Archive for the ‘Business’ Category

Are you getting the most out of your accountant?

Often, clients put their accountants in a box like this and won’t let them out.  I have experienced this.  Once a client gets it in their head that “Polito is our tax guy”, it’s really hard to shake that image.   Our profession has so much more to offer!

When I was in the publishing business, before I knew what accountants did, I was the same way.  I called my accountant for tax stuff and little else.  I failed to take advantage of his years of knowledge and experience.  That business never flourished!

Many CPA’s start their careers as auditors for national firms auditing financial statements.  That is an extremely valuable experience.  Frequently, after between 2 to 5 years, these auditors  join public companies as controllers and chief financial officers….. and,  a significant number go on to become CEO’s of large public companies.  Indeed, there is a lot more to accounting than financial statement preparation and tax compliance!

About 10 years ago, we developed a service for a number of clients who had what I  term “technician syndrome”.  These clients  knew their particular trade or business and were fairly successful at it, but knew nothing about  the financial condition of their company.  They had no idea how they were really doing.  If there was cash in the bank, things were ok.  Actually, they were in a contest with their competitors but they weren’t keeping score!  In many cases, they didn’t understand the scoring system!

With the help of  my associates, I developed a series of graphs and reports tailored to each particular business.  We find elements of the financial records that if measured, could provide tools to gauge the success of various strategies.  We call these” Key Performance Indicators” (KPI’s).  We  model the effects of slight changes in these measures.  What would happen , for example if the company could increase margins by one percent?   What it would mean to the company, its owners, its employees, and other stakeholders.  We benchmark the clients by industry and size so they can see how they are doing compared to their peers.

We meet with these clients quarterly to go through the financial statements and the special reports that we designed specifically for that client.  At first, these meetings were the only time the clients seriously looked at their financial data. The meeting  is a really important part of this service.  It takes fairly deep study and analysis to really utilize the data.  This analysis coupled with the prodding of a seasoned professional outside the business, provides a stimulating atmosphere for new ideas on how to improve the business.  The brainstorming that goes on in these meetings is extremely valuable.

How do we use the data?

Using break-even analysis, we illustrate profitability scenarios.  We work with clients to develop budgets that support their strategies and we develop financial tools to measure the effectiveness of new strategies.  We develop forecasting models which our clients can use to project income and cash flow, and finally, we do tax projections with cash analysis so that the demand on cash for any suggested tax strategy can be quantified in cash required and cash saved.

To a non-accountant, this stuff is daunting.  I am convinced that one  reason some businesses can never “break through” to that proverbial “next level” is because they fail to make full use of their financial data.  By meeting regularly, even on a quarterly basis, for the sole purpose of assessing the performance of the business, clients tend to be more engaged, execute strategies more consistently, and frankly, make a heck of a lot more money!  In the final analysis, we are helping them keep themselves accountable by orchestrating  the reading of the scorecard.

At this time of year when we “resolve”  to improve, it’s a great time to develop tools to measure business performance and get very intentional about the way we run our companies!  How’s this for a New Year’s resolution…call your accountant and ask him or her how they can help you better measure your performance.  You might be amazed at the untapped resource on your team!

Blog facts correction: Capital Gains Harvesting

The tax harvesting blog had an error that we’d like to correct.  The concept is still important to consider.  However we were comparing short term capital gain tax rates to long term capital gain tax rates.  

Long term capital gains tax rate is currently maxed at 15%.  It will go back to 20% in 2013 and is subject to the 3.8% investment surtax for higher income individuals (for a total of 23.8%).  

Short term capital gains are taxed at your ordinary income rate which is current maxed at 35%.  It will jump up to 39.6% if Congress doesn’t act.  When you ad the 3.8% investment surtax for higher income individuals, the total is 43.4%. 

Historically capital gains harvesting has been a strategy to use up large capital losses.  This year, it’s a strategy to pay federal capital gains tax at a lower rate (15%) rather than pay tax at the projected rate of 23.8%. If you sell the asset, thus harvesting the capital gain, you can turn around and purchase the asset again.  Now you have a higher basis so that when you sell it in the future, you are paying less tax. 

Here is the simplified example: 

Stock X purchased 1/1/2005  $      5,000 Stock X purchased 1/1/2008  $          5,000
Value on 11/30/12  $    75,000    
Projected value on 12/31/14  $  105,000 Projected value on 12/31/14  $     105,000
       
If sold on 11/30/12 and then repurchased:    
2012 capital gain  $    70,000    
Tax on capital gain  $    10,500    
New Stock X basis  $    75,000    
       
Then sold again on 12/31/14   Sold  on 12/31/14  
2014 capital gain  $    30,000 2014 capital gain  $     100,000
Projected tax on gain  $      7,140 Projected tax on gain  $       23,800
       
Total tax paid on investment  $    17,640 Total tax paid on investment  $       23,800
Total gain after taxes  $    82,360 Total gain after taxes  $       71,200

 Tax saved from harvesting capital gains is $11,160. 

