Small Business Owners Encouraged To Fire Employees Before Tax Hikes

The Bay Area is full of entrepreneurs.  There’s something in the air that creates an almost godly electric spirit that causes people to work hard and innovate.  As 2011 nears, more and more I hear about how small business owners are clamping down in preparation for next year’s tax hikes.  Clamping down is generally not a good term to use if you are a politician who wants to create job growth.

Let’s say you make roughly $3 million in annual gross revenue from your internet business like my friend Zach does.  Not bad, but not exactly big money if you take into account his cost structure.  If his pre-tax operating profit margin is 25% after he pays the salaries of all his employees, the rent, and so on, Zach is left with roughly $750,000 subject to taxes.  If his tax rate goes up from 36% to 39.6%, for every dollar he makes over $375,000, he will pay roughly $25,000 more in taxes a year in 2011.

Well guess what?  My friend is letting go of one of his junior programmers who makes roughly $85,000 to pay for next year’s $25,000-$35,000 tax increase!  My friend feels bad letting his 2006 college graduate employee go, but he has no choice since revenue has declined since 2007, and the government is tightening the screws.  Zach believes that 2011 revenue will be worse next year than this year, and is budgeting a decline.  Thank goodness for 99 weeks of unemployment insurance!  And no, it’s not reasonable for the junior programmer to just go work in fast food after only several weeks of looking.

DON’T LISTEN TO THEIR LIES.  THEY AREN’T IN IT FOR YOU.

I’m trying hard to understand why the Obama administration wants to keep unemployment levels high?  Small businesses make up 90%+ of all employers, and 75% of the net new jobs in our economy.  Why doesn’t the Federal Government realize that punishing small business is bad for good people?

The reason why the government want to raise taxes on others is because they want more power.   By raising taxes on the majority of people who employ others, the government takes away the power of freedom and creativity.  Think about it for a bit.  Let’s say taxes are at 100% i.e the government owns you. In this 100% taxation environment, you become a zombie with no spirit.  As soon as the government announces they will lower taxes to 95%, the masses start stirring and productivity increases.  But, as soon as taxation goes to 0%, the people will do as they please, develop their own power, and in the minds of politicians overthrow the government!

Power is intoxicating, and I don’t blame politicians for craving power.  After all, their whole job is about creating attention, popularity and gaining power.  It’s just important for people to realize that not everything is what it seems.  Don’t listen to politicians who tell you that they want to promote economic growth and job creation. It’s just not true.   If they did, they wouldn’t be raising taxes in a weak economic environment.  What politicians want to do is to create the worst economic environment possible so that they can give themselves a low hurdle.  If you are at the bottom, there’s only one way to go but up, and they hope to capture all the glory when things eventually start to turn.

So to all the faithful liberal-voting small business owners who are pro tax increases and big government spending, listen to your leaders and fire your workers.  Feed their egos and feed their hunger for power.  You are doing the right thing as a citizen of the United States of America!  Go USA!

Readers, why do you think politicians want to disincentivize small business owners?  Do you think there is this cure for power lust?  If so, what would you suggest?

Regards,

Sam @ Financial Samurai – “Slicing Through Money’s Mysteries”

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Sam started Financial Samurai in 2009 during the depths of the financial crisis as a way to make sense of chaos. After 13 years working on Wall Street, Sam decided to retire in 2012 to utilize everything he learned in business school to focus on online entrepreneurship.

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Comments

  1. Mike Hunt says

    I think a fair solution would be to tax government employees 50% higher than non gov’t employees, after all they get a taxpayer guaranteed pension.

    Seems like this would put a lid on Team Obama.

    -Mike

  2. Kevin says

    Who are they going to tax? They have to get the money from somewhere. Yea it sucks and yea people are going to lose their job but that’s what happens. The economy is just correcting itself from such a big increase over time. People got greedy and spent too much money they didn’t have so now everyone must suffer. That’s just the way it works.

    And most politiicians are the way they are because we expect too much from them. We want them to change the world in a short amount of time so they have to tell us they will or we won’t vote for them.

    It all boils down to our expectations of the world. We need to stop wanting everything now now now and realize things take time. Sorta like a 401k. Right now it’s not that much but over time it adds up.

