3 Shopify Accounting Methods Explained: Which one is right for YOUR business?

All right guys, so let's jump into a discussion about Shopify accounting, specifically in QuickBooks. So the first thing I want to talk about is this trade-off between the amount of information you get and how transparent and accurate it is, and the amount of time, effort, and skill it takes to get that level of accuracy. And the reason why I want to have that discussion is because I'm going to actually present three different methods today on how you can handle Shopify accounting, each one a little bit more complex than the one before, and there's, I feel like, an appropriate time and place for each one of these.

1:15

So what is the appropriate time and place for each one of these? So the first method, which we're going to call the cash deposit method, is basically appropriate for companies that are doing less than about $250,000 a year in revenue. And the reason why I feel like that's true is because accounting can be kind of time consuming, it can definitely have a learning curve associated with it, and if you're doing less than $250,000 a year in revenue then you're probably relatively new, and you are really trying to focus on building demand for your product and figuring out how to source your product and figuring out how to develop new products, and that really does need to be the focus of what you're doing.

So you need to have accounting because your tax accountant is going to require accounting from you, and you do need to have some idea of how your business is doing. But as far as spending a whole bunch of time to get really good information, I just feel like your time is better spent elsewhere, and you don't necessarily have the budget at this point to outsource it either. So basically I recommend a DIY approach, and I recommend a simple, straightforward, non-time consuming DIY approach that still achieves the objective, which is exactly what the first method is designed to do.

2:16

The second method, which I'm going to call Shopify details, is a little bit more time consuming, not significantly more, but I feel like it's appropriate for businesses that are doing about $250,000 to about a million dollars a year in revenue.

And last of all, the last method, which we're going to call Shopify accounting guru, is for companies that are doing over a million dollars a year in revenue. And the reason why it's appropriate for that level of business is because if you're doing over a million dollars in your revenue, you've kind of passed the point of just trying to figure out how to drive demand, and at this point now you're trying to figure out how to run a profitable business while you drive demand. And ultimately that comes down to answering a lot of key financial questions, therefore the financial data that you're relying on needs to be as accurate as it can possibly be.

2:57 Why ecommerce accounting is different

So the way this really boils down is in this concept here. One of the primary ways that ecommerce accounting, specifically Shopify accounting, differs from other types of businesses trying to do their accounting, is that in ecommerce businesses all of your activity is passing through your channels, and all you're seeing hit your bank accounts is the actual summary deposits from the activities of those channels. And so in order to get really good information you have to be able to go into the channels themselves to actually see what's going on.

As opposed to a business like mine, a service-based business doing accounting for ecommerce businesses, the majority of my activity is passing through my bank accounts and credit cards. If I basically code my bank and credit card transactions, reconciling accounts, I'm pretty much there.

Now, you do need to be doing that process. You do need to be reconciling your bank accounts, reconciling your credit cards, coding the transactions. And if you're not sure how to do that, that's definitely part of doing the overall accounting for Shopify in general and all other pieces of Shopify accounting. However, that's not the focus of this video. We do have a video on syncing your bank accounts, managing your bank account feeds, and reconciling your accounts, which is really like the three primary activities you need to be doing to do your Shopify accounting, which we're going to link here to this video. So this is kind of supplemental to that. If you are just completely new to the entire process, you have absolutely no idea what you're doing at all, watch those three videos as well as this one and you should be good to go.

4:25

So let's say your typical Shopify company that's got a couple payment processors hooked up to your channels, in this case Shopify Pay, PayPal, and maybe another one like Affirm, and you have all these deposits that are coming from those payment processors and depositing into your bank account. So all you see hitting your bank account is these summary deposits, but really what's happening on your channel is all of this activity instead.

So you have all of your Shopify sales, discounts, refunds, shipping income, maybe that you're collecting sales tax, chargebacks and refunds, payment processor fees, et cetera, giving you a net deposit. Now the net deposit of all this activity, with the exception of a couple timing differences, will equal, should equal, all of the net deposits coming in from each of these individual payment processors. But the amount of effort you're going to, to basically chase the cash all the way through, is really how these three methods differ from each other.

