Accounting is critical for every business. Keeping accurate financial records is non-negotiable, or your business will not operate long. Understanding accounting terms and complexities can be challenging, but this article is here to help. We’ll explain the basics of accounting that every business should know.
What Is Accounting?
It is the process of recording and categorizing financial transactions for an enterprise. It includes gathering, summarizing, and verifying financial transactions to ensure accuracy. It also involves analyzing financial data to forecast growth and future expenses for a company.
Accounting is closely related to bookkeeping, but it isn’t the same. The latter deals primarily with keeping accurate financial records, while the former also includes interpreting and analyzing the records to extract insights.
Accounting Methods
The two main methods are cash and accrual.
- The cash basis means recording revenues and expenses only when money changes hands. You only record revenue when cash is received and expenses when cash is sent out.
- The accrual basis means recording revenues and expenses as soon as an invoice is generated. You record revenues when an invoice is generated and expenses when an invoice is received, regardless of when money actually changes hands.
The cash basis is preferable for small and medium-sized businesses with simple finances, while the accrual basis is suitable for large businesses with complex finances.
Basic Terms To Note
1.GAAP
An acronym for “Generally Accepted Accounting Principles.” It is a common set of accounting rules adopted by the United States Securities and Exchange Commission (SEC) and is the default standard for American companies.
Another popular standard is the International Financial Reporting Standards (IFRS), primarily used outside the U.S.A.
2. Fiscal Year
A fiscal year is simply a period of time lasting one year. It is the statutory period for companies to file annual financial statements. Some companies follow the usual calendar year from January 1 to December 31st, while others can follow custom periods, e.g., August 1st, 2023, to August 1st, 2024.
Don’t get confused when you see companies reporting a fiscal year that doesn’t follow the January to December pattern. It’s normal in the financial world as long as the company still follows a 12-month period.
3. Accounts Payable and Accounts Receivable
Accounts Payable is the money your company owes to vendors. It is the total amount you expect to pay to external parties at a specific time.
Accounts receivable is the money that customers or vendors owe you. It is the total amount you expect to receive at a specific time.
4. Assets
Assets refer to any property that your company owns. It includes tangible assets like cash, property, furniture, equipment, etc., and intangible assets like patents and trademarks. Intangible assets are harder to value than tangible ones, but both must be valued anyways.
5. Liabilities
Liabilities refer to any debt your company owes in the short or long term. It could be money borrowed from creditors, expected vendor payments, or tax incurred by business activities.
Golden Accounting Rules
Every accounting guide should note the golden rules of the sector, which are
- Debit the receiver and credit the giver.
- Debit all expenses and losses and credit all incomes and gains.
- Debit what comes in and credit what goes out.
Should I Use Accounting Software?
Technology has made things easier in all sectors, including accounting. You can use software to keep financial records and store them securely. It is a safer and more accurate way to keep financial records than using pen and paper.
These days, you can link your corporate bank account to a software tool that automatically records and categorizes every transaction as income or expense. These tools can also analyze financial data to extract insights.
It’s always advisable to use software to record and sort financial transactions. You can also hire accountants online to analyze financial data and help prepare financial reports.
