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Jun 01
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Liquidation Value Versus Going-Concern Value

By Accounting News, Blog

Liquidation Value Versus Going-Concern ValueWhether it’s a company firing on all cylinders or a company on the verge of liquidation, determining correct valuations is not a cut-and-dry process. Understanding the importance of going-concern values and liquidation values is essential when determining a business’ worth.

Quantifying Going-Concern Value

When it comes to defining this type of value, it factors in the likelihood of a business operating indefinitely with continued profitability. With a company’s demonstrated ability to maintain profitability comes inherent value, reducing the likelihood of a business going bankrupt. 

In contrast to a business’ liquidation value basis, which might only be $20 million due to unsold goods, real property and associated physical assets, the going-concern value might be worth $120 million. The difference and increase in value are due to the additional equity embedded in its competitive position in its industry, its projected future cash flows, goodwill, etc. Goodwill consists of the company’s name, its intellectual property (IP) patent, trademarks, customer loyalty, etc.

When one company looks to acquire another, the company bases its valuation on the calculated going-concern value of the acquiree. When formulating its offer to purchase the other, it will factor in its future profitability, intangible assets, customer loyalty, and goodwill.

Liquidation Value Defined

Liquidation value is determined by establishing the net value of a company’s physical or tangible assets if they were to go out of business. It’s important to distinguish that intangible assets (intellectual property, brand significance, and goodwill) are not included in liquidation sales. Assets are often sold at a loss because the seller must turn the assets into cash quickly. Generally, liquidation valuation is higher than salvage value but less than book value. Though, to contrast with a traditional, non-acquisition sale, intangible assets are considered part of the sale/offer price.

One important concept for determining liquidation value is the recovery rate. Cash is naturally the highest level, usually at 100 percent. From there, assets such as accounts receivable (AR), inventory, property, plant, and equipment (PPE) have progressively lower recovery values. Determining these values will accordingly govern the success of a liquidation sale.

Comparing Values: Market vs. Book vs. Liquidation vs. Salvage

It’s important to highlight the hierarchy of values to illustrate why these types of valuations differ so much. Market value is the highest, though market conditions can temporarily lower them below normal valuations. Book value is the second highest, also known as historical, and it is what’s listed on the company’s balance sheet. Book values must be looked at through the lens of history and relative to inflation, etc. Salvage value is the second lowest valuation, which is also referred to as scrap value, or when an item is “at the end of its useful life.” Liquidation is the lowest value because tangible assets must be sold quickly, lessening the chance to find a buyer at a fair price.

How Liquidation Works

Liquidation is the difference between a company’s tangible asset value and liabilities. For example:

  1. Liabilities of a business are $750,000

  2. Balance sheet assets show a book value of $1.5 million

  3. Salvage value of assets is $250,000

  4. Auction sale estimate value is $1.2 million, or 80 percent

Liquidation Value = Auction Value – Liabilities ($1.2 million – $750,000 = $450,000)

Many variables must be studied to effectively determine a company’s value, regardless of what spectrum is being evaluated. Employees and consultants who have a better grasp of these methods will provide everyone involved with a fair assessment.

May 01
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‘Master’ The Augusta Rule and Save Money on Your Taxes

By Blog, Tax and Financial News


Augusta Tax Rule, short term rental taxesAnyone who lives in a highly seasonal tourist destination knows you can make money on short-term rentals during events and festivities in your city or town. Think high concentration, short-term, tourist-driven events such as horse racing season in Saratoga Springs, N.Y., or The Masters Tournament in Augusta, Ga.

As a result, it is common for locals to get out of dodge and rent out their place during these highly lucrative periods. Typically, this is just for a very brief period while they are on vacation somewhere else themselves, for instance.

Given these circumstances, Congress realized it does not make sense to tax rental income for very short-term periods the same way that long-term rentals are taxed. In response, the government passed the Section 280A exclusion, often called the Augusta Rule in reference to the famous Masters golf tournament.

For the remainder of this article, we will look at the Augusta Rule in more detail and provide practical considerations for taxpayers.

