Your bookkeeping system is the financial heart and lifeblood of your business. When set up and operating properly, your books help you make smart decisions and seamlessly turn your financial data into useful information. Here are four key characteristics to building and maintaining a healthy bookkeeping system:
Select the proper accounting method. There are two different methods for recording transactions: cash-basis and accrual-basis. In general, the cash-basis method records a transaction when a payment is made, while the accrual-basis method books the transaction upon delivery of the good or service. Cash-basis is easier to track and a useful option for smaller businesses and sole-proprietors. Larger businesses who buy from vendors on account (accounts payable) generally use accrual-basis accounting. Selecting the proper method affects any related financial transactions and how your financial statements are displayed. A correct approach will also include consideration of outside factors, including IRS rules (businesses with more than $25 million in gross receipts must use accrual-basis), bank covenants, and industry standards. Once a choice is made, it can be changed but it must be properly reported to the IRS.
Create an account structure that fits the company. Every business has a chart of accounts included in their bookkeeping system. These accounts sort the business’s transaction data into six meaningful groups. They are assets, liabilities, equity, income, cost of goods sold and other expenses. Each group will often have numerous accounts and sub-accounts associated with them. Having the right mix of accounts, created and grouped in an organized fashion, will help you properly classify transactions and prepare usable financial statements. The proper account structure for your company will mesh with your specific information needs.
Enter accurate and timely transactions. The value your data provides is dependent on each transaction being recorded correctly and on time. Entering transactions in the wrong account can cause major issues down the road. Financial reporting that is delayed can hide problems that need immediate attention. Some transactions are relatively straightforward, and some are more complex (like payroll, accruals and deferrals).It’s important to have someone who understands both your business and the accounting rules to enter your transactions in a timely fashion. In addition, a good month-end close process that involves reviewing each account will help you identify and fix mistakes from the initial entries.
Establish financial statements for decision-making. The main financial statements are the income statement (income – expenses = gross profit), the balance sheet (assets – liabilities = equity) and statement of cash flow. Each statement has a specific purpose:
Income statement. The income statement shows company performance for a select period of time, typically monthly with a full-year summary. At the end of each year the income statement restarts.
Balance sheet. The balance sheet displays a company’s overall health on a specific date. It is perpetual. This means it doesn’t end until the business is closed or sold. It includes one line that summarizes the current year and prior year results from the income statement.
Statement of cash flow. This statement summarizes the inflows and outflows of cash. It ensures you know whether you have enough cash and the pattern of your cash position over time.
If properly executed, your bookkeeping system will create accurate financial statements that can be used to make key financial decisions. Feel free to call with any questions or to discuss bookkeeping solutions for your business.
Your business’s ability to retain customers is one of the most important components to sustained growth and profitability. Here are the three retention metrics useful for every business owner.
Retention rate. Most customer retention is measured over a set period of time, typically one year. To determine your rate, take a look at the number of customers who ordered from you last year. Then see what percent of them order at least once from you over the current year. If you measure this percent each month you can see how your retention builds throughout the year. The key is to compare your retention rate to the same period in prior months and years. A rising rate means you are on the right track; a shrinking rate means you need to make changes. According to the Harvard Business Review, a 5% increase in your retention rate increases profits by 25% to 95%!
Example: Cut’em Nail Salon starts the year with 700 active clients. They add 300 new customers during the year, and their active client base is 800 at the end of the year. On the surface things look good, right? This increase of 100 clients is over 14%! But when you calculate the retention rate, it is 71.4% (800 clients minus 300 new clients means 500 of last year’s clients still use Cut’em. 500 divided by 700 equals 71.4%). What happened to the 200 customers that did not return? Cut’em doesn’t know if this is good or bad news, as it only makes sense when comparing it to the last few years’ retention performance.
Existing customer revenue percentage. Core customers almost always contribute the most to your profitability. But how much? To figure out your returning customer revenue percentage, start with a list of revenue by customer for the last 12 months. Identify the returning customers and add up revenue attributed to them. Divide that number by your total revenue. Use this information to balance your spending between new customer acquisition and retaining your core customers. If you are like most businesses, you will realize there is tremendous value in spending more time and effort on retention, even when your business is full!
Part 2 Cut’em Nail Salon Example: Assume the nail salon’s total revenue is $1 million and the revenue from the 500 returning clients is $900,000. In this case, the core customers represent 90% of the revenue but only 62.5% (500 divided by 800) of the customers!
Most valuable customers. Now identify which customers spend the most and buy the most often. Odds are, many of your top customers have similar characteristics. In the end, your goal is to keep these customers happy and get more just like them!
Part 3 Cut’em Nail Salon Example: In the example above, the average revenue per client is $1,250 per client or over $100 per month ($1 million divided by 800 clients). If the top 20 clients represent $100,000 in revenue or $5,000 per client, you can quickly see how important they are!
