Around this time of year you start seeing lots of advice about what you should do for year-end planning. I’m going to take a slightly different tack. I’m going to talk about some of the really dumb things I see business owners do at year-end to reduce taxes.
Let’s face it; none of us likes to pay taxes. At the same time, a tax deduction is just a tax deduction. If you’re spending money unwisely, you’re taking at least 60 cents out of every dollar you spend and just flushing it down the toilet. This isn’t something you want to do, is it?
1. Buy capital equipment you don’t need
Just because you are having a good year doesn’t mean you should go out and buy equipment to get a tax write-off. Before you buy any type of capital equipment, always do an analysis to see if there is a true payoff for the expense.
When you and your advisor are contemplating what to do about some extra cash that’s burning a hole in your company’s pocket, make sure you figure out how to assess the ROI on the intended purchase. If the purchase doesn’t cover its cost of capital, then you shouldn’t spend the money, period.
Make sure you acknowledge the tendency we all have to overspend in December — with the inevitable cash crunch in February. You and your advisor will be glad you did.
2. Pay bonuses because you had a good year
When business owners do this, I call it the “pennies from heaven” bonus. Employees don’t know why they’ve received the bonus. They surely will appreciate it, but you haven’t communicated with your employees about why they received the extra money.
The real problem with a ”pennies from heaven“ bonus system occurs after you have done this two or three years in a row and then have a terrible year. Employees become resentful if they feel their employer is skipping the annual bonus to which they feel entitled. Even worse, when ”pennies from heaven“ bonuses are the norm, many employees have already spent the bonus money (at least in their minds) before it ever shows up in their paychecks. After all, it’s been paid in the past and now it’s perceived as an expectation, not just a reward.
I love variable compensation. I just want my employees and yours to understand why they’ve earned it. If
you want to pay year-end bonuses, make sure the bonuses are based on some company metrics. If you do this, make sure your employees know throughout the year how they are tracking toward earning a bonus. If there isn’t one in the future, communicate early and clearly why a bonus isn’t going to be paid.
3. Rushing to buy a business before year-end
There is nothing magical about December 31. If you’re really not ready to close the transaction, don’t do it. The world won’t come to an end.
Rushing into any transaction, let alone buying a business, is always a bad idea. It’s really hard to do an acquisition that’s accretive under the best of circumstances. The only way to make a business purchase that actually works is to be mindful and carefully follow a purchase process that you’ve designed before you start.
The process should not be based on anything happening at any special time. That is, unless there is an unusual reason that the seller has to sell before the end of the year.
I’ve never seen an acquisition go quickly. Stay the course and follow an acquisition process that you know has a chance of making a smart purchase that you will be proud of.
4. Rush because it’s year-end
For that matter, don’t rush to finish up a project just because the end of the year is coming. I made that mistake when I launched our new website. For some reason I decided that I had to rush to get our site up and running before the end of the year.
One of the things I missed was making sure that all of the pages from our old site were linked to the proper pages on our new site. Our old site was never mapped to our new site. Because we didn’t map our site properly, Google penalized our site for almost a year. This happened just because I rushed a project for no really good reason.
5. Increase your inventory
If you are a cash-based taxpayer, you can deduct inventory as you buy it. The problem with loading up on inventory is that you then have to sell it. If you have too much inventory, you can be sure that some of it is going to go bad.
Don’t fall prey to end-of-the-year deals. They’re always just so your suppliers can make their numbers. If you must load up on inventory, make sure you have a way to return stuff you can’t use. Otherwise, you’re just going to rent a dumpster for those great deals you couldn’t resist.
6. A tax write-off still means you’re spending money
The days of tax credits for buying stuff are long gone. Don’t buy stuff just because you have money burning a hole in your pocket. You shouldn’t either. A tax write-off is only part of the money you spend. It really does come out of your pocket.
A tax deduction is just that, a deduction. Spending money just to get a deduction often turns out really poorly. We either end up junking stuff, throwing inventory away or resenting the feeling that we have to pay a bonus.
Buying capital equipment, setting a precedent for compensation or increasing your inventory because it’s a good deal too often means you just spent money that you’re going to need in the next year. Even worse, being forced into a major activity like buying a business can be worse than painful. It might just end up being a business disaster.
- Spending money just to get a tax write-off is a really dumb thing to do.
- Rushing to finish a project just because it’s year-end will often end up badly.
- When you buy stuff you don’t need, it often ends up in the trash.
- Paying bonuses just because you always pay them every year sets a bad precedent.
Be smart and think about your year-end purchases just like you would for one in April. If you need it and can afford the expenditure, go for it. Otherwise wait. You’ll be glad you did.
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