6 Major Payroll Taxes Every Employer Should Keep an Eye On

As you’re no doubt aware, employers are responsible for withholding and paying payroll taxes. If you don’t use a third-party provider, it’s critical to stay focused on payroll tax compliance. Given the potential penalties involved, you can’t get complacent about proper administration. Let’s review the six major payroll taxes to keep an eye on:

1. Federal. Employers must withhold federal income tax from employees’ paychecks. The amount of income tax withheld from each employee’s pay depends on two factors: 1) the amount of the wages, and 2) information provided on the employee’s Form W-4, “Employee’s Withholding Certificate.” Additional withholding rules may apply to commissions and other forms of compensation.

2. State and local. Be sure to stay apprised of your non-federal payroll tax obligations. State income tax withholding rules, for example, apply to many employers. However, eight states (Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Washington and Wyoming) don’t impose an income tax. New Hampshire and Tennessee don’t tax wages. Certain localities also impose income taxes. And in some places, withholding is required to cover short-term disability, paid family leave or unemployment benefits.

3. FICA. Payroll taxes authorized under the Federal Insurance Contributions Act (FICA) comprise two components. The first is a Social Security tax of 6.2% on an amount up to an annual “wage base.” In 2024, that wage base is $168,600. The second FICA component is a Medicare tax of 1.45% on all wages. Both employers and employees must pay FICA tax; employers must withhold the employees’ share.

4. FUTA. The Federal Unemployment Tax Act (FUTA) created a special tax that applies to the first $7,000 of wages of every employee. The purpose of this tax is to help states pay employees who have been involuntarily terminated from their jobs. The basic FUTA rate is 6%, but employers can benefit from a credit for state unemployment tax of up to 5.4%, resulting in an effective tax of 0.6%. However, the credit is reduced if a state borrows from the federal government to cover its unemployment benefits liability and doesn’t repay the funds.

5. State unemployment. Every state also runs its own unemployment insurance program to provide benefits to eligible workers who are involuntarily terminated. Generally, the rate employers must pay is based on their claims experience. The more claims made by former employees, the higher the tax rate. States update these rates annually.

6. Additional Medicare tax. This payroll tax often flies under the radar. Under a provision of the Affordable Care Act, the additional Medicare tax of 0.9% applies to employee wages above $200,000 for single filers, $250,000 for joint married filers and $125,000 for separate married filers. Note that this tax is paid by employees only. However, employers are responsible for withholding it, when applicable.

If your organization has been operational for a while, you’re likely well aware of the additional Medicare tax, as well as the other five common payroll taxes discussed above. Nevertheless, most employers can benefit from taking a continuous-improvement approach to payroll taxes, always looking for ways to improve efficiency and better ensure compliance. We can help you assess the costs and efficacy of your payroll processes.

The Inflation Reduction Act (IRA) established and expanded numerous incentives to encourage taxpayers to increase their use of renewable energy and adoption of a range of energy efficient improvements. In particular, the law includes funding for nearly $9 billion in home energy rebates.

While the rebates aren’t yet available, many states are expected to launch their programs in 2024. And the IRS recently released some critical guidance (Announcement 2024–19) on how it’ll treat the rebates for tax purposes.

The rebate programs

The home energy rebates are available for two types of improvements. Home Efficiency Rebates apply to whole-house projects that are predicted to reduce energy usage by at least 20%. These rebates are applicable to consumers who reduce their household energy use through efficiency projects. Examples include the installation of energy efficient air conditioners, windows and doors.

The maximum rebate amount is $8,000 for eligible taxpayers with projects with at least 35% predicted energy savings. All households are eligible for these rebates, with the largest rebates directed to those with lower incomes. States can choose to provide a way for homeowners or occupants to receive the rebates as an upfront discount, but they aren’t required to do so.

Home Electrification and Appliance Rebates are available for low- or moderate-income households that upgrade to energy efficient equipment and appliances. They’re also available to individuals or entities that own multifamily buildings where low- or moderate-income households represent at least 50% of the residents. These rebates cover up to 100% of costs for lower-income families (those making less than 80% of the area median income) and up to 50% of costs for moderate-income families (those making 80% to 150% of the area median income). According to the Census Bureau, the national median income in 2022 was about $74,500 — meaning some taxpayers who assume they won’t qualify may indeed be eligible.

Depending on your state of residence, you could save up to:

$8,000 on an ENERGY STAR-certified electric heat pump for space heating and cooling,
$4,000 on an electrical panel,
$2,500 on electrical wiring,
$1,750 on an ENERGY STAR-certified electric heat pump water heater, and
$840 on an ENERGY STAR-certified electric heat pump clothes dryer and/or an electric stove, cooktop, range or oven.

The maximum Home Electrification and Appliance Rebate is $14,000. The rebate amount will be deducted upfront from the total cost of your payment at the “point of sale” in participating stores if you’re purchasing directly or through your project contractors.

The tax treatment

In the wake of the IRA’s enactment, questions arose about whether home energy rebates would be considered taxable income by the IRS. The agency has now put the uncertainty to rest, with guidance stating that rebate amounts won’t be treated as income for tax purposes. However, rebate recipients must reduce the basis of the applicable property by the rebate amount.

If a rebate is provided at the time of sale of eligible upgrades and projects, the amount is excluded from a purchaser’s cost basis. For example, if an energy-efficient equipment seller applies a $500 rebate against a $600 sales price, your cost basis in the property will be $100, rather than $600.

If the rebate is provided at a later time, after purchase, the buyer must adjust the cost basis similarly. For example, if you spent $600 to purchase eligible equipment and later receive a $500 rebate, your cost basis in the equipment drops from $600 to $100 upon receipt of the rebate.

Interplay with the Energy Efficient Home Improvement Credit

The IRS guidance also addresses how the home energy rebates affect the Energy Efficient Home Improvement Credit. As of 2023, taxpayers can receive a federal tax credit of up to 30% of certain qualified expenses, including:

Qualified energy efficiency improvements installed during the year,
Residential energy property expenses, and
Home energy audits.

The maximum credit each year is:

$1,200 for energy property costs and certain energy-efficient home improvements, with limits on doors ($250 per door and $500 total), windows ($600) and home energy audits ($150), and
$2,000 per year for qualified heat pumps, biomass stoves or biomass boilers.

