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How to start a business in Washington state

First, get a business license online at the Washington State Department of Revenue. You’ll choose your business structure and can use their ‘wizard’ to aid your choice. You’ll get a UBI number and can then register any ‘trade names’ aka ‘doing business as (DBA)’ names that you’d like to use separate from your name (if a sole prop) or your LLC or Corp name. For example, I’m ‘doing business as’ Better Tomorrow Financial, a trade name I registered with Washington state.

Once you’ve received your LLC/corporation formation docs from the state (not required if you’re a sole prop), get an Employer Identification Number (EIN) from the IRS. It costs nothing, and will be required if you need to create a workplace retirement plan (i.e: a solo 401k) or if you hire employees in the future. It’s also useful to use when you open an business accounts like a business bank account. (I use and recommend Novo.co*. Use this link to open an account and deposit $100 and you’ll get $40.)

If you’re in the food or retail business, you’ll want to get a Washington state DOR reseller’s permit as well in order to buy food at wholesale without paying sales tax (since you’re going to collect that from your customers upon your retail sales.)

What business structure should I choose?

  • Sole Proprietorship: The simplest & cheapest thing, a sole proprietorship, may be the best thing for you if you believe that you 1) won’t have employees, 2) will own 100% of the business yourself (no partners or co-owners), and 3) will not be taking out any loans for the business. You could always start that way to create an LLC later.
  • LLCs or Professional LLCs (PLLCs): If you’ll have employees, other owners, or plan to take out loans in the LLC’s name alone (and not your own personal name or guarantee), you will likely want to start with an LLC (or if you’re doing it up big, a C-Corp, but talk to an accountant and lawyer on that first.) LLC’s give legal protections that are useful if you have co-owners or employees or if you take on debt that is only in the LLC’s name. (You could form a Partnership if you have multiple owners, but an LLC would likely be much better due to the legal protections linked above, and it’s only a couple hundred bucks more in Washington state to form one.)
  • S-Corps: If you’ll have ‘passive’ owners or have profits that accumulate to the business separate from your efforts as an employee of the business, an S-Corp might be a more tax efficient way to set up the business since shareholders on an S-corp (or an LLC that chooses to be taxed as an S-corp) don’t have to pay payroll taxes on their profits like employees do. However, don’t think that you can simple have a 100%-owned S-corp, pay yourself nothing in wages and skip out on payroll taxes. The IRS has already thought of that and mandates you pay yourself a reasonable wage.

What tax election should I choose?

  • Sole props and partnerships are taxed as the individuals that own them. I.e.: if you’re a sole prop you just include your income on your own tax return. If you own a partnership 50-50, you each include your portion on your personal tax returns.
  • LLCs are taxed by default either as a sole proprietorship (for one owner) or partnership (multiple owners.) They can also elect S-corp taxation, or even C-corp taxation if it would be more beneficial for the owner(s).
  • Corporations can either be taxed as S-corp ‘pass through’ entities or as separate ‘C-corp’ entities.

Talk to your tax accountant about this, but for most people just starting out with relatively low incomes or who plan to take out all profits out of the business as they go for their own personal use, it will be most financially beneficial to be taxed as a pass-through entity (so NOT a C-corp.) Filing taxes as an individual is also much simpler than filing as a corporation.

Your tax accountant can help you with this decision, but as an overly-simplified example, the corporate tax rate is 21% in 2022, and long-term capital gains & qualified dividends are taxed at 15% for most people, so you’re looking at a corporate tax rate of at least 36% when you put those together. Personal tax rates don’t reach that high until you’re making at least $523 K as a single person or over $600 K as a married couple.

(Optional) Set up a website and email

  • Register a domain name and create a web site and purchase hosting services through someone like Blue Host. You can buy your domain from the same place you buy web hosting, which is convenient. Creating a wordpress.org site via your web host is a good way to easily build a site.
    • I do NOT recommend using wordpress.com as your host. They make it easy to get started, but don’t support many of the basic web hosting tools you’ll need when you start taking your website more seriously, and make it REALLY hard to migrate to a new host by not giving you access to all your website files, etc.
  • Decide if you want to pay for separate business email/office suite of software. I use and highly recommend Google’s Workspace office suite. It comes with one business email address as well as ‘aliases’ that can forward to that address, as well as a separate business set up for all the Google office tools like gmail, Google docs, Google Drive (with 2 terabytes of storage!)
    • You certainly could use a free @gmail.com account as well as free office tools offered by Google, but for ~$150/year it’s worth looking more professional and getting your own domain’s services.
  • Register your business with Google Maps so you can manage your listing there.

