Profit and cash differ because profit is measured on an accruals basis while your bank balance is not. Unpaid invoices, stock, asset purchases, loan principal repayments, tax and drawings all move cash without moving profit. Reconciling the two, line by line, explains the gap exactly every time.

It is the most common question we get asked, and it is usually asked with an edge to it. The accountant says the business made $135,000. The bank account has less in it than it did a year ago. One of those two things feels like a lie.

Neither is. I am Mina Baselyous, a Certified Practising Accountant (CPA) and Chartered Tax Advisor (CTA) in Melbourne, and this article does the reconciliation in full, on real numbers, so you can do the same with your own and account for every missing dollar.

The Two Numbers Are Measuring Different Things

Profit measures performance over a period. Cash measures liquidity at a point in time. Profit recognises a sale when you issue the invoice, not when you are paid, and recognises an expense when you incur it, not when the money leaves. Your bank balance recognises nothing until the money actually moves.

Once you accept that, the gap stops being suspicious and becomes arithmetic. There are exactly seven things that can cause it, and every one of them is visible on your balance sheet. That is why we always read the two reports together rather than separately, as set out in our guides to reading a balance sheet and reading your profit and loss statement.

The Reconciliation, Line by Line

Here is a Melbourne trade and services company with $2.4 million of sales. It made $135,000 of profit after tax. Its bank balance fell from $85,000 to $42,000, a decrease of $43,000. The gap between the two is $178,000. Every dollar of it is accounted for below.

Nothing is missing. The business earned $135,000 and then, quite deliberately, converted it and more into customer invoices, stock and equipment, while paying down debt and paying its shareholders. The bank balance falling was the consequence of those decisions, not evidence of a problem.

The Seven Reasons, in Detail

Every gap between profit and cash comes from one of seven items. Five of them consume cash without reducing profit. Two of them reduce profit without consuming cash. Learn all seven and you will never be confused by this again.

1. Money Owed to You by Customers

Every unpaid invoice is profit you have recognised and tax you will pay on income you have not received. Here, debtors grew $120,000 in a year. That is the largest single item in the reconciliation and almost always the largest in real businesses too. Fixing it is process, not sales, and it is covered in our guide to debtor management.

2. Stock and Work in Progress

Buying stock does not create a deduction. It converts cash into an asset sitting on the balance sheet, and only becomes a cost when it is sold. This is why buying hard in June to reduce tax does the opposite: it drains cash and gives you no deduction at all.

3. Buying Assets

The full $140,000 left the bank the day the equipment was delivered. Only $60,000 of depreciation hit the profit and loss. The other $80,000 is a timing difference that will be deducted over future years, and in the meantime it is pure cash outflow.

4. Repaying Loan Principal

The business paid the bank $120,000 in the year: $80,000 of principal and $40,000 of interest. Only the interest was deductible. Repaying principal returns borrowed capital, it is not a cost of earning income, so it reduces cash and does nothing at all to your tax bill.

5. Money You Take Out

Dividends from a company, drawings from a sole trader or partnership, and trust distributions are all distributions of profit rather than expenses of earning it. They never reduce the profit figure. They absolutely reduce the bank balance.

6. Depreciation, Which Works in Your Favour

Depreciation is the one large expense on your profit and loss that never leaves your bank account. It reduces profit and tax without costing you anything in the year, which is why it is the first item added back in any reconciliation. Here it is worth $60,000 of cash you kept.

7. Money You Are Holding for Someone Else

Growth in creditors, GST, PAYG withholding, superannuation payable and income tax payable all add to your cash balance without adding to profit, because you are holding money that belongs to somebody else. In this example that is $58,000 of the $43,000 shortfall covered up.

This is the item to watch. In practice, says Mina Baselyous (CPA, CTA, Registered Tax Agent), a business whose cash position only looks acceptable because the GST and superannuation balances keep growing is not managing cash, it is deferring a reckoning. That is exactly the pattern the ATO has been pursuing since 2025, as we covered in our article on ATO debt collection and director penalty notices.

Do This for Your Own Business

You need three documents: this year’s profit and loss, and the balance sheets at the start and end of the year. Then work down the same list. It takes about twenty minutes the first time and five minutes every time after that.

• Start with net profit after tax.
• Add back depreciation and any other non-cash charges.
• Subtract the increase, or add the decrease, in debtors, stock, work in progress and prepayments.
• Add the increase, or subtract the decrease, in creditors, GST and PAYG payable, superannuation payable and income tax payable.
• Subtract what you spent on assets, and add any proceeds from selling them.
• Add new borrowings and subtract loan principal repaid.
• Subtract dividends, drawings and trust distributions actually paid.
• Compare the total to the actual movement in your bank accounts. It should match to the dollar.

If it does not match, stop. You have found a bookkeeping problem, not a business one. The usual culprits are unreconciled bank accounts, drawings coded to expenses, or loan repayments coded entirely to interest. A clean bank reconciliation is the prerequisite for every report above it.

This exercise is the cash flow statement in plain language. If you want the formal version with the three standard sections, we build it from these same numbers in our guide to the cash flow statement.

When the Gap Is a Warning Sign

A gap is normal. A widening gap, year after year, in the same direction, is not. If profit keeps rising while cash keeps falling, the business is converting an increasing share of its earnings into assets that are not producing a return, and eventually the funding runs out.

• Debtors growing faster than sales. A collections problem dressed up as growth.
• Stock growing faster than cost of sales. Cash buried in lines that are not moving.
• ATO balances growing every quarter. The most dangerous of the three, because it accrues interest and personal exposure.
• Profit up, operating cash flow flat. The trading result is not converting into money.

All four are working capital problems, and all four are fixable without a single extra sale. Our guide to working capital shows how to measure the cycle and what each improvement is worth in dollars.

What to Do Next

Run the reconciliation on your last financial year. If the gap is mostly debtors and stock, you have a working capital project. If it is mostly asset purchases and loan principal, you have a funding and timing question. If it is mostly growth in ATO balances, you have an urgent problem.

Then make it routine. Reconciling profit to cash monthly, alongside your budget and the five financial numbers every business owner must know, turns an annual shock into an ordinary conversation. That rhythm is the core of a Virtual CFO engagement.

Frequently Asked Questions

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