What’s the perfect bookkeeping setup? Does it really exist? And why would you care to have one?
Setting up the books is not an easy task. If you are not an accounting professional, most business owners are not…please don’t try doing it by yourself.
A set of books not setup properly will just give you a lot of headaches and frustrations later on.
So what’s the perfect setup? You will wonder if there is one,…it mainly depends on the needs of your business.
Do you have a business that needs only cash basis accounting? What’s cash basis you may ask?
Cash basis accounting is an accounting method that recognizes income and expenses only when cash is exchanged.
Accrual basis accounting recognizes business revenue and matching expenses when they are generated—not when money actually changes hands.
When you sell products or services which are getting paid on the spot and you buy your products or pay for your contractors without delay then your books is a good candidate for cash basis accounting.
Small businesses in the US usually use cash basis accounting. If you have a large business specially one that is inventory-based…then you need accrual basis accounting.
There are some businesses though that needs to use mixed cash basis and accrual accounting. For example, you don’t have inventory that you carry as current assets…but you send invoices to your customers and get paid within 15 days. Then you need to record invoices, collect payment, and record deposits. That’s an accrual accounting treatment!
Now that you know the difference between cash and accrual, and the option to use a mix of them, let’s discuss how to setup your books using a simple yet effective, 5-step process! Of course we will use QuickBooks Online but you can also use this process for other accounting software like Xero, Wave, etc.
Step 1: Setup Sync, and Categorize Banking Feeds
This may sound a bit complicated so let’s break it down a bit:
a. Bank Feeds Sync – Go to banking tab of QuickBooks Online and connect all your banks, credit cards, and PayPal you are using in your business. This will sync your banking transactions to bank feeds. This is by far one of the biggest thing we love on QuickBooks Online that saves a lot of time.
b. Categorize Transactions – Go to bank feeds and review the banking transactions that got synced. QuickBooks Online will automatically fetch transactions – expenses, deposits, credit card payment, and bank transfers. Then you just need to categorize them to correct vendor, customer, category, etc.
Step 2: Reconcile bank, credit card, and PayPal accounts
After categorizing all your transactions in step 1, it’s best to reconcile your bank, credit card, and PayPal balances against the monthly PDF statements provided in their website.
This ensures you do not miss anything and serves as internal control to identify problems in the banking side of your books.
Step 3: Record Invoices, Apply Payments, and Match Deposits
If you send invoices to your customers or clients and receive payments later. Then you need to record those payments and apply them to the invoices in QuickBooks Online. After that, you need to match the deposit coming into your bank account to the payments recorded.
a. Recording of payments against invoices
b. Matching payments to deposits
Optional Step: Record Checks or update the details and category
If you have paid a lot of checks, the bank feeds does not import a good description and name for checks. It will only have the word “Check” and the number of the check.
To categorize checks properly you need to get the check images and update the vendor name, description of what has been paid, and the proper category of expense.
It’s a good practice to attach the check images to the check entry in QuickBooks Online for reference and security.
Step 4: Run Reports, Analyze, and Revise.
After all categorization, reconciliation, and supplementation of additional data is done. It’s time to run your reports.
Three most basic reports you like to look at are:
a. Profit and Loss – shows your income, cost of goods sold, or cost of sales, operating expenses, and net income. It basically tells you how your business performed in the last period (monthly or yearly)
b. Balance Sheet – shows the assets owned by the company, the banks, credit cards, and liabilities, as well as the ownership equity you have. It basically tells you how your company is growing, is it from revenue generation and retention, or from borrowing money from external source.
c. Statement of Cash Flows – shows you how well your business is generating cash by revenue activities or by borrowing, and how you are spending it to pay for expenses, investments, and owner drawings. This is extra helpful in managing your cash in the long term. Increasing cash flow will help you run your business more smoothly. Decreasing cash flow will give you a tight budget and bottleneck in operations.
When you run the management reports, you may find that some things are having issues or you might need to change something to make your books more accurate.
Review each account and see if it looks correct or just the way you want it to be.
If it’s not, then it’s time to correct, revise, and improve.
It’s specially helpful to read balance sheet accounts to make sure nothing is out of the ordinary such us negative asset amounts or negative liability amounts.
Step 5: Revise the Chart of Accounts
When you started, you may find that the chart of accounts is not well-organized. But it’s not ideal to revise it at the beginning since you may change things from time to time when recording your transactions.
So after the reports are done, it’s good to look at them and see if you want to change how information is presented by re-organizing the chart of accounts.
For example, if you want to change the names of the accounts, make parent accounts and sub-accounts, or create a group of direct costs to match against revenue. Then it’s the time to make those changes.
This will make your management reports easier to understand, easier to use, and more pleasing to look at.
After you have done all the steps above, you will feel confident that you have a great set of books to use and be more excited in using the information to make better business decisions.
If you have a business that needs more than the steps we explained above, or you need help in setting your books up…please don’t hesitate to contact us.