Closing your books at the end of the year, also known as “year-end accounting,” is a set of procedures to complete at the end of a company’s financial year. Here’s information regarding this process and why it’s important.
Note: This information was not compiled by an income tax or accounting professionals. If you need advice or guidance, it’s a best practice to work with a financial expert.
Why should you close your books?
This important practice serves several functions. It allows you to find and correct any past mistakes on your books. The procedures you follow are also essential for running financial statements. This data will give a clear view of the business’ financial status. Perhaps the most important reason is that year-end accounting is necessary to prepare for tax time.
When should you close your books?
Many businesses close books at the end of the calendar year. In other words, this function is performed following the last day of the year — December 31. Even though you should be keeping up with your accounting all year, make sure to set aside a chunk of time in December to go through all of the steps.
Other businesses may choose to do their year-end accounting at the end of the fiscal year. This is a 12-month period that can start and end at any point during the year and may vary by business. However, year-end accounting should be performed before the last day of the 12-month period.
How to close the books for your small business
1. Create invoices
Make sure income and expenses are recorded and up-to-date. If you have any outstanding invoices, don’t wait to send.
2. Send invoice reminders
If you have customers who haven’t paid their invoices, follow up ASAP. There are plenty of accounting software programs that will generate and email invoice reminders for you.
If there is a client who simply doesn’t pay, you can write off the unpaid invoices as bad debt as a last resort (so long as you’ve made sufficient efforts to collect payment). Talk to your accountant and read what the Journal of Accountancy has to say about bad debt to learn if this is the right strategy for your unique situation.
3. Record expenses
If you haven’t recorded and categorized expenses, catch up now. This is vital for accurate record-keeping and can identify tax-deductible expenses. Recording your expenses throughout simplifies the process.
4. Separate personal and business expenses
Ideally, small businesses should have a separate bank account for business expenses. If the IRS suspects that your small business deductions are actually personal expenses, then you might face a dreaded IRS audit. For information about separating expenses, review this article from the SmartBiz Small Business Blog: 7 Tips for Separating Business and Personal Finances.
5. Update mileage
Make sure your business mileage log is up-to-date so you can maximize your small business tax deductions. Some programs allow you to track mileage in their app, but you can record miles traveled and the reason for your travel in a written log.
6. Pay outstanding vendor bills/contractors
Square away your debts for the year so you can get an accurate read on your cash flow and revenues. For an easy way to pay, look into payroll software.
7. Reconcile bank accounts
Reconcile bank and credit card accounts to make sure that the income and expenses recorded match the totals from your official bank statements. If they don’t, there’s a discrepancy you’ll need to address.
8. Update Fixed Assets
A fixed asset is a long-term asset with a life that lasts longer than a fiscal year. Before you close the books, make sure all of your fixed assets are up-to-date. Add any new fixed assets that you may have forgotten like office equipment.
9. Run Depreciation
Depreciation is how the IRS determines how much of an asset’s life has been used up in a year. You can write off the amount that has been used as a tax deduction.
10. Review payroll taxes
Ensure that your payroll tax liabilities match your quarterly payroll returns.
11. Count inventory
Do this count on the day you close your books. The totals are used on a number of tax forms.
12. Run reports
Run a Profit and Loss report and Balance Sheet report. Analyze both to assure information is correct.
13. Close your books
Once you’ve completed every step, you can confidently close your books. For guidance and software options, read our post on the SmartBiz Blog: 8 Best Free Accounting Software for Small Business.
Next steps
For a look at other end-of-the-year tasks that can strengthen your business and prepare you for the year check out our list here: End of the Year Checklist for Small Business Owners.
