Business Accounting With Clarity

Business accounting can be understandable when it is explained in plain language. What is presented here is intended to give you some fundamentals of accounting with clarity.

What Is The Purpose Of Accounting?

The purpose of accounting is to




Analyze, and

report financial information to persons who use it. Accounting is the tool to measure the financial performance of your business. Accountants do this in a number of ways. The most common method today is by accounting software. Virtually all accounting is done by computer software.

Revenues and expenses are recorded in business accounting software. Most software will properly record entries the way accountants use to do it manually, all you have to do is make the data entries in the proper fields of the software.

Most small business accounting software can be purchased for under $400. QuickBooks is a common software program for small businesses. There are others however. And, you should research them all prior to purchasing. You can easily set up your "chart of accounts" in business accounting software.

Bookkeeping is the data capturing and recording part of business accounting. This is really the part of accounting that most people have trouble with. An accountant may or may not do bookkeeping. Bookkeeping is a tedious, repetitive task that many accountants find unattractive. Accountants will however, set up the bookkeeping system for bookkeepers.

The configuring part of financial information is, for the most part, done by your business accounting software. The financial data is organized into forms and reports for analysis.

The analysis part is done using judgment and standards set by various standard setting boards such as the Financial Accounting Standards Board in the U.S. Your respective industry standards of performance are a key tool used in the analysis process. An accountants experience and judgment play a vital role here.

There are four primary reports for financial information. They are the,

  • Balance Sheet
  • Income Statement
  • Statement of Cash Flows, and
  • Statement of Retained Earnings

The balance sheet is called such for two main reasons. First, the layout of this report is based on the foundation accounting equation,

assets = liabilities + owners' equity.

You have assets, which is what you own at the top-left. Next on the page, either below assets or on the right, are liabilities, what you owe. And, last on the page, below liabilities, is the equity of the owners in the business, that is, there ownership interest in the business.

The second reason it is called a balance sheet is because each of the accounts in this report has a balance, such as cash and debts. These balance sheet account balances change minute by minute as transactions occur in your business. A fundamental aspect of business accounting is that it is perpetual.

The balance sheet account balances have to be analyzed for their meaning respective to your business and the industry your business operates in. For example, you may look at the balance daily to see how your accounts receivables are trending.

Accounts receivable is the money people owe for products or services you already have sold them, but they have not yet paid for. Minimize this balance amount as much as possible. You may not get your money sometimes.

The balance sheet is a report for a moment in time, not a period like the other three reports above. That's why it is referred to as a "snapshot" in time.

The income statement is the report you look at to see if you made a profit or suffered a loss over normally an annual period. This report basically provides amounts, not balances. For example, revenues and expenses are amounts received or paid out, respectively. Revenue and expenses are the two primary categories of amounts reported in the income statement.

The statement of cash flows provides the cash flow trends of the way you spend cash for a period of time. This report can take a number of forms, from the simple to the complex. For many small business owners a simple cash flow statement listing cash received minus cash spent with the respective net cash flow result is very informative.

Cash Is King

Cash is what you use to make purchases and receive income. A check received for products sold without cash to back it up in the bank is worthless. An "I owe you" which is what an account receivable is, is also worthless in the short run. Cash is the financial fuel of any business.

The statement of retained earnings is what you keep in your business rather than pay out in dividends to stockholders if you are a publicly traded company on any of the stock exchanges. Your net income reported in the income statement increases the retained earnings amount for any given period. The retained earnings formula is,

Beginning retained earnings

plus net income

minus dividends (paid out)

equals ending retained earnings.

Tax accounting is an area that many accountants prefer to avoid because tax laws are always changing, and it is hard to keep up. Even many certified public accountants do not do tax accounting. A person that has passed the IRS "enrolled agent" exams is certified in all 50 states of the U.S. to represent clients before the IRS.

Payroll taxes are one area the Internal Revenue Service (IRS) is very forceful on. Pay your payroll taxes, if you have employees, to avoid the IRS putting you out of business. This is one area they do not play with.

When you get behind in your taxes you are best advised to go to the IRS and work out a payment arrangement, rather than avoid the tax delinquency. Prior to your visit you may want to take note of the fact that the IRS has a 10 year statute of limitations in which to collect delinquent taxes.

When you sit down with an IRS agent, he/she is going to be determining how they can collect the tax debt within 10 years. The agent will not tell you this, but the 10 year statute limitation is going to play a big role in their decision to accept or reject your payment offer.

All levels of government in the U.S. give favored tax treatment to business owners because business owners drive the economy. Business ownership can play an important role in your tax strategy in the U.S.

Hopefully, this discussion has given you a better perspective on business accounting. It's a big subject on which more can be covered later...

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