The Augusta Rule, aka the Section 280A Exclusion

At its core, the Augusta Rule creates an exclusion to the concept that real estate rental income is always taxable.Per Section 280A, renting out your residence for 14 days or less, you are exempt from reporting the rental income. This also means no deduction for rental expenses. So, it is like it never happened from a tax perspective. As soon as you rent out that residence for 15 days or more, this exception no longer applies.

Note, it does not matter why you rented out your residence. There is no need for it to be related to an event or any special occasion.

Technical Workings of the Augusta Rule

While the basic rule itself is quite simple, there are details you need to meet in order to qualify for the exclusion – in addition to the 14-day time limit.

  • The property must be a home or similar. This means the properly must be a “dwelling unit” per IRS definitions, meaning houses, apartments, condos, etc. (although houseboats do qualify).
  • The rental price must be reasonable. Look at comparable rents in the area to get an idea of what to charge. Luckily, this is easy today with Airbnb, VRBO, etc.

Practical Considerations

First, the above rules only apply to federal income taxation. State and local tax regulations may differ, so make sure you are up to snuff on these for your area.

Second, just because the IRS does not consider this kind of rental activity a real estate business does not mean you are exempt from local, state or other business licensing or permit needs.

Conclusion

Qualifying under the Augusta Rule can be a wonderful way to save taxes. It can be especially beneficial to those who live in or around major events that occur for only a brief period and bring in massive amounts of tourists, creating high demand and soaring prices as a result. Moreover, it can be a terrific way to a make some tax-exempt income while you are enjoying a personal vacation.

In the end, you must pay attention to the timing – and most importantly, keep excellent records.

May 01
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How to Calculate Operating Return on Assets

By Blog, General Business News

How to Calculate Operating Return on AssetsDuring Q3 of 2023, businesses in the United States made approximately $3.3 trillion, according to Statista. This is right behind the third quarter of 2022, when corporations in America made even more money. These figures are the net income of the respective periods, according to the National Income and Product Accounts (NIPA).

With profits reaching all-time highs since Q3 of 2012, understanding how businesses can analyze their profitability ratios through the Operating Return on Assets (OROA) ratio is another helpful tool for number crunchers.

Defining OROA

This calculation helps business owners and analysts determine how well a business is run. It shows the percentage, per dollar, that a business makes in operating income relative to assets involved in day-to-day operations. Unlike the regular return-on-assets (ROA) calculation, the Operating Return on Assets ratio takes a more selective consideration of assets. The primary consideration for the assets in OROA’s calculation is to only consider assets employed in a business’ traditional operations.

The calculation is as follows: 

OROA = Earnings Before Interest and Taxes (EBIT) / Average Total Assets

Another way to look at EBIT for the calculation is to look at the Income Statement’s Operating Income. For the average total assets, it’s taking a look at the business’ Balance Sheet and determining the two most recent yearly Total Assets for the company, that are used in its normal business activities.

Putting the OROA into practice, it’s calculated as follows:

OROA = $85,000 (Operating Income) / ($425,000 + $450,000) (Total Assets) / 2 =

  = $85,000 / 437,500

   = 0.1942 or 19.42 percent

This means that for every dollar of operating assets, the company has produced $0.1942 in operating income.

There are two important distinctions between OROA and the traditional ROA assets calculation. When it comes to income, OROA uses EBIT or Operating Income, but ROA uses net income as the numerator. With assets considered, OROA uses assets used for regular business operations, while ROA accounts for total assets in the calculation.

Interpreting Operating Return on Assets

One important way to use the result includes looking at a company’s OROA on a trended basis to determine if a business is declining, stagnating, or increasing its profitability.

Especially for investors, it’s important to contrast the OROA of the company at hand against rival businesses within the company’s same industry. When it comes to comparisons, the higher the OROA is, the better the result.

Another important consideration for investors is that OROA provides an accurate assessment of a business’ core operations. Since assets analyzed are for a business’ core profits or services, if a business reports profits from selling a division or it reports a one-time profit surge from investments, its core profitability is less likely to be skewed during investment analysis.

