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Liquidity and Its Importance In Business

Liquidity and Its Importance In Business

To stay viable, business requires capital. Even if your company has excellent sales, it will struggle to succeed if it lacks the capital to run. However, examining your company’s cash status entails more than just looking at your bank account.

What does Liquidity Ratio mean?

A liquidity ratio is a financial measure used to assess a company’s capacity to meet its short-term loan commitments. The measure is used to determine if a company’s current assets, or liquid assets, can cover its current liabilities. Typically, businesses use current assets to pay their financial responsibilities. It refers to how rapidly a company can convert its assets into cash in order to meet its short-term financial obligations. Your liquidity ratio indicates if you have the financial resources to meet your forthcoming commitments. Strong liquidity will enable your business to overcome financial obstacles, obtain loans, and plan for the future. Because cash and stocks are easy to access and exchange, they have a high level of liquidity. Land and real estate are often less liquid and selling and obtaining money from them take a significant time.

Types of Liquidity Ratios

Three liquidity ratios are being used most commonly:

Current Ratio

This ratio, also known as the capital ratio, demonstrates your ability to pay short-term debts due within a year from current assets such as cash, receivables, and short-term loans. A higher ratio suggests that the company is better equipped to repay its short-term loans. These ratios will vary by industry, but in general, 1.5 to 2.5 represents satisfactory liquidity and efficient working capital management. Current ratio = current assets / current liabilities This suggests that the business has $1.50 in current liabilities for every $1 in current assets. Lower ratios may suggest liquidity issues, whilst higher ratios may indicate that there is too much working capital occupied in inventories.

Quick ratio

The quick ratio is, also known as the Acid test ratio, assesses your ability to pay off existing debts using assets that can be converted into cash in less than 90 days. Both are similar in that the numerator is current assets and the denominator is current liabilities. The quick ratio is more stringent than the current ratio when it comes to determining liquidity. Quick Ratio = (Cash + Accounts Receivables + Marketable Securities) / Current Liabilities This ratio is more conservative since it excludes the current asset that is the most difficult to convert to cash. Divide the current liquid assets by the current liabilities to get at this ratio.

Cash ratio

The cash ratio is a measure of a company’s liquidity that determines if it has the ability to pay down obligations entirely with liquid assets (cash and cash equivalents to total liabilities). Creditors and distributors use this ratio to evaluate your ability to pay back debts, in addition to giving you an indicator of your company’s financial health. A healthy cash flow ratio is at least.5. This demonstrates the company’s ability to pay back short-term debt with its most liquid assets, cash and cash equivalents. Cash ratio = Cash and equivalent / Current liabilities Because the numerator of the equations differs between the three ratios, an appropriate ratio will vary between them. It stands to reason because the numerator of the cash ratio only includes cash and liquid assets, whereas the numerator of the current ratio consists of all current assets.

Ratios Importance

Financial ratios are a quick way to evaluate your company’s liquidity and sustainability using a variety of situations, such as paying liabilities with cash and cash equivalents, accounts receivable, and even disposing, or liquidating, some of your machinery and equipment. These ratios can also be used to compare your company to others in your sector and to develop targets for maintaining or achieving financial objectives.

Importance of Liquidity Ratios

Liquidity ratios are used to assist people to comprehend a company’s financial situation. It also aids in determining the firm’s short-term financial status. A larger ratio indicates that the company is stable, whilst a low ratio indicates that the company is at risk of financial loss. It’s vital to know the ratios in detail. Are you making the best use of your resources if you have a ratio that suggests you can easily cover your liabilities? You might want to cut costs, enhance credit control to transform receivables into cash or take out a loan to get more money. Furthermore, if the reason for the greater ratio is rising inventory levels or receivables, it could suggest slow-moving inventory or inadequate credit control. Both of these factors could point to future incidents. You must act swiftly to minimise risk if your ratios are below a safe range. The ratio provides a thorough picture of the company’s operating system. It shows how well the company sells its products and services in order to turn inventories into cash. This ratio can assist the business in improving its production process and planning better inventory storage to reduce losses and manage overhead costs. When assessing organisations’ finances in different sectors or when there is a significant difference in the size of the companies being evaluated, comparing liquidity ratios is less helpful because they may require distinct financing structures. It’s also important to use liquidity ratios in the context of other indicators and company dynamics to get a more accurate view of a company’s financial health.

Liquidity vs Solvency

Liquidity and solvency are not interchangeable terms; they are two different concepts. Liquidity is a measure that evaluates your company’s capacity to satisfy short-term financial commitments due in less than a year. Solvency is a measure that assesses a company’s capacity to fulfil long-term obligations, including bank loans, pensions, and credit lines. The current, quick, and cash ratios are used to assess liquidity. Other ratios are used to determine solvency.

