What Is Bookkeeping? Plain-English Guide for Small Business

The short answer: bookkeeping is the routine recording of every financial transaction in your business: each sale, each purchase, each bill paid.

• Shows whether you're making money
• Finds deductions at tax time
• Two systems: single-entry and double-entry
• Records to keep and how long to keep them
• Free download: start with the free small business expense spreadsheet for Excel or Google Sheets (we email it to you)
• Next step: Plan it with the Business Income & Expense Tracker ($7.99).

What is bookkeeping? Bookkeeping is the routine recording of every financial transaction in your business: each sale, each purchase, each bill paid. It's how you know whether you're making money, how you find deductions at tax time and how you prove your numbers if anyone asks. You don't need an accounting degree to do it. This guide explains bookkeeping in plain English, the two main systems, the records to keep, how long to keep them and a simple way to get started.

What is bookkeeping? The three parts

IRS Publication 583 explains that your recordkeeping system should include a summary of your business transactions, and that business transactions are ordinarily summarized in books called journals and ledgers. Those books are built from supporting documents like receipts, invoices and deposit slips.

Put simply, bookkeeping has three parts:

1. Capture every transaction and the document that proves it.
2. Record it in your books, whether a notebook, spreadsheet or software.
3. Organize and check the records, so the totals are right and easy to find.

Why bookkeeping matters

IRS Publication 583 lists the reasons to keep good records:

Bookkeeping vs. accounting

The two words are often used together, but they're different jobs:

Good bookkeeping is what makes accounting possible. An accountant can only work with the records you keep.

The IRS doesn't require one system

The IRS page on what records to keep says you may choose any recordkeeping system suited to your business that clearly shows your income and expenses. Your books must show your gross income, deductions and credits. If you use software or another electronic system, the same requirements that apply to paper books also apply to electronic records.

Single-entry vs. double-entry bookkeeping

IRS Publication 583 says you must decide between two systems.

Single-entry bookkeeping is the simplest to maintain. It's based on the income statement (profit or loss) and records the flow of income and expenses with a daily summary of cash receipts and monthly summaries of receipts and disbursements. The IRS says it can be a simple and practical system if you're starting a small business.

Double-entry bookkeeping uses journals and ledgers. Transactions are first entered in a journal and then posted to ledger accounts for income, expenses, assets, liabilities and net worth. Each account has a left side for debits and a right side for credits, and every transaction is recorded as a debit in one account and a credit in another. Total debits must equal total credits. If they don't, there's an error to find and fix. The IRS says double-entry has built-in checks and balances to assure accuracy and control.

Here's the IRS's example of a double-entry journal entry for paying October rent:

Which system should you use?

The IRS doesn't pick one for you. Here's how the two compare, based on Publication 583:

The Georgia Department of Revenue's basic accounting manual explains that the double-entry system gets its name because every business transaction has at least two effects on the accounting equation. It does not mean each transaction is recorded twice. Making debits and credits equal keeps the equation in balance and gives you a way to verify the math in your records.

Key bookkeeping terms

For how cash in and cash out fit into a statement, see our cash flow statement example with a free template.

The Georgia Department of Revenue manual describes the accounting equation, Assets = Liabilities + Owner's Equity, as the basic framework for recording the effects of transactions in companies of all sizes. Our guide to the general ledger explains journals, ledgers and posting in more detail.

What records to keep

The IRS says purchases, sales, payroll and other transactions generate supporting documents, including:

• Sales slips
• Paid bills
• Invoices
• Receipts
• Deposit slips
• Canceled checks

Keep them orderly and in a safe place. The IRS suggests organizing them by year and by type of income or expense. For gross receipts, it lists cash register tapes, deposit information, receipt books, invoices and Forms 1099-MISC. For a full list by tax category, see our tax documents checklist.

Use a separate business bank account

IRS Publication 583 recommends opening a business checking account so business and personal funds stay separate, and the IRS notes that for most small businesses, the business checking account is the main source for entries in the books. It makes bookkeeping far easier: nearly every transaction shows up in one statement.

Publication 583 also says to reconcile your checking account each month. Reconciling verifies how much money you have, makes sure your books reflect all bank charges and the correct balance, and catches errors in your bank statement, checkbook or books.

