Is Double-Entry Accounting Right for Your Business? Your Complete Guide!

If you’re a freelancer, sole entrepreneur, or independent contractor, you have to decide your business’s accounting system: double-entry or single-entry? You might have been using single-entry accounting, especially if you aren’t using accounting software. While this may have been sufficient initially, you should probably move to use accounting software and double-entry accounting if you plan to grow your business. 

In this article, we’ll walk you through double-entry accounting as simply as possible. We’ll explain how it differs from single-entry, and help you decide which accounting system suits your business best.

What is double-entry accounting?

Double-entry accounting is a bookkeeping method that maintains the balance of a company’s accounts. This method shows the most accurate picture of the company’s finances. At its core, this method relies on the accounting equation Assets = Liabilities + Equity. 

This accounting system was invented by Benedetto Cotrugli, an Italian merchant, in 1458. This system was later shared by the Italian mathematician and Franciscan friar Luca Pacioli, the author of The Collected Knowledge of Arithmetic, Geometry, Proportion, and Proportionality, which included a detailed description of the double-entry accounting system.

Using double-entry accounting is the only way to make sure all of your transactions follow the accounting equation rules. Unlike single-entry accounting which only requires that you post a transaction into a ledger, double-entry tracks both sides (debit and credit) of each transaction you enter. Using the double-entry accounting system reduces errors and makes it easier to produce accurate financial statements. Later in the article, we will take a look at a real-world example to help make these concepts even more clear.

See more: A Small Business Guide To General Ledgers.

Types of accounts

When you employ double-entry accounting, you will need to use several types of accounts. Some key account types include:

  • Assets: Assets are resources owned by a company, which represent future economic value. Some examples of asset accounts are accounts receivable, cash, and equipment. 
  • Liabilities: Liabilities are amounts owed or committed by a company, such as accounts payable, loans, and accrued expenses. 
  • Equity: Equity is the amount of funds invested in a business by its owners plus all retained income from operations. Common examples of equity are paid-in equity (funds from investors), retained earnings, and common stock. 
  • Revenue: Revenue is the money generated from any operating activities, like product sales, service fees, and interest income. 
  • Expenses: Expenses are all costs incurred in running a business, such as inventory purchases, employee wages, and depreciation. 

What are debits and credits?

Debits and credits are fundamental to the double-entry system. In accounting, a debit entry appears on the left side of an account ledger, while a credit entry appears on the right side. A transaction’s total debits and credits must be equal to be in balance. Credits don’t necessarily imply increasing, and debits don’t always imply decreasing. 

A debit may increase one account while decreasing another. For example, a debit increases asset accounts but decreases liability and equity accounts, supporting the general accounting equation of Assets = Liabilities + Equity. 

Debits increase the balances in expense and loss accounts on the income statement, while credits decrease their balances. Debits decrease revenue and gain account balances, while credits increase their balances.

To make things a bit easier, we’ve made this table to show you how debits and credits work under the double-entry bookkeeping system:

DebitsCredits
– Are always recorded on the left side
– Increase an asset account, or decrease a liability account or equity account (such as owner’s equity).
– Increase an expense account.
– Decrease revenue
– Are always recorded on the right side
– Increase a liability or equity account, or decrease an asset account.
– Decrease an expense account.
– Increase revenue

How double-entry accounting works

Setting up and operating a double-entry accounting system includes four key steps. It starts with setting up the accounts in which bookkeepers will record transactions and ends with using account information to generate financial statements. The steps are: 

  • Stage 1: Create a chart of accounts for posting your financial transactions. This chart is a complete listing of all the general ledger accounts that a company can use to record transactions. It contains all the accounts for each of the five types: assets, liabilities, equity, revenue, and expense. Nowadays, most accounting software comes with pre-made charts of accounts available for customization, while other accounting solutions offer customized charts of accounts.
  • Stage 2: Enter all transactions with equal amounts of debits and credits to reflect the elements of a transaction. Debits and credits can be recorded in any monetary unit, but the currency should be consistent throughout the accounting process.
  • Stage 3: Ensure each entry has two components; debit and credit. And, ensure that they are in balance with the accounting equation. Using accounting software can help you with this. 
  • Stage 4: Check and ensure that financial statements balance and reflect the accounting equation. The net account totals in the double-entry accounting system are fundamental to creating the company’s working and final balance when closing the books at the end of each accounting period. The final adjusted balances flow into financial statement line items. Nowadays, accounting software can automate the integration and process flow necessary to do this.