Bottom Line

Businesses require liquidity to pay their expenses. Liquidity ratios are a key indicator of a company’s financial health because they evaluate its ability to meet short-term commitments. They can also be used to compare the financial strength of businesses in the same industry. When it comes to an SME business, it’s essential to be cautious about putting too much weight on sales growth as a measure of financial health. A company can make some changes to ensure it can cover its debts, optimise the period it holds onto cash, and ensure that if it requires financing from a bank or investor, it is in the best possible position to receive that money by taking other factors into account, such as liquidity. Understanding your liquidity position is critical, but not every organisation is proficient in this area. Bloom Financials’ team of accountants has extensive experience assisting businesses in preparing and analysing liquidity ratios and business analysis. Contact us to get a detailed analysis.
Essential Policies to Implement in Small Businesses

Essential Policies to Implement in Small Businesses

  • Essential Policies to Implement in Small Businesses
    • 1 – Workplace Health and Safety Policy
    • 2 – Equal Opportunity Policy
    • 3 – Employee Disciplinary Action Policy
    • 4 – Code of Conduct Policy
    • 5 – Policy on Data Protection
    • 6 – Policy on Working Times, Leave of Absence and Holidays
    • 7 – Policy on the Use of social media and the Internet
  • Bottom Line

Essential Policies to Implement in Small Businesses

Internal corporate policies govern employees’ behaviour in the workplace. Setting behavioural and performance standards for the workplace and providing employees with an overall framework for being productive at your organisation is always supported by defining employees’ privileges and responsibilities inside your company. It also describes what staff might expect from their superiors. Company policies also effectively protect your company and make your workplace a safer and more pleasant place to work for everyone. The organisational culture, the regulatory environment, and the industry all play their role in determining which rules are necessary for a company.

A small business’s policies and procedures are essential to its long-term success. Policies typically contain rules and standards that key operational groups or divisions must follow. Companies with policies in place are more equipped to cope with any professional challenges that may emerge; policies give shape and support smooth operations in organisations. It’s critical to document company policies and processes whenever a firm starts to grow, particularly when it adds more employees.

You may be required by law to follow certain business policies, but you may also choose to develop your own. Guidelines and best practices are provided below to help you decide which policies must be included in your employee manual:

1 – Workplace Health and Safety Policy

Health and safety policies stress the workplace’s safety protocols and all employees’ roles to maintain a safe workplace. Occupational health and safety provisions are obligatory to anyone who owns or operates a business. It’s vital that your staff work in a healthy and secure environment. Any company with at least five employees is required by law to have this policy written down as a document and distribute it to all employees.

A written policy indicates that you are concerned about the situation. Any processes and directions for work that include special hazards and conduct in times of emergency should be included in the policy. A health and safety policy should spell out exactly what employees should do in the event of an emergency, such as if someone is hurt or if there is a fire, where the nearby first aid boxes are kept, and who the qualified first aid persons are. A workplace safety policy can assist you in thinking more rationally.

2 – Equal Opportunity Policy

Many countries have laws requiring you to be an equal opportunity employer. Under an equal opportunities policy, employers are prohibited from discriminating against employees or potential employees based on protected characteristics such as gender, age, ethnicity, faith, sex, marital status, maternity, gender reassignment, or disabilities. The EOP is the most important policy for any anti-harassment, workplace bullying, non-discrimination, or diversity policy your organisation may think to develop.

This policy ensures that employees are treated fairly. Every employee should have an equal opportunity to apply for and be hired for jobs, be trained and promoted, have adequate provisions given for a physical impairment, and have their service terminated fairly and reasonably. Adopting a suitable policy demonstrates the company’s commitment and creates awareness among all employees. Putting it in writing sends a clear message to everyone in your organisation that equal opportunity is a fact.

3 – Employee Disciplinary Action Policy

Problems will happen at work from time to time, and handling them will be a lot easier if you have a well-defined disciplinary policy in place. Employees must understand how they will be penalised and under what conditions they will be penalised.

Businesses are required by law to present their employees and workers with a written statement of the job description when they begin work and a more comprehensive written statement within two months that contains information regarding disciplinary and grievance actions.

Even if you don’t formally reveal the whole procedure, a structured phase process will help you assure fair and equal handling. It will also demonstrate that you are a company that does not accept severe offences but encourages corrective actions in minor cases.

Because disciplinary policies have likely to occur in employees being dismissed, they must be fully documented and strictly followed. Moreover, they must comply with the Advisory, Conciliation and Arbitration Service (ACAS) Code of Practice; otherwise, the company may face penalties from an employment tribunal. Therefore, before including the detail in your employee manual, get it reviewed by a lawyer or legal advisor to ensure that all disciplinary actions are lawful.

4 – Code of Conduct Policy

If you have a clear and unambiguous code of conduct, employees can better understand your expectations regarding performance and behaviour. Organisational values, the protection of company resources, coping with misconduct and disputes, as well as employees’ social and work accountability are all essential elements of this document.

