Knowing how your business is performing at any given time can be key to your financial success. And that’s why creating a budget is so important.
A business budget projects future revenue and expenses so you can create a smart, realistic spending plan. As the year progresses, you compare your actual numbers against your budget. This can help you hold your business accountable and reach your financial goals.
Here’s a step-by-step guide for creating a business budget. You'll also learn why budgets are crucial to running a successful business.
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What is a business budget?
A business budget is a spending plan that estimates your future revenue and expenses. You refer to it to see whether you’re on track to meet financial expectations for the month, quarter or year. Think of your business budget as a point of comparison. You run your actual numbers against it to determine if you’re over or under budget.
From there, you can make informed business decisions and pivot accordingly. For example, you might hold off on a large equipment purchase if you exceed your budget for the quarter.
What does a business budget include?
The components of a budget will vary slightly based on the nature of your business. In general, however, a business budget will include:
- Projected revenue.
- Fixed costs, such as rent, business taxes, employee salaries and insurance premiums.
- Variable costs, such as raw materials, delivery costs and utilities.
- Projected profit.
- Contingency funds for unforeseen circumstances, like equipment failure.
Why is a business budget important?
Creating a business budget can help you do the following:
- Maximize efficiency.
- Establish a financial plan that helps your business reach its goals.
- Point out leftover funds that you can reinvest.
- Predict slow months and keep you out of debt.
- Estimate what it will take to become profitable.
- Provide a window into the future so you can prepare accordingly.
How to create a business budget in 6 steps
The longer you’ve been in business, the more data you’ll have to inform your forward-looking budget. New business owners, however, should research typical startup costs for their industry. This helps determine working estimates for revenue and expenses.
From there, here’s how to put together your business budget:
1. Examine your revenue
First, you should take stock of all of your revenue sources. Add that income together to determine how much money your business makes monthly. It’s important to do these calculations for multiple months. And if you have enough data, calculate income for at least the last 12 months.
Notice how your business’s monthly income changes and look for seasonal patterns. Your business might experience a slump after the holidays, for example. Understanding these seasonal changes will help you prepare for the leaner months.
Then, you can use those historic numbers and trends to project revenue for future months. Make sure to calculate for revenue, not profit. Your revenue is the money sales generate before you deduct expenses. Profit is what remains after you deduct expenses.
» MORE: Basic accounting concepts
2. Subtract fixed costs
Next, you’ll want to add up all of your historic fixed costs and use them to reliably predict future ones. Fixed costs are those that stay the same no matter how much income your business is generating. They might occur daily, weekly, monthly or yearly. So make sure to get as much data as you can.
Examples of fixed costs within your business might include:
- Rent.
- Debt repayment.
- Employee salaries.
- Depreciation of assets.
- Property taxes.
Once you’ve identified your business’s fixed costs, subtract those from your income.
3. Subtract variable expenses
As you compile your fixed costs, you might notice other expenses that aren’t as consistent. Unlike fixed costs, variable expenses change alongside your business’s output or production. Look at how they’ve fluctuated over time. Then use that information to estimate future variable costs. You subtract these expenses from your income too.
Some examples of variable expenses are:
- Hourly employee wages.
- Owner’s salary (if it fluctuates with profit).
- Raw materials.
- Utility costs that change depending on business activity.
During lean months, you should usually decrease your business’s variable expenses. However, you might increase them during profitable months. Especially if it's for the long-term benefit of your business.
4. Set aside a contingency fund for unexpected costs
This process involves putting aside extra cash and planning for contingencies.
You might want to spend surplus income on variable expenses. But it’s smart to establish an emergency fund instead. That way, you’ll be ready when equipment breaks down and needs replacing. The same goes for if you have to replace damaged inventory.
5. Determine your profit
Add up all of your projected revenue and expenses for each month. Then, subtract expenses from revenue. You may also see the resulting number referred to as net income. If you end up with a positive number, you can expect to make a profit.
If not, that’s a loss — and that can be OK too. Small businesses aren’t necessarily profitable every month, let alone every year. This is especially true when your business is just starting. Compare your projected profits to past profits to confirm whether they’re realistic.
6. Finalize your business budget
Are the resulting profits enough to work with, or is your business overspending? This is your opportunity to set spending and earning goals for each month, quarter and year. These goals should be realistic and achievable. If they don’t line up with your projections, establish a strategy for making up the difference.
As time goes on, compare your actual numbers to your budget on a regular basis. This lets you know if your business is meeting those goals. If it isn't, you can try to course-correct.
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NerdWallet Small Business helps you get your business in shape for taxes, loans, and growth. Stop worrying about accounting and speak with a real, human expert from our partner, Xendoo.
Tools for preparing a business budget
Creating a business budget from scratch can feel tedious. But a variety of tools can help simplify the process.
- Accounting software. Your small-business accounting software already houses your financial data. This can make it easier to create a budget. Plus, many software platforms offer basic budgeting reports.
- Business budgeting software. If you need more features than your accounting software has, consider business budgeting software. These platforms may offer cash flow forecasting or the ability to use different projection methods.
- Business budget templates. If you have simple financials, you can download free business budget templates to manually create and track your budget.
It can also be useful to hire an accountant to help manage your business budget. They can assist you during tax season too.
» Looking for tax-specific help? Learn how to find a business tax advisor
