As a business owner, you have no shortage of financial challenges to tackle. But, unfortunately, these financial hurdles are one of the most frequent reasons why small businesses don’t succeed.
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“A primary reason why small businesses fail is a lack of funding or working capital,” writes Melissa Horton for Investopedia. “In most instances, a business owner is intimately aware of how much money is needed to keep operations running on a day-to-day basis, including funding payroll; paying fixed and varied overhead expenses, such as rent and utilities; and ensuring that outside vendors are paid on time.”
Despite this, owners of failing companies usually don’t have a good sense of how much revenue is generated through product or service sales. As a result, a small business can quickly shut down due to funding shortfalls due to this disconnect, adds Horton.
Other financial challenges business owners must address include struggling with debt repayment or being prepared to handle an emergency. Some business owners also find it challenging to stay on top of the books and reporting. And, let’s not forget about making common tax mistakes like not filing, poor record-keeping, or not taking advantage of deductions.
The good news? If you take the time right now to get your business financials straight, you can face these obstacles head-on. And, to help you get started, use the following eight tips.
1. Keep ‘em separated.
- 1 1. Keep ‘em separated.
- 2 2. Enroll in business accounting 101.
- 3 3. Make a budget.
- 4 4. Hire a pro.
- 5 5. Use the right tools.
- 6 6. Stay ahead of business taxes.
- 7 7. Manage your credit score.
- 8 8. Plan for times of feast and famine.
Owning a small business makes it hard to keep your personal and business finances separate. If you’re a sole proprietor, for example, dividing your accounts is especially challenging. Due to the fact that sole proprietorships are considered nonentities, there is no legal separation between your business and you.
Having a separate business checking account is mandatory if you’re setting up your business as a Limited Liability Company (LLC) or corporation.
Regardless, the first step in keeping your business financials straight is to separate your personal and business finances — no matter the business structure. Besides keeping you out of trouble legally and with the IRS, this will make tracking and organizing your finances less complicated.
Furthermore, it’s critical that you keep track of your key performance indicators if you want your business to thrive. As such, several components make up your score you should be aware of, like cash flow, expenses, revenue, and profit.
How can you keep your business and personal finances separated? Well, here are the top recommendation to make this possible;
- Register your business.
- Obtain an Employee ID number.
- Open a dedicated business bank account.
- Apply for a business credit card.
- Make sure that utility services are in the name of your business.
- Track all business-related expenses and receipts.
- Pay yourself a salary.
2. Enroll in business accounting 101.
You don’t necessarily have to take a class or course here. If you do, however, explore online options from edX or Udemy. Yet, understanding accounting basics and concepts is critical to ensure accurate tax reporting and management reporting, states personal finance expert Eric Rosenberg.
At the minimum, you should know the following;
Cash basis vs. accrual basis.
The cash basis is the accounting method that bases all your financial records on the date cash moves hands. For example, let’s say you provide a service on January first and receive payment on February first. A record of the transaction is kept for February when the cash exchanged hands.
In the accounting world, you use the accrual basis, meaning that all of your books are based on when services are provided. According to the example above, the service was delivered on January first; thus, the transaction would be recorded on that date.
Debits and cards.
The general ledger should be updated whenever money (or inventory) moves. A general ledger contains a record of all financial transactions in a company’s history. Transactions have two components: debits and credits. This type of accounting is known as double-entry accounting since each entry has two components.
Create a transaction every time money moves (or is expected to).
Eric explains that invoices and expenses are tracked through accounts payable and accounts receivable, which are tied directly into your general ledger.
Make sure you enter a bill you get into your accounting software rather than paying it. A new entry will be made into your balance sheet for your accounts payable. As soon as you pay the bill, it moves off your balance sheet, lowering cash and increasing the expenses paid.
Owner’s equity and member draws.
Paying yourself and not recording it in the books is not an option. In general, when you put money into and take money out of your business, you impact a few general ledger accounts.
Firstly, owner’s equity. It should be reflected if you spend money on your business out of pocket. For example, expenses such as startup costs ought to be recorded. Your owner’s equity should be credited with the cash used to pay for those expenses.
When operating as a single-member LLC or sole proprietorship, the income should be shown as a member draw, as a counter-account to owner’s equity, he says. In addition, it is extremely important to run payroll entries correctly for proper tax reporting at the end of the year if you are an employee.
