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For entrepreneurs and small business owners who don’t have an accounting background, bookkeeping and taxes can be intimidating or downright scary. But it doesn’t have to be.
Lisa London, CPA, brings three decades of public accounting expertise to numerous books and other resources, including one called, “Banish Your Bookkeeping Nightmares: The Go-To Guide for the Self-Employed to Save Money, Reduce Frustration, and Satisfy the IRS.” Her website includes bookkeeping and accounting tips for startups, small businesses and non-profit organizations.
We caught up with London to find out what you as an entrepreneur need to know about bookkeeping and taxes. The following conversation has been edited for clarity and brevity.
StartupNation: What are some of the most common accounting or bookkeeping mistakes that you see new businesses making?
Lisa London: The primary one is they co-mingle their personal finances with their business finances. You need a completely separate bank account. You need a separate credit card. Even if you have to personally guarantee it, that’s fine, but it needs to be separate from the personal finances so that you can prove to the IRS you’re taking this seriously as a business and it’s not just some little hobby.
StartupNation: What can happen if you don’t do that?
Lisa London: With the new tax law, this is a very big deal. Up until December of 2017, if you co-mingled your accounts, that was still okay, because you could deduct your business expenses up to the amount of business income you had as a hobby expense. You couldn’t take any losses, but you could at least deduct your expenses. By doubling the standard deduction, the new tax law took away most of the itemized deductions, including the hobby business expenses. If you can’t prove that you are a real, for-profit business, then they’re going to treat you as a hobby business and not let you deduct any of your expenses. But you’ll still have to record the revenue because they always make you record the revenue.
StartupNation: Are there any other reasons that you should keep those separate?
Lisa London: In order to run your business effectively, you really have to have an idea how much money is coming in and how much it is actually costing you. People who have side jobs rarely know how much money they’re really spending on their business. Say you have a home party and you buy the food, and you send out the invitations … there are all these little incidental expenses and those little $10 or $50 items can really add up.
My contractor says that whenever you’re building a house, it’s not your big decisions that will put you over budget because you plan those in. It’s those $10, $20, $50 items that just add up and that come back to bite you.
StartupNation: One of the topics that you sometimes speak about is avoiding an audit. Audits can be scary to entrepreneurs, so can you tell us more about that?
Lisa London: One thing to keep in mind is an audit is currently less of an auditor coming and wanting you to bring absolutely everything you’ve got to his office. It’s more, ‘this looks unusual, could you print a letter?’ Never, ever will the IRS email you or call you unless there’s been initial contact. That’s a huge scam. But they will send a letter saying ‘these are the four or five things that look odd on your tax return. Can you explain or send us the documentation?’ So, it’s a lot less stressful than most people think.
Things that alert the IRS to audit you is not reporting your 1099 income. The 1099 is that form you get if you’re self-employed, and people have paid you more than $600 over the year. So, if you mow yards, and somebody sends you a 1099 for say $1,000, and you don’t put that on your tax return, they catch those things quickly.
Another thing is simple addition errors. If you’re using tax software, theoretically it should all add up, and it usually does, but I just always double-check the math. If you’re doing it by hand, double-check and add it up two or three times to just make sure it’s right.
Putting the wrong Social Security numbers or transposing numbers, that’s another big mistake that people make.
StartupNation: There’s a lot of confusion around the new tax code. What do you think entrepreneurs should know?
Lisa London: If you are what I’m going to call a W-2 employee, meaning you only have withholding through your employer, I think taxes are going to be so much easier. They got rid of so many deductions, so it should be a lot easier. If you are a small business owner or have self-employment income, yes, I highly recommend you talk to an accountant.
There’s this great new deduction of 20 percent of your income on pass-through income. But there’s all kinds of caveats on it, and the regulations have not come out yet. Myself and other CPAs and tax attorneys are reading it and here’s what we think it says. But until the IRS actually comes out with forms, nobody knows what’s right. The IRS, you know, theoretically has until the end of the year to come out with these but it sure makes our planning difficult. My advice is to talk to your local CPA.
But the very most important thing for a business owner to know this year is to file your Social Security and your payroll stuff on time. Because there is a caveat in there that you don’t get that extra 20 percent deduction if you don’t file your Social Security and your payroll taxes on time. That means for your quarterly estimated taxes, your employees payroll taxes, all these kind of things, make sure you meet those deadlines.