Small Business Taxes & ManagementTM--Copyright 2020, A/N Group, Inc.
The COVID-19 pandemic has impacted virtually every business and part of the economy, but small businesses are likely taking the bigger hit. Most small businesses generally don't have the financial reserves nor the diversification to easily deal with the myriad problems. But there's no doubt that they have a vital function in the economy. We've put together a number of points that might help you survive the downturn. While it may be late in the game for some of the items below, even those may allow you to better survive a potential second hit from this virus.
Liquidity vs Solvency First, we should define some terms. There's a difference between liquidity, solvency, and bankruptcy. There are many businesses that are illiquid, that is, they don't have enough cash, or assets they can readily turn into cash, to meet their current cash needs. For example, Madison has cut employees and is still profitable, and it's got a valuable building with little debt remaining, but cash has been spent on payroll and a monthly mortgage payment. Madison is solvent, but it's got a liquidity problem (i.e., it can't easily convert the building into cash) and may not be able to meet this month's mortgage. While it's definitely a problem, Madison has some options (e.g., a second mortgage on building) to cure the issue.
The second scenario, insolvency, is where the company's liabilities exceed the company's assets. This is an accounting definition and it can be misleading. Madison may be showing it's building on the books at what it paid for the property some years ago. The property may have appreciated considerably. Moreover, Madison has taken depreciation on the property further reducing its net value. Madison could pay its outstanding creditors by selling the property (and potentially leasing it back). Madison may also have assets that aren't on the books, often intangibles, such as customer lists, franchise rights, etc. While it does not spell the end of the business, the company's options are definitely reduced. And, on the other side of the coin, it's not unusual for a business to have uncollectible accounts receivable that haven't been written off, inventory that can't be sold at the carrying price, etc.
Businesses that take action can often recover from insolvency, but if you have no means to pay your creditors (e.g., Madison's building isn't worth nearly what it's carried on the books, accounts receivable are overstated, etc.) the only option may be to declare bankruptcy.
Survival not Growth You may have been focused on building your business--to earn more, to better cover fixed expenses, or for any number of reasons--but unless you're sitting on a mound of cash, now is not the time to be thinking growth. Instead, your focus should be on survival. And for many small businesses that means really cutting expenses and cash outflow.
Cash Flow Projections This is the first step in addressing the problem. Cash flow isn't the same as profits. Collecting on those accounts receivables in excess of generating any new ones will increase cash flow, but it may not do anything for profits. And making that monthly loan payment of $5,000 will reduce your cash flow, but only the interest portion will affect your profits. The portion of the payment that goes to reduce the principal doesn't. A serious cash flow projection will allow you to see where you're getting the money and where you're spending it. That analysis can help you find places to reduce cash outflow and, hopefully, increase cash inflow. You should project cash flow for at least several months (more if you can), realizing that the further out you go, the more iffy the projection will become.
Conserve Cash That suggestion is beyond obvious, but too often we miss the obvious. Look at every aspect of the business. A new tool may allow you to do the same amount of work with only one employee rather than two. But if you're keeping employees on the payroll because you'll need them later, spending $20,000 on the new machine and having an employee not fully working may not make sense. Pare inventory and accounts receivable. There are a lot of "luxury" items (e.g., new carpets and fixtures in a store or restaurant) that are important to a thriving, growing business, that aren't necessary for a business in survival mode. You won't have any customers that won't understand, so there's little reason to impress. You might be able to reduce regular maintenance on vehicles, machinery, etc. are being used less. Likewise, there may be little reason to advertise, depending on your individual situation.
Be Straight with Employees There are limitations here, but don't tell employees the business is doing great when it isn't. That can backfire if you have to lay them off later. Moreover, your waitress knows how business is doing from her tips; Fred on the drill press knows things are bad when he's got little to do. And that's assuming they neither read the papers nor watch TV.
Valuable Employees There are some employees that will be tough to replace--the middle-aged engineer who developes half of your new products, the foreman who's worked on almost every machine in the plant, etc. On the other hand, despite the reprocussions, you might want to let your brother-in-law go if he's generally unproductive in the best of times. Don't hesitate to cut the salaries of executives (check with your attorney on any salary cuts). They're unlikely to get another job in this environment. That might also apply to some of your lower level employees.