5:23

All right, so another thing I want to just point out is the overall structure of Shopify and the way that it interacts with the payment processors into your bank account, because this will help you understand what you're trying to accomplish from an accounting perspective. So Shopify is your channel, then all of the activity from the channel is actually kind of segregating and going through whichever payment processors you're utilizing, and all those payment processors are then settling into your bank accounts. So this is like a roadmap. You may not have this many payment processors, you may only have one, you may only have a couple, but basically this is what's happening, and this is the heart of what we're going to be getting to today.

5:58 How much the method changes your numbers

All right, so the first method, which we're going to call the cash deposit method. So, oh wait. Before we go into that, one thing I wanted to talk about was this idea of how much does it matter whether I use this method or this method.

As I was kind of putting this together, the accountant in me really kind of wanted to know, how do my financials appear different using one method or another? So this is basically what I did. I went through some of our clients and I just kind of looked at a small client, I looked through a big client, and I just kind of coagulated some data, I didn't know if that's the right word or not, put together some data to kind of show.

So here's an example of a small client doing about eleven thousand dollars a month in revenue. Using the first method, their sales was about eleven thousand. The details method, twelve thousand. The guru method, with a high degree of accuracy, 12.8. Basically we had about a $1,700 difference from one end to the other, which represented about a 13% difference.

7:04

But with a large client, the differences between became much greater. So we were looking at almost a six hundred thousand. So this is a client that does anywhere from two point five million to four point five, five million dollars a month, and this is in one given month. The difference in one method of accounting to the other methods of accounting was basically $600,000 difference, representing about a 17% difference.

So there's a couple of reasons for that. As your business becomes bigger, a lot of the complexities that change up some of these things, like things just become more complex as you get bigger. Also because the dollar amount that you're dealing with is bigger. As your sales volume grows, the percentage grows and grows and grows too. So a 13% difference for a small client only represents seventeen hundred dollars, but a seventeen percent difference for a four point five million dollar client represents a six hundred thousand dollar per month difference, which is why I'm telling you, if you are a larger client you wanna err towards the more complex methods that give you much better data.

7:59 Method 1: the cash deposit method

All right, so the cash deposit method. So when we think about the channels, we think about what's happening on the channel level, what's happening at the payment processor level, what we're actually seeing in our bank accounts, therefore what QuickBooks is showing as coming into the bank feeds.

So these two things, the gross sales and the discounts and markdowns, this is happening at the channel level. So Shopify is recording this. Then refunds and chargebacks, payment processor fees, this happens at the payment processor level. So whether you're using Shopify Pay or whether you're using PayPal, all the gross sales, the discounts, get divided up into whatever payment processor it's going through, and then at the payment processor level that's where these other things are recorded. Then we see those payment processors settle into our actual bank accounts.

8:59

And then we have a couple things that affect the deposit amount that we come in, but are not necessarily sales related. So for example, sales tax. You collect at the time of sale but it's not actually sales, it's not income to you, it's a liability that you're tracking that you then remit to the state. Gift card liability has to do with deferred revenue. So these are examples of things that are going to be reflected in your deposits but are not necessarily sales related.

So this first method, we're basically going to disregard almost all of that and we're focused just on bank deposits.

So I want to just give you a quick pro and con of this particular method. So one of the pros is that it's fast and easy, doesn't require any kind of special skill. Net income is still correct in the long run, so this is why I recommend this method, because it does still give you a tax appropriate result. But there's going to be some timing issues and you're definitely going to have skewed margins.

10:05

Well, let's get into the cons. So some of the cons are, very small amount of detail. Product margins are skewed. So anytime you're looking at income and then cost of goods sold, and you're trying to track your gross profit margin, if your sales number is not correct then your product margins are going to be skewed. So sales will virtually always be understated using this methodology. And also there may be some liabilities missed, like sales tax. You may have to track separately or make sure you're going about a different way. But a lot of companies that are this small in size are not really into the sales tax game yet. If you're not really sure what I'm talking about or why that would be true, make sure you're following our channel and that you're seeing all of our sales tax information. We spend a lot of time educating on sales tax.

11:00

So let's dive into this. So here is QuickBooks. So basically the way that this works is pretty straightforward. So here in the banking feed section, and like I said, if this is all new to you and you don't know what I'm talking about here, then make sure you watch our video on how to manage your bank feeds, how all of this works. It will hopefully really empower you to be able to do a lot of this yourself.

