How to manage bookkeeping as a small business

Introduction

Managing bookkeeping as a small business is a crucial skill to master. To stay compliant, you need well-organised books to comply with HMRC rules and must fill out tax documents like Self-Assessment or company tax returns. As a small business, you can choose to manually record all your company’s financial documents or use accounting software that automates this responsibility on your behalf. Good bookkeeping practice includes keeping detailed records, choosing the right accounting process, and taking advantage of accounting software if necessary. In this guide, you'll find everything you need to know about bookkeeping for a small business, including what it is, its specific value to small business owners, and a list of guidelines you can follow to find your bookkeeping solutions.

What is bookkeeping?

Every business needs a bookkeeper – someone who looks after a company’s financial records and ensures all information and data are regulated in accordance with HMRC rules.

Bookkeeping is slightly different from accounting. While bookkeepers keep track of necessary financial records in line with official guidance, accountants analyse financial data to find strategic ways to make businesses more economically streamlined and profitable.

Bookkeeping typically involves:

• Processing invoices
• Matching bank statements to income and payment records
• Preparing VAT returns
• Checking accounts are accurate and up to date
• Preparing wages and managing claims for expenses
• Preparing annual accounts
• Using accounting systems
• Handling sensitive commercial information

Bookkeeping is a crucial process that every business must follow. But why should smaller businesses pay more attention?

Why bookkeeping matters for small businesses

If you’re just starting out running a small business, you may not have the option to hire a fully trained bookkeeper right away to manage your company’s finances. Therefore, the responsibility lies with you to do all your own financial reporting.

Businesses need to keep good financial records because:

• Staying compliant with HMRC's record-keeping rules is essential.
• Organising and recording key financial information means you can process personal and company tax returns, partnership tax returns, VAT returns, and claim expenses, reliefs, and allowances.
• Keeping track of the financial state of your small business means you can implement accounting strategies to reduce costs and increase profit margins.
• The rules for good bookkeeping are relatively uniform for all types of small businesses. Read on to find what you need to keep track of, what pitfalls you need to avoid, and the most efficient way to bookkeep below.

Self-employed vs limited company bookkeeping

There are two main types of businesses for which HMRC has specific bookkeeping rules: self-employed businesses and limited companies.

Self-employed records

If you’re self-employed, meaning you operate as a sole trader or in a business partnership, HMRC requires that you keep specific records of:

• All sales and income
• All business expenses
• VAT records (if you are registered for VAT)
• PAYE records if you have employees
• Personal income records
• Grants (if applicable)

You need to keep these records to complete Self Assessment tax returns or to provide them to HMRC if they require proof.

Self-employed penalties

If your books are ill-kept and you fail to accurately complete your tax return, you face paying a penalty. This is calculated as a percentage of the tax you owe based on the reasonableness of the mistake.

Limited company records

If you run a limited company, you need to keep records of:

• All money received and spent by the company
• Assets owned
• Debts
• Stock and stocktaking
• All goods bought and sold (and who bought them)

You use these records to complete company tax returns. You also need to keep records of items such as shareholders, the outcomes of shareholder votes, and transactions involving the purchase of shares in the company.

Limited company penalties

If you fail to correctly manage your books and provide HMRC with an inaccurate Company Tax return, you may receive a financial penalty of up to £3,000.

Best practices for small business bookkeeping

If you’re feeling overwhelmed with bookkeeping as a new business owner, follow these steps to guide you through the process and alleviate the stress of bookkeeping.

Keep detailed financial records

If you’re just starting out, it can be difficult to know exactly what you need to track. Fortunately, HMRC keep a comprehensive guide for keeping records for your tax return if you want a deep dive into small business record keeping.

With efficiency in mind, here are some key records (with examples) you may need to keep as a small business owner/bookkeeper.

• Sales records, such as card machine payments
• Business receipts, such as till receipts
• Invoices you have charged or received from selling or purchasing goods and services
• Bank statements or paying-in slips from your personal or business bank accounts, depending on which you use for your business
• Expenses, such as utility bills, travel costs, or broadband costs
• Asset records, such as purchasing machinery, computers, or office space for your business
• Money from private sources used in your business, evidenced through bank statements, loan agreements, or records of repayment
• Stock and work in progress, carried out through a year-end stocktake showing quantities, cost per unit, and total cost of stock
• Employee payments, including salaries, pensions, benefits, and bonuses

Whether you own a store, work freelance, or are part of a partnership, if you keep track of everything on the list above as it applies to you and your business, you'll be well-prepared for any future dealings with HMRC.

