Not Always King

Businesses in the Gulf Coast states that cannot document their earned income are at a disadvantage in filing claims for losses arising from the oil spill. But for all business owners, there are other costs of running a cash business that may not be obvious until it comes time to think about the exit strategy. The value of a business is typically derived as a multiple of earnings, so any cash or phantom income reduces the perceived value of the business to the buyer. Indeed, the lack of good financial records is consistently identified as one of the top three reasons why businesses are not saleable or sell for far less than the owners believe the businesses to be worth.

I recently heard Andrew Bryan Burnett, managing director of the Cathedral Consulting Group, deliver a presentation “Running Your Business With the Exit Strategy in Mind”. He holds an MBA from Wharton and hosts his own radio show, “My Father’s Business”. Based on his experience in advising business owners, he identified six obstacles to maximizing value on the sale of the business:

• Tax structure
• Poor financial statements or lack of records
• Complicated structures involving too many people
• Minority interest without a buy-sell agreement
• Inability to identify potential buyers
• Asset structure that impairs the sale of the business

The value of the business is the future cash flow to the buyer which value must be identifiable and transferable. A major source of contention on disaster relief post-Katrina was the lack of transferable property deeds in New Orleans as some properties passed from one generation to the next in the family without an update of public records. A disaster is the worst time to put your records in order. Do it now – it will reduce your stress levels later.

Poor Marks for Banks

When the lead headline on the front page of the Financial Times announces the crisis in small business capital access, the problem can no longer be ignored. Under the headline “Small business lose out” follows an article summarizing the data presented in the “Terms of Business Lending” survey released this week by the Federal Reserve Bank. The survey collects quarterly data from 348 U.S.-chartered commercial banks and 50 U.S. branches of foreign banks. The survey found that interest rates on small commercial and industrial loans were 3.5% higher than the federal funds rate (the rate at which banks borrow to on-lend to customers), the highest spread since the Fed began the survey nearly 25 years ago. It seems that every policy initiative to motivate large banks to unblock the flow of credit to the small business sector, including the Troubled Asset Relief Program, has failed.

Perhaps this is why the Obama administration’s legislation to create a $30 billion small business lending fund has just cleared the Senate with negligible opposition. To accelerate the bill’s passage, Senate Majority Leader Harry Reid blocked any effort to tack amendments onto the bill, limiting the Congressional debate to the matter at hand. The fund would offer reduced capital costs to community banks commensurate with their growth in small business lending – a carrot that was missing in TARP. Other restrictive elements of TARP, such as preferred warrants, are not part of this legislation, which should speed its passage. But if banks continue to believe that small businesses are poor risks in this recession, the carrots might not have the desired effect.

Just Listen to Us

Policymakers continue to be frustrated by their inability to unblock the flow of credit to the small business sector. The President has put forward a $30 billion legislative package to offer incentives to community banks to lend to small businesses. While the measure has passed the House and is on its way to a Senate vote, there are doubts as to the efficacy of the proposed measures to stimulate lending. One critic expressing such doubts is Harvard Law Professor Elizabeth Warren who was appointed by Congress to oversee the $700 billion Troubled Asset Relief Program. In an interview with Bloomberg Businessweek, she stated, “policymakers are flying blind”, owing to a dearth of data on small business lending. While the original intent was that TARP recipients would on-lend some of their capital infusion from Washington to the small business sector, they have clearly failed to do that. The largest TARP recipients, those with assets in excess of $100 billion, reported 10% declines in small business lending from June 2008 to June 2009. (One bank has even offered rate reductions on its loans to small businesses that hire new employees.) But Warren is uncertain if the decline is the consequence of the banks’ reluctance to lend or the reluctance of credit-worthy small businesses to borrow. To remedy the data gap, the Federal Reserve Bank of Atlanta recently began a quarterly survey of small business lending in its region, in the hope that better data might craft better policies.

If we were not experiencing double digit unemployment even as viable small businesses that wish to hire are choked for credit, this would be funny. But what the monetary economists of the Fed and their academic advisors needs to do is to actually talk to a few small business owners. I am very active in entrepreneurial groups and the message I hear everywhere is the same. Those of us who own businesses that are credible candidates for loans are reluctant to borrow for fear of rising taxes, higher costs due to healthcare reform and other areas of uncertainty arising from government policies. Businesses generally prefer stable environments when taking on longer-term liabilities, such as loans. We are not close to having clarity on some very important tax and economic policies (yes, we know taxes will rise, but by how much?) that would enable us to see through the fog to determine how much debt we could prudently take on. This is the message that Washington needs to hear.

