Bookkeeping & Accounting All-in-One For Dummies®
Published by: John Wiley & Sons, Ltd., The Atrium, Southern Gate, Chichester, www.wiley.com
This edition first published 2015
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ISBN 978-1-119-02653-2 (paperback); ISBN 978-1-119-02660-0 (ebk); ISBN 978-1-119-02661-7 (ebk)
Welcome to Bookkeeping & Accounting All-in-One For Dummies! This book explains the different roles that both bookkeepers and accountants take on within a business. If you’re a one-man or one-woman band, however, don’t worry; within these pages you too can find out how to do the bookkeeping basics and see the ways in which an accountant can assist you further.
This book aims to help you understand the bookkeeping tasks that need to be done within your business and to demonstrate how an accountant can help your business to set targets that will hopefully expand and grow.
Bookkeeping & Accounting All-in-One For Dummies is divided into six separate books. Each book is split into several chapters that tackle key aspects of bookkeeping and accounting functions. The Table of Contents gives you more detail of what is contained within each chapter. Each chapter presents information in a modular fashion so that you get all the information you need to accomplish a task in one place. You don’t need to remember things from different parts of the book; if another chapter has information relevant to the discussion at hand, you’ll find a cross reference telling you where to find it, so you don’t have to read the chapters in order. You can read the chapters or sections that interest you when it suits you.
If you end up reading all that there is to read in this book, but find you still want more, check out the extra information in these For Dummies titles (all published by Wiley):
Bookkeeping & Accounting All-in-One For Dummies makes some key assumptions about who you are and why you picked up this book, and assumes that you fall into one of the following categories:
If any – or all – of these assumptions accurately describes you, then you’ve come to the right book!
Every For Dummies book uses icons to highlight especially important, interesting or useful information. The icons used in this book are:
At www.dummies.com/extras/bookkeepingaccountingaio
you can access some online extras, just in case you need a bit more help and guidance! You can also find the handy cheat sheet at www.dummies.com/cheatsheet/bookkeepingaccountingaio
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You’re now ready to enter the world of bookkeeping and accounting. If you’re a complete beginner, starting at the beginning and gradually working through from there is probably the best approach. If you have some experience, but are a little rusty in certain areas, you can pick and choose the chapters that are most relevant to you. After all, this book is designed for you to dip in and out of as you like. I hope that you find it a useful tool for developing and managing your business.
Book I
In this book …
Chapter 1
In This Chapter
Introducing bookkeeping and its basic purpose
Maintaining a paper trail
Managing daily business finances
Making sure that everything’s accurate
For many small business owners, while they love working in their chosen field using the skills they know and love, they don’t always like to perform ‘bookkeeping’ duties. Most company owners prefer to employ the skills of a qualified bookkeeper. Some may, perhaps, prefer to give their bag-full of receipts to their accountant and simply hope that a useful set of accounts comes out of the end of the accounting sausage machine!
In this chapter we help to demystify the role of a bookkeeper. It may be that you’re just starting off in business and, as a result, can’t afford the services of a bookkeeper just yet! Think of this chapter as a checklist of jobs that need to be done.
Throughout the book, we introduce Have a Go sections, which are practical exercises aimed at helping you understand the bookkeeping principles we discuss. Feel free to draw all over these sections of the book; we want it to be as useful for you as possible.
Like most businesspeople, you probably have great ideas for running your own business and just want to get started. You don’t want to be distracted by the small stuff, like keeping detailed records of every penny you spend; you just want to build a business with which you can make lots of money.
Well, slow down there – you’re not in a race! If you don’t carefully plan your bookkeeping system and figure out exactly how and what financial details you want to track, you’ve absolutely no way to measure the success (or failure, unfortunately) of your business efforts.
You can’t keep books unless you know how to go about doing so. The two basic accounting methods are cash-based accounting and accrual accounting. The key difference between the two methods is the point at which you record sales and purchases in your books. If you choose cash-based accounting, you only record transactions when cash changes hands. If you use accrual accounting, you record a transaction on its completion, even if cash doesn’t change hands.
For example, suppose that your business buys products to sell from a supplier but doesn’t actually pay for those products for 30 days. If you’re using cash-based accounting, you don’t record the purchase until you actually lay out the cash to the supplier. If you’re using accrual accounting, you record the purchase when you receive the products, and you also record the future debt in an account called Trade Creditors.
