Life is busy enough and being the owner of a business adds another layer of stress on top of it. And now being tax season, you’ve got a year of financials to catch up on just to file your taxes and then somehow come up with the huge chunk of cash to pay it. If you’ll follow the guidance bellow, you will have enough cash to pay taxes… and that’s with just one of the principles you’ll read about.
Plan for Healthy Cash Flow
January is all about new beginnings, starting over, and resolutions. We set goals and plan out what we’re going to do differently this year to make it better than last year.
The two most popular New Year’s Resolutions are related to following a healthier diet or fitness plan and growing your wealth.
Yep! That sounds about right. I feel like those are the exact same 2 resolutions I make every year.
Every January 1st I write out a menu for the week, schedule my workouts, and vow to lose 20 lbs. by spring. January 2nd, I get up, put on my work out clothes, one of the really expensive but worth it because it’s cute outfits that I just bought yesterday (What? If I’m committing to going to the gym every day, I should at least look cute doing it.) and I head to the gym.
This goes well for the first few days. Then Friday arrives and I’m tired. I’ve been to the gym every day this week, my muscles hurt and I’m starving because I haven’t had any sustainable carbs for a week.
So, what do I do?
On the way home I stop by the new family owned, home-made ice cream shop on Main St.
Yes, I know I’m sweaty, but my hair is in a perfect ponytail and I’m wearing another one of the cute outfits I bought last week. And besides, we should support our local small businesses, right?
Let’s face it, 2020 and 2021 were not good years for small businesses.
Well, this year is going to be different. This year we (that means you and me) are going to follow the four core principles of Profit First.
If you understand these four core principles, you are well on your way to a more profitable (and healthier) 2022.
As John says in Profit First for Microgyms, “Nutrition is to the body as accounting and finances are to your business.”
Traditional accounting follows the SALES-EXPENSES=PROFIT formula. Profit First, as the name implies, takes your profit first with a SALES-PROFIT=EXPENSES formula. The four core principles built on that concept are:
- Small Plates
- Eat Veggies First
- Remove Temptation
- Eat Smaller Meals More Frequently (The 10/25 Rhythm)
For some reason, our parents taught us that we had to eat everything on our plate before we could have dessert or leave the table.
Did you know that the plates our parents used were about 9 inches, and today, the average American plate is about 12 inches?
And for some reason most of us feel the need to use up all available space on that plate when we’re dishing up our meals. That’s about a square foot of food we just piled on our plate! And we’re going to eat all of it, or Mom is going to make us feel guilty about all the starving people in the world.
Human nature teaches us that we serve ourselves in proportion to our plate size and that, on average, we consume about 92% of it. If we switch to a smaller plate, we will automatically consume fewer calories, or get to dessert faster, whichever you prefer. And studies show that we still feel full or satisfied.
Most small business owners have one bank account for their business. All of their food is piled onto one large plate. And, as we just learned, it’s our human nature that we will keep using those funds on whatever we feel is needed at the moment until we consume about 92% of it.
With Profit First you set up more than one bank account and allocate the funds on a weekly or monthly basis. The book suggests the following seven accounts for gym owners. But really, the system can be adapted for your specific situation.
- INCOME ACCOUNT to receive payments for the services you provide. Its sole purpose is to receive deposits then transfer the money into the other bank accounts.
- PROFIT ACCOUNT to provide quarterly profit distributions to all owners.
- OWNER’S PAY (per John, “If we are working in the business, then we are the most important employee, and a good boss always makes sure the most important employee gets paid.”)
- TAX ACCOUNT to save so you don’t have to stress about how to pay taxes anymore.
- TEAM MEMBER EXPENSE ACCOUNT to pay your team members.
- EQUIPMENT ACCOUNT to buy or repair equipment.
- OPERATING EXPENSE ACCOUNT to pay bills and other expenses of operation for the business.
Each bank account is a smaller plate. This strategy forces us to spend differently. Mike Michalowicz, author of Profit First , said, “So rather than try to curb my spending habit, I would create the experience of having less cash on hand than I actually had, and then I would find ways to still make things work.” In other words, he still feels full, or satisfied.
EAT VEGGIES FIRST
Personally, I prefer to eat dessert first. I don’t want to run the risk of getting full before dessert comes. But we made the resolution to follow these four core principles this year so veggies it is.
The idea is when you eat your veggies first, you will fill up on the healthy food before you have a chance to get to the good eh-hem, bad stuff.
