Top 4 Business Cash Flow Mistakes

Business owners experiencing inconsistent cash flow can feel out of control. Cash flow management isn't a one-size-fits-all, but there are a few common cash flow mistakes I see business owners making.

I’m highlighting a few of these common cash struggles below and how you can go from negative cash flow to positive cash flow.

Not Hiring the Right Financial Professionals

Being surprised by your April tax bill is never fun. Yet that gut wrenching feeling when you realize you don’t have enough cash to pay your taxes owed to the IRS is also fairly common.

The way to avoid this is by having a tax plan, and a solid tax plan begins with a lot of communication. Your personal tax specialist, corporate tax specialist, fractional CFO, and other stakeholders all need to be on the same page.

But before you can bring all of your advisors together in one proverbial room, you need to ensure that you have the right experts in your corner. There are a lot of CPAs that are great at looking at prior year information to file your taxes. However, it’s even more important to find a CPA that can plan for next year before it’s too late -- and you enter the tax spiral.

What is the tax spiral? Essentially, a business owner starts out by being so focused on making money and doing what they are good at in order to make that money. The business owner takes their foot off the gas of their tax plans. Instead, they see all the money they have in their bank account from the work they’ve been doing. Then, come April, the owner ends up with a HUGE tax bill they weren’t expecting. This whole time they were spending money on their business to get more clients, improve services etc. But they forgot that not all the money in their account was really theirs. Now, the business owner will need to resort to chasing work to pay the April tax bill. Come the following April, they didn’t budget for taxes again because they were busy paying the last tax bill, and the cycle continues.

Once you have the right professionals in your corner, they can begin working together to strategically plan for taxes.

Not Having a Tax Strategy

Instead, of entering into the tax spiral, you will want to take 30-35% of every payment from your clients and set that aside for taxes. We recommend putting all tax reserves in a separate account. The idea here is that your tax reserves will be out of sight, out of mind. The exact percentage you take out of each payment will depend on several factors including your location, industry, etc. However, that 30-35% will get you pretty close to the actual number.

Having a tax plan that works takes discipline, and while this all might sound confusing and complex, it’s pretty simple if you remember these three steps:

1. Ensure that you have a separate bank account for taxes

2. Be deliberate about setting the correct percentage of revenue aside for taxes 

3. Ensure that your personal tax specialist, business tax specialist, and your CFO are all on the same page, so the strategy stays intact.

Lastly, it’s important that you never ever borrow from your tax fund. It’s much better to use your cash reserve or a line of credit than borrow from your tax fund because at some point you will have to make up for those funds. That will mean taking an even larger portion of future payments out for taxes. So, in a nutshell, using your tax fund is essentially stealing profitability from your future self and small business.

Not Having Payment Terms

Where many service-based businesses get into trouble is billing. Your business does work, then gets paid, right? That’s not quite true. You don’t get paid right away. You do work, and with that work, there are expenses. That means you are paying money out before you receive payment. Employee paychecks, software subscriptions used for work, and other operating expenses need to be paid. How long does it take from the work being completed to actual payment? Is it days? Weeks? Months?

Having a strong payment policy can help you get paid faster. Being paid faster = more consistent cash flow. Many businesses will allow 60-day payment terms, but we encourage our clients to bring that down to 15 days. Why? So, you are billing and getting paid in the same period. This is how consistent cash flow is created.

While it may be intimidating to set these terms with your clients, it’s essential for the financial health of your business. It’s best to introduce payment terms at the initial onset of a client relationship so your client is clear on what is expected of them. It’s also beneficial to develop a relationship with your client’s accounts receivable department. People are more likely to pay when they have built a relationship with the other party. You can also call when the first bill is sent to make sure your client’s team has everything they need to get the payment processed and to show that you will follow up on missed payments when necessary.

Not Completing Work Efficiently 

Condensing the time it takes to complete a project can also improve cash flow. Now some of this may feel out of control. We’ve all had clients that ask for several revisions of work or feel that a project wasn’t completed to their satisfaction. So, you decide to make the revisions, and the client may be ecstatic, but they may also come back with even more revisions.

This is where an SOW (statement of work) comes in handy. Stipulating how many revisions are offered and what the exact scope of work will be can keep instances of several revisions from impacting your cash flow. Now, this doesn’t mean that you can’t provide clients with all the revisions they request. It just means that you complete the designated revisions as stipulated in the SOW, request payment, then set up a separate project for further revisions. Just make sure that payment terms are also applied to this new project.

You may also find that software can provide efficiencies that speed up the delivery of work which can also have a major impact on your bottom line. Getting work done fast means getting paid faster which is a win-win for everyone!

One last comment on SOWs is this: charging for a certain percentage of the project price upfront can help ensure that payments are made on a more regular basis. This shows your client that you are intent on delivering the work you have claimed that you will while also ensuring that your client is willing to pay for the work they’ve requested. I’ve seen percentages as high as 50% upfront.

I hope that this helped you answer some of your business cash flow struggles. If you feel that you need more insights or that your particular situation might need the help of a financial professional, feel free to reach out for a free virtual CFO consultation.