To best understand the essential accounting tasks that you need to perform as a small business, limited company or sole trader, we first need to understand what HMRC and Companies House want to see. And their end game will always be to have an accurate position on the financial performance of a business and therefore the volume and level of appropriate taxes due.
The principal appropriate taxes revolve around profits: income tax resulting from Self Assessment, corporation tax related to company profits (ranging from the small profits rate of 19% to the 25% main rate) and capital gains tax if the business has sold assets.
There are obviously also other taxes like VAT and national insurance. But in this article we’re going to be dealing with those first three – the ones based on profits – where the essential tasks live.
The vital element: accuracy in accounting
We can never stress this enough. In order for HMRC to smoothly process your accounts without any alarm bells going off, they have to be accurate.
So, in order to ensure that the tax position is accurately calculated, the quality of your documentation and records throughout your tax period logically needs to be robust and fairly clear as to what the income received was and what it was for, or relates to. And the same needs to be in place for expenses and outgoings as well.
What type of business income is it?
Business income can come in many forms. Does it relate to trading as a sole trader or from a limited company? Or proceeds from a disposal or asset sale? Or is it from pension income or perhaps interest income? Each example is treated differently by the tax office, so the correct and adequate classification of those income streams will help determine the type of tax applicable and the rate you’ll be taxed.
The last thing you want to do is find yourself at fault through a lack of experience or knowledge. We’ve often seen cases where clients have allocated a particular type of income to a higher tax bracket and found themselves paying more tax than they needed to, or worse, not paying the right kind of tax.
In these cases, the HMRC are likely to make enquiries as to how or why that happened, which is painful enough, and then clients will have to go through an unpicking process to reallocate their income into the right sections or columns, so they can be taxed correctly without suffering any penalties.
How are you accounting for your outgoings?
On the other side of the coin are your business outgoings or expenses. Like income, certain expenses are treated differently for tax purposes than others and, again, different expense types are allocated against different revenue streams so it’s clear what your net position will be in each case. As always with accounts sent to HMRC, it pays to be detailed.
Normal outgoings might be for purchases of goods, hardware, materials, equipment or tools for business use, and naturally they’re offset against income from the same sort of business activity, so that reduces your tax position overall.
You may also have expenses for assets, property or machinery or something else that has the potential to be used for a number of years. In this case, the expense is treated differently from a tax perspective, and you’ll find that HMRC grants additional and increased allowances (essentially tax write-offs) for those types of expenses.
These allowances or tax benefits could even, in some cases, offset your tax entirely, at least for that category. You might buy a particular type of vehicle or machine for use in your organisation, and the tax allowance can occasionally be greater in value than the actual price that you paid for the asset. (If you want to know more, please ask.)
So, as you can see, a small business’s or sole trader’s most essential bookkeeping task is to record their expenses as the right type, with the right documentation, receipts and paperwork so that the accountant can find them and use the best mechanism or accounting treatment for calculating the right tax owed.
But what about expenses where you might not have any paperwork to keep and supply?
What else will HMRC allow?
Not all claimable expenses allowed by HMRC rely on receipts. Some non-receipt expenses that you can offset against your profits that aren’t necessarily through using a debit or credit card to incur the cost are:
- Mileage claims – for businesses that incur driving distances as part of their work, mileage is an allowable expense that you won’t necessarily have a receipt for. But you will need to document the number of miles traveled in any given period to back up your claim, so you will have to keep a mileage log.
- Home office claims – if you are trading from home, you can take advantage of an allowance for use of your home as your office. HMRC will allow you to allocate a small amount each period to offset against your tax bill to cover your incidental costs for working from home. If your home set-up is in a dedicated space for office work, you can use an allocation of your home expenses on a footprint basis based on your domestic bills and taxes.
These are just two examples rather than an exhaustive list – there are more, such as for living at your place of business or work clothing maintenance, but these depend on whether you are self-employed or a limited company director. Ask us to find out more!
What must you keep?
It may seem counter-intuitive in this digital age, but any physical documentation that you have around expenses, outgoings and income needs to be kept, just in case there’s ever a review by the tax office.
HMRC makes periodic reviews as a matter of routine, and occasionally one may fall on you. Don’t be alarmed – this is just an impromptu inspection or spot check. They don’t necessarily happen because anyone’s doing anything wrong or suspicious, but so the tax office can satisfy itself that records are being kept and rules are being followed.
So, you must always keep your receipts and your invoices safe. The good news is that, in line with the government’s Making Tax Digital regime, electronic accounting and recording systems like Xero and Quickbooks are defined as adequate storage. Therefore, you don’t necessarily need to print everything off, put pieces of paper in a ring binder and store it all in a cupboard. Having your documentation on file in the cloud is OK.
Your bank account becomes your bible
Your bank account will become the central point of truth for all your incomings and outgoings, credit cards, direct debits and more. If you have more than one account, then this will make things more complicated – the more accounts there are, the more difficulty an accountant will have in reconciling your books.
Also, as is frequently the case with sole traders, you may be using your personal or household bank account for your business incomings and outgoings. Again, this adds an extra layer of complexity when it comes to identifying your expenses and money received, and matching that against your invoices, bills and receipts.
So, an essential accounting task for a small business or sole trader – as much for their sanity as the practical reasons – is to set up a single dedicated bank account. This will make it much easier to segregate not only your cashflow but also your drawings from the business, so you can pay yourself what you need to live on while staying on top of your business’s profitability.
And, as there will inevitably be a Self Assessment or corporation tax bill to pay in due course, a dedicated account makes it easier to keep a float or buffer of money to pay it.
Digital systems make things easy; accountants make things easier
Bookkeeping doesn’t have to be difficult or daunting. The physical aspect of accounting, where a business owner needed to sit down for an evening or a weekend to do the essential task of reconciling their cash flow and documentation, has now almost become redundant.
In its place, modern systems and accounting software have removed the heavy lifting. Instead of physical pieces of paper, cash books and isolated spreadsheets, all documents can be generated or captured photographically and stored accessibly online, ready to access when needed and easy to allocate to transactions with your bank.
And, of course, an accountancy firm can provide support for bookkeeping tasks for clients for modest fees. The main benefit of this is that accountants deal with these systems all day, every day – finding our way around all aspects of the software and allocating the relevant numbers to the relevant categories is what we do for a living. Then business owners are free to focus on their trade, as well as plan for the future and consider new opportunities.
The next level
While digital systems have all but done away with evening bookkeeping sessions, sole traders and small limited companies will naturally still need to send their sales invoices to customers. Their rates, charges, type of work and the dates are all things that only the business owner really knows.
However, we do offer a service that covers sales invoicing on behalf of our clients, in addition to debt chasing, with quick communications via WhatsApp, text, phone or email completely sufficient for us to act (no need for long official letters). Many clients see this as another layer of support – and one less burden that you as a small business owner will have to deal with.
Think that your business might be at the stage where you’re ready to free yourself up from your bookkeeping? Feel free to get in touch any time. We’ll be happy to talk it over.
