How to keep track of small tools and equipment

Barcode with red light ray and binary code in background

Whether it’s hard hats and drills on a jobsite, iPads in an office or RFID readers in a warehouse, small tools and equipment have a tendency to disappear at many companies. The cost of lost, damaged and stolen items can quickly add up, consuming profits and cash flow. What can you do to manage these items more effectively and create accountability among workers?

Technology to the rescue

Electronic bar-code technology that’s used to track inventory can also be used to label, coordinate, trace and catalog fixed assets in real time. These systems usually involve bar codes displayed on polyurethane labels on each tool or machine. The labels are designed to hold up under repeated on-the-job wear and tear.

These systems come with handheld devices that you can use to scan the bar codes when assigning tools and accepting returns. Tracking software sends the pertinent information to a database that can also be used for browsing, billing and running reports. In addition, the program records repair histories and maintenance schedules.

The cost of bar-code technology varies, depending on the number of features included in the system configuration. How complex a system you’ll need will depend on the number of items you’re looking to track. But if you’re already using this technology to manage inventory, there may be economies of scale by choosing a system that can handle both types of assets.

Improving efficiency

Bar-code technology also has the power to improve management efficiency. How? You can let employees know that, if the system shows that the tools they’ve checked out haven’t been returned, the employee or the job they’re working on could be charged for the missing item. Thus, employees will more closely monitor and protect these items to avoid paying for lost items or having a project go over budget.

The right system may also reduce your legal liability. In some industries, federal regulations or union rules may require workers to wear safety gear, such as goggles, hard hats and respirators. A formal tracking system allows you to show that you issued employees the proper equipment, which could in turn limit your accident liability.

Creating accountability

To take bar-code tracking to the next level, integrate it into your accounting system. For example, you might assign tools by employee name, job code, project number, date, time, location or other criteria. Then you can generate a report of employees or projects where specific tools are being used.

In turn, you’ll foster an atmosphere of accountability by making managers and employees more responsible for these assets. There’s no better way to drive home a point about wasted assets or money than to sit down with employees and show them, in dollars and cents, how a tool is being misused.

Bottom line

Bar-code technology isn’t new, but it’s become more cost effective and robust. Even if you’ve been working with this technology for several years, it’s time to consider upgrades that you might have missed — or new vendors with tighter security measures or innovative features.

For help evaluating your current system or investing in a new one, contact your CPA. He or she has helped other companies implement this technology and knows industry best practices and potential pitfalls to avoid.

© 2019

Accelerate Depreciation Deductions with a Cost Segregation Study

Is your business depreciating over a 30-year period the entire cost of constructing the building that houses your operation? If so, you should consider a cost segregation study. It may allow you to accelerate depreciation deductions on certain items, thereby reducing taxes and boosting cash flow. And under current law, the potential benefits of a cost segregation study are now even greater than they were a few years ago due to enhancements to certain depreciation-related tax breaks.

Depreciation basics

Business buildings generally have a 39-year depreciation period (27.5 years for residential rental properties). Most times, you depreciate a building’s structural components, including walls, windows, HVAC systems, elevators, plumbing and wiring, along with the building. Personal property — such as equipment, machinery, furniture and fixtures — is eligible for accelerated depreciation, usually over five or seven years. And land improvements, such as fences, outdoor lighting and parking lots, are depreciable over 15 years.

Often, businesses allocate all or most of their buildings’ acquisition or construction costs to real property, overlooking opportunities to allocate costs to shorter-lived personal property or land improvements. In some cases — computers or furniture, for example — the distinction between real and personal property is obvious. But the line between the two is frequently less clear. Items that appear to be “part of a building” may in fact be personal property, like removable wall and floor coverings, removable partitions, awnings and canopies, window treatments, signs and decorative lighting.

In addition, certain items that otherwise would be treated as real property may qualify as personal property if they serve more of a business function than a structural purpose. This includes reinforced flooring to support heavy manufacturing equipment, electrical or plumbing installations required to operate specialized equipment, or dedicated cooling systems for data processing rooms.

Identifying and substantiating costs

A cost segregation study combines accounting and engineering techniques to identify building costs that are properly allocable to tangible personal property rather than real property. Although the relative costs and benefits of a cost segregation study depend on your particular facts and circumstances, it can be a valuable investment.

