Bookkeeping is one of the most important aspects of running a small business.
While accounting software can alleviate some of the burden through automation and record keeping, there are techniques that business owners can use to manage and streamline their accounting process.
The accounting cycle is one such example.
What Is the Accounting Cycle?
The accounting cycle is the comprehensive process of documenting and processing all of a company’s financial transactions, from the time the transaction occurs to its depiction on the financial statements to the closing of the accounts. One of the primary responsibilities of a bookkeeper is to keep track of the entire accounting cycle from beginning to end. As long as a company is in business, the cycle will repeat itself every fiscal year.
Over the course of a full cycle, the accounting cycle includes all of the accounts, journal entries, T accounts, debits and credits, and adjusting entries.
8 Steps of the Accounting Cycle for Small Businesses
The accounting cycle procedure will alter based on whether a bookkeeper uses a single-entry or double-entry bookkeeping system.
Businesses that use cash-basis accounting will use a single-entry accounting system that focuses on incoming and outgoing cash flow.
The basis for accrual accounting is a double-entry accounting system, which is more sophisticated than single-entry but also more accurate. A double-entry bookkeeping system handles many accounts, and using this form of balance sheet necessitates a little more accounting knowledge.
For double-entry bookkeeping systems, all of the phases in this cycle are required. Single-entry accounting, on the other hand, only necessitates steps 1, 2, and 8.
Some experts have subtle variations in the order of their stages, the number of them, and how they are labeled. However, the overall flow, topic, and goal are consistent. Slight variations in the order of steps will have no effect on the overall procedure as long as they are followed correctly.
1. Business Transactions
The process begins with financial transactions. There would be nothing to keep track of if there were no financial transactions. A debt payoff, asset purchases or acquisitions, sales revenue, or expenses incurred are all examples of transactions.
2. Journal Entries
Once the transactions are in place, the following step is to record them in chronological order in the company’s journal. When debiting and crediting one or more accounts, the debits and credits must always balance.
3. Entering Data Into the General Ledger
The journal entries are subsequently posted to the general ledger, which displays a summary of all transactions to individual accounts.
4. Trial Balance
A total balance for the accounts is computed at the conclusion of the accounting period (which may be quarterly, monthly, or yearly, depending on the company).
When the debits and credits on the trial balance do not match, the bookkeeper must look for errors and make corrective changes, which are recorded on a worksheet.
6. Adjusting Entries
At the end of the company’s accounting period, adjusting entries for accruals and deferrals must be submitted to accounts.
7. Financial Reports
Using the correct balances, the balance sheet, income statement, and cash flow statement may be generated.
The revenue and cost accounts are closed and canceled out in preparation for the next accounting cycle. This is due to the fact that revenue and expense accounts are income statement accounts that represent performance over a specified time period. Balance sheet accounts are not closed since they indicate the financial situation of the company at a specific point in time.
The General Ledger
The general ledger is the eyes and ears of bookkeepers and accountants, displaying all financial activities within a company. It is, in essence, a massive compilation of all transactions recorded on a specific document or in accounting software.
For example, if you want to see how cash levels have changed over the course of the firm and all the transactions that have occurred, you would look at the general ledger, which shows all cash debits and credits.
Fundamentals of the Accounting Cycle
To completely comprehend the accounting cycle, it is necessary to have a firm grasp of basic accounting principles. You must understand revenue recognition (the process through which a corporation records sales revenue), the matching principle (the matching of expenses to revenues), and the accrual principle.
What Is the Significance of the Accounting Cycle?
While it may appear to be a lot of record keeping, following an accounting cycle is critical for organizations. Here are a few reasons why.
Efficiency – Having a standardized procedure and tools for financial record keeping ensures that bookkeepers have a clear path to follow while recording information, which streamlines the process and reduces errors.
Internal analysis – The reports that can be created at the end of each accounting cycle provide invaluable insight into the performance of an organization, both within and between accounting periods. These insights enable businesses to determine which procedures and practices are the most profitable.
Time management – When a defined accounting cycle is in place, bookkeepers and accountants can arrange their calendars more easily because they know what obligations they’ll be addressing ahead of time.
Compliance – This entails keeping meticulous financial records in order to comply with government rules and taxes. Businesses must first disclose their financial records, after which they must calculate and pay their taxes. Even well-intentioned businesses can get it wrong, resulting in government audits and significant fines. Consider adopting governance, risk, and compliance software to avoid this.
Implement the 8 Steps of the Accounting Cycle In Your Business
Setting up an efficient procedure and knowing the accounting cycle will assist you in producing financial data that can be analyzed promptly, allowing your organization to run more efficiently.
In order to accurately implement the accounting cycle, consider getting professional assistance from the accountants of Today CFO. We offer a free consultation to small business owners.