A solid ecommerce accounting system can keep finances and operations manageable for any small business owner. These tips on accounting for an ecommerce business can help you run your business more smoothly.
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Ecommerce accounting vocabulary
If this is your first time handling business accounting, you might feel overwhelmed. Fortunately, the basics of accounting for ecommerce businesses are relatively simple. Here are the terms you need to know and what each means for your business.
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Term |
Definition |
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Bookkeeping |
Bookkeeping is the process of recording financial data, |
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Accounting |
Accounting is the process of interpreting and analyzing financial data. |
|
Inventory management: |
Inventory is the merchandise you have available to sell. Inventory management is the system you use to keep track of your inventory, from when you buy it from a supplier to when it is delivered to a customer. |
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Orders |
Orders may refer to the purchases you place with suppliers or the orders customers place with you. |
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Invoices |
Invoices are bills for money due. |
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Receipts |
Receipts are proof of payment. |
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Balance sheet |
A balance sheet is a snapshot of your company’s assets and liabilities. It shows the company’s financial position at a given time. |
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Assets |
Assets include everything the business owns, such as cash, inventory and outstanding invoices. |
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Liabilities |
Liabilities include everything the business owes, such as credit card debt, startup loans and mortgage payments for your place of business. |
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Cash flow statement |
Cash flow is the amount of money that goes into and out of your ecommerce store. A cash flow statement accounts for that money and can help inform business decisions. It lists every dollar that comes in, such as from sales, and every dollar that goes out, such as for inventory. |
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Income statement |
An income statement focuses solely on the money that comes into the business. Operating income is money made directly from regular business activities such as online sales. By contrast, non-operating income is money that comes from other sources, such as dividends from investments the company holds. |
How business insurance can help with ecommerce accounting
Business insurance plays a vital role in a business’ financial stability. Coverage such as general liability insurance and commercial property insurance can help safeguard against unexpected financial losses. Accurate accounting ensures that potential insurance recoveries or liabilities are correctly reported, supporting a small business’s financial health.
In particular, business income insurance, which covers lost income during covered disruptions (such as fires or water damage), can be essential for maintaining financial stability — especially if your business has to close down temporarily after a catastrophe. Accounting can help project potential losses. And ecommerce insurance can help mitigate business risks and bounce back quickly.
Choose the right accounting for ecommerce business method
Selecting the appropriate accounting method is crucial for effectively managing your ecommerce finances. The two primary methods — cash basis and accrual basis — each has distinct advantages and disadvantages.
For most small ecommerce businesses, cash basis accounting is more straightforward and sufficient. However, accrual accounting may be necessary for a more accurate financial picture as your business grows. Consult with an accountant to choose the best method for your business.
1. Cash basis accounting
Cash basis accounting records income and expenses only when cash is received or paid. It’s a straightforward method often used by small businesses.
Advantages and disadvantages:
- Simplicity: Easy to implement and ideal for new or small businesses
- Cash flow tracking: Provides a clear picture of actual cash flow, aiding in daily management.
- Tax efficiency: You pay taxes only on received income, which is beneficial if you have outstanding invoices.
- Limited financial insight: Does not reflect receivables or payables, potentially missing a full financial view.
- Less suitable for growth: This method may fall short as business complexity increases.
2. Accrual method accounting
Accrual method accounting records income when earned and expenses when incurred, regardless of cash flow. This method offers a more detailed financial picture.
Advantages and disadvantages:
- Comprehensive view: Accurately reflects all transactions, aiding long-term financial planning.
- Profitability insights: Matches income with related expenses, providing a clearer long-term picture of profitability.
- Complexity: More challenging to manage without accounting expertise.
- Cash flow management challenges: You might show profitability without enough cash on hand, complicating expense management.
4 tax tips for ecommerce accounting
Navigating taxes can be daunting for new ecommerce sellers, but getting it right is crucial for your online store’s success. We recommend seeking advice from tax professionals to ensure you’re set up for success.
Below, we break down the key areas you need to focus on, from sales tax obligations to potential deductions.
1. Sales tax collection
Sales tax is one of the most important aspects of ecommerce taxes. Whether or not you need to collect sales tax depends on various factors, including where your business is located and where your customers are based.
