Audited and Reviewed Financial Statements in Action in the Everyday Small Business World
In one of our previous blogs which can be found here, #formal-financial-audits-reviews-and-bases-of-accounting-in-the-everyday-small-business-industry, we spoke about “What is a formal financial audit?” and “What is a formal financial review?” So, let’s pick up from where we left off and look at a few examples highlighting the purposes of audited and reviewed financial statements.
The examples being discussed today are in regards to Banks, Tax Purposes, and Board of Directors as follows:
How Financial Statements are used by Banks
As you may have heard, PPP (#PaycheckProtectionProgram) loans are available to US small businesses as an economic relief during the current COVID-19 global pandemic wreaking havoc across our nation. One of the main objectives of the PPP loan is for it to cover payroll wages and self-employment income.
These PPP loans are based on average monthly payroll wages and as such, a company’s audited or reviewed financial statements (#IncomeStatement) can provide an integral role in the process. Certified financial statements are a great certified source to corroborate the payroll wages amount used to calculate the #PPP loans provided to small business owners. In particular, the amount for “Salaries and wages” can be found on the Income Statement (aka Statement of #Profit&Loss).
Under normal circumstances for business loans, banks may require certified financial statements for the following purposes in making a loan decision:
Calculate debt to equity ratio – debt to equity measures a company’s debt as a percentage of its equity. For example, a debt to equity of 0.5:1 means that for every $0.50 of debt a company has $1 of equity; total assets equal $1.50 (Assets = Liabilities + Equity #BalanceSheet). You can look at this several ways; here’s a couple: (1) total assets are more financed by equity as opposed to being financed by debt or (2) you have more ownership in your assets as opposed to owing someone for most of your assets.
Calculate current ratio – a strong current ratio is 2:1 which means for every $1 of current (i.e. short-term) debt a company has $2 of current (liquid) assets to cover that debt. A variation of the current ratio is the liquid ratio with the only difference being the exclusion of inventory in the calculations.
Gross margin – a measurement of gross profit as a percentage of sales (income); 40% is great (but also depends on industry).
Net profit margin – a measurement of net profit as a percentage of sales (income); 10% is solid (but also depends on industry).
Financial Statements are needed for Tax Purposes
As a business owner, generally, you are required to file an income tax return. It is much better to have your financial reports in order than to be guessing what your revenues and expenses are when filing your taxes. Whether you are required to file a Schedule C, 1120S, 1065, 1120, or 990, you will be required to report revenues and expenses. In some cases, you are required to submit a balance sheet report; yes, for tax purposes! Can you imagine guessing your way through the numbers at your tax appointment? It’s just an unnecessary headache.
When you make a tax appointment your books should already be in order for the most part. If not, then your tax preparer is tasked with providing bookkeeping or accounting services as well as tax preparation services and you will be charged for both. So, it’s best to have your books current throughout the year and save some time and money.
How Financial Statements are used by Board of Directors
Board of Directors and Management of non-profit organizations are tasked with spearheading the mission and purpose of the non-profit. Non-profits must abide by heavy rules and regulations regarding the organizations’ financial operations and position. A set of financial reports (#financialstatements) tells a lot about being in compliance with these rules and regulations, as well as providing other key information. For example, non-profit organizations must keep a close eye on unrelated business income in its interest of compliance and maintaining its tax exempt status.
An audited or reviewed set of financial statements may also be required by donors who may be interested in providing grants to a non-profit organization.
Until next time, check in with us from time to time for more helpful tips to know as a small business owner.
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