At some point in time, a business owner has to decide whether to seek help in growing their business.  They are going to need employees or independent contractors or both for the business to grow. An employee is hired by a business to perform a specific task or tasks. So is a contractor. The difference depends on several factors, but the reason is specific.  

The Difference between an Employee and Independent Contractor

The Internal Revenue Service reminds small businesses of the importance of understanding and correctly applying the rules for classifying a worker as an employee or an independent contractor. For federal employment tax purposes, a business must examine the relationship between it and the worker. (Emphasis Added)

The sole reason this distinction is important is due to the requirement of employers to withhold, match and remit Social Security and Medicare taxes and to pay unemployment taxes to the IRS on the wages of an employee. There is no such requirement for amounts paid to an independent contractor.

Employees can be expensive and managing the payroll function can be confusing and time consuming. In addition to wages, the employer, as mentioned above, is also required to pay taxes on the wages paid. Not only is the employer being taxed, the IRS is effectively making them the tax collector. Many employers see treating workers as independent contractors as a simple and cost-effective solution to these issues. 

Independent contractors are responsible for paying their own income, Social Security and Medicare (but not, in most instances, unemployment) taxes so there is less expense and no need to withhold or pay taxes on the amounts paid by the employer.

Unfortunately, the IRS is aware of this. If there were no employees, it would be very difficult for them to collect the taxes needed to operate the government and fund the retirement programs. As a result, they have provided guidelines to employers to help them determine whether the worker is an employee or an independent contractor.

Employee vs. Contractor

The IRS identifies two broad concepts to help employers classify workers.

Control. Specifically, the IRS refers to “behavioral control” and “financial control”. Questions to be answered include:

• Who owns the tools, equipment or facilities used to complete the work?
• Who determines how the work will be completed? 
• Is any training required?
• Does the worker hold themselves out to the market in general or do they work exclusively for the employer? (i.e. are they in business for themselves?)
• Is payment made on a regular schedule and for a regular amount (i.e. a salary or wage) not specified in a written contract?
• Does the worker incur a financial risk?

Relationship. How the employer and the worker view their relationship.  

• Is there a written contact specifying the relationship and the work to be done?
• Are any benefits provided by the employer to the worker?
• Are the services provided a “key aspect” of the normal operation of the business?
• Is the worker reimbursed for their expenses?

IRS Rules on Employees and Independent Contractors

The general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work, not what will be done and how it will be done. Small businesses should consider all evidence of the degree of control and independence in the employer/worker relationship. Whether a worker is an independent contractor or employee depends on the facts in each situation.

It is normally the responsibility of the employer, then, to determine this relationship based on these factors. There is also a Form SS-8 “Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding” that an employer can submit to the IRS who will make the determination for them if they aren’t sure.

The employer should realize that normally the IRS isn’t going to know about the classification except in certain situations. If the employer is audited by the IRS for any reason, the relationship will be looked at.  Audits can be random or triggered by certain events. These include:

• The worker gets audited or doesn’t pay their taxes
• The worker decides to file for unemployment (a sure sign that they are probably an employee)

In this situation, the employer faces some potentially serious consequences.

Consequences of Misclassification

If the IRS determines that a worker or workers are misclassified, the employer who paid them will be required to pay the employer’s share of the Social Security and Medicare taxes and the Federal Unemployment taxes on the amounts paid plus penalties and interest. Depending on the time frame and the amounts paid to the worker, this can become significant. They will work out a payment plan if necessary but there are certain rules that apply. 

When this happens, it is best to consult a professional, such as a Certified Public Accountant or Enrolled Agent who can represent you in any discussions or negotiations with the IRS.

The misclassification can also lead to state tax liabilities.

Pros and Cons

As mentioned above, a primary concern for employers who choose, rightly or wrongly, to classify their workers as independent contractors is that the worker will decide to file an unemployment claim if their services are no longer required by the employer or others they may have worked for. 

