Common Mistake 1 – Not separating business and personal finances
It’s true that, for most small businesses, there aren’t many degrees of separation between your personal finances, and the business.
However, by not clearly separating the business’s finances from your own, you make this common mistake. What then happens is, you struggle to see the wood for the trees – what’s your money, what’s the business’s? And what’s a tax deductible cost, and what’s not?
This is one of the easiest ways to miss genuine tax deductible costs and end up overpaying tax as a result.
If you operate as a limited company, this can put you in even more hot water, and have even more of a detrimental effect on taxes that need to be paid.
How to Avoid:
You need a separate bank account for the business! For limited companies this is a legal requirement, but it’s vital for sole traders too.
Have all the business’s cash in and out come from the business’s bank account, then transfer money from the business account to your own, to pay for your personal expenses.
By doing this, you clearly separate which transactions relate to the business, and which are purely personal.
Common Mistake 2 – Not Monitoring Finances Regularly
Most people don’t go into business so they can do bookkeeping and monitor their business’s finances.
You most likely started your business because you’re great at what you do, and the finance stuff just ticks alongside what you do, and you think you don’t need to pay too much attention to it.
Not monitoring your finances regularly though, can see you suffering financially. You need to know everything from who owes you, to who you owe, what your regular direct debits are, if you’re hitting your sales targets and not overspending on costs.
How to Avoid:
There’s a boat load of financial stuff in your business that you should be looking at regularly. And, when you do look at it regularly, it doesn’t seem like such a lot of things to monitor and keep on top of.
As a bare minimum you should be monitoring your finances monthly. This means, every month, when your accounting information is fully up to date, you check your profit and loss account. You should also check your aged debtors and aged creditors, to make sure your customer payments are on top of, and you’re on top of supplier payments.
Set some time aside in your diary each month to have a ‘month end finances’ meeting with yourself, or your business partner, or colleague. Make sure the numbers are all telling you the story you want to hear, and that they continue to do this moving forwards.
You’ll be able to steer the financial direction of your business much better with regular financial monitoring.
Common Mistake 3 – Not Budgeting or Poor Budgeting
Going hand in hand with regularly monitoring your business finances, is budgeting.
Having a budget for your business is super helpful, and powerful. Not having a budget, or not having a written, or well thought out budget, can see you overstretching your business’s finances.
If you don’t have a budget, you’re essentially winging it in your business. Given how much the business’s finances are likely to be tied to your own, this is a scary situation to be in. How will you make sure you’re not overspending, or forgetting something vital? How will you track and monitor how well you’re doing against your sales targets?
How to Avoid:
Have a written budget, and work to it! Include your sales goals or targets in your budget, so you can work to achieve them. And include the costs you expect to spend on.
Once you have your written budget, and you’re monitoring your finances regularly, you can actually monitor your achieved finances against your budget. This allows you to see whether or not you’re on track to achieving your budget.
Very powerful stuff!
Common Mistake 4 – Poor Cash Flow Management and/or Not Having Cash Reserves
The old saying goes:
- Sales is vanity
- Profit is sanity
- Cash is reality
Lots of profitable businesses go bust because they run out of cash. This can happen because those businesses have poor cash flow management, or they don’t have any cash reserves – so when a bump in the road comes along, it all comes crashing down.
Poor cash flow management sees customers not paying sales invoices and overdue debts piling up. Not having foresight over expenses that need to be paid is also a sign of poor cash flow management.
In an ideal world you should have a cash reserve built in your business as well, so if a machine breaks, or you have a disastrous sales month, you have a cash pot to fall back on. When you operate a small business, this is especially important – what would happen if you were ill? Or when you go on holiday?
How to Avoid:
Cash flow forecasting is the best way to avoid poor cash management. With a cash flow forecast you can also work to build your cash reserve – you can forecast an amount each month that you save, and put into a separate bank account, to use in case you have a ‘rainy day’.
So, along with your profit and loss budget, have a cash flow forecast that shows what cash you’re expecting to come in and out of your bank account. You need to include things in here that don’t touch the profit and loss account, like VAT payments, tax payments, asset purchases, loan repayments.
Common Mistake 5 – Confusing Cash and Profit
Confusing cash and profit is a common mistake in businesses. You’ve made great sales and great profits on the profit and loss account – it looks fantastic! But your customers haven’t paid their sales invoices, or you’ve overstretched yourself with loans to grow the business, and you actually don’t have any cash in your business.