    • Financial Samurai says

      What about taxing the 40-47% of Americans who don’t pay any taxes? That’s 100 million people. Let’s tax them all a flat tax of only $500 a YEAR. We just raised $50 BILLION every year.

      Maybe my idea is to easy and to smart.

  3. David M says

    It he kept the employee and paid him $85,000 the $85,000 in salary the profits would be less and the taxes would be less. Thus by laying off the person his profits will be higher and his taxes will be hire.

    Why would I dive $900,000 by 8 employees – the $900,000 is going to the owner of the company and not the 8 employees! The 8 employees are part of the $1,500,000 in expenses to run the company that made $1,500,000.

    I do not think politicians, have any hard feelings against small business owners, they are just trying to find a way to pay for government.

    • Nick says

      This is true. Employee wages and salaries are deductions from taxable income for a business.

      Businesses pay their employees first, then pay their taxes on what’s left over as profit. It may reduce growth, since he will have less cash left over out of his annual profits. If an increased tax burden means he is laying off employees I think he likely has cash flow problems.

      • David M says

        “4% incresae in expenses means 4% less profits” – Why didn’t you just say that was what you were trying to get at and I would have understood!

        I thought the numbers in your story were supposed to make sense – foolish me.

        For example, if getting rid of that $85,000 salary is going to mean no decrease in revenue and all $85,000 is going to go to the bottom line – why not lay the person off now, even if taxes do not go up?

        Sorry I tried to make things difficult but I’m a Certified Public Accountant and I did not see how your numbers added up.

        For example, I still do not know why you are dividing the $900,000 profit between all of the employees.

        Maybe what your friend needs is a good tax accountant?

        BTW, love your blog – keep the posts coming!

        • Financial Samurai says

          David, once again you’re over thinking things. The point of saying dividing the $900,000 between 8 employees is to illustrate the point that $900,000 is NOT a lot of money. Of course it’s not going to be divided equally, and of course salaries are paid before taxes. This is not a CPA course blog lol.

          Come on David, don’t be the guy who is misses the big picture. You know, the guy who corrects punctuation errors in comments.

          Share with us what you think about raising taxes against small business owners in this environment. You can do it! I know you can!

  4. Investor Junkie says

    The reason why, no idea Sam. The idea of power really seams the only logical conclusion.

    As far as small biz like mine not hiring it’s simple like you’ve said. I personally would rather outsource than hire full time employees.

    I’ve learned it’s best to be more productive with resources and automate things, than hire more people. Thanks govt for that incentive!

    • Investor Junkie says

      Oh and it’s gonna be fun in 2011 with the tax increases. I can’t wait. People take as much income this year and decrease your income next year (if a biz owner). Everyone is moving their income to this year instead of the typical differing it.

      • Financial Samurai says

        I’d definitely try and get paid as much as possible in 2010 vs. 2011! Talk about a massive money shift to this year to avoid taxes! Gonna be interesting to see how publicly traded corporations do it. Might kill earnings, valuations, and the market overall at the margin.

  5. Everyday Tips says

    I think the ‘rich’ in this country are villified, which I completely do not understand. Therefore, politicians can take from the rich because they are a small percentage of the population. The government gets more money, and they get more votes because they affected a small segment of the population that is disliked, even though the rich carry the load for many.

    It drives me insane. Nothing like being punished for getting educated and being successful.

  6. Bruce says

    The return to the 39.6% tax rate is for individual tax returns and not for the company. He is only going to be hit with an additional 50k tax bill if he pays himself the 1.5 million. So, if he isn’t paying himself the 1.5 million I suggest he get a new accountant to set him straight. And, if he is paying himself 1.5 million, and he can’t cut his salary down to 1.4 million in lieu of letting an employee go, then I reckon he needs to rethink his business plan.

      • Bruce says

        First of all, taxes are not going up, they are going back to normal. There was a “tax cut” implemented that is now expiring. Anybody, who is in business should have known this from the start and should have planned for it.

