Basic Accounting Made Easy for a Small Business Owner, Simple How to Do It
Basic accounting made easy for the small business owner will help you succeed. Accounting is called the language of business. Understanding basic, easy accounting helps the small business owner, managers, entrepreneurs, investors and employees. If you know the financial side of the business, you will survive and thrive when others are laid off. Basic accounting tells you how well the business is doing, where the money went and what your business is actually worth. As a small business owner, you need basic accounting made easy to understand the federal income tax returns for the business, to manage the assets of the company well, to make decisions, to budget for next year, to apply for a bank loan, and to warn you of any problems looming on the horizon. Once you grasp easy accounting principles, you'll wonder how you ever got along without them.
Here basic accounting is made easy for you. You'll use easy accounting terms, entries, accounts, financial statements for the small business, and what the numbers mean.
The Basic Accounting Equation Made Easy
The basic accounting equation is easy. It says that Assets minus Liabilities equals Owners Equity. This easy equation should always be true whenever you total up the balances of all the accounts for assets, liabilities and equity. Here's what these three terms mean.
Assets are anything of value that the company owns. Assets include Cash on hand, Cash in Checking Accounts, Accounts receivable, Inventory, Investments, Prepaid expenses, Equipment, and Real estate. Current assets are items that can be converted into cash within a year. Fixed assets require more than one year to convert to cash, like Equipment and Real estate.
Liabilities are the debts the the business owes to others, like Accounts payable, Notes Payable, Accrued expenses, Mortgages payable. Liabilities are grouped into two types, current liabilities that are repaid within one year, and long-term liabilities that are repaid after a year. Part of the mortgage payable is classified as a short-term liability, and part is a long-term liability, so the amount of a mortgage is split into two accounts.
Equity is what the business is worth to its owners, its book value. There are two main equity accounts called Paid-in capital and Retained Earnings. Paid-in capital is what the owners have paid into the business, its start-up capital and later payments. Retained earnings is the sum total of all the earnings and losses for each year since starting business. The owner of a small, growing business will use it profits to expand operations.
More Basic Accounting Terms Made Easy for the Small Business
- Accounts are all simple accounting classifications for the transactions of a business, like Cash, Inventory, Salaries paid, Accounts payable, and so on. Every financial transaction of your business is described as an accounting entry, and listed in the correct accounts.
- The Chart of Accounts is a simple list of the accounts your business will use to classify its transactions. A business may set up as many accounts as it needs. A basic Chart of Accounts includes accounts called Cash, Accounts Receivable, Inventory, Building and equipment, Prepaid expenses, Accounts payable, Notes payable, Accrued expenses, Paid in capital, Retained earnings, Sales, Cost of sales, Advertising, Salaries paid, Other expenses, Depreciation of building and equipment, Interest expense, Income taxes, Paid-in capital, Retained earnings, Owner's withdrawals. Here accounts are shown in color to indicate which financial statement uses them.
- Accounts Receivable is the amount of money your customers owe you when they buy on credit. If all your sales are cash sales, the company will have no Accounts receivable.
- Accounts Payable is the amount the business owes to its vendors for goods and services the company bought on credit. When the business pays an vendor invoice, two accounts are affected. Cash in checking account is reduced and Accounts payable is reduced.
- Inventory consists of the items held for sale to customers.
- Revenue is the amount received by the company from sales plus any other sources like Interest income, rent income, or royalty payments.
- Operating expenses are items like rent, utilities, salaries, payroll taxes, maintenance and advertising, used in the course of business. One important expense is Cost of goods sold, for a firm that buys merchandise for resale.
- Net income is the total revenue for the year minus the total expenses for the year. Most small business owners compute their net income every month.
The Two Basic Accounting Methods Made Easy
There are two methods of accounting used, cash basis and accrual basis. As a small business owner, you may use either one. On the cash basis, you record a sales transaction when you have the cash from your customer, and you record expenses at the time you pay for them. This system is often used by a small business because it is easy. On the accrual accounting method, you record a sales transaction whether it is made for cash or for credit. You record an expense when the company is legally liable to pay for it, even though payment will be made at a later time.
Basic Accounting Financial Statements Made Easy
Now let's made financial statements easy for the small business. The financial statements for a business consist of four reports which are prepared from the accounting data, the Balance Sheet, the Income Statement, the Statement of Retained Earnings and the Cash Flow Statement.
The Balance Sheet shows the account totals for all assets, liabilities and equity. The names of the accounts shown on the Balance Sheet are listed in red above.
- The Income Statement, also called the Statement of Profit and Loss, reports how much the business made during the period, usually over a year or a month. It shows the account totals for revenue accounts and expense accounts. These are the accounts shown in green above.
- The Statement of Retained Earnings shows changes in Retained Earnings accounts, those accounts listed in blue above. The statement shows the balance of retained earnings at the beginning of the period, plus net income for the period, minus dividends or owners withdrawals. The net result is the balance of retained earnings at the end of the period. The small business owner of a sole proprietorship does not get a salary, but makes withdrawals from the Owners account.
- The Cash Flow Statement, also called the Funds Statement, lists the sources of cash coming into and going out of the business. It starts with the net income as a source of funds, and adds back in depreciation and other expenses that did not involve cash. Then the Cash Flow Statement includes other sources of funds like new bank loans, investments sold, decreases in accounts receivable, increases in accounts payable, and new capital paid in. Next, funds leaving the business are listed, such as loans paid, machinery purchased, decreases in accounts payable, investments bought and dividends paid. The difference between funds in and funds out is the net increase of funds for the business during the period.
Double-Entry Accounting Made Easy
Let's make double-entry accounting easy. Double-entry accounting is the standard method of recording the financial transactions of the business. This remarkable system is a concise way to present all the information about a business. Every transaction is entered twice, first as a debit to one account and then as a credit to another account. Think of debits as positive amounts and credits as negative amounts. For example, when you buy a desk for cash, the transaction is posted to the business books as a debit to the Furniture and Equipment account, and a credit to Cash.
A Trial Balance is the report that lists each account, its balance, and whether the balance is a debit or a credit. Naturally, the total of debits should alway be equal to the total of credits, and the books are said to be in balance.
The Difference Between a Bookkeeper and an Accountant
What is the difference between a bookkeeper and an accountant? The bookkeeper enters the transactions into the books or the computer software. The process of entering transactions is called posting. The bookkeeper will post purchases, sales, and disbursements. At the end of the period, the bookkeeper will make sure that the books are balanced.
An accountant computes the entries for depreciation, cost of sales, inventory adjustments, prepaid expenses, accrued expenses, interest and taxes at the end of the period. Then the accountant prepares the Financial Statements for the business. In a small business, one person often fills both positions.
An Easy Accounting System for the Small Business
An easy system of accounting for a small business owner uses a single spreadsheet or a cash book. It is set up like your checking account register, but with additional columns used to classify each payment. You can set up columns for separate accounts, like Petty Cash, Accounts Payable, Accounts Receivable, Inventory, Sales, Freight, Advertising, Office Supplies, and Other expenses. This simple system can use either a hand-written book or computer software.
There are many easy accounting software products to make the job easier for the small business owner. Some of them allow users to access the software with an Internet browser. They are called online accounting systems or accounting in the cloud. The other option is to install accounting software on your own computer. Some popular accounting software packages are Quickbooks and Peachtree. They may offer new customers a free trial of the software. Your accountant can recommend accounting software for you.
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