Trends – Roth&Co

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If you recently launched a business, you may want to set up a tax-favored retirement plan for yourself and your employees. There are several types of qualified plans that are eligible for these tax advantages:

A current deduction from income to the employer for contributions to the plan,
Tax-free buildup of the value of plan investments, and
The deferral of income (augmented by investment earnings) to employees until funds are distributed.

There are two basic types of plans.

Defined benefit pension plans

A defined benefit plan provides for a fixed benefit in retirement, based generally upon years of service and compensation. While defined benefit plans generally pay benefits in the form of an annuity (for example, over the life of the participant, or joint lives of the participant and his or her spouse), some defined benefit plans provide for a lump sum payment of benefits. In certain “cash balance plans,” the benefit is typically paid and expressed as a cash lump sum.

Adoption of a defined benefit plan requires a commitment to fund it. These plans often provide the greatest current deduction from income and the greatest retirement benefit, if the business owners are nearing retirement. However, the administrative expenses associated with defined benefit plans (for example, actuarial costs) can make them less attractive than the second type of plan.

Defined contribution plans

A defined contribution plan provides for an individual account for each participant. Benefits are based solely on the amount contributed to the participant’s account and any investment income, expenses, gains, losses and forfeitures (usually from departing employees) that may be allocated to a participant’s account. Profit-sharing plans and 401(k)s are defined contribution plans.

A 401(k) plan provides for employer contributions made at the direction of an employee under a salary reduction agreement. Specifically, the employee elects to have a certain amount of pay deferred and contributed by the employer on his or her behalf to the plan. Employee contributions can be made either:

On a pre-tax basis, saving employees current income tax on the amount contributed, or
On an after-tax basis. This includes Roth 401(k) contributions (if permitted), which will allow distributions (including earnings) to be made to the employee tax-free in retirement, if conditions are satisfied.

Automatic-deferral provisions, if adopted, require employees to opt out of participation.

An employer may, or may not, provide matching contributions on behalf of employees who make elective deferrals to the plan. Matching contributions may be subject to a vesting schedule. While 401(k) plans are subject to testing requirements, so that “highly compensated” employees don’t contribute too much more than non-highly-compensated employees, these tests can be avoided if you adopt a “safe harbor” 401(k) plan. A highly compensated employee in 2020 is defined as one who earned more than $130,000 in the preceding year.

There are other types of tax-favored retirement plans within these general categories, including employee stock ownership plans (ESOPs).

Other plans

Small businesses can also adopt a Simplified Employee Pension (SEP), and receive similar tax advantages to “qualified” plans by making contributions on behalf of employees. And a business with 100 or fewer employees can establish a Savings Incentive Match Plan for Employees (SIMPLE). Under a SIMPLE, generally an IRA is established for each employee and the employer makes matching contributions based on contributions elected by employees.

There may be other options. Contact us to discuss the types of retirement plans available to you.

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Fraud doesn’t simply take a vacation during crises, such as the COVID-19 pandemic. If your not-for-profit’s internal controls aren’t effective, crooked individuals can find ways to exploit them and steal from your organization — even if they’re working remotely. Other threats, such as financial shortfalls, might also loom.

So it’s important to continue to schedule internal audits. Comprehensive independent audits help assure stakeholders that your nonprofit is ready for anything that might come its way — including opportunities.

Looking for vulnerabilities

On its most basic level, the internal audit function provides assurance of compliance with a nonprofit’s internal controls and their effectiveness in mitigating financial and operational risk. Potential risks include fraud, insufficient funds to support programming and reputational damage.

Internal auditors, whether they’re staff members or outside consultants, start by identifying a nonprofit’s vulnerabilities and prioritizing them from high to low. Through testing and other methods, they:

Assess the effectiveness of internal controls,
Evaluate compliance with laws, regulations and contracts,
Document their results in reports that include recommended improvements, and
Follow up on management’s remediation actions to eliminate identified risks and assist external auditors, when applicable.

The effectiveness of the internal audit function hinges on auditor independence. Auditors should be independent from management and all areas they review to avoid bias or a conflict of interest. Auditors should report directly to the board of directors or its audit committee.