        Secondly, there is a disconnect in your facts. According to you “Divide $900,000 in after tax profits by 8 employees, and Zach isn’t exactly raking it in”. Well, as I’ve pointed out, the only way he is getting hit with a 50K tax bill is if he is paying himself 1.5 million in income. The corporate tax law isn’t changing only the personal income tax structure.

        Finally, like I mentioned, you don’t let an 85K employee go so that you can pay yourself 1.5 million a year instead of 1.4 million. You let them go if they cant increase revenue and grow your company and you let them go if they can not. This is the true reason your friend is letting him go. Revenue is decreasing. It’s just more convenient to blame the tax law because since nobody really understands how tax laws work we (at least most of it) buy this reasoning.

        • Financial Samurai says

          You say potato, I say potaHto?

          Taxes are going up either way you cut it.

          Of course Nick firing his employee is not a 1X1 savings. He’s saving more, b/c he expects more punishment from the government.

          The tautology is that Nick is getting rid of one of his employees b/c taxes are going up.

          So please tell me your stance, since now you know the clear cut truth. Are you for raising taxes on small businesses during these times? If so, why?

        • Bruce says

          I am not for increasing taxes on small businesses, but you haven’t proved that it is the case yet. So, let me help you out

          1. The tax increase is likely to be only for small business owners with taxable income greater than 250K/year. This is not the majority of small business owners. So right away this eliminates a good chunk of the businesses out there. Not to mention, those with taxable income under 250K are likely to see their taxes decrease.

          2. Now, of the business owners that will theoretically pay higher taxes. Well, these people normally have some fairly sharp accountants that find other ways to pay them instead of salary, whether it be in dividends or setting up an offshore corp to defer taxes, etc. Thus they bypass the income tax increasing altogether.

          3. There shouldn’t be anybody left now, but lets assume there is still a business owner left paying the higher income tax rate. Well, if it costs them 100K (salary, health care, etc) to employ David and having David brings in 200K of additional revenue then this year the business owner personally make a profit of 74K from having David around. Of course, next year due to the tax increase they will only see a profit of around 70K instead. So, does the business owner fire David. No. Having David around nets them 70K while not having David brings them in 0K. So, I repeat, your friend would not be firing David because of taxes. Your friend would fire David if his increase in revenue doesn’t offset David’s expenses.

          A pretty simple thing happened here. Your friend told you a whale of a tale and you bought it hook, line and sinker. And then you went and posted it on your blog without doing any fact checking.

          • Financial Samurai says

            Im with you Bruce. We need all the money we can get, and I’m all for taxing small businesses out the wazoo.

            I agree that all it takes is some financial accounting, therefore no business owner or person actually who makes more than $250K or $380K will ever have to pay higher income taxes even if they are raised.

            Tell me you are one of the people who either has a small business or makes more than 380K so that all you’ve said is not for nothing?

            Cheers

  7. Little House says

    It’s funny, I had a note to myself to write about how small businesses are really the backbone of our economy. (I literally keep notes about what I want to write about and eventually get to each idea.)

    Recently, I visited a small town just north of where I live. What I noticed was a small down-town area that had been renovated, but many of the small businesses were closed. The town’s main artery was dying which in turn was causing the town to die with it.

    Small businesses are the driving factor in many towns (big and small). The more the government hikes up taxes, the more small businesses will have to layoff their staff, like your friend is doing, or completely close-up shop. Small businesses actually employ quite a bit of our population.

    The solution would be to give small businesses a tax break. This would help rejuvenate town centers, allow them to hire more employees, and begin generating income for the town which could kick-start our economy. Start small to build big!

    • Financial Samurai says

      Yeah, I try and write down all my ideas as well in my PDA. It’s frustrating when I forget sometimes.

      A tax break/incentive is exactly what small business owners need. How about a tax incentive if a small business goes out and HIRES a worker? How win/win would that be?

      Nope. The gov’t needs power. Can’t have the economy flourish under their watch.

  8. Nick says

    Sam, what’s the point in thinking about 100% tax rates or 0% tax rates?

    Do you really think that a raise of 3.6% in the highest tax bracket that brings it back to Clinton-era levels has anything to do with a 100% doomsday scenario?

