Every business has a chart of accounts. It is a group of buckets that businesses categorize all business activities. For example, when your business earns income, that income goes into a revenue or sales bucket. The terms revenue and sales are income terms that apply to different types of businesses. Some businesses use revenue while other businesses use sales. When your business pays its electric bill it goes into a utility expense bucket.When your business buys a fixed asset it goes into a fixed asset bucket.
We will talk about two financial statements for this topic. The balance sheet and the income statement. Today we will go over the balance sheet. The balance sheet has three main buckets with multiple sub-categories. The three main buckets are Assets, Liabilities, and Equity.
Assets – Assets are composed of both current and non-current assets. This is the same as saying short term and long term assets. The way to determine if the asset is a short term or long term asset is to identify whether or not it will be converted to cash in less than a year or longer than a year. Examples of current assets are bank accounts, accounts receivable, petty cash, prepaid expenses, etc… Fixed assets would fall into the category of a non-current asset.
Liabilities – Like assets, liabilities have both short term and long term liabilities. Loan’s that are due in less than a year are short term, Accounts Payable is a short term liability as well. Long term liabilities include items that you need to pay but are expected to be paid over a year later. For example a 5 year loan will have the portion broken out to both long term and short term. The part of the loan that is going to be paid in the next year is short term and the part of the loan that is still left to pay over a year from now is considered long term.
Equity – Equity is the funds that are invested in the business. This section includes the amount of funds that the owner(s) both put into the business but also have taken out. The equity section also includes the current years net profit or loss as well as the retained earnings of the business. Retained earnings is the profit or loss from business activities from the beginning not including this year.
In the next section we will discuss the chart of accounts on the income statement.