Lending Library

Running a manufacturing company while managing its books is a challenging prospect. Manufacturing involves a significant amount of cost accounting, which is a notoriously complex subject.

Here’s what you need to know to navigate manufacturing accounting successfully, including the best practices for the industry, the most complicated processes involved, and some fundamental terms.

Manufacturing accounting tips.

Manufacturing accounting follows the same fundamental principles as accounting in other industries, but there are many more moving parts than usual. Let’s look at some general best practices you should follow to optimize your accounting system.

Leverage manufacturing software.

Bookkeeping is one of the most time-consuming aspects of manufacturing accounting. Maintaining accurate and organized records of all the transactions and costs involved in production can be incredibly laborious if you do it manually.

However, manufacturing accounting software can automate a significant portion of this responsibility. You or an accountant should still perform reconciliations to confirm the accuracy of your financial records, but it’s much easier than doing everything by hand.

Invest in your financial education.

While you probably won’t handle all your business’s accounting personally, you still need to understand it. A lot of manufacturing accounting revolves around creating records that managers can use to inform business decisions.

As a result, it’s worth investing in developing a deeper understanding of the related accounting and tax rules. If nothing else, it’ll help you analyze your financial statements and reports to improve the efficiency of your business.

Choose your accounting basis carefully.

Because manufacturing businesses carry an inventory, the Internal Revenue Service (IRS) requires them to use the accrual basis of accounting. However, there’s an exception for small businesses with less than $26 million in average annual revenues.

As a result, your manufacturing company may get to choose between using cash or accrual accounting. While the cash method is often easier to implement, it’s not always the best way to organize your financial records.

Because you must get special permission from the IRS to change your accounting basis later, it’s best to get it right the first time. Consider consulting an expert before choosing one or the other.

Get expert assistance.

Getting expert tax and accounting advice is worthwhile for virtually every business. A Certified Public Accountant (CPA) with experience in your industry can provide valuable financial insight and ensure you meet your tax obligations.

Fortunately, you don’t necessarily have to hire an accountant full-time for your manufacturing business at first. Outsourced accounting from a CPA firm is less expensive and may be enough to meet your needs.

What type of accounting is used in manufacturing?

The primary type of accounting used in manufacturing is known as cost accounting. It’s a form of accounting that tracks production costs in a way that managers can use to inform business decisions.

As a result, cost accounting is less about creating financial statements for third parties and more about facilitating various forms of internal analysis. For example, manufacturing businesses use cost accounting to complete processes like the following:

• Budgeting: Manufacturers must create budgets for each stage of the production process to ensure they stay on track and set appropriate sales prices. Cost accounting tracks historical production costs, which helps create more accurate estimates for future activities.
• Constraint analysis: This involves isolating potential bottlenecks in your manufacturing and improving them to increase overall efficiency. Organizing your production costs helps managers determine which resources limit their output most and plan accordingly.
• Margin analysis: This involves calculating all the costs associated with an aspect of production, then subtracting them from the revenue it generates. That gives you each aspect’s marginal profitability, which managers can use to find the most lucrative products, customers, or channels and inform business decisions.

In addition, manufacturing involves inventory management accounting. Because manufacturers carry significant inventories, they need to know how to track their costs to create accurate financial statements and comply with accounting standards.

Cost-flow assumption methods.

Your cost of goods sold and ending inventory values play a significant role in your manufacturing business’s profitability. Because that directly affects your tax liability, the IRS requires that you use specific methods to calculate both numbers.

These are the inventory tracking methods they accept for manufacturing businesses. 

Specific identification

The specific identification method is the most straightforward option. It involves keeping track of each item in your inventory. If that’s feasible for your business, the Internal Revenue Service (IRS) requires you to use this method.

However, specific identification is usually only possible for manufacturing businesses that produce a low volume of differentiated products. For example, car manufacturers may use this approach, but a stapler manufacturer probably wouldn’t.

FIFO

If you can’t keep track of every item in your inventory because the units are interchangeable, you must assume which ones you sell first. While you can’t know for sure which you sell first, this keeps your books organized.

The first-in-first-out (FIFO) inventory valuation method assumes that the first unit you manufacture is the first one you sell. FIFO is generally the most popular approach, especially for manufacturers of products with limited shelf lives.

LIFO

The last-in-first-out (LIFO) inventory valuation method is the opposite of the FIFO approach. It assumes that the last unit you produce is the first one you sell.

Because prices tend to rise over time, the LIFO method generally maximizes your cost of goods sold and minimizes your closing inventory values. As a result, it also leads to the lowest possible net income, which is beneficial for tax purposes.

However, LIFO is controversial among regulators. The International Financial Reporting Standards (IFRS) prohibits it, and businesses in the United States may not be able to use it forever.

Weighted average

The weighted average cost flow assumption is between FIFO and LIFO. It involves calculating the weighted average cost of all units available for sale during a given period. You then assign that cost to your goods sold and ending inventory.

The weighted average is generally the least common cost flow assumption for manufacturers. In fact, the IRS previously dismissed this method as inaccurate, only allowing businesses to use it for tax purposes in 2008.

Production costing methods.

Production costing methods organize your cost accounting records to help management make decisions. Depending on your business model, you may prefer to structure your accounting around individual units, product lines, or processes.

Here are the most popular production costing methods for manufacturers. Keep in mind that the terminology for these approaches can vary between sources.

Standard costing

Standard costing is one of the most common production costing methods among manufacturers. It involves calculating a standard rate for groups of costs that go into each unit, including direct materials, direct labor, and manufacturing overhead.

This approach to production costing helps with creating and refining budgets. When you can estimate how much it’ll cost to produce each unit, you can gauge your progress during each accounting period.

Variance analysis, which involves comparing your standard costs to your actual expenses, is a great way to reveal areas of overspending, improve production efficiency, and increase cash flow.

Job costing

Job costing organizes your accounting around each unit. It involves tracking the costs for every item you produce, including direct materials, direct labor, and manufacturing overhead. It’s also popular in construction accounting.

This approach is primarily beneficial for manufacturers who produce a relatively low number of unique products. For example, a manufacturer of made-to-order furniture would likely employ job costing.

Manufacturers of highly differentiated products need to track costs for each unit so they can set prices appropriately and monitor the profitability of their products.

Process costing

If job costing is ideal for manufacturing businesses that produce lower numbers of unique products, process costing is for those that create a high volume of homogenous units. For example, a cement manufacturer might use this method.

Process costing involves tracking the cost of each stage of production. It helps facilitate analysis and efficiency refinement for businesses that revolve less around each unit and more around repetitive procedures.

Activity-based costing

Activity-based costing (ABC) is a way to assign indirect manufacturing costs like overhead to products or processes. Though it takes more work than applying a standard overhead rate, it generates more accurate cost estimates.

ABC systems involve sorting your business’s indirect costs into groups, calculating a per-unit rate based on their primary cost drivers, then using that rate to allocate costs to products or activities. It helps businesses factor indirect costs into pricing.

Basic manufacturing cost terms.

Deciphering jargon can be a frustrating challenge when you’re learning to navigate the complexities of manufacturing accounting. Here are brief explanations of some fundamental terms you’ll need to know to succeed.

Direct materials

Direct materials refer to the raw materials that manufacturers transform into finished products. That includes everything you can readily identify as going into a unit. For example, wood and screws are direct materials for table manufacturers.

Direct labor

Direct labor includes the cost of workers who transform raw materials into finished goods. For example, say you’re a table manufacturer. The wages of the worker who assembles the tables are direct labor, but not the salary of the janitor who keeps your factory clean.

Direct costs

A direct cost is an expense that you can easily trace to product manufacturing processes. Direct expenses primarily include direct labor and direct materials.

Manufacturing overhead

Also known as factory overhead, manufacturing overhead refers to the cost of maintaining and operating your production facilities. Overhead costs include expenses like factory rent, utilities, and administrative costs.

Indirect costs

Indirect costs are those that you can’t tie directly to the production process. Instead, you must allocate each indirect cost to your products using various methods to determine the value of each unit. It primarily refers to manufacturing overhead.

