Mistakes are a part and parcel of our life. However, some mistakes can always be rectified while some give us pain for eternity.
Rajiv had always been good with numbers and had always wanted to be an entrepreneur. So, after finishing his graduation, he set up his startup and started recruiting, pitching to clients, and delivering projects to them before hitting the deadlines.
However, just after three months, he suffered a major downfall owing to one common accounting mistake he made while managing his finances solely in the initial days. It brought his business almost on the verge of closure, but he was smart enough and instantly took a subscription of cloud-based accounting software to recuperate the losses and the net revenue.
These kinds of episodes are quite common for people who do not understand the nuances of accounting. If you’re one of them, keep scrolling and enlighten yourself on why accounting is important for business, what are its types, and common bookkeeping mistakes that one commits.
The Art of Accounting
Accounting is a process that helps an organization in achieving its goals and objectives. It helps assemble, organise, and communicate information about its activities and is an integral aspect of doing business today. While accounting is essential, the role of an accountant in a company can also not be undermined. This is because they work at two levels: financial and managerial. Let us first understand all about this.
The role of accounting is as old as the Mesopotamian civilization. Accounting is not business as such but something that helps a company move forward in its objective. It records and summarises business and financial transactions. Once this is done, it becomes easier to analyse, verify and report the results – and also understand whether the business is in profit or loss. All transactions carried out are documented, and so is every aspect of the business.
In other words, accounting is the bloodline of any business. It helps understand the financial health of the company and helps in assessing the assets, liabilities, and cash flows. It is also a great way to foresee the future of the business and apply for possible investment. Accounting is thus, a vital part of the modern business environment.
Types of Accounting in Business
Income and expenditure tracking
A business is required to fill out tax forms based on gross revenue and net income. For all these processes, it is important to track income and expenditure. Break down earnings into various categories and even categorise the expenses.
Apart from the salaries, businesses also incur other expenses on employees such as medicare. This makes it important to maintain a comprehensive and up-to-date payroll accounting system that can keep track of these numbers.
Cash flow accounting
Accounting systems also have the tools to track the availability and need for cash. A cash-based accounting system will give a fair idea of income and expenditure. This is called cash flow accounting.
This is nothing but a snapshot of a company’s financial picture. The list of assets includes cash in the bank, equipment purchased, etc. The list of liabilities includes balances due on loans and credit cards, and shorter-term debts. Subtracting liabilities from assets gives the accountant an idea of the company’s current net worth. Accounting helps in the creation of timely balance sheets and shows how much of this net worth is liquid, and what is tied up in assets.
The role of management accounting
Managerial accounting refers to providing accounting information to managers and enabling them to make decisions and perform their role with ease. It is different from cost accounting which refers to recording the costs incurred. Financial accounting, on the other hand, revolves around making financial statements for both internal and external purposes and all stakeholders concerned with the business.
Management accounting also helps in providing information to support strategic, performance, and risk management. It helps in influencing the behaviour of managers and employees and furthering the company’s vision and goals. Professor John Hassell of Indiana University’s Kelly School of Business says that management accounting “provides managers with information, such as product costs, budgets and cash flows. The information includes financial and non-financial data that helps managers with strategic planning and decision-making.” In addition, this kind of accounting helps in directing and controlling. This includes analysing and comparing actual performance to budgeted plans. It also directs the attention of relevant stakeholders to problems areas or the success achieved. Some other benefits of this are as follows.
- Managers are motivated to achieve organisational goals through communication, measuring how well it was achieved, and prompting an explanation of deviations from plans.
- It can help measure the performance of the entire organisation as well as specific sub-units, departments, and divisions – including the individuals therein.
- It can help assess the level of competitiveness of the organisation in a changing business environment. It also helps measure how well the organization is working internally and where the financial loopholes are.
The role of financial accounting
Financial accounting has a very vital role, particularly where small businesses are concerned. It helps the owners in sharing information with external parties. This can be done through their financial statements which are the outcome of the financial accounting transactions carried out through the year. These external parties can then examine the financial statements and compare them with their expectations. Some of these external users are banks, suppliers and leasing companies. Some other reasons for the role of financial accounting are given below.
