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End of the Year Tax Reminders for Business Owners

Performing these tasks at year-end will help your tax professional prepare your return accurately, plus it will make your tax professional very happy when you have these answers at the ready!

  • Write down the odometer reading on the vehicles you use for business. It is important to know what percent you are using the vehicle for business and what percent you are using for personal. You should have a mileage log, but even if you just write down your odometer once a year, you’ll know how many total miles you drove for the year. 
  • If you carry inventory, you are required to do a count once a year showing the value. 
  • If you have payroll, verify if your EDD employment rate has changed for the upcoming year. You should have received a letter with the percentage in early December. 
  • Back up data from the computer. Double check the backups are copying correctly.
  • Update service account passwords and who has access to them. For security reasons, it is important to periodically update passwords and review/reassess which individuals have access to them. 
  • Copy thermal receipts. Many receipts that you get from office supply stores, gas, etc., are on thermal paper. The image will fade over time. Make a copy of the receipt because if you are audited, the IRS will want to see the details, not the credit card statement. Better yet, scan all of your receipts into a document management system and toss the paper.
  • Verify when corporate minutes will be due for the coming year and mark the calendar.
  • Review your business plan and make any necessary changes. What do you project your gross revenue to be for the upcoming year? How will that compare with the current year? What will you do to increase your profits? 
  • If you use QuickBooks, set the closing date and password on QuickBooks file.

Getting these necessary clerical tasks out of the way will make it easier for everyone.

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What Is an Audit?

The word “audit” can be thrown around a lot in casual conversation. When an accounting professional uses it, it means something very specific. We’ll discuss this and other uses of the term “audit” in this article.

Financial Audit

A financial audit is an official service designed to inspect the accounting records, technology, and processes of an organization. An audit can only be conducted by a licensed CPA that is independent of the organization.

Independence is a special term as well, meaning the CPA who audits the organization must have no relationship with the organization or its owners and employees. For example, if the organization’s owner is the sister of the auditor, that won’t work!

To conduct an audit, the CPA performs an audit program, which is a set of tasks that review the company transactions, balances, and accounting processes. The audit program is custom-designed to the company based on the risks perceived by the audit team, the type of organization being audited and other factors. Once the audit has been completed, the auditor will issue a formal report stating the findings of the audit. The report typically includes a letter, financial statements, and footnotes.

The auditor’s report can be utilized by the company’s management as well as third parties, such as lenders and stockholders.

While there are mandatory audit requirements for large public companies, government institutions, schools, and some larger nonprofit organizations, small businesses are not typically audited because of the expense. That’s when additional assurance services come in handy.

Other Assurance Services

An audit falls under assurance services in accounting, and it’s the most stringent of all. Other types of assurance services include:

Compilations. In this engagement, the CPA performs basic checks on your financial statements and puts them together with a cover letter. It basically tells a third party that you have a CPA, but it provides the least amount of assurance service.

Reviews. In a review, there are a few more checks and tests that a CPA will perform before issuing financial statements. This service provides more assurance than a compilation, but less than an audit.

Agreed-upon procedures. An engagement with agreed-upon procedures is a very specific engagement where one aspect of the business is reviewed in accordance with a specific goal.

For small businesses who are asked for documents from your accountant by a bank or lender, you can often provide one of these lower-level assurance reports and it will not only suffice, but save your money.

Auditing a Class

Auditing a class has nothing to do with accounting! It simply means you’re sitting in on a college course, but not getting any kind of credit or grade.

The Dreaded IRS Audit

The term audit can also be used informally to define an inspection that is narrower in scope, such as an IRS audit or a state agency audit. There is no assurance provided in this type of audit. The purpose of this audit is to produce whatever records you are asked for in order to verify the numbers you sent to the agency.

An audit may be somewhat of a stressful and unpleasant, but necessary, experience. Having your accountant support you along the way can be reassuring (pun intended).

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SECURE Act and Required Minimum Distributions Proposed IRS Regulations

When the SECURE Act went into effect on January 1, 2020, there were many open questions from tax professionals and taxpayers about Required Minimum Distributions (RMDs) and how certain provisions of the new legislation should be treated. Some of the language in a number of the provisions was not defined well or was left open to substantial interpretation. However, earlier this year, the U.S. Department of Treasury released proposed regulations under the SECURE Act, which help to provide a window into the IRS interpretation of this law.

