Business Strategies

Starting a business

Starting a Business? 3 Things You Must Know

Starting a new business is a very exciting and busy time. There is so much to be done and so little time to do it in. If you expect to have employees, there are a variety of federal and state forms and applications that will need to be completed to get your business up and running. That's where we can help.

Employer Identification Number (EIN)
Securing an Employer Identification Number (also known as a Federal Tax Identification Number) is the first thing that needs to be done since many other forms require it. The fastest way to apply for an EIN is online through the IRS website or by telephone. Applying by fax and mail generally takes one to two weeks. Note that effective May 21, 2012, you can only apply for one EIN per day. The previous limit was 5.

State Withholding, Unemployment, and Sales Tax
Once you have your EIN, you need to fill out forms to establish an account with the State for payroll tax withholding, Unemployment Insurance Registration, and sales tax collections (if applicable).

Payroll Record Keeping
Payroll reporting and record keeping can be very time-consuming and costly, especially if it isn't handled correctly. Also, keep in mind, that almost all employers are required to transmit federal payroll tax deposits electronically. Personnel files should be kept for each employee and include an employee's employment application as well as the following:

Form W-4 is completed by the employee and used to calculate their federal income tax withholding. This form also includes necessary information such as address and social security number.

Form I-9 must be completed by you, the employer, to verify that employees are legally permitted to work in the U.S.

Form of Business Organization: Which Should You Choose?

The decision as to which type of business organization to use when starting a business is a major one. And, it's a decision to be revisited periodically as your business develops. While professional advice is critical in making this decision, it's also important to have a general understanding of the options available. This Financial Guide provides just such an overview.

Businesses fall under one of two federal tax systems:

Taxation of both the entity itself (on the income it earns) and the owners (on dividends or other profit participation the owners receive from the business). This system applies to the business S-corporation-called the "C-corporation" (C-corp) for reasons we'll see shortly and the system of taxing first the corporation and then its owners is called the "corporate double tax."
Pass-through taxation. This type of entity is in itself not taxed; however, each owner is each taxed on their proportionate shares of the entity's income. The leading forms of pass-through entity (further explained below) are:
- Partnerships, of various types.
- S-corporations (S-corps), as distinguished from C-corps.
- Limited liability companies (LLCs).

A sole proprietorship such as John Doe Plumbing or Marcus Welby, M.D. is also considered a pass-through entity even though no "organization" may be involved.

The first major consideration (in this case, a tax consideration) in choosing the form of doing business is whether to choose an entity (such as a C-corp) that has two levels of tax on income or a pass-through entity that has only one level (directly on the owners).

Co-owners and investors in pass through entities may need to have their operating agreements require a certain level of cash distributions in profit years, so they will have funds from which to pay taxes.

Losses are directly deductible by pass-through owners while C-corp losses are deducted only against profits (past or future) and don't pass through to owners.

Business and tax planners therefore typically advise new businesses-those expected to have startup losses-to begin as pass through entities, so the owners can deduct losses currently against their other income, from investments or another business.

The major business consideration (as opposed to tax consideration) in choosing the form of business is limitation of liability, that is, to protect your assets from the claims of business creditors. State law grants limitation of liability to corporations (C and S-corps), LLCs, and partners in certain forms of partnership. Liability for corporations and LLCs is generally limited to your actual or promised investment in the business.

Types of Business Entities

C AND S-CORPS

The S-Corp (so named from a chapter of the tax code) is a tax device created by federal law in 1958. It is a regular corporation with regular limited liability under state law, whose owners elect pass through status for federal tax purposes. That status requires compliance with a number of often constricting rules but, with some exceptions, complying corporations escape federal corporate tax. As regular business S-corporations under state law, they may be taxed under state tax law as regular corporations, or in some other way. Corporations whose owners don't choose to make the federal S-corp election are called C-corps (after another chapter of the tax code).

PARTNERSHIPS

Ordinary partnerships, called "general partnerships," do not have limited liability under state law.

Limited partnerships limit liability for some partners but not others. A limited partnership has both general partners (who manage the business) and limited partners (who, in essence, are passive investors). The liability of limited partners is generally limited to their investments. The liability of general partners is theoretically unlimited, but can be limited in practice where the general partner is an entity, such as a corporation, with limited liability. A limited partner who takes on what state law considers "too much" management participation is treated as a general partner, losing limited liability.

Both general and limited partnerships are treated as pass-through entities under federal tax law, but there are some relatively minor differences in tax treatment between general and limited partners.

A still more recent development, not yet adopted everywhere, is the limited liability partnership (discussed below) which was designed for professional practices.

Other partnership forms are the giant "publicly traded partnerships" (treated as C-corps for tax purposes) and limited liability limited partnerships (adopted in only a few states) which limit the liability of general partners (where two or more) as well as of limited partners.

LIMITED LIABILITY COMPANIES (LLCS)

LLCs have become the most popular business form for new entities, and many existing entities have converted to this form. They exist in some form in every state. They embody limited liability features of corporations and pass-through characteristics of partnerships and S-corps, but are more flexible than S-corps.

For business law purposes, LLC members may be either passive investors or active investor-managers. Unlike with limited partnerships, active management won't affect limitation of liability. For federal tax purposes, LLCs are treated as partnerships (unless they elect otherwise).

Since LLC rules vary from state to state, a characteristic, power or rule in the state where an LLC was created may not apply in some other state where it does business.

Some states do, and some states do not, authorize LLCs with only one member.

Where one becomes the sole surviving LLC member in a state that doesn't allow single member LLCs, consider quickly incorporating (to regain limited liability) and electing S-corp status (to retain pass through treatment).

Choosing the Tax Treatment

Since 1997, the IRS has allowed business owners a previously unheard-of measure of choice as to how the entity will be federally taxed. It allows you to choose between C-corp and pass through treatment (universally called "check-the-box").

A few choices are not allowed. If the entity is incorporated, it must be treated as a corporation (which doesn't preclude an S-corp election if otherwise available). Publicly traded partnerships and publicly traded LLCs must be treated as C-corps.

Special rules apply to foreign entities.

All other forms of partnership may be taxed either as C-corps or as pass-through entities (either as partnerships or, if S-corp status is available and elected, as an S-corp.)

An LLC with two or more members may choose to be taxed as a C-corp, a partnership or an S-corp (if elected). An LLC with a single member (where this is allowed) may choose either to be taxed as a C-corp or an S-corp (if elected) or to have the entity disregarded. In this case, if the LLC is owned by an individual, the individual is taxed directly (and can deduct losses) as with a sole proprietorship.

Typically, partnerships and multimember LLCs choose to be taxed as partnerships while single member LLCs choose to have the entity disregarded. With "check-the-box," the IRS will no longer question your right to combine limited liability with pass through treatment or, if you wish, to waive pass through treatment for an entity otherwise entitled to it (with the exceptions noted above).

Any choice has consequences. For example, if you opted last year for corporate treatment and want partnership treatment this year, you'll be treated as liquidating the corporation, and taxed accordingly (discussed below).

Most-but not all-states that impose corporate taxes follow a taxpayer's federal "check-the-box" choice for state tax purposes. This doesn't necessarily mean that the tax treatment will be the same. For example, a state may accept an LLC's election to be taxed as a partnership and still impose an entity-level tax on the LLC.

An election to be taxed as a certain type of entity for federal tax purposes does not make it such an entity under state business law.

Choosing the Form

Now consider which form will work best for the way you want to run your business and capitalize on its profits or startup losses. "Compared to what?" will be a major consideration so it is necessary to compare a taxable entity (the C-corp) with a pass through entity as well as compare the pass through entity with other types of entities. Tax consequences of changing from one entity to another should also be examined.

A major decision of whether to use a C-corp or some form of pass through C-corp is sometimes necessary from a business standpoint. For example, if interests in the enterprise are to be publicly traded, only the C-corp is appropriate.

For some activities, states may require the corporate form (banks, for example) and S-corp rules may preclude the S-corp form.

From a tax standpoint, while C-corporations present two levels of tax, the first tax (on the corporation) can be at a rate lower than the tax on the owner and the second tax (on the owner) is usually postponed until the owner receives dividends or other assets from the corporation.

Distribution of appreciated assets to the owner, or sale of such assets and distribution of the proceeds, are taxable both to the corporation and then to owners. They are no longer opportunities, as they once were, to avoid two levels of tax.

The tax on the owner may be at reduced capital gains rates. This is the case for appreciated assets distributed in corporate liquidation and, after 2002 and before 2009, it's also usually the case for dividends distributed by ongoing corporations.

Funds can build up in the corporation at a relatively low rate until distributed. However, the eventual tax on the owner, plus the corporate tax, may eat up more of the profits than the single (pass through) tax on the owner does.

A C-corp can minimize corporate tax by paying out all or almost all of its income to owners in the form of compensation and fringe benefits. Assuming these payments are deductible as business expenses, this approximates pass through treatment, since the corporation isn't taxed on what it receives and then deducts; the owner-recipients alone are taxed on this. This arrangement works best in personal service businesses, where full business expense deduction is more likely to be allowed.

The IRS and the courts may limit deduction in other settings, finding owner compensation to be "unreasonable" and partly nondeductible where it reflects a distribution of profits from capital or from the efforts of non-owners.

To summarize, some businesses may find C-corp status necessary for business purposes. But only comparatively rarely will it be a preferable tax choice for a new business.

Choosing the Pass through Entity

If you decide on a pass-through entity, which of the several do you choose? The following is a brief discussion of the rules applicable to each.

S-CORPORATION

Limitation of liability gives S-corps the edge-for business reasons-over general partnerships, sole proprietorships, limited partnerships (as to limited partners whose partnership activity might expose them to unlimited liability), and LLCs in states that don't allow single member LLCs.

Limited liability comes at a cost, however, since states may impose a tax on S-corps not imposed on entities with unlimited liability.

S-corps are subject to a number of significant rules and restrictions:

All owners must agree to S-corp status. This means that one co-owner can exact a price or impose conditions for his or her agreement.
An S-corp can have only one class of stock, which means that income, losses and other tax attributes are allotted among stockholders in proportion to stock ownership.
The number of co-owners is limited (to 100, with qualifications, counting members of the same family as one stockholder).
There are limitations as to who can be co-owners (for example, a nonresident alien cannot) and as to the kind of business that can qualify for as an S-corp (for example, an insurance company cannot).

Failure to meet, or ceasing to meet, these requirements means loss of S status and conversion to C-corp status and C-corp taxes.

These limits and restrictions will be contrasted, below, with the more liberal tax rules for partnerships and LLCs.

S-corps are often preferred because they are simple to operate. However, they are not suitable for many businesses. The much wider range of options for partnerships and LLCs introduces tax planning complexity which may be more than many or most small businesses can effectively use or understand.

LLCS VS. S-CORPORATIONS

LLCs and S-corps share the same business advantage-limitation of liability. S-corps are a bit better understood by the business community because LLCs are new and vary from state to state.

The tax advantages of LLCs, as compared to S-corps, are the tax advantages of partnerships. All the points below where LLCs outscore S-corps arise because LLCs can choose partnership tax status.

LLC can to some degree allocate tax attributes, like income or certain kinds of income, depreciation deductions, etc., disproportionately among members to suit their individual tax situations (unlike S-corps limited by the effect of the single-class-of-stock rule).
S-corp owners can deduct startup or operating losses up to their investment plus any debt that the S-corp owes them. LLC members can do the same but can deduct further, up to their share of the debt the LLC owes others.
Adding co-owners after the entity is formed is easier with LLCs. An outsider's transfer of appreciated property for an LLC membership interest is tax-free. A comparable transfer to an S-corp is taxable unless the new co-owner-transferor (or group of transferors) owns more than 80 percent of the S-corp after the transfer.
Complex tax adjustments ("basis adjustments") can be made by the LLC when LLC interests change hands or LLC property is distributed. These adjustments, unavailable with S-corps, can have the effect of reducing amounts taxable to certain LLC members.
Distribution of appreciated LLC property to LLC members is not taxable to the LLC. Comparable S-corp distributions to stockholders are taxable to the S-corp.

Depending on circumstances, S-corp status can be preferable to LLC status when the owners leave the business. The LLC is not taxed when appreciated property is distributed to its members, which is a standard form of business liquidation. But the members would be taxed on distributions exceeding the "basis" (broadly, the amount they invested) of their interests. S-corp owners, on the other hand, can arrange a tax-free exit, via a corporate reorganization in which they transfer their S-corp stock for stock in a corporate acquirer. (Later sale of stock in the acquirer would be taxable.)

Depending on state law, S-corps, and LLCs may be taxed at the entity level in states where they do business.

LLCS VS. PARTNERSHIPS

LLCs, with their limited liability for all members, have the edge on general and limited partnerships from a business standpoint. While the federal tax treatment of partners and LLC members is basically the same, there are occasional special tax rules for limited partners (especially self-employment tax rules).

It is not clear whether these special tax rules extend to non-manager LLC members.

LLCs are more likely than partnerships to be subject to a state tax.

LLCS VS. PROPRIETORSHIPS

LLCs, with their limited liability, are preferable, where available, for sole proprietors from a business standpoint. Where the sole proprietor so elects, the LLC is ignored and the proprietor is taxed directly under federal tax rules as if no separate entity existed.

Some states do-and some do not-ignore the LLC entity for state tax purposes.

Professional Practice Entities

Professional practices (such as doctors and lawyers) have a number of options as to their form of business entity.

PROFESSIONAL CORPORATIONS (P.C.S)

These provide limited liability for general business debts but not for the professional's own malpractice and, in some states, no limited liability for malpractice of fellow practitioners in the firm. They may be C-corps or S-corps. Unlike many other C-corps, a P.C. C-corp can use the cash method of accounting.

LLCS

Most states allow professionals to practice in LLCs, either under a general LLC law or a special Professional Limited Liability Company law (PLLC). In either case, liability is not limited for the professional's own malpractice but, depending on the state, may be limited for the malpractice of other firm members and for other firm debts. These LLCs share the comparative advantages (and minor disadvantages) of other LLCs.

LIMITED LIABILITY PARTNERSHIPS (LLPS)

LLPs are general partnerships whose general partners have limited liability. They are designed for professional practices. A partner is liable for his or her own malpractice but not for a partner's malpractice or, depending on state law, other acts of partners. Typically they are required by state law to maintain malpractice insurance, and are obliged to pay a per-partner fee to keep their status, but are not subject to entity-level tax.

SOLE PROPRIETORS AND PARTNERS

Many practitioners choose to practice as sole proprietors or partners, rather than in a limited liability entity. They reason that their main exposure to liability is to malpractice claims, and the entity won't protect against claims for their own malpractice (or, in some states, for a partner's malpractice). They therefore, choose to rely on malpractice insurance (which practitioners in limited liability entities may have too).

Sole proprietorships and partnerships are less likely than limited liability entities to be subject to state entity level tax.

Other Pros and Cons of C-Corps

A C-corp can be preferable to pass through entities as to fringe benefits. As employees, owner-employees of a C-corp qualify for certain employee fringe benefits. On the other hand, self-employed persons (partners, LLC members, sole proprietors, and more than 2 percent stockholders in S-corps) don't qualify.

Health insurance can be wholly tax-free to C-corp owner-employees (through full deduction by the C-corp and full tax exemption for the owner-employee). However, it is only partly tax-free to the self-employed, because of their limited tax deduction for this item.

Another modest advantage of the C-corp is that they are less likely to be subject to passive loss deduction limitations. These limit the opportunity to deduct losses from activities the taxpayer doesn't "materially participate" in, against income from investments or other businesses. Typically, limited partners have been the group most subject to passive loss limitations.

Another tax disadvantage of C-corp status is its limited ability to report for tax purposes on the cash method of accounting, which generally defers tax as compared to the accrual method.

Further Insights on S-Corps

A qualifying S-corp, generally nontaxable, can be subjected to C-corp taxation on certain items without losing S status for other items. This happens when a C-corp converts to an S-corp and carries over appreciated property later sold at a gain. The S-corp pays a corporate tax on the gain, which is then taxed to stockholders (reduced by the corporate tax). Because S-corps are intended to be operating companies rather than holding companies, this also happens when the S-corp has "excessive" passive investment-type income (interest, dividends, and the like, in excess of 25 percent of gross receipts). Here the excess is subject to corporate tax and is then taxed to stockholders (minus the corporate tax).

Some see S-corps as a way to reduce employment taxes. For example, one earning $120,000 in a sole proprietorship might convert to an S-corp and take $70,000 in pay and $50,000 in dividends. Income taxes are unchanged by this but, it's reasoned, $50,000 now received as dividends escapes employment tax (the $120,000 of self-employment earnings was subject to both retirement and Medicare tax up to $102,000 for 2008 and $97,500 for 2007 and Medicare tax above that). In abuse situations, such as where little or no wages were paid, IRS has treated the dividends as pay subject to employment taxes on the owner-employees and on the S-corp employer. But in cases where substantial wages were paid, along with substantial dividends, IRS has not objected.

Changing To Another Entity

The many advantages of LLCs, for both business and tax reasons, have encouraged many business owners to convert, or consider converting, to the LLC form. But other changes of entity may suit particular situations-for example, general partnership to LLP (for business reasons) or C-corp to S-corp (for tax reasons). For tax purposes, a change of entity via a check-the-box decision is treated for tax purposes as an actual change of the entity (whatever may happen under state business law).

Here, briefly and in broad outline, is what happens for federal tax purposes when entity status is changed (or treated as changed under-check-the-box). How these apply in your own situation must be reviewed in depth with a tax/business advisor.

C-corp converts to S-corp or vice versa. No tax on the conversion. Pass through treatment applies while it is an S-corp.
C- corp or S-corp converts to LLC, partnership or sole proprietorship. Generally, a tax on the liquidation of the corporation, with pass through treatment for the new entity (in modified form in the case of a liquidating S-corp).
Partnership converts to LLC or vice versa; sole proprietorship converts to single member LLC or vice versa. No tax on conversion-pass through treatment continues.
LLC, partnership or sole proprietorship converts to C or S-corp. Generally, no tax on conversion. Pass through treatment (in modified form) for S-corp income.

Advantages of Incorporating

Why Incorporate?

All legal and tax professionals agree, if your business is not incorporated you may be throwing away thousands of dollars in tax savings and deductions.

In addition, all of your personal assets such as your home, cars, boats, savings and investments are at risk and could be used to satisfy any law suits, debt or liability incurred by the business. Forming a Corporation can provide the protection and tax savings needed to give you peace of mind and make your business even more successful and profitable.

Some Benefits Include:

Liability Protection: Properly forming and maintaining a corporation will provide personal liability protection to the owners or shareholders of the corporation for any debt or liability incurred by the business. Personal liability of the shareholders is normally limited to the amount of money invested in the corporation.

Tax Advantages: Another important benefit is that a corporation can be structured many ways to provide substantial tax savings. You can minimize self-employment taxes and increase the number of allowable deductions lowering the taxes you pay on the income of the business. Many corporations structure retirement and tax deferred savings plans for their owners and employees which can provide even greater tax savings.

Raising Capital: Sale of stock for the purposes of raising capital is often more attractive to investors than other forms of equity sales. A corporation can also issue Corporate Bonds to raise capital for expenditures without compromising the ownership of the business.

Advantages of Limited Liability Companies

A Limited Liability Company, or LLC, is not a corporation, although it offers many of the same advantages. An LLC is best described as a combination of a corporation and a partnership. LLCs offer the limited liability of a corporation while allowing more flexibility in managing the business and organization.

An LLC does not pay any income tax itself. It's a "flow through" entity that allows profits and losses to flow through to the tax returns of the individual members, avoiding the double taxation of C corporations.

While setting up an LLC can be more difficult than creating a partnership (or sole proprietorship), running one is significantly easier than running a corporation. Here are the main features of an LLC:

Limited Personal Liability

Like shareholders of a corporation, all LLC owners are protected from personal liability for business debts and claims. This means that if the business itself can't pay a creditor -- such as a supplier, a lender, or a landlord -- the creditor cannot legally come after any LLC member's house, car, or other personal possessions. Because only LLC assets are used to pay off business debts, LLC owners stand to lose only the money that they've invested in the LLC. This feature is often called "limited liability."

While LLC owners enjoy limited personal liability for many of their business transactions, it is important to realize that this protection is not absolute.

LLC Taxes

Unlike a corporation, an LLC is not considered separate from its owners for tax purposes. Instead, it is what the IRS calls a "pass-through entity," like a partnership or sole proprietorship. This means that business income passes through the business to the LLC members, who report their share of profits -- or losses -- on their individual income tax returns. Each LLC member must make quarterly estimated tax payments to the IRS.

While an LLC itself doesn't pay taxes, co-owned LLCs must file Form 1065, an informational return, with the IRS each year. This form, the same one that a partnership files, sets out each LLC member's share of the LLC's profits (or losses), which the IRS reviews to make sure the LLC members are correctly reporting their income.

LLC Management

The owners of most small LLCs participate equally in the management of their business. This arrangement is called "member management."

The alternative management structure -- somewhat awkwardly called "manager management" -- means that you designate one or more owners (or even an outsider) to take responsibility for managing the LLC. The non-managing owners (sometimes family members who have invested in the company) simply sit back and share in LLC profits. In a manager-managed LLC, only the named managers get to vote on management decisions and act as agents of the LLC.

Business Plans: How To Prepare An Effective One

One of the major steps in starting a new business or getting financing is to prepare a business plan. This Financial Guide provides you with the basic information that you need to include in your business plan.

A well thought out business plan is a valuable tool for any new company or one that is seeking financing. It also provides milestones to gauge your success and the process of developing a business plan helps you think through some important issues that you may not have considered yet.

Before you begin preparing your business plan, take the time to explore and evaluate your business (and personal) goals. You can then use this information to build a comprehensive and effective business plan that will help you reach these goals.

The purpose of this Financial Guide is to provide a basic introduction to preparing a business plan, rather than specific details to be incorporated into the plan since those depend on your specific goals and the nature of the specific business. Professional guidance is recommended when it comes to the actual preparation of the plan, particularly for the financial components.

If You're Starting a New Business

If the reason for preparing the business plan is that you are starting a new business, you should first examine your reasons for wanting to go into business. Some of the most common reasons for starting a business are:

You want to be your own boss.
You want financial independence.
You want creative freedom.
You want to fully use your skills and knowledge.

Next, you need to determine is what business is "right for you." Ask yourself these questions:

What do I like to do with my time?
What technical skills have I learned or developed?
What do others say I am good at?
Will I have the support of my family?
How much time do I have to run a successful business?
Do I have any hobbies or interests that are marketable?

Then, you should identify the niche your business will fill. Start by conducting the research necessary to answer questions like these:

What business am I interested in starting?
What services or products will I sell?
Is my idea practical, and will it fill a need?
What is my competition?
What is my business's advantage over exiting firms?
Can I deliver a better quality service?
Can I create a demand for my business?

You will also need to consider several options for getting your business off the ground:

Do you want to purchase an existing business or start one from scratch?
Are there franchises available for this type of business? If so, does a franchise make sense for you?

The final step before developing your plan is the pre-business checklist. You should answer these questions:

What skills and experience do I bring to the business?
What will be my legal structure?
How will my company's business records be maintained?
What insurance coverage will be needed?
What equipment or supplies will I need?
How will I compensate myself?
What financing will I need?
Where will my business be located?
What will I name my business?
Your answers will help you create a focused, well-researched business plan, and that should serve as a blueprint. It should detail how the business will be operated, managed, and capitalized.

