The Small Business Guide to Accounting: How to Set Up For Success

Small businesses routinely struggle to manage their books. How do we know?

According to a U.S. Bank study, over 75% of U.S. small businesses fail due to cash flow problems. Those cash flow problems could be avoided by more structured, proactive accounting.

Accounting is no longer the realm of bean counters. Organizations today need strategic direction from their accounting function. Key stakeholders require visibility into the organization’s performance and trends. In order to make real-time decisions, they need accurate, timely financial data. And beyond the day-to-day, informed future planning is only possible with a solid structure on which to create financial models.

OVER 75% OF U.S. SMALL BUSINESSES FAIL DUE TO CASH FLOW PROBLEMS

Traditional management of accounting used to look like this: a bookkeeper entered transactions on a regular basis, with an accountant engaged only for tax filings and audits. That reactive approach just doesn’t cut it anymore. With the robust technology available today, there’s no reason for small businesses to push accounting to the side. Any organization can have access to real-time, error-free information that offers a window into financial health, day-to-day decisions, and future opportunities.

This guide is intended to walk you through the critical pieces of your accounting function. You’ll walk away with:

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An understanding of the important aspects of small business accounting

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Clear reasoning behind the why and the how of specific accounting tasks

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And, a primer for optimal management of your organization's financials

Before We Start: Accounting vs. Bookkeeping

In order to understand accounting, it’s critical to know exactly what it is - and what it’s not.

Accounting is the process of confirming that your organization’s actions are correctly translated and represented into meaningful financial data.

Bookkeeping, on the other hand, is the process of organizing and recording transactions in your accounting ledger.

Bookkeeping is the backbone of accounting. Without a regularly-updated record of your transactions, there’s no basis for making any meaningful financial data.

To Begin, Answer Key Questions About Your Organization

At the outset, it’s important to think about why you’re doing what you’re doing in the first place. Knowing your organization’s unique attributes will help drive your decision-making during this process. Ask yourself:

What are your goals?
What is the vision for your organization?
What are you trying to achieve?

There are no right or wrong answers here. Your goals could be anything from dominating a particular market to increasing fundraising donations by 5x to opening 12 new outlets in the next 3 years. What’s important is making sure this information is top of mind as you go. Certain aspects of accounting may be more or less important based on your organization’s broader picture.

Choose An Accounting Method

When you’re building a house, the most important thing is a solid foundation. The same goes for accounting. In order to create a reliable financial system, it’s critical to understand accounting methods and choose the best fit. Fortunately, you only have two options: cash-basis and accrual-basis accounting.

CASH-BASIS

Cash-basis accounting recognizes revenue when you receive cash and recognizes expenses when they’re paid. This method of accounting gives organizations a real-time reflection of the resources at their disposal.

Cash-basis accounting is simple to manage. Think of it like your online banking account: credits and debits get recorded as they occur. It’s easy to see how much cash you have on hand, and income is only taxed once it is received. Because of its simplicity, cash-basis accounting is a better fit for organizations with lower revenues and those that don’t carry inventory.

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ACCRUAL-BASIS

Accrual-basis accounting recognizes revenues and expenses as they are earned and incurred, regardless of when cash goes in or out the door. It gives organizations more visibility into their performance.

Accrual-basis accounting is a bit more complex. Given that it recognizes revenue and expenses as they are earned and accrued, you’d be recognizing revenue for a $5,000 contract when the funds are earned – not when you receive the check. Accrual-basis accounting allows for greater long-term visibility and is especially necessary for organizations with serious growth potential.

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Generally Accepted Accounting Principles (GAAP) form the basis for a set of accounting procedures and standards set forth by the Financial Accounting Standards Board (FASB). The use of GAAP accounting principles requires that organizations use accrual accounting. Public companies are required to use GAAP, and so is any organization with revenues over $25 million a year. And it’s also required if your organization needs to have a GAAP audit.

PRO TIP: ANY ORGANIZATION THAT IS SERIOUS ABOUT UNDERSTANDING PERFORMANCE AND ACHIEVING GROWTH MUST INVEST IN ACCRUAL-BASIS ACCOUNTING.

Read the full article: How to Choose the Best Accounting Method For Your Business

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Select a Business Entity Type

A business entity type tells your state’s charter how your entity is organized for legal purposes, and determines how it is taxed as well. The business entity you select will affect how you raise capital, which taxes you pay, how you bring in new partners and/or shareholders.

And know that as your organization changes, your entity can change as well. If your one restaurant location morphs into a chain of restaurants, you have the option to change the business entity as you grow.

