“I love bookkeeping!”...said no one, ever. When you’re building a business, bookkeeping is simultaneously the last thing you want to do yet one of the most important things that needs to get done. For startups in particular, it’s extra important to maintain an accurate account of your business’s financials as you seek funding, advice, and more.
Without going too deep down an accounting rabbit hole, here are the top 3 bookkeeping errors that early stage companies should avoid in order to help their business run smoothly, from a financial perspective, from day one.
1. Mixing Business and Personal Expenses
This is probably the most common error among new founders and one that can be easily avoided. Come tax season, it will be very difficult to deduct business expenses from your business taxes if all of your expenses come from a personal account.
Apart from complicating your taxes, using a personal account for business expenses won’t give you an accurate picture of what the health of your business really looks like. Time and time again, business owners think they have things under control only for the mess to become too much to untangle.
The Fix: Open a bank account and/or credit card for your business. It’s fast and simple in the majority of cases and saves you so much frustration in the long run.
2. Using Single-Entry Bookkeeping
There are two options to business bookkeeping: single-entry and double-entry. Single entry is straightforward like our bank statements, but it is also more vulnerable to errors and fraud.
Double-entry bookkeeping requires each transaction to be recorded twice in two separate accounts, as a debit and as a credit. For example, if you buy a new chair that costs $200, you’ll record $200 leaving the cash account, just like you would in single-entry. However, you’ll also show $200 entering an asset account, showing that you now own $200 worth of chairs.
The most important thing is that the totals have to match. With double-entry, if you enter the wrong amount for something, the totals won’t match, and you’ll be able to track down what went wrong. As a result, you’ll get more accurate books, and a more reliable view of your finances. There’s a reason double-entry bookkeeping is the industry standard as part of GAAP principles.
The Fix: As soon as you spend your first dollar on your business, implement double-entry bookkeeping. Your investors and stakeholders will want to see accurate books. And you’ll thank yourself when you know you can show accurate balances.
3. Implementing Cash-Basis Accounting
When you start a business, you’ll have to decide on an accounting method. Cash-basis accounting is more straightforward: you record when money comes in or out. If you close a deal in February, but the client doesn’t pay until April, you record the transaction in April.
In accrual-basis accounting, transactions are recorded when they happen, regardless of when the money gets paid. So that February deal gets recorded for February.
The downfall of cash-basis accounting is that it can make it look like your business is lagging in activity, whereas from an accrual perspective, it makes it easier to see that your business is making a steady amount of sales. This helps investors, lenders, and you get a better idea of how your business is doing.
The Fix: Just as with double-entry bookkeeping, accrual-based accounting is an industry standard, and one that most businesses eventually adopt. In fact, at a certain size, the IRS requires it.