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How to Manage Your Small Business Finances

Your guide to thorough small business financial management – and peace of mind.

Are you at the helm of one of the 30.2 million small businesses in the U.S. today? Small business success is grown with a healthy combination of passion, drive, and unrelenting dedication. For many, however, the concept of financial management, budgeting, bookkeeping, and taxes are among the least-enjoyable activities.

To protect your investment, proper attention to financial detail is necessary. Not only will efficient practices help promote your profit, but your diligence can also protect you and your staff from compliance issues and legal trouble. Understanding the basic concepts of small business finance is a great starting point, along with a working knowledge of the most common financial terms. From there, understanding the ins and outs of business debt, credit, and small business taxation are also fundamental theories to master.

Financial Management: Vital to Your Bottom Line

Properly managing business finances is more than just a good idea. In a for-profit venture, keeping a keen eye on your cash flow, expenses, and revenue is an irreplaceable step in maximizing earnings, growing, expanding, and hiring more help. For non-profit businesses, proper oversight of donations, grant dollars, and all other sources of income is necessary in the event of an audit or inquiry.

It is important to understand the consequences that can befall otherwise well-meaning businesses if financial management measures are ignored. If a small business has investors, the owner/managers are accountable to those folks — who can (and often do) request to inspect financial records. Other issues that may come up in the wake of mismanagement could include cash flow problems, resulting in vendor/supply-chain interruptions or delays in acquiring inventory.

Small business optimism — a quantifiable measure — is at an all-time high. Establishing good habits and working knowledge from the start is generally all that is necessary to avoid these corporate complications, beginning with the basics.

Best Practices for the Business Owner

Remember that financial management is not necessarily difficult, it simply requires diligence and commitment. With approximately 80 percent of new small businesses now surviving the first year, the following concepts are most important to remember when preparing business policies and protocol:

1. Start with a Workable Budget

A budget is, simply put, a money plan to help account for every penny in and every penny out. To start, make a list of all monthly income sources you expect your business to generate, including sales, interest on investments, rental property income, etc. Income information can be gathered from your profit and loss statement, discussed in further detail below.

Then, make a separate list of the expenses you expect your business to incur on a regular basis, which can include inventory purchases, payroll, insurance premiums, taxes, utilities, fees, and payments on debts (to name a few). There are many helpful small business budget templates out there, available readily online.

2. Educate Yourself on Bookkeeping Techniques

Bookkeeping is a method by which an owner keeps track of all financial transactions conducted by the business within a period (often monthly). You can opt to bookkeep the old-fashioned way with a pencil and a ledger book. You also have the option of cloud-based bookkeeping through tools like QuickBooks, Xero, or Mint — all of which are available for a reasonable fee. Some small businesses also opt to outsource this task to a trained bookkeeper who may work as a contractor or part-time employee.

3. Understand Cash Flow

Understanding where your money goes is an integral piece to financial management. As one study revealed, as many as 82 percent of failed businesses point to cash flow issues as the culprit. A cash flow statement covers a specified period of time and accounts for the amount of cash spent and for what purpose. It helps avoid unnecessary bank account overdrafts, overspending, and unnecessary hemorrhaging of liquid assets. Like a business budget, cash flow worksheets are readily available online.

4. The Profit & Loss Statement

A profit and loss statement examines the overall business revenue, profits, and losses within a certain period of time (e.g., quarterly, annually). The statement is important for the purposes of obtaining working capital or seeking a business loan. It is also important for businesses with investors or shareholders, as it provides a full financial picture. Be sure to keep this updated regularly so it is ready if requested. Workable templates are available at low or no cost.

5. Balance Sheet

A balance sheet keeps track of a business’s assets, liabilities, and equity. The document is likewise important to keep updated, and the general goal is to balance assets equally against liabilities plus equity. This document is important to lenders and investors, so be sure to make regular entries as your financial picture changes.

6. The Forecast

Are you expecting sunny skies ahead? Forecasting your financial picture is key to meeting goals, determining whether it is time to take out a loan, or deciding it may be time to reduce expenses. There are a couple of different ways to prepare a revenue forecast, and working with an experienced professional to get the hang of this technique may be necessary for the first few years.