Open up a business bank account if you’re an LLC or corporation

This is useful both for separating your business from your personal finances, and it’s sometimes required for certain things you might do as a business. I use and recommend Novo.co* ($40 referral bonus for you if you deposit $100 using that link) because it’s free, all-online, and has decent tech features like letting you build and send invoices and a solid app. They also try to upsell you to ‘partner’ services like payment processing from Stripe, which is ok, but you can ignore these if you don’t need ’em. On the cons, they don’t have a convenient ACH payment web method for your clients to use, which would be really nice…

If you didn’t form a separate business entity, you can just earmark a personal account for your business transactions to keep things separate (recommended.)

Have clients pay you at your business checking account and pay your business expenses from there using a debit card linked to the account to make your tax filing and accounting easier.

Keep track of all of your business expenses and your income

You’ll need these to pay your Federal and local income taxes. Read up on what you can deduct from your Federal taxes and file on your own, or hire an accountant to help you.

Pay your taxes

Don’t forget to pay quarterly estimated income tax payments to the IRS both for your ~15% of wages social security & medicare taxes and for income taxes. If your state levies an income tax, see if you need to pay estimated taxes to them as well. Washington state in 2022 had no income tax.

In Washington state, you will owe the B&O excise tax IF you make revenue (NOT profits!) of over ~$35,000 in a year, and you should file regardless at the end of the year.

Save on taxes with a workplace retirement plan

Read this to set up a workplace retirement plan.

Conclusions

In Washington state, it only takes an hour or so and a few bucks to get stated creating your business entity, so legitimize that side hustle and create your own business today!

Hiring employees

If you hire employees, there are a LOT of hoops you’ll need to jump through which I won’t be covering here, but you can get a flavor of what you’ll need to do here (DOR) and here (SBA). Because of the huge overhead pain of hiring just a single employee and setting up payroll, writing and following employee policies, etc, I plan to get by with contract labor for as long as possible if and when I need some extra help in my business. There are so many services you can use to outsource or automate tasks which are a lot easier and cheaper than hiring people, so look into tech solutions to save you time as well.

*Disclosure: The Novo.co link above is a referral link. If you use it you’ll get $40 and so will I IF you deposit $100 in your account and leave it there for 30 days, per these terms from Novo: https://www.novo.co/legal/novo-referral-program

How to set your kids up for financial success – Part 2: tactical tips

Money tactics for kids

Now that we’ve covered the essential ‘soft’ skills of money in part 1, here’s some tactics to set your kids up for financial success. You can do these anytime after your child is born (or even before for the second two!)

Build their credit from birth

Add your children as ‘Authorized Users’ to your credit card accounts at birth. Most credit card companies will report this credit history to the credit bureaus, meaning this will help your child build credit.

Send them to college while saving on taxes

Invest in their education using a 529 plan for college, private K-12, or vocational schools. Check your state’s 529 plan, especially if you pay state income taxes, to see if there’s a tax benefit for you. For Washington state, we have no income tax as of writing, so it didn’t matter where I opened my account. If you’re in the same boat, go for Vanguard’s (Nevada) plan or Fidelity’s National (New Hampshire) plan.

Keep in mind that the tax-advantages aren’t anything to get too excited about for the 529 plan when compared to just a plain ol’ taxable brokerage account, so if you’re not sure whether your child will use the money for education, just save in an individual brokerage account instead since the 529 plan carries penalties if you spend the money on something other than allowable education expenses.

The same applies if you are in the 0% long-term capital gains and dividend tax bracket, since those are the only taxes you’d be saving in a 529 plan, so if you’re not paying them anyway, just use a taxable account for more flexibility. In 2022, this 0% bracket for long-term investment gains applies to single people making roughly less than $50,000 gross ($105,000 gross for married couples filing jointly.)

Invest for their future through gift accounts

A UGMA/UTMA account is a custodial account for your child that can shield up to $1,100 in dividends and capital gains each year with the next $1,100 only getting taxed at 10%, but beware the Kiddie Tax! The rules for keeping your child’s gift account tax-free can be tricky, so consider this an advanced strategy for tax-avoidance. You can always play it safer and give yourself more flexibility if you just open your own individual account instead and gift the money to your child later as desired.

Conclusions

It’s never too late to have important money conversations with your children– or your parents for that matter– but starting young is obviously the best strategy if you still can. Part 1 covered some important topics as well as how to start your teen investing, and here we’ve covered other things that parents can do to give their children a leg up financially, potentially while savings a little on their own taxes as well.