Independent contractors are generally not entitled to unemployment benefits if they are self-employed as nothing has been paid in for them and they aren’t required to pay it for themselves except in certain circumstances (in which case they would almost certainly be classified as a contractor). 

However, the act of filing for the benefits, which is normally done with the state they live in, will certainly incur scrutiny by the unemployment office in that state and can, even though state auditors tend to deny it, lead to the IRS finding out. It would be almost impossible to classify a worker as an employee in a state and as an independent contractor for IRS purposes.

The state or states that the employer operates in can also be significant. California, despite what their website says, has virtually eliminated the independent contractor classification through legislation even though the worker might otherwise qualify as a contractor in another state or for IRS purposes.

Final Thoughts from a Professional

The classification of a worker as an employee or independent contractor is a business decision that can have both benefits and serious consequences. The best approach is to evaluate each situation individually given the criteria above and in consultation with legal and tax professionals to determine the best treatment. 

The prudent business owner will not make this decision solely to save money as it could become significantly more expensive if the classification turns out to be wrong in the eyes of the IRS or a state taxing agency.

Taking the home office deduction can be complex and vary between individual small businesses. For more information on whether you should take the home office deduction, please consult with your licensed CPA.

Many small businesses are based at home. There are numerous stories about large and successful businesses getting their start around the kitchen table or in a garage. The reason for this is primarily financial – the business owner doesn’t have to pay rent for often expensive office space, especially if much of the work can be done at home. Working from home is both popular and necessary these days and there can be some tax benefits available under the right circumstances.  

Ordinary and Necessary Business Expenses

Many small business owners ask where their fancy tax deductions are now that they are in business. They hear that many large businesses get lots of write-offs and pay little in taxes. The first thing any taxpayer should always do is not judge their tax situation on someone else’s tax situation. You have no idea what that other taxpayer is doing or how it might be relevant to your business. Small business deductions vary for every individual business. 

Deductions are amounts a taxpayer can deduct from gross income to determine taxable income. So, a deduction will reduce your taxes at a certain percentage (your marginal tax rate*) for each dollar spent.  For example, if your marginal tax rate is 12%, each dollar you spend on a business expense will reduce your taxes by 12 cents. 

It is always important to evaluate every transaction you enter into to make sure that it makes good business sense. Otherwise, you are simply spending (in the example above) a dollar to save 12 cents.

All businesses are entitled to deduct all ordinary and necessary expenses of operating a trade or business. This often allows them to deduct expenses that an ordinary taxpayer that doesn’t own a business can’t. There are several examples, but the focus here will be on the home office deduction.

What Are the Rules for a Home Office Deduction?

The Internal Revenue Service (IRS) is clear on this. On their website (irs.gov) they specify who can take the deduction, the qualifications for taking the deduction, and the methods for taking the deduction.

Who Qualifies?

The IRS says:

If you use part of your home for business, you may be able to deduct expenses for the business use of your home. The home office deduction is available for homeowners and renters and applies to all types of homes.

So, if you live in a mobile home, for example, and you run your business from there, you are entitled to deduct certain expenses of owning that mobile home. The deduction does not apply if you work at home as part of your job, although your employer may reimburse you for the cost of working at home.

There are very specific requirements for taking this deduction, however.  Again, from the IRS website:

There are two basic requirements for your home to qualify as a deduction:

1. Regular and exclusive use.
2. Principal place of your business.

Both requirements must be met to take the deduction.

Exclusive Use

Regular and exclusive use means just what it says. The space used must be used only for business. For example, a plumbing or air conditioning business that uses a room or part of a garage to store parts for use in the business would get a deduction for that part of the home used for that purpose. Likewise, a room used in a home specifically for administrative or other business purposes such as meeting clients would also qualify.  

But what about a kitchen table used to run a business. This is difficult because the table may also be used to eat meals, which clearly do not have a business purpose. Or a room where some business is conducted but is also used for rest and relaxation, such as watching TV. Business is not the only use. The IRS clearly states that this would not qualify for the deduction.

