Lesson 2 in the Basic Accounting series:
With a double entry bookkeeping system every one of your small business transactions will be recorded into at least two of the accounts in your accounting system.
Is double entry accounting right for your small business or will another accounting system work better?
Single Entry vs Double Entry Bookkeeping:
There are two basic ways to record your financial transactions:
Single entry bookkeeping can used by small businesses where a balance sheet is not required for financial control or tax purposes.
Double entry bookkeeping is required for all businesses that must produce both a profit and loss account and a balance sheet.
To decide if a single entry or double entry system would be best for your business…consider the type of business you own.
A small sole proprietorship or home-based business may not require a double entry system for recording business transactions.
However, if you have quite a few accounts receivable (money owed to your business by your customers) or accounts payable (money owed by your business), you may want to consider utilizing a double entry system.
Most small business owners do not usually start right out with a double entry system.
It is easier for them to use a single entry method which is kind of like your check register. You just add the money coming in and subtract the money going out and keep a running balance.
There are pros and cons of using a single entry bookkeeping system.
The main selling point is the simplicity of single entry bookkeeping.
You just have two lists–one for income and one for expenses.
The main disadvantage of single entry bookkeeping is its limited ability to track your assets (what your business owns) and liabilities (what your business owes.) It is also easier to make errors with. With double entry bookkeeping everything must balance.
I have built my free accounting spreadsheets using the single entry bookkeeping system mainly because the double entry system would be too complicated for me to build and give away and secondly because I had built these spreadsheets in the first place for several small business owners that did not have any prior accounting skills.
Double Entry Bookkeeping Advantages:
Most medium and large businesses use a double entry system which tracks their income and expense AND their assets and liabilities.
Double entry accounting is require for all businesses that are required to produce a statement of its assets and liabilities (a balance sheet).
In a double entry system, at least two entries are recorded with each business financial transaction…a debit and credit. Each transaction must balance each other. See more details about basic accounting concepts such as debit and credits.
Take for example the purchase of the computer for your small business. In a single entry system, you would simply subtract the purchase price from your running total.
In a double entry system you would debit your asset account (Office Equipment or whatever you named it) and credit either cash or accounts payable…depending on how you paid for it. See why a double entry system is best for tracking assets and liabilities?
Note: If you use small business accounting software you probably will not see that two or more accounts are being affected. All that fun double entry accounting stuff is done behind the scenes for you.
For example if you record a check you wrote for that computer we were talking about above, your accounting software will automatically reduce your Cash account and only ask you for the other accounts affected such as Office Equipment.
See this page for some tips on picking out an affordable user-friendly double entry bookkeeping system.
Next Section: Lesson 3