Knowing your numbers is important for all businesses big or small but for the numbers to really be useful they need to be accurate and current. The maintenance of the numbers is usually achieved by a combination of bookkeeping and accounting which for many would appear to be one and the same but there is a clear difference between bookkeeping and accounting.
In recent times with the introduction of more technology the 2 functions have started to blur somewhat but traditionally each had clearly defined responsibilities. In this article we will look at the difference between bookkeeping and accounting.
What Is Bookkeeping?
Bookkeeping is the process by which a company records it’s income and expenditure in an organised format. The person who undertakes this role is known as a bookkeeper.
Before computers and software advancements simplified the process this was usually done by manually copying transaction details across from the bank statements into a “cash book” which allowed the bookkeeper to categorise the transactions by type before recording a monthly/weekly total for each income and expense type.
This process would usually be repeated for different bank accounts and any petty cash expenditure. The bookkeeping process was and sometimes still is a time consuming process which requires a methodical approach. To understand the difference between bookkeeping and accounting we also need to look at the accounting process.
What Is Accounting?
Accounting is the process of taking the numbers which have already been organised by the bookkeeper and presenting them in a format that is suitable and understandable to stakeholders of the company.
This will involve a good understanding of accounting standards that determine how numbers and information needs to be presented within the accounts and will usually require the accountant to make a series of adjustments to the accounts known as “accounting entries”.
When trying to understand the need for accounting entries it is good to remember that there are a number of transactions that may not appear on the bank statements but still need to be represented in the financial statements. A few examples include:
- Asset depreciation
- Home office allowances
- Provision for tax liability
- Accruals & prepayments (The process of moving income and expenses from the accounting period they were actually paid into the accounting period they actually relate to)
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So What Is The Difference Between Bookkeeping And Accounting?
Accounting Records v Financial Statements
The two terms are often assumed to mean the same however this is not the case. Accounting records is a general term which refers to paperwork that support the numbers. This could refer to expense receipts, customer invoices, and bank statements as well as manual calculations prepared by bookkeepers and accountants.
The financial statements (often referred to as accounts) are the result of compiling all of the numbers from the accounting records and presenting them in a digestible format.
The financial statements can cover any period of time such as 3 months or 1 year and can be for use both internally or externally. Financial statements for external use will usually need be prepared in a particular format which we will explore later.
The introduction of powerful accounting software has somewhat blurred the lines between bookkeeping and accounting and really helped to streamline the data entry process.
Some newer software will use AI to recognise how transactions were previously categorised and then automatically recognise future transactions of a similar type which allows bookkeeping tasks to be undertaken in a fraction of the time.
The result is that accountants often undertake bookkeeping tasks as part of the accounting process rather than having 2 separate functions meaning that in nowadays there is less of a difference between bookkeeping and accounting roles.
There are a number of guidelines that accountants must follow when preparing financial statements for use by any stakeholders. Which guidelines they must follow will depend on the type of entity being operated.
The more simple the business setup the less guidelines there are to follow. This is partially aimed at simplifying the process for small business owners but also because there are usually less parties interested in the financial statements of a small businesses when compared to those of a large business.
The accounting standards are designed to ensure comparability and consistency for those who use the financial statements. Investors for example who are comparing the results of 2 separate companies need to know that the accounts have been prepared in the same way in order to be able to make their comparison. Any divergence from the accounting standards can result in a material difference in the numbers.
Of course with smaller companies (in particular self employed individuals, partnerships and small owner managed limited companies) there are less users of the financial statements and therefore it wouldn’t be fair to make them adhere to the same standards. For this reason the accounting standards applicable are usually on a sliding scale in line with the size of the company.
Does My Business Need To Produce Accounts?
Every business will need to maintain accounting records to some extent but whether the numbers need to be presented in the form of financial statements and to who those financial statements need to be presented will depend on the type of business you operate:
- Self employed/Sole Trader – As a minimum needs to maintain accurate records of income and expenses and calculate an annual profit figure which will be declared to HMRC via a self assessment tax return. The income and expenses figures can be input to the self assessment as a whole number so there is no real requirement to produce supporting accounts using any particular guidelines. The individual can use the traditional accounting method whereby transactions are recorded in the period to which they relate or the cash basis where transactions are recognised at the date they are paid.
- Private limited companies (Ltd) – UK limited companies will usually need to produce accounts inline with UK GAAP (generally accepted accounting practices). This will usually involve at the very minimum the production of an income statement and a balance sheet accompanied by various statements from the company and notes to the accounts. A copy of the financial statements is submitted to Companies House but the amount of detail included will depend on the size of the company.
- Limited Companies (Plc) – May need to prepare their financial statements in accordance with IFRS (international financial reporting standards) if they are listed on certain stock exchanges. This is to ensure continuity for potential investors.
It is important that accounting records are maintained for a sufficient period of time following the end of an accounting period to ensure that they are available when needed. This could be for internal use or in the event of an external investigation from HMRC. The amount of time you need to keep accounting records for will again depend on the type of business you operate:
- Self employed/Sole Trader – will need to keep records for at least 5 years following the 31 January deadline that follows the end of the relevant tax year
- Private limited companies (Ltd) – will need to keep records for a minimum of 6 years from the end of the accounting period that they relate to although there are situations where they need to be kept longer
- Limited Companies (Plc) – will need to keep records for at least 6 years from the end of the accounting period to which they relate as well