Small business bookkeeping is vital for any small or growing business because without it, the businesses finances won’t make sense.
For business owners completely new to the world of managing business finances, bookkeeping can seem like a daunting task and is often confused with accountancy. But whereas accountancy involves analysing the businesses financial information and making a strategy from the findings, bookkeeping is simply the process of organising and recording all of the businesses financial transactions.
Whilst initially the responsibility of bookkeeping may fall to the business owner, over time business owners may find they no longer have the time and will outsource to a small business bookkeeper.
But whether the plan is to handle the business bookkeeping in-house, or seek the assistance of a bookkeeper to help, a quick introduction to bookkeeping is still an essential requirement so that business owners know why bookkeeping plays such an important role in establishing a successful business.
What is bookkeeping and why is bookkeeping important for a small business?
Bookkeeping involves recording and organising all of the financial transactions that a business makes, including payments made, account management, financial statement or report preparation and the writing and sending of invoices.
For example on a day-to-day basis, a bookkeeper could:
- Make payments (e.g bills)
- Collect payments from clients or customers
- Handle tax payments including paying it or seeking refunds
- Manage payroll to ensure staff and HMRC are paid correctly
Bookkeeping is necessary for any business because it handles the daily financial transactions that a business will encounter, ensures that they are recorded correctly and then organises them to ensure good cash flow.
For small businesses this daily housekeeping becomes even more essential. Bookkeeping ensures that financial records are up to date, which means business owners can track the growth and progress of their business. It also saves small businesses from being hit by tax bills or incurring accidental audits.
What terms are used in bookkeeping?
Just like in any sector, bookkeeping comes with its own new lexicon to learn. For example one common term business owners will encounter is “the general ledger”.
A general ledger, sometimes referred to as just a ledger, is simply the book or amassed collection of accounts where all of the business’ accounting transactions are recorded.
Other basic bookkeeping terms that business owners should learn include:
- Accounts payable: The name given to the account which is used to record all of the money that is owed to suppliers.
- Accounts receivable: The opposite of accounts payable, accounts receivable refers instead to the account that records all of the money owed to the business from clients or customers.
- Assets: Assets are the things that the business owns. Examples of assets include any buildings, land, or cash, as well as equipment, furniture and vehicles.
- Balance Sheet: The Balance Sheet is the report that outlines the financial position of the business at a given point in time. It includes an overview of the business assets and liabilities, as well as its capital. The idea of a Balance Sheet is to show business owners what the business owns, and what it owes.
- Capital: Refers to the money provided to the business so that it can operate. Capital is the value of shares in the business, profits retained in the business, and any borrowings from lenders such as banks.
- Equity: Equity is the money invested in the company as a business owner, as well as accumulated profits.
- Income Statement: The financial statement which presents a summary of the businesses financial activity across a certain period of time. The Income Statement will show the net profit or loss once the revenue earned, cost of goods sold and expenses have been calculated. It is also known as a Profit & Loss Statement, or P&L.
- Journals: Where bookkeepers store records of daily transactions. Each active account used, such as accounts payable and accounts receivable, will have its own journal.
- Liabilities: The opposite of assets, and refers to all the debts owed by the business.
- Payroll: If a business has employees it will have a payroll. The payroll dictates how much employees are paid and when, and calculates taxes that need to be paid on behalf of employees to HMRC.
- Purchasing Invoice: The purchasing invoice records what the business has bought and how much it needs to pay.
- Sales Invoice: Opposite to the purchasing invoice the sales invoice records what the business has sold and how much is due on the sale.
Businesses should also get comfortable with statutory accounts. Find out more about what they are and how to file them.
What are the two types of bookkeeping?
Bookkeeping falls into one of two types: Either single entry bookkeeping, or double-entry bookkeeping. Out of the two variations, double entry bookkeeping is the most common type of bookkeeping but occasionally single entry bookkeeping may be encountered.
Single Entry Bookkeeping
If a business is brand new, or has a low volume and straightforward record of transactions, single entry bookkeeping is one way for the business to initially operate its bookkeeping system.
In single entry bookkeeping a transaction is only recorded against one category: Either an income or expense account.
Single entry bookkeeping is deemed the most simple way of recording income and expenses, and usually only involves a cash book (ledger), calculator and spreadsheet or self-calculating programme such as OpenOffice or Microsoft Excel.
Double Entry Bookkeeping
Single entry bookkeeping assumes every transaction involves cash, and transactions are usually taken from bank statements. Once a business has outgrown this simplicity, double entry bookkeeping will be required. For example, if you buy inventory on terms so you have 30 days to pay, then at the point of purchase, there is no cash involved.
In double entry bookkeeping each transaction is recorded as a “debit” and a “credit” to track the transaction in a meaningful way. In the previous example, you would debit inventory and credit accounts payable.
You don’t need to understand how this works if you use a cloud accounting system like Xero to handle your bookkeeping. You simply enter the transactions in a way that’s meaningful to you, and Xero handles the double entry bookkeeping for you in the background.
Bookkeeping tips for small businesses
Bookkeeping can look like an insurmountable task at first, but once businesses begin to understand the terminology and practice, its daily management becomes much easier. Alongside gaining a general understanding, other ways businesses can help to make their bookkeeping simpler on themselves includes:
- Creating a new business account
For new, small businesses in particular failing to split the business accounts from the business owners personal accounts can cause all kinds of confusion and could also lead to liability issues.
Opening a business account will make it much easier to keep track of incomings and outgoings, which will be doubly useful when it comes to finding the financial information needed to balance books.
- Setting aside a tax budget
Tax bills can be unpleasant surprises, and sometimes in their exciting early stages businesses can forget to leave enough cash flow aside to take care of tax bills like corporation tax or VAT. Setting aside a small bit of income each month, or making sure that a certain amount of money remains untouched in a separate fund helps businesses not face sudden complex problems when faced with paying taxes.
- Maintain daily records
Failing to keep daily records can cause no end of problems when it comes to trying to balance books. Records should include things like business expenses spent by a business credit card, and business income from sales.
Daily records will also help small businesses to keep a much more accurate audit trail, which will help immensely if the business needs to quickly and transparently retrace its financial activities.
- Use software
Making Tax Digital is a new scheme initially introduced by the UK Government in 2019. The global pandemic in 2020 put the scheme on hold, but from the first of April 2021 it is now beginning to roll out across the country.
Making Tax Digital allows businesses to record their transactions and records digitally, and syncs with things like the businesses payroll and financial accounting software, making stacks of paperwork and manual filing a thing of the past. It’s worth looking into affordable accounting software to begin the transition, such as Xero Accounting as used and recommended by us at iFinance Department.
- Enlist help
Accounting and bookkeeping can not only be steep learning curves for those with no prior financial experience, they can also become incredibly tedious and time consuming as the business grows.
As the business takes on new shapes, a business owner or director’s time is better spent on daily business operations, whilst accounting and bookkeeping can be left to a trusted small business bookkeeper. At iFinance Department, we’re proud to say that we’re trusted to look after a whole range of small businesses bookkeeping needs, and we can help with yours. Check out our services page to find out who our virtual bookkeeping services can help and get in touch for a free consultation.