When a small business has debts it can seem impossible to pay them off and see a profit. After all, how can a business be profitable if there are debts to be paid? The fact of the matter is that your business can make a profit while paying its debts by using the Profit First Method.
The Profit First method works to make your business profitable because it makes you put aside profit off the top every tenth and twenty-fifth. And, because it teaches you better budgeting and cash flow management. When you have debts to pay, use the Profit First allocation approach, treating your debt serving as one of your recurring expenses for which you set aside money every tenth and twenty-fifth.
Smallest First, Snowballing Debt Repayment Approach
When you have several debts to repay, here is how to do it the Profit First way. First of all, arrange your debts from smallest to largest. If there are two debts of roughly equal size, put the one with a higher interest rate ahead of the other in line.
Once you have your debts arranged like this, you will begin by paying off the smallest debt first.
Every month pay the minimum required to service every debt out of your operating expense account. Then use the remaining money in that account (after making other allocations and paying bills) to pay towards the smallest debt.
You will continue this approach until the smallest debt is paid off. Then you will go after the next smallest debt. You will pay all minimums but now there is no minimum to be paid for the smallest debt because it is paid off! Thus you will have more money to allocate towards paying off the next debt. And, when that debt is paid off, the money for the minimums on the first two debts can go towards paying off the third debt in line.
As you can see, your ability to pay debts in this manner“snowballs” like a ball of snow rolling down a hill and picking up more snow and getting larger as it goes. This is a tried and true approach to paying off multiple debts and it works great in the Profit First system.
Making a Profit as You Pay Off Your Debts
When you have a lot of debts to pay off, you need to make more money than you spend in order to have the money to service the interest and pay down on the principle. In other words, you need a profitable business if you are going to pay back the money that you owe. Here is where using the Profit First approach works. When you allocate to profit each and every tenth and twenty-fifth, you will, in fact, be making a profit. And, when you set up the multiple bank accounts required in Profit First, you will be able to see your finances at a glance. Profit First works to maximize profits because its users learn to budget more successfully and manage cash flow like pros.
If you still have questions or are interested in implementing Profit First in your business schedule a meeting with a Certified Profit First Professional today!