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In this instructional episode, social entrepreneur and accountant Aaron William Perry provides an introduction to accounting and bookkeeping for social enterprises, non-profits, regenerative farms, and sustainability and stewardship oriented businesses. The episode was recorded during a special workshop for the Drylands Agroecology Research community of regenerative farms near Lyons, Colorado: Elk Run Farm, Meta Carbon Farm, and Allens Farm. Introducing the material, Aaron provides some historical context behind the double entry accounting system that is the backbone of all accounting software (including Quickbooks) and financial reporting conventions of virtually all companies, non-profits, and organizations world-wide.
Did you know that modern accounting has its roots in the Italian Renaissance? Brother Luca Pacioli, a mathematician, educator and Franciscan Friar considered to be the “father of accounting,” lived contemporaneously with Leonardo da Vinci. In 1494, Pacioli published the “Summa” in which he codified the systematic mechanics of double-entry bookkeeping and accounting. With this historical context in mind, Aaron discusses the five major account types (Assets, Liabilities, Equity, Income, and Expenses), how Debits and Credits work across each account type, and the major financial reports in which these five account types are expressed: the Balance Sheet, Income Statement, and Cash Flow Statement; also known in the non-profit arena as the Statement of Position, Statement of Activity, and Cash Flow Statement, respectively. This instructional session also walks through some of the basic functions organizations of every size and scale need to know: Invoicing, Depositing Monies, Billing and Expenditures, Reconciling Bank Accounts, Running Reports, Budgeting, and reading Financial Statements.
The Y on Earth Community first intended this workshop to be available only to the Ambassador network, through its Ambassador Resources. However, after some reflection and deliberation, it became evident that the workshop could be much more widely beneficial by making it public through this podcast episode. A very special thank you to Marissa Pulaski and Nick DiDomenico of Drylands Agroecology Research and Elk Run Farm, Azuraye Wycoff of Allens Farm, and Shane Weigel of Meta Carbon Farm. If you would like additional instruction and/or consulting and advising support from Aaron Perry and the Y on Earth Community Team, contact us via the “Advising & Consulting” resources page: yonearth.org/advising-consulting.
RESOURCES:Advising & Consulting Resources: https://yonearth.org/advising-consulting/Background: https://en.wikipedia.org/wiki/Double-entry_bookkeeping
Transcript
(Automatically generated transcript for search engine optimization and reference purposes – grammatical and spelling errors may exist.)
Welcome to the YonEarth Community Podcast. I’m your host, Aaron William Perry. And today,
we’re actually sharing a different sort of episode. This one is an important introduction
to accounting for social enterprises, small businesses, entrepreneurs, nonprofits, and folks
who are otherwise creating and building organizations doing good in our world. We did this as a
workshop at Elk Run Farm with our friends, Nick and Marissa from Drylands Agro Ecology Research,
as well as our friend, Audrey from Allen’s Farm and our friend Shane from Medacarbon Farm,
these three farms form a special cluster north of Boulder near Lyons where all kinds of wonderful
regenerative farming practices are getting established and expanded. And so we began by doing a
workshop for them to help them in their leadership positions better understand the basics of
accounting and therefore have a foundation to do all of their bookkeeping requirements and to
help manage any other folks on their teams who might also be working on the books with them. So
after we recorded the workshop, we realized, hey, this might actually be helpful for a whole lot
of other folks out there. And so hence we decided let’s go ahead and publish this as a podcast episode.
Now we’re talking about accounting and bookkeeping. So I imagine there are some in our audience who
don’t feel so inclined to want to listen to something like that, no problem. But I also
imagine there are plenty of folks out there for whom this session will actually be really helpful.
So I would encourage you all to not only check it out if you think it’ll be helpful for you,
but to share it with others you know who are launching and growing organizations doing good work
in the world. Okay, so if I just want to mention as well that through the wider community, if any of
you would like to dive even more deeply and or to bring any of our expertise on to do some
advising and consulting for you, you can check out our advising and consulting page. That’s at
Y&R.org slash advising dash consulting. You’ll find that right under the resources sections section
at Y&R.org. And so I also want to just quickly show the graphic that we used during the workshop
just to give you an idea. We talked a little about the history and that there was this Italian
Pat Gioli who around the same time that Leonardo da Vinci was creating all this amazing work,
mathematics, art, etc. This guy Pat Gioli actually wrote a book called Summa 1494 that established
the double entry accounting system which essentially the entire planet is now using. And we’ll also
get into the five types of accounts. We’ll talk about devising credits and how those are
affecting the five types of accounts. And we’ll talk about the different financial reports and
statements, especially the three primary, the balance sheet, profit and law statement and cash
flow statement. Those in the nonprofit world are also known as the statement of position to
statement of activity and cash flow statement. And then we covered a number of processes and
procedures that are going to be common to just about any organization. So invoicing, depositing
monies, building, running reports, reviewing reports, getting into the budgeting and planning process
and then running budget versus actual numbers once all of the budgeting work is finished.
And of course doing the routine bank reconciliation work on monthly rhythm is what’s recommended.
So that’s just a quick overview of what we talk about. And I hope that it’s really helpful
to many of you out there. And I want to give just a quick shout out to all of our partners and
sponsors. And by the way, check out our partners and supporters page. We’ve got more and more
companies with great products with whom you can get discounts when you click through out of the
Wyner Thought Award ecosystem. It’s our growing regenerative economic ecosystem. Our Wyner
approved ecosystem that allows us to get these discounts and portions of the sales will come back
to support the work that we’re doing on the Wyner’s community, including our podcast series.
