Starting your business is an exciting prospect; getting your books and
records in order is also just as important. Proper records allow you
to retrieve transaction information for yourself, and get credit for
all your deductions at tax time!
This article was written by Kris Sookma in collaboration with Terry
Ray.
There comes a time when you wonder if your keeping good
enough records, thinking there's a better way. Starting your business
on the right foot with the proper books can save hours of stress and
tons of money. Proper records will allow you to retrieve transaction
information for yourself, and get credit for all your deductions at
tax time. Consider the information here, gather your questions and concerns,
and talk to an accounting professional. Ask yourself the questions in
each section to help you determine the best structure for your business.
And if your business has changed, it may be time to change the structure.
Change itself is the only constant in the business world.
Proprietorships
Do you operate your business out of your home AND under your own name?
Are your profits expected to be low, or do you expect to operate at
a loss at first?
For a service business (no sales tax collected), if
you're just using your own name to run your business and operate out
of a home office, there's no need to file for a business license until
you have over $28,000 in revenue. If you collect sales tax, you must
get a license and file reports no matter what your revenue level. In
any case, once you do have a trade name, or open an outside office,
you will want to register with your State Department of Revenue (Master
Business License). This gives you a UBI (Universal Businesses Identification)
number.
The advantage of the proprietorship format is that (1)
it is cheap and easy to start, and (2) your losses are reported on your
personal tax return, showing up as a deduction against other income.
The disadvantages to the proprietorship format are (1) you have full
responsibility for any liabilities against the company, (2) profits
roll right on to your personal tax return, and (3) you are required
to make quarterly estimated tax payments for your income tax (at your
personal tax rate) as well as your self-employment tax (at 15.3%) on
your net profits. In summary, though it's not a legal requirement to
maintain books for a sole proprietorship, it is a necessity if you have
Inventory or Employees, and a good idea if you wish to grow your business.
An accounting system can help you track expense details by job or category,
tell you how much money is in the bank, give you taxable income information
before taxes are due, and show you where you are making or losing money.
Partnerships
Is there more than one business owner? Are you prepared to be at risk
for taxes as well as potential legal liabilities, according to your
ownership share?
If you have more than one owner, starting a partnership
can be good option. It is critical, however, to establish Ownership
%, how decisions will be made, profits (and losses) shared, and disputes
resolved. Other important details in a written Partnership Agreement
are (1) how future prospective partners will be admitted into the partnership,
(2) how partners can be bought out and (3) what steps will be taken
when dissolving the partnership. The need for a documented partnership
agreement is most obvious in down times, as issues that can be ignored
during good times add stress. Partnership profits and losses are reported
on the partners' individual tax returns, according to % of ownership.
Self Employment Tax (at 15.3%) is also due on profits.
Corporations
Do you engage in an activity/business that may put your personal assets
at risk? Do you want your company to provide benefits, as well as income?
Are your revenues going to justify the higher administration and professional
service costs?
A corporation provides a "Corporate Veil"
that limits liabilities and collections of those, to the corporation,
thereby protecting the officers/shareholders. There is similar restriction
on lawsuits and liens. If you elect for incorporation you must file
with the Secretary of State as well as the Department of Revenue. Some
businesses require special Licensing (Department of Licensing) as well.
The forms required disclose the number of officers in your corporation,
information about them, and other information. In Washington State,
information on spouses is also required. An annual filing fee is assessed
with the initial annual report and each year thereafter.
If you elect to become a corporation, income tax is
due at the corporation's level for your net profits. It is critical
to obtain competent accounting help to manage the elements of Wages,
Benefits, and Expenses against earnings to minimize corporate profit.
Tax payments are due quarterly for the corporation's estimated amounts
due. Note that Dividends are taxed at both the corporate level and personal
tax returns, causing the ever-dreaded double tax. Active owners are
generally better off taking out salaries and keeping dividends down.
An S Corporation allows you the limited liability of
a C Corp with the advantage (or disadvantage) of flowing all of the
profits through to your personal tax return. An added bonus over a partnership
or proprietorship: S-Corp income is exempt from self-employment tax.
Limited Liability Company (LLC)
Is your business a one-time project, and do you need to protect your
personal assets from potential risks in the activity? Do you need personal
asset protection AND would benefit from a potential ongoing business
'loss' because of the nature of the business? (i.e. commercial real
estate usually produces a loss until the sale of the real estate)
A Limited liability company is a fairly new form of
business. An LLC provides you with the limited liability of a corporation
but allows you to be taxed as a proprietorship, partnership, or corporation
(C or S). Your circumstances need to be compared to the prior format,
discussions to determine which choice you would make for your LLC. An
LLC is most often taxed as a partnership with partners being known as
"members".
Taxes and Licenses
Start your business on the right foot, choose the right business structure
and register with all appropriate tax agencies. The State of Washington
business licensing website (or any other state licensing info website)
has all the data, if you are inclined to do your own research and form-filling-out;
and any good accountant will be happy to help you.
Business Taxes include City, County, State, and Federal.
Licensing can be City, County, State, and Federal
Employer Taxes include State and Federal.
Acquire an Accountant for startup help and ongoing check-ins,
even if you wish to do your own bookkeeping. A little instruction from
a knowledgeable 'bean counter' will save you headaches, stress, and
penalties!!!
Using accounting systems to record transactions
Let us now touch briefly on the systems you need in place to track your
daily transactions. Many people delay this until they need tax information
or the banker wants to know "X". This can be distracting for
most people, taking valuable time and energy away from the business
to create necessary/critical documentation. It is just more efficient
and effective to start on the right foot by using an accounting system.
And this also removes the 'audit' worry that most business owners dread.
Using an accounting system like QuickBooks or MYOB provides
an excellent tracking tool for your business and helps in compiling
information needed to pay your taxes. You do not want to loose any potential
write-offs simply because they were not documented. Accounting systems
come in many flavors offering many different options depending on your
needs. Smaller accounting software exists for small business owners
such as MYOB Basics (called FirstEdge for Mac or Business Essentials
for Windows) or Quicken. More complex accounting software such as the
User Friendly MYOB or the well-known QuickBooks handles Receivables,
Payables, and Payroll. MYOB handles inventory and job costing as well
without costly added modules. Peachtree, Acc Pac Plus, and Great Plains
have also been used successfully for medium sized businesses. Whichever
accounting software you do decide to go with, be sure it will fit your
needs. It's also a good idea to take some bookkeeping courses and acquire
training and local support for the accounting software you purchase.