    And would 0% be so great? It would be anarchy. There’d be no government anything. Every road would have a toll, every school would be a private school, all fire depts would be purely volunteers, police would all be mercenaries, we’d have no FDIC or SEC protecting us. And out military would be local militias with their own guns and no central leadership or intelligence. There are some folks who’d like to live in a world like that but I’d prefer not to.

    • Kevin@InvestItWisely says

      A world of 0 taxation might be scary to imagine, but it doesn’t necessarily mean anarchy in the sense you’re thinking of. There’s plenty of research in that direction, and with technology I believe that it becomes more realizable with every day. Don’t expect it to happen in the USA anytime soon, but it can easily start happening in incremental steps around the fringes. In the last century, we saw a breakdown from huge empires to a much more polycentric order. Some of these experiments (i.e. Hong Kong) turned out quite well.

      Imagine what the Romans of 2000 years ago, a civilization that depended to a great extent on slave labour, would think if we told them that slavery was illegal. “zOMG how would we get anything done!” As time goes on, we recognize more and more forms of involuntary systems as slavery and as immoral. That’s simply how the process of becoming a more civilized species works. In a century from now, we might very well see taking away 50% of the fruit of one’s labour as equivalent to forced slavery for half a year. Who knows…

    • Mike Hunt says

      Nick,

      About you talking about 0 government:

      Roads do have a toll- they are funded by gasoline tax, a fair use tax by my thinking

      Private schools- great, let there be a competitive price for schools and get rid of the teachers unions who protect mediocrity and get into bed with local politicians

      Volunteer fire department is fine by me, in fact they do a great job when not threatened by the fire department unions who are threatened by the fact some people like to volunteer their time to do this work while they earn $200k a year doing it, retire at 50 with 90% salary for life. Boo-yah to the volunteers!

      Police- Well they only come in after a crime has been committed and then try to mete justice. They are mercenaries in the sense that they extort tickets with speed traps and victimless crimes like busting someone for pot. If someone is attacking you the odds are low that the police will be there to help. They will write up the report after the attack though.

      SEC regulation is a joke, there is no indictments on the high frequency traders or control over this in the market. The big banks who are laundering money are deemed too big to go after- remember that story. Going after Martha Stuart for $70k of insider trading is what they are doing.

      FDIC insurance is a mistake that encourages a bank to be reckless since the gov’t backstops them. Remember the savings & loan crisis? FDIC made it worse because banks had to outbid each other for a high interest rate for depositors. Why not let people due the due diligence and find out a sound bank that way?

      Name one government service that is essential to be received via a centralized system… since I had a counter point for each item you listed…- the only thing I can come up with is a strong military but not much else.

      -Mike

  9. Kevin@InvestItWisely says

    The government has always been about a balance between keeping the people from revolting and gaining as much power as they can. It was true in the Roman Empire and it is true today.

    Once in a while, experiments are done to make government “for the people, by the people, and of the people”, but, such governments rely on non-self interested politicians, which are about as rare as true geniuses.

    Technological progress and education are the ways forward. As technology enables increased production and wealth, it becomes more profitable to trade with your neighbours and less profitable to enslave or destroy them. The free market is the only system of organization that does not rely on politicians to be like Mother Teresa in order to truly have a system that benefits everyone and does not violate the rights of some to make life better for others. I believe that people are inherently good, but people are also inherently self-interested. Special power and privilege tend to bring out bad traits in even good people. Most people, out of self interest, will not give up power. All systems that pretend that you can give one class of people special power over others and yet expect them to not use any of that power for their own benefit are doomed to failure.

  10. ctreit says

    If raising the marginal tax rate from 36% to 39.6% is so bad, it must be good when the rate goes from 39.6% to 36% as it did 10 years ago. Alas, unemployment was around 4% ten years ago and it is now almost 10%. How do we explain that?

    • Financial Samurai says

      That’s easy. Many people who are paying the 36% now weren’t paying the 39.6% 10 years ago. Hence, when they see going from 36% to 40%, they are totally pissed off and disincentivized.

  11. Sunil from The Extra Money Blog says

    it’s a vicious circle isn’t it? i think it is a combination of both power hunger as well as helplessness. the government is in a big mess (many past administrations were also in a mess) and i think it often finds itself cornered with not too many options. there are lobbyists to please, who often are the upper eschelon and not the small biz owner. yet, statistics do show that small biz run and fund the country (tax dollars, jobs etc). sad story.