Taxpayers who receive home energy rebates and are also eligible for the Energy Efficient Home Improvement Credit must reduce the amount of qualified expenses used to calculate their credit by the amount of the rebate. For example, if you purchase an eligible product for $400 and receive a $100 rebate, you can claim the 30% credit on only the remaining $300 of the cost.

Act now?

While the IRA provides that the rebates are available for projects begun on or after August 16, 2022, projects must fulfill all federal and state program requirements. The federal government, however, has indicated that it’ll be difficult for states to offer rebates for projects completed before their programs are up and running. In the meantime, though, projects might qualify for other federal tax breaks. Contact us to determine the most tax-efficient approach to energy efficiency.

When you encounter the word “pivot,” you may think of a politician changing course on a certain issue or perhaps a group of friends trying to move a couch down a steep flight of stairs. But businesses sometimes choose to pivot, too.

Under a formal pivot strategy, a company consciously changes its strategic focus in a series of carefully considered and executed moves. Obviously, this is an endeavor that should never be undertaken lightly or suddenly. But there’s no harm in keeping it in mind and even exploring the feasibility of a pivot strategy under certain circumstances.

5 common situations

For many businesses, five common situations often prompt a pivot:

1. Financial distress. When revenue streams dwindle and cash flow slows, it’s critical to pinpoint the cause(s) as soon as possible. In some cases, you may be able to blame temporary market conditions or a seasonal decline. But, in others, you may be looking at the irrevocable loss of a “unique selling proposition.”

In the latter case, a pivot strategy may be in order. This is one reason why companies are well-advised to regularly generate proper financial statements and projections. Only with the right data in hand can you make a sound decision on whether to pivot.

2. Lack of identity. Does your business offer a wide variety of products or services but have only one that clearly stands out? If so, you may want to pivot to focus primarily on that product or service — or even make it your sole offering.

Doing so typically involves cost-cutting and streamlining of processes to boost efficiency. In a best-case scenario, you might end up having to invest less in the business and get more out of it.

3. Weak demand. Sometimes the market tells you to pivot. If demand for your products or services has been steadily declining, it may be time to reimagine your strategic goals and pivot to something that will generate more dependable revenue.

Pivoting doesn’t always mean going all the way back to square one and completely rewriting your business plan. More often, it calls for targeted changes to production, pricing and marketing. For example, you might redefine your target audience and position your products or services as no hassle, budget-friendly alternatives. Or you could take the opposite approach and position yourself as a high-end “boutique” option.

4. Tougher competition. Many industries have seen “disrupters” emerge that upend the playing field. There’s also the age-old threat of a large company rolling in and simply being too big to beat.

A pivot can help set you apart from the dominant forces in your market. For example, you might seek to compete in a completely different niche. Or you may be able to pivot to exploit the weaknesses of your competitors — perhaps providing more personalized service or quicker delivery or response times.

5. Change of heart. In some cases, a pivot strategy may originate inside you. Maybe you’ve experienced a shift in your values or perspective. Or perhaps you have a new vision for your business that you feel passionate about and simply must pursue.

This type of pivot tends to involve considerable risk — especially if your company has been profitable. You should also think about the contributions and well-being of your employees. Nevertheless, one benefit of owning your own business is the freedom to call the shots.

Never a whim

Again, a pivot strategy should never be a whim. It must be carefully researched, discussed and implemented. For help applying thorough financial analyses to any strategic planning move you’re considering, contact us.

Yeo & Yeo CPAs & Advisors is proud to announce that Christina LaVielle and Kyle Richardson, CPA, have received the Tomorrow’s 20 Award presented by the Auburn Hills Chamber of Commerce. This award recognizes emerging leaders who demonstrate outstanding leadership, innovation, and commitment to community service.

Christina LaVielle is a manager and member of the firm’s Government Services Group and Audit Services Group. Her areas of expertise include audits for governmental entities, including cities, townships, counties, villages, libraries, and water districts. LaVielle’s dedication to community is evident through her involvement with the Yeo & Yeo Young Professionals Group, the Auburn Hills Chamber of Commerce, and the Michigan Government Finance Officers Association.

“Christina approaches each day with a sense of purpose, aiming to make a meaningful impact both within the accounting profession and the Auburn Hills community. This recognition is a testament to the positive impact she has already made and the contributions that she will continue to inspire in the future.” said Alan Panter, CPA, CGFM, Principal at Yeo & Yeo.

Get to Know Christina:

Kyle Richardson, CPA is a manager and member of Yeo & Yeo’s Trust and Estate Services Group. His areas of expertise include tax planning and business advisory services. Passionate about supporting the community, Richardson is active in the Troy Chamber of Commerce and the Auburn Hills Chamber of Commerce, along with professional organizations including the Michigan Association of CPAs and the American Institute of CPAs. Richardson is also the past leader of Yeo & Yeo’s Young Professionals Group, and remains actively involved in supporting the firm’s firm-wide annual service project.

“Kyle’s selfless dedication to service in our community and profession is commendable. He is deserving of this honor, and I am proud to work alongside him.” said Zaher Basha, CPA, Senior Manager at Yeo & Yeo.

Get to Know Kyle:

“Christina and Kyle are driven by empathy, agility, enthusiasm, and possibility. Their unwavering commitment to these principles is reflected in every aspect of their work, from their dedication to client service to their involvement in community initiatives,” added Tammy Moncrief, CPA, Board Member, and Managing Principal of Yeo & Yeo’s Auburn Hills office. “I am confident they will continue and lead with these values at the forefront.”

The Tomorrow’s 20 award recipients were honored at a gala hosted by the Auburn Hills Chamber on May 16 in Pontiac, Michigan.

If your business doesn’t already have a retirement plan, it might be a good time to take the plunge. Current retirement plan rules allow for significant tax-deductible contributions.

For example, if you’re self-employed and set up a SEP-IRA, you can contribute up to 20% of your self-employment earnings, with a maximum contribution of $69,000 for 2024 (up from $66,000 for 2023). If you’re employed by your own corporation, up to 25% of your salary can be contributed to your account, with a maximum contribution of $69,000. If you’re in the 32% federal income tax bracket, making a maximum contribution could cut what you owe Uncle Sam for 2024 by a whopping $22,080 (32% × $69,000).

Other possibilities

There are more small business retirement plan options, including:

401(k) plans, which can even be set up for just one person (also called solo 401(k)s),
Defined benefit pension plans, and
SIMPLE-IRAs.