Based on your initial answers to the questions listed above, the next step is to formulate a business plan. A business plan sets forth the mission or purpose of the business venture, describes the product or services to be provided, presents an analysis of the market state, outlines goals that the business has and how it intends to achieve those goals, and last but not least, includes a formal financial plan.

In most cases, a business plan is necessary to obtain external capital for your business, but it also serves a number of other purposes. It forces you to critically evaluate the feasibility of your business and whether it will provide a return which is appropriate to the time and money you will invest in the business. The plan provides a benchmark against which you can evaluate the success of your business in later years.

What the Business Plan Should Include

Whether you are starting a new business, seeking financing for an existing business, attempting to analyze a new market, or wanting to define and evaluate future growth, the following outline of a typical business plan can serve as a guide. However, you should adapt it to your specific business.

INTRODUCTION AND MISSION STATEMENT

In the introductory section of your business plan, you should:

Give a detailed description of the business and its goals.
Discuss the ownership of the business and its goals.
List the skills and experience you bring to the business.
Discuss the advantages you and your business have over your competition.

PRODUCTS, SERVICES AND MARKETS

In this section, you must describe your products and/or services and:

Identify the customer demand for your product/service.
Describe how your product/service is unique.
Identify your market, as well as its size and locations.
Explain how your product/service will be advertised and marketed.
Explain the pricing strategy.

FINANCIAL MANAGEMENT

In this section, you should:

Explain the source and amount of initial equity capital.
Develop a monthly operating budget for the first year.
Develop an expected (return on investment), or ROI, and a monthly cash flow for the first year.
Provide projected income statements and balance sheets for a two-year period.
Discuss your break-even point.
Explain your personal balance sheet and method of compensation.
Discuss who will maintain your accounting records and how they will be kept.
Provide "what if" statements that address alternative approaches to any problem that may develop.

OPERATIONS

In this section it is important to:

Explain how the business will be managed on a day-to-day basis.
Discuss hiring and personnel procedures.
Discuss insurance, lease or rent agreements, and issues pertinent to your business.
Account for the equipment necessary to produce your product or services.
Account for production and delivery of products and services.

CONCLUDING STATEMENT

In the ending statement, you summarize your business goals, objectives, and express your commitment to the success of your business.

Once you have completed your business plan, review it with a friend or business associate. When you feel comfortable with the content and structure, make an appointment to review and discuss it with your banker. The business plan is a flexible document that should change as your business grows.

Raising Capital: How To Get Money For a Small Business

In addition to drive, ambition and a great deal of planning, starting and expanding a small business generally requires capital. Capital may come from family, friends, lenders or others. This Financial Guide provides an overview of how to get the capital you need to start or grow your business.

One key to successful business start-up and expansion is your ability to obtain and secure appropriate financing. Raising capital is one of the most basic of all business activities. But as many new entrepreneurs quickly discover, raising capital may not be easy. In fact, it can be a complex and frustrating process and professional guidance should be considered, especially with regard to financial information needed for the loan proposal. This Financial Guide focuses on ways a small business can raise money and explains how to prepare a loan proposal.

Finding Sources of Money

There are several sources to consider when looking for financing. It is important to explore all of your options before making a decision. These include:

Personal Savings. The primary source of capital for most new businesses comes from savings and other forms of personal resources. While credit cards are often used to finance business needs, there may be better options available, even for very small loans.
Friends and Relatives. Many entrepreneurs look to private sources such as friends and family when starting out in a business venture. Often, money is loaned interest free or at a low interest rate, which can be beneficial when getting started.
Banks and Credit Unions. The most common source of funding, banks and credit unions, will provide a loan if you can show that your business proposal is sound.
Venture Capital Firms. These firms help expanding companies grow in exchange for equity or partial ownership.

Borrowing Money

It is often said that small business people have a difficult time borrowing money, but this is not necessarily true. Banks make money by lending money; however, the inexperience of many small business owners in financial matters often prompts banks to deny loan requests.

Requesting a loan when you are not properly prepared sends a signal to your lender. That message is: "High Risk!" To be successful in obtaining a loan, you must be prepared and organized. You must know exactly how much money you need, why you need it, and how you will pay it back. You must be able to convince your lender that you are a good credit risk.

The bank official who reviews the loan request is focused on repayment. Most loan officers request a copy of your business credit report to determine your ability to repay. The lending officer will consider the following issues while using the information you provided and the credit report:

Have you invested at least 25% or 50% of savings or personal equity into the business for the loan you are requesting? (Keep in mind that 100% of your business will not be financed by an investor.)
Do your work history, your credit report and letters of recommendation show a healthy record of credit worthiness? This is a key factor.
Do you have the training and experience necessary to operate a successful business?
Do your loan proposal and business plan document your knowledge of and dedication to the success of the business?
Is the cash flow of the business sufficient to make the monthly payments on the requested loan?

Terms of loans may vary from lender to lender, but there are two basic types of loans: short-term and long-term.

A short-term loan generally has a maturity date of one year. These include working capital loans, accounts receivable loans, and lines of credit.

Long-term loans generally mature between one and seven years. Real estate and equipment loans are also considered long-term loans but may have a maturity date of up to 25 years. Long-term loans are used for major business expenses such as purchasing real estate and facilities, construction, durable equipment, furniture and fixtures, vehicles, etc.

How to Write a Loan Proposal

Approval of your loan request depends on how well you present yourself, your business and your financial needs to a lender. Remember, lenders want to make loans, but they must make loans they know will be repaid. The best way to improve your chances of obtaining a loan is to prepare a written proposal.

A good loan proposal will contain the following key elements:

General Information

Business name, names of principals, social security number for each principal, and the business address.
Purpose of the loan: exactly what the loan will be used for and why it is needed.
Amount required: the exact amount you need to achieve your purpose.

Business Description

History and nature of the business: details of what kind of business it is, its age, number of employees and current business assets.
Ownership structure: details on your company's legal structure.

Management Profile

Develop a short statement on each principal in your business; provide background, education, experience, skills, and accomplishments.

Market Information

Clearly define your company's products as well as your markets. Identify your competition and explain how your business competes in the marketplace. Profile your customers and explain how your business can satisfy their needs.

Financial Information

Financial statements: balance sheets and income statements for the past three years. If you are just starting out, provide projected balance sheets and income statements.
Personal financial statements on yourself and other principal owners of the business.
Collateral you would be willing to pledge as security for the loan.

How Your Loan Request Will Be Reviewed

When reviewing a loan request, the bank official is primarily concerned about repayment. To help determine this ability, many loan officers will order a copy of your business credit report from a credit-reporting agency. Therefore, you should work with these agencies to help them present an accurate picture of your business. Using the credit report and the information you have provided, the lending officer will consider the following issues:

Have you invested savings or personal equity in your business totaling at least 25 to 50 percent of the loan you are requesting? (Remember, a lender or investor will not finance 100 percent of your business.)
Do you have a sound record of credit-worthiness as indicated by your credit report, work history and letters of recommendation? This is very important.
Do you have sufficient experience and training to operate a successful business?
Have you prepared a loan proposal and business plan that demonstrate your understanding of and commitment to the success of the business?
Does the business have sufficient cash flow to make the monthly payments on the amount of the loan request?

SBA Programs

The SBA offers a variety of financing options for small businesses. The SBA's assistance usually is in the form of loan guarantees; i.e., it guarantees loans made by banks and other private lenders to small business clients. Generally, the SBA can guarantee up to $3.75 million or 75 percent of the total loan value. The average size of an SBA-guaranteed loan is $368,737.

Whether you are looking for a long-term loan for machinery and equipment, a general working capital loan, a revolving line of credit, or a "microloan," the SBA has a financing program to fit your needs.

The SBA guaranteed more than 50,000 loans totaling $19.2 billion to America's small businesses small businesses in fiscal year 2014 that otherwise would not have had such access to capital. It also provides assistance to small businesses and aspiring entrepreneurs through its Small Business Development Centers located throughout the United States and its territories.

The 7(a) Loan Guaranty Program, financing that can satisfy the requirements of almost any new or growing small business. The SBA offers a number of specialized loan and lender delivery programs.

7(a) Loan and 7(m) Microloan Programs
CAPLines Program
Export Working Capital and International Trade Loans
Disaster Assistance Loans
SBA Express
Certified Development Company (CDC) 504 Loan Program

THE 7(A) LOAN GUARANTY PROGRAM

The 7(a) Loan Guaranty Program is the SBA's primary loan program. The SBA reduces risk to lenders by guaranteeing major portions of loans made to small businesses. This enables the lenders to provide financing to small businesses when funding is otherwise unavailable on reasonable terms.

The eligibility requirements and credit criteria of the program are very broad in order to accommodate a wide range of financing needs.

When a small business applies to a lending institution for a loan, the lender reviews the application and decides if it merits a loan on its own or if it requires additional support in the form of an SBA guaranty. SBA backing on the loan is then requested by the lender. In guaranteeing the loan, the SBA assures the lender that, in the event, the borrower does not repay the loan, the government will reimburse the lender for its loss. By providing this guaranty, the SBA helps tens of thousands of small businesses every year get financing they would not otherwise obtain.

To qualify for an SBA guaranty, a small business must meet the 7(a) criteria and the lender must certify that it could not provide funding on reasonable terms except with an SBA guaranty. SBA can guarantee as much as 85 percent on loans of up to $150,000 and 75 percent on loans of more than $150,000. SBA's maximum exposure amount is $3,750,000. Thus, if a business receives an SBA-guaranteed loan for $5 million, the maximum guarantee to the lender will be $3,750,000 or 75 percent. SBA Express loans have a maximum guarantee set at 50 percent.

How The Procedure Works. You submit a loan application to a lender for initial review. If the lender approves the loan subject to an SBA guaranty, a copy of the application and a credit analysis are forwarded by the lender to the nearest SBA office. After SBA approval, the lending institution closes the loan and disburses the funds; you make monthly loan payments directly to the lender. As with any loan, you are responsible for repaying the full amount of the loan. There are no balloon payments, prepayment penalties, application fees or points permitted with 7(a) loans. Repayment plans may be tailored to each individual business.

Permissible Use of Proceeds. You can use a 7(a) loan to expand or renovate facilities; purchase machinery, equipment, fixtures and leasehold improvements; finance receivables and augment working capital; refinance existing debt (with compelling reason); finance seasonal lines of credit; construct commercial buildings; and/or purchase land or buildings.

Terms. The SBA's loan programs are generally intended to encourage longer term small-business financing. However, actual loan maturities are based on the ability to repay, the purpose of the loan proceeds and the useful life of the assets financed. However, maximum loan maturities have been established: 25 years for real estate, up to 10 years for equipment (depending on the useful life of the equipment) and generally up to seven years for working capital. Short-term loans and revolving lines of credit are also available through the SBA to help small businesses meet their short-term and cyclical working capital needs.

Interest Rates. Both fixed and variable interest rate structures are available. The maximum rate is composed of two parts, a base rate, and an allowable spread. There are three acceptable base rates (A prime rate published in a daily national newspaper, London Interbank One Month Prime plus 3 percent and an SBA Peg Rate).

Lenders are allowed to add an additional spread to the base rate to arrive at the final rate. For loans with maturities of shorter than seven years, the maximum spread will be no more than 2.25 percent. For loans with maturities of seven years or more, the maximum spread will be 2.75 percent. The spread on loans of less than $50,000 and loans processed through Express procedures have higher maximums.

Fees. Loans guaranteed by the SBA are assessed a guarantee fee. This fee is based on the loan's maturity and the dollar amount guaranteed, not the total loan amount. The lender initially pays the guaranty fee and they have the option to pass that expense on to the borrower at closing. The funds to reimburse the lender can be included in the overall loan proceeds.

On loans under $150,000 made after October 1, 2013, the fees will be set at zero percent. On any loan greater than $150,000 with a maturity of one year or shorter, the fee is 0.25 percent of the guaranteed portion of the loan. On loans with maturities of more than one year, the normal fee is 3 percent of the SBA-guaranteed portion on loans of $150,000 to $700,000, and 3.5 percent on loans of more than $700,000. There is also an additional fee of 0.25 percent on any guaranteed portion of more than $1 million.

Collateral. The SBA expects every 7(a) loan to be fully secured, but the SBA will not decline a request to guarantee a loan if the only unfavorable factor is insufficient collateral, provided all available collateral is offered. This means every SBA loan is to be secured by all available assets (both business and personal) until the recovery value equals the loan amount or until all assets have been pledged (to the extent that they are reasonably available). Personal guarantees are required from all owners of 20 percent or more of the equity of the business, and lenders can require personal guarantees of owners with less than 20 percent ownership. Liens on personal assets of the principals may be required.

Eligibility. SBA provides loans to businesses; so the requirements of eligibility are based on specific aspects of the business and its principals. As such, the key factors of eligibility are based on what the business does to receive its income, the character of its ownership and where the business operates.

SBA generally does not specify what businesses are eligible. Rather, the agency outlines what businesses are not eligible. However, there are some universally applicable requirements. To be eligible for assistance, businesses must:

Operate for profit
Be small, as defined by SBA
Be engaged in, or propose to do business in, the United States or its possessions
Have reasonable invested equity
Use alternative financial resources, including personal assets, before seeking financial assistance
Be able to demonstrate a need for the loan proceeds
Use the funds for a sound business purpose
Not be delinquent on any existing debt obligations to the U.S. government

Ineligible Businesses. A business must be engaged in an activity SBA determines as acceptable for financial assistance from a federal provider. For a list of businesses types are not eligible for assistance because of the activities they conduct visit the SBA website.

What You Need to Take to the Lender. Once you have decided to apply for a loan guaranteed by the SBA, you will need to collect the appropriate documents for your application. The SBA does not provide direct loans. The process starts with your local lender, working within SBA guidelines.

Use the checklist below to ensure you have everything the lender will ask for to complete your application. Once your loan package is complete, your lender will submit it to the SBA.

In addition to the standard loan guaranty, the SBA has targeted programs under 7(a) that are designed to meet specialized needs. Unless otherwise indicated, they are governed by the same rules, regulations, interest rates, fees, etc. as the regular 7(a) loan guaranty.

MICROLOANS

The MicroLoan Program provides small loans up to $50,000. Under this program, the SBA makes funds available to nonprofit intermediaries; these, in turn, make the loans. The average loan size is $13,000.

Use of Proceeds. Microloans can be used for working capital, inventory or supplies, furniture or fixtures, and machinery or equipment. Proceeds from an SBA microloan cannot be used to pay existing debts or to purchase real estate.

Eligibility. Each nonprofit lending organization will have its own requirements but generally will require some type of collateral. In most cases, the personal guaranties of the business owners are also required.

THE CAPLINES PROGRAM

is the program under which the SBA helps small businesses meet their short-term and cyclical working-capital needs. The maximum CAPLines loan is $5 million.

Four loan programs for small businesses are available under CAPLines:

Use of Proceeds. CAPLines may be used to:

Finance seasonal working-capital needs
Finance direct costs needed to perform construction, service and supply contracts, subcontracts, or purchase orders
Finance direct costs associated with commercial and residential building construction
Provide general working capital lines of credit that have specific requirements for repayment

THE EXPORT WORKING CAPITAL PROGRAM

The Export Working Capital (EWCP) Loan provides advances for up to $5 million to fund export transactions from purchase order to collections. This loan has a low guaranty fee and quick processing time.

Contact your local lender to see if they are approved to underwrite EWCP loans. You can apply for EWCP loans before finalizing an export sale or contract.

With an approved EWCP loan in place, you have greater flexibility in negotiating export payment terms. However, disbursements can only be made against firm purchase orders from a foreign buyer or to support foreign accounts receivable.

Use of Proceeds. Proceeds may be used for:

Financing for suppliers, inventory, WIP, or production of export goods or services
Working capital to support foreign accounts receivable during long payment cycles
Financing for standby letters of credit used as bid or performance bonds or as down payment guarantees

THE INTERNATIONAL TRADE LOAN PROGRAM

The International Trade Loan offers loans up to $5 million for fixed assets and working capital for businesses that plan to start or continue exporting.

Eligibility. International Trade Loans are available if your small business is in a position to expand existing export markets or develop new export markets. These loans are also available if your small business has been adversely affected by import competition and can demonstrate that the loan proceeds will improve your competitive position. Contact your existing lender to determine if they are an SBA-approved 7(a) lender. If so, they are authorized to underwrite an International Trade Loan. SBA will work with your lender to determine borrower eligibility.

Use of Proceeds. The borrower may use loan proceeds to acquire, construct, renovate, modernize, improve, or expand facilities and equipment to be used in the United States to produce goods or service involved in international trade and to develop and penetrate foreign markets. Funds also may be used to refinance an existing loan.

DISASTER ASSISTANCE LOANS PROGRAM

SBA provides low-interest Disaster Assistance Loans to businesses of all sizes, private non-profit organizations, homeowners, and renters. SBA disaster loans can be used to repair or replace the following items damaged or destroyed in a declared disaster: real estate, personal property, machinery and equipment, and inventory and business assets.

Types of loans include:

Physical Damage loans - These loans to cover repairs and replacement of physical assets damaged in a declared disaster. Homeowners, renters, nonprofit organizations, and businesses of all sizes are eligible to apply for physical disaster assistance. There are two types of Physical Damage loans: Home and personal property loans and Business physical disaster loans.
Home and personal property loans - If you live in a declared disaster area and have experienced damage to your home or personal property, you may be eligible for financial assistance from SBA — even if you do not own a business. As a homeowner, renter or personal property owner, you may apply to SBA for a loan to help you recover from a disaster.
Homeowners may apply for up to $200,000 to replace or repair their primary residence. The loans may not be used to upgrade homes or make additions unless required by local building code. If you make improvements that help prevent the risk of future property damage caused by a similar disaster, you may be eligible for up to a 20 percent loan amount increase above the real estate damage, as verified by the SBA.
Renters and homeowners may borrow up to $40,000 to replace or repair personal property such as clothing, furniture, cars, and appliances damaged or destroyed in a disaster.
Business physical disaster - The SBA Business Physical Disaster Loan covers disaster losses not fully covered by insurance. If you own a business located in a declared disaster area that has experienced damage, you may be eligible for financial assistance from SBA. Businesses of any size and most private non-profit organizations may apply to SBA for a loan to recover after a disaster. The SBA Business Physical Disaster Loan covers disaster losses not fully covered by insurance.
SBA makes physical disaster loans of up to $2 million to qualified businesses or most private nonprofit organizations in a declared disaster area that have experienced damage to your business. Businesses of any size and most private nonprofit organizations may apply to the SBA for a loan to recover after a disaster. These loan proceeds may be used for the repair or replacement of real property, machinery, equipment, fixtures, inventory, and leasehold improvements.
Economic Injury Disaster Loans - Small business, small agricultural cooperative, or most private nonprofit organizations. The SBA can provide up to $2 million (maximum term of 30 years, maximum interest rate of 4 percent) to help meet financial obligations and operating expenses that could have been met had the disaster not occurred. Your loan amount will be based on your actual economic injury and your company's financial needs, regardless of whether the business suffered any property damage.

Military Reservists Economic Injury Loans (MREIDL) - Provides funds (up to $2 million, maximum 30 years, maximum interest rate of 4 percent) to help an eligible small business meet its ordinary and necessary operating expenses that it could have met, but is unable to, because an essential employee was called-up to active duty in his or her role as a military reservist.
The amount of each loan is limited to the actual economic injury as calculated by SBA. The amount is also limited by business interruption insurance and whether the business and/or its owners have sufficient funds to operate. If a business is a major source of employment, SBA has authority to waive the $2 million statutory limit.

Mitigation Assistance loans - These loans provide funding to cover small business operating expenses after a declared disaster. You can protect your home or business and reduce property damage with the help of SBA. If you've been affected by a disaster, you can rebuild a stronger business by increasing your SBA disaster assistance loan up to 20% of your verified physical damage to make mitigation improvements. Borrowers generally have two years after their loan approval to request an increase for higher rebuilding costs, code-required upgrades or mitigation. Projects covered by this type of loan include improvements related to flooding, wildfires, wind, and earthquakes.

SBA EXPRESS LOAN PROGRAM

The SBA Express Loan Program features an accelerated turnaround time of 36 hours for SBA review in response to an application. Capital is available to businesses seeking loans of up to $350,000 without requiring the lender to use the SBA process. Lenders use their existing documentation and procedures to make and service loans plus SBA Form 1919. The SBA guarantees up to 50 percent of an SBA Express loan. Loans made under this program generally follow SBA's standards for the 7(a) Loan Program. Your local SBA office can provide you with a list of SBA Express lenders.

Lenders and borrowers can negotiate the interest rate. Rates can be fixed or variable and are tied to the prime rate (as published in The Wall Street Journal), LIBOR, or the optional peg rate (published quarterly in the Federal Register) and may be fixed or variable, but they may not exceed SBA maximums: lenders may charge up to 6.5 percent over the base rate for loans of $50,000 or less, and up to 4.5 percent over for loans over $50,000. Lenders are not required to take collateral for loans up to $25,000; may use their existing collateral policy for loans over $25,000 up to $350,000. For revolving credits, small business owners may take up to seven years after the first disbursement to repay the loan.

THE CERTIFIED DEVELOPMENT COMPANY (504) LOAN PROGRAM

The Certified Development Company (504) Loan Program enables a nonprofit corporation (Certified Development Company or CDC) to contribute to the economic development of its community. CDCs are located nationwide and operate primarily in their state of incorporation (Area of Operation). CDCs work with SBA and private-sector lenders to provide financing to small businesses through the CDC/504 Loan Program, which provides growing businesses with long-term, fixed-rate financing for major fixed assets, such as land and buildings.

The Role of CDCs is to market the 504 program; package and process 504 loan applications; close and service 504 loans in its Area of Operation. A portfolio must be diversified by business sector. CDCs should also provide small businesses with financial and technical assistance, or help small businesses obtain assistance from other sources, including preparing, closing, and servicing loans under contract with lenders in SBA's 7(a) Loan Program. Loan amounts to the borrower equal to the value of all or part of the borrower's contribution to a project in the form of cash or land, including site improvements.

Newly certified CDCs will be on probation for a period of two years.

Eligibility. A CDC must:

Be a nonprofit corporation in good standing.
Have at least 25 members representing government organizations responsible for economic development in the Area of Operation and acceptable to SBA; Financial institutions that provide commercial long-term fixed asset financing in the Area of Operation; Community organizations dedicated to economic development in the Area of Operation, such as chambers of commerce, foundations, trade associations, colleges, or universities; Businesses in the Area of Operation; and Additional membership requirements are provided in 13 CFR 120.822.
Have a Board of Directors chosen from the membership, and representing, at least, three of the four membership groups. Additional Board of Directors requirements are provided in 13 CFR 120.823.
Have full-time professional management, including an Executive Director (or the equivalent) managing daily operations and a full-time professional staff qualified by training and experience to market the 504 Program; package and process loan applications; close loans; service, and, if authorized by SBA, liquidate the loan portfolio; and sustain a sufficient level of service and activity in the Area of Operation. CDCs may obtain, under written contract and with prior approval from SBA, marketing, packaging, processing, closing, servicing or liquidation services by qualified individuals and entities who live or do business in the CDC's Area of Operation.
Meet a minimum level of lending activity, providing, at least, two 504 loan approvals each full fiscal year. A CDC's portfolio must reflect an average of one job opportunity per $65,000 of 504 loan funding.

