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How You As A Small Business Can Get a Handle on Your Business Finances

05/20/21 | Dana LaRieal Morales

Do you really have an understanding of what is happening financially with your business?  Do you just look at the income you are taking in to evaluate how you are doing?  This is a common mistake small business owners make and I want to help you develop the right processes to ensure you get a full picture of what is happening in your business.  In today's episode, we really talk about developing the financial foundation for your business.  

Topics Covered:

  • Are you team excel or team accounting system;

  • Key factors to consider when selecting the financial foundation for your business;

  • Developing a system that makes filing taxes easier;

  • How to use the financial data to make sound decisions in your business; and

  • and other financial process tips to consider.

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I am not an accountant and the information I am sharing with you today is based on my experience and knowledge.  All decisions regarding what you do in your business are yours to make and can vary based on your particular circumstances.  Make sure you are comfortable with the decisions you are making and if you aren’t I encourage you to seek the assistance of an accountant.  

Despite what some would have you believe, the topic of business finances is not a one-size-fits-all type of topic.  Today I want to talk about the process and organizational structure of your finances, because every business should have some type of financial structure established.  I’m not talking about whether you are a solopreneur or an LLC. I'm talking about how you maintain and track your finances in your business.

Let’s Level Set Our Expectations

As it relates to financial structure, entrepreneurs tend to do one of three things: 

  1. You don't track anything so there's no true understanding of what's coming in or going out.  If this is you, you need to really pay attention because that’s not good at all. 
  2. You kind of know what's coming in because maybe you're using a payment processor and can see the reports in that payment processor.  Truth is this is not a full picture of your finances within your business because your payment processor is only showing you what’s coming in, not necessarily what’s going out.  It's important that you look at your business processes in a holistic fashion so you see everything that’s happening from a financial standpoint.  
  3. Theoretically, you have it together financially. If this is you, you should use this information as a check and balance to make sure you're doing all the things I discuss.  In most cases, you’re in really good shape and may just need to tweak a couple of things.

Which Foundational Structure Will You Use?

So now that we have that understood, let's talk about the two different foundational structures that you may have in your business. The simplest form is using an excel spreadsheet. Now the excel spreadsheet is typically good for a really new business that doesn't have a lot of expenses or income coming in or out at this point. This method is best for someone who potentially has a service based business where you don't have a lot of expenses. You would expect to have more income coming in than you do expenses going out.  That being said, this should be a temporary state and not your ultimate financial structures plan.

For those of you who panic at the mere thought of bookkeeping, accounting or keeping up with your finances, just take a deep breath.  I don't want you to get overwhelmed with the idea of tracking your finances in your business, but it is a really important thing for you to begin to do so that you have a true picture of what's happening. If you are currently doing nothing or you have been using an excel spreadsheet there is a way to maximize your use of that sheet to really tell your true financial story.  

Ultimately, don't feel like you automatically have to jump over to using an accounting system however I do recommend you consider the switch after you get to a certain size or your business gets a little more involved.  In general, I like to use the $2,000.00 - $4,000.00 profit mark, because this is when you have to start filing with the state of Tennessee (your state may have different filing rules).  Once you reach this point, it's time to start looking to graduate to your accounting system (even if it’s a free one) because there’s a greater likelihood that your business is really ramping up and/or that you will begin to incur a lot more expenses that will need to be tracked.  

If you’re running a product-based business and you’ve started taking in money, I recommend that you start off or quickly move to (within 3-6 months) an accounting system.  The other option is for you to start tracking and setting up your finances in a way that can easily move over to the accounting system.  I recommend this because a product-based business has a lot more expense activity then a service-based business.  It’s much easier to learn and navigate a system when you don’t have a lot of things coming in and going out than it is to shift midstream.  The spreadsheet based system template that is available in the organized academy vault keeps all this in mind so your transition will be a lot easier.  

Why I recommend using an Accounting System

Now let's talk about why I recommend using an accounting system early in your business.  Now, when I first started my business I didn’t have an accounting system. I was on team excel because I had money coming in, but there weren’t a lot of expenses. I still don't have a lot of expenses, because my business is 80% service-based and 20% product-based. It was easy for me to track everything in excel and technically today I could still do that however, it would be much more difficult and time consuming.