Depending on your situation, these plans may allow bigger or smaller deductible contributions than a SEP-IRA. For example, for 2024, a participant can contribute $23,000 to a 401(k) plan, plus a $7,500 “catch-up” contribution for those age 50 or older.

Watch the calendar

Thanks to a change made by the 2019 SECURE Act, tax-favored qualified employee retirement plans, except for SIMPLE-IRA plans, can now be adopted by the due date (including any extension) of the employer’s federal income tax return for the adoption year. The plan can then receive deductible employer contributions that are made by the due date (including any extension), and the employer can deduct those contributions on the return for the adoption year.

Important: This provision didn’t change the deadline to establish a SIMPLE-IRA plan. It remains October 1 of the year for which the plan is to take effect. Also, the SECURE Act change doesn’t override rules that require certain plan provisions to be in effect during the plan year, such as the provisions that cover employee elective deferral contributions (salary-reduction contributions) under a 401(k) plan. The plan must be in existence before such employee elective deferral contributions can be made.

For example, the deadline for the 2023 tax year for setting up a SEP-IRA for a sole proprietorship business that uses the calendar year for tax purposes is October 15, 2024, if you extend your 2023 tax return. The deadline for making a contribution for the 2023 tax year is also October 15, 2024. For the 2024 tax year, the deadline for setting up a SEP and making a contribution is October 15, 2025, if you extend your 2024 tax return. However, to make a SIMPLE-IRA contribution for the 2023 tax year, you must have set up the plan by October 1, 2023. So, it’s too late to set up a plan for last year.

While you can delay until next year establishing a tax-favored retirement plan for this year (except for a SIMPLE-IRA plan), why wait? Get it done this year as part of your tax planning and start saving for retirement. We can provide more information on small business retirement plan options. Be aware that, if your business has employees, you may have to make contributions for them, too.

Tax-advantaged accounts or reimbursement arrangements for health care have become popular employer-sponsored benefits. And for good reason — these accounts or arrangements ease the burden of high costs on organizations while giving employees a tax-friendly way to manage medical expenses.

The IRS, however, has concerns. The tax agency recently issued a news release (IR-2024-65) warning plan administrators that only qualified medical expenses are eligible for deductions or reimbursements under these accounts or arrangements. Personal expenses for “general health and wellness” aren’t.

4 common vehicles

The IRS news release specifically addresses four commonly used vehicles for helping employees manage medical expenses:

1. Health Flexible Spending Accounts (FSAs). Participants can channel up to $3,200 in 2024 (up from $3,050 in 2023) of pretax income into these standalone, employer-owned accounts. The account then reimburses the participant for qualified medical expenses.

2. Health Savings Accounts (HSAs). These participant-owned accounts must be offered in conjunction with a high-deductible health plan. In 2024, participants can contribute pretax income of up to $4,150 for self-only coverage (up from $3,850 in 2023) and $8,300 for family coverage (up from $7,750 in 2023).

3. Health Reimbursement Arrangements (HRAs). Rather than being individual participant accounts, HRAs are employer-sponsored plans that reimburse participants for eligible medical expenses. There are several different versions. Generally, employers may claim a tax deduction for reimbursements, which are typically tax-free for participants.

4. Medical Savings Accounts (MSAs). These participant-owned accounts, sometimes referred to as “Archer MSAs,” are a precursor to HSAs intended for self-employed people and very small businesses. Congress discontinued the creation of new MSAs in 2007, but some employers still sponsor accounts created before then.

Aggressive marketing

The IRS’s concerns spring largely from what it calls “aggressive marketing.” That is, according to the news release, “… some companies are misrepresenting circumstances under which food and wellness expenses can be paid or reimbursed under FSAs and other health spending plans.”

The tax agency says certain businesses are telling customers that, if they can get a doctor’s note supporting purchases of nonmedical food, wellness or exercise products or services, the associated costs can be converted to tax-qualified medical expenses. But this generally isn’t true. The news release even includes an example in which a company offers to provide a doctor’s note to a customer, for a fee, that would allow the individual to claim an FSA reimbursement for low-carb food products targeted at people with diabetes.

Under Internal Revenue Code Section 213, qualifying medical expenses are defined as amounts paid for the diagnosis, cure, mitigation, treatment or prevention of disease, or for the purpose of affecting a structure or function of the body. They don’t include expenses related to products or services that are merely beneficial to health and wellness.

Friendly reminder

If your organization sponsors one of the accounts or arrangements mentioned above, you may want to pass along the IRS’s friendly reminder to participants. The tax agency warns in the news release that if a health FSA, HSA, HRA or MSA is used to pay or reimburse nonmedical expenses, all payments from the account or arrangement — including valid reimbursements — may be includible in the participant’s income. Contact us for more information.

If your company has been in business for a while, you may not pay much attention to your payroll system so long as it’s running smoothly. But don’t get too complacent. Major payroll errors can pop up unexpectedly — creating huge disruptions costing time and money to fix, and, perhaps worst of all, compromising the trust of your employees.

For these reasons, businesses are well-advised to conduct payroll audits at least once annually to guard against the many risks inherent to payroll management. Here are seven such risks to be aware of:

1. Inaccurate recordkeeping. If you don’t keep detailed and accurate records, it will probably come back to haunt you. For example, the Fair Labor Standards Act (FLSA) requires businesses to maintain records of employees’ earnings for at least three years. Violations of the FLSA can trigger severe penalties. Be sure you and your staff know what records to keep and have sound policies and procedures in place for keeping them.

2. Employee misclassification. Given the widespread use of “gig workers” in today’s economy, companies are at high risk for employee misclassification. This occurs when a business engages independent contractors but, in the view of federal authorities, the company treats them like employees. Violating the applicable rules can leave you owing back taxes and penalties, plus you may have to restore expensive fringe benefits.

3. Manual processes. More than likely, if your business prepares its own payroll, it uses some form of payroll software. That’s good. Today’s products are widely available, relatively inexpensive and generally easy to use. However, some companies — particularly small ones — may still rely on manual processes to record or input critical data. Be careful about this, as it’s a major source of errors. To the extent feasible, automate as much as you can.

4. Privacy violations. You generally can’t manage payroll without data such as Social Security numbers, home addresses, birth dates and bank account numbers. Unfortunately, possessing such information puts you squarely in the sights of hackers and those pernicious purveyors of ransomware. Invest thoroughly in proper cybersecurity measures and regularly update these safeguards.