Speedier depreciation tax breaks

The Tax Cuts and Jobs Act (TCJA) enhances certain depreciation-related tax breaks, which may also enhance the benefits of a cost segregation study. Among other things, the act permanently increased limits on Section 179 expensing, which allows you to immediately deduct the entire cost of qualifying equipment or other fixed assets up to specified thresholds.

The TCJA also expanded 15-year-property treatment to apply to qualified improvement property. Previously this break was limited to qualified leasehold-improvement, retail-improvement and restaurant property. And it temporarily increased first-year bonus depreciation to 100% (from 50%).

Making favorable depreciation changes

Fortunately, it isn’t too late to get the benefit of speedier depreciation for items that were incorrectly assumed to be part of your building for depreciation purposes. You don’t have to amend your past returns (or meet a deadline for claiming tax refunds) to claim the depreciation that you could have already claimed. Instead, you can claim that depreciation by following procedures, in connection with the next tax return that you file, that will result in “automatic” IRS consent to a change in your accounting for depreciation.

Cost segregation studies can yield substantial benefits, but they’re not right for every business. We must judge whether a study will result in overall tax savings greater than the costs of the study itself. To find out whether this would be worthwhile for you, contact us.

© 2019

Reasons Why Cash is King

Dollar Pipeline – lots of 20 Dollar Bills building a tube.

In financial reporting, investors and business owners tend to focus on four key metrics: 1) revenue, 2) net income, 3) total assets and 4) net worth. But, when it comes to gauging short-term financial performance and creditworthiness, the trump card is cash flow.

If a business doesn’t have enough cash on hand to pay payroll, rent and other bills, it can spell disaster — no matter how profitable the company is or how fast it’s growing. That’s why you can’t afford to cast aside the statement of cash flows and the important insight it can provide.

Monitoring cash

The statement of cash flows reveals clues about a company’s ability to manage cash. It shows changes in balance sheet items from one accounting period to the next. Special attention should be given to significant balance changes.

For example, if accounts receivable were $1 million in 2018 and $2 million in 2019, the change would be reported as a cash outflow of $1 million. That’s because more money was tied up in receivables in 2019 than in 2018. An increase in receivables is common for growing businesses, because receivables generally grow in proportion to revenue. But a mounting receivables balance also might signal cash management inefficiencies. Additional financial information — such as an aging schedule — might reveal significant write-offs.

Continually reporting negative cash flows from operations can also signal danger. There’s a limit to how much money a company can get from selling off its assets, issuing new stock or taking on more debt. A red flag should go up when operating cash outflows consistently outpace operating inflows. It can signal weaknesses, such as out-of-control growth, poor inventory management, mounting costs and weak customer demand.

Categorizing cash flows

The statement of cash flows typically consists of three sections:

1. Cash flows from operations. This section converts accrual net income to cash provided or used by operations. All income-related items flow through this part of the cash flow statement, such as net income; gains (or losses) on asset sales; depreciation and amortization; and net changes in accounts receivable, inventory, prepaid assets, accrued expenses and payables.

2. Cash flows from investing activities. If a company buys or sells property, equipment or marketable securities, the transaction shows up here. This section could reveal whether a company is divesting assets for emergency funds or whether it’s reinvesting in future operations.

3. Cash flows from financing activities. This shows transactions with investors and lenders. Examples include Treasury stock purchases, additional capital contributions, debt issuances and payoffs, and dividend payments.

Below these three categories is the schedule of noncash investing and financing transactions. This portion of the cash flow statement summarizes significant transactions in which cash did not directly change hands: for example, like-kind exchanges or assets purchased directly with loan proceeds.

Keep a watchful eye

Effective cash management can be the difference between staying afloat and filing for bankruptcy — especially in an unpredictable economy. Contact us to help identify potential problems and find solutions to shore up inefficiencies and shortfalls.