When used in conjunction with other accounting and financial metrics, businesses can continually measure and adjust their operations to increase efficiencies to increase their return on operating assets.

May 01
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Part 2: Pre-Retirement Planning Guide

By Blog, Financial Planning

Part 2: Pre-Retirement Planning GuideThere are many steps to planning for retirement. Some are legal and financial, some are about communication, and some involve introspection – thinking about your life now and how you want to live the rest of it.

By the time most people start thinking about a retirement plan, they have a pretty decent foundation. Perhaps its assets – a house, savings, a retirement portfolio. Perhaps a strong social network comprised of family, friends, and colleagues. Furthermore, most folks have a sense of who they are, what they like, and what they don’t like. Some people may have all three of those factors in hand, while others have just one or two. What’s good to remember is that once you hit a certain age, you have a lot of the knowledge and logistics in place to create a sound retirement plan. And that’s a good place to start.

This article is Part 2 of a two-part primer on pre-retirement planning. The first article previewed the first three steps: 1.) Budgeting; 2.) Setting goals; and 3.) Finances. The following is an overview of the subsequent steps.

4. Health

The good news is that Medicare will cover many of your most basic healthcare needs in retirement. However, if you have extensive medical problems, you could be on the hook for hundreds of thousands of dollars. It is a good idea to earmark a separate funding source for potential medical expenses, such as a Health Savings Account (HSA). You can only fund one of these until you qualify for Medicare at age 65; hence the importance of pre-planning years in advance.

Long-term care is even more difficult to plan for because you might not need it. This is one of those high-cost scenarios best covered by insurance. However, be aware that long-term care insurance policies typically provide a limited per diem rate, which might not cover the full cost of caregiving. Therefore, you should keep some assets in reserve in case you need it for caregiving later. Another aspect of your health plan involves end-of-life decisions – make sure you communicate them to your loved ones.

5. Estate Plan

Another gift to loved ones is to leave them a roadmap of what to do with your assets after you pass away. At the very least, complete a will with instructions. And don’t wait until you retire; the burden of determining how to manage your assets is just as egregious if you pass away before retirement.

While there are financial components to your estate plan, there are logistical ones as well. Imagine if you (and your spouse/partner) both passed away suddenly in a car wreck. Is your house in order? Not only should you organize your financial house so loved ones can find your legal documents, but you also get the physical house in which you reside. Now is the time to think about downsizing and decluttering. Go through the closets, the attic, the garage and get rid of things you no longer need. Some of it your children or friends might love to have, some would make valuable contributions to local organizations, and some of it is just junk. Part of your estate plan should be to make it easier for your children to manage your property – and all the things in it – after you’re gone.

6. Legacy Plan

Your legacy is how you want people to remember you after you die. You can create your own legacy in different ways. For one, through philanthropy. If you expect to outlive your assets, develop a legal plan for giving. This could include to your children or grandchildren and/or charitable contributions to causes that represent your passions and priorities.

But your legacy is more personal than that. As you get older, you will lose people in your life, and you could die unexpectedly. Your pre-retirement plan should consider how you can repair and strengthen relationships with people in your life with whom you are estranged or not on easy terms. After all, how they remember you will also be part of your legacy.

7. Find Your Raison d’Etre

If you live a long life, you will lose friends. You may lose your spouse or life partner. You may lose siblings and even children before you pass on. How will you feel/survive/bear it? Translated from French, your “raison d’etre” means “your reason to be.” More than any other time in your life – when all your goals, dreams and relationships were ahead of you – in retirement you or your spouse may end up alone. It is vitally important that you think about and figure out what things make you happy, and are sustainable to keep making you happy should you outlive loved ones or even suffer from health problems. This is not an easy task, and a later article in this series will offer ideas on how to approach it.

The next seven Financial Planning articles in this series will discuss in more detail each of the steps previewed in this pre-retirement planning guide.

