As a business owner, you want to keep your business running well and operating in the black. That means staying on top of your company’s bookkeeping efforts at all times. But even the most well-meaning business owners can make mistakes, resulting in inaccurate books.
Unfortunately, inaccurate bookkeeping poses several risks for you and your business. Here’s what you need to know about the legal risks of bad bookkeeping, as well as how you can reduce the chances of experiencing these issues in the first place.
You Could Face Compliance Violations
Every business, no matter what industry it’s in, needs to be in full compliance with all state, federal, and local regulations. Typically, this means paying your employees on time every pay period, filing your taxes correctly and on time, maintaining accurate business records, and other similar tasks.
However, if your bookkeeping is inaccurate, you risk violating those regulations. The punishment for doing so can range from a written warning from the appropriate organization or government agency to costly fines or even criminal charges.
For example, the IRS is cracking down on certain issues like claims for the Employee Retention Credit, which became available during the height of the pandemic. Some business owners filed for the credit without being eligible for it, while others filed for the credit knowing that they were committing fraud. Either way, this puts businesses in violation of compliance standards and exposes them to possible tax evasion charges.
You’re at a Higher Risk of Audits and IRS Investigations
What’s more, the IRS expects businesses to maintain accurate books at all times. Even if your errors are unintentional, they can lead to errors on your tax documents. Those errors may cause the IRS to audit your business.
Audits are incredibly time-consuming for businesses. They require you to submit documentation about your organization’s finances — including taxes, payroll, and expense information — to the IRS. You then have to wait for the IRS to review all of that documentation and identify any discrepancies between your actual finances and your submitted tax documents.
If they do find discrepancies, you may be fined and could have to pay interest on any amount of taxes that you still owe after the audit is complete, which may put strain on your business’s budget.
You Could Have Poor Cash Flow Leading to an Increased Risk of Default
Poor or inaccurate bookkeeping can lead to cash flow issues, making it harder for your business to stay on top of its bills and make timely payments to creditors and lenders. If you don’t have a clear understanding of where your money is going each month, how much you’re spending, and how much you’re bringing in, you can’t create an accurate or detailed budget.
Without a clear budget, staying on top of payments can be difficult. Further, if you continue missing payments, you may default on your loans. And if your business defaults, lenders and creditors can legally pursue your business’s assets to settle your outstanding debt.
You Could End Up in Breach of Contract
Inaccurate bookkeeping also increases your risk of submitting incorrect payroll documents and not living up to your end of any contracts you enter into. And though those inaccurate records can lead to criminal penalties, they can also cause strife between your business and your trusted partners. When you can’t satisfy the terms of the contracts your business has signed, you’re considered to be in breach of contract.
Being in breach of contract does have legal repercussions. The businesses and individuals whose contracts you’re unable to fulfill may have the right to sue your business for damages.
You May Damage Your Business’s Reputation
Those same cash flow and contractual issues can also damage your business’s reputation. When you’re struggling to pay your bills or you’re in breach of contract, creditors and vendors may be less willing to work with you or may require upfront payment when they normally wouldn’t.
Additionally, employees may be less confident in your company’s financial positions and may look for new jobs, hurting your employee retention rates. And investors may be less willing to invest in your company, slowing or halting your growth.
This can ultimately damage your business’s ability to operate the way you normally would. Worse, this can lead to the temptation to falsify your business’s documents, which could result in additional legal trouble.
How To Avoid These Legal Issues
Now that you understand the potential legal risks of inaccurate bookkeeping, it’s time to start thinking about what you can do to reduce your risk of experiencing these difficulties. Ultimately, it all comes down to maintaining accurate books and financial records. Here are a few tips to help you avoid these common pitfalls:
- Switch from paper to electronic records: Relying on paper records puts you at risk of losing those sensitive documents. Instead, consider switching from paper to electronic documents and recordkeeping methods. This will make it easier to search for possible errors and can streamline your bookkeeping efforts.
- Review your books often: It’s easier to catch errors and resolve them if you catch them sooner rather than later. Get in the habit of reviewing your books regularly. Depending on the scope of your business, you may want to do this weekly, monthly, or quarterly.
- Keep very detailed records: When it comes to bookkeeping, more information is always better than less. Do what you can to improve the detail of the records you keep. Categorize any invoices you receive, store bank statements from each month in a safe place, keep track of your personnel documents, and maintain receipts for all business expenses.
Conclusion
Inaccurate bookkeeping can expose your business to a host of legal risks. But as long as you stay on top of your business’s accounts and records, you’ll dramatically reduce the risk of experiencing any significant legal issues.
