Payroll and bookkeeping: How are they connected?

Bookkeeping fundamentals to be familiar with: How do services differ from payroll?

If your business’s finances are a house, bookkeeping is the foundation. Bookkeeping is the ongoing process of recording and organizing all of the financial transactions that affect your company – from buying a pack of pencils to closing your biggest client. Every sale you make, every bill you pay, and every dollar you earn and spend is a financial transaction that must be recorded using bookkeeping.

The main goal of bookkeeping is to create a clear, accurate, and complete record of your company’s financial activity. This record is used to generate key reports – such as the general ledger, income statement, balance sheet, and more – that give you and investors invaluable insights into your business’s financial health.

In short, the goal of bookkeeping is to:

• Record income and expenses
• Send invoices to customers
• Track customer payments
• Manage accounts payable (bills you owe to vendors)
• Reconcile bank statements
• Prepare financial statements

Key bookkeeper responsibilities

A bookkeeper’s job is to maintain the general ledger, which is the master document that lists all of your business’s financial transactions, and ensure your books are balanced and accurate. Specifically, their responsibilities include:

• Data entry: Recording every financial transaction into accounting software.
• Accounts receivable: Tracking money that customers owe to you and ensuring invoices get paid.
• Accounts payable: Managing the money you owe to others, like suppliers, and ensuring bills are paid on time.
• Bank reconciliation: This is a critical task. The bookkeeper compares your internal financial records against your monthly bank statement. They ensure every transaction matches, catching any errors or missing information.
• Financial reporting: Generating basic reports, like income statements and balance sheets, from collected financial data.

Payroll management tasks that need to be done

Running payroll is a critical, recurring duty for any small business with any number of employees, from 1 to 100. But it’s more than just handing out checks. It’s a detailed process governed by strict payroll laws, and getting it wrong can lead to penalties & fines, upset employees, and even potential legal consequences. Core payroll tasks include:

• Calculating pay: Accurately calculating employee gross pay based on hours, salary, or commissions.
• Withholding taxes: Withholding the correct amounts of federal and state income tax, Social Security tax, and Medicare tax (FICA).
• Pay unemployment tax: Employers are responsible for paying federal unemployment tax (FUTA) on employee wages, so these must be set aside each pay period. You may also be required to pay state unemployment tax (SUTA) depending on the state that the employee works in.
• Withholding deductions: Withholding other deductions, like health insurance premiums or retirement contributions, from the employee’s paycheck. These deductions are used in calculating the employee’s final net pay.
• Filing payroll tax returns: Employers are responsible for filing Form 941, Employer’s Quarterly Federal Tax Return, as well as Form 940, Employer’s Annual Federal Tax Return.
• Providing year-end documentation: Employers must provide Form W-2 to every employee, and Form 1099 to every contractor who was paid $600 or more during the year (this threshold is scheduled to go up to $2,000 for the 2026 tax year).

Bookkeeping vs. payroll: Key differences explained

Bookkeeping and payroll might sound similar, but they handle distinctly different tasks. Bookkeeping has a broad, comprehensive scope, recording and organizing all financial transactions across your entire business. This includes income, expenses, invoices, bill payments, loan activity and more. Its primary goal is to provide a complete and accurate picture of your company’s overall financial health and performance.

Payroll, on the other hand, has a specific focus. It’s dedicated exclusively to the process of paying your employees. This involves calculating wages, withholding taxes and deductions, ensuring net pay is delivered on time, and managing payroll tax withholdings and payments to government agencies. Its primary goal is paying employees, complying with employment and tax laws, and ensuring employee satisfaction.

Selecting the right bookkeeping service provider

Now that we understand the difference between bookkeeping and payroll, let’s explore how to choose the best bookkeeping service provider for your needs.

1. Determine your preferred accounting methodology

You have two main bookkeeping methods to choose from cash-based and accrual-based accounting. Here are the differences between the two:

• Cash basis: You record income when you receive cash and expenses when you pay them. This method is simpler and used by many micro businesses with a handful team members.
• Accrual basis: You record income when you earn it (e.g., when you invoice a client) and expenses when you incur them (e.g., when you receive a bill), regardless of when cash moves. This gives a more accurate picture of profitability.

2. Prioritize software integration capabilities

Software integration is, in our opinion, non-negotiable. When your payroll software can integrate with your bookkeeping software, you’ll save significant time over manual data entry, and reduce the risk of errors in the process.

3. Evaluate additional service offerings

If you need more than just basic bookkeeping, look for providers offering add-ons or bundled services. You might find a provider that offers bookkeeping as well as financial statement preparation, advisory services, cash flow analysis, tax preparation, and more, all under one roof.

4. Ensure regular financial record maintenance

Ask potential bookkeepers how often they’ll update your books. Should it be weekly? Monthly? Regular, accurate data allows you to make good business decisions, so it’s best to avoid providers who only want to touch your books once a year at tax time.

5. Define clear communication protocols

How will you communicate? How often will you have meetings? Will you get monthly financial reports with explanations? Choose a bookkeeper who is responsive, explains financial topics in plain English, and who you feel comfortable asking questions to.