On July 17, the Internal Revenue Service will hold a “Gulf Coast Special Assistance Day” in four states: Alabama (Mobile), Florida (Panama City and Pensacola), Louisiana (New Orleans, Houma and Baton Rouge) and Mississippi (Gulfport). The intent is to address questions related to tax liabilities arising from compensation for losses incurred in connection with the Gulf Coast Oil spill. “This is a very difficult time for many people affected by the oil spill in the Gulf of Mexico. As residents of the region cope with the evolving situation, I want to assure them that the IRS will be doing everything it can to provide tax help to those who need it,” IRS Commissioner Doug Shulman said. “We encourage anyone who has an issue with the IRS to contact us and explain their hardship, and we will work with them to find a solution. We’ll do everything we can under current law to help taxpayers.” The IRS has published guidance on its website to explain that BP payments for lost income are taxable as the payments replace wages or business income that would otherwise be taxed. Reimbursement for property loss is generally not taxable. The IRS is setting up a toll-free telephone hotline to answer taxpayers’ questions in these matters. Gulf Coast residents should also be certain to ask about the deductibility of uninsured or unreimbursed losses.

Reading the Fine Print

In May of last year, President Obama signed into law the CARD Act, which restricts some of the more abusive practices of credit card accounts, such as retroactive rate increases on outstanding balances. Unfortunately, despite the heroic efforts of Senators Landrieu and Snowe, the protections are limited to individual consumers and do not extend to small businesses. The bank lobby argued against extending protections to small businesses, claiming that such action may limit the availability of capital for revolving loans on credit card accounts and may result in higher interest rate charges. Of course, small businesses are already experiencing lack of access to credit and high charges, so if you accept the banks’ argument at face value, there was nothing to lose by extending the CARD Act to include small businesses.

As a concession of sorts, the Senate, in quashing the attempt to include small businesses in the CARD legislation, directed the Federal Reserve Bank to conduct a study of credit card use by small businesses. The Fed has just released the study, smallbusinesscredit click to download it. The Fed’s report does confirm the positions taken by small business advocacy groups as to the extensive use of credit cards by small business owners for working capital needs. It also highlights the benefits of improved disclosure requirements. However, it stops short of offering specific recommendations to protect small business credit card accounts from deceptive practices by the issuing banks. The good news is that the Small Business Credit Card Act of 2009 (H.R. 3457) is working its way through Congress. Add your voice to the fifteen national business and consumer organizations that have endorsed this legislation. Write to your senator and congressman and urge his support of this legislation at a critical time when small businesses need transparent terms on their credit card accounts.

File Your Appeal on Time

Many communities close their fiscal years in June or July, which means that business owners need to keep an eye on pending deadlines to appeal commercial property tax assessments. The states, desperate for revenues to meet their own budget shortfalls, did not take into consideration the full impact of the recession on property valuations. The result is that many businesses are burdened with inflated tax assessments. Business owners simply cannot afford to overpay their tax obligations, particularly in this difficult economy. Accounting firm Grant Thornton LLP recommends that commercial property owners who suspect that their assessment may be overvalued should retain the services of a certified, independent appraiser, experienced in commercial valuations. According to Terry Conley, a partner at Grant Thornton, “an independent appraisal is the biggest influencer for an appeal. A business owner can get a truncated appraisal that that allows them to compare their business to similar properties in the area, which is usually enough for an appeal. When more proof of overvaluation is necessary, we conduct an in-depth assessment that considers everything from infrastructure to landscaping to entryways.” Business owners also need to establish where to file their property tax appeals, as commercial properties are often considered by separate agencies than those that treat residential properties. Appeals can be challenging, but those who undertake them have a high rate of success. Of course, if you own your own home, you should consider your residential property valuation as well. Every dollar of tax relief is a dollar you should fight to obtain.

Small Business is Big Business

The U.S. Chamber of Commerce issued a statement on access to capital for small businesses directed to the Congressional Committee on Small Business, the Subcommittee on Finance and Tax. The statement sets forth two policy recommendations that are particularly important at this time. First, Congress passed legislation calling for a 3% tax withholding on all government payments, which affects government contractors. While the requirement will not go into effect until January 1, 2012, businesses and federal, state and local governments are spending funds to prepare for its implementation, which expenses the Chamber believes to be unnecessary for a requirement that should be repealed. The Defense Department estimates the cost of compliance with this requirement to be $17 billion over the first five years, exceeding any forecasts of revenue gains. For small businesses that contract with the federal, state and local governments, this onerous requirement should be repealed. Second, the Chamber argues against raising tax rates, reminding Congress that many small businesses are organized as Subchapter S corporations or sole proprietorships, such that increases in personal tax rates increase their cost of capital. This would reduce capital available to reinvest in small business at a time when banks have already choked back on lending to this sector. The Chamber of Commerce represents more than three million businesses in the U.S., of which 96% have fewer than 100 employees. Let’s hope that Congress acts on the Chamber’s recommendations.