The proposed regulations provided much-needed clarification on a number of SECURE Act provisions. Some of the most notable items include:

  1. “Eligible Designated Beneficiary” (EDB) Clarifications. One of the most significant changes made by the SECURE Act was the implementation of the 10-Year Rule, which requires most non-spouse beneficiaries to distribute the entirety of their inherited retirement accounts by the end of the tenth year after the decedent’s death. However, some individuals who are EDBs are allowed to “stretch out” post-death RMDs and not conform to the new 10-year payment rules. The regulations further clarify elements of the EDB qualifications, including:

 

  • At what point does a minor child of the IRA owner/retirement plan account holder reach the age of majority? Under previous guidance it was thought that a minor child would reach age of majority based on state law, which could be as late as 26 if the child is still in school. However, these regulations clarify that such minors reach the age of majority on their 21st birthday, so the 10-Year-Rule kicks in at that time.
  • What constitutes a disabled beneficiary under the EDB rules? The regulations confirm that the definition of “disability” under IRC Section 72(m)(7) should be used to determine if a beneficiary is an EDB. The individual must be unable to perform any job because of a physical or mental impairment that can be expected to result in death or last indefinitely (or, in the case of a disabled child, the regulations clarify that the beneficiary must have a physical or mental impairment that results in marked or severe functional limitations that are expected to result in death or last indefinitely). Furthermore, the regulations add a “safe harbor” that a beneficiary is considered disabled if they’ve been deemed so by the Social Security Administration.

 

  1. Timing of 10-Year-Rule Deadline. For designated non-EDBs, the entire inherited retirement account must be withdrawn in its entirety within 10 years after the death of the IRA owner/retirement plan participant’s death. The regulations make it clear that the deadline is December 31st of the 10th year, not the 10-year anniversary of the date of death.

 

  1. Certain Non-EDBs are Subject to Both the 10-Year-Rule and Annual RMDs in Years One Through Nine. To the surprise of some taxpayers and tax practitioners, certain non-EDBs are subject to the annual RMD rule in the years leading up to the 10-year payment deadline. A non-EDB is subject to the annual RMD requirement if the IRA owner/retirement plan participant died after his or her required beginning date (RBD), which is the date by which the first RMD would have been due. The RBD for a traditional IRA owner born before 7/1/1949 is April 1st of the year following the year the owner turns 70.5; if born after 6/30/49, it is April 1st of the year following the year the owner becomes age 72. For a retirement plan participant, the RBD is the later of April 1st of the year the participant turns age 72 or retires from the company offering the plan. If the owner or retirement plan participant died before his or her RBD, there is no annual RMD requirement for the non-EDB – only the 10-year payment rule must be satisfied.

 

  1. Trust as Designated Beneficiary/Eligibility for 10-Year Distribution Rule. The regulations clarify that the following requirements must be met in order for a trust to be treated as a designated beneficiary (certain “see-through” trusts):

 

  • The trust is valid under state law
  • The trust is irrevocable or will become irrevocable upon the death of the individual who established the trust
  • The trust beneficiaries are identifiable from the trust document
  • A copy of the trust instrument is provided to the IRA trustee or retirement plan administrator

If the trust meets these four criteria by 9/30 of the year following the year of death of the IRA owner/retirement plan participant, then the trust beneficiaries are considered beneficiaries for computing the post-death RMDs, and the 10-Year Rule applies. However, for trusts that don’t meet these rules, the trust beneficiaries cannot be considered designated beneficiaries, and the existing five-year rule applies instead.

There are many other clarifying details in the Treasury’s proposed regulations, so be sure to review the language to gain additional insight into the various topics covered. While the regulations are still proposed and subject to change, taxpayers are required to take into account a good-faith interpretation of the SECURE Act, so complying with these proposed regulations is an appropriate step in satisfying that requirement.

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Understanding Equity on the Partnership Balance Sheet

The equity section of a business’s balance sheet is the most difficult part to understand. The accounts that make up that section vary depending on the type of entity in which the business is structured. In this article, let’s take a look at what the equity section looks like for companies that are organized as partnerships.