Principal Place of Business

If the space meets the exclusive use requirement, then it must also be used as the principal place of business to qualify for the deduction. If the business rents office space the home office deduction will most likely not be allowed. 

The rule is dependent upon where the majority of business activities take place. For example, if a business uses the home for all administrative and operational functions but also rents space in an executive suite at another location to just meet clients or collect mail, the home office deduction would probably be allowed, assuming all other conditions regarding use described above are met.

How is the Deduction Taken?

The home office deduction is generally only deductible by sole proprietors or single-member LLC’s taxed as a sole proprietor on their Form 1040 Schedule C. There is a separate form (Form 8829) that has to be filled out that records the allowed expenses and calculates the deduction. There are provisions for partners or employees of S-Corporations to take the deduction but there are special rules that apply to each which are beyond the scope of this discussion. Please consult a tax or small business professional such as a Certified Public Accountant (CPA) or Enrolled Agent (EA) if you are involved with those types of entities for more information.

The IRS allows two methods for determining the deduction.

Actual Expenses. There are three types of expenses related to your home, some of which are fully deductible, some partially and some not at all.

• Fully deductible expenses are limited to those items that directly affect the space itself, such as repairs and maintenance to the office.
• Partially deductible expenses include items that benefit the entire home such as insurance, utilities, mortgage interest and property taxes. The deduction is based on the percentage of the home used for business purposes and the percentage is determined by square footage of the space in relation to the total square footage of the home. For example, if the office space is 100 square feet and the house is 1000 square feet, the deduction would be 10 percent of these expenses. Keep in mind that expenses like mortgage interest and real estate taxes are also allowed as itemized deductions so an allocation between business and personal deductions must be made based on the percentage.
• Nondeductible expenses included items that have no relation to the space. An example would be landscaping.

Actual expenses also make provision for depreciation of the home itself, again subject to the percentage used for business purposes. Depreciation is a topic by itself and beyond the scope of this discussion, but be aware that, while this can be a relatively significant deduction, if you take it as part of actual expenses and you sell the home in the future, you will have to recapture the depreciation deducted in past years as income. Tax planning with a professional is crucial in this situation.

Actual expenses are also limited in their deductibility based on the gross income of the business and involve a less than simple calculation. If the deduction is limited, it can be carried forward to the following year.

Taking actual expenses involves a large amount of record keeping or bookkeeping, including gathering receipts to support the deduction. If the IRS audits your tax return, there must be detailed support for the deduction, or it will be disallowed.

Home Office Deductions Simplified

To avoid all the recordkeeping involved with actual expenses, the IRS allows a taxpayer to deduct an amount based on a simple calculation. The rules for qualifying for the deduction mentioned above still apply, but the amount is determined by multiplying the square footage of the space by $5 and is limited to 300 square feet or $1,500. No depreciation is allowed under this method and there is no carryforward of unused amount, but it is definitely easy to use, again, if the space qualifies.

A taxpayer is allowed to choose which method, actual or simplified, will provide the best deduction each year but it cannot be changed within that year, for instance, if a return was subsequently amended.

Practical Considerations

No one really knows, with the exception of the IRS, how a tax return is selected to be audited. It could be random, and it could be due to a red flag on a tax return. Many tax professionals would agree that the home office deduction has a better than average potential for abuse, knowingly or innocently, and is probably a red flag. 

Certainly, if a return is audited and the home office deduction has been taken, the records need to be complete and in order and it must be clear that space meets the two requirements for use and place of business or the deduction will be disallowed. 

Taxpayers should look at the potential tax savings of this deduction in relation to the time and effort required to make sure space qualifies, the recordkeeping is in order, and the potential costs of selling a home that takes this deduction in the future. It is often not cost beneficial. The simplified method probably is, but the use requirements still have to be met and that is the real determination whether this deduction makes sense.

Final Words on Home Office Deductions

IRS Publication 587 Business Use of Your Home details the complete rules for taking this deduction. It is 35 pages long and has detailed instructions and worksheets on how to take the deduction. This discussion has merely scratched the surface. It is a complicated topic that is best discussed with a tax or business professional such as a CPA or EA.

