A Guide to Setting Up Your Business Accounting: Key Considerations
When establishing the accounting setup for your business, one of the most important decisions you'll make is choosing the right accounting method. This choice will impact how you manage financial records, tax planning, and overall business strategy. Here's a breakdown of the most important considerations when approaching your accounting setup:
Cash Basis Accounting
Many small business owners prefer cash basis accounting due to its simplicity and cost-efficiency. With cash basis accounting, income and expenses are recorded when cash is actually received or paid, making bookkeeping straightforward. This method is particularly suitable for small, privately-owned businesses that don't have to adhere to Generally Accepted Accounting Principles (GAAP) or deal with external investors or regulatory bodies.
For businesses with fewer reporting requirements, cash basis accounting offers a less complex approach to keeping track of finances. It requires minimal adjustments and helps reduce the overall cost of maintaining your accounting records.
Accrual Accounting
On the other hand, accrual accounting may be a better choice in certain scenarios, especially if your business is growing or you manage more complex financial transactions. Unlike cash basis accounting, accrual accounting recognizes income and expenses when they are earned or incurred, regardless of when the payment is made. This approach provides a clearer picture of your business’s financial health by matching revenues with the expenses related to generating them.
Key advantages of accrual accounting include:
- Control Over Income Recognition: Accrual accounting offers the flexibility to manage when income is recognized. This can be beneficial for tax planning, allowing you to defer taxable income to the next year if necessary.
- Handling Large Profits and Inventory: Businesses with higher profits or significant inventory needs may be required to use accrual accounting. It ensures that inventory is accurately accounted for and better reflects your business's overall profitability.
For many small to mid-sized businesses, cash basis accounting is enough. However, as your business grows or if you have specific financial reporting needs, transitioning to accrual accounting may offer more long-term benefits.
The Role of Accounting Software and Professional Support
Regardless of the accounting method you choose, having the right tools in place is crucial. Modern accounting software, such as QuickBooks Online (QBO) and Xero, simplifies many aspects of financial management, particularly bank reconciliations. Automated reconciliation processes save time and minimize errors, but professional oversight is still important. In our experience, most business owners struggle with accurate bank reconciliations as this is obviously a boring and time consuming chore. That's why it may make sense to outsource bookkeeping who can do it for you.
Integrating Tax Planning with Accounting
For businesses structured as pass-through entities like S Corporations, accurate and timely accounting is important for effective tax planning. Since these businesses pass net income to the individual level for taxation, having up-to-date correct financial records is critical for determining tax strategies. Without proper accounting, tax planning becomes guesswork with surprise tax bills later on in the tax season.
Outsourcing Your Accounting
As we mentioned before, outsourcing your accounting can save you time and money. These days online accounting software allows to add accountants to clients books virtually by simply sending an email invitation. Accountants log in into the client's software account and perform bank reconciliations on the clients' behalf. Since CPAs also know tax, they can also prepare your books for the tax season as they do bookkeeping. Here are a couple main tax services we perform while working on clients financials:
- Categorizing New Purchases: We ask you questions about big item purchase so that we can figure out how to correctly categorize them on your tax return. By properly categorizing the asset, we will be able to make a timely tax planning decision on whether we can ( and want ) expense it in the current tax year or it is better to stretch out depreciation expense over the next several years
- Accountable Plan Reimbursements: We send timely reminders and process reimbursements, ensuring compliance with S Corporation rules. We also properly book these reimbursements in your books - something that an accounting software cannot do yet, since it requires manual decision
- Record Keeping: We maintain detailed and accurate receipts of most of the transactions, which can come in handy in the case of an IRS audit.
Accounting Service Options
Not all small businesses want to pay for monthly accounting services. And this is understandable. If profits are small, accounting costs will eat up your profits. Here are two additional options that you could consider. They are usually cheaper, since they require less of the bookkeeper's attention.
- Quarterly Accounting: This is a more affordable option, since this service includes quarterly work, meaning that the accountant will jump on your books only once each quarter. This approach still works for tax planning since estimated tax payments are due each quarter and you have a lot of time to fix things
- Yearly Write Up: This is a one time project when the accountant work on business financials only once a year and does all accounting at once. This is so called a post fact accounting and it works for some business owners. However, by the time the client gets around to the write up, many tax planning opportunities are missed. Yearly write up options work well for business owners with a predictable yearly income and little desire for tax planning.
In conclusion, when setting up your business accounting, it’s important to weigh the benefits of cash versus accrual accounting, invest in the right software, and consider outsourcing, which will help you save time. Our firm ensures that your accounting is handled on time, providing a clear picture of your financial situation and allowing you to take advantage of all available tax-saving strategies. You can check out services here.