11 Accounting Tips All Small Businesses Should Know

What small businesses need to know about accounting

Small business accounting is relatively simple. Companies that operate in a single state with a simple business structure have three accounting priorities:

• Ensure that revenues exceed expenses.
• Keep the books clean.
• Pay all necessary taxes.

Consider the following accounting tips to keep your business’s financials in order. 

1. Keep business and personal accounts separate.

One of the messiest accounting blunders small business leaders make is mixing their business and personal funds. Although many entrepreneurs self-fund their businesses, business revenue and expenses must be kept separate from personal finances.

Here are some tips for keeping business and personal accounts separate: 

• Start with a sound business structure. Establish your company as a distinct legal entity, such as an S corporation or LLC. 
• Open a business checking account. Open a business checking account as your financial hub and pay yourself a salary from it each month.
• Get a business credit card. Get a business credit card for expenses you can’t or don’t want to pay cash for.
• Open a business savings account. Open a business savings account as a rainy day or investment fund. 
• Monitor personal item usage. Track any business usage of your personal items.

2. Classify workers properly to streamline accounting.

Classifying workers properly is a common accounting challenge. 

When you’re ready to build a team, you have two choices: employees and contractors. 

• Employees. The IRS considers employees to be those over whom you have behavioral authority and financial control. You also likely have long-term business relationships with employees.
• Contractors. Contractors are people who work for your company on a project basis. They retain control over their schedules and business decisions.

The penalties for misclassifying workers are steep:

• Employers pay $50 for each W-2 form for misclassified contractors. 
• Employers pay fees of 1.5 percent of wages and 40 percent of FICA taxes they didn’t withhold from an employee. 
• Employers must also pay 100 percent of the FICA taxes it would’ve paid per employee. 
• If the IRS believes the misclassification was intentional, the employer could be fined up to $1,000 per worker or imprisoned for a year.

3. Calculate total labor costs before you hire.

If you decide to hire employees, you’ll be on the hook for more than just their wages. When calculating labor costs, consider the following: 

• Benefits and payroll taxes. At least once a month, you must ready funds for employee benefits and payroll taxes. Those costs add up faster than many small business owners realize. 
• Wage increases and bonuses. According to a Truist Bank survey of small business owners, 41 percent increased wages in 2022, while 21 percent paid referral bonuses and 21 percent paid hiring bonuses to retain staff. The labor shortage has increased wages across many industries, and you must ensure your business can handle these increased costs over time.

4. Create profit-and-loss statements regularly.

A profit-and-loss statement, or P&L statement, is a staple accounting tool that summarizes your company’s income and expenses over a given period. All public companies are required to put out these statements once per quarter. Although small business owners aren’t legally required to create them, P&L statements are a great way to see whether you’re on track to meet your financial goals.

Follow these steps to generate a P&L statement:

• Total up the revenue you generated in the quarter.
• Itemize your company’s expenses. Sort them into two categories: operating expenses and cost of goods sold (COGS).
• Subtract the total expenses from your gross profit to get your operating profit.
• Subtract interest and taxes from that operating profit, and you’ll know whether your business operated at a profit or a loss that quarter.

Although individual P&L statements are valuable, quarter-by-quarter comparisons are even more critical. Are your operating expenses growing? Is your profit shrinking, despite your sales figures going up? Checking P&L statements against one another yields valuable insights. 

5. Always get a receipt.

You can claim a good chunk of your company’s expenses as tax deductions. Various categories allow expenses to be fully or partially deducted, including the following: 

• Meals with clients
• Inventory purchases
• Business travel
• Ad campaigns 
• Office rent 

However, to claim these deductions, you need receipts for financial tracking and verification purposes.

Business owners often forget to get receipts for charitable donations. Although companies of specific structures, such as LLCs and partnerships, can’t claim charity contributions as business expenses, the owner often can. Ask recipients of in-kind donations for written confirmation of the time spent, and use documentation to defend the fair market value of any property donations you make.

6. Keep a close eye on accounts receivable.

Although staying on top of accounts payable is crucial, accounts receivables dictate your company’s survival. If money isn’t coming in the door, the company can’t continue operating. 

Each month, review the percentage and total amount of outstanding revenue. Generally, no more than 10 to 15 percent of your accounts receivable should be past due. Reach out weekly to those clients. While you don’t want to start the debt collection process too soon, you must ensure you get paid.

One solution is charging interest and late fees. For example, set a monthly finance charge of 1 percent or 2 percent of the principal. If you decide to charge 2 percent on an initial charge of $5,000, you’d add $100 to the invoice every month it isn’t paid. 

