Death and taxes: Ben Franklin warned us that they are the only two things in life that are certain. But you don’t have to let your tax responsibilities drive you or your business to an early grave.
It’s well known that the financial reality for many small limousine operators can sometimes be a hand-to-mouth existence, made more difficult by seasonal peaks and valleys in business, stagnant rates and rising costs.
Another complication is that many small operators’ first passion and skill is to provide excellent one-on-one service to clients – they are not well trained in small business finances and they are often intimidated by its complexities. In short, they lack financial discipline.
As a consequence, some operators can all too easily, especially in lean months, let their federal and state tax obligations slide, hoping that better times down the road will let them catch up.
“They won’t be in business very long is they take that approach,” cautions Beth Hamilton, owner of Brentwood Limousine & Coach in Englewood, Colo. “Every time you want a loan, every time you want anything from anyone you’re going to have to show that you are current in your taxes. There’s no other way around it.”
They fail to plan, to set aside enough money to pay their federal and state taxes, some of which are due quarterly. It can be all too easy to adopt a credit-card mentality, to use high-rate plastic or loans from family to cover taxes or other pressing debts.
Instead, planning for and paying taxes should be a year-round occupation. It is one that takes financial discipline and is an integral part of an overall financial management program that includes budgeting, sticking to deadlines, routine bookkeeping and regular analysis.
Each small business has a wide variety of taxes and fees to consider, including federal and state corporate taxes, sales taxes that operators in some states must pay, payroll-related taxes, other business fees and taxes, and specialized taxes and fees imposed on the limousine industry.
Make certain that you know all that apply to your business. Missing any can quickly result in, at a minimum, being ordered to pay additional and costly fees, penalties or interest charges.
The importance of adhering to those obligations – or of using a part-time bookkeeper or accountant who can keep track of them for you – cannot be overstated.
Here are some strategies for avoiding tax problems before they happen and suggestions on what to do if you find yourself slipping into trouble.
Keep Taxes Current: This Is Rule No. 1
Above all else, owners of struggling businesses should meticulously keep current with all their federal, state and local taxes, including sales and income, and especially any payroll taxes withheld from employees’ paychecks.
“My simple rule of thumb is that [tax, car payments and insurance] get paid before I get paid,” says Chris Hundley of The Limousine Connection in Los Angeles. “The government does not go away; it’s in line before anyone else. And the interest and penalties are compounded and they don’t go away either.”
He also notes that being unable to pay yourself a salary should serve as a wake-up call that you are having serious business troubles. “What better incentive is there to get your act together than not being able to pay yourself a salary?” he adds.
The IRS and state tax authorities can hold you personally liable for these taxes, plus penalties if they are not paid. And you are still personally and legally liable to pay them even if your business goes bankrupt, according to Nolo Law for All, a legal advocacy organization.
In particular, it is hugely important to pay federal and applicable state taxes on a quarterly basis to avoid penalties and to keep from falling within the gunsights of taxing authorities. In general, sole proprietors and the self-employed must pay quarterly estimated taxes if they expect to own more than $1,000 and their withholding and other credits will not equal 90% of this year’s tax bill and 100% of last year’s tax bill.
Tax planning is a year-round process. Not only are most small businesses required to make quarterly tax payments to federal and state authorities, but you will not be able to use tax-saving strategies that can minimize your tax bill unless you stay on top of things year-round. In addition, many tax experts urge small business owners to make income projections, which provide a good yardstick of how much tax money to set aside. Nonetheless, you should recognize that the smaller the business, the more unpredictable profitability for the year can be.
“It should be a real wake-up call” if you are having trouble meeting your tax obligations on time, Hundley adds. “
Record Keeping: It’s Rule No. 2
The “three R’s” of staying out of trouble with the IRS and other taxing authorities are record keeping, record keeping and record keeping. IRS studies show that poor records, not dishonesty, cause most entrepreneurs to fail to comply with their tax reporting obligations. It’s the “Achilles’ heel of the small business person,” according to Fred Daily, author of “Tax Savvy for Small Business.”
Keep all receipts and canceled checks for business expenses organized and in a safe place. Separate the documents into categories such as fleet maintenance and gasoline expenses, vehicle purchases, salaries, rent, utilities, advertising/marketing, travel/entertainment, and professional fees.