This strategy is easily executed with publicly traded stock.  It’s a bit trickier with other assets.  However, if you have been trying to sell a capital asset with a large gain, it might be worth sitting down with your accountant to find out if the tax savings justify lowering the price to affect a sale in 2012. 

We used an extremely simplified example to help illustrate the concept.  However, investments are usually much more complicated.  As always, see your tax advisor for help in applying tax planning strategies to your tax plan. 

We apologize for the error.

All $250,000 taxpayers may be the Wrong Target…Too important for such a broad brush.

All $250,000 taxpayers will often be the wrong target if the goal is to rebuild the economy with private sector jobs.

I have served small and medium sized private companies for over 35 years. The proposed tax increase on those so called “wealthiest Americans” is one of those broad brush solutions that will turn out to be counter-productive.

We know that employment is driven primarily by small to medium size privately held companies.  This makes sense.  These are usually owned by someone who lives in the U.S., works in the U.S. and does business primarily in the U.S.  Simply put, most small businesses exist to create a job for their owners and employees.  Contrast this “business purpose” with the purpose of a public company.  Public companies strive to build shareholder value.  Ever increasing pressure to create earnings tends to push labor intensive processes overseas and eliminate jobs through automation.

A study of most business classes will indicate that profit margin (net profit) generally runs between 5% and 10% if the business is profitable.  This category called “small to medium” size will have revenues somewhere between $2 million and $200 million.

Most of these businesses report their income and pay their taxes on the owner’s tax return.  Most of these business owners will tend to take salaries in the low 6 figures….say between $100,000 and $300,000.  Now let’s say that a typical “expanding” business grosses $5 million and nets 5%.  That net is $250,000.  When you add that to the say, $200,000 in salary, you are right in the cross hairs of the president’s proposed tax increase.  What may not be understood is that the $250,000 in profit is not in the owner’s hands.  It is in the business.  These earnings pay for things like new equipment, additional employees, debt principal and owner draws for taxes which are not deductible. 

In the accounting business, we call the $250,000 in my example “pass through” income.  The taxable income is passed to the shareholder’s or partner’s tax return, but the cash generally, is not.  When you tax it, the money has to come out of the company’s working capital leaving fewer dollars for expansion, hiring new employees, etc.

Also, when this “pass through” income is added to the owner’s salary, it is taxed at the owner’s highest rate which will be higher than the corporate rate if the President’s proposal is accepted by Congress.  It should not be taxed at a higher rate than the large corporations pay.  To do so will further cripple our economy.

An Individual who makes $200,000 per year in salary or a couple that makes $250,000 without adding any jobs to the economy probably ought to pay more tax.  But a business that employs people should not be subject to the same level of tax.  Fairness is not at issue here.  Our struggling economy is the issue!  There should probably be some sort of exemption or maximum rate of tax (like the current treatment of capital gains) for business pass through income that will help stimulate job growth in the economy.

My prediction: Taxes are going up

President Barack Obama was reelected president and Democrats maintain control of the Senate.  Republicans still have majority in the House.  While this may mean that nothing as significant as the Affordable Care Act will pass again (at least within the next two years), it also means a complete repeal is unlikely.  All those tax increases start next year in 2013.  In addition, Californians just passed a new tax primarily aimed at the “wealthy”.  The President wants to tap the wealthy too!  Here’s a run down of what’s in store, just to name a few new taxes: 

         California Prop 30 increases CA taxes on earnings over $250,000 for single taxpayers ($500,000 joint filers) retroactively beginning January 1, 2012, and increases sales tax by 0.25% beginning 2013

         “Bush-era” tax cuts expire end of 2012 bringing tax rates up across the board, restoring the “Marriage Penalty”, and increasing tax rates on capital gains and dividends

         The “Affordable Care Act”  imposes a new Medicare tax on investment income and the “wealthy” commencing 2013

         Estate taxes increase and the gift exclusion decreases by over $4 million!

         Payroll tax holiday (we’ve been paying 2% less in social security taxes) expires after 2012 

If I had to guess at what the future holds, I think Congress will pass the President’s proposal which extends the Bush tax cuts for lower to middle income families but increases taxes on the upper income levels. 