The key take away is that sustained growth and profitability comes from the core customers you retain each year. And the best place to start is to calculate and understand your retention numbers and their trend.
Like a bundle of sticks, good business partners support each other and are less likely to crack under strain together than on their own. In fact, companies with multiple owners have a stronger chance of surviving their first five years than sole proprietorships, according to U.S. Small Business Administration data.
Yet sole proprietorships are more common than partnerships, making up more than 70 percent of all businesses. That’s because while good partnerships are strong, they can be a challenge to successfully get off the ground. Here are some of the ingredients that good business partnerships require:
A shared vision. Business partnerships need a shared vision. If there are differences in vision, make an honest effort to find common ground. If you want to start a restaurant, and your partner envisions a fine dining experience with French cuisine while you want an American bistro, you’re going to be disagreeing over everything from pricing and marketing to hiring and décor.
Compatible strengths. Different people bring different skills and personalities to a business. There is no stronger glue to hold a business partnership together than when partners need and rely on each other’s abilities. Suppose one person is great at accounting and inventory management, and another is a natural at sales and marketing. Each is free to focus on what they are good at and can appreciate that their partner will pick up the slack in the areas where they are weak.
Defined roles and limitations. Before going into business, outline who will have what responsibilities. Agree on which things need consensus and which do not. Having this understanding up front will help resolve future disagreements. Outlining the limits of each person’s role not only avoids conflict, it also identifies where you need to hire outside expertise to fulfill a skill gap in your partnership.
A conflict resolution strategy. Conflict is bound to arise even if the fundamentals of your partnership are strong. Set up a routine for resolving conflicts. Start with a schedule for frequent communication between partners. Allow each person to discuss issues without judgment. If compromise is still difficult after a discussion, it helps to have someone who can be a neutral arbiter, such as a trusted employee or consultant.
A goal-setting system. Create a system to set individual goals as well as business goals. Regularly meet together and set your goals, the steps needed to achieve them, who needs to take the next action step, and the expected date of completion.
An exit strategy. It’s often easier to get into business with a partner than to exit when it isn’t working out. Create a buy-sell agreement at the start of your business relationship that outlines how you’ll exit the business and create a fair valuation system to pay the exiting owner. Neither the selling partner nor the buying partner want to feel taken advantage of during an ownership transition.
Tax credits are some of the most valuable tools around to help cut your tax bill. But figuring out how to use these credits on your tax return can get complicated very quickly. Here’s what you need to know.
Understanding the difference
To help illustrate the difference between a credit and a deduction, here is an example of a single taxpayer making $50,000 in 2022.
Tax Deduction Example: Gee I. Johe earns $50,000 and owes $5,000 in taxes. If you add a $1,000 tax deduction, he’ll decrease his $50,000 income to $49,000, and owe about $4,800 in taxes.
Result: A $1,000 tax deduction decreases Gee’s tax bill by $200, from $5,000 to $4,800.
Tax Credit Example: Now let’s assume G.I. Johe has a $1,000 tax credit versus a deduction. Mr. Johe’s tax bill decreases from $5,000 to $4,000, while his $50,000 income stays the same.
Result: A $1,000 tax credit decreases your tax bill from $5,000 to $4,000.
In this example, your tax credit is five times as valuable as a tax deduction.
Too good to be true?
Credits are generally worth much more than deductions. However there are several hurdles you have to clear before being able to take advantage of a credit.
To illustrate, consider the popular child tax credit.
Hurdle #1: Meet basic qualifications
You can claim a $2,000 tax credit for each qualifying child you have on your 2022 tax return. The good news is that the IRS’s definition of qualifying child is fairly broad, but there are enough nuances to the definition that Hurdle #1 could get complicated. And then to make matters more complicated…
Hurdle #2: Meet income qualifications
If you make too much money, you can’t claim the credit. If you’re single, head of household or married filing separately, the child tax credit completely goes away if you exceed $240,000 of taxable income. If you’re married filing jointly, the credit disappears above $440,000 of income. And then to make matters more complicated…
Hurdle #3: Meet income tax qualifications
To claim the entire $2,000 child tax credit, you must owe at least $2,000 of income tax. For example, if you owe $3,000 in taxes and have one child that qualifies for the credit, you can claim the entire $2,000 credit. But if you only owe $1,000 in taxes, the maximum amount of the child tax credit you could claim is $1,400.
Take the tax credit…but get help!
The bottom line is that tax credits are usually more valuable than tax deductions. But tax credits also come with lots of rules that can be confusing. Please call to schedule a tax planning session to make sure you make the most of the available tax credits for your situation.
Inflation is upon us, and a hidden gem used by companies to combat price increases is often hidden from the unaware. It’s called shrinkflation. Here’s what you need to know about this hidden price hike and what you can do to cope with its effects.