Specific regulations like drug and alcohol abuse, sexual harassment, gifts, dress code, privacy, and even the usage of tech gadgets, including smartphones during work hours, could be included in this policy. The rules must be simple and easy to understand. When employees are confused about what defines appropriate behaviour, they can ask about them. It also ensures that there will be a written account in place if somebody’s job must be suspended. In addition, a code of conduct must clarify specifically how employees should respond when they see a violation of the relevant rules, as well as the repercussions of behaviour.

5 – Policy on Data Protection

Data protection has been the most important subject across every company since the General Data Protection Regulation (GDPR) took effect. The regulatory rule applies to both employee and consumer’s personal data.

A data protection policy outlines the rules and legal requirements businesses must meet while collecting, managing, processing, transmitting, or keeping personal data during business operations and transactions, including client, vendor, and staff data. Under the GDPR, it is required to publish information about what data we collect, why we need to store it, and your rights under the GDPR legislation.

6 – Policy on Working Times, Leave of Absence and Holidays

Employees may need to be unavailable sometimes for a variety of reasons, spanning from health concerns to holiday plans. Even if it is not obliged by law, it’s really beneficial to educate your employees about the perks you provide. Companies would be wise to explain any ambiguity about working hours, absences, and holidays to avoid potential conflicts. This policy should, for example, specify the minimum and maximum weekly working hours, the criteria for having a break, how work time could be scheduled, and what must be reported.

Sick leave, paid time off (PTO), maternity leave, family leave, and other types of leave are all different things that may require specific handling. The only way to effectively notify employees is to have all of this in a document, along with any necessary regulations to manage leave utilisation. Overtime and vacation benefits should also be governed by the applicable labour law.

7 – Policy on the Use of Social Media and the Internet

This policy must define what constitutes unethical use of corporate assets, such as computers, laptops, and work mobile phones, as well as the penalties that an employee may face if they violate the policy. This policy should define what information employees may and may not put on the internet, as well as what standards apply to the exploitation of the company’s own IT infrastructure.

The purpose of the policy should be to establish a balance between the employee’s privacy and the company’s objectives. Although it can be challenging to insist that employees use their personal social media accounts in a specific capacity, any job-related profiles should be controlled under the guidelines.

Bottom Line

Businesses must consistently create and implement policies based on a risk analysis particular to their business. They must examine how their staff and management handle workplace problems and determine which areas should be addressed. Write down critical challenges that need to be handled inside the policy. Examine all parts of the policy, including what you want your employees to do and what they should avoid. It’s also crucial to review and discuss company policies with current and prospective employees so that everyone is on the same page.

In addition, when changes develop in the organisational or legal structure, businesses must evaluate if a new policy is required. Bloom financials’ expert business analysts and its secretarial team can help your existing or startup company analyse and create the most efficient business strategies and policies to be implemented. To get more details Contact Us by providing your details below.

Dividends and taxes – a complete guide

Dividends and taxes – a complete guide

Contents

  • When can I take dividends out of my limited company?
  • What is Tax on dividends
  • Dividend allowance
    • Personal allowance
  • Dividend tax rates and thresholds for the 2020/21 tax year
  • Who pays the corporation tax on dividends?
  • How to pay tax on dividends
  • Receiving Dividends can be beneficial for
  • Professional advice and assistance

Dividends and taxes – a complete guide

When limited liability companies produce a profit, they can pay rewards in the form of dividends to their owners and shareholders, usually on a quarterly or annual basis. Dividends are calculated based on earnings, which are the funds left over after all expenses have been paid, rather than revenue. Especially, business entrepreneurs must have a thoroughly critical approach to dividend distributions in order to maximise possible tax benefits. Bloom Financials offers skilled and comprehensive dividend guidance and assists businesses of all sizes in realising the benefits of dividend tax rates and allowances.

When can I take dividends out of my limited company?

You must review the following before paying a dividend:

  • any funds received in advance (unearned revenue)
  • Responsibilities in terms of taxes (such as Corporation Tax, VAT, and PAYE)
  • Any outstanding debts from suppliers or other sources must be paid
  • contract terms of obtained borrowings and investments
  • Terms on sponsorship or rewards  recipients are subject to restrictions
  • Future trade prospects

It’s also worth considering the articles of association to see if the company’s constitution contains any limitations on dividend distribution.

Dividends are a tax-efficient way for a limited company to get money. However, before you give yourselves dividends, there are a few things you should know about dividend tax:

What is Tax on dividends

Dividends could be awarded when a limited company achieves a profit after deducting all allowable expenses, including corporation tax. As per HMRC, dividend tax refers to the rates at which those dividends are taxed. These tax rates may vary from year to year. Dividends are not taxed by the corporation. However, the shareholders to whom you pay the dividend may be required to do so. Dividend tax rates are a crucial determinant of how much tax you pay on your income if you pay yourself in dividends rather than salary as a director.

