Bookkeeping In Accounting Definition Basics Examples

Bookkeeping Meaning

There are two ways of bookkeeping, the single-entry systemSingle-entry SystemThe Single Entry System is an accounting approach under which every accounting transaction is recorded with only a single entry towards the results of the business enterprise, shown in the statement of income of the company.read more and the double-entry systemDouble-entry SystemDouble Entry Accounting System is an accounting approach which states that each & every business transaction is recorded in at least 2 accounts, i.e., a Debit & a Credit. Furthermore, the number of transactions entered as the debits must be equivalent to that of the credits. read more. The double-entry system is used more commonly. Records are important for analyzing performance. Crucial investment, business operations, and financial decisions are made based on performance analysis.

Key Takeaways

Bookkeeping is the chronological recording of business sales, revenue, purchases, and expenses. This is done on an everyday basis. Entries are made into the company’s ledger.Bookkeepers are responsible for entering accounting details. They prepare their firms’ relevant financial statements.This documentation can be done via cash or accrual method; however, GAAP prefers that the companies prepare their financial statements on an accrual basis.While bookkeeping is a part of accounting, the latter is a more extensive concept. It includes interpreting the accounts prepared by the bookkeepers to derive conclusions and facilitate crucial decision-making.

How does Bookkeeping Work?

Bookkeeping is an essential process that involves the systematic creation of a company’s accounts ledger. Accountants, managers, directors, and shareholdersShareholdersA shareholder is an individual or an institution that owns one or more shares of stock in a public or a private corporation and, therefore, are the legal owners of the company. The ownership percentage depends on the number of shares they hold against the company’s total shares.read more get vital insights from ledgers. Also, when it comes to external parties like banks, investors, and associates, bookkeeping records are a source of reliable and comprehensive information. Decisions related to lending and business association are also made based on these records. Most firms prefer the double-entry bookkeeping system to record an equivalent credit for every debitDebitDebit represents either an increase in a company’s expenses or a decline in its revenue. read more aspect.

Bookkeepers are individuals who execute the task of writing down a firm’s financial transactions daily. Bookkeepers’ responsibilities include creating bank reconciliation statementsReconciliation StatementsA reconciliation statement contains a list of differences between bank balance as per bank statement, books of accounts, debtor-creditor reconciliation, debt balance reconciliation, or any other reconciliation with a difference in the records of two separate legal entities, and it aims at nullifying the difference.read more, closing monthly ledger accounts, and preparing annual financial statements.

Even sole proprietary businesses and small firms such as local stores and dealers require bookkeeping for tracing expenses, revenue, sales, and purchases. Many small-scale enterprises nowadays use accounting software like “QuickBooks.” Small businesses prefer hiring bookkeepers over in-house accountants. That would be the cheaper option. Alternatively, they also outsource such activities to a professional accounting firm.

Bookkeeping Basics

Bookkeepers must know which form of accounting to go for. Bookkeepers primarily use the following approaches:

Cash Basis: Cash BasisCash BasisCash Basis Accounting is an accounting method in which all the company’s revenues are accounted for only when there is an actual cash receipt, and all the expenses are recognized when they are paid. Small companies and individuals generally follow this accounting method.read more is a method whereby only the financial transactions facilitated through money exchange can appear in the books. It ignores outstanding expenses and owed income.Accrual Basis: Accrual BasisAccrual BasisAccrual Accounting is an accounting method that instantly records revenues & expenditures after a transaction occurs, irrespective of when the payment is received or made. read more is a more realistic approach for accounting. Therefore, it is mandated by GAAP. In the Accrual method, bookkeepers record the financial transactions immediately. Entries are made as soon as income or sales amount becomes due. Expenses or payments owed are also recorded instantaneously.

Following are the various components of the bookkeeping procedure:

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Chart of Accounts: COACOAThe acronym COA stands for “Chart of Accounts.” It is a list of accounts (revenue, expenditure, assets, liabilities, etc.) that a company generates in order to organize, record, and segregate all accounts that have been utilized for transaction purposes in its accounting system.read more is a detailed worksheet containing guidelines and a framework for what kind of expense should go to which general ledgerGeneral LedgerA general ledger is an accounting record that compiles every financial transaction of a firm to provide accurate entries for financial statements. The double-entry bookkeeping requires the balance sheet to ensure that the sum of its debit side is equal to the credit side total. A general ledger helps to achieve this goal by compiling journal entries and allowing accounting calculations.
read more account. It helps bookkeepers pick the correct expense code while posting any journal entry.Journal: Journal entries primarily record the financial impact of any business transaction, where the debit equals credit aspect.Ledger: A ledger is the primary book of accounts that shows the debit and credit transactions related to one account. This is for a particular period and is recorded in a summarized format. It also contains the opening and closing balances by evaluating all the debits and credits of an account. It facilitates the creation of a Trial BalanceTrial BalanceTrial Balance is the report of accounting in which ending balances of a different general ledger are presented into the debit/credit column as per their balances where debit amounts are listed on the debit column, and credit amounts are listed on the credit column. The total of both should be equal.read more.Cash Flow Statement: All the cash and cash equivalentCash And Cash EquivalentCash and Cash Equivalents are assets that are short-term and highly liquid investments that can be readily converted into cash and have a low risk of price fluctuation. Cash and paper money, US Treasury bills, undeposited receipts, and Money Market funds are its examples. They are normally found as a line item on the top of the balance sheet asset. read more changes from financing, investing, and operating activities are summarized in a cash flow statement.Income Statement: This is commonly known as a Profit and Loss Account. The income statement puts forward the net profit or net lossNet LossNet loss or net operating loss refers to the excess of the expenses incurred over the income generated in a given accounting period. It is evaluated as the difference between revenues and expenses and recorded as a liability in the balance sheet.read more in a particular period.Balance Sheet: The balance sheetBalance SheetA balance sheet is one of the financial statements of a company that presents the shareholders’ equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner’s capital equals the total assets of the company.read more is the statement that shows a summary of shareholders’ equity, assets, and liabilities. The balance sheet summarizes data for a particular financial year. Therefore, it resembles the organization’s financial position.

