The share of e-commerce is growing steadily – it is estimated that 95% of purchases will be made online by 2040. According to Statistics Estonia, 75% of Internet users have bought or ordered products and services from the Internet in the last 12 months (compared to 68% last year). Thus, it can be said that selling products and services through some e-commerce model is becoming increasingly important for business success.
There are different sales models in e-commerce that differ from each other whether they are selling physical products or e-products, in-store or by a third-party platform. Location of the warehouse, as well as the way the goods move to the buyer are also important for the sale of physical products. When it comes to e-commerce accounting and tax accounting, it is important that activities are properly categorized and that everything needed is properly set up.
Common e-commerce models for physical products
The following five e-commerce models are most commonly used for physical product sales:
- E-shop – buyers are mainly Estonian private persons, some sales made to the neighbouring countries. Goods are purchased in bulk and the warehouse is located in Estonia, from where they are shipped to buyers. It is also possible to order the goods only after the buyer has made the purchase.
- Dropshipping – selling goods from China directly to a customer, for example through Shopify. Buyer places an order in the e-shop, after which the shopkeeper orders the goods from China directly to the customer’s delivery address.
- Selling through Amazon + Using Amazon Warehouse (FBA) for goods from a supplier – in this model, goods are shipped directly from the supplier to the US/EU warehouse and then to the customer.
- Selling through Amazon + Using the Amazon Warehouse (FBA) for your products – similar to the previous one, except that the goods are shipped to the Amazon warehouse from Estonia.
- Selling through Amazon or other platform (e.g. Etsy), the goods are shipped to the buyer from Estonia – the sale is done via the platform but the delivery is 100% the seller’s responsibility.
Common e-commerce models for e-commerce
There are mainly two models for selling e-products:
- Your e-shop – selling e-books, video courses, etc. through your own e-shop. In essence, the files are sold, there are no physical goods, and the e-shop automatically sends the e-product to the buyer after payment.
- Selling e-products through a third party – this includes e.g. selling e-books on Amazon or selling knitting patterns on Etsy.
There are many specific topics in e-commerce accounting. One very large part of this is e-commerce related taxes.
Depending on the model of e-commerce you choose, there may be different restrictions to your activity, so you may want to familiarize yourself with industry restrictions before you start e-commerce.
Level of Accounting Accuracy
Accounting accuracy must be sufficient to meet statutory requirements, but it must not become unduly burdensome – for example, in the case of a very small Amazon seller, it does not make sense to separate each expense and income separately, but initially to simplify accounting. More specifically, we talked about Amazon Accounting in the article Things You Need to Know about Amazon Accounting and Taxes. The same logic can be applied to all other sales platforms.
Platform service fees
If the e-commerce model provides for sales through the platform, cash flow from the platform must also be immediately considered. There are many positive aspects to selling your merchandise through the platform but it also comes with a fee – and not a few, for example, Amazon takes about a third of the sale price. For accounting purposes it is important to ensure that revenue and service charges are recognized separately and not net.
When using payment intermediaries (e.g. Payment Center in Estonia, Klarna in Scandinavia, Paypal etc.), you also need to consider their fees. In accounting, it is smart to make a sales invoice from an online store paid to an accounting program, plus a claim against the payment intermediary.
Note that if the customer returns the goods, the payment agents do not waive their service fees, they remain at your expense and must also be accounted for accordingly.
Recognition of physical goods and inventories
Revenue from the sale of goods shall be recognized in the month in which the transaction occurs and the corresponding cost of goods shall be recognized in the same month. In addition, it must be checked at the end of the month that the stock is closing.
If you sell your goods on one platform, the accountant must take a report of the goods sold on that platform and charge the corresponding goods for accounting. In this case you will not find any information about the cost of the goods, they should be taken from the stock accounting program.
When selling your merchandise on multiple platforms (such as Shopify and Amazon), it is important that there is a “warehouse” for each sales channel/merchandise location against which platform data is compared.
It must also include a separate entry for “goods on the road”, i.e. goods shipped by a supplier but not yet delivered.
This topic is quickly becoming very complex as the number of outlets and product names increases. And if you can’t get it right, your financial numbers are just wrong.
