Ready to make a career change to self employment? The first step forward is to evaluate, and yes take the leap. Once you’ve committed, it’s now time to create your business formation, including short and long-term planning.
What is the vision for your self-employed business? We are all familiar that large companies employing thousands of employees have mission and vision statements, but it’s just as important that you draft this for your business of one. What makes this new entity separate from a hobby? True business ideas require planning out your dream; the vision. This includes the operational layout, production of revenue and an estimated calculation of costs to evaluate if the business will be profitable or worthwhile financially and emotionally.
Many businesses fail within their first year and 70% of businesses do not make it to their 10th birthday. In order to #BeTheThirty percent that makes it beyond one decade, you need to plan and forecast now. Some main items to think about and avoid include underfunding of capital, lack of focus on customers and recurring revenue, higher expenses and burnout or lack of focus on the vision (it all comes back to visions!). Visions and dreams are needed but so are customers, clients and sales. Increase of sales and repeat clients with amazing service levels will solve most problems but not all. Common mistakes are thinking customers will be obsessed with your product or service and you’ll be an overnight success. While this is a great dream scenario, you should plan for a less favorable outcome. Test out your product/service in the market, review your marketing plan, gather feedback and compare the results to your original thoughts. Labor tends to be the main expense/cost outflow of cash to many businesses. Small business owners tend to not pay themselves in the beginning while they establish the business, working lots of hours and self sacrificing their time to launch their vision. Don’t make this mistake. In fact, budget for it, then add 10% on top for cushion. Paying all staff is not only about the hourly wages, but also taxes, insurance and workers compensation costs. Forecast your revenue on an annual basis, which includes these operational expenses, rent, business insurance, office supplies expenses, utilities, internet (which are known as SG&A expenses). You will quickly learn that cash goes out the door very quickly, thus this forecast, budget model helps avoid the sudden surprise in reality.
When establishing the paperwork, there may be confusion among LLC, S-Corp and a sole proprietorship or partnership. This can be overwhelming, the good news is there is an opportunity to have the decision changed or updated down the road. The important factor is to lay out in advance and select a tax and legal structure that provides for the pros of the business short and long term. From a legal formation, choose how much legal separation is needed for the owner(s), partner(s) and employees. A sole proprietorship, partnership or LLC with limited liability vs S-Corporation or C-Corporation. Think of it like insurance for a car or your health. In the case of a potential suit for damages from a business decision you want to have legal coverage to separate your business from your personal assets. For tax planning, selecting an entity that provides benefits in the current year as well as over time. As an example, a business may be formed where there would be a sole owner and projection, which the startup costs exceed revenue. An LLC-taxed as a sole proprietor may be more beneficial than an S-Corp filing where salaries may not be paid out to the owner in the first year. Again, the entity taxation formation can be changed based on your future earnings and profit, another reason to lay out your vision financially.
Getting your business bank accounts open is a required step to separate your personal funds from business funds. Accountants view this as a huge step to ensure there is a clear line distinction between the two. Insurance is another factor to consider purchasing. Business insurance captures coverage for legal matters that may occur in the business. Medical and life insurance coverage is a great benefit for yourself and your family. As previously mentioned, workers compensation is a must in case any employees get hurt on the job. Search for a banking institution that best serves your business needs. On the same note, select an Insurance carrier based on your business and industry with coverage requirements.
I have learned many lessons creating my advisory business, and these are several concepts that will set you up for success. The most instrumental tip is to surround yourself with a support system that knows and understands law, tax and financial advisory, such as a bookkeeper, advisor and a lawyer. Now that we’ve discussed taking the leap from corporate office to self-employed and steps to create the business formation, in the next article of this series we will dive into self-employment ups and downs.
Mitesh Gandhi is an advisor for Breakaway Bookkeeping + Advising.