Small business accounting involves the process of tracking, recording and analyzing the financial transactions of your business. It translates numbers into a comprehensible statement about the profitability of your business.
Accounting may be a more tedious aspect of running a business, but it is also necessary to avoid cash flow problems and piles of paperwork.
Accounting for small businesses is done by keeping a complete record of all the income and expenses and accurately extracting financial information from business transactions.
This is a necessary chore that helps small business owners track and manage their money effectively – especially during the early stages. Besides keeping you cognizant about your business’ past and present performance, small business accounting also helps in generating invoices and completing payroll.
After you’ve legally registered your business, you’ll need somewhere to stash your business income. Having a separate bank account keeps records distinct and will make life easier come tax time. It also protects your assets in the unfortunate case of bankruptcy, lawsuits, or audits. And if you want funding down the line, from creditors and investors alike, strong business financial records can increase the likelihood of approvals.
Start by opening up a business checking account, followed by any savings accounts that will help you organize funds and plan for taxes. For instance, set up a savings account and squirrel away a percentage of each payment as your self-employed tax withholding. A good rule of thumb is to put 25% of your income aside, though more conservative estimates for high earners might be closer to one third.
Next, you’ll want to consider a business credit card to start building credit. Credit is important for securing funding in the future. Corporations are required to use a separate credit card to avoid commingling personal and business assets.
Before you talk to a bank about opening an account, do your homework. Shop around for business accounts and compare fee structures. Most business checking accounts have higher fees than personal banking, so pay close attention to what you’ll owe.
To open a business bank account, you’ll need a business name, and you might have to be registered with your state or province. Check with the individual bank for which documents to bring to the appointment.
The foundation of solid business bookkeeping is effective and accurate expense tracking. It’s a crucial step that allows you to monitor the growth of your business, build financial statements, keep track of deductible expenses, prepare tax returns, and legitimize your filings.
Learning how to track and record business transactions is the foundation of a strong small business bookkeeping system. The source documents help you monitor your deductible expenses (tax deductions), prepare financial statements and tax returns and track the growth of your business.
It is important to note that only expenses pertaining directly to the business should be recorded. Examples include invoices, cancelled checks, purchase orders and other business documents.
Starting your business at home is a great way to keep overhead low, plus you’ll qualify for some unique tax breaks. You can deduct the portion of your home that’s used for business, as well as your home internet, cell phone, and transportation to and from work sites and for business errands.
Any expense that’s used partly for personal use and partly for business must reflect that mixed-use. For instance, if you have one mobile phone, you can deduct the percentage you use the device for business. Petrol costs are also deductible, just be sure to hold on to all records and keep a log of your business travel (where you’re going and the purpose of the trip).
Before we jump into establishing a bookkeeping system, it’s helpful to understand exactly what bookkeeping is and how it differs from accounting. Bookkeeping is the day-to-day process of recording transactions, categorizing them, and reconciling bank statements.
Accounting is a high-level process that looks at business progress and makes sense of the data compiled by the bookkeeper by building financial statements. As a new business owner, you’ll need to determine how you want to manage your books:
With so many options out there, you’re sure to find a bookkeeping solution that will suit your needs.
While cash basis may be easier to use, most businesses choose the accrual basis accounting for recording transactions. Under this method, you record income when you make a sale and expenses when you incur them. This is irrespective of whether you received or paid cash for the product or service. You must use a double-entry accounting system and record two entries for every transaction.
Many online stores start as a one-person show. When you’ve reached the point where it makes sense to hire outside help, you need to establish whether that individual is an employee or an independent contractor.
For employees, you’ll have to set up a payroll schedule and ensure you’re withholding the correct taxes. There are lots of services that can help with this, and many accounting software options offer payroll as a feature.
If you’re using the accrual basis of accounting, adjusting journal entries account for periodic expenses and income. For example, when rent is paid for the entire year, a monthly adjusting entry should be made to recognize the expense incurred. This ensures that the income and expenses are matched accurately during the period represented in the financial statements.