So here at the top, I'm all of my deposits from Shopify depositing into my Wells Fargo account. So I'm going to come here and I'm actually going to sort this out by money received. So here you see these are some of my Shopify deposits coming in. So these are coming in from Shopify Pay, these ones that say Shopify transfer. If we scroll down here a little bit you'll see we have some coming in from PayPal, PayPal transfer.

So the cash method basically says I'm just going to take all deposits that hit my bank account and I'm just going to code them as some sort of sales account. So Sales of Product Income is what I have selected right now. I'm going to use, if you're using class tracking to keep track of different channels, if you have no idea what I'm talking about then make sure you go watch our profit and loss video that talks about class tracking and how it really helps if you're tracking multiple channels and stuff like that. This is what this is gonna look like.

I'm just gonna hit add, and every single time something comes in from Shopify channel I'm just going to code it Sales of Product Income. So like I said, so straightforward, so easy. You still have an accurate net income, you still have a pretty good idea of how your business is performing in general as a whole. You're just missing a whole lot of detail and information, but man, you're going to save yourself a lot of time on the learning curve. So therefore, as you're just getting started, I highly recommend this method.

12:19 Method 2: the Shopify details method

All right, so next method. I call this the Shopify details method. So in this case we're basically going to really focus on gross sales, discounts and markdowns. We're going to evaluate money that's coming into the bank deposit, we're going to break out sales tax liability, and we're basically going to estimate these other items as kind of a plug figure.

So this method, here's some of the pros. You get a better level of detail, you get more visibility to make decisions, and frankly does tie perfectly to the channel. So if you pulled up your QuickBooks and you pulled up your channel information you would have a perfect tie between the two, and that's always kind of satisfying.

13:29

Now, why does my method that actually gives a better level of detail not tie out to the channel? Well, you need to know that the dashboard tools inside Shopify are not highly, highly accurate. They're kind of a summary. So for example, if you had a product that was, if you made an order and it was later returned, if you were to run reports on the dashboard the way that I'm going to show you, it wouldn't necessarily reflect those returns. It also doesn't necessarily catch duplicate orders, manual orders. There's just a lot of different things that happen on your Shopify channel that are not necessarily reflected on the dashboard that I'm going to show you. So that dashboard is great for getting a much better level of detail, but it is not as accurate as it would be if you were using our third method, the Shopify accounting guru method.

What's some of the cons to this method? Number one, it requires a journal entry. I hope that doesn't scare you, I'm going to literally walk you through this entire process. It is a little bit more time consuming, not much. And it does still give you some timing and accuracy issues, like they do still exist. It's still not a highly, highly accurate method. It's just a better approach than the one we just talked about a second ago.

14:28

All right, so here's what the steps are going to be. First of all, you're going to pull the Shopify details from Shopify. Second of all, you're going to summarize with the journal entry. Third, you're going to code the bank deposits to the holding accounts. And fourth, you're going to plug the difference to payment processor fees.

Okay, so here is what this looks like. Let's start here. All right, so here is what your dashboarding reports look like from Shopify. So I'm going to come in here to where it says analytics and I'm going to click on where it says reports. And here I'm going to pull up the sales report, and I'm going to look at it as a reflection of a period of time, so I'm going to select a month. I'm going to go back to May and look at it over this month.

15:22

So if I select this report from May, here at the top it will give me a summary of each day, but also across the top it'll show me gross sales, discounts, returns, net sales, shipping, tax, total sales. Okay, now this is great information for summarizing into QuickBooks.

Now one of the things you may wonder is, why do you not just push over all sales data from Shopify into QuickBooks, because Shopify will let you do that? Now I'm not going to go into that in a lot of detail in this video. I do go into a lot of detail in our how to sync QuickBooks and Shopify video, where I basically talk about why we don't recommend that approach and alternatives you have to that instead. But just know, you're basically just completely blowing up your QuickBooks with a whole lot of very detailed information that you have available on a detailed basis here in Shopify, and you're creating a big mess for yourself over in QuickBooks. So I don't recommend that. But this here is really great for basically summarizing some good information that gives you a better level of detail.

16:24

So what I'm going to do is I'm going to take this information here, and we go and we say pull Shopify details. So that's what we just did here, we pull this for the month, for the period of time, I recommend a month, that you want to summarize.

