Accounting is regarded as a Business Language. It is of great essence for a business to establish a good accounting system in order to keep track of every single business transaction or a business event and determine the profitability by dint of income statement and the status of a business with the help of balance sheet.
Accounting is also connected with our personal lives. It is easy to understand and implement for our day-to-day activities that involve money. It is therefore important to understand some of the accounting terms. Accounting term is a specific word that is related to the whole process of accounting. Some of the important accounting terms are mentioned herein.
Accounting – It’s a business language. The art of analyzing, recording, organizing or classifying and maintaining financial activities or the events that are of financial character which in turn leads to prepare financial statements.
Account – An individual record of specific items.
It is a summary of all the business transactions relating to assets or liabilities or capital or revenues or expense etc. Every account has two sides, debit and credit showing accumulated balances.
Accounting Equation - It shows the relationship between the assets, liabilities and capital of a business entity. The accounting equation is: Assets = Liabilities + Capital. The accounting equation states Left hand side equals to Right hand side.
Accounting Period- It indicates the period of time which is no more than twelve months - from January 1 through 31 December. It’s generally a calendar year or a quarter taking the span of time covered by a set of financial statements, income statement, balance sheet and the cash flow statement.
Business Transaction – Any business activity or event that effects a business to show what it owns and what it owes as well as the ownership of the business. For example: A short term Loan amount from bank being debited to cash account and credited to bank account represents that a business house owns the amount and at the same time it owes to bank while making the balances in agreement as assets equals to liabilities.
Debtors – They are the customers or the clients whom a business provides goods or services on credit. They are the ones who owe money to the business.
Creditors – They are the persons whom a business owes the money.
Capital – Capital is the amount that has been invested by the owner or proprietor in the business.
Assets – Assets are such things that have a value that is owned by the business. Anything that gives cash or a benefit is the asset. For example, building, plant machinery etc.
Liability – Liability is the amount that a business has to pay to the outsiders, such as, bank loan, goods on credit.
Revenue – They are the receipts from the sale or services having the effect on owners’ equity.
Expense – The amount of money that is spent for business purposes. It is the cost of running a business to generate revenue, such as, salary and wages etc.
Goods – The articles that are bought for resale are to be known as goods.
Journal – Journal is called as a book of original entry in which all business transactions are recorded in the first place. It’s the basic two column journal provides for entering business transactions date wise with related narration.
Ledger – Ledger is a book of secondary or final entry which contains individual accounts. The term ledger account means an individual account in the ledger. It is a book in which the accounts of persons, income, expenses etc are kept or maintained. It consists of a number of transactions pertaining to a single account.
Journal Entry – It’s logging of items in to journal items being used to identify the business transactions. It consists of several recordings having either debits or credits and leading to make the total of debits to match with the total of credits.
Cash – An asset consisting of coins, bills, money orders, checks, certificates of deposits or treasury bills (a short dated securities having a maturity period of one year or less).
Accounts Receivable- Accounts receivables in simple terms indicates money owned to a business entity by its debtors. It’s a current asset for which oral promises are made by customers.
Accounts payable – Money owed by a company to its creditors. It’s a current liability for which oral promises are made providing as a source of evidence.
Accounts receivable control account- It’s a general ledger account that reflects the total of balances accounts receivable ledgers or related subsidiary ledger accounts.
Accounts payable control account- It’s a general ledger account that reflects the total of balances accounts payable ledgers or related subsidiary ledger accounts.
Note: Control accounts are commonly used for accounts receivables and accounts payable, as these accounts contain a large number of transactions. It provides the summary or total of all the related subsidiary ledger accounts.
Accounts receivable ledger- It is a subsidiary ledger that contains individuals customer accounts.
Accounts payable ledger- It is a subsidiary ledger that contains various creditor accounts or credit transactions.
Cash basis – It’s an accounting system that recognizes the revenue when the cash is received. Similarly, it leads to recognize the expense when the cash is disbursed or spent. It does not match expense with the related revenue during the same accounting period- unlike the accruals basis accounting method which matches expenses with revenues during the same accounting period.
Accrual basis- It’s an accounting method that shows the accumulation of revenues and expenses whose value has been incurred but for which no cash has been received or spent. Most businesses use this method, because it leads to match the expenses with the related revenues during the same period and vice versa.
Accrued revenue – When the sale of a product or service is made on credit, the transaction is recognized as revenue even though the cash has not been received.
Accrued expenses – It is a method used when the expenses are incurred but the cash has not been paid, such as, salary or wages etc.
Contra Account- Any account that is used to offset the related account to reflect the proper amount on the financial statements. An example of contra account is sales return or purchase return that offset the sales and purchases accounts respectively.
Bad debt- An expense that is recognized as result of a customer’s failure to pay certain amount pertaining to sale or service that was already made on credit
Amortization – It is a systematic write-off of the cost of intangible assets over their economic life. It may be a discount of bond payable to interest expense over the life of bond. This should make clear that one account is balance sheet account and another is income statement account. In this way, amortization involves a systematic allocation of balance sheet item to income statement item that is, revenue or expense.
Accumulated depreciation- It is a contra asset account used to offset an asset which involves depreciating. The accumulated depreciation account is credited when an asset is recorded. It shows the balance that represents the amount of cumulative depreciation expense having been recognized since the asset was placed in to service. The assets that are subject to depreciation are: Buildings, machinery, office equipment, furniture, fixtures and vehicles etc.
Good will – The value that is assigned to the managerial skills or to the reputation of a business entity. It is to be recognized usually at the time when a business is going to be sold.
Gross Sale – It shows the balance in the sales ledger which is not adjusted for discounts or returns – as sales returns. It’s the gross total of all sales transactions being reported during a particular period.
Net-Sales – It represents gross sales (As Stated above) minus the three deductions, such as, sales allowances, sales returns and sales discounts.
Investments- The assets that are not intended to be used in the operations of a business and neither are they expected to be converted in to cash within one year.
Income Statement – It is one of the three main financial statements which represents the revenues and the expenses and net income - being the revenues in excess of expenses; and loss - being in excess of revenues for a specific period of time. It is considered like a moving picture of the entity’s operations showing the results during a particular period of time.
Balance Sheet – It is one of the main financial statements which reveals the financial position of a business at a particular movement in time. It’s a detailed presentation of assets, liabilities and owner’s equity. It is nothing but a detailed accounting equation that shows the total value of assets is equal to the total liabilities plus capital. The balance sheet is like a snapshot of a firm at some point in time showing the status of business.
The term, accounting cycle, is commonly referred to as accounting process or the steps involved for all the business activities during an accounting period. It’s a standard practice in financial accounting that allows an organization to record and calculate its financial activities appropriately.
Complex systems of the modern world require more than simple solutions. There is often a need to elaborate upon the context in totality, identify point that can be potentially leveraged to bring about long term changes, and find ways and means to manipulate the system into delivering the desired long term results.
The accounting equation aids the professionals greatly in making sure that the whole process is being done in an effective and efficient manner. Lets discuss in detail some other benefits of accounting equation. .