The first four sections of this course details what business people in the U.S. need to know to protect themselves from the Internal Revenue Service. The remainder discusses the universal concepts of accounting.
Introduction
Accounting is a broad subject which is covered by several courses in this series. The aim in this basic course is different than what you will see in most accounting or bookkeeping manuals. We are going to look at accounting from the tax man's point of view. A lot of people lose money the first few years because they do not have a good understanding of the Internal Revenue Tax Code. This causes them to not keep the proper records that can be used to mitigate their tax liability. While you may bring someone onto your team like a tax advisor or payroll company to handle that part of the bookkeeping, remember that it is still the business owner's fault if a mistake is made and you need to know the law to know if they are doing it right.
In the previous course, Choosing Your Business Format, we touched some of the tax reasons you may want to choose one format or another. By the time you finish this course, you should begin to have a fuller understanding of why that is so important.
Types of Bookkeeping Systems
Each business needs to determine the type of bookkeeping system that it will use for recording their business transactions. Many small businesses start out by using the single entry system which will be using during our current discussions. As a point of reference, let's look at a brief definition of the different systems.
Single Entry System
The single entry system is a simple accounting/bookkeeping system where a user makes only one entry to enter a business financial transaction. It usually includes a daily summary of cash receipts and a monthly record of receipts and disbursements (expenses).
A checkbook register is a single entry bookkeeping system where one entry is made for each deposit or check written. Your revenue is entered as a deposit. Your expenses are entered as checks or withdrawals. If your bookkeeping system is manual, in order to determine your revenues and expenses you need to prepare worksheets to summarize your income and categorize and summarize your different types of expenses. Computer based bookkeeping and spreadsheet programs are also available to do this for you. The bottom line of this type of bookkeeping is to provide you with the profit or loss of the business.
While the single entry system may be acceptable for tax purposes, it doesn't provide a business with all of the information needed to adequately report the financial affairs of a business, such as the owner equity, business loans or equipment depreciation.
Double Entry System
The double entry system is the standard system used by businesses to record their financial transactions. Since all business transactions involve an exchange of one thing for another, double entry bookkeeping using debit and credits, is used to show this exchange effect. Debits and credits are the device that provide the ability to record the entries twice and are explained in more detail in our Level Two course, Intermediate Accounting.
The double entry system also has built-in checks and balances. Because of the use of debits and credits, the system is self-balancing. The total Debits recorded must equal the total Credits recorded. When used with the accrual method of accounting, the double entry bookkeeping system is a complete accounting system, also creating the income statements and balance sheets.