The next one is we're going to summarize with the journal entries. So I'm going to come over here to QuickBooks and I'm going to create this journal entry. Now I recommend basically dating this the same month, the end of the month that you're actually pulling this report in. Now I dated it one month later because I actually want to isolate the information here so you can see what's happening. So I'm going to leave my date here, but if I was doing this for realsies, you can see this is May, so this would be dated like May 31st.

Okay, all right. So this is what the journal entry is going to look like. The first one will be Sales of Product Income, Sales of Product Income right here, and I'm basically just going to pull these numbers. So $130,384.27, you see, comes directly off of here. So Sales of Product Income. Discounts, same thing, discounts here. Returns pulled from right there. Sales is basically this minus this minus this, so this column I'm going to ignore. Shipping income pulled from right here. Sales tax, which is a liability account.

17:36

So this is income, income, income. These ones reduce income though, these are called contra income accounts. Income account, income account, contra income accounts, liability account. This one is one that I've set up for the purpose of this method called Shopify holding, and it's basically going to be a clearing account. This I'm going to be setting up as a current asset account or a bank account, either way is fine. It's currently set up as a bank account right now, you can set it up as a current asset account instead, whichever way you prefer. And this is my plug number here. So after I put in all of these numbers that come directly off of this report, then I'm going to put in this plug number here.

Okay, so, and I say plug number because journal entries have to balance. So if you see here, all of my debits and all of my credits have to equal each other. So Sales of Product Income, shipping income, and sales tax payable are all going to be entered as credits. These other ones, discounts, returns, and Shopify holding or clearing or whatever, are all going to be entered as debits.

You can set this up as a recurring transaction to give yourself a template that you can use over and over again, or you can pull up the previous month's one and basically copy it down here, you would say copy, you would just put a different date on it, fill in the numbers. Just tricks, hacks to make your life a little bit easier.

18:52

So this is what the first thing you're going to do. The second thing you do, summarize this with the journal entry. Then the next thing you're going to do is you're going to code bank deposits to the holding account.

So here in my bank feed, now if you're using method 2, instead of coding these directly to an income account, instead now you're going to code these to the holding account, whatever it is you select. So Shopify holding, you're going to code all of these Shopify holding instead. So if it's a deposit coming in, I don't care where it's coming in from, you're going to code it to Shopify holding.

20:02

Okay, then, and by the way, I'm assuming when you do this that one of the things you're going to be doing is transferring all the money that goes into PayPal each month into your bank account. And when you do that, that transfer from PayPal into your bank account is going to hit and you're going to code it as Shopify holding. So basically all money that, the reason it got there is because you sold something on Shopify, it went through a payment processor and then it hit your bank account, you're gonna code to Shopify holding. Like I said, please make sure you transfer the money from PayPal into your bank account so that all this comes together.

Okay, all right. So that is the next step, is code all bank deposits to the holding account. Now at the end of the month, this is kind of the workaround, because you're not going into all the detail to figure out exactly why it matches, why it doesn't match. You're not reconciling all the payment processors, you're not doing all that other stuff you would be doing if you were like ecommerce Shopify accounting guru on steroids that we'll talk about in just a second. You're going to plug the difference to the payment processor fees.

21:17

So what do I mean by that? All right, let's talk about this. So after I've done all of this, basically I have all of this money hitting my bank account that I'm coding to Shopify holding, and then I have this journal entry where I've summarized everything that Shopify says happened on its account into the Shopify holding account as well. So I now need to kind of see what the end result of all that is.

So I'm going to pull up my balance sheet and I'm going to pull open the Shopify holding account. Now it's right here, so Shopify holding account is right here. Now you can see that right now it has a balance of twenty seven hundred dollars, and I can see here's the journal entry where I basically summarized everything that was happening in Shopify, and here's all the deposits that I coded from my bank account as they all came in. So money in, money out, and here's the difference.

So this is basically what Shopify says, hey, we expect to see this amount of money deposit into your bank account based on what happened in Shopify, and all of this is basically the money that actually deposited my bank account, and I have a difference of $2,726.94.

22:32

So why do I have that difference? Well, for one thing, if we go back to here, we're considering this, we're considering this. QuickBooks is [unclear], I mean, not QuickBooks. Shopify is basically guesstimating this, because the refunds don't actually happen through Shopify, it actually happens through the payment processors. Shopify's guess on this is not true and accurate, it's an estimate, and Shopify really has no visibility at all into what's happening at this level unless you're using Shopify Pay as the payment processor.

