Friday, September 9, 2016

Why do Some Businesses "Cook the Books"? - My thoughts



The inspiration for this post actually comes from a very unexpected source. In the show “Les Miserables” there is a song that contains the line “Cooking the books”. Yeah, out of the entire show, that’s the 3 words I got from it…lol. Now, I know this phrase means “manipulating the company’s accounting to hide profits”, whether that be from legal sources or not. So this started some wheels turning. WHY does a business owner “cook the books”? If they are engaged in illegal activities, it becomes easily understood. But why would someone not engaging in illicit business practices do it?


The only reason I can imagine in answering this question is that they are trying to hide their profits to avoid paying taxes. We have thousands of laws forcing us to pay taxes and we have thousands of laws concerning the penalties for evading the paying of those taxes.


As I began researching this topic, I discovered that the scope of my thinking kept getting wider. For example, why does cigarette smuggling across state lines happen? Because one state levies hefty taxes on the product, while another does not. The product’s cost does not vary much between states, but the price difference comes down to the taxes on the product. I remember when I lived in Pennsylvania, near the Delaware state line. Delaware has no sales tax, while Pennsylvania does, to the tune of 6%. So, for ALL major purchases (except cars which require registration, and therefore post sales taxes) we drove to Delaware to purchase that product. So even for the most law abiding citizen (specifically me), we do what we can to save ourselves money by avoiding paying unnecessary taxes. Where we live now in Virginia, one county has added a “restaurant tax” while the neighboring county does not. I think twice before I choose a restaurant these days because I travel between counties on a regular basis. I may choose to pay the additional tax, but it does get evaluated each and every time.


So my main topic is really focused on how we crack down on businesses who “cook the books” to evade taxes. It is currently estimated that there is $500 billion in lost taxes due to evasion. The majority of this gap is caused by small businesses and sole proprietors. So to make up for the loss, lawmakers are always considering raising taxes to make up the loss. But in actuality, this only causes those who already comply with the law and pay their taxes to incur an additional burden for those who do not comply. And if the burden is great enough, will it not create a temptation to either begin evading the additional tax, or in many cases, force these businesses to fold and close their doors? This in turn creates another loss in taxes because there are no sales being made by a closed business.


How much money does the IRS spend to investigate tax evaders? Do the penalties imposed make up for this cost? How many more laws do we need to stop tax evaders? I know many small business owners. I would say nearly all are upstanding citizens who pay their taxes as required. But none of them is quiet on the requirements of complying with the taxation and all the other regulations they must follow that drive up the cost of doing business. We all complain that the cost of living increasing and our salaries as employees not keeping up, but did you know that every regulation and law that gets passed by our government causes the cost of doing business to increase? So to recoup this cost, prices must increase. And since the price increase is to make up for government meddling, it does not include increases in salaries. So think about it, if you don’t get an increase, will the business owner go to jail? On the other hand, if the taxes aren’t paid, or the regulations aren’t implemented, the business owner might end up there. So where is the business owner going to put his/her money? If you owned the business, where would you put it?


We hear so many complaints about businesses that move jobs overseas where labor costs are lower, moving money reserves off-shore to avoid paying taxes, incorporating in foreign countries to avoid paying taxes, and gigantic companies who pay very little or no taxes at all. What do all these things have in common? REDUCING COSTS AND INCREASING PROFITS!!!


I believe TYCO is one of the best examples of a company avoiding taxes. This conglomeration has so much revenue that they will move their papers of incorporation to another country if the tax consequences make it worthwhile. Originally incorporated in Massachusetts, they moved their incorporation to Bermuda to greatly reduce their tax liability on their profits. American taxes were just too high. When Bermuda began raising taxes, they were swift to head to Switzerland to benefit from far lower taxes. But then, only a year later, Switzerland decided they could benefit from increased taxes. Next stop: Ireland!


My whole point being that increased taxes push businesses to make decisions they may not make otherwise. The point of business is to make a profit. If that profit is threatened, the business owner will do whatever it must do to protect itself. All the things we complain about concerning businesses are caused (in many or most cases) by our government trying to take what the business is working to keep…PROFITS!!! As individuals, we do not have the option to make these huge moves to protect our money, but large corporations do. However, this does not make the business evil or greedy. This just makes them do business in the best way they can.
So let’s look at what might be done to resolve some of these tax “avoidance” problems. First, perhaps we could do away with taxes on businesses, and many of the regulations we currently have. This may sound absurd, but if you think about it, many small businesses never get started because they cannot afford to comply with all the regulations placed on them, so many jobs that COULD be created, are not! Second, they can’t make a decent profit because taxes burden their bottom line, especially when starting up. Third, repeal NAFTA and all other treaties that allow “free trade”. I used to agree with free trade until I learned that the whole point of tariffs is to place foreign goods in the same “price range” with American products. Many products that arrive in this country were manufactured in places where wages are so low, the workers barely get by. If we tax these goods, raising the price to match American made products, there would no longer be a need to ship jobs overseas to reduce costs. The tariffs level the playing field and reduce the need to lower labor costs just to compete. We ENCOURAGE shipping jobs overseas by creating an expensive business environment!