The biggest reason I recommend using an accounting system is that it gives you some clear delineations and understanding about how you’re spending your money and how money is coming in. When you think about the finances in your business you have your expenses, but all your expenses are not created equal. You have expenses that are absolutely mandatory and you also have expenses that are more optional. You don't have to spend that money but it's a nice to have type of expenditure.  

Being able to quickly look at a glance at how things are going and where they are going is extremely helpful.  If you need to make changes you have the data there to review without jumping through a lot of hurdles. Just like you can see how you’re spending your money, you can determine where your money is coming from.  What is the most profitable thing that you’re doing?  This will allow you to put more effort and focus on the things that are working and re-evaluate whether you should be doing the things that aren't.  

Keep Your Eye On The Prize, Don’t overcomplicate Your Accounting System

Now truthfully speaking, some accounting systems are a little more detailed than others.  Based on the way you run your business you may want to pick a system that is high level and basic.  Others of you may want to go a little deeper, so as your business grows your system can grow with you.  In the vault, I share with you the tool I use and there are a few basic tutorials to help you understand parts of that system.  These are not full blown tutorials since technology changes too frequently to justify that, but I do point you in the direction of the online tutorials that cover the content you need.

For the purposes of this conversation, I really just want you to focus on developing your financial structure so you can know what's happening in your business and can get all of the key reporting that you need for your business. (your profit and loss statements, your income and expense categories).

Once you get all this set up doing your taxes will be a breeze oh and if you use an accountant, no problem, they’d much prefer a clear cut report than your box O’ receipts! Ultimately, if you're doing it along the way and if you have a system set up to make that happen it makes things a lot easier. 

Why I love Using An Accounting System

My favorite part of using an accounting system is the categories. When I’m working with clients, this area helps us figure out what you’re spending versus what you’re making.  For example, one of the clients I recently worked with who has a product-based business kept sharing how much money she was making in her business and how well she was doing.

I questioned whether it was truly all profit, so we began to work together to analyze her finances and ultimately her spending.  She fell into the financial group 2 that I mentioned earlier, as she didn’t have any type of accounting process or system in place, but she was able to track her sales through square and stripe.  She was only basing her financial view on those two systems and not her entire financial story.

I began to ask her question like, “what are your expenses?” “How much does it cost you to make this product?” but she didn’t really know the answers to these questions.  So this was our starting point of creating her financial system and knowing what needed to be set up in her accounting system.  We sat down and broke down her product making processes to identify her expense paths.  

Letting Your Financial Ecosystem Give You the True Picture of Your Business

Think about the number of expense paths you have when making a t-shirt for example.  What goes into making it? You have the actual t-shirt, you also have the ink or the vinyl on the shirt. Let's say it's a blinged out shirt, maybe you have rhinestones that you put on the shirt maybe you have to buy the tags to sew into the shirt or the care information on a card, the packaging, etc.

All of those things go into the expense and the cost of making the product and I didn't even add in the labor/time because that too is part of the overall expense of the product.  So when you start adding all of that up to determine your actual product cost and compare it to what you're selling the product for… how much money are you really making? Does it make sense? If it doesn’t, where can you cut expenses or can you?  

When my client and I did this, she realized that she was actually in the red that she was spending more creating the product than she was making selling it.  Her spending and pricing were way off.  She had come up with pricing based on what others were doing in the industry instead of looking at what her cost was in comparison to what she was going to sell the product for.  She also was spending way too much on supplies.

In her particular situation she didn't want to raise her prices too drastically because she didn't feel like people would buy it at that pricepoint, so we started looking at how she could cut expenses without cutting the value of her product. She did a little further research and was able to cut her expenses in a way that would enable her to have an acceptable profit margin instead of a loss.

