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Keeping the books is one of the more challenging aspects of running a company. It’s also one of the most important. Accounting errors can be damaging—even fatal—to businesses, but mistakes are surprisingly common. Here’s how to avoid five of the most common accounting mistakes that plague small businesses.
You know the old saying: You can’t solve a problem by throwing money at it. But when it comes to accounting, the reality is that you can fix your problems by dedicating more resources. “The mistake I see most often is underinvestment in accounting, particularly from a people standpoint,” said Chris McKee, founder of Venturity Financial Partners.
Skimping is especially common among expanding businesses. They’ve outgrown their junior finance person and now need a senior controller, whose salary is likely to be $70,000 or more. But that sounds expensive, so they hire someone in the $40,000 range. The cheaper hire might be great at processing accounts payable transactions but likely lacks the experience necessary to fully maximize the financials and enable the company to grow.
“You can save a little on salary, but later you have to go back and fix all the mistakes, which can be a very expensive proposition,” McKee said. “And all that time you’ve been making bad business decisions because you didn’t have a handle on important metrics like gross margin.”
This is in fact not a direct contradiction of the first point. It’s a reminder that fancy new accounting software will not necessarily pay for itself.
“Many times, I’ve seen businesses overinvest in accounting software,” McKee said. However, few—if any—small businesses need the firepower of an expensive enterprise-level accounting system.
Before your business sinks too much into a system you don’t need, evaluate the tools that are designed specifically for small businesses. These platforms focus on the areas that concern small enterprises most—cash flow, invoicing, compliance, and the like—and won’t bog you down with unnecessary functions that don’t apply to your business.
Surprisingly, some business owners think it’s a good idea to hire family members to handle their accounting. This invites financial trouble, as well as domestic strife. Neither of which, it turns out, are particularly good for business.
“We see it all the time, having your spouse or your brother-in-law do the books on the cheap,” McKee said. “People do it because they’re starting a business, and they get a lot of people in the family involved. Maybe their wife or husband kept the checkbook at home, so they figure they can do the accounting.”
Hiring a professional might be more expensive than hiring a family member, but the cost will be easily offset by the lack of productivity-draining family turmoil.
Business and personal finance are a bad combination. And yet, too many small business owners use a single checking account for both sets of finances, a problem that becomes worse still when they commingle the expenses on their company’s books. Was that 48-pack of microwave popcorn for your home or office? Who used the company credit card for $500 worth of video games? You need clear boundaries.
“It can get out of hand very quickly,” McKee said. “Then after two years, people realize they’re not making money because they spend a lot on themselves, and they put it all on their business credit card.”
Mixing business and personal finances can also cause problems with the IRS, which is now taking an aggressive stance on things like claiming your Caribbean vacation as a business expense.
“The IRS will take a sample of a period of a few months and, if they see a lot of personal expenses there, they will extrapolate that to the whole period under audit and compute taxes on it. It can get really expensive really quick,” McKee said.
This is an easy one, especially since you probably don’t really want to do it all yourself anyway. The DIY approach works well enough when you’re starting out—your operation is small, and the books are simple. But as your business grows, you can easily find yourself in over your head and spending eight hours a day crunching numbers.
“The best investment of your time is rarely the accounting,” McKee said. “As soon as it’s practical, you should bring somebody in to take it off your plate.”
Tim Devaney and Tom Stein write about technology and business for a number of publications. Tim has been a senior editor at Red Herring, Industry Standard and San Francisco magazines, and editor in chief at the Berkeley Monthly. Tom has contributed to leading publications including Wired, Business 2.0, Venture Capital Journal, AllBusiness, and Tennis Magazine. He has also held staff-writer positions at the San Francisco Chronicle, Red Herring, and InformationWeek.
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