An example of double-entry accounting

Let’s explore a realistic example of double-entry accounting for a common business transaction. If you buy a new $1000 laptop for your freelance startup and you would like to record the expense, here’s how you’d do it: 

First, you need to enter a $1,000 debit to increase your asset statement “Laptop” expense account and a $1,000 credit to decrease your balance sheet “Cash” account. 

DATEACCOUNTDEBITCREDIT
12/29/21Office equipment$1,000
12/29/21Cash Account$1,000

In double-entry accounting, you still record the $1,000 in your cash account, but you also record that $1,000 as an expense.

Should I use double-entry or single-entry accounting? 

Single-entry might be enough for your accounting needs if your business is very simple, has only one employee, doesn’t have any inventory or debts, and doesn’t have many accounts to keep track of. 

Otherwise, if your business is any more complex than that, most accountants will strongly recommend switching to double-entry accounting.

Why? Though single-entry accounting is simpler to implement, it has significant drawbacks compared with double-entry accounting. Single-entry accounting is more prone to errors, especially omissions and duplications, because it lacks the control method of balancing accounts.

Furthermore, single-entry accounting can’t create a complete financial picture of the business. It only records cash inflows and outflows, indicating when cash is in hand versus when it is actually earned. It also doesn’t indicate items like sales made on credit. Moreover, single-entry accounting requires extra work in the closing process to yield balanced financial statements. Lastly, single-entry accounting is unsuitable for public companies because it’s not accepted under GAAP (Generally Accepted Accounting Principles.)

Double-entry accounting provides you with a more complete, three-dimensional view of your finances than the single-entry method ever could. Since you’re recording where your money is coming from and where it’s going, you can then collate that information into financial statements. This gives you comprehensive insights into the profitability and health of various parts of your business. That’s a win because accurate financial statements can help you make better decisions about spending money in the future.

Double-entry accounting also reduces the risk of bookkeeping errors, improves financial transparency, and provides a layer of accountability to your business that single-entry accounting cannot.

If you want your business to be taken seriously by investors, banks, and potential buyers, you should be using double-entry.

The bottom line

Accounting entries are the foundation of every company’s accounting system. Taking good care of those documents means better control over your expenses. 

Shoeboxed can help you with that! Shoeboxed is a receipt scanning and expense management solution that helps businesses digitize piles of paper receipts in just a few clicks. After scanning your receipts, the app will automatically extract the key data and categorize them in proper order. You can then create clear and comprehensive expense reports, export, share or print all of the information you need for easy tax preparation or reimbursement. 

What’s more, Shoeboxed ensures that all your digitized receipts are human-verified and accepted by both the Internal Revenue Service and the Canada Revenue Service in the event of an audit. 
Using Shoeboxed saves you time and hustle collecting and keeping those paper receipts for report-making, especially when it comes to tax preparation. Sign up for free and go paperless with Shoeboxed!

Balance Sheet Explained – A Basic Guide

A balance sheet is one of the three most important financial statements. It provides a crucial insight into how your business is doing financially at a given point in time. This article will take a deep dive into the ins and outs of balance sheets.

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Balance sheet explained 

Simply put, a balance sheet displays a business’s assets, liabilities, and owner’s equity at any given point in time. A balance sheet provides an overview of what your business owns, what it owes, and the amount invested by its owners. In other words, it summarizes your business’s worth, so you can better understand its financial position. A balance sheet is also known as a statement of financial position. 

Key components of a balance sheet 

A balance sheet has three main parts: assets, liabilities, and shareholder’s equity. In each part, relevant items are listed and they must match the accounts outlined on your chart of accounts. 

Let’s take a closer look at the three components of a balance sheet:

  1. Assets 

The assets section lists everything your business owns that provides economic benefits. The sub-items are arranged in order of liquidity, or how easily they can be converted to cash. 

The assets section is divided into the two following categories: 

Current Assets: Assets that can be turned into cash within one year. Here are some current assets that companies commonly own:

  • Money in a checking and/or savings account
  • Cash equivalents (currency, stocks, and bonds)
  • Accounts receivable (money customers owe when buying products/services on credit)
  • Short-term investments
  • Prepaid expenses
  • Inventory

Non-Current Assets (Long-Term Assets): assets that will take more than one year to be converted to cash. Some examples of non-current assets are:

  • Land and property 
  • Machinery and equipment 
  • Intellectual assets (copyrights, patents, trademarks, etc.)
  • Goodwill (value from brand name, customer base, reputation, etc.)
  • Long-term investments 
  1. Liabilities 

Following the assets section are liabilities. Your liabilities are everything that you owe to others. Similar to assets, liabilities are also broken down into current and long-term liabilities.

