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W hen bankers and other lend- assets mean “liquid” assets such Tax Points
ers look at your company’s as cash, receivables, inventory,
financial statements, they use finan- and marketable securities. Many Avoiding The
cial ratios to quickly develop a profile lenders consider this ratio the Deduction Limit
of your business. An understanding most important of all and look for On Automobile
of the most common of these ratios a current ratio of at least 1-1/2:1. Business Expenses
cannot only help you in your deal-
ings with your banker, but it can also 2. Net after tax profits to tangible
net worth. This ratio is an impor- Tax Tip
be a valuable tool to help you man-
age your business better. tant indication of profitability and
of how well you manage your What To Do When
To assess your performance, bank- business, because it measures A Hobby Becomes
ers compare your financial ratios to return on investment. A high per-
those of other companies in your
A Business
centage return on investment is
industry, so whether your ratios are an important sign that a business
good or bad depends on the type of Tax Planning
is healthy.
business you are in.
3. Average collection period of How The IRS Decides
Of the dozens of financial ratios that
receivables. By dividing accounts What Returns To Audit
can be computed, here are the nine
receivable by average credit sales
that many bankers, accountants and
business executives consider the Security Tips
most meaningful.
1. Current assets to current lia-
bilities. This ratio is also called
a “current ratio”. It is an indicator
of your company’s ability to pay
debts that are due within a year.
In calculating this ratio, “current”
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2 CLIENT’S TAX FINANCIAL UPDATE
U
ing, restrict the extension to only nder the tax law rules, your taxes could be unexpectedly higher when
those items that are still in question. you use a car for business, whether you or your company own the
Otherwise, the IRS agent is free to car. With proper planning, however, you can maximize your car expense
expand the scope of the audit. deduction and minimize income taxes on your personal use of the car.
The key to this strategy is to keep detailed records of your business use
Good Samaritan tax shelter:
of the car. This can save taxes in two ways. First, it can avoid the rule that
Charitable remainder trusts.
prohibits the deduction of car expenses on a personal return to the extent
These types of trusts offer substan-
that they do not exceed 2% of your Adjusted Gross Income. Second, it can
tial tax benefits for individuals who
keep the value of the vehicle from being included in your personal taxable
want to donate to a charity. You
income.
receive from the trust an income
for life, and upon your death the Here’s what do do
assets of the trust are given to the Auto expenses should not be paid to you as allowances. They should be
charity that you have selected. paid only as reimbursements for specified business expenses. This means
you must give your company an itemized report of your business driving
Money saver. Restructure debt. that includes mileage, tolls and parking costs, the cost of gas and oil, and all
Low interest rates are an incen- other costs. The company must then either reimburse you for actual costs
tive to refinance old debt as well or pay you at a rate that does not exceed $.535 per mile.
as providing tax benefits. Inter-
Under this arrangement auto reimbursements are not included as income
est on consumer debt cannot be
on your tax return and you avoid the 2% of Adjusted Gross Income limita-
deducted, but mortgage interest
tion on the deduction of employee auto expenses. Furthermore, because
(within limits), business interest,
you have established the exact amount of the business use of the car, only
and investment interest up to
the personal use portion of the car’s value can be considered as income.
investment income is deductible.
Strategy: Refinance high interest, Caution: To use this strategy, regular and accurately detailed expense
non-deductible consumer debt with reports are a must.
low interest fully deductible debt.
I t’s rumored that only twelve key • The relative size of a deduction, which provide for guaranteed
employees in the IRS know the such as a $30,000 entertainment minimum death benefits and
formula that is used to determine deduction for a business with allow you to funnel money
which income tax returns to select gross sales of $300,000. to your beneficiaries without
for an audit. However, a review of • The nature of a deduction, such as going through probate.
IRS manuals indicates that there are air travel for an electrician. Added Benefit: Earnings grow
specific characteristics in a tax return tax free until you begin taking
that give it “good audit potential”. • Contradictory information, such as
a deduction for mortgage interest withdrawals at age 59 ½ or
IRS computers identify more returns but no deduction for real estate later.
for possible audit than IRS auditors taxes. Early withdrawals are subject to
can possible handle, so the final
• Missing information or schedules a 10% penalty.
selection of a return to be audited is
determined by IRS classifiers. In some which can imply an intent to mis-
cases, these returns are selected lead.
at random, but in many instances IRS classifiers are also influenced by
they are chosen because unusual the “professional” appearance of a
characteristics in a return indicate return. Certain borderline deduc-
further investigation. Here are tions might escape an audit if the
some examples of “audit potential” return looks like it is professionally
characteristics: prepared.
4 CLIENT’S TAX FINANCIAL UPDATE
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