Tips for Success

When it comes to financial management, the to-do list can quickly seem overwhelming. These are some best practices to help business owners set up shop to maximize organization, efficiency, and compliance.

  • Obtain a Tax ID: In many cases, a small business will need to assume its own individual identity, starting with the assignment of an employer identification number, or EIN. It is easily obtained from the IRS, and the forms can be filled out online.
  • Checking the Boxes: All business funds should be kept completely separate from personal funds. Once you receive your EIN, use it to open a commercial checking account at a bank with which you are comfortable. Don’t skip this step, as “commingling of assets” is one of the top reasons for an IRS audit.
  • Payroll: If your business has employees, you must be very diligent in properly setting up payroll. Accounting software can help with this, and you should consider putting together an employee handbook to keep workplace conflict at a minimum (including policies relating to paid time off, bonuses, etc.).

Your state/local jurisdiction may also have additional start-up requirements for you to follow, such as obtaining a business license or submitting to inspection. Be sure to check on these policies, or your business could incur fines and penalties.

Tools of the Trade

Navigating the business world can be daunting, and there are professionals available to help you along the way. Working with a business attorney is one way to properly set up your entity (as in, are you a corporation, partnership, or something else?)

Similarly, the investment of working with an accountant can offset many of the start-up questions many new businesses face, such as how to understand cash flow statements or profit/loss worksheets. As well, seasoned business owners may be willing to take on a mentorship role with someone just starting out, so it may be helpful to ask around in your industry if you have questions.

Taxes: A Necessary Evil

Taxes. Yes, you have to learn how to do them. And yes, it can be done! Business taxes can be a bit more complicated than personal taxes, so it may be worth it to invest in that accountant discussed above — at least at first. The following are some of the taxes you will need to consider as you set up your financial management plan:

  • Income tax: The average effective tax rate for American small businesses is about 19.8 percent, give or take depending on the nature of your entity. Even if a business takes a loss, an income tax return must be filed annually. Also, businesses must pay estimated tax quarterly to avoid being hit with penalties and fees at the end of the year. Accounting software can help with this, and the IRS website also has tools to avoid over- or under-paying Uncle Sam.
  • SelfEmployment tax: It stands to reason that if you are in business for yourself (as opposed to paid by an employer), you will need to somehow continue to pay into Social Security, Medicare, etc. Enter: the self-employment tax. This is one of the heftier tax liabilities for business owners, so be sure to plan accordingly throughout the year.
  • Local Tax: Your state will make its own tax assessment of your business, and you will need to write a check to the treasury department in the event you owe. Be careful not to forget this step, as they will come knocking!
  • Other taxes: Certain industries garner their own unique set of taxes, such as farming, transportation, cargo, etc. For the first few years, this is where the accountant comes into play, as there may be specialized forms for you to submit.

Almost no one loves taxes. If your business cannot afford the tax bill, be proactive in contacting the IRS and local treasury department to discuss your options. Nothing is worse than ignoring the problem, which could result in a judgment or lien.

Business Borrowing: Understanding Debt

Many businesses seek loans to expand and grow, meet obligations, acquire more assets or hire more employees. Currently, U.S. small businesses hold an average of $195,000 in debt. Financial management experts will caution against getting too bogged down in debt too soon, as this could spell disaster in the event of a default.

However, if you have a good track record of sales, your balance sheet is in order, and you are doing well overall, it is likely that banks could be open to offering certain loan products, including an operating loan, line of credit, or secured loan (backed by collateral). Your business will need to show a track record of on-time payments and a good credit score to qualify, all of which start with a strong commitment to the fundamental financial management techniques discussed above.

Getting Started with Your Small Business Finances

With practice, managing your small business finances will come easily. As you develop positive habits, you will undoubtedly start to see gains in your cash flow, which will hopefully result in expansion and growth. Just remember to keep it simple and don’t overthink the process, and reach out to knowledgeable professionals as the need arises. In the end, you and your business will be better off with an orderly and efficient financial management scheme — a win for you and your bottom line.

Want to learn more?  Here are some relevant resources to check out:

How to Budget and Increase Profits for Your Small Business

Startup Costs to Consider as a New Business Owner

5 Accounting Mistakes Small Businesses Make

10 Finance Tips for Small Business Success

How to Project Sales for the New Year

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