What Are The Types Of Bookkeeping?
Learning the types of bookkeeping systems is essential in identifying which one to adopt and use in keeping the records of business transactions. By studying the different types of bookkeeping systems, you will be able to determine the most appropriate to the business or client that you serve.
Millions of small business owners and startup entrepreneurs are masters at creating great products and services, building effective teams and winning over customers. Many of them, however, would probably flunk basic bookkeeping.
As the business owner, if you don’t understand the different types of “accounts” your bookkeeper uses to organize your finances, measuring the success (or failure) of your efforts will be futile.
Being adept at digital marketing, for example, isn’t enough if you don’t have a clear financial picture of your business and run headlong into cash flow problems.
You wouldn’t go to the doctor and ask only to have your legs checked. You want a comprehensive exam! It’s the same with the financial aspects of your business. You need to know everything about your business’s finances, not just your bank account balance. As small- business writer Joshua Adamson-Pickett explains, it not only helps you make reliable decisions now and plans for your company down the road, and an efficient bookkeeping system saves time. Notably, it prepares you for government audits and helps prevent fraud.
Accountants and bookkeepers rely on set systems to efficiently and adequately accomplish daily tasks. With a steady bookkeeping system in place, they’re able to automatically or manually calculate company books and meet federal regulations. Automation, bookkeeping software, and other technology used in accounting also rely on one of many systems for tracking accounting-related files and expenses.
Choosing the right bookkeeping system for your business is a matter of understanding how these systems work and whether they fit in with your current style of business.
If you want to use these systems to calculate your finances manually or you want to choose an electronic software to do your books, it’s important to know all you can about your options. Here are some of the most common types of bookkeeping systems and how they work:
Bookkeeping is necessary for all business entities regardless of small, medium or large. It is the process of recording financial transactions in business. Thus, bookkeeping is only confined within the process of record keeping. It is also a process of organizing transactions and identifying, measuring as well as recording the financial transitions of a company.
What is Bookkeeping?
Bookkeeping involves the recording, daily, of a company’s financial transactions. With proper bookkeeping, companies are able to track all information on its books to make key operating, investing, and financing decisions.
Bookkeepers are individuals who manage all financial data for companies. Without bookkeepers, companies would not be aware of their current financial position, as well as the transactions that occur within the company.
Accurate bookkeeping is also crucial to external users, which includes investors, financial institutions, or the government – people or organizations that need access to reliable information to make better investments or lending decisions. Simply put, the entire economy relies on accurate and reliable bookkeeping for both internal and external users.
Importance of Bookkeeping
Proper bookkeeping gives companies a reliable measure of their performance. It also provides information on general strategic decisions and a benchmark for its revenue and income goals. In short, once a business is up and running, spending extra time and money on maintaining proper records is critical.
Many small companies don’t actually hire full-time accountants to work for them because of the cost. Instead, small companies generally hire a bookkeeper or outsource the job to a professional firm. One important thing to note here is that many people who intend to start a new business sometimes overlook the importance of matters such as keeping records of every penny spent.
Why Is Bookkeeping Important?
Improved Finance Management & Analysis
If you keep a detailed report on customer invoices, it is easier to follow up and remind late-paying customers. With positive cash flow, you will efficiently manage day-to-day business operations and will not experience negative working capital gap.
Meet Tax Obligations
Annually, every business has to meet tax obligations. Your accountant at the end of the year should easily find information in your company report. The report, as prepared by your bookkeeper, should be inclusive of net profit, income, expenses, assets, liabilities, and tax. Only then your accountant can arrange for tax payments and file the company tax return forms with accuracy.
Designing Budget & Business Planning Becomes Easier
With proper insight into your financial stability, you can plan your business accordingly. Also, you will get a clear idea of whether you should invest in growing your business or focus on improving the depleting cash flow.
Safe in the Event of Auditing
No business wishes to get audited. But unfortunately, if you do get audited, your proper bookkeeping methods will help you get with the things in less time. Also, by providing proper records, you will avoid penalties and sanctions
Types of Bookkeeping Services
As the name itself explains, a single entry system involves a single entry of all business transactions to the accounting records. Basically, a single accounting system works better for small businesses with less revenue. Generally speaking, under the single-entry bookkeeping system, you will not find records of assets and liabilities. There will be records of cash disbursements and cash receipts that is cash coming in and going out of your company.