We talk about the pros and cons of each type of accounting method in Book I, Chapter 2.
Every business has three key financial parts that must be kept in balance: assets, capital and liabilities. Of course, for some of you these may be alien concepts, so maybe a quick accounting primer is in order.
The formula for keeping your books in balance involves these three elements:
Because this equation is so important, we talk a lot about how to keep your books in balance throughout this book. You can find an initial introduction to this concept in Book I, Chapter 2.
To keep the books, you need to revise your thinking about two common financial terms: debits and credits. Most non-bookkeepers and non-accountants think of debits as subtractions from their bank accounts. The opposite is true with credits – people usually see credits as additions to their accounts, in most cases in the form of refunds or corrections in favour of the account holders.
Well, forget all you think that you know about debits and credits. Debits and credits are totally different animals in the world of bookkeeping. Because keeping the books involves a method called double-entry bookkeeping, you have to make at least two entries – a debit and a credit – into your bookkeeping system for every transaction. Whether that debit or credit adds or subtracts from an account depends solely upon the type of account.
We know all this debit, credit and double-entry stuff sounds confusing, but we promise that this system is going to become much clearer as you work through this book. We start explaining this important concept in Book I, Chapter 2.
You can’t just enter transactions in the books willy-nilly. You need to know exactly where those transactions fit into the larger bookkeeping system. To know where everything goes, you use your Chart of Accounts, which is essentially a list of all the accounts that your business has and the types of transactions that go into each one. (We talk more about the Chart of Accounts in Book I, Chapter 3.)
Before you start up in business, you’re wise to sit down and have a think about the structure of your business.
For example, if you’re a window cleaner, and only ever see yourself doing your own rounds and not working with anyone else, then sole trader status would be more than adequate. However, if you’re planning to be much bigger and take on staff, then you need to read Book V, Chapter 1 to see how you should structure your business and what sort of advice you may need.
Many businesses just start up and trade from day to day, without any real planning or control of the activities they undertake. Often, businesspeople become so busy that they’re fire-fighting continually and lack any real direction. We like using checklists, because they help to organise your bookkeeping activities in a methodical and orderly manner. This level of organisation means that you can pick up and put down the accounts from day to day or even week to week. You can always start from where you left off, quickly and easily, by simply adopting some of the hints and tips contained within Book II, Chapter 1.
Every business owner needs to be concerned with keeping tight controls on business cash and how that cash is used. One way to institute this control is by placing internal restrictions on who can enter information into your books and who has the necessary access to use that information.
You also need to control carefully who has the ability to accept cash receipts and spend your business’s cash. Separating duties appropriately helps you to protect your business’s assets from error, theft and fraud. We talk more about controlling your cash and protecting your financial records in Book II, Chapter 1.
The books are also known as journals or ledgers (we told you it was a bit confusing!). You’d normally have one book for your sales, one for purchases and then a general one used for everything (often known as the General Ledger). Sometimes, businesses would also keep a separate cash book, which would record cash received and cash paid.
Nowadays, most people use computers to do their accounts (anything to make our busy lives easier). The most simplistic set of accounts can be done on a spreadsheet, although we don’t recommend it because mistakes can easily be made and you’ll struggle to find an efficient way to make sure that the books balance.
The pinnacle of your bookkeeping system is the Nominal Ledger. In this ledger, you keep a summary of all your accounts and the financial activities that took place involving those accounts throughout the year.
The sum of each Nominal Ledger account can be used to develop your financial reports on a monthly, quarterly or annual basis. You can also use these account summaries to develop internal reports that help you to make key business decisions. We talk more about developing Profit and Loss statements and Balance Sheets in Book I, Chapter 3, when we introduce the Chart of Accounts.
We explain more about developing and maintaining the Nominal Ledger in Book I, Chapter 4. We also discuss the importance of journals and talk about the accounts commonly journalised in Book I, Chapter 4.
After you set up your business’s books and put in place your internal controls, you’re ready to use the systems you’ve established to manage the day-to-day operations of your business. A well-designed bookkeeping system quickly makes the job of managing your business’s finances much easier.