*The marginal tax rate is not the rate of tax you pay, it is the amount of tax you pay on the next dollar you earn because there are several tax brackets based on income.

Schedule a free consultation with a professional CPA to discuss your small business deductions.

On March 25, 2020, the Coronavirus Aid, Relief, and Economic Security (CARES) Act was signed into law. A summary of the provisions of the law can be found here.

Updates to the CARES Act in Summer 2020

On June 5, 2020, the Paycheck Protection Program Flexibility Act of 2020 {Flexibility Act) was signed into law. This resulted in several changes to the PPP program. Other provisions of the CARES Act, such as the Economic Injury Disaster Loan (EIDL) and Small Business Administration (SBA) forgiveness on pre-CARES Act loans, appear to be unchanged.

Changes to the Payroll Protection Program (PPP) Under the Flexibility Act:

• The original law allowed loan forgiveness for amounts used by employers to provide cash flow and to retain and/or restore employee wages and levels to pre-pandemic amounts based on 8 weeks of payroll. The new law provides businesses that have already received a PPP loan the option to extend this period to 24 weeks, but to no later than December 31, 2020 (previously June 30, 2020). New loans will have 24 weeks but no later than December 31, 2020.

• The amount spent on payroll in the old law had to be 75% to ensure full forgiveness with partial forgiveness available if the 75% amount was not met. The new bill reduces this to 60% for full forgiveness. Partial forgiveness will still be available if the 60% threshold is not met according to SBA and Treasury Department interpretations of the law.

• Provision is made for adjustments to employee levels if qualified employees cannot be found.

• The term was 2 years for loans made under the old law and before June 5, 2020. These loans can be extended to a term of 5 years if the borrower and the lender agree to do so. Loans made after June 5, 2020 will have a 5-year term.

• The deferral period for borrower payments was 6 months under the old law. The new law extends the deferral to the date the SBA pays the lender for the loan forgiveness or 10 months if the borrower does not qualify for forgiveness or chooses not to take advantage of it.

• Businesses with PPP loans can delay paying payroll taxes. You should consult your payroll professional for guidance on how this may affect your business.

• The interest rate of 1% on these loans remains unchanged.

Other PPP Items

The SBA is currently accepting PPP loan applications until August 8, 2020. A business seeking a PPP loan must still apply through a financial institution that is authorized to make these loans. The application is not made directly through the SBA.

The PPP portion of the CARES Act is relatively easy to apply for, but the provisions and rules are quite complex.  Please consult you lending institution and/or financial advisor for further details

Economic Injury Disaster Loan (EIDL)

The Flexibility Act did not affect the EIDL. However, the SBA has indicated that, while it is still taking applications for this program, the provision for making advances upon application for the loan will no longer be made.

Consult with CPA 

For small businesses finance management, consult with a CPA and tax professional for your day-to-day finances. Contact John Reddall CPA for more information.

In the business world, several terms relate to the financial affairs and functions of a company. The most common are Certified Public Accountant, Chief Financial Officer and Controller. Depending on the entity, this could be one person or three different individuals. The essential difference between these three individuals, however, is CPA is professional designation and the CFO and Controller are job titles.

Some or all may be employees of a company or they may be independent contractors. Learn the difference between these three types of financial roles in a company.

Certified Public Accountant (CPA)

Certified Public Accountant is a professional designation, not a job title.

In the truest sense, the function of a CPA is making sure that financial accounting is in accordance with Generally Accepted Accounting Principles (GAAP) – an external function.

A CPA is an individual who is licensed by a state regulatory agency (typically a state board of accountancy) to practice public accounting. The licensing requirements generally include:

1. A four-year college degree with a specified number of accounting credits.
2. Passing a rigorous examination on accounting, taxation, business law and financial auditing.
3. Gaining public accounting experience for several years.

