Small Business Accounting 101

Running a small business is filled with ups and downs and plenty of learning curves. While you might be focused on perfecting your product or service, there’s another important aspect that often doesn’t get the spotlight it deserves: small business accounting. 

Whether you’re a one-person show or have a team behind you, understanding the financial health of your business is vital for long-term success. 

In this article, we’ll dive deep into the world of small business accounting. From its importance and how it differs from bookkeeping, to the role of an accountant and whether you should hire one—we’ve got you covered. 

We’ll also demystify five basic principles of accounting and give you a practical guide to setting up your accounting basics. So grab a coffee and let’s get started!

What is small business accounting?

First up, let’s take a second to understand what small business accounting actually is.

In a nutshell, small business accounting is the systematic process of recording, analyzing, and interpreting all financial transactions that occur within a small business.

We’ll boil accounting for small business down to five separate steps:

Transaction Recording

Technically, we would label this step as part of “bookkeeping,” but bookkeeping is an integral component of accounting for small businesses. It all starts with recording and documenting every financial transaction, from sales to expenses and asset purchases, in a clear and organized manner. 

Financial Reporting

That data is used to create financial reports like income statements, balance sheets, and cash flow statements. These statements exist to provide an overall view of your business’ financial standing.

Financial Analysis

Next up, those financial reports are analyzed and interpreted to gauge the health of your business. They’ll be used to review results, identify trends, and plan for the future.

Cash Flow Management 

At the same time, your financial reports can be used to keep a close eye on the money that’s coming in and going out.  Cash is the lifeblood of businesses so ensuring you always have enough to operate is a step in itself.

Tax Compliance

The last component of small business accounting is understanding and meeting your tax obligations. You don’t want to be on the wrong side of a CRA audit or get stuck with late filing penalties. Strong accounting processes let you track your tax obligations and ensure you’re on-side with the CRA.

What is the role of an accountant?

An accountant is a key player in the operation and growth of a small business, providing vital insight into the company’s financial activities. 

Accountants ensure that the day-to-day financial transactions are managed effectively and help to shape the business’s financial future through various roles.

Day-to-Day Financial Management

Accountants are the custodians of a business’s financial health. They manage cash flow, oversee transactions, and ensure that every dollar spent or earned is accounted for properly. 

Their meticulous attention to the company’s finances helps keep the business running smoothly and prevents financial missteps.

Strategic Financial Planning

More than just number-crunchers, accountants use their expertise to forecast financial trends and advise on the future. They help business owners set realistic financial goals and create strategic plans to meet them. 

Technological Integration

In today’s digital age, setting up and integrating accounting software for small businesses is critical.

Accountants assist small businesses in selecting and implementing the right technology to streamline financial processes, improve accuracy, and provide real-time financial reporting.

Advisory Services 

Accountants wear many hats, one of which is an advisor. They play a critical role in areas like:

• Growth Advisory – Charting the path for business expansion through careful financial analysis and planning.
• Sustainability Consulting – Ensuring that the business’s financial practices support long-term sustainability.
• Risk Management – Identifying potential financial risks and advising on strategies to mitigate them.

In essence, accountants are vital allies for small businesses. They provide the expertise needed to navigate the complexities of small business finance. 

From the everyday ebb and flow of cash to the high-stakes world of strategic planning and analysis. With an accountant’s guidance, small business owners can focus on what they do best: running and growing their business.

The importance of accounting for small businesses

Now that we understand what it is, we should look at why small business accounting is important.

Think of accounting as the GPS for your small business. It shows you where you are, what turns to take, and even warns you about roadblocks like low cash flow or tax deadlines. In simple terms, accounting helps you steer your business in the right direction.

Why You Need Accounting Early On In Your Business

Because accounting often gets overlooked when starting a new business, it’s important we first emphasize its value to startups.

Clear Answers

Got questions? Accounting can give you solid answers. 

• Is my product making money? 
• When will my business be profitable? 
• How can I cover costs until then? 

You need these answers, especially early on, when you might have to make changes to ensure your business is viable.

Risk Management

Accounting for early stage businesses is like keeping an eye on a puppy – a lot can go wrong quickly. 

You need to keep tabs on your business health from day one, and this only grows more crucial as more people get involved like investors and lenders.

Legal Stuff Matters

Meeting the Tax Man

The Canada Revenue Agency (CRA) is like an annual visitor who wants to know some very specific things about your business. 