  12. myfinancialobjectives says

    It does not help that the government is hiring people like crazy right now. For every new government job, we need a few civilian jobs to cover it. If the civilian sector is losing jobs, can you please tell me how this is going to work out.

    I agree that our government is completely out of control. I had a great visit with my 89 year old grandfather who worked in government all his life. He is ashamed of what he used to be a part of. He cannot believe the mess we have gotten ourselves into. The government, as puts it, reminds him of Nazi Germany during his time with the Army Air Core.

    We are on a dangerous path…

  13. Darwin's Money says

    I just hope all the rich elite who voted for Obama are happy now. This is the hope and change they sought. The economy will not improve until mid-terms, assuming Reps can break the supermajority. Obama’s agenda is decimating the economy. Not getting political on ya here; just talk to any small biz owner, large biz executive, Chamber of Commerce, etc. It’s all out war against business.

    • Financial Samurai says

      The problem w/ Obama is simply the economy and unemployment. He’s polarized both the poor (since unemployment is still high) and the rich (by killing incentives and raising taxes), and the middle class is squeezed.

      Could very well be a revolution this November!

  14. Mike Hunt says

    The reason I’m so down on Obama is simply because he made me feel like an idiot for supporting him early on. During the campaign he was vague enough that I felt like I could get behind what he was trying to do. He was also charismatic, appearing to be intelligent, and an excellent orator. However once he won the election I was aghast with his adviser and cabinet picks. Basically all recycles from the Clinton and Bush administration.

    In spite of what a danged fool Bush was, I really miss him now that Obama is in office. People didn’t like Bush but at least you knew that he was a simple minded guy. In September 2008 when he was talking about the economy and said: “This sucker’s gonna go down”, he summarized the situation perfectly. I have much more respect for Bush than Obama, who now comes across as a very disingenuous individual. Surprising so many still unconditionally support him.

    The problem with Obama is he was so inspiring at first and such a letdown now- people aren’t going to fall for the same promise again. Therefore I’m pretty sure there is a high chance of getting a wingnut in the Oval office in 2012. The logical next step after Obama is a revolution, which may be a good thing.

    Of course, both sides of the aisle are totally bought over by the corporate and lobbying influences and that is the real shame of the USA.

    -Mike

  15. Kevin@InvestItWisely says

    Sam,

    Why do you think that the government won’t punish business owners for firing employees? They can introduce some kind of tax credit or something else that is withheld should a corporation or small business lay off people. With the way things are going, they could even try to introduce new legislation to that effect, but they don’t have to.

  16. David M says

    Financial Samurai,

    We will just have to agree to disagree about what, “Divide $900,000 in after tax profits by 8 employees, and Zach isn’t exactly raking it in.”, was suppose to mean. You are the one that said to DIVIDE. To me, one person making $900,000 after taxes with only 8 employees means that Zach IS raking it in.

    Do I begrudge Zach any of the money he is making, absolutely not! He took the risk and created a company and seems to be doing well. I hope Zach can make even more money and thus he can pay more in taxes!

    OK I will share my thoughts about raising taxes on a “small business owner in this environment”. I do not think Changing the top tax rate from 36% to 39.6% is as big a deal as you are trying to make it seem. Let’s assume his taxes are increased by the $50,000 you mention above, thus if the tax rate does not increase, he will make, $950,000 next year instead of the $900,000 that he would make if the rate does increase. $900,000, $950,000 both seem like nice amounts of money to me.

    Thanks for taking the time to reply to my previous post and to all of the other posts that you replied to. It really is great to see that you take the time to reply to so many posts, it shows that you read the responses and think about them.

    P.S. Thanks for not correcting the grammar errors in my posts! :)

    • Financial Samurai says

      David, do you think Zach’s employee who is going to get the surprise pre Christmas pink slip going to agree with you?

      Also, will you be paying 39.6% in Federal income tax next year if the extension doesn’t continue?

    • Investor Junkie says

      $100k is “raking it in”? In high taxed areas like CA 100k is doing not bad but in most cases he could work for someone else at a similar to higher salary. Why take the risk as a small business owner??

