2020 has been an unprecedented year especially for founders who have had to navigate the impact of COVID-19 on their company’s operations and survival. Many tech founders took advantage of government programs such as the Paycheck Protection Program (PPP) and Economic Injury Disaster Loans and Grants (EIDL).
1) Organize your finances:
For those founders who took advantage of government funding in 2020 its especially important to have your ducks in a row. If your company received a Paycheck Protection Program loan, you won’t be able to deduct the expenses associated with it if you are planning on applying for forgiveness – See IRS Notice – 2020-32. This is especially important for those startups that may be close to break-even or profitable this year as it may mean the company has Pre-Tax Profits.
The SBA also has the authority to audit businesses who received either PPP or EIDL loans, so having your bookkeeping records clearly demarking your expenses will be critical.
2) Preparing 1099’s and other year-end reporting
Any contractors you pay over $600 in a calendar year need to be issued a 1099-NEC form. The 1099-NEC form is new for 2020, but the previous 1099-MISC can still be used for other purposes outside of paying contractors.
Contractors will still need to complete a W9 form where they provide you with some key information to prepare the year-end 1099’s. 1099’s are due to your contractors by January 31st, 2021. If you are using a payroll service like Gusto or Justworks, they have a contractor module included in there that can help with this process. Intuit also has a pretty streamlined process if you are using Quickbooks to get the 1099’s processed electronically. With those of you who are using payroll systems, remember that you may be paying some of you contractors such as lawyers, accountants, consultants outside of that system, so to capture them as well, you will need to issue them 1099’s separately or opt-out of the payroll system’s 1099 process, and process them all from one place.
3) State Franchise/Income taxes and estimated taxes
Most early-stage tech companies that are planning to fundraise from outside sources usually incorporate in Delaware. Delaware has an annual tax requirement based on assets and the number of outstanding shares issued. If you owe more than $5,000 in Delaware taxes, you may be required to also pay in taxes to them quarterly.
In addition to Delaware, many tech companies have locations all around the U.S. Your startup probably needs to register to do business as a foreign corporation in those States and pay the relevant corporate taxes, which for loss-making companies could be based on gross receipts (revenue), total assets (cash, inventory, etc.), or other fixed dollar minimum taxes. These taxes may also be due quarterly, so it’s important to be cognizant of those deadlines if you are required to pay and file.
4) Payroll and Sales Tax Nexus Issues
Due to COVID-19, many businesses are experiencing working with colleagues remotely, and many are considering leaving high cost per living cities like New York City and San Francisco. There are tax implications for employees and businesses relocating.
Withholding taxes: Speak to your employees about their residency and whether they have updated their State of residence in the payroll system. This change will trigger employer obligations to file quarterly State returns in the States where employees have moved.
State Unemployment Insurance and Workers Compensation Insurance: Employees moving to new States will trigger their company to register and collect taxes and pay workers comp insurance premiums in new the new State. Failure to comply with these regulations can trigger enormous penalties, so it’s critical for companies to stay on top of this.
Sales Taxes: If you have been collecting sales taxes, you usually need to remit these taxes either monthly or quarterly. However, some states like New York accept an annual return if your sales tax collection is sporadic and for a low-dollar-amount usually under $3,000 (in NY).
An annual tax filing also helps start the Statute of Limitations, so the states where you are doing business have a time limit, usually 3 years, to inspect your records if they disagree with your filings. More details here for New York-based tech founders.
How do you know whether you should be collecting sales tax in any particular State? Nexus is the connection your business has with a specific state. There are many ways that Nexus can be triggered, including physical presence (office or inventory), sales volume, remote employees, affiliates, click-thru nexus (website).
Due to the highly publicized South Dakota vs. Wayfair Supreme Court case, States can now mandate remote sellers to collect sales tax even though they have no physical presence in the State. This is a game-changer for out-of-state sellers and can impact small businesses based upon how much business they are doing in a particular State. There are some good guides and sales tax advice given by software companies like Avalara and TaxJar. E-Commerce companies, in particular, need to keep a keen eye on this area. I usually advise founders to run reports in their e-commerce platforms to understand which States they have the most sales volume. Once you know that you can manage your risk exposure by ensuring you are compliant with all laws in the States where the majority of your sales are.
5) Do you or your business have any foreign bank accounts or foreign presence?
Be aware of the Report of Foreign Bank and Financial Accounts (FBAR). A United States person (Citizen or Resident) with has an aggregate value of all foreign financial accounts exceeding $10,000 at any time in a calendar must file this report. Learn more here. Failure to file the FBAR report can lead to penalties that can be draconian. The Foreign Account Tax Compliance Act (FATCA) requires foreign banks to disclose to the IRS whether any U.S. persons have a bank account at their branches. This means the IRS will soon know whether you have a foreign bank account, whether you like it or not – so I recommend discussing this issue with your CPA if you feel it may have an impact. The tax deadline for the FBAR is April 15th.
If your business has foreign founders/shareholders or foreign branch/subsidiaries, there are additional tax form requirements, including Form 5471 (Information return of U.S. Persons with respect to Certain Foreign Corporations). and Form 5472 (Information return of a 25% Foreign-Owned U.S. Corporation or a foreign corporation engaged in a U.S. Trade or Business. Failure to file these forms on time has severe penalties starting at $10,000 for each form that isn’t filed or filed incorrectly.
6) Founders – Speak to your CPA before the end of the year.
Having a conversation with your CPA before the end of the year can save you time and hassle and mentally prepare you for tax time. As a CPA, I’m buried in work from January through April, and it can be challenging to do any meaningful tax planning during that time. Having a conversation with your CPA in the fourth quarter of the year gives you time to understand all your tax obligations and plan your cash-flow accordingly. To schedule a time to speak with me before the end of the year, use this link to my calendar.