SMALL BUSINESS INVESTMENT COMPANY PROGRAM

There is a variety of alternatives to bank financing for small businesses, especially business start-ups. The Small Business Investment Company Program fills the gap between the availability of venture capital and the needs of small businesses that are either starting or growing. Licensed and regulated by the SBA, SBICs are privately owned and managed investment firms that make capital available to small businesses through investments or loans. They use their own funds plus funds obtained at favorable rates with SBA guarantees and/or by selling their preferred stock to the SBA.

SBICs are for-profit firms whose incentive is to share in the success of a small business. In addition to equity capital and long-term loans, SBICs provide debt-equity investments and management assistance.

The Small Business Investment Company (SBIC) Program, administered by the U.S. Small Business Administration (SBA), is a multi-billion investment program created in 1958 to bridge the gap between entrepreneurs' need for capital and traditional sources of financing. Over the past five years, the program has channeled $17 billion of capital to more than 5,900 U.S. small businesses representing a variety of industries across the country. These results were achieved through a proven public-private partnership that leverages the full faith and credit of the U.S. government to increase the pool of investment capital available to small businesses.

The SBIC Program provides funding to all types of manufacturing and service industries. Some investment companies specialize in certain fields while others seek out small businesses with new products or services because of the strong growth potential. Most, however, consider a wide variety of investment opportunities.

SURETY BOND PROGRAM

By law, prime contractors to the federal government must post surety bonds on federal construction projects valued at $150,000 or more. Many state, county, city and private-sector projects require bonding as well. SBA helps small contractors by guaranteeing bid, performance, and payment bonds issued by participating surety companies for contracts up to $6.5 million. SBA can guarantee a bond for a contract up to $10 million if a Federal contracting officer certifies that SBA's guarantee is necessary for the small business to obtain bonding.

Fees. SBA charges the small business 0.729 percent of the contract price for a payment or performance bond. There is no charge for a bid bond. SBA charges the surety company 26 percent of the fee the surety company charges the small business.

PROGRAM: SBA Express

Features: Lender approves loan, no additional paperwork for SBA, 36 hour turnaround
Maximum Amount Guaranteed: $350,000 (total loan amount)
Percent of Guarantee (maximum): 50 percent
Use of Proceeds: Same as 7(a)
Maturity: Term loan same as 7(a); no more than 7 years on revolving line of credit
Maximum Interest Rates: Negotiable between lender and borrower
Guaranty and Other Fees: See 7(a)
Eligibility: See 7(a)

The Certified Development Company (504) Loan Program

Features: CDCs work with SBA and private-sector lenders to provide financing to small businesses through the CDC/504 Loan Program, which provides growing businesses with long-term, fixed-rate financing for major fixed assets, such as land and buildings. Must create or retain one job for every $65,000 provided by the SBA, except for small manufacturers, which have a $100,000 job creation or retention goal
Maximum Amount Guaranteed: Limit on SBA portion of project is $4, $4.5, and $5 million
Percent of Guarantee (maximum): 40 percent of project (100 percent SBA-backed debenture); private lender unlimited
Use of Proceeds: Purchase of major fixed assets such as land, buildings, improvements, long-term equipment, construction, renovation
Maturity: 10 or 20 years only
Maximum Interest Rates: Pegged to an increment above the current market rate for 5-year and 10-year U.S. Treasury issues
Guaranty and Other Fees: Fees related to debenture, approximately 3 percent. May be financed with the loan.
Eligibility: Tangible net worth less than $15 million and an average net income less than $5.0 million after taxes for the preceding two years.

The Home-Based Business: Some Basics You Should Consider

More than 52 percent of businesses today are home-based. Every day, people are striking out and achieving economic and creative independence by turning their skills into dollars. Garages, basements, and attics are being transformed into the corporate headquarters of the newest entrepreneurs - home-based businesspeople.

And, with technological advances in smartphones, tablets, and iPads as well as a rising demand for "service-oriented" businesses, the opportunities seem to be endless.

This Financial Guide discusses some of the basics you should consider in starting a home-based business. It does not attempt to cover all aspects of home-based businesses, but rather, addresses the general requirements of what's needed to start up a business in your home.

Is a Home-Based Business Right for You?

Choosing a home business is like choosing a spouse or partner: Think carefully before starting the business. Instead of plunging right in, take the time to learn as much about the market for any product or service as you can. Before you invest any time, effort, and money take a few moments to answer the following questions:

Can you describe in detail the business you plan on establishing?
What will be your product or service?
Is there a demand for your product or service?
Can you identify the target market for your product or service?
Do you have the talent and expertise needed to compete successfully?

Before you dive head first into a home-based business, it's essential that you know why you are doing it and how you will do it. To succeed, your business must be based on something greater than a desire to be your own boss: an honest assessment of your own personality, and understanding of what's involved, and a lot of hard work. You have to be willing to plan ahead, and then make improvements and adjustments along the road. While there are no "best" or "right" reasons for starting a home-based business, it is vital to have a very clear idea of what you are getting into and why. Ask yourself these questions:

Are you a self-starter?
Can you stick to business if you're working at home?
Do you have the necessary self-discipline to maintain schedules?
Can you deal with the isolation of working from home?

Working under the same roof that your family lives under may not prove to be as easy as it seems. It is important that you work in a professional environment; if at all possible, you should set up a separate office in your home. You must consider whether your home has enough space for a business and whether you can successfully run the business from your home.

Compliance with Laws and Regulations

A home-based business is subject to many of the same laws and regulations affecting other businesses and you will be responsible for complying with them. There are some general areas to watch out for, but be sure to consult an attorney and your state department of labor to find out which laws and regulations will affect your business.

Zoning

Be aware of your city's zoning regulations. If your business operates in violation of them, you could be fined or closed down.

Restrictions on Certain Goods

Certain products may not be produced in the home. Most states outlaw home production of fireworks, drugs, poisons, sanitary or medical products, and toys. Some states also prohibit home-based businesses from making food, drink, or clothing.

Registration and Accounting Requirements

You may need the following:

Work certificate or a license from the state (your business's name may also need to be registered with the state)
Sales tax number
Separate business telephone
Separate business bank account

If your business has employees, you are responsible for withholding income, social security, and Medicare taxes, as well as complying with minimum wage and employee health and safety laws.

Planning Techniques

Money fuels all businesses. With a little planning, you'll find that you can avoid most financial difficulties. When drawing up a financial plan, don't worry about using estimates. The process of thinking through these questions helps develop your business skills and leads to solid financial planning.

Estimating Start-Up Costs

To estimate your start-up costs, include all initial expenses such as fees, licenses, permits, telephone deposit, tools, office equipment and promotional expenses.

Business experts say you should not expect a profit for the first eight to 10 months, so be sure to give yourself enough of a cushion if you need it.

Projecting Operating Expenses

Include salaries, utilities, office supplies, loan payments, taxes, legal services and insurance premiums, and don't forget to include your normal living expenses. Your business must not only meet its own needs but make sure it meets yours as well.

Projecting Income

It is essential that you know how to estimate your sales on a daily and monthly basis. From the sales estimates, you can develop projected income statements, break-even points, and cash-flow statements. Use your marketing research to estimate initial sales volume.

Determining Cash Flow

Working capital--not profits--pays your bills. Even though your assets may look great on the balance sheet, if your cash is tied up in receivables or equipment, your business is technically insolvent. In other words, you're broke.

Make a list of all anticipated expenses and projected income for each week and month. If you see a cash-flow crisis developing, cut back on everything but the necessities.

Running Your Business

Cash Flow - The Pulse of Your Business

Many small business owners do not fully understand their cash flow statement. This is surprising, given that all businesses essentially run on cash, and cash flow is the lifeblood of your business.

Some business experts even say that a healthy cash flow is more important than your business's ability to deliver its goods and services! That's hard to swallow, but consider this: if you fail to satisfy a customer and lose that customer's business, you can always work harder to please the next customer. But if you fail to have enough cash to pay your suppliers, creditors, or employees, you're out of business!

WHAT IS CASH FLOW?

Cash flow, simply defined, is the movement of money in and out of your business; these movements are called inflow and outflow. Inflows for your business primarily come from the sale of goods or services to your customers. The inflow only occurs when you make a cash sale or collect on receivables, however. Remember, it is the cash that counts! Other examples of cash inflows are borrowed funds, income derived from sales of assets, and investment income from interest.

Outflows for your business are generally the result of paying expenses. Examples of cash outflows include paying employee wages, purchasing inventory or raw materials, purchasing fixed assets, operating costs, paying back loans, and paying taxes.

An accountant is the best person to help you learn how your cash flow statement works. Please contact us and we can prepare your cash flow statement and explain where the numbers come from.

CASH FLOW VERSUS PROFIT

Profit and cash flow are two entirely different concepts, each with entirely different results. The concept of profit is somewhat broad and only looks at income and expenses over a certain period, say a fiscal quarter. Profit is a useful figure for calculating your taxes and reporting to the IRS.

Cash flow, on the other hand, is a more dynamic tool focusing on the day-to-day operations of a business owner. It is concerned with the movement of money in and out of a business. But more important, it is concerned with the times at which the movement of the money takes place.

Theoretically, even profitable companies can go bankrupt. It would take a lot of negligence and total disregard for cash flow, but it is possible. Consider how the difference between profit and cash flow relate to your business.

If your retail business bought a $1,000 item and turned around to sell it for $2,000, then you have made a $1,000 profit. But what if the buyer of the item is slow to pay his or her bill, and six months pass before you collect on the account? Your retail business may still show a profit, but what about the bills it has to pay during that six-month period? You may not have the cash to pay the bills despite the profits you earned on the sale. Furthermore, this cash flow gap may cause you to miss other profit opportunities, damage your credit rating, and force you to take out loans and create debt. If this mistake is repeated enough times, you may go bankrupt.

ANALYZING YOUR CASH FLOW

The sooner you learn how to manage your cash flow, the better your chances of survival. Furthermore, you will be able to protect your company's short-term reputation as well as position it for long-term success.

The first step toward taking control of your company's cash flow is to analyze the components that affect the timing of your cash inflows and outflows. A thorough analysis of these components will reveal problem areas that lead to cash flow gaps in your business. Narrowing, or even closing, these gaps is the key to cash flow management.

Some of the more important components to examine are:

Accounts receivable. Accounts receivable represent sales that have not yet been collected in the form of cash. An accounts receivable is created when you sell something to a customer in return for his or her promise to pay at a later date. The longer it takes for your customers to pay on their accounts, the more negative the effect on your cash flow.
Credit terms. Credit terms are the time limits you set for your customers' promise to pay for their purchases. Credit terms affect the timing of your cash inflows. A simple way to improve cash flow is to get customers to pay their bills more quickly.
Credit policy. A credit policy is the blueprint you use when deciding to extend credit to a customer. The correct credit policy - neither too strict nor too generous - is crucial for a healthy cash flow.
Inventory. Inventory describes the extra merchandise or supplies your business keeps on hand to meet the demands of customers. An excessive amount of inventory hurts your cash flow by using up money that could be used for other cash outflows. Too many business owners buy inventory based on hopes and dreams instead of what they can realistically sell. Keep your inventory as low as possible.
Accounts payable and cash flow. Accounts payable are amounts you owe to your suppliers that are payable some time in the near future - "near" meaning 30 to 90 days. Without payables and trade credit, you'd have to pay for all goods and services at the time you purchase them. For optimum cash flow management, examine your payables schedule.

Some cash flow gaps are created intentionally. For example, a business may purchase extra inventory to take advantage of quantity discounts, accelerate cash outflows to take advantage of significant trade discounts, or spend extra cash to expand its line of business.

For other businesses, cash flow gaps are unavoidable. Take, for example, a company that experiences seasonal fluctuations in its line of business. This business may normally have cash flow gaps during its slow season and then later fill the gaps with cash surpluses from the peak part of its season. Cash flow gaps are often filled by external financing sources. Revolving lines of credit, bank loans, and trade credit are just a few of the external financing options available that you may want to discuss with us.

Monitoring and managing your cash flow is important for the vitality of your business. The first signs of financial woe appear in your cash flow statement, giving you time to recognize a forthcoming problem and plan a strategy to deal with it. Furthermore, with periodic cash flow analysis, you can head off those unpleasant financial glitches by recognizing which aspects of your business have the potential to cause cash flow gaps.

Travel and Entertainment: Maximizing the Tax Benefits

Don't overpay your income taxes by overlooking expenses that you are entitled to deduct. Use this Financial Guide to ensure you are handling your business travel and meal costs in a tax-wise manner.

This Financial Guide shows you how to take advantage of all of the travel and entertainment expenses you're legally entitled to and offers guidance on which expenses are deductible and what percentage of them you can deduct. It also discusses the importance of following IRS rules for keeping records and substantiating your expenses in order to avoid an audit.

Travel Expenses

Tax law allows you to deduct two types of travel expenses related to your business, local and what the IRS calls "away from home."

First, local travel expenses. You can deduct local transportation expenses incurred for business purposes, for example, the cost of getting from one location to another via public transportation, rental car, or your own automobile. Meals and incidentals are not deductible as travel expenses, although as you will read later in this guide, you can deduct meals as an entertainment expense as long as certain conditions are met.
Second, you can deduct away from home travel expenses-including meals and incidentals; however, if your employer reimburses your travel expenses, your deductions are limited.

LOCAL TRANSPORTATION COSTS

The cost of local business transportation includes rail fare and bus fare, as well as the costs of using and maintaining an automobile used for business purposes. For those whose main place of business is their personal residence, business trips from the home office and back are considered deductible transportation and not non-deductible commuting.

Please see the special section below for the most effective ways of deducting auto expenses.

You generally cannot deduct lodging and meals unless you stay away overnight. Meals may be partially deductible as an entertainment expense as discussed below.

AWAY FROM-HOME TRAVEL EXPENSES

You can only deduct one-half of the cost of meals (50 percent) in 2023. However, due to the economic devastation caused by the coronavirus pandemic, in 2021 and 2022, taxpayers were able to deduct 100 percent of the cost of business meals and beverages purchased from restaurants. Lodging expenses incurred while traveling away from home are fully deductible (no pandemic-related change). The IRS also allows you to deduct 100 percent of your transportation expenses as long as business is the primary reason for your trip.

You do not need to eat the food at the restaurant; you can order take-out and still take the 100 percent deduction.

To be deductible, travel expenses must be "ordinary and necessary", although "necessary" is liberally defined as "helpful and appropriate," not "indispensable." The deduction is also denied for that part of any travel expense that is "lavish or extravagant," though this rule does not bar deducting the cost of first-class travel or deluxe accommodations or (subject to percentage limitations below) deluxe meals.

What does "away from home" mean?
To deduct the costs of lodging and meals (and incidentals-see below) you must generally stay somewhere overnight. In other words, away from your regular place of business longer than an ordinary day's work and you need to sleep or rest to meet the demands of your work while away from home. Otherwise, your costs are considered local transportation costs and the costs of lodging and meals are not deductible.

Where is your "home" for tax purposes?
The general view is that your "home" for travel expense purposes is your place of business or your post of duty. It is not where your family lives (some courts have stated that it's the general area of your residence). Here is an example:

George's family lives in Boston and George works in Washington, DC. George spends the weekends in Boston and the weekdays in Washington, where he stays in a hotel and eats out. For tax purposes, George's "home" is in Washington, not Boston, therefore, he cannot deduct any of the following expenses: cost of traveling back and forth between Washington and Boston, cost of eating out in Washington, cost of staying in a hotel in Washington, or any costs incurred traveling between his hotel in Washington and his job in Washington (the latter are considered non-deductible commuting costs).

There are some rules in the tax law concerning where a taxpayer's "home" is for purposes of deducting travel expenses that are less clear such as when a taxpayer works at a temporary site or works in two different places.

We'll cover these rules briefly in these two examples:

Example #1: Joe, who lives in Connecticut, works eight months out of the year in Connecticut (from which he usually earns about $50,000) and four months out of the year in Florida (from which he usually earns about $15,000). Joe's "tax home" for travel expense purposes is Connecticut. Therefore, the costs of traveling to and from the "lesser" place of employment (Florida), as well as meals and lodging costs incurred while working in Florida, are deductible.

Example #2: Susan works and lives in New York. Occasionally, she must travel to Maryland on temporary assignments, where she spends up to a week at a time. Assuming Susan's employer does not reimburse her for travel expenses, she can deduct the costs of meals and lodging while she's in Maryland, as well as the costs of traveling to and from Maryland. This holds true because her work assignments in Maryland are considered temporary since they will end within a foreseeable time. If an assignment is considered indefinite, that is, expected to last for more than a year, under the tax law, travel, meal, and lodging costs are not deductible.

Here's a list of some deductible away-from-home travel expenses:

Meals limited to 50 percent in 2023 (100 percent in 2021 and 2022) and lodging while traveling or once you get to your away-from-home business destination.
The cost of having your clothes cleaned and pressed away from home.
Costs for telephone, fax or modem usage.
Costs for secretarial services away-from-home.
The costs of transportation between job sites or to and from hotels and terminals.
Airfare, bus fare, rail fare, and charges related to shipping baggage or taking it with you.
The cost of bringing or sending samples or displays, and of renting sample display rooms.
The costs of keeping and operating a car, including garaging costs.
The cost of keeping and operating an airplane, including hangar costs.
Transportation costs between "temporary" job sites and hotels and restaurants.
Incidentals, including computer rentals, stenographers' fees.
Tips related to the above.

However, many away-from-home travel expenses are not deductible or are restricted in some way. These include:

Commuting expenses. The costs of traveling between your home and your job are not deductible.

Travel as a form of education. Trips that are educational in a general way, or improve knowledge of a certain field but are not part of a taxpayer's job, are not deductible.

Job search expenses. Tax reform eliminated miscellaneous deductions for tax years 2018 through 2025.

Seeking a new location. Travel costs (and other costs) incurred while you are looking for a new place for your business (or for a new business) must be capitalized and cannot be deducted currently.

Luxury water travel: If you travel using an ocean liner, a cruise ship, or some other type of "luxury" water transportation, the amount you can deduct is subject to a per-day limit.

Seeking foreign customers: The costs of traveling abroad to find foreign markets for existing products are not deductible.

Starting in 2008, travel (and other) costs incurred in unsuccessfully trying to acquire a specific business are currently deductible.

Meal and Entertainment Expenses

Prior to tax reform, there were limits and restrictions on deducting meal and entertainment expenses, with most deductible at 50 percent. Due to COVID-19 legislation, for tax years 2021 and 2022, the deductible amount for business-related meals was 100 percent. Meal costs must be "ordinary and necessary" and not "lavish or extravagant" and directly related to or associated with your business. They must also be substantiated.

Under tax reform, there were a number of changes, the most notable being that entertainment expenses paid or incurred after December 31, 2017, are not deductible unless they fall under specific exceptions, for example, expenses incurred for social activities primarily for the benefit of your employees. As such, reasonable costs for food and refreshments for year-end parties for employees are 100 percent deductible.

Prior to 2018, if you rented a skybox or other private luxury box for more than one event, say for the season, at the same sports arena, you generally could deduct more than the price of a non-luxury box seat ticket. Each game or other performance counted as one event, and the deduction for those seats was subject to the 50 percent entertainment expense limit. Starting January 1, 2018, however, that deduction is eliminated. Furthermore, even if the costs of food and beverages are separately stated, you cannot deduct these expenses.

Deductions are still disallowed for depreciation and upkeep of "entertainment facilities" such as yachts, hunting lodges, fishing camps, swimming pools, and tennis courts. However, the costs of entertainment provided at such facilities are no longer deductible. Prior to 2018, these expenses were deductible at 50 percent, subject to entertainment expense limitations.

Dues paid to country clubs or social or golf and athletic clubs are not deductible nor are dues that you pay to professional and civic organizations. Prior to 2018, these dues were deductible at 50 percent as long as your membership has a business purpose. Such organizations included business leagues, trade associations, chambers of commerce, boards of trade, and real estate boards.

How Do You Prove Expenses Are "Directly Related?"

The following section applies only to expenses incurred before January 1, 2018. As noted earlier, most entertainment-related expenses are no longer deductible.

Expenses are directly related if you can show:

There was more than a general expectation of gaining some business benefit other than goodwill.
You conducted business during the entertainment.
Active conduct of business was your main purpose.

There is a presumption (in the eyes of the IRS) that events that take place in what it considers places non-conducive to doing business are not directly related to your business. These places include nightclubs, theaters, sporting events or cocktail parties. It also includes meetings with a group of people who are not business associates, at cocktail lounges, country clubs, or athletic clubs. However, you can overcome the presumption by showing that you engaged in a business discussion or otherwise conducted business during the event.

How Do You Meet The "Associated With" Test?

The following section applies only to expenses incurred before January 1, 2018. As noted earlier, most entertainment-related expenses are no longer deductible.

Even if you can't show that the entertainment was "directly related" as discussed above, you can still deduct the expenses as long as you can prove the entertainment was "associated" with your business. To meet this test, the entertainment must directly precede or come after a substantial business discussion. Further, you must have had a clear business purpose when you took on the expense.

For Whom Can You Get The Deduction?

The following section applies only to expenses incurred before January 1, 2018. As noted earlier, most entertainment-related expenses are no longer deductible.

The person entertained must be a business associate. That is, someone who could reasonably be expected to be a customer or conduct business with you, including an employee or professional advisor.

In circumstances where it's customary to entertain a business associate with his or her spouse, and your spouse also attends, entertainment of both spouses is deductible, thanks to the "closely connected rule."

Recordkeeping and Substantiation Requirements

Tax law requires you to keep records that will prove the business purpose and amounts of your business travel, entertainment, and local transportation costs.

WHICH RECORDS YOU MUST KEEP

You must substantiate the following business expenses:

Travel expenses while away from home (including meals and lodging).
Business meals and entertainment if allowed under a tax code exception, and
Business gifts.

To substantiate these items, you must prove:

The amount.
The time and place of the travel, entertainment, or recreation, or the date and a description of the business gift.
The business purpose, and
The business relationship of the recipient of entertainment or gifts.

The most frequent reason for IRS's disallowance of travel and entertainment expenses is the failure to show the place and business purpose of an item. Therefore, pay special attention to these aspects of your record-keeping.

Keeping a diary or logbook and recording your business-related activities at or close to the time the expense is incurred is one of the best ways to document your business expenses.

Here's how these rules apply to your record-keeping for travel expenses, entertainment expenses, and business gifts.

Away-from-home travel expenses. You must document the following for each trip:

The amount of each expense, e.g., the cost of each transportation, lodging and meal. You can group similar types of incidentals together, i.e., "meals, taxis."
The dates of your departure and return and the number of days you spent on business.
Your destination.
The business reason for the travel or the business benefit you expect.

Entertainment expenses (exceptions allowed under the tax code) for tax years before 2018. You must prove the following for each claimed deduction for entertainment expenses:

The amount of each separate expense, though incidentals may be totaled on a daily basis.
The date of the entertainment.
The name, title, and occupation (showing business relation) of the people you entertained.

Business gifts. You must keep the following documentation for a business gift to substantiate the deduction:

The cost of the gift and the date it was made.
The business reason for the gift.
The name, title, and occupation of the recipient.
A description of the gift.

