How to tell if your Accounting System is Broken?
A broken accounting system can break your business and your financial well being. Fortunately, you can tell very quickly if your accounting system is working the way it should. Here are some broad indications that can help you assess the health of your business accounting system.
Warning Sign #1: You don’t know how much money your business made last week, month, quarter or year.
Many small business owners just don’t know exactly how much money their business is making. They have a ‘general’ idea that the business is making money, but have no clue of the exact profit or loss the business made last month or last year. If the accounting system is set up and running right, you should be able to tell at any point in time exactly how much money your business is making looking at the Profit and Loss Statement.
Whether you hire a professional accounting firm to manage your books or do it yourself, you need to generate a profit and loss statement that summarizes your revenue and expenses for a specific interval of time. Given the nature of your business, you may not need to know your profit or loss on a daily or weekly basis. But you must be able to tell at least on a monthly basis, exactly how much money your business is making. If you hire an accounting firm to manage your books, make sure you receive a monthly profit and loss statement.
Warning Sign #2: You see items on your Balance Sheet that don’t make any sense to you.
Balance Sheet is a record of your business assets, liabilities and owner’s funds. It provides a snapshot view and health of your business at a certain point in time. If there are items on your Balance Sheet that you do not recognize or understand, your accounting system may be broken.
Wrong balance sheet numbers include things like big negative bank account balances, incorrect accounts receivable or accounts payable, and any other accounts with strange names or balances. It is difficult to fake a balance sheet. If you see goofy numbers on your Balance Sheet, your accounting system is not capturing the financial data of your business accurately and working as it should.
The debt and long term value of your business is determined by the Balance Sheet. If you have a professional firm manage your books of accounts, you must be able to review your Balance Sheet at the end of each month or at least at the end of each quarter.
Warning Sign #3: Your CPA gives you lots of adjusting journal entries.
It is common to get adjusting entries at the end of the year, especially during tax return preparation. At K&M Accounting and Tax Services, we often prepare a handful of accounting entries such as tax return depreciation, and deductions for small business clients while preparing the tax return.
However, if your accountant or bookkeeper is making many other adjustments, you should verify that the accountant isn’t adjusting accounts at year-end because you’re not regularly tracking the account as you go through the year. Especially making adjusting entries to your Cash or Inventory Accounts is dangerous. Large end-of-year adjustments mean just one thing: The books aren’t up to date with the financial realities of your operation. This lack of up-to-date information, sadly, means you may be flying blind.
Warning Sign #4: You don’t receive regular financial reports from your accountant for several months.
As a business owner, you must expect regular reporting from your accounting system. Profit and Loss Statement, Balance Sheet, Sales Tax and Payroll Tax Report, Accounts receivables and payables report are some of the standard reports that you should have access to on a monthly basis.
If your accounting system is not able to produce accurate and timely reports for your review, it is most likely broken and needs to be reviewed. A well managed and accurate accounting system not only provides you with the information needed to make important business decisions, it also serves as a system of record to prove your point in case of a legal or tax liability. Having a professionally managed accounting system becomes the first step in proving your case in a legal battle with business partners, IRS or any other claimant.
Remember, broken accounting systems can eventually take down large corporations such as Enron as well as entire Nations and Regions. As a small business owner it is important to stay on top of your accounting system which in turn will help you stay on top of your business performance.
Keep in mind this column and the articles published here are only meant to provide you with high level information about tax and business matters and in no way should you consider this as tax advice. Consult your tax and legal advisors regarding your individual tax and business situation.
This Article provides only an overview to the complex Tax Laws. It is not exhaustive nor a substitute for Independent Tax Advice provided by a Tax Accountant or a Tax Attorney familiar with your case.