A bookkeeper fills a critical role for any business, and that is the recording and organization of financial transactions. These include customer payments for goods and services, business payments to vendors and contractors, and loan and rent expenses. Without proper bookkeeping, a business simply can’t function.
Individuals who start their own small business often keep their own books. However, getting started as a bookkeeper can be tricky, in part due to the highly specific vocabulary. In this post, we’ll go over the basics of bookkeeping, define some key terms and share some tips for handling small business bookkeeping for either yourself or your clients. Let’s dive in.
What is bookkeeping?
Bookkeeping is the process of recording financial transactions of a business. All business transactions that involve a monetary or financial component need to be tracked by a bookkeeper or bookkeeping tool (more on that later). This includes everything from rent, taxes and utilities expenses to customer transactions and payments for materials.
While the basic concept of bookkeeping is straightforward, the nitty-gritty can be quite complicated, especially for a newbie. There are a number of rules governing the bookkeeping process and any reputable bookkeeper should have a working knowledge of several accounting terms, such as assets, revenue and equity.
A quick note: a bookkeeper is not the same as an accountant. A bookkeeper is only responsible for properly and accurately recording financial transactions of a business. Accountants, however, analyze the information provided by the bookkeeper and can use that data to determine a company’s tax burden, suggest smart financial strategies and recommend specific practices. In general, accountants also need some level of formal education to use the “accountant” title, whether that be an accounting degree or a certification (such as those offered through our tax courses).
Key bookkeeping terminology
If building your bookkeeping skills is your goal, you’ll need to learn the lingo. Here are some terms you will absolutely have to understand before you get started on your bookkeeping journey.
Assets
An asset is anything that a business owns or is owed. Basically, it’s anything of value possessed by the business. Many people think of assets as equipment or real estate, and those certainly fall into this category. However, assets also include cash in the business’s accounts and accounts receivable (aka what you’re owed by your customers).
Liabilities
Liabilities are a business’s debts, including loans and accounts payable (money owed to vendors and contractors).
Revenue
Revenue/income refers to any money a company receives for goods or services. It’s distinct from profit, which is earnings minus expenses.
Expenses
Anything that you company pays for to stay in operation is considered an expense. That includes salaries, bills, rent and materials. The difference between an expense and a liability is a bit tricky, but basically liabilities are debts owed, while expenses are one-time or recurring payments for specific items.
Equity
Equity is equal to your assets minus your liabilities and represents the owner’s investment in the business.
Debits
A debit is any transaction that increases the value of an asset account or an expense account. These are entered on the left side of an accounting ledger.
Credits
A credit is any transaction that increases the value of a liability account or equity account. These are entered on the right side of an accounting ledger.
Getting started with bookkeeping
Now that you’ve learned some of the most important bookkeeping lingo, it’s time to begin setting up your books. Below are five steps that will get your bookkeeping journey off to a strong start.
- Select an entry system
Your entry system is your method for recording transactions, and you have two choices: single-entry or double-entry. Under the single-entry system, you’ll enter each transaction only once, as either “income” or “expense.” With double-entry, every transaction will have two entries: a debit and a credit. These two amounts balance each other out (“balancing your books”).
The method you choose is up to you; while more complicated, double-entry is less likely to result in errors. However, if your business is small, single-entry should work just fine.
- Select an accounting system
You have two options here as well: cash-based accounting or accrual-based accounting. The cash-based accounting method means you wait until money is exchanged before recording a transaction. An invoice, for example, would not be recorded until you pay the vendor.
Accrual-based accounting (which is recommended) registers transactions even if no payments have been exchanged yet. You’ll record bills and invoices as you receive them.
- Create your chart of accounts
A chart of accounts is basically a list of all the accounting “buckets” for your transactions. These include asset accounts like cash and accounts receivable, liability accounts like accounts payable, equity accounts like personal investments, and revenue and expense accounts.
If you’re using accounting software to keep your books, that tool should come with a default chart of accounts and can guide you through the process of setting everything up.
- Begin recording transactions
Now it’s time to start tracking income, expenses, bills, loan payments and more. Every financial transaction your business makes needs to be listed in your ledger book or in your accounting software. Some easy ways to start include recording a sale of your goods or services, setting up your bank account or sending an invoice.
- Reconcile accounts and create financial statements
Once you receive your monthly bank statement, you’ll want to review it and make sure the transactions listed on that document match those you’ve recorded in your ledger or accounting software. If anything is outstanding or needs adjustment, you can make those changes before closing the books on that accounting period.
You’ll also need to produce financial statements that summarize the transactions that occurred during that time. Generally, you’ll be creating three documents:
- Balance sheet
A balance sheet lists out the value of a business’s assets, liabilities and equity on a specific date.
- Income statement
An income statement, also known as a profit and loss statement, summarizes a business’ revenues and expenses during a given time.
- Cash-flow statement
Cash-flow statements show the movement of cash in and out of business over a certain period. This is a particularly important document for small businesses, which often have limited cash on hand.
Once completed, these documents can be passed on to an accountant or financial adviser, who can then use them to determine the financial health of the company and make strategy recommendations. If you’re using accounting software to manage your books, creating these documents should be as easy as a few mouse clicks.
Accounting software vs. ledgers
Accounting software can be an extremely useful tool for any small business owner. While you can certainly use a handwritten ledger or simple online spreadsheet to keep your books, accounting software does make it much easier to generate financial statements like those listed above. It also balances your books automatically based on your chosen entry and accounting methods.
Keeping manual ledgers is a time-consuming task, and time spent away from your business is revenue lost. In addition, many software tools offer a high degree of transparency into each transaction and account you track. They shouldn’t break the bank either, with several offering free or freemium options.
Taking the financial reins
Learning to keep and balance your books can be an empowering experience, and one that gives you deeper insights into your business operations. If you’d like to further your financial education, browse our list of continuing education courses and seminars. We can also help you on your small tax business journey as you grow and expand.