A sole proprietorship is the simplest business entity available. It is directly linked to one person, the owner, who is 100% responsible for its debts.

General Partnership: A general partnership is the simplest business entity for more than one person. All partners are responsible for the debts of the partnership and they all have decision-making authority.

Limited Partnership: A limited partnership is the same as a general partnership except for one major attribute: it allows the entity to have different types of partners (general and limited).

C Corporation: A C corporation is a business entity that is entirely separate from its owners. It is treated as its own “person” and has more stringent tax requirements than partnerships and sole proprietorships.

S Corporation: An S corporation is the same as a C corporation with two big differences: an S corporation offers pass-through taxation and has strict rules about who can participate in stock offerings - and how.

Limited Liability Company (LLC): A limited liability company (LLC) is a unique business entity that combines attributes of a sole proprietorship, a partnership, and a corporation. It offers protection against personal liability, pass-through taxation, and flexible membership for owners.

Here are the main business entity types:

A sole proprietorship is the simplest business entity available. It is directly linked to one person, the owner, who is 100% responsible for its debts.

General Partnership: A general partnership is the simplest business entity for more than one person. All partners are responsible for the debts of the partnership and they all have decision-making authority.

Limited Partnership: A limited partnership is the same as a general partnership except for one major attribute: it allows the entity to have different types of partners (general and limited).

C Corporation: A C corporation is a business entity that is entirely separate from its owners. It is treated as its own “person” and has more stringent tax requirements than partnerships and sole proprietorships.

S Corporation: An S corporation is the same as a C corporation with two big differences: an S corporation offers pass-through taxation and has strict rules about who can participate in stock offerings - and how.

Limited Liability Company (LLC): A limited liability company (LLC) is a unique business entity that combines attributes of a sole proprietorship, a partnership, and a corporation. It offers protection against personal liability, pass-through taxation, and flexible membership for owners.

Read the full article: How to Choose the Most Advantageous Entity Type for Tax Purposes

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Decide How to Organize Your Financial Records

In order to be able to review, analyze, and take action on your business’s financials, you need to have an easy way to access all financial records. It’s extremely important to be able to find key financial data when you need it – both for your own internal purposes and in the event that your business gets audited.

These records include (but are not limited to):

  • Receipts
  • Employee Records
  • Contracts
  • Permits & Licenses
  • Bills & Invoices
  • Credit Card & Bank Statements
  • Assets
  • Previous Tax Returns

HAVING ORGANIZED FINANCIAL RECORDS GIVES YOU AND ANYONE REVIEWING YOUR FINANCIALS CONFIDENCE IN THE DATA.

Organizing these records isn’t complicated to start, but it can be a struggle to maintain over time. First, choose your document management system. Cloud-based document storage like Dropbox, Google Drive, or Onedrive can be great options to provide access to staff and admin rights to specific owners.

Within that document management system, you’ll need to create a structure that clearly shows where documents should be stored. Determine a naming convention so you can easily identify files. Give one or two people the ability to manage the folder structure and monitor naming conventions, to preserve the integrity of the system over time.

It might seem like a big chunk of work upfront, but it saves a lot of time down the road. Anyone reviewing your financials can quickly and easily identify the essence of each transaction in your accounting reports without having to ask for help. When an audit occurs, auditors can access everything they need with no extra input. Having organized financial records gives you and anyone reviewing your financials confidence in the data.

Choose Your Financial Technology Tools

With an accounting method, a business entity type, and a financial record organization, you’ve got a solid foundation to build on. Now it’s time to choose software to manage your accounting function.

This process starts with accounting software, but that’s likely not the only system you’ll need. There are a plethora of complementary tools that perform specific functions and communicate directly with your accounting system.

As you’re deciding, be thinking about other functions your organization needs that would tie into accounting. Here are a few examples:

  • Expense tracking
  • Accounts Payable
  • Invoicing
  • Payroll
  • 401K administration
  • E-verification

Accounting platforms offer a wide array of capabilities. While you’re evaluating your options, check to see if each platform has the options you need. Your preferred platform might include expense tracking features that allow employees to submit expenses and upload photos of receipts, for example.

But before checking the box, try out the workflow to see how the user experience is for key stakeholders (customers, staff, etc.). If it’s suboptimal, keep that one on your list for review as you evaluate complementary tools. There are independent platforms in the marketplace that cover all of these functions, and many of them will link directly back to your accounting platform.

