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Running a business of any size requires at least a basic understanding of small business accounting. Accounting allows you to keep track of expenditures and revenues and manage your company’s cash flow. It also provides insight into your company’s operations and enables you to provide financial information about your business to potential investors and lenders. These basics will get you started.
Key Points
•  Accounting is crucial for small businesses, empowering you to keep tabs on your company’s financial health and manage your expenses effectively.
•  A good accounting system enables you to present financial information about your company to stakeholders, investors, and lenders.
•  Owners should understand key financial statements like balance sheets and income statements to monitor the business’s profitability.
•  Good bookkeeping habits, such as checking your cash balances daily and recording all financial transactions, are essential to remaining financially organized.
•  Accounting software helps manage bookkeeping tasks efficiently and ensures accurate financial records.
What Is Small Business Accounting?
Small business accounting is the process of tracking and analyzing your company’s financial information. It can help you evaluate the health of your business, stay on top of necessary administrative tasks, and file your taxes more easily. A solid accounting system also makes it easier to apply for small business financing or bring in outside investors.
Before diving into the basic elements of an accounting regimen, it’s a good idea to familiarize yourself with a few key business accounting terms.
•  Liabilities: A business liability is any type of financial obligation that a business owes to another entity, such as money, goods, or services. They are divided into current (due within one year) and non-current (due after one year or more) and listed on the balance sheet. Accrued expenses are a type of liability.
•  Assets: This refers to any goods or property that add value to the business. Assets can be tangible (like inventory or offices) or intangible (such as patents, trademarks, or even brand recognition). They’re itemized on the balance sheet.
•  Accounts payable: A type of short-term liability, accounts payable is the amount of money a business owes to its suppliers for goods or services purchased on credit. It’s recorded as a current liability on the balance sheet.
•  Accounts receivable: This term refers to the money a business’s customers owe for products or services that have been sold but not yet paid for. It’s listed as an asset on a company’s balance sheet.
•  General ledger: This is a record of all financial transactions made by a business. An entry into this ledger is called a “journal entry.”
•  Equity: This is the value of the business’s assets minus its liabilities and is a measure of the business’s ownership and value.
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Small Business Accounting in 9 Steps
Running a basic accounting system for a small business involves a variety of tasks. Some tasks only need to be done once, to get your system up and running, while others you might revisit once a quarter or once a year. Here are nine important steps for small business accounting.
1. Choose Accounting Method
Small businesses typically use cash-basis accounting. It’s a simpler method, as income and expenses are recorded when the money is actually received or spent. This approach keeps cash flow front and center, with no adjustments needed.
Other small companies may prefer accrual accounting, which records transactions when they occur, rather than when the exchange of money occurs. This accounting method is more complex. Accordingly, it can provide a more detailed view of a company’s long-term financial health.
2. Set Up Chart of Accounts
Compiling a chart of accounts, or COA, involves listing the financial account names and numbers in your company’s general ledger. Typically, the COA will identify assets, liabilities, income, and expenses accounts. Some companies have a fifth account, the equity account.
3. Utilize Accounting Software
Today’s small business financial software is equipped to help you with all kinds of accounting tasks, from tracking expenses and sending out invoices to generating various financial reports.
For example, your accounting software may be able to produce a cash flow statement so you can see where money is coming in and where it’s going out. To that end, it can monitor unpaid invoices to help you pursue overdue accounts receivable, and give you automatic reminders to settle up outstanding accounts payable.
Having the information organized and at your fingertips also enables you to make data-driven decisions about budgeting, cost-cutting, expansion, financing, and more.
4. Maintain Bookkeeping
Here are some crucial actions to take to keep your general ledger in order.
•  Record all income and expense transactions.
•  Keep and file copies of your receipts and invoices.
•  Check your balances and stay on top of managing your daily cash to avoid overdrafts.
•  Track upcoming bills. You can create a calendar and enter information for all of your vendors and service providers (like utilities) that need to be paid each month. Note how much is due and when (estimate, if you need to), then log when you actually make the payment.
•  Make payments on time. Be sure not to miss payments on any type of small business loan, as delinquency could harm your business credit score.
Orderly paperwork makes it easy to compile your tax records when it comes time to file. And if you’re ever audited, you’ll have an organized archive with all of those documents at hand.
5. Create Financial Statements
Your small company accounting workflow should involve creating annual financial reports. These reports usually include a balance sheet, income statement, and cash flow statement.
These will give you an overview of your business’s performance, especially by calculating annual revenue and making year-over-year comparisons. The reports can also be helpful for reference at tax time.
6. Manage Payroll and Taxes
If you have employees, you’ll need to stay on top of payroll. It’s important to meet your payroll schedule deadlines, which are typically biweekly. Consider setting up direct deposit if it makes sense with the size of your business. You can also outsource the process to a part-time or contracted payroll manager.
In addition to making sure your employees are paid, making payroll for small businesses involves meeting tax requirements for federal, state, and local jurisdictions.
You’re responsible for payroll tax for your employees and yourself; you typically also need to pay sales and income taxes as part of your small business accounting routine. It’s a good idea to get to know your state’s specific requirements for each type of tax.
Sales tax is required in 45 states, and your local county or city may also collect this type of tax from small businesses. You may qualify for an exemption, depending on your type of business. If not, check each locale’s payment schedule and note it on your calendar.
