Ring in the New and Count the Old Year’s Costs

Year-end accounting is a massive undertaking for any business. Some businesses, like my parents’ fine-art studio, assemble records solely for tax purposes and only once a year.

We take a broader approach. In December, we audit the year’s entries and correct errors. We change our system only at year end. We rarely make mid-year changes, because I insist they’re retroactive to January 1.

We keep books for our own edification, not merely for tax payment. Therefore, at the end of a year, these records help us analyze what we’ve accomplished. We evaluate our strengths and weaknesses, and create new goals based on what we discovered. Then we set the budget and write a business plan for the new year. For example, after the 2005 audit, we planned for 2006.

The budget and plan will change mid-year, or any time they need correction. My audit is extremely thorough, probably excessively so. The annual audit can take me three months of long days and very few interruptions. This year, an efficient office staff helped us complete this in less than six weeks, while we continued normal activities and avoided elongated days.

The Smith audit

Here’s a list of records to review:

• Confirm that your journals’ bank balances match checkbooks and bank records.

• Check the accuracy of receivables and payables, including year-end balances on notes payable.

• Make sure you’ve accurately recorded interest charges (earned or paid) and other costs, such as interest, late fees, bank charges, insurance, etc. We review these each year to see if we’re duplicating coverage or paying needless fees.

• Asset records, both business and personal, must be in order.

• Regulation expenses (sales tax, use tax, property tax, employee tax, permits, etc.) must match the filed forms. Make sure you have the necessary numbers for year-end filing.

• Review any outstanding receivable balances. Decide which ones should be written off or sent to collections. We track bad debts, including unpaid service charges, and this history may affect future credit availability or the VIP status of the individual customer. $image1

Most of my work concerns the intricacies of our expenses. I check if fixed, customary and extraordinary expenses are entered under their proper columns. Fixed-expense figures tell us the cost not to operate. Customary expenses detail the additional cost of operation. Our extraordinary expenses encompass travel, new equipment and major marketing promotions. I also confirm that any item entered as a direct expense is designated by job name.

We review our fixed expenses, both business and personal, to make sure none have been missed. Roughly 12 years ago, we discovered that $3,000 in property tax had inadvertently not been transferred from prepaid asset to expense. This necessitated filing amended income-tax returns for that year.

We also carefully peruse miscellaneous income that can easily be overlooked or mislabeled. Then we detail miscellaneous expenses and look for repetitive entries that should be redirected to newly created codes in the new year.

Adjustments

Certain accounting adjustments must be made annually. Depreciation expenses and inventory costs can be calculated monthly, quarterly or annually, but they must be balanced at year end.

Depreciation expense includes new purchases and older equipment that’s not fully depreciated. Depreciable assets include buildings (but not land), furniture, office equipment, tools and other tangible items owned (not rented) by the business. Inventory, receivables, cash or prepaids aren’t depreciable.

Depreciation spreads the cost of an asset purchase over the asset’s expected life. The government, not the business owner, determines the length of this life. The EE179 option allows you to expense it in the year of purchase. If you don’t firmly grasp IRS law, refer these calculations to your accountant. The rules change yearly.

Inventory encompasses all items for sale (including materials and supplies to create items for sale). New purchases are added to the year’s beginning inventory, which determines the pre-inventory value. Then, items not yet sold are counted and valued at cost.

Our proprietary inventory program has vastly improved our counting process. We sort inventory geographically, print the list and work in pairs, counting one area at a time.

The "leftovers" total is subtracted from the beginning inventory to determine the cost of the items incorporated in the signs we’ve sold. We remove many of these materials in the job-costing process, but the items considered indirect costs, such as paint and hand cleaner, plus direct materials not jobcosted but "missing in action," are expensed here. The remaining amount becomes the previous year’s ending inventory and the current year’s beginning inventory.

One adjustment (generally limited to accrual systems) entails prepaid assets. Magazine subscriptions, dues, insurance, property and vehicle taxes, various licenses and some communication or advertising contracts are billed once a year. In some cases, one payment may cover multiple years (for example, owning our domain names until 2013), and most annual contracts cover portions of different years (for example, May 1, 2005 to April 30, 2006). An accrual system stores these amounts as assets and expenses them over the time covered. We adjust ours quarterly.

After determining how much we made, spent and, hopefully, kept, I attempt to decipher why. This isn’t easy. We closely scrutinize our expenses and look for management errors (especially those repeated) and ways we can reduce overhead.

This year, we came to three, interlocked realizations. Consider how extensively sign artistry has changed in the 26 years we’ve have been in our building. Our 5,800-sq.-ft. space, with a 17-ft. ceiling, is now a luxury we can ill afford, which was our first realization. Second, our time records show that we spend four to five hours a week commuting. That’s more than 200 hours annually or five, full, work weeks. Third, our customers have moved further west, and the resulting 20- to 45-minute travel time per trip (ours to the jobsite and our clients to our shop) has cost us.

To solve these dilemmas, we plan to move closer to our customers, on the same property as a new home, with only 2,400 ft. of space.

As part of our annual goal setting, we choose a specific area to extensively study. Interest and other financial expenses were 2003’s focus. In 2004, we studied how we could better direct our marketing costs to our advantage. Last year, we tracked regulation expense, including the labor required to process forms. Next year, we’ll study our labor efficiency, including use of subcontractors to extend our capabilities.

Each year’s evaluation focuses on three areas: the current year, the prior year and the upcoming year. This solid comparison base helps us see if changes were beneficial. Having made these adjustments, I compare our expenses to those of the last five years to discover trends. Now, I can address budgets and future plans. Using existing figures, we can "guesstimate" our costs to meet our goals for the current year.