recognition.
Here were my main takeaways:
- Revenue recognition is still complicated and clear policies need to be established and strictly followed.
- Some additional clarity is provided and it appears that more revenue is likely to be recognized earlier by many companies affected. This will be welcome news to some, but could cause some tax and other issues for many.
We also briefly discussed the legislation just passed that allows net operating losses (NOLs) to be carried back 5 years through the end of 2009. There are some complexities to this allowance, so you should consult with your tax CPA to see if you can benefit.
These complex issues represent a very small percentage of all of the issues that entrepreneurs face in today’s business environment. CFO WISE helps entrepreneurs solve these and many other problems.
What are your chances for being audited? IRS’s 2008 data book provides some clues.
The IRS has issued its annual data book, which provides statistical data on its fiscal year (FY) 2008 activities. As this article explains, the data book provides valuable information about how many tax returns IRS examines (audits), and what categories of returns IRS is focusing its resources on, as well as data on other enforcement activities, such as collections.
What are the chances of being examined? A total of 1,391,581 individual income tax returns were audited during FY 2008 (Oct. 1, 2007 through Sept. 30, 2008) out of a total of 137.8 million individual returns that were filed in the previous year. This works out to 1.0% of all individual returns filed (about the same as the audit rate for the preceding year).
Of the total number of returns audited, 503,755 (36.2%) were selected on the basis of an earned income tax credit (EITC) claim (down slightly from the 36.5% rate for FY 2007). Only 22.3% of the audits were conducted by revenue agents, tax compliance officers, and tax examiners; the bulk of the audits (about 77.7%) were correspondence audits. These percentages are about the same as they were in FY 2007.
About 1.36 million individual returns were farm returns that showed gross receipts from farming (Schedule F). Of this group, only 7,542 (0.5%) were audited in 2008. The no-change rate (returns accepted as filed after examination) was 11% for individual returns examined by revenue agents, tax compliance officers, or tax examiners, and 15% for correspondence exams.
Here’s a roundup of selected audit rates from IRS’ latest databook. Following are the audit rates for individual nonbusiness returns that didn’t claim the earned income tax credit:
For “selected nonbusiness returns” (includes returns without a Schedule C (nonfarm sole proprietorship), Schedule E (supplemental income and loss), Schedule F (profit or loss from farming), or Form 2106 (employee business expenses), 0.4% (same as for FY 2007).
For returns with Schedule E or Form 2106 (excludes returns with a Schedule C, nonfarm sole proprietorship, or Schedule F, profit or loss from farming), 1.3% (up from 1.2% for FY 2007).
For nonfarm business returns by size of total gross receipts: under $25,000, 1.2% (down from 1.3% for FY 2007); $25,000 under $100,000, 1.9% (down from 2% for FY 2007); $100,000 under $200,000, 3.8% (down from 6.2% for FY 2007); and $200,000 or more, 0.6% (down from 1.9% for FY 2007).
For returns with total positive income (TPI) of at least $200,000 and under $1 million, the audit rate was 2.6% for nonbusiness returns (down from 2% for FY 2007) and 2.8% for business returns (down from 2.9% for FY 2007). For returns with TPI of $1 million or more, the audit rate was 5.6% (down from 9.3%).
The audit rates for entities were as follows: Fiduciary (estate and trust income tax returns), 0.1% (the same as for FY 2007); Corporations with less than $10 million of assets, 1.0% (up from 0.9% for FY 2007); Corporations with $10 million or more of assets, 15.3% (down from 16.8% for FY 2007); S corporations, 0.4% (down from 0.5% for FY 2007); Partnerships, 0.4% (same as FY 2007); Estate tax returns, 8.1% (up from 7.7% for FY 2007); and Gift tax returns, 0.4% (down from 0.6% for FY 2007).