Some of the other bookkeeping basics are the same as those of accounting. For example, every transaction comprises a debit and credit value to create an equilibrium. Only then can an entry be validated. This is why the double-entry accounting methodAccounting MethodAccounting methods define the set of rules and procedure that an organization must adhere to while recording the business revenue and expenditure. Cash accounting and accrual accounting are the two significant accounting methods.read more is considered the best. In addition to that, bookkeepers should always stick to the following golden rules of accountingGolden Rules Of AccountingAccounting rules are guidelines to follow for registering daily transactions in the entity book through the double-entry system. Here, every transaction must have at least 2 accounts (same amount), with one being debited & the other being credited. read more:

Bookkeeping Examples

Given below is the balance sheet of the PQR enterprises:

Balance Sheet

For March 31, 2020

Following are the financial transactions for the financial year 2020-2021:

Credit SaleCredit SaleCredit Sales is a transaction type in which the customers/buyers are allowed to pay up for the bought item later on instead of paying at the exact time of purchase. It gives them the required time to collect money & make the payment. read more to Mr. B of $120000Cash Sale of $370000Credit Purchase of $51000 from MNC Ltd.Cash Purchase of $295000Salary Paid: $64000Sales Amount Received: $81000

Additional information:

Closing stock $313000Mr. B’s bad debts $39000

Bookkeepers prepared the following financial statements:

Journal Entries

For the year ending on March 31, 2021

Balance SheetFor the year ending on March 31, 2021

Note:

Accounts payable = 182000 + 51000 (MNC Ltd.) = $233000

Equity = 621000 + 93000 (Net Profit) = $714000

The business realized it had made a profit of $93000 but was losing money to Mr. B (one of the debtors), i.e., bad debtsBad DebtsBad Debts can be described as unforeseen loss incurred by a business organization on account of non-fulfillment of agreed terms and conditions on account of sale of goods or services or repayment of any loan or other obligation.read more of $39000. Therefore, the management decided not to provide goods on credit to Mr. B in the future.

Advantages

Bookkeepers assist with financial analysisFinancial AnalysisFinancial analysis is an analysis of finance-related projects/activities, company’s financial statements (balance sheet, income statement, and notes to accounts) or financial ratios to evaluate the company’s results, performance, and trends, which is useful for making significant decisions such as investment, project planning and financing activities.read more. Auditors and accountants can now easily extract, interpret, and access financial statements thanks to documentation. Bookkeepers adhere to accounting procedures and corporate laws. They ensure the legal viability of the business accounts. Moreover, the documents about financial informationFinancial InformationFinancial Information refers to the summarized data of monetary transactions that is helpful to investors in understanding company’s profitability, their assets, and growth prospects. Financial Data about individuals like past Months Bank Statement, Tax return receipts helps banks to understand customer’s credit quality, repayment capacity etc.read more appear in chronological order, that is, in a date-wise sequence. This makes it convenient for the user to locate a particular transaction. Preparing an accounts ledger is quite easy, and standard formats for recording financial data are available.

Bookkeeping is the primary process in accounting. It, therefore, paves the way for other accounting activities like summarizing, analyzing, and reporting of a firm’s finances. It is a source of transparent, real-time financial information. Many operations like decision-making tax planningTax PlanningTax planning is the process of minimizing the tax liability by making the best use of all available deductions, allowances, rebates, thresholds, and so on as permitted by income tax laws and rules imposed by a country’s government. It contributes to better cash flow and liquidity management for taxpayers, as well as better retirement plans and investment opportunities.read more, bank financing, and loans rely on documented data. Further, the financial statements prepared by bookkeepers can be used for comparative study. The system also provides all the payrollPayrollPayroll refers to the overall compensation payable by any organization to its employees on a certain date for a specific period of services they have provided in the entity. This total net pay comprises salary, wages, bonus, commission, deduction, perquisites, and other benefits.read more details and deductions made.

Disadvantages

Bookkeeping is still prone to human error. If a wrong entry is made in the journal, it will affect the final accounts. Thus, such faulty statements may mislead the analysts and accountants. Bookkeepers add to the company’s costs on top of the high remuneration paid to the accountants. It is a form of non-operating expenseNon-operating ExpenseNon operating expenses are those payments which have no relation with the principal business activities. These are the non-recurring items that appear in the company’s income statement, along with the regular business expenses.read more for organizations.

Bookkeepers can deceive their employers by engaging in forgery or fraudulent practices. Bookkeepers can even tamper with financial statementsFinancial StatementsFinancial statements are written reports prepared by a company’s management to present the company’s financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels.read more or crucial information to take advantage of their firms. Further, financial software is often more feasible and faster than hiring bookkeepers.

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