So I want also to give a big shout out to you, Earth Coast Productions, the Lich Family Foundation,
Alpine Botanicals, Purium, Earth Hero, Liquid Trainer, Vera Herbles, Growing Spaces,
Soil Works, Joyful Journey, Hot Springs Spa, Earthwater Press, Dr. Bronners, and of course,
Waylay Waters. A huge thanks also to everybody who’s joined our monthly giving program. And if you
haven’t yet and you’d like to, you can just go to Wyner Thought Award slash support and set up your
monthly amount at whatever level works well for you. If you sign up at the $33 level or greater,
we’ll send you a monthly shipment of the waylay waters, regeneratively grown,
have infused a Roman therapy soaking salts as a thank you gift. And of course, also a huge shout
out to those who have joined our stewardship circle, including very recently our good buddy,
Bob Hill. You’ll be hearing more about Bob and the project season working out here soon.
So thanks to everybody. And again, if you are inclined to check out this introduction to
accounting for small organizations and growing businesses, I hope you enjoy. And please be
reach out if we can be helpful to you beyond the content of this episode. We’re happy to chat
about it. Thanks so much. Take care, everybody. And hope you enjoy. I wanted to start by introducing
what the heck is this thing called accounting. Where did it come from and why? Right? So,
is that going? Okay. So before I dive in, like any questions, comments,
oh, I should stand over here. I guess. And how’s that over on that thing?
You’re getting it dark. Yeah. It’s, it’s, it’s some setting. I,
Artim and Jordan, so we collaborate with a company called Earth Coast Productions. And
Artim, who owns it, is on the board of the Y and Earth community. Those guys are always telling me,
oh, you got to do this one setting and this other thing. And that’s just, yeah, I remember a lot
of things, but that’s, that’s not sticking as well. So, you know, when we think about accounting,
and bookkeeping, we’re thinking about invoicing, right? That’s exactly what you said earlier, Shane,
or we’re going to talk about invoicing. And like, yeah, we are. But we’re going to talk about it
in the context of the picture, of, of the situation in which invoicing is doing what it’s doing.
So accounting goes clear back 500 plus years, double entry accounting in particular,
which is a unique little system that we humans have invented, right? This double entry
accounting does not exist in nature without humans as far as we can tell. This is one of the many
things we’ve imagined and created, as it’s true of a lot of what happens in economics, right?
So back at the beginning of the Renaissance, when the Italian city states were sort of at the
center of this exploding early global economy, right? Trading across land over to Asia and elsewhere
and preparing to start essentially sailing all around the world. This guy named Father Patioli
wrote a book called Summa 1494, in which he laid out the system of double entry accounting,
which we’ll be talking about. There’s an earlier record dating back another
almost 200 years by a guy named Amatino Manucci, where double entry accounting is used in the
records of a company. But it wasn’t until this Patioli guy wrote Summa that it was sort of
formally presented as a system in a book. And curiously, if you look at the dates of
that friar, they almost perfectly coincide with the dates of the life of Leonardo da Vinci just
to provide a little more context there. And if you want to dig deeper on some of that background,
I’d put the Wikipedia link in here for you to. So why this matters is that there’s one peculiarity
in double entry accounting that is what makes it work so well. But it also is sometimes really
challenging to understand and actually requires a little memory work to really lock it in.
And I remember back in the day, my parents first asked me if I wanted to do bookkeeping for their
company when I was in middle school. And I asked my dad, well, how much would you pay me?
He said something per hour and I figured that’s like two to three times that I could make
mowing lawns per hour. So I’ll do it. So that’s how I began learning. And after a while was doing
accounting and advising work for a number of companies and actually had to memorize this
debits and credit system that is used when we are using double entry accounting.
So I’m not suggesting you need to memorize it. But I just want you to take the time here together
to walk through what’s happening because it’s going to help, I think, make some sense in some
of these procedural flows. So invoicing is a step that kicks off a sequence. And so invoicing
hopefully leads to getting paid. And so there’s another function which is receiving payment.
And you do that in accounting software like QuickBooks. That’s a step. And after receiving payment,
then you deposit funds, right, which corresponds to literally taking checks to the bank or a photo
of a check if you’re remote depositing or what have you. And then eventually you’re going to reconcile
that transaction along with all the other transactions, ideally on a monthly basis. And you’ll see on
the back side of this paper that there are a handful of additional processes and procedures
and in each I’m indicating the frequency of when those ought to be occurring. So for example,
reconciling bank accounts in general would be a monthly process. Good so far. Okay. Board
detiers yet, Nick? No. Okay. That’s what I figured. There should be some national pride or something
in this. Well, I just want to say to just having guests here that may know a lot about this.
Nick and I are like very much beginners. And I clearly trust Aaron that there’s going to be more
for you also learning to do with why do we acknowledge that you may be versed in this more so than we
are. So thanks for being here. And are you guys accountants? I should have asked that.
My parents are. Your parents are. I think they both. Yeah, exactly. You say you’ve done a lot of
math? Yeah. Yeah. So what’s interesting about accounting is that there’s not a lot of advanced math
involved. It’s all basic computation, really. Unless you’re getting deep into some analytical stuff.
And we won’t get to that today. So the math aspect is pretty straightforward.
