When your cash crunch is looking particularly severe and you can’t pay all of your creditors, decide which ones to pay first.
Sit down and strategize who you are going to pay first. Don’t just react to phone calls from creditors and try to do it day by day. If you do, you will make critical wrong choices and you will also wear yourself down further.
Although every situation will be different, the following provides a good base strategy for prioritizing payment importance.
Payroll and Sales Taxes
Unlike income taxes, you collect your employees’ shares of payroll taxes and sales taxes as an agent for the appropriate taxing authority. You are merely holding this money in trust until you turn it over to the government. If you can’t pay these taxes, it is not the same as not paying an ordinary bill. It is the same as having used the government’s money for your own purposes, and the government will enforce severe penalties for failure to make payment.
Even if your corporation goes bankrupt, the IRS may still seek payment from former officers or key shareholders. Similarly, make paying worker’s compensation insurance a super high priority—even before paying income taxes.
Income and Other Taxes
Although it is usually possible to do some negotiating with the tax authorities regarding income taxes, particularly in arranging installment or delayed payments, the penalties and interest can be stiff. Also, once the IRS or other tax authority is determined to collect money from you, it will be much quicker than any other creditor to place liens against your bank account or completely freeze your assets.
Nonetheless, until the tax authorities have seized or secured some of your assets, they are technically just a general creditor for the purposes of income taxes. Paying income taxes should be a very high priority, but it is still a step below the priority of paying payroll and sales taxes.
If you are approaching a cutoff date for utility payments, remember that few utility companies will allow business customers to continue service use without paying bills in full. If you need electricity, water, heat, Internet service, phones, and so on, you’d better not fall too far behind in your payments.
If you miss even one payroll, your best people, if not everyone, will begin looking elsewhere for employment. Suppliers may soon forget, or at least forgive, a late payment, but your employees never will.
Technically, if a company goes bankrupt, you will generally not be responsible for its debts, including payroll debt. But most companies in this situation find some way to pay their employees in full for work already completed. You should, too!
Pay your key suppliers enough money to continue delivery of those goods, materials, and/or services that are absolutely essential to the operation of your business.
If you think your business may go under and you have personally borrowed money or personally guaranteed business loans to finance your company, consider paying these types of debtors before paying your key suppliers. No matter what happens to your company, including bankruptcy, funds borrowed from friends or relatives, funds used from home equity loans, any personal loans garnered for business use, and/or any business loans with personal guarantees will still be due and payable in full by you.
Prioritizing payments and deciding who doesn’t get paid now is hard. But not strategizing and planning this out is worse. So do it right. And more important, if you are getting into trouble, do it right now!