More to offer

Although the internal audit function is often viewed mainly through the prism of compliance and internal controls, it has a lot to offer beyond risk assessments and audit plans. Savvy nonprofits have begun to tap internal audit for strategic purposes. For example, auditors may serve as internal consultants, providing insights gathered while performing compliance and assessment work. While reviewing invoices, they could discover a way to streamline invoice processing.

A familiarity with an organization’s inner workings also affords internal auditors with an unusual perspective for evaluating strategic opportunities. Does your nonprofit have a financial weakness that could undermine plans for continuing current programs or launching new ones? Your internal auditor probably knows the answer.

Ask for more

With their cross-departmental perspective, internal auditors can help anticipate and mitigate a variety of risks, improve processes and help evaluate your nonprofit’s strategies. Social distancing guidelines can make in-person audits challenging right now. But we have strategies for conducting thorough audits while also protecting the safety of audit participants. Contact us for more information.

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2020 has been a particularly trying year. The lockdowns, school cancelations, unemployment, and of course, the health crisis, have had an impact on even the strongest-minded people. To top it all off, it’s an election year. And not just any election year – one of the most divisive and heated ones in recent memory.

While the election outcome is important to us because it shapes national policies like immigration, healthcare and major social issues, from the feedback from our clients, it seems to also make an impact on people’s investment preferences.

Our clients are wondering: Should we make changes to our portfolio based on what we think the election outcome will be? Should we go to all cash until the election passes? Should the election results change our long-term investment plan?

These questions lie on the assumption that there is a certain party that is better for the market, but truthfully, it doesn’t really matter.

Since 1949 when Democrat Harry Truman was sworn into office, under Democrat presidents, the market has returned 10%. The return under Republican presidents during that same time frame has been 7.7%.

This might surprise you, as the accepted theory is that Republicans are more focused on capital, while Democrats are primarily focused on labor. What this should tell you is that the influence presidents have on the economy and the stock market is actually quite limited.

Each party brings policies that are both beneficial and unfavorable to the markets. And together, markets are built.

The bigger factor that drives the economy? Market cycles. The forces of market cycles override the political affiliation of the person occupying the White House. Bill Clinton was in office while the dot com bubble was happening, so he had amazing stock market years. George W. Bush came in at the peak of that bubble, and was in office during the great financial crisis, so he had terrible numbers. Barack Obama came in at the lows of that crisis, and guess what? His numbers were great. Obviously, market cycles play a much bigger role in the economy than the president’s party affiliation.

Even making bets on certain sectors or industries for a particular election outcome can prove to be costly. President Bush ran on promises for tax cuts, which were interpreted as bullish for the banks, but they did really badly under his tenure. President Obama was a big proponent of clean energy. While he was in office, solar energy (as tracked by the Invesco Solar ETF (Ticker: TAN)) and wind energy (tracked by the First Trust Global Wind Energy ETF (Ticker: FAN)) were both lower, while the overall market was on a tear.

So no, your investment plan should not be based on your prediction of who will take a seat in the Oval office or who will win the Senate.

The most important thing you can do to build wealth is to stay invested over time. To illustrate this, let’s assume you invested $100,000 in 1949, and only invested under presidents of a single party.

While you would have done much better under the Democrat regimes, with an ending balance of $2.9 million versus the $717,000 had you only invested during the Republican presidents, it’s incomparable to the $21 million you would have had, had you remained invested the entire time.

We’ll leave you with this: Many are predicting that we won’t have a peaceful transfer of power, which can create a lot of volatility in the market. As you know from our previous missives, we aren’t in the prediction industry. But should that occur, we’ll be ready to pounce on the opportunity it brings.

If you have personal questions or concerns, please reach out to us at info@equinum.com to set up a call, or visit us over at Equinum.com

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Many businesses and organizations are currently maintaining some hybrid model of remote/in-person work, with even more flexibility anticipated in the future. For most workforces, navigating processes, interactions and activities which are usually completed in-person, takes more than some new technology. Problems requiring unplanned, emergent coordination that could be addressed through impromptu interaction if everyone were in the same office, now require coordinated virtual communication.

