I believe that if you, as a business owner, want to become and remain financially free, you should adopt this mentality: Write off anything you legitimately can, but only buy something for the business that has the primary objective of making the business more profitable. In other words, if it doesn’t lead to greater production of income, you probably shouldn’t do it.
Kyle J. Christensen
By Kyle J Christensen, Founder, Principles-Based Planner, Unique Advantage
Unique Advantage Monthly Client Email – June 2024
(*Disclaimer: I am not a certified tax accountant or tax attorney. Please seek advice from a qualified professional tax advisor for anything you have questions about related to this article.)
In the previous two Unique Advantage Monthly Client Emails we discussed the first two ways you can reduce your income taxes:
1) Reduce Your Income, and
2) Recharacterize Your Income.
This email will round things out by giving you the third way you can reduce your income taxes, which is to:
3) Increase Your Business Expenses.
If we were to look at the tax code, by far the majority of ways a person can reduce taxes are related to owning a business. As such, it’s no wonder that most people who attain millionaire status do so by investing in their own businesses. One reason is that business owners can write off expenses for tax purposes that W2 employees cannot. Business owners can often write off their vehicle expenses, internet, cell phone service, a portion of their house, and many other items that otherwise wouldn’t be allowed by a W2 employee. Although we want every tax advantage we can get, it’s important to keep in mind that “writing things off” isn’t the objective. Achieving financial freedom is.
I want to start by saying that I sincerely appreciate my accountant. I’ve used the same accountant for about 15 years now. He does a great job and doesn’t charge me outrageous fees. He knows his stuff. He is timely. He is responsive. Again, I appreciate him and what he does for me. At the same time, I know what his role is. For the most part, his role is to help me know about ways that I can reduce my tax burden each year. Typically, this is an exercise of looking backwards at the prior year as we get ready to prepare my tax return for that year.
For the most part, tax accountants are not looking forward very far into the future (usually they are looking at the current year, at most, and the prior year, at least). They are not looking for ways to make us financially free. That isn’t their role. That isn’t what they were trained to do. Most people think very highly of their Certified Public Accountant (CPA) — some even mistakenly believe that their CPA has had specific training on the topic of personal financial planning. That may be, but it certainly isn’t part of the training required for becoming a CPA. The truth is, most accountants have little if any training related to insurance, investments, debt management, retirement, estate planning, etc (all areas of personal financial planning outside of personal income taxes). There isn’t a single question on the CPA exam that addresses any of the areas I just mentioned.
People’s tax accountants, for the most part, hold a very trusted position. Why?
1) Because most people know less about taxes than I do about auto mechanics (my knowledge of auto mechanics is super low).
2) Because most people are very afraid of “the tax man” (the IRS). As such, when a business owner’s accountant tells them they should do this or that, it’s usually met with complete unquestioning compliance.
3) No one likes paying taxes. Thus, accountants help us reduce our tax pain. So, when the accountant says, “You can reduce your taxes by…”, most people respond with “Ok. Sounds good.” The problem is, just going along with the accountant’s advice may just be “letting the tax-tail wag the dog”. In other words, it may be placing the avoidance of taxes (oftentimes only temporarily) above the objective of financial freedom.
As a business owner, I can write off any “legitimate” expense related to my business. To be considered “legitimate” is a pretty broad range. I could, for example, possibly write off the purchase of a vehicle every year if I wanted. I could do a bunch of traveling and make them “business trips” (there are certain requirements for doing this, so let’s assume I would have complied with all the requirements). I could buy new computers, and new cell phones. I could get a new copy machine every year. I could buy more promotional items. I could do tons of things that would increase my write-offs for the year.
But should I?
I believe that if you, as a business owner, want to become and remain financially free, you should adopt this mentality: Write off anything you legitimately can, but only buy something for the business that has the primary objective of making the business more profitable. In other words, if it doesn’t lead to greater production of income, you probably shouldn’t do it. In his influential book, Atomic Habits, James Clear writes about the amazing turnaround story of the British Cycling team.
“Since 1908, British riders had won just a single gold medal at the Olympic Games, and they had fared even worse in cycling’s biggest race, the Tour de France. In 110 years, no British cyclist had ever won the event.“
That is, until they hired a new performance director named Dave Brailsford in 2003. What did Mr. Brailsford do that would change things for this struggling team? He had a philosophy that he called “the aggregation of marginal gains.” This philosophy looked at small and simple ways of making improvements. It looked at the aggregate (the combination) effect of all of the small changes over time, versus trying to make one massive change. Essentially, they adopted the motto: whatever wasn’t going to make them faster on their bikes, they weren’t going to do it. And any little thing that would make them ride faster, they were going to do.
The result?
“Just five years after Brailsford took over, the British Cycling team dominated the road and track cycling events at the 2008 Olympic Games in Beijing, where they won an astounding 60 percent of the gold medals available. Four years later, when the Olympic Games came to London, the Brits raised the bar as they set nine Olympic records and seven world records.
James Clear
That same year, Bradley Wiggins became the first British cyclist to win the Tour de France. The next year, his teammate Chris Froome won the race, and he would go on to win again in 2015, 2016, and 2017…
During the ten-year span from 2007 to 2017, British cyclists won 178 world championships and sixty-six Olympic or Paralympic gold medals and captured five Tour de France victories in what is widely regarded as the most successful run in cycling history.”
In summary, yes, you can decrease your tax burden by adding more business expenses throughout the year. You can pay your kids a salary. You can buy new equipment every year. You can purchase new vehicles every year. But the question you really should be asking is, “is that new expense going to increase my business cash flow or decrease it? Is that going to help me get closer to achieving financial freedom or is it going to take me further from it?” If we adopt a mindset that is more like the British Cycling team under the direction of Bradley Wiggins, we’ll likely make better decisions in this regard.
