What is Bookkeeping? Who would deny the importance of keeping financial transaction records? Businesses experience thousands of financial transactions daily, and keeping a record of it is important for financial analysis and determining a company’s financial position.
Bookkeeping refers to the recording of a business’s financial transactions on a daily basis. The process is one of the most crucial processes as a company’s decision-making, investment, and position are determined by bookkeeping results.
Broadly, bookkeeping is classified into two types depending upon the way the tasks are performed. Let’s find out what these types are:
Types of Bookkeeping
1. Single Entry Bookkeeping System
If you own a small business, then you might choose a single-entry bookkeeping system. There is only a single entry recorded for every transaction in this type of bookkeeping, which means a transaction only affects a single account.
Single entry bookkeeping is the simplest way to record transactions and only maintains a record of cash disbursement, sales, receipt, and expenses. If you have accounts payable, accounts receivable, inventory, etc., the system will not record these transactions.
Single-entry bookkeeping only records the transactions when they have actually occurred. The system consists of a cash disbursement journal, cash sales journal, and your business’s bank statement. The entries in the journal should match the entries associated with your bank account.
- Recording transactions is easier and requires less time.
- Profit and loss calculation for a defined period is easier.
- Single entry bookkeeping is less expensive to maintain.
- No proper system for tracking the entries.
- Higher chances of fraud.
- The results do not generate an accurate prediction of a company’s financial position in the future.
2. Double Entry Bookkeeping System
For big companies with complex transactions, the appropriate bookkeeping method is a double entry bookkeeping system.
In this type of system, an accountant creates a single transaction and then creates a second entry to trace those transactions. This means the chances of fraud minimizes, and each entry can be easily traced.
If your company buys goods on credit and sells goods through account receivable, then the double entry bookkeeping system will record two entries to trace the transactions easily.
A double-entry bookkeeping system promotes complete information associated with a transaction. Suppose you sell a product in cash, then the accountant will record one entry as a debit in revenue and one in the customer’s account.
Debit and credit are the two concepts on which double-entry bookkeeping is done. A transaction associated with an increase in revenue is debited, whereas a transaction related to the rise in the cost of business is reported as a credit.
- This system helps in the accurate reporting of financial information.
- It allows a business to understand financial systems more efficiently.
- It eliminates the chances of fraud or any misleading information.
- The type of bookkeeping is harder to understand and maintain.
- Double-entry bookkeeping requires more time to record a single transaction.
- The cost of double-entry bookkeeping is generally high.
Importance of Bookkeeping
No one can deny the importance of bookkeeping in today’s complex world. A system that helps better understand financial data and improves strategies of a business is used by both small and large companies and is known for its proven importance.
Helps in Financial Management and Analysis
Having a detailed view of financial transactions in the form of financial statements will help companies track people who haven’t paid the amount or the position of revenue or cost of goods sold. The analysis will help a company better financial management by asking for payments and adopting strategies to minimize COGS and maximize revenue.
Helps in Creating a Budget
Bookkeeping majorly helps a business view its financial position, keep track of cash inflows and outflows, and take necessary actions based on the results. Therefore, by looking into the financial statements deeply and applying analysis tools, a company can easily determine its next step and the possible money that it can spend on it.
Helps in taxes
When you are doing bookkeeping of your business, you are not only keeping a record of financial transactions but calculate profit, assets, liabilities, income, expenses, and taxes. Therefore, when you have to pay taxes at the end of the year, your bookkeeper can quickly notify the amount to be paid for taxes based upon the yearly income.
No one can deny the importance of bookkeeping for a business. This article reflects how vital and crucial bookkeeping is and how it not only helps in financial management but analysis and strategy making.
Both Single Entry and Double Entry types of bookkeeping methods have some advantages, but the double-entry bookkeeping method is more secure and provides better insights and results.