Did your company do business overseas this year? If so, you need to be prepared to handle the tax implications from these transactions.
The IRS taxes foreign currencies at their value in dollars, which can create recordkeeping and exchange bookkeeping nightmares.
Businesses also have to pay taxes on gains if they make a profit on exchanging currencies, and they must keep detailed records and note the exchange rates used in case the IRS audits them.
As the 2015 tax year comes to a close, now is the time to get all your bookkeeping and accounting in order. These tips will help your business better manage foreign currency record keeping and exchange rate monitoring.
1. Ensure Compliance With IRS Guidelines.
According to the IRS, “if you receive all or part of your income or pay some or all of your expenses in foreign currency, you must translate the foreign currency into U.S. dollars.” All federal tax payments must be made in your functional currency, which for most businesses will be the U.S. dollar.
Your “functional currency” will be the U.S. dollar if any of the following apply:
- You conduct business in U.S. dollars
- Your principal place of business is located in the United States
- You chose to or are required to use the dollar as your functional currency
- Your business records are NOT kept in the currency of the economic environment in which a significant amount of business activities are conducted (e.g., you live in London but do not keep your books in pounds).
2. Watch Out for Currency Exchange Fluctuations.
Currency exchange rates can be complicated, especially when you’re transferring large amounts of cash from one denomination to another. Even if you’re only transferring a nominal amount, small fluctuations in exchange rates can make a big difference.
Unless your job is to carefully monitor the markets, tracking foreign exchange rates – and knowing the best moment to make a big transfer – is a tricky business. Let a dedicated service for current interbank exchange rates do the heavy lifting.
3. Check Your Purchase Invoices.
Never assume that all your purchase invoices are correct. Even computers can make mistakes from time to time, especially if a currency exchange is involved.
Double check every purchase invoice to ensure you not only received the stated goods or services, but that the tax or VAT charges (if you’re dealing with foreign purchase orders) is listed correctly. The same goes for your suppliers; check your supplier accounts every month and compare against the items received. Be sure you aren’t paying double for any items or confirm that all foreign currency transactions were made using the correct exchange rate.
4. Use accounting software that can handle multiple currencies.
If you export and invoice in foreign currencies, it’s absolutely essential that your accounting service tracks these fluctuations. For example, let’s say you invoice a customer for $1,000, but the customer will be paying in pounds sterling.
On the date you invoice, make the conversion in pounds sterling in your accounting system, and then note the actual pounds received the day the customer pays. Due to foreign currency fluctuations, you may end up with a profit or loss from the currency exchange, and need to track this.
5. Watch out for duplicate invoices.
When tracking foreign currency transactions, it’s easy to inadvertently enter the same charge twice in your accounting system: one for dollars, and one for another currency, such as pounds or euros. This can lead to a serious bookkeeping reconciliation headache down the line! Establish clear processes from day one to reduce the risk for duplicate invoice entries.
If you’re entering a transaction with a currency conversion, always note the exchange rate used to make the transaction. This way if there is ever a question about the rate or how you ended up with a specific billing cost, you’ll easily be able to note the correct exchange.
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Bookkeeping can seem pretty tricky at first, especially when tracking multiple currencies. By setting up clear processes from day one and using a dedicated service to manage current interbank exchange rate fluctuations, you’ll reduce the risk for easy (but costly) errors.
To make your accounting processes more fool-proof, opt for a mobile cloud accounting service: doing so is a smart, affordable and secure option that can reduce overhead costs for your small businesses, boost productivity and eliminate the headaches of foreign currency bookkeeping.