Archive for the 'Finance - Accounting - Taxes' Category

Making tax reform fair for small businesses

General Motors Corp and Georgia’s Motors, Inc. are alike in many ways. Both go to market representing themselves to the world as corporations, legally formed entities standing on their own, capable of entering into contracts and being responsible for themselves and their activity. But while both corporations are required to report business activity for the previous year on a tax return to the IRS, only one actually pays taxes.

In addition to filing a return, General Motors Corp, structured as a “C Corp,” the apex legal business entity, is the one that pays federal taxes at the business rate, currently one of the highest in the world. Georgia’s Motors, Inc. was formed as a Subchapter S corporation, aka “S Corp,” one of the pass-through entities established by law to make being incorporated easier for small firms. Any taxable income reported on its return passes through pro rata to the shareholders, to be added to their personal return and taxed at each one’s individual rate. In our story, Georgia Smith is the founder and sole shareholder of Georgia’s Motors, Inc., one of millions of American small businesses.

Lately, the term “pass through entity” has been used more frequently in news reports about the tax reform proposed by the Trump administration. The increased frequency is because a significant reduction in the business tax rate is being proposed which could put GM’s corporate rate below Georgia’s personal rate, unfairly causing her to pay more per dollar of business income than GM.

The good news is the Trump tax reform drafters recognized this inequity to pass-through entities like Georgia’s. As currently proposed, shareholders of Sub S Corps and other pass-throughs, like a Limited Liability Company (LLC), would still accrue the income of their businesses. But what’s new is that business income would be taxed separately, at the newly reduced, single rate paid on all business income, rather than at the personal rate of the shareholders.

These proposed tax reforms are very important for small businesses because of how their taxable income manifests. Let’s say Georgia’s Motors, Inc., produces $100,000 in business income, which passes through and is applied to Georgia’s personal return. Because of how that income is accounted for, it can create a taxable event typically associated with investments, called “phantom income.” This is when the loss of an investment results in taxable income, but produces no cash to pay the associated tax.

When you hear a small business owner tell you they had a very profitable year, but had to borrow money to pay their taxes, they just described what is tantamount to phantom income. But unlike true phantom income, that $100,000 hasn’t been lost. It actually exists, but in the form of inventory, accounts receivable, equity, etc., but maybe not in enough cash to pay the tax bill when due. And it could get worse: That business income added to Georgia’s personal income could push her into the next higher rate bracket.

By allowing small business owners of pass-through entities to pay a lower business tax rate, in a separate calculation from their personal income, they will have more working capital to invest, and be less likely to experience phantom income.

The small business sector is very excited about the prospects of tax reform, both at the personal and business level, as long as pass-through entities are treated the same as big corporations.

Write this on a rock … Unleash the animal spirits of America’s small businesses with tax reform that includes lower rates applied to all business income.

Managing the three clocks of small business

“Time Is On My Side,” is the title of one of the classic rock ’n’ roll songs performed by Mick Jagger and the legendary English band, The Rolling Stones.

This bold statement works in a song, but for small businesses – not so much. The reason is because of the complicated dynamic between our most limited resource, time, and three of our most important business factors, expenses, sales and cash.

In the marketplace, there are actually three different clocks at work that every business uses: one for operating expenses, one for sales and one for cash. Let’s take a look at how these three clocks impact your small business.

Operating Expense Clock
Every month like clockwork, regardless of sales volume, cash collections or profitability, payroll must be met, rent must be paid, taxes must be remitted, plus phone, utilities, insurance bills, etc., must also be paid. The Operating Expense Clock is hardwired to Greenwich, England for accuracy within a nanosecond per millennium, and nothing stops it short of a global, thermonuclear holocaust coinciding with a direct hit from Haley’s comet.

The only way to influence this clock is through operating efficiencies – you won’t be billed for what you don’t buy.

