How Are You Accounting for Your Business?

August 31, 2011

Running your own business is not a simple task, and perhaps one of the most stressful parts is dealing with and accurately accounting for money coming in and money going out.  Whether you sell custom-made jewelry, pet food ingredients, or consulting services, your business will require some form of accounting.  The term accounting alone can make even the most stoic business owner wince with anxiety. However, by understanding a few basic accounting concepts, you’ll discover that accounting is a tool that helps  you “account for” what your business has done, is doing, and hopes to do in the future.  

Most businesses typically use one of two basic accounting methods – cash basis or accrual basis. While almost all large businesses use the accrual basis, the most appropriate method for your company will depend on your current sales volume, whether or not you sell on credit, and your business structure.  It makes sense that the cash method is used by many sole proprietors, LLCs and businesses with little or no inventory.  The cash method is simple; the books are kept based on the actual flow of cash in and out of the business.  Income can be recorded when it is received, and expenses reported when they are actually paid.  From purely a tax standpoint, it can be advantageous for new businesses to use the cash method of accounting.  Recording income can be put off until the next tax year, while expenses are counted right away. 

With the accrual method, income and expenses are recorded as they occur, regardless of whether or not cash has actually changed hands.   A sale on credit is a good example.  The sale is entered into the books when the invoice is generated rather than when the cash is collected.  On the expense side, an expense occurs when materials are ordered or when a workday has been logged in by an employee, not when the check is actually written.  The downside of this method is that you pay income taxes on revenue before you’ve actually received it.  The accrual method is required if your annual sales are more than $5 million, your business is structured as a corporation, and/or your business carries an inventory.  Although it is not required, it is recommended that businesses that sell on credit use the accrual method, as it more accurately matches income and expenses during a given time period.

In California, it is especially important that a business have sound business accounting and tax practices.  Numerous tax penalties exist for those who do not comply with the letter of the law. At Wallace & Associates, we can provide a complete range of cost-effective accounting services as well as provide constructive solutions for maximizing your company’s profitability and efficiency.