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A group of people meeting around a table. The table has a flow chart with a central node labeled " Funding" with smaller nodes labeled "Taxes", "Credits", "Grants", "Donations", "Subsidies", and "Savings".

Tax Returns and their effect on Business Funding

By Kamelle Gomez, August 2022

Bankable strategies to help avoid common missteps during the loan origination process.

In my past life, I was a mortgage loan officer working with people seeking residential loans. As I settled into this role, I learned that commercial and small business loans work similarly. While reviewing a potential borrower’s tax returns, I often experienced three frustrating hangups....

  • People intentionally not showing a profit on an otherwise profitable business: The most damaging thing someone could do to wreck a funding attempt would be to purposefully dilute profits. After further conversations with a customer, I would often find out that they did this to receive a bigger tax refund or lessen their tax obligation. 
  • Potential borrowers having delinquent taxes: Being delinquent on your tax obligation as a business owner is a big red flag for potential lenders. The Internal Revenue Service (IRS) isn’t to be trifled with. Being prompt and accurate on annual tax payments will make you more attractive to a potential lender. 
  • Borrowers not having the most recent tax filings on hand

 

To get a loan, you need qualifiable income, collateral, and capital. I worked with people who had jobs, 1099 (contract) employees, sole proprietors, and single-member liability corporations. Generally, those self-employment structures use a schedule C to report earnings on tax filings. A person with a job will just supply pay slips, a W2 form, and the lender’s verification forms. 

However, as a business owner looking for a loan, the only way to determine if your business is bankable is to evaluate your income. This is done by reviewing your tax return filings for two consecutive years averaged together. This means that, when filing taxes, you need to understand how the bank views your returns. They assume that what you file is identical to your business’ financial records. If there are large discrepancies between the two, the funding entity will default to tax filings as a means of verifying your reported revenues. The bank is looking at the reported profit on your schedule C, not your reported revenue, to secure the loan. This deserves some consideration when you are doing your tax write-offs. 

Overall, I want you to learn from my experiences. Avoid these missteps by thinking ahead when seeking capital for your business, especially as you file taxes. Make sure that any tax professional you work with is trustworthy and knowledgeable about current tax codes. Lastly, start building relationships with a lending institution and tax preparers to regularly communicate your goals for the business. In some cases, borrowers need to communicate their intentions to pursue capital and funding 1-2 years in advance. Following these steps will help you better prepare for the loan process and keep you on schedule with your funding timeline.

 

The Arkansas Business Navigator is a program of the Arkansas Small Business and Technology Development Center hosted by UA Little Rock and is funded in part through a grant from the US Small Business Administration. All opinions, conclusions, and/or recommendations expressed herein are those of the author(s) and do not necessarily reflect the views of the SBA.