Fixed costs

In manufacturing, fixed costs remain consistent no matter how many units you produce. For example, that might include rent for your factory or interest payments on a business loan.

Variable costs 

Variable costs change depending on the number of units your manufacturing firm produces. For example, direct materials and direct labor are both variable costs.

Cost of goods sold

The cost of goods sold includes all direct and indirect costs associated with the products you sell during a given period. It typically refers to direct materials, direct labor, and manufacturing overhead. Its value depends on your cost-flow assumption.

Cost of goods manufactured

Your cost of goods manufactured includes all direct and indirect costs that go into the products you finish producing during an accounting period. Like the cost of goods sold, it generally refers to direct materials, direct labor, and manufacturing overhead.

WIP inventory

Work-in-process (WIP) or work-in-progress inventory refers to products that have made it through part of the manufacturing process but remain unfinished. Though they’re not ready for sale, these goods are still an asset on your balance sheet.

Finished goods inventory

Finished goods inventory refers to the units that have made it through the production process and are ready for sale. You must use cost-flow assumptions and inventory valuation methods to calculate the balance.

Staying on top of your business’s accounting while running the operation is often challenging, but it can be particularly complex in the retail industry. Retail stores face at least one significant challenge that many others don’t.

Here’s what you need to know about retail accounting to navigate it successfully, including what makes it different, how to approach its most complicated aspects, and some best practices to keep in mind.

The primary reason retail accounting is different from accounting in other industries is that retail stores must keep track of their inventories. In contrast, a service business’s financial system usually has fewer moving parts.

Meanwhile, retail businesses can have extensive, diverse inventories that change constantly. Stores may hold large quantities of many different products and sell a high volume of units each business day.

Unfortunately, inventory accounting is essential for creating accurate financial statements and reports. In most cases, it’s simultaneously your business’s most significant asset and expense.

Not only is having inventory numbers necessary when creating financial statements to inform your tax strategies, but it’s also vital for performing cash flow analysis and making financial projections.

For every period, retail stores need to know their beginning inventory, units sold, and the amount left on hand. Otherwise, they may struggle to meet expected demand without buying too many units and impacting their cash flow management.

Cost-flow assumptions in retail accounting.

Because your inventory cost significantly impacts your business’s profit and tax liability, the Internal Revenue Service (IRS) requires that you use specific methods to calculate its value on your balance sheet and income statement. Here are the allowable options.

Specific identification

The specific identification cost method is the most straightforward approach to tracking your inventory. It requires keeping track of each item individually. As a result, there’s no need to assume which ones you sell first.

Typically, this method is only possible for retail stores with fewer products, higher prices, and lower transaction volume. For example, a car dealership or jewelry shop could keep track of each item in its inventory, but a grocery store generally couldn’t.

If it’s feasible for your retail business to use the specific identification method, the IRS requires that you do so.

FIFO

If you can’t keep track of every item on hand, you must make an assumption about which ones you sell first to calculate the cost of your inventory. Whichever you sell first is unknowable, but the assumption keeps your books consistent.

These “cost-flow assumptions” are necessary when stores have many interchangeable units. In such cases, it’s unlikely that it costs the same amount to acquire or produce each item since materials, labor, and overhead prices shift over time.

As a result, the order in which you sell your inventory has a significant impact on its value at any given point.

The first-in-first-out (FIFO) method is a common cost-flow assumption among retailers with perishable goods. As the name implies, it assumes the units you purchase or produce first are the ones you sell first.

LIFO

The last-in-first-out (LIFO) cost flow assumption is the opposite of the FIFO method. It assumes that the last units you purchase or produce are the first ones you sell.

LIFO is a controversial cost-flow assumption because it can artificially lower your business’s tax burden. Prices tend to rise over time, causing LIFO to maximize your cost of goods sold (COGS) and minimize your net income.

In addition, few businesses legitimately sell their most recently acquired units first. As a result, the LIFO method isn’t acceptable in countries that follow International Financial Reporting Standards (IFRS) and may eventually become forbidden in the United States.

Weighted average

The weighted average cost flow assumption is the least common approach to tracking inventory. In fact, the IRS considered it inaccurate and prohibited businesses from using it for tax purposes until 2008.

The weighted average method is somewhere between FIFO and LIFO. It assumes that the cost of each unit sold in a given period and left in ending inventory afterward is the weighted average cost of those you had available for sale during that time.

For example, say you buy three hundred units at $100, four hundred units at $115, and three hundred more at $110. These are the only units you had on hand during the year. The first group is 30% of your inventory, the second is 40%, and the third is 30%.

To find the weighted average cost of your inventory, you’d multiply 30% by $100, 40% by $115, and 30% by $110, then add them together. That equals $109, which you’d assume to be the cost of all your units.

Inventory valuation method.

In addition to following a consistent cost flow assumption, retail businesses must use an inventory valuation method to determine their cost of goods sold and the cost of ending inventory.

Retail method

The retail inventory method is popular among retail stores because you can calculate both numbers without knowing the precise number of units you have on hand, which reduces the need to take physical counts.

However, your store must use a consistent markup rate for determining sales prices to save time with the retail method. If you don’t have a standard markup rate, the IRS requires that you track the actual markup percentage for each product.

For example, say your retail store’s inventory on January 1 cost $10,000. During the first quarter of the year, you buy more units for $2,500 and have $5,000 in sales. Every product you sell is similar enough that your retail price is always 30% above cost.

To calculate ending inventory on March 31 using the retail value method, add the cost of your beginning inventory and purchases during the period to get the total available for sale. In this case, that would be $10,000 plus $2,500, which equals $12,500.

Next, calculate your cost of goods sold. Since you mark up all of your products by 30%, you know that it always equals 70% of your sales in a given period. As a result, when you multiply $5,000 in sales by 70%, you get $3,750 for your cost of goods sold.

Finally, you have what you need to calculate the cost of your ending inventory without taking a physical count. It equals the cost of your beginning inventory plus the cost of your purchases minus your cost of goods sold.

In this case, that’s $10,000 plus $2,500 minus $3,750, which equals $8,750.

Pros and cons of the retail accounting method

The retail method of accounting is a popular valuation strategy for retail stores primarily because of its simplicity. If you use a flat markup rate across all products, then you can calculate your ending inventory cost without counting it.

While that’s not necessarily significant for retail businesses that use the specific identification method, it’s helpful for stores with diverse inventories in multiple warehouses. Taking a physical count in these situations is highly labor-intensive. 

Of course, using the retail method, for this reason, has a problematic implication. Namely, using a flat markup rate for all your company’s products usually isn’t a good idea.

It limits your ability to price your products dynamically and strategically to compete in the marketplace. You could miss out on raising the price of one item because you don’t want to increase the prices of others.

Even offering discounts on certain products would throw off your calculations. Many retail stores use these as effective marketing tactics and to incentivize customer behaviors like buying in bulk or paying on time.

Best practices for retail accounting.

Accounting for a retail business can be a significant challenge, especially for stores with complex inventories and high transaction volume. Here are some best practices you should follow to make your accounting system more efficient and effective.

Take advantage of software

Software has made many aspects of running a retail business more manageable. Some of the most beneficial tools include inventory and retail accounting software. These can automate a significant portion of your bookkeeping.

Choose accounting methods carefully

Businesses must get special permission from the IRS to change accounting methods, including cost-flow assumptions and inventory valuation approaches. They don’t want taxpayers trying to game the system by switching constantly.

Because there’s no guarantee you’ll be able to change your accounting methods later, you must choose them carefully the first time. Consider asking an accounting firm for recommendations.

Use retail accounting services

It’s a good idea for most small businesses to consult a knowledgeable accountant, but it’s especially beneficial for retail stores. Accrual accounting and tax rules for companies with inventories are complex, and you shouldn’t try to navigate them alone.

Even if you don’t have the funds to hire a full-time accountant, consider paying for outsourced accounting and tax services with a Certified Public Accountant (CPA) firm. It’s often much more economical for a small business.

