Determining how to allocate a business’s profits can be a challenging task. Each dollar should be assigned to the right area to ensure financial stability and growth.

I’ve developed the four-bucket method to conceptualize how business owners should prioritize their cash flow. This system emerged from my experiences as a business owner, combined with working with clients and insights from financial experts.

The day-to-day operations of a business are stressful enough. Many business owners need to strategize the best place for their profits. Don’t let your hard-earned profit go to waste. It doesn’t matter how much you make if it’s poorly managed.

My goal in developing this system was to create a simple method of giving each dollar a job providing financial stability, growth, and retirement. Every bucket is designed to be filled at the correct level and prioritized from first to last. Understanding the proper distribution of funds will optimize long-term success.

The No. 1 priority is the living expenses bucket. Everyone has this bucket; it’s the price of living—an obvious priority. You need enough money to live. When this bucket is filled, you can worry less about personal costs and focus more on the business. But don’t overpay yourself. If you do, it can lead to lifestyle creep and hurt the growth of your business.

The next priority is the emergency fund bucket. Emergencies happen in business as well as personal life. But as a business owner, you are responsible for two areas where unexpected events can arise. It is prudent to have emergency funds for both.

An emergency fund’s general rule of thumb is to save enough to cover expenses for three to six months. This can be greater or less depending on the type of business. By adapting this concept to the business setting, the system promotes financial preparedness for life’s unknowns and resilience. When—not if—those unexpected events happen, you won’t panic, because you are prepared.

Make sure to utilize high-yield savings accounts to maximize the growth of your emergency funds. A common mistake among business owners is letting this money sit idly in cash for years. Instead, fill the following two buckets.

Business growth is the third bucket to fill. Prioritizing business growth is crucial for every business owner. This bucket should precede retirement savings since it represents the fuel that drives business forward. Allocate funds to support business expansion and create massive wealth.

The danger of overfilling this bucket, however, results in inefficient return on investment and poor work-life balance. By assigning resources to support business expansion, it recognizes the importance of balancing present needs with long-term success.

Lastly, invest in the retirement fund bucket. It highlights the need for business owners to diversify their investments and plan for retirement independently of their businesses, mitigating the risks associated with relying solely on business proceeds. 

While it’s natural to have a significant portion of net worth tied up in a business, diversifying investments reduces risk.

Solely relying on the proceeds from a business sale to fund retirement can be risky because you put all your eggs in one basket. Very few business owners fund their retirement solely from a buyout.

This means most owners must take cash strategically out of business through a retirement plan. A retirement plan also provides massive tax benefits. Strike a balance between investing in your business and saving for retirement.

Effectively managing your business’s cash flow requires strategic decision-making. This system looks different from person to person but provides a great starting point for business owners to make sure every dollar has a job.

Ignoring one of these buckets or overfilling another can put your retirement at risk or add years to how long you must work. If a risk is avoidable, it’s our responsibility to manage it and be good stewards of what we’ve been given.

You can ensure financial stability and long-term success by following this four-bucket method. Every situation is different. Consult a financial adviser or accountant to determine if these buckets or a retirement plan is the right solution.