Once licensed, the CPA must maintain the license by completing a certain number of hours of continuing education each year and otherwise remain in good standing with the state regulatory agency. If the CPA is licensed, they may hold themselves out as practicing public accounting. This really means two things – performing financial audits or providing the public with some reasonable level of assurance that they are competent in providing accounting, tax, and consultation services.

For example, the primary function, for which a CPA license is absolutely required, is to perform an attest function for, but not limited to, publicly traded companies regulated by the Securities and Exchange Commission. Sometimes a state government agency, bank or investors may also require these services. 

The attest function simply means that the CPA has performed independent tests and procedures on the books of a company with the purpose of providing some level of assurance that its financial statements are prepared in accordance with Generally Accepted Accounting Principles (GAAP). The attest function leads to the CPA issuing a letter to the management of the company stating the findings of their work.

In reality, the vast majority of businesses will never need to have a CPA provide these services.

So, why else would CPA’s exist? The most valuable reason a small business or the general public would want to seek out a CPA is to be assured that their financial matters, primarily accounting and taxes, are being handled by a professional who is trained (and current) in those matters and who is subject to a strict level of ethical behavior. 

Many people and that provide some level of bookkeeping, accounting and tax services who are not licensed CPAs. Most of them do excellent work and are reputable, and many may be former CPA’s who simply don’t keep their license active because they don’t perform the attest function mentioned above and, therefore, are not required to. However, they cannot hold themselves out as CPA’s.

The licensed CPA can hold themselves out to the public as a CPA, whether they perform the attest function, and are simply held to a higher standard.

Chief Financial Officer (CFO)

Chief Financial Officer is a job title within a company, not a professional designation (although the position requires a high degree of education, skill and experience which are certainly professional attributes). The CFO is most likely an employee of the company although the duties can be contracted out.

The CFO is primarily concerned with the overall financial management of the company – an internal function.

A CFO is a member of the top-level management of an organization. While duties vary widely depending on the size and needs of the company, in general the CFO is responsible for:

1. Monitoring the financial strength of the company.
2. Company wide financial planning, including coordinating the budget process between multiple locations, departments or products and services.
3. Directing and approving asset and debt decisions (capital budgeting).
4. Identifying the need for and coordinating with outside funding sources such as banks or investors.
5. Coordinating with outside accountants performing attest functions for the company (i.e. CPA’s)

The CFO may or not be a licensed CPA or a former CPA who hasn’t kept their license current. They may hold a different professional designation such as Certified Management Accountant (CMA). Or they may have just worked their way up through the ranks after usually earning an undergraduate or graduate degree. It all depends on the organization.

Controller

Controller is a job title within a company, not a professional designation.  Again, the position requires a high degree of education, skill, and experience. The duties may also be contracted out if necessary

A controller is responsible for the direction and control of the accounting function within a company.  They will typically report to the CFO or, in the absence of that position, perform some or all of those duties. As with a CFO, duties will vary but may include:

1. Designing or improving the accounting system of the company.
2. Managing the accounting department and staff.
3. Selecting, implementing, and managing the accounting software.
4. Managing the accounting cycle (identifying, recording, journalizing financial transactions).
5. Closing the books.
6. Preparing financial reports for management and outside users.
7. Designing and implementing a system of internal financial controls.
8. Coordinating the budget process in accordance with CFO directives.
9. Managing payroll.
10. Human resources in the absence of a department dedicated to that function.

The Controller and the CFO may be the same person depending on the size of the company.  They may also be a CPA or former CPA or hold other professional designations.

The Difference between a CPA, CFO, and Controller

The main difference between a CPA and a CFO or Controller is that the CPA is a professional designation and the CFO and Controller are job titles.

The CPA is licensed to hold themselves out to practice public accounting and the license is only required to perform the attest function, as mentioned above. As such, a CPA may work for a large accounting firm that performs financial audits for publicly traded companies or the tax returns of sophisticated taxpayers. Or, they may have their own firm that does not require the CPA designation but in which they wish to project the higher standards to their clients that the designation confers.

