Your accounts show you made a profit of £100,000 last year. You now want to buy that £5,000 luxurious foreign holiday but find the money is not there. WHY IS THAT ?
Business Profit vs Cash Flow: The Key Difference Every Business Owner Must Understand
It is crucial to appreciate that whatever profit your accounts show or the profit your accountant tells you was made is not the money you’ve got sitting in your bank to spend.
What Does Business Profit Actually Mean — And Where Does the Money Go?
The profit in your accounts is all of your income from your sales less all of your business expenses. If you make a sale of £20,000 to company A and the product cost you £5,000 from company B you have made a profit of £15,000. However, you might not have been paid by company A and you might not yet have paid company B so there is no money yet in your bank account even though you have made £15,000 profit. There is a timing difference.
For sole traders and partnerships the profit figure in your accounts is also before the money you take out of the business for yourself. If you take £98,000 out of the business for your personal use and to pay your own tax bills then although you may have made £100,000 profit, you have already spent £98,000 so only £2,000 is left and as we saw above this may well not be in the bank account.
Can I Afford to Spend My Business Profits? What Your Bank Balance Isn’t Telling You
You know yourself how much money you’ve got in the bank account but you don’t necessarily know whether you can afford to spend it. If you’ve made a good profit it is still sensible to talk to your accountant about how much you can afford to spend. Profitable businesses do go bust if they are not financed properly. Your accountant will be able to show you how to make sure your business is financed right and how to see what money you can afford to spend.
Why Is My Taxable Profit Higher Than the Profit Shown in My Accounts?
The profit figure in your accounts is rarely the profit you pay tax on. For example, some of the expenses in your accounts, such as entertaining, may not be allowable tax expenditure. Say you have made £100,000 profit arrived at as follows:-
Sales £200,000
Expenses
Materials £50,000
Labour £30,000
Motor Expenses £10,000
Rent, Heat, Light £ 5,000
Stationery £ 3,000
Entertaining £ 2,000
_________
£100,000
_________
Profit £100,000
_________
In arriving at the taxable profit the entertaining amount of £2,000 is not an allowable deduction and so you pay tax on £102,000
So remember…….. Your taxable profit is no guarantee you’ve got any money in your bank account. Talk to your accountant about what money you can afford to spend.