Clean books crate clean reports.
“All of these debits and credit and accounts come together to perform two essential business functions,” Eric states.
To begin with, your accounting records sit behind the business reporting you have access to through your bookkeeping software. An accurate bookkeeping system is essential to making precise profit and loss statements, balance sheets, cash flow reports, and other reports that guide your business decisions. “You don’t know where and how you are making and losing money without good management reporting!”
Second, your bookkeeping accuracy plays a critical role in tax preparation. Having up-to-date books is critical for accurate tax preparation and filing, whether you hire an accountant or do it on your own. Failure to do so could result in audits and penalties.
3. Make a budget.
While this may seem obvious, creating a budget is key to helping you stay organized and plan ahead. Unfortunately, this task is viewed as tedious and unnecessary by many business owners. But, a well-formed budget is essential to the success of any business.
What’s more, an overall budget isn’t meant to determine how your business should spend every dollar. Instead, it acts as a guide to help you make more intelligent and more informed decisions. For example, is it worth expanding into new markets, or will that make you less profitable?
I’d recommend that you check out 50 Budgeting Tips for Small Business Owners to ensure that you get the most out of budgeting.
4. Hire a pro.
Unlike accountants or bookkeepers, most people aren’t fond of numbers. But, if you feel into this camp and just the thought of managing your finances makes you break out in a cold sweat, then it’s in your best interest to bring in a profession. Whether an accountant, bookkeeper, or tax professional, make sure that they’re qualified and can assist you in areas where you’re struggling.
Even though business owners insist on handling everything themselves, small business accounting is often out of their reach. There’s no shame in that either. After all, we all have different strengths and weaknesses. However, admitting that finance is beyond your skillset will save you time, money, and ibuprofen.
Most importantly, this will free you up to focus on more important business matters, like improving your products or services to keep growing your business.
5. Use the right tools.
Even a professional accountant or bookkeeper would inform you that manually managing your accounting documents is daunting. Fortunately, a surplus of accounting software options makes managing and organizing all of your financial documents a breeze.
These tools can generate invoices, handle payroll, process payments, or track expenses. Other accounting tools can scan receipts, manage inventory, and time tracking. So even if you’ve outsourced all of your financial responsibilities to someone else, using these tools allows you to keep tabs on your finances or collaborate with them. For example, if you went on a business trip, you can scan all relevant receipts and share this electronically with your accountant.
6. Stay ahead of business taxes.
The last person you want to make enemies with as a business owner is Uncle Sam. That’s why you need to know what your tax requirements will be. Often, this includes;
- Income tax. Any revenue received by businesses determines how tax payments must be made each year. The tax form you use depends on the type of business you operate as.
- Self-employment tax. Since you work for yourself, you must pay a self-employment tax deducted from this tax from their paychecks.
- Estimated tax. Pay-as-you-go taxes can be categorized as income taxes and self-employment taxes. Additionally, you’ll be required to file quarterly documents that estimate your taxes owed.
- Employment tax. In addition to social security and Medicare taxes, federal income tax withholdings, and the federal unemployment tax, you may also have to pay additional taxes related to employees working for your business.
Also, you have state tax obligations that require you to pay income and employment taxes for your business. By staying on top of these will prevent you from getting penalized or audited. And, if done correctly, you might be able to save money on business taxes through deductions.
7. Manage your credit score.
Why is it important to understand and improve your credit scores? Well, at some point, you may need credit to secure a loan, purchase property, or lease equipment. However, if you have a poor credit score, you might be out of luck obtaining business financing.
With that in mind, make sure that you pay all of your personal and business bills on time. Avoid maxing out your credit cards and frequently monitor your credit reports. And avoid FICO negatives like defaults, bankruptcies, judgments, collections, and foreclosures.
8. Plan for times of feast and famine.
“Clients come and go, projects ramp up and shut down,” says independent personal financial expert Galia Gichon. You, however, still need to eat, have a roof over your head, and pay essential business expenses. As such, you must make plans in advance.
And, that means you should have a weekly budget in place that will eliminate stress during times of transition.
“But that doesn’t mean you always have to live on the cheap: you can set one amount to spend while times are good and decide on another for the slow seasons,” adds Gichon. “Doing that planning ahead of time will help you know what you can afford and when, so you won’t have to guess your way through your budget.”
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