PRM SEM 02 - 12. Accounting and Tax Flashcards
Accounting
Once you have set up a practice, you are responsible for maintaining a set of financial
accounts and paying a variety of taxes.
Most architects in small practices allow one day a month to do this sort of work:
sending out invoices (billing your clients), paying your monthly bills and keeping a record of your income and outgoings.
Medium and larger practices often employ a full time or part time office manager to do
this sort of thing.
However almost all architects and practices take their accounts to an accountant once a year so that a professional can assist in preparing your annual tax return in the hope of minimising the tax you have to pay.
Talk to your accountant about the most efficient way to organise your bookkeeping: this will save you money each year by making their job easier. Some accountants like you to have a digital accounting template that they can then use to calculate your tax, others simply like you to code your bank statements. There are a variety of methods.
Accountants can also advise on tax issues as well as business efficiency.
Why Monthly Accounts?
Because most business expenses such as rent, copier and printer hire etc are payable monthly.
Residential clients may pay you when you ask or within seven days (if you are lucky!) but commercial clients generally pay their accounts (your fees) monthly (often the 20th day of the following month so you want to get your invoice in promptly!).
As mentioned in the earlier lecture on fees, you may organize your work to get paid by stages (eg developed design, Resource Consent, Building Consent) but since most of your big outgoings are monthly its sensible to organize your income to be monthly.
In addition, when registered for GST you must make GST returns and payments on a
one, two or six monthly basis.
Accounts:
Accountancy is of course a big subject that can’t be covered here but basically any organisation or business is required to maintain accounts recording financial transactions. This is also called bookkeeping.
You must also produce annual financial statements recording income, outgoings, profit, loss etc so that taxes can be assessed.
However accounts I books I annual statements are also necessary when applying for loans form banks (overdrafts, mortgages), when you are buying or selling a business, inviting shareholders or partners to buy into a business or dividing a business between partners.
But we shouldn’t think of accounts as just something to be done once a year. Keeping up to date accounts is also a way of monitoring how your business is going financially. You may be surprised at where you are making or losing money!
Bookkeeping:
Take the advice of your accountant as they will have a preferred system.
Accounts can be kept in a variety of ways but the two most common are cash and
accrual:
Cash accounting tracks money in and money out.
Accrual accounting records income when it is earned (but not necessarily paid) and
expenses when they occur (but aren’t necessarily paid).
Cash accounting is most frequently used for small businesses in calculating tax but accrual is more useful in assessing the worth of a business because it isn’t just recording cash flow: it includes debts, assets, liabilities etc. Therefore accrual accounts are required for the purposes mentioned above (loans etc). Both can be manipulated for tax purposes!
A financial statement is a current or annual summary of your business position. As a self-employed person you will want one of these to verify your income when applying to a bank for a loan or mortgage.
Bankers also like to see your complete accounts so they can assess your business position: they like to see not just profit, but lots of activity. They like to see a variety of jobs and income streams so they know that you are not reliant on just one job or clientwho could disappear.
The total amount of money that flows through your business is called turnover. Bankers and accountants like to see lots of turnover: its then easy to tweak your business to be more efficient and profitable.
There is a business saying that “cashflow is king”. This is true, many businesses have failed through non-paying clients. Its not much use being owed a lot of money when you are still incurring expenses.
Income and Expenditure:
In cash accounting for tax purposes (at a very basic level!):
Income: Record your income/ credits and break into categories: eg client’s fees received,
other income received (eg letting neighbours use your printer/ copier etc) and personal
contributions. The latter is when your business hasn’t received enough income and you
need to pump some of your own money or a loan into it. It is not taxable whereas the first
two are.
Outgoings: Record your expenses/ debits broken down into categories: rent, equipment
purchases, printing, supplies, travel and vehicle expenses, salary and wages, tax payments,
drinks when entertaining clients etc.
Some of your debits will be tax deductible and some won’t. If you buy yourself a coffee it is a
“drawing” (similar to your own salary) and is NOT tax deductible however if you buy a client
a coffee it is a legitimate business expense. Legitimate business expenses are tax
deductible.
In practice, we try and make as many of our expenses tax deductible as this minimises the
tax you have to pay annually! Travel and entertainment are good examples. If they include
business then they become tax deductible (to an extent).
You need to get into the habit of saving all expenditure receipts in order to verify the
expense but also for GST purposes (see later). You need a tax invoice/GST receipt, not
just the eftpos receipt.
