Volume 26 Number 2, Summer 2005

• Business Continuity Planning: Will Your Business Be Ready When Disaster Strikes?
  
  
• IRS Relaxes Harsh Rule for FSAs
  
  
• How do I Claim a Tax Deduction for Power Surge Damage?
  
  
• Tread Carefully When Deducting "Luxury" Business Expenses
  
  
• The Better Way

Business Continuity Planning: Will Your Business Be Ready When Disaster Strikes?
by Lisa K. Molnar, CCP

You arrive at work one morning to find your business is without power, or there has been a chemical spill and the area around your business is off limits until further notice, or a water pipe burst, flooding the basement of your building where you stored your backup records as well as giving your computer equipment an unexpected shower. What do you do?

Most small business owners fail to make even minimal plans, and end up unprepared for minor or catastrophic emergencies. Consequently, 25% of small businesses that close because of fires, floods, or other disasters never reopen, according to the Institute for Business & Home Safety. And 40% of all small businesses hit by a disaster close within 5 years, per statistics from Fireman’s Fund Insurance. Why? Entrepreneurs’ awareness of disaster planning is "pretty much nonexistent" says Gartner Research of Stamford, CT. "To stay in business you have to have a plan in place."

Business Continuity Planning (BCP) is the most current form of disaster recovery planning (DRP). DRPs take into consideration all of those "acts of God" – earthquakes, floods, hurricanes, tornados, fires, etc. Those types of events, and the need for a DRP, are just so easy to dismiss. After all, the probability of them actually happening to your business is relatively small.

BCP, however, considers any form of interruption to your business, not just those caused by some remote and unusual "disaster." BCP planning begins with determining your business’s bottom-line needs. What are your critical business functions and how long, if at all, can you do without them? Which functions are more critical than others? For which functions can you accept the losses if you have to do without them for an extended period of time? What happens to payroll? What about your debt obligations? How long can you go without making sales calls? How will you service clients or collect revenues?

Once you have identified and prioritized your business functions, BCP asks you to "think outside the box" about what might cause those functions to be temporarily interrupted or to cease altogether. Then prioritize those functions and their associated risks based on the probability they might actually occur and the impact to your business if they did occur. How long will your inventory last if a key supplier goes belly-up or a transportation center closes? What happens if you lose power? Where are your critical records, in both paper and electronic forms? Where will you go if you can’t operate from your current location? What will you do for funds?

We haven’t really mentioned the Information Technology (IT) staff yet. The old fashioned DRP was generally driven by the IT staff. However, a BCP should be driven by the business functions and the business owners. While the IT staff supports the business owners and should be an integral player in creating the BCP, IT no longer owns the emergency plan. Driven primarily by the business owners, a BCP is a team effort.

The team should create the emergency plan next. This may be one master plan or a multi-faceted plan addressing several different interruption scenarios. The BCP should address, at a minimum:

- Designated employees who are authorized to enact the emergency plan. You’ll need more than one.

- Phone lists and guides as to who makes calls and in what order. Consider notifications via pagers, PDAs, cell phone text messaging, and email.

- Alternative points of communication, such as radio announcements, phone numbers that can be called for information, or even websites.

- Alternative working spaces and equipment. Computers, phone lines, email connections, desk space, and specialized equipment.

- Alternative work processes. Can you pare down the current processes and maintain control? Can you substitute manual processes for your automated ones? How do you capture inputs for less critical processes for later processing?

- Backup of critical data and software, how to retrieve it, and who is authorized to do so.

- Physical and logical security while in emergency mode. Will that differ during the recovery effort? Who or how are deviations from "normal" security authorized?

- Insurance coverage – adequate property, liability, and business interruption insurance.

- Funds. How will you pay for your immediate operational needs? How will you pay your employees? Will you be able to collect revenues?

- Define a plan for conversion back to "normal" operations.

- Evaluate the BCP. What worked well? What didn’t work?

Drafting a good BCP requires hashing out these and many more issues related to your critical business functions. Copies of the BCP should be kept in a variety of off-site places. The BCP needs to be reviewed and updated periodically. And the BCP needs to be tested – and not just on paper.