Everyone wants to know how well sales are doing. If you keep your books up-to-date and accurate, you can easily get those numbers on a daily basis. You can also watch sales trends as often as you think necessary: daily, weekly or monthly.
Use the information collected by your bookkeeping system to monitor sales, review discounts offered to customers and track the return of products. All three elements are critical to monitoring the success of the sales of your products.
When sales tracking reveals an increase in the number of your products being returned, you need to find the reason for the increase. Perhaps the quality of the product you’re selling is declining, and you need to find a new supplier. Whatever the reason, an increased number of product returns is usually a sign of a problem that needs to be researched and corrected.
We talk more about how to use the bookkeeping system for tracking sales, discounts and returns in Book II, Chapter 2.
If your business keeps stock on hand or in warehouses, tracking the costs of the products you plan to sell is critical for managing your profit potential. When you see stock costs escalating, you may need to adjust your own prices in order to maintain your profit margin. You certainly don’t want to wait until the end of the year to find out how much your stock cost you.
You also must keep careful watch on how much stock you have on hand and how much was sold. Stock can get damaged, discarded or stolen, meaning that your physical stock counts may differ from the counts you have in your books. Do a physical count periodically – at least monthly for most businesses and possibly daily for active retail stores.
In addition to watching for signs of theft or poor handling of stock, make sure that you’ve enough stock on hand to satisfy your customers’ needs. We explain how to use your bookkeeping system to manage stock in Book II, Chapter 3.
Tracking your transactions is a waste of time if you don’t periodically test to be sure that you’ve entered those transactions accurately. The old adage ‘Garbage in, garbage out’ is particularly true for bookkeeping: if the numbers you put into your bookkeeping system are garbage, the reports you develop from those numbers are also garbage.
The first step in testing your books includes proving that your cash transactions are accurately recorded. This process involves checking a number of different transactions and elements, including the cash taken in on a daily basis by your staff and the accuracy of your bank account(s). We talk about all the necessary steps you can take to prove that your cash is correct in Book II, Chapter 4.
After you prove that your cash is right (see Book II, Chapter 4), you can check that you’ve recorded everything else in your books just as precisely. Review the accounts for any glaring errors and then test whether or not they’re in balance by doing a Trial Balance. You can find out more about Trial Balances in Book III, Chapter 3.
For those of you who are VAT registered, you know that you need to submit a regular VAT return, usually on a quarterly basis. In Book III, Chapter 1 we talk about how you can easily do this return using a computerised accounting system.
After you’ve entered your normal day-to-day transactions, you find you need to make additional adjustments, such as accruals, prepayments and depreciation. In Book III, Chapter 3, we explain some of these adjustments required, as you close your books at the end of an accounting period.
Most businesses prepare at least two key financial reports: the Balance Sheet and the Profit and Loss statement. These reports can be shown to business outsiders, including the financial institutions from which the business borrows money and the business’s investors.
The Profit and Loss statement summarises your business’s financial transactions for a particular time period, such as a month, quarter or year. This financial statement starts with your sales, subtracts the costs of goods sold and then subtracts any expenses incurred in operating the business. The bottom line of the Profit and Loss statement shows how much profit your business made during the accounting period. If you haven’t done well, the Profit and Loss statement shows how much you’ve lost.
We explain how to prepare a Balance Sheet in Book IV, Chapter 4, and we talk more about developing a Profit and Loss statement in Book IV, Chapter 1.
Computers now play an important part in creating your reports. Provided that you’ve set up your nominal codes correctly, you can easily prepare reports at the click of a button! Having said all this, you need to understand the bookkeeping rules of double entry, which we explain in Book I, Chapter 2. So, when you need to make an adjustment to your accounts, you’ll have the necessary confidence to complete journals by applying the rules of double-entry bookkeeping.
Throughout the book, we demonstrate using Sage software and you’ll be pleased to know that the majority of double-entry bookkeeping is done automatically for you. For example, when you create a sales invoice on the system, Sage debits the Debtors Control account and credit the individual Sales account with the net value of the invoice. It also posts the VAT element (assuming that you’re VAT registered) to the VAT Control account.