At a minimum, put your documents into individual folders or envelopes. If you are ever audited – small businesses are audited about three times more often than most individuals –the IRS is most likely to zero in on business deductions for car expenses and travel/entertainment spending.
Furthermore, the burden will be on you – not the IRS or a state or local government – to substantiate your deductions, other expenses, income and other financial claims.
You should also set up a calendar of important dates for paying taxes, payroll, insurance and other payments. (See the IRS listing under Internet Resources, Page XX.) Such a system is also useful in estimating taxes and planning cash flow.
Tax information is also a valuable resource for updating your business budget. The easiest way to budget is look at how you spent money in the previous year and to project any anticipated changes.
And even if you hire someone to keep your records, you need to know how to supervise him or her. After all, you are the one held responsible if your bookkeeper makes mistakes.
Hire a Number Cruncher: You Gotta Get One
One of the most important things small operators can do to help themselves stay out of trouble with the taxman and bill collectors is to obtain the part-time services of an accountant and a bookkeeper.
Many small business people believe they have little choice but to keep their own books, even if the costs of a bookkeeper are modest. There are plenty of good accounting software programs and some entrepreneurs believe these programs alone can save them money while also letting them keep a close eye on expenses and income.
But many start-up entrepreneurs are ignorant of the intricacies of tax laws and accounting rules. They make the mistake of thinking they can handle everything themselves, only to later find themselves in a delinquent tax or accounting mess.
“It goes without saying that a accountant is part of your business plan,” says The Limousine Connection’s Hundley. “Too many people seem to get wrapped up in the good things about running a limousine company. But the bottom line is that it’s a business and it has to be run like a business.”
Many operators have found that an accountant or bookkeeper is not just someone who keeps track of pennies and receipts – that person should also be a key member of their management team. Many operators consult with their accountant on whether they should buy or lease vehicles, to monitor cash flow and to tell them how much to put aside for retirement.
In addition, small business owners need quarterly reviews with a tax professional to determine where they are going and to spot trends in their cash flow, in other words to help them avoid surprises. Regular meetings with an accountant can also help you keep abreast of changes in federal and state tax codes. They can also recommend changes in how you operate your business that can help you minimize any adverse tax issues and capitalize on any positive tax matters.
“You have to have an independent third-party professional working with you,” says Brentwood Limousine’s Hamilton. “Any bank, anyone who’s leasing or selling you cars, anyone like that is going to want to know that your taxes are up-to-date and your finances are in good order.”
Not only are a tax pro’s fees a tax-deductible business expense, but chances are your business will benefit if you put more of your time into running it and less into completing routine paperwork or trying to keep up with tax matters with no professional guidance.
Many small limousine operators – especially companies where one or two people do it all – rightly believe they can’t afford the regular services of an accountant.
At the least, you should consider hiring a bookkeeper for a few hours a week to take care of your day-to-day bills and receivables.
The enforced discipline of having a bookkeeper watch over your books can counter the tendency of many entrepreneurs to avoid the nitty-gritty details of completing general ledgers and tracking payables and deductibles, according to “Tax Savvy for the Small Business” author Daily.
And keep in mind that you don’t need an accountant to balance accounts and put your books in order. Business consultants estimate you can save as much as 35% in professional fees by using a bookkeeper, rather than an accountant, for routine items.
You also should initially run your bookkeeping system past a small business tax pro. With just a few hours of work, he or she should be able to help you avoid most common mistakes and show you how to integrate your tax filing requirements into your bookkeeping system.
Another option during tax preparation time is to hire an enrolled agent, an income-tax specialist licensed by the IRS to prepare returns and filings. Many enrolled agents are former IRS employees; they charge anywhere from $50 to $150 an hour.
Find the Right Accountant: What to Look For
Small business entrepreneurs need an accountant who specializes in small-business taxes, not one who is a personal tax account. Even better, the accountant will have other limousine company clients and be familiar with the nuances of this industry. And don’t worry about an accountant talking to other operators about your situation - accountants are bound by strict confidentiality rules.
Hamilton of the Brentwood Limousine, for example, advises operators to find a small business accountant who is well versed in the tax implications of leasing vs. buying vehicles, and independent contractors vs. employees.
Interview candidates as you would any other employee. Ask a lot of questions about the accountant’s experience with other small businesses and their service philosophy.
