It’s December, and MSP owners across the country are making hasty equipment purchases to reduce their tax burden. But as Paul McCann, CEO of Red Earth CPA, pointed out in our recent Office Hours session, “If you just start throwing expenses in there to reduce your taxes, you limit the value of your business… More income through your company means a higher asset value of your company.”
The Real Cost of Panic Buying
When you rush to purchase equipment you don’t need, you’re not just spending money – you’re potentially diminishing your business’s value in multiple ways:
- Decreased Business Valuation: Most MSP valuations are based on a multiple of EBITDA or revenue. When you artificially deflate your profits through unnecessary purchases, you’re directly impacting your company’s value. This becomes particularly crucial if you’re considering selling your MSP in the next few years.
- Tied-Up Capital: Every dollar spent on unnecessary equipment is a dollar that could have been invested in growth initiatives, hiring key personnel, or maintaining a healthy cash reserve for opportunities or emergencies.
- Hidden Operational Costs: New equipment doesn’t just cost money to purchase – it requires:
- Storage space
- Maintenance and updates
- Asset tracking and management
- Eventually, proper disposal
- Insurance coverage
- Energy consumption
- Opportunity Cost: The funds used for panic buying could be better allocated to:
- Marketing and business development
- Employee training and certification
- Client experience improvements
- Strategic acquisitions
- Building an emergency fund
As McCann notes, “The value play is really when you start running a business. The tax deductions are out there. The amount of money you spend on tax prep should pay for itself multiple times over.”
Strategic Alternatives to Last-Minute Purchases
1. Manage Your Timing
Timing is everything in tax planning, and it goes beyond just December decisions. Here’s how to make timing work for you:
- Revenue Recognition: Carefully plan when to send invoices and collect payments. As McCann shared in his case study about a $100,000 project invoice, timing can significantly impact your tax situation.
- Service Contract Renewals: Consider structuring your contracts to align payment timing with your tax strategy.
- Project Completion Dates: When possible, align major project completions with your tax planning strategy.
- Vendor Payment Scheduling: Negotiate payment terms that benefit both your cash flow and tax position.
2. Leverage Prepaid Expenses
Prepaid expenses offer a strategic way to manage your tax burden while actually investing in your business’s future. Consider:
- Insurance Premiums: Pay your annual premiums in advance
- Software Licenses: Pre-pay for annual or multi-year licenses
- Marketing Services: Pre-pay for upcoming marketing campaigns
- Professional Services: Pay for consulting or legal services in advance
- Training and Certifications: Pre-pay for upcoming training programs
- Conference Registrations: Book and pay for next year’s events
- Office Lease: Consider prepaying rent if beneficial
McCann advises, “If you have money sitting around in the account, you got a good year and cash is in the bank, you can call up your vendors and say, ‘Hey, I’d like to pay for this service.'”
3. Explore Tax Credits
Instead of focusing solely on deductions through purchases, investigate available tax credits:
- R&D Credits: Many MSPs qualify without realizing it through:
- Developing custom client solutions
- Testing new security implementations
- Creating automated workflows
- Integrating complex systems
- Employee Retention Credits: These can still be claimed retroactively
- Work Opportunity Tax Credits: For hiring from certain target groups
- Energy-Efficient Commercial Building Deduction: For office improvements
- State-Specific Credits: Many states offer additional technology-focused credits
The Circle of Control
McCann referenced Stephen Covey’s concept of staying within your circle of control, and this principle is particularly relevant for tax planning. Here’s how to apply it:
What You Can Control
- Timing of income and expenses
- Business structure and accounting methods
- Documentation and record-keeping
- Professional relationships (CPAs, tax advisors)
- Investment in tax planning education
- Implementation of tax-efficient processes
What You Can Influence
- Client payment timing
- Vendor payment terms
- Employee benefit structures
- Investment opportunities
- Market positioning
What’s Outside Your Control
- Tax law changes
- Market conditions
- Economic factors
- Client business performance
- Competitor actions
By focusing on what’s within your control, you can develop a more strategic approach to tax planning rather than reacting to external pressures.
Looking Ahead: Building a Year-Round Tax Strategy
Rather than making December a crisis point, develop a year-round tax strategy:
Q1 (January-March)
- Review previous year’s tax efficiency
- Set tax planning goals for current year
- Implement new accounting procedures
- Schedule quarterly tax planning meetings
Q2 (April-June)
- Conduct mid-year tax projection
- Review business structure efficiency
- Evaluate new tax credit opportunities
- Assess capital expenditure needs
Q3 (July-September)
- Update tax projections
- Begin year-end planning
- Review employee benefit programs
- Evaluate retirement plan options
Q4 (October-December)
- Execute year-end tax strategy
- Make final timing decisions
- Document tax positions
- Plan for next year
Take Action Now
Instead of rushing to make last-minute purchases, follow this strategic approach:
- Immediate Actions (Next 24 Hours)
- Download your current P&L and balance sheet
- List all planned major expenses
- Review accounts receivable aging
- Schedule a meeting with your tax advisor
- Short-Term Actions (Next Week)
- Create a cash flow projection through year-end
- Identify potential prepayment opportunities
- Review vendor contracts for renewal opportunities
- Document potential tax credit activities
- Medium-Term Actions (Next Month)
- Develop a formal tax planning strategy
- Set up tax planning metrics in your PSA/accounting software
- Create a tax documentation system
- Schedule quarterly tax planning reviews
- Long-Term Actions (Next Year)
- Implement monthly tax strategy reviews
- Develop tax-efficient business processes
- Build relationships with tax professionals
- Invest in tax planning education
Remember McCann’s advice: “Don’t let the tax tail wag the dog.” Focus on building a valuable business first, and let tax strategy support – not drive – your business decisions.
More Tax Planning Strategies from Office Hours
While we’ve focused on moving beyond December equipment purchases, this is just one of several valuable tax planning strategies discussed in our recent Office Hours session. During the full webinar, Paul McCann, Baxter Lanius, and Steve Taylor explored additional topics including:
- Understanding R&D tax credits specifically for MSPs
- Optimizing owner compensation in S-corps
- Taking advantage of retirement plan credits
- Strategic revenue recognition timing
- The “Augusta Rule” and other tax-saving opportunities
Watch the Full Recording
Don’t miss out on these additional strategies that could help optimize your MSP’s tax position. The complete Office Hours session includes detailed explanations, case studies, and answers to common MSP tax planning questions.
This article was based on our December 5, 2024 Office Hours session. Join us for upcoming Office Hours sessions on Thursdays at 4:00 PM ET.