Withheld and Sales Tax This is one place where deferring taxes is a no-no. Taxes withheld from an employee's pay have to be deposited on time. The employer's portion of social security may be deferred to the end of the year under certain circumstances in this pandemic, but if you received a Payroll Protection Program (PPP) loan that was forgiven you may not defer payment of the employer's portion after you receive a decision from the lender the loan is forgiven. Sales taxes depend on state rules. Check the rules with your state. In the case of the employment taxes and sales taxes, they're considered "trust fund taxes" and an owner, manager, or even an employee such as a bookkeeper can be personally responsible for the amount unpaid. Moreover, these taxes are not discharged in bankruptcy. Moreover, the penalties can be substantial. Employment tax penalties start at 2 percent of the undeposited amount for 1 to 5 days late and go to 15 percent if unpaid more than 10 days after the first notice from the IRS.
Used Equipment, Businesses in Trouble If you've got the cash and good prospects, you should be on the lookout for businesses selling inventory, equipment, even selling out altogether. If you don't want to buy the entire business, consider purchasing customer lists, intangibles, etc.
Watch for Vendors in Trouble There's a good chance one or more of your suppliers, subcontractors, etc. could go out of business. If you have to pay up front for goods or work, you want to make sure they're going to deliver. In some cases they may even ask you to advance them funds. Tread cautiously. If they run into financial difficulty recovering your money could prove very difficult and likely impossible. Even if they don't want up front money, you should be alert for potential problems. You don't want to have a problem delivering to a customer because you no longer have a source of parts. You should also be aware that some businesses may not be able to deliver because of sick workers, quarantine rules in their state, etc. Advise customers you can't guarantee delivery and include in any written contracts. Talk to your attorney.
Don't Give Up Marketing You may not be aggressively seeking sales, but you want to keep a presence in the market. The ads might be less frequent or more on the side of informative than sales pitch. You want to keep your customers informed of what you're doing. Much depends on your product or service. Talk to a professional.
Customer Financial Health This is the one that really counts. When a customer can't pay on a receivable you lose not only the profit on the sale but also your costs. Stratify your customers and monitor the ones with the biggest accounts receivable balance very carefully. Besides checking their credit regularly and watching for any signs of weakness such as paying late, arguing over invoices, etc. Talk to your salesmen, accounting staff and industry people. Don't discount any source of information. Florence in receivables may talk to her friend in accounts payable at the customer and hear that they're bouncing checks or having trouble making payroll.
Stay Flexible And think outside the box. Small distilleries are making hand sanitizer (alcohol content). Restaurants are doing takeout. Why not meal kits? Combine that with a video tutorial on your web site. Some people are reviving drive-in movies. Your options will depend on your line of business as well as other factors. No one can accurately predict how long this will last and whether or not there will be a second wave. You may want to do only the whole job, but the customer has idle workers he wants to keep busy. If the customer insists, let them do part of the work. Better than losing the whole job.
Look for Concessions You may be able to get rent concessions, mortgage forbearance, better terms from your suppliers, etc. No one will offer, you've got to ask. Remind landlords, suppliers, etc. that if you go out of business, their business will also suffer. Landlords, suppliers are likely to find it hard to replace a customer at this time. You may also get concessions from your employees with a pay cut. This one has all sorts of ramifications. Talk to your attorney or a human resources professional. The large payroll companies may be able to provide help.
Sell Assets You won't be selling into the best market, but you may not find a good market for some time, but selling now can have several benefits. The most obvious is raising cash. But it's also a good time to clean house and take stock of what you've got. Selling inventory items may not have much of a tax effect, but if the stock has been expensed on purchase it'll generate taxable income. Assets that have been written off on purchase or fully depreciated will also generate taxable income (depreciation recapture). But for most businesses this should be the worst year they'll ever see. Income this year may go untaxed or taxed at a low rate. Talk to your tax advisor. You may be able to carry back losses to an earlier year.
Training, maintenance, reorganization, etc. Chances are you've got time on your hands. This could be a good time to clean the shop, perform deferred maintenance, take some training classes, cross train employees, weed through those old files, etc.
Even if you see the light at the end of the tunnel, it's a depressing time. Keep in mind this wasn't your fault. Your job now is to stay as upbeat as possible and keep the business together. There's a possibility the business can't be saved. Before considering that, get good advice from your CPA, attorney, or other advisor. They may have some suggestions.
We'll shortly post an article that will focus on financial advice and saving or discontinuing the business.
Copyright 2020 by A/N Group, Inc. This publication is designed to provide accurate and authoritative information in regard to the subject matter covered. It is distributed with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service. If legal advice or other expert assistance is required, the services of a competent professional should be sought. The information is not necessarily a complete summary of all materials on the subject. Copyright is not claimed on material from U.S. Government sources.--ISSN 1089-1536
--Last Update 05/12/20