The Equity Section

As a reminder, the balance sheet has three major sections: assets, liabilities, and equity. The equity section focuses on the investments that the owners have in the business. For partners, it consists of their capital accounts. The section could look like this:

Partners’ Capital

Partner A Capital        $25,000

Partner B Capital       $25,000

Partner C Capital       $50,000

 

Each partner has their own Capital account within the equity section of the balance sheet. A partnership with 100 partners will have 100 capital accounts in the equity section. Computing the balance for each partner is where the work comes in.

A partner’s capital account balance is affected by numerous transactions throughout the year as well as current earnings, which are distributed to the partners based on their ownership percentages. Ownership rules and percentages are spelled out in the partnership agreement.

Items Affecting Partners’ Capital 

To compute a partner’s capital account balance, here is the basic formula:

Balance at beginning of period

Plus Contributions

+/- Partner’s share of net income/loss

Less Withdrawals

= Balance at end of period

Contributions to capital includes money that the partner has given the partnership out of their personal assets. Withdrawals are the opposite: this is money that the partner has taken out of the partnership and used for their personal use.

Net income is a bit more involved, with two more steps. First, the sum of the entire partnership’s income and expense accounts must be calculated. This number should be the same number as net profit or loss on the partnership’s income statement, from the beginning of the year to your balance sheet date. Second, the net income must be divided up to calculate each partner’s share based on their ownership percentages. These amounts are then rolled into each partner’s capital accounts.

To make sure the partnership equity section is accurate, good recordkeeping is a must for the partnership as well as each of the individual partners. If we can help you understand more about your partnership, please reach out any time.

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Checklist for Clean Books

Keeping your business’s books clean all year long can help to provide more accurate financial statements and reports as well as an easier tax time. Here is a checklist of activities to perform periodically to keep your books clean.

  1. Make sure all bank accounts are reconciled.
  2. Make sure all credit card accounts are reconciled.
  3. Update year-end inventory balance, if applicable.
  4. Review liability accounts and balance statements.
  5. Check for any old, uncleared items in the bank and credit card registers.
  6. Verify that there are no negative numbers on the financial statements, or provide an explanation as to why. With limited exceptions, generally the only legitimate negative numbers would be depreciation, owner’s equity and refunds.
  7. Make sure the Chart of Accounts is clean. Merge duplicate or similar categories. Eliminate any “other” expenses (for example, “Advertising – Other”), as well as “miscellaneous” accounts. Sort the Chart of Accounts alphabetically.
  8. Categorize any transactions listed as “Uncategorized Expenses,” “Ask my accountant,” or similar clearing account.
  9. Review P&L Detail sorted by name for consistency in categorizing.
  10. Enter the credit card charges through the end of December. With the cutoff date of credit cards, sometimes you must wait for the statement in February to get transactions from the last week of December.
  11. Pull an Open Invoice report and clear out any old invoices that are not accurate. Deleting an invoice should only be done if a client is on a cash basis, not accrual. It will affect the tax return if you delete or change any invoice the client files on accrual basis.
  12. Pull an Unpaid Bills report to see if any bills need to be deleted. Remember the rule on cash/accrual basis.
  13. Ensure that the Profit & Loss is showing “Gross Wages,” not net. This helps match financial statements with payroll reports. Match to Tax & Wage Summary provided by payroll processor.
  14. Separate out “Officer Gross Wages” from employee gross wages on the Profit & Loss report.
  15. If the owner made any deposits to the business bank account, show the deposit as a loan or capital contribution (equity). You can also show the money deposited as an offset to the owner’s draw account.
  16. Check for eligible 1099 vendors, and make sure you have the proper forms in place to process their 1099 forms by January 31st.
  17. If a company has more than one vehicle, make sure they are listed separately, showing gas, insurance, repairs and registration per vehicle. Get the percentage of business use for each vehicle.
  18. At year end, if you are using QuickBooks, set the Closing Date Password once everything is clean. If you are using another software, find out how to lock the balances for the prior year.

 

Keeping your books clean will help you make better business decisions on data that is more accurate.