You’ll need to show them your income and expenses, and then pay your taxes. If you mess this up, you could face the hassle of dealing with an auditor and potentially incur penalties and interest.

Other Compliance 

Depending on your business, you may also need to keep track of other taxes like sales tax, payroll remittances or even excise tax.

Keeping your books well organized and up-to-date will allow you to meet all of these requirements and avoid surprise bills or potential late filing fees.

Poor Accounting is Bad News

Decision Trouble 

Running your business without proper accounting means your decisions are mainly made on a gut feeling and not backed by actual data. Even data driven companies with poor accounting practices are working with an incomplete or inaccurate set of information.

When it comes to making moves like hiring staff, buying equipment or expanding your product or service, you need to know what you can afford and how it affects the bottom line. Strong accounting processes can help provide accurate information.

Smart Spending

A budget is your financial game plan. Good accounting helps create a reasonable budget and helps you stick to it, making sure you spend where it matters most.

So, if you want your business to grow and avoid any nasty surprises, good accounting isn’t just a need – it’s a must.

Accounting vs Bookkeeping

While we consider the process of bookkeeping to fall under the umbrella of “small business accounting,” bookkeeping also includes a specific and distinct set of tasks.

Bookkeeping

Bookkeeping provides the foundational layer of financial data for your business. It can be broken down into a few specific tasks.

Transaction Recording

The bread and butter of bookkeeping is logging every financial transaction your business makes, such as sales, purchases, and payments.

Bill Management 

Bookkeepers ensure bills are paid on or before their due dates to maintain good relationships with suppliers.

Invoicing and Receivables

Issuing invoices to clients or customers for services rendered or products sold is another key task. Bookkeepers will then record payments as they come in and keep track of invoices that are still outstanding.

Payroll Admin 

Bookkeepers often manage payroll systems and ensure employees are paid accurately and on-time. Along with running payroll, bookkeepers manage the additions of new employees, removal of departed workers and the filing of ROEs and T4s.

Sales Tax Tracking and Filing

In Canada, bookkeeping also includes the management and submission of various sales taxes like GST, HST, and PST.

Accounting

Where bookkeeping lays the foundation, accounting builds upon it to offer a more comprehensive view of a business’s financial health.

Financial Analysis

Through the creation and analysis of financial statements, accountants help business owners understand their financial standings for better decision-making.

Tax Filing and Strategy 

Accountants take the reins during tax season, ensuring income tax returns are accurate and submitted on time. They can also offer in-depth tax planning to minimize your business’s tax liability.

Business Advice

Beyond numbers, accountants often provide strategic guidance for business owners navigating the complexities of entrepreneurship.

So while bookkeeping sets the stage, accounting elevates the performance, turning raw data into actionable insights. Together, they create a holistic financial picture that helps your business grow and comply with legal requirements.

Should I Hire an Accountant?

We’ve covered what small business accounting is and its importance, next we need to find out when it’s time to hire an accountant for your business.  From business startup to succession planning and the many steps in between, accountants can help your business throughout the entire journey.

Before Starting a Business

For brand new businesses, it may not seem like a good use of startup funds to hire an accountant. However, an accountant can play an important role, even in the startup phase. 

An accountant can be your ally from the get-go. They help in crafting a robust business plan, on that’s grounded in realistic financial projections and market conditions. This early-stage collaboration can save you from the common pitfalls that new businesses often encounter and prevent unnecessary financial waste.

Navigating Business Registrations 

Accountants ensure that you’re registered for the right programs, from GST/HST to Payroll, at the optimal time. 

Implementing Accounting Software

Accountants help in selecting and setting up the right accounting and small business software.  They can also provide training to ensure you’re on the best footing to manage your finances effectively.

Acquiring an Existing Business

Considering buying a business? This is also an area where an accountant can be indispensable. 

They conduct the necessary due diligence, ensuring the financials and asking price are sound. They can also assist in structuring the purchase to your tax advantage.

After Your Business Has Started

If you’re in the throes of managing your fledgling business, it’s not too late to bring an accountant onboard. 

Accounts help to streamline your bookkeeping, guide you on how to pay yourself efficiently, and ensure you remain compliant with the numerous tax obligations and government regulations.

Ongoing Compliance and Audits

Compliance is more than just a checkbox; it’s also about peace of mind. An accountant handles your tax filings and can help ensure you remain compliant when sales taxes and payroll remittances become complex. 

