Starting a business isn’t easy. You likely have a million thoughts, concerns, and questions swirling around in your head. On top of your management responsibilities, you also need to handle accounting.
Because the field of accounting is so technical and complex, you likely have many accounting questions.
When employees don’t follow mandatory rules, you probably have to step in to enforce them. But if you don’t stay on top of your accounting responsibilities, other entities, like the IRS or creditors, may have to step in.
Nobody expects you to be an accounting expert. But to legally set up your business, avoid penalties, and boost profits, you must understand basic accounting principles.
To get started, take a look at these basic accounting questions and answers, organized by category.
Questions related to business startup
To ease you into the business ownership process, here are some basic business startup questions.
1. How should I structure my small business?
One of the most pivotal decisions you will make when starting your enterprise is choosing your business structure. The entity you choose impacts taxes, liability, your control, and how to pay yourself from your business.
You can structure your business as a sole proprietorship, partnership, limited liability company (LLC), corporation, or S Corp.
Some business structures are more complicated to manage than others. You may have significant filing and reporting requirements, depending on how you structure your company.
Before selecting a business entity, lay out your business goals and consider the pros and cons of each.
2. Should I open a separate business bank account?
Unless your business is a separate legal entity or operates under a “doing business as” name, you don’t have to open a separate business bank account. But, separating your personal and business funds is a wise decision, even if you aren’t required to do so.
Mixing personal and business funds can cause you to file taxes inaccurately, become disorganized, and overspend. You may accidentally use business funds to make personal purchases if you combine funds.
Opening a business bank account is a straightforward process: choose a bank, gather necessary documents, and open the account.
3. What are common business financing options?
Not every aspiring entrepreneur can afford to bootstrap their business. You may need to think about financing options if you want your small business idea to come to life.
If you are interested in borrowing funds, you can apply for a business line of credit, credit card, Small Business Administration loan, or general bank loan. You may need to offer collateral to secure loans.
If you want investors to invest in your business, you likely need to offer them business equity or control in your company. You can seek funding from venture capitalists or angel investors for small business.
Another popular financing option is to crowdfund. Crowdfunding is a financing method where you ask for investments or donations, generally from a large group of people. Keep in mind that you probably need to offer an incentive if you want crowdfunding to be effective.
Asking friends and family for loans or investments is another popular financing option for small businesses. Treat funds from family and friends seriously by creating a contract and payment plan.
4. What accounting terms should I be familiar with?
How much accounting lingo do you know? If you don’t have all the terms memorized, don’t worry about breaking out the flashcards. Instead, familiarize yourself with a few key terms to get started:
- Cost of goods sold (COGS): An expense that represents how much it costs you to produce your offerings. COGS is a crucial factor when determining your business’s profit.
- Inventory: Includes the raw materials in storage, items in the production process, and finished goods available for sale.
- Assets: Your business’s physical (tangible) or non-physical (intangible) property that adds value to your business. You can have current assets which can convert into cash within one year. And, you can have fixed assets that don’t convert quickly into cash.
- Liabilities: Money that your business owes. You can have both short-term liabilities that are due within one year and long-term liabilities that are not due within one year.
- Equity: Your business value after subtracting liabilities from assets.
- Revenue: The amount of money your business brings in from sales.
Questions about setting up and managing your books
To legally run your business, you need to track profitability, maintain records, analyze your accounts, and make decisions. Here are some common accounting questions about setting up books for small business.
5. How should I record transactions?
One of the first decisions you need to make when setting up your books is deciding how you will record transactions.
You can record transactions by hand, hire an accountant, or use accounting software.
Recording transactions by hand is the most inexpensive and time-consuming method. You open up your business to making common accounting errors, such as miscalculating or failing to balance accounts.
Hiring an accountant is the most expensive but least time-consuming method. When you hire an accountant, you don’t need to manage your books. You may hire an in-house accountant or outsource to an accounting company.
Lastly, you can opt for an accounting software provider to manage your books. Using software lets you track incoming and outgoing money and organize your books. With software, you can automate your recordkeeping responsibilities, then hand over your books to an accountant for the more complicated accounting requirements, such as tax preparation.
6. Should I use cash-basis or accrual accounting?
To manage your books, you need to decide on an accounting system. You can use either cash-basis or accrual accounting.
Cash-basis accounting is a simple way to manage your books. With cash-basis accounting, you only record transactions when you physically make or receive a payment.
With accrual accounting, you must record money whenever a transaction takes place, even if you don’t physically give or receive money. You must record two entries for each transaction in a double-entry accounting system. Consider using accrual accounting if you offer credit to customers.
Generally, you can choose the method you want to use, but the government requires some businesses to use accrual accounting.
You must use accrual accounting if you make more than $5 million in annual gross sales or $1 million in gross receipts for inventory sales. You are also required to use accrual accounting if your business structure is a C corporation.
