Accounting mistakes you can’t afford

Watch out for these four common small business missteps

Robyn Hayden

With the chaos of tax season now a fading memory, some small business owners may hope to avoid worrying about their balance sheets until sometime next year. But avoidance won’t make next year’s taxes to go more smoothly – let alone boost a business’ bottom line.

When small business owners make these four common mistakes, they should stop hiding from the tax professionals and head in for a financial check-up.

1. Forgoing internal controls

“Internal controls” may sound like a complicated concept, but in reality having the business owner open his or her own bank statement may be all that’s necessary.

“A small business owner may be so busy being a doctor or a lawyer, or manufacturing whatever they make, that they are happy to have somebody else managing their finances,” said Tiffany Couch, founder and principal at Vancouver-based Acuity Group.

As a forensic accountant, Couch has repeatedly seen bookkeepers take advantage of their employers. If one person in a company is responsible for paying bills, cashing checks and balancing the books, it’s easy for that same person to pay his or her credit card bill with the company checkbook, or boost take-home pay without telling anybody first. Even if you like and trust your bookkeeper, you need some level of oversight.

“I’ve never investigated a fraudster, ever, that was somebody that the management didn’t like,” Couch said. “They use their ability to be liked and trusted to gain more control. That’s how they perpetuate their crimes.”

At a minimum, small business owners should open their own bank statements and carefully look over canceled checks. Depending on the field, it may be a good idea to set up other internal controls, Couch said. That can include having two people count cash before it’s taken to the bank, and setting up security plans to protect customer lists, intellectual property and other key business assets.

2. Paying themselves too little

“A lot of small businesses are subchapter S Corporations,” said Robin Hayden, accountant and shareholder at Houck & Associates in Vancouver. These companies must pay corporate taxes on earnings and also pay payroll taxes on salaries – including the owners’ pay. Often, owners try to minimize their salaries to save on payroll taxes.

“The IRS requires owners to pay themselves a reasonable salary,” Hayden said. The IRS also requires S Corporation owners to include non-cash benefits as taxable salary.

“Let’s say you’re a dentist, you’ve established yourself as an S Corporation, and you pay yourself $80,000,” Hayden said. “You also get your lab jackets through your business, you have a car for the business and you get a distribution as an owner. The IRS may come in and say claiming $80,000 is not enough.”

Especially if $80,000 is below what other dentists make, the IRS could require this hypothetical business owner to pay payroll taxes on the lab coat, the car, or even the distribution.

Hayden recommends researching compensation online, at a website like

“You want to be toward the lower end, but medium low, not low-low,” she said. “The IRS has been doing a much more active pursuit of reasonable salary requirements with S Corporations,” and researching reasonable pay now can help business owners avoid a headache later.

3. Expanding carelessly into new states

“If you’re selling into other states, the laws have changed dramatically over the last five years,” Hayden said.

“It used to be that your tax rate was based on where you had your facility,” she added. “Now the defining term is ‘nexus,’ which means you have enough presence in a state to be subject to their tax laws… it’s very complicated. Each state has its own rules. You could have the same level of sales in State A and State B and not be subject to taxes in State A while you are subject to State B’s taxes.”

Beyond tax requirements, small businesses may have to register for business licenses to operate in some states – but not in other. Because the laws vary so widely from state to state and depending on the circumstances of a particular company, small business owners should take time to consult with an attorney or accountant when they expand into new states.

4. Tracking contractors incorrectly

“If I hire a contractor, I don’t have to worry about payroll taxes for that person,” Hayden said. For that reason, hiring someone as a contractor instead of an employee may sound like an appealing option for a small business.

However, the law limits who can be hired as a contractor, and fines are hefty if you make a mistake.

“Misclassifying employees as subcontractors instead of employees can put you out of business,” Hayden said. “We see a lot of audits by Employment Security and the Washington Department of Revenue, looking to see if you should have hired somebody as an employee.”

When you have correctly classified a person or vendor as a contractor, it’s crucial to stay on top of their 1099 tax forms. Businesses are required to send contractors an annual 1099 stating how much that the contractor was paid, and to submit a copy of the form to the IRS.

“In the past, there hasn’t been a whole lot of penalty if you didn’t get your 1099s out,” Hayden said. “Recently, the penalty has increased.”

Hayden advises business owners to attend a Washington Department of Revenue workshop to learn more about their responsibilities. Workshop information can be found online at