5. Internal fraud. Occupational (or internal) fraud remains a major threat to businesses. Schemes can range from “cheating” on timesheets by rank-and-file workers to embezzlement by those higher on the organizational chart. Among the most fundamental ways to protect your payroll function from fraud is to require segregation of duties. In other words, one employee, no matter how trusted, should never completely control the process. If you don’t have enough employees to segregate duties, consider outsourcing.

6. Legal compliance. As a business owner, you’re probably not an expert on the latest regulatory payroll developments affecting your industry. That’s OK; laws and regulations are constantly evolving. However, failing to comply with the current rules could cost you money and hurt your company’s reputation. So, be sure to have a trustworthy attorney on speed dial that you can turn to for assistance when necessary.

7. Tax compliance. Employers are responsible for calculating tax withholding on employee wages. In addition to deducting federal payroll tax from paychecks, your organization must contribute its own share of payroll tax. If you get it wrong, the IRS could investigate and potentially assess additional tax liability and penalties. That’s where we come in. For help conducting a payroll audit, reviewing your payroll costs and, of course, managing your tax obligations, contact us.

Estate planning has a language all its own. While you may be familiar with common terms such as a will, a trust or an executor, you may not be as certain about others. For quick reference, here’s a glossary of key terms you may come across when planning your estate:

Administrator. An individual or fiduciary appointed by a court to manage an estate if no executor or personal representative has been appointed or the appointee is unable or unwilling to serve.

Ascertainable standard. The legal standard, typically relating to an individual’s health, education, maintenance and support, which is used to determine what distributions are permitted from a trust.

Attorney-in-fact. The individual named under a power of attorney as the agent to handle the financial and/or health affairs of another person.

Codicil. A legally binding document that makes minor modifications to an existing will without requiring a complete rewrite of the document.

Community property. A form of ownership in certain states in which property acquired during a marriage is presumed to be jointly owned regardless of who paid for it.

Credit shelter trust. A trust established to bypass the surviving spouse’s estate to take full advantage of each spouse’s federal estate tax exemption. It’s also known as a bypass trust or A-B trust.

Fiduciary. An individual or entity, such as an executor or trustee, designated to manage assets or funds for beneficiaries and legally required to exercise an established standard of care.

Grantor trust. A trust in which the grantor retains certain control so that it’s disregarded for income tax purposes and the trust’s assets are included in the grantor’s taxable estate.

Inter vivos. The legal phrase used to describe various actions (such as transfers to a trust) made by an individual during his or her lifetime.

Intestacy. When a person dies without a legally valid will, the deceased’s estate is distributed in accordance with the applicable state’s intestacy laws.

Joint tenancy. An ownership right in which two or more individuals (such as a married couple) own assets, often with rights of survivorship.

No-contest clause. A provision in a will or trust that ensures that an individual who pursues a legal challenge to assets will forfeit his or her inheritance or interest.

Pour-over will. A will used upon death to pass ownership of assets that weren’t transferred to a revocable trust.

Power of appointment. The power granted to an individual under a trust that authorizes him or her to distribute assets on the termination of his or her interest in the trust or on certain other circumstances.

Power of attorney (POA). A legal document authorizing someone to act as attorney-in-fact for another person, relating to financial and/or health matters. A “durable” POA continues if the person is incapacitated.

Probate. The legal process of settling an estate in which the validity of the will is proven, the deceased’s assets are identified and distributed, and debts and taxes are paid.

Qualified disclaimer. The formal refusal by a beneficiary to accept an inheritance or gift or to allow the inheritance or gift to pass to the successor beneficiary.

Qualified terminable interest property (QTIP). Property in a trust or life estate that qualifies for the marital deduction because the surviving spouse is the sole beneficiary during his or her lifetime. The assets of the QTIP trust are therefore included in the estate of the surviving spouse, that is, the spouse who is the beneficiary of the trust, not the estate of the spouse who created the trust.

Spendthrift clause. A clause in a will or trust restricting the ability of a beneficiary (such as a child under a specified age) to transfer or distribute assets.

Tenancy by the entirety. An ownership right between two spouses in which property automatically passes to the surviving spouse on the death of the first spouse.

Tenancy in common. An ownership right in which each person possesses rights and ownership of an undivided interest in the property.

Keep in mind that this is just a brief roundup of some estate planning terms. If you have questions about their meanings or others, contact us. We’d be pleased to provide context to any estate planning terms that you’re unfamiliar with.

April brings more than just spring showers and vibrant blooms. It marks a significant occasion: National Financial Literacy Month. Financial literacy is not just a buzzword. It’s a critical life skill that impacts our financial well-being. Life changes can have an impact on your financial journey – it’s also critical to maintain your knowledge.

In this month’s series of practical financial management tips, let’s first dive into why understanding personal finance matters and the impact it can have on the overall quality of life.

Why is Financial Literacy Important?

Empowerment and Confidence: Financially literate individuals feel more confident in managing their money. They understand concepts like budgeting, investing, and debt management, which empowers them to make informed decisions.
Avoid Costly Mistakes: Lack of financial knowledge can lead to costly mistakes. From overspending to falling victim to scams, being financially savvy helps prevent these pitfalls.
Long-term Planning: Over 60% of Americans don’t have enough savings to cover a $500 emergency. Financial literacy encourages long-term thinking. It enables individuals to plan for retirement, emergencies, and major life events.
Economic Resilience & Stability: In a world brimming with uncertainties—rising inflation rates, geopolitical tensions, and fluctuating energy prices—financial literacy acts as a shield. It empowers us to weather economic storms and adapt to changing circumstances. At the macro level, financial literacy can result in stronger family balance sheets, which lead to a stronger overall economy.
Generational Impact: Less than 50% of adults worldwide understand basic financial concepts. By promoting financial literacy, we break the cycle of generational financial struggles. When parents pass down money management skills to their children, they create a legacy of financial well-being.
Improved Relationships: Financial discussions can strain relationships. Literate individuals communicate openly about money matters, leading to healthier relationships. They collaborate on financial goals, budgeting, and investment decisions.
Freedom and Flexibility: Financial literacy enables better career choices, entrepreneurship, and side hustles. Debt-free living provides freedom to pursue passions, travel, or take sabbaticals.
Reduced Stress and Anxiety: Financially literate people understand their financial situation, which reduces uncertainty and anxiety. They have emergency funds, manage debt effectively, and plan for the future, leading to peace of mind.