In addition, a highly experienced CPA firm can be a surprisingly comprehensive business advisor. Not only can they confirm that you’re taking appropriate deductions, but they can create a personalized tax strategy and give targeted financial advice.

Before selecting a CPA, confirm that they specialize in retail accounting services. If they’ve never had retail clients or have a brand new business advisory practice, they may not be able to help you with your biggest financial difficulties.

Even though dentistry is your focus, running a dental practice comes with extra responsibilities that take time away from patient care. One of the biggest and most important of those responsibilities is bookkeeping. It’s an essential part of running a successful dental practice. 

It gives you a clear view of the financial state of the business and can be used to make your business run more efficiently. Whether you’re doing it yourself or delegating it to your office manager there are a few helpful tactics you can use to simplify the process. 

7 Tips For Dental Bookkeeping

Don’t Mix Business And Personal Finances

Combining business and personal transactions might not seem like a big deal until you have to sort through them. Mixing the two types of transactions makes the bookkeeping process much more difficult. 

It’s confusing and time-consuming to try and remember which purchases or deposits belong to the business. That makes it a hassle to get a clear view of the company’s financial status. And when it comes to your taxes, it complicates matters even further. 

Taxes and financial statements aren’t the only areas that could be affected. It might also impact your ability to get approved for financing or find investors. Potential lenders want to see clean and precise financial data when they’re deciding to approve your business for credit. 

The best solution is to have two separate accounts. One strictly for the business, and one that’s for personal transactions. 

Use A Chart Of Accounts For The Dental Industry

A common misstep that happens in dentist bookkeeping is attempting to use a standard chart of accounts to track income and expenses. A standard COA doesn’t provide the same level of usefulness that a dental industry COA would have for your practice. 

You run the risk of omitting important information without the use of a dentistry-specific chart of accounts. This might affect you further down the line when you transfer those figures to other financial reports. 

You can arrange your chart of accounts to track the areas that pertain to your business model. For example, the payroll for your receptionist would be considered an overhead expense. In contrast, the dentists' and hygienists' payroll would be considered to be part of the Cost of Sales. 

These are important distinctions that might be overlooked when using a standard COA as opposed to a dental industry COA.

Use A Cloud-Based Accounting Software

One of the best things you can do for your dental practice is to take your bookkeeping digital. It minimizes the clutter that comes with paper and makes it easier to maintain reliable financial records. 

When tackling bookkeeping for your small business, it’s difficult to keep up with all the tax guidelines you’ll have to follow which is why many business owners choose to hire a dental CPA or accounting firm. However, outsourcing can be costly for a small dental office. 

Small business accounting software offers an affordable alternative. Most accounting software comes pre-loaded with a chart of accounts and tax guidelines so you don’t have to be a bookkeeping expert. 

You’ll still need a base knowledge of bookkeeping or accounting to get started, but most accounting software offers basic educational walkthroughs of what to do. 

Lendio’s cloud-based accounting software is a great tool for dental bookkeeping. With their affordable Sunrise Plus version, you can

• Keep receipts and expenses organized
• Easily generate profit and loss statements
• View up-to-date cash flow monitoring
• Send and track invoices

If you decide that bookkeeping isn’t your strong suit, they also have a paid bookkeeping service to make the process even easier. It allows you to work with a professional bookkeeper for an additional cost. 

See how Lendio can improve your bookkeeping process and sign up for your free 14-day trial!

Review Your Finances Regularly

Reviewing your finances is an important part of ensuring your bookkeeping process is working well. It also helps you make the best decisions for your business. Not reviewing your financial situation regularly can leave you with unanswered questions about your business.

For example, If your expenses are running high and you’re not aware, approving the purchase of new equipment could put your finances over the edge. Take time each week or each month to review the finances for your business. There are several benefits to doing this:

• Makes you aware of the company’s financial situation
• Gives you solid information to base decisions off of
• Allows you to target unnecessary expenses
• Helps you identify any financial gaps
• Pinpoints where profits are stemming from

Close Your Books The Right Way

At the end of a financial period, you’ll need to close your books. Meaning that the financial information in the reports is finalized. 

Once the books are closed, that’s it. No more changes can be made. This is to ensure that data from other accounting periods doesn’t bleed into the current period . 

Without closing your books properly, it could result in mistakes and inaccurate depictions of how much profit or loss was experienced within one accounting period. To close your books properly, you’ll need to transfer journal entries to a general ledger account. 

Most small businesses choose to close their books monthly. Depending on what works for your business you could also choose to close books annually. 

Reconcile Your Financial Details

When making a dental accounting entry, it’s easy for all of the numbers to start running together. Before you know it, there are transposed numbers or expenses recorded in the wrong place. That’s why it’s important to reconcile the financial details as you go.

A simple way to do this is to confirm the dental accounting entry amount with a copy of the receipt, invoice, point of sale ticket or other pertinent information that can confirm the amount that should be recorded. 

So while the earlier suggestion of adopting cloud-based dental accounting software is effective at cutting down on paper, it doesn’t eliminate the need to keep certain documents. Without the following documents stored safely in your records, you could face big problems. 

• Company bank account statements
• Medical billing for insurance
• Cash flow statements
• Accounts receivable documents
• Accounts payable documents

You can also use the data in these documents to create monthly financial reporting for your company. 

Consider Outsourcing Your Bookkeeping

There are several reasons why dentists and oral surgeons decide to outsource their bookkeeping to a dental accountant instead of keeping it in-house. You might be running a larger dental practice, or the job is just too much to hand off to an office manager. 

Either way, finding dental bookkeeping services that take the task off your hands can be exactly what you need to focus more energy on your patients. By outsourcing your bookkeeping, you’re giving yourself the ability to do what you do best– improving peoples’ smiles. 

Meanwhile, the accountant does what they do best, which is taking care of your financials. Hiring accounting services comes at a cost but it also comes with plenty of benefits: 

• Increased accuracy
• More time to dedicate to patient care
• Some accounting services may help you run payroll
• Trained professionals who are well-versed in bookkeeping
• May assist in developing tax strategies or tax preparation

Overall, dental bookkeeping requires attention to detail and base knowledge of bookkeeping guidelines. You’ll need to use an industry-specific chart of accounts, reconcile financial data and make sure that the books are properly closed each month. The full process takes time. 

Even if you decide to outsource your bookkeeping, you’ll still need to review the financial reports regularly and avoid mixing personal and business transactions. This will help you stay on top of the company’s financial status and limit mix-ups in the accounting process. 

Running a company and maintaining its books is challenging for every small business owner, but the construction industry presents additional accounting challenges.

Contractors usually have multiple projects running simultaneously in separate locations, each with unique costs, goals, and time horizons.

If you run a construction company, here’s what you should know about construction accounting to navigate the industry's complexities.

How To Do Construction Accounting

Construction accounting has so many moving parts that it can seem intimidating, but the process doesn’t need to be stressful. If you have a system in place before you begin taking on projects, you can save yourself a lot of headaches.

Here’s a step-by-step guide you can follow to create an effective construction accounting system for your business.

1. Separate Personal And Business Transactions

The first thing every general contractor should do to minimize their accounting issues is to separate their business transactions from their personal ones. Open a checking account and credit card for your company and use it exclusively for your business activities.

If you mingle your personal and business funds in the same bank account, determining which transactions belong in each category can be incredibly time-consuming. You’ll waste hours going back and trying to sort everything out.

It’s also likely that you won’t do a perfect job since it becomes increasingly difficult to figure out past transactions as time passes. That could cause you to miss out on deductions, misattribute expenses, and create even more problems for yourself.

2. Choose A Primary Accounting Basis

One of the primary complications of construction accounting is that projects have extremely variable completion times. You may be able to finish some within a few months, but others will span multiple tax years.

Contractors must account for projects they complete within a single tax year differently than those that take place in more than one. First, let’s explore the accounting methods allowable for jobs that last less than a year.

Generally, you can use either the cash or accrual basis of accounting for these contracts. Here’s how those methods work:

• Cash basis: Recognize revenues when you receive cash and deduct expenses when you make payments.
• Accrual basis: Recognize revenues when you earn income and take deductions when you incur expenses.

