15 Basic Accounting Terms
Accountants use a lot of terms that may be unfamiliar to you and that is frustrating. These 15 terms are meant to help you understand what they are saying as well as understand your business even better. While this is not an all inclusive list of terms, these are the basic terms that everyone should know.
These are things that the business has in order to operate. There are two categories: Current and Fixed. A current asset is something that you think will be used within a year (Cash, A/R, Inventory). A fixed asset is something that will provide benefit for over a year (Car, Land, Equipment)
These are things that the business owes other people/businesses. There are two categories: Current and Long-Term. A current liability is something that needs to be paid back within a year (A/P, Credit Cards). A long-term liability is something that can be paid back over a year (Mortgage, Business Loans).
This is what the owner has put in the business as well as the net income of the business. This can come from owner contributions at the beginning of the business or any future investments they make.
Revenue is the sales of goods or services in the normal activities of the business. If you owned a pencil factory and sold 10 pencils for $1 then your revenue is $10. If they sold one of their cars for $1000 that would not be included in revenue because they are not a car dealership.
Expenses are the cost associated with making or selling a product/service. If we continue with the pencil factory example from above, we have the rent of the factory, utilities, salaries, etc.
Cost of Goods Sold (COGS)
This is a type of expense that a company would have if they sold products NOT services. It is the cost that was incurred to produce the item you sold. For example, a pencil company has to buy wood, graphite, paint, metal, and erasers and it might cost $.15 a pencil. That cost is the cost of goods sold.
Net income can also be called profit (or loss). This is the revenue subtract the expenses.
Depreciation is something that happens to fixed assets. Over time they lose part of their value and as such that needs to be reflected on your books. For example, you buy a car for $10,000 and you decide to depreciate it over 5 years. For the first year you will depreciate $2,000, then the next year you will depreciate $2,000 for a total of $4,000. While this is one way to do it there are different ways to do it and the best thing to do is talk to your accountant for the most profitable way. The IRS also has a large array of articles on this. Here is a good starting point if you would like to do more: https://www.irs.gov/taxtopics/tc704
Accounts Payable (A/P)
This is just a fancy way of saying things that you still need to pay. For example, you might get a bill from an inventory supplier that needs to be paid in 30 days. This would be included in your accounts payable until you pay it.
Accounts Receivable (A/R)
This is a fancy way of saying things people still need to pay you. For example, you may bill someone and give them 30 days to pay. It would be included in accounts receivable until they pay it.
Basic Accounting Equation
Assets=Liabilities + Equity or in other words What you have=What you owe + What you own
The balance sheet shows all of the assets, liabilities, and equity at a point of time. You generally would look at a balance sheet for at the end of a week, month, quarter, or year.
Profit and Loss Statement (P&L)
The profit and loss statement shows all your revenue and expenses for a time period. You would look at this to see how profitable you were for a week, month, quarter, or year
A bookkeeper is someone that handles the financials of the business. They are tasked with assigning expenses and revenue to the general ledger, invoicing/billing, payroll, P&L Statements, etc. Not all bookkeepers handle every responsibility listed so check with yours to see what is included. They are very cost effective because they handle a lot of day-to-day things, so you don’t have to. They do not need to be a CPA.
CPA stands for Certified Public Accountant. These are people that have gone to extra school and have passed 4 rigorous tests. They generally do taxes and can handle different cases with the IRS. Someone that has a CPA should be well versed in your type of taxes and should be able to answer a wide assortment of questions regarding them.