Book-keeping - Basics for entrepreneurs
An article on the basics of book-keeping, why it is important and key steps to manage book-keeping by your own.
Book-keeping could be a tedious process but an essential part for any organisation as it records a company’s financial transactions, where the business is spending, generating revenue from or which tax deduction can a company claim.
The basics of book-keeping is to ensure every transaction is recorded on a daily basis or when they occur. Each transaction must be supported by a document as evidence and with a reason for the transaction. For instance, a sales transaction must be supported by sales invoice/ sales receipt or cash receipts, bank statements etc.
Book-keeping is necessary because…
• An understanding of income and expenses - Every business, irrespective of the size transacts on daily or monthly bases. On recording and analysing every expense or income earned and not just the end balance, will help a business understand and navigate the resources accordingly. • No deductions are missed - If the books are systematic and organised with supporting documents in place at the time of tax filing, then a company can ensure more deductions that can be claimed legitimately will result in bigger tax return. • Business loan - Planning on expanding the business? Need resources and investors? A well updated books would help investors understand the past, present and be able to forecast the financials projections of the business and the ability of scalability and sustainability. • Spot financial mistakes easier - If a company does not record on timely basis but does at the end of the year, you will not only find yourself in buried in paperwork but it will difficult to reconcile overcharges, an unclosed transaction.
Simple steps for book-keeping are listed below but remember book-keeping comprises of many small intricacies when understood or done incorrectly would result in a downfall for a company, therefore it is advisable to hire a professional accountant or outsource bookkeeping service.
Step 1: Open a separate business account
Founders on initial days bootstrap finances i.e., rely on personal savings, borrowing from family and friends or operating revenue or profits to be invested into the business, thereby causing a problem to differentiate between personal and business funds and expenses. For instance, a restaurant invoice could be a personal expense or due to client meeting but it essential to know under which account would you record it under.
In addition, they are different laws pertaining to business and personal under Income Tax Act, therefore having a separate business account would help a start-up to manage cash inflows and outflows, to analyse and make better decisions for business.
Step 2: Book-keeping system
Double-entry book-keeping is most used method where all transactions are entered into a journal, then into a ledger as debit and credit. Every transaction has a dual aspect, the ledger entries of debit and credit must always sum up to zero. The procedure follows by journal, ledger, trial balance and in the end financial statements are prepared. There are fewer chances of errors and frauds and it is suitable for taxes and more.
If you are creating an excel or using an accounting software, it must include cash flow and income statements, balance sheets, bank reconciliation, invoice and expense tracking and accounts payable and receivables.
Step 3: Accounting method
Either opt for cash or accrual accounting method before starting books. The difference between cash and accrual is based on time of when sales and purchases are recorded.
Cash accounting is recorded when money has exchanged hands. A simpler definition, if a customer is billed today, the transaction is not entered in ledger until the customer paid. It does not recognise accounts receivable or accounts payable.
On the other hand, Accrual accounting method is recorded when the customer is billed but has not paid. A method of accounting when revenues and expenses are recorded when transacted, regardless of the amount received or paid. The only downfall with the method, although commonly used is a company may appear to be profitable, in reality it holds an empty bank account, therefore it does not provide an awareness of cash flow. Accrual accounting method without a careful monitoring of cash flow might result in consequences.
A start-up can opt for a cash accounting method when the transactions are handful, a record of bank statements, simple structure of inflow and outflow of cash on an excel but as the number of transactions increases or as the company grows, an accrual accounting method will provide decision makers with accurate information of the business.
Step 4: Categorise, Organise and Save
If transactions are categorically recorded, it becomes easier during the auditing process. The categorisation depends on the business or industry but mainly falls into five categories; assets, liabilities, equity, revenue and expenses leading to sub-categorising them as per the chart of accounts.
As mentioned before, every transaction is said to hold a supporting document. Most of the times, the original documents are a physical, which could result in losing the invoice paper, receipt bills. Therefore, as digital copies are accepted it saver to organise and save all the supporting documents on cloud-based tools; on Google Drive, Smart Receipts or Evernote or any software to for tracking receipts.
Therefore, it is important to categorize all transactions, organise accordingly and record and save every transaction, digitally as companies are requested to present historical data when audited or for due-diligence.
Step 5: MIS process
If you are handling book-keeping on your own, ensure to pick what kind of book-keeping is suitable and the method of accounting. Also, it is rather important not to fall behind or forget to record every transaction, therefore pick a date and ensure every month on the particular date the transactions are recorded, categorized, organised and saved.
Monthly MIS reports would support founders to ensure the business grows profitably.
If you have fallen behind, reach out to Agrya and we can help you!