Bookkeeping for Beginners

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Bookkeeping is the practice of tracking all the financial transactions that a business accumulates. Bookkeepers are the record keepers; they are tasked with logging and categorizing each of the transactions and keeping all of the data organized and complete. Bookkeeping is a separate part of the accounting process than what accountants typically handle. Accountants use the bookkeeper’s data. They are the analyzers and advice givers. Accountants create the financial statements from the bookkeeper’s records and use the information to understand the financial wellbeing of a business.

If a business is small and  has relatively few daily financial transactions, they may choose to use the single-entry accounting system. This method is similar to that used when maintaining a checkbook. If a business is larger with many transactions occurring on a regular basis, they would most likely choose to use the double-entry accounting system. This system reduces errors ensuring everything is recorded properly and completely.

The Bookkeeping Process

Proper bookkeeping tracks each and every financial transaction a business completes from the time they open, until the time they close. Each transaction will be accompanied by some type of documentation (like a receipt or an invoice) which will be used when recording the transaction into the books.

Bookkeepers can utilize a physical paper journal to record the data or use a software program to electronically store the information. It is much more common for businesses to use electronic databases for their bookkeeping needs. Bookkeepers can use any accounting method a business needs (single or double entry methods, primarily). In order to be successful, a bookkeeper must know the chart of accounts for a business, be able to classify credit and debit entries, and keep the books balanced.

It is a bookkeeper’s job to be able to hand over all financial records, which are complete and accurate, to an accountant who will use the information to create financial statements and be ready for tax season.

A deeper look at the difference between accountants and bookkeepers

Bookkeeping is one of the first steps in the accounting process for a business. A bookkeeper collects all documentation (such as receipts, invoices, and purchase orders) and will keep track of every transaction. These transactions will be classified as debits or credits and recorded in their corresponding account.

Once a certain amount of time has passed, all of the records for that period will need to be summarized. Some businesses that are very small, may choose to only summarize their accounts once a year at tax time.

After the accounts are summarized, the information is sent to an accountant. The accountant then will review the data, create the financial statements, and interpret the data for the business. It is also an accountant’s job to create the year-end reports, which must follow the standards set forth by the Financial Accounting Standards Board (FASB). The specific rules the accountant must follow are called the Generally Accepted Accounting Principles (GAAP).

Before Bookkeeping Begins

The first step when starting the bookkeeping process is deciding whether your business should use the cash or accrual accounting system. If you have a very small business, it may be best to consider a cash accounting system. However, most businesses will need to use the accrual accounting system.

The cash accounting system is the method where you only record transactions after cash is exchanged. The accrual accounting system records all transactions immediately, even if money is not exchanged until a later date. It is not uncommon for a business to start out using the cash method and later switch over to the accrual method once they start to grow.

The accrual accounting system will be required if you use credit, either by offering it to your customers or borrowing from a lender yourself.

Next, you need to choose whether your business should use the single-entry bookkeeping method or the double-entry. Single-entry means you only enter a transaction once in the books. This is similar to how you maintain a checkbook. It is only recommended to use single-entry bookkeeping if your business is quite small, and you only need to record when you bring in cash and spend it.

Double-entry bookkeeping is when all transactions have two entries. Every transaction will have equal but opposite entries (one debit, one credit) into at least two accounts. This is the ideal form of bookkeeping for larger, more complex businesses.

The next decision to be made is where you want your records to be written and stored. Again, this all depends on the size of your business. Small businesses could use physical paper books or even a spreadsheet program on the computer. Larger businesses will most likely need to use specialized bookkeeping databases to store all their financial data.

Finally, a business must create their chart of accounts. A chart of accounts lists every account (name and number) and subaccount the business has. This list may change over time as the business develops.

Assets, Liabilities, and Equity – What does it all mean?

In order to be an efficient bookkeeper, you need to know a little bit about the accounts a company can have. The three main ones – assets, liabilities, and equity – along with their subaccounts, form the chart of accounts. These are also used to create the balance sheet for a company.

Assets are everything a business owns. This includes the obvious things like inventory, and also fixed assets like the land, building, and equipment owned by the business. A balance sheet will list these assets based on their liquidity. Cash accounts are typically listed first, then things like inventory and fixed assets are next. One way to look at it is fixed assets are touchable; they are the physical things that you own. A business may also have nonphysical assets, such as intellectual property, listed on the balance sheet.

Liabilities are everything a business owes. Some examples of common liabilities are bank loans, invoices due to suppliers, and mortgages. A balance sheet should include both short and long-term liabilities. Long-term liabilities are liabilities that will not be paid off within a year. Short-term liabilities include credit cards, money owed to suppliers, and taxes owed.

Equity is the sum of all funds invested in a business by the owner and investors. This includes all claims an owner may have against the business.

When the year-end comes, you must balance your books. Your bookkeeper should have kept track and categorized all assets, liabilities, and equity correctly. The end balance should always be checked against the accounting equation, which is Assets = Liabilities + Equity. In other words, everything the business owns should equal everything the business owes, including equity.

The Income Statement

One of the three major financial statements a company must prepare each period is the income statement. An income statement shows the revenue and expenditures of a business.

It is the bookkeeper’s job to categorize every transaction into these classifications. For example, if a business is using the double-entry method of bookkeeping and there is a sale to a customer for cash, the bookkeeper would need to enter two entries. One entry would be an asset account labeled Cash and the other entry would be recorded in a revenue account labeled Sales.

Revenue is the income a business earns from selling products and/or services.

Expenditures include everything needed to run the business, including payroll and costs of goods sold (money spent to create the products sold).

The accountant uses the income statement, along with the balance sheet and cash flow statement, to be able to see the full picture of a company’s financial status.

The other two major financial statements are the balance sheet and the cash-flow statement. Together these three statements offer a complete picture of the company’s operating activities.

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