So this is kind of the gray area in this methodology, and so therefore we're going to assume that the difference between what we expected to see deposit and what we did see deposit is payment processor fees that were incurred that Shopify didn't have eyeballs on.

23:45

Okay, so we're going to go over here and we're going to take this difference, $2,726.94, and we're going to open up this journal entry again. Now we're going to add in payment processor fees. Now here it's called bank charges, I kind of like the term payment processor fees better, it doesn't really matter. So let me see what that was. So $2,726.94. Okay, I'm going to put that there.

And then, because we need journal entries to balance, you notice these are no longer balancing, I'm going to take this number out of my Shopify holding, $2,726.94, and I'm going to readjust that so now we balance again. Okay, so you're going to put in the difference here and you're going to subtract the difference from here.

And I want you to see what happens when I save this. So right now we have a difference of $2,726.94. Now I'm going to save this. I'm going to come back over here to this report and I'm going to refresh it, and you'll see now that this amount now zeroes out. Boom, boom, boom.

24:44

Okay, so now we have no difference. So now the assumption we're making is that this is everything that happened on Shopify, because Shopify told us it was, that this is the amount we expected to see deposit into the bank account, and the difference between what we actually saw deposit and what we didn't see deposit but expected to was because of payment processor fees that Shopify didn't have eyeballs on.

Now this is a generalization, for quite frankly this is more likely pending orders, duplicate orders, manual orders. I mean the list is wide and deep of all the reasons why this is not correct. But I'm telling you right now that the process of sorting this all out and filtering it is complex. It's what we're going to talk about in just a second, but it is a process that is not for the faint-hearted.

So this is still going to give you a result that is, from a net income perspective, correct. It's not like you're way overstating income or way understating income. If we consider all the timing differences from the beginning of your business to the ending of the business, your net income would be correct. Now month to month there are going to be some timing issues, and also the way that it's specifically coded, part of this may belong for example in Sales of Product Income, part of this may belong here, part of this may be here. If you find yourself really wanting that level of information, you are probably ready for the third level. But this is a much better approach than just the first level without being significant in its learning curve.

All right, so let's go back to our PowerPoint for just a second. Pros and cons. So, okay, so pull Shopify details, summarize with the journal entry, code bank deposits to holding accounts, plug difference payment processor fees.

All of this fits, by the way, in the overall approach for Shopify accounting, which is code all your other bank transactions, reconcile all your bank accounts, reconcile all your credit cards, evaluate your financial statements. Right? Like this is one piece of that puzzle, but this is the complex piece. We're not talking about inventory or sales tax right now, those are also complex. We have videos on that, we have courses on that. This is just for the Shopify accounting piece.

25:58 Method 3: the Shopify accounting guru method

Okay, so last, the Shopify accounting guru piece. Now, full disclosure, we are not going to tear this method apart because it is way beyond the scope of this video, and it would literally be probably another three or four hours worth of training. Which is why, by the way, we are preparing a course for right now. And if you go to our website we also have a DIY sales tax course, a DIY inventory course, and in-depth courses on these things that you can look at. And if they haven't been launched yet then you can pre-register to get email updates on the status and when they're becoming available.

But I'm going to give you the overview of what we do. And by the way, this is also what LedgerGurus as a firm does for our clients. So if you're working with us then this is what we do when we do your books for you. And so if you want that done for you, reach out to us on our website, we're happy to prepare a proposal for you.

27:00

But let's talk about the overall. So if you have really good internal accounting help, or if you understand the stuff really well, this is a roadmap of how you would put this together.

So the pros of this approach is that you get great transparency. It's clear, detailed information. You're basically ready for acquisition, like it would pass an audit. This is completely, like you can dig in on this, tear this apart, and this is accurate information. And you have accurate margins therefore, because if you have accurate sales information and your cost of goods sold number correct, then you have an accurate gross profit margin as well. Cons, complex and time consuming. It has a relatively high learning curve.

All right, so basically this approach, we start with the bank deposit and we go up and we go down. So we say, here is our bank deposit, where did it process from, how much came here, and what happened on the channel levels, and we reconciled up and we reconcile down.