If your children are already grown but still need some financial advice– or if you just want to get your own financial house in order– reach out to me for independent, objective, and comprehensive financial planning and investment management.

How to set your kids up for financial success – Part 1: life lessons

young man in white sleeveless shirt holding brown basketball
“I can’t dunk, but my college fund is SLAMMIN’!”

Growing up, I was lucky to have parents that talked openly about money and taught me the basics of personal finance, saving, and investment. I’d like to share some of the lessons they taught me and pass along some tips to parents who want to start their children off successfully.

If you want to skip the life lessons and teen finance below and go straight to the tactical savings and credit-building tips you can use as early as your child’s birth, check out Part 2.

Talk openly about money with your kids

The best thing you can do for your kids to instill good money habits is to model them yourself. Talk openly and honestly about money with your kids— and your spouse! If you feel too sensitive or embarrassed to talk money with your family, consider hiring a fee-only financial advisor like me to improve your finances and get the conversation started. If money is tight and that’s why the Christmas gifts can’t be lavish this year, being honest with your kids can help them understand and even get onboard with supporting the family’s financial stability.

Be open about money mistakes you’ve made too, and explain what you learned from them. My parents have been successful financially, but I remember them telling me early on how they foolishly bought a condo as a rental ‘investment’ that didn’t work out, and also about an alternative investment they were sold– an oil and gas partnership– that wasn’t profitable. They learned from these mistakes, hired a financial advisor along the way for some one-time advice, and stuck mostly to low-fee stock mutual funds over the years.

Saving regularly and living below their means allowed them to retire early despite being solidly middle class in their incomes throughout their careers. Their formula for building wealth was as simple and reliable then as it is now: save a good chunk of what you earn and invest it for the long-run in a way that minimizes taxes and fees. Do this every year and watch the magic of compound interest grow your investments over time.

I remember my parents showing me on graph paper (pre-Excel spreadsheets!) how the college fund they had started for me had grown exponentially over time, and how small, regular investments from them and my grandparents had added up to tens of thousands when I neared college age.

They also modeled the importance of conscious spending. They cut costs on things they didn’t think were worth it– we never had cable TV growing up, or expensive cars— but spent wisely on the things they loved– we took three trips to Europe as a family during my teenage years, Rick Steves-style.

Education is important

Academic education is just as important as financial education to growing wealthy. Education translates into job skills as well as pro-social behaviors like avoiding crime, drugs, and having fewer health issues. Keep your kids in school, help them with homework, and expect solid grades and effort from them. Praise them for hard work and a job well done, not for natural skills or raw intelligence.

If you’re able to live in an area with good public schools there’s no need to pony up big dollars for private tuition. (Although if you do opt for private K – 12, a 529 plan can help.)

If college makes sense for your child, encourage them to think wisely about their choice of major and the cost of their education. There’s a big wage difference between Political Science and Computer Science bachelor’s degrees. There’s nothing wrong with ‘following your dreams’ per se, but spending $100,000 for a graduate degree in the fine arts is going to be a dumb investment for most people.

Your choice of degree matters a lot more than where you get it. Share that with your child and keep it in mind when helping them select a school. My parents simply handed over my college fund to me when I turned 18 and explained that if I chose my state’s (very good) public university I’d probably have money left over when I graduated, but if I wanted to go across the country to a more exclusive private university I’d need to take on tens of thousands in loans by the time I finished my four years. I opted for the public university, and was very happy with my (debt-free) experience.

By telling me the money was mine if I didn’t spend it all, I had ‘skin in the game’ so I lived frugally by managing my housing and food budget, and graduated a couple quarters early to shave off a few thousand in tuition. I also worked part-time over the summers and some weekends since I that just added to what I had to spend and save.

Your child might think they know exactly what they want to do in life, but temper their enthusiasm or aimlessness with your own experiences and knowledge of their career potential. Let’s be honest: even as seasoned adults, most of us aren’t sure what we want to be when we grow up, so continue to guide your child even when they’re legally an adult.

Health is wealth

Health has a big impact on a person’s finances, so keep your child’s mental and physical well-being in mind. Sports are great for fitness, de-stressing, making friends across socio-economic lines, building confidence and staying out of trouble. Soccer, basketball, baseball, and flag football are all popular and cheap to play. Even sports like tennis or golf that have ritzier social connotations don’t have to be expensive. Skip the private lessons– unless it really matters to you– and enroll your child in inexpensive Parks & Rec or school league sports from a young age. They’ll have a blast regardless of their skill level if you keep it fun and encourage them– and so will you.

