How to Properly Reconcile Paypal Accounts in Quickbooks Online

I have absolutely no idea how PayPal manages to sucker business owners into thinking it is beneficial to conduct business with a PayPal account. If you are using PayPal for personal transactions, it’s great!  However, when you start to incorporate Paypal into your business, it creates a severe headache for your bookkeeper. It can be a nightmare to reconcile PayPal accounts in QuickBooks Online.

Let me explain why it can be a nightmare to reconcile PayPal accounts in QuickBooks Online.

Over the past several years, technology has thoroughly enhanced the methodology of bookkeeping.  We are now equipped with bank feeds and automated rules to efficiently keep up with your financial transactions.  There are many powerful tools and applications that allow us to spend less time on manual data entry. Then we can spend more time on actually providing valuable, strategic advice. This helps you make better financial decisions.  Now you can begin to  see, essentially what separates an average,  diligent bookkeeper from a trusted advisor.

In the accounting world, PayPal acts no differently than a regular bank account.  However, it lacks the functionality that working with an actual bank provides. Moreover, PayPal impacts more than just an income/expense account and an asset (bank account).

When you pay a vendor from your PayPal account, it it creates a nightmare for us behind the scenes.

If you are like most PayPal users, you are probably carrying a $0 balance in your account.  When you pay a vendor, PayPal needs to pull the funds from somewhere a credit card or bank account (or both) serving as the funding source.  So this isn’t just a debit and a credit – it actually creates multiple transactions. Each transaction must be looked at separately when you reconcile PayPal accounts in QuickBooks Online:

  1. PayPal pulls funds from your bank or credit card account.  When you see this debit, don’t make the mistake of categorizing the expense directly from one of these funding sources.  You are simply transferring an amount from one balance sheet account to another balance sheet account.  If your bank account is the funding source, it should be booked as a transfer. The money flows from the bank account to your PayPal account (asset to asset transfer).  If your credit card is the funding source, it is a transfer from your credit card account to your PayPal account (liability to asset transfer).  If you have a personal bank or credit card account as the funding source, then you should do two things. Book an equity to asset transfer and then immediately STOP doing this!
  2. Now that you took care of the transfer, you can record the expense.  Simply debit your expense account and credit your PayPal (bank) asset account.
  3. Stop using PayPal to pay vendors.

If you are collecting a payment from a client through PayPal, it is pertinent that you follow these steps:

  1. Record the payment to “Undeposited Funds”.  This is essentially a suspense account designed for temporary use. I will discuss in more detail in a future post.
  2. Record a bank deposit to your PayPal account.  Select the payment from Step 1 (that is currently sitting in “Undeposited Funds”). Then record a negative deposit within your “Add New Deposits” section.  The expense account that you should use would be something similar to “PayPal fees” or “merchant account fees”.  Your negative deposit actually creates a positive expense.  Make sense?
  3. Stop using PayPal to collect payments from clients.

Following the above steps will make it possible to reconcile PayPal accounts in QuickBooks Online. Because PayPal is not actually a bank account, we don’t really have access to monthly bank statements. Therefore, I prefer to use the “Monthly Financial Summary” – but you have to be careful.  Unfortunately, there are other debits and credits that can generate discrepancies.  For example, there are PayPal non-posting transactions. Some examples include, Authorization holds, PayPal Cash Back Rewards, Disputes, etc. At least this report gives you an opening and closing balance, and a value to reconcile against.  Assuming you booked your expenses and payments correctly, you should tie out to the penny.

The two major keys to PayPal reconciliation success are to set up your PayPal account as a bank account. Then record your expenses, transfers and payments from clients correctly using the steps above.

As soon as you are finished reconciling your PayPal account to date, then do yourself (and your bookkeeper/accountant) a huge favor. PLEASE stop using PayPal!

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