There are now over two million users of QuickBooks and I’m sure that Rent-To-Own business owners/managers are some of them. It’s a great accounting software program, but a source of frustration can be the dreaded “Black Hole”. What is this “Black Hole”, you may ask? There are times when you are need to fix a mistake or record an item such as a refund, bank charge, voided check, etc. In these cases, you have to tell the computer where to record the transactions. If you do not know how to communicate this information to the computer, you may get a message that says, “Do you want the program to balance this transaction for you?” Naturally, you say, “By all means” and go on your merry way.

Ouch! What you have just done is to allow the computer to record an amount into an account called “Opening Balance Equity”. I refer to it as a “Black Hole in Space” because, unless you reclassify the amount and record it to it’s proper account, it will stay there forever and your books will not be complete or accurate. I will never forget the time a new client gave me a QuickBooks floppy disk that supposedly had his latest financial statement on it. The client’s business was very small. When I reviewed his financial statement I noticed several hundred thousand dollars posted to his “Opening Balance Equity” account. His response to my obvious question was, “Hey, I just said “yes” when the computer program asked me if I wanted my books to balance”. Beware of this trap!

As you may already know, each year all the Revenue and Expense accounts found on your Profit & Loss Statement have to be “closed out” so that you can begin with a clean slate for the new year’s activity. QuickBooks does this for you. The program is date sensitive and knows when your old year ends and the new year begins. You don’t have to do anything. Right? Wrong! Let’s see why.

Assume your RTO business is a sole proprietorship and you have an Owner’s Draw account in the Equity section of your Balance Sheet. Let’s say you have taken a draw of $50,000 during the year. If you don’t do something with that account balance, what is going to happen? You will be recording another year’s draw amount on top the previous year.

Uh oh! It’s going to look like you have been taking a lot of money out of the business in one year. This might be hard to explain to your local banker or, perhaps your spouse. So, what you must do is close the Draw account into an account called Owner’s Equity. Owner’s Equity is an account that accumulates all the prior year’s Net Profit or Losses, Owner’s Draws and Owner’s Capital Contributions.

Normally, your accounting software will automatically close the year’s Net Profit or Loss into an accumulated equity account. However, what it can’t do, unless you tell it, is distribute those Net Profit or Losses into other accounts. For instance, if you are a Rent to Own Partnership, the Net Profit or Loss for the year must be distributed into the Partner’s Capital accounts, in most cases, according to the partner’s percentage of ownership.

What's an amateur accountant to do?
How do you avoid these traps? There are two choices: either learn how to write adjusting journal entries yourself or pay someone else who knows how to write them.

The reason I caution QuickBooks owners about these traps, is because QuickBooks claims no accounting knowledge is needed to make their system work. Those that believe this claim may assume these necessary transactions are being done for them.

My next article is titled “Understanding the Bottom Line”. In that article, I will discuss how Net Profit or Loss relates to the Balance Sheet, and the difference between Owner’s Draw and Net Profit, and why one is taxable and the other is not.