Record Your Accounting Procedures

With all your accounting tools at your disposal, it’s time to determine how and when you will use them. That means documenting procedures that will guide your accounting organization.

These procedures are not set in stone. As your company changes and grows, so will the way you manage accounting. However, your accounting procedures will serve as the single source of truth for your finance function. Write them so that any bookkeeper or accountant can step in and follow the procedures with little to no guidance.

Accounting procedures will cover tasks performed by your accountant, bookkeeper, administrator, and employees. The best way to organize them is by frequency – i.e., daily, weekly, bi-weekly/semi-monthly, monthly, quarterly, and annually.

Read the full article: How Financial Modeling Drives Success for Growing Organizations

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Weekly Accounting

Here’s what your weekly procedures might look like:

  • Saving receipts, bills, invoices, etc. (Documentation)
  • Reviewing and scheduling unpaid bills (Accounts Payable)
  • Sending customer invoices (Accounts Receivable)
  • Evaluating cash flow statements (Cash)
  • Managing and approving expense reports (Expense Reporting)
  • Reviewing credit and loan agreements (Notes Payable)
  • Scheduling payroll, tax, and 401K disbursements (Payroll & Human Resources)

Once you’ve outlined all the steps, you’ll want to document policies and how they should be accounted for. Policies related to your accounting procedures include:

  • A Functional Expense Policy (for non-profit organizations)
  • Accounting for Service Charges vs. Tips (for restaurants)
  • An Equity Compensation Policy (for startups)

Each section of your accounting procedures should have step-by-step instructions. Your Accounts Receivable procedures on a weekly basis could include the following steps:

  • Run an Accounts Receivable Aging Report.
  • Review all invoices that are 90+ days overdue.
  • Email the following email template to each client.

After you’re done documenting all the steps and the associated policies, it’s a good idea to give the procedures a test run. Have your accountant and/or bookkeeper try them out. They might find some steps that are unclear and need revision, or manual processes that could be automated by your technology tools.

Know When to Outsource

Once you understand how to set up and manage your accounting function, it’s important to ask one more question: should you manage accounting in-house or outsource it? As with anything, you can make a case for either. Here are just a few of the reasons business owners choose outsourced accounting.

  • “I want to have an accurate balance sheet and P&L within 15 days of the month-end.”
  • “Things have been falling through the cracks.”
  • “Our current accountant is not staying up-to-date with new laws and technology.”
  • “We want to understand our business’s financial picture.”

If you are already strapped for time, have limited accounting staff and knowledge, or need to know where you stand financially, outsourced accounting can help close those gaps.

True expertise comes from outsourced accounting. External accountants working across multiple companies have vast experience and can offer best practice guidance. Some will have experience with multiple companies in your niche, giving you some industry-specific accounting knowledge.

IF YOU ARE ALREADY STRAPPED FOR TIME, HAVE LIMITED ACCOUNTING STAFF AND KNOWLEDGE, OR NEED TO KNOW WHERE YOU STAND FINANCIALLY, OUTSOURCED ACCOUNTING CAN HELP CLOSE THOSE GAPS.

Outsourced accounting reduces costs and increases compliance. Consider the cost of sourcing and hiring multiple team members to manage accounting – CFO, controller, accountant, bookkeeper, etc. An outsourced accounting firm will pull resources for each role type and design their engagements to ensure maximum efficiency across tasks, which will save you money and time. And the segregation of duties created by outsourcing removes the single point of failure and puts controls in place to segregate accounting tasks.

Strategic advisory services stem from outsourced accounting. Once an outsourced accounting firm is well informed about your financials, they can help you answer key questions like “Why am I not profitable?”. They’ll take complex accounting reports and translate them into actions that help you achieve your goals.

Read the full article: 4 Reasons to Outsource Your Accounting Function

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Successful Organizations Prioritize Accounting

Organizations that want to survive and thrive will invest time and resources in their accounting function. That might be setting up and managing accounting in-house, outsourcing it all to a trusted advisor, or some combination of the two. Whatever the case, it’s important to understand all the inputs that go into a successful accounting function so you can make an informed decision.

At RY CPAs, we understand exactly what it takes to empower organizations with proactive tax planning, real-time financial visibility, performance analysis, and trusted advice. Our accounting experts have delivered results across clients and industries, for organizations just like yours.

Want to learn how RY CPAs can help supercharge your accounting function? Schedule a discovery call today.

Our Net Promoter Score (NPS) is 10! On a scale of 1-10, 100% of our customers would recommend our company to a friend or colleague as 9 or 10. Speak with one our experts to see how we can set you up for success.

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