Financial literacy isn’t a destination; it’s a lifelong journey. Let this April be the month you embark on that journey, armed with knowledge and determination.

If you operate a business, or you’re starting a new one, you know records of income and expenses need to be kept. Specifically, you should carefully record expenses to claim all the tax deductions to which you’re entitled. And you want to make sure you can defend the amounts reported on your tax returns in case you’re ever audited by the IRS.

Be aware that there’s no one way to keep business records. On its website, the IRS states: “You can choose any recordkeeping system suited to your business that clearly shows your income and expenses.” But there are strict rules when it comes to deducting legitimate expenses for tax purposes. And certain types of expenses, such as automobile, travel, meal and home office costs, require extra attention because they’re subject to special recordkeeping requirements or limitations on deductibility.

Ordinary and necessary

A business expense can be deducted if a taxpayer establishes that the primary objective of the activity is making a profit. To be deductible, a business expense must be “ordinary and necessary.” In one recent case, a married couple claimed business deductions that the IRS and the U.S. Tax Court mostly disallowed. The reasons: The expenses were found to be personal in nature and the taxpayers didn’t have adequate records for them.

In the case, the husband was a salaried executive. With his wife, he started a separate business as an S corporation. His sideline business identified new markets for chemical producers and connected them with potential customers. The couple’s two sons began working for the business when they were in high school.

The couple then formed a separate C corporation that engaged in marketing. For some of the years in question, the taxpayers reported the income and expenses of the businesses on their joint tax returns. The businesses conducted meetings at properties the family owned (and resided in) and paid the couple rent for the meetings.

The IRS selected the couple’s returns for audit. Among the deductions the IRS and the Tax Court disallowed:

Travel expenses. The couple submitted reconstructed travel logs to the court, rather than records kept contemporaneously. The court noted that the couple didn’t provide “any documentary evidence or other direct or circumstantial evidence of the time, location, and business purpose of each reported travel expense.”
Marketing fees paid by the S corporation to the C corporation. The court found that no marketing or promotion was done. Instead, the funds were used to pay several personal family expenses.
Rent paid to the couple for the business use of their homes. The court stated the amounts “were unreasonable and something other than rent.”

Retirement plan deductions allowed

The couple did prevail on deductions for contributions to 401(k) accounts for their sons. The IRS contended that the sons weren’t employees during one year in which contributions were made for them. However, the court found that 401(k) plan documents did mention the sons working in the business and the father “credibly recounted assigning them research tasks and overseeing their work while they were in school.” Thus, the court ruled the taxpayers were entitled to the retirement plan deductions. (TC Memo 2023-140)

Lessons learned

As this case illustrates, a business can’t deduct personal expenses, and scrupulous records are critical. Make sure to use your business bank account for business purposes only. In addition, maintain meticulous records to help prepare your tax returns and prove deductible business expenses in the event of an IRS audit.

If your company suffers significant losses due to a fraud incident, you may decide to pursue the perpetrator in court, possibly to obtain compensatory damages. Assuming you win your case, you should know that estimating fraud damages is challenging. It generally requires the assistance of a financial expert, who will consider the facts of the case and the harm suffered by your business. Let’s take a look at calculation methods.

Benefit-of-the-bargain vs. out-of-pocket

Damages professionals typically use either the benefit-of-the-bargain or out-of-pocket approach to make estimates. The appropriate method depends to some degree on the location and nature of the fraud. But in most cases, the benefit-of-the-bargain method results in greater restitution for victims.

Take, for example, a real estate developer who buys a parcel of land that the seller says is worth $2 million but is being offered at $1.5 million. In reality, the seller is lying about the parcel’s value and has falsified the valuation report. The land is actually worth about $800,000. Putting aside the developer’s failure to perform proper due diligence, how might fraud damages be assessed?

Using the out-of-pocket rule, the buyer would be awarded $700,000 in damages, or the difference between the land’s real value and the amount paid for it. Using the benefit-of-the-bargain rule, however, damages would be calculated at $1.2 million — the difference between the seller’s misrepresented value and the parcel’s actual worth.

Other calculation approaches

Plaintiffs typically prefer the benefit-of-the-bargain method, for obvious reasons. But there are other methods professionals might use to calculate lost profits — for example, the benchmark (or yardstick) method. Here, the expert compares a fraud victim’s corporate profits to those of another, similar company that wasn’t defrauded. This method is particularly appropriate for new businesses or franchises.

The hypothetical (or model) method is also generally appropriate for businesses with little history. It requires the expert to gather marketing evidence that demonstrates potential lost sales. After calculating the total, the costs that would have been associated with the lost sales are subtracted to arrive at lost profits.

For longer-established businesses, the before-and-after method typically is preferred. Professionals look at the company’s profits before and after the fraud compared to profits during the time the fraud was being committed. The difference is the business’s lost profits.

Boost the odds

To boost your chances of receiving adequate restitution in court, you or your attorney should engage an experienced damages expert early in the litigation process. Contact us if you have questions.

Reporting on environmental, social and governance (ESG) matters is an increasingly crucial area of corporate compliance. While ESG reporting and disclosure apply primarily to public companies, there are efforts aimed at requiring private companies to also report on these matters. For example, the European Union’s Corporate Sustainability Reporting Directive requires private organizations that meet specific criteria to publish social and environmental risks and their impacts.

The basics

ESG reports address the demand from governments, investors, consumers and activists for companies to adopt sustainable and socially conscious business practices. They also help companies achieve compliance with the growing number of ESG-related laws and regulations.

ESG reporting is a relatively new area of corporate governance and is of interest to stakeholders worldwide. Numerous reporting frameworks and standards currently exist. Regardless of the format, the goals of ESG reporting are 1) to provide transparency about ESG-related activities and 2) to satisfy regulatory requirements, if applicable.

Additionally, by focusing on ESG, management can improve their understanding of the business’s operations and approach to risk management. In some cases, this can also create a competitive edge in the marketplace.

Producing high-quality reports backed by accurate data is challenging, particularly for companies with domestic and international operations. The evolution of existing standards and the introduction of new approaches complicate the reporting process.