The National Bureau of Economic Research utilized information from lockdowns in 16 metropolitan areas to compare the changes it caused to business communication patterns. Compared to pre- pandemic levels, they found increases in the number of meetings per person and the number of attendees per meeting, with decreases in the average length of meetings. They also found significant and durable increases in length of the average workday and email activity.

Employees are apprehensive about the challenges they are facing. Employers are too. Leaders of a remote workforce are facing a new organizational challenge. In addition to managing affairs, managers need to adopt new ways of leading their teams. The way you connect, enable and lead your remote team now, will set the trajectory for your next success.

Motivate and Inspire

Recognize that the dynamics of the office space must in some ways be recreated for a virtual workforce, but you can also re-envision and recreate your business for the better. A good virtual leader will start by clearly defining and then honing the virtual processes that will lead to success. Keep it simple. Move away from micro-management and delegate clear roles and benchmark goals with a heightened sense of trust. Prepare them and empower them.

Communication, Communication, Communication

Remote work-life integration and remote teamwork can be difficult and isolating. Communication is more critical than ever. Regular feedback and open communication boosts employees’ confidence in their work, improves mutual trust and ensures that managers are aware of issues as they arise. To create a culture of communication and enhance morale, give positive feedback generously and publicly when possible. This paves the way for effective feedback that is clearly understood and taken well by your employees. Remember, people won’t care how much you know until they know how much you care.

Tackle Problems Early

When businesses are operating in an environment of volatility, uncertainty, complexity and ambiguity, leaders must be sensitive to the barometer of the workforce where information is the freshest and most salient. Lead by example. Strengthen every available channel of virtual communication and be responsive and trustworthy. Conduct regular team meetings to check in, identify issues and tackle them together immediately.

Lead your virtual team with empathy and empower them to succeed.

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It’s been a year like no other. The sudden impact of the COVID-19 pandemic in March forced every business owner — ready or not — to execute his or her disaster response plan.

So, how did yours do? Although it may still be a little early to do a complete assessment of what went right and wrong during the crisis, you can take a quick look back right now while the experience is still fresh in your mind.

Get specific

When devising a disaster response plan, brainstorm as many scenarios as possible that could affect your company. What weather-related, environmental and socio-political threats do you face? Obviously, you can now add “pandemic” to the list.

The operative word, however, is “your.” Every company faces distinctive threats related to its industry, size, location(s), and products or services. Identify these as specifically as possible, based on what you’ve learned.

There are some constants for nearly every plan. Seek out alternative suppliers who could fill in for your current ones if necessary. Fortify your IT assets and functionality with enhanced recovery and security capabilities.

Communicate optimally

Another critical factor during and after a crisis is communication, both internal and external. Review whether and how your business was able to communicate in the initial months of the pandemic.

You and most of your management team probably needed to concentrate on maintaining or restoring operations. Who communicated with employees and other stakeholders to keep them abreast of your response and recovery progress? Typically, these parties include:

Staff members and their families,
Customers,
Suppliers,
Banks and other financial stakeholders, and
Local authorities, first responders and community leaders (as appropriate).

Look into the communication channels that were used — such as voicemail, text messaging, email, website postings and social media. Which were most and least effective? Would some type of new technology enable your business to communicate better?

Revisit and update

If the events of this past spring illustrate anything, it’s that companies can’t create a disaster response plan and toss it on a shelf. Revisit the plan at least annually, looking for adjustments and new risk factors.

You’ll also want to keep the plan clear in the minds of your employees. Be sure that everyone — including new hires — knows exactly what to do by spelling out the communication channels, contacts and procedures you’ll use in the event of a disaster. Everyone should sign a written confirmation that they’ve read the plan’s details, either when hired or when the plan is substantially updated.

In addition, go over disaster response measures during company meetings once or twice a year. You might even want to hold live drills to give staff members a chance to practice their roles and responsibilities.

Heed the lessons

For years, advisors urged business owners to prepare for disasters or else. This year we got the “or else.” Despite the hardships and continuing challenges, however, the lessons being learned are invaluable. Please contact us to discuss ways to manage costs and maintain profitability during these difficult times.

