Transcript 093 – Andrea Miller on Business Insights from Tax Returns

Transcript: Episode 093 – Andrea Miller on Business Insights from Tax Returns

Transcript for Episode 093 – Andrea Miller on Business Insights from Tax Returns

 

Andrea Miller: Hey! It’s Andrea with Music Studio Startup, the podcast about the business of teaching music. Learn from the startup stories of music teachers who are doing incredible things with their studios. Be inspired by creating musicians who are branching out and thriving as entrepreneurs. Be empowered by the insights of experts who will help you grow your own studio. Let’s get started.

[00:00:36]

This time of year, I get a lot of financial questions from teachers. We’ve just gotten through the holiday spending spree, new year’s might’ve inspired some financial goals, and then there’s the looming tax deadline in April. So there’s a lot to think about. Sometimes the questions I get are really specific to an individual, but lately, a bunch of clients and listeners have said,” Hey, you talk about reviewing financials on a regular basis as a way of getting more familiar with my financial picture, but what exactly should I be reviewing?”

And they’re totally right. I have not been very specific here. So today I’m going to do that. There are a lot of ways to approach this, but since we’re in tax season, I thought I’d use that as our jumping off point. This is going to be quick because this review, doesn’t have to take a long time.

[00:01:19]

 So sometimes when we talk about taxes, we talk as if it’s this random game that we either win or lose. We plug a bunch of numbers into a form for a tax preparer, or enter them into boxes in software and watch the little number at the top go up and down: cheering when it’s green and groaning when it’s red. If we get a refund, we won. If we have to pay, we’ve lost. Intellectually, I think we know this isn’t really how it works.

A refund status is no indication of your business or personal financial health, but sometimes it’s the only number we were really paying attention to. What I’d like to do today is point out some meaningful numbers you can gather from your completed tax returns as a way of getting better acquainted with your business and personal finances.

[00:02:03]

We are going to get our hands a little dirty and actually dig through some tax forms. Don’t worry. I’m going to tell you exactly which line numbers to look at, but that said it would be helpful to have a tax return on hand when you’re listening. Now, most of you are probably doing the dishes or walking the dog as you listen to this. If you’re the sort of person who keeps the tax return on you at all times so you’re ready for an impromptu financial analysis anytime the mood strikes, this is your moment. For the rest of the world, go ahead and listen and just relisten when you can have your tax return in front of you. This is a quick review you can do it after you’ve completed your tax prep or gotten the returns back from your tax preparer.

[00:02:39]

Here we go. Today, we’re going to answer some business finance questions and some personal finance questions. On the business side, we’ll look at five numbers:

1 – total business income

2 – total expenses

3 – net profit

4 – profitability and

5 – self-employment taxes.

[00:02:57]

On the personal side, we’ll look at four numbers:

1 – total income

2 – total taxable income

3 – total taxes owed and

4 – effective tax rate.

[00:03:08]

There are a lot of things we could look at, but again, this is supposed to be a quick and painless starting point. To get these numbers we’ll look at three parts of a tax return: Form 10-40, Schedule C, and Schedule SE. Go ahead and pull them out now, if you’re in a place to do so. We’re going to start on the business side with a Schedule C. This schedule is pretty much like the income statement or profit and loss your studio management or accounting software might generate. It shows the income and expenses of the business. Take a look at your total revenue on line seven and your total expenses on line 28. Those are our first two numbers. The third number is the difference between total revenue and total expenses. Plus a home office expense if you took it. This is your net profit. Or, if your expenses were higher than your income, your net loss. That number is on line 31. If you’re already in the habit of reviewing your profit and loss on a regular basis, these numbers are probably not surprising to you. If this isn’t a habit you’ve developed, I highly recommend it. Next step is profitability, and here we’re actually going to do a calculation. In finance there are a lot of different measures of profitability, but we’re going to do a very basic profit margin calculation.

[00:04:23]

To do this, take your net income and divide it by your total revenue. Say total revenue was $60,000 and net income is $48,000. 48,000 divided by 60,000 is 0.8 or 80%. That is your measure of profitability. Side note here, teachers have asked me what a good or typical profit margin is, and like with so many financial things the answer is, it depends. I bring up this number, not so you can compare your studio to another, but because it allows teachers to simply quantify something they might already be feeling. If you’ve had months where finances feel tight and other months where finances feel fine, tracking this profit margin on a monthly basis could shed some light on the situation.

[00:05:09]

The last number we’re going to look at on the business side is our total self-employment taxes owed. For that, we’re going to Schedule SE and looking at line 12. The reason I point this number out is because we tend to look at taxes as one giant lump sum because they’re all totaled up on our personal income tax return, but we’ve really got two things going on here: the self-employment taxes, which are based on the business income and expenses, and then when we hop over to the personal side, we have federal income taxes. So what you’re looking at on line 12 are the self-employment taxes. With that we’ve reviewed the business side of things. Our total business income, expenses, net income or loss, profitability, and self-employment taxes owed.

[00:05:53]

 On the personal side, we’re going to look at the form 10-40, and this is really a summary sheet of our entire financial picture as it relates to taxes. The four things I want to look at here are total income, taxable income, total taxes, and effective tax rate. The first number to look at is our income. Self-employment or business income gets pulled over onto line eight, and the total income for our household from all sources is on line nine. When a survey asks what your annual household income is, that’s the number they’re talking about. But that’s not actually the amount you’re taxed on, which brings us to our second number on the personal side: our taxable income. This number is down a little further on line 15, after some lovely deductions, which I’m not going to get into today.

[00:06:37]

The amount on line 15 is the amount our federal income taxes are based on. Next, we’re going to flip over to the second page of the form 10-40 and look at our total tax on line 24. This is the combined total of self-employment taxes and federal income taxes. That’s what you actually owe for taxes. If you paid more than that with quarterly estimated payments, you’ll get a refund. If you paid less than that number, you’ll owe the remainder at tax time. Knowing whether you over or underpaid can help you know how to adjust your quarterly estimated payments for the next year. I want to wrap up the personal side by determining our effective tax rate. This will tell you what percentage of your income actually went to taxes. To calculate your effective tax rate take the total tax from line 24 and divide by total income on line nine. This effective tax rate can be really handy if you’re trying to put together a rough budget. It’s not perfect, but you can round up to be conservative and it’s a good starting point.

[00:07:35]

 The first time you go through these numbers, you may not get a lot out of it. One year’s numbers, by themselves, often don’t mean a whole lot. They start to become more meaningful when you compare year over year or month over month. You could go through this review right now with last year’s return, and then go through it again once you’ve completed your 2021 return. When you compare, observe any ups or downs. Fluctuations are normal and even big fluctuations aren’t necessarily bad. They’re kind of like the check engine light on your dashboard that cues you to look a little deeper and ask more questions. That’s it. Some key numbers to review from your tax return to start building that financial confidence.

[00:08:13]

If this episode was helpful, let me know. I might consider doing more episodes on topics like this. I’ll also share some other tax resources in the show notes at musicstudiostartup.com/episode093. You’ll also be able to find information for our studio grant competition, which will be opening soon. This includes cash prizes and some amazing products and services that’ll help a new teacher start a strong studio. That’s all for today. Thanks for listening. I’ll be back next week.

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