According to a survey published by Bentley University’s PreparedU Project in 2014, “66% of Millennials would like to start their own business and 37% want to work on their own.” As this Forbes article puts it, “Millennials are the true entrepreneur generation.” As a Millennial entrepreneur, there are several basic aspects of running a business you have to learn. Chances are this is the first business you’ve ever started, so you may be learning some of these aspects on the fly or may have even resorted to creating your own “off-the-cuff” systems. One area in particular that I see this happen with great frequency is with bookkeeping. Far too often, I see disorganized or haphazard attempts at keeping records of the financial affairs of the business, from misplacing receipts to incorrectly leveraging technology. In today’s article, we’ll explore the basics of bookkeeping, cover some of the most common mistakes new business owners make and provide some tips on how they can be avoided. Join me as we dive into the importance of good bookkeeping in your new business.
The Basics of Bookkeeping
In the United States, most businesses choose to follow what are called the Generally Accepted Accounting Principles (GAAP). These are the authoritative standards for financial reporting and universally known and understood in the business world. Following these principles help maintain consistency and transparency when delivering financial statements outside of the company. GAAP employs a “double-entry” method of recording transactions.
This method has two equal and corresponding sides known as a debit and credit. The left-hand side references the debit and the right-hand side the credit, and they’re always used with corresponding accounts. Here’s a simple example:
Common Bookkeeping Mistakes
Recording financial transactions via this method allows you to accurately depict a detailed portrait of the financial well-being of your business, create financial statements (such as balance sheets, profit & loss statements, etc.) from, and use to make managerial decisions that, hopefully, benefit your business. These types of entries occur across a variety of different “accounts” that are listed in your chart of accounts (also known as a general ledger). There are five main types of accounts: asset, liability, equity, expense, and revenue. These can subsequently be broken down into more specific categories beneath each account. For example, for an expense account, you might have “dues & subscriptions” or “legal & professional fees.” These simply help specifically categorize the money coming and going out of your business, almost like a personal budget on steroids.
Now that you have an understanding of what bookkeeping basics, you can grasp some of the common mistakes new business owners make with their bookkeeping:
Lack of Organization
Keeping track of all your transactions and correctly categorizing them can be a difficult task. Imagine what it is like for your own budget. Most of us aren’t aware of exactly how much we spend on, say, the occasional beverage or food item we purchase from gas stations. In our personal lives, this is likely not an issue because spending a couple bucks here or there doesn’t really impact overall cash flow or our ability to work towards financial goals.
When you’re running a business, however, every penny needs to be accounted for. If not, your financials are not being accurately represented, which could lead to a whole slew of problems down the road from claiming tax deductions to acquiring loans or even bringing on investors.
Mixing Business and Personal Expenses
In your early years of being a business owner, it’s quite common to be footing the bills for business expenses out of your own pocket simply due to the fact that your business is not profitable enough yet or doesn’t have the cash flow to support the cost. There’s nothing wrong with footing that bill out of your own pocket, but it needs to be properly recorded. If it’s not, you could be missing expenses and write-offs, breaking the corporate veil you’ve set up between your personal assets and your business, and/or simply create more work or journal entries to account for it.
This is most common amongst sole proprietors as they often choose to use their personal checking account for both business and personal spending, which truly just creates a nightmare to separate when need be. The best solution to a situation like this is to transfer funds from your personal account to the business account and use the business account for the transaction so you have a clean paper trail for it.
Improper Setup of Chart of Accounts
Maintaining a clean chart of accounts is paramount to producing accurate financial statements that are easy to read and understand. If you have too many accounts, not enough detail in them, or poor titles for the accounts, transactions could be incorrectly recorded and financial statements inaccurately represented. Every business is different, so your own chart of accounts should accurately represent your specific business.
If you’re running a dropshipping eCommerce business, for example, you never have physical inventory on hand, so it would not make sense to have an inventory account listed as it quite literally serves no purpose. If you plan to do all your own bookkeeping but have little to no experience doing so, it’s worth the couple hundred bucks for a CPA to correctly set up your chart of accounts for you in exchange for many unnecessary headaches down the road.
Failing to Record Transactions or Reconciling on a Regular Basis
As a new business owner, chances are you have a never-ending laundry list of things to do. It’s always a multi-faceted juggling act and it often is hard to make the time for handling the more mundane tasks like bookkeeping in your day-to-day operations.
You can’t let that stop you from doing so, however, as the more time that passes from an expense, the easier it is to miss recording it and/or catch an error in the process. You should review and record your transactions on a weekly basis and make sure they reconcile with your bank accounts.
Not Including Enough Detail in Expense Records
If you ever get audited by the IRS, you want to make sure you can provide the details on any expense or transaction that gets flagged. Including detailed notes in your transaction memos and keeping copies of receipts will ensure minimal issues if anything is flagged.
Failing to Backup Data
There’s no such thing as being too cautious with your financial data. Your spreadsheet could accidentally be deleted or past reports get lost in the shuffle. You should have backups of your backups and do so on a regular basis.
You just never know when you’ll need to pull past transaction reports or financial statements for any number of reasons. The IRS also has the Statute of Limitations that apply to income tax returns, so you’ll want to keep past records going back long enough according to said limitations in case they’re ever needed.
Incorrectly Leveraging Technology
As a new business owner, you’re likely trying to save on costs anywhere you can. You may choose to use spreadsheets for your accounting instead of using accounting software. The problem with spreadsheets is transactions can easily be incorrectly recorded and misplaced. If you set up your spreadsheet incorrectly or accidentally record a transaction in the wrong cell, the entire document can become skewed and inaccurate.
With one of the best accounting softwares out there, this can be avoided. Most will allow you to link your bank accounts directly to the software and automatically pull in transactions for you. All you have to do is properly categorize each one. They also store numerous backups in the cloud and can quickly and easily run different reports or create financial statements. If you’re doing your own bookkeeping, low-cost accounting software is well worth your money.
I hope this guide has helped you see the importance of sound bookkeeping in your new business. As you’re getting up and running, it’s easy to think of bookkeeping as an afterthought or something you can address only as needed. That’s not the case though! Being proactive and keeping good records of your business’s financial affairs is one of the most important, if not the most important, administrative tasks required of you. Getting it right from the start can make all the difference in your long-term success.
If you have more questions specific to your own business or you would like help reviewing your business financials, feel free to schedule a free consultation with me today.
Chad Rixse grew up in Anchorage, Alaska, but has lived in the Seattle area since 2007. He majored in Spanish at the University of Washington where he honed his fluency in the language and discovered his passion for travel and connecting with other cultures. He’s a self-professed golf addict who can never seem to get his fill despite still struggling to break 100.