Here is a table that may help show the federal increases visually:

 

2012 rates

Affordable Care Act increases

Expired cuts increased rates by

2013 rates

President’s Proposal

Individual tax rates (income ranges for MFJ as of 2012)

 (2)

      $0 – $17,400

10%

 5%

15%

10%

      $17,400 – $70,700

15%

15%

15%

   $70,701 – $142,700

25%

 3%

28%

25%

  $142,701 – $217,450

28%

 3%

31%

28%

  $217,451 – $388,350

33%

 3%

36%

33%

      $388,350 +

35%

 4.6%

39.6%

36%

 

39.6%

 
Capital gains

15%

3.80% (1)

5%

23.80%

23.8%

Dividends

15%

3.80% (1)

25%

43.40%

43.4%

Medicare tax – high wage earners

1.45%

0.90% (1)

2.35%

2.35%

Estate tax

35%

20%

55%

Lifetime gift exclusion

           5,120,000

         1,000,000

 (1)   Individuals will pay an additional 0.9% Medicare Hospital Insurance (HI) tax on wages and self-employment income on amounts earned above certain threshold amounts: 1. $250,000 for joint returns; 2. $125,000 for married filing separate; and $200,000 for all others. To the extent that the amount of the income exceed the threshold, the tax on investment income is 3.8% of the lesser of:

1.      Net investment income, or

2.      The excess of modified adjusted gross income (MAGI) over a threshold amount. 

(2)   Income ranges differ from 2012 income ranges 

Here is a table that shows the CA Prop 30 increases (taxable income ranges): 

Prop 30 (effective January 1, 2012)

$250,001 -$300,000 for single/MFS

10.3% (1% increase)

$340,001 – $408,000 for HOH
$500,001 – $600,000 for MFJ
$300,001 -$500,000 for single/MFS

11.3% (2% increase)

$408,001 – $680,000 for HOH
$600,001 – $1,000,000 for MFJ
More than $500,000 for single/MFS

12.3% (3% increase)

More than $680,000 for HOH
More than $1,000,000 for MFJ

 

 

Whistleblower gets a Payday

According to the National Whistleblowers Center, the Internal Revenue Service (IRS) has awarded former UBS banker Bradley Birkenfeld a whistleblower reward of $104 million which is believed to be the largest reward ever given to an individual whistleblower in the US.

The IRS is authorized to pay rewards from 15% to 30% of the collected proceeds if information provided by a whistleblower substantially contributes to the detection and recovery of taxes, penalties and interest. While the IRS was aware of the compliance issues and the illegal offshore banking scheme, it was Mr. Birkenfeld’s disclosures that “formed the basis for unprecedented actions against UBS” and resulted in a fine paid to the US by UBS bank for $780,000,000 (that’s a lot of zeros!). The IRS also launched the amnesty program for taxpayers to voluntarily disclose their offshore accounts which resulted in 35,000 taxpayers participating and paying over $5 billion in back taxes, fines and penalties.

San Diego Enterprise Zone Expansion

As of September 4, 2012 the San Diego Enterprise Zone has been expanded to cover parts of the following communities: Rancho Bernardo, Mira Mesa, Kearny Mesa, Mission Gorge, Linda Vista, Bay Park, North Bay and Chula Vista.  See our previous post on the details of the credit.

According to the Mayor’s office, approximately 920 local companies have used the program to hire over 31,600 local workers. They also state that four large companies moved to San Diego because of the city’s commitment to seek this expansion of the Enterprise Zone.  ATK, Kyocera, Soitec and Shire indicated the promise of the Enterprise Zone was an important factor in their decision to expand to San Diego creating 866 jobs.

If you think you are in the “zone”, contact your tax preparer to see how you can take advantage of these credits.

It’s Your Money Not Theirs

Clients, Friends and Fans,
Sunday night Don and Paul were guests on the radio show “It’s your money not theirs” hosted by our good friend and former partner, Richard Muscio.  The show airs every Sunday at 7 p.m. on 760 KFMB.

We talked about entity selection and borrowing from traditional lenders like banks.

We have added some of the material to our website under articles of interest you can download the pdf here “Choice of Entity

Enjoy!

Listen to

 

B is for Bad Debt (Business)

In some instances bad debts may be written off.  Here we’ll look at what factors must be present in order to take a deduction.

For Accrual Method Taxpayers:

When using the accrual accounting method, management estimates an allowance for bad debts based on several factors such as prior experience, industry comparisons, the debtor’s ability to pay and/or appraisals of current economic conditions.  This is known as the allowance method.  Keep in mind; this is an estimate of an event that has not yet occurred.  When it comes to tax, the IRS does not allow you to make this estimate.  As you can imagine, it would be abused as a “tax planning” strategy.  Therefore, for tax purposes, we can only deduct actual bad debts.  The following factors must exist in order to deduct a bad debt:

  1. It must be a creditor-debtor relationship
  2. There must be a legal obligation to pay a fixed sum of money
  3. There must be an actual loss of money (loss of time spent rendering services is not a loss of money unless the uncollected fee has already been included in taxable revenues on the accrual method)
  4. Proof that the debt is and will remain uncollectible
  5. A business purpose for the debt

When using the specific charge-off method to deduct bad debt (unlike the allowance method previously discussed), management has to prove that the debt is uncollectible to expense it.