And pay attention to the questions the accountant asks you. For example, someone who only asks how much you spent on this or that and types your responses into a computer may be giving you only data entry. The accountant should be using your tax return to give you valuable pointers. He or she should also be interested in your business philosophy and should question you about how the limousine industry works.
The accountant should also belong to a professional organization that makes continuing education mandatory and you should observe how extensive the tax library in the person’s office is.
And don’t be overly concerned about the fee; most reputable accountants can quickly make up in tax savings what they charge in fees, in addition to keeping you focused, directed and on track with your tax and other financial obligations.
In short, specialists are worth the money because they know how to save you time and money.
Stay Out of Trouble: Seven Tested Strategies
There are a variety of other tactics that can help keep you from slipping down the slope of tax delinquency and insolvency:
* Slow Your Burn Rate: An operator who realizes he or she doesn’t have enough revenue to pay tax and other bills coming due should immediately slow their “burn rate,” the rate at which they are eating through cash, by cutting expenses to the bone.
First you should prepare a short-term cash projection and plan for your immediate needs. Also make a list of all the money owed to you and collect as much of it as you can. Pay necessary items like taxes and basic overhead costs but delay paying other bills by working with suppliers and other creditors.
* Build Up Cash Reserves: Financial experts also advise that operators maintain a healthy emergency fund, cash reserves that can tide you through unexpected difficulties. A slush fund may also help you take advantage of a closeout sale on a car or other type of short-term business investment.
Most small businesses are advised to have at least a three-month cash reserve to tap into in bad times. Again, a detailed business plan and careful records tracking your cash flow will help determine how much of a cash reserve your business needs. Otherwise, you may find yourself pulled into a high-interest hole with credit cards and other borrowing being used to meet short-term needs.
* Return Leased or Financed Items: Reduce your expenses by letting go of cars or office equipment that you owe money on. Remember that even if you keep the leased or financed cars or equipment and go into bankruptcy, you’ll still be responsible for making the payments.
Giving up the cars or equipment means you will probably lose whatever you have invested in them but you won’t have to keep making the payments. The down side of this, of course, is those cars will no longer be producing income for you.
* Don’t Lie to Tax Officials, Bankers or Yourself: Small business owners often try to do everything they can hide their problems or to borrow money when they run into financial trouble. But think carefully about whether your business is really likely to do better in the near future or if you’re only compounding your debt problems and prolonging the inevitable.
If you decide to apply for a new loan or to consolidate old debts, be up front in disclosing the financial condition of your business. Misrepresenting your business debts to get a loan can legally be considered fraud, according to the legal advocacy organization Nolo.
* Don’t Use Pension Money: Many pension and 401-k retirement programs allow you to borrow money from the account. Think twice before you do that – you can be assessed taxes, penalties and interest charges for early withdrawals.
* Use a Business Charge Card: Apply for and use a credit card that is specifically designated for only business use. This will help your record-keeping and any justification to IRS or state tax authorities, if necessary. Many banks offering Visa and MasterCard cards, American Express and other companies have programs aimed at small businesses.
* Avoid Surprises: If you face serious financial problems and owe money to a bank, it’s often wise to keep most of your checking and other accounts elsewhere. Loan agreements typically allow a bank to take money from your checking account without prior notice if the bank believes you are in financial trouble. It can be an ugly surprise when you need it least to discover that your neighborhood bank has suddenly drained your checking account.
Electronic IRS System
Another way to stay on track is to use the federal government’s electronic filing system. Nearly four million businesses submit forms and make tax payments through the Electronic Federal Tax Payment System.
The system is free if you use the debit method of payment and is less cumbersome than writing checks and mailing them in. Many states offer complimentary systems for filing and paying their business taxes.
When the Worst Happens: Strategies for Getting Yourself Out of Trouble
Start by getting your tax forms filled out – then look at using installment payment plans, loans and maybe even bankruptcy.
OK, OK, so you’re late with your tax payments. Your bookkeeper resigned and your forms haven’t been completed. Or, you can’t pay what you owe. But, you reason, it’s easy to bring a new bookkeeper up to speed. And wedding and prom season is almost here and you’ll get the money to pay in the next quarter. And surely the IRS and state tax authorities have much bigger fish to fry than a little limousine company. Think again.