© 2019

Setting Up a Health Savings Account for Your Small Business

Healthcare and medical business concept

Given the escalating cost of employee health care benefits, your business may be interested in providing some of these benefits through an employer-sponsored Health Savings Account (HSA). For eligible individuals, HSAs offer a tax-advantaged way to set aside funds (or have their employers do so) to meet future medical needs. Here are the key tax benefits:

  • Contributions that participants make to an HSA are deductible, within limits.
  • Contributions that employers make aren’t taxed to participants.
  • Earnings on the funds within an HSA aren’t taxed, so the money can accumulate year after year tax free.
  • HSA distributions to cover qualified medical expenses aren’t taxed.
  • Employers don’t have to pay payroll taxes on HSA contributions made by employees through payroll deductions.

Who is eligible?

To be eligible for an HSA, an individual must be covered by a “high deductible health plan.” For 2019, a “high deductible health plan” is one with an annual deductible of at least $1,350 for self-only coverage, or at least $2,700 for family coverage. For self-only coverage, the 2019 limit on deductible contributions is $3,500. For family coverage, the 2019 limit on deductible contributions is $7,000. Additionally, annual out-of-pocket expenses required to be paid (other than for premiums) for covered benefits cannot exceed $6,750 for self-only coverage or $13,500 for family coverage.

An individual (and the individual’s covered spouse, as well) who has reached age 55 before the close of the tax year (and is an eligible HSA contributor) may make additional “catch-up” contributions for 2019 of up to $1,000.

Employer contributions

If an employer contributes to the HSA of an eligible individual, the employer’s contribution is treated as employer-provided coverage for medical expenses under an accident or health plan and is excludable from an employee’s gross income up to the deduction limitation. There’s no “use-it-or-lose-it” provision, so funds can be built up for years. An employer that decides to make contributions on its employees’ behalf must generally make comparable contributions to the HSAs of all comparable participating employees for that calendar year. If the employer doesn’t make comparable contributions, the employer is subject to a 35% tax on the aggregate amount contributed by the employer to HSAs for that period.

Distributions

HSA distributions can be made to pay for qualified medical expenses, which generally mean those expenses that would qualify for the medical expense itemized deduction. They include expenses such as doctors’ visits, prescriptions, chiropractic care and premiums for long-term care insurance.

If funds are withdrawn from the HSA for other reasons, the withdrawal is taxable. Additionally, an extra 20% tax will apply to the withdrawal, unless it’s made after reaching age 65, or in the event of death or disability.

As you can see, HSAs offer a flexible option for providing health care coverage, but the rules are somewhat complex. Contact us if you’d like to discuss offering this benefit to your employees.

© 2019

Nonprofits: New Alternatives for Reporting Goodwill and Other Intangibles

nonprofit banner – word abstract in vintage letterpress printing blocks stained by color inks

Did you know that the Financial Accounting Standards Board (FASB) recently extended the simplified private-company accounting alternatives to not-for-profit organizations? Many merging nonprofits, including educational institutions and hospitals, welcome these practical expedients. Here are the details.

Alternative for goodwill

The first alternative accounting method allows for the amortization of goodwill on a straight-line basis over 10 years (or less if a shorter useful life is more appropriate). It applies only to:

  • Goodwill recognized in a business combination after initial recognition and measurement,
  • Amounts recognized as goodwill in applying the equity method of accounting, and
  • The excess reorganization value recognized by entities that adopt fresh-start reporting under U.S. Generally Accepted Accounting Principles (GAAP) for reorganizations.

Once an alternative has been elected, the organization must apply all the alternative’s subsequent measurement, derecognition, presentation and disclosure requirements to existing goodwill and all future additions to goodwill that fall within the scope of the accounting alternative.

Upon adoption of the accounting alternative, the organization must decide whether to test goodwill at either the entity level or the reporting unit level. However, annual impairment testing isn’t required under the alternative. Rather, testing for impairment is required only if a triggering event occurs that indicates that the fair value of the nonprofit entity (or the reporting unit) may be below its carrying amount.

Alternative for identifiable intangible assets

The second accounting alternative allows a nonprofit organization to bypass the separate recognition of noncompete agreements and customer-related intangible assets unless they can be sold or licensed independently from other assets of a business. In other words, such items would be considered part of goodwill. Nonprofits that elect this alternative would recognize fewer intangible assets in a business combination.

It applies to nonprofit organizations that are required to recognize or consider fair value of intangible assets when:

  • Applying the acquisition method for a business combination,
  • Evaluating the nature of a difference between an investment’s carrying amount and the underlying equity in the net asset of an investee when applying the equity method of accounting, or
  • Adopting fresh start accounting for reorganizations.

