There are two different ways to keep your books. My guess is that when you read that you might have assumed, I was talking about cash basis and accrual basis. That’s a good guess.
But today, I’m actually talking about ‘book’ and ‘tax’ accounting.
Most of the small business owners and real estate investors I work with report their taxable income by using the cash or hybrid method. The hybrid method means that everything is cash basis, except for inventory. Inventory you buy is not immediately deductible. For some small business owners, tax accounting is the same as book accounting. These are for businesses that don’t have accounts receivable or accounts payable. It is also used by people who are a little lazy about properly accounting for their business and its results.
I recommend that you do keep your records on an accrual book basis, regardless of how you report your taxes.
When it comes time to prepare your tax return, you’ll need to adjust for the accrual items, namely accounts receivable and accounts payable. If you have a higher accounts receivable balance this year than last year, that means your taxable income (cash basis) will be lower. If you have a lower accounts receivable balance, your taxable income (cash basis) will be higher than book basis of income. On the other hand, if your accounts payable goes up, then your income goes down. If your accounts payable goes down, your income goes up.
It’s important to know how to make those calculations. I’ve seen two big mistakes by bookkeepers and/or the tax preparers in this regard in the past few months, based on the tax returns I review.
It really does matter who does your bookkeeping and who does your tax preparation. We can help with both. Please give Richard a call at 888-592-4769 or drop him an email at Richard@USTaxAid.com to find out more about our services.