As a startup founder, your business’s financial health is a top priority.
A 2022 Skynova survey found that 44% of startup businesses failed due to a lack of cash. With this in mind, it’s essential to ensure that your startup doesn’t run out of money before it generates positive cash flow or attracts investors.
Likewise, you should have a tight grip on your startup’s finances even after it becomes profitable, so that you don’t spend more than you make.
But how do you stay on top of your startup’s finances? Maintaining accurate accounts will ensure your startup’s financial health, stability, and growth.
The benefits of accurate accounting for startups
Accurate startup accounting will help you keep track of your income and expenses. Let’s look at the other benefits of startup accounting.
Ensuring financial health
Startup accounting will help you maintain a tight grip on your expenses and debts. It will also ensure your business is getting paid on time for its products and services. Keeping a close watch on your income, expenses, assets, and liabilities will keep your startup in better financial health.
When a business maintains accurate books, it’s easier to project its growth. Accurate financial information will also make business valuation simpler. And by keeping accurate books, you’re more likely to impress investors, creditors, and lenders.
Pay correct taxes
Calculating the correct business taxes could become difficult if you don’t maintain accurate financial accounts. Accounting for startups tracks income, expenses, and deductibles. That also makes tax calculation and filing much easier to do.
Better analytics and planning
When you have accurate financial statements, like balance sheets, cash flow, and profit and loss statements, you can see where your startup stands financially. It also tells you where you’re making money and helps you plan for business growth.
“Don’t fake it till you make it when it comes to money, numbers, and taxes,” advises Tatiana Tsoir, an accountant and entrepreneurship expert. “Face it and face it early: prevent bad decisions, running out of money, anxiety, and eventual shutdown.”
How to start accounting for a new business
1. Choose a business structure
How you register your business will affect your startup’s accounting and taxes. You need to choose a business structure that will suit your startup’s size and needs. Some common business structures include:
- Sole proprietorship
- Limited liability company (LLC)
Even if you go with a sole proprietorship, you’ll still need to keep your personal and business finances separate. So, ensure you open a business bank account at the very beginning of your business. All your business transactions should go through this account, while personal expenses should ideally go through your personal banking accounts.
2. Choose an accounting method
While this may sound strange, there isn’t just one way of doing accounting. There are actually multiple different types of accounting, each of which is better suited to different purposes.
Some businesses account for income and expenses as and when they happen, which is called cash basis accounting. In this method, you mark a transaction only when you spend or receive money.
Another common method is accrual basis accounting, where you record financial transactions when they’re slated. For example, in accrual accounting, you record an expense whenever you place an order rather than when you pay for it.
Cash basis accounting works well for small startups with cash transactions and no inventory. On the other hand, accrual basis accounting helps project your income and expenses for better business forecasting.
3. Choose an accounting system
You can manage your startup accounting through different systems — manual, automated, or enterprise resource planning (ERP).
The manual system requires you to note every income and expense in a book or spreadsheet. It’s useful for small businesses with limited financial transactions.
However, most small-business owners use an automated system.
An automated accounting system is a tool connected to your business bank account and credit cards. It automatically creates a record for each financial transaction and helps you pay bills, schedule invoices, and create financial reports.
Finally, an ERP is a comprehensive tool that tracks product procurement, project management, risk handling, compliance, and business accounting. Generally, large businesses with multiple departments use an ERP.
4. Make general ledger entries
You need to ensure that every financial transaction in your business goes into a general ledger. For example, salaries and bill payments are expenses, and you should record them as debit transactions. But the payments you receive from your customers are credit transactions.
Each transaction — like income, expenses, credits, and deductions — has a corresponding journal entry. If you’re doing your accounts manually, you’ll need to enter these transactions into your general ledger.
Most accounting software provides an online ledger and automatically creates a ledger entry when you create an invoice or pay a bill.
Also, ensure you store all important financial records and tax forms, such as:
- Bills, receipts, and invoices
- Bank statements
- Employee tax forms like W2s and 1099s
- Previous tax returns
5. Reconcile bank accounts
It’s also important to compare your bank statements with the general ledger to ensure every bank transaction has a corresponding ledger entry. This is a process known as reconciliation.
If you do manual accounting, you’ll need to go over every entry in your bank statement and match them with the general ledger entries. Most accounting software has features to reconcile bank statements with the general ledger entries automatically.