The framework of what’s happening within the system of accounting is something that isn’t
necessarily intuitive. And so hopefully this will be interesting and help kind of further
flesh out your working knowledge given that you already have a background doing a lot of books
and that sort of thing. Yeah. Good. So okay. Now there are five types of accounts. And this is
really simple. It’s always true. Okay. No more and no less. And so income and expenses are two
of the five. And then you have assets, liabilities and equity. And income and expenses are generally
expressed on a financial report called an income statement, which for nonprofits is also called
a statement of activity, right? So you got your income and expenses. Now these are types,
general types of accounts. We’re not going to dive too deeply into this just yet. But
under the type of account called expenses, you’ll also find something, find something called
cost of goods sold, right? Which is often expressed as cogs.
Boy, those troopers have been active today. So this is what we find on an income statement,
which is also called a profit and loss, which is often abbreviated like this P and L. And then
for nonprofits is called statement of activity. These are all synonymous, basically just depending on
whether the entity is a nonprofit or a for-profit. Is that good so far? Yeah. So then the other three types
are assets, liabilities and equity. And these are all expressed on the balance sheet,
which is also called a statement of position. And we’ll talk about the third common financial
statement, which is called a cash flow statement. Put it right here in a little bit, not quite yet.
This cash flow statement, however, is not introducing any new account types. It is simply
retelling the story of what has occurred in these account types in a format that is oriented
around the changes in cash position, essentially. And I’ll walk through details on that in a little bit.
Okay, so any questions so far?
Makes sense? Kind of straightforward. Yeah. Now for the fun. Now we’re going to talk about
debits and credits, because this is essentially the logic within any accounting system we’re using,
including something like QuickBooks. And what’s interesting about QuickBooks is that the company
into it that has developed the QuickBooks software and app has evolved the GUIs, the graphical
user interfaces, to such a degree and dumbed it down so darn much that often you don’t even realize
what’s happening in the mechanics with these various GUIs you’re using, like an invoice
module or what have you or a building module or a make deposit module. And for the most part,
that’s okay. It used to be earlier in the days of QuickBooks back in the 90s and the early 2000s
that the GUIs weren’t developed quite so simply. And there was more of true accounting kind of
apparent in the day-to-day work there. And I had a company at one point where we were
pushing so hard on the data tables behind the software engine because we were doing local
food and attempting to track source and destination of all this local food in the transactions,
we were actually working with into its developers to kind of push the boundaries a bit on some of
their data architecture so that it could further accommodate that kind of activity which is really
fun to do. But basically this fundamental architecture requires that we know what’s happening
when we use debits and credits across these five account types. So and I know this is on a
little more clearly written on the handout. So when you have a debit and you have a credit,
these are abbreviated DRCR. And trust me, I’m going through this to get to the conversation about
invoices so that it really makes sense of what we’re doing. So when we, the thing about
double entry accounting is that there is never ever any transaction recorded that doesn’t always
affect at least two accounts and that doesn’t always have the exact same total of debits and
credits, right? There is an intrinsic balancing that must occur within the logic of accounting.
My grandfather was an accountant back in the post-war era and what we now do with software with
clicks of buttons took him and a team of people, mostly men, days on a monthly basis to wrap books
up and balance things out account by account literally each account had its own book, right? And
you can have a chart of accounts with what hundreds of different account line items, thousands in
some cases. So what’s happening is when we credit an income account, we are increasing that income
account. When we debit an income account, we are decreasing it. The opposite is true of expenses,
a debit to an expense account is an increase and a credit is a decrease. With assets,
a debit is an increase, a credit is a decrease. With liabilities, it’s the opposite. So a
thanks. A debit decreases and a credit increases and equity and liabilities behave the same way.
And when you’re on a balance sheet, if this is your balance sheet and that, you know,
BS stands for a few things, your assets, your total assets is always going to equal the total of
liabilities plus equity. Okay. So if you’re looking at a really financially healthy organization,
you’re going to see that number that is the total of assets is essentially going to be very close
to that number. That is the total of equity. If you’re going to see a highly leverage or debt loaded
entity, right, you might see your liabilities very similar in number to your assets. In some cases,
you’re in greater. Yeah. Thank you. Great. So income means in flow of money generally. In non-profits,
you can have in-kind income or somebody’s donating time or equipment, right? But even if it’s
something other than money that’s donated for it to be recorded as a financial entry, there needs
to be a monetary value assigned, right? So income is something we’re receiving from an outside
entity. Expenses is something we’re paying out to another party, an outside entity, an employee,
a vendor, a contractor for goods purchased or services provided, right? So one important thing
to remember is that not all money is going out are necessarily expenses, because you might be
buying an asset instead of paying an expense, right? So assets are things like significant pieces
of equipment, property. There’s a such category as intangible assets. This is like intellectual
property. So if, for example, you’re spending thousands on a patent, in many cases, you would
put that on your balance sheet, which is called capitalizing it as opposed to recording that as an
expense, right? So assets are basically different forms of property of significant or substantial value.
Whose useful life, this is another way of thinking about it, that accounts, think about the
useful life is extensive, often many years. And liabilities is essentially going to be anything
that is owed to somebody else, right? So a note or a mortgage on a piece of property, a
loan on a truck, and so on. And then equity is basically the net value of the organization
that takes into account the net income, as well as net income from past periods, which is called
retained earnings, and the net difference between your assets and your liabilities.
We’ll walk through a few examples thinking about things like invoices that would help us understand
what would happen on the balance sheet as we’re creating certain transactions. As far as just
kind of describing the five account types, is that helpful? Okay, great.
Let’s see.
Okay, another, I think, really important thing to recall is that an income statement,
a statement of activity, is always going to be expressed as covering a period of time.
