Why a business owner has to be like Tyrion Lannister

Today we’re going to look at the kinds of things a business owner should know and keep track of for tax purposes.

That’s what I do, I drink and I know things.

What can a business owner learn from Tyrion Lannister and why is it important to emulate one of his characteristics? I’ll admit to being a big fan of Tyrion but I’m not a fan of all his traits. I do admire his loyalty but I think his biggest advantage is to know things. This particular trait is essential to running your business.

But first, let’s back up and set the scene. One of the most memorable lines from Game of Thrones came from Tyrion Lannister in Season 6 Episode 2. In the scene, Missandei asks him “How do you know this?” and Tyrion replies “That’s what I do. I drink and I know things.” Now, not many of us want to work next to a drunk, or even someone with Tyrion’s temperament, but we all want to work with someone who “knows things.”

For the small business owner and entrepreneur, knowing things is critically important, but once you start hiring employees, it’s important to be able to share think knowledge and give your employees a way to access and share it, too. While it’s often not thought about at the time, a lot of this knowledge can impact your taxes. Capturing this knowledge and making it easy to find and use later is harder said than done, but there are some tricks.

Organizational Documents

First and foremost, are the documents that formed your entity or business. If you have any type of legal entity, the formation documents contain a wealth of information that should be retained for tax purposes. These documents should list out the initial owner or owners, what is being contributed to create the business, how the profits or losses are to be shared, and how money is to be distributed to the owners.

In the beginning, it seems so obvious to follow what these documents say, but given time, memories fade and it’s easy to make small tweaks, and small tweaks on top of them, until, before too long you’ve gotten off course. I’m currently helping a partnership that is new to me and we realized they haven’t been following their partnership documents exactly as they intended in the beginning. The partnership was formed in 1999, so a lot of time has passed, plus all the original team was slowly replaced over the years and they slowly drifted off course. We’re currently working with the owners and their attorney to determine how this got mixed up, how to resolve it now, and whether they should amend their governing documents for the future.

Employer Identification Numbers

The documents that either you send to the IRS or receive from the IRS should be maintained in a permanent file. This starts with the letter from the IRS documenting the business’s employer identification number (“EIN”). Ideally, you’ll save a copy of this documentation with your formal business documents, and then save it in your employment files, have your attorney save a copy and provide it to your tax professional to save as well.

I know it sounds crazy, but these numbers can sometimes get mixed up. For example, a few years ago I inherited a client when another person left our firm. We have been preparing this return for a number of years so I didn’t question the EIN being correct. I’ll also note that we had been using the same number that the client’s previous CPA firm used.

Everything was rolling along just fine until we tried to efile this client’s tax return with the IRS. The efiled return was rejected from the efile system and we could not make sense of the error code we received. When we finally got someone from the IRS on the phone, we were told that the EIN that we were using for this client was actually the number for one of the client’s other companies that was formed at the same time and has a similar name (we don’t prepare that return). When it was filed on paper, someone at the IRS was always able to figure it out and get it filed under the correct taxpayer but the efile system doesn’t work that way. The client didn’t have the original EIN application so it did take a while to sort out and get resolved.

As another example, I recently had a client apply for two EIN’s for the same business entity. It happened because he formed the business early in the year, I think around March. He applied for and received his EIN at this time. He also sent me a copy for his files so I could get this new entity setup as a new client in our system. Then when he got close to the end of the year he needed to open a checking account for this business. He looked through his files and didn’t see the EIN paperwork so figured he hadn’t done it and applied for a new one. I’m the one who caught this error because he had sent me the original EIN information, which I assume is why he didn’t keep it himself. It wasn’t complicated to get it straightened out but it was eye-opening because this guy is himself a CPA and should have known better. If he had bothered to send me an email, I could have provided him the first one and saved both of us the time it took to clear up the matter.

S Corporation Election and Acceptance

If your business is taxed as an S Corporation, then at some point in the past you filed an IRS Form 2553. This is the application to be taxed as an S corporation. Once you file this Form 2553, the IRS will acknowledge it and send an S Corporation acceptance letter. Hold on to this letter and save it in multiple places.

Just last month, right before the April 15th deadline I might add, I had a client send me an urgent request for the S Corporation acceptance letter. He was in the middle of financing a loan and his bank was requesting this document. Now some backstory is that the election was made on January 1, 2001, long before I started working here so I wasn’t involved in the process. Also, our firm had paper files back then but have moved to a paperless system and are currently on our third document management system. Anyone who’s been through those conversions should already know that the likelihood of us having that file was pretty close to zero. My contact at the client has recently stepped up to run the family business and his cousin is his attorney. He was flabbergasted that no one had a copy of this document since, in his words, “NOTHING got thrown away prior to my arrival.” After a couple days, he was finally able to find it but it would been so much easier if it had been saved in a logical place so someone could find it.

Tax-Exempt Status Recognition

Another important document to keep is the recognition for tax-exempt status from the IRS. In my experience, charities that are exempt from tax under Internal Revenue Code Section 501(c)(3) are pretty good at keeping a copy of this recognition letter. However, there are other types of tax exempt entities and those are the ones who have a hard time keeping up with the letters.

We’re in Austin, TX, which is the state capital of Texas. I hope this isn’t new news to you, but I thought I might need to remind some people.  Being in the state capital, there are a lot of state-wide business organizations that are exempt under code section 501(c)(6) and we work with a number of these entities. Since they don’t typically apply for grants or receive charitable contributions, they don’t need to get their hands on this document very often. This means they typically can’t find it when they need it. I have one specific client that I’ve worked with for about 12 years. I kid you not, at least every third year, they send me an email asking for the document. Every time I send it back to them, I remind them to keep a copy in their files. Maybe I’ve made it too easy for them to ask me rather than search their own files, but relying on me to always be available and send it to them quickly should be not be part of their document retention policy.

Business owners have a lot to keep track of and some of these initial documents are the first ones to get lost or misplaced. Plus, there is a lot of other institutional knowledge that has to be maintained that have a bigger impact on the smooth daily functioning of your business. Keeping the formation documents and any IRS elections and correspondence in a safe, easy to find location, will save you time and energy later on when you actually need to use them. My recommendation is to keep them saved in a couple location in your business files, plus make sure to provide them to your attorney and tax professional.

If any of these documents are lost, you can usually get a copy from the governmental office that they originated in, however it is going to cost you time and money. So, save yourself from future headaches and save the files in a safe location.