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5 Ways Bad Accounting is πͺ Killing Your Tax Bill
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More unnecessary tax is paid from bad accounting than bad tax planning. π«³π€ Bad structures or missed elections can cost a few percentage points on the tax paid on the income. But bad accounting can create phantom income or missed deductions that become unrecoverable - it's something no level of tax planning can help you with. π€· To illustrate - today we're digging into a few real life examples I've seen over the years: Losing Money on Real Estate OwnedWhen you build or improve assets yourself, every dollar you spend should count toward your "basis" in that asset. π’ Your basis determines how much you can depreciate each year and, more importantly, how much profit you'll pay taxes on when you sell. But tracking that basis requires good records (accounting). Take a business owner who bought a building. He paid the $50,000 down payment from his personal checking account and never recorded it properly in the business books. Over the next two years, he spent another $75,000 in business funds on improvements funded by his HELOC but didn't track those costs as additions to the building's basis. When he sold the building five years later, his accountant could only document $200,000 in basis instead of the actual $325,000 he had invested. The result? π© He paid tax on an extra $125,000 of profit that was really just his own money coming back to him. This can happen with any financed asset: buildings, equipment, land. Poor record-keeping means you can't prove what you spent, so you run a major risk of paying extra taxes when you sell. Getting Capitalization vs. Expense WrongEvery business purchase falls into one of two categories: expenses you can deduct right away, or capital items you must spread out over several years through depreciation. π Get this wrong, and you either miss immediate tax savings or tie up deductions unnecessarily. With 100% bonus back on the menu, major asset improvements are eligible for what amounts to immediate expensing - but you still have to play the game. Those improvements must be capitalized and then elected to be bonus depreciated. If instead they are directly written off, the IRS can reclassify them and if the taxpayer elected out of bonus depreciation for that year - lose all the accelerated depreciation. π¨ Without clear bookkeeping systems to track what goes where, these mistakes happen regularly and cost real money. Missing Out on Tax CreditsTax credits are better than deductions because they reduce your taxes dollar-for-dollar. But you only get them if you can identify and support the right expenses. π Research and development costs often qualify for valuable credits, but only if they're properly categorized in your books. If you lump R&D expenses in with general operating costs, your accountant might never spot the credit opportunity. The same goes for energy efficiency improvements, employee training programs, and hiring from certain groups. These credits can be worth thousands, but they require specific documentation that starts with good bookkeeping throughout the year. This is why I preach that your P&L is a tool and should be customized to your business needs. βοΈ Breaking out this level of detail should make the tax advice straight-forward. Intercompany Transaction ProblemsIf you own multiple businesses, how you handle transactions between them matters for taxes. Poor tracking can lead to double-counting income or creating artificial losses. βοΈ For example, two related companies had different ownership structures. Company A is owned 60% by John and 40% by Sarah. Company B is owned 80% by John and 20% by Sarah. If Company A provides services to Company B but the transaction isn't recorded properly, you will have problems. Without proper intercompany accounting, Company B might not report the income from services provided, while Company A records all the income. This gives John and Sarah different tax benefits based on their ownership percentages, but it's not accurate. John gets all the income through Company A, but none of the deduction from Company B - creating phantom income. π‘ These intercompany accounts are also a hotbed for fraud because they are usually disregarded by lenders and other users of the financials. It's an area that has to be paid attention to. Personal vs. Business Expense ProblemsWhen business and personal expenses get mixed up, the IRS tends to disallow entire categories of deductions rather than trying to sort out what's legitimate. Vehicle expenses are a common problem. π If you use a business car for personal trips but don't keep mileage logs, the IRS might reject all your auto deductions, not just the personal portion. The same thing happens with home offices, business credit cards, and travel expenses. Mix in too much personal use without proper documentation, and you risk losing legitimate business deductions - not to mention piercing the corporate veil (not an attorney). π°ββοΈ The Bottom LineThese problems all start with the same issue: incomplete or disorganized financial records. By the time you're preparing taxes, it can be too late to reconstruct missing documentation or remember what the hell you meant to record. π€ Good bookkeeping isn't just about compliance. It's about making sure you can take advantage of every tax benefit you've earned and avoid paying taxes on money that was already yours to begin with. The cost of good accounting is almost always less than the extra taxes you'll pay without it. And if you prefer to watch a summary than read it - I'm trying out new video format: π«‘ π₯ Hottest Finance Posts This Week π₯
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