Okay, so this is a period of time. So you might have a statement of activity for a year,
last year, 2020, which would be January 1 through 1231, 2020. You might have one for last month.
Right? You might have one for last week. It’s a little less typical that you’d be doing
something like that, but that could happen. You could even have a single day. Right? That’s in terms
of time granularity, a single day is as sophisticated as QuickBooks gets. Some of the really,
really big companies might be dealing with even smaller time periods than that, but that’s probably
going to be handled more in their inventory management software and some of the other extensions
of the, not in the true accounting software, unless it’s all integrated. So your statement of
activity is dealing with a period of time. So is your statement of cash flow, okay? So these guys,
again, you would see like if we were preparing financials for last year, we would, oops, I’m rewriting.
We might see, here’s a statement of cash flow for 2020. Does that make sense?
With a balance sheet, instead, it’s a snapshot at a moment in time. So it’s always as of a certain
date, okay? So this is a snapshot in time because it’s a matter of position. So activity is
something that occurs over a period of time and position is something that occurs at a moment in time.
So if we’re preparing our 2020 financials, we’re going to include a balance sheet as of December 31st,
2020, the final day of the period that the other financial statements are covering.
And that would be a complete package for financial statements for 2020, for example, preparing for
a board meeting or putting something together for key philanthropists or you might even provide
snapshot information in your annual report. You could include your financials. You don’t have
to do that sort of a choice you have. But you would have your income statement for the year,
your cashless statement for the year and your balance sheet as of December 31st.
Okay.
So any questions before we get into like specifics like invoices?
Okay. Does that context help or is it just more like mind-boggling?
Okay. Great. Okay. So now let’s pretend we’re, this is where we get to have some fun and do some
make-believe transactions. So let’s just say we did an invoice. We just had a huge design project,
a $100,000 design project. And so we’re invoicing somebody, right? And this invoice needs to have a
date, right? So that it knows where to land in terms of those contexts. It’s going to have a
customer, right? It’s going to have an amount of money. In this case, we’ll say it’s $100,000.
And then it’s going to have something like a due date typically, right? And you might have net
30 days, you might have due on receipt, right? There are different options there.
You might also have a description of goods and services, goods and or services, right?
And what you’re certainly going to have is an account. When you’re recording an invoice in
QuickBooks, you have to tell QuickBooks what account this is booking to. Almost always an
invoice is going to book to an income account because you’re essentially earning income for services
provided or goods sold, right? So in this case, you might have an income account called
design, right? Or some such name? Boom. Now, what about this double entry business? Well,
the second you record this thing, you hit enter, QuickBooks knows now to credit.
Remember, we’re going to say DRCR. So now we’re going to credit income 100,000.
And what are we debiting? This is where it’s behind the scenes, right? So it’s like,
what are we debiting? Any guesses? To what account? And that’s exactly right. It absolutely
has to be 100,000, right? These need to add up to the same. They have to be in balance.
So we already credited income. Expenses. No, it’s a good guess because that certainly would
move in the right direction. What other type of account would move up with a debit?
Yeah. Bingo. Which type of asset is this?
Aha. This is accounts receivable. Very good. Okay. So now, right? Now if you’re looking at your
ballot sheet and your customer hasn’t yet paid, you’re going to see in your assets, you’ve got
$100,000 of accounts receivable. That means somebody owes you $100,000. Okay. So the invoice
module in QuickBooks is automatically debiting that asset account. That’s all happening behind
the scenes, right? And you have to put that in there like that under assets. No, it does that
for you. This is invisible. Okay. This is just so you understand what’s happening. Got it.
So you put it in there as I’m invoicing somebody, but I haven’t got my money yet.
Correct. Yeah. Yeah. Okay. This is an interesting little semantics,
splitting of hair’s opportunity, right? Because within the par lots of QuickBooks especially,
and most other accounting software, when we’re using the term invoice, it means we’re receiving money.
Our invoice is somebody else’s bill. So we’re also going to use a term bill, except that means
we pay somebody else. We owe somebody else. It’s almost the flip of this invoice pathway. Does that
make sense? So when we invoice our customer $100,000, they now have a bill of $100,000.
So let’s say we receive payment, right? This is step two in this flow. We’re receiving $100,000
from these guys. What do we do? Okay, that’s a really, really great question and comment.
QuickBooks is doing a few other things automatically to hit our equity account.
And I will walk through that right now, I guess we can do that. So in this scenario,
when we just created this invoice, in our imaginary financials, our P&L, our income statement is
going to show income of $100,000. Expenses so far or zero. We haven’t done anything other than
that invoice. And so our net income is KU MathWiz is $100,000 minus zero. Right. So now on the
balance sheet, assets accounts receivable, which is often shown by AR 100,000, right? Liabilities.
Exactly. We have not incurred any debt in this example. Equity. What does this have to be for
the balance sheet to balance? Yeah, so that plus this has to equal $100,000. Right. So this equity is,
that’s correct, because net income is one of the types of equity that gets expressed. So
QuickBooks is going to bring this directly across. That’s like the very basic balance sheet and
income statement or activity statement after just that one invoice. But now we receive payment. So
something’s happening. Right. We just open the envelope and boom. There’s a $100,000 check and
it’s like woohoo and we put it in the bank. Right. So in QuickBooks, there’s a function called
receive payment, which basically is going to reference your open invoices. And what it means you’re
going to do now is where we previously debited that accounts receivable, we’re going to credit
that account 100,000, which essentially is going to drop that balance on that accounts receivable
account to zero, because it’s going to show a debit of 100,000 and a credit of 100,000, which adds
up to zero. Right. And now we’re going to debit. If we were just going straight to the bank,
we would debit our bank account or our cash account. Right.