CFO’s and Controllers are employees of companies that manage and perform the financial duties of the firm. There may be other duties in a company that employ but do not require a CPA such as Assistant Controller, Accounting Manager or Tax Manager. A licensed CPA is not required for these positions, but many companies will look for licensed or former CPA’s to fill them.

The roles of CPA and CFO/Controller can overlap if a CPA firm provides contract services to companies that have need for those positions but can’t afford to pay a full-time employee. Growing companies may often do this and realize attractive cost savings while ensuring that essential financial tasks are being performed. 

The only caution is for the company and the CPA providing the contract services to make sure that the CPA is providing those services without participating in management decisions, which should always be the responsibility of company ownership and management.
Looking to learn more. Call us for a free consultation!

Managing cash flow in a small business is crucial to its success. Cash flow management includes techniques for collecting cash, budgeting to plan for cash needs, utilizing outside sources such as banks or investors to supplement cash needs, and even legally minimizing business tax liabilities. Techniques for dealing with these functions can range from the simple to the complex, depending on the nature of the business. 

However, one of the most basic ideas is to understand the difference between profit and cash flow.

Cash-based Business

A business that sells its goods or services for cash will not have to deal with this issue. Profits are generated when a sale is made and, therefore, are the same as the cash coming in. Examples might be a retail store, restaurant, or service business such as a plumber or accountant. This is known as the cash basis of accounting. 

Most small businesses operate this way and the accounting process and management of cash flow is fairly straightforward. The business owner simply needs to make sure that sales are enough to cover the expenses of running the business and the personal cash needs of the owner(s).

Businesses That Give Their Customers Time to Pay

Some businesses will sell their goods and services but allow their customers to pay them later. In this situation, the customer is given a bill, invoice or statement that will specify how long they have to pay. Repayment terms vary considerably but, in general, thirty days is normal. 

Examples might be an auto parts store that sets up an account for an auto repair shop that makes many purchases over a period of time, or a manufacturer who buys parts or materials from a supplier. This is known as the accrual basis of accounting.  Many larger companies operate this way, although size is not always the determining factor. This involves more complex accounting methods because now, according to accounting and tax rules, there is a difference between profit and cash flow. Just looking at the bank balance is not enough.

Keep in mind that some businesses will combine both types of methods which can add to the complexity.

Cash Basis Versus Accrual Basis

Generally Accepted Accounting Principles (GAAP) and the Internal Revenue Code (IRC) allow for both types of accounting methods. GAAP is concerned with accounting that provides users of a company’s financial information such as investors and banks (external users) and company management (internal users) with a level of standardization in using the information. 

The IRC is concerned solely with raising tax revenue but allows for methods that allow all taxpayers to legally minimize their taxes. GAAP is fairly rigid but, surprisingly, the IRC allows for some interpretation.

Accrual basis accounting is the norm from a GAAP standpoint unless your business is truly a cash-based business. However, the IRC allows both methods and the business taxpayer can pick the treatment that legally minimizes their tax liability. As a result, one may find many businesses that use accrual accounting for their financial affairs but convert the books to cash accounting for tax purposes.

Profit Versus Cash

Under the accrual basis of accounting, there is a difference between profit and cash. This is not the case in the cash basis of accounting. We will focus on the accrual basis.

Under the accrual method, income is recognized when it is earned (not received) and expense is recognized when incurred (not paid). This leads to the concept of receivables and payables.  

In the cash basis of accounting income is recognized when received and expenses are recognized when paid. There are no receivable and payables, just an increase or decrease in the bank account. Profit and cash flow are the same.

When receivables and payables are involved, cash flow issues can become acute if not managed timely and properly. If a business allows customers to take longer to pay than the invoice states, the gap between profit and cash flow widens. If allowed to go too far, the business may not have enough cash to meet its requirements even though it looks profitable. 

On the other hand, if a business pays its bills quicker than their suppliers allow them, they are letting cash go out of the business when it might be used for other needs. Again, the gap between profit and cash flow widens.

Using Aging Reports to Help Manage Cash Flow

As mentioned before, there are several ways to manage cash flow. Focusing on receivables and payables, the use of aging reports can be very helpful.

