Cash Management for Entrepreneurs

Business cash flow determines survival. Profitable businesses fail when they run out of cash. This article provides specific frameworks for allocating revenue, calculating runway requirements, and reserving for taxes. These practices apply whether you're freelancing, running a small business, or scaling a growing company.

The Profit-First Allocation Method

Traditional accounting follows: Revenue - Expenses = Profit. This formula treats profit as whatever remains after expenses, which often means no profit at all.

The profit-first method reverses this: Revenue - Profit = Expenses. By allocating profit before paying expenses, you force operational efficiency and guarantee business sustainability.

Standard profit-first allocation percentages:

These percentages adjust based on revenue level and business type:

Revenue under $250,000:

• Operating: 60%
• Owner's Comp: 25%
• Tax: 10%
• Profit: 5%

Revenue $250,000-$500,000:

• Operating: 50%
• Owner's Comp: 30%
• Tax: 15%
• Profit: 5%

Revenue over $500,000:

• Operating: 45%
• Owner's Comp: 30%
• Tax: 15%
• Profit: 10%

Implementing Profit-First with Bank Accounts

Separate accounts make the system work. Money in a single account gets spent. Money allocated to specific accounts serves its purpose.

Minimum account structure:

1. Income account: All revenue deposits here first. On the 10th and 25th of each month, transfer to other accounts according to allocation percentages.

2. Operating expenses account: Pay all business bills from here. If this account runs low, reduce expenses rather than borrowing from other accounts.

3. Owner's compensation account: Transfer your regular draw/salary from here to personal accounts.

4. Tax reserve account: Holds quarterly estimated tax payments. Never touch for other purposes.

5. Profit account: Accumulates retained earnings. Quarterly, transfer 50% to a separate savings account (true emergency fund) and use 50% for debt paydown, equipment, or owner bonus.

Calculating Business Runway

Runway measures how long your business can operate without additional revenue. The formula:

Runway (months) = Cash Reserves / Monthly Operating Expenses

Example:

• Cash in operating and profit accounts: $45,000
• Monthly operating expenses: $15,000
• Runway: 3 months

Target runway by business stage:

Factors requiring additional runway:

• Highly variable revenue (project-based work)
• Long client payment cycles (net 60 or net 90 terms)
• High fixed costs that can't be quickly reduced
• Planned major expenses (equipment, expansion)
• Economic uncertainty in your industry

Tax Reserve Calculations

Self-employed individuals and business owners pay estimated taxes quarterly. Underpayment triggers penalties. The IRS requires payment of either 90% of current year tax liability or 100% of prior year liability (110% if prior year AGI exceeded $150,000).

Reserve percentage by entity type:

Sole proprietors and single-member LLCs:

• Federal income tax: 10-37% (based on tax bracket)
• Self-employment tax: 15.3% on first $168,600 (2024), 2.9% above
• State income tax: 0-13.3% depending on state
• Total reserve recommendation: 25-35%

Example for $100,000 net business income:

• Federal income tax (22% bracket estimate): $15,000
• Self-employment tax: $14,130
• State tax (6% example): $6,000
• Total tax liability: $35,130
• Reserve 35% of income to cover

S Corporation owners:

• Salary subject to payroll tax (employer + employee portions)
• Distributions not subject to payroll tax
• Reserve 25-30% of total compensation (salary + distributions)

Quarterly payment schedule:

• Q1 (Jan-Mar): Due April 15
• Q2 (Apr-May): Due June 15
• Q3 (Jun-Aug): Due September 15
• Q4 (Sep-Dec): Due January 15

Managing Accounts Receivable

Outstanding invoices aren't cash. Effective AR management maintains actual cash flow.

Payment terms strategy:

Reducing days sales outstanding (DSO):

• Invoice immediately upon delivery
• Offer 2% discount for payment within 10 days
• Send payment reminders at 7 days, 14 days, and 21 days past due
• Call clients with invoices over 30 days past due
• Stop work on new projects for clients over 60 days past due

Monitoring AR:

• Track AR aging weekly
• Calculate DSO monthly: (Average AR / Total Credit Sales) × Number of Days
• Target DSO: Under 30 days for service businesses, under 45 for B2B product sales

Cash Flow Forecasting

Project cash needs before shortfalls occur.

13-week cash flow forecast components:

• Starting cash balance
• Expected cash inflows (contracted revenue, recurring revenue, AR collections)
• Expected cash outflows (fixed expenses, variable expenses, one-time purchases)
• Ending cash balance

Example forecast structure:

Update weekly. Identify weeks where ending cash drops below your minimum threshold. Take action (accelerate collections, delay non-essential spending, arrange financing) before the shortfall occurs.

Managing Cash Through Growth

Growth consumes cash. Inventory, equipment, and hiring require upfront investment before generating returns.

Growth cash requirements:

• Inventory: 60-90 days of cost of goods sold
• New employees: 90 days of salary plus benefits before productivity
• Equipment: Full cost upfront, depreciation over years
• Marketing: 3-6 months before ROI materializes

Financing growth without depleting operating cash:

• Business line of credit: Arrange before you need it
• Equipment financing: Preserves cash, matched to asset life
• Invoice factoring: Converts AR to immediate cash (at discount)
• Revenue-based financing: Repayment tied to revenue percentage

Handling Seasonal Variation

Seasonal businesses must accumulate reserves during peak periods.

Example: Landscaping business

• Peak season (Apr-Oct): $30,000/month revenue
• Off-season (Nov-Mar): $5,000/month revenue
• Monthly fixed costs: $12,000

Peak season reserve requirement:

• Off-season shortfall per month: $12,000 - $5,000 = $7,000
• Off-season months: 5
• Total reserve needed: $35,000

Monthly peak-season savings: $35,000 / 7 months = $5,000

The business must save $5,000 per month during peak season to cover off-season expenses.

Owner's Draw Discipline

Inconsistent owner draws create personal financial stress and obscure business cash flow patterns.

Best practices:

• Set fixed bi-weekly or monthly draw amount
• Transfer on consistent dates (1st and 15th, or 1st of month)
• Draw should cover personal expenses without excess
• Adjust draw quarterly based on business performance, not reactively

When to reduce your draw:

• Runway drops below minimum threshold
• Revenue declining for two consecutive months
• Major expense anticipated within 90 days
• Economic conditions suggest clients may reduce spending

When to increase your draw:

• Runway exceeds target by 50%+
• Revenue growing consistently for 6+ months
• Profit account accumulating beyond need
• Inflation eroding purchasing power of current draw

Cash Management Red Flags

Address these situations immediately:

• Paying vendors late regularly
• Using credit cards to cover operating expenses
• Delaying owner's draw to cover payroll
• Runway under 30 days
• Tax reserves borrowed for other purposes
• AR aging exceeding 60 days on average
• Bounced checks or overdraft fees

Entrepreneur Cash Management Checklist

• Open separate bank accounts for operating expenses, tax reserves, owner's compensation, and profit
• Implement profit-first allocations on the 10th and 25th of each month based on revenue deposits
• Calculate current runway and take action if below minimum threshold for your business stage
• Reserve 25-30% of net income for taxes and make quarterly estimated payments by deadline
• Create and update 13-week cash flow forecast weekly to anticipate shortfalls before they occur