The cash method is typically easier to implement, but it's better at tracking your cash flow than your actual business profits. Meanwhile, the accrual method takes more work, but it more accurately captures the strength of your financial position.

Construction companies can choose either one as long as their average gross receipts are less than $25 million over the last three years or their total time in business, whichever is less. If you exceed that threshold, you must use the accrual method.

3. Choose A Long-Term Revenue Recognition Method

Unfortunately, you can’t use the typical cash or accrual accounting methods for construction contracts that span more than one tax year.

Instead, you generally must use either the completed contract or the percentage of completion (POC) method to record your transactions. Here’s how they work:

• Completed contract method: Recognize your revenues and expenses for a contract all at once after you finish the project.
• Percentage-of-completion method: Recognize your revenues according to the percentage of the contract expenses that you’ve paid.

As a simple example, say you have a construction project that you estimate will take you 18 months and $200,000 in materials, labor, and overhead to complete.

The client agrees to pay you $300,000 for the job, and you begin work on March 1st, 2022. By the end of 2022, you’ve incurred $137,500 in costs, and the client has paid you $200,000.

Using the percentage of completion method, you’d deduct $137,500 in expenses. To calculate your revenues, divide $137,500 by $200,000 to get 68.75% and multiply it by $300,000.

That equals $206,250 of revenue, which you’d recognize even though the client only paid you $200,000 so far.

Using the completed contract method, you’d record neither the expenses incurred nor the revenue received in 2022. You’d wait until you finished the project in 2023 to recognize both.

Once again, each option has its merits. The POC method is more accurate, but the completed contract method is easier to use and lets you defer earnings to later tax years.

Unfortunately, construction businesses don’t get to choose freely between the two options. If your average gross receipts exceed $25 million or your contract lasts more than two years, you must use the POC method.

The only exception to those rules is if your project qualifies as a home construction contract. That means 80% of the total project costs are for work on a residence with four units or fewer.

The POC method has become even more involved since Accounting Standards Codification (ASC) 606 took effect. You must apply the method to every individual “performance obligation” within each construction contract.

The complexities of ASC 606 are beyond the scope of this article, but you should consult a construction accountant for assistance in staying in compliance with it.

4. Implement Job Cost Accounting

Job cost accounting or job costing involves allocating all business expenses to individual projects. Typically, that includes materials, labor, and overhead.

Due to the project-based nature of contracting, job costing is at the core of construction accounting. It’s necessary for projects that last more than one year since you need to know each project’s costs for the completed contract and POC methods.

For example, say you agree to complete a landscaping project. When you first meet with your client, you estimate that it’ll cost you $25,000 in materials and 500 labor hours at $45 per hour to complete, which equals $22,500.

In addition, you estimate that your total overhead costs for the year will be $300,000, including office rent and utilities, administrative expenses, insurance, and equipment depreciation.

After consulting with an accountant, you plan to allocate overhead to each job based on its labor hours. In other words, you'll apply a portion of your annual overhead to each project for every labor hour required. 

To find your applied overhead rate, you estimate that you’ll incur 10,000 total labor hours during the year. Your $300,0000 overhead divided by 10,000 labor hours gives you an applied rate of $30 per labor hour.

Since you estimated that you’d have 500 labor hours for this project, you allocate 500 hours multiplied by $30 per hour to the job, which equals $15,000 of applied overhead.

As a result, your total estimated job costs would be $25,000 in materials plus $22,500 of direct labor plus $15,000 of applied overhead, which equals $62,500.

5. Perform Regular Reconciliations

Working in the construction industry involves managing multiple contracts simultaneously, many of which will likely change their scope at least once before completion.

As a result, staying on top of your construction accounting requires consistently checking in with your company’s books. Here are some steps you should consider taking each month:

• Confirm that you've allocated all costs to the proper projects
• Reconcile your books to your bank and credit card statements
• Verify that your cost estimates for each project are still accurate

Performing regular reconciliations is beneficial in any industry, but it’s essential for construction accounting. If you fall behind on your bookkeeping, it will be difficult to catch back up.

How Is Construction Accounting Different From Regular Accounting

Construction accounting follows the same general accounting principles as regular accounting. However, the nature of the construction industry creates challenges that force construction accountants to take additional measures.

These are the primary traits of the construction industry that require you to use irregular accounting strategies.

Decentralized and Project-Based

The most significant difference between construction and regular accounting is that contractors must track their finances separately for each project. Few other industries need to resort to job costing to stay organized.

For example, a manufacturing company with a single product could easily keep separate financial records for every factory. Its materials, labor, and overhead would be consistent and predictable for each one.

Similarly, a lawyer might have multiple projects simultaneously, but they can easily account for them together. The hourly rate might vary slightly between services, but the labor, materials, and overhead cost inputs would be similar for each job.

However, contractors can have any number of projects going on at once, and each one has cost inputs that vary drastically. For example:

• Materials: Construction contracts are all unique and require widely varying materials. Even when there's overlap, the costs are still usually very different since they occur at separate times and places.
• Labor: Contractors often use separate subcontractors with different rates for each job. Even if they were to use the same people for multiple projects, the work varies so much that the actual cost per labor hour would still be different.

Though job costing takes more work, it’s the only way to accurately measure a contractor’s profitability by matching cost inputs with the related revenues.

Long-Term Contracts

Another reason construction accounting differs significantly from regular accounting is contractors often have projects that last for many months, even spanning more than one tax year.

Unfortunately, those long contracts are unavoidable. It takes much longer to construct or improve a building than to complete most other products or services.

That necessitates accounting methods such as the completed contract or the POC method. It also means that the accounting and tax rules in place at the start of a contract may change by the time it ends.

In addition, contractors often offer their clients extended payment options, such as net 30 or net 60 terms, which makes properly timing revenue recognition even harder.

Unpredictable Job Scopes

The final issue with construction accounting that doesn’t affect regular accounting is that contractor job requirements change more often than not. In fact, there could be multiple change orders during a project that affect the scope drastically each time.

Even if a client doesn’t submit any change orders, there’s no guarantee that the initial job cost estimates will be accurate. It’s difficult to predict the material and labor costs over long-term projects, even for experienced contractors.

Unfortunately, inaccurate estimates due to changing scopes or poor predictions will disrupt your revenue recognition for long-term contracts. That’s another reason why construction accounting is often more demanding than accounting for other industries.

Construction Accounting Best Practices

Our step-by-step guide to the fundamentals of construction accounting should help you get started, but we can’t cover all of the details involved in a single article. However, we can discuss some best practices.

Here are several high-level tips to make your construction accounting system more efficient.

Leverage Construction Software

Nowadays, there’s little reason to keep track of anything by hand. It’s too easy and affordable to find software that can handle administrative tasks without requiring much of your time or effort.

For example, construction accounting software is a must. Contractors have too many transactions across too many projects to keep track of everything manually.

Time tracking software is another tool that can make your construction accounting easier. Labor is one of the primary cost inputs for construction projects, but manually tracking the hours of multiple workers across several jobs is difficult.

Software like Justworks Hours can automate a significant portion of the process. Not only does it let each worker report their hours digitally and aggregate the data for you, but it can integrate directly with accounting software.

Plan For Change Orders

As discussed above, construction firm projects rarely stick to the initial scope of work. Clients often change their minds about certain aspects of projects or try to cut costs, causing them to alter the original plans.

Alternatively, construction contractors may change the scope or price of a project after learning something they weren’t aware of at the onset of the job.

As a result, it’s best to have systems in place ahead of time to account for these pivots. Make sure you have procedures for both approved and unapproved change orders.

It’s best to include your methods for handling change orders in your initial contract with your clients. That can minimize the amount of back-and-forth necessary when changes occur and help prevent any disputes.

Maintain Digital Records

In regular accounting, you might be able to get by keeping paper copies of your supporting documents like receipts, bank statements, and invoices. It’s never optimal, but it’s doable for many small businesses.

