Key Takeaways
- Bookkeeping includes functions like transaction recording, account management, payroll processing, reporting, and more
- There are 5 account categoriess for sorting transactions: assets, liabilities, equity, revenue & income, and expenses
- There are different approches your can take to bookkeeping: cash-based vs. accrual-bases and single-entry vs. double-entry
- The three financial statements most commonly used in bookkeeping includes an income statement, balance sheet, and chart of accounts
- Doing your own bookkeeping includes 4 main functions: sorting transations, recording journal entries, posting to a ledger account, and adjusting entries as needed
Why Is Bookkeeping Important?
Bookkeeping is the process of recording, organizing, and tracking your business’s finances. This is the foundation of your small business’s growth and prosperity.
Having an acute awareness of the cash that’s flowing in and out of your business and what services and expenditures are driving that flow helps you not only maintain good financial standing, but also helps you take advantage of growth opportunities and proactively combat financial struggle.
Bookkeeping helps you stay financially organized, but it also aids in staying tax compliant. The IRS requires you to keep records of information pertaining to your small business’s receipts, purchases, expenses, assets, travel, employment, and more.
Additionally, when you apply for small business funding, you’ll need to submit relevant financial documentation. Having an awareness of your small business’s cash flow can also help you to determine the loan size you could qualify to receive and gauge the amount of debt you’re willing to take on.
What Is Bookkeeping?
Financial Transaction Recording
- Sales and Revenue Tracking: Recording income from products or services
- Expense Tracking: Logging purchases, bills, and operational costs
- Cash Flow Monitoring: Keeping tabs on money coming in and going out
- Accounts Receivable: Tracking customer invoices and payments
- Accounts Payable: Managing bills and payments to vendors or suppliers
- Bank Reconciliation: Matching internal records with bank statements to ensure accuracy
- Calculating employee wages
- Withholding taxes and benefits
- Issuing payments and maintaining payroll records
- Profit and Loss Statement (P&L): Showing income vs. expenses over time
- Balance Sheet: Displaying assets, liabilities, and equity
- Cash Flow Statement: Highlighting how cash moves through the business
- Organizing records for tax filing
- Tracking deductible expenses
- Ensuring compliance with federal, state, and local tax laws
- Creating financial plans based on historical data
- Projecting future income and expenses
- Supporting strategic decision-making
- Tracking inventory purchases and usage
- Recording asset depreciation
Types of Accounts
1. Assets: These are things your business owns.
- Cash
- Inventory
- Equipment
- Accounts receivable (money customers owe you)
- Loans
- Credit card balances
- Unpaid bills
- Owner’s investment
- Retained earnings (profits you keep in the business)
- Sales
- Service fees
- Interest income
- Rent
- Supplies
- Salaries
- Utilities
Bookkeeping Methods
There are different approaches to bookkeeping you can take based on your small business’s finances and what works best for you. These methods will help you determine when you should record transactions and how you should record them.
Cash-Based vs. Accrual-Based
Cash-based accounting method records transactions once the money has been exchanged. An invoice is added to the books once it’s been paid, and bills are recorded once you’ve sent the money. This provides you with a precise picture of the cash in your possession at any given time.
Accrual-based accounting records invoices and bills once they are created rather than waiting for them to be fully paid. This method allows you to plan ahead, knowing what cash will be flowing in and out of your business.
You can also modify the accrual-based method by recording expenses when incurred but only recording invoices once cash has been received. This is a good way to safeguard your finances against potential miscalculations in the event that a customer or client does not pay their invoice.
Single-Entry vs. Double-Entry
Single-entry is a simple method where each transaction is recorded only once, either as income or expense. This method tracks cash flow but does not keep track of assets or liabilities. This is most suitable for very small businesses and sole proprietorships.
Example: You sell $500 worth of lemonade, so you record an additional $500 cash.
In double-entry bookkeeping, every transaction is recorded based on how it affects at least two of the 5 main accounts listed above. This method tracks income and expenses while also providing insight into the business’s assets, liabilities, and equity. This provides a more holistic view of your business’s financials while also helping detect errors to keep your records accurate.
Example: You buy $500 worth of lemons for lemonade. Your cash account has lost $500, and your business’s assets have increased by $500 in value.
Then, you sell $500 worth of lemonade. Your cash increased by $500 and your business’s revenue increased by $500.
Bookkeeping Statements
These are the most commonly used financial statements in small business bookkeeping.
Income Statement
An Income Statement, also known as a “Profit and Loss Statement” provides a “bird’s-eye view” of your small business’s revenue and expenses over a set period of time.
This statement is often used to compare a business’s profitability between two set periods of time.
This statement totals revenue, cost of goods sold, and any operating expenses in order to get a net total profit or loss.
Balance Sheet
A balance sheet showcases your business’s equity by totaling all assets owned and subtracting money owed on any liabilities.
This provides a good snapshot of your business’s overall financial health, helping you identify how much value you’re totaling by factoring in all that’s owned and owed at any given point in time.
Chart of Accounts
A chart of accounts shows all accounts belonging to a business in the business’s general ledger.
The chart typically shows account name, account number, account type, and balance.
How To Do Your Own Bookkeeping
Sorting Transactions Across Accounts
Each transaction of money flowing in and out of your business should be sorted into an account (i.e., cash from a sale being sorted into “revenue”); a new small business loan being sorted into both “assets” and “liabilities”).
Record Journal Entries
Balance your debit and credit. Record transactions accordingly, ensuring your debit and credit balances are balanced.
Post Entries to Ledger Account
Once entries have been properly recorded and sorted, ensure they’re added to the general ledger for a holistic view of your business’s finances. This can be done manually, otherwise most accounting/bookkeeping software will do this step automatically.
Adjust Entries
After a determined period of time (whether you decide monthly, bi-monthly, etc.), go through all entries and adjust based on reality. If you estimated invoices or expenses at one value when they ended up being different, make those adjustments in the backlog.
How Can Bookkeeping Help Me Get Small Business Funding?
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