May 01
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6 Ways to Use Your Tax Refund

By Blog, Tip of the Month

6 Ways to Use Your Tax RefundGosh, it feels great to get that tax refund. Dreams of a much-needed vacation or a splurge on something you’ve been craving might be running through your mind. However, as unexciting as this sounds, you might want to spend this chunk of change on things that really matter. Here’s a list of smart uses for your tax refund that you’ll be glad you acted upon.

Build an Emergency Fund

Let’s face it. We depend on our machines to make life easier. However, these metal contraptions can (and will) break down. When this happens and you have money socked away, you won’t have to shell out a big part of your household budget to get them fixed or replaced. You’ll be prepared. Plus, saving money for something like this could also be a way to avoid stress. According to the American Psychological Association, 77 percent of Americans aged 35-44 say that money (or the lack of) is their main source of stress. The best way to save for the unexpected is to have a part of every paycheck auto drafted into a savings account – tuck those dollars away while you relax.

Pay Off Debt

Yes, at first blush, this doesn’t seem like a lot of fun. That said, carrying around debt and paying high interest rates can be a heavy burden to bear. Imagine how relieved you’ll be when you either pay off all your debt or a good portion of it. No longer will you be a slave to those monthly payments. And here’s a plus: Paying off your debt will improve your credit score. You ready?

Make a Down Payment on a New Car

Or, if you want to buy a good used one, buy it! But back to the new vehicles. When you get a new car, you not only get a new warranty and reliability, but also new technology and safety features. And word on the street is it that dealerships are starting to offer lower interest rates and great pricing incentives. Put your pedal to the metal on this one.

Pay Down Student Loans

Whether you’re a parent or child, this is a great use for a tax refund. Alleviating debt, no matter the source, is always a good thing. Now, you might hesitate given that President Biden recently canceled debt for a lot of students. However, this doesn’t apply to everyone, as some students have private loans and others don’t qualify. Another part of the upside of whittling away student debt is that there’s no penalty for paying more often and/or making extra payments. The sooner you get rid of this obligation, the more freedom you’ll experience.

Make Home Repairs

If you’ve been putting off getting a new water heater or replacing doors, now’s the time. Why? You may be eligible for tax credits for upgrading your home with “green” improvements. While not all renovations qualify, the ones that do include energy-efficient HVAC systems, windows, additional insulation, and modifying doorways for wheelchairs and walkers. That’s planning ahead!

Invest Your Money

If you’re not risk averse, the stock market is a good short-term option. However, if you’re more conservative, IRAs, CDs, and Treasury Bills are your best bet. The yield on the two aforementioned, T-bills and CDs, are higher than they’ve been in years, with many at 5 percent. Making money on your money is always a good idea.

What you decide to do with your tax refund is personal, depending on where you are in your life. There’s nothing wrong with splurging. However, in these uncertain times, putting it to good use could come in handy in the long run.

Sources

https://www.kiplinger.com/taxes/taxes/ways-to-spend-your-tax-refund

 

May 01
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Factors to Consider when Choosing Customer Relationship Management Tools

By Blog, What's New in Technology

CRM, what is CRMCustomer relationship management (CRM) plays an important role in documenting, tracking, and managing relationships and interactions with existing and potential customers. It allows businesses to develop stronger customer connections, improve retention, boost sales, enhance customer satisfaction, and drive long-term profitability and growth. Luckily, technological advances have made it possible to have CRM tools that automate these processes. With numerous options available in the market, it’s crucial to carefully evaluate the factors influencing the selection of the right CRM tool.

8 Factors You Should Consider When Choosing a CRM Tool

CRM tools are built differently, and it is important to evaluate your business needs before making a decision. Below are some crucial factors to consider:

