Thursday, 23 June 2011 09:10

Is debt reduction a genuine option?

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CASHFLOW IS the key to survival of any business.

Even the most profitable business on paper can be susceptible to bankruptcy if there is no cash flow.

Environmental and economic conditions over the past few years have put farmers in a very peculiar position this year, with many catching up on financial reserves which have been recently depleted. Most farmers have experienced some form of financial stress in recent times and are only now beginning to see some light of day.

The grass is becoming greener with the future showing good prospects; however the banks too are hoping to see some of the accumulated debt repaid to realign their risk profiles.

However, even for those who don't have high debt, now might not be the best time to erode cashflow by reducing debt. This year is really more likely to be the consolidation year to get back on track and build up the cash reserves - a "buffer", if you like.

In order to reduce debt, there needs to be cashflow available. This cashflow might be needed for a myriad of things, such as tax payments and pre-June 30 tax planning. In order to generate this cashflow, we must generate profits to fund it.

This year it looks likely that farmers will have higher profits overall and with that comes tax.

The concern is that if cashflow is used to make debt reductions, after all outstanding creditors are paid off (previous year expenses in most cases), there might not be the funds available to allow for pre-June 30 planning strategies like pre-payments, farm management deposits (FMDs), superannuation and other legitimate tax planning strategies.

Having the funds to pay the tax could also be an issue.

The important thing to consider in all of the above, before paying off some debt, is to review your budgets and cashflow. Also talk to your farm consultant or accountant and determine if paying off debt will have a detrimental effect on your farm's cashflow.

It might be best in some circumstances to hold off paying down debt to ensure you aren't left short at a time when you can make your cashflow work for you.

Tim Kemp is a Certified Practising Accountant with Morrison, Jefferis & Associates, Leongatha, Victoria.

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