However, keeping physical records is unreasonable in the construction industry. You need to keep track of too many documents for too many projects.

While many businesses can get the supporting detail they need for most of their deductions from a bank statement, that’s usually not the case for contractors. They need more information for almost all of their expenses.

For example, imagine you buy several different materials from a supplier in bulk. You'd need to define each of those materials to perform accurate job costing, especially if you’re using them for multiple projects.

As a result, it’s essential that you keep detailed supporting records on hand. Digital copies are infinitely easier to store and review and less susceptible to getting damaged or lost.

Get Help From An Accounting Expert

Doing a company’s accounting and project management is always hard, but it’s even more difficult in the construction business. Not only is construction accounting more time-consuming overall, but there are many more potential complications.

As a result, it’s best to get construction accounting and tax services from an expert. Fortunately, that doesn’t mean you have to hire an accountant full-time. Many small businesses, including contractors, can benefit from outsourced accounting services.

Instead of hiring an employee, that involves paying an accounting firm for help from a Certified Public Accountant (CPA) specializing in construction accounting services and tax planning for contractors.

Accounting is one of the least exciting aspects of small business ownership for many owner-operators. However, you can’t afford to neglect it since your responsibilities can quickly become overwhelming if you fall behind.

Here’s what you need to know about trucking accounting, including how to set up an effective system and some common mistakes to avoid.

Bookkeeping Vs. Accounting for Trucking

Bookkeeping and accounting are closely related business functions. While they’re theoretically distinct, the line between them is somewhat blurred. Accountants sometimes perform bookkeeping services and vice versa.

In broad terms, bookkeeping involves maintaining financial records of your trucking business’s day-to-day transactions in a general ledger. It’s a routine, administrative process that requires relatively little critical thinking.

As a result, many truck drivers handle a significant portion of their bookkeeping without much assistance. For example, it’s usually best for a driver to keep track of their miles, fuel purchases, and meal expenses while on the road. 

Meanwhile, accounting refers to refining and using the financial records created through bookkeeping for various purposes; including the development of financial statements, cash flow analysis, and tax planning.

Accounting is more sophisticated and analytical than bookkeeping, and there’s often more at stake. For example, accounting errors could cause you to miss out on valuable financing or get you in trouble with the Internal Revenue Service (IRS).

As a result, you probably shouldn’t try to manage your trucking business’s accounting function without help. It may be worth handling some lower-level aspects, but you’re better off outsourcing the more complex and time-consuming parts.

How To Do Accounting For Trucking

Even if you rely heavily on the transportation accounting services of a Certified Public Accountant (CPA), you still need to know the fundamentals of trucking accounting, as you’ll always be somewhat involved.

Here’s a general framework you can use to establish a trucking accounting system as a self-employed truck driver.

Open Separate Business Accounts

The first thing every business owner should do to simplify their accounting is to separate their business activities from their personal ones. The easiest way is to open up a new checking account and credit card and reserve them for business use only.

Many business owners learn too late that mingling your personal and business funds makes it hard to identify which transactions belong in which category.

It's often even more difficult for truck drivers, whose gas and food expenses could easily be personal costs if they occurred outside of a trucking trip.

Choose A Legal Entity Structure

Another decision every small business owner has to make is what type of legal entity they want to use. Sole proprietors are the default structure, so owner-operators who start doing business without filing any paperwork will fall into that category.

The simplicity is convenient, but it comes with unlimited liability. As a sole proprietor, you and your trucking business are a single entity. If someone sues your company, your personal assets are vulnerable.

Because working in the trucking industry involves taking on significant risk, you’re often better off taking the time to form a limited liability company (LLC) or a corporation. However, that’s a decision you should get a CPA firm’s advice on first.

Choose An Accounting Basis

Truckers must choose between the two fundamental methods of accounting, the cash and accrual bases. They impact your tax return significantly, so consider consulting an accountant before choosing one.

The cash basis involves recognizing revenues when you receive payments and deducting expenses when you pay them. Because it’s easy to implement, many small businesses favor this method.

The accrual basis of accounting requires that you recognize revenues when you earn them and expenses when you incur them, regardless of when funds enter or leave your accounts. It takes more work, but it also documents your profitability more accurately.

Track Your Expenses And Retain Supporting Documents

All businesses need to keep track of their expenses, but it’s more challenging in some industries than others. Unfortunately, trucking is a business that requires you to be particularly diligent in your record keeping.

Truck drivers can incur many different expenses while on the road, and most of them are potentially tax-deductible. For example, you need to keep careful records of all of the following costs while you’re on long hauls away from home:

• Fuel 
• Meals
• Lodging
• Auto washing
• Tolls and parking
• Vehicle maintenance

Because the IRS sees semi-trucks as qualified nonpersonal use vehicles, you must deduct your actual auto costs instead of using the standard mileage method. Keep records of each purchase's amount, date, location, and business purpose.

In addition to keeping records of your expenses, you should have documents that prove their validity, such as receipts, trip logs, and account statements. Keep these on hand for at least three years. That’s how much time the IRS typically has to audit you.

Stay On Top Of Your Tax Obligations

All business owners must make quarterly estimated tax payments to cover their income and self-employment taxes, and truck drivers are no exception. You'll incur penalties and interest if you don't meet your federal and state liabilities.

Unfortunately, truck drivers often have additional tax obligations, depending on the lengths of their trips and the size of their vehicles. These include the International Fuel Tax Agreement (IFTA) and the Heavy Vehicle Use Tax (HVUT).

The IFTA is a way to redistribute the fuel taxes truck drivers pay in the lower 48 states and the 10 Canadian provinces. It ensures your funds go to the areas where you used your fuel instead of the ones where you purchased it.

IFTA applies to you if you drive a vehicle across multiple states or provinces that weighs more than 26,000 pounds or has at least three axles.

To comply with IFTA, you must report your trips and fuel purchases quarterly. The IFTA office in your home state will allocate your payments to the proper jurisdictions and determine whether you owe more or deserve a refund.

Meanwhile, the HVUT is an annual fee that truckers must pay if they drive a vehicle that’s at least 55,000 pounds for more than 5,000 miles on public highways. It equals $100 plus $22 for every 1,000 pounds over 55,000 pounds up to $550 and 75,000 pounds.

To stay in compliance, file Form 2290 with the IRS and pay any applicable taxes by the last day of the month after the month you first used the vehicle on public highways. For example, if you place your truck into service in July, the due date is August 31.

If you owed taxes in the previous year but not the current one, you must file Form 2290 to report the change and suspend your responsibilities.

Best Practices For Trucking Accounting

One of the primary problems with managing your small business accounting is the sheer amount of time and energy it takes. Running a trucking company alone is enough work to keep you busy, and trying to do both is a lot to handle at once.

Here are some best practices you can follow that will help juggle all of your various responsibilities.

Leverage Software

The ever-expanding capabilities of modern software have made many aspects of business ownership significantly easier. You must be strategic about which tools you invest in to avoid wasting resources, but it’s worth utilizing in many areas.

For example, transportation management software, also known simply as trucking software, is a must-have for owner-operators. It serves as a digital hub and tax center from which you can manage all of your paperwork and filing responsibilities.

For example, you can use it to accomplish all of the following:

• Generate custom invoices and collect payments
• Store copies of records and supporting documents
• Generate and file your quarterly IFTA reports
• Dispatch other drivers and plan their trucking routes
• Extract driving data from an electronic logging device (ELD)

An accounting solution is also essential for most small businesses, including trucking companies. If you link your trucking accounting software to your business bank account and credit card, it should track your every invoice and expense automatically.

Use A Fuel Card

IFTA compliance is one of the additional accounting responsibilities unique to trucking companies. Fortunately, it doesn’t have to take up too much time or energy if you plan ahead.

One of the best ways to streamline your IFTA reporting is by using a dedicated fuel card. These work much like any other credit card, except they’re tied to a unique driver number and provide fuel discounts.

Fuel cards can automatically track, organize, and display the information you need to fill out your IFTA expense reports. If you’re also using truck management software, you can usually link the two and automate your IFTA responsibilities completely.