Of course, your company may be willing to accept the risk that comes from not having a business continuity plan. But in today’s fast moving, interconnected world, that isn’t practical. Contact a local SEK&Co office for help in setting up an emergency plan for your business.

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IRS Relaxes Harsh Rule for FSAs

If your employees have been complaining about the "use-it-or-lose-it" feature of flexible savings accounts, you can give them some good news. The IRS has changed the rule so workers have 2 ½ more months to use their accounts. The IRS announced the important change in late May. However, the change isn’t automatic. Employers have to amend their benefit plans to offer the extra time.

Use or lose. FSAs are special accounts, funded with pre-tax dollars, for medical expenses. Under current rules, workers have to use the money in their FSAs by the end of the year or forfeit the balance to their employers.

This harsh rule discourages people from using FSAs.  Many people don’t want the hassle at the end of the year of rushing to spend their FSA savings, frequently buying items whether they need them or not, just so they use up the money.

New grace period. Now, the IRS is allowing employers "a grace period" to give workers 2 ½ more months into the next year to use their FSA dollars.

Employers can adopt a grace period for the current cafeterial plan year, or for future years, by amending their plan documents before the end of the plan year.

Example. ABC Co. offers FSAs to its employees under a calendar year cafeteria plan of benefits. ABC amends its plan to give employees an additional 2 ½ months into the next year to use their accounts. Josie works for ABC. She has $150 in her FSA on December 31. Because her employer has adopted the 2 ½ month "grace period," Josie can apply the $150 to health care expenses incurred before March 15 of the following year.

If you would like to offer your employees this extra benefit (at no tax cost to you), give our office a call. We can help you amend your plan to get this welcomed change in place as soon as possible.

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How Do I Claim a Tax Deduction for Power Surge Damage?

Power surges seem to be more common these days, or at least they are being noticed more frequently. Sensitive electronics found in many appliances and home entertainment systems, as well as the well-known dangers to computers and related equipment, have contributed to lots of damage caused by electrical surges, especially during the summer storm season. In repairing and replacing damaged equipment, don’t forget about claiming a casualty loss deduction to get back at least some of the cost.

Damage to business equipment may be deducted in full on the business tax return, whether it be for a corporation, partnership or sole proprietorship. For personal property not connected with a business, however, the damage may be taken only as an itemized casualty loss deduction on Form 1040, Schedule A. In both situations, the dollar amount of the damage must be proven to get a deduction.

In the case of damage to personal property, you will also be limited by a $100 floor for each casualty event and to an overall floor of 10 percent of your adjusted gross income for all casualty losses that are taken during the year. While the 10 percent floor prevents minor damage from being deducted if it is your only damage during the year, minor damage is deductible if it adds up to more than 10 percent of your adjusted gross income or if combined with a major loss, it is more than the 10 percent amount.

Individuals with damaged personal property as the result of a power surge should remember that the $100 floor is applied to each "event" rather than to each piece of property that is damaged. That means that the damage to each property doesn’t need to be more than $100, as long as the total damage from one storm adds up to over $100. In addition, if you have damage other than the power surge (for example, a tree falls on your property and needs to be removed during the same storm), that is also lumped together for purposes of subtracting only a single $100 amount from the amount you claim as the casualty loss deduction.

The challenges in taking the deduction are to prove that one storm event caused all your power-surge damage and then that the total dollar amount of the damage is what you say it is for deduction purposes. While you don’t need to attach the proof to your tax return, you must be prepared to show it to the IRS if you are audited.

You should keep a file of the damage. Use of copy of a news or weather report to show the occurrence of the storm. Try to get a statement of the event from your power company. Repair or replace the damage as soon after the event as possible to create a stronger inference that the damage was caused by one storm or other power interrupting event. When getting something repaired, ask the technician to write "power surge damage" or other such notation on your bill.

Proving the amount of the damage is the more difficult undertaking. Obviously, replacing a 10 year old damaged TV with a 36 inch plasma flat screen model won’t prove that your damage is the cost of the replacement. If the damage was done to a relatively new electrical component (and you can prove it was relatively new), however, replacement value, less about 15 percent, might be a good estimate of damage. If the property is destroyed and you decide not to replace it, you face a similar problem to prove value for a used item. Keeping good records are essential. A video of your electronic valuables is always a good idea for fire loss as well as storm damage. Store the video off premises for safe keeping.

