Why financial planning for entrepreneurs is key before starting a business?

If you have a breakthrough business idea floating around in your head, you may be wondering what to consider before starting a business.

1. Do your prep work.

Doing as much research as you can before starting a business is critical to your financial success. Of course, find out who the competition is, assess how many hours you will have to devote to your business, and define your target audience. You will also need to determine what type of business entity you will create and operate. There are several business structures to consider: LLCs, partnerships, S corporations or C corporations, and the taxes and liabilities are different for each. This can be complex, so it is an area where it may be beneficial to get help from an attorney or financial advisor.

Once you know which entity to label your business with, you can determine how it will be taxed. Since you will not be withholding taxes from a paycheck, you need to set aside money for taxes and probably pay quarterly estimated payments throughout the year. This will help you avoid any underpayment penalties and prevent sticker shock in April, when you would otherwise have to write a large tax check.

2. Determine where the funds are coming from.

Once you have done the preparation work and assessed your current cash flow and resources, determine whether you can or should fund the business yourself or whether you will need outside capital. If you can finance the business yourself, you will have the advantage of retaining control and all the benefits, but you will have to be prepared to make sacrifices, especially if you do not have the funds to pay rent for a period of time. If you decide to seek outside capital, analyse your options and review the pros and cons.

Borrowing from a close friend or family member, for example, can strain relationships. Borrowing from a bank can be costly because of interest rates and down payments. You can also borrow from venture capitalists and angel investors. Investors are often looking for ownership, so while you may save interest versus a bank loan, you may also have to give up some profits and control. Ultimately, decide which route is best for your unique business and financial needs.

3. Consider cash flow management and forecasting.

In addition, consider how you manage your cash flow, the amount forecast and when that cash flow will actually create an income stream to support growth. This is one of the most common mistakes business owners make before starting their businesses, but it is very avoidable with proper planning. For example, do some research ahead of time to predict average accounts receivable terms in your industry. It will help you set better expectations. That will help you work with suppliers and align those timelines so that your receivables arrive first. Remember to discuss payment terms with suppliers and customers early in the relationship and get them set up for electronic payments.

Once you have advanced your business, be sure to maintain accurate customer information, automate invoicing and send invoices promptly. Spend some time each week evaluating your accounts receivable and following up on overdue invoices. It all helps make your cash flow more predictable.

4. Plan your personal finances.

It is important to consider how to manage cash flow for your personal financial situation, not just what you will need to operate your business and cover work expenses. One of the most common statements I’ve heard from business owners who have left a corporate job is that going from a fixed salary to a variable income is a challenge. Having good control of your monthly expenses and savings to cover unexpected non-discretionary expenses can help offset the discomfort that comes with this adjustment. Tools like Mint and YNAB (You Need a Budget) can be great resources for budgeting and tracking this key financial information.

There are many things to consider before starting a business, so don’t hesitate to ask for help. A financial advisor, lawyer, accountant or business consultant can help you with financial planning. And, of course, connect with other entrepreneurs to learn from them and the financial hurdles they have had to overcome.