Ecommerce Fundamentals of Accounting: The Principles to a Profitable Store

A successful business in e-commerce requires more than good ideas and products, but also marketing and inventory. Additionally, you need an accounting system that can track the financials. How much do you spend? How much are you making? Do you have enough money in your budget? Are the authorities happy with your business? Ecommerce accounting uses well-known processes to track your financial records and business transactions and keeping current on tax laws pay, profits, and payroll.

No matter if you're only creating your first e-commerce store or have been at it for a little while and are realizing that you require help in tracking your company's budget, this eCommerce accounting manual will help you get on the right track.

The accounting software for eCommerce lets you judge the financial health of your business and make more accurate financial projections when your company expands.

What is the ecommerce accounting process?

Ecommerce businesses are built on transaction and inventory. The company makes the sales. You deliver products. You buy and replenish inventory.
The fundamentals of accounting for e-commerce begin with a system for recording and reporting your transactions. These include purchase order, invoices, costs and taxation.

However, it is more than the. Accounting firms then will utilize the data they collect and the information to create accounts so that they can examine and provide reports on the financial performance of your business.Ecommerce businesses also need special attention because of the fundamentals of the business model.

Imagine what happens if you sell a product in your online shop. That means the customer uses their credit card and submits payment to your payment processor. What are all the ways the sale impacts your financials?

• Your payment processor has received funds, but it's not yet in your bank account.
• Sales taxes are incurred in a variety of ways, and may be incurred from a different state or country
• Inventory declines
• The credit card or payment processor costs are added to the charges
• The actual income from sales differs from the sales price

No matter the sales channel any single sale has an impact on several aspects of your financial statements. In the aftermath of that one sale are likely to show up in your records of financial transactions within the next few months. In the event that your order is to return, the majority of these transactions will need to be modified or reversed.

That's only one purchase.

The tracking of some of this is the responsibility of a bookkeeper, and we'll discuss the distinctions between ecommerce bookkeeping and accounting in a moment.

Let's start with the basics of accounting terms.

Basic accounting terms

These are the top phrases to learn for ecommerce accounting:

Transactions

In accounting terminology, a transaction happens any time funds are spent, received, or demanded by a vendor or business.

A transaction could be any of the above:

• Money the business owner invests in the business
• The revenue from sales
• Invoices
• Costs such as salaries and travel expenses, as well as marketing and construction expenses
• Purchased assets, like vehicles, office equipment material, property or vehicles

An individual transaction could comprise multiple elements. If you are paying employees on an hourly basis such as a salesperson it is important to determine the amount of time they worked, the net wages, tax deductions as well as their net earnings. A good accounting program will be able to handle all these functions.

Ecommerce transactions may be complicated due to particular factors, such as sales taxes and timing delays caused by the separation between consumer and business.

For example, do you charge sales tax right on the day of purchase? If yes, what happens to that cash if your product is returned a month later?

Accounting for Ecommerce aims to control your processes and transactions to ensure the aforementioned issues do not impair the financial performance of your company.

Credits and debits

Each transaction is monitored by a system of debits and credits. Let's first define some key terms:

Debit is a record of money that was taken from your bank account. You'll see debits show up on your bank statement whenever you make a purchase.

Credit Record of the funds added to your account.

Assets: Property (real as well as intellectual) that is owned by an organisation.

Liabilities are obligations that a company has to meet but have yet to be fulfilled. A liability is a claim against assets that are listed on a balance account.

Equity: The sum of the assets that have been accumulated after debits were removed from them.

We can now consider how these terms contribute to what's called the main accounting equation:

    assets = liabilities + equity (Owner's or Corporation's)  

A debit is added to the left of the equation, as an asset. Credits are added on the right.As an example, if you make a sale for 500 dollars, the amount is debited, and then added to your business assets. Also, it is added to the Owner's Equity through revenue. If something gets deducted and credited, another item must also be added, as it helps to keep the balance.

This is a simplified explanation, however it provides a good understanding of what your accounting software does when you record transactions.

Cost of products sold (COGS)

The accounting for Ecommerce should pay close consideration to the costs of the goods sold. This includes all cost of selling the product, but not including things like payroll or marketing.

COGS covers all inventory costs that include purchasing, storing as well as managing the shipping. Inventory is your largest expense as an ecommerce seller If you don't have an accurate accounting picture of the cost of goods sold, your profit margin and tax-deductible earnings will be inaccurate.

Incorrect COGS makes it harder to know what to spend on marketing, which prices to determine, what quantity of inventory to order, if you should hire employees, as well as how much warehouse space you need to purchase.