After the adjusting entries are made, an adjusted trial balance is prepared to confirm that the debits and credits match the adjusting entries. An adjusted trial balance is the most accurate record of your financial activity.
Depending on your business model, you may be planning to purchase and import goods from other countries to sell in your store. When importing products, you’ll likely be subject to taxes and duties, which is worth noting if you run a dropshipping business. These are the fees your country imposes on incoming goods.
Also, if you’re importing goods, a duty calculator can help you estimate the fees in your own business and plan for costs.
When sales start rolling in, you’ll need a way to accept payments.
If you want to accept credit card payments without using Shopify Payments, you’ll either need a merchant account or you can use a third-party payment processor like PayPal, Stripe, or Square. A merchant account is a type of bank account that allows your business to accept credit card payments from customers.
If you use a third-party payment processor, fees vary. Some processors charge an interchange plus rate, typically around 2.9% + $0.30 per transaction. Others charge flat fees for each transaction, while some have a monthly membership model for unlimited transactions. You can consult this list to help you find a payment gateway that will work for your location.
The world of eCommerce has made it easier than ever to sell to customers outside of your state and even country. While this is a great opportunity for brands with growth goals, it introduces confusing sales tax regulations.
When a customer walks into a brick and mortar retail store, they pay the sales tax of whatever state or province they make the purchase in, no matter if they live in that city or they’re visiting from somewhere around the world. However, when you sell online, customers may be located in different cities, states, provinces, and even countries.
Tax obligations vary depending on the legal structure of the business. If you’re self-employed (sole proprietorship, partnership), you’ll claim business income on your tax return. Corporations, on the other hand, are separate tax entities and are taxed independently from owners. Your income from the corporation is taxed as an employee.
Self-employed people need to withhold taxes from their income and remit them to the government in lieu of the withholding that an employer would normally conduct.
Calculate gross margin
Improving your store’s gross margin is the first step toward earning more income overall. In order to calculate the gross margin, you need to know the costs incurred to produce your product. To understand this better, let’s quickly define both cost of goods sold (COGS) and gross margin.
There are many scenarios where a growing eCommerce business might need to secure external business financing, be it through a line of credit, investors, a small business loan, or even a business partner.
For instance, you might have an unexpected downturn in sales due to uncontrollable external circumstances, or maybe you need a financial boost during slow periods in a seasonal business. Brands with big growth goals often need to secure funding to make investments in new product developments, inventory, retail stores, hiring, and more.
Remember, to get a small business loan, and you’ll likely have to provide financial statements—a balance sheet and income statement at the very least, possibly a cash flow statement as well.
But before you sign off on the debt, it’s important to make sure the numbers make sense. In other words, it’s a good idea to calculate the ROI of the loan. Add up all the expenses you need the loan to cover, the expected new revenue you’ll get from the loan and the total cost of interest.
Whether doing your accounts is too much for you or you just want a little external guidance, small business accountants and financial professionals can help you get more control of your money. There are a few individuals you might want to consider enlisting:
Continued growth should be part of any business model, and growth means change. Once you’ve got your small business off the ground, it’s up to you to continually review—and, if necessary, modify—how you manage your accounting tasks. Creating an efficient system that helps you maintain profitability and improve your bottom line will ensure the long-term success of your business.
Make no mistake: the first few years running your own business are bound to feel overwhelming at times.
When you get off on the right foot with an accounting setup that saves you time, supports growth, and reduces your workload, you’ll avoid getting dragged down by details—and you’ll have more time to focus on the thrill of the journey.
If you’re a small business owner, hiring an accountant can save you a lot of time and money. Accountants can help small business owners with the following tasks:
Small business owners who cannot afford to hire a professional may in the meantime consider automating their small business accounting practices with one of the many cloud-based accounting software applications.
Most of these applications cover the basics of accounting from invoicing, payments and payroll. The software can assist you in keeping accurate records and create basic financial statements.
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