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Below you’ll find an unedited chapter from my upcoming book 40 Rules for Internet Business Success. To receive updates about the book and get a free digital copy of my book in its current form, enter your email address in the sidebar to the right.
When you’re first starting your business, you might think it’s okay to play fast and loose with how you manage your company’s money. You might have signed up to become a corporation or an LLC without fully understanding the ramifications of that decision. You might be mixing your personal income and expenses with your business’s income and expenses. You might only have a random collection of receipts in a shoebox to hand to your tax person at the end of the year, assuming you bothered to file your taxes at all. This isn’t a winning game plan. You won’t have a good idea of how much money your company’s making or not making and you’ll end up with a major mess to cleanup when you have to file your taxes.
When I first started my company, American Consumer News, LLC, in 2008, I was participating in a small accelerator program offered by the university. It was the first year they had offered the program and they arranged for a lawyer to setup my LLC and take care of any other necessary paperwork to get my business started from a legal perspective. The attorney had me file IRS Form 8832, which would make my company taxable as an S-Corp. Being an S-Corp has some nice tax benefits, but I was wholly unaware that I needed to be doing payroll and paying myself a salary and everything that comes along with that. I wasn’t paying payroll tax or unemployment taxes on the part of my income that would have been labeled my salary. Three years later when I figured out that I needed to be paying myself a salary, I had quite a mess to clean up. I had to register myself as an employee with the State of South Dakota, setup state and federal unemployment taxes and refile three years worth of corporate and personal tax returns. I ended up writing several thousand dollars in checks to the IRS to make things right.
I had also neglected to register for a sales tax license with the Department of Revenue. Although the vast majority of my company’s revenue is advertising and most of my customers are out of state, so there wasn’t a big tax bill due there. Fortunately, the South Dakota Department of Revenue was pretty nice about the situation and helped me get compliant with state law. If you aren’t sure when you’re supposed to collect sales tax or when you’re supposed to pay use tax, there’s a strong likelihood that your state puts on workshops on a periodic basis that will teach you the ins-and-outs of sales and use tax.
I could have avoided these headaches if I had done a few basic things right from the beginning. First, fully understand the legal structure that your company is operating under. There are different tax forms that you need to file depending on whether or not you’re operating as a sole proprietor, a limited liability company or a corporation. If you haven’t filed any paperwork, you’ll be operating as a sole proprietor by default, which is just fine until your company starts to make any significant amount of money. It’s definitely worthwhile to pay an accountant in your area when you’re first getting started to know exactly what taxes you should be paying and when you should be paying them.
Second, you need to think of your business as a separate person from yourself for financial purposes. You should have a separate checking account for your business. You should pay all of your business expenses out of this account and deposit all of the revenue that your business gets into this account. At the the end of the month (or at the end of the quarter if that works better for you), have your business write you a check for the profit that your company made. You’ll have a simple listing of your company’s income and expenses whenever you receive your bank statement. You’ll know exactly how much profit you made and your accountant won’t have a mess to deal with at the end of the year.
Take a fourth of whatever you take home as profit and put it in a separate savings account for taxes. When you’re an employee of a company, taxes are automatically taken out of your paycheck and you never really miss the money that gets sent to the IRS. Unfortunately, small business owners often tend to forget about setting money aside to pay their taxes and end up with a big tax bill at the end of the year. By setting aside money in a separate account specifically for your quarterly tax estimates, you’ll avoid the temptation to spend the money that you owe to the IRS on other things. More information about quarterly estimates can be found on the IRS website (http://www.irs.gov/uac/Form-1040-ES,-Estimated-Tax-for-Individuals-1).
Remember that the IRS should always get paid first. They’re the only entity that can send you to prison for not paying your bills. If you run into trouble, you can’t bankrupt out of any debt that you owe the IRS and if you get behind, the penalties and interest can be enormous. Whether you’re just paying quarterly estimates or have employees and are doing quarterly returns on your company’s payroll, paying the IRS is not optional or something that you can put off.
Finally, If your internet business makes use of payment processing services like PayPal, Square or Stripe, you might want to consider using online book-keeping software like Xero (www.xero.com) or Outright (www.outright.com). These services will automatically import transactions from your bank, PayPal and your payment processor. They’ll tell you exactly what your company earned during a specific period of time and provide a number of helpful charts and graphs which will help identify trends in your business. Your accountant will also be much happier with you for having good financial records that these services create automatically.