Profit margins

Margins represent the actual income the business earns following the sale is completed. The way to calculate margins is this formula:

    Margin = (Revenue - - Cost of Goods) Revenue  

It's basically your net profits expressed in a percentage. If you're selling 10,000 worth of goods within a week, and your COGS for those products is $3000, your margin would be 70 percent.

Accounts receivable and accounts payable

These are terms used to describe money that is not yet changing hands, however it is planned to.

Accounts receivable includes any money that is due to arrive on your account in the bank. For example, if you mail an invoice, it will be placed in accounts receivable until the customer actually pays you.

The process works in the same as it does but reversed. When your company makes an order with a vendor who then sends you a purchase order and it is placed in accounts payable until you pay the vendor.

Bookkeeping and accounting for e-commerceWhat's the difference?

There is some overlap between bookkeeping and accounting. But in general, the difference is that bookkeepers process certain events, while accountants collect and analyze those events in order to provide a precise and useful overview of your budget.

In the event that a sport analogy aids you understand the role of bookkeepers, they are the announcer of play-by-play accountants are similar to the color or analyst. The bookkeeper records what has happened. The accountant tells you the meaning behind it.

What is an ecommerce bookkeeper do?

The bookkeeping duties focus on records, transactions and financial institutions. If you have employees your bookkeeper is responsible for payroll. The bookkeeper also handles things such as:

• Process invoices
• Receipts must be sent
• Record what comes in and what goes out of your business bank account
• Purchases of inventory records
• Reconcile your bank accounts every month
• Generate monthly financial reports
• Create year-end statements and tax documents

Accurate ecommerce bookkeeping will aid you in creating a robust and solid business plan.

What exactly does an accountant for e-commerce do?

An ecommerce accountant will do things like

• Monitor and analyse operational costs as well as business performance
• Conduct financial forecasting
• Review your financial statements, include those provided by your bookkeeper
• Perform tax planning, including the filing of tax returns
• Report on the cash flow management

The objective of an accountant is to assist e-commerce business owners make sound financial choices.

Do you have the money to pay an employee who isn't yours? Should you expand into a different country or state? What's the minimum you should be charging for your new product?

Ecommerce accounting that is at its finest can answer these types of questions.

The accounting methods used by e-commerce sellers

There are two main methods of ecommerce accounting -- the cash method and the accrual method. The accrual method is the more frequent one, and based on the size and nature of your business, could be mandated by law.

The main difference between methods is when the transaction is acknowledged.

Accounting for cash basis

In cash basis accounting, a transaction is recognized when the actual amount of money changed hands. If you make a payment on an invoice, cash basis accounting makes it an expense. If you receive an invoice from January and you pay it in March, the cash accounting records it as a charge in March.

The same principle applies to income. Suppose you make a sale that is followed by a client signing to a plan of payment which spreads their payment over four months. In cash accounting, you take this income as a monthly one each month the money comes in.

Accrual method of accounting

When accounting for accrual transactions, a transaction is deemed to be completed once the project has been completed and the invoice sent. If you make an order for a fresh paper for office in January. You then place it onto your company credit card. The office paper is delivered immediately, but you do not actually purchase it until February, after which the statements for your credit card balances are received.

When accounting for accrual it is the moment you receive the receipt. Take the receipt keep it in your file system, and record the expense. It's an expense for January, although you're not able to pay for the item until February.

The same scenario applies to accrual accounting. accrual accounting records the entire purchase price as an income at the time the sale is made, however, you will not get the entire amount until the end of four months.

Which method of accounting is best to use for companies that deal in e-commerce?

Accrual accounting can give you a clearer picture of your expenses for selling your goods every month. If you purchased paper in August, the paper you purchased was part of the cost operating your businessit was in August and not the time you pay the cost. If you make a sale in May, you made the sale in May, not in July, when your customer sends the money.

Also, it works well in conjunction with managing inventory.

If you have $30,000 worth of new inventory purchases during September. You then are able to sell it in the four months before the time of the holidays. If you use cash accounting, you could mark your whole purchase of inventory as a cost in September. With accrual accounting, you would mark it as an expense as you sell the item.

With the cash approach that you'd face a significant expense in September, as well as artificially large profit margins during October, November, and December. This is because it will appear like you don't have expenses for the sale of your products.

Accrual accounting enables you to track the cost of doing business every month, and you can see which months had the greatest profits.

Three main financial statements

If you are planning to outsource your ecommerce accounting and bookkeeping tasks, you'll need to know how to understand and comprehend your financial reports. If you're working on the work by yourself, using an ecommerce bookkeeping program to input transactions will allow you to produce three most important financial statements: income statements (also known as "profit and loss report" also known as P&L), balance sheets and cash flows.