If an organization decides to elect the accounting alternative for accounting for identifiable intangible assets, it also must adopt the accounting alternative for goodwill. However, a nonprofit that elects to adopt the accounting alternative for goodwill isn’t required to adopt the accounting alternative for accounting for identifiable intangible assets.

Effective date and transition

Nonprofits can immediately elect to use these alternative reporting methods. If elected, the goodwill accounting alternative should be applied prospectively to all existing goodwill and for all new goodwill generated in acquisitions. And the alternative for accounting for identifiable intangible assets should be applied prospectively upon the occurrence of the first transaction within the scope of the alternative. Contact us for more information. Our accounting professionals can help determine if these alternatives are right for your organization.

© 2019

Understanding and Controlling the Unemployment Tax Costs of Your Business

As an employer, you must pay federal unemployment (FUTA) tax on amounts up to $7,000 paid to each employee as wages during the calendar year. The rate of tax imposed is 6% but can be reduced by a credit (described below). Most employers end up paying an effective FUTA tax rate of 0.6%. An employer taxed at a 6% rate would pay FUTA tax of $420 for each employee who earned at least $7,000 per year, while an employer taxed at 0.6% pays $42.

Tax credit

Unlike FICA taxes, only employers — and not employees — are liable for FUTA tax. Most employers pay both federal and a state unemployment tax. Unemployment tax rates for employers vary from state to state. The FUTA tax may be offset by a credit for contributions paid into state unemployment funds, effectively reducing (but not eliminating) the net FUTA tax rate.

However, the amount of the credit can be reduced — increasing the effective FUTA tax rate —for employers in states that borrowed funds from the federal government to pay unemployment benefits and defaulted on repaying the loan.

Some services performed by an employee aren’t considered employment for FUTA purposes. Even if an employee’s services are considered employment for FUTA purposes, some compensation received for those services — for example, most fringe benefits — aren’t subject to FUTA tax.

Recognizing the insurance principle of taxing according to “risk,’’ states have adopted laws permitting some employers to pay less. Your unemployment tax bill may be influenced by the number of former employees who’ve filed unemployment claims with the state, the current number of employees you have and the age of your business. Typically, the more claims made against a business, the higher the unemployment tax bill.

Here are four ways to help control your unemployment tax costs:

1. If your state permits it, “buy down” your unemployment tax rate.Some states allow employers to annually buy down their rate. If you’re eligible, this could save you substantial unemployment tax dollars.

2. Hire conservatively and assess candidates. Your unemployment payments are based partly on the number of employees who file unemployment claims. You don’t want to hire employees to fill a need now, only to have to lay them off if business slows. A temporary staffing agency can help you meet short-term needs without permanently adding staff, so you can avoid layoffs.

It’s often worth having job candidates undergo assessments before they’re hired to see if they’re the right match for your business and the position available. Hiring carefully can increase the likelihood that new employees will work out.

3. Train for success. Many unemployment insurance claimants are awarded benefits despite employer assertions that the employees failed to perform adequately. This may occur because the hearing officer concludes the employer didn’t provide the employee with enough training to succeed in the job.

4. Handle terminations carefully. If you must terminate an employee, consider giving him or her severance as well as outplacement benefits. Severance pay may reduce or delay the start of unemployment insurance benefits. Effective outplacement services may hasten the end of unemployment insurance benefits, because a claimant finds a new job.

If you have questions about unemployment taxes and how you can reduce them, contact us. We’d be pleased to help.

© 2019

The Chances of an IRS Audit are Low, but Business Owners Should Be Prepared

Many business owners ask: How can I avoid an IRS audit? The good news is that the odds against being audited are in your favor. In fiscal year 2018, the IRS audited approximately 0.6% of individuals. Businesses, large corporations and high-income individuals are more likely to be audited but, overall, audit rates are historically low.

There’s no 100% guarantee that you won’t be picked for an audit, because some tax returns are chosen randomly. However, completing your returns in a timely and accurate fashion with our firm certainly works in your favor. And it helps to know what might catch the attention of the IRS.