Sales Clock
This clock is powered by the prospect and customer relationships you’ve created so sales result each month. You project when each sale will occur by qualifying prospects and attributing a clock to each potential transaction so that you can budget future sales volume, which delivers gross profit to pay expenses.

How the Sales Clock operates is completely logical and intuitive, but it only works in your favor when meet all of the expectations and requirements of customers.

Cash Clock
What is not logical or intuitive is the Cash Clock and its relationship with the other two. Think of it like this: Cash is to sales as snow is to cold. You can have cold weather without snow, but you can’t have snow without cold weather. You can have sales without receiving cash, but you can’t receive cash without making sales. And expenses are like weather: you get some every day.

But what hits small business owners hard is that for every glitch in the mainspring of the Sales Clock, there are 1,000 potential sprocket failures that slow or stop the Cash Clock. Consequently, the Cash Clock requires constant maintenance.

Surely, Murphy was a small business owner, because his law lives inside the Cash and Sales Clocks. But the Operating Expense Clock is immune to this insidious law and keeps on rockin’, just like The Rolling Stones.

Write this on a rock … Your success requires a full understanding of the three clocks of small business.


New DOL overtime rules: One good outcome and seven bad ones

Do you have employees who are on salary? Do those employees ever work more than 40 hours in a week, for whatever reason? If the answer is yes to these questions, your world is about to get more complicated and probably more expensive.

Please stay with me. I need to get into the weeds, but just for a minute.

The current Department of Labor (DOL) overtime exemption threshold for “white collar” employees is anyone with a salary of at least $23,666 annually, or $455 per week. Exempt means the employer is not required to pay overtime if and when this class of employee works over 40 hours per week. This threshold applies to all businesses, regardless of size or number of employees.

Here’s the news: The DOL has announced that as of December 1, 2016, that overtime exemption threshold will essentially double, to $47,476 annually, or $913 per week. So anyone currently receiving a salary of less than this new amount will soon convert to non-exempt status, and must be paid overtime when they work more than 40 hours a week.

The reason I’m concerned about this change is because of the size of the increase. I feared this new threshold is going to catch and hurt a lot of unaware small businesses in its net. So I took this concern to my small business audience in our online poll recently and asked if they knew about the new overtime exemption changes. Alas, with less than three months before taking effect, my concerns were justified: Almost three-fourths of our respondents said they either didn’t know about the change or how it would impact them, or they knew about it and it was going to be detrimental to them. The rest, just over a fourth, said they either had determined the change would not affect them or they were prepared.

Here’s the good outcome: You might be surprised to hear me say that I think a new threshold is not unfair. In 2016, a weekly salary of $455 is too low to be expected to work overtime without additional compensation, unless it comes with a leveraged compensation factor that allows them to earn more if they work more.

But while an increase in the overtime exemption threshold is not unreasonable, doubling the threshold all at once is. And like so many government creations, the devil’s in the details. And this devil will create more problems for both employees and employers than it will solve. For example:

1. Increased recordkeeping burden: Because the doubling of the overtime exemption threshold will significantly increase the number of salaried non-exempt employees in Main Street jobs, small businesses will be burdened disproportionately with additional time and attendance record-keeping.

2. Increased payroll expense: For small businesses in a lower cost-of-living area, an immediate doubling of the exemption threshold will create an employee re-classification burden that by definition will result in increased payroll expense, perhaps prohibitively.

3. Flexibility becomes expensive: If an employer requests of a non-exempt salaried employee to work over one week and take off those hours the next, or that employee makes the same request of the employer, under the new rules, that goodwill gesture will cost the employer overtime for the week with the extra hours. A good deed should not be punished.

4. Employee hours cut: Businesses in certain industries will respond by splitting a previous 50 hour/week job into two 25 hour/week jobs in order to prevent their payroll from increasing, hurting the original employee.

5. Bad news for managers: I’m already aware of companies that will react to the new threshold by laying off some managers while increasing the responsibility of a smaller number of exempt managers, without increasing their compensation.

