Bookkeeping Best Practices: 4 Tips for New Small Business Owners
The early years of a startup are the hardest. As you are getting your business off the ground, you likely are wearing multiple hats as you navigate the many new and unexpected challenges of business ownership.
If there is one aspect of managing your business you need to get correct from the start, it’s handling your business’s finances. Bookkeeping and accounting skills are not something that every business owner starts out with, but they are skills that all business owners who survive the dreaded five-year bottleneck need to develop at least a cursory understanding of.
This post will give you a basic understanding of financial management to help you avoid the many snags that can trap unprepared business owners.
Understanding the difference between accounting and bookkeeping
It’s a common misconception that accounting and bookkeeping are synonymous. They are similar in that both roles manage financial data and track transactions. However, there is a clear distinction between the two: bookkeeping focuses on the day-to-day management of financial data, and accountants are responsible for helping businesses navigate the tax code and make long-term financial plans.
What do accountants do?
Primarily, accountants handle long-term financial matters, like filing a business’s taxes, helping a business acquire loans, and devising long-term business plans. Accountants will often work hand in hand with your bookkeeper because they need access to your business’s financial records to help you navigate the tax code and track profits and losses.
Accountants will help your business in the following ways:
- Help a business file their taxes and avoid penalties from the IRS
- Run audits to make sure a business is financially compliant
- Advise business owners on long-term financial matters and business structure
- Analyze data compiled by bookkeepers to make data-driven financial decisions
What do bookkeepers do?
The central role of a bookkeeper is to track and record all financial transactions. This means that a bookkeeper needs an in-depth understanding of your business’s structure and operations to do their job successfully. As a result, your bookkeeper will most likely be very involved in many routine business operations; some bookkeepers will also handle payroll.
Some specific tasks bookkeepers will handle include:
- Managing financial data like financial transactions and bank statements
- Handling communications between a business and its banking services
- Preparing regular financial data and statements
- Providing day-to-day, industry-specific financial counsel
- Handling payroll
Bookkeepers, as well as accountants, can be on staff full-time, part-time, or hired freelance as independent contractors. Also, there are many online platforms that offer bookkeeping and accounting services that business owners can outsource.
The aid of a bookkeeper is invaluable, but if you can’t afford to hire one or aren’t in a position to use bookkeeping or accounting software, there are ways you can assume some of the responsibilities of the role.
Bookkeeping best practices for entrepreneurs (beyond keeping immaculate records)
1. Keep your personal account separate from your business account
The line between personal and business funds is often blurry in the early years. Sure, you may have a business bank account, but how are you paying for gas when driving to meet a client? Are you buying lunch? What credit card are you using to restock the ink in your printer?
It’s essential to keep your personal accounts separate from your business account, even early on. Creating a distinct legal entity like an LLC or an S corporation is a great start, but you need to follow through on the distinction by keeping your business’s financial activities separate from your own.
If you use your own personal account to make certain purchases—even mundane purchases like light bulbs for your office—you’ll be less likely to write them off as business expenses come tax season. The cost of small purchases will add up over a year, and every cent counts, especially early on when margins are thin.
2. Get a handle on your accounts payable and accounts receivable
First, let’s go over what accounts payable and accounts receivable are:
- Accounts payable (AP). This is the money a business owes to its creditors and suppliers. AP does not include other costs like payroll or mortgage costs, but does include debts owed to investors.
- Accounts receivable (AR): Accounts receivable refers to the money your business is owed in exchange for your products or services. This is arguably the more crucial of the two for you to scrutinize, as the money you receive will ultimately determine what you can pay.
The health of your business relies on maintaining a healthy balance between your accounts payable and accounts receivable. This balance is not only a helpful gauge of your company’s overall financial health, but AP and AR are used as a metric by lenders and investors when determining your business’s worth as an investment and its credibility for loans.
Businesses should have systems in place to ensure invoices are paid promptly. As a general rule, no more than 10 to 15% of your invoices should be unpaid.
You need to be on top of the follow-ups and the outreach to keep track of outstanding payments. Consider incorporating late payment fees or penalties into your business contracts as an additional incentive to get paid on time.More articles from AllBusiness.com:
- Small Business Finances: Costs to Consider When Hiring a Bookkeeper
- How to Choose and Set Up a Bookkeeping Software System for Your Small Business
- Guide to Bookkeeping and Accounting
- Why Every Small Business Needs an Accountant
- 5 Simple Ways to Improve Your E-Commerce Accounting Practices
3. Generate profit and loss statements regularly
Profit and loss (P&L) statements aren’t required by law for small businesses, so many small business owners forgo them. Even though they aren’t needed, P&L statements are valuable tools to help you assess the health of your business and forecast future earnings and losses.
Though a single P&L statement is useful, the true benefit lies in the overall perspective many statements provide over time. When performed quarterly, like they are required for large businesses, you will gain valuable insight into what is working and what isn’t working in your company.
4. Calculate the total cost of labor before hiring
If you need to expand your staff (beyond just you or a handful of others) because business prospects are looking good, you need to understand exactly what that employee will cost your business before bringing them on.
One of the worst things you can do as a business owner is to hire a new employee with lofty promises and be forced to reduce their pay or cut their hours because you didn’t account for their monthly taxes or the cost of their benefits.
Bookkeeping best practices are good business practices
Many of the tasks a bookkeeper performs are generally good business practices to incorporate into your business model, whether you hire a bookkeeper or not. By including these practices in your overall business strategy, you will be setting up your small business for financial growth and profitability.