  1. Integration capabilities – Integration with existing software is a critical factor. A good CRM solution should offer robust integration capabilities with third-party applications, such as email marketing software, accounting systems, e-commerce platforms, and productivity tools. Seamless integration allows for smooth data flow, enhancing efficiency and accuracy.
  2. Customization and scalability – Every business has its unique requirements and workflows. Therefore, a CRM tool must offer customization options to meet the specific needs of a business. Additionally, the CRM should be scalable to accommodate future business growth. A good CRM tool should handle increasing data volumes and support adding new users, contacts, leads, and customers without major disruptions.
  3. Data security and compliance – Businesses deal with sensitive data that belongs to their customers, making data security and compliance crucial. A good CRM tool should offer robust security features like encryption, role-based access controls, and regular data backups. Additionally, CRM tools must adhere to relevant data protection regulations, such as the General Data Protection Regulation (GDPR) and other requirements, depending on geographical area and industry. Customers are concerned about the privacy and security of their data. Selecting a CRM tool with strong data security measures builds trust and confidence among your clients.
  4. Reporting and analytics capabilities – Effective reporting and analytics help a business monitor its performance and make data-driven decisions. In this case, a CRM tool should provide comprehensive reporting features and customizable dashboards. It should allow easy tracking of key metrics such as campaign effectiveness, customer acquisition costs, customer lifetime value, and revenue trends. Other tools that have advanced analytics capabilities include predictive analytics and machine learning algorithms that provide valuable insights into customer behavior and help identify opportunities for growth.
  5. User-friendliness – The ease of use of a CRM tool is crucial for user adoption. A good CRM tool should have a simple-to-use interface, easy navigation, and a short learning curve. A well-designed interface also enhances user experience, increases productivity, and encourages user adoption across all departments.
  6. Availability of training resources – Introducing a new CRM system can be challenging, especially if users are accustomed to legacy systems or manual processes. Therefore, it is crucial to choose a CRM vendor that provides comprehensive training resources, tutorials, documentation, and ongoing support to help users effectively onboard and utilize the CRM tool. It also helps to consider the availability of customer support options, such as email support, phone support, live chat or dedicated account managers, to address any technical issues or inquiries promptly.
  7. Mobile accessibility – As remote working has become more common, mobile accessibility has become a critical feature of CRM tools. A suitable CRM solution should offer dedicated mobile applications or responsive web interfaces, allowing access to essential CRM functionalities on the go. Mobile accessibility enables real-time collaboration, enhances productivity, and ensures crucial customer information is always available.
  8. Cost and ROI – Last but not least, consider the cost and expected return on investment (ROI) when evaluating CRM options. A CRM might appear to have good pricing, but it is crucial to look beyond the initial upfront costs and assess the long-term value proposition each CRM solution offers. At this point, it is advisable to evaluate factors such as subscription fees, implementation costs, customization expenses, and potential savings in time and resources.

Conclusion

Choosing the right CRM tool enhances customer relationship management and drives business growth. It is also good to stay updated with the latest advancements in CRM technology and keep an eye on emerging trends. For instance, the integration of new technologies such as blockchain into CRM is expected to offer new challenges and opportunities in managing customer relationships.

May 01
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Funding Foreign Military and Humanitarian Aid, Setting up a Tik Tok Ban, and Re-Authorizing Foreign Surveillance on U.S. Soil

By Blog, Congress at Work

Funding Foreign Military and Humanitarian Aid, Setting up a Tik Tok Ban, and Re-Authorizing Foreign Surveillance on U.S. SoilUkraine Security Supplemental Appropriations Act, 2024 (HR 8035) – Introduced on April 17, this bill authorizes $60 billion to provide military aid to support Ukraine in its war against Russian invasion. More than a third of this allocation will fund U.S. manufacturing for the replenishment of weapons, stocks and facilities. The bill passed in the House on April 20, in the Senate on April 23, and was signed by the President on April 24. The President indicated that up to $1 billion in weapons supplies for Ukraine would begin delivery within hours.

Israel Security Supplemental Appropriations Act, 2024 (HR 8034) – Introduced on April 17, this bill authorizes $26 billion to provide military aid to Israel with $1 billion designated for humanitarian assistance for civilian victims of the war in Gaza. The bill passed in the House on April 20, in the Senate on April 23, and was signed by the President on April 24.

Indo-Pacific Security Supplemental Appropriations Act, 2024 (HR 8036) – Introduced on April 17, this bill authorizes $8 billion in defense spending to counter Chinese aggression against Taiwan and other key U.S. allies in the Indo-Pacific region. The bill passed in the House on April 20, in the Senate on April 23, and was signed by the President on April 24.