- Nexus and sales tax obligations: Your responsibility to collect sales tax depends on whether you have sales tax nexus in a state. Nexus can be established through physical or economic presence, which determines your obligation to collect sales tax in that state.
- Marketplace facilitators: If you sell on platforms like Amazon or eBay, these marketplace facilitators might handle sales tax collection for you. However, if you sell directly through your website, you must manage this yourself.
- Sales tax registration: Once nexus is established, you must register for a sales tax permit and ensure you collect and remit the appropriate sales tax to the state.
2. Income tax considerations
In addition to sales tax, ecommerce entrepreneurs must also navigate income tax obligations.
- Self-employment taxes: If you’re self-employed, you’ll need to pay self-employment taxes, which cover Social Security and Medicare. It’s important to set aside a portion of your income to cover these taxes.
- Estimated taxes: Many ecommerce owners must pay estimated taxes quarterly. If you expect to owe $1,000 or more when you file, paying estimated taxes throughout the year is crucial.
- Record-keeping: Maintaining accurate records of your income, expenses, and receipts is essential. Keeping separate business and personal accounts helps prevent any mix-ups and ensures you’re ready for tax time.
3. State and local taxes
Beyond federal taxes, ecommerce businesses may also be subject to state and local taxes. Understanding these obligations is vital for staying compliant.
- State income taxes: You may need to pay state income taxes depending on your location. Each state has its own rules, so it’s important to know your state’s specific requirements.
- Local taxes: Some local jurisdictions impose additional taxes, such as city or county sales taxes. Check the tax requirements for the areas where your customers are located.
4. Tax deductions and tax write-offs for an ecommerce business
Taking advantage of available tax deductions can significantly reduce your taxable income. These are some common deductions that ecommerce businesses can claim.
- Cost of goods sold (COGS): The cost of producing or purchasing your products is deductible as COGS. This includes expenses like raw materials, manufacturing and shipping fees. COGS is typically one of the most significant deductions for ecommerce businesses.
- Home office deduction: If you run your business from home, you may be eligible for a home office deduction, allowing you to deduct a portion of your home-related expenses.
- Shipping and packaging costs: Deduct costs associated with shipping products to customers, such as postage and packaging materials.
- Advertising and marketing expenses: You can write off money spent on promoting your products, including online ads and social media campaigns.
- Technology and software costs: Expenses for ecommerce platforms, website hosting and other necessary software tools are deductible.
- Professional services: Fees for accountants, tax professionals and legal advisors related to your business are also deductible.
By understanding and managing these tax responsibilities, you can ensure your ecommerce business remains compliant and take full advantage of potential tax savings.
How to choose ecommerce accounting software
Selecting the right accounting software is essential for managing your ecommerce business efficiently. The best software should simplify ecommerce bookkeeping and integrate seamlessly with your ecommerce platform.
Today, most accounting solutions can be linked to your business bank account, track various sales channels in one place, help with sales forecasting and generate financial reports on demand.
Some popular ecommerce accounting software options include:
Key features to look for include:
- Integration: Ensure the software integrates with your ecommerce platform (e.g., Shopify, WooCommerce) for seamless data synchronization.
- Inventory management: Look for real-time software tracking inventory levels, costs, and orders.
- Automated tax calculations: This feature helps with sales tax compliance and reduces manual effort.
- Scalability: Choose a solution that can grow with your online business, offering advanced features as needed.
- Ease of use: The software should be intuitive and have strong customer support and resources.
- Competitive pricing. You don’t need every little feature when you’re just starting out. Look for something within your budget but powerful enough to handle your daily accounting tasks.
How NEXT can help safeguard your accounting for ecommerce
NEXT helps retailers get just the right ecommerce insurance coverage they need. We make business insurance easy with 24/7 access to your policy via web and app to help you manage your coverage.
Start a quote, customize your options and access your certificate of insurance online — all in about 10 minutes.
About the author
Kim Mercado is a content editor at NEXT. She writes and edits content for small business owners, and enjoys helping entrepreneurs solve their business challenges and learn about insurance. Kim has contributed to Salesforce, Samsara and Google.
You can find Kim trying new recipes and cheering the 49ers.