- Suppliers provide products and services and therefore want to ensure they get the balance sheets on time. This ensures prompt payments for their goods.
- Statements are also important for creditors and banks that provide loans and other services. For them to do so, business needs to give them a financial overview.
- Since employees, too, provide their services to a business, they must understand the business figures. It is also a reassurance that the business is viable and that it is making profits or otherwise.
- Financial statements are also essential for government bodies that provide various kinds of permissions. Many government bodies also ask for company books, and it is the role of an accountant to keep these current and updated.
Roles and responsibilities of an accountant
It is imperative at this juncture to understand the various responsibilities an accountant has in any organisation. They are as follows.
- Examine bank statements and check them with general ledger entries. They also examine expenses submitted by employees.
- Accountants keep an eye on both incoming and outgoing payments from the accounts payable
- They create financial reports for businesses and also collect, analyse, and summarise the account information and trends
- They analyse the data collected to determine how the financial health of the company is and understand the profits and losses incurred.
- Accountants are responsible for preparing asset, liability and capital account entries. They do this by compiling and analysing account information
- Accountants also document every financial transaction in the company.
- They recommend the best financial actions and summarise the current financial status
- They also help businesses comply with federal, state and local financial, legal requirements. They do this through a study of existing and new legislation.
- Overall, accountants ensure that the customer confidence in a company is not lost and protect operations by keeping financial information confidential.
Common bookkeeping mistakes
There are several accounting applications available today, which have made it easier for accountants to keep an accurate record of where the company’s money is being spent. Although these applications and software have made things easy, they are also prone to certain errors and can cause accounting problems. These can stem from incorrectly categorising transactions to other things. While it is possible to correct the minor accounting mistakes, major ones can prove detrimental to the health of a business. They can also lead a business towards insolvency or company administration.
Given that small businesses have fewer resources, it is mostly a few people handling various tasks together. Though this may seem like a good way to save up on money and resources, it can also lead to several mistakes. Another thing to consider is that often startups or small businesses do not even realise these mistakes until a professional accountant points it out to them. Of all the difficulties is the one related to balancing the books and planning for taxes.
In this segment, we list down some of the most common accounting mistakes that can jeopardise the functioning of the organization and its transactions. It will also help you understand the simple ways to maintain your business accounts and how a business accountant can benefit you.
Accounting is an important part of any business, large or small, and it is so much more than adding and subtracting. Small businesses usually assume that accounts won’t be much work and they can handle it on their own; they also think that it’s a good way to save money. However, taking on all the accounting responsibilities may not be the best idea for you.
If you encounter any accounting errors, it can cost your company a lot of expenses. Thus, you will want to invest in accounting software on the cloud to avoid messing up numbers that will interfere with the growth of your company.
Not following accounting procedures
Irrespective of the type of business, it is important to set up formal, documented, and detailed procedures to manage bookkeeping and other related accounting procedures. One way is to develop standardised forms and checklists for consistency and accuracy. For instance, whenever you sign up a new vendor, make sure to record all their details, including name, address, telephone number, and other such aspects. This information can be entered into the accounting software and will aid when you need to process payments.
Not having a budget
To judge a business’ operating results, it is important to have a budget in place. This becomes the baseline. Budgets help in curbing any kind of overspending and in establishing realistic, written financial objectives. Make sure the budgets are grounded in reality and set reasonable growth goals.
Data entry errors
These are a part of any business. However, though it may not be possible to prevent them entirely, it is a good idea to have a process to perform various reconciliations in a timely manner. This will ensure that any errors are detected at the earliest and corrected. For instance, monthly bank reconciliations, as well as accounts receivable and payable reconciliations. It is also better to run budget-to-actual variances as they enable in the identification of errors. Make sure you also review any unusual transactions that can creep up so that there are no data entry mistakes.
Not backing up the accounting software
One of the common accounting mistakes that most entrepreneurs do is not keeping a backup of their data. As an organization, you must ensure that your accounting software is taking the backup of all the mandatory files without any hiccups. To avoid making the task cumbersome, you can always enable the automatic backup option in your software and ensure it runs on time.
