"There is no end to education. It is not that you read a book, pass an examination, and finish with education. The whole of life, from the moment you are born to the moment you die, is a process of learning." -Jiddu Krishnamurti
As humans, we are continually learning about new topics and academic disciplines. At the end of our lifetime, it would be foolish to say that we have discovered it. There are so many beautiful things that we can choose to spend our time learning.
Acquiring a basic knowledge of the fundamentals of accounting may seem boring to some, but it is a beneficial subject that will never be considered a waste of time.
Therefore, Superprof is here to present to readers all the necessary information about accounting for beginners.
The Key Concepts of Accounting
Accounting is a vibrant profession with many concepts, principles and terms to grasp. The best accountants have a thorough knowledge of the most commonly used accounting concepts.
Many countries have different accounting concepts, yet they are a few that are universal. Here are the top ten key concepts of accounting:
- The Entity Concept: a helpful concept that is exercised to prevent confusion between the personal accounts of a business owner and their business. The private financial transactions of an individual need to be kept separate from the expenses of the company. If this accounting concept were not exercised, there would be an intermingling of records from various entities, and it would be difficult to determine the correct taxable amount,
- Accruals Concept: an accrual is a journal entry that can be used to recognise revenues and expenses that have been earned and spent. Without this concept, the amount of income, expense, profit or loss would not correctly reflect the economic activity of a company,
- Going Concern Concept: accountants use this concept to assume that the company will stay in operation indefinitely and will stick to its current financial plans. A benefit of this concept is that the cost of assets can be spread about over its expected useful life instead of covering the cost all at once,
- Conservatism Concept: the most conservative of all accounting concepts since profits are not taken into consideration until they are realised, and the money is in the bank. No gains are anticipated only preparing for potential losses,
- Realisation Concept: this concept indicates the amount of revenue that should be recorded from a specific sale. It is very similar to the conservatism concept in that income is only recorded when received,
- Matching Concept: accomplished to avoid the overstatement of income in a period. Costs need to be paired with revenue to prevent any confusion on financial documents. According to this concept, revenue or expenses cannot be deferred into later periods,
- Materiality Concept: insignificant costs are ignored on business documents, and accountants need to exercise caution when deciding if an expense or object is material or immaterial,
- Consistency Concept: accountants encourage clients to remain consistent in using a specific accounting concept. Which can be done to compare financial documents effectively,
- Dual-Aspect Concept: according to this concept every single business transaction must be recorded in at least two different accounts. The dual-aspect concept can be better understood using a financial equation,
- Cost Concept: accountants are required to file an asset, liability, or equity at the original acquisition cost.
Key Accounting Terms
It is highly recommended for young professionals considering a career in accounting, business or finance to learn about key accounting terms before attending secular courses on the subject.
Here are some of the most frequently used accounting terms, along with the definitions, that are sure to be observed on the job:
- Assets: all businesses have assets. They are resources that have a monetary value and can be divided into the categories of short-term and long-term. Short-term assets may include cash or prepaid expenses and long-term assets are comprised of land, buildings, company supplies and furniture. It is important to note that assets are mostly tangible. However, items such as licenses, copyrights and customer lists are intangible assets,
- General Ledger: provides an in-depth record of all financial transactions over the life of any corporation. The ledger is essential in creating financial statements,
- Revenue: defined as the lump sum of money received by a company in a quarter, year or another period. It is the gross income figure from which expenses are subtracted to determine the net income of a business. Keeping accurate records of revenue and net income is essential for business growth,
- Capital: refers to any financial resources or assets that are owned by a particular business. Capital is different from money in many ways. For example, money is used for transactions that have an immediate purpose whereas capital includes assets such as stocks or investments that have a long-term benefit to the company.
An Understanding of Double-Entry Bookkeeping and Five Principles of Accounting
The most professional accountants attend qualified courses to become better trained and to receive their accreditations. While attending post-secondary training courses, learning about accounting principles and bookkeeping methods is commonplace.
First established in the city of Venice in 1491, double-entry bookkeeping is one of the fundamental methods used by bookkeepers that requires all financial transactions of a company to be recorded in at least two of its general ledger accounts.
In a double-entry system, all transactions are recorded as debits and credits. It is essential for all debits and credits to have an equal sum in double-entry bookkeeping.
Debits are always shown on the left side and credits are demonstrated on the right side of an account ledger. Drawing a T-Account helps aspiring bookkeepers in visualising the effect of recording a debit and credit amount. Debits are not always associated with increases in financial statements and credits are not always linked with decreases.
There are many benefits to using the double-entry bookkeeping in a business setting.
Five Principles of Accounting
Accounting principles are rules and standards that companies must follow when reporting financial data. In the United Kingdom, accountants or bookkeepers can choose to obey the guidelines of the UK GAAP or the IFRS that both offer high-quality accounting principles.