Shrinkflation is the technique of downsizing a product or ingredients to lower costs. In many cases the retail price of something will not change, but the amount of product in the package is lowered. Common techniques include putting less in a package or changing the amount of a high-cost ingredient in the product.
And the changes are often subtle. Would you realize the amount in a box is lowered by 1/2-an-ounce if the box stays the same size? Or that your cereal has fewer raisins in it than a month ago?
Edgar Dworsky, a former assistant attorney general in Massachusetts, recently spoke with the Consumer Federation of America about changes he’s been tracking in grocery isles. Here are some recent examples of shrinkflation:
Kimberly-Clark’s Cottonelle Ultra Clean mega rolls of toilet paper are reduced from 340 sheets to 312
Keebler’s Chips Deluxe with M&Ms packages are now 9.75 ounces, down from 11.3 ounces
Gatorade’s 32-ounce bottles are now 28 ounces
Cadbury is reducing the size of its popular chocolate bar by 10%
Knowledge is key
While many manufacturers are transparent about these changes as they combat inflation, it is not as apparent to spot when you are shopping. Here some are suggestions to help you identify and combat shrinkflation.
Focus on unit cost. Instead of focusing on the price of the product, look for the unit cost of the item. Grocery stores can be very helpful in this area, as most tags will show a common unit of measure below the items for sale. If you shop at a store that doesn’t provide this information, you can still calculate the unit price using the information printed on the front of a product’s package.
Compare the packages. When you replenish your popular shopping items, spend a minute to compare the product with the last one you purchased. Make a mental note if the packaging or number of items in the package is changing.
Have alternatives. Perhaps it is time to try another toilet paper brand, or choose a different cookie. Many store brands are a great alternative to the market leaders.
Offset shrinkflation with deals. This includes reviewing featured items at different shopping locations, looking at a store’s weekly flyer for deals, loading up on favorite items when they are on sale, participating in a store’s loyalty program, and looking for coupons using online services.
Remember, inflation is here and everyone needs to cope with it, including manufacturers. But by being aware, you can retain some control to reduce inflation’s impact on you and your family.
Our tax code contains plenty of opportunities to cut your taxes. There are also plenty of places in the tax code that could create a surprising tax bill. Here are some of the more common traps.
Home office tax surprise. If you deduct home office expenses on your tax return, you could end up with a tax bill when you sell your home in the future. When you sell a home you’ve been living in for at least 2 of the past 5 years, you may qualify to exclude from your taxable income up to $250,000 of profit from the sale of your home if you’re single or $500,000 if you’re married. But if you have a home office, you may be required to pay taxes on a proportionate share of the gain.
For example, let’s say you have a 100-square-foot home office located in a garage, cottage or guest house that’s on your property. Your main house is 2,000 square feet, making the size of your office 5% of your house’s overall area. When you sell your home, you may have to pay taxes on 5% of the gain. (TIP: If you move your office out of the detached structure and into your home the year you sell your home, you may not have to pay taxes on the gain associated with the home office.)
Even worse, if you claim depreciation on your home office, this could add even more to your tax surprise. This depreciation surprise could happen to either a home office located in a separate structure on your property or in a home office located within your primary home. This added tax hit courtesy of depreciation surprises many unwary users of home offices.
Kids getting older tax surprise. Your children are a wonderful tax deduction if they meet certain qualifications. But as they get older, many child-related deductions fall off and create an unexpected tax bill. And it does not happen all at once.
As an example, one of the largest tax deductions your children can provide you is via the child tax credit. If they are under age 17 on December 31st and meet several other qualifications, you could get up to $2,000 for that child on the following year’s tax return. But you’ll lose this deduction the year they turn 17. If their 17th birthday occurs in 2022, you can’t claim them for the child tax credit when you file your 2022 tax return in 2023, resulting in $2,000 more in taxes you’ll need to pay.
Limited losses tax surprise. If you sell stock, cryptocurrency or any other asset at a loss of $5,000, for example, you can match this up with another asset you sell at a $5,000 gain and – presto! You won’t have to pay taxes on that $5,000 gain because the $5,000 loss cancels it out. But what if you don’t have another asset that you sold at a gain? In this example, the most you can deduct on your tax return is $3,000 (the remaining loss can be carried forward to subsequent years).
Herein lies the tax trap. If you have more than $3,000 in losses from selling assets, and you don’t have a corresponding amount of gains from selling assets, you’re limited to the $3,000 loss.
So if you have a big loss from selling an asset in 2022, and no large gains from selling other assets to use as an offset, you can only deduct $3,000 of your loss on your 2022 tax return.
Planning next year’s tax obligation tax surprise. It’s always smart to start your tax planning for next year by looking at your prior year tax return. But you should then take into consideration any changes that have occurred in the current. Solely relying on last year’s tax return to plan next year’s tax obligation could lead to a tax surprise.
Please call to schedule a tax planning session so you can be prepared to navigate around any potential tax surprises you may encounter on your 2022 tax return.