Employees "Fully Reimbursed"

Employees who are "fully reimbursed" by their employer must:

Adequately account to their employer.
Receive full reimbursement.
Return any excess reimbursement.

As a fully reimbursed employee, you must adequately account to your employer by means of an expense account statement. If you are covered by (and follow) an "accountable plan," and your reimbursements don't exceed your expenses, you won't have to report the reimbursements as gross income. Some per diem arrangements (by which you receive a flat amount per day) and mileage allowances can avoid detailed expense accounting to the employer, but proof of time, place, and business purpose is still required.

However, if your employer's reimbursement plan is not "accountable," you must report the reimbursements as income. Prior to 2018, you could deduct these expenses on your tax return as miscellaneous itemized deductions on Form 1040 Schedule A, subject to the two percent-of-adjusted-gross-income floor. Tax reform, however, eliminated miscellaneous deductions for tax years 2018 through 2025.

Auto Expenses

If you are self-employed and use a car for business, you have two choices as to how to claim the deduction for auto expenses. Parking fees and tolls may be deducted no matter which method you use.

You can deduct the actual business-related costs of gas, oil, lubrication, repairs, tires, supplies, parking, tolls, chauffeur salaries, and depreciation, or
You can use the standard mileage deduction, which is an inflation-adjusted amount that is multiplied by the number of business miles driven.

From 2018 through 2025, employees who use their cars for business but either don't get reimbursed or are reimbursed under an employer's "non-accountable" reimbursement plan can no longer deduct auto expenses on Form 1040 Schedule A.

The standard mileage rate produces a larger deduction for some business owners, while others fare better (tax-wise) by deducting actual expenses. Figuring your deduction using both methods tells you which method is better for you tax-wise.

Expensing and depreciating vehicle costs. Deduction options and amounts depend on the percentage used for business. Also, if the car is used more than 50 percent for business, it can be included as business property and qualify for Section 179 expensing in the year of purchase. The deduction is reduced proportionately to the extent the car is used for personal purposes. If you take this deduction, you can't use the actual mileage for that vehicle in any year.

Depreciation. Assuming the car cost more than the Section 179 limit, or Section 179 is not available or is not claimed, depreciation is also allowed. Several depreciation options are available, but there are limits to the amount of depreciation that can be claimed per year. Depreciation otherwise allowable is reduced by the proportion of personal use. For example, a car used 20 percent for personal use is depreciated at 80 percent of the amount otherwise allowed.

Accelerated depreciation is defined as depreciation that is at a rate higher than normal that results from dividing the vehicle's cost by the number of years it will be used. It is not allowed where personal use is 50 percent or more. If you claimed accelerated depreciation in a prior year and your business use then falls to 50 percent or less, you become subject to "recapture" of the excess depreciation (i.e., it's included in income). Of course, using the standard mileage deduction described below allows you to avoid these limits.

Determining whether to use the standard mileage deduction. If you opt for the standard mileage rate, you simply multiply the current cents-per-mile rate by the number of business miles you drive for the year. Be aware, however, that the standard mileage deduction may understate your costs. This is especially true for taxpayers who use the car 100 percent for business, or close to that percentage.

Once you choose the standard mileage rate, you cannot use accelerated depreciation even if you opt for the actual cost method in a later year. You may use only straight line.

The standard mileage method usually benefits taxpayers who have less expensive cars or who travel a large number of business miles. To determine which method is better for you, make the calculations each way during the first year you use the car for business.

You may use the standard mileage for leased cars if you use it for the entire lease period. Or, you can deduct actual expenses instead, including leasing costs.

Recordkeeping. Tax law requires that you keep travel expense records and that you give information on your return showing business versus personal use. Not only is keeping good records essential in case of an audit, but it also allows you to make the most of your auto deductions. For example, you won't be able to determine which of the two options is better if you don't know the number of miles driven and the total amount you spent on the car. If you use the actual cost method, you'll have to keep receipts as well. For many business owners, using a separate credit card for business simplifies your record-keeping.

Don't forget to deduct the interest you pay to finance a business-use car if you're self-employed.

Employee Benefits: How To Handle Them

Many companies offer a variety of employee benefits to their staff in order to keep them satisfied. The types of benefits include, but are not limited to, health insurance, retirement plans, vacation, and sick leave. This Financial Guide provides an overview of the types of benefits that businesses provide for employees and what's involved in offering them.

Employee benefits play an increasingly important role in the lives of employees and their families and have a significant financial and administrative impact on a business. Most companies operate in an environment in which an educated workforce has come to expect a comprehensive benefits program. Indeed, the absence of a program or an inadequate program can seriously hinder a company's ability to attract and keep good personnel. Employers must be aware of these issues and be ready to make informed decisions when they select employee benefits.

Designing the right benefit plan for your employees is a complex task. There are many issues to consider, including tax and legal aspects, funding, and finding the right vendors or administrators.

You may want to contact your insurance carrier, broker, or benefits consultant for assistance in designing and implementing your benefit plan.

What Is An Employee Benefit Plan?

An employee benefit plan protects employees and their families from economic hardship brought about by sickness, disability, death or unemployment. It also provides retirement income to employees and their families, and establishes a system under which leave or time off from work can occur should the employee need it.

MANDATED BENEFITS

The employer must pay in whole or in part for certain legally mandated benefits and insurance coverage:

Social Security.
Unemployment insurance.
Workers' compensation.

Funding for the Social Security program comes from payments by employers, employees, and self-employed persons that are deposited into an insurance fund that provides income during retirement years. Full retirement benefits normally become available at age 65. For younger individuals, the date for maximum benefits is being adjusted to age 67. These benefits are discussed in more detail in the Retirement Benefit Plans section of this Financial Guide. Other aspects of Social Security deal with survivor, dependent and disability benefits, Medicare, Supplemental Security Income, and Medicaid.

Unemployment insurance benefits are payable under the laws of individual states from the Federal-State Unemployment Compensation Program. Employers contribute to the program based on total payroll.

Workers' compensation provides benefits to workers disabled by occupational illness or injury. Each state mandates coverage and provides benefits. In most states, private insurance or an employer self-insurance arrangement provides the coverage. Some states mandate short-term disability benefits as well.

OPTIONAL BENEFITS

A comprehensive benefit plan can include the following elements:

Health insurance.
Disability insurance.
Life insurance.
A retirement plan.
Flexible compensation (cafeteria plans).
Leave.

A benefit plan can also include bonuses, service awards, reimbursement of employee educational expenses and prerequisites appropriate to employee responsibility.

Why Offer Your Employees Benefits?

Here are some of the reasons employers offer benefits:

To attract and hold capable people.
To keep up with competition.
To foster good morale.
To keep employment channels open by providing opportunities for advancement and promotion as older workers retire.

A combination of benefits programs are the most effective and efficient means of meeting economic security needs. For many employers, a benefit plan is an integral part of total compensation, because employers either pay the entire cost of a benefit plan or have employees contribute a small portion of premium costs for their coverage.

Health, Disability, and Life Insurance Plans

Employers might offer medical and dental plans, disability benefits, and life insurance.

MEDICAL AND DENTAL PLANS

A serious illness or injury can be devastating to an employee and his or her family. It can threaten their emotional and economic well-being. Thus, adequate health insurance is important to employees and is part of a solid group plan.

Group health plans help attract and keep employees who can make your business a success. They relieve your employees of the anxiety of health care costs by providing the care they need before an illness becomes disabling, thus helping you avoid costly employee sick days.

Group health plans usually cost less than purchasing several individual policies with comparable coverage. Moreover, there are tax advantages to offering health care benefits: your contribution as an employer may be deductible and the insurance is not taxable income to your employees.

As an employer, you can choose either an insured (also known as an indemnity or fee-for-service plan) or a pre-paid plan (also known as a health maintenance organization).

Traditional Indemnity Plans. An indemnity plan allows the employee to choose his or her own physician. The employee typically pays for medical care and then files a claim form with the insurance company for reimbursement. These plans use deductibles and coinsurance as well. A deductible is a fixed amount of medical expenses an employee pays before the insurance plan reimburses any more expenses. Coinsurance is a percentage of medical expenses the employee pays, with the plan paying the remaining portion. A typical coinsurance amount is 20 percent, with the plan paying 80 percent of approved medical expenses. Listed below are the most common types of insurance arrangements (indemnity plans) providing health care to groups of employees.

A basic health insurance plan, covering hospitalization, surgery and physicians' care in the hospital.
A major medical insurance plan, usually supplementing a basic plan by reimbursing charges not paid by that plan.
A comprehensive plan, covering both hospital and medical care with one common deductible and coinsurance feature.

Health Maintenance Organizations. Health maintenance organizations (HMOs) provide health care for their members through a network of hospitals and physicians. Comprehensive benefits typically include preventive care, such as physical examinations, well-baby care, and immunizations, and stop smoking and weight control programs.

The main characteristics of HMOs are as follows:

The choice of primary care providers is limited to one physician within a network; however, there is frequently a wide choice for the primary care physician.
There is no coverage outside the HMO network of hospitals and physicians.
Costs are lower, due to limited choice. Physicians are encouraged to keep patients healthy; accordingly, they often are paid on a per capita basis, regardless of how much care the patient needs.
The employer prepays HMO premiums on a fixed, per-employee basis.
Employees do not have to apply for reimbursement of charges, but they may have small co-payments for medical services.

Preferred Provider Organizations. Preferred provider organizations (PPOs) fall between the conventional insurance and health maintenance organizations and are offered by conventional insurance underwriters. A PPO is a network of physicians and/or hospitals that contract with a health insurer or employer to provide health care to employees at predetermined discounted rates.

Some of the key elements of a PPO are:

It offers a broad choice of health care providers. Because of the broader choice of providers, PPOs are more expensive than HMOs.
It may have fewer comprehensive benefits than HMOs, but the benefits usually can meet almost any need.
PPO providers usually collect payments directly from insurers.

Although there is no requirement for employees to use the PPO providers, there are strong financial reasons to do so.

Dental Benefits. Medical insurance frequently includes dental plans. Most plans cover all or portions of the cost for the following services:

Cleaning, x-rays and oral examinations.
Fillings.
Crowns and dentures.
Root canals.
Oral surgery.
Orthodontia (these portion of the cost covered here are generally quite limited, if at all)

Health Savings Accounts. The HSA allows employees to deduct contributions to the HSA even if they do not itemize deductions. The HSA plan allows employees who are covered by a high-deductible health plan to contribute pre-tax amounts that will be used to cover medical expenses or used later for retirement. Qualified amounts contributed to an employee's HSA by an employer can be excluded by the employee. Distributions from the HSA are not taxable as long as they are used for medical expenses.

DISABILITY BENEFITS

A disability plan provides income replacement for the employee who cannot work due to illness or accident. These plans are either short-term or long-term. They can be distinct from workers' compensation because they pay benefits for non-work-related illness or injury.

Short-Term Disability. Short-term disability is usually defined as an employee's inability to perform the duties of his or her normal occupation. Benefits may begin on the first or the eighth day of disability and are usually paid for a maximum of 26 weeks. The employee's salary determines the benefit level, ranging from 60 to 80 percent of pay. You, as an employer, may specify the number of days of sick leave paid at 100 percent of salary. The employee can use these before short-term disability begins.
Long-Term Disability. Long-term disability (LTD) benefits usually begin after short-term benefits conclude. LTD benefits continue for the length of the disability or until normal retirement. Again, benefit levels are a percentage of the employee's pay, usually between 60 and 80 percent. Social Security disability frequently offsets employer-provided LTD benefits. Thus, if an employee qualifies for Social Security disability benefits, these are deducted from benefits paid by the employer.

LIFE INSURANCE

Traditionally, life insurance pays death benefits to beneficiaries of employees who die during their working years. There are two main types of life insurance:

Survivor income plans, which make regular payments to survivors.
Group life insurance plans, which normally make lump-sum payments to specified beneficiaries.

Protection provided by one-year, renewable, group term life insurance with no cash surrender value or paid-up insurance benefit, is very popular. Frequently, health insurance programs offer this coverage.

You should use the same principles for selecting a life insurance program as you do for selecting health insurance. Finding a benefit plan that meets your budget constraints and fills the needs of your employees is crucial. Among the sources to check are:

Your local chamber of commerce.
Independent insurance agents.
Trade associations of your business.
State departments (or commissions) of insurance.
Community business leaders.
Benefit consultants or actuaries.
Service Corps of Retired Executives (SCORE) (affiliated with the U.S. Small Business Administration).

To reduce risk, select insurance underwriters with top ratings from Best's (Best Insurance Reports: Property-Casualty Ed. and Life-Health Ed. Published annually by A.M. Best Company, Oldwick, N.J.). HMOs and Blue Cross/Blue Shield are not rated by Best but are regulated by state governments.

Check with other users and state regulators on the history of the particular plan you are considering.

SELF-INSURANCE

Rising costs are prompting small business owners to take a look at a form of health care coverage previously considered an option only for big business: self-insurance. With self-insurance, the business predetermines and then pays a portion or all of the medical expenses of employees in a manner similar to that of traditional healthcare providers. Funding comes through the establishment of a trust or a simple reserve account. As with other health care plans, the employee may pay a portion of the cost of premiums. Catastrophic coverage is usually provided through a "stop-loss" policy, a type of coinsurance purchased by the company.

The plan may be administered directly by the company or through an administrative services contract.

The advantages of self-insurance are listed below:

Programs can be flexible. They are designed to reflect employee needs, including medical and dental care, prescriptions and so on.
Mandated benefit laws and state insurance premium taxes do not affect these plans.
The employer retains control over the timing and amount of funds paid into the plan and can manage costs more directly.
Administration of these plans can be more efficient.
Over time, these plans can save money.

The drawbacks to self-insurance include the following:

Health care is costly and heavy claims years may prove extraordinarily expensive.
Commitment for the long haul is necessary to achieve significant savings.

While insurance can be a viable option for small businesses, it should be undertaken only after careful study.

THE AFFORDABLE CARE ACT

The Patient Protection and Affordable Care Act of 2010, in concert with the enactment of the Health Care and Education Tax Credits Reconciliation Act of 2010, resulted in a number of changes that affect smaller business owners. Here are the highlights:

If you have 50 or fewer full-time equivalent (FTE) employees (generally, workers whose income you report on a W-2 at the end of the year) you are considered a small business under the health care law.

As a small business, you may get insurance for yourself and your employees through the SHOP (Small Business Health Options Programs) Marketplace. This applies to non-profit organizations as well.

If you have fewer than 25 employees, you may qualify for the Small Business Tax Credit. Non-profit organizations can get a smaller tax credit. Small businesses and tax-exempt organization that employ 25 or fewer, full-time equivalent workers with average incomes of $50,000 or more as adjusted for inflation since 2014 (e.g., for 2021 returns it was $56,000), and, that pay at least half (50 percent) of the premiums for employee health insurance coverage are eligible for the Small Business Health Care Tax Credit.

Starting in 2014, the tax credit is worth up to 50 percent of your contribution toward employees' premium costs (up to 35 percent for tax-exempt employers). The tax credit is highest for companies with fewer than 10 employees who are paid an average of $30,700 or less in 2023 ($28,700 in 2022). The smaller the business, the bigger the credit is. For tax years 2010 through 2013, the maximum credit was 35 percent for small business employers and 25 percent for small tax-exempt employers such as charities.

The credit is available only if you get coverage through the SHOP Marketplace, which opened to employers with 100 or fewer FTEs starting in 2016.

Additional Tax on Businesses Not Offering Minimum Essential Coverage. Effective January 1, 2015, an additional tax will be levied on businesses with 100 or more full-time equivalent (FTE) employees that do not offer minimum essential coverage and employers with more than 50 full-time employees starting in 2016. This penalty is sometimes referred to as the Employer Shared Responsibility Payment or "Play or Pay" penalty.

Excise Tax on High Cost Employer-Sponsored Insurance. Often referred to as the "Cadillac Tax," it was repealed under the Further Consolidated Appropriations Act, 2020.

Balancing Cost, Quality and Accessibility

In summary, when deciding on a health, disability, or life insurance plan, consider what you and your workers want in a plan. Determine all costs associated with the plan and investigate the quality of potential insurance carriers, and examine the quality of each plan, including the benefits and restrictions such as:

QUESTIONS TO ASK BEFORE SIGNING A BENEFITS CONTRACT

Who is the insurance company?
Is it committed to small business?
How solvent is it? What is its rating?
What is the carrier's reputation for customer service?
What is the choice of doctors and hospitals?
How does the company manage health care costs?
Who administers the plan?
What information must the employer provide?
How are the employees enrolled?

WHEN PROBLEMS ARISE

From time to time problems arise with benefit delivery. Patience on the part of the provider, the employer, and the employee usually brings a resolution.

Occasionally, unusually prolonged and difficult problems develop that do not yield to resolution. Such instances should be brought to the attention of your state's insurance department or commission, which is responsible for regulating insurance companies.

Retirement Benefit Plans

A financially secure retirement is a goal of all Americans. Since many of us will spend one-fourth to one-fifth of our lives in retirement, it is more essential than ever to begin preparations at an early age. Many financial planners report that an individual requires about 75 percent of his or her preretirement income to maintain the same standard of living enjoyed during one's working years.

Social Security, employer-sponsored retirement programs, and personal savings are the three sources of post-retirement income.

SOCIAL SECURITY BENEFITS

Social Security provides retirement benefits for most persons employed or self-employed for a set period of time (currently 40 quarters; about 10 years). Benefits paid at retirement, traditionally at age 65, are based on a person's earnings history. The age at which you can retire at full benefits increases depending upon your current age. For younger individuals, full benefits begin at about age 67. Payments may begin at age 62 at a reduced rate or, if delayed beyond full retirement age, at an increased rate.

For a person with earnings equal to the U.S. average, the benefit will be about 40 percent of pay. For someone with maximum earnings, the benefit would be about 25 percent of the portion of pay subject to Social Security tax.

Every worker should understand Social Security retirement benefits. By completing the "Request for Social Security Earnings Information" you can receive a projection of benefits. Forms can be obtained through Social Security Online, local Social Security offices or by calling 1-800-772-1213.

Planning Aid: To obtain an immediate copy of this form, please click on Request for Social Security Earnings Information.

EMPLOYER-SPONSORED RETIREMENT PLANS

A retirement plan makes good sense and can attract and reward employees. The benefits and tax advantages of supplementing Social Security with a qualified retirement plan are significant.

A qualified plan is one meeting IRS specifications. Currently, such contributions are tax-deductible, and earnings accumulate on a tax-deferred basis. In addition, benefits earned are not part of the participant's taxable income until received, and certain distributions are eligible for special tax treatment.

Whether you are a sole proprietorship, a partnership or a corporation (employing many people or only yourself as the owner/employee), there is a wide range of options available. These can range from simple plans, which you establish and maintain, to complex versions, which require an actuary, attorney or employee benefits consultant. If you are active in the business, you can be included as a plan participant. Accountants, banks, insurance, and investment professionals, as well as other financial institutions, can provide information on retirement plan products.

Employers can benefit from tax credits for start-up costs. You may be able to claim a tax credit for part of the ordinary and necessary costs of starting a SEP, SIMPLE IRA Plans, or qualified plan. The credit equals 50 percent of the cost to set up and administer the plan and educate employees about the plan, up to a maximum of $500 per year for each of the first 3 years of the plan. Employers can choose to start claiming the credit in the tax year before the tax year in which the plan becomes effective as long as:

You must have had 100 or fewer employees who received at least, $5,000 in compensation from you for the preceding year.

At least, one participant must be a non-highly compensated employee.

The employees generally cannot be substantially the same employees for whom contributions were made or benefits accrued under a plan of any of the following employers in the 3-tax-year period immediately before the first year to which the credit applies.

You.

A member of a controlled group that includes you.

A predecessor of (1) or (2).

The credit is part of the general business credit, which can be carried back or forward to other tax years if it cannot be used in the current year. However, the part of the general business credit attributable to the small employer pension plan startup cost credit cannot be carried back to a tax year beginning before January 1, 2002.

You cannot deduct the part of the startup costs equal to the credit claimed for a tax year, but you can choose not to claim the allowable credit for a tax year. To take the credit, employers should use Form 8881, Credit for Small Employer Pension Plan Startup Costs.

Depending on whether you are a sole proprietor, a partnership or a small corporation, the following plans are available:

Defined benefit plans - A retirement plan favoring older, more highly paid employees.
Profit-sharing plans - A flexible plan based on profits and contributions that can be discretionary from year to year.
Money purchase plans - A method that often favors younger workers. Steady plan contributions are required.
Individual retirement accounts (IRAs) - A simple plan; allowing modest contributions.
Simplified employee pension (SEP) plans - A plan for small businesses combining features of IRA and profit-sharing plans, offering flexibility and easy self-administration.
401(k) - The most popular plan today for businesses with employees, providing employees with the ability to save for their retirement with pre-tax dollars. Can be at low cost to employers.
SIMPLE IRA Plans - A new type of plan which combines IRA and 401(k) features.
Stock bonus - Benefits in the form of company stock.
Employee Stock Ownership Plan (ESOP) - Another plan based on company stock.

DESIGNING THE RIGHT CORPORATE PLAN

Selecting the right pension plan for a corporation results from a process of identifying business needs and expectations, including

Need for flexibility.
Current age of key employees.
Current number of employees and plans for growth.
Maximization of retirement benefits.

Although there are many different types of retirement plan options available to corporations, they fall into two general categories: defined benefit plans and defined contribution plans:

Defined Benefit Plans. With this plan, the benefits an employee will receive are predetermined by a specific formula - typically tied to the employee's earnings and length of service - and indexed for inflation. The law allows a pension of up to $265,000 a year in 2023 ($245,000 in 2022). The employer is responsible for making sure that the funds are available when needed (the employer bears funding and investment risks of the plan).

Such a plan can generally provide larger benefits faster (through tax-deductible contributions) than other plans. The price of providing a higher degree of tax savings and being able to rapidly shelter larger sums of retirement capital is having to meet additional reporting requirements. Defined benefit plans typically cost more to administer, requiring certifications by enrolled actuaries, and insurance payments to the Pension Benefit Guaranty Corporation (PBGC), which may review plan terminations.

Defined Contribution Plans. Also known as individual account plans, defined contribution plans specify the amount of funds placed in a participant's account (for example, 10 percent of salary). The amount of funds accumulated, and the investment gains or losses solely determine the benefit received at retirement. The employer bears no responsibility for investment returns, although the employer does bear a fiduciary responsibility to select or offer a choice of sound investment options.

Defined benefit plans are typically better for older employees (usually age 45+). For example, these plans can provide the ability to fund for years of employment before the inception of the plan. While some contribution flexibility is available, factors determining the cost of promised benefits (e.g., number and ages of employees, rates of return on investments) will mandate the level of required deposits to the plan.

There are several basic types of defined contribution plans, including (1) simplified employee pension plans (SEPs), (2) profit-sharing plans, (3) money purchase plans, (4) 401(k) plans, (5) stock bonus plans, (6) employee stock ownership plans (ESOP), and (7) SIMPLE IRA plans.

1. Simplified Employee Pension Plans. A simplified employee pension (SEP) suits many small corporations. It requires no IRS approval, no initial filings, and no annual reporting to the government. Although SEP plans are called "pensions," they are actually IRAs, except that contributions to them aren't subject to the IRA dollar limits. The total deferral per employee each year can be up to $66,000 in 2023 (up from $61,000 in 2022) indexed for inflation or 25 percent of his or her annual earnings, whichever is less. There is also a limit on how much of an employee's earnings may be included in the percentage computation.

