Capital Allowance - Part Two

Newly incorporated Companies in Singapore enjoy no tax for the first $100,000 of chargeable income.

So how does capital allowances come into the picture?

Example,

Net profit $40,000

Add back:
Depreciation $20,000

Adjusted profit $60,000 (before capital allowances)

If you have capital allowances available for NEW assets, should you start claiming them?

Let's assume you have capital allowance of $15,000.

If you claim, your tax free chargeable income is $45,000 ($60k-$15k).

Assume this happens for 3 years. You have paid no tax but you have wiltered away your capital allowances of $45k ($15k x 3).

In year 4, we will see the what happens.

Net profit $40,000

Add back:
Depreciation $0 (assume fully depreciated)

Adjusted profit $40,000 (before capital allowances)

Less:
Capital allowances $0 (all claimed previously)

Chargeable income $40,000

Less: Tax exemption
First $10,000 ($7,500)
Next $30,000 ($15,000)

Chargeable income $17,500

Tax payable $3,500
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Compared with,

Net profit $40,000

Add back:
Depreciation $0 (assume fully depreciated)

Adjusted profit $40,000 (before capital allowances)

Less:
Capital allowances ($15,000) (first year claim)

Chargeable income $25,000

Less: Tax exemption
First $10,000 ($7,500)
Next $15,000 ($7,500)

Chargeable income $10,000

Tax payable $2,000

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How much do you save?

First example - $3,500 tax
2nd example - $2,000 tax

You save $1,500!

Assume this scenario plays out for the next 3 years, you would save $4,500 ($1.5k x 3).

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If we assume that your 4th year profit exceeds $100k, and anything above $100k is tax at a full 20%.

$15,000 x 20% = $3,000 saved
$3,000 x 3 years = $9,000 saved!

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This is a very legal tax strategy and yet very few companies utilise it. Are you one of them?

Cost of financing a small business

Many entrepreneurs fall prey to easy loans and cheap loans. They forget about the true costs of such easy financing.

Easy financing means HIGH exhorbitant interest rates. 24% per annum mostly.

Should young new entrepreneurs resort to using credit cards and unsecured bank overdraft facilities to finance? What other alternatives do they have?

One simple rule they should follow:

Finance A TRANSACTION

Never finance an operation.

What does that mean??

You can use your credit card when you want to purchase something to RE-SELL for profit.

For example,
Tom wants to sell PDA accessories in Singapore. He uses his credit card to purchase $5000 worth of PDA goods from Ebay and freight them into Singapore.

He again uses his Credit card to pay for freight by UPS or Fedex.

2 weeks later, the stock arrives and he sells it off at his retail shop or a shopping cart in a shopping centre.

In 30 days, he sold all his accessories $5000 worth of them. I always assume that NO entrepreneur will order MORE goods than he could reasonably sell.

His credit card bill arrives later, and he makes FULL payment. No interest, no finance cost, no harm done.

The bank is sad, Tom is happy.

This is called Financing a Transaction.

If you use your credit card or bank overdraft to pay rent, payroll, utilities because you are short of cash, then I am afraid to say that you are in deep trouble!

A company that uses overdraft facilities to pay for overheads is a company that is unprofitable!

Remember, always sell at a price to cover your FIXED and VARIABLE overheads.

To know how to price your products, make sure that you can:

1. Sell enough of it
2. Follow this common sense:

Breakeven = ( Fixed overheads + Variable overheads )/ gross margin per unit

For e.g.

Rental for one month = $3,000
Staff cost including yourself = $3,000
Telephone + Other expenses = $2,000

Total: $8,000

You buy PDA accessories for $25 and can resell it for $50 your margin = 50% (25/50) for ALL goods

So, how much sales you gotta make?

$8,000/(0.5) = $16,000

How does it work out?


Sales = $16,000

Less: Cost of sales (purchases + freight) = ($8,000)


Gross Profit = $8,000

Less: All expenses = ($8,000)

Net profit = $0



If on average one item sells for $50, you would need to sell $16,000/$50 = 320 units

Hope this helps.

Working with others

Most small businessmen have to work with associates as they will not be able to afford a full time team of staff to provide a full range of services to their clients.

It is NOT rocket science to know that failure is just around the corner. Most of these associates are loosely based and basically have no intention of making their associates rich in order to make themselves rich.

It is the ME syndrome.

I come first. I want my cut. I want my commissions. I want my share of profits.

I, I and more I.

I have yet to find associates working in tandem towards a common goal.

Do I have a solution for them? Not really except for the fact that having a network of associates is good as a temporary solution.

Your aim is to work towards building your OWN team right in your office.

Strive hard and you will get there!

Is Sunday ever a rest day?

For an entrepreneur, his/her mind is always on the business. Cash flow, sales, payroll...everything is so troubling to the small business owner.

So a rest day is to take the mind away from all the troubles, but can he/she do it?

I seriously doubt it.

A lot of entrepreneurs feel guilty of resting, of not doing anything to enhance or improve his/her business. They look for ways to be productive even on a rest day. They call old acquaintances for possible deals, they look up their name card rolodexes.

