Recent high inflation rates are driving up the price for almost everything and eroding the value of your money. With varying opinions on the potential duration of the current inflation surge, it’s important to understand the causes and how you can protect your money.
Possible causes of this inflation
While the root causes of inflation are not always easy to identify, the premise is simple – prices are going up for goods and services. This is often because demand is higher than supply. Here are some of the basic drivers of today’s inflation.
The demand-pull situation. Demand for a product increases but the supply remains the same. Think of a vendor selling ponchos at a state fair. If it rains, demand is going to spike and fair-goers are willing to pay up to keep dry. This situation is rampant during the pandemic, as we all see runs on things like toilet paper and hand sanitizer. And now we are seeing pent-up demand being released, as some of the pandemic restrictions are eased. An example of this is popular vacation locations being all booked in advance.
The cost-push situation. Demand stays constant but supply is reduced. An example of this is a lower-yield crop season when a major drought hits a region. Consumers still want their dinner salads, but lettuce is sparse. So retailers charge more to cover their increased costs. Or when paper mills switched production to handle higher toilet paper demand, pulp used for paper and packaging had supply reductions creating a shortage which increased their prices.
Factoring in the money supply. The more money there is available to spend (high money supply), the more the demand on all goods and services goes up. This is being manifested in wage increases as employers are having a hard time filling jobs and is also the result of many of the government spending programs during the pandemic.
Ideas to protect yourself during high inflation
Alternative savings that is NOT cash. The value of your money sitting in your wallet or in low interest bank accounts is shrinking before your eyes. The past year has seen the highest inflation rates in the last decade at 5.4%, according to the Consumer Price Index (CPI). That means if your savings account is earning 0.6%, you’ve lost 4.8% in purchasing power over the last 12 months. Get your money to work for you by considering:
Low risk, dividend-paying stocks
CDs, bonds and other investments with various maturities to prepare for higher rates
Direct lending vehicles through vetted, respected facilitators
Investing directly in property, small businesses or other tangible assets
Invest in yourself to learn a new trade or skill
Lock in fixed rates on debt. Inflation can be your friend if you have a low interest, fixed-rate loan. For example, inflation will tend to increase the value of your house over time, yet your monthly payment will remain the same. So borrowing money at a low fixed interest rate, while the underlying property value increases with inflation, can be a strategy to consider.
Delay large expenditures. Do your part to reduce demand by postponing large purchases. Consider delaying the purchase of a new car, adding to your home or taking an overseas trip until demand flattens and prices come back to a normal rate.
It’s impossible to avoid the effects of high inflation altogether, but with some smart investing and the will-power to temporarily curb spending, you can reduce inflation’s impact on your personal bottom line.
As summer winds down, your business’s financial statements may be due for a quick check-up. Here are several review suggestions to help determine the health of your business prior to year end.
Balance sheet reconciliations. Reconcile each asset and liability account every quarter. A well-supported balance sheet can guide decisions about cash reserves, debt financing, inventory management, receivables, payables, and property. Regular monitoring can highlight vulnerabilities, providing time for corrective action.
Debt service coverage. Do you have enough cash to adequately handle principal and interest payments? Calculate your cash flow to ensure you can handle both current and future monthly loan payments.
Projected revenue. Take a look at your income statements and see how your revenue has performed so far this year versus what you thought your revenue was going to be. If revenue varies from what you expect, get with your sales and marketing team to pinpoint what has gone better, or worse, than expected.
Projected expenses. Put a stop to disappearing cash by conducting a variance analysis of your expenses. What did you expect to spend so far in 2021 on salaries and wages compared to what you actually paid your employees? What about other big expenses like rent or insurance? Take the amount of money actually spent so far in 2021 in each of your major expense accounts and compare it to your spending forecast. Then create an updated forecast for the balance of the year.
A review of your financial statements now will help you be prepared if you need to navigate an obstacle or capitalize on potential opportunities to expand your business.
Please call if you have any questions on how to dig deeper in your analysis of your business’s financial statements.
As a small business, once you decide to extend credit to a customer, you now have a financial stake in continuing that relationship even if you suspect there might be trouble brewing. While you don’t want to crack down on a good customer too hard, too soon, you also don’t want to be taken advantage of by a customer who has become unable or unwilling to pay. Here are some ideas to help you manage this risk.
