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Managing Cashflows


Cashflow Management


Good cashflow management is essential to any business. Without money in the bank, you may be forced to go without buying the supplies you need to make sales, be late in paying bills, or have no choice but to borrow money to keep operating. All of these scenarios impact on your profits.

If you forecast that you will make a good profit, you are on the right track. However, this does not mean you will actually have cash in the bank. Remember, profit is not the same thing as cash. When you are starting a business, you are likely to have to spend cash on buying the assets you need to make and sell your product or service. For example, if you have a lawn-mowing business, you will probably need to buy a lawnmower. While these purchases take money away from your bank account, only a portion of the cost (the depreciation amount) affects your profit.

If your bank balance is low during the start-up period, it is important to understand the reason for this. If it is a result of cashflow reasons associated with starting a business (e.g. buying assets), this may not be too much of a concern. However, if it is due to low profitability, you should look at your business model to see if there is a way to reduce your costs in relation to your sales revenue.
 
Key Point

Although it is common for a new business to not have much cash in the bank, check to make sure this is not due to an unprofitable (and unviable) business model.

Some practical tips for improving cashflow are as follows:
  • Reduce the amount of credit you offer customers. As much as possible, require customers to pay at the time a purchase is made. Where this is not practical, use credit checks before extending credit to customers, and require payment within one week. Try to make sure that anyone to whom you give credit has a track record of paying their debts.

  • Make debt collection a priority. If you need to offer customers credit, have a process in place for following up on overdue payments and follow this consistently.

  • Invoice immediately. If you wait to invoice, you must wait to be paid.

  • Set up electronic payments in advance. Look at the terms for payment on the invoices you receive and then set up a payment to occur the night before it is due. This keeps your money in your account for longer.

  • Use an electronic calendar to remind you of when payments are set to come out of your account. This could be the calendar function on a smartphone, or the calendar function in Microsoft Outlook, for example. This way you can make sure you have the money in your account when needed (and avoid ‘unarranged overdraft fees’). Get the calendar software to send you reminders before the payments are due.

  • Create a cashflow forecast so you can identify any problems in advance and prepare for them (or avoid them).

  • Reduce the amount of stock you keep on hand. If you have a retail premises, consider if you can set it out in a different way so it your displays and shelves still look attractive, but you do not have the volume of stock as you usually would.

  • You may also choose to lease rather than buy assets. However, weigh up the alternatives carefully. Leasing is more expensive in the long term (and therefore reduces profitability), but frees up cashflow in the short term.

  • If you must offer customers credit, and it is difficult to avoid slow payers, consider offering a small prompt payment discount. Remember that discounts negatively affect your profitability. Therefore, if possible, build the cost of the discount into your normal pricing so you can maintain a good profit margin.

Tax and Cashflow


As a small business owner, you are responsible for making sure your business pays its taxes. There are several taxes you are responsible for paying or collecting and forwarding to the IRD.
These include:
  • Employer Deductions and KiwiSaver Contributions. The amounts you deduct from employee wages for income tax, ACC levies, KiwiSaver, student loan payments, and so on, need to be sent on to the IRD. In addition, you must make KiwiSaver employer contributions if your employees are KiwiSaver members.

  • Income Tax. Your business must pay tax on the profit it earns and must make regular payments throughout the year (called provisional tax).

  • GST. As a business owner, you are responsible for collecting the GST your customers pay and passing it on to the IRD.
It is important that you pay your tax bills on time. If you get behind on your payments to the IRD, they will charge penalties, and will then charge interest as well! The longer you do not pay, the greater the cost of a missed tax bill. This increases your expenses and decreases profitability.

Using a cashflow forecast can help you plan ahead to make sure you have enough money to cover your tax bills. They are due at regular dates throughout the year so you should be able to plan ahead. It may help for you to increase the frequency with which you make payments. Although registering to pay GST six-monthly is an option for small businesses, consider two-monthly or monthly. The more often you make payment, the less likely you will accidentally spend the money on other areas of your business.

If it is your first year in business, you are not required to pay provisional tax through the year. Instead, you are required to pay your full tax bill after your profit for the first year is calculated. However, depending on how much profit you made in the first year, it is likely you will need to start making provisional tax payments through your second year of business. Paying this at the same time as you need to pay your income tax for the first year of business can be challenging for cashflow.

One option you have available to you is to start making provisional tax payments throughout your first year in business. Although you are not required to do this, the bonus is that you will receive a 6.7% discount on your tax bill (calculated as whichever is lower out of the amount you actually pay, and 105% of the amount of tax which is payable for the year).
 
Tip

Consider using the ‘AIM’ option for paying provisional tax (Accounting Income Method). Under this method, you pay provisional tax based on the profits you are currently making, as shown by your accounting software. This helps match your cashflow with your profits, and therefore reduces cashflow problems. Another benefit is that, as long as you pay the amounts shown to you by your accounting software (and do this on time), no penalties or interest will be charged.

Payments are due for the same period as you are registered for GST. Therefore if you pay GST bi-monthly, every two months you will use your accounting software to show you how much provisional tax to pay. If you make a loss, you can receive a refund instead of waiting for the end of the year.

To use this method, you must have less than $5 million turnover per year, and use accounting software which is compatible with AIM. At present, Xero, MYOB, and Reckon all have this functionality.