For new entrepreneurs especially it can be overwhelming to wear so many hats so much of the time. Some things are bound to fall to the wayside, and one of the most commonly overlooked responsibilities is bookkeeping. This article addresses the basics of bookkeeping for small business.
Very small businesses and solopreneurs tend to handle bookkeeping internally, not making enough to justify having an accountant on call. Established small businesses may have an accountant who handles their books, but that doesn’t mean there aren’t ongoing responsibilities to organize and track revenue and pending. Let’s take a closer look at some of the best practices you should follow to make bookkeeping a simpler, less overwhelming task every month.
Bookkeeping is a specific component of accounting focused on collecting, organizing, and maintaining financial documents for your company. When your accountant asks for your receipts and invoices every January, a bookkeeper (or you) should have been organizing those documents throughout the year to handoff.
The list includes invoices, receipts, tax forms, payroll, bills and statements, bank records, and credit card bills. If you go on a business trip, your receipts for travel, lodging, and food should be documented, stored, and easily accessible for when your tax return is prepared.
For many small businesses, this process carries over into several other areas, including maintaining a regular balance sheet, income statement and cash flow statement are how you’ll know the value of your company based on your current assets, debts, and liabilities, and equity (if applicable).
There are two primary methods of bookkeeping for small business. Which you use will largely depend on the type of business you operate. They include:
- Single-Entry Bookkeeping – This means simply that when a transaction occurs, you record it once in your ledger. So if you sell something for $50, you note a $50 sale and you’re done.
- Double-Entry Bookkeeping – This method is most commonly used by companies that maintain a physical inventory of goods. You’d first enter the $50 sale but then deduct the value of the item sold from your inventory.
Which is best for you? Again, it depends both on the type of business you operate and how complex your books are. Double-entry is the most effective way to keep your books balanced when there are multiple factors to consider after a sale. And while it sounds complicated, software can make it much easier.
Another major question for your accounting system is whether it will use a cash or accrual basis:
- Cash Accounting – Cash accounting records a transaction on the date that money changes hands. Even if you invoiced for a service or good in March, if the payment isn’t made until April or May, that’s when you would record the transaction.
- Accrual Accounting – Accrual on the other hand records transactions when they are initiated. So when the invoice is delivered, you would record the transaction.
Cash is undeniably a simpler way to manage your finances – you record the money when it changes hands. So, why would you choose accrual over cash? In some cases, it is required, especially if you are incorporated and operate in certain jurisdictions. Additionally, while it can be confusing because your books will rarely match your accounts, it can give a better overall picture of your company’s financial health. Outstanding expenses will already be accounted for, while outstanding invoices will show your future cashflow.
Accounting Terms You Need to Know
It helps to be fluent in the language of bookkeeping and accounting, so that you can converse about your finances with on partners, investors, accountants, and so on. Here are some terms you need to know.
- Accounts Receivable – This is money, usually from customers, that is due to you but has not been paid yet. When you invoice a client, the money from that invoice goes into your accounts receivable. When you receive the payment, the money moves from accounts receivable to the appropriate income account.
- Accounts Payable – This is money you owe to vendors, or other expenses, that you haven’t yet paid. When you receive a bill, the amount you owe should be recorded in your accounts payable. When you pay the bill, it moves from accounts payable to the appropriate expense account.
- Chart of Accounts – this is a list of all the accounts for your business. It’s more than just checking and credit card accounts, though. You can really think of it as both accounts and categories. You will have categories related to income, deductions, payroll, taxes, and more – in addition to actual bank accounts.
- Payroll – the process of paying yourself and/or your employees. It generally includes the money you pay each person as well as payroll taxes such as FICA, unemployment taxes, and similar.
- FICA – this stands for “Federal Insurance Contributions Act” and it refers to the money deducted from employee paychecks for Medicare and Social Security.
- Reconciliation – a fancier word for balancing your checkbook. Actually, it refers to the process of making sure your books match your reality.
- P&L – Short for Profit & Loss, this is a common report showing the health of your business in terms of money coming in as income and going out as expenses.
Outside of choosing your bookkeeping method, there are several things you can do to ensure you stay on top of your finances. They include:
- Set aside time for bookkeeping – This should be a dedicated activity, the same as sales, meetings, or production. Allot a set number of hours every week to keep paperwork up to date, and try not to put it off. It can be incredibly difficult to catch up on a year’s worth of bookkeeping if you’ve procrastinated on it until tax time.
- Keep your business and personal expenses separate – This sounds simple, but 23% of small business owners admit to mixing personal and business expenses. Not only is this difficult to account for in your books, but it can create large headaches at tax time, and as your company grows can be an even bigger problem.
- Track all of your business expenses – Even the small ones. If you struggle to organize receipts, download an app like Expensify or Receiptmate to capture your receipts with your phone’s camera as soon as you get it.
- Use accounting software – If you opt to do your own books, leverage software to help with the heavy lifting. Automated bookkeeping tools can streamline the process significantly. Some great examples are Quickbooks and Freshbooks.
- Manage overdue invoices – If you opt for an accrual accounting method, stay on top of your invoices to avoid overpaying your taxes or being short on cash when you need it most.
- Manage your inventory carefully – Be meticulous in managing your inventory. Not only does this help prevent theft (a common issue with disorganized stock), but it can help you stay on top of the value of current assets on hand.
- Be prepared for big expenses – Have money on hand for big expenses like new machinery, computers, broken equipment or other issues. Nothing can hurt a company more than a major unexpected expense.
- Pay attention – if you outsource your bookkeeping, so that someone else is doing the data entry, make sure you’re paying attention to your cash flow, assets, inventory, and anything else that affects your decision making process.
Finally, if you are just getting started or are overwhelmed by everything you need to keep in mind when managing inventory, don’t hesitate to hire an accountant. Even if just for a little while to help you get things organized and put processes in place, this can be hugely beneficial for your company.
We hope this overview of bookkeeping for small business has been helpful. If you have questions or would like to see more information on a specific topic, please comment below.