If you’re unsure about the best approach to pay yourself, you should seek expert guidance from an accountant.

Dividend allowance

Regardless of their tax band, all taxpayers are eligible for the dividend allowance. Furthermore, irrespective of the tax category in which the beneficiary falls, the amount of dividend allowed is the same. If the allowance isn’t used otherwise, it can extract profits from a family business in a tax-efficient manner.

Dividends are eligible for a number of tax benefits. For instance, any dividend income that comes under your personal allowance, the amount of money you can earn every year without paying taxes, is tax-free. Dividends from individual savings accounts (ISA) are also exempt from taxation. Private limited company shares cannot be placed in an ISA because ISA shares must be traded on an authorized exchange.

Individuals also receive a dividend allowance each year in addition to these tax reliefs. A dividend tax credit existed prior to 2016, with the goal of reducing double taxation for persons who received income from dividends. This has been superseded by the dividend allowance, which achieves the same goal but in a different way.

A £2,000 dividend allowance is available for the tax years 2021/22 and 2020/21. This implies you only have to pay tax on dividends that are greater than that amount.

For the 2017/2018 tax year, the dividend tax allowed was $5,000. The tax allowance was decreased to £2,000 as a result of changes that took effect in April 2018.

Personal allowance:

The personal allowance for the tax year 2021/22 is £12,570.

The personal allowance for the 2020/21 tax year is £12,500.

Dividend tax rates and thresholds for the 2020/21 tax year

The current dividend tax rate is determined by combining your tax band with a dividend allowance. Understanding income tax bands is necessary for calculating how much to pay in dividends. Dividends must be included in your income for determining your tax band.

The dividend tax rates in the UK (2020/21) are based on income tax bands and are as follows:

Income Tax BandDividend tax rate Income tax rate   
Basic rate      7.5%   20%
Higher rate    32.5%40%
Additional rate38.1%  45%

You must first know about income tax rates in order to determine which dividend tax rate applies to you.

In general, the rate and amount of income tax you pay are determined by the amount of income you earn in a particular tax year.

The following are the income tax rates for the fiscal year 2020/21:

If you earn less than £12,500, you are entitled to the personal allowance and will not be taxed.

The basic-rate tax bracket is 20% of income between £12,500 and £50,000.

The higher-rate tax bracket 40% applies to income between £50,000 and £150,000.

The additional rate tax level of 45 per cent applies to income exceeding £150,000.

Who pays the corporation tax on dividends?

Dividends are distributed to individuals or other businesses from post-tax profits, and profits are currently taxed at 21 per cent (2021/22) before dividends are paid.

How to pay tax on dividends

The amount of dividend income you get throughout the tax year determines how you will pay dividend tax. You don’t have to inform HMRC if the dividends you received are within the year’s dividend limit.

If you receive more than the limit but less than £10,000 in dividends, notify HMRC by calling the helpdesk, updating your tax code so HMRC can deduct the tax from your salary or retirement benefits, or adding it on information on your self-assessment tax return if you already file one. Fill out a self-assessment tax form if you receive above £10,000 in dividends.

Receiving Dividends can be beneficial for

Dividends can actually be useful because the dividend tax rate is 7.5 per cent up to £50,270 in earnings, whereas a wage attracts 20 per cent Income Tax and a 12 per cent National Insurance payment for most UK citizens. This equates to a 32 per cent tax rate on any earnings above the annual tax and NI exemptions.

However, a dividend is not always recommended or approved, so check with your accountant about the most cost-effective and tax-efficient method of distributing dividends. The most favourable solution will vary depending on your company’s financial situation as well as your own financial situation.

In the beginning, establishing a limited company requires additional paperwork, more rigorous record-keeping and maintaining an annual accounts report. Hiring qualified accountant guarantees that your financial records are correct and well-maintained and that you do not violate the tax office.

You may be in a more critical place if you, as a small firm, choose to be established as a limited liability company considering the following factors:

  • Prospective Tax benefits 
  • Prevention from Liabilities
  • Customer awareness and insight
  • Financial institutions, funders, and prospective customers with specific requirements
  • adaptability in your money matters

Bloom Financials can provide you with comprehensive professional advice on whether or not you should structure your business as a limited company.

Professional advice and assistance

If you don’t use all of the proper documentation when issuing a dividend, HMRC may opt to classify the payments as salary rather than dividends. Our accountants are always available to assist and are experienced in taxation in the United Kingdom, particularly dividend tax. But when it comes to dividends, our breadth of experience can assist you in making the best decision possible. Our tax experts would be happy to review your strategy to ensure you’re getting the most out of the low dividend tax rates. Feel free to contact us and get your current tax structure reviewed today.

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