Dennis BeaverFebruary 10, 2023 • By Dennis Beaver

It is more than the American dream. Many would say that it is our birthright: starting a business.

“Regardless of what kind of business,” observes Bakersfield-based CPA Michael Stevenson. “The risk of failure should always be kept in mind along with a large question mark: ‘What, if anything, could I be doing wrong? What have I missed?’”

Answers spell Success or Failure

Agreeing with his colleague, Dr. Di Wu, department chair associate professor of accounting at California State University, Bakersfield, strongly maintains, “It is critical to know what takes a fledgling business down the road to failure.”

And that is what we’re looking at in today’s story: How business owners cause their own downfall by failing to see these issues.

Wu: Believe all the supportive statements from family and friends about your product or business idea.

You will almost always hear more compliments from those people close to you about how your product or service idea is a sure thing. But feedback from the general population could easily be much different and pertinent.

Stevenson: Rush into market with your great idea or product without seeing if anyone else is already doing it or has a patent on it.

There are very few things in the world that someone else isn’t already doing. For example, a client had a great software idea and rushed into marketing it only to discover that another person held a patent on the same exact type of software, so thousands of dollars were lost because of failing to do something as simple as a Google search to see if a similar product was already on the market.

Additionally, merely having a patent does not guarantee that you are the only one who can produce or market a product. Your patent is only as good as your ability to defend it. So, if you do not have the financial resources or the ability to bring legal action, you really can’t defend that patent.

Wu: Know your limitations! Don’t be a cheapskate!

When you get out of your area of expertise, hire people who have the competence and ability to give you what you need. For example, if you are going to bring in a partner, retain a lawyer to draft a partnership agreement tailored to the needs of your business – don’t just grab something you find on Google or do it yourself! You may wind-up spending more later for a fix.

Stevenson: Success can be a curse that leads to lifestyle creep which can destroy your business and all you hold dear.

Accountants far too often are witness to what happens when a business – or a professional lawyer, doctor and even a CPA – becomes tremendously successful, generates lots of cash flow and embarks on a spending spree!

They go from Top Ramen in a studio apartment to buying a mega home, expensive toys, weekends in Las Vegas or similar venues and begin to associate with people who are more well off than they are, and think:

“Well this guy has a 32-foot fishing boat. I want a boat!” And they buy one – which later gives them a sinking feeling as their spending reaches a point where the enterprise can’t generate enough money to sustain this lifestyle creep.

So the owners start to borrow against the business to sustain the lifestyle; their business is neglected, which left unchecked can result in failure of the business, bringing down families with it.

Wu: Fail or refuse to live well under your means.

Economies are never stable. Just look at the Great Recession of 2008 and what we are facing at present. Families and small business owners who spent every last cent they earned faced certain trouble then and will now.

Those who lived well below the level of their income – maintaining six months or more of income in a savings account – are able to weather these storms and not worry about putting food on the table.

Stevenson: False economy! Get in tax trouble by treating your employees as independent contractors.

A sure way of getting in serious trouble with the IRS and state taxing authorities is to treat your employees as independent contractors, thereby not paying the employer’s share of employment taxes, workers compensation insurance and other fees.

This may result in significant payroll tax savings until the employee walks into H&R Block to get their taxes done and hands them a 1099-NEC “Non-employee Compensation” form from the employer. Then the H&R Block employee says, “We are filing your taxes as an employee so you get back another $5,000.”

The result is that the employer is red-flagged by the IRS and can wind up being audited and assessed back payroll taxes and penalties exceeding 100% of the back taxes resulting in the possible loss of their business while the assessment is still owned by the business owners even after bankruptcy.

Stevenson: Inviting family to participate can be asking for trouble.

Family complicates things and generally family members believe they should participate in the success of a business equally if they are employed while unrelated people generally do not have that expectation.

If you are going to include family in the business it is important to set expectations and boundaries up front to mitigate the potential for issues down the road. Do not forgo controls over cash or product simply because your employees are related to you, too often we see fraud in business regardless of familial relationships.

Where to get sound advice before you launch your own business

So, how can you avoid these pitfalls? “Spend time – at least six months -learning how a business functions,” both Stevenson and Wu strongly maintain, and feel that, “the Small Business Development Centers located around the country are a great resource.”

“Also, a basic course in accounting is so beneficial,” Stevenson points out.

Taking a course in business law that is offered at just about every college in America, in my opinion, is absolutely essential.

Dennis Beaver practices law in Bakersfield and enjoys hearing from his readers. Contact Dennis Beaver.