Accounting and Tax Issues for Small Business 1 Andrew Zhu, manager, China Service group Deloitte Touche LLP May 31, 2003

© Deloitte & Touche Outline of the Presentation q Accounting and Internal Control q Tax Compliance and Planning q Financial Planning q Jobs and Growth Tax Relief Reconciliation Act 2003

© Deloitte & Touche Accounting and Internal Control q Understand the financial statements  Balance Sheets  Statements of operations  Statements of shareholders’ equity  Statements of cash flows  Notes to financial statements

© Deloitte & Touche Accounting and Internal Control q Interpretation of financial statements  Current Ratio:  Current assets /Current liabilities  Quick Ratio:  Quick assets (excl. inventories) / Current liabilities  Accounts Receivables Turnover  Net revenue/Avg. Accounts receivables  Working Capital Turnover  Net revenue/(current assets – current liabilities)

© Deloitte & Touche Accounting and Internal Control q Interpretation of financial statements  Gross profit margin  Gross profit/Net revenue  Operating profit margin  Operating income/Net revenue  Net profit margin  Net income before tax/Net revenue  Total debt to equity  Total debt/Total equity  Total debt to tangible net worth  Total debt/Total tangible net worth (equity- intangibles)

© Deloitte & Touche Common Control and Management Accounting team:  Small  Segregation of duties  Outsourcing (e.g. payroll)  Importance

© Deloitte & Touche Common Control and Management Policy and Procedures:  Formalization  Completeness  Communications

© Deloitte & Touche Common Control and Management Reporting to Board of Directors (“BOD”):  BOD – Representatives of Shareholders  Periodic BOD Meetings  Reporting includes but not limited to:  Actual vs Budget Results  Ratio Analysis  Stock based compensation activities  Headcount  Significant events

© Deloitte & Touche Internal Financial Control The cycles of internal financial control  Revenue cycle  Expenditure cycle  Treasury cycle  Payroll cycle  Inventory cycle  Fixed assets cycle

© Deloitte & Touche Tax Compliance q Federal and State income tax q Sales / Uses Tax q Property Tax q Payroll Tax q 1099 Reporting  Interest  Dividend  Others q Withholding Tax  Backup withholding  Foreign withholding

© Deloitte & Touche Tax Planning: Formation q C Corp q S Corp q LLC q Partnership q Sole Proprietorship q Qualified Small Business Stock

© Deloitte & Touche Tax Structure q C corporation  Most common used  Limited liability  No limitation on class of shares and shareholders  Qualified for IPO  Flexible exchange of ownership  But double taxation

© Deloitte & Touche Tax Structure q S corporation  Eligible domestic corporation  Limited liability  Limitations on class of share and shareholders  Not qualified for IPO  Must be calendar year  No double taxation

© Deloitte & Touche Tax Structure q Limited Liability Company (“LLC”)  Can check the box  Limited liability  No limitations on class of share and shareholders  Not qualified for IPO  Taxed as partnership  No double taxation

© Deloitte & Touche Tax Structure q Partnership  Genera and limited partners  Flexible in allocation of tax attributes and income  Not qualified for IPO  No double taxation q Sole Proprietorship  Must be an individual  Unlimited liability  Taxable income included in proprietor’s return

© Deloitte & Touche Tax Planning q Eligible depreciation deduction and other deductions q Sales and Use Tax Planning q Basic State Tax Planning (Capital-Based Taxes) q Gifting Stock Options and Early-Stage Estate Tax Planning q Planning for Stock Issuances or for an IPO q Federal and State Research and Development Tax Credits q Analyzing the Economic Costs of Foreign Withholding Taxes q Tax incentives: Manufacturer’s Investment Credit

© Deloitte & Touche Financial Planning q Equity vs. Loans  Audit financial reports – Cash vs. Accrual method  Thin Capitalization q Collaterals  Account receivable  Inventory  Fixed assets q Factoring – Interest rate, points q Cash Flow Management

© Deloitte & Touche Jobs and Growth Tax Relief Reconciliation Act 2003

© Deloitte & Touche Dividend Tax Relief q Taxes dividends at rates of 15% and 5%  Applies to dividends received in taxable years beginning after 2002 and before 2009  Applies to dividends from domestic and “qualified foreign corporations”  5% rate eliminated in 2008 q Some dividends are not eligible for reduced rates

© Deloitte & Touche Reduced Capital Gains Rate q Reduces rates on capital gains to 15% and 5%  Effective for sales, exchanges, and payments received on or after May 6, 2003, and before January 1, 2009  5% rate eliminated in 2008  New rates apply to both the regular tax and the AMT, and to assets held more than one year q Some capital gains are ineligible

© Deloitte & Touche Depreciation & Expensing q Increase in bonus depreciation for businesses to 50 percent  For property acquired after May 5, 2003  Property with binding contract prior to May 6 does not qualify q Increase small business expensing from $25,000 to $100,000 through 2005 q Increase in the phaseout threshold amount for small business expensing from $200,000 to $400,000

© Deloitte & Touche Individual Tax Cuts q Acceleration of Individual Income Tax Rate Reductions in 2001 Tax Act  New rates: 35%, 33%, 28%, 25%, 15% and 10% q Expansion of 10% Bracket  For 2003, the taxable income level for the 10% regular income tax rate bracket for single individuals is increased from $6,000 to $7,000, and for married taxpayers filing a joint return from $12,000 to $14,000  For 2004, these amounts are indexed for inflation.  In 2005, the taxable income levels for the 10% rate bracket revert to the levels provided under present law

© Deloitte & Touche Individual Tax Cuts (continued) q Accelerates Marriage Penalty Relief  Basic standard deduction for married taxpayers filing jointly is twice that of singles ( )  15% rate bracket for married taxpayers filing jointly is twice that of singles ( ) q Increases Child Tax Credit  $1,000 in  $700 in 2005 q Increases Individual AMT Exemption  $58,000 for joint filers  $40,250 for single filers

© Deloitte & Touche Comparison of Tax Liabilities

© Deloitte & Touche Corporate Estimated Tax q Changes the Corporate Estimated Tax Payment Schedule  Twenty-five percent of tax payments due on 9/15/03 is instead required to be paid by 10/01/03

© Deloitte & Touche Questions? Andrew Zhu (408)