Contributions must be made on a nondiscriminatory basis to all employees who are at least age 21 and who have worked for any part of three of the past five years earning a minimal amount. Contributions can vary from year to year - you may even skip entire years. To be deductible for a year, the contribution must be paid no later than the due date of an employer's income tax return for the year, including extensions. Once made, the entire contribution is owned by the employee.

Complete specifications for the plan can be found in IRS Form 5305. The form itself serves as the plan document, requiring only the insertion of a business name, the checking of three boxes and a signature. The form is not filed with the IRS, but rather copied for all employees and then placed in the firm's files. Many employers instead use plan documents provided by financial institutions.

2. Profit-Sharing Plans. Similar to a SEP, a profit-sharing plan offers the flexibility of making contributions - up to the lesser of $66,000 in 2023 (up from $61,000 in 2022) or 25 percent of compensation.

Alternatively, rather than selecting a percentage, a flat amount (for example, $100,000) could be allocated among eligible employees, generally proportionate to compensation. Historically, contributions could only be paid out of profits; this is no longer required.

Profit-sharing plans differ from SEPs in several distinct ways. An employer can apply a vesting schedule to the company's contributions, based on an employee's length of service with the company after the contribution is made. If an employee is terminated before becoming "fully vested," his or her funds will revert to the plan (reducing future contributions) or be reallocated among the remaining participants. In addition, profit-sharing plans permit the exclusion of part-time employees and can allow participants to borrow from the plan.

Profit-sharing plans, as all other qualified retirement plans, require the preparation of formal master documents as well as annual tax filings. A standardized master or prototype plan will often satisfy requirements and will typically be less expensive and simpler to set up and operate than an individually designed plan.

3. Money-Purchase Plans. With a money purchase plan, the employer is usually committed to making annual contributions equal to a designated percentage of each employee's compensation. This percentage may not exceed 25 percent of compensation, with a maximum contribution per employee of $66,000 in 2023 (up from $61,000 in 2022), indexed for inflation. Contributions must be made even in years in which there are no profits.

4. 401(k) Plans. These tax-deferred savings plans have become highly popular in recent years. The basic idea of a 401(k) is simple: it is a profit-sharing plan adopted by an employer that permits employees to set aside a portion of their compensation through payroll deduction for retirement savings. The amounts set aside are not taxed to the employee and are a tax-deductible business expense for the employer. Set-asides (called "elective deferrals") for any employee can't exceed $22,500 in 2023 ($20,500 in 2022) indexed for inflation. Elective deferrals don't count in figuring the employer's deduction limits. Thus, the employer's contribution up to the profit-sharing deduction limit plus the elective deferral, are tax-sheltered.

An employer's discretionary matching contribution can provide an incentive for employee participation as well as serve as an employee benefit. Employer contributions can be capped, to limit costs and a vesting schedule can be applied to employer deposits (employees are always 100 percent vested in their own contributions).

For employees, the opportunity to reduce federal - and often state and local - taxes through participation in a 401(k) plan offers significant benefits. While savings are intended for retirement, certain types of loans can provide employees with access to their funds - employees repay borrowed principal plus interest to their own account.

Special non-discrimination tests apply to 401(k) plans, which may limit the amount of deferrals that highly compensated employees are allowed to make. To avoid these limits, some employer contribution on behalf of lower-paid employees may be required.

Some employers automatically enroll employees in the 401(k), giving them the right to opt-out. After 2007, automatic enrollment arrangements (with the right to opt-out) can escape the nondiscrimination tests if certain prescribed minimum employer contributions are made and certain prescribed investment types are available.

401(k)s can allow employee deferrals to go into a Roth account (based on a Roth IRA concept). Withdrawals from an account maintained 5 years or more can be tax-free after age 59 1/2. The amount deferred into the Roth 401(k) is currently taxable (unlike amounts deferred into the regular 401(k)).

Tax professionals consider that the Roth 401(k) favors high-income individuals. If that describes you, consult your tax adviser on deferring into a Roth 401(k), where this is offered.

5. Stock Bonus Plans. This is similar to a profit-sharing plan. The plan invests in employer stock, which is generally distributed to participants at retirement.

6. Employee Stock Ownership Plans. A special breed of qualified plan - the employee stock ownership plan (ESOP) - provides retirement benefits for employees. In addition, an ESOP can be used as a market for company stock, for financing the company's growth, to increase the company's cash flow or as an estate planning tool.

ESOP funds must be primarily invested in employer securities. ESOPs are stock bonus plans or stock bonuses combined with money purchase plans. Tax-deductible contributions to the plan are used to buy stock for eligible employees. On retirement, the employee may take the shares or redeem them for cash. Complicated rules must be adhered to in the establishment and maintenance of an ESOP plan. Expert advice should be sought.

7. SIMPLE IRA Plans. Employers with 100 or fewer employees can establish "SIMPLE" retirement plans. The SIMPLE IRA Plan combines the features of an IRA and a 401(k). Employees can contribute to the SIMPLE IRA Plan, pre-tax, and the employer must make either a matching contribution for employees who contribute or a contribution for each eligible employee. The limit on the employee's contribution is $15,500 in 2023 ($14,000 in 2022), indexed for inflation. The penalties for withdrawing money from the Simple IRA Plan before age 59-1/2 can be higher than with other plans.

PLANS AVAILABLE TO NON-CORPORATE EMPLOYERS

Non-corporate employers can adopt any of the plans listed above that corporate employers can, except, of course, those based on stock in the employer corporation (stock bonus and ESOP plans). Defined benefit, profit-sharing, money purchase and 401(k) plans sponsored by non-corporate employers - that is, self-employed persons - who participate in the plans, which are sometimes referred to as "Keogh" plans.

Contribution limits for unincorporated businesses are the same as for corporate plans of the same type, except for contributions on behalf of the self-employed owner - sole proprietor, partner or LLC member, who for this purpose is treated as an employee. Contributions for a self-employed owner are based on the owner's self-employment net earnings. The contribution ceiling for money purchase, profit sharing, and SEP plans are the same: in effect, 20 percent of earnings (technically, 25 percent of earnings reduced by the contribution) up to a maximum contribution of $66,000 in 2023 (up from $61,000 in 2022), indexed for inflation. For defined benefit plans, a self-employed owner's benefit is based on self-employment net earnings less deductible contributions.

In plans such as 401(k)s or SIMPLE IRA plans where employees defer part of their salary, self-employed owners are deferring part of their self-employment earnings. For employees, deferred salary is excluded from taxable pay; for self-employed owners, deferred self-employment earnings are deducted.

Keogh plans, like comparable corporate plans, must be established by the end of the year for which you are making the contribution. Once established, you have until your tax return filing date - including extensions - to make the contribution.

SIMPLE IRA Plans generally must be established by October 1 of the year they go into effect.

A SEP may be established by the tax return due date, including extensions, for the year it goes into effect. Thus, a plan effective for 20232 can be created in 2024; contributions to that plan in 2024 will be deductible on the 2023 return if designated as for 2023 and made by the 2023 return due date including extensions.

Employee contributions. These are important elements of many employer plans, allowing employees to make their own tax-sheltered investments within the company plan.

In many cases such contributions are "pretax"-that is, from salary (reducing taxable pay), as in the case of 401(k)s, SIMPLE IRA Plans, and certain SEP Plans, called SARSEPs, formed before 1997. Pretax "employee" contributions can also be made by self-employed owners, in which case they reduce taxable self-employment earnings. The ceilings on such contributions are discussed above (SARSEP and 401(k) ceilings are the same).

Additional pretax contributions are allowed for participants age 50 or over. In 2023 the ceiling amount of such contributions, called "catch-up" contributions (misleadingly, since the amount or lack of prior contributions is irrelevant), for 401(k)s is $7,500, for IRAs it is $1,000, and for SIMPLE IRA Plans, the amount is $3,500.

Employee contributions may also be after-tax. That is, they are not excludable (when made by employees) or deductible (where made by self-employed owners) but still grow tax-free once invested, until withdrawn. The contributions come back tax-free; only the earnings are taxed.

Employee after-tax contributions may be attached to a plan, such as a 401(k), or be to a standalone plan (maybe called a savings plan) for employees' contributions alone, or with some employer match.

Credit for low-income participants. "Lower-bracket" taxpayers age 18 and over are allowed a tax credit for their contributions to a plan or IRA. The "Saver's Credit" is allowed on joint returns of couples (filing jointly) with (modified) adjusted gross income (AGI) below $65,000 (up from $64,000 in 2019). The credit is a percentage (10, 20, and 50 percent) of the contribution, up to a contribution total (considering all contributions to all plans and IRAs) of $2,000. The lower the AGI, the higher the credit percentage: the maximum credit is $1,000 (50 percent of $2,000). Head-of-household dollar amount and the AGI credit percentage ranges are indexed for inflation.

The credit is allowed whether the contribution is pre-tax (credit is in addition to a deduction or exclusion) or after-tax.

Review plan decisions. There have been a number of recent law changes, especially in the already popular 401(k).

Those lacking tax-favored retirement plans should give plan adoption a new look. Those with such plans already should review the options, and what's required to take advantage of them. Professional guidance is essential and, as pointed out above, encouraged by the law.

Individual Retirement Accounts. An employer may establish IRAs for its employees to which the employees contribute though this is not usual. An employer may establish IRAs for employees within an employer plan. But virtually all IRAs are set up by the individual worker, employed or self-employed (occasionally for the worker's spouse) without the involvement of any employer.

An IRA is a tax-favored savings plan that allows workers to make contributions with pre-tax dollars (where a deduction is allowed, see below) and defer taxation on earnings until retirement.

There are several limitations to IRAs:

The maximum contribution that you can make to a traditional or Roth IRA is the smaller of $6,500 or the amount of your taxable compensation for 2023. This limit can be split between a traditional IRA and Roth IRA, but the combined limit is $6,500. If you are 50 years of age or older before the end of 2023, the maximum contribution that can be made to a traditional or Roth IRA is the smaller of $7,500 or the amount of your taxable compensation for 2023.
The account holder may not use funds to purchase life insurance or collectibles (except gold or silver coins issued by the U.S. Government).
IRA contributions up to the ceiling are deductible if neither the taxpayer nor his or her spouse is covered by a corporate or unincorporated retirement plan. The deduction is limited (phases out) at prescribed income levels (which increase each year) where the taxpayer is covered by a plan or where (using higher levels) the taxpayer's spouse is covered although the taxpayer is not. A nondeductible contribution is allowed in other cases, and nondeductible contribution is allowed to Roth IRAs subject to income limits. Also, low-income taxpayers are allowed the up-to-$1,000 tax credit described above (under Employee Contributions) for IRA contributions.

WHERE TO GET PENSION INFORMATION

The variety of plans and related regulations are numerous. You should consult with your professional advisors regarding which options are available to you and which one best first your company's needs.

QUESTIONS TO ASK BEFORE FINALIZING A PENSION PLAN

Does the plan require a given level of contribution each year?
Do the plan provisions (eligibility, hours of service and vesting of employer contributions) meet current and future needs?
What are the costs of establishing and administering a plan and trust, including providing annual employee reports?
What investment options are offered?
Are there any loads (charges) associated with deposits (front-end charges) or surrenders (rear-end charges) from the plan?
Can - and should - employees make individual investment selections? What types of reports do participants receive?

Leave

The old concept of "two weeks with pay" has given way to a wide variety of paid and unpaid leave plans for all businesses. Typically, these include:

Annual leave.
Holidays (national and state).
Sick leave.
Personal leave (birthday, other reason of choice).
Emergency leave.
Compassionate leave (funeral, family illness).
Religious observance.
Community service (voting, jury duty, court witness, National Guard, Civil Air Patrol, volunteer fire department).
Education/training.
Leave without pay.
Leave of absence (paid or unpaid).
Parental (formerly maternity) leave.

In a strict sense, paying people for not working is a costly, unprofitable concept. However, time off from the grind is a tradition of the American workplace, and rightly so. Benefits can far outweigh costs. Among the many benefits for the employee are rest, relaxation, a new perspective, travel, pursuit of hobbies and release from daily tensions. The employer also benefits - the employee returns refreshed from the break in the daily routine, possibly with new ideas and renewed energy for doing a better job. Employers also can observe the performance of employees in new situations, as they fill in for their vacationing coworkers, potentially leading to better allocation of workforce talents.

ELIGIBILITY FOR LEAVE

In determining employee eligibility for leave, an employer must find the answers to many questions, including the following.

How much paid leave time can the company afford per year?
How many categories of leave should there be?
Can employees carry over unused leave from one year to the next? If so, how much?
Are there leave rights during probation?
Who gets first choice of dates in scheduling annual leave? How are conflicts resolved? By seniority?
Can employees borrow leave in advance?
At what point does extended/borrowed paid leave become unpaid leave and extended/borrowed unpaid leave become unemployment?
Are employees eligible for more leave after a certain number of years with the company?

Employers must determine when eligibility for leave begins: Immediately? After the first year? Many employers establish a paid annual leave schedule by declaring employees eligible for so many hours leave after they have worked a specified number of hours; for example, two hours leave for every 80 hours worked or one day for so many weeks worked.

Limits on sick and other leave are vital. You should restrict sick leave to illness or medical examinations and treatment. It must not become an extension of annual leave. Accordingly, it is wise to reserve the right to require physician certification of an illness.

Although the vast majority of employees will not abuse time allowed for compassionate, emergency or other leave categories, clear policies should be established on requesting such leave and on its duration.

BUDGET CONSIDERATIONS

Granting paid or unpaid leave is a costly benefit. Depending on the nature of an employee's work, you may need to require overtime from other employees or hire temporary employees to cover the absence. Extended leave situations pose special problems.

QUESTIONS TO ASK BEFORE FINALIZING A LEAVE PLAN

Is the business open on all holidays? If not, on which ones?
If the business is open on holidays, do you work with full or limited staff, paying them double time as may be required by law?
How many hours/days are allowed as leave for voting, jury duty, religious observance, funerals, etc.?
How are insured benefits handled during unpaid leave?
Which state laws affect leave?

Perquisites

While all employees are usually eligible for benefits such as health and other insurance, retirement plans and leave, key employees have come to expect certain additional benefits related to their increased levels of responsibility. Among the perquisites or perks employers may want to consider for top performers and key or even all, employees are:

Company automobile.
Extra vacation.
Special parking privileges.
Personal expense accounts.
Spouse travel on company business.
Sabbaticals (with pay).
Professional memberships.
Professional publications.
Loans/mortgages.
Estate planning.
Legal services.
Medical expense reimbursement.
Physical examinations/health screening.
Physical exercise facilities.
Executive dining room.
Matched donations to universities, colleges and/or charities.
Tuition programs.
Dependent day care (on- or off-site).
Merchandise discounts.
Holiday gifts.
Employee assistance programs (EAPs) (substance abuse, debt, interpersonal relationships, psychological, financial, other types of counseling).
Service awards.
Credit unions.

Like basic benefits, perquisites help attract and keep good employees. You can balance the far higher cost of providing some perquisites with expectations of increased production from the employees who benefit.

Key employees responsible for generating contacts for new business should receive consideration for company automobiles, personal expense accounts, professional memberships, and publications, club memberships, spouse travel on company business, credit cards, home entertainment allowances, end-of-year bonuses, and sabbaticals.

Sales staff responsible for keeping current customers satisfied should receive consideration for company automobiles (if needed for their duties), credit cards, personal expense accounts, professional memberships and publications, sales commissions, spouse travel on company business and end-of-year bonuses.

All employees should receive consideration for EAPs, physical exercise facilities (if you have them), parking, tuition programs, dependent daycare, holiday gifts, service awards, credit unions, matched donations to universities, colleges and/or charities, physical examinations or health screenings when offered and merchandise discounts.

Offer legal services and loans and mortgages on a case-by-case basis. Some perquisites, such as extra vacation, should be given only as a reward for extraordinary service to your company.

You may want to consider employer-employee cost-sharing of such pre-requisites as physical exercise facilities, dependent daycare, parking and, perhaps, some health screening services.

Before beginning any program of perquisites, check current tax law for treatment of each item:

Can you, as the employer, deduct it as a business expense?
Will it become taxable income for your employee?

Flexible Compensation or "Cafeteria" Plans

To accommodate today's many variations in family relationships, lifestyles, and values, flexible compensation or "cafeteria" benefit plans have emerged. In addition to helping meet employee needs, cafeteria plans also help employers control overall benefit costs.

The idea behind cafeteria plans is that amounts which would otherwise be taken as taxable salary are applied, usually tax-free, for needed services like health or childcare.

Example: Employee John earning $60,000 allocates $4,000 of salary to cover health care costs through a cafeteria plan. John is taxed on $56,000; the $4,000 is tax-free. Had John taken the full $60,000 and paid $4,000 of health care costs directly, he would have paid tax on the full $60,000, probably with no offsetting medical expense deduction.

Besides saving employee income and social security taxes, salary diverted to cafeteria plan benefits isn't subject to social security tax on the employer. With a cafeteria plan, employees can choose from several levels of supplemental coverage or different benefits packages. These can be selected to help employees achieve personal goals or meet differing needs, such as health coverage (family, dental, vision), retirement income (401(k) plans) or specialized services (dependent care, adoption assistance, legal services (legal services amounts are taxable).

Careful planning and communication are the keys to the success of flexible compensation. Employees must fully understand their options to make the choices of greatest benefit to them and their families. Both employers and employees must fully understand the tax consequences of the various options.

KEEPING CURRENT ON BENEFIT PLANS

The government has certain requirements for qualified pension or profit-sharing plans, as well as for most health and welfare plans. It is essential for you to stay current on developments that may affect your plan. Even small changes in tax laws can have a significant impact on your plan's ability to help you and your employees achieve your goals. Information on these requirements is available from the IRS and from qualified accountants and financial advisors.

COMMUNICATIONS

Once you've implemented a benefits program, you'll want to tell your employees about it. Good communication is important in enabling employees to use the plan effectively and to appreciate the role of benefits in their total compensation.

Benefits orientation should be part of the orientation of a new employee. You can use newsletters, staff memos or employee meetings with audiovisuals to announce plan changes or answer employees' questions.

PLANNING POINTERS

Before you implement any benefit plan, you should ask yourself some questions:

How much are you willing to pay for this coverage?
What kinds of benefits interest your employees? Do you want employee input?
What do you think a benefits plan should accomplish? Do you think it is more important to protect your employees from economic hardship now or in the future?
Is a good medical plan more important than a retirement plan?
Do you want to administer the benefits plan, or do you want the administration done by an insurance carrier?
What is your employee group like today? Can you project what it might look like in the future?

You now have some basic benefits information as well as the basic questions that need answers before you go benefit shopping for your employees.

If you are serious about offering your employees a satisfactory benefit plan, the next step may be to contact an insurance broker or carrier, the local chamber of commerce or trade associations. There may be off the shelf products that will suit your needs. A benefit consultant or actuary can help you design a specialized benefit program.

An adequate benefit program has become essential to today's successful business, large or small. With careful planning, you and your employees can enjoy good health and retirement protection at a cost your business can afford.

Document Locator System: A Handy Aid For Keeping Track of Your Records

Are you able to locate insurance contracts, wills, and other important personal records quickly and easily? With this simple document locator system, you no longer need to wonder where to file a paper or where to find it.

The Document Locator System

Most people have no idea where to start searching for their important records. They usually keep them scattered in various locations - tax records in a file cabinet, savings bonds in a home safe, wills at an attorney's office, some contracts or deeds in a bank safe deposit box.

There's a reason many people do not have an organized recordkeeping system: Organizing your records is stressful and confusing.

The Document Locator System is effective because it takes away that stress and confusion. This simple recordkeeping system provides an easy way to keep track of your important personal (not business) records, keeping them organized and available. You will not miss out on a tax deduction because you did not keep the necessary receipt. More importantly, the document locator system will help a spouse or executor locate your documents in case of death or disability.

Set Up Tabbed Sections

Set up tabbed sections in your files with the following captions (customizing sections as appropriate to your particular situation):

Banking
Children
Credit and Loans
Employment
Estate Planning [including wills and post-mortem matters]
Important Personal
Insurance
Investments
Major Assets
Professional Residences
Tax Records
Vehicles [including boats]

File the Documents

File the documents and other records listed in Column 1 in the file sections recommended in Column 2 of the Document Locator. Where the original or a copy is filed elsewhere, note this location in Column 3 of the Document Locator. You can also use Column 3 for any notes regarding the document (such as Passport - "Renew by October 12, 2022" or IRA - "Take first distribution by December 31, 2022"). Where your filing system suggests a file section other than that recommended in Column 2, just substitute your location for the recommended one. For items other than those named here, use the blank spaces at the end of the Locator.

This Document Locator is shown at the end of this Financial Guide.

Put a photocopy of the Document Locator, which will contain the locations of all your important documents, in a fireproof safe or safe deposit box.

In addition to the Document Locator System, prepare a post-mortem letter to a spouse or executor. This is also an essential part of helping your heirs and family members get your affairs in order in the event of death or disability. The purpose of such a letter is to provide them with the information needed to locate records or assets. This will prevent erosion of your estate by unnecessary taxes, unfounded claims, or just plain loss of assets.

The key is to develop and follow some type of recordkeeping system, not necessarily the one recommended here. If you have any questions, contact your financial advisor.

Cull your records every so often. By getting rid of the papers you no longer need, you minimize the ever-encroaching mountains of paper we all have to handle.

Documents You Should Be Able To Locate Easily

Certain documents, records, and other information should be easily locatable in an emergency. These include (1) your personal records, (2) a list of your assets, (3) your estate planning records, and (4) your financial records.

PERSONAL RECORDS

Birth certificates of family members
Death certificates of deceased family members
Marriage license
Divorce decree and custody agreement (if divorced)
Passports (updated)
Social Security numbers for family members
The names and addresses of family members, close relatives, and any persons mentioned in a will
Military records
List of previous employers
List of government employers
Medical records and health insurance cards for family members

In most cases, the reason these documents are needed is self-explanatory.

LIST OF YOUR ASSETS

Description of all major assets that you own separately or jointly with your spouse or other person, together with the approximate values and location of deeds, titles, stock certificates, or other evidence of ownership.

Include cash, realty, investments, IRAs, retirement plan benefits, life insurance policies, interests in partnerships or other business entities, jewelry and other luxury items, automobiles, boats, antiques, coin collections, collectibles, art objects, and debts owed to you by others.

