Bookkeeping 101: Set Up Clean Books with Xero (Full Transcript)

[00:00:00] Speaker 1: Let's be honest, none of us started a business because we love bookkeeping, but here's the hard truth. Most small businesses don't fail because they lack customers, they fail because they don't understand their numbers. I'm Elizabeth, and in partnership with Xero, I'm going to show you exactly what bookkeeping is, why it matters for small businesses, and how to actually do it step by step. Bookkeeping is simply tracking every dollar that comes into your business and every dollar that goes out, and organizing it in a way that shows your true profit. There are five core things that you must track. The first is income. This is money that your business earns. Second, expenses. The money that your business spends. Three, assets. This is what your business actually owns. Four, your liabilities. What does your business owe? And fifth, your equity. This is the owner's investment and your retained earnings. This can be challenging to keep track of, so the first thing I recommend is to ditch the spreadsheets and start using an accounting software that's meant for small businesses. Today, I will be demonstrating using Xero, a cloud-based accounting system to manage day-to-day bookkeeping functions, including transaction recording, bank reconciliations, account payable and receivable, expense tracking, and financial reporting. To get started, and if you don't have a Xero subscription yet, sign up using the link in the video description or in the pinned comment below for a special offer. As of the time of filming, you can get 90% off for six months using our special link. The first thing you'll want to do when setting up your bookkeeping in any platform is ensuring your business information is accurate. This includes setting your financial year-end to match your tax filing, confirming your base currency, and figuring out your tax rate. But perhaps the most important is determining whether you're using a cash-basis accounting method or a cruel accounting method for your bookkeeping. Cash-basis accounting records income when money hits your bank account and records expenses when you pay them. However, a cruel accounting records income when it's earned and expenses when they're incurred, even if the cash hasn't been moved yet. Here's a simple example. If you send a $5,000 invoice to a client in the month of January, but you don't get paid by that client until February, a cash-basis accounting method would show that income in February, while a cruel basis would show it in January when you actually earned it. A cruel accounting gives you a clearer picture of your true monthly performance, especially if you have unpaid invoices, bills, or inventory. Cash-basis, on the other hand, mirrors your bank account and can feel more simple to manage. The great thing about using Xero is that you can run your reports on either basis. So you might manage your business using a cruel reports to see true performance, but file your taxes on a cash basis, depending on what your accountant recommends. Understanding both views gives you better control over your business. You'll also want to connect your bank accounts as your bank feed becomes your source of truth, as every transaction must be categorized in order to have a clear picture of how your business is performing. Connect the credit card you use for business transactions, as well as Stripe or PayPal, if applicable. If you want to get a more in-depth view of Xero's dashboard or any of the navigation tabs, you could check out my complete Xero tutorial using the link in the top right-hand corner. Think of your chart of accounts as the master list of all the categories where your money flows. It organizes your financial activity into five main categories, income, expenses, assets, liabilities, and equity. So you can clearly see how your business is performing. Depending on your type of business, your chart of accounts might include income categories like sales or shipping fees. On the expense side, you'll typically see cost of goods sold, merchant processing fees, advertising spend, software subscriptions, packaging supplies, and shipping costs. Although Xero has the most common categories already populated, you can add or modify accounts to best reflect your individual business needs. You'll also have asset accounts like inventory and liability accounts that would include things like sales tax and wages on your payroll. A well-structured chart of accounts helps you track profitability and helps you determine where your business has opportunities for growth. If you can get this set up correctly, then you're setting yourself up for long-term success. And if you ever want help or need something clarified, you can use JAX, which is Xero's AI assistant, where you can get guidance wherever you need it without ever having to navigate away from your screen. Think of it as your own personal bookkeeping assistant. Once you've set up your chart of accounts, you'll then begin assigning every transaction in your bookkeeping system to the correct category. For example, here I could see that I had a charge for $4,500 to the smart agency. When that comes into my bookkeeping system, I could then assign that to my chart of accounts for consulting and accounting purposes. And if you use a platform like Xero, it will automatically pull all of your transactions from your bank account, Stripe, or you could connect it to third-party apps in order to have everything in one place. Or if you prefer, you can manually enter your sales as invoices. But it's also important to remember that when money is deposited into your bank account, it doesn't just mean that it's income. For example, I might need to go into the transaction and categorize $1,800 of this deposit as sales, but $200 is actually revenue received in advanced because it's money that's passing through for shipping costs. So why is this so important with bookkeeping? It's because without proper categorization, you're not able to see your true profit margins. But if you categorize things correctly, you could clearly identify how much you're spending, how much you're losing, and what your cost of goods sold really is. I can also see that money has been removed from my bank account. So you'll need to make sure that you create your bills in Xero as well so that you could properly reconcile those expenses when it's time. I'll then use the Reconcile tab to assign each of these bank transactions to the correct bill. If you set up your chart of accounts appropriately and categorize every transaction, you'll have a much clearer picture of your business. And really, that's the crux of bookkeeping. So we've talked about why reconciliation and proper category tracking is so important to bookkeeping. One of the reasons why so many small businesses like using a platform such as Xero is because it allows you to set bank rules, which is a huge time saver. Bank rules are automatic categorization instructions. They tell Xero, when you see a transaction that looks like this, then categorize it like that. Recurring transactions could include things like rent, insurance, and subscriptions, as well as incoming revenue. Instead of manually coding the same expense over and over, Xero can do it for you, which means faster reconciliation, fewer mistakes, more consistency, and less mental fatigue. And remember, just because money hits your bank account does not always mean it's revenue. For example, things like sales tax collected and shipping fees are actually liabilities. Understanding the difference is crucial for your bookkeeping. And a platform like Xero can really help. It's important that you're reviewing your books regularly. That doesn't mean you need to look at things every day, but running either weekly or monthly reports is critical to ensure that your business is healthy. I recommend running the following reports after you reconcile your bank transactions. The first is your profit and loss statement. This shows your income minus expenses. Second is your balance sheet. This shows assets, liabilities, and your equity. And finally, your cash flow statement. This shows where your cash is coming from and where it's going. A huge benefit of using a comprehensive platform like Xero is that you can not only see all these reports in one place, but you could select your favorite reports for easy access, which is a huge time-saver. You're also able to export all of your reports. And if you want to share this information or anything else in your Xero account, such as with an accountant, you can set them up as a user and determine their permissions. It's important to avoid these common bookkeeping mistakes. The first is mixing personal and business expenses. Keep your bank accounts separate and only connect your business banking account to your Xero dashboard. The second is not reconciling monthly. If you aren't reconciling at least monthly, you'll quickly feel overwhelmed when you need to match up your transactions. Plus, you'll forget outliers that may need to be addressed when reconciling. Third, overcomplicating the chart of accounts. Keep it simple. If you overcomplicate things, you'll have more line items to go through and more opportunities for error. And fourth, ignoring sales tax. Remember that any sales tax that you get from a customer is not revenue, but a liability. For less than the cost of a few coffees per month, you can have complete clarity over your business finances. Depending on your bookkeeping needs, there are multiple Xero plans that you could select from. And don't forget to use the link below in the video description or the pinned comment to get 90% off your plan for the first six months at the time of this filming. Xero is a tremendously powerful tool at a low cost, making it an easy win for business owners. I hope you found this video informative, and I wish you great success as you begin the bookkeeping process for your business.