Income statement

The income statement shows the amount of profit that was earned over an agreed-upon period like the month. The profit people mean when they refer to the phrase "bottom line." Profit is your net income. In the event that you lose money during that time period the net loss.

Balance sheet

Balance sheets report your financial assets, liabilities and equity at a particular point in time, typically at the close of a quarter, month, or even a year. It's a snapshot of your financial health.

Assets are the things you own that have significance. Accounts payable, also known as liabilities, are things you owe.

If you go back to the fundamental accounting equation that was discussed previously, you'll discover that equity is simply the sum of the liabilities and assets. Subtract liabilities from assets, then you've got what's known as the "book value," or equity, of your business.

Statement of Cash Flow

The statement of cash flows provides on how your cash is changing during the time.

Each of the three reports are easily generated by your accounting software, provided you've taken care to enter the correct financial information. If you're not able to make time for that, this is the perfect time to employ an ecommerce bookkeeper.

The most important financial metrics to use for eCommerce accounting

Taxjar published an amazing article about ecommerce accounting metrics. Be aware that accounting is not just about keeping financial records. Accounting can also inform you of the financial condition and the progress, or decrease the e-commerce company.

These are the most important accounting metrics:

Revenue

Revenue refers to your total income, even before expenses are deducted. It is relatively simple to track. However, by itself this gives the wrong picture.

Margin for contribution

The selling price is less the price to market this product. This is similar to the COGS figures from the past, but for each individual product that you sell. It does not include operating expenses.

Profit

Profit comes from the results that occur after you subtract all of costs from the revenue, including marketing and operating costs. If you have a high revenue but your profits are low, you either need to boost revenue or cut the costs.

Conversion rate for eCommerce

The percentage is how many people who come to your store who buy something.

Customer acquisition cost

In general, it is significantly less to create additional sales to your existing customers than to acquire the services of a brand new customer.

So, if your CAC is extremely high and you'd like to stop your efforts to market, there are two options:

1. Make an effort to enhance or improve your marketing
2. Begin to market more effectively to your current customers

Customer lifetime value

If you're only a new online retailer, you'll face a tough time making this decision for the first few years. But with good accounting software it will be possible to start estimating this with time.

This amount helps justification for your marketing expenditures. If, for instance, your CAC is very high but your customer lifetime value is much greater, it's well worthwhile to spend the money to get these customers.

Average order value

For e-commerce startups that are relatively new This is an even better metric to use than the life-time value. If you pay $10 to get a customer, but they spend around $25 on an average order, then that's an excellent deal as long as your other expenses aren't excessive. If you can scale that up as you reach more clients, you'll be able to do well.

Cart abandonment rate

The number of people who buy this is alarmingly high for online stores. Based on TaxJar's sources around 70% of ecommerce shoppers put products in carts but don't buy them.

The best way to reduce decreasing cart abandonment is to send abandoned cart emails, which is simple to automate using the right email platform, like EmailPoet.

If you can lower that abandonment rates of carts to 50% or 60% percentage, it will result in a sizable increase in revenue. All it takes is just a few automated messages, that's a no-brainer.

Rates for refunds and returns to customers

Do a lot of customers return products for a refund? This is a sign there's something going wrong. Be aware of it and do your best to keep it low.

Five important ecommerce accounting tasks to tackle

If you're still in the initial stage of becoming an online business owner, you need to master the accounting basics as soon as possible so you don't end up in hot water later. To be clear"hot water" can mean a lot of things, such as:

• Taxes that are not paid -such as income tax sales tax, income tax, local and state taxes
• False tax returns
• Inappropriate spending on inventory
• Employees you're not able to afford
• Withdrawing too much equity

Below are a few ways to get your online accounting process off to a great start:

1. Set up a business bank account

Ecommerce small business owners typically don't consider this as they're busy with their other business startup activities.

Business accounting is complicated when you mix private and corporate transactions. Business accounts are the ones you use to pay for your business expenses, and it's the place where you'll pay your earnings from sales.

To open a business bank account, you'll require a corporate tax ID.

2. Be prepared for your employees and contractors.

If you plan to have employees, it is necessary create procedures for withholding tax. Although you may plan to run the business by yourself for the moment it is likely that you will employ contractors on specific projects. Contractors that are paid over a certain amount per an year throughout the U.S. must be sent an income tax form, which is why you should be certain to

• You can track who you've billed and how much you've paid them
• Request a form W-9 from every contractor
• Make sure you have current addresses in your file for every person you employ

3. Use accounting software

If you plan to handle hundreds or thousands of transactions each month, then you'll require accounting software such as QuickBooks Online, Xero, or FreshBooks. Companies with less transactions may get away with using an Excel spreadsheet, however a high-transaction business won't be able to keep up by manually entering data.