100,000 because now we’ve got 100,000 in the bank. Does that make sense? There’s one other
intervening step here, however, that is actually when you’re receiving payment, what QuickBooks
is doing is putting it into another asset account called undiposited funds. So there’s actually
three steps here. And we’re no longer in just your abstract theory and talking about the Italians
back in the early renaissance. This is literally what has to happen step by step to record an invoice
in QuickBooks, receive payment for that invoice, and then finally make deposit, which is a third step
in the module in QuickBooks. And that’s where you’re going to basically bring the debit
into the bank account, which is an asset account. Right. The 100,000. And now you’re crediting undiposited funds.
QuickBooks, maybe silly questions. Yep. How are you defining account? Is that just a list of
transactions? Account literally is from our chart of accounts. And our chart of accounts is
made up of these five types of accounts. So an account might be your service income for design
work. That would be an account. That would be an income account called design work. I’m just
making sure that I’m thinking of it like in the right context. So each account will contain
a list of transactions in its ledger. You’re exactly right. So if you’re looking in the design
account, you would see in that list that ledger, all of the transactions that have affected that
account, which probably would be a bunch of invoices, in that case. Right. And then on your assets,
you’re going to also have accounts like bank accounts, and perhaps investment accounts, and also
fixed assets, things like trucks and trailers. And you might have property. Right. These kinds of
those are each going to be expressed as a different account.
Could I ask something? Yeah. Like the kindergarten version of all this would just be on QuickBooks,
set up different accounts. Design, folk farm, farm to table. And then when you do this, you click the
button, and then you click the button to say receive payment, and then you click the button, and does they make the pilot like, is it all that simple?
Well, sort of, it is.
Yeah.
And this is why the setup of the chart of accounts
is so darn critical.
And we’ve been talking about this also
in the context of your budgets versus your QuickBooks,
which is your actual transactions, right?
And we’re going to, that’s one of the last things
on this document actually is the budgeted versus actual reporting.
So yes, so you’re going to literally, when you’re invoicing,
you’re going to say this is to, you know,
Mary Smith for a folk farm.
However, you may also have expenses.
You want to track as part of folk farm.
So it would be typical to see that you might have an income
item, which would be like folk farm tuition, right?
That people pay you.
And then down in your expense section,
you might have a second account, another account,
that would be something like folk farm staff, let’s just say.
Oh, yeah, that’s great.
See what I’m saying?
And as you have naming convention consistency
through all your different account types,
that also makes much easier the opportunity
to track profitability or net resource generation
within sub-enterprises of the whole entity.
So it would be very good to track the total expenses
related to folk farm, the total income related to folk farm
and have a finger on the pulse of how that’s doing
as its own enterprise, right?
And you might, in expenses, you may have multiple folk farm
expenses, you may have folk farm supplies, right?
Whatever else, you don’t want it to get so carried away.
This is part of the art and science
of creating your chart of accounts.
You want it to be as concise as possible while being
as meaningful and informative as possible.
And there’s actually a lot to discuss in Naderina
when setting up the chart of accounts of an entity,
especially, that has different operating enterprises, right?
So at the farm, Metacarbon, you might
have a section for eggs and chicken related stuff,
another section for veg, and so on, right?
And I obviously don’t know what you guys do
to track all that, but hey.
So yeah, this whole, like, just click the button thing
is absolutely how easy it ought to be day to day
once you know your chart of accounts is properly set up
and that whoever is recording these transactions
is properly trained.
So they’re selecting the right account
because when you’re creating an invoice,
you’re selecting an account from this entire list
of possibilities, right?
And I’ll tell you, I’ve spent hundreds of hours
over the last 30 years cleaning up accounting systems,
sometimes going back 10 years for one client
that had to go back 10 years.
And the paper records were not well organized.
So it was quite a process.
So this is, I will say, with accounting and bookkeeping
really as much as you might see it anywhere else,
an ounce of prevention is worth a pound of cure.
It really, really is.
And it’s really worth setting up right from the get-go.
Because it’s a system that as you grow in transaction volume,
the complexities, if you have errors in that system,
the complexity of the errors are just growing through the system.
So it’s better not to have this.
Good question.
Yeah.
So let’s say when your referents are far,
and you said you might have a thing for chickens and eggs
and vegetables and whatever, would you choose
to have accounts for your customers too?
So let’s say go farmer or something like that.
But then go farmers buying vegetables
and cost the eggs and stuff like that.
So will I have accounts that have the same transactions
in each of them, even though they’re once categories
based on what’s customer views?
Yeah.
So I absolutely love this question.
Because it gets at the nerdy geeky elegance
of how the data structure is set up in QuickBooks
and how the logic structure for accounting in general
is established.
And mind you, the entire world is using this now.
Came from the Italians.
The whole freaking world is using this.
And the largest corporations, Exxon, Apple,
are using this.
The smallest little nonprofits, some are still
like just an Excel or whatever, but basically everybody’s
using this, right?
So the data architecture is such that no,
you don’t want to create an account that
is customer specific.
The accounts are customer agnostic.
And the way we’re tracking customers
is through an entirely different list or data table, which
is this customer, right?
So each little thing I wrote up here
is effectively a data table or a data element, right?
Like it’s not like as a date would be a data element.
So you’ve got a separate running list of customers.
So any time you’re creating a transaction affecting an account,
that single transaction is also tied to, in this case,
a customer, or in the case of a bill,
if we’re talking about billing and expenses,
that would be a vendor instead of a customer, right?
