Now that we know how to set up our income statement and what the major moving pieces are, let’s take a look at how to manage the income statement every month.
This is where most people freak out and shout “Good God! It’s Accccounnttttinnnnng!”
Yes, friends, it is indeed the sneaky devil that we call accounting. But guess what? It’s actually not nearly as complicated as people make it out to be. That’s because startup accounting is like trying to manage our expenses when we’re a freshman in college – we don’t really have that many to manage!
Even if we do, and the business is a bit further along, don’t worry. We’ll walk through a step-by-step guide so that we can just fill in each box easily.
But before we get into the process, let’s just make sure we cover a few caveats and concerns:
While we can’t cover the ins and outs of every tax issue, it’s worth making a note of which taxes we’re going to be liable for so we don’t make the cardinal mistake of not filing taxes. The IRS and other taxing authorities get upset if we mess up how much we paid them. But they go full Eliot Ness Untouchables if we don’t pay them at all!
Employers (in the U.S.) are subject to a separate tax on their payroll in addition to what employees pay and what is withheld. This is very important to note.
Employers withhold a certain amount of taxes on behalf of employees that are then paid directly to the Federal, State and Local taxing authorities. It’s our job to make sure we are properly withholding and paying these taxes at each level.
Whether we made or lost money the IRS and local tax authorities want to know where the company stands. We need to file corporate tax returns annually, and if we made a profit (yay!) pay the requisite taxes (womp womp womp).
Depending on our business we may be required to collect and remit sales tax.
A word of caution – The IRS and other taxing authorities aren’t responsible for “sending us a bill”. The only bill they are likely to send us is one that reads “You forgot to pay your taxes for the last 3 years – here’s what you owed with a criminally-high set of penalties and interest as well.” We’d recommend at least making sure these 4 categories are considered if nothing else.
When managing our finances we have to choose between two methods of recording transactions: Cash and Accrual accounting. This is just a decision as to when we determine a transaction should be recorded in a particular month. It’s a small nuance, but an important one.
Let’s assume we hired a designer to work on our company logo. She performed $500 worth of work in January then sent us a bill that we paid in February. Do we record the transaction in January when we incurred (accrued) the expense, or February when we paid it (in cash)?
For this we must make a choice – but it’s an important one because however we choose to record this transaction should work the same for all of our transactions. There’s no wrong or right here, it’s more a matter of how we would prefer to manage our finances.
Here are our two choices:
If we’re totally lost on which one to pick – choose “Cash Accounting” simply because no matter what we can always defer to the timestamps of what posted to our bank account, even if they don’t directly reflect when and how we made those decisions.
Much like the assembly line of dishes at Thanksgiving time – rinse, wash, dry – every month we will enjoy the ritual that is “monthly close”. Here we will tally up all of our activity, drop it into our Income Statement, and analyze the hell out of the results.
We’re about to walk through each step, but here’s a quick overview of what we’re about to do:
We will download and retrieve all of our income and expense activity for the month including credit card processing statements, bank statements, credit card bills and paper invoices.
With all of our info in hand, we’ll begin recording these transactions in the appropriate spots of our income statement.
We’ll double-check that our math is right and then do a little bit of analysis to figure out what worked, what didn’t, and how to revise our assumptions and forecasts for the future.
So long as we follow the steps in order, we shouldn’t have a very difficult time accounting just like the big kids. Therefore, without further ado, let’s get our accounting on!