Get Expert Help

Last but certainly not least, it’s always a good idea to hire a CPA for help with tax preparation and trucking accounting services. Trucking and accounting are full-time jobs, so don't try to do both.

Fortunately, you don't need to hire an accountant for your business full-time. Outsourced accounting lets you select only the specialized accounting services you need, keeping your costs down.

Make sure you choose a service provider carefully. The transportation industry has unique quirks and challenges, and it’s much better to work with a CPA who’s an expert in the applicable tax regulations than a generalist, even if it costs a little more.

Common Mistakes

Executing proper transportation accounting procedures requires as much training and expertise as the transporting itself. While there’s no substitute for experience, here are some common pitfalls you should know to avoid.

Procrastination

One of the most common mistakes small business owners make is putting their accounting responsibilities on the backburner for too long. That’s always problematic, especially for truck drivers.

Remember, it can be surprisingly hard to catch up on trucking records once you’ve fallen behind. It becomes even worse if you also neglect to separate your business and personal transactions.

In addition, ignoring your accounting for more than a couple of months means you’ll likely miss one or more tax due dates. If you fail to make estimated tax payments, submit your IFTA reports, or file Form 2290 on time, you’ll face penalties and interest.

Misunderstanding Tax Deductions

Tax strategies for truck drivers can be surprisingly complicated. Even some CPAs are unaware of the specifics of the industry, where unique rules and changing regulations can cause you to misreport your tax-deductible expenses.

For example, most small business owners can only take 50% of meal expenses, but truckers are allowed to take 80% of either their actual costs or per diem allowances.

That's another reason paying for tax services is essential for the transportation business. You don't want to leave money on the table or risk triggering an audit.

Are you looking for ways to expand your business or cover operating expenses? Learn more about trucking business loans.

Business credit cards can be useful for managing daily expenses or covering larger purchases. If you’ve been relying on personal credit cards, loans, or savings to fund your venture, the time may be right to add a business credit card into the mix. 

Read on to learn everything you need to know about business credit cards.

What is a business credit card?

A business credit card is designed specifically for business use, rather than personal expenses. So, for instance, you might use a business credit card to pay for:

• Office supplies.
• Computer equipment.
• Business travel.
• Client dinners.
• Utilities, internet, and/or cell phone service for the business. 

Business credit cards can be helpful for businesses of all sizes. So whether you’re a sole proprietor, a freelancer, or the owner of a small business with dozens of employees, you could take advantage of a business credit card. 

There are two types of business credit cards available: revolving cards and charge cards. 

A revolving business credit card has a revolving credit limit you can use for purchases. As you make new purchases, your available credit shrinks. As you pay down the balance, that frees up the available credit. With a revolving card, you have the option to pay in full each month or carry a balance if needed. 

Charge cards are a little different. With a charge card, you may have a fixed spending limit or your card may have no preset spending limit. No preset spending limit on a business charge card means that your limit can change from month to month, based on your account activity, credit rating, and financials. 

With a charge card, you don’t have the option to carry a balance. You’re required to pay in full every month unless the card offers special extended payment terms. The upside of paying your balance in full, however, is that no interest accrues on the things you charge.

Business credit cards vs. personal credit cards

Aside from being designed for business spending, some other characteristics distinguish business credit cards from personal credit cards. 

1. Credit reporting

To apply for a business credit card, you’ll need to provide your Social Security number. Some card issuers may allow you to apply with your federal Employer Identification Number (EIN) instead, though it’s less common. 

Qualifying for a business credit card is based on your personal credit history, among other criteria. But once your account is open, your payment activity, credit limit, and other account details are reported as part of your business credit history.

Defaulting on a business credit card account can negatively affect your business credit history. Most card issuers require you to sign a personal guarantee for business credit cards. This guarantee makes you personally liable for any debt incurred. If you default, the card issuer could report your negative account history on your personal credit report. 

2. Card protections

Various federal protections cover personal credit cards, including those outlined in the 2009 CARD Act. For example, federal law limits consumers’ personal financial liability for fraudulent purchases made with their credit cards. 

Those same protections don’t automatically extend to business credit cards. If your business credit card is stolen, you could be held responsible for any charges resulting from the theft. The good news is that some business credit card issuers do limit fraud liability for cardholders. 

3. Rewards

Many business credit cards allow you to earn rewards on eligible purchases. That in itself isn’t much different from personal cards. Where the 2 diverge is in which purchases can earn rewards. 

For example, you may have a personal credit card that pays you cash back at grocery stores while business credit cards may pay cash back at office supply stores instead. Rewards programs cater to those expenses most often incurred by businesses, not individuals. 

4. Spending limits

Business credit cards can offer more purchasing power compared to a personal credit card. Where you might have a $10,000 limit on a personal card, your business card might bump that up to $50,000 or more, depending on your credit and business financials. The higher spending limits reflect the greater purchasing needs of businesses.

Pros of business credit cards

There are several good reasons to consider opening a business credit card if you’re not using one yet:

• It may be easier to get approved for a business credit card, compared to a business loan. 
• It’s possible to qualify for a card even if you haven’t started your business yet.
• Business credit cards offer flexibility since you can choose to carry a balance or pay in full.
• Earning miles, points, or cash back on purchases can save your business money. 
• It can be an easy way to keep track of business expenses.
• You can build a business credit score, which could help you qualify for loans or other lines of credit.
• No collateral is needed for unsecured business credit cards.
• Interest rates may be lower compared to other types of business financing, such as revenue-based finance or invoice factoring. 
• Interest paid on your card balance may be tax-deductible. 
• You can use your card to meet a variety of spending needs.

Cons of business credit cards

On the other hand, there are potential drawbacks to consider:

• Some business credit cards charge an annual fee and/or foreign transaction fee.
• You’ll need good to excellent credit to qualify for the lowest APR. 
• Your credit limit may be less than what you’d qualify to borrow with a loan. 
• Signing a personal guarantee makes you personally responsible for business credit card debt.

How to choose the best card for your business.

If you think opening a business credit card account is the right move, the next step is choosing a card. When considering card options, there are a few important things to keep in mind.

1. Card use

First, think about what you primarily need a business credit card to do for you. For example, are you mainly looking for a way to earn rewards, or do you need a card to cover the occasional cash flow shortfall? Or are you looking for a card that can help you establish and build positive business credit history?

What you plan and need to use the card for can help you narrow down your choices as you shop around. 

2. Rewards

If rewards are on your list of credit card must-haves, consider which kind of rewards would be most valuable to you. 

Earning cash back could be good if you want to apply rewards as a statement credit. You may prefer to earn miles or travel points, however, if you take frequent business trips.

Aside from the type of rewards you might earn with a business credit card, factor in how different rewards programs are structured. 

Some cards, for instance, offer a flat number of miles, points, or cash back on everything you spend. Other cards offer tiered rewards in multiple categories. 

For example, you might earn 3 miles per dollar on travel purchases, 2 miles per dollar on dining and entertainment, and 1 mile per dollar on everything else. 

That type of rewards program could work in your favor if you spend more heavily on certain business expenses than others. One thing to watch out for with tiered rewards is a spending cap. Your card might limit you to earning a higher rewards rate up to a certain dollar amount each year. 

3. Cost

Keeping the bottom line healthy is always important, and while you may be earning money-saving rewards with a business credit card, you have to weigh their value against the card’s cost. 

As you compare cards, look at:

• Annual fees.
• Foreign transaction fees.
• Balance transfer fees if you’re planning on transferring a balance to the card. 
• Promotional APR.
• Regular purchase APR.
• Balance transfer APR.
• Penalty fees and APR. 

As a general rule of thumb, the better a card’s rewards program or the more generous the perks, the higher the annual fee tends to be.

4. Card extras

Rewards and cost matter, but don’t overlook any additional benefits a business credit card may offer. 

Say you’re interested in a travel card. One that offers perks such as free checked bags, travel insurance, complimentary business lounge access, and free WiFi might be even more valuable in your eyes if you take frequent business trips. 

