If you're an ecommerce business owner, you know that accounting can be one of the most complex and time-consuming parts of the job.
Still, it’s extremely important to get it right. Accurate ecommerce accounting is critical to the success of your online store. Keeping track of your financial records will help you make informed decisions, manage your cash flow, and stay on top of your tax obligations.
In this step-by-step ecommerce accounting guide, we'll cover all of the basics of ecommerce accounting; from how to set up your accounts, manage your inventory and calculate your taxes, to the best way to outsource time-consuming accounting tasks.
1. Set up your accounts
The first step in ecommerce accounting is to set up your accounts properly. If you haven’t already, you'll need to open a separate bank account for your business, and make sure that all your business transactions are separate from your personal expenses. This will make it much easier to track your income and expenses, and will help you stay organised come time to file your taxes.
2. Choose an accounting method
Secondly, you need to decide what type of accounting you will use - Cash or Accrual. Both are different methods of recording financial transactions and they each have their benefits and downsides, so it’s important to select the one that is most appropriate for your business.
With cash basis accounting you only recognise transactions when you spend or receive funds:
Cash in > recognise income | Cash out > recognise expense.
On the plus side it’s a lot simpler and easier to do, you know how much money is available to spend and your income isn’t taxed until it’s in your bank account. However it does have some drawbacks.
For example, it’s not entirely accurate. If a customer prepays you for an item you haven’t shipped yet then that sale gets recognised; conversely if you pay a vendor and they don’t deliver the product until a later date then the expense is still recognised. This can create timing issues that make your financial statements appear incorrect.
Accrual accounting recognises income as it is earned and expenses as they are incurred (i.e. when an invoice is sent or a bill received), as opposed to when money is physically exchanged. This gives a more accurate view of your finances with better insights and without the timing issues. Plus, if you are intending to sell your business then accrual accounting is the expectation.
One of the main downsides though is that it’s a lot more work as you need to record invoices and bills on your system. Furthermore your account won’t match your books, and you can potentially be taxed on money you don’t have yet. Although it is possible to be on a cash basis for tax purposes and an accrual basis for everyday bookkeeping - your accountant should be able to make adjustments for this.
Which should you choose? Generally speaking the cash method is better if you have a large volume of transactions and deal with consumers directly. And the accrual method is more suited to businesses that deal with large organisations and have long payment timescales.
3. Track your income and expenses
Tracking your income and expenses means recording every transaction in your accounting system. You should keep track of all your sales, expenses, and other financial transactions, such as refunds and chargebacks.
If you're using an ecommerce platform like Shopify, Amazon, Etsy or eBay, make sure that you use an accountant that can automate the recording of sales and fees for all of your sales channels for you. This will save you a huge amount of time and ensure your records are always up-to-date and accurate, reducing the chances of any nasty surprises further down the line.
4. Manage your inventory
Inventory management is a crucial part of ecommerce accounting. You need to know exactly how much inventory you have on hand, how much you've sold, and how much you need to reorder. This will help you avoid running out of stock and ensure that you're not tying up too much cash in excess inventory.
To manage your inventory effectively, you'll need to set up a system for tracking your stock levels. This could be as simple as manually updating a spreadsheet, but as you scale your store you may find it easier to use an inventory management tool to streamline the process. Whatever system you choose, make sure that it allows you to track your inventory in real time, so you always know what you have on hand.
5. Reconcile your accounts
Reconciling your accounts means making sure that the transactions in your accounting system match the transactions in your bank account and credit card statements. This is important because it ensures that your books are accurate and up-to-date.
You should reconcile your accounts regularly, such as once a week or once a month. This will involve comparing your accounting records with your bank statements to ensure everything matches. If it doesn’t, then identify the discrepancies and solve them before they become bigger problems.
Ensuring that you have a business bank account that connects via open banking and the right accountant to support you with what can be a massive time drain can be the difference between making a profit or having to frustratingly work through your weekend.
6. Prepare financial statements
The final step in ecommerce accounting is preparing your financial statements. Financial statements are important because they provide a snapshot of your business's financial health. These statements include:
- An income statement, which shows your revenue and expenses over a period of time,
- A cash flow statement, which look at your cash inflows and outflows to demonstrate your cash management,
- And a balance sheet, which shows your assets, liabilities, and equity at a specific point in time.
Whilst some businesses prepare management accounts as often as once every month, this would likely be an excessive amount of work for most start-ups. However, preparing the above statements on bi-monthly basis is recommendable and will help you make informed decisions about how to grow your business. It is common to find some accounting softwares having these reports as standard and by reconciling statements as discussed in point 4, you will be automatically preparing the financial statements.
7. Calculate and file your taxes
When it comes to taxes, ecommerce accounting can be tricky, and it's important to stay on top of your tax obligations as a small ecommerce business owner. As a business owner in the UK you'll need to keep track of your VAT (Value Added Tax) obligations, and any income or corporation tax that you owe as well if you are trading as a sole trader or through a limited company.
If your business's annual turnover exceeds £85,000 or will exceed it in any 12 month rolling period , you must register for VAT and charge it on all sales. You'll need to submit VAT returns to HMRC on a regular basis (monthly, quarterly or annually), and pay any VAT that you owe. If you sell goods to customers outside the UK, you may also need to register for VAT in other EU countries.
You can also choose to register for VAT if you want to recover import VAT when importing goods into the UK that will be located in the UK at the point of sale and then sold through an online marketplace.
As we stated in point 3, this is why it is so important to keep track of your income and expenses throughout the year, so that you can accurately calculate your tax liabilities. This will make your ability to report your income on a self-assessment or company tax return much easier, and avoid you paying the wrong amount of tax.
Unless your last Self Assessment tax bill was less than £1,000 or you paid more than 80% of the previous year’s tax you owed you may also need to make estimated tax payments ‘on account’ twice a year, which are advance payments towards your tax bill.
This is something that an accountant with experience of supporting ecommerce clients can support you with. Tax rules will vary depending on your business's location and the types of products you sell, so it's important to do your research and consult with a tax professional if you're not sure.
8. Keep your books up-to-date
Finally, with everything going on with answering customer questions, shipping orders and speaking to suppliers, keeping your books up-to-date throughout the year can be something that keeps getting pushed further down the priority list.
If regularly reconciling your bank accounts, categorising your transactions, and generating financial reports sounds like too much to manage, it probably is. By staying on top of your accounting tasks, you'll be able to make informed decisions about your business and avoid any surprises come tax time.
The easiest way to manage your ecommerce accounting
The easiest way to approach ecommerce accounting is to outsource it to professionals that do this work for clients day in, day out. Services like our own at Crunch make online ecommerce accounting easy and stress-free for small businesses. We are award-winning, and our specialist ecommerce plans come with a dedicated ACCA Certified Chartered Accountant, sales channel syncing, open banking, bookkeeping support and self assessment filing to help you stay on top of your ecommerce business finances, submit your tax returns, and free up your time so that you can focus on what matters most - running your successful ecommerce business.
So, whether you’re looking to give your new e-commerce business a boost, scale your operations, or rocket your revenues, speak to an expert about what Crunch can do for you.
Tackle your ecommerce accounting with confidence
Ecommerce accounting can be a daunting task, but it's essential to the success of your business. When you get your ecommerce accounting right, you'll have a clear picture of your business's financial health and be able to make informed decisions that will help your business grow and thrive. Good luck!