The road to business success is pocked with potential accounting mistakes. Fall into one and you'll likely fall into another... and another... and another. And while most accounting mistakes can be corrected, avoiding them in the first place makes more sense! Here are a few to steer clear of...
Mixing Business with Personal
While there are certain situations where you and your business partners will want or need to take out money of the business for personal use (learn more about a drawing account), it’s generally in your best interest to keep your business and personal finances separate. One way to do this is to set up a business checking account as early in the game as possible. You can use this account to pay for business expenses and deposit business income. It’s also a good idea to establish payroll when your business can handle it. (And remember: payroll isn't just what you pay yourself and your employees. The business will take a hit each time you run payroll too in the form of taxes.)
And while you’re setting up a business bank account, why not ask the bank about applying for a business credit card? While it may be tricky to get one in the early stages (depending on the state of your personal credit), having a business credit card that you use and pay off regularly will help build a good credit rating for your business, leading to a friendlier borrowing experience in the future when you need it.
Confusing Profit and Cash Flow
If you want a clear picture of your business’ financial situation, you’re going to need to know the difference between two fundamental accounting concepts: profit and cash flow. Let’s start with some simple definitions:
Profit is what’s left over after you subtract expenses from income. This is expressed as profit = income - expenses. Income is any event (like making a sale) that causes money to flow into your business.
Cash flow, on the other hand, is made up of two parts: cash inflow (money coming into your business through things like payments from customers and funds from investors) and cash outflow (your business’ expenses and investments). Cash inflow and outflow come together on your cash flow report. (Learn more about profit and cash flow.)
While the meaning of profit and cash flow are commonly mixed up, they are actually very different things. You can have a positive cash flow (i.e. more inflow than outflow) and still not be making a profit, depending on what your expenses are. And if you want to stay in business, you’re going to have to turn a profit! That's why understanding the distinction between profit and cash flow—and accurately tracking both with easy accounting software—is key!
Doing it All Yourself
As an entrepreneur, you’re most likely all too familiar with wearing many hats when it comes to getting your business up and running. Even with business partners or a small team of employees, it’s inevitable that you’ll find yourself taking on multiple roles, whether it be HR, sales, marketing, bookkeeping, IT... the list goes on. The good news is that you don’t have to relegate your company’s accounting to a shoebox stuffed full of receipts. Get some good accounting software that suits your business needs and lifestyle and hook up with a good accountant that can help you make sense of what's too complicated. That's the road to a better financial future!
Those are just three potential pitfalls. What other common accounting mistakes are there that you've experienced? Share them on Twitter!