Thanks to the huge range of accounting applications available for today’s small and medium-sized businesses, it’s easier than ever to keep an accurate record of where your business’s money is going.
While accounting software has made bookkeeping and accounting easier for small businesses, it has also made errors and accounting mistakes much more common. Some accounting mistakes are minor, insignificant, and – when they’re inevitably noticed by someone within your business (or your accountant) – easy to correct. However, others are more serious and could have a significant effect on your business’s financial health. Over time, poor internal accounting practices can distort the reality of your company’s financial health.
Let’s examine seven of the most common small business accounting errors and explain how they can create issues, both small and significant, for your business.
1. Assuming Profit Always Means Cash Flow
Business owners counting profits as equal to cash flow is a common mistake. Profit IS NOT the same as cash flow. Although cash is critical, people think in profits instead of cash. We all do.
However, we don’t spend the profits in a business. We spend cash. Profitable companies go broke because they had all their money tied up in assets and couldn’t pay their expenses. Working capital (cash flow) is critical to business health.
Example: You just won a $60,000 deal that will take your company three months to fulfil. It’s going to cost your business $40,000 to fund the project, so you’re counting on a $20,000 profit on the deal, before you’ve delivered anything.
Big mistake. What happens if the deal runs in to an issue that causes an additional three months of delays? Your costs increase, making the projected $ profit inaccurate. You’ll also need to pay actual cash for materials and day to day costs (i.e. wages/rent etc.) to deliver the project, often BEFORE you receive payments. This is how cash flow is impacted.
Take a look at the case study of a ‘real’ business – this explains the difference between profit and cash flow in real numbers and highlights why cash flow planning is so critical.
2. Not Taking Bookkeeping Seriously Enough
It’s easy to be caught up in other aspects of the business. After all, it seems far more productive to be doing paid work than to have your head buried in “bookwork”. And it’s tempting to put off those small tasks to a less busy day – problem is, that day may or may not arrive.
Having to untangle a maze of neglected payments and invoices is no fun (well, except for accountants, they sometimes enjoy it!)
Record everything from small to large transactions (Xero is great for this). Investing 15 minutes a day – or every few days – will save you hours of headaches in the long run.
Taking bookkeeping seriously gives you an accurate, reliable picture of your company’s health, letting you determine how well (or poorly) you’ve performed in a given period – no matter the size of your business.
3. Failing to Separate Personal and Business Accounts
It may seem like a no-brainer, but failing to separate business accounts from your personal accounts is a common trap.
Keeping all your business finances in one place will make tax time much more bearable. Having a dedicated business credit card will ensure all relevant purchases can be easily accounted for. It’s a good idea to keep invoices for personal and business items separate too. Whether you store them digitally or physically, having them in one place is essential. (Did you know external invoices and other documents can be stored in Xero?)
4. Failing to Specify Employees and Contractors
Does your business have employees? If so, are they employees of your business, or do you have people and companies you’ve hired on contract?
There are big differences between employees and contractors. Understanding the difference between an employee and a contractor, as well as the accounting consequences of this difference (and IRD’s view of this difference), is vital.
If you or your company contracts to others, then it’s also important to know about the changes to tax deducted from payments to contractors (withholding tax), as they may be relevant.
5. Ignoring Your Accountant or Managing all of Your Accounting In-House
It can be tempting to lower costs by handling your accounting needs on your own. While it might seem like a great way to save money, it could actually be costing your business money. An accountant will have greater costs than managing your accounts by yourself, but can also save you money in other ways.
Don’t ignore your accountant! Almost 60% of surveyed accountants say they’re forced to spend extra time on end of financial year (EOFY) statements as result of being left out of the loop all year. When you’re making a major business-related decision, give your accountant a call. This is their domain after all, and they might be able to suggest a useful cost-saving alternative. You don’t know what you don’t know and some un-researched decisions can be costly.
Example: Business owners have approached us after suffering costly tax losses (we’re talking tens of thousands of dollars) by changing shareholdings without considering the tax implications. Savings can also be made by implementing the correct structure before making purchases, e.g. a trust, lease versus buying outright, and new and changing IRD regulations can affect property transactions (Brightline test).
Handling all of your accounting in-house seems budget friendly to many businesses but actually, it can be costly.
6. Inadequate Knowledge of Accounting Software
The constant evolution of accounting software has simplified life for small business owners. The range of programs on offer means there is something for every budget. However, many businesses plough along never knowing the full capability of their software.
Setting aside some time for training will lead to significant timesaving’s down the track. All good programs offer free online courses to coach you through the software capabilities. We also offer personalised training to ensure your system is set up correctly, you’re using it to its fullest capacity for your business and to teach you how to prepare and understand regular (ideally monthly) management reports.
Get to know your accounting software, so your business can make the most out of it.
7. Forgetting to Record Small Transactions
How does your business manage its small transactions? It’s very easy to think of petty cash transactions as unimportant, but it’s essential your business has a record of all of its spending, no matter how insignificant.
This is especially important in retail environments, where many transactions are cash based. Stay on top of the small transactions and it becomes far easier to manage the bigger ones. By keeping a record of small transactions, you’ll be able to easily manage your books as your company grows in size and its number of transactions increases
We have heaps of business tools and workbooks available to help you run your business. Just visit our website or call us.
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Love to Grow (Wgtn) Ltd
Chartered Accountants
Email: info@lovetogrow.co.nz
Tel: (04) 972-4182 or (09) 282 3054
www.lovetogrow.co.nz