April 15 has come and gone, and you've finally closed off last year (and even if you filed for an extension, read on anyway—I promise there is a lesson here). Perhaps you paid your estimated payments throughout the year and had a very good sense of what your results would look like, or maybe you're the type that sends stacks of paper off once each year to your accountant and hopes for the best.
But no matter who you are, your instructions to your accountant are universally as follows: "Minimize my tax liability" or perhaps "Ensure that I do not get audited."
Good accountants absolutely know how to do both and, because they can identify any red flags on your return (if you didn't know, there are software programs that inform an accountant of the national averages and "ranges of acceptability" for each line item segmented by your adjusted gross income), they can likely keep the IRS away from you.
But here's the problem: They might also keep investors away from you, and that could prevent you from getting the capital you need at any time to grow your business.
Pay no taxes? Get no financing. That could be the curious result. Recently, I have been working with a business owner who would have found himself in this situation if I had not gotten to him. The first income statement he showed me was a nearly complete case study in investor red flags—items that directly may make an investor view you as being incompetent, irresponsible, or even unethical.
Here were some of the findings:
Losses were massive compared to revenue. On the income statement losses were equal to revenue: on $400,000 of income, there were $400,000 in losses. Really. This immediately leads to a whole series of questions: How have you been financing these losses? How are you able to pay yourself? This whole statement must be completely wrong! You can easily imagine how this conversation could degenerate rapidly.
"Extreme entries." On the first income statement, car expenses totaled over $50,000. That may be an acceptable number if you have a $25 million tech business and you're growing at 200% per year. You've earned that Ferrari. But on $400,000 of income, it raises the questions about whether the entry is wrong or wrongly classified (and insures that every other line item gets detailed scrutiny).
Too many personal expenses. Among the greatest watch-outs are car and home-related expenses. Many advise that, "as long as it has a business purpose, it's a deduction." Indeed, that may be true. But the inclusion of personal expenses really cuts to the core of your financial values. Have you defined these values? I hope so, because I guarantee your investor will be making that assessment on you.
So based on this new information, and assuming your data is accurate and your accounts are set up and entries classified correctly, here's what you need to do now for this year:
- Align your financial values based upon your growth and financing needs for the rest of the year, and, optimally, for a longer time horizon.
- Get informed immediately on what investors will look for. Interview an equity investor or bank or debt provider.
- Do your own gut-check. Do the line-by-line audit. Do the numbers look accurate to you? Would you question any of them based upon what you know an outsider will look for?
- Get a "friendly" outsider's view. If you showed your results to a friend with an informed eye (a banker, an accountant, another business owner), their intuition and training will probably uncover many of your red flags.
- Make the necessary changes right away or have a plan to get to the result you need.
- Go back to step #1.
- Prepare and rehearse your script for the outsider.