Appraisals of valuable items
Description of the approximate amounts of pension, military, and/or other benefits you or your spouse may be entitled to on retirement or death
Insurance policies (including group life, individual life, health, casualty, auto, etc.) and identity and phone numbers of insurance agents

ESTATE PLANNING RECORDS

The whereabouts of your will and codicils, along with the name and address of the attorney who prepared them
Title to cemetery plot or other burial arrangement
Post-mortem letter to spouse or family members, to be opened after your death
Living will or other directions in case of disability

FINANCIAL AND OTHER RECORDS

Location of all safe deposit boxes, keys, and passwords
Important canceled checks
The names and addresses of your CPA, attorney, and any other professionals concerned with your financial affairs
Photographic or video record of house and its contents (for homeowners' insurance purposes)
One statement for each bank account, IRA, mutual fund, broker, or other account you own, along with the name and telephone number of the primary banker, broker, or other contact person for each account
Brokers' confirmation slips for purchases
A statement or other reference for any bank account that is not in your name
One statement or payment stub for each credit card, line of credit, or outstanding loan
Income tax returns for at least six prior years (including all supporting records for the past six years), and all prior gift tax returns
Records showing the original cost of any realty owned, cost of all improvements that can be added to tax basis, and depreciation taken (for business or rental property)
Bills of sale or receipts for major items
Equipment and appliance manuals and warranty information

Where to File What

DOCUMENT	WHERE TO FILE
Accident reports	Insurance
Adoption records	Important Personal and/or Children
Accountant	Professionals
Address book	Important Personal
Alimony records	Tax Records
Apartment - records for	Residences
Annuity	Investments
Antiques	Major Assets
Appliances - receipts, warranties, and contracts for	Major Assets
Appraisals of assets	Major Assets
Assets - list of	Major Assets
Attorney	Professionals and/or Estate Planning
Auto insurance	Vehicles and/or Insurance
Auto loans	Credit and Loans
Auto mileage logs	Tax Records
Automobile title	Vehicles
Bank account statements	Banking
Bills of sale	Major Assets
Birth certificates	Important Personal and/or Children
Boat insurance	Insurance
Boat records	Vehicles
Broker account statements	Investments
Business interests	Investments
Canceled checks - general	Banking
Canceled checks - insurance	Insurance
Canceled checks - tax related	Tax Records
Casualty loss records	Insurance
CD	Banking and/or Investments
Cemetery plot	Estate Planning
Charitable gifts	Tax Records
Checking account statements	Banking
Child support papers	Important Personal and/or Children
Claims - insurance	Insurance
Coin collection	Major Assets
Collections	Major Assets
Confirmation slips - from broker	Investments
CPA	Professionals
Credit cards - list of	Credit and Loans
Credit card statements	Credit and Loans
Credit report - from credit reporting agency	Credit and Loans
Credit union papers	Banking and/or Credit and Loans
Custody agreement	Important Personal and/or Children
Day care records	Children
Death benefits	Employment
Death certificate	Important Personal
Debts owed to you	Investments
Debts you owe	Credit and Loans
Deeds to homes	Residences
Disability insurance	Insurance
Dividends - records of	Investments
Divorce decree	Important Personal
Doctors	Professionals
Dues - professional or union	Tax Records
Employee benefits - description of	Employment
Employers - list of	Employment
Equipment - business use of	Tax Records
Equipment - warranties for	Major Assets
Expenses	Tax Records
Fees - deductible	Tax Records
Financial statement - your personal	Credit and Loans
Forms - tax	Tax Records
Funeral arrangements	Estate Planning
Furs	Major Assets
Gifts - taxable	Tax Records
Government employers - list of	Employment
Health insurance	Insurance
Home - contents of, photographic records	Insurance
Home office	Tax Records
Home improvements	Residences
Inherited property - record of basis	Residences
Insurance policies	Insurance
Interest - record of	Residences and/or Tax Records
IRA	Banking
Jewelry	Major Assets
K-1 Forms	Tax Records
Safe deposit box keys	Banking
Lawyers	Professionals and/or Estate Planning
Lease - home	Residences
License - driver's	Vehicles
Life insurance policies	Insurance
Limited partnership documents	Investments
List of assets	Major Assets
List of automobiles	Vehicles
List of bank accounts	Banking
List of brokerage accounts	Investments
List of children's schools	Children
List of credit cards	Credit and Loans
List of debts	Credit and Loans
List of employers - government and private	Employers
List of home improvements	Residences
List of life insurance policies	Insurance
List of safe deposit boxes	Banking
Living will	Important Personal
Loans - list of	Credit and Loans
Maintenance of appliances	Major Assets
Marriage certificate	Important Personal
Medical expenses	Tax Records
Medical professionals	Professionals
Mileage logs - expenses	Tax Records
Military discharge	Important Personal
Military employers	Employment
Mortgage note	Residences
Mortgage payments and yearly statement	Residence and/or Tax Records
Moving expense	Tax Records
Mutual funds	Investments
Naturalization papers	Important Personal
Owner's manuals	Vehicles and/or Major Assets
Partnership statements	Tax Records
Passports	Important Personal
Paycheck stubs	Employment
Pets	Important Personal
Pension benefits - description	Employment
Photos of family members	Important Personal
Photos of home contents	Insurance
Properties owned - list of	Residences
Property damage - records	Insurance
Prospectuses	Investments
Real estate owned	Residences
Real estate taxes	Residences and/or Tax Records
Registration	Vehicles
Rent - records of	Residences
Residence closing - records of	Residences
Retirement accounts	Investments
Safe deposit boxes	Banking
Savings accounts	Banking
Schools - list of	Children
Service - military	Employment and/or Important Personal
Social Security numbers	Important Personal
Stock certificates	Investments
Survivors' benefits-descriptions	Employment
Tax returns and forms	Tax Records
Traffic tickets	Vehicles
Titles to vehicles	Vehicles
Travel expenses	Tax Records
Trust documents	Estate Planning
Unemployment compensation	Employment
Vacation home	Residences
W-2 forms	Tax Records
Warranties	Major Assets
Wills	Estate Planning

The Home-Based Business: Some Basics You Should Consider

And, with technological advances in smartphones, tablets, and iPads as well as a rising demand for "service-oriented" businesses, the opportunities seem to be endless.

Is a Home-Based Business Right for You?

Can you describe in detail the business you plan on establishing?
What will be your product or service?
Is there a demand for your product or service?
Can you identify the target market for your product or service?
Do you have the talent and expertise needed to compete successfully?

Are you a self-starter?
Can you stick to business if you're working at home?
Do you have the necessary self-discipline to maintain schedules?
Can you deal with the isolation of working from home?

Compliance with Laws and Regulations

Zoning

Be aware of your city's zoning regulations. If your business operates in violation of them, you could be fined or closed down.

Restrictions on Certain Goods

Registration and Accounting Requirements

You may need the following:

Work certificate or a license from the state (your business's name may also need to be registered with the state)
Sales tax number
Separate business telephone
Separate business bank account

If your business has employees, you are responsible for withholding income, social security, and Medicare taxes, as well as complying with minimum wage and employee health and safety laws.

Planning Techniques

Related Guide: For guidance on setting up a business plan, please see the Financial Guide BUSINESS PLANS: How To Prepare An Effective One.

Estimating Start-Up Costs

To estimate your start-up costs, include all initial expenses such as fees, licenses, permits, telephone deposit, tools, office equipment and promotional expenses.

Business experts say you should not expect a profit for the first eight to 10 months, so be sure to give yourself enough of a cushion if you need it.

Projecting Operating Expenses

Projecting Income

Determining Cash Flow

Make a list of all anticipated expenses and projected income for each week and month. If you see a cash-flow crisis developing, cut back on everything but the necessities.

Financial Planning Tips For Business Owners

1. Consider establishing an employee stock ownership plan (ESOP).

If you own a business and need to diversify your investment portfolio, consider establishing an ESOP. ESOP's are the most common form of employee ownership in the U.S. and are used by companies for several purposes, among them motivating and rewarding employees and being able to borrow money to acquire new assets in pretax dollars. In addition, a properly funded ESOP provides you with a mechanism for selling your shares with no current tax liability. Consult a specialist in this area to learn about additional benefits.

2. Make sure there is a succession plan in place.

Have you provided for a succession plan for both management and ownership of your business in the event of your death or incapacity? Many business owners wait too long to recognize the benefits of making a succession plan. These benefits include ensuring an orderly transition at the lowest possible tax cost. Waiting too long can be expensive from a financial perspective (covering gift and income taxes, life insurance premiums, appraiser fees, and legal and accounting fees) and a nonfinancial perspective (intra-family and intra-company squabbles).

3. Consider the limited liability company (LLC) and limited liability partnership (LLP) forms of ownership.

These entity forms should be considered for both tax and non-tax reasons.

4. Avoid nondeductible compensation.

Compensation can only be deducted if it is reasonable. Recent court decisions have allowed business owners to deduct compensation when (1) the corporation's success was due to the shareholder-employee, (2) the bonus policy was consistent, and (3) the corporation did not provide unusual corporate prerequisites and fringe benefits.

5. Purchase corporate owned life insurance (COLI).

COLI can be a tax-effective tool for funding deferred executive compensation, funding company redemption of stock as part of a succession plan and providing many employees with life insurance in a highly leveraged program. Consult your insurance and tax advisers when considering this technique.

6. Consider establishing a SIMPLE retirement plan.

If you have no more than 100 employees and no other qualified plan, in 2023, you may set up a Savings Incentive Match Plan for Employees (SIMPLE) into which an employee may contribute up to $15,5000 per year if you're under 50 years old and $19,000 a year, if you're over 50. As an employer, you are required to make matching contributions. Talk with a benefits specialist to fully understand the rules and advantages and disadvantages of these accounts.

7. Establish a Simplified Employee Pension (SEP) IRA or Individual 401(k) Plan before December 31st.

If you are self-employed and want to deduct contributions to a new retirement plan for this tax year, you must establish the plan by December 31st. You don't actually have to put the money into your retirement account until the due date of your tax return (generally April 15). Consult with a specialist in this area to ensure that you establish a retirement plan that maximizes your flexibility and your annual contributions.

8. Section 179 expensing.

Businesses may be able to expense up to $1,160,000 in 2023 for equipment purchases of qualifying property placed in service during the filing year, instead of depreciating the expenditures over a longer time period. The limit is reduced by the amount by which the cost of Section 179 property placed in service during the tax year 2023 exceeds $2,890,000.

9. Don't forget deductions for health insurance premiums.

If you are self-employed or are a partner or a 2-percent S corporation shareholder-employee you may deduct 100 percent of your medical insurance premiums for yourself and your family as an adjustment to gross income. The adjustment does not reduce net earnings subject to self-employment taxes, and it cannot exceed the earned income from the business under which the plan was established. You may not deduct premiums paid during a calendar month in which you or your spouse is eligible for employer-paid health benefits.

10. Review whether compensation may be subject to self-employment taxes.

If you are a sole proprietor, an active partner in a partnership, or a manager in a limited liability company, the net earned income you receive from the entity may be subject to self-employment taxes.

11. Don't overlook minimum distributions at age 72 and rack up a 50 percent penalty.

The Further Consolidated Appropriations Act, 2020, which went into effect on January 1, 2020, included the SECURE (Setting Every Community Up for Retirement) Act and increased the age for required minimum distributions (RMDs) to the year a taxpayer turns age 72. In prior years, minimum distributions were generally required at age 70 1/2. Now, these minimum distributions from qualified retirement plans and IRAs must begin by April 1 of the year after the year in which you reach age 72. The amount of the minimum distribution is calculated based on your life expectancy or the joint and last survivor life expectancy of you and your designated beneficiary. If the amount distributed is less than the minimum required amount, an excise tax equal to 50 percent of the amount of the shortfall is imposed.

12. Don't double up your first minimum distributions and pay unnecessary income and excise taxes.

You are allowed to delay the first distribution until April 1 of the year following the year you reach age seventy-two. In subsequent years, the required distribution must be made by the end of the calendar year. This creates the potential to double up in distributions in the year after you reach age 72. This double-up may push you into higher tax rates than normal. In many cases, this pitfall can be avoided by simply taking the first distribution in the year in which you reach age 72.

13. Don't forget filing requirements for household employees.

Employers of household employees must withhold and pay social security taxes annually if they paid a domestic employee more than $2,600 a year in 2023. Federal employment taxes for household employees are reported on your individual income tax return (Schedule H, Form 1040). To avoid underpayment of estimated tax penalties, employers will be required to pay these taxes for domestic employees by increasing their own wage withholding or quarterly estimated tax payments. Although the federal filing is now required annually, many states still have quarterly filing requirements.

14. Consider funding a nondeductible regular or Roth IRA.

Although nondeductible IRAs are not as advantageous as deductible IRAs, you still receive the benefits of tax-deferred income. One way to do this is to convert a traditional IRA to a ROTH IRA. You can withdraw all or part of the assets from a traditional IRA and reinvest them (within 60 days) in a Roth IRA. The amount that you withdraw and timely contribute (convert) to the Roth IRA is called a conversion contribution.

If properly (and timely) rolled over, the 10 percent additional tax on early distributions will not apply. However, a part or all of the distribution from your traditional IRA may be included in gross income and subjected to ordinary income tax. You can roll over all or part of the withdrawal into a Roth IRA; however, any amounts that you do not roll over will generally be taxable (except for the part that is a return of nondeductible contributions) income and may be subject to the 10 percent additional tax on early distributions.

15. Calculate your tax liability as if filing jointly and separately.

In certain situations, filing separately may save money for a married couple. If you or your spouse is in a lower tax bracket or if one of you has large itemized deductions, filing separately may lower your total taxes. Filing separately may also lower the phase-out of itemized deductions and personal exemptions, which are based on adjusted gross income. When choosing your filing status, you should also factor in the state tax implications.

16. Avoid the hobby loss rules.

If you choose self-employment over a second job to earn additional income, avoid the hobby loss rules if you incur a loss. The IRS looks at a number of tests, not just the elements of personal pleasure or recreation involved in the activity.

17. Review your will and plan ahead for postmortem tax strategies.

A number of tax planning strategies can be implemented soon after death. Some of these, such as disclaimers, must be implemented within a certain period of time after death. A number of special elections are also available on a decedent's final individual income tax return. Also, review your will as the estate tax laws are in flux and your will may have been written with differing limits in effect. In 2023, estates of $12,920,000 (up from $12,060,000 in 2022) are exempt from the estate tax with its 40 percent maximum tax rate (made permanent starting in tax year 2013).

18. Check to see if you qualify for the Child Tax Credit.

For tax years 2018 through 2025, the child tax credit increases to $2,000 per child, up from $1,000 in 2017, thanks to the passage of the TCJA. The enhanced child tax credit, which was made permanent by the Protecting Americans from Tax Hikes Act of 2017 (PATH), remains under TCJA. The refundable portion of the credit increases from $1,000 to $1,400 so that even if taxpayers do not owe any tax, they can still claim the credit. Under TCJA, a $500 nonrefundable credit is also available for dependents who do not qualify for the child tax credit (e.g., dependents age 17 and older).

The "SIMPLE" Plan: A Retirement Plan for the Really Small Business

Several different types of retirement plan - 401(k), defined benefit, and profit-sharing - can be made to suit a prosperous small business or professional practice. But if yours is a really small business such as a home-based, start-up, or sideline business, maybe you should consider adopting a SIMPLE IRA plan.

A SIMPLE IRA plan is a type of retirement plan specifically designed for small business and is an acronym for "Savings Incentive Match Plans for Employees." SIMPLE IRA plans are intended to encourage small business employers to offer retirement coverage to their employees but work just as well for self-employed persons without employees.

SIMPLE IRA plans contemplate contributions in two steps: first by the employee out of salary, and then by the employer, as a "matching" contribution (which can be less than the employee contribution). Where SIMPLE IRA Plans are used by self-employed persons without employees - as IRS expressly allows - the self-employed person is contributing both as employee and employer, with both contributions made from self-employment earnings.

One form of SIMPLE IRA plan allows employer contributions without employee contributions. The ceiling on contributions, in this case, makes this SIMPLE IRA Plan option unattractive for self-employed individuals without employees.

To establish a SIMPLE IRA Plan you:

Must have 100 or fewer employees.
Cannot have any other retirement plans.
Employees must earn $5,000 a year.

And, here is a quick list of pros and cons:

Plan is not subject to the discrimination rules that everyday 401(k) plans are.
Employees are fully vested in all contributions.
Straightforward benefit formula allows for easy administration.
Optional participant loans and hardship withdrawals add flexibility for employees.
No other retirement plans can be maintained.
Withdrawal and loan flexibility adds administrative burden for the employer.

How Much You Can Put in and Deduct

Those with relatively modest earnings will find that a SIMPLE IRA Plan lets them contribute (invest) and deduct more than other plans. With a SIMPLE IRA Plan, you can put in and deduct some or all of your self-employed business earnings. The limit on this "elective deferral" is $15,500 in 2023 ($14,000 in 2022).

If your earnings exceed that limit, you could make a modest further deductible contribution - specifically, your matching contribution as an employer. Your employer contribution would be three percent of your self-employment earnings, up to a maximum of the elective deferral limit for the year. So employee and employer contributions for 2023 can't total more than $31,000 ($15,500 maximum employee elective deferral, plus a maximum $15,500 for the employer contribution.)

Catch up contributions. Owner-employees age 50 or over can make a further deductible "catch up" contribution as employee of $3,500 in 2023 ($3,000 in 2022).

An owner-employee age 50 or over in 2023 with self-employment earnings of $40,000 could contribute and deduct $15,500 as employee plus an additional $3,500 employee catch up contribution, plus a $1,200 (3 percent of $40,000) employer match, for a total of $20,200.

Low-income owner-employees in SIMPLE IRA Plans may also be allowed a tax credit up to $2,000 in 2023 for single filers ($4,000 married filing jointly). This is known as the "Saver's Credit" and income in 2023 must not be more than $73,000 for married filing jointly, $36,500 for singles and $54,750 for heads of household.

SIMPLE IRA plans are an excellent choice for home-based businesses and ideal for full-time employees or homemakers who make a modest income from a sideline business.

If living expenses are covered by your day job (or your spouse's job), then you would be free to put all of your sideline earnings, up to the ceiling, into SIMPLE IRA plan retirement investments.

An individual 401(k) plan, however, could allow you to contribute more, often much more, than SIMPLE IRA Plan. For example, if you are less than 50 years old with $50,000 of self-employment earnings in 2023, you could contribute $15,500 to your SIMPLE IRA PLAN plus an additional 3 percent of $50,000 as an employer contribution, for a total of $17,000. A 401(k) plan would allow a $35,000 contribution.

Withdrawal: Easy, but Taxable

There's no legal barrier to withdrawing amounts from your SIMPLE IRA Plan, whenever you please. There can be a tax cost, though: Besides regular income tax, the 10 percent penalty tax on early withdrawal (generally, withdrawal before age 59 1/2) rises to 25 percent on withdrawals in the first two years the SIMPLE IRA Plan is in existence.

A SIMPLE IRA Plan

A SIMPLE IRA Plan really is a "simple" plan to set up and operate than most other plans. Contributions go into an IRA that you set up. Those already familiar with IRA rules investment options, spousal rights, and creditors' rights don't have a lot new to learn.

Requirements for reporting to the IRS and other agencies are negligible, at least for you, the self-employed person. Your SIMPLE IRA Plan's trustee or custodian, typically an investment institution, has reporting duties and the process for figuring the deductible contribution is a bit simpler than with other plans.

What's Not So Good about SIMPLE IRA Plans

Other types of retirement plans are often better than the SIMPLE IRA Plan once self-employment earnings become significant. Other not-so-good features include the following:

Because investments are through an IRA, you're not in direct control. You must work through a financial or other institution acting as trustee or custodian, and will in practice have fewer investment options than if you were your own trustee, as you could be in a Keogh. For many self-employed individuals, however, this won't be an issue. In this respect, a SIMPLE IRA Plan is like the SEP-IRA.

Other plans for self-employed persons allow a deduction for one year (say 2023) if the contribution is made the following year (2024) before the prior year's (2023) return is due (April 2024 or later with extensions). This rule applies to SIMPLE IRA Plans, for the matching (3 percent of earnings) contribution you make as an employer. But there's no IRS pronouncement on when the employee's portion of the SIMPLE IRA Plan is due where the only employee is the self-employed person. Those who want to delay contribution would argue that they have as long as it takes to compute self-employment earnings for 2023 (though not beyond the 2023 return due date, with extensions).

The sooner your money goes in the plan, the longer it's working for you tax-free. So delaying your contribution isn't the wisest financial move.

You can't set up the SIMPLE IRA Plan after the year ends and still get a deduction for that year, as is allowed with SEPs. Generally, to make a SIMPLE IRA Plan effective for the year it must be set up by October 1 of that same year. A later date is allowed where the business is started after October 1. In this instance, the SIMPLE IRA Plan must be set up as soon thereafter as administratively feasible.

Then there's a problem if the SIMPLE IRA Plan is intended for a sideline business and you're already in a 401(k) plan in another business or as an employee. In this scenario, the total amount you can put into the SIMPLE IRA Plan and the 401(k) plan combined can't be more than $22,500 in 2023 or $30,000 total if catch-up contributions of $7,500 are made to the 401(k) if age 50 or older.

Here's an example: If someone who is less than age 50 puts $12,500 in her 401(k), they can't put more than $10,000 in their SIMPLE IRA Plan in 2023. The same limit applies if you have a SIMPLE IRA Plan while also contributing as an employee to a "403(b) annuity" (typically for government employees and teachers in public and private schools).

How to Get Started in a SIMPLE IRA Plan

You can set up a SIMPLE IRA Plan on your own by using IRS Form 5304-SIMPLE, Savings Incentive Match Plan for Employees of Small Employers (SIMPLE) - Not for Use With a Designated Financial Institution, or Form 5305-SIMPLE, Savings Incentive Match Plan for Employees of Small Employers (SIMPLE) - for Use With a Designated Financial Institution, but most people turn to financial institutions to take care of the paperwork for them. SIMPLE IRA Plans are offered by the same financial institutions that offer IRAs and 401(k) plans.

You can expect the institution to give you a plan document (approved by IRS or with approval pending) and an adoption agreement. In the adoption agreement, you will choose an "effective date," which is the beginning date for payments out of salary or business earnings. Remember, that date can't be later than October 1 of the year you adopt the plan, except when a business is formed after October 1.

Another key document is the Salary Reduction Agreement, which briefly describes how money goes into your SIMPLE IRA Plan. You need such an agreement even if you pay yourself business profits rather than salary.

Printed guidance on operating the SIMPLE IRA Plan may also be provided. You will also be establishing a SIMPLE IRA Plan account for yourself as a participant.