Develop a rating system. Score each customer with a number. The number represents to whom you will sell on credit and how much risk you are willing to take. Also have scores that represent customers you will not bill and those who you will no longer take orders from because of credit risk. Develop a system to objectively assign the score. Payment history and external credit scoring reports are both good indicators of whether a particular customer will be an acceptable credit risk.
Consider credit applications. Create a simple credit application. The application should be signed by the responsible party to pay the bill. If large credit amounts are expected, get a person to take personal responsibility to pay the bill. This will provide an additional means to collect your money should the company fail to pay. You will need this signed document if you wish to use a collection agency to collect delinquent accounts.
Look at history. Those to whom you provide a credit line must have their payment history monitored. If they are habitually late payers, reduce their credit line. If they frequently miss payments, move them to prepay only.
Create a notes section on your customer records. Use this to record what a late paying customer tells you. Over time, this will reveal the customers who are honest and the customers who fail that test. This idea also provides continuity of communication for the customer that tries to tell different employees different stories.
Develop a collection system. The best credit rating system starts with a receivable aging report run once a month. This will quickly show you current trouble customers and potential trouble customers. When a bill ages through the report, know what you are going to do to collect bills at 30 days, 60 days, 90 days and anything older than that.
Look for other signs of trouble. Train your team to be on alert for:
Customers paying smaller invoices while larger invoices go unpaid.
The customer fails to return your phone calls or shows annoyance at your inquiries.
Your requests for information, such as updated financial statements, are ignored.
The customer places multiple, large orders and presses you for a higher credit limit.
The customer tries to coax you into providing a good credit report to another supplier.
You get word that the customer’s credit rating has been downgraded.
Remember, great customers can have sincere problems paying a bill. By having a good credit rating system, you can more readily identify the customers you want to accommodate to pay their bills and those customers whose activity should be suspended because they are truly problem accounts.
As always, should you have any questions or concerns regarding your tax situation please feel free to call.
Tax and financial planning is a year-round proposition. In fact, you can benefit personally from a continuous, 12-month rolling forecast, much like a business does.
What is a rolling forecast?
Rolling forecasts let you continuously plan with a constant number of periods 12 months into the future. For example, on January 1, you would plan what your financial picture looks like each month through January 1 of the following year. When February 1 rolls around, you would then drop the beginning month and add a forecast month at the end of the 12-month period. In this case, you add February of the next year into your 12-month forecast.
The month you add at the end of the 12 months uses the finished month as a starting point. You then make adjustments based on what you think might happen one year from now. For example, if you know you are going to get a raise at the end of the year, your next-year February forecast would reflect this change.
How to take advantage of a rolling forecast
By doing tax and financial planning in rolling 12-month increments, you may find yourself in position to cash in on tax- and money-saving opportunities within the next 12 months. Here are several strategies to consider:
Plan your personal budget. Will you need to put a new roof on your house? How about getting a new vehicle? Do you need to start saving for your kids’ college education? A rolling 12-month forecast can help you plan for these expenses throughout the year.
Plan your healthcare expenses. If you have a flexible spending account (FSA) for healthcare or dependent care expenses, forecast the amount you should contribute for the calendar year. Although unused FSA amounts are normally forfeited at year-end, your employer may permit a 12-month grace period (up from 2½ months) for 2021. This means that you could potentially roll over your entire unused FSA balance from 2021 to 2022. Your forecast can help you see the impact of this change.
Plan your contributions to a Health Savings Account (HSA). When an HSA is paired with a high-deductible health insurance plan, you can take distributions to pay qualified healthcare expenses without owing any tax on the payouts. For 2021, the contribution limit is $3,600 for an individual and $7,200 for family coverage. In this case, you can forecast an increase in contributions and double-check to ensure you have enough money on hand to pay future bills.
Plan your estimated tax payments. This is often significant for self-employed individuals and retirees with investment earnings. The quarterly due dates for paying federal and state tax liabilities are April 15, June 15, September 15, and January 15 of the following year (or the next business day if the deadline falls on a holiday or weekend). So if your personal income is seeing a recovery from the pandemic, your rolling forecast will show this and allow you to plan for the estimated tax payments.
Plan your retirement contributions. If you participate in your company’s 401(k) plan, you can defer up to $19,500 to your account in 2021 ($26,000 if you’re 50 or over). Contributions and earnings compound tax-deferred. As the year winds down, you might boost your deferral to save even more for retirement.