On the other hand, benefits such as cell phone insurance or extended warranty protections may be more appropriate if you need a cash back card to cover everyday spending. Just like with rewards, measure the value of any added benefits against the card’s cost. 

5. Payment options

Last but not least, consider carefully whether you should apply for a business charge card or a revolving credit card that allows you to carry a balance. 

Avoiding interest charges is always good if you want to save your business money. The caveat is being certain that your business will be able to pay off what you’ve charged in full each month. 

If you’re still working to establish a newer business, your cash flow might not be consistent yet. In that scenario, you may be better off with a revolving limit card to start so that you have the option to pay over time if needed.

Best practices for using a credit card for your business.

Once you have a business credit card, be sure to use it wisely. Pay your bill on time each month and in full whenever possible to avoid interest charges. Redeem rewards strategically to get the most value and establish a business card policy before handing them out to employees. Lastly, maintain good records of what you spend with your card so you have a go-to reference for claiming those expenses as deductions at tax time.

Applying for a business credit card

Ready to explore options for a business credit card? Compare business credit card options here.

The average startup owner would probably prefer to focus on growing their business over maintaining their books, but you can’t afford to neglect your financial responsibilities.

Accurate, up-to-date records are necessary for many of your startup’s essential processes, including applying for financing and managing your tax obligations.

Here’s everything you should know about startup bookkeeping to optimize the function of your business.

Difference Between Accounting And Bookkeeping

Accounting and bookkeeping are intimately linked, but they’re not interchangeable. Understanding the difference between the two should help you clarify which financial responsibilities you can handle yourself and which you’ll need help with to complete.

In simple terms, bookkeeping involves maintaining records of your company’s day-to-day transactions. It’s less complex and more routine, requiring little more than fundamental financial skills in most cases.

Meanwhile, accounting refers to using bookkeeping records to refine or interpret financial statements for various purposes. For example, that would include filing a tax return, analyzing revenue trends, and investigating areas of overspending.

The primary difference between the two processes is that bookkeeping is an administrative task involving little critical thought. Meanwhile, accounting is more sophisticated and requires a higher level of expertise and analysis.

Many startup founders and small business owners do their own bookkeeping. It’s relatively simple, and software like the Lendio Bookkeeping Solution can automate a significant portion of the work.

However, accounting is usually too complex for you to do alone. You’ll typically need expert help to avoid making costly mistakes, in which case you can either outsource your accounting to a service provider or hire an accountant full-time.

How To Do Bookkeeping For A Startup

Startup bookkeeping is similar to bookkeeping for any small business. Here’s a step-by-step guide to establishing a bookkeeping system that you can follow to get off the ground.

Separate Your Business And Personal Accounts

One of the ways that startup founders most frequently create bookkeeping and accounting messes is by failing to open dedicated accounts for their business when they get started.

Eventually, someone in the organization realizes that no one knows which transactions are personal and which ones belong to the business.

As a result, the founder, accountant, or bookkeeper usually has to go back and review each financial transaction since operations began to isolate the business activity.

Fortunately, all of that trouble is easily avoidable. Before you do anything else, take the time to establish separate accounts for your business. Most startups opt for one dedicated bank account and one business credit card to start.

Connect Your Accounts To Bookkeeping Software

Some business owners still keep track of their transactions by hand, but there’s little reason to do so these days. It takes significantly more time and effort than bookkeeping software and exposes you to human error.

In addition, you don’t have to pay to get access to the software you need. Lendio offers free accounting software for small businesses that can automatically track your transactions.

Once you have a bank account and credit card dedicated to your business, you can connect them to the software. It’ll pull the activity directly from your accounts and use it to populate your transactions, even generating your income statement. 

Choose An Accounting Method

Contrary to popular belief, there are multiple ways you can choose to maintain your financial records. Startups typically use the cash or accrual accounting method to record their transactions.

The difference between the two methods comes down to timing. The cash basis recognizes revenues and expenses when money enters or leaves your account. It’s the easiest to follow, and your bookkeeping software should be able to handle it.

Meanwhile, the accrual method recognizes revenues when you earn them and expenses when you incur them. It requires that you track accounts receivable and accounts payable, which often means you have to do more bookkeeping work by hand.

While the cash basis is generally easier to employ, the accrual method is more accurate, especially for startups with high inventories.

Be aware that the Internal Revenue Service (IRS) may require that you use the accrual method once you average $25 million in gross receipts for three years.

Keep Digital Documentation

Fortunately, you don’t have to hold onto physical documents anymore. In fact, an accountant will probably be pretty annoyed with you if you bring them a shoebox full of crumpled paper receipts every year for tax purposes.

It’s perfectly acceptable and much more efficient to keep a digital copy of each receipt, invoice, or statement. You don’t have to worry about damaging or losing your documents, and you can transfer them to a bookkeeper or accountant more easily.

Fortunately, when you sign up for Lendio’s accounting software, our free small business accounting app lets you take pictures of physical documents and upload them automatically for future reference.

However, you typically don’t have to worry about keeping a copy of every receipt. In many cases, your bank account and credit card statements should provide sufficient supporting details for the average business expense.

Perform Regular Check-Ins

The best accounting software can automatically track your transactions and even categorize your startup expenses, but it’s not always perfect. It’s a good idea to check in with it regularly to ensure that your records are accurate.

Otherwise, you may open your books after six months of activity, find that your software has been miscategorizing certain transactions, and have to spend hours going back through it all to find the errors and fix them.

That doesn’t mean you need to monitor it constantly, but it’s a good idea to have a monthly and quarterly routine. Do enough each month to ensure no significant issues develop, then have a high-level check-in each quarter.

For example, it might be best to perform a bank account and credit card reconciliation and enter all cash transactions each month. Once a quarter, you could then review your financial statements and make adjusting journal entries as necessary.

Things A Startup Should Track On A Monthly Basis

Maintaining clean financial records is a lot like keeping a clean house. You’re better off doing a little bit of work consistently than putting it off for months and trying to get everything done at once.

Like housekeeping messes, bookkeeping issues tend to compound the more you procrastinate on them. That’s how mistakes get repeated for months, causing you to go back further to fix the damage.

Waiting too long also increases the chances you’ll forget the details of your activities. It can be a struggle to go back and record something accurately when it’s been weeks or months since you last thought about a transaction.

To prevent those issues, try to develop and stick to a monthly bookkeeping checklist. Here’s a list of some things you should do on a monthly basis:

• Enter any income and expenses that you’re not using software to track
• Reconcile to your bank and credit card statements
• Write down supporting detail to any unusual transactions you or your accountant may question in the future

Your monthly bookkeeping processes should prevent you from falling too far behind on anything. You want to avoid leaving any messes that will be overwhelming to you or your accountant in the future.

Which Financial Statements Should You Maintain?

As the founder of a startup, the three financial statements you should prioritize are the balance sheet, income statement, and statement of cash flows. Here’s what those are and how they work:

• Balance sheet: This documents your startup’s assets, liabilities, and equity on a fixed date, such as the end of the calendar year. It gives readers insight into the strength of your business’s financial position.
• Income statement: This documents your revenues and expenses over a period of time, such as the first quarter of the year. It gives readers insight into your business’s profitability.
• Statement of cash flows: This documents your net cash flows from your operations and your investing and financing activities. It helps readers understand where your dollars come from and where they go.

Your balance sheet and income statement capture your business’s fundamental financial information. They’re the two most important financial statements, and you’ll need them in every scenario where someone wants insight into your startup's finances.

For example, prospective lenders and investors will always want to see your balance sheet and income statement before deciding to work with you. Your accountant will also need them to help you with tax planning.

In addition, these two financial statements can help company management make better decisions. Analyzing them can reveal your startup’s strengths, weaknesses, and growth opportunities.

Third parties may or may not require your cash flow statement, but it’s essential for informing management decisions. Running out of capital is one of the most significant dangers for startups, and a cash flow statement helps you see that coming.

Do Startups Need In-House Accountants?

