Small Business Accounting 101

First Republic Bank
March 10, 2022

  • Understanding the key words and general process of small business accounting is an important part of understanding your business's financials now and in the future.
  • Small business owners can choose different types of accounting methods, such as cash or accrual, that provide different insights into a business’s financials.
  • Financial professionals, such as CPAs, can help businesses develop a deep, accurate understanding of their financials and can be key for tax preparation during tax season.

New small business owners may not be aware of how important accounting is to maintaining — and ultimately growing — a business. However, small business accounting generates reports and detailed insights that help business owners make informed financial decisions for their company.

Knowing the main concepts of small business accounting can help small business owners ensure that their business is thriving and growing, and help them be certain they’re prepared for important financial milestones throughout the year, such as key reporting periods and tax season.

Explore the following key tips to better understand the ins and outs of accounting for a small business.

Step 1: Understand key accounting terms

A first step in having a working knowledge of small business accounting is understanding certain general terms. Having a top-level sense of the meaning of these essential, oft-used terms will set you up for next steps:

  • Financial statements: Reports that show the current financial state of a business, including activities, financial positions, assets and liabilities and more
  • Balance sheet: Financial statement that shows a business’s assets, liabilities and shareholder equity
  • Income statement (or profit and loss [P&L] statement): Financial statement that measures profitability and performance over time
  • Cash flow statement: Summary of the business's cash inflows and outflows 
  • Payroll: Total salary and wages paid to a company’s workers
  • Accounts payable: Money due from the business to other parties
  • Accounts receivable: Money due to the business from other parties
  • Certified public accountant (CPA): Officially accredited financial professional, who can help businesses with detailed financial reporting and taxes
  • Bookkeeper: Financial record-keeper for a business; does not need to be a CPA to perform duties

Step 2: Choose your accounting method

As a small business owner, you have options for the type of small business accounting method you choose to use. This is an important decision, since different accounting methods lead to different financial insights.

The two most common accounting methods businesses choose from are:

  • Cash basis accounting: Based on when cash enters and exits the business only; does not utilize accounts receivable or accounts payable; calculations are based on when a transaction has occurred
  • Accrual basis accounting: Based on when revenues or expenses are recorded, versus when they are actually received or paid out; contingent on accounts payable and accounts receivable record-keeping 

There isn’t a “best” for all businesses — each company can take a different approach.

Some small business owners choose cash basis accounting. This method can sometimes be easier to maintain since it is based on the actual date of the cash inflows and outflows, not accruals. This can also help businesses understand exactly where they are with cash flow at a given time.

Other business owners choose accrual basis accounting since this method can help them understand transactions over certain periods of time and thus set them up for a longer-term picture of the business’s financials.

Step 3: Separate business and personal expenses

To simplify small business accounting, it’s important to separate personal and business expenses. Doing so can include holding a dedicated business bank account (such as checking, savings or both) and business credit card for company-related expenses as well as separately recording transactions and debits specific to the business. Accounting software can usually do this automatically. This can help streamline the expense reporting process, as well as keep business financial records well organized, especially come tax time.

Step 4: Choose an accounting software

Choosing the right accounting software can take the guesswork out of accounting, show business expenses with ease and help small businesses owners get real-time and long-term views of their company financials.

Various small business accounting software options include different features, data entry methods, fees and levels of reporting, so business owners may want to consider the following when looking into options:

  • Mobile app option
  • Automated reporting
  • Cost (free, monthly fee, one-time purchase)
  • Syncing with or linking to other business systems or software (Some banks have limitations on which accounting platforms they sync with.)
  • Ease of use for business owner versus trained bookkeeper or financial professional

Once the accounting software is set up, you should be able to better monitor your business transactions.

Step 5: Monitor your business expenses

Actively monitoring your business’s transactions — both inflows and outflows — is a key part of small business accounting. As such, business owners should understand the business’s cash flow(s) and store the documentation to ensure appropriate reporting.

Some of these documents to have on hand for monitoring purposes include:

  • Bills
  • Invoices
  • Receipts
  • Tax returns
  • W2s and 1099s
  • Bank statements

Detailed, accurate monitoring and record-keeping is important for both small business bookkeeping and accounting, but it’s important to note each handles unique aspects of a business’s financial information. While both handle transactions, bookkeeping is organizing financial information, while accounting additionally analyzes the information from the reports generated.

Once all of a business’s expenses are tracked, it’s time to talk tax season.

Step 6: Understand your business’s taxes

When tax time comes around, businesses will have to use their detailed accounting and reports to file their tax return with the Internal Revenue Service (IRS). The accuracy and detail of your accounting throughout the year will affect your tax preparation; the more precise and comprehensive your records are, the more streamlined your process may become.

For many small businesses, hiring a financial professional for tax preparation can be a crucial step to ensuring a business’s accounting is handled properly for that specific business’s needs. A professional can help business owners sort through information regarding their income taxes, sales tax and more.

Step 7: Consider hiring a financial professional

Taxes vary for each business, and some small business owners may be able to handle accounting duties themselves using accounting software. However, many choose to hire a professional accountant or accounting firm.

Working with a tax professional for assistance can help make sure your taxes are completed in both a timely and an accurate manner, and a professional will tailor the process to your business's unique situation.

Ultimately, for tax season and beyond, small business accounting is a powerful tool for business owners to oversee all elements of their financial health and should be performed with care to ensure accurate reporting.

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