If they can't do much, a business magazine is always there, or maybe a book on better cash flow management?

Yes, entrepreneurs will be seen at country clubs and restaurants...but their mind is always thinking thinking thinking.

Personally, I think that it is important for a person to stop the machine (the brain) sometimes and relax. To play with the kids and have some time with the wife and don't feel guilty for wasting time.

Maybe a fishing trip every weekend? Or a stroll in the park, some leisure reading of comic books or just old fashion chit chatting with the wife.

Is Sunday ever a rest day? Well, it can be...hopefully.

Work the plan ummm...what's the plan anyway?

It never surprises me that clients never have biz plans...nor does it faze me when clients say 'plans are just plans, we have our plans, but it ain't practical.'

So why the maxim? If you fail to plan, you'll plan to fail? Since many entrepreneurs tend to agree that plans are a non essential part of business, they must be right, right?

Well, I certainly KNOW that they are wrong. Why? Because many small businesses stay small and die out within the first five years.

Reasons given are always, the government, short of cash, lousy staff...yada yada yada.

I always ask clients if they have plans before they started and if they have plans to take them to the next level...the answer is still a resounding...NO. We are NOT so and so company...we will stay small.

Why don't small businesses take time to work plans out? I have a few answers:
1. Most biz are started in HOPE.

2. Small biz are started to wreck revenge on former companies...stealg clients along the way.

3. Small biz are mainly financed by credit and founder's funds...hardly an environment to encourage periodic financial reporting.

4. Small biz owners tend to think that their plans are IN their head. THEY know.

5. Small biz owners deem themselves as creative ppl, planning takes the joy out of self-employment.

So what do I say to them? Nothing...they are my boss and customer and the customer is always right (even if they are wrong).

Ironic isn't it?

I am NOT interested in my accounting and financial results!!!

Well, most won't admit it, but financial reporting is the last thing on the mind of most biz owners.

Why the belittling of doing up the accounts, implementing accounting policies, doing tax planning and reporting to the government?

I really don't know?? Or do I?

Most accountants spend years in school in order to graduate and be of service to business people, and yet, business man believe wholeheartedly that they can be accountants because they know how to use MYOB or Accpac.

I don't blame software vendors to use the tagline "DIY accounting", "get rid of your bookkeepers forever".

But for business owners to take that in hook, line and sinker amazes me.

90% of businesses fail in the first 5 years mainly due to the lack of keeping track of their finances properly. Many end up broke, some bankrupt and many going back to getting a job.

They blame everyone else but themselves for not treating their financial statements as report cards of their business.

Why do schools give you a report card after an academic period?

It is so that the report card will tell you to either buck up or keep it up. Without a report card, nobody knows where he or she stands!

By avoiding or having a nonchalant attitude towards your financial statements, it is akin to telling your teacher that you couldn't care less if you passed or failed.

We all know what happened to the kid who did not bother about his report cards right?

Should you pay yourself a salary?

Most entrepreneurs have the habit of not paying themselves a fixed salary every month. I don't blame them and fully sympathise with their reasoning.

For example,
If you invested $100,000 in your own company and start paying yourself a S$2,000 salary, you would be taxed on this $2000 salary. Which is quite idiotic becos, the S$100K investment was already taxed once!

The other reason is, entrepreneurs can find tons of ways to use the money. Rather than pay their own salary, they should in fact use the money to purchase assets or pay for operating costs.

I am more often than not guilty of advising clients to pay themselves a salary. But why do I do so?

Aim of a business
Why do you set up a business?
To work yourself to death? To find a job for yourself, because you are too old to be hired?
No! Your ultimate aim is to breathe life into the business, thus earning you passive income.

Do I jest? No.

Differentiate the director from the shareholder

When you are a director of a company, you are essentially an employee. You are directly responsible for the day to day running of the company. You are paid a Directors' fee.

As an investor/businessmen, your aim is to one day relinquish the position of director to someone else. Yes, legally you can remain the director, but the "real" director will be a true employee.

A shareholder earns his income from the net profits of a company. Since companies issue dividends to its shareholders. The shareholder does not work for the company and yet gets paid for his investment.


Ultimately, a REAL businessman will collect his dues for his past efforts and the present efforts of his employees in the form of dividends.

So what are your considerations:

- Don't take a salary if,

1. If your salary is paid out of investment money
2. You cannot afford to pay your mandatory pension plan (CPF)
3. Your job is merely selling and NOT managing.
4. You don't need to pay Corporate tax (http://www.accountingbpo.com/taxnews.php)

- Do take a salary if,

1. You are doing more administrative matters OTHER than selling. In time, you will realise that the money is better spent outsourcing the admin work to a full timer or part-timer. You would rather PAY SOMEONE ELSE than do the admin work yourself!

2. You need to establish some sort of credit worthiness for yourself.

3. You are starting to manage and has gotten sales staff to do the selling.

4. When you have sufficient cash flow and can start "returning" your investment back to yourself.

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The main reason why a salary must be budgeted even though you do not intend to pay out these salaries is due to the fact that you have to KNOW what is the REAL cost of doing your business.

