Most business owners understand that in order to be successful, they need to understand the basics of accounting.
When you are familiar with the role of the accountant, you can better evaluate the financial situation of your business.
What is the Role of an Accountant?
The role of an accountant is to keep a business’ financial information and data organised.
Systems have been developed by accountants that sort the different business transactions into records known as accounts.
On setting up a company accounting system, the accounts identified to be most affected by business transactions are listed. This list is commonly known in the world of accounting as the chart of accounts.
The chart of accounts may list as few as around 30 different accounts or as many as a few thousand, it all depending on the size of the company and how complex its operations are.
A company can tailor its chart of accounts in order to best meet its individual needs.
A chart of accounts will list first the balance sheet accounts, and then the income statement accounts. What this means is that the accounts within the chart are organised as follows:
- Stockholders’ (Owner’s) Equity
- Income or Revenues
- Profits (Gains)
As each business transaction will affect at least 2 accounts, the accounting system used is known as a double-entry accounting system.
Once the two or more accounts involved in the business transaction are identified, at least one account must be credited and one debited.
When you debit an account, you must enter an amount on the left hand side of the account. When an account is credited, the amount is edited on the right hand side.
What are the 5 Accounting Principles?
Accounting principles are concepts and essential rules that govern the field of accounting.
They also guide the process of accounting so that data is recorded, analysed, verified, and reported in a way that the overall financial position of the business can be seen and analysed.
The five principles are used in all steps of the accounting process, ensuring a correct representation of the overall financial position of the company.
The 5 Principles of Accounting Are:
Revenue Recognition Principle
Revenue recognition principle concerns the revenue being correctly recognised in the company income statement.
Historical Cost Principle
The historical cost principle states that an asset acquired by the business should be recorded in the accounting charts at the price paid at the time of acquisition.
This recorded cost being the basis for the accounts both during the period of acquisition as well as during subsequent and future accounting periods.
The expenses the business incurs during an accounting period, according to the matching principle, must be matched with the revenues of the same period.
For example, when revenue is recognised on all products sold during an accounting period, the initial cost of the products or goods sold must also be charged to the same period.
Full Disclosure Principle
According to the Full Disclosure Principle, financial statements of the company should not act as a way of concealing; they should act as a means of conveying.
The company financial statements much disclose all reliable and relevant information in order to make the information useful to all users.
In accordance with the Objectivity Principle, accounting data must be verifiable, definite, and free form any bias from the accountant dealing with the accounts.
What this means is that according to the Objectivity Principle, each event or transaction that is recorded in the book of accounts must have sufficient evidence to support its entry into the book.
Read more about the main accounting principles.
What are The Three Golden Rules of Accounting?
Debits are entries that are made on the left hand side of the account. Debits increase expenses or assets, or decrease liability, equity, or revenue accounts.
Credits are made on the right hand side of accounts; credits increase liability, equity, and revenue accounts and decrease expense and asset accounts.
Both debits and credits must be recorded for each transaction.
The 3 golden rules of accounting revolve around both credits and debits. Here are three main rules you need to follow:
Credit the giver and debit the receiver
The rule of crediting the giver and debiting the receiver comes into play with all personal accounts. Personal accounts are general ledger accounts that pertain to organisations or individuals.
If you give something, credit the account. If you receive something, debit the account.
Credit what goes out and debit what comes in
This second golden rule must be used for real accounts. Real accounts can be liability accounts, asset accounts, or equity accounts.
Real accounts can also be referred to by the term permanent accounts. Permanent accounts don’t close annually; their balances are carried over to the next year and the next accounting period.
With real account, when something such as an asset comes into your business you must debit the account accordingly. When something leaves your business, the account must be credited.
Debit Expenses and Losses, Credit Income and Gains
The last of the 3 golden rules of accounting deals with nominal accounts, these being accounts that you close at the end of accounting periods. They are also commonly known as temporary accounts and can include expense, revenue, and profit and loss accounts.
In the case of nominal account, if your business has a loss or expense, debit the account. When your businesses gains something or receives income, your account must be credited.
What is The Best Accounting Book for Beginners?
Here are the top 5 accounting books to help you understand the world of accounts and finance.
1. Accounting Made Simple
Accounting Explained in 100 Pages or Less
by Mike Piper
This book offers straightforward and practical examples, making the book straight forward and simple, shedding light on all the necessary concepts without unnecessary technicalities or jargon.
In the book many topics are covered including the significance of the Accounting Equation, calculation, preparing and reading financial statements, the interpretation of the different financial ratios, the concepts, and the assumptions found behind GAAP.
2. Accounting All-in-One for Dummies
by Kenneth Boyd, Lita Epstein, Mark P. Holtzman, Frimette Kass-Shraibman, Maire Loughran, Vijay S. Sampath, John A. Tracy, Tage C. Tracy, Jill Gilbert Welytok
This book from the ever-popular For Dummies Series provides a powerful and one-stop accounting reference.
It is relevant for anyone who handles money, offering a basic understanding of the principles of accounting.
Knowing how to stay in the black and balance your books is vital in order to keep your business afloat, as is keeping your check book balanced at all times.
3. Warren Buffett Accounting Book
Reading Financial Statements for Value Investing
by Stig Brodersen and Preston Pysh.
This book is one of Warren Buffer’s 3 favourite books. Buffett’s style of investing begins with fundamental analysis, moving on to pure accounting research.
This book is aimed at investing professionals who have just started out in the industry.
4. Financial Shenanigans
How to Detect Accounting Gimmicks & Fraud in Financial Reports
by Howard Schilit and Jeremy Perler
This book gives real-world examples of accounting frauds as well as giving techniques on how to detect fraudulent accounts.
This book is great for both the layman as well as for the financial professional, allowing them to understand and avoid gimmicks and tricks that are often plated upon investors.
5. A Brief History of Economic Genius
by Paul Strathern
This is one of the most interesting an accessible books in terms of describing how business principles, the intersection of math, and philosophy have shaped the fields of accounting and economics over the last centuries.
In the book, the progression of economic theory and math are uncovered, from double entry accounting and bookkeeping to the discovery of various application of the probability theory and the discovery of standard deviation.
If you want to learn more about the basics of accounting, there are a number of options available for learning at home.
Are you a business owner looking to improve your accounting skills? Read more about learning accounting skills as a business owner to help your business grow.