And you don’t want to see your chart of accounts creating,
even if it’s your biggest customer, like egg sales
to Walmart or whatever.
You just track them separately through the customer list.
Is that hopeful?
The full card thing threw me up a little bit,
but that was just a project.
That’s an internal enterprise.
Yeah, great.
OK, that’s a great clarification.
If you had an event, that could be the full-farm set.
Like it could be a section, right?
It’s like programming.
Yeah, it’s a section.
Correct.
Yeah, like in the for-profit world,
one way to think about it is your different profit centers
or your different enterprises or sub-businesses.
So programming is nonprofits, is it?
It’s certainly much more common to nonprofits.
I mean, unless you’re talking like an educational for-profit,
I guess that would be an exception.
But yeah, for you guys, you would have events
as another not only potential income account,
but you probably would also have some expense accounts
specific to events.
Now, there’s yet another layer of potential complexity
where you can assign types to do your enterprise profitability.
But for what you guys are doing, I don’t want to get into that.
And I don’t think that would be the right way to go about it.
I think having a handful of income accounts
specific to your different enterprises
and then a handful of corresponding expense accounts
specific is the best way to set it up at this stage.
And should be really sufficient for several years.
Different programs.
Yep.
This program has an income and an expense account.
Yep.
OK.
Yep.
So then, and then after you have your what we’re calling program
specific expense accounts, then below that,
you’ll also have your administrative is one way to call it,
right, which is also known as SGNA for for-profits.
That would be like sales general administration.
So this is where things like your telecom, right?
Utilities, rents, whatever, things that are being utilized
across all those different programs, basically,
and common to most are all of them.
And like typically your, for example,
if you have staff that are only hired for one program
or enterprise, you’d probably record
their expenses in that category.
Whereas your general management that’s overseeing everything
would probably be down in this administrative section,
right?
So you might also see your management on here.
So then, we went through the three steps needed to earn money.
Do we also want to go through the corresponding steps
where we’re paying a bill, basically, is that helpful?
I think it is because this is in the nuts and bolts
of what needs to happen.
Is it?
Yeah.
So this time around, instead of creating an invoice,
we’re creating what we call a bill.
And this means we’ve received a bill in the mail.
Maybe it used to be, right?
Comcast or Verizon or whatever.
Nowadays, so much of that is happening electronically
and often is happening with automatic payments.
And those things can be automated in QuickBooks as well.
And I will caution two things in QuickBooks.
Be careful what you automate.
You don’t necessarily always want to automate everything
because then you’re losing track of certain things.
The second thing is I would say, generally speaking,
do not connect QuickBooks to your bank accounts electronically.
Because it just opens the door for things like fraud
and situations you just want to avoid.
And how do you make the…
So then you make the deposit on your own
and you don’t let it say,
I’m going to deposit this directly to your bank account.
You don’t need to buy.
You’re recording that you make a deposit in QuickBooks.
OK, but we don’t say that you make the deposit for us.
So yeah, so there are different banks now
have different levels of integration
where they will push data into QuickBooks.
And you can even activate bill pay, for example,
in QuickBooks, which means whoever’s got access
to that function in QuickBooks is literally
able to send money wherever.
And this is where some entities run into fraud
where Aunt Judy sends an invoice or a bill for $35,000,
boom, and that real money goes out the door.
That happens.
So my very conservative perspective
is not to link your actual bank account to QuickBooks.
Now, you can import data.
I do this for myself via Excel.
I like the intermediary step.
It gives me the level of comfort.
But that’s probably getting into some details and weeds
we can tackle the other day.
I would strongly caution you not to connect QuickBooks
to your bank accounts.
And that part of what’s going on in QuickBooks,
and we’re going to get to this after we walk through
the bill example, is you’ve got some very important checks
and balances that are your way of verifying
that everything’s as it should be,
and that you’re not leaking money in ways you don’t want to be.
Right?
Does that make sense?
Okay.
So with your bill, this time around,
you’re going to now basically have a debit and a credit.
So we’re probably going to be getting a bill for an expense,
which means we’re debiting the expense account.
And let’s just use the example of internet, right?
So this might be an expense account called internet.
And this might be somebody like Comcast or whomever, right?
So look, what’s that?
What’s that?
No, no, what’s his name?
What’s his name?
Who?
Who?
What?
What’s his name?
I don’t know what you’re talking about.
Leo?
No.
I don’t know what you’re talking about.
So let’s say you’re monthly, huh?
I don’t know.
Just have fun bending my mind.
What’s happening?
Thank you.
Okay.
Just kind of give myself a laugh.
Okay.
Yeah.
And look, I applaud you for suffering through this for an hour
or two on a Wednesday evening.
And I will say with emphasis, my deep belief is that a little
bit of suffering to understand this is going to help you so
much in managing all this going forward.
And it’s not that you’re necessarily going to grok all of this
in one night.
It took me a while to fully get this all locked into the point
where I can explain it this way, right?
And you don’t necessarily have to be this geeked out about
it either, but to have a working knowledge of what’s happening
and certainly to know what pitfalls to avoid is going to be
super helpful going forward.
So then with this expense, this is like a monthly expense.
The bill, you know, is now instead of a customer, we’re going
to have a vendor.
In this case, maybe it’s calm cast or some guy.
I don’t know the joke here.
You’re going to need to have a date on this, of course, right?
They’re going to tell you a due date, right?
And then there’s going to be a description.
And then, of course, the account you literally, like quick,
which literally won’t let you save one of these things
without indicating an account.
