What Are You Giving Away?
authors Shawn McCadden | February 18, 2020
Ever have your accountant tell you at tax time that you made a profit, but you have no idea where that money is? And to make matters worse, because you made a profit you now owe taxes, but there’s no money left to pay them?
Unfortunately, this is a common problem that few remodeling contractors talk about. It’s somewhat understandable. If it happens to you, would you risk discussing it with someone who might figure out you really have no idea what you’re doing when it comes to running a profitable business?
In my opinion, a true measure of business profitability doesn’t just include making a profit. A successful remodeler should also plan as needed to earn and then reserve enough of that profit to pay the taxes and still have a pre-planned amount of profit left over to spend or invest as the business owner sees fit.
This Thing Called a Balance Sheet
Any missing money will likely show up on what’s called your balance sheet. Your profit-and-loss report (P&L) shows how much money came in and how much went out. The difference is your profit. However, in my opinion, the balance sheet can be a far more valuable tool for your business than the P&L.
The balance sheet tells you how much money your business still has, not the profits you and your business may have earned. Think of these two reports this way: The P&L tells you whether your business has been profitable or not. The balance sheet tells you how much of the profit you earned (or not) has been spent or taken out of the business by the business owner.
The balance sheet reveals the true financial health of your business at any given moment in time. Having this information, provided it’s accurate, helps a business owner make better financial decisions and can prevent a common mistake of spending more than you have earned.
Decide What Profit Means to You
For tax purposes, the government looks at money you spend on assets like vehicles, larger tools or equipment, and the building you may own, as profit—not costs or expenses. The money may have been spent, but it was spent on things that have value and, in theory, you can sell to get your money (profits) back. The government sees this money as profit. That’s why paying for these things won’t show up on your P&L as costs or expenses, but rather on your balance sheet.
Assuming you’ve wrapped your head around the difference between costs and expenses on your P&L. Assuming also that you now know the difference between assets and profit on your balance sheet, it’s up to you to decide how much profit your business needs. You need to calculate how much profit you’ll need in order to earn the assets your business needs and still have a planned amount of profit left over to take out of your business for your own personal financial benefit.
Another simple way to see this: Do you want to pay for assets with planned profits, or would you prefer to let your clients to pay for assets as well as any planned profit you want and deserve?
Just One Example to Consider
Let’s use paying for vehicle loans as our example. If you seek a 10 percent net profit at the end of the year, over and above paying for all vehicle loans, think of your loan payments as costs or expenses. They are costs if they are used in the field for production purposes and expenses if they are used for overhead-related purposes.
If your vehicle payments are costs, I recommend that those payments get added to the total-burdened-cost of estimated labor for field staff. If your vehicle payments are expenses, add the money to your overhead budget before you figure out what markup you will need to use on your estimated costs. By thinking of this money as costs or expenses, you will strategically plan to charge as needed to cover the loan payments and still have a 10 percent net profit.
Use Your Balance Sheet to Track and Reserve the Money
To make ensure your strategy is working, use your balance sheet to help measure. If you charge for the vehicles as described above, the money will show up on both your P&L and your balance sheet as profits. You can then use the appropriate bookkeeping methods to move or “recast” that “extra” money from net profits on your balance sheet to one or more balance sheet asset accounts. Think of these accounts as place holders to reserve the money until you actually use it to pay for the assets.
Another example, if you own your vehicle(s) outright, you should be “renting” those vehicles to your customers. Then use the “rent” money earned as reserve funds to eventually replace that vehicle when the time comes you need to do so.
Some Last Thoughts
Think of your business as a money-making machine. Set up that machine up so it makes a planned amount of money. Also be sure to discuss your plan with your accountant. Make sure he or she helps you verify your plan makes financial sense and will support your planned financial goals. Lastly, do your bookkeeping so that both your P&L and your balance sheet are accurate. If you don’t, you might actually be giving things away to your customers for free, instead of charging them for those same things. QR
McCadden is a speaker, business trainer, columnist and award-winning remodeler with more than 35 years of experience. He can be reached at shawnmccadden.com.