Startup Accounting: Good Practices Now Yield Big Dividends Later

There’s no question that startup entrepreneurs are pulled in many directions. With so much focus on daily operations, managing employees, product development, and more it can be easy to overlook the importance of establishing strong accounting practices from the get-go. When there’s not a lot of $$$ coming in the door just yet, founders can make the mistake of categorizing finances as an “I’ll get to it later” task. However, just because you might not be making revenue just yet, doesn’t mean there aren’t plenty of expenses going out the door.

If you don’t have an accounting practice established, when revenue finally starts coming in, your booming sales won’t amount to much if you aren’t aware of the expenses your business is incurring. Strategic business growth can’t happen without a real understanding of your financial statements. If you’re running a startup or small business, it’s important to fully understand your numbers so you can grow your business.

Here are seven common startup accounting mistakes and how entrepreneurs can avoid them.

1) Infrequent Bookkeeping

When startup owners don’t evaluate the financial status of their business regularly, their ability to detect problems and adjust budgets is limited. Brad Shaver, Director of Accounting at Nashville-based HR, PEO and accounting services company, XMI, recommends frequent invoicing and monthly bank reconciliations to ensure that cash flow—the lifeblood of startups and small businesses—is secure.

“The number one accounting mistake most startups make is that they do their bookkeeping infrequently,” said Shaver.

2) Not Understanding Tax and Compliance Requirements

Another frequent misstep among startups is not understanding or fulfilling crucial tax, debt and other compliance requirements. State and federal filing requirements, like paying taxes and submitting certain reports, depends on your business structure and the state in which your business is located. There are also internal record-keeping requirements that are important to keep straight should you sell your company, if legal action is taken against your company or if your company is audited.

3) Not Clearly Documenting Startup Capital

No matter how you finance your startup, whether through a startup loan or equity, it is essential to make sure everything is documented clearly in a formalized agreement. Even if a startup owner or company partners infuse their own money into a company, it’s critical to distinguish whether the initial capital infusion was equity or a loan.

 “If it’s a loan to the company, it will have different consequences if there’s ever an exit—most times, founders don’t know; they don’t decipher one way or another,” said Shaver. “They expect to get the payment back and maybe interest, so it’s best practice to write that out.”

 4) Not Knowing How to Pay Yourself

Whether a founder should take a salary or draw on net profits depends on the stage the company is in.

“You need to figure out what method is best for you for what you want to achieve,” Shaver says. “For instance, a salary will show up on the profit and loss statement on your income statement, but an owner draw will not because you’re reducing the loan or the equity money that you put in.”

5) Blending Personal and Company Financial Accounts

Blurring the line between personal and business finances can pose a significant problem. Yes, it’s convenient to use the same accounts and cards to fund your personal business—still, not a great idea for a few different reasons. The ease and accessibility of mixing personal and business finances can come with a hefty price tag. It can complicate your financial life, give the IRS reason to call for an audit, create a personal liability problem and it fails to help you build your business’s credit profile. Separating personal and business finances allows founders to treat the business like the independent entity it is while safeguarding all personal finances.

6) Making Poor Cash Flow Decisions

Creating a financially sustainable business requires a basic understanding of accounts payable and receivable. More importantly, entrepreneurs must understand how these decisions might affect the ability to maintain adequate cash flow. For example, invoicing at the beginning of the month for that month’s services, means that cash comes in sooner. Whereas, invoicing at the end of the month for services already performed results in money coming in later, requiring the business to sustain cash flow in other ways. It’s always good to think ahead, especially as a fledgling entrepreneur.

7) Waiting Too Long to Enlist an Accountant

While most entrepreneurs readily admit a lack of accounting knowledge and skills, they wait too long to find a professional partner to service the company’s accounting needs.

“Oftentimes, founders wait too long to enlist help with accounting and finances,” said Shaver. “This usually results in a significant amount of cleanup work which can snowball into a loss of time and possibly lost opportunities that a good accountant would have been able to help you avoid from the get-go.”

Accounting is frequently seen as an Achilles heel for startups and small businesses. Don’t fall prey to these common missteps and lose valuable insight into your business. Read up, explore your resources and use what you learn to set up an initial plan that will help you manage all of your startup goals.