There are many principles in the accounting world, but we will only analyse five in today's article:
- Full Disclosure Principle: this principle claims that all essential information which could affect the reader's understanding of the financial documents be included. This principle is many auditors least favourite principle because it often results in a lot of paperwork justifying financial decisions made by the company in question,
- Monetary Unit Principle: is the general assumption that money itself is considered as a unit of measurement. The previously stated fact means that all financial transactions recorded in the accounts of a business need to expressed in monetary terms. Non-quantifiable items such as customer service quality, employee skill level, management of expertise and employee motivation cannot be measured in currency and are excluded from financial reports,
- Revenue Recognition Principle: according to this principle, revenues are only recognised when they are realised or earned and not necessarily when they are received. Which means that services or goods have been delivered and accepted by the client but the payment will be received at a later time,
- Time Period Principle: businesses should record their financial statements appropriate to a specific time period. Time periods can be quarters, months or years. The time period principle was established to inform interested ones about the time period when the financial statement was prepared,
- Expense Recognition Principle: expenses should be recognised in the same period as the revenues to which they relate. If this principle were not executed, costs would be known as incurred which would follow the period in which the amount of revenue in question is acknowledged. It is a fundamental principle for income taxes too.
Acquiring knowledge about double-entry bookkeeping and the five principles of accounting is extremely useful for all those interested in finance.
Different Types of Accounting Software
Technology has made an everlasting impact on modern society. We cannot go back to ancient times when we did not have the technology to help us in our daily tasks.
The accountancy sector has been positively affected by technology. Accounting software has revolutionised the industry and has changed the way simple tasks such as sending an invoice, reviewing inventory and analysing financial reports are completed.
There are many different types of accounting software to choose from, here are the most recommended options:
- FreshBooks: an extremely easy to use software that was created with non-accountants in mind. Attractive features of this software include professional invoices, expense tracking, time tracking, the option to create group projects, payments and reporting. The mobile application is a godsend since it lets you complete all your accounting tasks on the go. FreshBooks can be tried for 30 days without even submitting a credit card and after this interested ones can choose between the lite option, the plus option, and the premium option,
- Sage Business Cloud Accounting: an industry leader that has impressive features such as neat and easy to use interface, incredible customer service and a 30-day free trial. Sage's top accounting plan is priced at £22 monthly and includes modules to manage accounts, invoices, handling and submitting VAT online, smart bank fees, cash flow forecasting and much more useful components,
- KashFlow: used by over 54,000 companies in the United Kingdom. Interested accounting professionals can choose between three different pricing plans; starter (£8 monthly), business (highly recommended and only £15 per month) and business + payroll(£21 each month). KashFlow is easy to set up, and accounting can be done on the go thanks to the interactive application.
The options mentioned above are just three of the many highly recommended options for accounting software. Check out Capterra's website to find accounting software that is perfect for your business.
How to Read a Profit and Loss Statement
A profit and loss statement is a financial statement that summarises the revenues, costs and expenses that were incurred during a specific period.
The information that is included on a P&L statement offers valuable insight into the company's ability or inability to generate profit by increasing revenue, cutting down on costs or doing both.
P&L statements are also known as an income statement, statement of operations, statement of financial results or earning statement and these terms all depend on the geographic location or company.
A profit and loss statement is prepared based on accounting principles such as revenue recognition, matching and accruals, which make it entirely different from other essential financial documents such as cash flow statements and balance sheets.
Now that we have a brief description of a P&L statement we will see how to read a profit and loss statement successfully. Without delaying the matter any further, here are the primary sections that can be found on a P&L statement:
- Revenue: commonly known as the "top line" of the profit and loss statement, this is the total amount of money that a profitable company has brought in from sales,
- Direct costs: for many, these are also known as the cost of goods sold. These are the costs incurred when you make your products or deliver the services you offer,
- Gross margin: this is determined when you subtract your direct costs from your revenue. The gross margin tells a business owner how much money he has left to cover expenses,
- Operating expenses: these include rent, salaries, marketing fees, utilities and so on,
- Operating income: this is known as the total income earned before interest, taxes, depreciation etc.,
- Interest: this is only included on a P&L statement if the company has to make interest payments on any borrowed loans,
- Depreciation: these are special expenses that have to do with the assets your company possesses. With time assets loss value and depreciate. This expense will be calculated in the depreciation section of the profit and loss statement,
- Taxes: in this section, the entity sets aside money to pay the necessary taxes,
- Net profit: also known as the net income or "bottom line" of the profit and loss statement. To calculate the net profit, you start with the "top line" or revenue and subtract such things as direct costs, operating expenses and taxes.
After acquiring a tight grasp about what each section signifies on a profit and loss statement, small business owners can successfully attempt to create their P&L. There are many guides and templates available online to help new ones victoriously complete the task at hand.
Whether you desire a career as an accountant or not, learning more about the basic concepts, terms and principles of accounting is never a wasted investment. Read more on financial auditing here.
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