Current liabilities are debts due within a year. Items are listed in order of their due date. Here are some examples:

  • Rent 
  • Utilities
  • Taxes
  • Short-term loans
  • Accounts payable (money owed when buying goods on credit) 
  • Interest payments

Long-term liabilities have due dates longer than one year. For example:

  • Long-term loans
  • Deferred income taxes
  • Pension fund liabilities.
  1. Equity 

Equity is the last section in a balance sheet. It refers to the money owned by the business owners or shareholders. In other words, equity is your net assets. The most common items belonging to this section are:

  • Capital (money put into the business by the owners)
  • Private or public stock
  • Retained earnings (net earnings to reinvest or pay off debts)

The balance sheet golden rule 

A balance sheet must follow a golden rule or an accounting formula as follows:

Assets = Liabilities + Equity

What your business owns always has to be balanced with what it owes plus its equity. This is because your assets either come from your borrowings or your own money. 

What does a balance sheet look like?

Normally, a balance sheet will be divided into two columns: assets on one side and liabilities plus equity on the other. However, it’s not unusual to see a balance sheet looking like a long, endless list. You decide the format most suitable to your business! 

Source: FundNet 
Source: Accounting Guide 

Why is a balance sheet important? 

A balance sheet is an important financial document as it allows you to look at your business’s position in detail. When comparing the current balance sheet to ones in the past, you can analyze and understand your business operations better. Think of it as a regular health check for your company. The balance sheet allows you to make better decisions by giving you an insight into what your business is doing well and what it’s not.

Here are a few financial areas that can be improved by leveraging a balance sheet:

Liquidity 

It’s always challenging for any business to calculate how much cash they have readily available. With the figures on a balance sheet, businesses can work out and analyze critical financial metrics like the current ratio (current assets ÷ current liabilities) or quick ratio ((current assets – inventory) ÷ current liabilities). Interpreting these ratios correctly will help you find the best ways to manage your company’s liquidity.    

Efficiency 

You can determine how efficiently your company uses its assets by comparing your balance sheet with other financial statements. Through calculations and analysis, you’ll be able to determine which areas in the business are generating profits. Then, you can make better plans for future investments or capital allocation.  

Risks

Your balance sheet summarizes how much debt you owe, which can tell you how much financial risk you face. Being aware of your debt situation allows you to make wiser business decisions and avoid potentially damaging events that could lead to bankruptcy. 

Who prepares the balance sheet?

Depending on your business’ size and model, the balance sheet may be prepared by different people. For example, in a small privately-owned business, a bookkeeper will prepare the balance sheet. For a mid-size private firm, their accountants may prepare it first, then have it reviewed by an external accountant. 

Key takeaways 

The balance sheet is an important financial document that you can’t overlook. Understanding what it is, how it works, and how it correlates to the rest of your business are a great advantage for any business owner. 

What’s Shoeboxed?

Shoeboxed is an application that lets you digitize every paper receipt in just a few seconds. Shoeboxed also automatically extracts and categorizes important data from your receipts with human verification

Quick, reliable, and trustworthy, Shoeboxed promises to organize your piles of documents in the best way possible! 
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7 Bookkeeping Practices Every Business Should Implement

Bookkeeping is one of the most fundamental activities of a business. It’s the job of recording all financial transactions within your business. Without bookkeeping you won’t be aware of your financial position.

It’s essential to build a consistent bookkeeping practice so that you can avoid monetary issues and use your financial reserves efficiently to grow your company. With that being said, do you know how to build basic bookkeeping practices? If you don’t, we’re here to help. In this article, we list out seven essential bookkeeping best practices every business should implement.

1. Separate personal and business finances

The first bookkeeping practice is related to business finance management. Co-mingling expenses for personal and business purposes leads to many issues in the future for a business. Therefore, for your business’s sake, you should establish a clear distinction between your personal and corporate accounts.

The simplest approach would be to get a business debit card or a credit card. Both make it easy to track your business transactions. Details of any transaction are stored on the e-banking app which you can access anywhere at any time. 

Now that you know how separating finances helps you manage your business better, it’s time to inform other people involved in your business too. Ensure your employees aren’t buying things for personal use with business funds. If funds aren’t accurately allocated it will lead to cash flow issues as well as tax filing and auditing complications.