6. A morale downer: Being put “on salary” has been considered a professional accomplishment by generations of employees. But HR professionals tell me they’re recommending converting any employees with salaries remaining below the new threshold to hourly status. There are millions of Main Street employees whose weekly income falls between $455 and $913.

7. More lawsuits: Because of the steps some businesses will have to take to prevent these new government-imposed costs from getting out of hand, experts I’ve talked with are predicting an increase in Fair Labor Standards Act lawsuits.

When the federal government does things like doubling the overtime exemption threshold in one fell swoop, it hurts Main Street businesses disproportionately. In this case, it will create a new administrative burden, increase payroll expense without adding a penny of new productivity, and possibly hurt morale.

For four years, polls show small businesses reporting that the mandates of Obamacare disproportionately hurt them. Within a year, small businesses will regard the new DOL overtime exemption threshold increase as the little brother of Obamacare. Another example of the ham-fisted regulatory overreach of the federal government that hurts the job creators and suppresses the economy.

Write this on a rock … Buckle up, small businesses. If you like your current payroll structure, you won’t be able to keep it.

11 financial fundamentals every small business CEO must know

Regardless of the size of the business, ultimate responsibility for success lies with the CEO. If you’re a small business owner, that’s you. And the most critical CEO tasks that result in success or failure lie in the knowledge and practice of financial management fundamentals.

Statistics show that over half of small businesses fail within the first four years. Clearly that mortality could be significantly reduced if, before a business opened, the founder/CEO was required to pass a course that teaches business financial fundamentals and how to operate a business with them.

If you could use a little help in this area, allow me to identify some of the key elements that would be part of the curriculum of such a course.

-  CEOs shouldn’t do their own accounting, but successful ones learn how to manage with regular (at least quarterly) financial statements (balance sheet and profit-and-loss) that an internal and/or external accountant produced.

-  Successful CEOs know what their gross profit margin needs to be and what it is.

-  Smart CEOs track monthly sales-to-expense ratios in order to know when to adjust spending.

-  Savvy CEOs monitor inventory levels against projected sales, receivables and cash.

-  Real CEOs know how to calculate Accounts Receivable days and Accounts Payable days, understand the relationship between the two, and the impact of that relationship on cash.

-  Disciplined CEOs develop a capitalization strategy that blends retained earnings with short and long-term capital sources, like bank debt.

-  Capable CEOs identify the critical financial indicators and ratios that are revealed on the balance sheet and its relationship with the profit-and-loss statement.

-  Surviving CEOs believe and prepare for the cruel irony of how sales growth becomes dangerous when not properly funded, indeed, that you can succeed yourself out of business.

-  When a business isn’t profitable, professional CEOs identify the top impediments to profitability and deal with them quickly, decisively, and without emotion.

-  Perennially successful CEOs delegate many things well, but they stay close to the company’s cash picture from tomorrow to the next 12 months.

And finally, arguably the most important financial management CEO discipline:

-  Understand and monitor the relationship between Blasingame’s Three Clocks of Small Business: The Expense Clock, the Sales Clock and the Cash Clock.

If you already own a small business and cold sweat is popping out on your forehead right now that should motivate you to kick your financial education into high gear and become an expert on these fundamentals.

If you haven’t started your business yet, don’t until you can pass this course.

Write this on a rock … The ultimate responsibility for your business’s financial performance belongs to the CEO - that’s you.

To listen to Jim talk more about the 11 financial fundamentals for CEOs, click on one of the links below:

6 financial fundamentals every small business owner must know

5 of the 11 most important small business financial fundamentals

How to get a bank loan: Part One

One of the markers of this post-recession, so-called recovery has been the practice of deleveraging. Across the economy, from consumers to businesses large and small, debt has become something to get rid of.

