Planning for Your New Business Startup

 by: SBC Staff

So you’re taking the plunge and starting your own business!  Congratulations!  It could be the best financial move you’ve ever made . . . or the worst!  It’s very true that you’ll never make a fortune working for someone else.  You might be comfortable, you might have a great retirement, and some people will get rich if they rise to the executive levels.  But most of us will never earn as much working for someone else as we will with our own business.  But if we go into our new business unprepared, we could lose everything we have and possibly even ruin our ability to reenter the job force on the same terms we were on before.  It can be more difficult to land a good job after being self-employed for an extended period of time.  Of course, there are ways to deal with this issue, but that is beyond the scope of this article.  Anyway, our goal here is to get you prepared to succeed.

The Legal and Tax Aspects

There are many legal forms for your new business to take.  You can be an unincorporated business and report your income for tax purposes on Schedule C of your 1040.  You can incorporate and file form 1120 for the corporation’s income.  If you are incorporated, you can make an S Corporation election, which allows you to report the corporation’s income on your individual tax return.  You can form a general partnership, which also allows you to report the business’ income on your personal return.  You can form your business as a Limited Liability Company, which has many of the best tax characteristics of an S Corporation and a partnership.  Which should you choose?

In general terms, you want the income of the business to pass through to you and be taxed on your personal return.  This is generally true for most small businesses.  If you are unincorporated, this happens automatically, but being unincorporated is generally not the best idea from a legal standpoint.

When you’re in business, you open yourself up to claims and risks that you don’t have as an employee.  Your customers or vendors might sue you.  Your bank might sue you.  Competitors may issue claims against you for copyright infringement or any number of other things.  You want to insulate yourself against these extra risks so that third parties can come after your business but not your house or other personal assets.  Being unincorporated doesn’t help you.  Organizing your business as a partnership doesn’t help you because you remain personally liable.  So you want to be either a corporation or a Limited Liability Company.  Since we have established we want to pay taxes at the individual level, we should also make the S Corporation election if we incorporate.  The election must be made within 75 days of the corporation beginning business or having assets, so don’t delay in making the election.  If you miss the deadline, the election will be effective for the following year but not the first.  If you choose to organize as a Limited Liability Company, you will pick up the income on your personal return, so you don’t have to worry about an election.

Why then, are we saying it’s better to report the income of the business on your personal return rather than on a business return?  Because if the income is reported at the corporate level, you will end up being taxed twice on the profits: once at the corporate level and again as a dividend when you take your profits out of the corporation.  The corporation does not get a deduction for dividends paid to its shareholders.  To avoid the double taxation, you would have to be careful to pay yourself a salary each year equal to the full profits of the corporation.  This can get tricky since you won’t always know the taxable income of the corporation before yearend.  If you make the S Corporation election or organize as a Limited Liability Company, you won’t have to worry about it.

Next, you want to make sure your business is legal at the state, county and local levels.  Make sure your organizational papers are properly filed with the Secretary of State’s office for your state.  Check with your county and local governments to determine what business use permits and occupancy permits you’ll need.  If you’re starting your business from home, make sure you check local zoning laws to make sure you’re in compliance.  If you’re selling tangible products, file with your state for your sales tax exemption number.  You’ll need this to purchase products for resale without paying the tax yourself.  Some wholesalers will not sell to you without this!  If you’re going to have employees, even if it’s only you, set up your income and unemployment tax accounts with your state and order your federal tax deposit coupons from the Internal Revenue Service.  Don’t shortcut any of these steps just because you’re starting out from home.  You can get into a world of trouble by ignoring these steps and may lose your business.  Never attempt to finance your business by not paying your employment taxes when they are due!  If you do, it will be the most expensive borrowing you’ll ever do!

Your Business and Marketing Plans

Now that you’re legal and ready to roll, you need a plan.  I don’t mean a plan you carry in your head, ideas you’ve had over the years in bits and pieces.  I mean a solid, written plan that lays out all the details about your business.  Describe your business, your products, your competition, your advantages, your target market, demographic information, your marketing plan, your management team, strategic alliances you have with other companies and your financial forecasts.  Do not cut this process short!  By doing the research necessary to complete these steps you may find out that your business cannot make it as you had originally planned.  You might discover changes you have to make.  You will improve your chances of success.

You might ask if you can use one of the many software packages on the market for producing your business plan.  It depends on what you’re using the plan for.  If your plan is only for you to use internally, they are fine.  If you want to go after venture capital or bank financing, forget them!  Your business plan will look just like a thousand others they’ve seen and will be lost in the clutter.  To obtain financing you want to create a distinctive business and marketing plan that stands out from the rest and doesn’t look like it was created via the cookie-cutter approach.  Resolve to do it yourself from scratch or hire professionals to do it for you with your input.  If you hire professionals, be prepared to participate heavily in the process since it is your business and you presumably know more about the business than your consultants will.  Another benefit to using consultants is that they represent a sounding board for your ideas.  If you can’t afford them, do the plan yourself and use your friends and trusted business associates as your sounding board.

Running and Monitoring Your Business

Your business is now organized and properly authorized to do business in your state and locality.  You now need to consider how to monitor and account for your daily business transactions.  Too many businesses make the mistake of running their enterprise out of a checkbook only.  Accounting tasks are rarely anyone’s idea of fun, nor are they considered important relative to the other daily tasks of running a business.  But you need to fight this idea if that’s the way you think.  Just as you wouldn’t spend thousands of dollars a year without some method of tracking the results of your efforts, (you wouldn’t would you?  More on that later.), you can’t run your business without some method of tracking your daily results.  A checkbook register will not provide you with the information you need.  I won’t get into a long discourse about the differences in accrual and cash accounting, but there are a few things you need to understand.