I suspect social media and ever-present screens and video games are a dangerous thing for all of us– kids and adults alike– so consider limiting these activities as well (easier said that done), perhaps ‘age-gating’ your child’s access to social media accounts. Try to gather a coalition of your kid’s parents to agree upon the same rules so your child doesn’t feel left out if they’re the only one without a smart phone or Instagram account at their age.

Money basics before they leave home

Open a bank account for your child when they are old enough to understand how money works (age 9, say.) Help them deposit allowance and cash gifts. Teach them how checks work and how to track their balance online. Talk about the tradeoffs between spending and saving. Saving to me in elementary school meant waiting to blow my allowances long enough to buy a video game system or a music player. I think even these deferred spending habits probably led to appreciating the ability to save for something more abstract like retirement.

When they’re old enough, give your child a debit card for their bank account and teach them to use an ATM (and to avoid overdrafting or paying fees.) My favorite bank also has kids’ accounts— an adult needs to be on a kid’s bank account until they reach 18.

Encourage Junior to get a part-time job while in high school. There’s nothing like working in fast food to appreciate the value of higher education… Have them set up direct deposit to their bank account for their paychecks. Open a Roth IRA for them so they can start investing for their retirement. My parents opened a Roth for me when I started my first job at 16, and I’ve never stopped saving since. Your child can also set up an auto-budgeting plan like the the Better Tomorrow banking system. This will come in handy when they get their first ‘real job’.

Investing and credit for teens

Teach them the basics on how low-fee, tax-deferred, diversified index funds like a Target Retirement fund will maximize their investment growth with minimum risk and effort.

Now that they have an income to spend, consider getting them a credit card. Teach your child about the high fees credit cards carry and instruct them to never carry a balance. Stress that they need to always make sure they have enough in their checking account to pay their monthly bill before they put something on their card.

Show them how to check their balance, transactions, and how to set up autopay for the full balance as well as opting into paperless statements to get sent to their email (and yours if you’re worried!) Start them with a ‘secured’ credit card to build their credit, if necessary. Get them a cash back card with no annual fee and no foreign transaction fees. Capital One has great choices there.

Check out Part 2 for some tactical tips to build your child’s credit and save for them in tax-advantaged accounts anytime after they’re born!

This is why index funds easily crush hedge funds year after year

In 2007 Warren Buffett made a famous million dollar bet that the S&P 500 index, an investment open to anyone and requiring no management or expertise, would beat a collection of hedge funds selected by and managed by Wall Street ‘experts’ over the next 10 years. Not only did Buffett easily win the bet, it wasn’t even close.

Vince McMahon could’ve been a hedge fund manager.

In the past decade, the S&P has trounced hedge funds in 9 out of 10 years (see table below.) The S&P returned over 440% greater gains compared to hedge funds from 2011 through 2020 compared to hedge funds:

From this excellent AEI.com article

Why do hedge funds generate lousy returns? It’s the fees

Minimizing fees (as well as taxes) are absolutely critical to investment success, and are why I recommend low-fee index funds to my clients, and also why I charge a flat fee that is far less than the 1% of AUM that other advisors get away with. (Reach out if you need a great financial advisor.)

Hedge funds have been infamous for their ‘2 and twenty’ formula, meaning many of them took 2% of assets under management, regardless of their performance, AND 20% of any profits they generated for their clients. This disastrous formula– for the clients; the hedge fund managers love it– is the reason Buffett won his bet. It was also why he was so confident that he would win at the time he made it in 2007.

Hedge fund fees have moved very slightly downward over the past 10 years– so have index funds’ already-low fees— but they are still massively large, especially when compared to the miniscule fees charged by index funds, often under 0.10%.

From CNBC here.

The bottom line: cut your investing costs to the bone

Never hire an ‘advisor’ (aka salesperson/broker) that receives commissions to sell you high-priced products, or charges you a percentage of AUM. Instead, go with a fee-only (= no-commission) advisor who charges you a reasonable flat fee for advice and investment management, like me.

Further reading on the hedge fund manager problem

Morgan Housel from the Motley Fool wrote this humorous article called ‘Two hedge fund managers walk into a bar‘ detailing the paradox of hedge fund managers’ brilliance compared to their awful returns. (It’s not really a paradox at all, it’s a simple agency problem: what’s good for high-fee money managers is bad for investors, and always has been.)