You’ll want to apply the same process to income tax. The IRS and most state revenue departments collect income tax, with estimated payments due each quarter. Check with an accountant or tax advisor if you’re unsure of how to estimate your income taxes.
Accounting for small businesses includes important annual responsibilities as well. In particular, to avoid penalties and interest, you should file your annual tax return on time. This includes paying any additional sums you owe beyond the quarterly estimated taxes you already paid.
7. Reconcile Accounts
An online accounting system can also help you track your accounts payable and accounts receivable, as well as inventory, so that you can successfully manage your business cash flow.
By tracking and reconciling unpaid expenses versus total sales, you can see at a glance how your business is doing and confirm that your accounts are aligned. If you owe more than you’ve brought in for the month, you’re experiencing a cash flow crunch and will need to take steps to address it. If your total sales amount is more than your expenses, you’re experiencing a surplus.
8. Monitor Financial Performance
You can analyze your financials in several ways to gauge the health of your small business. For example, you might look at your profit-and-loss statement and income statement to get an idea of how well the business is performing.
There are also several accounting financial ratios worth reviewing regularly. Here are three that may be particularly helpful.
•  Gross margin profit ratio lets you see how much profit your business is making after expenses are paid.
•  Debt-to-equity ratio can help you assess whether or not your company is overleveraged (has too much debt compared to equity).
•  Cost of capital evaluates how much your company must pay for funds. It’s a useful metric since it helps you see if your financial decisions are paying off in terms of profit margins. And it’s also something that investors may look at.
Tracking these numbers regularly also reveals long-term trends. It’s wise to compare current financials to those from the previous month, quarter, or year to identify factors that are either hurting or helping your business.
9. Consider Hiring an Accountant
Delegating time-consuming financial duties to an accountant frees you up to focus on the business as a whole. The accountant — typically a certified public accountant (CPA) — can help with everything from setting up a bookkeeping system to preparing financial statements to filing your tax returns.
If you’re wondering how to find an accountant, consider tapping your professional network and local organizations for referrals. Online recommendations via LinkedIn and other social media could also be helpful.
Once you’ve got a few candidates in mind, you can use resources like CPAverify to confirm their credentials.
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Common Mistakes to Avoid
Accounting can be complex and it’s easy to make mistakes. Some of the most common errors are irregular recordkeeping, data entry typos, missing or inaccurate account information, and clerical slipups like misclassifying transactions.
How To Choose the Right Accounting Method for Your Business
When choosing between cash-basis and accrual-basis accounting methods, you’ll want to carefully consider a variety of factors. These typically include the size of your business, your industry’s regulatory demands, legal requirements, your financial goals, and your tax and shareholder reporting needs.
Cash Basis vs Accrual Basis Accounting
As mentioned above, cash accounting is more straightforward. It also offers tax advantages, in that you can delay paying taxes on revenue until you receive payments.
Accrual accounting provides a more accurate financial picture. More importantly, it’s required by law for larger companies, public companies, and those following generally accepted accounting practices (GAAP) or international financial reporting standards (IFRS).
Some Small Business Accounting Solutions
Staying on top of your accounts is a sound business practice, but that doesn’t mean you can’t get some help. Here are some possible moves to consider.
Small Business Accounting Software to Consider
There are numerous free bookkeeping and accounting programs. If you’re willing to pay for your software, you may be able to get more bells and whistles along with the basics.
If you have or know a CPA, it may be worth asking him or her for accounting software recommendations.
Professional Accounting Services
You may not be able to afford a staff accountant, but you may find it worthwhile to hire an accountant on a part-time or consulting basis, particularly if you’re too busy or feel uncomfortable delving into the numbers yourself. As your business grows, you may benefit from hiring a full-time accountant onto your team who can manage complex tasks and provide financial insights for long-term planning.
The Takeaway
Understanding basic accounting for small businesses automatically sets you up for a better chance of success. If you’re just starting out, you may be able to manage all of these steps on your own, especially with the online accounting software available today. As your business becomes more complex, however, it may be time to start outsourcing tasks that are either out of your comfort zone or take up too much time.
If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.
FAQ
Can you do your own small business accounting?
Yes, it’s possible to handle your own small company accounting, especially with the help of accounting software. These tools simplify tasks like tracking income, expenses, invoices, and payroll, making them doable even if you have limited accounting experience. As your business grows, however, you may benefit from hiring an accounting professional to manage complex tasks, ensure tax compliance, and provide financial insights that can help with long-term planning.
What accounting is required for a small business?
Small businesses are typically required to maintain accurate records of income, expenses, assets, and liabilities. This involves tracking your revenue and costs, managing accounts receivable and payable, and maintaining records of any inventory or equipment. You’ll need these records to prepare financial statements, file your taxes, and monitor profitability. Depending on your business structure, certain tax or financial reports may be mandatory, like a balance sheet or income statement.
Which accounting method is most commonly used by small businesses?
Small businesses typically use the cash basis accounting method due to its simplicity. With this approach, income and expenses are recorded only when cash is actually received or spent. This offers a clear view of cash flow without the need to make complex adjustments. However, some small businesses may prefer accrual accounting, which records transactions when they occur and before any money is received or paid out. While this accounting method is more complex, it can provide a fuller picture of a company’s long-term financial health.
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