Out here on Main Street, this trend has manifested in a dramatic drop in bank borrowing by small firms. Indeed, for more than a half decade, survey after survey has shown that less than 5% of business owners report their borrowing requirements have not been met, while the majority say emphatically they don’t want or need a loan. Consequently, there’s a pretty good chance your business hasn’t made a loan request to a bank in a while.

But the economy will eventually kick into an expansion phase, and what has become no less than a de facto moratorium on borrowing won’t last forever. And since most small business growth capital comes from bank loans, even for well-capitalized firms, it’s always good to revisit a few banking relationship fundamentals.

But don’t worry. If you’ve never asked a banker for a loan, or if it’s been a while, getting a bank loan is a lot like the process of qualifying a prospective customer. For example, you want to know these three things:

1. Who decides?

You have the right to ask who is going to make the decision on your loan. Can your loan officer decide, or will it go to the local loan committee or somewhere else? Why do you care? The more people involved in the loan approval process increases the scrutiny of your deal, which means more questions and more time for you to budget from proposal to answer.

2. What do they need?

Your banker will ask for personal and business financial information. They might accept last year’s business numbers, but they could also ask for an interim report. Depending on the size of your request and what you’re using the money for, they may ask for a business plan. If the loan is for real estate, a current appraisal will be required.

Don’t give the bank more than they ask for, but give them everything they ask for. Remember, the quicker your banker gets the information, the quicker you’ll get an answer.

3. How do they want it?

Ask your banker what information can be presented verbally and what needs to be in writing, whether hard copy or electronic. Whether you’re borrowing $5000 for a computer, or $5 million to buy out a competitor, knowing as much as you can about the loan approval process will significantly improve your chances of not only getting a quick answer, but a yes.

Next time, Part Two: What motivates your banker.

Write this on a rock …

Qualify a bank like you do customers, and be sure to do your homework.

A consumption tax is bad for America and worse for America’s small businesses

If not already, you’ll soon hear about two consumption tax alternatives to accomplish tax reform: a value-added tax (VAT), and the “Fair Tax,” which is a national sales tax.
VAT is added to products incrementally in the steps of the production/distribution process and passed to consumers in the ultimate price. The oxymoronic Fair Tax is collected from the end user at the point of sale, like state and local sales taxes. Both are bad ideas.
As major tax reform has been lately debated, in addition to tinkering with the current system or replacing it with a flat tax, politicians on both sides of the aisle have proposed consumption tax options. And they will be part of the 2016 presidential campaign debates.
SmallBusinessEconomyFiscally, the attraction of a consumption tax is that, in the largest consumer economy on the planet, it would raise a lot of tax revenue. Politically a consumption tax raises revenue on the rich more appropriately and, even though it’s regressive for the poor, they would receive some kind of a federal rebate or credit.

Consider these reasons why either consumption tax is a bad idea:

  • We know that the big spending party is the one in the majority. So without imposing strict fiscal discipline - like a balanced budget amendment - a consumption tax will give politicians more money without solving budget deficits or national debt challenges.
  • Most European countries have collected consumption taxes for years, and yet they continue to have significant economic/fiscal challenges.
  • European consumption taxes are on top of all other taxes, including income tax.
  • All European consumption tax percentages started small, but today the average is 19% - again, in addition to income tax.

A consumption tax would also hurt small businesses disproportionately. Big businesses have systems in place to deal with new government compliance, like tax collection, and they ALWAYS pass along expense increases to customers. Small businesses will be harmed because:

  • We aren’t always able to pass along cost increases, even a mandated VAT.
  • New tax compliance and remittance will be prohibitively expensive.
  • The sticker price of a national sales tax will take time for consumers to adjust to, which will hurt small businesses more.

The only way we should consider any kind of a consumption tax is if it completely replaces the federal income tax, which would require repealing the 16th Amendment. Good luck with that because in the 227 years since the Constitution was ratified, only one amendment has ever been repealed - and that was to end prohibition.

Write this on a rock … A consumption tax is a bad idea, especially for America’s small businesses.




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