As a startup founder, the financial health of your business is a top priority. A 2022 Skynova survey found that 44% of startups failed due to lack of cash.
With this in mind, it’s essential to make sure your startup doesn’t run out of money before you generate positive cash flow or attract investors.
Similarly, you should have tight control over your startup’s finances, even after it’s profitable, so you don’t spend more than you earn.
But, How do you keep track of your startup’s finances?
The benefits of accurate accounting for startups
An accurate initial bookkeeping will help you keep track of your income and expenses. Let’s look at the other benefits of startup accounting:
- Ensure financial health. Startup accounting will help you keep tight control over your expenses and debts. It will also ensure that you get paid on time for your products and services. Keeping a close eye on your income, expenses, assets, and liabilities will keep your startup in better financial health.
- Impress investors. When a company keeps accurate books, it is easier to project its growth. Accurate financial information will also simplify business valuation. And by keeping accurate books, you’re more likely to impress investors and creditors.
- Pay correct taxes. Calculating the correct business taxes could become difficult if you don’t keep accurate financial accounts. New business accounting tracks income, expenses, and deductibles. That also makes calculating and filing taxes much easier to do.
- Better analysis and planning. When you have accurate financial statements, such as balance sheets, cash flow, and profit and loss statements, you can see where your startup stands financially. It also tells you where you are making money and helps you plan for the growth of your business.
How to start accounting for a new business
- Choose a business structure
The way you register your business will affect your startup’s accounting and taxes. You should choose a business structure that suits the size and needs of your startup.
Even if you go sole proprietorship, you’ll need to keep your personal and business finances separate. So make sure you open a business bank account at the start of your business. All your business transactions should go through this account, while personal expenses should ideally go through your personal bank accounts.
- Choose an accounting method
While this may sound strange, there is no one way to keep your books. In reality, there are multiple different types of accounting, each best suited for different purposes.
Some companies record income and expenses as they occur, which is called cash accounting. In this method, you mark a transaction only when you spend or receive money.
Another common method is accrual basis accounting, where you record financial transactions when they are scheduled. For example, you record an expense each time you place an order instead of when you pay for it.
Cash accounting works well for small start-up businesses with cash transactions and no inventory. On the other hand, accrual-based accounting helps project your income and expenses for a better business forecast.
- Choose an accounting system
You can manage your initial accounting through different systems: manual, automated or through a management system (ERP).
He manual system requires you to write down all income and expenses in a ledger or spreadsheet. It is useful for small businesses with limited financial transactions.
However, most small business owners use a automated system. An automated accounting system is a tool connected to your business bank account and credit cards. It automatically creates a record for every financial transaction and helps you schedule and pay bills, and create financial reports.
Finally, a ERP is a comprehensive tool that tracks product procurement, project management, risk management, compliance, and business accounting. Generally, large companies with multiple departments use an ERP.
- Make entries in the ledger
You should ensure that all of your company’s financial transactions are recorded in a ledger. For example, wages and bill payments are expenses and you should record them as debit transactions. But the payments you receive from your customers are credit transactions.
Each transaction, such as income, expenses, credits, and deductions, has a corresponding journal entry. If you are doing your accounts manually, you will need to enter these transactions into your general ledger.
Most accounting software provides an online ledger and automatically creates a general ledger entry when you create an invoice or pay an invoice.
Also, be sure to store all important financial records and tax forms, such as:
- Invoices, receipts and invoices.
- Bank account statements.
- Employee tax forms.
- Previous tax returns.
- Reconcile bank accounts
It’s also important to compare your bank statements to the general ledger to ensure that each bank transaction has a corresponding general ledger entry. This is a process known as reconciliation.
If you’re doing manual bookkeeping, you’ll need to review each entry on your bank statement and cross-reference it with the general ledger entries. Most accounting software has features to automatically reconcile bank statements with general ledger entries.
Either way, comparing your general ledger to your bank and credit card statements is crucial because:
- Helps you detect fraud, such as duplicate or cashed checks, unauthorized bank withdrawals, and missing deposits.
- You discover errors on the part of the bank, such as an error in the amount of the deposit.
- You detect any data entry errors in your general ledger.
- Prepare your financial statements
Financial statements give you an idea about the current financial situation of your startup and help you plan accordingly. They also contain critical information for investors and other key stakeholders in your business.
Some financial statements that you should prepare as part of your initial accounting include:
- Balance sheet.
- Statement of income.
- Statement of profit and loss.
Again, if you use accounting software, you will automatically create these financial statements from your general ledger entries.