There you are, running around in small circles with deadlines to meet and bills to pay.  Can you really afford the time required to produce a detailed budget?  Isn't your time better spent generating revenue?

Yes and no. To paraphrase Alice and the Cheshire cat: "If you don't know where you are going, you are sure to get somewhere if you only walk long enough". The budget provides you and your investors with a numerical map that leads somewhere specific.

What is a budget?
A budget is a forecast of revenue, expenditure and profit. Most budgets are revised annually.

What does it achieve?
There are two (often overlapping) reasons for producing a budget. One is to persuade potential investors that your company is a good bet. The other one is to plan your business finances - how much money do you have and how do you plan to use it? How much revenue do you need to generate to achieve your target profit? Is your business plan viable or does it need adjusting? In retrospect, did the year pan out the way you planned, or did something go wrong?

How to approach a budget
First, find out how your accounting software deals with budgets. It's far more efficient to use the same package for accounting and budgeting.  Next, meet your accountant to plan how to structure the budget. Arrive prepared, with a chart of accounts and a list of informed questions. Take copious notes.

Traditional budgets are very difficult for start-ups and firms with a short history, because there is little or no historic data. Revenue is particularly problematic, because no matter how carefully you have planned, it's impossible to predict the future. There are two main approaches to budgeting:

The projections approach
Here you enter projected costs and projected revenue, and calculate projected profits from these. This is reasonable and rational if the company has several years of relatively stable history to project from. If it's a new company, such a budget is likely to become an exercise in denial and wishful thinking.

The required profits approach
An alternative method is to enter projected expenses, and then calculate how much profit you require, and how much you think you can actually generate. 

Eventually this should be enough to pay your salary and provide a return on your investment in the company.  However, it might be realistic to plan for a loss in the first year or two, and only a small profit for a year or two thereafter.
Having settled on a number, you now add expenses to profit to come up with your required revenue.

Turn this number inside-out. Is it realistic? Is it achievable? Instead of guessing wildly how many widgets you may be able to sell, or how many hours you hope to bill, you can now soberly assess whether you will be able to reach your targets. Don't have 10,000 billable hours in the year? Can't afford enough machinery to make a million widgets? Go back and adjust the business plan.

Once the company is liquid, determine your salary based on what you would be earning if employed in a similar job, and your return on investment based on the interest you would receive if investing outside the business.

EXPENSES
Fixed costs
Fixed expenses remain the same regardless of sales volume. They include rent, loan repayments, and insurance.

Semi-variable costs
These are costs with fixed and variable components, such as telephone, salaries and wages. The fixed component is the minimum cost of supplying goods or services, while the variable component changes depending on sales volumes.

Variable costs
Variable costs increase or decrease in line with sales, and include costs of materials, distribution and commissions.
Start-up costs
Initial costs must be factored in for a start-up.

REVENUE
If you use the required profits method outlined above, you will have generated a total figure for required revenue. This is a goal rather than a prediction. You need to break it down to decide how many of what you need to sell, what you need to charge, and whether the targets are realistic. It has the added advantage of generating very clear monthly sales targets.

Once the business has been running for some years, revenue will be predicted in a more conventional way, based on past performance.

MONITORING THE BUDGET
Once you have set up the budget, compare it to the actual figures every month, to look for differences and establish why they are there. Adjust expenditure or sales efforts as you go along, to bring the next group of numbers in line with the budget.

I hope this helps,

www.mark-gwilliam.com  

1. Taking everything on yourself

The business owner and/or their spouse try to do it all themselves (even though they don't really understand what they should be doing, even though they really don't like doing it, and even though they are busier than they've ever been in their lives before trying to do all the things that go with running your own business).

2. Buying goods or services with cash or personal credit card and then failing to record these transactions at all in the books, or recording them incorrectly.

3. Not properly dealing with employees.

If someone works for you, even for a short period of time, you need to consider whether they are an employee. If they are not going to go onto the payroll, make sure they are going to give you an invoice - no invoice, no payment!

