Accounting is essential for any business owner, manager, or entrepreneur.
Whether you're launching a startup, managing finances, or investing, understanding accounting basics is key.
It helps track income, expenses, profitability, budgeting, and decision-making.
Yet, accounting can be daunting, especially for beginners. This guide simplifies it step-by-step. Learn definitions, types, methods, principles, and standards. Discover basic terms and prepare financial statements: income, balance, and cash flow.
By the end, you'll master accounting fundamentals, software, and tools. Ready to dive into 7 easy steps? Let's begin!
Also Read: A Comprehensive Guide to Accounting Terms for Business Owners - Simplify Your Finances
1. Learn the basics of accounting
Accounting is the process of recording, summarizing, and analyzing financial transactions related to a business, nonprofit, or government.
Accounting produces three major financial statements: the income statement, the balance sheet, and the statement of cash flows. These statements show the financial performance and position of an organization over some time.
You should learn how to read and interpret these statements, as well as the accounting principles and standards that govern them.
2. Choose an accounting method
There are two main accounting methods: cash basis and accrual basis. Cash-based accounting records transactions when cash is received or paid, while accrual-basis accounting records transactions when they are incurred, regardless of cash flow.
Cash basis accounting is simpler and more suitable for small businesses, while accrual basis accounting is more accurate and more common for larger businesses. The main difference between the two methods is the timing of revenue and expense recognition.
3. Set up an accounting system
An accounting system is a set of rules, procedures, and tools that help you record, organize, and report your financial transactions. You can choose between a manual or a computerized accounting system, depending on your needs and preferences.
A manual accounting system involves using paper ledgers, journals, and calculators, while a computerized accounting system involves using software, spreadsheets, and databases. A computerized accounting system is faster, more efficient, and more reliable than a manual one, but it also requires more investment and maintenance.
To set up an accounting system, you need to choose accounting software, customize the software settings, create and link your bank accounts and payment methods, import or enter your existing data, and set up your security and backup features.
Also Read: How Accounting Software Can Boost Your Small Business ROI
4. Create and maintain accounts
Accounts are categories that classify your financial transactions into different types, such as assets, liabilities, equity, revenue, and expenses. You should create and maintain accounts that reflect your business activities and goals, and follow the accounting equation:
Assets=Liabilities+Equity
You should also use a chart of accounts, which is a list of all your accounts and their codes, to organize and track your accounts. Each account has a normal balance, which is either a debit or a credit, depending on its type.
Debits and credits are the two sides of an accounting entry, and they must always be equal and opposite. To create and maintain accounts, you need to identify the accounts that you need, assign a code and name to each account, record the opening balances of your accounts, and update your accounts regularly.
Also Read: Beyond Bazaars and Beads: How India Became an Accounting Powerhouse
5. Record and adjust entries
Entries are the records of your financial transactions in your accounting system. You should record entries for every transaction that affects your accounts, using the double-entry bookkeeping method, which means that every entry affects two accounts: one is debited and one is credited.
You should also adjust entries at the end of each accounting period, which is a specific time frame for reporting your financial statements. Adjusting entries are corrections or updates that reflect the actual situation of your accounts, such as depreciation, accruals, and deferrals.
To record and adjust entries, you need to identify the accounts that are involved in each transaction and adjustment, determine the amount and direction of the change, record the entry in your accounting system, review the entry for accuracy and completeness, and post the entry to the general ledger, which is the master record of all your accounts and their balances.
You should also prepare an adjusted trial balance, which is a list of all your accounts and their adjusted balances, to verify that the debits and credits are still equal and opposite.
6. Prepare and analyze financial statements
Financial statements are the reports that summarize and communicate your financial information to internal and external users. You should prepare and analyze the three main financial statements: the income statement, the balance sheet, and the statement of cash flows.
The income statement shows your revenue and expenses and your net income or loss for the accounting period. The balance sheet shows your assets, liabilities, and equity and your net worth at the end of the accounting period. The statement of cash flows shows your cash inflows and outflows and your net cash flow for the accounting period.
To prepare and analyze financial statements, you need to use the accounts and balances from the adjusted trial balance and arrange them in the appropriate format, style, and standards for each statement. You should also include any notes or supplementary schedules that explain or support your financial information.
You should also calculate and interpret some key ratios, such as the profit margin, the current ratio, the debt-to-equity ratio, and the cash flow margin, to measure and evaluate your financial performance and position.
7. Manage and monitor your accounting
Accounting is not a one-time activity, but a continuous and dynamic process that requires constant management and monitoring. You should review and update your accounting system, accounts, entries, and financial statements regularly, and make sure they are accurate, complete, and consistent.
You should also use accounting tools and techniques, such as budgets, forecasts, ratios, and audits, to plan, control, and evaluate your financial performance and position.
The Bottom Line
Did you know that a whopping 66% of accountants have welcomed automation with open arms? That's right – two-thirds of the professionals in the field are embracing the power of automation to streamline their work and boost efficiency.
It's a game-changer in the world of accounting, revolutionizing the way tasks are handled and paving the way for a more agile and productive workforce.
So, if you're still on the fence about automation, it might be time to jump on board and witness the transformative impact it can have on your accounting processes.