Payroll can be a huge nightmare for many businesses. It requires you to comply with loads of government and tax regulations and complete a lot of paperwork. You also have to worry about collecting and paying over such things as Pay As You Earn (PAYE) and National Insurance. And if you pay employee benefits, you’ve yet another layer of record-keeping to deal with.
We talk more about managing payroll and government requirements, particularly with the introduction of the recent RTI (Real Time Information) system, in Book III, Chapter 2.
The majority of the tasks that we discuss in the first three books can be carried out by a bookkeeper, but some tasks perhaps require the skills of an accountant. We cover the areas in which an accountant can help you and your business (as well as work with your bookkeeper) in Books V and VI.
Most bookkeepers are adept at preparing a Profit and Loss statement and a Balance Sheet, but they may not get involved with the choice of accounting methods that a business uses, such as stock valuation and calculating the cost of goods sold. We cover these areas in Book V, Chapter 1. We also look at costing methods (particularly for manufacturing businesses) in Book V, Chapter 4, and budgets in Book V, Chapter 5. The last book discusses how the business may need external accountants and the kind of role that they may play.
Having said all this, the business relies first and foremost on a good-quality bookkeeper to maintain its financial records. The bookkeeper may well be the business owner to start with. If that’s you then buckle up: we’re going on a bookkeeping journey!
Chapter 2
In This Chapter
Keeping business records
Getting to know the lingo
Navigating the accounting cycle
Understanding accrual accounting
Making sense of double-entry bookkeeping
Clarifying debits and credits
All businesses need to keep track of their financial transactions, which is why bookkeeping and bookkeepers are so important. Without accurate records, how can you tell whether your business is making a profit or taking a loss?
In this chapter, we cover the key aspects of bookkeeping: we introduce you to the language of bookkeeping, familiarise you with how bookkeepers manage the accounting cycle and show you how to understand the more complex type of bookkeeping – double-entry bookkeeping.
Bookkeeping, the methodical way in which businesses track their financial transactions, is rooted in accounting. Accounting is the total structure of records and procedures used to record, classify and report information about a business’s financial transactions. Bookkeeping involves the recording of that financial information into the accounting system while maintaining adherence to solid accounting principles.
The bookkeeper’s job is to work day in and day out to ensure that she records transactions accurately. Bookkeepers need to be detail-oriented and love working with numbers, because they deal with numbers and accounts all day long.
Bookkeepers don’t need to belong to any recognised professional body, such as the Institute of Chartered Accountants of England and Wales. You can recognise a chartered accountant by the letters ACA after the name, which indicates that she is an Associate of the Institute of Chartered Accountants. If she’s been qualified much longer, she may use the letters FCA, which indicate that the accountant is a Fellow of the Institute of Chartered Accountants.
Of course, both Scotland and Ireland have their own chartered accountant bodies with their own designations. Other accounting qualifications exist, offered by the Institute of Chartered Management Accountants (ACMA and FCMA), the Institute of Chartered Certified Accountants (ACCA and FCMA) and the Chartered Institute of Public Finance Accountants (CIPFA).
The Association of Accounting Technicians offers a bookkeeping certificate (ABC) programme that provides a good grounding in this subject. In reality, most bookkeepers tend to be qualified by experience.
On starting up their businesses, many small-business owners serve as their own bookkeepers until the business is large enough to hire a dedicated person to keep the books. Few small businesses have accountants on the payroll to check the books and prepare official financial reports; instead, they have bookkeepers (on the payroll or hired on a self-employed basis) who serve as the outside accountants’ eyes and ears. Most businesses do seek out an accountant, usually a chartered accountant (ACA or FCA), but they do so typically to submit annual accounts to the Inland Revenue, which is now part of HM Revenue & Customs.
In many small businesses today, a bookkeeper enters the business transactions on a daily basis while working inside the business. At the end of each month or quarter, the bookkeeper sends summary reports to the accountant, who then checks the transactions for accuracy and prepares financial statements such as the Profit and Loss (see Book IV, Chapter 1), and Balance Sheet (see Book IV, Chapter 2) statements.
In most cases, the accounting system is initially set up with the help of an accountant. The aim is to ensure that the system uses solid accounting principles and that the analysis it provides is in line with that required by the business, the accountant and HM Revenue & Customs. That accountant periodically reviews the system’s use to make sure that staff are handling transactions properly.