Keoghs, SEPs and SIMPLE IRA Plans Compared For 2023

Keogh	SEP	SIMPLE IRA PLAN
Plan type: Can be defined benefit or defined contribution (profit-sharing or money purchase)	Defined contribution only	Defined contribution only
Owner may have two or more plans of different types, including a SEP, currently or in the past	Owner may have SEP and Keoghs	Generally, SIMPLE IRA PLAN is the only current plan
Plan must be in existence by the end of the year for which contributions are made	Plan can be set up later - if by the due date (with extensions) of the return for the year contributions are made	Plan generally must be in existence by October 1st of the year for which contributions are made
Dollar contribution ceiling (for 2023): $66,000 for defined contribution plan; no specific ceiling for defined benefit plan	$66,000	$30,000
Percentage limit on contributions: 50% of earnings, for defined contribution plans (100% of earnings after contribution). Elective deferrals in 401(k) not subject to this limit. No percentage limit for defined benefit plan.	50% of earnings (100% of earnings after contribution). Elective deferrals in SEPs formed before 1997 not subject to this limit.	100% of earnings, up to $15,500 for 2023 for contributions as employee; 3% of earnings, up to $15,500 for contributions as employer
Deduction ceiling: For defined contribution, lesser of $66,000 or 20% of earnings (25% of earnings after contribution). 401(k) elective deferrals not subject to this limit. For defined benefit, net earnings.	Lesser of $66,000 or 20% of earnings (25% of earnings after contribution). Elective deferrals in SEPs formed before 1997 not subject to this limit.	Maximum contribution $15,500 (in 2023)
Catch up contribution 50 or over: Up to $7,500 in 2023 for 401(k)s	Same for SEPs formed before 1997	Half the limit for Keoghs, SEPs (up to $3,500 in 2023)
Prior years' service can count in computing contribution	No	No
Investments: Wide investment opportunities. Owner may directly control investments.	Somewhat narrower range of investments. Less direct control of investments.	Same as SEP
Withdrawals: Some limits on withdrawal before retirement age	No withdrawal limits	No withdrawal limits
Permitted withdrawals before age 59 1/2 may still face 10% penalty	Same as Keogh rule	Same as Keogh rule except penalty is 25% in SIMPLE IRA PLAN Plan's first two years
Spouse's rights: Federal law grants spouse certain rights in owner's plan	No federal spousal rights	No federal spousal rights
Rollover allowed to another plan (Keogh or corporate), SEP or IRA, but not a SIMPLE IRA PLAN.	Same as Keogh rule	Rollover after 2 years to another SIMPLE IRA PLAN and to plans allowed under Keogh rule
Some reporting duties are imposed, depending on plan type and amount of plan assets	Few reporting duties	Negligible reporting duties

Growing Your Business

Evaluating Your Market: A Basic Review

Market evaluation is the most critical element of successful business planning. It provides the basic data that will determine if and where you can successfully sell your product or service and how much to charge.

If you are thinking of starting a new business or expanding into new markets, proper market evaluation is critical to success. While it may sound deceptively simple to figure out if a market exists for your product or service, it's probably one of the most challenging requirements of a business. The process involves scrutinizing your competition and your customer base and interviewing potential suppliers.

The information collected can help you adopt your product or service to better meet customer needs. In some rare cases, it might lead to a totally new, but financially rewarding venture. This Financial Guide covers some of the basic considerations of market evaluation. It is intended as a basic introduction to a complex determination to help focus the thinking for those business people with limited experience in marketing. In many cases, a professional guidance can be extremely helpful.

Market Research

There are a number of benefits to conducting market research including:

Create primary and alternative sales approaches to a given market,
Make profit projections from a more accurate base,
Organize marketing activities,
Develop critical short/mid-term sales goals, and
Establish the market's profit boundaries.

So, how should you go about conducting your research? Two of the most important first steps are defining your goals and organizing the collection/analysis process. Maintain a set of well-documented and easily accessible files so you can store and retrieve data as needed.

Questions to Ask

Your research should ask these basic questions:

Who are your customers?
What are their needs and resources?
Is the service or product essential in their operations or activities?
Can the customer afford the service or product?
Where can you create a demand for the service or product?
Can you compete effectively in price, quality, and delivery?
Can you price the product or service to assure a profit?
How many competitors provide the same service or product?
What is the general economy of your service or product area?
What areas within your market are declining or growing?

Market Data

Knowing your market not only requires an understanding of your product, but also an understanding of your customers' social and economic characteristics. In conducting your research, you can access relevant market information from these sources:

The Small Business Administration (SBA) provides immediate, round-the-clock information on its services, publications, and programs. Users can access a national calendar of events, such as training programs, small business seminars, and international trade fairs. Most information is available at no cost.

The Small Business Development Centers (SBDCs) offer the latest in high-technology hardware, software, and telecommunications. Each BIC offers electronic bulletin boards, computer databases, on-line information exchange, periodicals and brochures, counseling, videotapes, reference materials, texts, start-up guides, application software, computer tutorials and interactive media. SBDCs are located around the country. One-on-one counseling with seasoned marketing veterans also is available through the Service Corps of Retired Executives, better known as SCORE.

Other sources include:

Trade association studies and journal articles.
Regional planning organization studies on growth trends.
Banks, realtors and insurance companies.
Customer surveys in your market area, which you can conduct on your own or search out existing material.

Finally, research on competitors is extremely important. Visit industry trade shows to find out what your competitors are selling and how they are marketing their products. Similarly, stay current on information in industry magazines and publications.

Research data will help you develop the basic assumptions in your financial projections - and tell you whether or not to go into business. Once you have obtained and analyzed this information, it becomes the foundation of your business plan. You should not view market research, however, as a one-time activity. Once you establish your business, you should continually be in touch with your customers. You may also have to adapt your product/service and/or marketing strategy to keep up with your customers' changing needs.

Export Markets

In general, you should be well-established in the U.S. market before committing resources and taking on additional risk to explore export markets. Some products, such as used equipment that is obsolete in the United States but new to other countries, may be particularly well-suited for exporting right from the start. Whatever your product or service, it is never too early to explore its export potential.

Researching international markets involves many of the same steps as domestic market evaluation. The first step is to identify the countries with the largest and fastest-growing markets for your product. The SBA's Office of International Trade can help. Information on this service can be found on the SBA's internet site. The National Trade Data Bank, maintained by the U.S. Department of Commerce, also contains valuable market information.

From your list of possible markets, you will want to determine which of these offer the best prospects. You should examine the markets in greater detail, looking at how your product quality and price compares with that of goods already available. You also should determine who your major customers are.

With this information, you can pick one or two export markets to explore initially. You can add more markets later as your export skills develop. Now you are ready to conduct more in-depth market research on this target market(s), just as you did before establishing your business.

Summary

A small business owner must know and understand the market. Market research is simply an orderly, objective way of learning about people-the people who will buy from you and sustain your business venture.

Pricing Your Products and Services: A Basic Review

Pricing goods and services is one of the most difficult tasks in the business arena. Many small businesses fail to make a profit simply because they don't consider all the factors necessary to make prices competitive and yield that elusive profit.

Before setting prices, you must understand your market, distribution costs, and competition. Remember, the marketplace responds rapidly to technological advances and international competition. You must keep abreast of the factors that affect pricing and be ready to adjust quickly.

This Financial Guide does not attempt to be an in-depth discussion of pricing analysis. Rather, it is intended only to provide a basic review of the several pricing strategies - and perhaps encourage you to take a fresh look at your present strategies. Professional financial guidance will be helpful in working up and evaluating the financial aspects of the analysis for your financial resources.

Retail Cost and Pricing

A common pricing practice among small businesses is to follow the manufacturer's suggested retail price. The suggested retail price is easy to use, but it does have one major shortcoming - it doesn't adequately account for the element of competition.

Competitive Position

An alternative to the manufacturer's suggested retail price is to base your price on those of your competitors. For example, a small retailer should compare prices with a store that's comparable in size and customer volume. It's risky to compete with a large store's prices because they can buy in larger volume, and their cost per unit may be less.

Instead, price products based on your local small-store analysis, and then highlight other competitive factors, like personalized customer service and convenient location. There are any number of factors that influence a consumer's decision to buy from a certain business, including price, convenience, and courteous and attentive service.

Pricing Below the Competition

Some vendors have been very successful pricing their goods or services below the competition. Since this strategy reduces the profit margin per sale, it requires a company to reduce its costs and:

Obtain the best prices possible for merchandise
Locate the business in an inexpensive location or facility
Closely control inventory
Limit the line to fast-moving items
Design advertising to concentrate on price specials
Limit other services.

One word of caution: Pricing goods below the competition can be difficult to sustain. Why? Because every cost component must be constantly monitored and adjusted, it exposes a business to pricing wars. Competitors can match the lower price, leaving both parties out in the cold.

Pricing Above the Competition

This strategy is possible when the cost of an item is not the customer's greatest concern. Considerations important enough for customers to justify paying higher prices include:

Service considerations, including delivery, speed of service, satisfaction in handling customer complaints, knowledge of product or service, and helpful, friendly employees
A convenient or exclusive location
Exclusive merchandise.

Multiple Pricing

This approach involves selling a number of units for a single price, for example, two items for $1.98 and is useful for low-cost consumable product, such as shampoo or toothpaste. Many stores find this an attractive pricing strategy for sales and year-end clearances.

Cost Factors and Pricing

Every component of a service or product has a different, specific cost. Many small firms fail to analyze each component of their commodity's total cost, and, therefore, fail to price profitably. Once this analysis is done, prices can be set to maximize profits and eliminate any unprofitable service.

Cost components include material, labor, and overhead costs:

Material cost is the cost of all materials found in the final product. For example, wood used to manufacture a chair is considered a direct material.
Labor cost is the cost of the work that goes into the manufacturing of a product. An example would be the wages of all production-line workers producing a certain commodity. The direct labor costs are derived by multiplying the cost of labor per hour by the number of person-hours needed to complete the job.
Remember; do not only use the hourly wage but, also the dollar value of fringe benefits, which include social security, workers' compensation, unemployment compensation, insurance, and retirement benefits.
Overhead Cost is any cost that is not readily identifiable with a particular product such as supplies, utilities, depreciation, taxes, rent, advertising, transportation, and insurance. Overhead costs also cover indirect labor costs, such as clerical, legal and janitorial services. Be sure to include shipping, handling, and/or storage as well as other cost components. a portion of overhead costs must be allocated to each service performed or product produced.
The overhead rate can be expressed as a percentage or an hourly rate. This is a complex task. It is best to consult with an expert in this area. It is important to review your overhead costs periodically. Charges must be revised to reflect inflation and higher benefit rates. It's best to project the costs quarterly, including increased executive salaries and other projected costs.

Figuring Costs and Profits for a Consultant Service

As a consultant, you will most likely price your service by the hour. Remember to charge for an adequate number of hours. Travel time is usually listed as an extra charge.

It's unlikely that all your time will be billed to clients. Therefore, hourly or contract fees must be set high enough to cover expenses during slow periods. That is why one-half of the total normal working hours for a given year are used in figuring overhead rates. Try to obtain long-term, monthly, or contract assignments when possible.

Summary

Your price structure and policy are major components of your public image and are crucial to securing and keeping your clientele.

Pricing for service businesses may be more complex that retail pricing. The equation, however, is the same: Cost + Operating Expenses + Desired Profit = Price

The key to success is to have a well-planned strategy. Establish your policies and constantly monitor prices and operating costs to ensure a profit. Accuracy increases profits!

Developing An Advertising Program: A Basic Review

By developing an effective advertising plan, you increase the likelihood of a positive return on your advertising investment, regardless of the amount you spend.

Advertising is an investment in your business, similar to other investments to improve and expand your business. The return you receive depends on the planning and thought that precede the actual commitment and expenditure of advertising dollars.

This Financial Guide is not intended to be an in-depth analysis of advertising principles and alternatives - that is beyond its scope. Rather, it is intended only to provide a basic review - to stimulate your thinking - of how to develop an effective advertising program. Unless you are very familiar with the opportunities in this area, you should seek the advice of an advertising professional.

The basic premise of an advertising plan requires you to thoroughly analyze the answers to key questions before you can make effective advertising decisions. There are four key questions to ask yourself:

What do I want my advertising to accomplish?
Whom should my advertising speak to?
What should my advertising say?
What advertising medium should I use?

In the specific business situation, each question has any number of potential answers. As you think about each question do not accept any answer until you have considered and explored the full range of possibilities.

What Do I Want My Advertising To Accomplish?

The first step in developing your advertising plan is to specify your advertising goals. Be as precise as you can as to why you are advertising and what you want to achieve. Everyone wants advertising to increase business, but for your advertising plan to work it requires you to be more precise. Some possible goals for your advertising are:

Increase awareness of your business.
Attract competitors' customers.
Increase the likelihood of keeping current customers and developing their loyalty.
Generate immediate sales or sales leads.

It is possible you may want your advertising to achieve all of these goals plus some others. What is important is that you prioritize your goals. Advertising works best when it is developed to meet one specific goal at a time.

Whom Should My Advertising Speak To?

Once you determine your advertising goals you can then select the target audience for your message. Advertising that tries to reach "everyone" rarely succeeds. Successful advertising is written with a specific customer in mind. Try to picture the person you must reach in order to achieve your advertising goals. Try to describe your target consumers in each of the following:

Demographics: Gender, age, income, location of residence or business, etc.
Behaviors: Current awareness of your business; the products, services or vendors they currently use; loyalty to either you or your competitor's business, etc.
Needs or desires: What benefits consumers look for, the basis on which they will decide whether to use your product or service and how your business can fulfill those needs, etc.

What Should My Advertising Say?

Once you know who your target audience is and what they are looking for in terms of the product or service you offer, you can decide what your advertising will say.

Advertising should always be written to communicate a message that will be seen as important by your target customer. Your advertising should clearly and convincingly "speak" to your target audience, explaining the important benefits your product or service offers.

In deciding how to discuss the major benefits of your product or service in your advertising keep "AIDA" in mind: attract Attention, hold Interest, arouse Desire and motivate Action.

Where Should I Place My Advertising?

Every month new advertising options become available. Beyond "traditional" media you can place ads in airports, on ski lifts and on televisions monitors in the front of grocery carts. Where you place your advertising should be guided by a simple principle: go where your target audience will have the highest likelihood of seeing or hearing it. Many advertising media work well to reach a diverse range of target consumers. There is no single medium inherently good or bad. A good medium for one product or service may be a poor medium for another. As you consider media choices look for one that fits your advertising goals, reaches your target efficiently and cost-effectively and is within your advertising budget. Based on these considerations, the following summarizes the relative advantages and disadvantages of the advertising media most frequently used by small businesses:

INTERNET MARKETING OR ONLINE MARKETING

Internet marketing, online marketing or e-marketing are terms used for marketing your products or services over the Internet. Internet marketing is a great way to reach a wide, international audience at a relatively low cost. The nature of the medium allows consumers to find what they are looking for when they want, at their own convenience. It provides instant response and is very interactive. Internet marketing methods include search engine marketing, display advertising, email marketing, and interactive advertising, all completed through your website. Internet marketing can be very creative, cost effective and interactive.

TELEVISION

Television provides a means for reaching a great number of people in a short period of time. Small businesses will typically use either spot television or cable television. A spot television ad is placed on one station in one market. The number of people in your target audience who see your ad depends on how many viewers are tuned into the television station at a specific time. Cable advertising is placed either on a local cable television channel or on a cable network. The number of people reached by cable advertising depends on the cable penetration and cable/channel program viewership in a given market.

Beyond television's reach, an additional advantage is its ability to convey your message with sight, sound, and motion. The disadvantages of television advertising are: relatively higher cost - both the terms of airtime and production, limited length of exposure, short airtime (making it difficult to present a complex or detailed message) and the clutter of many other ads.

Television ads may require multiple exposures to achieve message retention and consumer action. Also, many commercials are considered intrusive, prompting viewers to switch channels to avoid them.

RADIO

Radio, like television, has the ability to quickly reach a large number of consumers. The major advantage of radio lies in its ability to efficiently target narrowly defined segments of consumers. The vast array of radio program formats lets an advertiser gear ads to almost any target audience.

Beyond this advantage, radio is commonly used by small businesses because it is relatively inexpensive (both in terms of airtime and production costs) and because deadlines for placing radio advertising are relatively short, providing an advertiser with increased flexibility. The disadvantages of radio are: an advertiser is limited to an audio message so there is no visual product or service identification, ad clutter can be high and exposure to the message is short and fleeting. Finally, similar to television, multiple exposures may be required for message retention and consumer reaction. Also, listeners may change stations to avoid commercials.

NEWSPAPERS

Newspapers permit and advertiser to reach a large number of people within a specified geographic area. Newspaper advertising has several advantages for the small business. An advertiser has flexibility in terms of as size and placement within the newspaper. Exposure to the ad is not limited, so readers can take their time with your message. Short deadlines permit quick response to changing market conditions. Disadvantages of newspaper advertising include:

Declining readership and market penetration
Ad space can be expensive
Clutter of competitive advertising and a relatively short lifespan (newspapers are typically read once, then discarded), thus requiring multiple insertions.

MAGAZINES

Magazines provide an advertiser with the means to reach highly targeted audiences. Specific groups can be reached by placing an advertisement in a magazine whose editorial content specializes in topics of interest to that target. This is true both of consumer and business publications. Audiences can be reached by placing ads in magazines which have well-defined geographic, demographic or lifestyle focus.

Beyond the ability to reach specific audiences, the advantage of magazines include:
Relatively long ad life and repeated ad exposure (magazines are typically looked through several times before discard);
Excellent reproduction quality and pass-along value.

The disadvantages of magazines include:

Long lead time
Limited flexibility in terms of ad placement and format
The potential for high costs in production and placement.

OUTDOOR (BILLBOARDS)

Outdoor advertising is typically used to reinforce or remind the consumer of the advertising messages communicated through other media. The advantages of outdoor advertising are:

The ability to completely cover a market
High levels of viewing frequency.

The disadvantages of outdoor advertising are related to viewing time. Because target consumers are typically moving, an outdoor advertisement must communicate with a minimum of words. Messages must be simple, direct, and easily understood.

DIRECT MAIL

Direct mail advertisers use targeted mailing lists to reach highly specialized audiences. In addition to low waste in ad exposure, direct mail provides an advertiser with great flexibility in the message presentation. The disadvantages of direct mail include:

Relatively high cost per contact
Obtaining updated, accurate mailing lists
Difficulty in getting the audience's attention (direct mail is often considered "junk mail").

YELLOW PAGES

The Yellow Pages are an advertising medium that shares many of the strengths of other advertising media while at the same time avoiding some of the limitations or disadvantages. As such, the Yellow Pages are best used to complement or extend the effects of advertising placed in other media. Like other media, the Yellow Pages permit an advertiser to select a well-defined geographic area, ranging from a neighborhood to an entire metropolitan area.

The advantages of the Yellow Pages are:

Once the geography is defined, an ad has permanence, i.e., the Yellow Pages are kept as a regular reference.
They support your other advertising by providing a convenient way for consumers to contact sources and obtain information on the products or services they desire at the time they are ready to "take action."
The Yellow pages are relatively low in cost in terms of both ad production and placement.

The disadvantages of the Yellow Pages include:

Lack of timeliness (ads can be changed only once per year and, as a result, there is no opportunity for "price advertising")
Potential clutter in some classifications
Not as much creative flexibility as other print media.

Referrals: The Secret to Building a Better Business Faster

Who are the very best new customers you get? Who is most likely to buy from you and continue being a good customer in the future? Isn't it a prospective customer who was referred to you by another customer who is an advocate for your business?

Referrals are the best prospective customers because they have already developed some trust for you and your company. Their defenses are down, and their minds and hearts are open. These are the ideal conditions for doing business.

The most expensive customers to get are those in the "cold market," through advertising or other promotional activities. Yet that's where most of the marketing effort for companies seems to go. You can market much more effectively by devoting more of your organization's time and resources to developing referrals.

You can encourage your customers to give you more referrals.

1. You must deserve referrals. You have to deliver the products and awesome service that people can't help talking about.

2. You must ask for referrals. At the end of every sales interview, whether you make a sale or not, you must ask for referrals. When you make a sale, you have only completed one-half of your mission. The other half is to get referrals. Don't leave the job half done. To encourage the customer to make referrals, help him isolate people in his or her mind: Is there a business associate, like him or her, who you can talk to? A customer? A supplier? Is there a golf buddy? Listen for names that come up during your conversation.

Script a brief profile or description of what you are looking for in a prospective customer. Trigger the customer's mental search with the question, "Who do you know who... (give profile)? If he or she was here, right now, you wouldn't hesitate to introduce us, would you? That's all I'm asking you to do."

If the customer hesitates to give a name, say... "That's all right, Mr. Wright. I think I understand how you feel. Give me the name of someone you know, under fifty, who is making money. I promise you I'll never mention your name." "Mr. Wright, my name is John Smith. I'm in the life insurance business. A mutual friend gave me your name with the understanding that I wouldn't mention his name. He told me that you have been very successful and that you would be a good man for me to talk to. Could you spare five minutes now, or would you rather I stop by some other time?"

The prospective customers never asked who made the referral, and some of these people were John's best leads.

Part of our introductory procedure for new clients is to review a list of "Our Commitments To Each Other." The final client commitment is: "You will consider referring to us at least two other business persons whom you believe would benefit from an association from us." The expectation of providing referrals is planted at the beginning of our relationship.

3. Show appreciation. This is the real key to continuing receiving leads from a customer and cultivating him or her as a center of influence. Thank the customer for making the referral. Write a thank-you note. Call the customer with a report of the results of your interview. Make a big, appreciative fuss about the wonderful thing your customer has done. Give thank-you gifts in appreciation: send flowers, take him or her out to dinner, or give tickets to a show or athletic event.

What is appropriate considering the lifetime value of a customer for your business? Many people build their businesses with customer appreciation events. For example, marketing guru Dan Kennedy knows a chiropractor who has a monthly patient appreciation luncheon where he gives jeweled appreciation pins to patients who made referrals that month. There are different "levels" indicated by different jewels. Shades of Amway and Mary Kay! Patients are invited to bring family members to the luncheon to see them receive their award, which is given with an appreciative hug by the chiropractor. Photographs of the luncheons are posted in the reception room.

Important Questions:

If this were your chiropractor, would you want to make a referral?
How can you use this extremely powerful idea to build your business?
If you use salespeople in your business, do you train them in how to get referrals from customers?
Do you maintain a file of all customers who buy your products for follow up promotions encouraging referrals?
We can work with you to help build strong referrals for your business.

How To Get Your Customers To Trust You

An extremely powerful marketing tool that we get "too busy" or "too smart" to use is the testimonial.

According to marketing guru Dan Kennedy, "What others say about you and your product, service, or business is at least 1000 percent more convincing than what you say, even if you are 1000 percent more eloquent."

The reason is obvious. Customers doubt what we say about ourselves, but believe other customers. And the more customers who say good things about us, the more prospective customers will believe them. Is this a new idea?

Frank Bettger discussed the power of testimonials in Chapter 18 of How I Raised Myself From Failure To Success In Selling, published in 1949, and I'm sure there are earlier examples.

When Ira Hayes of National Cash Register made sales calls, his presentation principally consisted of showing binders of testimonial letters to his customers.

Time management consultant Larry Dolan told marketing guru Dan Kennedy, that he closes every inquiry he gets for a speaking engagement. He has no brochure, no demo tape, no video tape. When a prospective client calls, Larry simply sends a hand-addressed box of copies of testimonial letters.

Can you imagine the power of hundreds of letters praising his presentation? This is more compelling and believable than anything Larry could say about himself.

So when you send a sales letter, include as many testimonials as possible. The testimonials are more likely to make the sale than your letter. When you make a sales presentation, have a supply of testimonial letters. If possible, get audio tapes and video tapes with testimonials.

Include testimonials in your advertisements. In some cases, an entire advertising campaign can be built around a series of testimonials. Those who are not permitted to use testimonials about the results of their products or services may be able to use testimonials about how they deliver their products or services. If these limitations apply to you, get legal counsel to advise you about what you can do.

For example, "The team at the Dr. Roth's office are so nice I would like to visit there for my summer vacation. They made me very comfortable when I had always been stressed out going to a dentist. Their office is so fun and oriented to patients that when I go there I feel like I'm at Disneyland! They took care of all of the paperwork for my insurance claims and helped me arrange a payment plan for my co-payment."

How To Get Testimonials

First, you must provide an outstanding product and service. Then, ask your customers for help. Interview your customers about what they really like about your product and the service you provide. What do they especially like about working with you and your company? Ask if they would write what they told you in a letter or if you can write it for them for their approval. Ask if you can tape record or video record your interview. If you make a presentation, request that the audience complete evaluation forms. Some of the comments could be valuable testimonials.