21st Century Peace through Strength Act (HR 8038) – Also on April 24, the President signed what is referred to as the Tik Tok bill, representing the first time Congress has initiated legislation designed to ban a social media platform. In effect, the Act mandates that Chinese tech firm ByteDance has up to a year to sell the short-form video streaming app to a U.S.-owned entity or be shut down. The bill was introduced on April 17 by Rep. Michael McCaul (R-TX), passed in the House on April 20, and in the Senate on April 23.

Reforming Intelligence and Securing America Act (HR 7888) – This Act reauthorizes Section 702 of the Foreign Intelligence Surveillance Act (FISA), which was scheduled to expire on April 19, 2024. This bill amends previous language (from 2008) to better represent technology updates in 2024. However, the premise of the bill remains the same. It authorizes targeting surveillance data of foreigners outside the United States. No Americans, or even foreigners located in the United States, can be targeted. This bipartisan-supported bill was introduced by Rep. Laura Lee (R-FL) on April 9, passed in the House on April 12 and in the Senate on April 19. It was signed by the President on April 20.

A bill to require the Director of the Office of Management and Budget to submit to Congress an annual report on projects that are over budget and behind schedule, and for other purposes (S 1258) – This bill was introduced on April 25, 2023, by Rep. Joni Ernst (R-IA). This bill would require federal agencies to make an annual report to Congress regarding the status of federally funded projects that are either more than five years behind schedule, or whose expenses have exceeded original cost estimates by $1 billion or more. The Act passed in the Senate on March 23 and currently resides in the House.

May 01
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Working Capital and the Role it Plays in Your Business’ Success

By Accounting News, Blog

Working Capital, what is Working CapitalThe accounting term working capital is essential knowledge for all business owners. Basically, it is the ability of a business to meet its ongoing obligations. Learning about some of the different aspects of working capital is vital for any successful business owner.

Net operating working capital (NOWC) is the gap between a business’ current assets (accounts receivable, inventories, cash, though excluding marketable securities) and its non-interest-bearing liabilities (which are financial obligations a business must meet, except those not subject to interest payments).

This calculation looks at a business’ cash flow availability and determines available current assets able to be liquidated inside a calendar year.

The formula is as follows:

NOWC = Current Assets – Non-Interest-Bearing Liabilities

Operating Working Capital (OWC)

OWC measures a business’ current assets and calculates how much the company’s day-to-day operations cost. This includes meeting supplier invoices, turning accounts receivable (AR) into cash, obtaining inventory, and making sales on inventory and/or services.

The higher the OWC, the easier it is for a business to pay supplier invoices, leverage pre-pay or early pay discounts, maintain healthy inventory stocks, and offer customers favorable terms to grow sales further.

OWC is calculated as follows:

OWC = Current Assets – Non-Operating Current Assets

It’s important to remember that cash isn’t included because this asset is considered a non-operating asset. While cash isn’t immediately connected to operations, it can be re-considered an operating asset once supplies and related items are obtained with it.

Operating Working Capital Considerations

The OWC calculation determines how proficient the business is with its finances. Since it immediately reveals the amount of funds a business has, the larger the resulting figure, the lower the funds a company has available to complete its rotation.

Companies can lower their results by increasing the rate of inventory turnover, increasing the percentage of customer payment collection, and working with vendors for better provider terms. As a business improves this metric, it can free up funds to reduce its loans, pay dividends, and/or build out new or existing revenue streams. 

Net Working Capital (NWC)

Also referred to as working capital, NWC is defined as the difference between total current assets held by a business and its liabilities. It shows a business’ level of liquidity. This looks at how capable a company is in generating profits, chiefly when it comes to near-term financial obligations (paying wages, electric bills, leases, etc.). It also tells a business if and how much it’s able to re-invest to grow profits and increase product or service capabilities.

