Ask HN/YC/PG: Dealing with tax and accounting

As a rule, technology startups don't distribute profits till they approach senescence and investors no longer trust them to invest their profits in their own expansion. E.g. Microsoft, which was founded in 1975, didn't pay dividends till 2003.

YC companies usually hire accountants when they raise enough money to. Before that the founders keep track of finances themselves using Quickbooks (or a shoebox full of receipts).

I personally found that doing my own accounting was a terrible waste of my time. I hired an extremely competent person for $20-25/hour (in Canada). Time was my most valuable asset as a founder, so I think outsourcing such a non-critical part of the business for so little money makes total sense.

EDIT: $25/hour was for day-to-day accounting. Year end taxes were obviously more expensive (~$500). The company was a Delaware C Corp.

This is going to sound dumb, but why do you use the word senescence here rather than maturity? They both seem to mean the same thing. Does it have some specific business meaning, or is it just another way of saying the same thing?

guess: biological meaning, not psychological. saying X has reached maturity means they were immature before. calling something/someone immature has an insulting quality to it. the other does not.

Hmm, I was under the impression that senescence is a little bit degrading (= getting senile), but perhaps not...

Senescence implies decay.

I see. So a difference in connotation.

If you don't have a significant number of investors then dividends can be a good way to save on income tax. If you do have investors however you're throwing company money back to them which is not good for you and not that good for them.

For smaller companies the vast majority of accounting is not accounting but just book keeping. This is actually easier than it seems (it took me 4 years to realise this though) and is much easier if you use www.xero.com than Quickbooks. I hated all the usual "accounting" packages as they didn't guide me. Xero does a great job and whilst not perfect is definitely the best of the bunch and worth the monthly fee.

From having run 3 (small) companies this is what I now focus on:

1. Making sure I keep a note of everything that I spend and what it was (if you ignore everything else, do this)

2. Keep a note of which account I spent it from e.g. petty cash, bank account, paid directly by me

3. Making my "list of accounts" (i.e. categories of spending) meaningful to me and ignoring all the numbers that accountants give to them. Whether it's "domestic flights", "taxis", "computer hardware" or "web services" - I make sure it's a category that's meaningful and actionable

4. Paying my salary taxes when they're due & use a payroll company

5. (easy if you've done the others well) Filing my tax return on time

It's through getting all of these wrong that I've learned which ones were right :)

One last thing that I've found very helpful is having a google spreadsheet form with a link on my iPhone homepage to enter the amont and detail of purchases as I make them. This makes it much easier when it comes to remembering what each individual bank transaction was for when you import them.

The only problem is, once you do desire to hire an accountant, they often want you to use Quickbooks. And, this can often be good because it'll save on how much time they spend on your file since they can easily open the file in their own Quickbooks, and thus reduces their fees. However, the front load to learn and understand Quickbooks costs you a lot of your own time.

They want you to use Quickbooks (or any other software they request) because they don't want to have a learning curve. It's your business, so find someone that is willing to work with you. Besides a few laws in physics, everything is negotiable.

Indeed, but sometimes having flexibility ends up costing real dollars.

From my perspective: QuickBooks is easy to learn and as a founder you should have some basic grasp on bookkeeping and taxes or it will cost you later.

For the last part about noting purchases amounts and detail, wouldn't expensify.com be helpful for this?

If you have put capital into the company, and assuming you did not loan it to the company but simply provided capital, you can track that in "capital accounts" in your accounting software, and then as profits are made you can withdraw that money, without any tax consequences, up to the amount you have contributed to the company. For any amount above contributions taxes must be paid. The corporation must pay corporate tax on any of the revenue it received, with exception to any deductions that match up, etc.

If you have only provided sweat equity and are taking a draw against the income of the business, you must pay taxes on that income, in addition to the corporate tax (double taxation as you mentioned).

In most cases, startups seem to be keeping as much money in the business and taking as small of a draw as possible. This is for a variety of reasons: avoiding double taxation while the business is young, having more capital available for growing the business, having more money available for investing than would be available if you drew the cash and took the tax hit, etc.

But remember, people have to eat, and need a roof over their heads. Unhappy miserable people probably lend to lower productivity; some people would probably say the opposite, that uncomfortable unhappy situations make a person more jazzed up to "get things done" but I don't personally like that form of motivation.

It makes a lot of sense to hire an accountant, specifically one that understands startups if possible. Sure, you could figure out all the technicalities of running the books on your own, and then managing the tax filings, but it's more complicated than personal taxes, and you're risking your startup legally. Also, these guys know what they are doing and can knock it out of the park, letting you focus on what you do best -- building your startup.

The problem is that these questions really should be tailored to the company's details because that's how the decisions are made. YC sets up C corps so they can easily issue shares to VC. They would probably retain the cash as a part of the agreements with the VC to spend on growing the business. If that's not your plan, then alternative organization might make sense and will eliminate some of your tax fears. Also, if you have more of a lifestyle type business, then distributions would make sense. Do you start to see how the intent and details change the advice? Talking to someone when you are setting something new up or having a major change makes sense. That said, don't worry too much about the taxes. If you are so worried about not giving the government a cut that you don't make money, then you lost the point. What is it specifically that you want to know here? Details are what you need to give to get the advice you are looking for.

It just depends. If the profit towards the end of the year isn't too bad, it's possible to pay as much of that out as possible as a bonus to founders and/or employees. Obviously, the company pays taxes on the wages (state/federal/medicare/etc) and you personally pay income taxes, too. In some cases, this may be a lower, overall tax hit than paying the same amount out to founders as dividends only. It certainly depends on the total amount in question, too.

It is possible to also retain most, or all, of the profits at the end of the year within the company. As was stated, though, corporate income taxes must be paid on that. Up to about $75,000, the tax rate is pretty low and not a huge deal but after that, corporate income taxes are pretty steep and as a young business, it's definitely good practice not to give Uncle Sam a dime more than you have to so if you have a huge windfall of profits, you might reconsider whether to retain it all or not.

Another option is to report as much expense as possible so as to have deductions against the corporation's income. Naturally, this means spending actual money and giving it to someone else but it also means avoiding tax. So if you can do this with things the business needs (or even paying for some things way in advance and up-front), the loss in the time value of $ is still far less than the tax consequence that otherwise would have been incurred (example: pay for all of your hosting needs 6 months in advance before Dec 31st, provided you are on a cash accounting basis and a calendar fiscal year)