Audit red flags

A variety of tax-return entries may raise red flags with the IRS and may lead to an audit. Here are a few examples:

  • Significant inconsistencies between previous years’ filings and your most current filing,
  • Gross profit margin or expenses markedly different from those of other businesses in your industry, and
  • Miscalculated or unusually high deductions.

Certain types of deductions may be questioned by the IRS because there are strict recordkeeping requirements for them ― for example, auto and travel expense deductions. In addition, an owner-employee salary that’s inordinately higher or lower than those in similar companies in his or her location can catch the IRS’s eye, especially if the business is structured as a corporation.

How to respond

If you’re selected for an audit, you’ll be notified by letter. Generally, the IRS won’t make initial contact by phone. But if there’s no response to the letter, the agency may follow up with a call.

Many audits simply request that you mail in documentation to support certain deductions you’ve taken. Others may ask you to take receipts and other documents to a local IRS office. Only the harshest version, the field audit, requires meeting with one or more IRS auditors. (Note: Ignore unsolicited email messages about an audit. The IRS doesn’t contact people in this manner. These are scams.)

Keep in mind that the tax agency won’t demand an immediate response to a mailed notice. You’ll be informed of the discrepancies in question and given time to prepare. You’ll need to collect and organize all relevant income and expense records. If any records are missing, you’ll have to reconstruct the information as accurately as possible based on other documentation.

If the IRS chooses you for an audit, our firm can help you:

  • Understand what the IRS is disputing (it’s not always crystal clear),
  • Gather the specific documents and information needed, and
  • •Respond to the auditor’s inquiries in the most expedient and effective manner.

Don’t panic if you’re contacted by the IRS. Many audits are routine. By taking a meticulous, proactive approach to how you track, document and file your company’s tax-related information, you’ll make an audit much less painful and even decrease the chances that one will happen in the first place.

© 2019

Measuring Fair Value for Financial Reporting

Two hands holding a caliper, measuring the word “Improvement”.

Business assets are generally reported at the lower of cost or market value. Under this accounting principle, certain assets are reported at fair value, such as asset retirement obligations and derivatives.

Fair value also comes into play in M&A transactions. That is, if one company acquires another, the buyer must allocate the purchase price of the target company to its assets and liabilities. This allocation requires the valuation of identifiable intangible assets that weren’t on the target company’s balance sheet, such as brands, patents, customer lists and goodwill.

What is fair value?

Under U.S. Generally Accepted Accounting Principles (GAAP), fair value is “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.” Though this term is similar to “fair market value,” which is defined in IRS Revenue Ruling 59-60, the terms aren’t synonymous.

The FASB chose the term “fair value” to prevent companies from applying IRS regulations or guidance and U.S. Tax Court precedent when valuing assets and liabilities for financial reporting purposes.

The FASB’s use of the term “market participants” refers to buyers and sellers in the item’s principal market. This market is entity specific and may vary among companies.

What goes into a fair value estimate?

When valuing an asset, there are three general valuation approaches: cost, income and market. For financial reporting purposes, fair value should first be based on quoted prices in active markets for identical assets and liabilities. When that information isn’t available, fair value should be based on observable market data, such as quoted prices for similar items in active markets.

In the absence of observable market data, fair value should be based on unobservable inputs. Examples include cash-flow projections prepared by management or other internal financial data.

While a CFO or controller can enlist the help of outside valuation specialists to estimate fair value, a company’s management is ultimately responsible for fair value estimates. So, it’s important to understand the assumptions, methods and models underlying a fair value estimate. Management also must implement adequate internal controls over fair value measurements, impairment charges and disclosures.

Valuation pros needed

Asset valuations are typically outside the comfort zone of in-house accounting personnel, so it pays to hire an outside specialist who will get it right. We can help you evaluate subjective inputs and methods, as well as recommend additional controls over the process to ensure that you’re meeting your financial reporting responsibilities.

© 2019

How to Treat Your Business Website Costs for Tax Purposes

Young architects working on project in office together

These days, most businesses need a website to remain competitive. It’s an easy decision to set one up and maintain it. But determining the proper tax treatment for the costs involved in developing a website isn’t so easy.

That’s because the IRS hasn’t released any official guidance on these costs yet. Consequently, you must apply existing guidance on other costs to the issue of website development costs.