An accounts receivable aging report is simply a list of customers who owe your business money, how much they owe and how long they have waited to pay. The more time a customer is given to pay from the time an invoice was issued reduces cash flow to the business. Keeping in mind that several invoices issued over different time frames to the same customer may be outstanding, it becomes important to follow up with them if they start to get too far behind.

There are many collection techniques that can be used to do this, but the point is to know how much they owe you and how far you have let them go in comparison to the terms you have extended to them. The longer they are given to pay may also ultimately result in a bad debt, which can be written off, but which also adversely affects cash flow.

An accounts payable aging report is a list of vendors to whom you owe money and how much time they are allowing for payment. The goal here is the opposite of that with receivables. The longer the time period, the better the cash flow. 

However, waiting too long to pay may result in collection efforts against your business and the withdrawal of credit from suppliers who provide crucial goods or services.

Discounts

When receivables and payables are involved, the concept of discounts received and taken can also affect cash flow. Simply put a discount is offered to promote early payment. This affects the cash flow of both the vendor and the customer. The vendor will offer a discount, such as a 1% discount on the total invoice if the customer will pay within a certain time frame (i.e. 10 days instead of the full payment terms). This will speed up cash flow and decrease the gap between it and profit. 

A customer, likewise, can reduce the amount of cash flowing out of the business by promptly taking all discounts offered by their vendors. Knowing the relationship between profit and cash flow can help business owners determine the benefit of taking or offering these discounts.

Cash Flow Management Conclusion

Cash flow management in a business is crucial and involves numerous techniques. Understanding the relationship between profit and cash flow, particularly in a business that uses the accrual basis of accounting, is one of the more straightforward methods of managing this process.

Many larger companies may employ a Controller and/or a Credit Manager to handle these matters. However, many firms cannot afford to hire a full-time employee for those duties. A small business financial advisor, such as a Certified Public Accountant (CPA), can help those business owners ensure that this information is being recorded, put into an appropriate report format and how that information can be used to manage cash flow issues. 
Get a free consultation with our CPA firm.

If you own a small business or are thinking about starting one, the question of business planning usually comes up. Yet, most small businesses rarely have a written business plan in place at any time during their existence. So do you need a business plan?

There are several reasons for not starting one:

• Business plans are intimidating.  There are a too many books on the subject, most with long, detailed processes on how to do it, and, if followed, most result in a plan that is a book in itself.
• The owner of the business doesn’t have the time to do it because they are too busy running their business.
• Hiring a professional to do it is costly, especially since its really supposed to be the owner’s plan, not the professional’s.
• If completed, the plan sits on the shelf and is never referred to again so why go through the effort to begin with.
• Why write it down? – I know what I want to accomplish.

What Is the Purpose of a Business Plan?

Despite the factors why a business owner doesn’t have a written business plan, there are primarily two reasons to do so.

Someone outside the business wants to see it. This is probably the most common (and least useful) reason why a business plan is developed and usually the reason all those books on the subject exist. If the business owner (or a prospective one) is looking to raise capital from a bank or investors, they are going to want to see a plan before they start spending their money. At a minimum, they are looking for assurance that the owners and management have thought the business through, and it has a reasonable chance of success that will provide an adequate rate of return for the lender or investor.

Typically, this type of business plan will cover things like:

• The qualifications and experience of the owners and management (also known as an Executive Summary)
• The mission, vision, and values of the business
• Short and long-term goals
• Strengths and weaknesses of the owner and management
• The legal and tax structure (Sole Proprietor, Partnership, Corporation, LLC)
• A description of the business proposition and products and/or services to be offered
• An analysis of the industry, competition, and the business environment in general
• A customer profile
• A detailed marketing plan including the results of any market research
• Financial projections for several years
• Plans for growing the business
• An exit strategy

This is the type of business plan that quickly becomes a book. The larger the company or its aspirations, the more likely this will be the business plan written. 

