Creating and Managing a Budget

Why do I Need Budget?

A budget can help to plan and control your future income and expenses, it is an itemization of likely income and expenses for a given period of time. It can be used as a strategic plan of a business. Whether you are creating a budget for personal use or for your business.  Without preparing a budget a business may not be able to assess its resource to buy capital assets or know whether its revenue, or if its will exceed expenses or expenses will exceed revenue. To create a budget, whether for personal use or for your business, incorporate the following steps:

  • Set Goals – Make a list of your financial goals and when you wish to accomplish them.  You can set both short-term and long-term goals.  Short-term goals are those you wish to reach within twelve months.  An example of a short term goal may be to save enough money in six months for a vacation.  A long-term goal is usually five years or longer, you may wish to save 20% of the value of purchasing a new home in the next five years.  When setting a goal for the long-term remember to consider inflation over the passage of time.
  • Evaluate Your Income – How much disposal income do you take home each pay-period.  Do you have savings in a bank such as cash, or a money market account?   If you are creating a budget for your business, consider whether you have a net income or net loss after paying all expenses for the company, do you have a positive cash flow?
  • Identify Your Spending – Determine what are you recurring and/ or fixed monthly expenses each month.  How much is your rent or mortgage, car note, utilities etc.  What are some of your variable expenses that you can cut back on? You may decide to mostly prepare your meals at home and cut back on restaurant dining.  Make a decision on those optional expenses that you can eliminate.
  • Create Your Budget – Create an excel spreadsheet, or purchase a budget software and identify your goal at the top of the sheet, example, “Save $5,000 in 10 months for My Dream Vacation”, this would mean you have to save $500 per month for the next 10 months in order to meet your budget.  Next list your monthly income and all your expenses, both fixed and variable, if your total savings after listing all your income and expenses is not equal to or more than $500, you will have to either reduce your monthly expenses, more likely those variable expenses such as groceries, utilities, etc. or find additional income to meet your budget.

If you stick with your budget and keep your goal in mind you will reach that goal. Of course, there may be circumstances that requires an adjustment to the budget, if your financial conditions change, adjust the budget to a realistic amount and stick with it.We hope this blog provided useful and valuable insight on Creating and Managing a Budget.

For more information and insight email us at info@rtmcpa.com or contact us at (301) 797-8259

Accrual Versus Cash Basis Accounting

The most commonly used basis by small businesses is the cash basis method of accounting.  Most small businesses (with sales of less than $5 million per year) are free to adopt either the cash or accrual accounting method.  The Internal Revenue Service (IRS), in the first year of business, gives a choice of reporting income, expense, and profit on a cash or accrual basis. 

So what is the main difference between the accrual and cash basis of accounting and which is more acceptable?

    

The main difference is the timing of when revenue and expenses are recognized.  Under the cash basis of accounting, revenue is recognized when received and expenses are recorded when paid.  Whereas, under the accrual basis of accounting, revenue is recognized when earned and expenses when incurred.

Businesses are required to use the accrual method of accounting if:

  • Sales of the business is more than $5 million per year
  • The Business has inventory sold the public with gross receipts of over $1 million per year.

It is important to note that whichever method a business choose to use, either one gives only a partial picture of the financial status of your business.

Advantages and Disadvantages

Accrual method – Cash flows may not be positive as the financials will show a high sales amount, but not cash in bank, as payments have not been received by customers. However, under this method, the ‘full picture’ of the transactions are recorded.

Cash method – Cash in the business is readily recognized under this method. However, revenue could fluctuate from one month to the other, and having a large amount of cash in bank could just be a result have getting paid by credit customers in that month and the following month, could have slow sales and significant decreased in revenue and cash.

Regardless of which method a business uses, management must garner a thorough understanding of its business operation and financial health. There are many variables that contributes to a successful and profitable business, including the financial capabilities.

Converting from Accrual to Cash Basis

There are times, for example in the preparation of a tax return when a business may report its books on the accrual basis of accounting, but want to report its results under the cash basis of accounting. It is pertinent that the changes to convert from accrual to cash for tax preparation purposes should not be entered into the accounting records of the business, unless the business is changing the basis of accounting to the cash basis permanently. 

Main Accounts for Converting:

Accounts Receivable – Exclude current receivables from Income for cash not received in the period. Include receivables from the prior period where cash has been received in the current period for prior period sales.      

Accounts payable – Exclude expenses for any payable that were not actually paid in cash during the period.  Include payables from the prior period where cash has been paid in the current period for prior period expenses.