Hardware and software

First, let’s look at the hardware you may need to operate a website. The costs involved fall under the standard rules for depreciable equipment. Specifically, once these assets are up and running, you can deduct 100% of the cost in the first year they’re placed in service (before 2023). This favorable treatment is allowed under the 100% first-year bonus depreciation break.

In later years, you can probably deduct 100% of these costs in the year the assets are placed in service under the Section 179 first-year depreciation deduction privilege. However, Sec. 179 deductions are subject to several limitations.

For tax years beginning in 2019, the maximum Sec. 179 deduction is $1.02 million, subject to a phaseout rule. Under the rule, the deduction is phased out if more than a specified amount of qualified property is placed in service during the year. The threshold amount for 2019 is $2.55 million.

There’s also a taxable income limit. Under it, your Sec. 179 deduction can’t exceed your business taxable income. In other words, Sec. 179 deductions can’t create or increase an overall tax loss. However, any Sec. 179 deduction amount that you can’t immediately deduct is carried forward and can be deducted in later years (to the extent permitted by the applicable limits).

Similar rules apply to purchased off-the-shelf software. However, software license fees are treated differently from purchased software costs for tax purposes. Payments for leased or licensed software used for your website are currently deductible as ordinary and necessary business expenses.

Software developed internally

If your website is primarily for advertising, you can also currently deduct internal website software development costs as ordinary and necessary business expenses.

An alternative position is that your software development costs represent currently deductible research and development costs under the tax code. To qualify for this treatment, the costs must be paid or incurred by December 31, 2022.

A more conservative approach would be to capitalize the costs of internally developed software. Then you would depreciate them over 36 months.

Third party payments

Some companies hire third parties to set up and run their websites. In general, payments to third parties are currently deductible as ordinary and necessary business expenses.

Before business begins

Start-up expenses can include website development costs. Up to $5,000 of otherwise deductible expenses that are incurred before your business commences can generally be deducted in the year business commences. However, if your start-up expenses exceed $50,000, the $5,000 current deduction limit starts to be chipped away. Above this amount, you must capitalize some, or all, of your start-up expenses and amortize them over 60 months, starting with the month that business commences.

We can help

We can determine the appropriate treatment for these costs for federal income tax purposes. Contact us if you have questions or want more information.

© 2019

Management Letters: Have You Implemented Any Changes?

boost business concept, process from idea to result

Audited financial statements come with a special bonus: a “management letter” that recommends ways to improve your business. That’s free advice from financial pros who’ve seen hundreds of businesses at their best (and worst) and who know which strategies work (and which don’t). If you haven’t already implemented changes based on last year’s management letter, there’s no time like the present to improve your business operations.

Reporting deficiencies

Auditing standards require auditors to communicate in writing about “material weaknesses or significant deficiencies” that are discovered during audit fieldwork.

The AICPA defines material weakness as “a deficiency, or combination of deficiencies, in internal control, such that there is a reasonable possibility that a material misstatement of the entity’s financial statements will not be prevented, or detected and corrected on a timely basis.” Likewise, a significant deficiency is defined as “a deficiency, or a combination of deficiencies, in internal control that is … important enough to merit attention by those charged with governance.”

Auditors may unearth less-severe weaknesses and operating inefficiencies during the course of an audit. Reporting these items is optional, but they’re often included in the management letter.

Looking beyond internal controls

Auditors may observe a wide range of issues during audit fieldwork. An obvious example is internal control shortfalls. But other issues covered in a management letter may relate to:

  • Cash management,
  • Operating workflow,
  • Control of production schedules,
  • Capacity,
  • Defects and waste,
  • Employee benefits,
  • Safety,
  • Website management,
  • Technology improvements, and
  • Energy consumption.

Management letters are usually organized by functional area: production, warehouse, sales and marketing, accounting, human resources, shipping/receiving and so forth. The write-up for each deficiency includes an observation (including a cause, if observed), financial and qualitative impacts, and a recommended course of action.

Striving for continuous improvement

Too often, management letters are filed away with the financial statements — and the same issues are reported in the management letter year after year. But proactive business owners and management recognize the valuable insight contained in these letters and take corrective action soon after they’re received. Contact us to help get the ball rolling before the start of next year’s audit.

© 2019