Running a small business is often about taking and managing risks. Market risks are normal but business and tax risks are another thing altogether. Knowing the areas of vulnerability is the first step to successfully managing business and tax-related risks:
1. Best Choice of Entity
Is the choice of entity – corporation, limited liability company (LLC), partnership, or sole proprietor the best match for the business? The right entity provides the greatest tax benefits and separates the owner(s) from personal liability. It may be a good idea to explore alternatives related to goals, profitability, and risk. Consult with a CPA and tax attorney before starting the business; decisions made in the beginning can have a big impact later on.
2. Employees or Contractors
Are team members properly categorized when it comes to the IRS’s rules about employees versus contractors? The job description, not the employer’s wishes, dictates the distinction. The IRS takes this subject seriously, and may require back payroll taxes for employees that have been misclassified as contractors. Evaluate contract arrangements to verify compliance with IRS rules. Broadly, the issues have to do with control and independence. Please see a previous article about this topic for more information, and/or the 1099 vs. W-2 Checklist for helpful examples.
3. Sales Tax Liability
Is the company collecting sales tax as needed? As states search for revenue, they craft new rules for liability. For example, if one of the company hires contractors to perform services in another state, the company may owe sales tax on sales even if the business owner doesn’t live there or have an office there.
Nexus is a term that describes presence in a state for tax purposes. Having an office, an employee or contractor, or a warehouse can extend nexus so that the company needs to collect and file sales tax for those states. For more information, see our June 2016 newsletter article on Avoiding Sales Tax Surprises.
Businesses need multiple types of insurance to protect the entity and owner(s) from possible losses through a disaster, theft, or other incident. At a minimum, consider:
- Business property insurance, renters insurance, or a homeowner’s rider to protect physical assets.
- Professional liability or malpractice insurance, if applicable, to protect from professional mistakes, including mistakes made by employees.
- Workers compensation insurance, to cover employee accidents on the job.
- Auto insurance or a non-owned policy if employees drive their car for work errands.
Other types of insurance include: personal umbrella insurance, life insurance, and health insurance. Check with an insurance agent to get a comprehensive list of options.
Many small businesses make the mistake of underpricing services, especially when they start out. It’s hard to catch up pricing to a reasonable level when customers have an expectation of low prices. Knowing the right price to charge can mean the difference between whether the company lasts six months or six years. Mitigate this hazard by getting help with cost accounting to calculate margins and determine profitability after overhead expenses. Let the competition work themselves out of business.
6. Legal Services
Legal services can be expensive for a small business, so sometimes owners cut corners and take risks. Attorneys are needed most when it comes to setting up an entity, reviewing contractual agreements such as leases and loan agreements, settling conflicts, advising on trademark protection, and creating documents such as terms of service, employment agreements, and privacy policies. Just one mistake on any of these documents can cost a lot, so weigh the liability vs cost.
7. Accounting Services
Managing accounting and taxes can be risky if they’re incomplete or incorrect. Small businesses may end up paying more than necessary by leaving out qualified deductions. Worse, if the books are wrong, a company could end up overpaying taxes without realizing it. A common bookkeeping error results in doubling sales, and while it might look good, the mistake results in overpaying taxes. The right accounting team can pay huge dividends year after year.
8. Internal Controls
Running a business pulls owners and managers in several directions, sometimes all at once. And no one wants to think that employees would commit fraud. Unfortunately, fraud is an all-too-real possibility. Taking steps to minimize fraud opportunities protects company assets. Use the accounting system to restrict access to sensitive company information, and require authorization for all transactions over a certain dollar amount. Keep an eye on reports and cash to recognize when something doesn’t look right.
Taken altogether, the risks may seem overwhelming. One at a time, managing each risk makes the business healthier for the short- and long-term. Please talk with us if we can be of help in any of these areas directly or with references to resources.