Penalties
In fiscal year 2008, IRS assessed 30.22 million civil penalties against individual taxpayers, up from 27.33 million civil penalties assessed in the previous year. Of the FY 2008 assessments, 17.41 million (57.6%) were for failure to pay, followed by 8.55 million (28.3%) for underpayment of estimated tax. There were 391,621 assessments (1.3%) for “accuracy penalties”—assessments of penalties under Code Sec. 6662 for negligence, substantial understatement of income tax, substantial valuation misstatement, substantial overstatement of pension liabilities, and substantial estate or gift tax valuation understatement, and understatement of reportable transactions under Code Sec. 6662A .
On the corporation side, there were a total of 783,864 civil penalty assessments (up from 762,718 for FY 2007), 82.6% for either failure to pay or underpayment of estimated tax.
Offers in compromise
In FY 2008, 44,000 offers in compromise were received by IRS, and 11,000 (25%) were accepted. Over recent years, these numbers have been dropping; in 2007 for example, 46,000 offers in compromise were received by IRS, and 12,000 (26%) were accepted.
IRS received a total of 1.883 billion information returns in FY 2008, including Forms 1098 (mortgage interest, student loan interest, and tuition), 1099 (interest, dividends, etc.), 5498 (individual retirement arrangement and medical savings account), W-2 (wages), W-2 (gambling winnings), and Schedules K-1 (pass-through entities). Of the total, only 2.8% were submitted on paper.
Contact your CPA for more information
There is a rising trend, especially among Gen Y and Gen X entrepreneurs, toward building their business models around social causes. Should these enterprises be structured as for profit, not-for-profit, or is there some other way?
Marci Alboher wrote in the New York Times: “It used to be that people who wanted to solve a social problem — like lack of access to clean water or inadequate housing for the poor — created a charity. Today, many start a company instead.” You can read her entire article here: NY TIMES ARTICLE.
The bottom-line is this – some organizations are better fit as for profits, and others are not. But there is a blurring line in our ever-changing society between the two ends of the spectrum – maximize shareholder value vs. benefit the public.
For more information on whether your organization is better fit as for profit other than non-Profit, contact our Part-Time CFO’s
Many people have asked me the rules about activities being a hobby or a business. The IRS says that hobbies are activities that are not pursued for profit. Here are some things to consider:
Does the time and effort put into the activity indicate an intention to make a profit?
Do you depend on income from the activity?
If there are losses, are they due to circumstances beyond your control or did they occur in he start-up phase of the business?
Have you changed methods of operation to improve profitability?
Do you have the knowledge needed to carry on the activity as a successful business?
Have you made a profit in similar activities in the past?
Does the activity make a profit in some years?
Do you expect to make a profit in the future from the appreciation of assets used in the activity?
My experience is that if you can treat what you do as a small business owner, you will receive much better tax breaks, however, the key is what are your intentions with your efforts.
Business owners have the most opportunities to use the tax code to their advantage. Yet some of the strategies are complex and require organization and good bookkeeping to keep them all straight and effective.
Caron Sharp lists five of the most commonly used strategies. Here are some additional thoughts on ways to make the tax code help instead of hurt you.
Within the business entities there are often discreet opportunities to save taxes. The Section 179 deduction is often the most discussed, which allows for 100% depreciation of qualifying fixed assets in its first year of ownership. The challenge is that many business owners do not get to maximize this benefit because the rules do not allow this to create a loss in your business. So, if you have $100,000 of potential Section 179 deductions but you have only $50,000 of income in the business, you will lose out on the other $50,000 of tax deduction this year. You will eventually be able to depreciate everything the remaining $50,000, but that will be spread over several years in the future. If there was a way to increase the earnings of the business to $100,000, then the entire deduction can be realized this year.
