As your new business starts to make transactions, you must keep records. Your financial books are a place for you to review your business’s income and expenses. By keeping your books organized, you can take control of your finances and make smart decisions. You need to know how to set up accounting books for small business.
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How to set up accounting books for small business
Recording business transactions doesn’t have to be a difficult task. The more you prepare your accounting systems, the easier recordkeeping will be. Here are five steps you can take to set up accounting books for small business.
#1. Choose an accounting method
When setting up an accounting system for a new company, you need to choose a method for recording transactions. There are two main accounting methods: cash vs. accrual basis. Each method uses a different system for recording income and expenses.
The cash-basis method is the simplest way to keep records. With cash-basis accounting, you record income when you receive money from a customer. For example, you would record revenue when a customer hands you cash for a product.
Record expenses when you pay them with cash-basis accounting. For example, record an expense when you send a vendor a check to pay for supplies.
If you choose not to use the cash-basis method, you can use accrual accounting. The accrual method is more difficult than cash-basis. You must use a double-entry accounting system and record two entries for every transaction.
With the accrual method, you record income when you make a sale. For example, record income when you invoice a customer.
Record expenses when you incur them with accrual accounting. For example, record an expense when you receive an invoice from a vendor.
There are advantages and disadvantages to each accounting method. Some businesses benefit from using the cash-basis method while others benefit from using accrual. Research both methods before choosing which one you will use for your new business.
#2. Decide how you will record transactions
Once you choose an accounting method, figure out how you will record transactions. As a small business owner, you have several options for completing accounting tasks. You can record transactions by hand, hire an accountant, or use accounting software.
Record by hand
Recording transactions by hand is the cheapest accounting solution. But, it takes a large chunk of time out of your workweek. You will spend a lot of hours recording transactions and making calculations. Doing your accounting by hand makes your books more prone to errors than other methods.
Hire an accountant
If you hire an accountant, you will not need to worry about managing your books. The accountant will compile financial statements and calculate totals for you. You can hire an in-house bookkeeper or outsource your recordkeeping tasks. Keep in mind that hiring an accountant is often very expensive for a small business.
Use accounting software
As the owner of a new business, you might want to use accounting software for recordkeeping. You can record transactions without the need to hire an in-house bookkeeper. The software automates your accounting process, giving you streamlined books and accurate calculations.
#3. Set up a chart of accounts
A chart of accounts is an essential tool for accounting. A chart of accounts is a tool that gives a list of every transaction your business makes. Use the chart of accounts to compile statements, review progress, and locate transactions. Be sure to update the chart of accounts often so that all business transactions are included.
Once you know how to set up a chart of accounts, you can use it to list all your business’s transactions.
To create a chart of accounts, organize transactions by dividing them into categories. Separate transactions into five large accounts: assets, liabilities, equity, revenue, and expenses.
For each account, assign a group of numbers. Number each transaction according to the account it falls under. For example, assets might be numbered as 100-199. When you record an asset transaction, assign the entry a number between 100 and 199.
#4. Open business bank accounts
When you start making transactions, open bank accounts specifically for your business. That way, you keep your business’s finances separate from personal money.
Using a separate bank account for business helps you file income taxes. You can deduct business expenses on your tax return. But, you cannot deduct personal expenses. A business bank account organizes business expenses and helps you report them to the government.
A business bank account also helps you check your books for accuracy. Each month, reconcile your bank statement with your books. Check that the end balances of the statement and your books match.
Sometimes, a transaction appears on one record, but not on the other. You might need to adjust the bank statement or your books. For example, the bank statement might show fees that you have not yet recorded in your books. You need to add the fees to your books to reconcile the records.
#5. Determine your payment terms
Depending on your business, you might offer credit instead of collecting payments at the point of sale. When you offer credit, you invoice customers to pay you at a later date. If you offer credit, you need to set up a system for sending and recording invoices. Use the same method each time you invoice a customer.
Don’t overlook the importance of effective invoice payment terms. The invoice terms you give customers affect how quickly your business gets paid. If it takes too long to collect payments, your cash flow could get into serious trouble.
Include payment terms on each invoice you send. Make sure the terms include all the information customers need to pay you, such as your contact information, the items purchased, and the due date. Usually, 30 days is a sufficient amount of time for customers to pay you.
Track the invoices you send to customers. Review unpaid invoices often to make sure you are getting paid on time. When you receive payments, note them as revenue in your accounting books.
Knowing how to set up accounting books for small business will make your life significantly easier in the long run. With careful planning, you can develop a system that works for you, instead of against you.
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