Let’s say you make sales of $2,500 on account on the last day of your first month in business and these were your very first sales.  You won’t receive the cash for several days.  Did you have any sales for your first month?  On the cash basis of accounting, you didn’t.  On the accrual basis of accounting, you did.  Which is correct?

On the other side of the coin, you purchased $2,000 of office supplies on the last day of the month but didn’t use any of them during the day.  This was the only expense you had during the month.  Did you have any expenses for your first month in business?  On the cash basis of accounting, you did.  On the accrual basis of accounting, you didn’t.  Which is correct?

On the cash basis of accounting you report income when received in cash and expenses when paid in cash.  There are some exceptions, however, such as inventory purchases, which must still be accounted for as inventory rather than an expense.  On the accrual basis of accounting you report income when earned and expenses when incurred.

So back to our question; which is correct?  If you ever need audited financial statements, your financial statements will have to be prepared on the accrual basis of accounting because it more clearly reflects income.  If you need to present your financial statements to third parties, you should have them prepared on the accrual basis.  If you want to manage your business using financial data that is meaningful, you need to have accrual basis financial statements.

You’re probably protesting that you’d need to be an accountant to do this!  Well, you should have an accountant for a variety of reasons, but you don’t have to have one to keep your books on the accrual basis.  It’s simple.  Get a software package to do the work for you.  An accounting software package does not simply give you an input screen into which to put accounting transactions.  It will give you software that will allow you to input your business transactions and will automatically create your books and records for you.  For example, you use a sales order entry screen to enter your sales information; the accounting system will make the proper entries for you.  By entering the sales order information, you’re also getting the ability to print professional looking sales orders, track sales orders, convert the sales orders into invoices, record the invoices as receivables, and apply cash receipts to those receivables.  These are all tools you need anyway to manage your business properly.  The accounting for the transactions happens behind the scenes automatically.  The same thing happens with your payables, your payroll, your job costing, or whatever other functions you require.  Granted, you may need some help in setting up your system to make all this occur seamlessly, but once that’s done, you won’t have to worry about it anymore.  Anytime a third party needs your financial statements, you simply print them out.  You’ll have tools to help you know where you stand financially, what your receivables are, what your payables are, what the status of your orders are, what you have in inventory and so forth.

Don’t delay putting in an accounting system to help you run your business.  Even the simplest off-the-shelf package will provide you with the capabilities you need without spending a lot of money.  You can start with QuickBooks for less than $50; move up to QuickBooks Pro when you need to, then on to more robust packages such as BusinessWorks and MAS90 as your business grows.

Follow Your Business and Marketing Plans

You probably spent a great deal of time creating and polishing your business and marketing plans.  Don’t let that time go to waste by not following these plans.  Create task lists from your plans and use them every day to run your business.  Don’t be shy about making changes where necessary when events dictate that you do so.  You’ll find that your plans are fluid in the beginning.  Running your business in real life will help you see things you couldn’t see before.  Compare your actual results of operations with your projections that are included in your business plan.  If you’re not hitting your targets, spend some time investigating why.  Understand what is different from the assumptions used to prepare your projections.  If you are doing better than projected, understand that, too.  If you’ve set up your accounting system, making your comparisons will be simple.

Now you need to concern yourself with tracking your marketing efforts.  If you have failed to meet your business projections, perhaps the problem lies in your marketing efforts.  Have you devise a method to track your marketing results?  It is very important that you do.  If you receive orders by phone, make sure you or your employees ask where the customer heard of you.  Create a form to record this information and keep ample supplies by the phone.  List all your advertising on the form to make it easier to record the information quickly.  Every week or month you should summarize this data and compare it to your advertising costs.  You’ll come up with a cost per lead for each advertising source, which will help you spend your marketing dollars more wisely.

If you advertise on the Internet, it will be easier to track your results.  Programs exist that make such tracking very easy to perform.  We use ROIBOT.  With ROIBOT, you set up unique URLs for each advertising source.  For example, if we were advertising our free newsletters using four different lead sources, it would like this: 

As you can see from the above, we are promoting the same URL, www.peakconsultinginc.com/newsletters , using all four lead sources.  But when we advertise, the ROIBOT URL is used so that we know which lead source generated the prospect.  Of course, all four ROIBOT URLs take the user to the same place.  ROIBOT then provides campaign reports that show the source of the clicks on your ads.

If you’re interested in the ROIBOT service, you can sign up at here:

http://www.roibot.com/

It will cost you only $1 for the first month and $17 per month thereafter.  The service includes many other valuable tools such as an FFA submitter, an autoresponder server, and a web page spy that allows you to keep up with what your competitors are doing.  There are other similar services available, but in our opinion this is the best.  We are constantly evaluating new programs and services and will list other choices here as we come across them.

Update!  At this time, it appears ROIBOT will no longer be accepting new customers.  Adminder offers a service that is similar, but more advanced than ROIBOT for about the same price.  You can check it out at http://www.adminder.com/go.cgi?id=peaksbc

I hope this article has been of help to you.  If you have additional questions, and I’m sure you do, please feel free to call us at the Peak Small Business Center or submit a request form from the web site.