 Your conversion should be done external to the accounting system, for example in an excel spreadsheet. Additionally, while the IRS allows for the use of the cash basis method for tax reporting purposes, it is limited to smaller organizations that do not report any inventory at the end of their calendar or fiscal years.

 We hope this blog provided useful and valuable insight on the difference between the cash and accrual basis of accounting. For more information and insight email us at info@rtmcpa.com or contact us at (301) 797-8259

 

Understanding The New Lease Standard

The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) (collectively, the Boards) have completed deliberations on new standards that significantly change the accounting for leases.  The plan requires lessees to recognize most leases on their balance sheets as lease liabilities with corresponding right-of-use assets.

The new standard could affect companies’ decisions about whether to lease or buy assets

Under the current accounting model, a company applies a classification test to determine the accounting for the lease arrangement: Some leases are classified as capital leases (e.g. equipment lease) whereby the lessee would recognize lease assets and liabilities on the balance sheet.  Other leases are classified as operating leases (e.g. Office lease) whereby the lessee would not recognize lease assets or liabilities on the balance sheet.

The existing operating lease model has been criticized for failing to meet the needs of users of financial statements because it does not always provide a faithful representation of leasing transactions.

Core Principles of New Standards

The new standard will require companies that lease assets; referred to as “lessees”, to recognize on the balance sheet the assets and liabilities for the rights and obligations created by those leases.

Under the new guidance, a lessee will be required to recognize assets and liabilities for leases with lease terms of more than twelve (12) months. Consistent with current Generally Accepted Accounting Principles (GAAP), the recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee primarily will depend on its classification as a finance or operating lease.

 Unlike current GAAP which requires only capital leases to be recognized on the balance sheet the new ASU will require both types of leases to be recognized on the balance sheet.

 Who is Affected by the New Guidance

 Leasing is an important activity for many companies, whether a public or private company, or a not-for-profit organization.

 The new ASU affects all companies that lease assets such as real estate, airplanes, ships, and construction and manufacturing equipment.

 Effective Date for New Lease Standard 

  • For public companies, the ASU is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. Thus, for a calendar year company, it would be effective January 1, 2019. 
  • For all other organizations, the ASU is effective for fiscal years beginning after December 15, 2019 and for interim periods within fiscal years beginning after December 15, 2020. 

Early application will be permitted for all organizations.

 

We hope this blog provided useful and valuable insight on the new lease standard. For more information and insight email us at info@rtmcpa.com or contact us at (301) 797-8259

Bookkeeping Versus Accounting, Is There a Difference?

Over the years, I have met many clients who came to me to provide accounting and bookkeeping services.  In many instances, I have had to go back three or more years and ‘redo’ the transactions in their accounting software, although they had a bookkeeper who was maintaining the books for those years. It is important that a business owner ascertain that proper bookkeeping and accounting is maintained as this is critical in assessing the financial viability of the company and also in keeping track of the debts of the company and any outstanding receivables.  Often, bookkeeping and accounting is used interchangeably, and while both are financial tools used to record business transactions, there are some differences that are important to understand.  There is an old adage ‘You Get What You Pay For’ and many business owners, not realizing the importance of keeping proper records, will hire someone to keep their books mainly on the cost, because the rate they charge is considered cheaper. Many times, this turns out to be a very expensive learning lesson.  If that person does not understand accounting and is only enter the transactions, without the proper knowledge and experience, then more likely than not, the transactions being entered will not be properly categorized.  For example, if a transaction that belongs on the balance sheet is reported on the income statement, this will result in an inaccurate representation of the Company’s financials.  Which bring up another old adage “Garbage In, Garbage Out”.

 

Bookkeeping is the process of recording the business transactions from bank statements, credit cards, invoices billed, and other source documents.  In bookkeeping the process is mechanical and does not usually require an analysis of the transactions being recorded.  In a nutshell, the process of bookkeeping involves recording in an accounting system such as QuickBooks, or manually, incoming payments received and outgoing payments made.

 

Accounting involves all the processes performed in bookkeeping, but includes additional procedures and analysis.  Therefore, bookkeeping is in fact, a part of the accounting process.  Accounting includes preparing financial statements, such as the balance sheet, which includes the assets, liabilities, and equity of the company, and the Income Statement, which reports the income, expense, and net profit or loss of the company.