Choose a bookkeeping method

Just as it’s important to know what records to keep, it’s vital to adhere to one of the two main types of bookkeeping procedures: accrual accounting and cash basis accounting.

Accrual accounting

Accrual accounting is a bookkeeping method that tracks revenue as and when it’s earned. This means that, if you were to complete a bricklaying job on a specific date, then this would be the date that you record income for the work completed.

Cash basis accounting

Cash basis accounting, on the other hand, keeps track of revenue based on when payment is actually received. So rather than recording your income based on the completion of your bricklaying project, you would instead record income based on when your client paid you for the project.

Accounting methods comparison

Below is a table showing the pros, cons, and suitability of accrual vs. cash basis accounting for specific business types.

Produce financial reports

A core responsibility of bookkeeping is maintaining accurate records of financial information to produce both internal and statutory reports. Types of reports depend on their frequency, which are typically monthly, quarterly, and annually.

Monthly reports

Monthly reports are helpful for keeping a close eye on your business’ financial progress. Used for internal analysis, they come in the forms of income statements and cash flow statements. Monthly reports offer:

• Real-time insight and visibility regarding income, spending, cash flow, and financial forecasts
• Reflexive financial diagnosis to spot financial weak spots early and before they become a problem

Quarterly reports

Quarterly reports are recommended as a form of best practice for businesses. They are primarily for internal use, with key benefits including:

• Monitoring trends to adjust strategies
• Providing investors, lenders, and other stakeholders with key insights into seasonal business performance
• Identifies cash flow problems and supports tax planning

Annual reports

Annual reports are the only form of statutory reporting your business needs to conduct as per HMRC rules. As a legal requirement, you must:

• File accounts with Companies House if you own a limited business, or submit tax returns to HMRC
• Prepare a profit and loss account, balance sheet, and notes
• Annual reporting ensures compliance for HMRC while also serving the internal function of snapshotting financial performance over the whole year

With financial reporting, you can even go as frequently as weekly or biweekly, but this would require significant admin to successfully perform while offering minimal benefit to your business needs, especially as a small business.

Select an accounting software (if you need one)

As your business begins to grow, your financial data may become complex for you to handle alone. At this stage, it may be wise to invest in accounting software. This software integrates into your business' finances, helping you stay on top of key records, produce reports, and fill in tax returns.

You should use accounting software if:

• You start issuing invoices, handle expenses regularly, or start receiving more complex transactions
• You are VAT registered or expect to be soon
• You own or run a company or a limited liability partnership (LLP)

Adopting accounting software straight away can reduce the chance of human error and automate time-consuming tasks. However, if you’re still in the early stages of running a business and managing financial admin is doable, you may prefer to avoid these extra costs.

Make sure your bookkeeping complies with HMRC

The primary reason for good bookkeeping conduct is to comply with HMRC rules. If you don’t, you risk paying a harsh penalty. Let’s look at some common bookkeeping obligations below.

The record-keeping rules

HMRC requires you to keep records stored for a certain amount of time. How long you keep them depends on the type of business you own.

If you’re self-employed, HMRC requires you to keep records for at least 5 years after the 31 January Self Assessment tax return deadline. If your records are destroyed or lost, you need to estimate your finances for HMRC or use provisional figures, and let HMRC know.

If you own a limited company, you need to keep records for 6 years from the end of the last company financial year if:

• They show transactions that cover more than one of the company’s accounting periods
• The company has bought something that is expected to last longer than 6 years – an asset like machinery or equipment
• You sent your Company Tax Return late
• HMRC has started a compliance check on your Company Tax Return

If records are lost or destroyed, you must do your best to recreate them, tell the Corporation Tax office straight away, and include this information on your next Company Tax Return.

VAT thresholds and requirements

You only need to sign up for VAT if your total taxable income exceeds the VAT registration threshold, which is currently set at £90,000. If you meet this requirement, then you must:

• Register your business for VAT
• Keep VAT records for at least 6 years
• Open a VAT account
• Submit VAT returns

When submitting VAT returns, you must do so using Making Tax Digital (MTD) software as per HMRC regulations, which we explore below.

When Making Tax Digital (MTD) applies to small businesses

Making Tax Digital (MTD) is a new process instituted by the government to move all accountancy and bookkeeping processes online, streamlining finances to make record keeping easier and lowering the burden of admin. It is being introduced in stages.

At the time of writing, MTD is only compulsory for VAT. However, from April 2026, MTD for Income Tax will be applicable to sole traders and landlords with a gross income of over £50,000. They will have to use MTD-compatible accountancy software. You can find MTD-compatible software using HMRC’s list.