Either way, comparing your general ledger with your bank and credit card statements is crucial because:
- It helps you detect fraud, like duplicated or changed checks, unauthorized bank withdrawals, and missing deposits.
- It uncovers mistakes on the bank’s side, such as an error in the deposit amount.
- It detects any data-entry errors in your ledger.
6. Prepare your financial statements
Financial statements give you an idea about your startup’s current financial standing and help you plan accordingly. They also contain information critical to investors and other key stakeholders in your business.
A few financial statements you should prepare as part of your startup accounting include your:
- Balance sheet
- Income statement
- Profit and loss statement
Again, if you use accounting software, it will automatically create these financial statements from your general ledger entries.
Best accounting software for startups
Manual accounting is tough to stay on top of and prone to human error. That’s why investing in startup accounting software is a good idea. Plus, this software can create invoices, pay bills, add ledger entries, reconcile bank accounts, and generate financial statements.
There are plenty of tools available to help with accounting for startups. But you must pick one matching your business structure and accounting system.
Below are a few of the best startup accounting tools.
Intuit QuickBooks Online
QuickBooks is an all-in-one accounting software from Intuit. It helps small businesses and startups:
- Track expenses
- Create invoices
- Track job costs
QuickBooks is very popular, so any accountant you hire can likely work with it.
What we like: QuickBooks is flexible and scalable, with versatile pricing plans.
Best for: Startups that will quickly grow into midsize to large enterprises.
Pricing: Four plans, starting from $15/month.
Kashoo claims to be the world’s simplest accounting software. There are two types:
- TrulySmall for growing small businesses
- Kashoo for established startups
Kashoo also has a mobile app, but it’s only available on iOS.
What we like: Kashoo makes accounting simpler for startup owners with no background in it.
Best for: Growing and small startups that need simple accounting software.
Pricing: For the first year, TrulySmall accounting and Kashoo come at $1 and $2, respectively. Then, it’s $216/year and $324/year.
Wave is a simple accounting software for small startups, particularly sole proprietors. You can use it to:
- Create and send personalized invoices
- Track income and expenses
- Send automated payment reminders
What we like: Most of Wave’s features are free for US and Canadian startups.
Best for: Sole proprietors and freelancers with a small business.
Pricing: Free for invoicing, accounting, and banking features.
Accounting tips for startups
Now that you know why accounting for startups is necessary and how to do it, here are a few tips:
- Create a budget for your startup and stick to it.
- Don’t just focus on the revenue. Instead, keep track of your actual profit.
- Digitize documents like bills, invoices, and receipts and preserve them for at least three years.
- Keep up with changing tax regulations to stay compliant.
- Continually review your finances and keep your accounts and documents up to date.
- Hire an accountant or use automated accounting software if your budget allows.
- Send invoices as soon as you provide the service. Chase late payers.
- Set financial goals for your startup and track your financial metrics.
According to Shri Ganeshram, CEO and founder of Awning, a real estate investing company, cash flow is the lifeblood of any business. So, startup founders and CFOs should always keep track of it.
Performing a cash flow forecast (where you estimate cash coming in and out based on previous performance) will help you anticipate and plan for any shortages and surpluses and adjust as needed.
Accounting costs for startups
According to the Chamber of Commerce, 62% of small businesses employ an in-house accountant, and 30% work with an external accountant. As a startup founder, you can either handle the accounting yourself or outsource it.
Here’s how you can decide whether outsourcing is worth it. Estimate how many hours, on average, you would spend on startup accounting. Then, calculate a dollar value for every hour.
If you find external accounting is cheaper, go for it. Also, if your business has complex finances, consider the price of a penalty if you make a mistake.
The cost of accounting varies based on the complexity of your business transactions. We compared many US accounting services and found that the average cost is between $500 and $1.5k/month.
Here are some examples of costs at accounting firms:
- Pilot’s “Core” package starts at $499/month when billed annually.
- Early Growth financial services offers a “Finance Pro” package at $1k/month and a “Finance Complete” package at $1.5k/month.
- inDinero has an “Essential” accounting package for $500/month and a “Growth” package for $990/month.
Here’s why Chris Nddie, co-founder and CEO of ClothingRIC, an online coupon and discount provider, thinks investing in a good accounting system is vital: “Accounting errors can truly stifle an organization’s growth, set you up for legal troubles, and stop your business from ever taking off.”