      The problem with an S corp is his corporate profits flow down to him at the personal level. To the government he certainly looks like he makes more than that $100k. I hope in his case he has many deductions and method to lower his “profit”, otherwise in 2011 he’ll be paying much higher taxes.

  17. David Damron says

    I have an idea….

    I am down for keeping tax rates the same and tax $500 to the 40-47% not paying taxes……..IF……..we bring home every single military person and equipment outside of our border and everyone who chooses can waterboard Cheney for 10 minutes.

    Fair deal?

  18. JT says

    Sam,

    What a great post. Funny how people think taxes will just go back to “normal”, that it’s not really a tax increase. So, I’ll be paying more taxes but I really won’t be paying more just the normal amount? Huh?

    People who’ve never struggled with a small business have no clue how much of an impact taxes have. Do you realize that if I have sales providing a service in my state, that I have to pay taxes on those sales? Even if I have a loss at the end of the year? It’s called a gross sales tax. It should be called extortion. That’s like a reverse Christmas bonus. How many employees would be ok if their boss took money from them at the end of the year? Their would be an armed revolt! But it happens to small businesses all the time.

    I too work for the government as a contractor. Don’t want to be and don’t plan to be for more than another year. I’m trying to get back on my feet after 5 years of trying to keep a failing small business from going under (which it did anyway).

    The government *is* hiring like crazy. I work in an office of ~30 people and 25 are a grade GS-13 and above. A GS-13 makes $71K / year starting out. That doesn’t include “locality” pay which, in some cases, can be another $30,000 or more. Here in Alabama, the locality pay is an additional $10K. So, base starting pay is $81K. That also doesn’t include benefits which is another $30K/year. That also doesn’t include the massive amount of overhead generated by each employee nor the public union overhead.

    Just recently, a gentleman retired as a GS-15, step 10. So his exit salary was $147,000. And remember all of my “does not includes” above. His locality pay alone was $17K. How many hurting people could use $17K per year to stay out of foreclosure?

    He was enjoying his retirement so much that he actually came back as a GS-14 step 10 ($110,000). You can do that in the government–retire but not really retire. He was actually upset that he was not restored to his previous pay level of $147K. So, he’s probably making $50K-$60K per year from his retirement and another $110K from his current job.

    Want to guess his reason for coming back? To “serve” the public? To be a force for good? To make a difference in a younger employee’s life? Nope. He wanted pay off his $40K truck and $200K house early. On your dime!

    Crap like that goes on *all* the time. And I’m a peon in one small office at one small location down in podunk Alabama.

    I wish I could be President for just one day. I could save this country without raising taxes a penny.

    Ok. I think I’m done with my rant :-)

    Thanks again for the post!

    • Pop says

      On net, the government is firing people. Last month government payrolls shrank by 202,000. Even taking out the 143,000 workers who were Census workers, that’s still 59,000 fewer government employees than in June. The government also employed fewer people this July than they did in July 2009.

      City and state governments especially are bleeding people at an extremely rapid rate. By law, they aren’t allowed to run deficits like the federal government does.

    • Financial Samurai says

      JT, great insights man! I like what you said about sales tax.. that it should be called “EXTORTION”! lol. Nice.

      I commend you for starting and running your small business! Anybody who has run one knows it’s damn hard work!

      90% of your last years salary in pension is sweet. Federal government employees are raking it in, and people don’t even know it. Brilliant!

  19. Charlie says

    “Small businesses make up 90%+ of all employers, and 75% of the net new jobs in our economy. ” – wow really?! It’s that high? I had no idea it was that big.

    • David M says

      Probably true and also true – more than 90+% of those businesses do not make enough money to be effected by the potential tax increase.

  20. David M says

    The system would not allow me to reply to your question so I have written it below:

    Good to know.

    Do you feel it is easier to argue to raise other people’s taxes if yours doesn’t get affected? If so, why do you think this is? Do you think it is right for people to be able to raise taxes on one group of people if they are not affected themselves?

    I am not “arguing” to raise anyone’s taxes. I was just writing based upon the assumption that taxes would be increased by 3.6% as you stated they would be.