We’ve already mentioned the transactions that don’t touch the profit and loss account – VAT, tax, loan repayments, asset purchases etc. And there are transactions that do hit the profit and loss account, but they hit with a sales or purchase invoice, and the cash still needs to be collected or paid over to suppliers.
For example, it’s often argued that a sale isn’t a sale until the cash hits the bank!
How to Avoid:
This does loop back to monitoring your finances regularly, budgeting and cash flow forecasting. As well as doing these things, you need to understand the finances, and what the reports you’re looking at are telling you.
Understand the difference between sales and cash. Make sure, as part of your monitoring, your customers are paying you and you’re on top of your supplier payments.
Monitor your actual cash flow against your forecast cash flow to make sure you’re on track, and not missing anything vital.
Factor in an element of savings into your cash flow forecast, so you can build your cash reserve as well. You’ll be a lot less stressed with your business finances if you know you have a little cushion, should anything go wrong, or there’s a bump in the road, or even just that you go on holiday and don’t earn anything while you’re away.
Common Mistake 6 – Not Planning for the Irregular, Annual or One-Off Things
There are some expenses, or cash outflows, that happen irregularly, or just once a year. Christmas bonuses, for example, only occur once a year – if your business pays a bonus.
The purchase of assets, the big one-off expenditure, will always be a fair old chunk of change when it comes to it. Do you have a work van, that you’ll need to replace in a couple of years? Or will you need a new laptop soon because yours is 3 years old and slowing down?
And, then you have your tax payments. It might be VAT, corporation tax, PAYE or your self assessment. These taxes need to be paid, and not paying them can have a detrimental effect.
How to Avoid:
You need to think about the irregular things, the one-off payments, and your tax payments when you’re forecasting your cash flow.
Adding these elements to your cash flow forecasting will improve your cash flow management, and make sure they’re affordable/you have the cash to cover them.
You need to know what taxes you’re obliged to pay, and when the deadlines for those payments (as well as returns to be submitted) are. Missing tax deadlines is a quick way to add unnecessary cash expenditure into your business.
Plan everything into your cash flow forecast, taking time to consider the more irregular things – don’t forget your insurance for example – and you’ll avoid this common mistake.
Common Mistake 7 – Impulsive or Unnecessary Spending
Not sticking to your budget or cash flow, and spending on unnecessary things, or being impulsive with your spending, can have a detrimental impact on your business’s finances.
It might be a personality trait to buy things impulsively, or you might suddenly see something and think ‘ooh, yeah I’ll get that’.
These sorts of purchases are ones that you won’t have planned or forecast for, and often end up costing more than any buffer you’ve built into your forecast. They can often cause big, painful and unnecessary dips in your cash flow and profit.
How to Avoid:
Firstly, make sure you build in a buffer to your forecast for small things, as you will inevitably never be 100% bang on with your forecast. You don’t have a crystal ball unfortunately. But building in a buffer for the odd coffee you’d not factored into your travel budget, or cable because one broke, is sensible.
Outside the small things that would fall into your buffer, think! Think long and hard about any large, costly purchase that you haven’t already factored into your forecast. Do you absolutely need to spend money on that? Often, you’ll find that you don’t.
Don’t be impulsive, be considered, thorough and well thought out, with any purchases you make. You will avoid the unnecessary or impulsive purchases this way.
Common Mistake 8 – Ignoring Numbers When Things Are Going Well
You are the master of your own destiny, and you’re nailing it! Business is booming, the bank balance is great, you’ve got a nice healthy cash reserve in place, and everything is wonderful. So, why do you need to keep on top of your numbers now?
It’s quite common for small businesses, when things are going well, to put the numbers on the back burner and not pay them any attention.
Ignoring your numbers is a quick way to see things do a complete 180 and turn from excellent to really bad in an instant.
We’ve already discussed the importance of consistent monitoring of profit and loss and cash flow – if you’re not doing this, how will you know that your customers are on top of their payments to you?
When cash flow is good, it can be easy to miss things like non-payment of invoices, but it won’t take long for good cash flow to turn to poor cash flow when things like that are missed.
How to Avoid:
Be consistent. Keep doing all the things you did to get the finances to be that good and comfortable in the first place. It shows all the work and effort was worth it, so keep it up!
Business is ever changing; you need to be consistently and constantly on top of your business’s finances, so you can keep them positive and healthy. Ignoring them when things are good are short-sighted. Be a smarter business owner than that!
If you need help with any of the areas identified here, book a Discovery Call with us, we can help!