Hi, my general approach to this is as follows

1) Consider your businesses approach to risk and reward/opportunity. If you bulk up your balance sheet with reserves for a rainy day, that cash is sitting there unproductive, unable to be invested in growth, and unable to be distributed to owners. On the other hand, if you operate with no cash buffer often maxing out overdraft facilities then the business is operating at a very high risk level and will likely fail in the event of even a small change in trading conditions. All businesses have a unique set of risks and opportunities, even something as simple as a 1 page SWOT analysis helps as a precursor to considering your risk appetite as an owner.

2) Apply some basic sensitivity analysis on your balance sheet. Broadly what I mean by that is, export your P&L and balance sheet into a spreadsheet and start applying some scenarios to them, create formulas that link P&L to balance sheet (using your businesses unique balance sheet metrics and working capital cycle, days payable/receivable, inventory turn etc). Use your risk/reward approach above to understand what type of storm you need to be able to weather, 20% revenue reduction for a year, x number of weeks with no revenue, etc etc. You might need to work with an accountant/advisor with spreadsheeting skills to help build up a template for you with links/formulas. The P&L links to the balance sheet through increasing the accumulated profits number, and that in turn changes the payables/receivables/stock numbers and most importantly, cash. So you can see what the cash effect for your business is of a change in revenue or costs – based on your balance sheet metrics.

Addressing the tax question separately, it’s important to accrue estimated income tax in monthly accounts, a rough estimate is better than nothing. This is something I know a lot of small businesses don’t do, but when you take the discipline of booking it in every month, you can see that estimated liability on your balance sheet at any point in time, and feed it into cashflow planning. Paying income tax is a good sign, generally speaking it means you’re making a profit! But anything that isn’t planned for, any adverse surprises (which income tax can be if not well planned) can be problematic. New Zealand has a great system for tax financing too if you find yourself behind on income tax payments, I won’t name any providers, but google “tax pooling” for more info.