Help your business-owner client boost cash flow

With many business owners reporting lower sales expectations, they may require help reviewing their cash flow planning in the coming months.

About 50% of business owners said insufficient domestic demand limited sales or production growth, according to the July business barometer index from the Canadian Federation of Independent Business.

Similarly, in the Bank of Canada’s quarterly business outlook survey published in July, more than half of businesses expected sales over the next 12 months to be lower than in the previous 12 months, with future sales indicators at record lows. The soft expectations were widespread across regions and sectors.

Further, only 22% of respondents to the CFIB business barometer said their businesses were in good shape — about half the usual proportion.

With slower sales, business owners may need advice to boost their bottom lines. In such cases, Mark Therriault, a financial advisor at Nicola Wealth in Vancouver, considers cash flow planning in conjunction with tax planning.

While tax planning is generally implemented for the long term, advisors may want to review planning with business-owner clients and their accountants to ensure it’s sound, in light of the pandemic’s impacts, he said.

Therriault’s firm conducts an income analysis with business owners, considering how they’re compensated and how much they save inside the corporation annually.

Business owners often don’t have a structure to minimize tax, he said — generally, a holding company to retain funds not needed for income inside the corporation. In addition to minimizing tax, having such a structure allows the business owner to invest in the business and have access liquidity in a crisis.

As as result of the pandemic, business-owner clients are keeping more cash in their businesses as a precautionary measure, he said. They may be paying less out of the corporation to shareholders or stopping savings temporarily to build up capital.

To plan effectively requires a team, he said.

“It’s really important — whether it’s the financial advisor, the lawyers, the accountants — to all have open lines of communication with each other for the business owner,” Therriault said.

Even when advisors themselves don’t provide specific services that a client needs, such as refinancing, they provide important information and analysis that busy clients may not otherwise have, he said.

He also noted that business owners may have more time for planning if they’re partially shut down. Businesses on average were running at less than two-thirds capacity, the CFIB business barometer said.

Immediate financing arrangements and other loans

One way to boost cash flow is through loans.

For example, business-owner clients with corporately owned permanent insurance can borrow against the policy’s cash value, known as an immediate financing arrangement (IFA). The borrowed funds could be put back in the business or in an investment portfolio within the corporation.

To use the strategy, the client deposits sufficient funds in their policy to create an early cash surrender value (CSV), and applies for the loan. The amount that can be borrowed is based on a percentage of the CSV, and the funds are received tax-free.

The client pays interest on the loan each year and, as long as the loan is used to generate income, they may be able to claim an interest expense deduction, as well as a collateral insurance deduction.

“Your cost is the tax-deductible interest cost on those funds,” Therriault said. “Over time, [the strategy] generates more cash than what you put in to the plan.”

That’s because of several factors: the policy’s tax-deferred growth, the borrowed funds’ contribution to the business or investment portfolio, tax deductions, and credits to the corporation’s capital dividend account from the policy’s gross proceeds upon the insured’s death.

Steve Meldrum, founder of Swell Private Wealth in Medicine Hat, Alta., noted that generating cash flow this way is particularly cost-effective considering low rates. And with an IFA, business owners can “sometimes get bankers’ acceptance rates, which are lower than prime,” he said.

Because an IFA is a long-term strategy, the business owner should have a longstanding business with consistent annual cash flow. “You wouldn’t want to use this strategy if you were in a startup phase in a business, for example,” Therriault said.

A business owner could also boost cash flow by accessing equity from investments to get a line of credit, Meldrum said. Funds from the line of credit could be put into the business (or invested in the market) and would generate a tax deduction.

“You’re only paying the interest cost,” he said.

Real estate decisions

Another consideration for cash flow is whether the business owner should rent or own commercial real estate to run the business.

While leasing can be more cost-effective year over year in terms of cash flow, a long-term consideration is the benefit of owning an appreciating asset.

“Something that we often do with our clients is have those conversations and provide an analysis comparing the two,” Therriault said. “In a lot of cases, paying rent can be more beneficial and less costly.” When that’s the case, the savings can be put back in the business.

Clients who own their commercial real estate should review their financing terms. If financing isn’t up for renewal, paying a penalty and refinancing may make sense given that rates are at all-time lows.

Busy business owners often don’t review their financing, but advisors can provide that analysis, Therriault said. Providing information on rates that clients can take to their accountants, for example, can result in positive action instead of reviewing financing only at renewal time.

And, given low interest rates, clients who own commercial assets may want to consider borrowing against them as a way to boost cash flow or potentially make acquisitions as opportunities occur after the pandemic. “The interest would be tax-deductible so the cost of that money would be incredibly cheap,” Therriault said.

Other considerations

A reassessment of a business’s overall overhead can also result in boosted cash flow. This would entail the business owner reviewing monthly or annual expenses, and the associated return on investment.

Business owners must understand how expenses correlate to the bottom line, Therriault said.

In addition to finding areas to cut or eliminate expenses, the business owner may find areas where they get a lot of bang for their buck and could infuse more capital to boost their bottom lines, he said.

Meldrum suggested clients consider ways to renegotiate debt in general. On a personal level, if a client uses a spousal loan for income splitting, the prescribed rate for Q3 is 1%, a drop from 2% previously. Thus, the client may want to do a new loan.

Looking ahead, he said business owners could be challenged by potential tax changes, such as an increase in the capital gains inclusion rate or increases in tax rates generally to pay for support during the pandemic.

Such a situation would make planning with insurance even more attractive, Meldrum said.