And this is expense internet.
Let’s say it’s $100, right?
So that’s the debit.
What’s the credit?
Any guesses?
Zero.
Well, the amount of the credit has to be 100.
So what account does it go to?
Well, is this a nice asset that’s sustainable because it’s
internet?
Why would it go like, oh, shit.
Great.
Idea.
And you are correct with liability.
So because why it is, it’s exactly.
Our bill is their invoice.
It’s a liability.
That’s exactly right.
That’s exactly right.
This is saying we owe someone $100.
This is a liability.
And it’s a particular type of liability.
Can you guess, remember, this little AR up here?
That’s a hint.
So it’s not an account receivable,
but it’s an accounts.
Yeah, boom.
So this is going to show up on the balance sheet as accounts payable
right over here.
So now with that recording, instead of expenses of zero,
we now have expenses of 100, which means our net income,
now the mass getting a little harder.
Nine, nine, help me out here.
What is that?
Nine, zero, zero.
Is that right?
So this needs to change.
Nine, nine, nine, and zero, zero.
Liabilities suddenly now, not only liabilities in general,
but it’s the payable AP liabilities for 100.
And so you see this balance sheet is still in balance, correct?
Right?
Because at the bottom of the balance sheet,
you’re going to see a line that says total liabilities
and equity, right?
Boom.
It’s going to say $100,000 because it’s adding these numbers.
Does that make sense?
And similarly, under assets, you’re
going to see this very last line under assets called total assets.
100,000.
And that’s actually technically what’s balancing this and this
needs to balance.
Why it’s called a balance sheet?
OK, but we’re not done yet.
That’s only the step one.
This is process A, process B, step one, step two.
Guess what it is?
If step two in the invoice was receiving payment,
what do you think step two is in this process?
Yeah.
That’s right.
Pay bill.
OK.
So you can go into QuickBooks and say, I want to pay a bill.
It’ll bring up a list of open bills.
And you say, I want to pay this bill for Comcast or whatever.
And it’s going to ask you what bank account do you want to pay
that bill out of?
And you’re going to say, my elevations credit union account
or whatever.
And then you’ll go ahead and make Enter on that.
That’s going to, in QuickBooks, now we get into a little bit
of an issue where are we printing checks out of QuickBooks
or are we hand writing checks and just making this a recording
in QuickBooks, right?
So either way, you’re going to go through this process.
And in some cases, you might even say, I’m not going to go
through this bill, pay bill to step process.
I’m literally just going to record the check
and record it going straight to the expense account.
That’s another way to do it.
But it’s effectively having the same final effect
on your accounts.
So when you pay bill, we had credited the accounts payable.
Now we’re going to debit the accounts payable,
dropping that back to zero.
So there’s no more money owed.
And now we’re crediting our bank account cash, you know,
actual money, $100, because we paid that, right?
So now like over here, we would no longer have this liability.
And however, now our cash, oops, sorry, that’s a receivable
I forgot about that.
So our cash, we didn’t put any cash in before we paid a bill.
So our cash is actually negative 100.
That’s not good.
So we’re going to have to pretend we put in $1,000 of equity
ahead of time, right?
Which would have been, there are some transactions that
don’t affect income and expenses at all.
For example, if you buy a truck on a loan, right?
You’re literally putting the truck as an asset up here
in the loan as a liability right here.
No income or expense has been brought into that picture yet.
Now, technically on certain assets and debt on assets,
you might record the interest portion of the debt as an expense.
But that’s a little more complicated
that I think than we need to get into right now.
So we’ll just pretend we didn’t pay this bill just
to keep our balance sheet from getting out of control.
OK?
Because this is basically going to be two out of three,
I think, of the transaction types.
You’re going to be seeing a lot of month to month.
Now, like I said, you might just simply record a check
and not go through your bill process.
So you might just write check.
Let’s say there’s an expense for eggs or whatever, right?
Let’s say we’re buying eggs.
And so in that check for eggs,
we might use the account expense supplies.
Or if we want to, if it were eggs just
for the folk farm program, we might say
that’s to the folk farm supplies expense.
Does that make sense?
Yeah, like use a pertinent example for us
and that would be like rent or the truck payment or whatever.
Yeah, so rent is writing a check.
Right, so write check.
That’s a function in QuickBooks rent.
And that’s going to be your expense account.
So you’ll literally have an expense account called rent.
And you might have multiple types of rent.
So if you had a storage unit or multiple things being rented,
you might have multiple accounts called
different types of rent.
But yeah, that’s exactly how that check would get recorded.
And then something like a truck payment
is probably set up as an automatic payment, I’m guessing.
And so what you want to do in QuickBooks,
either monthly record it as a check.
But in check, you have payment, you select payment type.
You can have something like an automatic auto pay
as a payment type.
That’s actually another list.
You get to determine what’s in that list.
So you might have auto pay.
You might have e-check as an option.
But yeah, you’ll have this payment type every month
to pay your truck payment.
And that would be
that when you’re paying, when you’re making monthly payments
on a liability of considerable size, many thousands of dollars,
there’s a few different ways you can treat the interest portion
of that payment.
Because the idea is that each month,
you’re paying some of the principal
and you’re paying some interest.
And there’s some complexity around how that all works.
So like mortgage payments that are fully amortizing
have a logarithmic curve of declining amounts of interest
with every monthly payment, like kind of the way
an ice cube melts.
The more it melts, the faster it melts.
So as your principal balance is dropping down, down, down,
and you’re making a fixed amount of payment every month.