ESG audits

According to a recent study by the American Institute of Certified Public Accountants, Chartered Institute of Management Accountants and International Federation of Accountants (IFA), 98% of large companies report on sustainability. While conducting an ESG audit is optional in all jurisdictions, it’s a best practice for many companies that issue reports. Of the companies included in the recent study, 69% obtained some level of assurance.

There are typically two levels of assurance. The most common type is a review, which provides limited assurance and doesn’t automatically include site visits. An examination, which delivers a higher level of assurance and is more involved, applies many auditing techniques and often includes site visits.

Benefits for private companies

While most private companies aren’t required to report on ESG issues, voluntary reporting can build trust with investors, lenders, employees, customers and other stakeholders. Additionally, producing an ESG report may help private companies establish and maintain their reputations and improve access to investment capital.

An ESG audit can uncover risk, allowing private companies to minimize their exposure and potential losses. At the same time, auditing ESG-related aspects of operations can highlight cost savings and possible efficiency gains. Producing an ESG report can also help to attract and retain employees, ensure your business can respond quickly to supplier demands for sustainable practices, and prepare for potential future regulations that could apply to private companies.

We can help

ESG reporting allows you to communicate responsible business practices to stakeholders. Even if your business isn’t yet required to produce ESG reports, doing so voluntarily can demonstrate your commitment to this increasingly important financial reporting issue. Contact us for help reporting ESG matters in a transparent and accurate manner.

Every employer needs a thorough and legally sound hiring process. Although there’s no federal law mandating background checks for private sector jobs, they’re generally considered a recommended step for some positions and a clear-cut necessity for others.

But background checks are apparently far from perfect. In an article published in the February 2024 issue of Criminology, researchers described their analysis of both legally regulated and unregulated background checks on 101 people with criminal records in New Jersey.

The study found that 90% of participants had false negatives in their regulated background checks, meaning the background checks failed to report incidents found in official government records. Meanwhile, 60% of participants had at least one false positive error in their regulated background checks, meaning the background checks reported an incident that doesn’t appear in official government records.

Paint a fuller picture

Do disappointing statistics like these mean your organization should give up on background checks? Probably not. Comprehensive and legally compliant background checks, properly conducted by either your organization or a trusted third party, can still reveal noteworthy information about job applicants such as:

Resumé inaccuracies,
Personal financial difficulties,
Motor vehicle violations,
Litigious behavior, and
Criminal charges or convictions.

Now, in and of themselves, any of these items may or may not represent “deal breakers” to hiring someone. Much depends on the specific facts and circumstances, as well as the type of position you’re looking to fill. But background checks can still paint a fuller picture of job candidates that may enable you to lower the risk level of new hires. It’s just important to bear in mind that background checks are but one piece of the puzzle.

Look deeply

How deeply your background checks should go is a subject worth considering — or reconsidering if you haven’t done so in a while. For instance, verifying previous employment history is typically considered optional but advisable. Contact all references to ensure applicants held the positions they claim. As you may already be aware, many employers today will confirm only basic details about former employees because of liability concerns. Also confirm that applicants have the academic credentials, military service records and professional licenses stated on their resumés.

In some instances, employers are now checking job candidates’ credit reports to learn whether applicants are consistently late paying bills, swimming in debt or have filed for bankruptcy. This is obviously critical information if you’re hiring someone who will have access to cash or financial accounts. Just keep in mind that money troubles might stem from personal hardships such as prolonged unemployment or illness.

Keep it legal

While conducting background checks, or just considering whether and how to conduct them, be sure to make legal compliance your highest priority. Particularly germane is the Fair Credit Reporting Act. Among other requirements, it mandates employers to obtain signed employee agreements before the hiring organization requests any type of “consumer report” — which includes credit reports, criminal background checks and many other types of documents.

And a final point of distinction: Conducting background checks isn’t the same as verifying applicants’ work eligibility status in compliance with U.S. Citizenship and Immigration Services rules. Employers must complete Form I-9, “Employment Eligibility Verification,” for every person they hire.

Protect yourself

The job market remains relatively tight for employers in most industries. So, if you need to hire, don’t be surprised if it’s slow going or there’s tough competition. Just make sure to take the necessary steps to protect your organization from those who would do it harm and to maximize the likelihood of hiring productive, long-term employees. That should include working with an attorney when necessary. For help identifying and managing the costs and financial risks of your hiring process, contact us.

A living will could provide peace of mind for both you and your family should the unthinkable occur. Yet many people neglect to draft this important estate planning document.

Will vs. living will

It’s not uncommon for a living will to be confused with a last will and testament, but they aren’t the same thing. These separate documents serve different, but vital, purposes.

A last will and testament is what many people think of when they hear the term “will.” This document details how your assets will generally be distributed when you die. A living will (or health care directive) details how life-sustaining medical treatment decisions would be made if you were to become incapacitated and unable to communicate them yourself.

The thought of becoming terminally ill or entering into a coma isn’t pleasant, which is one reason why many people put off creating a living will. However, it’s important to think through what you’d like to happen should this ever occur. A living will is the vehicle for ensuring your wishes are carried out.

For example, if you were in a permanent vegetative state due to an accident, with little or no medical chance of ever coming out of the coma, would you want your life to be artificially prolonged by machines and feeding tubes? Ideally, you’re the one who should make this decision, not grief-stricken relatives and loved ones who may not be sure what your wishes would be — or who might not abide by them.

Other important documents

Often, a living will is drafted in conjunction with two other documents: a durable power of attorney for property and a health care power of attorney.

The durable power of attorney identifies someone who can handle your financial affairs — paying bills and other routine tasks — should you become incapacitated. The health care power of attorney becomes effective if you’re incapacitated, but not terminal or in a vegetative state. Your designee can make medical decisions, but not life-sustaining ones, on your behalf if you’re unable to do so.

Seek assistance in drafting your living will

It’s important to work closely with an attorney in drafting your living will (as well as your durable power of attorney and power of attorney for health care). Be sure to also discuss the details of these important documents with your loved ones.

Keep in mind that these documents aren’t cast in stone. You can revoke them at any time if you change your mind about how you’d like life-sustaining decisions to be made or whom you’d like to handle financial and medical decisions.

If you follow the news, you’ve probably heard a lot about artificial intelligence (AI) and how it’s slowly and steadily expanding into various aspects of our lives. One widely cited example is ChatGPT, an AI “chatbot” that can engage in conversations with users and create coherently written articles, as well as other content, when prompted.