Complete the Forms: And Send Them In
The first thing you must do is complete the forms. Hire someone quickly, if the forms are beyond your financial expertise, and get them filled out. And send them in now. You can’t go to jail because you don’t have the money to pay your tax bills. But you can go to jail for not filing.
The IRS and state tax agencies can impose penalties if you don’t meet filing deadlines and file requests for extensions. For example, the IRS can impose a 5% per month penalty on the tax due for personal income taxes, up to 25%. The IRS will also charge you interest on the tax owed. But, of course, avoiding late-filing penalties doesn’t get the tax paid.
Do you have any equity in your home? If so, a home-equity loan might lower-interest money to pay your tax bills. More over, the interest on the loan would be deductible on next year’s return.
Can you borrow money from relatives or friends? Can you get cash from your credit cards? The interest isn’t deductible and would probably be much higher than the IRS interest rate. Still, this might be preferable to the possibility of the IRS or other agencies coming after you.
And there’s the option of bankruptcy, a harsh option that will hinder your personal and business endeavors for years to come:
* Chapter 13 bankruptcy is for individuals and involves a plan to repay debts.
* Chapter 11 bankruptcy is for corporations, removing a company from the threat of creditors’ lawsuits while it reorganizes its finances.
* Chapter 7 bankruptcy usually leads to liquidation of the company. At a minimum, the company will operate under the direction of a court-appointed trustee.
Installment Payments: One Month at a Time
What if you’re determined to avoid personal or corporate bankruptcy but still can’t find the cash?
The most widely used method of paying past IRS and state tax debt is the monthly installment agreement. You have an automatic right to an IRS installment agreement if you owe $10,000 or less and have filed all your past-due tax returns.
Your monthly payments under this automatic approval plan must be sufficient to pay the balance in full within 36 months.
Are you self-employed? If so, you must be current on your quarterly estimated tax payments for the year to get an installment agreement. And if you have employees, you must be current on payroll tax deposits and payroll tax forms before you can get an installment agreement.
But don’t assume that an installment plan is your best option – there are some drawbacks. The largest is that interest and penalties continue to add up while you still owe. Interest is adjusted quarterly. And when combined with penalties, the rate is often 13% to 15% per year. It’s possible to pay for years and owe more than when you started.
But keep in mind that the IRS and states are interested in settling your tax liability. The IRS accepted about 29,000 offers, or about 20%, of the 124,000 installment agreement applications made in 2002.
The IRS offers a couple of other options that might help:
* Make an “offer in comprise,” which involves asking the IRS to accept less than the full amount due.
* Ask the IRS to temporarily designate your debt as uncollectible if you are out of work or your income is very low. This will buy you time to get your feet back on the ground, but interest and penalties continue to build.
The IRS allows you to represent yourself, or, with proper written authorization, have someone else represent you. It must be a professional, such as an attorney, a certified public accountant or enrolled agent, who is allowed to practice before the IRS.
In addition, the Taxpayer Advocate Service, an independent arm of the IRS, helps taxpayers if they are facing “significant hardship” as a result of a tax problem that meets the TAS’ criteria.
You also must deal with your state’s taxing authorities on paying past-due sales, corporate, personal and other taxes. Rules – and the penalties for paying late or not at all – vary and constitute one more reason to hire a good tax accountant who understands the laws in your state and focuses on small businesses.
Fraud or Negligence: The IRS Is the Judge
IRS auditors are trained to look for fraud, commonly described as a willful act done with the intent to defraud the IRS.
Keeping two sets of financial books, using a false Social Security number or claiming a blind spouse as a dependent when you are single are all examples of tax fraud.
Determining whether something is fraud or mere negligence can be more of an art than a science. And it can have big consequences.
Having IRS auditors find a careless mistake on your corporate tax return could cost you a 20% penalty. But this sure beats the cost of tax fraud – a 75% civil penalty.
Examples of fraud include a business with two sets of books or without any records at all, freshly made receipts, and checks altered to increase deductions. Altered checks are particularly easy to spot by comparing written numbers with computer coding on the check or bank statements.
While the statistical likelihood of being convicted of a tax crime is very slight, it does happen. Hire the best tax and criminal attorneys available if it happens.
Tax Cheats: Few Are Convicted
It shouldn’t surprise anyone to learn that it’s a crime to cheat on your taxes. In a recent year, however, only 2,472 Americans were convicted of tax crimes – .0022% of all taxpayers, according to Nolo Law for All, a legal advocacy organization.