The portion that is interest is less each time.
And so therefore, the portion that is principal
is more each time.
So that initial payment on a big thing like a mortgage
is going to have a lot of interest.
And that very final payment is going
to have relatively little bit of interest, right?
But for the truck, like I could look
at the documentation, or you could just
tell me a couple of facts, and I could make a recommendation
about how best to record that.
Sometimes it’s going to be easier with something
like truck debt to not really worry
about the interest portion and just set it up as a liability.
So the full amount would be the liability
and just figure out the monthly amount
that would be reduced from that full liability.
There would still be a little bit of interest to handle.
This would be also a good thing for Adam to do for you.
Also, in the case of some assets,
you’re going to depreciate those assets.
And that’s another type of weird expensing
that occurs against the asset value that comes into play
over time with those kinds of assets.
So some of this starts to get a little more complex.
But when you have somebody like Adam or myself,
we can help set it up.
So it’s very straightforward in terms
of what you’re doing every month.
So through the month, you’re doing all these processes.
You’re paying some liabilities.
You’re paying some expenses.
You’re receiving some income.
And then at the end of the month,
you’re getting a bank statement, right?
Or you go log on and get your bank statement.
Now, what you need to do is something called reconcile.
This is very important.
And this happens every month.
And what you’re doing when you reconcile
is essentially verifying all the transactions
that have been recorded in QuickBooks relative
to everything that the bank has in their records.
And you’re verifying that you started
in your account in QuickBooks with the same amount of money
that the bank showed at the beginning of the month
in the bank account.
And at the end of the month,
you’re also showing the same amount of money.
And if you run into discrepancies,
that’s where you might catch the bank made an error.
You might catch, oh, that remote deposit
I made was supposed to be $5,000 for some reason
that got recorded as 500 or whatever, right?
This is also to make sure that you’re catching errors
like that that may be unintentional.
And then it also is a really important measure
for making sure that all the activity is proper.
Does that make sense?
Is this where receipts come in handy as well?
Because you’re kind of just trapping everything that was.
Yeah, so receipts, this is a great example
of say you’re out shopping with a debit card.
So now you’re going to bring that receipt back
and record that in QuickBooks.
And you’re going to go into the record expense
or write check function.
And in the transaction or the payment type,
you would select something like debit card.
And you would just record it like you would anything else.
And then it’ll show up in that bank register
when you’re doing your reconciliation,
just like a check wood or an automatic withdrawal
or an electronic transfer or whatever else.
So you’re putting it in my hand
if your bank account is not attached?
Yeah, and if you want to have the bank importing
things like receipts, that concerns me much less
than the ability to move money out of the account
through QuickBooks.
So if there’s a really good firewall there,
I would say, yeah, that’s a nice time saver.
Can you set it up that way?
It depends on the bank probably.
And it depends on the version of QuickBooks
you’re working with also.
Probably, yeah.
But then, here’s an interesting point.
Let’s take the example of, let’s say you have
a really important speaker visit for a workshop
and you want to take that speaker to dinner
and you pay with the card to dinner.
And you’ve got to receipt with a tip on it.
And now that’s all automated.
So it’s out of mind, out of sight.
But somehow that tip got converted from $20 to $200.
How do you catch that?
Because then when somebody’s reconciling,
it’s all going to look right.
Because it’s the bank’s own records.
So part of the system of checks and balances
is not to have everything fed just from the bank.
The reports part, I would say, is pretty straightforward.
So assuming you’ve got your chart of account set up well
and assuming these processes are happening accurately
without errors in that your reconciliation is occurring well,
then you ought to have a very easy time
getting monthly reports, quarterly reports generated
and then the annual reports and reviewing them.
This is the key thing is looking at them
and making sure you’re starting to get a good sense
of how things are going from a financial perspective.
And so the generating of reports is really, really easy
with QuickBooks.
That is a couple of pushes of buttons and set and date ranges
and so on.
You can also export those reports to Excel
if you want to do some other analytics or whatever.
You want to see what certain ratios might look like.
This is getting a little more technical
but you might want to see how certain ratios are performing
and what have you.
You might want to see what percentage of total income
is the folk farm bringing in, for example.
I’m going to make another quick comment
about gross versus net because there’s gross revenue
and then there’s net income.
So gross revenue would be your total amounts
received in income like tuition.
But then your net income would be that
total minus all the expenses.
And so you might see an enterprise contributing a lot
to the top line but very little to the bottom line
meaning it’s not very profitable,
which may or may not be a good thing.
You might say this is totally fine.
It doesn’t need to be profitable.
It’s serving a bunch of other purposes.
But to be able to have that kind of analysis
at your fingertips is very helpful.
Do you have a question?
I have a detailed question.
So I’ve already charged tuition
through my own invoice that I created
that has nothing to do with QuickBooks.
Is there a way to get that on?
I could ask you another time.
Yeah, you just go and create the invoice.
And then for my, I have one new teacher that I’m hiring.
Yeah.
Should she be under like 1099 or something like that?
Yeah, that gets into some employment law questions.
And the answer is it depends on a number of criteria.
And that’s also a really good question ask Adam.
We’ve had some other conversations
too about employees and contractors
and early stage small scale enterprise
and when it makes the most appropriate sense
to take on full blown employees.
So there’s a lot to consider in that.
Technically, there is a strict boundary
in the employment law between contractors and employees.
But with certain part time employees
doing part time activities like a bookkeeper,
that could go either way, right?
And so there are many cases in which
it’s somewhat discretionary.
If that makes sense.
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