7. How do debits and credits work?
When transactions take place, you increase one account and decrease another account in your books to reflect the transaction. The purpose of “debiting” and “crediting” accounts is to increase one account and decrease the other.
Debits increase asset and expense accounts. And, debits decrease liability, equity, and revenue accounts. Credits do just the opposite.
Credits increase liability, equity, and revenue accounts. And, they decrease asset and expense accounts.
Debits and credits are the basis of double-entry bookkeeping, but they can be difficult to grasp, let alone memorize. Take a look at this chart to help you sort debits and credits.
8. What’s the difference between accounts payable and receivable?
If you use the accrual accounting system, you will deal with accounts payable and receivable.
Accounts payable is the money you owe to vendors, or a liability. Record accounts payable when you purchase something without paying right away.
Accounts receivable is money owed to your business, or an asset. Record accounts receivable in your books when customers purchase something on credit.
With accurate and organized books, along with the proper guidance and knowledge, you can handle your small business’s taxes. Check out these accounting questions and answers related to taxes.
9. How do I file my small business taxes?
You can file your business tax return with your Taxpayer Identification Number (TIN), financial records, and the proper tax return form. The form you file depends on how you structured your business.
Sole proprietors attach Schedule C, Profit or Loss From Business, to Form 1040 to file their small business tax return.
Partnerships must file Form 1065, U.S. Return of Partnership Income. The partnership must also submit a copy of Schedule K-1 (Form 1065) to the IRS and distribute Schedule K-1 to each partner.
Corporations use Form 1120, U.S. Corporation Income Tax Return, to file taxes. S corporations file taxes using Form 1120S, U.S. Income Tax Return for an S Corporation.
The tax forms for LLC depends on how you are taxed. LLCs can be taxed as sole proprietorships, partnerships, or corporations.
10. Can I lower my tax liability?
The IRS lets you claim tax deductions to lower your small business owner tax liability. Popular tax deductions include home office, self-employment tax, car, business loan interest, and bad debt deductions.
11. What can cause the IRS to audit me?
An audit is an examination of your business’s financial records. During an IRS audit, the IRS reviews your records and checks for inconsistencies in your books.
Sometimes, the IRS randomly chooses businesses to audits. Or, the IRS can audit you if your small business tax returns look suspicious.
To decrease the chances of your business getting audited, you need to avoid IRS audit triggers such as running a cash-only business, making errors on IRS forms, missing tax deadlines, and claiming too many business expenses.
Here are some basic accounting questions related to selling your goods or services.
12. Do I need to create invoices?
Invoices are bills that businesses send customers to request payment. You must create invoices if you provide goods or services to a customer without demanding immediate payment.
To create an invoice, include information like the date of the transaction; customer, seller, and product information; the amount due; payment terms; and an invoice number for reference.
13. How do I set product or service prices?
To price your products or services, you need to know your target market and competitor prices. You will also need to price your offerings high enough above your expenses so you can make a profit.
You can also use strategic pricing methods, such as market penetration (initially setting a low price and raising it once you have enough customers), price skimming (setting high initial prices and reducing them over time), or discount (regularly marking down goods or services) pricing.
14. How can I get customers to pay me on time?
If you extend credit to customers, your business success may depend on when customers pay you. To encourage early or on-time payments, set clear payment terms, send reminders, offer an early payment discount, and offer to set up a payment plan.
15. What are my sales tax responsibilities?
You must collect sales tax from customers if your business has a physical presence in a state that enforces the tax. Sales tax is a percentage of the customer’s purchase. Your state, county, or city determines the sales tax rate you must collect.
After collecting sales tax from customers, you must remit it to your state or local government and record it in your books.
Questions to ask about profit
Every business owner has money on their mind. Without money, you can’t continue to operate your entrepreneurial dream. Naturally, you may want to ask some profit-related questions.
16. How do I calculate my business’s profit?
To determine your business’s financial health, you need to know how to calculate profit. Use the following formula to find net profit:
Net Profit = Revenue – Cost of Goods Sold – Expenses
17. What can I do to increase profits?
If you want to increase net profit, you need to decrease expenses and increase revenue. Easier said than done, right?
There are a few ways you can decrease expenses. You can shop around for different vendors to see if you can find better deals on supplies, inventory, and equipment. Or, you could look for expenses that you can reduce or cut out altogether.
Coming up with new ways to increase revenue may also increase profits. You can increase sales by offering discounts, decreasing your prices, participating in nationwide events like Small Business Saturday®, and more effectively market your products.
18. Where do I report profit?
You can report your business’s profit by creating an income statement. Your small business income statement summarizes your business’s profits and losses during an accounting period.
The income statement is divided into three main sections: revenues, expenses, and profit or loss. List revenue, COGS, and expenses on your income statement. Then, calculate your net profit or loss.
An income statement is one of three main financial statements you can create to observe your business’s financial health, obtain outside financing, and make financial decisions. The other two financial statements include the small business balance sheet and cash flow statement.
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This is not intended as legal advice; for more information, please click here.