And should you be unlucky enough to encounter an audit, they’re also there to support and represent you during that daunting process.

As Your Business Grows

When growth is on the horizon, an accountant helps you focus on what you do best—running your business. By delegating financial tasks to a professional, you gain not only time, but also the assurance of accuracy and efficiency.

Accountants provide regular, up-to-date financial reporting, allowing you to make informed decisions. They also serve as a sounding board for strategic discussions, from hiring and expansion to equipment purchases and more.

Securing Funding

Accountants play a crucial role in securing funding for growth. They can help to identify the best type of funding for your situation, and present your financials convincingly to potential lenders or investors.

Grants, Subsidies, and Tax Credits

Even for a successful, established business, accountants bring value by offering tax planning and identifying opportunities for government grants or credits. 

There are a large number of grants, subsidies and tax credits available to businesses and your accountant can help prepare grant applications and tax credit submissions.

Improving Processes and Systems

Your accountant can also help refine your business processes and help implement new software solutions.  

Accountants love efficiency and can help you streamline your finance function and ensure it’s integrated with your other systems.

When Selling Your Business

Finally, when it’s time to reap the rewards of your hard work by selling your business, an accountant is essential. 

They prepare your financials, facilitate discussions with potential buyers, and ensure that the sale is structured to maximize your financial gain.

So, whether you’re just starting out, looking to grow, or preparing to sell, hiring an accountant is not just a luxury, it’s a necessity for any small business aiming for success

Avalon Accounting

What gets Avalonians up in the morning? Helping business owners achieve success. Really. 

If you’re looking for an accountant that specializes in small business bookkeeping, accounting and tax, check out Avalon Accounting’s services. 

Our mission is to help small business owners thrive, and we do that by providing accounting support and financial advice.

What are the 5 basic principles of accounting?

Accounting principles are the backbone of small business accounting, providing the framework for recording transactions and reporting financial information. 

Each principle plays an important role in providing clear, consistent, and comprehensive financial information, allowing business owners and stakeholders to make informed decisions.

Revenue Recognition Principle

The revenue recognition principle dictates when and how revenue is recognized and recorded. It states that revenue should be recorded in the accounting period in which it is earned and realized or realizable, regardless of when the cash is actually received. 

This means if you complete a service or deliver a product, you record the income even if the customer hasn’t paid yet.

Cost Principle

The cost principle is about valuing and recording assets at their original cost. Cost is recorded as the amount paid or the consideration given at the time of acquisition. It’s not based on the current market value. 

The cost principle provides a consistent method of accounting for assets and expenses and brings stability to the financial reporting process.

Matching Principle

This principle ensures that expenses are recorded in the same accounting period as the revenues they helped to generate. 

The matching principle is the foundation of the accrual basis of accounting and helps in assessing the actual profitability of a business during a specific time period.

Objectivity Principle

The objectivity principle states that financial reporting should be based on objective evidence. Essentially, all financial statements should be free from bias, and all records should be supported by verifiable data. 

The objectivity principle brings reliability and accuracy to financial documents, ensuring they are based on evidence, not personal opinion.

Full Disclosure Principle

The full disclosure principle requires that all information relevant to the business’s financial performance be disclosed in the financial statements. 

It ensures that the financial statements include any facts that could influence the decisions of a reader of the financial statements.

What are accounting basics for a small business?

Alright, we’ve covered a good amount of theory relating to small business accounting. Next let’s dive into some practical and actionable small business accounting tips.

Open a small business bank account

This step is an easy win, and one of the most impactful actions you can take for your business: opening a dedicated business bank account. Keeping your business transactions separate from your personal ones is the first step to making accounting easier.

If your business transactions are lumped in with your personal ones, you’ll spend hours sorting through them when doing your books. This takes up valuable time that you could have used to grow your business. If it’s your bookkeeper or accountant doing the work, the confusion can lead to extra work and make your bill much higher. 

Not sure which business bank account to choose? Check out our article on choosing the right business bank account.

Track your small business expenses

Once you have a dedicated business bank account set up, it will be much easier to keep track of your expenses. 

This allows you to maximize your business’s financial health by ensuring you claim every tax deduction available. From home office expenses to professional services, each deduction can significantly reduce your tax bill.

