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Basic Accounting Principles

By Lauretta Finis

7 min read

There is a lot of financial terminology that you may need or come across when working with your accountant or bookkeeper. Let’s look at the principals, terminology and jargon that you may come across when looking at setting up your accounting package with QuickBooks Online.

Chart of Accounts

What is the purpose of your chart of accounts? Broken down simply they are a list of accounts that classify and summarise where your money is coming in from and where you’re spending your money. In QuickBooks Online there are specially designated account types broken down in specific type. The main account types are:

  • Assets
    • Bank accounts
    • Undeposited Funds
    • Equipment, Plant and Machinery, Motor Vehicles
    • Inventory
    • Accounts Receivable – payments from your customers owed to you
  • Liabilities
    • Credit Card
    • Loan accounts
    • BAS and PAYG Liabilities
    • Accounts Payables – payments your owe your suppliers
  • Equity
    • Capital introduced
    • Retained Earnings – profit you have made
  • Income
    • Sales Income
    • Interest Income – under Other Income
  • Cost of Sales
    • Materials purchased required for Sales
    • Supplies and Stock purchased to sell directly
  • Expenses
    • Office and Administrative Expenses
    • Advertising Expenses
    • Insurance Expenses
    • Interest Payable – under Other Expenses

When broken down into these separate accounts the classification and posting of each account with your records needs to be accurate. This is where the information is drawn into separate types of reports:

  • Balance Sheet
  • Profit and Loss

Let’s look at these in more detail.

Accounting Basics

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Balance Sheet Account Types

Balance sheet includes your assets, liabilities and equity accounts. It’s the financial snapshot of your business that gives you insight into the health of your business, what you own comparing to what you owe.

Assets

Things the business owns that have monetary value such as money in the bank, or a motor vehicle or building that can be sold for cash. It can also be money that is owed to the business such as an unpaid invoice.

Liabilities  

Money that the business owes to other people or businesses, such as a debt owed to a supplier or credit card payment owed to the bank.  It is also money owed to the ATO such as payroll taxes, your BAS and superannuation owed to staff.

Equity

What the business owner has originally invested in the business, plus additional contributions into the business or drawings out of the business.

Profit and Loss Account Types

The Profit and Loss statement is a summary of income less expenses within a certain time frame. This is the basic financial report that is essential for any business to check their performance. It reflects the past performance of the business and gives you the ability to track how your business is performing, broken down into separate categories.

Income

Otherwise known as sales, money coming into the business as a result of goods or services sold.

Cost of Goods Sold

The purchases directly related to what is being sold in the business. This is not an expense of the running of your business, for example costs to produce Income materials, supplies or possibly labour and subcontractors.

Expenses

The overhead costs of running your business including administration or rental insurance expenses.

Important Accounts You Need to Be Aware Of

Accounts Receivable

This is found in the Balance Sheet under Assets. They are all the amounts owed to the business by its customers, mainly unpaid Invoices. You need to keep a strict control of this account for great cash flow.

Accounts Payable

This is found in the Balance Sheet under Liabilities. They are all the outstanding bills to your suppliers. It is really important to know at all times what you owe to your suppliers. Knowing this information when a bill is due will enable you to keep you getting your line of credit suspended.

Undeposited Funds

Also found in the Balance Sheet under Assets. These are funds that you have received by cheque or cash and are not yet banked.

Have You Ever Heard of Debit and Credits?

My very first lesson in accounting taught me that for every debit there has to be a credit! More than likely you won’t have to process a journal – best leave this to your bookkeeper or accountant. If you do have an attempt at processing a journal for any adjustments you have to remember that the amounts on both side of the ledger, which is debits to the left and credits to the right (another phrase that we learnt in our accounting lesson), have to “equal” or “marry”.

We are lucky in that today we have accounting software that processes these debits and credits behind the scenes. This means you don’t have to stop and think which side of the ledger you need to enter when processing your invoice’s or any other transactions. So for every transaction that your process there is a double entry – debit and credit.

In QuickBooks Online you can view this entry. On the bottom bar click More > Click Transaction journal.

Accounting Basics

Looking at this invoice above the sale amount is $825.00 but this includes $75.00 of GST, and net sales is $750.00. Looking at our journal below you can see how this has been picked up in a debit and credit style ledger.

The total amount of $825.00 has gone to Accounts Receivables (money owed by your customer) then $75.00 has gone to BAS Liabilities Payables (money you owe the ATO for BAS), and the total net sale of $750.00 has gone to your Sales account which is income.

Accounting Basics

Bank Reconciliation

The Bank Reconciliation is the process of matching your bank statement to your bookkeeping records, or mirroring what you have on your statement to your QuickBooks Online file. I can’t stress enough that a reconciliation is required on every bank account, credit card and loan account that you have that is in your file.

This is to prevent you from having inaccurate records. You could be making huge errors and if the transactions are not verified to your bank accounts it could result in you overpaying BAS, or overpaying tax. Your finances won’t be in a fit state to look at and make decisions that reflect how your business is really travelling. There are many reasons you need to reconcile to your bank statements.

On a monthly basis at the end of month it’s smart to reconcile a few areas:

  • Transactions not entered or entered incorrectly
  • Transactions have been entered twice
  • Sales payments not going in as sales and deposits not being processed. This would mean you are not paying the correct amount in BAS and if audited you will have to readjust, which may result in your owing the ATO a large amount.

Cloud / Online Accounting Software

This is a relatively new terminology. Online accounting software is another word for cloud software. This means that you do not have to install any software on your local computer, desktop or laptop. Online software keeps your data stored in the cloud so that you can access this data from anywhere and anytime in the world, provided you have an internet connection.

Other common terms used

Accounting Method

This refers to the basic rules and guidelines under which businesses keep their financial records and prepare their financial reports. The most likely method that is used is the Accrual method here in Australia. There are the two methods of Accounting Cash or Accruals *** do not confuse this with your GST/ BAS Method **

Accounting Period

The time period for which financial information is being tracked. Most businesses here in Australia track the financial year from July 1 to June 30th.

Depreciation

An accounting method used to track the aging and use of assets. Every major asset the business owns will age and eventually requires replacement.

General Ledger

This is where all the accounts are found and historic changes are found and summarised.

GST/BAS Method

There are two methods of accounting for GST: cash basis and non-cash basis (accrual). Businesses with an aggregated turnover of less than $2 million can account for GST on either a cash or non-cash basis.

A larger business over $2 million must use the non-cash method. Using the non-cash method means you account for GST on the BAS that covers the period, in which you issued the tax invoice and received the invoice from your supplier.

Inventory

The account that tracks all products that will be sold to customers.

Journals

Where the bookkeeper or accountant keeps records of daily transactions. Each transaction has its own journal.

Payroll

The way a business pays its employees. Managing payroll is a key function and involves managing aspects of payroll taxes to the ATO including taxes to be paid on behalf of the employee, superannuation, WorkCover and sometimes state payroll tax.

Having insight into what basic accounting terminology means can help you when your business finance. Take time to learn the basics, but always remember your accountant or bookkeeper are there to help you.

 

Information may be abridged and therefore incomplete. This document/information does not constitute, and should not be considered a substitute for, legal or financial advice. Each financial situation is different, the advice provided is intended to be general. Please contact your financial or legal advisors for information specific to your situation.

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