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A conflict of interest could impair your auditor’s objectivity and integrity and potentially compromise your company’s financial statements. That’s why it’s important to identify and manage potential conflicts of interest.

What is a conflict of interest?

According to the America Institute of Certified Public Accountants (AICPA), “A conflict of interest may occur if a member performs a professional service for a client and the member or his or her firm has a relationship with another person, entity, product or service that could, in the member’s professional judgment, be viewed by the client or other appropriate parties as impairing the member’s objectivity.” Companies should be on the lookout for potential conflicts when:

Hiring an external auditor,
Upgrading the level of assurance from a compilation or review to an audit, and
Using the auditor for a non-audit purposes, such as investment advisory services and human resource consulting.

Determining whether a conflict of interest exists requires an analysis of facts. Some conflicts may be obvious, while others may require in-depth scrutiny.

For example, if an auditor recommends an accounting software to an audit client and receives a commission from the software provider, a conflict of interest likely exists. Why? While the software may suit the company’s needs, the payment of a commission calls into question the auditor’s motivation in making the recommendation. That’s why the AICPA prohibits an audit firm from accepting commissions from a third party when it involves a company the firm audits.

Now consider a situation in which a company approaches an audit firm to provide assistance in a legal dispute with another company that’s an existing audit client. Here, given the inside knowledge the audit firm possesses of the company it audits, a conflict of interest likely exists. The audit firm can’t serve both parties to the lawsuit and comply with the AICPA’s ethical and professional standards.

How can auditors prevent potential conflicts?

AICPA standards require audit firms to be vigilant about avoiding potential conflicts. If a potential conflict is unearthed, audit firms have the following options:

Seek guidance from legal counsel or a professional body on the best path forward,
Disclose the conflict and secure consent from all parties to proceed,
Segregate responsibilities within the firm to avoid the potential for conflict, and/or
Decline or withdraw from the engagement that’s the source of the conflict.

Ask your auditors about the mechanisms the firm has put in place to identify and manage potential conflicts of interest before and during an engagement. For example, partners and staff members are usually required to complete annual compliance-related questionnaires and participate in education programs that cover conflicts of interest. Firms should monitor conflicts regularly, because circumstances may change over time, for example, due to employee turnover or M&A activity.

For more information

Conflicts of interest are one of the gray areas in auditing. But it’s an issue our firm takes seriously and proactively safeguards against. If you suspect that a conflict exists, contact us to discuss the matter and determine the most appropriate way to handle it.

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Are you wondering if the passive activity loss rules affect business ventures you’re engaged in — or might engage in?

If the ventures are passive activities, the passive activity loss rules prevent you from deducting expenses that are generated by them in excess of their income. You can’t deduct the excess expenses (losses) against earned income or against other nonpassive income. Nonpassive income for this purpose includes interest, dividends, annuities, royalties, gains and losses from most property dispositions, and income from certain oil and gas property interests. So you can’t deduct passive losses against those income items either.

Any losses that you can’t use aren’t lost. Instead, they’re carried forward, indefinitely, to tax years in which your passive activities generate enough income to absorb the losses. To the extent your passive losses from an activity aren’t used up in this way, you’ll be allowed to use them in the tax year in which you dispose of your interest in the activity in a fully taxable transaction, or in the tax year you die.

Passive vs. material

Passive activities are trades, businesses or income-producing activities in which you don’t “materially participate.” The passive activity loss rules also apply to any items passed through to you by partnerships in which you’re a partner, or by S corporations in which you’re a shareholder. This means that any losses passed through to you by partnerships or S corporations will be treated as passive, unless the activities aren’t passive for you.

For example, let’s say that in addition to your regular professional job, you’re a limited partner in a partnership that cleans offices. Or perhaps you’re a shareholder in an S corp that operates a manufacturing business (but you don’t participate in the operations).

If you don’t materially participate in the partnership or S corporation, those activities are passive. On the other hand, if you “materially participate,” the activities aren’t passive (except for rental activities, discussed below), and the passive activity rules won’t apply to the losses. To materially participate, you must be involved in the operations on a regular, continuous and substantial basis.