Banking on Rebirth

On page 140 of Prepare for the Worst, Plan for the Best: Disaster Preparedness and Recovery for Small Businesses (Wiley, second edition paperback, 2009), I informed readers that when the President declares a federal disaster, early withdrawal penalties on time deposits are waived as residents and businesses will need additional cash resources to recover. Many banks are unaware of this requirement, so I recommended that if your bank is not, get the cash as soon as you need it and seek reimbursement of any early withdrawal penalties, time permitting, when you are further along in your recovery efforts. I also recommended that you immediately request forbearance on any and all loans and credit facilities. In disaster recovery mode, you will need every inch of breathing room you can get.

So I was delighted to read that Bank of America is putting into effect a disaster relief program in the 42 Tennessee counties designated federal disaster areas by the Federal Emergency Management Agency. The Bank’s disaster relief program provides that small businesses in the affected counties may qualify to avoid early withdrawal penalties on bank certificates of deposit. They may also receive emergency credit line increases on their bank credit cards and may modify or extend payments on loans, credit cards or lines of credit. This is exactly the way to proactively help small business customers in the aftermath of a disaster.

And may I make an additional suggestion to the Bank of America? In the aftermath of a disaster, many small businesses with otherwise pristine credit histories will develop blemishes on their credit reports though no fault of their own. The business will inevitably have some customers that were unprepared for the disaster and will be delayed or default entirely on their obligations, causing some strain on the business. This is the time for banks to show some flexibility and take these factors into consideration for loan applicants.

At a time when bashing banks has become politically fashionable, we should remember how they support our communities. In banking on Tennessee, Bank of America is being true to its roots. A.P. Giannini, the founder of Bank of Italy, the institution that is the predecessor to the Bank of America, saw the opportunity represented by the devastating San Francisco earthquake of 1906. As other banks succumbed to panic, his made emergency loans to customers, mostly immigrant owned businesses, earning the bank their loyalty. This cemented the Bank’s position as a leading financier to the film and wine industries in northern California.

In an earlier blog posting, I criticized CARD (Credit Card Accountability, Responsibility and Disclosure Act) legislation for excluding small businesses from the protections it affords to individual consumers. Those protections include banning the practice of retroactively raising rates on old balances. Now one major bank has decided to do what Congress did not. Bank of America has announced that it will extend the CARD Act protections to its two million small business customers. Specifically, BofA will provide at least 45 days’ advance notice of future interest rate changes, a minimum 25-day grace period between the end of the billing cycle and the payment due date and a one-page summary of the terms and conditions of the credit account, to bring transparency to rates, payment information and fees. In addition, BofA will apply payments made on small business card accounts to the portion of their balance with the highest interest rate. I am heartened to read this news and frankly wonder what took a major bank so long to take this initiative. Surreptitiously sneaking in fee hikes and reassessing past interest rates was no way to build market share and goodwill among customers. Now let’s see if the other banks follow suit.

FDIC Support Continues

The Board of Directors of the Federal Deposit Insurance Corporation (FDIC) yesterday approved an interim rule to extend the Transaction Account Guarantee (TAG) program to December 31, 2010 with the discretion to further extend the program to year-end 2011, should economic conditions warrant such action. The program, which was set to expire on June 30, 2010, provides customers of participating depositary institutions full coverage on transaction accounts. The program mitigates the risks that banks would risk unnecessary liquidity failures should businesses diversify their banking deposits among multiple institutions to fall below the deposit insurance cap. Often, as payroll dates or other key payables approach, business banking balances temporarily exceed the account maximum for FDIC-provided deposit insurance. As a consequence of the financial crisis of 2008, small businesses had to consider the possibility of a bank failure occurring at the time of a peak deposit, prompting the FDIC to raise its limits for such business transaction accounts.  The extension of this program is expected to continue a stable funding source for banks to secure low-cost, large, locally-sourced deposits. It will also reassure small businesses that they can maintain their existing banking relationships beyond the June 30 expiry date without fear of the loss of FDIC backing.