Now we could ask, why don’t American companies produce less expensive goods to compete? Why don’t the companies absorb the costs instead of passing them on to the consumer? Good questions! Well there are many costs to running any business. In our country, the largest cost to most businesses is salaries and benefits. Are you also going to require a $15/hour minimum wage? Are we going to hear about how unfair the employees are treated because they don’t make enough in their paycheck? Complaining that American made goods cost too much and then increasing business’s costs will never create lower prices. Forcing an “across the board” wage increase hurts our economy. Many argue that by increasing wages, we give more money to people who will in turn spend more into the economy. The theory sounds good, but by increasing the cost of doing business, prices will go up. Now some others argue that huge corporations can actually afford to absorb the increased costs. They are obviously just greedy, money grabbing, bean counters. And I may agree with you on this. BUT, how about the SMALL businesses that are owned by the “moms and pops” who are simply trying to put food on the table for their own families? How do these small businesses, who typically have lower profit margins than large companies, survive the increase in business costs? Many don’t and close their doors.


In Seattle, Washington, the minimum wage is increasing to $15/hour over time. Preliminary numbers show that there has been no net loss in jobs as was predicted. This is GREAT news! The nay-sayers of minimum wage increases were wrong! So let’s look how this worked out: Because large businesses have more employees, they have a longer period of time before hitting the final destination of $15/hour. If you have fewer employees, you have to increase wages sooner. Since the minimum wage increase hit mainly restaurants, we’ll focus our attention there. Some of the smaller “mom and pop” restaurants did in fact, close their doors. BUT, the good news is that the big chains were able to pick up those lost jobs because of the increased business that came from the closed restaurants. The small places closed because they couldn’t raise their prices, but were forced to increase the wages paid out. So why couldn’t they raise their prices? Because the chains were able to keep their prices low and raising prices would drive business away. Why could the chains keep prices lower? Because they have more time before they have to increase wages AND the additional ability to spread the higher cost across their other stores nationally. Once their competition (mom and pop shops) is gone, what is to stop them from raising prices? The market just became a monopoly and as we all know, monopolies get to set the price to anything they want. We have destroyed small businesses with a “one size fits all” solution. We have increased the power of the huge companies that we complain about by legislating them into a better position.


So, perhaps this is a bad example because the wage increase was localized and not nationwide. Well, if the wage increase was implemented nationwide what would happen? The biggest competitor of big companies is small business. So let’s implement a nationwide minimum wage increase. As a huge company, I have huge cash reserves. My competitors, the small businesses, do not have this going for them. If I hold my prices down for a year after the wage increase, it will cost me in the short term, but since my competitor cannot sustain this strategy, they will go out of business. Once gone, I can increase my prices and the market, which regulates pricing through competition, is no longer stopping me from doing so. All those wage increases? You’re going to be paying them back in the form of higher prices across the board.


A “living wage”, implemented thought minimum wages is ALWAYS followed by increases in the cost of living, which in turn eats up these increases. There is always a lag that tends to be blamed on other factors because once the higher prices come into play, the Presidency and many seats in Congress have changed hands. But the numbers bear this phenomenon out. The government likes to play “the blame game” and the blame is always shifted to someone else when things go terribly wrong. So always look at the long term effects of when laws were implemented and when the results came in. It is very consistent that one follows the other, including the blame being passed around.


So the second idea is to reduce constant government meddling in business. Capitalism in its purest form has always regulated costs and benefited the consumer. We can point to problems with dishonest business practices that “required” the government to step in. But if you research the events prior to the problem, you will almost ALWAYS find other government actions that lead to those problems. I have researched many different problems that required government regulation, and in every case, I always ended up finding previous regulations that led to allowing a business to take the actions it did that now needed to be fixed. Here is a GREAT example of this practice: “The breakup of AT&T (or Ma Bell as it was called)” The breakup was required because AT&T had become a monopoly and began price gouging, and had the ability to prevent any competition from ever getting started (YEAH!!! Federal intervention! Our saviors!!!) But if you trace it all back, constant regulations written over decades, which favored AT&T’s technology over its competitors, knocked the competitors out of the market. The entire monopoly was systematically built BY our government! The federal action to break them up was actually to FIX what they had done in the first place, trying to fix their OWN mistakes. Capitalism is ALWAYS blamed as the reason for greed and corruption within large corporations. But if the market was allowed to function as it was intended WITHOUT government interference, it would in fact, take down big businesses that get out of line. All regulations favor someone over someone else. Those who can implement the regulations first, come out on top, and since regulation implementation requires money, it ALWAYS favors large companies OVER small ones with fewer resources. So if you want to blame big companies for our problems go ahead. And if you want the government to save you, good luck with that! Big business usually benefits from government action, while destroying small business who by the way, is the entire reason why our country has enjoyed so much prosperity. Small business owners make up nearly 80% of our economy because Capitalism works that way. The fewer small businesses we have, the more big businesses can run amok and dictate YOUR income.


My main point started out on taxes causing business owners to “cook the books”, but I was not able to separate the additional costs placed on businesses by the regulations and laws placed on doing business. Both go hand in hand to forcing business owner to “cheat” on their taxes, raising prices, etc in order to reduce their costs. Those who remain honest, often cannot stay in business. Violating other laws is often too obvious, but evading taxes can often go undetected. So for all the reasons I listed, some businesses find it necessary to “cook the books”!