Since Taxes are due now, I really appreciate your article! Thank you for taking the time to write such in depth explanations. Jesseca
Business Structure, Taxes, and Accounting Systems
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 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.
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.
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.
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.
Learn more about the author, Kristopher Sookma.
Comment on this article
Posted by Jesseca M. Zollars, Seattle, Washington |
Jan 09, 2008
Posted by Terry Loving, Seattle, Washington |
Jan 09, 2008
This is a valuable, clear and understandable explanation to establish the organizational foundation for a business. Protecting assets is important as well as limiting liability and paying appropriate taxes. In this article you have provided enough information so that somebody starting their own business can ask intelligent questions and get the assistance they might need. Great article. Different states offer different levels of protection. It is worth doing your due diligence through research and investigation.
Posted by Daniel Genser, Vashon, Washington |
Jan 29, 2008
Thanks for the reminders Kristopher. I'll message you about some of your specific capabilities.
Posted by Kristopher Sookma, Bothell, Washington |
Jan 30, 2008
Thank you for all the comments!
I'll try and write another more informative article soon about the benefits of having an accounting system in place and what information someone would need to give to thier accountant on order to keep accurate accounting records.
Posted by Shaun Lawrence, Irvine, California |
Oct 29, 2009
Great article and loaded with info. Much of this info I try and convey to clients, not all act on it or realize the potential benefit of related services. Thanks,
Posted by Shaun Lawrence, Irvine, California |
Jun 15, 2010
I am reviewing some of the bookkeeping posts to get some ideas. I am going to try and market my services. Thanks for writing and I look forward to your future articles.
Posted by Johnson Smith, London, London United Kingdom |
Aug 08, 2011
When one is going to start the news business then he should know that what are the things which are really important for the business and the understanding of the tax rules is really important too. Quick Payday Loans
Posted by Joslyn Morales, Tampa, Florida |
Jan 03, 2012
Excellent articles with information I was looking for. I am looking forward to researching the accounting software you mentioned in the article and using the one best for my business. It appears that corporations offer the best protection from liability and helps save the most about of money possible. This article helps entrepeneurs take a step in the right directions
- tax prep
- starting business
- washington state
- accounting software
- s corp
- c corp
- limited liability company
- sole proprietorship
- journal entries
- general ledger
- record retention