It’s calculated as follows:

NWC = Total Current Assets – Total Current Liabilities

Total Current Assets = Cash Assets + AR + Inventory  

Current liabilities are short-term financial obligations due within 12 months, including accounts payable (AP) and accrued expenses.

Considerations

Positive net working capital implies a business can meet current financial obligations and invest in other operational needs. If the NWC is too high, the business isn’t using its short-term assets efficiently. Since some current assets can’t be converted to cash easily, NWC isn’t always the best measure of liquidity. It can similarly signify underused resources.

While there are unique considerations for every business, the more business owners and management are versed in these concepts, the more likely they are to increase their chances of surviving and thriving.

Apr 01
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Reduce Your Taxes by Putting the Right Assets in Your IRA

By Blog, Tax and Financial News

Reduce Your Taxes by Putting the Right Assets in Your IRAMost people know the basic concept that certain types of investment accounts are tax sheltered while others are not. Think 401(k), 403(b), IRA and Roth IRA accounts, for example. What most people are not aware of is how you split your investment positions between your taxable and non-taxable accounts can result in major tax savings.

Asset Allocation and Location

One of the core principles of investing is to have an appropriate asset allocation that aligns with your risk tolerance and goals. In other words, how much of your investable net worth is in cash, stocks, bonds, precious metals, real estate, alternative assets, private investments, etc? Once you have this determined, the next consideration should be the location of these assets, primarily meaning whether you hold them in a taxable or tax-sheltered account.

The first, core principle behind asset location positioning is that bonds and other fixed income investments get the highest priority within tax sheltered accounts because they pay high-taxed ordinary income. Stocks that pay qualified dividends may be taxed at the more advantageous long-term capital gains rate, so they are typically better in taxable accounts.

What Are the Stakes?

To put it simply, big money. Take the example of a hypothetical $2 million portfolio evenly split between stocks and bonds. In the case where an investor has $1 million each in a taxable account (50/50 stock and bonds) and another $1 million in a tax-sheltered account (again 50/50 stock and bonds); this would cost about $148,000 over 30 years versus placing all the stock in a taxable account and all the bonds in a tax-sheltered account.

Asset Class Location Ranking

Of course, there are many more nuances and types of investments. Below we review 10 different types of assets, ranking them in order of those that get the most benefit from being in a tax-sheltered account with an explanation of why.

  1. K-1-Free Commodity Funds
    Popular for investing in futures, these are typically structured as Cayman Islands holding companies. As a result, they often kick-off highly taxed ordinary income even when the fund is losing money. Keep these in a tax-sheltered account at all costs.
  2. Junk Bonds
    High-yield corporate bonds typically come with large coupons (often 7 percent to 9 percent) and a small capital loss in the 1 percent to 2 percent range. Since the large coupon payment is taxed as ordinary income, while capital losses are worth less from a tax perspective, junk bonds are a prime candidate to go into a tax-sheltered account.
  3. Income Stocks
    Preferred shares and real estate investment trusts are characterized by their high unqualified dividends, so they are not eligible for preferential capital gains tax rates. This makes them best suited for a tax-sheltered account.
  4. High-Grade Bonds
    Similar to junk bonds, but with lower coupons and smaller capital losses, the benefits of holding these in a tax-sheltered account is less than the items above, but it is still preferable to place them in a tax-sheltered account.
  5. U.S. Treasuries
    The interest on U.S. Treasuries is taxed as ordinary income; however, it is exempt from state income tax. Depending on the state in which you are subject to taxes, these fall in the middle ground and could be held in either a taxable or tax-sheltered account.
  6. Actively Managed Mutual Funds
    The frequent churn of the holdings in actively managed funds typically creates more short-term capital gains versus long-term. Again, depending on total returns and how active the fund manager is, these could be held in either a taxable or tax-sheltered account.
  7. K-1 Commodity Funds
    Usually taxed as partnerships, profits typically get a 60/40 treatment, with 60 percent of gains classified as long-term and qualifying for favorable rates, putting them in the middle ground as well.
  8. High-Dividend Stocks
    For some investors, dividends are king. Think utility stocks and big-name blue chips with a steady track record of paying consistent dividends, like Altria. Since most, if not all, the dividend income is usually in the form of qualified dividends, holding these in a taxable account is much less painful.
  9. Stock Index Funds and Low Dividend Stocks
    Broader market mutual funds and ETFs have lower dividends. For example, on average, a total U.S. market ETF yields approximately 0.3 percent. Given this and their low churn, these funds are prime to be held in a taxable account, especially if the intended holding period is more than a year and will qualify you for long-term capital gains treatment and defer any taxable event until sale.
  10. Master Limited Partnerships (MLPs) and Private Real Estate Funds
    Typical of oil and natural gas pipeline investments, MLPs pay big dividends early on and they usually are not taxed in early years. Similarly, private placement real estate fund investments are shielded from the income they produce due to the upfront benefits of depreciation. Given their structure and the fact that they hold debt attributable to the owner, however, makes them a no-go for a tax-sheltered account since they create what is considered “unrelated business taxable income.” This makes these investments only suitable for a regular taxable account.