I'm telling you this because many of you are in that same situation where you kind of “arbitrarily” picked pricing or supplies based on what other people were doing or where you felt comfortable pricing your product versus how much it actually costs you to make it.  Or you didn’t account for the overall time investment it requires to produce such a high-quality item.  In my client’s case, it became very clear based on our analysis of her expenses and her income.  

By having an accounting and overall financial system you are able to easily break that down and see at a glance what you’re spending on expenses.  Yeah I made this amount for the month but let me also pull up my supply category for the month and do a comparison and see if I’m really in the black (Note: when I say in the black that means that you're making money, if you're in the red that means you're losing money).

Financial Ecosystem Analysis Helps You Make Decisions

An accounting system can as be helpful when determining whether it’s time to switch or add systems in your business.  Maybe you’ve learned about a new product on the market and you're trying to compare systems.  Look at what you’re currently spending on a process or system, and what value it actually gives you.  

Are you using a right-sized tool or can you spend less and have the same functionality?  Can you get a new tool (or fully utilize a tool you own) that replaces a number of other tools and ultimately saves you money?  It’s much better to have one tool that handles three different things versus three different tools. In most cases it’s a lot less expensive, it saves you time and it lowers your overall risk of having to have three systems talk to one another.  

How Your Financial Ecosystem Helps Make Tax Time Easier.

If you have ever done your own taxes or if you currently do your own taxes you know that there are categories that you can exclude from taxable income as a person who owns a business or a self-employed person. Now, although you can write specific categories off, you need to have the the total amount of that particular expenses category totaled up.  Take your business operating expenses for example, are they broken down into categories so you know what falls into which category?  

Well, in your accounting system and or your excel spreadsheet if you track your expenses using these categories, during tax time you can easily pull a report to get those numbers. This of course assumes you are doing this tracking throughout the year as you are running your business.  What I teach is that you create a natural process to include this in your business day to day actions.  Trying to do this all at the end of the year or handing your accountant a shoe box full of receipts costs you money and time in the end.  

Do you Have a Way to Track your Mileage?

Do you claim your mileage on your taxes?  If so, do you have a way to track your mileage or are you just guesstimating? “Oh I think it's nine miles from here to there so let me just guess and say this is the number of miles.”  You need to have a mileage register or an app on your phone that tracks your mileage. Make sure you learn the system and how to use it so you can get into the habit when you get into the car to log your mileage. Also, make sure you’re tracking that mileage total appropriately. I have a list of a mileage tracker i have to find it and i will make sure to put that in the show notes. 

There are some accounting system that have a built-in mileage tracker.  That’s a great option to add to your requirements document for your product selection, if that’s important to you and your business.  You can also find out if your tracker syncs with your accounting system or has a CSV or Excel export feature. Once you have the data, you can make sure your tracker sheet is formatted properly so it can be imported into your accounting system as an expense category. 

Tracking your Proof of Purchase for Business Payments

The other thing that I want to talk about is your paid expense receipts. When you are paying for things in your business, hopefully you are getting a receipt to use as your proof of purchase. Think about Judge Judy or any court show you’ve ever seen, what is the one thing they ask for in every single situation? Do you have documentation? When you start saying I did this and I provided this and they promised this, they're going to want to see the proof. So you want to make sure that you have the receipt for anything that you purchase in your business.

If given the option, it’s great to ask for an electronic version of the receipt or opt for both electronic and printed.  I say this because receiving the electronic version prevents you from having to scan it in.  It is already electric so it makes it easier to get it into your system.  If in physical form, you will need to scan it in and then save it to the designated location.

You also want to make sure you have a system by which you are saving this information into your financial system.  I assume it’s coming into your email (or a designated email account), so what do you do with that receipt once you receive it? Well, I’d recommend you have an accounting folder in your source of truth.  Any of you who went through the How to Tackle electronic clutter course, you know that the source of truth is that parent place where all your files are living. 

You want to have an accounting folder and under that accounting folder you want folders that signifies each year. I personally only keep seven years worth of documentation, because I’ve created a self cleansing system, but that is my personal choice.  I chose seven years because that is the amount of time that the IRS has to come back and audit you. Because of this, I want to make sure that I maintain at least seven years worth of documentation and information regarding anything that I have filed on my taxes.