ChatGPT and other similar chatbots are what’s known as “generative” AI. The operative word there refers to software that’s able to generate new content based on input from users and existing data either inputted during development or gathered from the internet.

Along with college students and the curious, more and more businesses are joining the ranks of generative AI users. Research and advisory firm Gartner surveyed more than 1,400 company leaders in September 2023. Two in five (40%) said their organizations were piloting generative AI programs — a substantial increase from the 15% results of the same survey conducted by Gartner about six months earlier.

Imagine the possibilities

Naturally, how companies are using generative AI depends on factors such as industry, mission, operational needs and strategic objectives. But it can be informative to look at a few examples.

In consumer goods and retail, for instance, businesses are using generative AI to create new product designs, optimize materials and align aesthetics with the latest trends. In the energy sector, it’s being used to improve supply chain logistics and better forecast demand. In health care, generative AI is helping accelerate scientific research and enhance medical imaging.

More generally, this technology could help many types of businesses:

Generate marketing and advertising content,
Analyze financial data and produce reports that assess risk or draw trendlines, and
Develop chatbots or other means to automate customer service.

There’s no harm in letting your imagination run wild. Think about what types of content and knowledge AI could create for your company that, in years previous, would’ve probably only been possible to develop by hiring new employees or engaging consultants.

Be methodical

Of course, pondering the possibilities of generative AI should never translate to blindly throwing money at it. To start exploring the possibilities, sit down with your leadership group and discuss the topic.

If you’re wholly new to it, be sure everyone does some preliminary research. You might even ask an IT staffer or someone else knowledgeable about AI to do a presentation. As part of your research and discussion, make sure to learn about the potential legal and public relations liabilities.

Should everyone agree that pursuing generative AI is a good strategic decision, form a project team to identify “use cases” — that is, specific ways your business could use it to deliver practical, competitive functionalities. Prioritize the use cases you come up with and choose a winner to go after first.

You may be able to buy an AI product to fulfill this need. In such a case, you’d have to shop carefully, thoroughly train the appropriate staff members and cautiously roll out the solution. Doing so would be relatively simpler than developing your own AI app, but you’d need to manage the purchase and implementation with return on investment firmly in mind.

The other option is to create your own proprietary generative AI app indeed. This would likely be a much more costly and labor-intensive option, but you’d be able to customize the solution to your ultra-specific needs.

Prepare for the future

What can generative AI do for your business? Maybe a little, maybe a lot. One thing’s for sure, its influence on how business is done will only get stronger in the years ahead. We can help you assess the costs vs. benefits of this or any other technology.

Yeo & Yeo’s Education Services Group professionals are pleased to present four sessions during the April 24-25 MSBO Conference & Exhibit Show at Amway Grand Plaza and DeVos Place in Grand Rapids. We invite you to join us to gain new insights into managing your Michigan school.

Wednesday, April 24

School Nutrition Program Financial Reporting and Auditing Considerations – 9:20-10:20 a.m.
- Presenters: Kristi Krafft-Bellsky, Yeo & Yeo CPAs & Advisors and Brenda Sweatman, MDE

Frequently Found Audit Issues – 10:40-11:40 a.m.
- Presenters: Joselito Quintero and Gloria Jean Suggitt, MDE and Jennifer Watkins, Yeo & Yeo CPAs & Advisors

Thursday, April 25

How to Prepare for a Headache-Free Audit – 9:40-10:40 a.m.
- Presenter: Michael Evrard, Yeo & Yeo CPAs & Advisors

The ABCs of Your Single Audit – 2:00-2:30 p.m.
- Presenter: Jennifer Watkins, Yeo & Yeo CPAs & Advisors

We encourage you to visit our booth #700 for one-on-one conversations with our education professionals. Hope to see you there!

Here are some of the key tax-related deadlines that apply to businesses and other employers during the second quarter of 2024. Keep in mind that this list isn’t all-inclusive, so there may be additional deadlines that apply to you. Contact us to ensure you’re meeting all applicable deadlines and to learn more about the filing requirements.

April 15

If you’re a calendar-year corporation, file a 2023 income tax return (Form 1120) or file for an automatic six-month extension (Form 7004) and pay any tax due.
For corporations, pay the first installment of 2024 estimated income taxes. Complete and retain Form 1120-W (worksheet) for your records.
For individuals, file a 2023 income tax return (Form 1040 or Form 1040-SR) or file for an automatic six-month extension (Form 4868) and pay any tax due.
For individuals, pay the first installment of 2024 estimated taxes, if you don’t pay income tax through withholding (Form 1040-ES).

April 30

Employers report income tax withholding and FICA taxes for the first quarter of 2024 (Form 941) and pay any tax due.

May 10

Employers report income tax withholding and FICA taxes for the first quarter of 2024 (Form 941), if they deposited on time, and fully paid, all of the associated taxes due.

May 15

Employers deposit Social Security, Medicare and withheld income taxes for April if the monthly deposit rule applies.

June 17

Corporations pay the second installment of 2024 estimated income taxes.

External auditors spend a lot of time during fieldwork evaluating how businesses report work in progress (WIP) inventory. Here’s why this warrants special attention and how auditors evaluate whether WIP estimates seem reasonable.

Valuing WIP

Companies may report various categories of inventory on their balance sheets, depending on the nature of their operations. For companies that convert raw materials into finished goods, a key element is WIP inventory. This refers to partially finished products at various stages of completion. Management uses estimates to determine the value of WIP. In general, the more materials, labor and overhead invested in WIP, the higher its value.

Most experienced managers use realistic estimates, but inexperienced or dishonest managers may inflate WIP values. This can make a company appear healthier than it really is by overstating the value of inventory at the end of the period and understating cost of goods sold during the current accounting period.

Accounting for costs

Companies assign costs to WIP depending on the type of products they produce. When a company produces large volumes of the same product, they allocate costs as they complete each phase of the production process. This is known as standard costing. For example, if a production process involves six steps, at the completion of step two the company might allocate one-third of their costs to the product.

On the other hand, when a company produces unique products — such as the construction of an office building or made-to-order parts — it typically uses a job costing system to allocate materials, labor and overhead costs as incurred.

Auditing WIP

Financial statement auditors closely analyze how companies quantify and allocate their costs. Under standard costing, the WIP balance grows based on the number of steps completed in the production process. Therefore, auditors analyze the methods used to quantify a product’s standard costs, as well as how the company allocates the costs corresponding to each phase of the process.

