Imagine making a mistake worth $250,000 – one that could have been avoided with a small investment and guidance from a tax professional. One of our clients came to us in this exact situation. They had chosen to file their tax return in line with how they were keeping their accounting, on a full accrual basis. Because they chose this method, they were taxed on the amount of receivables they had although those receivables were not yet collected. The amount due was a very large amount from a government contract and there was a dispute over the billing. Despite this set of circumstances, this client was still on the hook for the taxes on the $250,000 they had invoiced. This situation could have easily been avoided if they had consulted a professional, participated in proactive tax planning, and made the appropriate election to file on a cash basis (paying only on the actual cash collected). They did not realize a simple decision like this could have such a large impact on tax liability and with no cash in the bank to pay the tax, they were in a difficult situation.
As a business owner, if you’re only thinking about taxes when they’re due you may be missing out on opportunities to reduce what you owe or anticipate an upcoming liability to avoid surprises when it’s time to file. Becoming familiar and staying informed regarding tax compliance is another clear benefit to participating in tax planning sessions. It is crucial to incorporate tax planning as part of your corporate strategy.
What is Tax Planning?
Tax planning consists of crafting a strategy to minimize your company’s tax liability. Unlike tax preparation, which is retroactive and looks at taxable events after they’ve happened, tax planning is proactive and used to identify tax-related issues before they happen.
From salaries and wages to major capital expenditures, each piece of your business should be regularly examined for tax planning purposes. New laws may change your tax liability in positive or negative ways, affecting your company’s financial forecast. As your company grows or changes, you may be subject to different tax issues than before. It’s difficult for most business owners – who already have the responsibility of the entire company on their shoulders – to keep up with the most recent tax laws that might impact the business. As a result, many owners partner with an experienced CPA to craft a tax plan that’s both legal and efficient.
Legal entity and corporate structure
It’s important to get expert advice before choosing how your company will be set up. The type of legal structure you choose can affect how much you pay in taxes, what paperwork you’ll be required to file, and even your ability to raise money. A CPA can help you see the pros and cons of each type and which structure fits best for your short-term and long-term goals. This is not just a one-time discussion either. There are certain thresholds that your business will reach and multiple factors that play into electing to change your structure. An experienced CPA will help keep you informed as you navigate through the growth of your business.
Employment taxes and employee benefits
Whether you’re the sole employee or you have a staff, your company will owe employment taxes. When are these due? Which forms need to be filed? Are there methods for reducing payroll-related taxes? (There are.) How will your taxes be affected if you offer benefits? Your CPA can help navigate tax issues related to employment and employee benefits. Additionally, setting a salary for yourself may sounds simple but there are rules around this depending on what type of corporate structure you choose such as “reasonable compensation” and/or limitations for retirement plans. Again, your CPA can assist you in structuring the most beneficial arrangement while keeping you out of hot water.
Credits and deductions
There are several tax credits available to small businesses – and they may have an impact on decisions you make for your company. For example, maybe you’re trying to decide whether you’ll offer health insurance (and pay the premiums) to your company’s 11 full-time employees. Under the Small Business Health Care Tax Credit, you may qualify for a 50 percent tax credit. Tax planning may help you identify tax credits that are set to expire at the end of the tax year or scheduled to go into effect on January 1st, swaying your decision about timing of implementation.
Likewise, you may be missing available tax deductions – deductions that lower your tax liability and free up funds to be used elsewhere in your business. Your CPA can determine which credits and deductions applies to your company and how they can be maximized.
Timing of large purchases
Planning to purchase business equipment? Consult your CPA first. The decision of when to make your purchase could have significant impacts on your tax liability. A CPA can help you determine the best time of the year (or which year) to make a large purchase.
We were able to assist the client above in electing the cash basis and help avoid any additional issues moving forward, but the clean up process was lengthy and costly. Needless to say, they now see the importance of tax planning and we encourage all business owners to actively participate in a tax planning strategy. You can ultimately save yourself a huge cost and the heartache of knowing it could have been avoided.