Alternative sales are what you sell on a daily basis, for example, in an online store, but you also sell cash for a buyer who comes to your office. Gift card sales belong also here.
If cash sales are occasionally rare, the easiest solution is to keep a separate table for them, which will allow the accountant to make entries. Gift cards must be recognized as “deferred income”, or liability, but VAT must be paid (assuming you have only one type of VAT-based product for sale at the online store).
In the case of alternative sales, it is worthwhile to develop a clear and effective system for presenting such transaction information to your accountant.
Sales in another currency
If the purchases and sales are all in euros, the picture is a little clearer. However, for e-commerce models, this is rather exception than the rule.
If sales are in another currency, it must be properly converted to euros. In the middle of the month sales may be recorded using the exchange rate for a particular day or the average monthly rate, if available. The payment receipt rate is certainly not appropriate (unless the amounts are very small).
Transport costs of physical goods
There are separate rules for transport costs for the purchase of goods and transport costs for the sale of goods.
Transport costs associated with the purchase of the goods shall be added to the cost of the goods in the warehouse and borne with the goods at the time the goods are sold.
Transport costs associated with selling the goods are a bit more complicated because asking the buyers for a transportation charge may not match the price you pay for the transportation yourself. The cost of transport is not your sales revenue, but a reduction in transportation costs. For this purpose, it is advisable to keep two separate accounts in the accounts – freight costs and revenue from freight costs.
Calculation of taxes
As we said before, e-commerce taxes are one of the biggest and most important topics in e-commerce accounting, which we have covered in more detail in our Quick Overview of E-Commerce Taxation. You need to understand exactly which country and how wants to tax your sales. Otherwise, being unaware of your obligations, you might have more problems than necessary at an instant.
From an accounting point of view, it is important to remember that the VAT and sales tax collected are not your income but a liability. Some platforms collect taxes themselves and pay them to the state, but some can transfer all the money to you, and then you are responsible for paying the right taxes on time.
Specifics of e-products accounting
E-product is a unique hybrid of service and merchandise. On the one hand, it lacks physical form and, consequently, traditional stock records. It is also considered for taxation purposes as an “electronic service”. However, an e-product is sold as files and at a unit price, not as human time, as is the case with the service.
Common e-products include e-books, video courses, knitting patterns, music or training audio files, and more.
In terms of invoicing, e-products are not complicated. Process is simple – buyer places an order, pays for the product ordered and the e-shop sends the buyer a file / file download link / login information, etc. Revenue is recognized when the order is completed.
The problem is to estimate the costs directly related to the sale of e-products in a timely manner, including costs such as royalties, cover design, editing, text formatting, formatting and writing sales texts in case of e-books; and filming, video editing, royalties, etc in case of video courses.
The peculiarity of e-products is that at first it takes a lot of time and money to create them, and later only sales revenue and maybe small commissions. In other words, in case of sales of e-products, revenues and expenses are often not time-correlated.
Initial production costs can be recognized as an intangible asset and amortized over the estimated selling period. If royalties are paid to the author based on the number of books sold, they should be recognized in the same period as the proceeds of the sale. Of course, if the initial costs are insignificant, they can immediately be recognized as expenses. However, the cost of a thorough and lengthy video course can be very high and should be fully considered for capitalization.
Recommendations for organizing e-commerce accounting
Finally, we give you 4 suggestions on how to effectively manage e-commerce accounting (applies to all e-commerce models).
1. Find an accounting service provider who has a history of e-commerce and is familiar with both industry specifics and e-commerce taxation – for example, Robby & Bobby deals with e-commerce issues on a daily basis.
2. Talk to the accountant about exactly how your goods are moving and who your buyers are, ask about the taxation. If the accountant is not familiar with these topics, consult an expert or seek an accountant with relevant experience (see point 1). Also, agree on how the data will be verified so that the accounting data is realistic.
3. Choose the right programs and solutions – find the right accounting software and pay attention to how the connection between the online store and the accounting software is solved. Prefer the options, where the e-shop automatically sends the data to the program and does not need to enter it manually. Of course, Excel import-export is always an option when there is no ready connection and it is too expensive to order a special solution.
4. Agree on what reports the accountant will provide you on a monthly basis – and review them monthly, including checking inventory compliance.