2. Determine which accounting method to use

Another bookkeeping practice is to choose which accounting method your company will use to record transactions. There are two standard systems of accounting: cash accounting and accrual accounting.

Cash accounting is relatively simple and broadly utilized by small firms. Cash accounting records transactions only when money is spent or gained. Due to its simplicity, the cash accounting method is also used by many people to manage their personal finances.

On the other hand, under the accrual method, transactions are recorded when they are incurred rather than awaiting payment. This means a purchase or expense is recorded as a transaction even though the funds haven’t been received or bills haven’t been paid immediately.

3. Establish cash controls

Cash controls refer to all cash management policies and procedures within your organization. Many of the financial hazards associated with running a business (such as inaccurate payments, theft, and fraud), can be mitigated by implementing procedures that maintain control over cash flow.

There are many examples of best bookkeeping practices which you can adopt to enhance the management of a company’s funds, including reconciling cash receipts to deposits and the general ledger, following up on collections of returned checks, or preparing cash flow forecasts. 

4. Keep track of sales

Bookkeeping is the recording of all financial transactions involving your business, and it goes without saying that sales receipts are the most important of all financial documents because they allow businesses to gain visibility into their performance, to identify whether they’re doing well and whether you have to adjust any strategies.

It’s essential to keep track of sales receipts because you’ll need them to calculate your business’s income. Your income reveals the profits or losses you make while operating your business. This data helps you make better business decisions, ranging from day-to-day purchases to long-term expansion.

5. Keep track of expenses

Bookkeeping isn’t only about the recording of sales, but also expenses. Expenses are a necessary part of any business. If you don’t keep track of your expenses, chances are you’re likely to run out of funds, or worse, you may get deep in debt.

Expenses turn out to be more tricky than one might think. People often assume expenses only include payments for office rent, utilities, loan repayments, or such. But business expenses are much broader than that. They could be anything that costs to run your business and are categorized into three groups: fixed, variable, and periodic expenses. Knowing which category each of your expenses falls into will help you manage them better.

Read also: 5 Tips to Control Your Business’ Expenses

6. Review financial data monthly

It’s critical to close the books on all financial transactions for the current month before moving on to the next. When you review transactions on a monthly basis, you’ll catch issues early and fix them quickly before they leak over into the next month. 

Other than that, reviewing financial data monthly helps a lot for your decision-making. By looking at the financial data you can determine whether your goals were achieved. Goals are an important part of running a successful business. 

For example, if your last month’s goal for sales revenue was $200,000 and you successfully achieved it, your business seems to be on the right track. On the other hand, if you fail to achieve your goals, you can quickly adjust your strategies to get everything back on track. 

7. Make a choice: professional bookkeeper or bookkeeping software? 

Many small business owners and managers take on the businesses’ bookkeeping management to save costs. As a result, the success of this task lies in their experience. But most of the time, their knowledge and experience are insufficient to handle this intricate job. 

If you ever find yourself in this awkward situation, there are two options: turn to a professional bookkeeper or adopt a bookkeeping software. Each of these solutions has its own advantages and disadvantages. Depending on your business size, model, and finance, you can determine which option fits best with you.

How can a professional bookkeeper help?

Bookkeepers are more experienced in handling records which could prevent errors that result in penalties on filing documents in the future. A bookkeeper provides you with a fresh perspective on your business, such as suggestions on managing your budget better and running your company.

However, the price of hiring a professional bookkeeper can break your bank. The average salary of a bookkeeper is $45,088, which means you have to pay them more than $3,000 per month. Unless you’re a big firm, whether to hire a bookkeeper should involve  serious consideration.

How can bookkeeping software help?

Bookkeeping management software are a better solution for small businesses, as they can do the same job as a bookkeeper and cost only a fraction of a bookkeeper’s salary. There are many names that you’ve always heard of such as  QuickBooks, Xero, or Shoeboxed. Bookkeeping management software developed by Shoeboxed is an ideal tool for small business owners. 

With Shoeboxed, you can turn your receipts into data, organize them, make reports and analyze your current financial position at any time and anywhere. And Shoeboxed only costs from $18 to $54, depending on your business size. To get the most out of your bookkeeping management, get started with Shoeboxed for free!

The bottom line

Proper bookkeeping practice drives your company to success. It allows you to stay on top of your business transactions. What’s more, it streamlines your financial data management; hence, you can stay focused on growing your business.