One of the most common reasons startups fail is that they run out of capital and can’t secure more funding. As a result, company founders need to be highly strategic with their resource allocation, especially in their earliest days.

One significant decision startups face is whether to hire in-house accountants or outsource the function to an independent accounting firm.

While the best option depends on your circumstances, outsourced accounting is often superior for the following reasons:

• Cost savings: The primary reason to outsource your bookkeeping and accounting processes is to keep your costs low. Hiring full-time accountants and bringing the function in-house is often more expensive than it’s worth.
• Service flexibility: When you outsource your accounting, you choose what professional services you need. You can expand and reduce your accounting service as your cash flow or business needs change.
• Expert, niche advice: If you bring an accountant in-house, they'll likely be lower-level. Hiring a full-time accounting expert for a startup costs more than most can afford. However, if you outsource, you can work directly with top talent.

Ultimately, it’s simply not necessary to pay extra for in-house accounting services for most startups. Outsourcing is cheaper and usually more than sufficient for your needs.

Typically, it only makes sense to hire an in-house accountant after your startup has expanded significantly. At that point, you’re likely to have more complex accounting needs each month and the cash flow necessary to afford full-time help.

How Lendio’s Bookkeeping Solution Can Help

Accounting software has made manual bookkeeping obsolete, but some small business owners record transactions by hand to save money. Most accounting software has a monthly subscription cost that may not seem worth it to a bootstrapped startup.

However, not every software forces you to open your wallet. Lendio offers free small business accounting software that can make bookkeeping a breeze for your startup. In addition to tracking your income and expenses, it can also:

• Sort your activities into appropriate categories
• Generate a professional-looking invoice in minutes
• Integrate with Gusto to calculate your payroll
• Create custom financial reports
• Analyze your cash flows trends
• Forecast your estimated tax burden

With Lendio, you get all the bookkeeping services you need for $0 per month, and you can chat with our bookkeeping experts to get help with any issues you may face. Give it a try today!

*The information provided in this post does not, and is not intended to, constitute business, legal, tax, or accounting advice and is provided for general informational purposes only. Readers should contact their attorney, business advisor, or tax advisor to obtain advice on any particular matter.

A Certified Public Accountant (CPA) is one of the most beneficial service providers you can hire as a small business owner. In addition to helping you complete and file your annual tax return, they can provide valuable tax and business planning during the year.

Average Cost Of A CPA

The average cost of hiring a CPA for a small business.

Though CPA fees vary by location and expertise, their tax services cost $174 per hour on average in 2020 and 2021. The cost of hiring a CPA for your small business usually depends on their hourly rate and the amount of work you need. Your actual accountant fees depend significantly on the help you need from them.

Fortunately, small businesses usually don’t need to hire a CPA full-time. Most can get by paying for CPA services intermittently throughout the year, such as calendar year-end, tax season, and before significant decisions.

Here are the average hourly costs for some popular CPA services.

Average hourly costs of different CPA services.

CPAs also often bill their clients fixed fees for specific services, such as preparing individual tax forms. For example, the average CPA charges $192 for a Schedule C, $323 for an itemized Form 1040, and $913 for a corporation’s Form 1120.

Costs for additional services.

Remember, the hourly cost of hiring a CPA depends significantly on the type of work you need them to do. As you might expect, the more complex and involved the work, the higher the hourly rate is likely to be.

As a simple example, it costs more for a CPA to complete your IRS Form 1040 if you itemize than it would if you were to take the standard deduction. In 2020, the average hourly rate was $161.34 for an itemized return and $153.74 for a non-itemized return.

Here’s what you can expect to pay per hour for the services above:

• Tax planning: $174
• Financial planning: $170
• Compilations, reviews, and audits: $164

Fortunately, there are some services that a public accounting firm won’t charge clients for if they’re paying for something else. For example, 58% of CPAs don’t charge a fee to file a tax return extension.

Because accounting fees vary significantly between providers, you should shop around before committing. Ask each CPA how they bill for services and try to get a quote for your expected needs.

Benefits Of A CPA

What does a CPA do for you?

CPAs are most well-known for business and individual tax preparation, but they provide many accounting services. Here are some other types of assistance you may want from a CPA.

Tax planning

There’s only so much a CPA can do to lower your tax bill once the year has already ended. As a result, if you only visit one when you need to file your tax return, you’ll probably pay more to the Internal Revenue Service (IRS) than necessary.

However, if you consult a CPA at the beginning of the year and stay in contact with them, they can help you develop and execute a plan to reduce your tax burden significantly.

For example, they might have you file an election so the IRS treats your limited liability company (LLC) as an S Corp, which could lower your self-employment taxes.

Business advisory

The Thomson Reuters Institute shared that 95% of accountants have clients asking for broader business advisory services. As a result, CPAs are increasingly taking on a more general consulting role.

These services may include:

• Cash flow forecasting and analysis
• Mergers and acquisitions assistance
• Outsourced chief financial officer services
• Key performance indicator (KPI) analytics

CPAs are well-equipped to provide this kind of advice due to their in-depth understanding of financial statements, taxes, and individual industries since so many CPAs specialize.

Assurance services

Finally, CPAs provide assurance services for your financial statements. That means verifying the accuracy of documents like your balance sheet and income statement.

There are 3 types of assurance engagements:

1. Compilations: These involve a CPA using data that you provide to create financial statements. Your statements don’t have to follow generally accepted accounting principles (GAAP), and the CPA won’t verify your financial data.

2. Reviews: These provide limited assurance that your financial statements are accurate and conform with GAAP. The CPA will follow procedures designed to reveal unusual items in your documents and investigate them.

3. Audits: These provide reasonable assurance that your statements are free of material misstatement and conform with GAAP. That’s the highest level of assurance possible and involves an in-depth review of your internal controls and financial data.

There are many different scenarios in which you may require assurance services. For example, you may need audited financial statements to qualify for funding from an investor.

When Is It Worth It To Hire A CPA?

Is hiring a CPA worth it? 

Whether or not it makes sense to hire a CPA for your business depends primarily on the complexity of your financial situation. Here are some times when hiring one makes sense.

1. Your tax returns are complex.

The more complicated your tax situation becomes, the more likely you'll benefit from hiring a CPA. For example, if you’re a sole proprietor with one income stream and no investments, you could probably get by with accounting software.

However, if you have 3 business entities and four rental properties in separate states, you’ll likely need to hire a tax preparer.

2. You’re considering significant financial decisions.

If you’re about to make a change that might significantly impact your tax and financial situation, it’s best to talk to a CPA first. They can explain the potential repercussions and walk you through the process.

For example, if you’re considering moving to another state, changing your legal relationship status, or bringing a partner into your business, ask a CPA for guidance.

3. You’re in trouble with the IRS.

Dealing with the IRS is a major headache, but having a good CPA makes it a lot easier. Not only can they guide you through the interactions, but they can serve as a middleman to take most of the work off your plate.

For example, if you have multiple delinquent returns or are undergoing an IRS audit, it’s a good idea to hire a CPA.

4. You need assurance services.

If you need to verify that your financial statements are accurate so a third party can use them, you’ll need to hire a CPA. They’re the only ones authorized to issue an opinion on financial statements.

For example, if you want to take your company public, you’ll need to hire a CPA firm to audit your statements.

The return on investment of a good CPA.

Whether or not paying a CPA is worthwhile for your business depends on how much their services cost and how much money they can generate for you. They might reduce your taxes, save you time, or help you qualify for financing.

For example, say you’re considering hiring a CPA to perform the following services in 2022, which will cost you the following amounts:

• Tax return preparation: $180 per hour for 3 hours
• Quarterly tax planning: $174 per hour for 4 hours
• Financial statement review: $164 per hour for 3 hours

Your CPA expects that they’ll be able to save you $6,000 in taxes by finding additional deductions and optimizing the way you pay yourself from your business. 

In addition, you’ll need your balance sheet and income statement reviewed to qualify for a $100,000 loan.

In this case, you’d be paying your provider $1,728 for the year, but they’d generate $106,000 of additional capital. In this situation, the return on your CPA would be well worth the investment.