Ecommerce accounting software can automate a lot of the accounting essential tasks and simplifies your life. It records, stores, and retrieves financial data and uses it to produce financial reports and statements.

4. Make sure to keep all receipts, invoices and records of payments

The Reliability Principle of Accounting states that only transactions with supporting documentation should be recorded. If you don't have records of the transaction that you don't have documentation for, it's not able to be counted as an expense or income. If you tried to claim a tax deduction for an expense you have no documentation of the amount you spent money on, that might be considered tax fraud.

Maintain receipts in physical form. or take pictures of them and save them electronically. Save all receipts and invoices in a separate email folder too, not just your general inbox.

5. Be aware of taxes and tax regulations

Tax regulations vary greatly based upon the type of company and its location. It is important to be aware of taxes on sales, import tax if you are involved in overseas transactions. Tax withholding, tax withholding for quarterly payments, as well as any other taxes specific to your state, nation, province, city, or even region.

These taxes are incorporated in the software for your accounting and financial reports. It is always recommended to speak with a tax professional to make sure you're using the proper procedures.There's many more things to discuss ecommerce tax administration. There are two major tax concerns you'll need to be aware of:

Tracking and paying sales taxes

Ecommerce sales taxes have been made extremely complicated. In fact, nearly every US states now has an online sales tax, as well as the EU also has a sales tax system.

Within the U.S., each state is charged at different rates and has different requirements for the time when sales tax is applicable.

The payment of estimated quarterly business tax

The business income is tax-free. Just like a 1099 employee E-commerce businesses earn cash before tax has been paid.

Like a 1099-employee, you need to be able to pay the quarterly tax. If you don't then the government can penalize you for being late with your tax payment.

What can you do to manage this? It is important to stay clear of getting behind in your tax obligations. The most effective method to control quarterly taxes is to set the amount you will pay from your monthly income which you can use to pay taxes estimated every quarter.

The accounting software you use can handle all this and also the tax obligations for sales. In terms of software...

What are the reasons why your online business requires accounting software

Take the time to revisit this question and be sure to understand that there are advantages to employing software for managing the accounting for your online business.

As you've observed, tax administration is becoming extremely difficult, especially sales tax and revenue through multiple channels of sales. If your online store sells products across the US or in a large variety of states, you will be unable to manage the demands of this by yourself. There is a business you must be running.

Your software will also manage the quarterly tax allotment you'll need to pay tax on income, and aid in the filing your tax year-end statements. If you're also being subject to local or state taxes, that complexity mounts to a higher degree. The best accounting software is able to meet all these requirements.

The second is that accounting software allows you to keep track of your expenses and income by generating financial statements which will let you track your margin for profit each month, and are able to see your company's equity.

Thirdly, accounting software can help to manage the payroll of contractors. If you're not looking to pay for ecommerce bookkeeping and accounting it is a must to have accounting software.

Do you need to hire bookkeepers, accountants or DIY?

If you're not using accounting software, or if you decide to purchase it, but don't want to take on the responsibility of using it, you'll need to hire a bookkeeper. However, as your company expands it will eventually be required to research the accounting firms available which are knowledgeable of the particulars of businesses that rely on e-commerce.

Many ecommerce business owners love the thought that they can run their own show, including acting as the Chief Financial Officer, and in the event that their company remains small, you might be able to go in this way. But let's define "small."

If an online retailer is making up to $100,000 or more each year in net income, that's already going become beyond the reach of the accounting system you use If you're selling your products across different states or even countries. Taxes on sales alone become too complicated.

Additionally, you must deal with shipping, returns charges, shipping, and all other issues. Most ecommerce platforms sell lower-priced products, and deal in bulk. Except for the rare one of a kind, which is a sign that you'll have many transactions.

More transactions mean more time it takes to record and track the entire process. In fact, even the most "small" eCommerce business earning just $100,000 in net profits each year, selling items priced between $5 and $20 will have a lot of transactions.

In the event that your business only sells in one region such as a state, province or even a country, the level of tax complexity will go lower. If that's the case, you might be able to get away with doing it yourself -- should you wish to take on the extra work.

Test your choice to see how it performs. You are able to alter your mind later.

Has accounting been covered

recognizes the responsibilities that every day business owners face. Inputting in transactions manually and creating accounting reports can be very tedious as well as tax planning could cause you to be overwhelmed, but accounting is a crucial aspect of managing a profitable business.