What is Bookkeeping and Why Do You Need It?

In today’s guide, you’ll learn all about bookkeeping and why your business might need it.

Topics on this page include:

• What does a bookkeeper do?
• How to record entries in bookkeeping
• Bookkeeping vs Accounting
• Types of bookkeeping

And much more! So, if you want to learn more about bookkeeping and the services SMH accountants offer, keep reading this helpful guide.

Let’s get into it:

What is Bookkeeping?

Bookkeeping is the process of recording and tracking a business’s daily financial transactions. It is an important part of the accounting process and allows companies to understand their incomings and outgoings better.

Keeping detailed records of financial transactions through bookkeeping can also be vital in the event of tax audits. 

What Does a Bookkeeper Do?

A bookkeeper is someone who does bookkeeping for a business and is in charge of keeping a business’s financial records up-to-date.

They can do so through a range of duties, including:

• Data entry – Bookkeepers record day-to-day financial transactions.
• Monthly financial reports – They summarise day-to-day financial transactions in monthly reports to help businesses understand their performance.
• Bank reconciliation – Bookkeepers will cross-reference a business’s books against bank statements to confirm their accuracy. 
• Payroll – Some bookkeepers will help with payroll by calculating pay and deductions, like taxes.
• Tax filing – Some bookkeepers can prepare tax returns on behalf of their company. 
• Accounts receivable – Bookkeepers can create and send invoices for your business and follow up to ensure they’re paid. 
• Accounts payable – If your company has outstanding invoices from suppliers, a bookkeeper can ensure they’re accurate and paid on time. 

 

Why is Bookkeeping Important?

Maintaining accurate financial records can be a time-consuming and difficult task.

Using a bookkeeper to handle your daily financial responsibilities can save you hundreds of hours per year and allow you to focus completely on the daily running of your business.

The information that bookkeepers collect can also give you extra insight into your business. For instance, a bookkeeper lets you pinpoint high outgoings and optimise your business accordingly.

Other benefits of using a bookkeeping service include:

• Ensure your invoices and payroll is paid on time. 
• Make sure your tax filings are correct.
• Keep your financial records up-to-date in the event of a tax audit.

 

Difference Between Bookkeeping and Accounting

So, how does bookkeeping differ from accounting?

Essentially, bookkeeping is the first part of the accounting process. This means the work of a bookkeeper and an accountant can overlap, with both terms sometimes used interchangeably.

Bookkeepers generally focus more on administrative tasks like recording transactions. While accountants are better at helping businesses understand their performance by interpreting the work of a bookkeeper.

You can learn more about Accounting & Business Advisory in our detailed guide. 

Bookkeeping Basics

Before we get into the types of bookkeeping and what you might need for your business, it’s important to explore the basics.

Below, we have a list of common bookkeeping terms you need to know and an explanation of how your business accounts are set up (this is important when choosing the type of bookkeeping you’ll need for your business).

Terms You Should Know

• Accounts – Five categories that all business transactions fall under. This includes assets, liabilities, equity, revenue, and expenses.
• Assets – Things owned by the company, such as products.
• Balance Sheet – A list that includes your assets and the value of those assets, plus what your business owes. It’s an effective way of measuring the value of your business. 
• Chart of Accounts – A list of all accounts you use to record business transactions. It provides more detailed information than the five main account types, such as money spent on wages. 
• Equity – The amount of money added or subtracted from a business by the owner or shareholders.
• Expenses – The running costs of a company, such as wages. 
• Financial Statements – Reports that show business transactions and the general performance of a business. Examples include a Balance Sheet and the Profit and Loss Statement.
• Liabilities – Money owed by the business. Includes unpaid bills, wages, or taxes.
• Profit and Loss Statement – A type of financial statement that includes revenue and expenses and shows a business’s profitability. 
• Revenue – The money earned by a business, such as from sales. 

How Accounts Are Set Up

An account in bookkeeping refers to the categories under which all business transactions fall under. 

