Every Year-End Is A Business Owner’s Doomsday
Nov 11, 2016
At this time of the year, we start seeing an uptick in phone calls from our clients. Although this year, some anxious callers want to talk about the market (btw, we’re not financial advisors, all we can do is try to remind you that things have been even worse before—and ask you to think and act rationally), the main reason for the calls is that the year is about to end and there’s too much profit for the year.
Despite what you hear, some businesses are making money—especially the ones where the owners start work early and finish after most dinners have been consumed. These businesses usually fall under the “small business” category, having gross annual receipts under $10 million, and they use the cash basis of accounting—recording income and expenses as money is received or spent—versus big businesses that have to use the accrual method—recording income as it is earned, and expenses as they are incurred (regardless of when money exchanges hands between the parties).
For small business owners, “the end is near” isn’t just some quote you see on a sign—your financial tax year truly is nearing its end and there isn’t anything you can do to keep it from arriving. However, there are a few things you can do to make the arrival as non-eventful as possible. We hope that you get at least one new idea after reading this blog post.
I guess because we’ve been in the business for so long and these answers just automatically roll off the tongue without much thought, “Buy yourself some equipment” is usually the first thing I blurt out. This quick tip is usually the first one because it really is pretty awesome. The reason for its awesomeness is something called Section 179 and, to a lesser extent, bonus depreciation. You see, whenever your business purchases a capital asset (an income-producing asset with an estimated useful live of over one year), the rules say you have to depreciate it and take an annual deduction based on the expected useful life IRS assigns it. For example, a $15K asset with a useful life of five years would yield a $3000 deduction for the next five years.
Now, here’s where the greatness of section 179 comes in…that same asset will give you a $15,000 deduction on the year you buy it by simply choosing to use the sec 179 deduction. As with anything, there are limitations to the sec 179 deduction, the most notable being: not all assets qualify for it (IRS publication 946 has a whole section on this), there is a maximum dollar limit on the amount of sec 179 that can be deducted in a year ($500,000 as of 2016); it can not generate a loss (it can only bring your profits down to zero); and you can choose the amount to take (so for example if your profit is $25,000 you may only want to use $5,000 worth of sec 179 and let the remainder get depreciated over five years—especially if you think better times are coming in years ahead).
Bonus depreciation is like a cousin to sec 179—it gives you up to 50% more depreciation on the first year you purchase the asset. This can be used instead of, or in tandem with, the sec 179 deduction.
Whether or not you choose to depreciate an asset the regular way, or with these accelerated methods, make sure that the asset is placed in service as of 11:59pm on 12/31. Placed in service doesn’t mean it’s in route via UPS on 12/31; or sitting in its carton, unwrapped in your warehouse because the New Year’s party was starting and you didn’t feel like setting it up and installing it; or fully paid for but it won’t be shipped until January 20th…the asset is considered to be “placed in service” when it is fully installed, working, and ready to go.
One final warning: don’t get all caught up on “I’ve gotta buy a truck…I’ve gotta buy atruck…”just for the sake of getting a section 179 deduction. Only spend money on assets that make sense…those that you actually need to help your business---don’t go spending $10,000 on stuff you don’t need just to save $1,500 in taxes—be smart with your money! And speaking of not spending money…the asset doesn’t have to be fully paid to take the deduction. Whether you paid for that asset in full or took out a 30-year loan on it, you can take the full sec 179 deduction this year.
MANIPULATE YOUR BOTTOM LINE
It may sound sinister, crooked, and dishonorable, but being on the cash basis gives you a little bit of power to manipulate your income and expenses. “What? How dare you even whisper such a thing!?” you may ask. Relax…don’t get all worked up. We’re not an offshore accounting service…we’re right here in Kenner and would never steer you wrong.
What we mean by manipulating is that you can choose to mail out your invoices toward the end of December (think 30th-31st)—thereby ensuring that your customers won’t send you their payments until after the new year starts. Please realize that those payments will then become part of "next year’s problem" since you can't lament that, "those deposits were from last year's income!" and you will have to add it to next year's income figure.
The same concept applies to the expense side. You can write a check for a few months’ worth of electric bills, rent, etc. and mail your checks out by 12/31 so that you can take the deduction this year—even though you’re prepaying next year’s costs! Remember that, again, you will have a "problem" when you file next year's return, because the expenses you are allowed to take next year won't be for a full year (for example if you prepay January's rent this year, then you'll only have eleven months' worth of rent to deduct next year).
These approaches will certainly work best if you've had a super duper year this year that you know won't repeat itself again next year. For example, your construction business boomed due to a natural disaster, you were a consultant or a media buyer during the elections, you were planning to retire next year...etc.
Important to note is that purchases paid with a credit card by 12/31 will be deducted on this year’s tax return—even though the credit card bill won’t be paid until sometime in the following year!
With both of these approaches, I always preface it by telling folks, “if your checking account allows it…” because it makes no sense to drain your checking account by prepaying expenses or not collecting customer checks and end up bouncing checks and paying NSF fees just to save a few bucks in taxes.
By taking either one of these steps, you can feel like some sort of corporate outlaw who manipulates company income while knowing that this move is as legit and safe as they come!
BE CHARITABLE TO YOUR EMPLOYEES
They say charity begins at home, and when you’re talking about a business, employees are part of that home! Giving year-end bonuses and having year-end parties are some obvious ways to show employee appreciation. But how about anteing up for retirement plans, insurance premiums, daycare expenses, gym memberships, occasional meals, birthday cakes, life insurance policies, and even bus fare?
There’s a potential for some big write-off’s here, since retirement plans have a flexible company contribution limit between 2%-6% on retirement plans, SEP IRA’s have contribution rates of up to 25% of wages (or $54K) per employee, up to 100% employer contributions for health insurance…etc. Your place may not be Google or Facebook, but it doesn’t have to feel like it’s run by dementors!
All these company paid benefits that you offer your employees not only help you save money on your final tax bill, but more importantly, they boost employee morale and could even end up helping your company make one of those “cool places to work for” lists you see on the internet!
And as we all know…any publicity is good publicity!