Rare is the preparer who doesn’t have plenty of clients who want to start their own business. What’s the gentlest way to advise them about all the hoops, all the taxes — and all the commitment?
“Most everyone is surprised at the local regulations/registrations they need to jump through,” said David Golbahar, a CPA and director at J.S. Held LLC in Los Angeles, who has founded companies himself and who reports “a steady flow of entrepreneurs” across his desk. “Depending on the business, they need to understand what they need to do at the state, county and city level,” he said. “Most people are unaware of the process to open a business.”
“If their first question to me is, ‘What can I write off?’ those people have all failed,” said Larry Pon, a CPA in Redwood City, California. “Some people have an obsession for write-offs.”
“Now they think they are going to have plenty of time on their hands to do what they’ve always wanted to do,” said Manasa Nadig, an Enrolled Agent and owner at MN Tax and Business Services and a partner at Harris Nadig in Canton, Michigan.
“People need to understand that forming a business does require more than fixing a gasket,” said Morris Armstrong, an EA and registered investment advisor at Armstrong Financial Strategies in Cheshire, Connecticut.
Numbers rising
Small-business formations hit record numbers in 2021, a trend expected to continue in 2022,
Some new businesses will be in the form of an entity, said Mary Kay Foss, a CPA in Walnut Creek, California. In her state “a single-member LLC can use their 1040 to report the business and attach an LLC tax form,” she said, “but surprisingly people will start an S corporation and forget some basics such as filing an S corporation election or paying a salary to the CEO as required. These things often turn up when they submit the 1040 organizer and you have to have the phone call that tells them what they forgot — without alienating them.”
Many prospective owners select their entity on their own and don’t choose the type that would work best for them. “We correct their mistakes where possible, but in the end they pay more money for us to fix the errors than if they would have engaged us from the beginning,” said Gail Rosen, a CPA in Martinsville, N.J.
In fact, “surprising” doesn’t begin to describe some would-be entrepreneurs’ biggest misconceptions, especially concerning taxes and other official aspects of hanging up the “Open”sign. One common misconception is
“I advise on ensuring there’s enough runway depending on the expected cash burn,” Golbahar said. “We didn’t think gas prices would hit this high — is the business prepared to handle financial bumps along the way?”
‘Bigger money’
“The biggest misconception is that many believe they have a novel product, idea, process or approach that allows for room in any given marketplace without a written operating plan or pro forma financials,” said EA John Dundon, president of Taxpayer Advocacy Services in Englewood, Colorado.
Big Four firm
“The biggest misconception is that they will make the bigger money like their old boss for working the same amount of hours,” said Brian Stoner, a CPA in Burbank, California. “They have no idea of the additional expenses needed to run a business or the extra hours needed to get the business started and to keep it going, let alone the extra time to be successful. They tend to find out quickly that their 40-hour week suddenly becomes a 60- or 70-hour week, especially in the first year of business.”
“We have many clients starting a business as they look for flexibility in the workplace. The biggest misconception is that clients can find all the information they need available on the internet,” Rosen said. “The new entrepreneur thinks they can do most of the initial administrative organizational work on their own and then they come to us and many times we end up fixing what they started.”
How to advise
One of these clients’ first lessons: The tax landscape can be rough on the little business.
“Our conversations have revolved around time management, getting organized, good recordkeeping and adopting a consistent bookkeeping regime,” Nadig said. “We also talk about what business deductions are available in general.”
“Many clients are very bad with paying their estimated taxes,” said Pon, who once represented an attorney in an audit whose office costs included buying electronics for his children. “There are some clients that we incorporated so the only way they can get paid is through payroll. We made sure the payroll service withheld taxes.”
Some talks have to be blunt with these clients, who can seem to have constant problems and a deep fear and misunderstanding of taxes, above all other aspects of business.
“How about finding ways to improve revenues and make more money?” Pon said. “I’ve had clients who were so scared of paying taxes when they were finally making money.”
“A few [clients] have talked about rentals and what that entails, and a few about side gigs. They’re shocked to learn that not everything is a tax deduction, that you cannot incur losses forever and that you’re expected to keep books and records,” Armstrong said.