With some careful planning, one of the main ways to save on taxes is to look at your tax bracket relative to the brackets in which your immediate family members reside. For example, if you have one or more children under the age of 19, they are most likely in a zero bracket. Some of your siblings or relatives may be in lower brackets. By using legal and ethical means to shift some of your income into and maximize these lower brackets, a careful business owner can save a lot of money in tax. Another opportunity exists for those who have an ongoing charitable contribution commitment of significance. This may be in the form of tithing or donations paid to religious organizations or donations to other non-profit entities. There are many options fulfill these commitments, save tax, and increase your cash flow and flexibility all at the same time.
There are many ways to make these strategies work, and it would be wise for you to consult a tax professional and business financial consultant to structure your situation in the most advantageous way.
The IRS had a rough 2008. Their overall collections were down almost 5% from 2007, their first year of negative growth in a decade. Click here to read more: http://taxprof.typepad.com/taxprof_blog/2008/12/irs-enforcement-fell-in-2008.html
Most small business financial consultants work hand-in-hand with tax professionals to serve the compliance, tactical, and strategic needs of their clients.
Issue: # 2008-06 Nov/Dec 2008
Five Year End Tasks to Financial Strength
INTRODUCTION
If you do not take control of your business, it will take control of you. With that thought in mind, we recommend the following five tasks to help you take control of your business, finish the year strong, and make sure you are positioned for a healthy 2009: Plan for Tax, Plan for 2009, Collect Your Receivables, Fortify Your Banking Relationships, and Improve Your Web Presence.
PLAN FOR TAX
Business Owners have the most complex tax issues, but they also have the most tax-saving opportunities available. Every business owner should meet with their tax CPA BEFORE the year is over. Our experience shows that although this may cost a little bit of money, it usually comes back at least ten-fold in the form of tax-savings. We find that if these meetings are run properly, our clients usually save thousands if not tens of thousands of dollars in tax.
Here is how you make the meeting efficient and profitable. Schedule the time with your tax CPA at least 1-week in advance. At least three days before the meeting, send your tax CPA all the information they will need to estimate where you will be at the end of the year. This includes financial statements from the business through October or November (cash or accrual based on how you file) and a description of anything major that has changed during 2008. We also recommend you include an agenda of all of the items you would like to discuss as well as strategies you have heard about that you might like to explore. During the meeting, follow the agenda and document the decisions you make; then implement everything before the year is over.
PLAN FOR 2009
If you are a business owner who escapes planning for each new year with an excuse like: “I don’t know what will happen next year, so there is no need to plan for it,” then we offer you a different perspective. If you diligently plan for each new, then perhaps you can pick up something to improve your current process.
You need to start by reviewing your 2008 budget, if you had one, and how you performed relative to that budget. Which assumptions remain valid, and which need to be revised? Plug your old, new, and revised assumptions into your income statement and balance sheet projections for 2009. What sales do you expect and how do they need to be adjusted for season trends in your industry? Are your variable costs increasing or decreasing from you own price reductions or increased labor, material, and other costs? What fixed costs will remain the same in 2008, and which will change? Why? How will your current, debt-to-equity, days sales outstanding, working capital, and other key rations change throughout the year?
Once all of this is put on paper, two things will occur. First, you will clearly see if you like or do not like how 2009 is shaping up and you can make changes to your operations to enhance or make more realistic the results. Second, monthly budget versus actual reporting with a focus on the gross variances (more than 5-10%) will allow you to make adjustments during the year more quickly and effectively.
COLLECT YOUR RECEIVABLES
Most businesses struggle to collect between Thanksgiving and New Year’s Day. This does not have to be you. Review your list of receivables every few days between now and the end of the year. Your customers’ accounting staffs will take time off. Find out when that is and make sure they pay you before they leave on vacation. Track the promises they make and politely and professionally hold them accountable to those commitments.
FORTIFY YOUR BANKING RELATIONSHIPS
Your banker has had a tough year. You might want to consider taking your banker to lunch before the year is over to renew your relationship and find out how you can better become one of the bank’s favorite customers. If the bank has lent you money, make sure you are compliant with all of the loan covenants. With the credit markets still quite a ways away from stabilizing, your bank may become one of your most critical assets, if it isn’t already.
