7 Steps to "Clean up the books"

As bookkeepers and accountants we don’t always walk into the perfect situation. In part because, if it were, the business owner wouldn’t call us. They would be sticking with their current bookkeeper, or just keep doing their books themselves.

***

One of our earlier clients, a small construction company which had been in business almost 20 years hired Wilson Lake to take over the books for their previous office manager, who for a variety of reasons was being let go. The owners wanted someone to keep up with the books and accounting processes, along with some cash flow management and cost accounting work. 

What we found was that there were a lot of inconsistencies in the books, which are worse than flat wrong, because if some things are right and some things are wrong, it is a lot more work to get it back in order. 

The previous Office Manager had been in their line of work for over 20 years, and had created around themselves the aura of competence, 20 years of experience after all. But they didn’t have the formal training we did. Which meant that they did the best they knew how to do, and they had been doing the wrong thing for 20 years.

As a result, things like fixed assets were inconsistently capitalized, the Accountant had filed it all correctly for tax purposes (because they had their own schedules), but that is different than book purposes. Depreciation was in the same situation. (We could do a whole blog on depreciation and why it is important to get right)

Bank reconciliations had uncleared checks from 6 years ago, leases were not capitalized or amortized properly, and shareholder loans had been hidden within the books that even the owners had forgotten about.

One employee had made a loan and in the day to day shuffle forgot that they hadn’t been paid on it in over a year! We were pretty happy to help them make that right, by handing them a check with interest, and the owners were more than happy to help make it right. 

All of this happened because the owners had trusted their in house expert, and they didn’t know things weren’t right until we pointed them out.

***

Does any of this sound familiar?

For a company starting off it may not be too hard, but things get complicated when issues date back years. Many of them unknown to the business owners. As the financial professional it is our job to answer the questions the business owner may not know to ask yet, and to help make the process as easy as possible.

Below is a checklist of areas to look at and a few tips to help you get your books cleaned up, for yourself or your client. We also have a checklist that we use at Wilson Lake available for download at the end of this blog.

Before you do anything, we do not recommend making any changes to prior year. It isn’t the perfect answer, but this is not GAAP accounting, so playing catch up January 1 is the least worst solution to a bad situation. If there are users of the financial statements who rely upon the information within, banks and investors, consult with your accountant on the best way to balance those needs. Worst case is that the previous financials need to be reissued.

Before you start, print out the previous years financials, and the current years financials. And back up your file. The first to have something to compare to when the process is complete, the second is to make sure if you mess up, it isn’t a crisis, it is an inconvenience.

  1. Does beginning retained earnings match retained earnings on the last tax return? Do you know why? If not, than there may be some adjustments made to the prior year, after the date of the last tax return. Luckily their is an audit report function in quickbooks but this needs to be investigated.
  2. Reconcile all your banking and cc accounts. Checking, savings and credit cards. This is to make sure there are no liabilities waiting, and to ensure that your vendors and employees have been paid.
    1. One thing to be cognizant of is escheatment, the simplified explanation of escheatment is that it is unclaimed property and needs to be held by the state. So, before you just declare a check to a vendor to be an error, double check your states laws, and that it really is not a double payment.
  3. Match fixed assets list to what is in the books. Confirm depreciation as well.
    1. Look for leases as well, they can be complicated and may need to be capitalized. Do your research.
  4. Confirm related party loans, this means shareholders, and employees. And make sure everyone has been paid, up to the appropriate point. Also confirm interest accruals, properly accruing interest can be a valuable tax deduction for the company.
  5. Double check for negative assets and liabilities.
  6. Run a detailed GL report. This will give you the ability to scan through every entry in every account to look for inconsistencies.
    1. Things to look for here are inappropriately applied expenses or revenue.
    2. Consistency of journal entries related to monthly items, bills, depreciation, interest, loan payments. Those types of regular entries that one would expect that may not be present.
    3. Inappropriate capitalization. Our rule of thumb is that if it improves the useful life of the asset, it gets capitalized. Otherwise it is repair and maintenance. Or fuel. But if you capitalize it, you need to depreciate it. Do you really want to depreciate the $10 hardware purchase over 5 years?
  7. Finally, rerun the P&L, Balance sheet and statement of cash flows.

A final note. Is that there will be a lot that you will find that may not be perfect. I tell my team we need 90-95% accuracy. It is important to weigh the cost of the time to correct a mistake compared with the benefit of the correction. A lot of broken out costs get lumped together on the taxes. So, don’t waste energy getting too detailed or chasing small dollar items when there won’t be much value in it down the line.

Best of luck.

One Reply to “7 Steps to "Clean up the books"”

Leave a Reply

Your email address will not be published. Required fields are marked *