Dealing with repairs is easier. The cost of parts and labor usually should serve as the exact measure of damages.  Just make certain that the bill mentions replacement (rather than upgrade, for example, if your computer’s mother board is replaced), and that the cause of the repair is noted.

Any damage reimbursed by your homeowner’s insurance or any equipment warranties cannot also serve as a casualty loss deduction.

If you have any questions on how a casualty loss deduction works, either now or after our next storm, please do not hesitate to call our office for assistance.

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Tread Carefully When Deducting "Luxury" Business Expenses

Many people are surprised to learn that some "luxury" items can be deductible business expenses, however excessive spending is sure to attract the IRS’s attention. As some recent high-profile court cases have shown, the government isn’t timid in its crackdown on business owners using company funds for personal travel and entertainment.

First class travel. The IRS doesn’t require that your business travel be the cheapest mode of transportation. However, the expense as it is relative to the business purpose must be reasonable. Taking the Queen Mary II across the Atlantic to a business meeting in the U.K. could raise a red flag at the IRS.

As long as your business is operated legitimately as a business and not a hobby, traveling first class generally is permissible. Even though a coach airline seat will get you to your business appointment just as quickly and an inexpensive hotel room is a place to sleep,  the IRS generally won’t try to reduce your deduction.

However, if your trip lacks a business purpose, the IRS will deny your travel-related deductions. Don’t try to disguise a family vacation as a business trip. Many people are tempted; it’s not worth the consequences, especially in today’s environment where the IRS is aggressively looking for business abuses.

Conventions. Convention expenses are deductible if a sufficient relationship exists to your profession or business and the convention is in North America. No deduction is allowed for attending conventions or seminars about managing your personal investments.

Overseas conventions definitely get the IRS’s attention. If you want to deduct the costs of attending a foreign convention, you have to show that the convention is directly related to your business and it is as reasonable to hold the convention outside North America as within North America.

Country clubs expenses. Country club dues are not deductible. In fact, no part of your dues for clubs organized for business, pleasure, recreation, or social purposes is deductible.

Some country club costs may be partially deductible if you can show a direct business purpose and you meet some tough written substantiation requirements. These include greens fees as well as food and beverage expenses. They may be deductible up to 50 percent.

Meals and entertainment. Younger colleagues don’t remember when business meals were 100 percent deductible and deals were brokered at "three martini lunches." Meals haven’t been 100 percent deductible for a long time and, like other entertainment expenses, the IRS combs them carefully for abuses.

Expenditures for meals, entertainment, amusement, and recreation are not deductible unless they are directly related to, or associated with, the active conduct of your business. The IRS also requires you to keep a written or electronic log, made at the time you make the expenditure, recording the time, place, amount and business purpose of each expense.

Even if you pass the two tests, only 50 percent of meal and entertainment expenses are deductible.  If you write-off business meals through your company and there is a proper reimbursement arrangement in place, you won’t be charged with any imputed income for the half that is not deductible, but your company will be limited to a 50 percent write-off.

There's never a bad time to work on tax planning. Please contact your local SEK&Co office to discuss this or other tax planning concerns.

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The Better Way

Hi Bracket was very disillusioned with the stock market. At best it seemed to be moving sideways. Everyone said, "Hi, real estate is red hot -- get into that." Why not?! Interest rates were low, money plentiful, leverage was easy. Just buy real estate, wait a while and make a fortune. Even better, the fortune was taxed at capital gains rates -- only half of his regular rate. How sweet!

When tax time came, Hi was very upset to find out that the interest he paid was called "investment interest" and was only deductible to the extent of investment income (dividends and interest). Wait a minute -- that's the stuff he decided not to invest in. Of course he could offset it against capital gains if he elected to have them taxed as ordinary income and give up the low rate.

Ah! Suppose there was some rental income. Then he could claim the interest as a rental expense. Guess what? The rental loss was not deductible either. So much for a good thing.

The Better Way would be to plan such activities in advance and be aware of limitations and carryovers. We often help clients structure deals to minimize such limitations. Give us a call -- up front.

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