While initially setting up a rolling 12-month forecast can be a bit of a pain, once established, it is pretty easy to keep up-to-date as you are simply rolling forward last month into the future. A well-planned system can often be the first sign of future challenges or potential windfalls!
Summer’s almost here, and soon most children will be on their long-awaited summer vacation. If you own or manage a business, have you thought of hiring your children, nieces, or nephews for a summer job?
If you do it right, it can be a win-win situation for everyone.
The kids will earn some money and gain valuable real-life experience in the workplace while your business will have some extra help during summer months when other staff may be on vacation. If it’s a family business, there might even be some tax advantages as well.
If your child is doing a valid job and the pay is reasonable for the work, your business can generally claim a normal tax expense for wages paid. Your child will probably pay no or very little income tax on the wages they earned. And if the child is under age 18 and your business is unincorporated, neither your child nor your business will have to pay Social Security or Medicare payroll taxes in most cases.
To make the arrangement work, follow the following guidelines:
Ensure it’s a real job. It could be a simple job, such as office filing, packing orders, or simple production activities. But it needs to be an actual job.
Treat your child like any other employee. Expect your child to work regular hours and exhibit appropriate behavior. Don’t show favoritism or you risk upsetting regular employees.
Keep proper documentation. Keep records of hours worked just as you would for any employee. If possible, pay your child using your normal payroll system and procedures.
Avoid family disputes. If the arrangement is not working, or is disrupting the business, help your child find a summer job at another business.
The best way to weather a storm is often by being prepared before the storm hits. In the case of small businesses, this means building a fortress balance sheet.
What is a fortress balance sheet?
This long-standing idea means taking steps to make your balance sheet shockproof by building liquidity. Like a frontier outpost or an ancient walled city, businesses that prepare for a siege—in the form of a recession, natural disaster, pandemic, or adverse regulatory change—can often hold out until the crisis passes or the cavalry arrives.
Building a fortress balance sheet isn’t just a good idea for mitigating risk. Healthy cash reserves can also enable your firm to capitalize on opportunities, expand locations, or introduce new products.
Consider these suggestions for building your own fortress balance sheet.
Control inventory and receivables. These two asset accounts often directly impact cash reserves. For example, carrying excess inventories can deplete cash because the company must continue to insure, store, and manage items that aren’t generating a profit. Also take a hard look at customer payment trends. Clients who are behind on payments can squeeze a firm’s cash flow quickly, especially if they purchase significant levels of goods and services—and then fail to pay.
Keep a tight rein on debt. In general, a company should use debt financing for capital items such as plant and equipment, computers, and fixtures that will be used for several years. By incurring debt for such items, especially when interest rates are low, a firm can direct more cash towards day-to-day operations and new opportunities. Two rules of thumb for taking on debt are don’t borrow more than 75 percent of what an asset is worth, and aim for loan terms that don’t exceed the useful life of the underlying asset. A fortress balance sheet also means that debt as a percent of equity should be as low as possible. So total up your debt, equity and retained earnings. If debt is less than 50% of the total, you are on your way to building a stronger foundation for your balance sheet.
Monitor credit. A strong relationship with your banker can help keep the business afloat if the economy takes a nosedive. Monitor your business credit rating regularly and investigate all questionable transactions that appear on your credit report. As with personal credit, your business credit score will climb as the firm makes good on its obligations.
Reconcile balance sheet accounts quarterly. It’s crucial to reconcile asset and liability accounts at least every quarter. A well-supported balance sheet can guide decisions about cash reserves, debt financing, inventory management, receivables, payables, and property. Regular monitoring can highlight vulnerabilities in your fortress, providing time for corrective action.
Get rid of non-performing assets. Maybe you own a store across town that’s losing money or have a warehouse with a lot of obsolete inventory. Consider getting rid of these and other useless assets in exchange for cash.
Calculate ratios. Know how your bank calculates the lending strength of businesses. Then calculate them for your own business. For example, banks want to know your debt service coverage. Do you have enough cash to adequately handle principal and interest payments? Now work your cash flow to provide plenty of room to service this debt AND any future debt! But don’t forget other ratios like liquidity and working capital ratios. The key? Improve these ratios over time.
Remember, the best time to get money from a bank is when it looks like you don’t need it. You do this by creating a fortress balance sheet!
