What is bookkeeping? with (example, basics, types, objectives and importance)

 

basics of bookkeeping

 

First of all, bookkeeping is necessary for all business entity regardless of small, medium or large. Certainly, it is the process of recording financial transactions in business. Furthermore, it is just confined within the record keeping process. It is an integral part of accounting. It is also a process of organizing transactions.  Accounting is a broad method compared to bookkeeping. The importance of it is essential for a business to record daily financial activities. In this article, we are going to discuss bookkeeping examples, how to do this process, bookkeeping basics, objectives of bookkeeping, types of bookkeeping, the importance of bookkeeping and even more. The bookkeeping accounting provides an idea of the initial stage of accounting.

 

What is bookkeeping?

It is an organizational record keeping process. It records financial transactions of an entity. Almost, it is a systematic and preliminary stage of accounting. So, it is the process of identifying, measuring and recording the financial transitions of a business entity. A business concern records its day to day activities under this process. The record keeper must be accurate and knowledgeable to record the financial transaction of an entity. Most often, these transactions are related to purchase from a supplier, sales to a customer, receipt from a customer, payment to the supplier.

The transactions may incur from an individuals or a company. Accounting is a big system which includes identification, recording, classification, summarizing, measurement, interpreting, processing and communicating information to interested users. There are two ways a business entity records financial transactions under the bookkeeping process. The first one is a single entry system and another one is the double entry system. So, to read more about this topic, visit Wikipedia.

 

Types of bookkeeping:

Single entry system:

A financial transaction is recorded only once under a single entry system. Therefore, there is no opposite account is created under this method. Once a transaction is identified, it is recorded in one side of business books. Hence, it is called a one-sided entry system. Consequently, there is no balancing system under this method. Single entry system does not need journal or ledger entry for any transaction. This system does not comply with Generally Accepted Accounting Principles (GAAP). Most noteworthily, a very small sized business which incurs most of the transaction in cash use single entry system. As a result, this recordkeeping system can’t help in the decision-making process.

 

Double Entry System:

Certainly, every financial transaction is recorded at least in two accounts under double entry bookkeeping system. Each debit must have a similar amount of credit. For this reason, this accounting or bookkeeping system is worldwide recognized. It also complies with (GAAP).  The double entry system allows the accounting equation to maintain an equal balance in asset and liability.

 

bookkeeping equation

Bookkeeping examples:

Single entry system example: The oldest system of single entry bookkeeping records in cash book, account payable, account receivable, and some others. The example of a single entry bookkeeping system is shown below:

 

Cash Book

Date Description Income Expense Inventory Salary
01 Oct Balance b/d 50000 20000 30000 15000
05 Oct Sales 5000
10 Oct Electricity Bill 2500
15 Oct Salary Paid 5000
17 Oct Bank Deposit 20000
20 Oct Purchase 15000
24 Oct Stationery 2000
28 Oct Furniture 5000
31 Oct Balance c/d 75000 44500 30000 20000

 

Double entry system example: Some example of double-entry bookkeeping system is given below:

  • If a company sales goods in cash, cash or bank account will be debit and sales or revenue account will also be credit.
  • A company sells goods on account. It means the company sold goods in arrears. For this reason, Account receivable account will be debit and sales or revenue account will be credit.
  • If a company purchase goods from a supplier in cash, Purchase account will be debit and cash or bank account will consequently be credit.
  • When a company purchase goods on account, purchase account will be debit and account payable account will be credit.
  • If the company pays salary to the employee, the salary expense account will be debit and cash or bank account will be credit.
  • If the company pays an electricity bill, utility expense will be debit and cash or bank account will be credit.

 

Bookkeeping basics:

Above all, the basics of bookkeeping are important if you are a small business owner, accountant, bookkeeper, or student. The business owner may good in conducting sales and builds a strong management team. If you don’t know the basics of bookkeeping, as a result, your success will be in vain. So, you have to know the basics of bookkeeping to keep up your success. It is necessary to monitor what your bookkeeper is doing.  Some necessary basics are given below:

Identifying transaction:

If you are a bookkeeper or business owner you must understand what is a transaction. There may be a lot of event occurring in your business. All events are not a transaction.  A transaction must affect the changes in the accounting equation. Which means the transaction may change in asset value and liability or owner’s equity value. Other than asset, liability and owner’s equity is not a transaction.

Understanding accounts:

Certainly, an account is a ledger item.  You can create a lot of accounts for your business. Most noteworthily, you have to understand which account fits for your business nature.  You need to understand how each account changes with the changes of transactions. Example: you have many accounts. if you sell some goods which account will be affected? It will affect account receivable account and sales or revenue account.

Understanding journal entry:

Every Business owner or bookkeeper must understand the effect of a journal entry. And must know how journal entry effects chart of accounts and financial statement thereof.

Common Accounts:

The owner must have knowledge about some common chart of accounts which approximately all business have including cash, account receivable, inventory, account payable, loans payable, sales, purchase, payroll expenses, owners’ equity, retained earnings etc.

 

Objectives of bookkeeping or importance of bookkeeping:

Record:

The objectives of bookkeeping are to record all financial transactions.

Decision making:

Bookkeeping is important to prepare a financial statement which helps for making the decision.

Taking loan:

It is mandatory for a business to record the financial transaction for taking a loan from a bank.

Investor:

To attract an investor, showing the performance of a business is necessary. An investor will look into your financial statement for making an investment decision.

Tax Purpose:

To evaluate proper tax value, you have recorded all transaction. Unless it will be difficult to determine taxable income.

Documentation:

Thousands of transactions occur in a company for a period. This process helps to eliminate error and fraud transaction in the future.

Identification Receivable:

A business owner can not determine the amount of receivable amount by this process.

Profitability and growth:

Normally small business owners don’t record properly. Hence, a company can’t calculate profit or loss of a specific period. Accurate bookkeeping system helps the owner to determine profitability and growth over the period of time.

Cash flow:

The importance of cash flow is vital to take decision for upcoming transactions. Without proper recording transactions, the business owner’s decision can’t be effective. The owner may think he/she taking good the decision but decision can be accurate without proper information. Without perfect information, the decision can’t be effective.

Expense:

Insufficient information can’t provide us with an idea about future expenses. Certainly, you can’t estimate probable expenses without past record. A business owner can’t know how much expense incurs in your business. Accurate bookkeeping provides valuable information about expense so that the owner can minimize expense to maximize profit.

Planning:

Planning depends on past information. If the business owner doesn’t have accurate information, he can’t take an accurate plan. This process provides customized information which helps the owner planning process.

 

Finally, Bookkeeping plays the vital role in identifying, classifying and recording transactions.  Hence, the basics of it will enhance your knowledge and eliminate bookkeeper’s fraudulent activities. The types of bookkeeping help you to determine which method fit for your business depending on the nature of the business. The above bookkeeping example will help you to record a transaction in an accurate way. The importance and objective of bookkeeping will enhance your knowledge and encourage you to use bookkeeping for making an effective decision. So, use bookkeeping and make an effective decision.

 

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