Another source of testimonials is a client/customer advisory board. We had a client advisory board for our firm last year. As a warm up, we asked the participants to tell about how they were involved with our firm. They responded with at least a half hour of beautiful testimonials, many of which we incorporated in our firm brochure. (Facilitating client/customer advisory boards is one of the services we offer.) Ask for, collect, and use testimonials for your business and you will see an improvement in your results!

The Nicest Way To Build Your Business

People don't care how much you know until they know how much you care.

It's interesting to see how many small businesses try as soon as possible to follow the example of some large corporations to build an impersonal "corporate image."

People actually prefer to do business with people, not institutions. The last time you called an organization with a problem, weren't you frustrated and didn't you experience emotional pain while "going through voice mail hell" or being transferred until you got connected with a person who could solve your problem? Corporate leaders with good marketing sense understood this.

When we think of Hewlett Packard, we think of Bill and Dave. Lee Iacocca rebuilt Chrysler largely by being the corporate spokesperson in commercials. No advertising has been more successful for Wendy's than Dave Thomas telling us about his latest fast food offering. According to John Sculley, former president of Apple Computer, it requires 16 times the investment for an existing customer to replace the profits of one who is lost.

Keeping existing customers is a key to running a successful business.

Why we lose customers?

According to a study conducted by the Technical Assistance Research Project in Washington D.C., 3 percent leave for convenience, 9 percent because of a relationship, 15 percent because of product, price or delivery problems, and 5 percent for other miscellaneous reasons.

That leaves 68 percent for the most significant reason: perceived indifference. Customers want to feel important and appreciated. A key to building customer loyalty is to build a relationship with customers/clients/patients where they feel important and appreciated!

In any business, but especially a business where there is contact with a customer and a representative of the company either in person or on the telephone, the best way I know to cement that relationship is through personal notes - thank you notes!

Personalize thank you notes by hand addressing the envelope and using a real postage stamp. A hand-written note is best. But if your handwriting is terrible, be sure to sign the letter in blue ink.

When should you write thank you notes?

When you are getting started in business or in sales, you should write a note after any contact, including meeting someone at a seminar or when you exchange business cards. Learn to be sincerely appreciative and express that appreciation. If you deal with a problem, apologize personally with a personal note and be sure the problem is resolved as quickly as possible; maybe even sending another note after it's done.

You certainly will want to acknowledge major purchases and referrals with thank you notes. You can sometimes exploit or manipulate people and make a sale. But when you become an "assistant buyer," a friend who helps the customer make transactions in his or her best interest, and express your interest in the customer as a person, you are building a business or a sales career that will provide for you and your family for years to come.

Developing a Unique Selling Proposition

When developing your marketing message, it's helpful to develop a Unique Selling Proposition or USP.

What is a USP?

The USP very clearly answers the question, "Why should I do business with you instead of your competitors?"

The USP may be used repetitively in your marketing literature to build the customer's or client's identification of your company with your product or service.

The two major benefits of developing the USP

First, it clearly differentiates your business in the eyes of your current and potential customers or clients. Second, it focuses your team on delivering the promise of the USP, helping to improve your internal performance.

Here are some successful examples of USPs (some so successful they were used as slogans in advertising as well) that you are probably already familiar with:

M&M's: "The milk chocolate that melts in your mouth, not in your hand"
FedEx: "When it absolutely, positively has to be there overnight"
Geico: "15 minutes could save you 15% on car insurance"
Walmart: "Save money. Live better."
DeBeers: "A diamond is forever"

Developing your USP

Developing your USP is not difficult, but it does require paying close attention to what your customers are thinking (or your target market if you're just starting out).

Think about it from your customer's perspective.

Let's say you opened a tiny patisserie in Philadelphia. You know your pastries are delicious, albeit pricey because you only use the highest quality ingredients. Your friends and family agree, and so do many of your customers. But what is it that keeps your customers coming back? Is it the ambience of your shop, the friendly service, or even the location tucked away in a tree-lined alley? The point is to build your USP around the features that best market your product.

Figure out what motivates your customers to buy your product or service.

To figure out - and understand - what motivates your customers to buy your product you'll need to go beyond basic demographics such as age, gender, and income. You'll need to employ psychology. People may be visiting your patisserie because it has an international flavor, because it makes them feel like trendsetters, or even because they've always wanted to visit France. Whatever the reason, make sure you incorporate it into your USP.

Ask your customers why they buy your product or service over a competitor's.

Once you have an established customer base, simply ask them why they visit your shop and buy your pastries instead of another bakery. You might be surprised at what you hear.

Once you have this information from your customers you can develop your USP.

Uncover Your Business's Most Valuable Hidden Asset

Quick! What is your most valuable business asset?

If you are like most business people, your mind might quickly fly over your balance sheet. Is it your equipment? Is it your location? Is it your accounts receivable?

For most businesses, the most valuable business asset isn't on the balance sheet.

It's their customer list. And those businesses for which this isn't the most valuable business asset should change their orientation to make it so.

The hardest, most expensive sale we ever make to a customer is the first one.

In that first, critical, transaction we earn or lose the trust of the customer. Once we have the trust of the customer, we open the door to many more sales and to referrals, which most of us agree are the very best new customers to get.

Many businesses frantically work at bringing in new businesses while they neglect developing the "acre of diamonds" at their doorstep represented by their customer list.

Why would you want to know the lifetime value of a customer?

The lifetime value of a customer is a measure of the value of the customer to your business. It is the potential contribution of the customer to your business over a period of time. When you know the lifetime value of a customer, you have a benchmark for how much you would or should be willing to invest to acquire a customer.

When you evaluate the effectiveness of your marketing, instead of focusing on the response ratio (how many responded compared to messages delivered), you should focus on the return received (number of customers times lifetime value) for the investment made (campaign cost). Suddenly you find you can justify a much greater promotion investment when you look at your returns in this way, and this provides the engine for significant business growth.

Chances are your competitors are too cheap to make the necessary investment, and this can give you a competitive advantage.

How can you quantify the "lifetime value of a customer?"

Estimate the profit for the transactions you expect to have with the customer over the period you expect to do business with him or her. If this is an unknown long term, use five years. You should collect statistics of the transactions done with customers and how long you keep customers. Also, factor in the benefit for referrals from your customers.

Here's an example:

At a computer software store, customers make average purchases each year of $500. The average gross profit is 30 percent. Most customers do business with the store for five years. One out of three customers refers a new customer.

Average purchases $ 500

Years X 5

Total purchases $2,500

Gross profit percent X .30

Total gross profit $750

Add 1/3 gross profit for referrals $250

Total lifetime value $1,000

If this business invested $1,000 to get a new customer, it would "break even."

Obviously the business wants to make a profit, but now it has a benchmark to work on based on its own situation. Also, advertising and promotion now represent an investment on which a return can be measured, instead of just an expense "thrown against the wall."

Try applying this lifetime value approach in your business as a growth strategy.

How to Profitably Grow Your Business With Less Stress

Do You Have A Business Or A Job?

Michael Gerber is a business consulting "guru" whose observations concerning small businesses have had a profound impact on how his students see their businesses and their role as a business owner.

Gerber observed that most people go into business for the wrong reason. They are skilled technicians. They do a good job of what the business provides to the customer. They believe they can earn more by doing it in their own business than for someone else. They leave and open their own shop. This is what Gerber calls an "entrepreneurial seizure."

These technicians believe they will find more freedom in their business but they discover it is the hardest job in the world. There is no escape. They are the ones who are doing the work! They are the "business!" But if they are the business, they haven't really created a business at all. They have only created a job for themselves!

According to Gerber, the role of the owner is quite different. The role of the business owner is to create a business that works independently of him or herself. There is an "end point" where the business functions independently of the owner. At this point, the business owner may choose to sell it or not. By then, he or she will have created a ready-to-sell "money making machine" and may choose whether to devote effort to it or not. The business can also be duplicated from place to place.

The model for this effort is the "turnkey franchise," such as McDonalds. The franchise creator, by establishing, documenting, and testing detailed systems, Ray Kroc made a uniform business with a certain look, providing a consistent experience to the customer. Ray controlled the design of the restaurant, sold uniformly made food and equipment, and provided the "scripts" for the service people. These scripts contained detailed procedures for preparing the food.

Likewise, the business owner should start with an idea of what this business should look like. This includes an organizational chart that could start with the business owner in each box. The chart documents the organization with responsibilities for chief executive, marketing, accounting, finance, and production employees. Gradually, the business owner tests, measures, and documents procedures for each position then replaces them with others until he or she isn't needed at all.

The shorthand phrase for the business systems could be "Here's how we do it here."

The business becomes a learning place where each person finds satisfaction in performing their parts to the best of their abilities.

Small business owners should be grateful to Michael Gerber for his profound observations and the challenge he has presented to us. Each morning, we should ask ourselves: "Am I going to a business, or am I going to a job?" If we are going to a job, we have Gerber's model for change.

Employees must think in order to provide outstanding service. Gerber's approach can sometimes be inflexible when dealing with changes we deal with today.

More important than "Here's how we do it here," we need to know "What's important here." We need to define the values of our business. People need to be more important than the systems that are supposed to serve them. Systems shouldn't override common sense.

Raising Capital: How To Get Money For a Small Business

Finding Sources of Money

There are several sources to consider when looking for financing. It is important to explore all of your options before making a decision. These include:

Personal Savings. The primary source of capital for most new businesses comes from savings and other forms of personal resources. While credit cards are often used to finance business needs, there may be better options available, even for very small loans.
Friends and Relatives. Many entrepreneurs look to private sources such as friends and family when starting out in a business venture. Often, money is loaned interest free or at a low interest rate, which can be beneficial when getting started.
Banks and Credit Unions. The most common source of funding, banks and credit unions, will provide a loan if you can show that your business proposal is sound.
Venture Capital Firms. These firms help expanding companies grow in exchange for equity or partial ownership.

Borrowing Money

Have you invested at least 25% or 50% of savings or personal equity into the business for the loan you are requesting? (Keep in mind that 100% of your business will not be financed by an investor.)
Do your work history, your credit report and letters of recommendation show a healthy record of credit worthiness? This is a key factor.
Do you have the training and experience necessary to operate a successful business?
Do your loan proposal and business plan document your knowledge of and dedication to the success of the business?
Is the cash flow of the business sufficient to make the monthly payments on the requested loan?

Terms of loans may vary from lender to lender, but there are two basic types of loans: short-term and long-term.

A short-term loan generally has a maturity date of one year. These include working capital loans, accounts receivable loans, and lines of credit.

How to Write a Loan Proposal

A good loan proposal will contain the following key elements:

General Information

Business name, names of principals, social security number for each principal, and the business address.
Purpose of the loan: exactly what the loan will be used for and why it is needed.
Amount required: the exact amount you need to achieve your purpose.

Business Description

History and nature of the business: details of what kind of business it is, its age, number of employees and current business assets.
Ownership structure: details on your company's legal structure.

Management Profile

Develop a short statement on each principal in your business; provide background, education, experience, skills, and accomplishments.

Market Information

Financial Information

Financial statements: balance sheets and income statements for the past three years. If you are just starting out, provide projected balance sheets and income statements.
Personal financial statements on yourself and other principal owners of the business.
Collateral you would be willing to pledge as security for the loan.

How Your Loan Request Will Be Reviewed

Have you invested savings or personal equity in your business totaling at least 25 to 50 percent of the loan you are requesting? (Remember, a lender or investor will not finance 100 percent of your business.)
Do you have a sound record of credit-worthiness as indicated by your credit report, work history and letters of recommendation? This is very important.
Do you have sufficient experience and training to operate a successful business?
Have you prepared a loan proposal and business plan that demonstrate your understanding of and commitment to the success of the business?
Does the business have sufficient cash flow to make the monthly payments on the amount of the loan request?

SBA Programs

The SBA guaranteed more than 50,000 loans totaling $19.2 billion to America's small businesses small businesses in fiscal year 2014 that otherwise would not have had such access to capital. It also provides assistance to small businesses and aspiring entrepreneurs through its Small Business Development Centers located throughout the United States and its territories.

The 7(a) Loan Guaranty Program, financing that can satisfy the requirements of almost any new or growing small business. The SBA offers a number of specialized loan and lender delivery programs.

7(a) Loan and 7(m) Microloan Programs
CAPLines Program
Export Working Capital and International Trade Loans
Disaster Assistance Loans
SBA Express
Certified Development Company (CDC) 504 Loan Program

THE 7(A) LOAN GUARANTY PROGRAM

The eligibility requirements and credit criteria of the program are very broad in order to accommodate a wide range of financing needs.

Operate for profit
Be small, as defined by SBA
Be engaged in, or propose to do business in, the United States or its possessions
Have reasonable invested equity
Use alternative financial resources, including personal assets, before seeking financial assistance
Be able to demonstrate a need for the loan proceeds
Use the funds for a sound business purpose
Not be delinquent on any existing debt obligations to the U.S. government

Use the checklist below to ensure you have everything the lender will ask for to complete your application. Once your loan package is complete, your lender will submit it to the SBA.

MICROLOANS

THE CAPLINES PROGRAM

The CAPLines Loan Program is the program under which the SBA helps small businesses meet their short-term and cyclical working-capital needs. The maximum CAPLines loan is $5 million.

Four loan programs for small businesses are available under CAPLines:

Use of Proceeds. CAPLines may be used to:

Finance seasonal working-capital needs
Finance direct costs needed to perform construction, service and supply contracts, subcontracts, or purchase orders
Finance direct costs associated with commercial and residential building construction
Provide general working capital lines of credit that have specific requirements for repayment

THE EXPORT WORKING CAPITAL PROGRAM

Contact your local lender to see if they are approved to underwrite EWCP loans. You can apply for EWCP loans before finalizing an export sale or contract.

Use of Proceeds. Proceeds may be used for:

Financing for suppliers, inventory, WIP, or production of export goods or services
Working capital to support foreign accounts receivable during long payment cycles
Financing for standby letters of credit used as bid or performance bonds or as down payment guarantees

THE INTERNATIONAL TRADE LOAN PROGRAM

The International Trade Loan offers loans up to $5 million for fixed assets and working capital for businesses that plan to start or continue exporting.

DISASTER ASSISTANCE LOANS PROGRAM

Types of loans include:

Physical Damage loans - These loans to cover repairs and replacement of physical assets damaged in a declared disaster. Homeowners, renters, nonprofit organizations, and businesses of all sizes are eligible to apply for physical disaster assistance. There are two types of Physical Damage loans: Home and personal property loans and Business physical disaster loans.
Home and personal property loans - If you live in a declared disaster area and have experienced damage to your home or personal property, you may be eligible for financial assistance from SBA — even if you do not own a business. As a homeowner, renter or personal property owner, you may apply to SBA for a loan to help you recover from a disaster.
Homeowners may apply for up to $200,000 to replace or repair their primary residence. The loans may not be used to upgrade homes or make additions unless required by local building code. If you make improvements that help prevent the risk of future property damage caused by a similar disaster, you may be eligible for up to a 20 percent loan amount increase above the real estate damage, as verified by the SBA.
Renters and homeowners may borrow up to $40,000 to replace or repair personal property such as clothing, furniture, cars, and appliances damaged or destroyed in a disaster.
Business physical disaster - The SBA Business Physical Disaster Loan covers disaster losses not fully covered by insurance. If you own a business located in a declared disaster area that has experienced damage, you may be eligible for financial assistance from SBA. Businesses of any size and most private non-profit organizations may apply to SBA for a loan to recover after a disaster. The SBA Business Physical Disaster Loan covers disaster losses not fully covered by insurance.
SBA makes physical disaster loans of up to $2 million to qualified businesses or most private nonprofit organizations in a declared disaster area that have experienced damage to your business. Businesses of any size and most private nonprofit organizations may apply to the SBA for a loan to recover after a disaster. These loan proceeds may be used for the repair or replacement of real property, machinery, equipment, fixtures, inventory, and leasehold improvements.
Economic Injury Disaster Loans - Small business, small agricultural cooperative, or most private nonprofit organizations. The SBA can provide up to $2 million (maximum term of 30 years, maximum interest rate of 4 percent) to help meet financial obligations and operating expenses that could have been met had the disaster not occurred. Your loan amount will be based on your actual economic injury and your company's financial needs, regardless of whether the business suffered any property damage.

Military Reservists Economic Injury Loans (MREIDL) - Provides funds (up to $2 million, maximum 30 years, maximum interest rate of 4 percent) to help an eligible small business meet its ordinary and necessary operating expenses that it could have met, but is unable to, because an essential employee was called-up to active duty in his or her role as a military reservist.
The amount of each loan is limited to the actual economic injury as calculated by SBA. The amount is also limited by business interruption insurance and whether the business and/or its owners have sufficient funds to operate. If a business is a major source of employment, SBA has authority to waive the $2 million statutory limit.

Mitigation Assistance loans - These loans provide funding to cover small business operating expenses after a declared disaster. You can protect your home or business and reduce property damage with the help of SBA. If you've been affected by a disaster, you can rebuild a stronger business by increasing your SBA disaster assistance loan up to 20% of your verified physical damage to make mitigation improvements. Borrowers generally have two years after their loan approval to request an increase for higher rebuilding costs, code-required upgrades or mitigation. Projects covered by this type of loan include improvements related to flooding, wildfires, wind, and earthquakes.

SBA EXPRESS LOAN PROGRAM

THE CERTIFIED DEVELOPMENT COMPANY (504) LOAN PROGRAM

Newly certified CDCs will be on probation for a period of two years.

Eligibility. A CDC must:

Be a nonprofit corporation in good standing.
Have at least 25 members representing government organizations responsible for economic development in the Area of Operation and acceptable to SBA; Financial institutions that provide commercial long-term fixed asset financing in the Area of Operation; Community organizations dedicated to economic development in the Area of Operation, such as chambers of commerce, foundations, trade associations, colleges, or universities; Businesses in the Area of Operation; and Additional membership requirements are provided in 13 CFR 120.822.
Have a Board of Directors chosen from the membership, and representing, at least, three of the four membership groups. Additional Board of Directors requirements are provided in 13 CFR 120.823.
Have full-time professional management, including an Executive Director (or the equivalent) managing daily operations and a full-time professional staff qualified by training and experience to market the 504 Program; package and process loan applications; close loans; service, and, if authorized by SBA, liquidate the loan portfolio; and sustain a sufficient level of service and activity in the Area of Operation. CDCs may obtain, under written contract and with prior approval from SBA, marketing, packaging, processing, closing, servicing or liquidation services by qualified individuals and entities who live or do business in the CDC's Area of Operation.
Meet a minimum level of lending activity, providing, at least, two 504 loan approvals each full fiscal year. A CDC's portfolio must reflect an average of one job opportunity per $65,000 of 504 loan funding.

SMALL BUSINESS INVESTMENT COMPANY PROGRAM

SURETY BOND PROGRAM

PROGRAM: SBA Express

Features: Lender approves loan, no additional paperwork for SBA, 36 hour turnaround
Maximum Amount Guaranteed: $350,000 (total loan amount)
Percent of Guarantee (maximum): 50 percent
Use of Proceeds: Same as 7(a)
Maturity: Term loan same as 7(a); no more than 7 years on revolving line of credit
Maximum Interest Rates: Negotiable between lender and borrower
Guaranty and Other Fees: See 7(a)
Eligibility: See 7(a)

The Certified Development Company (504) Loan Program

Features: CDCs work with SBA and private-sector lenders to provide financing to small businesses through the CDC/504 Loan Program, which provides growing businesses with long-term, fixed-rate financing for major fixed assets, such as land and buildings. Must create or retain one job for every $65,000 provided by the SBA, except for small manufacturers, which have a $100,000 job creation or retention goal
Maximum Amount Guaranteed: Limit on SBA portion of project is $4, $4.5, and $5 million
Percent of Guarantee (maximum): 40 percent of project (100 percent SBA-backed debenture); private lender unlimited
Use of Proceeds: Purchase of major fixed assets such as land, buildings, improvements, long-term equipment, construction, renovation
Maturity: 10 or 20 years only
Maximum Interest Rates: Pegged to an increment above the current market rate for 5-year and 10-year U.S. Treasury issues
Guaranty and Other Fees: Fees related to debenture, approximately 3 percent. May be financed with the loan.
Eligibility: Tangible net worth less than $15 million and an average net income less than $5.0 million after taxes for the preceding two years.

Government and Non-Profit Agencies

U.S. Small Business Administration
The SBA has offices located throughout the United States. For the one nearest you look under "U.S. Government" in your telephone directory, call the SBA Answer Desk at (800) 827-5722, or visit the SBA website for a list of SBA District Offices.

Services for individuals

Business Services

BUSINESS SERVICES

Tax Services

Quickbooks services

Guides

Tax Center

Tools

Business Strategies

Types of Business Entities

C AND S-CORPS

PARTNERSHIPS

LIMITED LIABILITY COMPANIES (LLCS)

Choosing the Tax Treatment

Choosing the Form

Choosing the Pass through Entity

S-CORPORATION

LLCS VS. S-CORPORATIONS

LLCS VS. PARTNERSHIPS

LLCS VS. PROPRIETORSHIPS

Professional Practice Entities

PROFESSIONAL CORPORATIONS (P.C.S)

LLCS

LIMITED LIABILITY PARTNERSHIPS (LLPS)

SOLE PROPRIETORS AND PARTNERS

Other Pros and Cons of C-Corps

Further Insights on S-Corps

Changing To Another Entity

If You're Starting a New Business

What the Business Plan Should Include

INTRODUCTION AND MISSION STATEMENT

PRODUCTS, SERVICES AND MARKETS

FINANCIAL MANAGEMENT

OPERATIONS

CONCLUDING STATEMENT

Finding Sources of Money

Borrowing Money

How to Write a Loan Proposal

General Information

Business Description

Management Profile

Market Information

Financial Information

How Your Loan Request Will Be Reviewed

SBA Programs

THE 7(A) LOAN GUARANTY PROGRAM

MICROLOANS

THE CAPLINES PROGRAM

THE EXPORT WORKING CAPITAL PROGRAM

THE INTERNATIONAL TRADE LOAN PROGRAM

DISASTER ASSISTANCE LOANS PROGRAM

SBA EXPRESS LOAN PROGRAM

THE CERTIFIED DEVELOPMENT COMPANY (504) LOAN PROGRAM

SMALL BUSINESS INVESTMENT COMPANY PROGRAM

SURETY BOND PROGRAM

Is a Home-Based Business Right for You?

Compliance with Laws and Regulations

Zoning

Restrictions on Certain Goods

Registration and Accounting Requirements

Planning Techniques

Estimating Start-Up Costs

Projecting Operating Expenses

Projecting Income

Determining Cash Flow

WHAT IS CASH FLOW?

CASH FLOW VERSUS PROFIT

ANALYZING YOUR CASH FLOW

Travel Expenses

LOCAL TRANSPORTATION COSTS

AWAY FROM-HOME TRAVEL EXPENSES

Meal and Entertainment Expenses

How Do You Prove Expenses Are "Directly Related?"

How Do You Meet The "Associated With" Test?

For Whom Can You Get The Deduction?

Recordkeeping and Substantiation Requirements

WHICH RECORDS YOU MUST KEEP

Employees "Fully Reimbursed"

Auto Expenses

What Is An Employee Benefit Plan?