Keep the big picture in mind, and make sure you have the right outside accountants who understand more than the tax consequences of these kinds of decisions.
I have often felt like small accountants (and occasionally those from larger firms, although far less often) give some really bad advice to their AEC firm owner clients. A lot of this advice is based on reducing personal or corporate income taxes, but at what cost?
I will never forget the time about 30 years ago when our then-accountant sat my partner Fred White and myself down near the end of the year and said, “Mark and Fred – I still think you guys could have taken another $200K to $250K out of the company this year.”
Being the brash young confrontationist I was at the time, my response was, “Let me ask you a question, Bob. How long have you been in business?”
“Twenty years,” was his response.
“And how many people do you have working for you here now?” I followed up with.
“Counting myself?” he asked.
“Yes, counting yourself,” I responded.
“Counting family members?” he asked.
“Yes, counting family members,” I said.
“Four or five, depending on the time of year,” he stated.
My immediate (and brutal) response was, “Twenty years and a five-person firm – then maybe you shouldn’t tell us how to manage a growing business. Stick with accounting!”
This was just some of the bad advice we got and typical of what we have heard our clients get over the years from their outside accountants – advice that may be good for reducing short-term tax obligations but could hurt the business in the longer term. Here is some more of it:
- “Put your kid (mom, dad, etc.) on the payroll and pay them so much per year not to do anything.” Sure, this may be a way to reduce your company profits and taxes and help your family members pay some money into FICA so they will eventually get Social Security payments, but at what price? Not only does this reduce your profits so your business looks worse if you ever want to sell it, it hurts morale when your other employees find out about it. Unproductive family members on the payroll? Bad idea!
- “Run your boat/RV/vacation house through the company.” See my comments above – same thing. If you heard as many employees complain about how their “company” owns a boat/RV/vacation house that they have never been to, you would know how it once again kills morale and makes the firm’s numbers look worse.
- “When you go on vacation have the company pay for all that so it’s a write-off.” Again – kills morale and makes the company’s financial performance look worse than it should be.
- “Use book value for all internal stock transactions because it’s easy.” This is very common and the problem with it is twofold. First, why would any rational person leave a dollar in their company to extract a devalued dollar 10 or 20 or 30 years later versus taking it all out now and investing it elsewhere? Stripping all retained earnings every year is not the way to build a stronger company. Secondly – not tying the internal company value to the real external market value of the business does not provide a real opportunity to the other owners to grow their investment unless they eventually have an external exit.
- “Create a second class of non-voting stock.” Why? What difference is it going to make if 2, or 5, or 10 percent of your owners have voting rights? All you have done is devalue their ownership out of your own paranoia about loss of control, when you won’t be losing control anyway.
- “Own your building outside the business by yourself and overcharge the AEC firm for rent to reduce your income.” See my comments above about making the company performance look worse and demotivating your people. But the other problem comes in when you add other owners to your AEC firm who are also not owners in the building company. You set yourself up for a future conflict with your business partners about the excessive rent you are charging. Why risk that?
I could keep going here but I think you get the idea. Make sure you have the right outside accountants who understand more than the tax consequences of these kinds of decisions. And then make sure you keep the big picture in mind yourself about what you are really trying to do with your business over the long haul.
Mark Zweig is Zweig Group’s chairman and founder. Contact him at mzweig@zweiggroup.com.
