No one expects you to work for nothing, but principals are often surprised by how much they really take out of their business in a year.
The answers are hidden in your balance sheet but, because this is rarely looked at or understood, you are left in the dark.
If wages or commissions are taken from the business by the principal it will impact the reported profit.
One of the most common questions asked of accountants is around the difference between cash and profits. Usually, it goes something like this.
โJohn, you are telling me I made half a million dollars in profit but let me tell you, I donโt have half a million dollars in the bank. Where has all the cash gone?โ
In the real estate industry, there are typically a couple of key reasons to explain the difference between your reported profit and the cash in the bank.
1. Loan repayments
The interest portion of a loan repayment goes to the P&L, but the repayment of principal of a debt does not. Principal debt repayments need to be funded from after-tax cash flow, so often this explains a large portion of the difference between profit and cash.
2. Ownerโs drawings
If wages or commissions are taken from the business by the principal it will impact the reported profit. However, if you take drawings, loans or dividends from the business these will not. No one expects you to work for nothing, but principals are often surprised by how much they really take out of their business in a year.
One of the most common questions asked of accountants is around the difference between cash and profits.
3. New assets or capital improvements
Bought a new printer or renovated the office recently? If these costs are funded from cash flow, it can be another reason for the difference between profit and cash. Often these purchases are capital in nature and usually cannot be treated as an expense on the P&L.
4. Tax payments
Whether you are behind with your tax bills or not, usually the profit discussed or reported is the profit before tax. If you havenโt paid your tax in advance for the year, often your tax bill does not arise until the following May for the financial year that ended almost 11 months earlier. If you have had a big lift in profitability or you havenโt paid your tax on a quarterly basis, catching up on old tax bills (including old BASs) will often explain where all the cash has gone.
5. Principal-funded vendor advertising
Many a principal denies funding advertising for a vendor but, for whatever reason you choose to fund advertising for a client, it does happen and can build up to quite a sizeable amount. Think of these amounts as loans youโve made to your vendors, because essentially that is what they are, and if they grow during a period it can certainly be a strain on cash flow.
One of the reasons why business owners often struggle with this question is because the answers are hidden in your balance sheet but, because the balance sheet is rarely looked at or understood, you are left in the dark.
A simple thing to do is look at the movement in the balance sheet from one date to the next โ this typically will disclose all the answers to the question, โWhere has all the cash gone?’