The task of deciding whether someone is an employee is not made easier with the status indicator tool provided by the Revenue & Customs , for all but the most clear cut cases, this tool directs employment. Which of course is what they would say!

4. Not reconciling the bank account

Making sure that what is on the bank statements is the same as the books. This gives reassurance that no bank payments or receipts have been either missed or duplicated. It gives great reassurance that the books are right.

5. Not using the right system.

What is the best system for the business? For a business which needs to track credit given to customers and money owed to suppliers, it would be silly not to use a computer. For a business which can get by tracking just payments and receipts, it will still save lots of time using the right computer system.

6. Backup

If you are using a computer system - its essential to back it up. It costs very little and takes very little time. There really is no excuse not to!

7. Getting the right categories set up.

Bookkeeping is really organising information into pigeon holes. Keep your system simple and use it consistently. 20 to 30 account headings (or categories) is probably about right, 50 would usually be too many.

8. Not having a seperate business bank account

Yes you need a seperate bank account. Even if you just have one let property, I advise a seperate bank account. It makes everything much clearer and simpler and avoids unnecessary work.

Also should HM Revenue & Customs ask to see the business records, they would expect to see a business bank account. Having to provide statements for a 'mixed' private and business account would lead to requests to explain all the non-business bank receipts, and probably more explanations on top!

9. Losing paperwork

Unfortunately HM Revenue and Customs do expect you to keep all the receipts for your business expenditure. Be organised, file things away systematically, usually just date order is best.

10. Not dealing with VAT properly

Get on the right scheme. For a small business, often the vat flat rate scheme is best.

Common mistakes are:

Not registering as soon as sales exceed the level where registration is required.

Not accounting properly for VAT on fuel for private use.

Not adjusting VAT on bad debts.

The Flat Rate Scheme was introduced as an easy way for small businesses to calculate their VAT liability.

The Flat Rate VAT scheme is available to businesses with a taxable turnover below £150,000 excluding VAT (also exempt and non-taxable sales should be below £37,500).

Under the flat rate scheme, you simply keep a percentage of the VAT charged to your customers. The percentage you keep varies depending upon which industry you are in.

You ignore VAT on your purchases, the VAT you pay simply becomes a cost. Eg If you spend £10 + VAT on stationery, the cost of that stationery becomes £11.75.

The flat rate scheme does allow you to reclaim the VAT on 'large' capital items - where you spend more than £2,000 you can reclaim the VAT on that item.

Should I be on the flat rate scheme?

As you claim a percentage of sales, those with higher sales stand to benefit more.

Those with low purchases (therefore paying little in reclaimable input tax) also stand to gain from the scheme.

For example A business with sales of £149,000 (excluding VAT) and in the category of "any other activity not listed elsewhere" - 10% flat rate and with negligible input VAT say £500 will save £8,068 per annum by switching to the Flat Rate VAT scheme.

To see how much you might save, try the Flat Rate VAT scheme calculator .

How do I join the Flat Rate VAT Scheme?

The easiest way is to call the VAT advice line on 0845 010 9000, who will be able to take your VAT registration number and relevant details on the telephone, following which you will be registered after approximately 21 days.

Alternatively, you can download the scheme application form from HMRC .

How do I decide which sector my business falls into?

If your business has sales in two or more sectors, you should apply the percentage appropriate to the main business activity, as measured by your sales.

Some sectors are clearer than others. The difference between "other business services" and "services not elsewhere specified" is far from clear. If you phone HM Revenue & Customs for guidance, make sure you keep a note of the name of the person you speak to and the date of the call.

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Those setting up a new business sometimes think they cannot register for VAT until they have reached a certain turnover (wrong), others feel the last thing they want to do is register for VAT, its just more admin and more tax isn't it?

Well maybe. But it could mean a significant amount of extra profit for your business!

VAT is a tax on consumers. If your business supplies consumers, then you will want to delay registering for VAT until your turnover means you must register. (Note if you have taken over a 'going concern' which was already VAT registered-then you must register from day one of your business.)

If your customers are other businesses or even if some of your customers are other businesses, then it could pay dividends to register for VAT straight away.