The Fizz! Blog

Have you designed a business that can't possibly make money?

Some years ago, we were approached by a local business looking to change accountants (in order to try and lower their fee, primarily).

We had a look at their accounts with them.  They'd made losses in their first couple of years of trading.  We asked about the numbers, and the scope there was to improve them.  How high could the sales realistically get?  Could the margin they made on the things they sold be improved, by selling at a higher price or buying at a lower one?  What was the realistic scope for trimming overheads without undermining the business?

We concluded with them that as things stood, the best case scenario would mean that they went from losing £50,000 a year to losing £10,000 a year.  They'd effectively created a business where the best case scenario was that they'd lose money, and the worst case scenario was that they'd quickly burn through their life savings.  That's what can happen if you begin from a position of wanting to go into a business in an area you're passionate about, with no immediate pressure to create profits and an income.  If you start the other way round, from the position of wanting or needing a certain amount of income, and work back from that to try and create a model that delivers it, you're more likely to end up happy.

They weren't really ready to hear that though, and they went with a cheaper accountant.

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There's no "usual" with a new business

Often people will seek reassurance about how their business is doing in its very early years.  There seems to be a widespread belief that it's normal for a business to be slow to get going and become profitable, and people quite often say "This is normal, isn't it?  Businesses don't usually make any money in their first few years, do they?" when they're talking to us about their accounts and tax over the first couple of years.  It's an understandable question, but actually it can be a rather unhelpful way of looking at things.

Sometimes it's the case that it takes a while for a business to get up to speed, but sometimes it isn't.  Often a restaurant, say, is booming in its first weeks or months!  Every year we take on plenty of new businesses that soon exceed their own expectations.

 

Of course things won't always blossom right away (or ever). The problem is that the owner can sometimes hide behind the fact that it's early days, instead of really engaging with how the business is doing and how to drive it forward.  Instead of spending time trying to find and accumulate evidence that slow growth is normal, it might be better to expend the energy on doing the things that will make the business grow.

 

The whole perspective actually usually results from someone having set up a business without even a back-of-an-envelope financial plan of some sort.  If someone starts a business because it's in an area that interests them, with no immediate pressure or desire to get a target income out of it, they won't have given any thought to how quickly they need to get up to speed.  But if they've thought about those things for a few minutes, then what they'll be concerned with is how things are progressing according to their own plan, whether they're getting more or less profit than they need or want, whether they're working more or less than they planned to and so on.  Viewed from that position, how quickly other businesses get up to speed is no longer a meaningful benchmark.  Who cares?  It's yours that matters.

 

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Is a Lifetime ISA for you?

As of this month, there's a new kind of ISA available - the Lifetime ISA (or LISA).  It combines some of the functionality of a Help to Buy ISA (which aims to help first-time buyers build up a deposit for a house or flat) with some of the functionality of a pension.  To be honest, the pension functionality is pretty rubbish, but the appeal to first-time buyers is considerable.

You have to be between 18 and 39 to open a LISA.  Once it's open, you can contribute until you're 50.  You can put in up to £4,000 a year, and the government will top it up by another 25% - so if you put the maximum £4,000 in over the course of a year, the government will stick another £1,000 in for you.  You can then withdraw the money tax-free, either a) to buy your first home, worth up to £450,000 or b) after age 60.

Help to Buy ISAs remain available, but for most prospective first-time buyers the LISA will be a more attractive option now.

However, if you take the money out before 60 and you're not using it to buy your first home, you have pay a penalty.  The way the penalty has been set is really quite crafty (perhaps by accident, perhaps not).  It's 25% of the amount you withdraw.  At first glance, that looks as if you're just paying back the government top-up.  But if you contribute £4,000, get the £1,000 top-up, and then withdraw it all, the penalty is 25% of the whole £5,000, which is £1,250.  So you've actually only got £3,750 of the £4,000 you put in.

As far as saving for retirement goes, the fact that you can get your hands on the money prior to retirement is the most significant advantage over a normal pension.  In most other respects, pensions do have considerable advantages over LISAs. For example:

• Anyone in a workplace scheme will benefit from their employer paying into their scheme on their behalf as well as their own contributions, so taking advantage of their workplace scheme is generally going to be a no-brainer as a first step for retirement saving.
• Those with income over £45,000 will get more of a government top-up as a result of a pension contribution than a LISA would offer.
• The amount you can put into a personal pension is much higher.

So for retirement planning, the LISA will probably be a niche product.  But for those saving for their first home, it will be very attractive.

The bad news is that not many providers are offering them yet!  But we're only a week into their availability, and that'll change soon.  If the LISA fits the bill for you, look into it - especially if your 40th birthday is approaching!

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