How long to keep records

The IRS guidance on how long to keep records depends on the situation:

A simple bookkeeping routine

Good bookkeeping habits from the IRS

IRS Publication 583 says recordkeeping is most effective when you follow a few good practices. Record expenses when they occur, so nothing slips through the cracks. Identify the source of every receipt you record, so you can show which deposits were business income, which were personal funds and which were loans. The IRS even suggests using a checkbook with enough space to note the source of each deposit. And it says that, generally, it is best to record transactions on a daily basis.

Publication 583 also says you should deposit all daily receipts in your business checking account, and that the business checkbook is your basic source of information for recording business expenses. When all money flows through one account, your bank statement becomes a second record that backs up your books.

What a small business bookkeeping system looks like

Publication 583 walks through a sample recordkeeping system for a small business. It's useful as a model because it shows how ordinary bookkeeping pieces fit together:

1. Daily summary of cash receipts. Total each day's sales and other money received.
2. Monthly summary of cash receipts. Roll the daily totals into one monthly figure.
3. Check disbursements journal. Record each check written from the business account, with frequent expenses in their own columns.
4. Employee compensation record. Track pay for each employee, if you have any.
5. Annual summary. Total the year's receipts and expenses for your tax return.
6. Depreciation worksheet. Track business assets that are depreciated over time.
7. Bank reconciliation. Match your books to the bank statement each month.

You don't need every piece on day one. A freelancer with no employees might only need the receipts summary, an expense log, an annual summary and a monthly bank reconciliation. The point is that every number on your tax return can be traced back through your books to a receipt, invoice or deposit slip.

Getting started with a spreadsheet

For many sole proprietors and side businesses, a single-entry spreadsheet is the easiest way to start. Our Business Income & Expense Tracker ($7.99, for Excel and Google Sheets) is built for exactly that. It has an income and expense log with a category dropdown, a monthly profit and loss summary, category totals, a mileage log, a tax set-aside estimate, a dashboard and a Start Here PDF that walks you through setup. It's a single-entry tracker, not a double-entry accounting system, so if your business needs full journals and ledgers, accounting software or an accountant is the better fit.

For more, see our small business expense tracker Excel template, our small business tax deduction checklist and our guide to keeping a mileage log for taxes.

A bookkeeping example: why bank balance is not profit

Consider a simplified cash-basis example with no other transactions, taxes or adjustments. The business starts the month with $100 already in its bank account. During the month it receives $800 from customers and pays $200 for ordinary operating supplies used in the business.

The month's simplified income less expense is $800 − $200 = $600, not the $700 left in the bank. The opening $100 was already there. Borrowing, owner contributions, repayments and unpaid bills can create further differences between cash movements and profit, so a bank balance alone is not a financial statement. Actual accounting and tax treatment depends on the transaction and accounting method.

Keep the supporting invoice, receipt or payment record with the corresponding entry. The IRS recordkeeping guidance explains that source documents support the entries in the books. A downloaded bank transaction can tell you money moved, but you may still need the document showing what the purchase was for.

A monthly bookkeeping close you can repeat

Collect before categorizing. Put bank statements, card statements, receipts, customer invoices and payment-provider reports in one period's folder. Use a consistent filename that helps you trace an entry back to its document. Do not discard the original record merely because you entered a total in a spreadsheet.

Resolve duplicates and transfers. A transfer between two business accounts can appear on both bank feeds. Check the accounts involved before calling both sides new income or a new expense. Record payment-processing fees in a way that lets you trace gross customer payments to the net deposit, rather than losing the difference in an unexplained total.

Reconcile and review exceptions. Compare the recorded account balance with the statement for the same date. Investigate missing transactions, duplicate entries, bank fees and payments that have not cleared. Keep a short exceptions list so the next person working on the books knows what remains unresolved.

Save the period and hand off questions. After reviewing the period, save the reports and supporting files with a backup. Give your accountant the unresolved items and the explanations, not just a screenshot of the balance. The SBA's finance guidance emphasizes organized financial records as part of managing a business.

Your next step

This week, open a separate business checking account if you don't have one, and start logging every sale and expense with its date, amount, category and receipt. At the end of the month, reconcile the account against your log. That single habit covers most of what bookkeeping is.