28:13

So what I mean from that is, there's all the activity that's happening on Shopify at the Shopify level, and then we're reconciling everything that happened in Shopify to which payment processors it went through and how it all basically dispersed. So if you think about it like a spider web, you have your source in the center and then it goes out in a million different directions, right? Some of this went this way, some of it processed here, some of it processed here, some of it processed here.

But at the channel level you have the things that happen there. Gross sales happened at the channel level, discounts and markdowns happened at the channel level. Then we say, which payment processor did it go through? And then we say, all right, at the payment processor level we have refunds and chargebacks, those payment processing fees. And then those are all then reconciled to what actually deposits into the bank account, to allow us to capture things like on the payment processor fees, all of the things that happened at the payment processor level, and then as well to make sure we're capturing things like the sales tax liability, gift card liabilities, and all of the other nuances that could possibly happen, of which the list is huge. I mentioned some of them earlier, like pending orders, duplicate orders, manual orders, draft orders. And there's a process of filtering to make sure that all of that is accurate. But that's really what we're doing, is we're following the cash all the way through the system. And if you have accounting help that's prepared to help with this, then this is what they would be doing as well.

29:31

So this is the layout of one of our actual clients, and I really hope you don't have this many payment processors, because they really do and this is really crazy. It's super, super hard to keep track of. So if you have done this to yourself, then just unwind your position, step back, nobody will get hurt, shut down a couple payment processors. Because this kind of scenario really can only end in tears.

Steps involved in this is, first of all, you're going to download your sales orders reports out of Shopify. So basically you're going to come in here, you're going to go to orders, reports, and you sort for whatever time frame you want, and you're going to export this report to Excel.

Okay, now when you export this report to Excel it ends up looking something much like so. Across here, what you're really looking for is you're looking for all the orders, you're looking for how it processed, you're looking for any additional information like whether it was cancelled, whether it was unpaid. This is a really helpful report. You're looking at whether or not it's shipped, all of this kind of stuff.

30:31

Then the next thing you're going to do is you're going to summarize and filter all of the sales data. So when we do this, this is what we have. Across the bottom we have a tab for every single one of our payment processors that are impacted by this. We have tabs for the things that are returned. Basically we're taking a look at every single type of activity that's happening on Shopify.

Then after we take all of that, we use different tools inside Excel including things like pivot tables, index lookups, all of those types of things, and we're basically taking all of that data and we're then summarizing it here.

Okay, so the next step here is to then summarize and filter all the sales data, and then enter journal entries to summarize that data. So this is what it looks like for us after we use pivot tables to sort all this information out. Then we are creating these journal entries. So these journal entries show all of the things that happen, but more importantly it also shows which payment processors we expected it to process through. So all of this sales information, this is the breakdown according to how it all went out through each payment processor.

31:37

And then last of all, we're going to put that data into QuickBooks, and then we're going to take every single one of these payment processors and we're going to reconcile every single payment processor to what actually deposited into the bank account.

So again, here we are following the cash all the way through the system. What happened at the channel level, which payment processor did it move through, what happened when it hit the payment processor, how does that reconcile to what actually hit the bank deposit, and what needs to be backed out of all of that information in terms of liabilities or things that just don't belong there to begin with.

So that's what our process looks like. As you can see, like I said, it is complex and a little beyond the scope of what we're doing here. But it kind of gives you an idea, like if you really want a very, very high level detail, then this is what you're looking at.

32:37 Which method is right for you

So just to summarize, how much does it matter and how much should you be caring about the level of effort you're putting in? Well, it really does depend on the size you are as a business. The smaller you are, the smaller the dollar amount impacted. The larger you are, the larger amount of money we're talking about as far as misstatements go on this.

So I hope that was helpful. I hope you liked this video on different methods you can use to do the accounting for your Shopify channel for your ecommerce business. If you like this video and you'd like to see others like that, then don't forget to subscribe to our channel, hit the bell so you'll receive notifications in the future.

If you're interested in having us do your accounting for you, then visit our website, ledgergurus.com. You can reach out to us, we're happy to discuss with you pricing or any other questions you may have. Also, if you would like more information on how to do your own accounting, visit our website. On our download page we have a financial management checklist that may be a great resource for you, as well as a white paper on how to identify whether or not your accounting is being done well for your ecommerce business if you're already working with somebody else.

Thanks and have a great day.