Most freelancers are in denial about their finances, putting off even thinking about them until taxes are due again–with grave consequences (as you’ll see later on).
However, recording and monitoring your “books” or records of financial transactions is an essential part of running a business.
If you’re just starting out, you probably do your own bookkeeping and tax preparation. As your business grows, you’ll be better off getting professionals to do it for you. Either way, you need to understand the basic processes involved in bookkeeping and accounting.
To help us get a better grip of bookkeeping, I have interviewed Monica Ross, President of Virtual Bookeeping. Read on to find out what tips a professional bookkeeper has for freelancers, especially those of us who want to do everything ourselves.
First Things First
Let’s make sure we understand the terms we’re using here. Bookkeeping refers to how you record a business transaction. Whether you use a notebook, a spreadsheet, or full-blown software to record your expenses and income, that’s bookkeeping.
On the other hand, accounting is a much broader term. There are many aspects of accounting–including bookkeeping activities, preparing and auditing financial reports, and understanding and advising on tax matters.
Therefore, bookkeeping is part of accounting. However, accounting goes farther. It includes analyzing and reporting financial information. For example, when you analyze how profitable your freelancing has been, you’re performing an accounting activity. When you prepare your own tax returns, you’re doing accounting.
Now that we’ve got the semantics cleared up, let’s move on to…
A Bookkeeper’s Tips for DIY Freelancers
Here’s my interview with Monica, a professional bookkeeper:
1. What are the most common bookkeeping mistakes freelancers (and other self-employed people) make?
Monica: The most common mistake I’ve seen is not keeping their books current. Most people wait until something is due (taxes, financial statements for loans, etc) and then try to put everything together hastily.
Another common mistake is not properly separating their personal transactions from their business transactions. They use the same checking accounts and credit cards for both personal and business transactions.
I’ve also noticed many self-employed individuals don’t keep all their receipts. You should obtain receipts for all of your business transactions including meals, gas etc. and not just large purchases.
2. What are the consequences of these mistakes?
Monica: Leaving bookkeeping to the last minute is very stressful. You also end up with a lot of inaccuracies when you do update you books. It’s a lot easier to remember what you did yesterday and today rather than last year.
It is better to keep personal and business accounts separate for two reasons. One, you don’t have to try and remember if a purchase common to both is for business or personal use. Two, it is better to have reconciled accounts in your books, and if the accounts are shared then you have to deal with twice as many transactions.
If you do not have a receipt for a disbursement that you’re claiming, and you are audited, the expense will be disallowed.
3. What is the most important tip to remember if I do my own books?
Monica: If you don’t already have an accounting background, you should take some kind of course that will give you a general idea of the accounting cycle and principles before starting your books. This will help to ensure your books are being done properly.
4. When should freelancers seriously consider hiring a bookkeeper and accountant?
Monica: If they do not have the necessary knowledge, then freelancers should definitely work with a bookkeeper and accountant. Also, when you become so busy that you no longer have the time to keep the books current, then it’s time to hire somebody else to do it for you.
I’ve noticed that most self-employed individuals give their books the lowest priority, thinking “I will do those when I have time.” I hear this all the time and then we end up with a shoe box of receipts and people panicking.
Freelancers should always consult an accountant for filing income taxes, and also if you are making a major change in the way you are doing business.
Having an accurate record of your financial transactions is good for your freelancing business. With good bookkeeping, you can:
- Monitor the financial health of your business
- Create and stick to a monthly budget, so that you avoid cash flow problems
- Identify ways to cut down on costs and keep more of what you earn
- Prepare your taxes more easily, if you do them yourself
- Make your accountant’s job easier and possibly reduce the amount you pay for tax preparation
- Be ready for a tax audit, confident that you have all the documents to back up your tax forms
How Are Your Books?
As a part-time freelancer, I do my own bookkeeping and tax preparation. I used LessAccounting for about one year. It helped streamline the process of invoicing my clients, receiving payments and recording them. However, because I did not know anything about accounting, I soon found that I was doing many things wrong.
Finally, early this year, I switched to an accounting software that resides in my hard drive and decided to get serious with my finances. I worked with a bookkeeper to teach me how to record my transactions, customize the accounting software I’m using, reconcile my bank accounts, and deal with the fact that my transactions are in two currencies (US and Canadian dollar).
Since I will soon be freelancing full time, I expect that I’ll be hiring an accountant to do my taxes next year.
How About You
How have you been tackling bookkeeping and taxes? Are you a do-it-yourselfer like me? If so, what resources do you use to make sure you’re doing it accurately? And, how do you take the pain out of bookkeeping?
If you work with a bookkeeper and accountant, how has that experience been for you? How did you find the right professionals to work with?
Do share. You just might help another freelancer out.
PS: The Unlimited Freelancer has a list of many different financial software packages that are affordable and easy for freelancers to use. Check it out!
Image by TerryJohnston