Be sure to tell clients about finance charges in advance. It’s important legally, and the threat of penalties is often enough to dissuade poor payment practices.

7. Invoice accurately and regularly.

Invoicing is a necessary part of owning a business, but it can feel cumbersome and time-consuming. Plus, any mistakes impact your payments. Sending out accurate, regular invoices is critical. 

These are some best practices for creating invoices:

• Provide specific information about the transaction.
• Send invoices in a timely manner. 
• Follow up via email or text with payment reminders. 

By keeping detailed and accurate records of your invoices, you can spot customers who fail to pay on time and reward those who are always early.

8. Stay on top of tax deadlines.

Individuals usually pay taxes once per year. However, many small businesses file estimated quarterly tax payments. Quarterly payments need to be made on self-employment tax (including Social Security tax and Medicare tax) and income tax on your company’s profits.

Follow these steps to determine whether you must pay quarterly taxes:

1. Subtract your federal income tax withholding from the federal taxes you expect to owe this year. If that figure is less than $1,000, you don’t need to make quarterly payments.
2. Take the total federal tax you expect to owe this year and multiply it by 0.9. If you’ve withheld at least that much, there’s no need to make quarterly payments.
3. Compare your total federal income tax on last year’s return to your withholding amount. If it’s at least as much, you don’t need to pay those quarterly taxes.

If you must make estimated tax payments, here’s when they’re due.

• First quarter: April 15
• Second quarter: June 15
• Third quarter: September 15
• Fourth quarter: January 15

9. Set (and stick to) your own payment terms.

Big companies commonly pay on net-60 or even net-90 terms — meaning they transfer funds either two or three months after receiving an invoice. Your small business can manage its cash flow by operating the same way. 

Consistency is key. Let’s say you pay on net-30 terms. Make it clear at the time of service that your vendors can expect you to pay in 30 days. Don’t pay early, or the vendor will expect the same next time. Don’t pay late, or the vendor may not want to work with you in the future.

10. Bring in the experts instead of DIY accounting.

Business owners like to control all aspects of their organizations. However, sometimes it pays to outsource processes and functions — like accounting and bookkeeping — to the experts. By hiring a CPA, you can reduce accounting mistakes and ensure your records are accurate and current. You’ll also save time. A CPA can review your books to help you identify ways to cut costs and boost spending in growth areas.

11. Use accounting software.

Choosing the right accounting software can be a game-changer. Accounting software was once cost-prohibitive for many small businesses, but now you can access robust accounting software for a monthly fee (or even for free). Accounting software is increasingly easy to use and provides small business owners with many features and services, including sales tracking, budgeting, inventory management, financial statements, payroll and taxes.

In addition to automating accounts payable and accurately tracking and balancing your books, cloud-based accounting software can often integrate with the other software you use. Sharing data across applications can reduce errors and save the time it would take to manually input data into your accounting software. 

The best accounting software

The best accounting and invoicing software for your business fits into your budget while providing the features your organization needs. Here are some top solutions to consider: 

• QuickBooks. QuickBooks is the most well-known small business accounting software, and for good reason. It has been around for over 20 years and is our best pick for small businesses. It is available for download or as a cloud-based solution and is easy to use. As a bonus, since it has been the market leader for so long, most accountants are already familiar with it. QuickBooks can reconcile your bank statements automatically, help you create professional-looking invoices with automatic payment reminders, assist with managing inventory and vendors, and much more. To learn more, check out our complete review of QuickBooks Online. 
• Xero. Xero is an excellent accounting software solution for growing businesses. Its cost is not based on the number of employees you have; it allows you to quickly scale your business without switching accounting software. It has over 1,000 third-party integrations, so it can seamlessly work with your existing systems. With Xero, you can schedule recurring invoices, do online invoicing, and track employee time for no additional charge. Take your accounting on the go with a robust mobile app, and monitor transactions with a history and notes capability. For more information, read our in-depth Xero review. 
• Zoho. If you have a small business with few employees and just want the basics, consider using Zoho. Its plans are affordable, starting at $15 per month. It lets you automate tasks and avoid the time and error of manual entry. For example, it can convert estimates to invoices and set automatic payment reminders. It can even output automated reports on a schedule you set; tech-savvy users can set up custom automated tasks. Read our review of Zoho Books for more details. 

Accounting is a crucial component of running a business

Accounting may not be the sexiest part of being a small business owner, but it’s an essential one. Mistakes in your books will come back to haunt you. Tax troubles will only get worse, and you may miss a tax deadline. If you’re in over your head, call an accountant. There’s no shame in asking for help. 

Jennifer Dublino contributed to this article.