Blockchain is fundamentally an accounting technology. At its core, a blockchain is a digital ledger of transactions that is immutable, transparent, and distributed. This means that it can be used to track and record any kind of transaction with complete accuracy and security.
Accounting is the system of recording, classifying, and summarizing financial transactions to provide information that is useful in making business decisions. It is the language of business and is essential for efficient and effective decision-making.
While traditional accounting systems are complex and vulnerable to error, fraud and manipulation, blockchain accounting is much more straightforward and tamper-proof. With blockchain accounting, all transactions are recorded in a single distributed, cryptographically-secured ledger, making it impossible to falsify records.
In this guide, we'll take a look at:
- Why is blockchain good for accounting?
- Will blockchain automate accounting?
- What are the biggest challenges in blockchain applications in accounting?
- How do auditors use blockchain?
- What is triple entry accounting in blockchain?
- Why is blockchain better than a database for accounting?
- What are the disadvantages of blockchain for accounting?
- What is an example of a blockchain accounting application?
If you're looking to learn more about this billion-dollar niche in the accounting industry, this guide is for you.
Why is blockchain good for accounting?
Accountants have a duty of care to their clients to maintain accurate records. This means that they need to have a robust system in place to track all transactions and prevent any fraud or errors.
Failing to do so can have serious consequences, such as misstating financial reports and incurring hefty fines from regulators. Accountants themselves can also be held liable for any losses incurred by their clients as a result of errors or fraud.
From inadvertent human error to intentional fraud, mistakes in accounting are surprisingly common. In fact, US companies amassed nearly $7 billion in IRS civil penalties in 2013 for accounting errors. Even large firms like the Bank of America have been caught making accounting errors, in one case resulting in a $7.7 million fine in 2014.
With blockchain, all transactions are immutable and transparent, meaning that they can be audited easily and any errors or fraud can be detected immediately. This makes blockchain ideal for accounting and bookkeeping.
Will blockchain automate accounting?
Accountants aren't just tasked with record-keeping; they also need to provide analysis and insights to their clients to help them make informed decisions, such as with budgeting and pricing.
This is where blockchain can play a big role. By automating the recording and analysis of transactions, blockchain accounting systems can free up accountants to provide more value-added services to their clients.
In short, given the diverse set of skills that accountants need to be successful, blockchain won't automate the profession entirely. However, it will likely make many routine tasks easier and allow accountants to focus on more strategic work.
What are the biggest challenges in blockchain applications in accounting?
Accountants like to joke that accounting is the second-oldest profession. This is because the basic principles of accounting are centuries old and haven't changed much over time.
However, this doesn't mean that the accounting profession hasn't evolved. In recent years, we've seen a shift from manual bookkeeping to computerized accounting systems. And now, with blockchain, we're on the cusp of another major change.
Still, as with any new technology, there are challenges that need to be addressed before blockchain can be widely adopted in accounting. These include:
- Interoperability: For blockchain to truly transform accounting, it needs to be able to connect with existing financial systems. This means that there needs to be a way to transfer data between blockchains and legacy systems.
- Standards: With any new technology, there need to be industry standards in place so that everyone is using the same system and there is no confusion. Otherwise, it becomes very difficult to compare data and make decisions.
- Regulation: The accounting profession is heavily regulated and any new system needs to comply with all relevant laws and regulations. This could be a challenge with blockchain, given its decentralized nature.
- Education and training: For any new system to be adopted, accountants need to be properly trained on how to use it. This includes understanding the technology itself as well as the implications for accounting standards and regulations.
How do auditors use blockchain?
Auditors play a vital role in the accounting profession, providing an independent check on the accuracy of financial statements. Organizations globally lose 5% of their annual revenue to fraud, and this number is only expected to increase.
Auditors are tasked with detecting and preventing fraud, but they can only do this if they have access to accurate and complete information. With blockchain, all transactions are recorded in a single, immutable ledger, making it impossible to falsify records. This makes blockchain an invaluable tool for auditors.
What is triple entry accounting in blockchain?
In a single entry accounting system, only a single entry (credit or debit) is recorded for each transaction. This is the most basic form of accounting and is only suitable for very small businesses.
In a double entry accounting system, two entries are made for each transaction. Every debit entry must have a corresponding credit entry, and vice versa. This system is more complex but is necessary for businesses that are slightly larger and have more complex transactions.
Triple entry accounting is the newest and most advanced form of accounting. In a triple entry system, three entries are made for each transaction: a debit entry, a credit entry, and a cryptographic hash. This third entry provides an additional level of security and ensures that all records are tamper-proof.
Why is blockchain better than a database for accounting?
A database is a collection of data that can be accessed by computers. It is typically organized in tables and fields so that information can be easily found and retrieved.
Previous entries are editable, unlike an append-only ledger, like a blockchain, which makes databases vulnerable to data tampering. Simply put, if someone has access to a database, they can change the data within it.
Further, database entries are not cryptographically-secured in a decentralized way, meaning that they can be forged. Blockchain, on the other hand, uses cryptographic hashes to secure all entries, making it impossible to tamper with data.
What are the disadvantages of blockchain for accounting?
Despite its many advantages, blockchain is not without its disadvantages. These include:
- Scalability: One of the biggest challenges facing blockchain is its scalability. Most blockchain networks can only handle a limited number of transactions per second. This means that they are not yet suitable for large-scale businesses that have many thousands of transactions per second.
- Energy consumption: Proof of Work blockchain networks require a lot of energy to run, which is not sustainable in the long-term.
- High costs: Transaction fees on blockchain networks can be high, especially during times of high demand.
- Lengthy transaction times: Some blockchain networks can take minutes or even hours to confirm a transaction. This is not ideal for businesses that need to move quickly.
With that said, these challenges are being resolved by the likes of Ethereum 2.0, which is designed to be scalable, energy-efficient, cost-effective, and fast. It does this by moving from a Proof of Work system, in which miners are rewarded for running compute cycles, to a Proof of Stake system, in which validators are rewarded for staking their ETH.
Web3 invoicing: example of a blockchain accounting application
One example of a blockchain accounting application is Bulla Network, which is a Web3 invoicing, payroll, and accounting solution. For instance, with NFT invoicing, businesses can issue invoices in the form of Non-Fungible Tokens. This makes invoicing immutable, transparent, and secure.
Invoice NFTs become a form of title to an asset, meaning that asset ownership can be easily verified. They also make it easy to measure the credit worthiness of a business, as all invoices are stored on the blockchain and can be easily accessed.
Further, a traditional factoring arrangement can be easily built on top of an NFT-based invoicing system. This would allow businesses to receive funding against their invoices almost immediately, without having to wait for payment from their customers.
In short, blockchain accounting systems like Bulla Network have the potential to revolutionize the accounting profession. They are more efficient, secure, and transparent than traditional systems and can provide a wide range of benefits to businesses.
Join the Bulla Network Discord group to learn more about how blockchain accounting can benefit your business.