The Importance of Small Business Accounting


When a Small Business is created, it must embark on several activities such as registering the business, selecting a name, and selecting the right business structure. A vital piece of this puzzle is Small Business Accounting.

This is to place on record every financial transaction of the Small Business. At any given point in time, if the owner wants to know the health of the Small Business – whether it is running profitably or incurring loss – the only way is to check the Profit & Loss numbers recorded by the Accountant.

There are two methods of Accounting for Small Businesses – Cash-Basis Accounting and Accrual-Basis Accounting. Small Businesses are free to select either of the methods following the law and conditions imposed by the IRS.

Cash-Basis Accounting

This is the old and simple system, followed universally by businessmen owning Small Businesses. In this method, one’s income is taxable when received, and expenses are deductible when paid.

So this accounting system registers when the money arrives and registers costs when cash goes out. For Small Business Tax purposes, this is a straightforward and easily understood method of bookkeeping.

Accrual-Basis Accounting

This method is an elaborate one, treating accounting events in real-time without regard to payments being
made. In this system, income is recorded as soon as the sale takes place, even if the cost for the transaction does not arrive until weeks or months later. Similarly, when the business incurs an expense, the deduction is recorded immediately, even if the payment is made at a later date.

This bookkeeping system enables a small business owner to include accounts receivable, accounts payable, and inventory when preparing financial statements. However, due to the complexity of this system, it is advisable to have a Certified Public Accountant handle your books if you use the Accrual Basis.

For Small Business Tax planning and paying Small Business Taxes, both systems are acceptable. However, Small Business Tax planning aims to maximize the profit and minimize the taxable income. So, the tax implications of each system should be analyzed when choosing which method to use.

For small businesses with gross receipts under $1 million (often referred to as MicroBusinesses), the cash-basis accounting system is typically recommended for its simplicity. For other sized businesses, the determination should be made based on tax planning purposes.

If accounts payable generally is greater than accounts receivable, use the accrual basis. If accounts receivable is typically greater than accounts payable, use the cash basis.
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