IMPROVE YOUR WEB PRESENCE
It does not matter the industry in which you operate. It is irrelevant if your customers buy your products or services online. Here is what does matter – our society will rapidly continue its trend towards online existence. Regardless of where you are at with your online presence, you can do more. Do you have a blog? Are you using social networking to its maximum potential for your business? Does your website generate marketing and sales results? Can your website improve the experience your customers enjoy? The right investments into your web presence can improve your cash, profit, and time.
CONCLUSION
By completing these five tasks, you will empower you and your business to finish the year strong and prosper in 2009. With economic turmoil on the horizon for most if not all of next year, those who focus on these and other critical tasks will be in the best position to survive the tough times ahead and thrive when our economic outlook turns more positive.
This just does not happen every day! According to the USA TODAY, the IRS usually sets the mileage reimbursement rate in the fall for the entire upcoming calendar year. With gas prices surging, they have raised the mileage reimbursement rate to 58.5 cents from 50.5 cents for the second half of 2008 (http://www.usatoday.com/money/perfi/taxes/2008-06-23-mileage-rates_N.htm).
The new rate will apply to miles driven between July 1st and December 31st of 2008. For self-employed individuals as well as owners of small to medium-sized businesses, this can create a huge opportunity to create extra deductions in your business and generate tax free income to yourselves and your employees.
In general, you either deduct your actual vehicle ownership expenses (including depreciation or lease payments) or you reimburse yourself at the allowable IRS rate. This works the same for your employees. We have seen several scenarios where employers and employees have saved significant tax liability by correctly structuring this part of their compensation package.
If you would like to learn more about our CFO services , please Contact Us.
While IRS audits of large firms declined, as depicted above, “the IRS increased audit rates of small and mid size corporations (USA TODAY, IRS Cuts Back on Audits of Large Firms, 14 April 2008) Consider this fair warning – the IRS is looking very hard at S-Corps. The single largest item they target in S-Corps is the wages paid to officers and owners of the company. With the pass-through benefits afforded to S-Corp shareholders, some forgo taking a wage in lieu of distributions. The distributions avoid traditional payroll taxes, while wages do not. If you have an S-Corp and you have any net income in that entity, you should strongly consider paying yourself some wage to avoid the chances of popping up on the radar screen of the IRS. We recommend you work closely with your tax CPA or CFO advisor to implement a strategy for officer wages that is best for you.
Just like every other profession, there are some CPAs and tax professionals that are very good, and there are some that are not. Unfortunately, a professional designation does not guarantee perfection. If you hire an outside professional to do your corporate and personal taxes, it is still ultimately your responsibility to look them over and ensure they represent the truth. That is why you must put the final signature on the document. No one expects you to know everything about taxes, but you should feel comfortable that all of the material items are represented. Perhaps a second opinion is not completely out of the question.
We have found that the very best way to create a successful relationship with your CPA is to become their favorite customer. You do this by getting them your information before the busy tax season. It also helps to get them accurate information so their time can be productively spent on your tax situation rather than on the day-to-day accounting taking place in your business. Also, you should never let the month of November end without at least a 1-hour meeting with your tax CPA. They are very proficient at helping you reduce your tax liability as long as there is still a little bit of time before the end of the year. They also usually enjoy this opportunity to receive an update on your situation and offer advice.
If you do your own corporate and personal taxes, then you are very brave. The tax code gets more complex every year, and it is very difficult to stay abreast of all of the relevant changes and how they impact you and your business. We recommend that a professional who is trained and stays current with the tax code be involved in the preparation of your return(s). The amount of additional savings they identify or the potential risk they remove from your filings is usually several times more than the cost associated with their services.
Some entrepreneurs ask their part-time CFO or other staff to complete the company’s tax return. For the same reason mentioned above, it is often more prudent to use a tax expert who is current with the ever-changing tax code to keep the company and the owners in compliance.