Profit and Loss:
Once your tax deductible expenses /debits and fees income/credit are tallied up you will find out what your businesses profit is. You then pay your annual tax on that.
Many people try to minimise the amount of tax they have to pay by manipulating profit. For example if you are aware that you have a year end profit of $70,000 you may buy a new
vehicle for your business. That is a legitimate business expense and tax deductible, thus reducing your profit and the tax you must pay.
However you should be aware that most businesses are expected to run at a profit and that there is a difference between tax avoidance and tax evasion. The former is legal (although seen by some as socially irresponsible) while the latter is a crime!
Most of your fees will be paid to you by cheque of bank transfer and if paid in cash or kind (a vehicle, an artwork, a box of wine) you should declare it in your accounts as income.
Income Tax:
We are all familiar with our annual tax obligations: this is an income tax. Whenever you make money, you must pay a percentage to the government. In business you pay annually.
When you are an employee, your annual tax is deducted from your weekly wage or fortnightly salary in a system called PAYE (Pay As You Earn).
When self-employed you often have to pay annual income tax in instalments throughout the year: this is provisional tax and is an estimate of what you will have to pay.
At the end of the financial year (31st March for many) you submit a tax return and pay any additional tax - or receive a refund if you have made a loss!
In a partnership the profit is split between partners and they each pay their own income tax as per the self-employed.
In a company, the partners are employees and paid a salary as well as a dividend or bonus on occasion. Their income tax is deducted through PAYE and year-end tax returns. The company profit is taxed through a separate company tax.
Obviously if the rate of self employed income tax, company tax and PAYE are different then there are financial advantages to structuring your business differently. But due to the liability situation with architects and similar professions, the protective nature of the limited liability company takes precedence in protecting and enhancing your wealth.
Businesses have other tax obligations as well: GST, ACC, PAYE for employees etc
Goods and Services Tax (GST):
GST is a tax on what you buy or sell - it taxes spending rather than income.
When ever you buy or sell something a percentage of the price is GST (currently% 15) that
goes to the government.
When in business (with a turnover of $60,000 per year) we collect this tax for the government! You can voluntarily register for GST if your turnover is less.
When billing / invoicing clients you add % 15 GST to your fees, save that and then every one,
two or six months, as you do your accounts, you add up the GST on your expenses, deduct
that from the GST on your fee invoices, then provide a GST return to the government and
pass on the GST balance. Its pretty similar to annual tax and in the same way you will
generally be writing out a cheque although you may occasionally get a refund!
Most small and medium practices choose a two or six monthly return period.
For more see www.ird.govt.nz/gsU
Accident Compensation Corporation (ACC):
“The Accident Compensation Corporation (ACC) provides comprehensive, no-fault personal injury cover for all New Zealand residents and visitors to New Zealand.” Depending on the level of risk of your occupation, all self-employed people pay an annual ACC levy to the government (in a similar way to how you pay an insurance premium) in order to cover the scheme.
When employed, your employer pays it for you, so if your business employs staff, as employer you pay the levy.
For more see www.acc.co.nz
Employees:
There are two main ways of employing staff: by contract and by employing them on regular salary or wages. One involves tax commitments by your business.
Contracts are supposed to be for one-off or rare jobs: eg getting a model made, or for additional staff on one big job. The advantages of contracts are that you pay people a lump sum for specific work and they look after their own tax. holidays, sick days etc. It should not be abused and used as a substitute for normal employment.
Salary and waged employees require that the employer subtract income tax from their pay on a regular basis and pass it on to the government along with the appropriate paperwork. Employers must also pay employees when on sick leave, holiday, maternity leave and so on. It’s worth discussing all the issues around employing staff with other business owners before committing.
Invoicing your Fees
As mentioned above it is wise to do this monthly.
If GST registered you must head your invoice with the words “Tax Invoice” and give your GST number.
State the fee you are billing and then add % 15 GST to it and give a total.
If billing by the hour then show the number of hours multiplied by your hourly rate. This is where keeping daily timesheets is useful!
If you have disbursements you are billing to the client (travel, printing etc) state these but do not add GST (its already included in what you paid).
Add the lot up to get a total. Sign the invoice.
It’s common among professionals to request payment within seven days however most businesses pay invoices on the 20th of the month following receipt of your bill.
Three months without a payment is generally time to get the debt collectors in!
However most non-payers will claim they are disputing your bill - this means debt collectors cant threaten them with legal action.
