Where Did the Money Go? Understanding Profit vs. Cash

One of the most common questions we hear from small business owners is: "If my business is profitable, why don't I see that money in my bank account?" It's a valid questions, and the answer lies in understanding the difference between profit and cash. Let's break it down.

Profit Isn't the Same as Cash

When you hear the word "profit," you might assume it means the money your business actually has on hand. But in accounting terms, profit refers to the amount left over after you deduct qualified expenses from your business's income. It doesn't necessarily reflect how much cash is sitting in your bank account.

For example, your business might show $50,000 in profit for the year, but your actual cash balance might be significantly lower. Here's why:

• Owner draws: If you've taken money out of the business for personal use, that reduces your cash but doesn't show up as an expense on your Profit & Loss (P&L) statement.

• Loan principal payments: These payments reduce cash, but only the interest portion is recorded as an expense.

• Asset purchases: Equipment, furniture, or vehicles are considered capital assets. These cost shows up on your balance sheet, not your P&L.

• Customer invoices: You may have invoiced clients but haven't been paid yet. That income is recognized, but the cash hasn't arrived.

Cash Flow: A Different Story

If you're really trying to figure out where your money is going, profit isn't the number to look at. Which means you won't necessarily find your answers on a P&L statement or balance sheet.

Cash flow measures how much money is actually moving in and out of your business bank accounts. It reflects:

• Incoming payments from clients or customers

• Outgoing payments like payroll, rent, supplies, and debt

Even if your profit looks great on paper, you can still experience cash shortages if your receivables are slow, or you're spending heavily on inventory, equipment, or loan payments.

Why This Matters

Understanding the difference between profit and cash helps you:

• Avoid surprises when tax season rolls around

• Make smarter decisions about spending, saving, or reinvesting

• Prepare for dry spells or unexpected expenses

It also helps you communicate more clearly with your bookkeeper, accountant, or financial partner. When everyone's on the same page, you can make informed choices that move your business forward.

How We Can Help

At Basswood, we specialize in helping small business owners get clarity on their finances. With up-to-date bookkeeping, clean financial reports, and expert advisory, you'll always know where your money's going--and how to keep more of it.

If you're looking for a financial partner to help you get your finances under control, connect with us today.

Be sure to check out What Counts as a Business Expense? where we dive into what you can (and can't) write off for your business.