Bookkeeping may sound boring and tedious, but it is essential to your business survival because it is the foundation of your finances.
Although most business owners tend to delegate or outsource bookkeeping work, it is highly beneficial for you to understand the basics of bookkeeping. Furthermore, some business owners prefer to do their own bookkeeping if their business is small, such as a one-person freelancing service.
What’s the difference between bookkeeping and accounting?
If you think of a car engine, it is designed by an engineer to achieve goals such as minimum fuel usage and quicker acceleration. Then, the engine is built and maintained by technicians and other engineers.
Bookkeeping is the process of building and maintaining the financial engine of a business, while accounting is the process of designing and improving the financial engine to work optimally and achieve its goals.
In bookkeeping, you will record all financial transactions of a business, ensure they are accurate, and generate reports such as cash flow and profit and loss statements. In accounting, you will devise financial strategies, such as tax, funding, payroll, growing, selling and buying a business strategies, based on your goals, reports and books.
1. Chart of Accounts A business has a set of accounts to track its finances. Below are a few examples of common accounts you may have:
· Accounts Receivable: money you receive · Accounts Payable: money you pay others · Payroll/Wage Expense: money to pay staff members · Sales Account: what you get from selling your products and services · Purchases Account: for things needed to run your business
2. Cash or Accrual Accounting You must decide whether you will be using the cash or accrual method of accounting. Cash accounting means you need to record the transaction when actual money changes hands, is received or transferred.
Accrual accounting is recording the transaction when it happens, instead of when actual money changes
hands, is received or transferred, which could happen at a later date.
3. Double and single-entry bookkeeping
Most businesses use the double-entry method. It works on the principle that every transaction is a transfer of money from one account to another. For example, if you paid $20 for stationery, your “Cash” account will be credited by $20, and your “Supplies” account will be debited by $20.
The total amount of credit must equal the total amount of debit for both accounts to be balanced. Overall, your chart of accounts must follow this rule:
Assets = Liabilities + Equities
However, smaller businesses may use the single-entry bookkeeping method because they do not have a large chart of accounts, or they mostly deal with cash.
4. Keeping evidence
Each transaction will be associated with an evidence, such as an invoice, bill, receipt or electronic transaction. These financial records are important for you to prepare your tax return and trace any errors or fraud when they arise. A business is also required by the Australian Tax Office (ATO) to keep evidence of their financial transactions for up to 5 years prior.
What do you need to set up your bookkeeping?
1. Software Most businesses use accounting software because of the convenience, accuracy and time-saving benefits they get. You can opt to use pen and paper instead, but your workload will increase, and the accuracy of your bookkeeping may decrease.
2. Storage for your financial records You can keep all your paper records in a filing cabinet or scan them to be stored online. The choice is yours. Many accounting software offer a cloud storage system which can link to your accounts.
3. Bookkeeper You can choose to hire someone, outsource or do the bookkeeping yourself.
4. Standard operating procedures and rules It is important to establish proper processes and rules to maintain your books. You should schedule regular reviews and audits to ensure everything checks out.