Conclusion

The decision of which types of investments you keep in either taxable or tax-sheltered accounts can make a big difference in how your investments grow and how much you keep. Consider evaluating not only your asset allocation but also your asset location to optimize for taxes.

Apr 01
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Defining Burn Rate, Gross Burn and Net Burn

By Blog, General Business News

What is Burn Rate, Defining Burn Rate, Gross Burn and Net BurnWhen it comes to any business, but especially for a start-up, it’s essential to determine how long a company can survive before it must declare bankruptcy and/or close its doors. The biggest metric, especially for a start-up, is to determine how much money a company has to keep its lights on.

The term “burn rate” is defined as how much money a company spends monthly to maintain its operations. It is essential for a company to know how long it can operate before it begins to generate income and hopefully becomes cash flow positive.

It is important to look at two differences between the two sub-meanings of this term: the first is “gross burn” and the other is “net burn.” When it comes to “gross burn,” we are talking about how much a business uses in monthly operating costs. The following formula shows a business how long they have in months to operate.

For example, if a business has $2.5 million available for overhead and it spends $200,000 in monthly overhead costs, it would last 12.5 months. Expressed as a formula:

Available financial resources ($2,500,000)/monthly overhead($200,000) = 12.5 (months)

This assumes the company makes no revenue, which will be accounted for in the next example. However, this is where “net burn” comes into consideration. Net burn looks at how much money a business loses every month, but the difference with this calculation is that it looks at if it can be lowered by any incoming revenue.

If a company spends $10,000 on rent/office space, $20,000 on IT expenses, and $25,000 on employee wages, the gross burn rate would be: $55,000. However, if the company is generating sales at $17,500 per month, for example, and the cost of goods sold (COGS) is $5,000, the following calculation would determine its “net burn rate:”

Net Burn Rate = [Monthly Revenue – Cost of Goods Sold (COGS)] – Gross Burn Rate

Net Burn Rate = ($17,500 – $5,000) – $55,000

Net Burn Rate = (12,500) – 55,000 = -$42,500 Gross Burn Rate

The difference between the net burn rate and the gross burn rate may seem obvious or intuitive, but depending on how much money the start-up has available, and factoring in how much the revenue brings in and offsets the COGS, it can make a stark difference for the business’ prospects.

Once a business has determined what its “gross burn rate” and/or “net burn rate” is, the next step is to look at how to reduce costs and/or increase revenue to keep working toward positive cash flow. 

Two considerations for the company include what the business can do and what it must do to make more revenue and increase profit margins. For example, companies could look at the cost-benefit analysis of incorporating AI to see if it would have an overall positive impact on labor costs. They also could look at how to create effective marketing campaigns that cost less (using backlinks instead of paid search engine marketing, for example).

Another consideration is that if the company has enough time and is able to re-strategize its model, this can have a material impact on the business receiving a cash injection from outside investors.  

Determining these timeframes and figures are one way a company can reduce costs and/or pivot to more profitable products and/or services. These two calculations can provide avenues to re-invigorate a business in hopes of providing a path to profitability.

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