The IRS uses several tests to establish material participation. Under the most frequently used test, you’re treated as materially participating in an activity if you participate in it for more than 500 hours in the tax year. While other tests require fewer hours, all the tests require you to establish how you participated and the amount of time spent. You can establish this by any reasonable means such as contemporaneous appointment books, calendars, time reports or logs.

Rental activities

Rental activities are automatically treated as passive, regardless of your participation. This means that, even if you materially participate in them, you can’t deduct the losses against your earned income, interest, dividends, etc. There are two important exceptions:

You can deduct up to $25,000 of losses from rental real estate activities (even though they’re passive) against earned income, interest, dividends, etc., if you “actively participate” in the activities (requiring less participation than “material participation”) and if your adjusted gross income doesn’t exceed specified levels.
If you qualify as a “real estate professional” (which requires performing substantial services in real property trades or businesses), your rental real estate activities aren’t automatically treated as passive. So losses from those activities can be deducted against earned income, interest, dividends, etc., if you materially participate.

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On September 17, the Financial Accounting Standards Board (FASB) issued an accounting rule that will provide more detailed information about noncash contributions charities and other not-for-profit organizations receive known as “gifts in kind.” Here are the details.

Need for change

Gifts in kind can play an important role in ensuring a charity functions effectively. They may include various goods, services and time. Examples of contributed nonfinancial assets include:

Fixed assets, such as land, buildings and equipment,
The use of fixed assets or utilities,
Materials and supplies, such as food, clothing or pharmaceuticals,
Intangible assets, and
Recognized contributed services.

Increased scrutiny by state charity officials and legislators over how charities use and report gifts in kind prompted the FASB to beef up the disclosure requirements. Specifically, some state legislators have been concerned about the potential for charities to overvalue gifts in kind and use the figures to prop up financial information to appear more efficient than they really are. Other worries include the potential for a nonprofit to hide wasteful use of its resources.

Enhanced transparency

Accounting Standards Update (ASU) 2020-07, Not-for-Profit Entities (Topic 958): Presentation and Disclosures by Not-for-Profit Entities for Contributed Nonfinancial Assets, aims to give donors better information without causing nonprofits too much cost to provide the information.

The updated standard will provide more prominent presentation of gifts in kind by requiring nonprofits to show contributed nonfinancial assets as a separate line item in the statement of activities, apart from contributions of cash and other financial assets. It also calls for enhanced disclosures about the valuation of those contributions and their use in programs and other activities.

Specifically, nonprofits will be required to split out the amount of contributed nonfinancial assets it receives by category and in footnotes to financial statements. For each category, the nonprofit will be required to disclose the following:

Qualitative information about whether contributed nonfinancial assets were either monetized or used during the reporting period and, if used, a description of the programs or other activities in which those assets were used,
The nonprofit’s policy (if any) for monetizing rather than using contributed nonfinancial assets,
A description of any associated donor restrictions,
A description of the valuation techniques and inputs used to arrive at a fair value measure, in accordance with the requirements in Topic 820, Fair Value Measurement, at initial recognition, and
The principal market (or most advantageous market) used to arrive at a fair value measurement if it is a market in which the recipient nonprofit is prohibited by donor restrictions from selling or using the contributed nonfinancial asset.

The new rule won’t change the recognition and measurement requirements for those assets, however.

Coming soon

ASU 2020-07 takes effect for annual periods after June 15, 2021, and interim periods within fiscal years after June 15, 2022. Retrospective application is required, and early application is permitted. Contact us for more information.

New Business? It’s a Good Time to Start a Retirement Plan

Nonprofits: Internal Audits Still Matter

How Election Day Should (or Shouldn’t) Affect Your Portfolio

Three Keys to Virtual Leadership

Reviewing Your Disaster Plan in a Tumultuous Year

Avoiding Conflicts of Interest With Auditors

Understanding the Passive Activity Loss Rules

Gifts in Kind: New Reporting Requirements for Nonprofits