I make sure to save down my receipts using a specific naming convention to depict what the file is related to. It may say 2021 teachable annual software license or software service or whatever that thing is, so I know what year it hits and I know what it is at a glance.

Some accounting systems store expense receipts within the system. They may have a way for you to scan the receipts in or for you to upload the receipts and that is perfectly fine. You have to decide which you want to have. I actually recommend doing both, especially if it is a manual process. Have it in your accounting folder because that's your source of truth but also you can upload it into your accounting system so it is all in one place.

Some people don't want to go through uploading it, because it's with all their tax stuff and that's okay too. Just as long as you’re maintaining it in a central location using a clear system and it's not being stored in your email box.

Providing Proof of Purchase for your Clients

You need to think about the same thing in relation to income receipts. When you sell your products, do you have a way to give a receipt to your customer? If it's an electronic product do you have it set up to automatically send a receipt to your customer?

You want to make sure that your customer’s have proof of purchase and that you can show that you received their payment and what they ordered, in detail.  That is your responsibility as a business owner.  I have received receipts from businesses before that were so generic it wouldn’t help me or them in the case of me needing to return the item. 

Any information regarding sales tax, discounts or anything else they will need to know about your pricing needs to be documented on their receipt. This protects you if they come back to you with a complaint or issue.  You will know exactly what they purchased and the details around it. If your point of sale system stores information electronically, that’s even better. 

Some businesses have a no fuss return policy, meaning they accept any and all returns without receipt.  If that’s your situation then you can ignore the rest of this information.  That being said, most small businesses do have a set return policy, so you need to ask yourself what do you need to process the return.  

Having a receipt that clearly defines what they should receive back is important and sending that out is just good customer service. You also should have your policy clearly identified both pre and post purchase as well as how to get issues resolved.  

Incoming Purchase Receipts - Proof of Purchase

If you receive automated emails from your systems letting you know that a purchase has been made, there’s usually nothing that you need to do with that email.  It’s just a notification, not an actual receipt. I use this as a cheerleading moment for myself and enjoy receiving them.  If you are the same, a good hack for your email box is to set a rule that deletes these after a set amount of time.  You of course can just turn these off if you don’t need them.

Monthly Income Statements

So I talked about having your accounting system be that central location where you see the full story and everything that's going on.  One of the ways that you get that full story is to make sure that you’re reconciling your accounts (check the accounts against each other to make sure they match). You take your bank statements and all the different places where money lives and compare it to what is showing in your accounting system.  

I recommend that you do the reconciling process monthly, (Sometimes life happens which extends it to quarterly) to ensure the amount of expenses and income you need to reconcile is smaller.  It also allows you to keep your finger on the pulse as to what is happening in your business.  

Each month you receive your monthly bank statement(s) and if they aren’t auto synced with your accounting system, you will need to import them in.  If auto synced, you will reconcile that statement against your bank account. If you are importing it in, you will reconcile it against the actual accounts and expenses you show for the month.  During this process, you are also going through and categorizing each of your expenses and income.  

By taking these steps, you will see how your business is doing.  How much you spent for the month, how much you've made for the month, as well as what your profit and loss for the month is.  Once you get comfortable you can begin to forecast your spending to see what categories you are going over budget on as well.  So for example, if you set a budget for the year you can do a comparison and forecast out how you are doing against that budget.  You can determine if you need to slow down on something or speed up on something else.  

Make sure you remember to do this with all your bank statements, both checking and savings.  You also want to make sure you’re doing it with any systems you have (i.e., your PayPal, Stripe, Square, Cashapp or any other payment processors where you accept money) Again the goal is to get a complete story of your finances.

Invoicing in your Financial Ecosystem

If you have invoices that you send out, I want you to know that most accounting systems have invoices built in as part of their service. The beauty of it being built into the system is when you send an invoice out and your customer pays, it automatically reconciles that within your system. It also makes it easy to see where someone hasn't paid their bill and you can manually or automatically send a reminder.  It’s a great way to keep a finger on the pulse of what's happening with your invoices instead of you having to remember to follow-up. 