The single-entry bookkeeping system is used for businesses that have minimal or uncomplicated transactions. This system records cash sales and business expenses that are paid when incurred. This system is not traditionally used for businesses that have accounts receivable, accounts payable or many capital transactions. Bookkeeping entries under this system don’t match transactions to corresponding accounts, which can make tracing revenues and expenses more difficult. In essence, the single-entry system consists of a cash sales journal, a cash disbursements journal and your bank statements. An entry is made to the sales journal when revenue is received, and an entry is made to the disbursement journal when an expense is paid. Your journal entries should reconcile with your bank account transactions.
- Ideal for entrepreneurs or start-up businesses (service-based business).
(According to IRS, if your business is making less than $5 million in annual gross sales or have less than $1 million in gross receipts for inventory sales then you can use single inventory system)
- Simple and less expensive to maintain.
- Easy to understand, manage, & no professional required.
- Calculating profit and loss for a defined period is easier.
- No accurate information on true profit or loss for any defined period.
- Easily susceptible to fraud and fault entries.
- Assets and liabilities are not tracked.
- Less information to predict the financial position of the business.
- It is challenging to procure auditor’s opinion on the available financial results.
- The single entry system of bookkeeping requires recording one entry for each financial activity or transaction.
- The single-entry bookkeeping system is a basic system that a company might use to record daily receipts or generate a daily or weekly report of cash flow.
The single entry system is the most basic type of accounting. Unlike the double-entry system, the single entry method does not need a trained professional for it to be done. With it, the bookkeeper only needs to record transactions in a one-sided manner.
This means only the effect on a single element is recorded for every transaction. For example, only the effects on the cash account are recorded for all the transactions conducted by the business. It is way easier than the double entry. However, it carries many more disadvantages than the latter.
The single entry system dates back as far as accounting itself. Scientists have traced its origins way back in the ancient civilizations. Because of this, not much is known about the origin of it. However, it was the oldest method of accounting used by traders as early as 2000 BC.
Single-entry Bookkeeping System is commonly used for small businesses with very little or minimal transactions. It is often referred to as a simple, practical and informal way of recording. Usually, it only maintains a record of cash disbursement, cash receipts, sales and purchases. All the rest of the accounting records, such as inventory, equipment, capital, etc., are only recorded in the form of memorandum or notes.
The books or records maintained in a single-entry bookkeeping system are a daily summary of cash receipts, as well as a monthly summary of cash receipts and disbursements, which represents the revenue and expense, respectively.
Unlike the double-entry bookkeeping system wherein one transaction affects two accounts, in the single-entry bookkeeping system, a transaction only affects one account. For example, a cash sale is recorded only as an increase in cash receipts or deposits with no corresponding sales account.
However, the simplicity of a single-entry bookkeeping system is prone to error and incompleteness because it lacks a detailed recording system compared to the double-entry bookkeeping system. Although for tax purposes, it is an acceptable method of record-keeping for small and simple businesses, however, it may not provide a fair valuation of the relevant financial information of a business.
The Double Entry System
Double-Entry Bookkeeping System is the standard method of record-keeping normally used by most businesses, bookkeepers and accountants.
The procedure of double-entry bookkeeping system is more detailed and complex than single-entry bookkeeping system. It introduces the concept of debit and credit, which means that for every transaction there is something received (debit) and given up (credit), as such, recorded transaction affects two or more accounts.
The benefit of the double-entry bookkeeping system is that it has a process to ensure accurate and complete recording of business transactions. It is a reliable source of financial information and fair valuation of the condition or performance of a business.
Our topic on bookkeeping will be based on the double-entry method system; you will learn more about it in the next articles.
Double-entry bookkeeping systems are used for businesses that routinely have more complex transactions. Companies that collect income through accounts receivable and receive merchandise and inventory on credit are better-suited for this method. This system posts single transactions as an income or expense item then create a second entry to trace the transaction to a corresponding account. For example, if you receive income from a customer, the revenue is posted as income and also traced to the customer’s account. In the event you are audited or need to know where income and expense payments generated, you’ll have a paper trail to find the information quickly. This system uses debits and credits, which is the accountant’s language of increases and decreases to each account affected by your transactions.
The double entry system uses the simple accounting equation “Assets = Liabilities + Capital.” One of the main principles behind the double-entry system is the “two-fold effect.” The two-fold effect states that for every value received (debit), there must be a value given up (credit).
An accountant must have the skill necessary to determine which elements are affected by a business transaction, and the effect or effects of the transaction on said elements.