 

If you are located in the Laurel, Beltsville, Bowie, College Park, Burtonsville, Silver Spring, Calverton, Baltimore, to name a few, and surrounding areas in the District of Columbia, and Virginia, we would be more than happy to provide you with a free consultation and assessment of your current bookkeeping and accounting Software.  Be proactive, make sure that your records are being properly recorded!

 DONT GET CAUGHT IN A TIME CRUNCH.  MAINTAINING TIMELY BOOKKEEPING AND ACCOUNTING, WILL SAVE YOU MONEY!

 

Hopefully this blog provided valuable insight on what to expect if you plan to start your own business. For more information and insight contact us at ​ (301) 797-8259

 

What Business Structure Should I Choose?

One of the first hurdle most potential business owners face is making a decision on the type of business structure that is best for their business.  The most frequently asked question is “should I incorporate or form an LLC, which one is better”?  In our previous blog, “So You Want to Start a Business”, we discussed the general steps to take in forming a business and getting registered.  This blog provides insight on the different structures of business and some of the pros and cons associated with them. 

Below are the main business structures, keeping in mind that Corporations and Partnerships has several types within the structure, such as professional corporations, non-profit organizations, general partnership, limited partnerships (LP), and limited liability partnership (LLP).

 The Main Business Structures are:

  • Sole Proprietorship – This is the most common structure because of the ease of set-up and the low cost associated with it and less formalities.  A sole proprietor is someone who owns an unincorporated business.  Some sole proprietors will register a ‘doing business as’ DBA with the state of residency and also obtain an EIN number.  For tax purposes, the sole proprietor would report the activities of the business on his or her individual income tax return (Form 1040) on Schedule C.

          Pros

         – Easy to Form

         – Tax paid on income of the business on personal tax return

          – No double taxation

         Cons

         – No personal liability protection

         – Self-employment taxes

  •  Partnerships – This is structure is usually formed based on an existing relationship between two or more persons who wish to do business together.  Each person contributes to the partnership and shares in the profits and losses of the business.  For tax purposes, the partnership would file a return partnership income (Form 1065) which is a pass through return, and provide each partner with a K-1, to report the income or loss in the partnership on their individual income tax return (Form 1040) on Schedule E.

           Pros

           – Income taxed proportionately to partners

           – No double taxation

           Cons

          – No personal liability protection (Unless LP, LLP)

  •  Corporations – This structure has more filing requirements and is formed when shareholders exchange money, property, or both, for the corporation’s capital stock.  For tax purposes, the corporation is a separate tax paying entity from its shareholders.  The profit of a corporation is taxed to the corporation when earned, and then is taxed to the shareholders when distributed as dividends.  This is known as a ‘double taxation’.  The corporation would file a C Corporation return (Form 1120).

          Pros

          – Personal liability protection

          – Perpetual existence

          – Board governance

          – Corporate tax rate does not go as high as sole proprietors

         Cons

         – Double taxation

         – More expense to establish

         – Regulatory requirements

         – Cannot deduct losses

  • S Corporations – This structure is corporation that has elected to pass income, loss, deductions, and credits to their shareholders for federal tax purposes.  In order to become an S corporation, the corporation must submit Form 2253, signed by all shareholders and to qualify, must meet certain requirements, such as being a domestic corporation, having only one class of stock and no more than 100 stockholders.  For tax purposes, the S Corporation would file an S Corporation return (Form 1120S) which is a pass through return, and provide each partner with a K-1, to report the income or loss in the partnership on their individual income tax return (Form 1040) on Schedule E.

          Pros

           – Personal limited liability for shareholders

           – No double taxation

          Cons

         – Limited number of shareholders

         – More expensive to establish

  • Limited Liability Company (LLC) – This business structure is allowed by state statue and each state may use different regulations.  It is advisable that you check with your state if you are going to form an LLC.  Owners of an LLC are called members and most states allow a “single-member” LLC; those having only one owner.  For tax purposes, the IRS treat an LLC as either a corporation, partnership, or as part of the LLC’s owner’s tax return (a “disregarded entity”). An LLC with at least two members is classified as a partnership for federal income tax purposes unless it files Form 8832 elects to be treated as a corporation. And an LLC with only one member is treated as an entity disregarded as separate from its owner for income tax purposes, unless it files Form 8832 and affirmatively elects to be treated as a corporation.

          Pros

          – Personal limited liability for members

          – No double taxation

          – More flexible and ease of management

          – No limits on number of members

          Cons

         – Members subject to self-employment taxes

Hopefully this blog provided valuable insight on what to expect if you plan to start your own business. For more information and insight contact us at (301) 797-8259