Business accounting is the discipline of managing a firm’s income and expenses and handling all of the necessary tax withholdings, filings, and payments. While the bookkeeping itself may be handled by a competent bookkeeper working with good accounting software and a well-organized filing system, every business should also have a Certified Public Accountant (CPA) on retainer to advise on ways to minimize tax liabilities and maximize profits, and to prepare the firm’s federal, state, and any local tax filings.
Hiring an Accountant
Accounting starts with good record keeping, so you can track and report the financial condition of your business to managers, stakeholders, and government taxing authorities. But it goes far beyond that to cover tax planning and effective financial management of your business. Much as with legal advice, it’s not advisable to fend for yourself. Every business should have an accountant: a financial and tax professional trained in the rules and regulations of the Financial Accounting Standards Board and who stays abreast of constantly changing tax laws.
Many business owners in fact hire Certified Public Accountants (CPAs). These are accountants who have gone through additional training and passed one or more rigorous examination(s) in order to become certified by the states in which they operate. Most take annual trainings to stay abreast of the latest tax law changes. They generally possess deeper and broader knowledge and are therefore often worth the higher fees they generally charge.
Any advisor handling your financial business must be worthy of your trust. Make sure you get references and sit down with the advisor to discuss how they work, how he or she charges, and any concerns you have about your financial needs. Make sure your accountant or CPA is able to work with your accounting system or, if you don’t have one, to advise you on setting one up with the appropriate accounts and expense categories.
Your advisor can also help you determine whether to manage your business on a cash or accrual basis. (See Section 21. Cash Flow.) And they can help you with the key steps in setting up and running your business so that you comply with the appropriate federal, state, and local tax laws.
Set Up Your Tax ID
All companies with employees must apply to the Internal Revenue Service for an Employer Identification Number (EIN). This number, comparable to an individual’s Social Security number, becomes the tax identifier you will use on all of your tax-related financial accounts and reporting. Even if you don’t yet have employees, if you are incorporated you can and should apply for an EIN number and use it on all tax filings and payments.
Establishing Your Taxable Year
When you file your first tax return you establish your taxable reporting period, even if you haven’t been in business for a full year at the time. Some businesses benefit from using a time period other than the traditional calendar year, called a “fiscal year.” For example, if you have a seasonal business that starts ramping up in September and slows down in May, using a calendar year might split your selling season into two different tax years, making it difficult to measure and manage profitability.
A fiscal tax year is 12 consecutive months ending on the last day of any month except December. You can also request permission to use a fiscal year that varies from 52 to 53 weeks but does not have to end on the last day of a month.
Determining Your Sales Tax Liability
State and local governments all have different rules on collection of sales tax, and it’s very important to know whether you are required to collect sales tax from your customers. Check with your state and municipal tax offices to find out what sales are taxable and, if they are non-taxable, whether you have to break down your sales reporting into any special categories (typically services, wholesale sales, freight charges, and out-of-state sales).
The rules on out-of-state sales can be very complex and are subject to change. Traditionally, you only had to collect sales taxes in another state if you have a physical presence there – an office, warehouse, or retail establishment. However, rules vary widely, and online sales across state lines are particularly subject to change. Federal legislative efforts have recently been in play again to force businesses that sell online to collect, report, and pay state taxes for any sales in states that collect sales tax. (Some states don’t charge any sales tax to either online or brick-and-mortar companies. As of this writing, those states are Alaska, Delaware, Hawaii, Montana, New Hampshire and Oregon. For an up-to-date list, check: http://www.nolo.com/legal-encyclopedia/50-state-guide-internet-sales-tax-laws.html
Make sure you understand and cover all of the required payroll taxes if you have employees. And be sure to check that you are not running afoul of state and federal tax laws by using independent contractors as if they were employees. If it’s determined that your contractors’ work arrangements should have been treated as employment, you may find yourself liable for hefty back taxes and fines. (For more on this see below.)
Employers are responsible for withholding, paying, and reporting for each employee:
- Federal and State Income tax. These are income taxes that you have to withhold from each employee’s paycheck during each payment period. You must submit regular payments of these taxes to the appropriate state tax agency and to the IRS. By January 31st of the following year, you must also submit to the IRS a W-2 form for each employee, showing the total payments and withholdings you made for that individual.
- Social Security and Medicare Tax (FICA). Employers are responsible for paying 6.25% of each employees gross income to the federal government, and to withhold another 6.2% that is the employee’s responsibility. The total 12.4% tax covers the required Social Security and Medicare taxes for that individual.
A Note on Independent Contractors. If you hire an individual or business to do work for your firm on a contractual basis, you typically expense their cost as a purchase. Such individuals are classified by the IRS and state tax agencies independent contractors rather than employees, are considered self-employed, and are responsible for paying their own state and federal income taxes on the moneys you pay them for their services. If you use independent contractors, make sure they provide you with a completed and signed W9 form that includes their social security or EIN before any work begins or payments are made. You must also issue an IRS Form 1099 by January 31st of the year after you pay them, reporting the total amount paid to the contractor for the calendar year. Using independent contractors saves times and money, but it is also heavily scrutinized, especially by state tax agencies, so make sure you know and are following all of the rules in your state.
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