If you intend to build your company's portfolio of customers and clients, you CANNOT remain a one-man operation unit, you have to start employing.

Rather than NOT KNOW your true cost when pricing your products and services, which is a mistake alot of entrepreneurs make, it is better to buffer for an eventual hire of staff.

For example,

You are an IT programmer and your charge up rate is $30 per hour.

You can quote a project at lower than $30 if you are doing everything yourself. You have only one brain and a pair of hands, assuming that you will be occupied for a FULL MONTH, what would you do if 2 projects came by?

Assuming you take on the two extra jobs and subcontract it to your friends, they charging you $28 per hour (that's the market rate). Leaving you with a $2 profit per hour charged.

Have you made a profit? You will make an immediate loss IF you had not counted:

1. Management cost for the project
2. Incidental expenses
3. Interest costs - You may have to borrow to pay your subcontractors in advance first

You need to MAKE A PROFIT! So remember, always find out the "true" cost of running your business and bill accordingly and NOT according to the cost of a One man operation unit.

Getting out of the rut

How many of us work so hard for long periods and then suddenly feel that we can't go on working like that anymore?

Our brains go from overdrive to a standstill!

There is no immediate cure except for a good old fashion thing call REST!

Make sure you rest and go AWAY from what you have been doing for the past two or three months or weeks. Set your eyes on something different.

Go to the beach, off the mobile phone. Bring the kids for a short cruise or holiday...

It might take you two days, three days or even a week! But it is all for the better, why?

Because, remember that you have and are going to work those long hours. Remember, being self employed means working harder than the ordinary employee.

But your yield on the hour goes much much higher. So, it is okay to just take off and relax and come back even stronger. Monotony will make you unproductive.

In economics we call it the law of diminishing returns.

So, off your mobile, turn off your internet connections, stop looking at your emails...and see you in a few!

Capital Allowances - to use or not?

What are capital allowances? If you know what is depreciation, you know what are capital allowances. However, the distinct difference is the timing of claim, amount of claim, right to claim.

Depreciation rates expressed in years or a percentage are determined by the management of the company.

For example,
A Computer is deemed to have useful life of 3 years, therefore...

Cost - $1,200 Useful life - 3 years

Depreciation per year is $400.

What about IRAS?

Under Section 19A, computers has to be written off in ONE year.

So, a Company will claim $1,200 deductions rather than a deduction of $400.

Or in the case of a machine,

Cost - $3,600
Depreciation - $720 per year (over 5 yrs)
Capital allowance - S19A - $1,200 (over 3 years)

So, what's the loophole?

You are allowed to DEFER the use of capital allowances. IF you decide to START using it, you CANNOT defer capital allowances that you have started claiming.

For example,

Net profit as per accounts $800

Add back:
Depreciation $400

Adjusted profit $1,200

Less: Capital allowance
S19A - current (1,200)

Chargeable income S$Nil

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What if there was a loss of $400 for the year?

Net loss as per accounts ($400)

Add back:
Depreciation $400

Adjusted profit $Nil

Less: Capital allowance (Optional)
S19A - current ($1,200)

Unutilised capital allowance carried forward $1,200

You can opt NOT to claim your capital allowance and defer the claim to another year.

Why?
Although you can claim unutilised capital allowances in the following year, you are subjected to what IRAS calls a shareholders test. Whereby the present shareholder must maintain a 51% shareholding for BOTH the relevant period of claim.

If this test fails, all unutilised capital allowances brought forward are WIPED OFF!

Most new companies need new injection of funds, that means more shareholders in different tax periods and having these tax allowances disallowed can be a major tax disadvantage.

What if you have accumulated $50,000 worth of capital allowances brought forward? That is worth $10,000 (20% of $50k) worth of tax write off THROWN AWAY!!

End of part one...

Tax and Business Loop holes

Are there really tax loopholes? Are there really ways to structure your business to gain maximum financial, tax, operational advantages?

Isn't it all ILLEGAL? Well, not really. Tax planning services are openly promoted and most importantly done by top accounting firms everywhere in the world.

You have to however note the differences between tax avoidance (legal) and tax evasion (illegal). Will tax planners get it right all the time? The simple answer is NO.

Like all good government bodies, they (IRAS or your local tax authorities) reserve the right to interprete your transactions in WHATEVER way they deem fit.

Rule of the thumb is NEVER under declare your income and NEVER over claim your expenses.

In the following blogs to come, I will explore some tax planning that you can use WITHOUT falling foul of the law.

Why another blog??

Well, I have not been updating my blogs and to top it off, I actually made a spelling mistake naming my blog!!

smallbizThots -> became smallbizhots

How silly was that??

Now, why vchooz.blogspot.com? Well, there will be a new offering using the same domain name to all who are interested in this new service I will be providing.

It is NOT ready yet, so don't waste your time checking it out yet.

I will rant and rave and shamelessly copy and paste what was posted previously in my other blog!

Cheers!