The veggies of the Profit First system are you. The first thing you do is pay yourself. I know, it’s called “Profit First,” but John says you need to pay yourself a livable wage. I mean, hello, you’re the owner of the company, you deserve to be compensated for your work. A consistent paycheck is preferable to a quarterly profit distribution. So, OWNER’S PAY is your first allocation.
Next would be the TAX ACCOUNT. Yes, Tax before Profit because you can’t get out of paying them (although the accountant geniuses at Incite Tax do a great job of lowering them as far as they can go). You don’t want to get to tax season and not have the cash to pay taxes. I consider this my Peas Account. I don’t like them, they leave a bad taste in my mouth, but they’re a veggie and therefore must be eaten.
But that’s alright. PROFIT is next and I consider this my Spinach Artichoke Dip Account (if it has spinach or artichoke in the title, it’s a veggie). Sure, it takes a while to prepare, and then it needs to sit in the oven for a while, but it’s so worth it when you finally get to eat it!
Ahhh… temptation. I’m a sucker for temptation and the Devil knows it. And by Devil, I mean my husband who knows my weaknesses and entices me with Haagen-Dazs to do his bidding.
But not this year! This year I’m removing temptation. Not my husband, he can stay. But there will be no ice cream in the freezer to tempt me with. That doesn’t mean I won’t ever be able to eat ice cream again, but it won’t be as easily accessible.
Mike actually suggests opening your TAX ACCOUNT and your PROFIT ACCOUNT at separate banks than the rest of the accounts. Why? Because you will be allocating funds to them every month, just like the rest of the accounts. But unlike the rest of the accounts, you will only be using those funds once a year or quarterly so their balances will usually be higher. Don’t be tempted to use those funds to cover other expenses. If you don’t have the funds in your OPERATING EXPENSE ACCOUNT to cover operating expenses, then this is a clear sign that you may need to cut back a little.
The above example is easy to see, but there are other less obvious temptations to consider, such as buying novelty equipment, avoiding handshake deals with your friends or spending money on marketing when the conversion rate doesn’t justify the cost.
You know your own weaknesses. Don’t let the Devil tempt you into using your TAX ACCOUNT to place an add on Facebook with the assumption that the add will bring in the revenue needed to cover your taxes later. Remove the temptation.
EAT SMALLER MEALS MORE FREQUENTLY
Remember how I completely cut out carbs for a week then went to the new ice cream shop because I was starving, and I “deserved” it. I had, after all, gone to the gym every day! But if I had eaten smaller meals more frequently instead of starving myself, I wouldn’t have been so hungry and made the poor decision to get ice cream.
We need to create a healthy rhythm. A rhythm is defined as a strong, regular, repeated pattern of movement.
This means there has to be a level of commitment, it can’t be sporadic, and it needs to happen the same way every time.
With Profit First, we call it the 10/25 RHYTHM. You’ll focus on bookkeeping and allocations on the 10th and 25th of each month. You don’t want to look at your TAX ACCOUNT once a year, or your PROFIT ACCOUNT just once every 3 months. That’s too much to deal with all at once, and worse, it’s too late to catch some mistakes and make adjustments.
Twice a month might seem like a lot, but if done correctly it actually reduces the amount of time spent on accounting and saves you the migraine.
You don’t want to over do it either. Eating smaller meals more frequently doesn’t mean eating breakfast, 2nd breakfast, luncheon, afternoon tea, dinner, and supper. You’re not a Hobbit.
The same goes for your Rhythm Days. We had a client who felt like Profit First was too much work because he was sitting down going over his books almost every workday. That’s 20 Rhythm Days a month! Of course it was too much work. He came to realize twice a month freed up his time and kept him more organized.
The 10/25 Rhythm will help you identify trends. You’ll start to see monthly or yearly cycles. You’ll know when to expect larger expenses and you’ll be able to plan for them by making the necessary adjustments.
HEALTHY CASH FLOW, HEALTHY BODY
There’s more to it of course (obviously, there’s multiple books on it), but at least you have the basics. You can pay taxes virtually stress free, actually be paid a decent wage, only worry about bookkeeping twice a month, and still have enough for operating expenses. Follow these Four Core Principles and you’ve got yourself a “simple system for healthy cash flow,” and a healthy body. Download a summary of these principles to help you get started.
If you’re in need of professional help, Incite Tax is a Profit First Certified Team that can answer any questions you have and help you get started with the system.
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