It’s so important to understand where the money is going, so properly tracking your expenses will also help you to know the ins and outs of your costs.. It will also influence pricing strategies and can help you identify where you might be able to cut costs or where spending more could increase efficiency.

By keeping a regular routine of recording expenses and analyzing results, you’ll be able to improve how your business runs.

Develop a bookkeeping system

And the best way to keep that regular schedule of recording transactions is to develop an effective bookkeeping system. There are many options available but the one you ultimately choose should reflect the needs and goals of your business. 

You can go with a simple bookkeeping spreadsheet that will allow you to quickly record bank and credit card transactions. This is an inexpensive method, but will be limited in financial reporting, invoicing and its ability to integrate with other systems. Before too long, you may find that you need some more functionality.

That’s where purpose-built bookkeeping software comes into play. Bookkeeping or accounting software lets you automate a good amount of the bookkeeping process, create custom reports, invoice and bill clients directly and can scale with your business. 

It’s more expensive than a simple spreadsheet and there is a bit of a learning curve, but if you plan on growing your business, you will likely need accounting software at some point along the way. Learn more about the role accounting software plays in your business.

Set up a small business payroll system

After choosing your accounting system, you may need to organize payroll for your business. Again, this can be done manually, but payroll is quite complex and fixing errors can be expensive. Therefore, I recommend seeking a purpose-built payroll software.

There are quite a few payroll software options available in Canada. To help you choose the best option for your business, check out our recommendations for the best Canadian payroll software.

Determine how you’ll get paid

If you’re the owner of an incorporated business, you have a couple of options for how you pay yourself. You can pay yourself a salary, dividends, or a combination of both.

Depending on your situation, you’ll find that there may be some small tax savings to be had when choosing one method over the other. However, I’ve found that the qualitative discussion around how to pay yourself is usually the most important piece.

This is a discussion that requires more than the space I’ve allotted here, so I recommend checking out our article on salary vs dividends for the full rundown.

Best Small Business Accounting software

If you’re opting for purpose-built accounting software, choosing the best option is a pivotal decision for your small business. It streamlines financial management, automates tasks, and provides real-time insights into your business’s health. 

Features to look for:

Here’s what to look for and some top options available:

• User-Friendly Interface – Intuitive navigation and ease of use are key, especially for those without an accounting background.
• Integration Capabilities – Ability to integrate with other systems, such as your banking institution, payroll, and sales platforms.
• Scalability – The software should grow with your business, accommodating more complex needs over time.
• Customer Support – Reliable customer service that helps you troubleshoot issues and learn how to use the software effectively.
• Comprehensive Reporting – A good software offers detailed reports that help you make informed business decisions.
• Mobile Accessibility – Access your financial data on the go with a robust mobile app.

Of the many accounting software applications available, I recommend checking out one of the following four options. 

Xero

Xero is renowned for its user-friendly interface and powerful features. It offers robust integration with a large variety of third party apps and has a strong focus on automation, saving you time on data entry.

QuickBooks

QuickBooks is perhaps the most well-known accounting software, offering extensive features tailored to small business accounting. It’s particularly strong in the areas of payroll processing and tax preparation.

Wave

Wave stands out for being a free, all-in-one accounting solution with functionality that includes invoicing and receipt scanning. It’s an excellent choice for startups and solopreneurs looking to keep costs low.

FreshBooks

FreshBooks is highly regarded for its simplicity and customer service. It’s designed for service-based businesses and freelancers, offering time tracking, invoicing, and project management tools.

Choosing the right software will depend on your specific business needs, budget, and the level of accounting complexity you’re dealing with. Be sure to take advantage of free trials to get a feel for each platform before making your decision.

Frequently asked questions about small business accounting

What financial records should sou keep?

Keep all records that reflect your business’s income and expenses. This includes invoices, receipts, payroll records, bank statements, and tax filings. Also, maintain records of all assets and liabilities.

What type of accountant is best for small business?

A Certified Professional Accountant (CPA) familiar with small business or entrepreneurial accounting is ideal. They should understand tax laws relevant to your business structure and industry.

Can you do your own bookkeeping?

Yes, many small business owners handle their own bookkeeping, especially in the early stages. However, as the business grows, the complexity of financial transactions might necessitate professional assistance.

Can you do bookkeeping on Excel?

Yes, Excel can be used for bookkeeping with properly set up spreadsheets. However, it may lack the efficiency, integrations, and error-checking capabilities of dedicated accounting software.