Bookkeeping for a small business is similar to any size business. There are prescribed steps to follow (known as the accounting cycle). Differences occur because of the complexity and needs of the business and the method, usually manual or computerized, used to do the bookkeeping.
How to Do Small Business Bookkeeping
It is becoming rarer and rarer that a company keeps a manual set of books where columns of numbers are kept on paper and stored in large binders. Today, bookkeeping is often accomplished on a spreadsheet or by using a computerized bookkeeping system. Most large businesses have been using computers for decades to perform these tasks and small businesses are following suit.
Regardless of the size of the company or the method used to keep the books, bookkeeping always involves the following steps:
- Identify business transactions
- Record the transactions in a journal
- Summarize the journal and record the totals in a ledger
- Prepare a trial balance
- Make adjustments
- Prepare an adjusted trial balance
- Prepare financial statements
- Close the books
- Repeat for the next accounting period – normally the next month
Identify Business Transactions
A business conducts its operations to make a sale. To make a sale, inventory and assets must be purchased and people paid to do the work. In addition, there is overhead, such as rent, utilities, wear and tear on machinery, and expenses of getting the product or service sold, such as advertising or commissions.
All business activity involves a transaction, and every transaction must (although in many businesses it’s not) be supported by some sort of document. A sale should be supported by an invoice or sales receipt. A purchase should be supported by a receipt or vendor invoice. Payroll is supported by timecards or salary information.
The first step in the bookkeeping process is to identify the transaction using these supporting documents. Procedures for handling these documents vary, but at a minimum they should show the date of the transaction, the amount, the people, or business involved and the business purpose if it is not readily apparent.
Once recorded, as discussed below, the supporting documents must be stored or filed so they can be referred to if necessary, in the future.
Record the Transactions in a Journal
Once a transaction has been identified, it needs to be recorded in a journal. A journal (sometimes referred to as a book of original entry) summarizes all the transactions that have been identified in one location by date.
It is simply a line of information that shows the details of the transaction, especially the date and amount, along with a description of the transaction in the form of a code also known as a general ledger account number. There are several types of journals:
- Cash Disbursements Journal. Shows all transactions paid by cash or check, although some companies will keep a separate check register.
- Cash Receipts Journal. Shows all transactions received by cash, check, or credit card.
- Sales Journal. Shows all sales made by invoice in which the customer is given time to pay (accounts receivable). A separate record by the customer may also be kept.
- Purchase Journal. Shows the purchases of goods and services on account (accounts payable). A separate record by the vendor may also be kept.
- Payroll Journal. Shows the wages or salaries and the deductions for taxes and benefits by the employee for a pay period as well as the amount of the check or direct deposit.
- General Journal. Shows any other transactions not included above especially non-cash transactions such as depreciation described below.
Summarize the Journal and Record the Totals in the General Ledger
At the end of an accounting period, again, usually monthly, the journals are totaled, and the amounts are transferred to the General Ledger. A General Ledger is a summary of all transactions by category (account).
For example, cash, sales, inventory, rent, labor, repairs, etc. each have their own page in the ledger where only those transactions are recorded. The General Ledger essentially keeps a running record of the transactions by category and their totals (balances).
Prepare a Trial Balance
Once the General Ledger has been posted, the totals for each category are summarized in a columnar format known as a Trial Balance. The Trial Balance shows the totals as debits or credits (pluses and minuses if you will) and the totals of each must be the same; that is, in balance.
Normally, accounting principles require that some adjustments be made for certain types of transactions. These are typically “non-cash” transactions. Some examples would include, salaries incurred but not yet paid for at the end of the accounting period which must be recorded to give a more accurate comparison of income and expense, or depreciation, which is a non-cash transaction that reflects the wear and tear on things like machinery or buildings which are used over a long period of time.
Prepare an Adjusted Trial Balance
An Adjusted Trail Balance is a new Trial Balance after making the adjustments.
Prepare Financial Statements
Financial statements are prepared from the amounts on the Adjusted Trial Balance. A standard set of financial statements would include a Balance Sheet, which is a snapshot of what the business owns, what it owes and what is left over for the owner at a specific point in time; and an Income Statement or Profit and Loss Statement which shows the results (profit or loss) of operations over a specific period of time (monthly, annually, year-to-date).
Financial statements are prepared for management and/or external users (banks, investors) and usually conform to Generally Accepted Accounting Principles.
However, management may require special reports on a timelier basis used to help make business decisions that external users would never see, but they still come from the same bookkeeping process being described.
Close the Books
Closing the books is the process of getting them ready for the next accounting period. The adjustments are typically recorded in the General Journal and in the General Ledger.
In addition, depending on the needs of management, but certainly at least annually, the income and expense accounts are reset to zero so that the results of operations can be tracked for the new period. The closed amounts are included in the owner’s accounts on the balance sheet since the income or loss affects the value of their ownership.
Bookkeeping for a Small Business
Bookkeeping is a straightforward but crucial task of any business. While the method of performing the tasks can vary (manual versus computer for example) the steps rarely change.
Large companies have an accounting department, managed usually by a Controller, to perform these tasks and they are often computerized. Smaller companies may have a family member doing the bookkeeping. Some companies don’t do any bookkeeping at all.
At a minimum, the business owner should have some way of summarizing the financial information of the business so that a tax return can be prepared. But there are many other reasons to “get the numbers” right and a small business financial manager, such as a Las Vegas CPA, can help with these tasks.