Benedetto Cotrugli first mentioned the double-entry system in his book “Of Trading and the Perfect Trader.” Cotrugli’s book was able to elaborate on some of the fundamental principles that are used in modern-day bookkeeping.
In 1494, Luca Pacioli, famously known as “the Father of Modern Day Accounting,” expounded Cotrugli’s work to create the basic blueprint of the bookkeeping system used today.
The double-entry method, though preferred, is not a perfect system. There are instances that the single entry is preferred more than them. Listed below are some of the advantages and disadvantages of the double-entry method:
- It allows the company to create and understand financial statements more efficiently.
- The business is able to keep a record of every transaction that happens and the effect of it on every element.
- It uses the trial balance, which makes the accuracy of the books easier to monitor.
- It makes the comparison of one period to another easier.
- The matching principle allows a company to determine the correct profit and loss of the company with greater detail.
- It is harder to understand for beginners.
- The cost to maintain is higher for a double-entry system than a single one.
- More time is spent to record each transaction.
Many small-business owners use bookkeeping software to keep track of financial activities. Programs such as Quickbooks and Sage — formerly Peachtree — use the double-entry bookkeeping system, but you won’t necessarily need to be well versed in the method to use the software. These programs are relatively user-friendly and prompt you to enter information to complete and post your transactions. Various versions of the software exist, ranging from basic to professional capacities, and you can purchase the software in desktop, online or cloud versions.
Because bookkeeping systems are often difficult to understand and operate for the typical bookkeeper, the market has put out hundreds of computerized bookkeeping systems. These structures use the single-entry or double-entry methods and make it simple for you to enter transactions accordingly.
There’s bookkeeping software designed for both small and large businesses. Small businesses can keep track of all accounts and transactions with easy-to-use interfaces. There’s no need for customized services, as a basic accounting software system is enough.
Large businesses will likely need the assistance of a bookkeeper, but the computerized software can make it easier to stay on the same page. They will also likely need a customized system that will match their unique needs as no business is the same.
The best part about computerized systems is the automation. It can efficiently record receivables and payables based on real-time transactions. It speeds up all transaction processes and improves accuracy.
It is expensive, and you may need assistance at the beginning to set it up. It’s also not foolproof, as many would believe it to be. Financial data can be stolen or manipulated, impacting the business’s bottom line. Still, it’s an efficient option for any business in need of flexible, affordable services.
If the whole idea of single-entry and double-entry bookkeeping methods makes you queasy, you might benefit from virtual bookkeeping services. A virtual bookkeeper eliminates the need for expensive CPA fees or an in-house bookkeeping employee. Most virtual bookkeepers accept your sales invoices, expense receipts and payroll ledgers electronically. The bookkeeper posts your transactions to appropriate journals and ledgers, and emails you a copy of your reports. Virtual bookkeepers are typically CPAs or degreed accountants who tend to have lower fees than private CPA firms.
Essentially, a virtual bookkeeper is an online agent who handles your books. Virtual bookkeeping services are common for those who see both the single-entry and double-entry systems as complex and challenging to manage.
A virtual bookkeeper is an excellent alternative to an in-house bookkeeper or accountant because of the expense; they cost a fraction of what an on-site employee would cost a small business, but they’re just as effective.
Virtual bookkeepers will handle any accounting-related items you wish, but they’re most commonly used for invoices, payroll ledgers, and expense receipts. They’ll apply the single or double-entry system of bookkeeping for you.
Typically, virtual bookkeepers will request the use of a certain type of accounting software. For example, they might request that you purchase QuickBooks so that you can keep track of all your receipts and transactions there. They will have access to your account and track, organize, and reconcile your accounts for you. This makes it easier for everyone.
If that system doesn’t work, you can devise another option with your virtual bookkeeper. They’ll work with your unique needs to develop an accounting system that removes the burden from you while putting all your files in perfect order.
The most notable advantage of using a virtual bookkeeper is the cost savings, but there are others. It’s extremely flexible—your bookkeeper can work whenever it’s convenient. You’ll also have access to knowledge regarding federal regulations and the latest tools. Plus, these bookkeepers often offer other account-related services, such as tax preparation.
There is some risk with data security, since you may be sharing sensitive information over the internet. There is some vulnerability to these accounts and chances for miscommunication. However, if you’re diligently seeking secure communication and share all requested information with your bookkeeper, it can be an excellent method for managing your books.