The Basics of Accounting for Small Businesses
Created by FindLaw's team of legal writers and editors | Last reviewed September 26, 2022
In today's competitive market, there are many strategies to get ahead and grow your company's profit margin. In order to properly grow your company, you'll need to understand the basics of both accounting and bookkeeping and how they interrelate to help your business. Follow along as FindLaw takes you through the basics of accounting for your small business.
Bookkeeping vs. Accounting
Bookkeeping and accounting are often mistaken as serving the same purpose. In the larger sense, this is correct, as both bookkeeping and accounting aim to assist businesses grow in a financially responsible manner. However, when you take a closer look, you'll see that bookkeeping and accounting are two separate tasks which share a symbiotic relationship.
Bookkeeping primarily entails:
- the systematic recording of all of the business' financial transactions
- accurately extracting financial information from business transactions in a form that can be analyzed for issues related to taxes, financial reporting, and the financial position of the business
Accounting generally encompasses:
- interpreting the data provided by the proper recording and extraction of financial information
- providing financial advice about the business' present and future direction
For ease of reference for this basic overview of business accounting, we'll refer to bookkeeping and accounting as the single idea of accounting, as they share the same goal and contain overlap in the duties typically assigned to them.
Maintaining Accurate Records
Much of accounting consists of the non-glamorous "grunt" work of taking your expenses and revenues and systematically and meticulously entering them into your records. You must faithfully keep each receipt and record all financial transactions, including payments received and expenses paid out by the business. You'll need to keep detailed records and keep receipts for at least four years (for tax purposes).
Through this information, you can create summaries of income and expenditures on a regular basis (daily, weekly, monthly) to give yourself a snapshot of the financial state of your business at any particular time and to chart its progress.
The General Ledger
A general ledger is the single document that presents a record of revenues and expenses, and every financial transaction will make its way onto the ledger. It serves as a permanent record of the business' financial dealings and progress. Every important financial document related to the business, such as balance sheets and profit and loss statements, are derived directly from the general ledger.
There are also sub-ledgers, which eventually make their way into the general ledger as well. For example, you might have an accounts payable sub-ledger where you log every outgoing check. Once the check is deposited by the recipient, that information is inputted (or "posted") into both the sub-ledger and general ledger.
Updating Your Ledger
Next, you'll have to take that information and post it to the ledger(s). You don't have to post to the ledger after every transaction, but you should do so at regular intervals which are appropriate for your business.
How frequently you post to the ledger will be determined by the amount of business you generate on a regular basis. Large clothing retailers and restaurants have a huge volume of sales and expenses on a daily basis and these transactions need to be recorded meticulously and then posted at the end of the day. On the other hand, if you have a lower volume business, you can probably post on a weekly or even monthly basis.
Your general ledger provides you with information with which you can accurately gauge your business' financial health and also provides a defense against an audit (either tax or other outside audit). You'll also want the record so that you can quickly find any discrepancies to resolve disputes with customers (for instance if you've double billed, you'll be able to see it).
Writing a Financial Report
The financial report is basically an analysis of the information provided by your record-keeping and ledger entries. You take the data and distill it into a form that helps you see where the business is making money, where cash flow needs to be improved, and the state of your capital investments.
A financial report can be one single document or several smaller documents, depending on your wishes and the needs of the business. Common reports include:
- Income statements,
- Statements of capital,
- Balance sheets,
- Profit and loss statements, and
- Cash-flow statements.
The bookkeeping and accounting tasks outlined above can be done on your own, but with the easy availability of quality accounting software programs such as Quicken, you should seriously consider using those programs to help you in the task. The software can help you keep accurate records and create basic financial reports to ensure your business' security.
Have a Business Law Attorney Assist You
While the above information may seem relatively straightforward, accounting is a complicated subject matter. Ask a skilled business and commercial law attorney how to maximize your record keeping efforts in order to comply with tax laws and otherwise.
To learn more, see our Small Business Law section.
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