There are five main accounts for every business:

• Assets – What your company owns.
• Liabilities – What your company owes.
• Equity – The money added or taken out by the owner and shareholders.
• Revenue – The money earned by your business.
• Expenses – The money spent by your business, like wages.

And then these five main accounts can be used in two key financial reports that can help you understand the value of your business and its profitability. 

1. The balance sheet accounts for assets, liabilities and equity. It measures the value of your business by subtracting liabilities from your asset value. 
2. The Profit and Loss Statement accounts for revenue and expenses. It calculates your business’s profitability by subtracting expenses from your revenue. 

 

What is the Chart of Accounts?

As discussed, each company has five main types of accounts; assets, liabilities, equity, revenue, and expenses.

But how do you know what aspects of your business contribute to each of these accounts? That’s where the chart of accounts comes in.

The chart of accounts is a further list of additional categories to group your business transactions. This can include sales or wages, outstanding loans, or the cost of supplies. 

Each category will then filter into one of your five main accounts. A trained bookkeeper can quickly interpret your financial transactions to determine which account it impacts.

 

Types of Bookkeeping

Now that you know how accounts in a company are set up, it’s time to explore which type of bookkeeping is suited to you and your needs.

There are two main types of bookkeeping; single-entry and double-entry.

The suitability of these methods of bookkeeping will depend on your business size, the number of daily transactions, and the revenue you earn.

• Single-Entry Bookkeeping

Single-entry bookkeeping is the most basic form of bookkeeping and is best suited to small businesses. 

Put simply:

Single-entry bookkeeping records all financial transactions in one row. It’s best for tracking cash, taxable income, and tax-deductible expenses. 

Transactions are typically recorded in a cash book that shows the date of the transaction, what it is, and whether it’s an expense or income.

You can see an example of a single-entry bookkeeping cash book entry in the table below:

Date	Description	Income	Expenses	Bank Balance
June 1	Balance			1000
June 2	Invoice Paid – Company Inc	250		1250
June 3	Website Re-Design		200	1050
June 4	Invoice Paid – Company Inc	150		1200
June 5	Invoice Paid – 2Company Inc		200	1000
Ending Balance		400	400	1000

Although single-entry bookkeeping can go into more detail than the example provided, you don’t require any formal accounting training to conduct the single-entry system.

 

• Double-Entry Bookkeeping

Double-entry bookkeeping records every financial transaction at least twice. This is to reflect the complexity of business transactions better, as each deal can have a knock-on effect and impact different aspects of a business.

The more complex a transaction, the more entries will be needed.

For example, let’s say you make a sale.

This will, in turn, lower your stock and create a tax liability on the VAT you collected.

Double-entry bookkeeping usually refers to each side of this transaction as debit and credit.

Debits are increases to an account, such as receiving cash from a client, and are usually recorded on the left side of a ledger sheet.

Credits are decreases to an account, such as making a business purchase, and are found on the right side of a ledger sheet.

Benefits of Double-Entry Bookkeeping

While smaller businesses can get plenty of value from single-entry bookkeeping, large businesses will massively benefit from double-entry bookkeeping.

Double-entry bookkeeping can help companies make better financial decisions by showing you exactly how profitable you are and the strength of your different accounts.

Moreover, double-entry bookkeeping can help reduce errors. 

Essentially, each transaction must be balanced as your liabilities and equity must equal your assets. Therefore, if the numbers don’t match, your books will be wrong and you catch errors more easily.

Double-entry bookkeeping also provides more detailed transaction lists. Due to the detail, they’re the preferred choice for investors and can also help prevent fraud or embezzlement.

 

Cash or Accrual Accounting

Aside from considering single-entry or double-entry bookkeeping, you’ll also need to choose between cash and accrual accounting systems.

As the name suggests, cash accounting is based on cash flow and records transactions when cash changes hands.

Accrual accounting records transactions when they occur, not when cash changes hands. 

For example, if a transaction occurred in April but you didn’t receive cash until May, the deal would be recorded in April under the accrual accounting system.

The accrual accounting system is important for companies that offer credit to customers as it allows them to pay for items at a later date.