The business plan is used internally to plan, direct, and control the business. This is probably the least common (and most useful) reason why a business plan is developed. It could include many or all of the items listed above, but the real purpose is for the business owner or manager to think critically about the business and its operation and develop projections and standards that can be compared to actual results on a periodic basis. Addressing the items above can be useful, in fact necessary, in doing this but there doesn’t need to be a formal presentation of them. A list of assumptions, maybe a page or two, based on the goals of the owner should be sufficient.

If variances from the projections and standards occur, the action is taken quickly to determine why they occurred and what actions need to be taken to follow through on positive results and correct negative ones. 

The core of this type of business plan is a BUDGET.

A Simple Business Planning Strategy

Business planning doesn’t need to take on a life of its own. The following should be a simple but effective approach to the planning process.

• Decide what type of business you want to have or to become. Most businesses can be broken down into the owner (1) creating a job for themselves or, (2) building a business that becomes separate from them and which can operate without them and be turned over or sold to someone else in the future. Either one is fine, and one can evolve into the other (usually from (1) to (2)) but figure this out and start your list of assumptions with it.
• Write a brief description (a paragraph or two) describing the mission, the business proposition, and the goals and keep it handy so that you can refer to it from time to time.
• Create a BUDGET for at least two years on a month to month basis and annually for at least another 3 years (5 years in total). The budget process will force you to address some or all of the items listed above as part of a detailed business plan, but as you do, try to break them down into essential items that can be included on your list of assumptions. For example: 
  • What are you going to sell, when are you going to sell it, how much and at what price?  
  • What expenses do you anticipate and when will they occur?
  • How much do you need to take out of the business?
  • How much will you need to cover all of that (also known as capitalization)?
  • What are the projected taxes?
• Make sure you have a proper set of books so that you can track your income and expense and be able to compare it to your budget.
• Identify any variances and take corrective action if necessary.

To repeat, this type of business planning is used to Plan, Direct and Control your business. It can be written on a page or two, plus some spreadsheets for the BUDGET and will be easy to refer to and updated on a periodic basis.

Small Business Planning: A Summary

Business planning for the day-to-day or month-to-month running of a business is essential and often overlooked or ignored. It doesn’t have to be a complicated process, but it can provide many benefits and help the business owner operate the business efficiently and profitably. Ideally, the planning process should be done by the owner or management and not by someone hired from outside the business.

However, a professional, such as a Certified Public Accountant (CPA) who specializes in small businesses can provide assistance in the planning process by analyzing the current finances of the business, asking the owner meaningful questions, assisting in the formatting of the BUDGET and making sure that a proper set of books are in place and up to date so that results can be compared to the budget and corrective action can be taken by the owner or management.  

Large companies have an employee called a Controller that handles much of the financial part of the planning process. Small businesses typically can’t afford that. But a CPA can provide valuable assistance in this area to the business at a reasonable and affordable price.

Congress recently passed the Coronavirus Aid, Relief, and Economic Security (CARES) Act. There are provisions in this 335-page bill that affect just about all Americans, both individuals, and businesses. There has been much information and speculation as to what is in the bill and this article will attempt to shed some light on the more important items that affect small businesses. 

The CARES Act is an example of the difference between a new law and what really happens.

At some point in their existence, a small business may face the decision about whether to hire a Controller. The timing of this will vary widely among businesses depending on their size, projected future growth, current staffing, and organization of the firm’s accounting function. It will also depend on what the business owner or management expects a Controller to do and what they can afford to pay for that position.

Small business owners often wonder what they can deduct in their business. There is a perception that because you own a business, there are all sorts of tax write-offs (loopholes) that can be taken advantage of.  

This is true, to an extent. The tax laws do favor businesses in what they can write off compared to individual taxpayers. What is important to remember, though, is that these write-offs can be subject to the size and scope of the business in question. 

A taxpayer can receive a notice from any taxing agency they are subject to. This could be a state agency for income, sales or payroll (including unemployment) matters or, of course, the Internal Revenue Service (IRS) for federal income or payroll tax matters.