According to the IRS, businesses do about 25% of the cheating. Cash-intensive businesses and service industry workers, from waiters to doctors are the worst offenders.
But don’t let this lead you to think that the IRS is asleep at the wheel when it comes to tax cheats. As part of a new auditing effort, the tax agency is promising to crack down on small business owners who bend or break the law.
The IRS has said it will take a closer look at small businesses that are using, among other strategies, abusive tax shelters. It also will look at high-income non-filers and high-income taxpayers engaged in partnerships and Chapter S Corporation trusts. In addition, a new program calls for the IRS to randomly select about 50,000 individual and corporate returns for review.
Really Late Returns: How Long Can You Go?
‘How long should you worry if you haven’t been filing tax returns? Chances are the federal or state governments are going to catch you pretty quickly.
But in legal terms, the federal government has six years from the date the non-filed return was due to criminally charge you with failing to file a tax return.
Keep in mind, however, that there is no time limit for auditing you or your business, assessing taxes and assessing civil penalties for not filing.
Accounting Software: Make It Easier on Yourself
For most operators, keeping the books in order is one of your least-favorite tasks, ranking right up there with hearing from an irate client.
According to an August 2002 poll by the Greenfield Online survey company, one-third of small business owners found accounting to be the most intimidating part of managing their business and more than half reported having no formal accounting training.
That’s where properly automating your accounting process can make a huge difference. Here are some major products:
* Intuit’s Quickbooks Pro, among many other features, allows business owners to restrict access to parts of the program using a password system and let’s you turn on an audit trail, which records changes to financial transactions.
Prices start at $300 for the basic software, or an online service starts at $19.95 a month. quickbooks.intuit.com
* Microsoft’s Small Business Manager, among many other features, includes a cash-flow calendar to help business owners see their expected cash inflow and outflow on a daily basis. You can set it up to tell you when customers are not paying on time and why your balances may have fallen below what you expected them to be.
Prices start at about $1,000. microsoft.com/businesssolutions
* Peachtree’s Complete Accounting software, among many other features, offers a Daily Register Report, which shows daily transaction summaries and lets you drill down to detailed reports. Peachtree also offers Crystal Reports, an add-on reporting tool. Prices start at about $300. www.peachtree.com
* Quicken Premier Home & Business, among other features, tracks multiple jobs and projects for each customer and allows you to manage your personal and business finances together or separately. Prices start at about $90. www.quicken.com
As with any business software, test it by running data and scenarios specific to your needs through it. Also test to see what happens when you post something wrong and determine how easy it is to make after-the-fact changes.
And lastly, obtain recommendations from operators who have similar business models, accounting needs and computer skills.
Internet Resources: Small Business Tax Issues
A very large, well-organized search engine and business directory designed to help business people find the companies, products and services, and information they need to make solid decisions. business.com
Electronic Federal Tax Payment System
The federal government’s tax filing and payment system, used by nearly four million businesses. eftps.gov
This magazine and its Web site continue to be valuable resources for small businesses. entrepreneur.com
Another magazine and Web site geared to serving the general management and operational needs of small businesses. Check out the online “tools” and “how-to” sections. inc.com
Internal Revenue Service
The IRS site for small businesses is a valuable, well-organized resource providing access to many forms, procedures, rules, e-mail updates, articles, online classrooms, a month-by-month calendar showing which forms are due when, and other resources. The IRS site also has links to agencies governing business taxes in each state. irs.gov/businesses/small
Nolo Law for All
This site presents a wealth of information on a variety of legal subjects in terms that can be understood by business people of all levels of experience. The site has a section on small businesses. nolo.com
A nonprofit association dedicated to providing entrepreneurs with free, confidential face-to-face and e-mail business counseling, including taxes. Business counseling and workshops are offered at chapter offices across the country. score.org
Small Business Administration
The U.S. Small Business Administration, established in 1953, provides financial, technical and management assistance to help entrepreneurs start, run, and grow their businesses. sba.gov
Tax & Accounting Sites
A good directory of Internet sites, including links to agencies governing business taxes in each state. taxsites.com
Taxpayer Advocate Service
The TAS is an independent office within the IRS that helps taxpayers in dealing with the IRS if a taxpayer is suffering or about to suffer a significant hardship. irs.gov/advocate/