Basics of Accounting

​Hello, readers! Welcome back to the Hoods Tax & Accounting blog! If this is your first time here, welcome! We’re delighted to be able to share up-to-date information about taxes, bookkeeping, and accounting. Our blog is also dedicated to educating you about tax-advantaged savings accounts, tax provisions, programs, and more! We aim to provide you with the tools needed to meet your short and long-term goals. Our seasoned professionals are experts on the tax code, eligible deductions, and QuickBooks—all necessary fundamentals for saving you money! The Hoods Family has been around since 1988 and our comprehensive accounting and tax planning services are among the best in the Lowcountry. If you’re in need of tax preparation, accounting, QuickBooks training, or business consulting services, do not hesitate to schedule an initial consultation!
 
We just finished a three-part series on Bookkeeping Basics, which explained bookkeeping fundamentals in an easy-to-understand format. From understanding different kinds of accounts to the nature of double-entry, our series breaks down bookkeeping into its requisite parts. What’s the difference between a debit and a credit? Does single or double-entry bookkeeping suit your business better? How do you prepare financial documents? What are the bookkeeping best practices which will take your business to the next level? The answers to these questions can be found in our previous posts. Bookkeeping is one of the most essential building blocks of any successful business and the precursor to accurate accounting. Therefore, we recommend giving this series a read before delving into today’s article. 
 
The topic for today is accounting. Many are unsure of the difference between bookkeeping and accounting. To be sure, there’s plenty of overlap between the two professions and many small business owners find themselves donning the hats of both accountant and bookkeeper. However, there is a notable difference between the two. Bookkeeping, on the one hand, deals with compiling raw data. Transactions must be recorded into the proper accounts and underlying subtypes. These entries must be entered accurately to ensure the financial statements derived from the data truly reflect the health of the business. Bookkeeping must be done regularly (i.e. weekly or monthly), as businesses continue to accrue transactions. Accounting, on the other hand, uses the financial information yielded from bookkeeping to plan and file taxes, as well as give advice to improve the health of the business. Both bookkeeping and accounting are fine financial arts. We hope to give you the information you need to understand the purpose of both and determine whether to invest in a bookkeeper or accountant for your business’ needs. If you’re interested in learning more about the basics of accounting and how proper accounting can increase the growth of your business, read on! 
 
Why is accounting important?
 
It’s important to keep track of expenses, right? Would you say it’s also important to pay back outstanding debts? A company’s liabilities, revenues, and equity all play an equal role in determining how well a company is performing and where changes should be made to improve performance. If you agree it’s necessary to understand the unique demands on a company’s cash flow, as well as the federal and state obligations concerning a company’s taxes, then you agree accounting is a vital aspect of any company’s organizational structure. 
 
From the bottom upwards, accounting uses business transactions to assist management in developing expectations for the future of the company and adjust their strategy accordingly. For example, accounting can be as simple as an employee retaining receipts from a business trip and these receipts being written off come tax season. Accounting could be utilizing quarterly revenue statements to estimate yearly tax payments and setting aside this money preemptively. Accounting could also be the complex process of using financial statements to plan hiring patterns for the next year and to draw investors.
 
Accountants are responsible for a host of business necessities, from filing financial statements with authorities such as the Internal Revenue Service or the stock exchange, to creating budgets which allow for full operations while maximizing profitability. You might think of accountants as doctors, attempting to diagnose the illnesses of companies and recommending lifestyle choices which will help companies achieve optimal health. 
 
Types of Accounting
 
Just as bookkeeping is divided into distinct types—single-entry and double-entry—accounting is similarly divided. The first type of accounting is cash accounting. This is the simplest method, as only cash transactions made by the employees of a business are recorded. This can include a number of business expenses, including transportation, lodgings, and food. The basis of these records are receipts retained by employees. This can also include expenses paid for with cash, such as supplies and equipment. Also known as cash-basis accounting, this method records payments and expenses when the cash exchanges hands (i.e. bill paid, product bought). This type of accounting is, of course, better used by cash-heavy businesses. This type of accounting would not work well for large corporations with complex financial structures, as this type of accounting would fail to show the true position of the company’s accrued liabilities. 
 
For this reason, accrual accounting is the method often used by bigger businesses. While accrual accounting does record cash transactions, this type also takes into account credits, debits, and other forms of transactions. This can include money owed by customers on store credit or money owed to customers on store credit. Essentially, regardless of whether a cash transaction occurs or not, a transaction can still be recorded in the corresponding accounts with accrual accounting. 
 
Corporations (or any business with over $25 million in gross revenue) are forbidden from using anything other than accrual accounting. However, small businesses have a choice between accrual accounting and cash-basis accounting. How do you decide? The method of accounting you choose has everything to do with time. When do you want your books to reflect a transaction? If you choose to follow the cash-basis accounting method, your books will reflect a payment or expense when the payment or expense is fulfilled. For example, if your business makes a sale on the 13th of November but the invoice isn’t paid until the 12th of December, the transaction will not be recorded until the 12th. If you choose to follow the accrual accounting method, however, your books will reflect a payment or expense as soon as the transaction occurs. Accrual accounting is considered more accurate because you can plan for incoming and outgoing cash flow. Cash-basis accounting will give you an accurate reflection of what’s currently in your accounts, but may struggle to reflect the full picture. That said, cash-basis is often less complicated to learn.
 
As well, it’s important to note, with cash-basis accounting certain expenses and revenue may not be recorded until the following year. For example, an expense incurred in late 2021 but not paid until early 2022, could not be deducted from a businesses 2021 tax return. The same is true for revenue. Consider the tax implications of whichever type of accounting you choose. 
 
Should I hire a professional accountant?
 
There is a certain diligence and attention-to-detail required to perform accurate accounting. As well, accountants are held to a set of widely accepted standards, including (but not limited to) the generally accepted accounting principles (GAAP) and the rules of the Financial Accounting Standards Board. Accountants are privy to a long set of principles which govern their recordkeeping, financial reporting, and advice. We’ll cover a number of these principles in later parts of this series, but many accountants train for years to understand the complex inner workings of businesses, both big and small. Many new entrepreneurs and business owners can benefit from the expertise of a seasoned accountant, even if they believe they are equipped with the mathematical skills to perform their accounting duties themselves. Of course, you must make the best decision for your business, but investing in an experienced accountant is almost never a bad decision.
 
 
You’ve made it to the end of the first part of our Basics of Accounting series! Thank you for taking the time to read about cash-basis and accrual accounting, as understanding the difference between these two types is the first step to understanding accounting. In the next part of this series, we’ll cover the financial principles which govern accounting. We’ll also delve into the tax responsibilities of accountants, as well as a few best accounting practices for small businesses. The health and sustainability of your business is the foremost concern of any good accountant. That’s why our highly-trained accountants at Hoods Tax & Accounting take ample time to study the structure of your business and learn your unique goals. We offer bookkeeping, accounting, and business consulting services. As well, we offer tax preparation, payroll, and QuickBooks training! If you have any questions or are interested in a consultation, do not hesitate to reach out. We do offer virtual consultations over Zoom, as part of our effort to accommodate everyone in these trying times. We look forward to hearing from you! Until next time, thank you for reading! 

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