Tax Accounting vs Management Accounting
Death and taxes. The two guarantees.
Tax laws have a real impact on your business effecting everything from your choice of business structure to how you compensate employees and myriad things in between. You need a good tax accountant. Preferably, one who understands your ranch and relevant tax law. Truth be told, there are some gray areas in the US tax code, so you also want to choose one who matches your personality. Some are a little more aggressive, others more conservative. One isn’t better than the other, but one may be a better match.
Your tax account has a pretty singular purpose: minimize your tax bill while keeping you in compliance with the law. Want to eliminate taxes? Don’t make any money or pass any assets. Simple.
Simple, but stupid. Especially if you do it long enough that the IRS categorizes your ranch as a hobby. Now you have an entirely different tax problem. Most people don’t ranch for the purpose of minimizing taxes. Most people have visions for the future of their ranch that extend beyond their own life. There’s something magical about ranching that gets us thinking about legacy. Maybe it’s the open spaces that expand our minds. Maybe it’s mental illness. More than other industries, farmers and ranchers want future generations of our families to enjoy the fruits of our hard work. And in reality, it often takes time to build a great ranching business, so it’s well suited to multiple generation businesses.
Whether you use the word sustainable, regenerative, holistic, legacy, perpetual, or something else to indicate a desire to ranch long-term, finances are an important pillar of that process. That’s where our tax accountant is necessary but inadequate. Because minimizing taxes doesn’t drive us to the cash flow and profitability that fuels the growth so that we have something to pass on. Good bookkeeping and management accounting give us the information we need to run the business so that it generates a profit, even generates some tax liability. Management accounting helps us understand the influence of our actions, often in real time. Are we better off to sell the extra 1,000 tons of hay, or feed some calves? How much cash will we need in August? Should I charge this load of feed to replacement heifers or cows? Should I hire one more cowboy?
In short, the purpose of bookkeeping and management accounting is to give your business the metrics it needs to fulfill its vision. It is well worth considering the tax implications along the way. But that is strictly secondary to running a great business. Start with a great profit, then make adjustments to minimize tax liabilities. Not the other way around.
Our tax accountant and attorneys can be especially helpful to us with the thorny issue of intergenerational transfer. But what’s the use of passing on a legacy that’s a money drain on your descendants. I know families that aren’t that thankful to their ancestors for handing them an albatross. Imagine the difference between inheriting a ranch that generates $500k of free cash flow each year or one that requires your heirs to pony up $500k each year. Now imagine inheriting the $500 annual liability AND an inheritance tax liability. Better yet, imagine that you don’t have that kind of cash on hand, the ranch came from your in-laws, and you have some past-due medical bills for your disabled child. While everyone enjoys dealing with the IRS, this might not be quite the gift you had intended.
Minimizing taxes doesn’t create anything. Build a good business that generates income. That’s what creates wealth.