Consultant’s Corner: Cash Flow Management

Consultants Corner Cash Flow Management

Q. Once I start making money in my business, what should I do with the profits? How much do I put back into the business versus putting it into savings?

Cash Flow Management Considerations

The potential uses of business profits and cash flow are owner compensation, overhead expenses, accounts receivable collection cycle, product inventory purchases, capital expenditures, and taxes. Also, the timing of new business revenues and expenditures (start-up, daily, weekly, monthly, quarterly, or annually) is a consideration for managing cash flow.

In addition, the ability of a new business to obtain a bank revolving line of credit is a consideration for managing cash flow and the investment of surplus cash. Interest rates on money market and other short term investments is very low, but it is still common for businesses to invest surplus cash in some form of interest bearing account.

Other than quantitative factors, your personal tolerance for debt leverage and other financial risks will influence how you manage your cash. For example, some business owners prefer minimal debt leverage so they focus on getting their product inventory paid off rather than having any form of debt outstanding for the inventory.

Income Tax Considerations

Business entity and business owner income tax liabilities are generally an important consideration in the business cash management process. All of the business income of pass-through structures is reported as personal income by the owner, which creates estimated and annual income tax payments and related cash draws from the business. C corporations pay their own income tax so they have owner compensation and income tax payment considerations in their cash flow projections.

Estimated Tax Payments

Self-employed individuals, including sole proprietors, partners of partnerships and members of similarly taxed LLCs, are required to pay their personal income taxes through estimated tax payments, which is the method used to pay tax on income that is not subject to withholding. Both the IRS and state tax authorities can impose penalties, referred to as underpayment of estimated tax penalties, for failing to make required estimated tax payments during the year. In order to avoid federal and state underpayment of estimated tax penalties, self-employed individuals need to pay their personal tax liabilities during the year as they earn the income that creates those tax liabilities rather than wait until April each year to make lump sum payments. In addition to federal and state personal income taxes, self-employed individuals are also required to pay the SE Tax through estimated tax payments.

While there are certain thresholds and exceptions, when your federal and state income tax withholding on wages and other income will not be sufficient to cover your expected personal income tax liabilities, you generally need to make quarterly estimated tax payments. To accurately determine your estimated tax payments, you will need to accurately project your personal income tax liabilities for the year. You can do this by completing a mock-up of your business and personal tax returns in which you project your business net income and other personal income, deductions, exemptions, tax credits and withholding to determine your annual taxable income and tax liabilities. Once you have projected your tax liabilities, you can then determine whether or not you are required to make quarterly payments or can simply pay the entire balance due with your tax returns next April. Plan on revisiting this process once each quarter to make certain that your estimated tax payments will be sufficient.

Generally, your annual estimated tax liability is due in quarterly installments payable on April 15, June 15, September 15 and January 15, respectively; however, instead of the Regular Installment Method you can elect to use the Annualized Income Installment Method to match your estimated tax payments more closely to your income and cash flow. Under the Annualized Income Installment Method, your quarterly estimated tax payments vary based on your estimated tax liabilities for specific periods of time during the year. This method works best when you expect to have lower income during the early quarters of the year and higher income during the later quarters of the year, but it is somewhat complicated to implement and may require the assistance of your accountant at least for the first year.

If you are required to make estimated tax payments but choose not to do so, be advised that you will owe an underpayment of estimated tax penalty if you do not pay in enough during the year. The penalty will apply even if you pay your taxes in a lump sum every April. If you aren’t required to make estimated tax payments, then you should at least set aside funds to cover your projected tax liabilities during the year as you earn the income that generates those tax liabilities. This approach will allow you to better manage your cash flow and prevent the scramble every April to come up with the money to pay your taxes. As your business profitability increases your tax liability will also and it will become much harder to pay your taxes in a lump sum every April.

While you can research the estimated tax payment requirements yourself, members often find it beneficial – especially in the first year in business or when business net profitability increases substantially – to review their specific circumstances with a local accountant or CPA who can help them determine their estimated tax payment liabilities, setup tax payment schedules, and, if necessary, help properly prepare their tax returns. For discussion with your accountant, you can review information on federal estimated tax payments at the IRS website:

Cash Flow Worksheets

Your written business plan should include profit and cash flow projections that will be the starting point for your business budget and cash flow worksheets. In addition to the budgeting and cash flow reporting tools in your business accounting software, you can review the following examples of business cash flow worksheets and related considerations:

Bill Wortman

Bill Wortman is the Chief Business Consultant for, with over 40 years of business experience. In addition to 12 years consulting small business owners, Bill’s professional career includes a big-eight CPA accounting firm, national consumer finance, big-three automotive manufacturing, Arby’s fast food, marketing, and other industries. He’s held multiple executive-level positions and fulfilled the role of CFO at large, publicly held (NYSE, NASDAQ, and AMEX) corporations. In addition, he’s been an owner of private ventures involving residential real estate development and a General Motors new car dealership.