Another factor that can jeopardize your financial aspects is malware intrusion corrupting the files. So, it’s always a good idea to double-check that your backup process is running smoothly, and your system is virus-free at all times. Having said that, you do not have to worry about data loss and backups when you opt for cloud-based accounting software and make good use of it.
Doing it all yourself
To ensure that you can perform to your optimum levels, it is imperative to outsource administrative tasks. For example, accountants are better versed in handling finances and bookkeeping aspects. They can also regularly inform you of your tax liability, compliances, and leave you with more time to devote time to other activities.
Outsourcing accounting, legal, IT, and other administrative functions can reduce errors and increase your profitability.
It’s quite normal for an entrepreneur to display affection and be passionate about their business since they started it from scratch and dream of converting it into a successful venture. However, the mindset to perform all tasks by themselves in the initial days often triggers a pattern of delivering poor quality service to the clients tanking the revenues big-time.
To ensure your venture runs smoothly, it’s imperative that your accounting and bookkeeping is accurate. However, if you don’t understand accounts, managing the books can eat most of your time messing up other tasks at hand. So, it’s best that you rely on cloud-based accounting software like GIDDH to ease up your accounting woes. By having a cloud accounting software by your side, you not only minimize your common accounting mistakes but also get ample time to focus on other important parts of your venture.
Going for cheap methods:
Most entrepreneurs commit this mistake of purchasing an offline and cheap alternative to accounting software to save money. However, what they fail to realize is that relying on cheap software for their accounting needs can often backfire and lead to payroll mistakes. So, if you’re looking for quality and best services, invest in GIDDH – accounting software on the cloud that helps you deliver quality work, in the long run.
Not knowing the difference between profit and cash flow:
This is one of the common accounting mistakes, and it can lead to significant losses if the entrepreneur doesn’t understand that cash flow and profit are different.
Cash flow is the money that flows in and out of the company, and it comes from financial activities, investments, and other operations. Profit is what remains after the company’s expenses are done. Once you understand the difference between the two, you will have to keep track of the stuff you are spending, versus the stuff you are selling. It’s highly suggested that you review all the financial statements (monthly), this will give you a clear sense of the situation and the business you are handling.
Not categorising income and expenses properly
Accounting with the shoebox method is not always the best choice. Make sure you assign all the incoming and outgoing money in your business to the appropriate category. It is only when you stay on top of your accounting records that you can avoid mistakes. Doing this will also smoothen out your year-end tax preparation. Make sure you do not fall into the trap of preparing your business’ tax return right before the return is due.
Your bookkeeper must be fully aware of and have all the information about what is going on in your business. This information should be clearly communicated to the accountant. Even seemingly small communication errors can lead to serious issues and extra work down the line. Keep a paper and book-based record of all small and big transactions, digitised or otherwise. Get your accountant to communicate with you in layman terms if you do not understand certain terminology. Pretending to understand can often land you in trouble. The accountant should also make it a point to communicate in terminology that everyone understands and answer all pertinent questions well. This will help everyone involved in the business function as a cohesive unit.
Mixing personal and professional
Never mix business and personal finances – there are many business owners who fall on their face after doing so. Keep the money separate and distinct. This will help you and the accountant to specifically track what was used for business and where the spending was on personal cases. Make sure your business account is always separate.
Managing and forecasting cash flows
A business cannot be successful without enough cash flows. Several factors impact the business cash flow. This includes accounts receivable, inventory, and the debt payments. Considering these factors will help the owner and in turn, the accountant, to determine how much cash is required. If the cash flow is not enough, the accountant can advise on the course of action as well.
Being unaware of accounting terminologies
Many small business owners are unaware of key business accounting terms and procedures. These include setting up controls, bank reconciliation, and even balance sheets! There are several online guides available to make you adept in these terms. What is important is to give this time and apply specific procedures and tax laws where appropriate.
No matter whether your business is small or big, an appropriate human resource as an accountant and managing the accounting duties can be a big asset. Omit blunders by being a little more careful and ensuring that the accounting processes are all up to date. The common accounting mistakes mentioned above are gathered for your advantage and ensure that your business is a success and not a failure. Correcting even one mistake and filling an accounting loophole can mean profit and a big name in the business world for you.