    If taxes are increased by 3.6% on high income earners and those grossing $1.5 million only have net income of $900,000 versus $950,000 – I do not think it is as big a deal as you seem to think it is. I’m arguing nothing more and nothing less.

    BTW, it appears less likely that the tax increase is going to happen anyways as Democrats are starting to come out against the tax increase. I hope that people do not shift to much money into this year that bumps them into a higher tax bracket and they end up paying more taxes over the 2 years then they would if they just let there income fall in the year it would normally fall.

    • Financial Samurai says

      David, you’re only thinking about Zach. You’ve got to get your mind away from Zach and think about his employee he’s going to fire this year because of tax increases.

      We’re not talking about Zach’s decline in income. We are talking about someone who makes only $85,000, who the Obama administration is trying to help, losing his job in a bad economy.

      • Pop says

        Hey Sam, I think what’s confusing everybody is the structure of Zach’s company. Employees are normally paid before personal income is taken. So the programmer would get paid out of that 50% margin before Zach’s personal income taxes are taken out. In one or two-man businesses, they might not bother to become an Inc. or an LLC, but with eight people, it would be crazy for Zach not to have registered his company in some way.

        But more than that, if Zach can get rid of an employee without decreasing his revenues, that begs the question as to why he’s employing the guy in the first place. Theoretically, if he laid off the $85k per year programmer, his revenues would go down by some amount depending on how much the guy added to his company. If that guy added more than $85k per year (plus benefits) in value to the company, then it still makes sense to employ him, even if taxes went from 36% to 56%.

        That said, sure, people can get fired after a tax increase. With more taxes taken out, people spend less, which leads manufacturers and service providers to earn less revenue and fire people.

        I think maybe Zach is afraid his customers are going to buy less of his services, and that’s why he’s cutting an employee? That would make a lot more sense.

        • Financial Samurai says

          Hi Pop,

          You are right wrt to paying for employee wages pre tax as David above pointed out. I’m just trying to make a simple point that 1) $1.5 million operating profit divided by 8 people is not exactly a ton of money even if the headline revenue is $3 million, and 50% is a damn good operating margin, 2) Zach is bearish on the economy b/c his taxes are going up, and taxes are going up means there will be less spending.

          It’s just that simple.

    • JT says

      Funny you ask. I’m really not sure. The gentleman I gave as an example? Not much. They created a place for him. He tried to change a bunch of my work. I threw a big enough fit that he left me alone.

      The inherent problem with government employees is that there’s no accountability. There’s no incentive to do anything more than the absolute minimum. Which isn’t very much to begin with.

      You see, government doesn’t use the same yardsticks as corporate. So, having a bigger staff, spending more, having better equipment, and getting quasi-tenure indicate success.

      Working for the government should not be incentivized. I’m not saying people shouldn’t get paid to do work. But government employees don’t produce anything. They manage and administer. It’s just such a huge monster that’s been let off it’s leash for too long.

  21. Nunzio Bruno says

    I was floored by this article Sam! I am sorry to hear about your friend Zach and his young programmer. I kind of lost tabs on this particular issue for a bit but am soo glad that you are on it because it really is kind of shocking. I wanted to make sure that you saw I added you to my little carnival too..you were always supposed to be there :)

  22. Best CD Bank says

    Interesting article, although I don’t agree 100% with your theory, I think that the government’s taxation system is not correct, and in-deed should not tax the small business higher than the big corporations (unbelievable break-down of your friend’s income and taxes. Yikes!) The power struggle is something that humankind has faced since the beginning of time, which I don’t think there’s a solution for, unfortunately.

  23. Khaleef @ KNS Financial says

    I think the reason why small business owners are always attacked by politicians is because of the attack on the “rich”. This nation has turned into people who hate those who prosper, and Obama has blindly labeled anyone making over 250k/year “rich”. Not realizing that these “rich” are really small business owners who do the majority of the hiring in this country, we now have a big problem.

    Promote growth in small businesses and you are seen as supporting the rich – and you will not be elected into office! So, the alternative is to crush the economy by stunting the growth of small businesses, and then find something else to blame when the economy stalls!

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