Recovery of previously written off bad debts in subsequent years is recognized as other income in the year received.  As always, see your tax preparer when determining what your business can deduct for bad debt expense.

For Cash Method Taxpayers:

Cash basis businesses cannot deduct bad debt since the related revenue was never recognized.  There would only be bad debt for actual cash lost, i.e. because it was paid in cash to a vendor, etc.

A is for AUTO EXPENSES

Business auto expenses… it’s an area of the tax law that can be confusing and lead to abuse.  Businesses have two methods available for determining the most beneficial expense.  The following will explain each approach.

For a business, a vehicle can be deducted in two ways; actual expense and mileage.  When using actual expense, the vehicle can be depreciated and maintenance, insurance, gas and other expenses can be deducted. When using the standard mileage rate to calculate the deduction, depreciation expense is  included, therefore separate depreciate expense would not be taken.  When you purchase a new vehicle we will calculate the deduction using both methods (assuming all information is provided) and the method that gives the higher deduction will be used.  You should keep a log for each company owned vehicle recording the mileage and expenses for each.  This can become tedious but it will be one of the first items requested by an IRS auditor

If your employees are allowed to use company owned vehicles on personal time, it is considered a taxable fringe benefit.  We collect certain data and use an IRS table to determine the taxable amount.  This allows the business to deduct one hundred percent of the auto expense.  The employee pays tax on the personal use of the vehicle.  The IRS table for this taxable fringe is so beneficial that this is often the best method for both employer and employee.  The most important pieces of information needed are the annual business and personal miles on the vehicle.

As always, see your tax preparer in considering your tax situation.

Year-End Tax Planning, Part 2

I previously compiled a list of year-end tax planning strategies for individuals.

Here is a list of year-end strategies for businesses and business owners:

1.   Businesses should consider making expenditures that qualify for the business property expensing option.

Code sec. 179 expense: For tax years beginning in 2010 and 2011, the expensing limit is $500,000 and the investment ceiling limit is $2,000,000, and a limited amount of expensing may be claimed for qualified real property. However, unless Congress changes the rules, for tax year beginning 2012, the dollar limit will drop to $125,000 and $500,000 (both indexed for inflation) respectively, and expensing won’t available for qualified real property. Keep in mind, Sec. 179 deductions are limited by net income, thus, they cannot be used to create a tax loss.

Bonus depreciation: Property that does not qualify for an immediate tax write off under the Sec. 179 may qualify for bonus depreciation. Unlike the Sec. 179 deduction, there are no restrictions on the amount of qualifying property and there is no taxable income limit. The deduction is 100% of the cost for qualified property purchased and placed in service during 2011. This first year write off won’t be available next year (2012) unless Congress acts to extend it.

2.   Businesses that hire qualifying workers (such as certain veterans) before the end of 2011 can claim a credit up to 40% of the first $6,000 in wages paid to each such employee.

3.   Make qualified research expenses before the end of 2011 to claim a research credit, which won’t be available for post 2011 expenditures unless Congress extends the credit.

4.   If you are self-employed and haven’t done so yet, set up a self-employed retirement plan.

5.   If you own an interest in a partnership or S corporation, and the business incurs a loss in 2011, you may need to plan ahead to be sure you can take advantage of that loss. These rules can be complicated,  and you should consult with your tax adviser.

6. Depending on your particular situation, you may also want to consider deferring a debt-cancellation event until 2012, and disposing of a passive activity to allow you to deduct suspended losses.

Again, we recommend that you always, see a professional when considering tax planning strategies for your situation. There are very important details underlying each of these strategies which must be thoroughly understood before you employ them!

FEATURED PODCASTS

It's Your Money, Not Theirs

Latest Show

April 21, 2013–Richard and Joe discuss the more than 800 celebrity interviews and his techniques with Entertainment Reporter, Fred Saxon.

Featuring Polito Eppich

December 16, 2012–Richard and Joe welcomed Don Eppich of Polito Eppich. (Commercial free. 42 minutes.)

August 19th, 2012–Richard and Joe discuss tax policy and accounting services with Paul Polito, CPA and Don Eppich, CPA.

March 25th, 2012-Richard and Joe discuss the best accounting practices and strategic advice for businesses with Paul Polito, CPA and Don Eppich, CPA of www.PolitoEppich.com

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