Generally speaking, business owners have at their disposal two common accounting methods allowed by the IRS. The first, and more complex, is the accrual method, in which businesses recognize income when the business has performed its service or delivered its goods, and expenses after everything has occurred that would require an expense to be paid. Neither of which require the buyer to actually pay the seller.
Conversely, the other, and far more common method for small business owners, of accounting is the cash basis method, generally does require the exchange of funds, and typically is not dependent upon the preceding (or subsequent) delivery of good or rendering of service.
While historically business transactions were relatively straightforward and direct, the advent of debit cards, credit cards, and other means of electronic payment means that buyers and sellers now affect their transactions in some form of payment other than cash.
Fortunately, though, the cash basis method allows for more than just the transfer of actual cash. For instance, a payor’s expense recognition for paper checks that are mailed depends not on the date written on the check itself, but on the date of the postmark… which can be meaningful if that occurs at the end of the year. Conversely, payees don’t wait until the funds hit their checking account to record income, but rather, can recognize income once the check is received.
Meanwhile, credit card payments have their own subtle differences from cash or checks, in that payee’s must wait until the money from the payment is actually credited by the payment processor to their account, whereas the payor recognizes the expense as soon as the charge is made, rather than when they (eventually) pay the credit card bill.
All of this raises some potentially useful strategies to affect positive tax outcomes (recognizing, of course, the oxymoron inherent in that phrase). For instance, business owners can reduce taxable income in a given year by waiting to send out invoiced for goods delivered or services rendered, thus pushing out income into the following year. Alternately, businesses looking to increase current-year deductions could prepay certain expenses, like insurance, and using something called the “12-Month Rule,” a substantial amount of those (and other) expenses can be pulled into the current year in order to stack deductions.
Other useful strategies include taking advantage of Bonus Depreciation – which allows for accelerated depreciation of certain assets, and (after the passage of the Tax Cuts and Jobs Act) gives businesses the ability to deduct 100% (!) of the purchase price of used property that is “new” to the business – and the Section 179 expensing election, which is also a way to accelerate depreciation and was enhanced by the TCJA.
The key point, simply, is to recognize that there are several strategies that advisors can help business owners take advantage of, and create, some real hard-dollar savings. And, while some of these strategies may be relatively straightforward, they can still have a significant impact on a business owner’s tax liability.