It can be a much cleaner and more professional way of requesting payment be sent and you also can track how many times you have reminded the person to pay. This is also important if you ever have to prove the steps you have taken to obtain payment.  

Now, I’m not forgetting about those of you who don’t have an accounting system or aren’t ready to set one up.  There is a way in most payment processing systems to send an invoice.  You don’t need to layer on an independent invoicing system or service when the option is already available to you. Also, if you know you are eventually going to set up an accounting system and you don’t have an invoicing system already set up, I recommend you find a free accounting system that includes invoicing and go ahead and use just the invoicing piece for now. This will allow your clients to have a seamless experience once you do set up your accounting system.  

Ultimately, you want to make sure that you're only sending invoices from one central location. You don't want to send an invoice for service A from one system and then service B from a different system.  Try to keep it unified to one particular place from which your invoices are sent.  This is not only good for your financial system but also for branding and your client experience as well.

Just do a little legwork to see what’s available in the systems you’re already using, because in most cases whatever you're using will probably have at least 75 percent of what i'm talking about today.  Although it may not have the reconciliation piece where you can bring everything into one place, it'll get you close.  Think about it, if you're doing it all in one system you can then just integrate that with whatever accounting system you choose and you will be halfway to home base.

Separation of Business and Personal in your Financial Ecosystem

Finally, I'd like to talk about the separation of your business and personal accounts. Now most of you are already doing this, but for those of you who are still linking your business bank accounts with your personal bank accounts…STOP IT.  

You must have a clear delineation between your business finances and your personal finances for many reasons.  One reason is in case your business gets audited. The auditors are going to want to know what is truly happening in your business, not your business comingled with your personal finances.  You want to be able to segment that because what happens if your business takes off and you have to bring on a partner or you want to sell your business? You need to be able to show the profit and loss and all the detailed information about your business.  They don't want nor do they need to see all your personal stuff built into those reports.  It's going to skew the reports.  

Another reason is that you don't want to be spending from your business account for a personal thing.  Let's say your business is making money and you want to take money out of your business to go on a family vacation, I mean it is your money right?  What you need to do is signify that as a draw or a payment from the business to you in order for you to take that money out and do personal stuff so it is notated properly in your accounting reports.

In order to do this, I would recommend that you find a bank that does not charge bank fees for you to have a bank account for your business. In some cases you can just ask if they will waive the checking fee.  Other fees they may have is if your account goes below a certain amount. Try to avoid those types of accounts. If you can find one that earns interest that would be great too.  My bank is an online bank for my business and so it was free and I was able to get interest on it. 

The other determining factor is if your business is an LLC or a Sole Proprietorship.  Some banks don’t require you to have a business account if you are a sole proprietorship, you’d just set it up under your name with the care of as your business name.  Also, if you love the bank where your personal banking is, try to get your business banking at the same bank.  It will just make things easier and you can probably get them to waive the fees faster there than at a new bank.   

Some banks also require that you have an EIN (Employee Identification number) to set up a business account. This is something that you can get for free online from the Internal Revenue Service.  It is like a social security number for your business. I recommend you obtain your EIN prior to trying to obtain your business bank account.

Business Checking and Savings Accounts in Your Financial Ecosystem

Finally, I’m often asked why I recommend that you have both a checking and a savings account for your business.  My response is for the same reasons why I recommend you have the two accounts for your personal finances.  It's mainly because you shouldn’t leave all of your money sitting in the checking part of your business.  Move the excess over to your savings.   

It is another way that I can easily see if I am living beyond my means or not.  It is also a safety thing for me.  I don’t want auto draws or other possible “mistakes” to have access to all my money at one time.  Think diversification.  I am also a big proponent of bootstrapping, which basically means that my business pays for itself, so ultimately I don't get loans from banks or outside investors.  The business runs on its profits or the investments I personally make into it. 

I hope you found this information helpful definitely if you have any questions feel free to comment below.  We do a deeper dive into how you can set your accounting system up for yourself in the Organized Academy Vault so join us over there in the financial hub.