With job costing, auditors analyze the process to allocate materials, labor and overhead to each job. In particular, auditors test to ensure that costs assigned to a particular product or projects correspond to that job.

Recognizing revenue

Auditors perform additional audit procedures to ensure that a company’s recognition of revenue complies with its accounting policies. Under standard costing, companies typically record inventory (including WIP) at cost, and then recognize revenue once they sell the products. For job costing, revenue recognition typically happens based on the percentage-of-completion or completed-contract method.

Get it right

Under both the standard and job costing methods, accounting for WIP affects the balance sheet and the income statement. Contact us if you need help reporting WIP. We can help you make reliable estimates based on your company’s specific production process.

When employees leave their jobs, financial advisors typically encourage them to roll over their 401(k) plans into a new employer’s plan or perhaps an IRA. Many people follow this advice, but not everyone.

As you may be able to attest, many employers that sponsor 401(k)s or other qualified plans end up with account holders who are former employees with out-of-date contact information. In benefits parlance, these individuals are “missing participants.”

The situation can create administrative hassles for you at first and, later, turn into a major problem when the accounts in question must start making distributions. Here are some best practices to consider when you find yourself with a missing participant.

Getting started

When a participant is unresponsive or you reasonably believe your contact information is inaccurate, first consider taking four basic steps:

Use certified mail to reach out to the person or, if more cost-effective, a private delivery service with similar tracking features,
Review your employment records and all your benefits plans for up-to-date information,
Attempt to identify and contact the individual’s designated beneficiaries under those plans for information, and
Use free electronic tools such as internet search engines, public record databases and social media accounts.

You might also reach out to a participant’s colleagues or union, as well as register the person’s name on public or private pension registries. According to guidance issued by the U.S. Department of Labor, privacy concerns regarding such actions can be alleviated if your retirement plan fiduciary asks the missing participant’s current employer, other plan fiduciary or beneficiary to have the missing participant contact your retirement plan.

Escalating your efforts

If initial search steps are unsuccessful and the account balance is large enough to justify the expense, paying for a professional search may be appropriate. This could mean using fee-based internet search engines, commercial locator services, credit-reporting agencies, information brokers, investigation databases and other similar premium services.

You might be able to charge the fee against the account if it’s reasonable and the allocation method is consistent with your plan’s terms and the Employee Retirement Income Security Act.

Giving up

Some plan documents describe how to handle account balances of missing participants when search efforts fail. Others may authorize administrative committees to adopt policies for this situation. Following written policies and procedures for handling missing participants — and documenting actions taken — helps ensure consistency and lower the risk of legal liability.

Some plan provisions or policies direct fiduciaries to allocate the funds in the account among the accounts of the remaining participants, subject to restoration if the individual should reappear. Under IRS regulations, such an allocation may be a permissible forfeiture so long as the plan is obligated to restore the missing individual’s account balance in the event the person is eventually found.

Preventing the issue

Perhaps obviously, the best practice of all is to establish strong administrative procedures that minimize the likelihood of missing participants. These include:

Proactively maintaining an accurate plan census,
Periodically prompting participants and beneficiaries to reconfirm their contact info, and
Regularly auditing census data, paying special attention to contact info in business transactions or when recordkeepers change.

Even changing the way plan communications are written and designed can increase the chances that participants will recognize and engage with them.

Addressing the challenges

Sponsoring a 401(k) plan can help attract strong job candidates, retain employees and boost morale. But plan administration has its challenges — and one of them is missing participants. Work with your benefits advisors to address the matter. Meanwhile, we can help you assess the costs and financial impact of your plan.

Business owners are commonly and rightfully urged to regularly generate financial statements in compliance with Generally Accepted Accounting Principles (GAAP). One reason why is external users of financial statements, such as lenders and investors, place greater trust in financial reporting done under the rigorous standards of GAAP.

But that’s not the only reason. GAAP-compliant financial statements can reveal details of your company’s financial performance that you and your leadership team may otherwise not notice until a major problem has developed.

Earnings are only the beginning

Let’s begin with the income statement (also known as the profit and loss statement). It provides an overview of revenue, expenses and earnings over a given period.

Many business owners focus only on earnings in the income statement, which is understandable. You presumably went into business to make money. However, though revenue and profit trends are certainly important, they aren’t the only metrics that matter.

For example, high-growth companies may report healthy top and bottom lines but not have enough cash on hand to pay their bills. So, be sure to look beyond your income statement.

A snapshot is just that

The second key part of GAAP-compliant financial statements is the balance sheet (also known as the statement of financial position). It provides a snapshot of your company’s financial health by tallying assets, liabilities and equity.

For instance, intangible assets — such as patents, customer lists and goodwill — can provide significant value to businesses. But internally developed intangibles aren’t reported on the balance sheet. Intangible assets are reported only when they’ve been acquired externally.

Similarly, owners’ equity (or net worth) is the extent to which the book value of assets exceeds liabilities. If liabilities exceed assets, net worth will be negative. However, book value may not necessarily reflect market value. Some companies provide the details of owners’ equity in a separate statement called the statement of retained earnings. It covers sales or repurchases of stock, dividend payments, and changes caused by reported profits or losses.

Ultimately, your balance sheet can tell you a lot about what you’ve got, what you owe and how much equity you truly have in your company. But it doesn’t tell you everything, so it’s important to read the balance sheet in the context of the other two parts of your financial statements.

Cash is (you guessed it) king

The third key part of GAAP-compliant financial statements is the statement of cash flows. True to the name, it shows all the cash flowing in and out of your business. Cash inflows aren’t necessarily limited to sales; they can also include loans and stock sales. Outflows typically result from paying expenses, investing in capital equipment and repaying debt.

Typically, statements of cash flow are organized in three categories: operating, investing and financing activities. The bottom of the statement shows the net change in cash during the period.

Read your statement of cash flows closely as soon as it’s available. It’s essentially telling you how much liquidity your business had during the reporting period. A sudden slowdown in cash flow can quickly lead to a crisis if you aren’t generating enough cash to pay creditors, vendors and employees.

Detailed picture

In the day-to-day commotion of running a company, it can be easy to think of your financial statements solely as paperwork for the purposes of obtaining loans or other capital infusions. But these documents paint a detailed picture of the financial performance of your business. Use them wisely. For help generating GAAP-compliant financial statements, or just understanding them better, contact us.