So, you’ve completed your tax return, you know how much you owe, and now it’s time to pay Uncle Sam. Perhaps you were smart by setting up the Profit First cash flow management system and you’ve been allocating funds to your Tax Account for an entire year. You got this! But wait, what do you do with the excess funds after paying income taxes? Or worse, what if there isn’t enough?
We have some answers for you. But first, let’s review what a Tax Account is, and isn’t.
What is a Tax Account?
A Tax Account is purely for your Income Tax burden.
Even if you don’t follow Profit First, please, for the love! Open a separate account for your taxes. If you can follow just one piece of advice, open a separate bank account to allocate funds to each month for your taxes. No one enjoys paying income taxes, but if you’ve saved for it, it doesn’t cause the stress other business owners deal with.
In the Profit First system there are seven essential accounts, the first being your Income Account. This account is solely for the purpose of collecting your income then distributing it to the other six twice a month.
The Tax Account is one of the “Veggie Accounts” discussed in Do You Have Enough Cash to Pay Taxes?
We all know that we should be eating our vegetables before we eat dessert. You also know that you will have to pay your taxes by April 15. By making your Tax Account a priority you’re creating a healthy habit and the cash will be there when your taxes are due. And look at it this way. The fact that you owe taxes means you’re profitable. That’s a good thing. Now you can treat yourself to some dessert. You’ve earned it.
Your Tax Account is NOT for your quarterly payroll tax or sales tax.
The payroll tax should be paid from either the Operating Expense Account (OPEX) or the Team Member Account because it’s the account you use to pay your team members.
The sales tax also should not be paid from the Tax Account because it is not revenue. You are simply collecting the sales tax during a transaction and just holding on to it until you hand it over to the government. So pay your sales tax out of your OPEX Account.
I have More Money than I Need to Pay my Taxes
Wouldn’t it be nice if we could actually say that sentence more often!
Alright, so your 2021 tax return is completed, and you owe $6,000 to the IRS, but you have $10,000 in your Tax Account as of December 31. This date is important because the money that you have allocated to your Tax Account January-April is being set aside for your 2022 taxes.
The first thing you need to do is transfer the $10,000 to your personal account. The business doesn’t pay taxes, you pay the income tax based on your share of the ownership.
If you are a C-Corp the taxes would be paid from your business account. But there are very few reasons why you should be a C-Corp, so if you are set up that way please research the basic business entities and consult with your accountant.
After you pay the $6,000 to the IRS from your personal account you are now $4,000 richer than you were yesterday. Yay! You ate your veggies first and now you can buy dessert. Not for yourself, for your profit first professional who advised you on what percentage to allocate to the Tax Account. I like cheesecake and chocolate covered strawberries.
I Don’t have Enough Money to Pay my Taxes
Ugh! You’ve completed your 2021 tax return and you owe $10,000 but as of December 31 you only had $6,000 saved.
You may ask yourself how the heck that happened. You did everything right. You ate your veggies first and only treated yourself to the occasional dessert.
Well, that sucks. And the IRS sucks. But these things happen. It’s possible you just estimated wrong or forgot your daughter turned 18 so she’s no longer a dependent. Don’t panic, you still have a couple options.
Take a look at your current balance. Ideally, you would want to leave all of January-April’s deposits in the account for your 2022 tax return. But your December 31 balance was only $6,000, and let’s say your April 1 balance is $10,000. We need to take care of the immediate problem first and that is making sure the IRS gets paid. So in this case, transfer the entire $10,000 to your personal account and pay the whole $10,000 that you owe right now.
What if that’s Still Not Enough?
So what happens if you’ve completed your 2021 tax return, you owe $10,000 but your December 31 Tax Account balance is $6,000 and your current balance which includes your January-April deposits, is $8,000?
You’ve transferred the entire $8,000 to your personal account but you are still $2,000 short.
You can either take what you got and go live on a beach in Mexico or pull the money from one of the other accounts. I recommend the latter.
DO NOT GET IN THIS HABIT. This is a one-time thing to take care of an immediate need. I would suggest taking it from your Profit Account first, and if there still isn’t enough, your Owner’s Pay Account, Personal Account, Team Member and OPEX if needed (in that order).
Once you’ve done that, increase the percentage of your Tax Account allocations to make sure you have enough to cover your 2022 taxes by the end of the year. This means you will then have to decrease the allocation percentage for one or more of your other accounts to compensate. Start with the Profit Account and hopefully it’s just a minor adjustment in the one account. But if you need to decrease in more than one account then go to your OPEX and Team Member Accounts. Do an expense analysis and see where you can cut some costs. The very last resort is your Owner’s Pay Account.
In either case, if you don’t have enough cash saved up for taxes, it’s not too late to make some adjustments. I highly recommend sitting down with your accountant or a Tax Genius at Incite Tax. We can forecast and perform a cash flow analysis. You’ll be able to make better decisions on how much to allocate to each of your Profit First accounts for the coming year.
If you think you might be overpaying in taxes, or need some assistance with Profit First, or the process of paying income taxes just sucks, we can help with all of it.
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