Understanding Accounting Basics
Accounting serves as a major purpose for every business. It is simply the language of business used to communicate the financial activities and their results. If you are a total beginner in accounting, you could use a basic accounting tutorial as a guide.
What is accounting?
As defined by the American Institute of Certified Public Accountant (AICPA), Financial Accounting is the art of recording, classifying, and summarizing in a significant manner and terms of money, transaction, and event, which in part at least of a financial character and interpreting the results thereof.
Its definition can be broken down into five simple statements.
It is an art.
Accounting is an art because it requires skill and creative judgment. Someone ought to be trained to perform accounting functions well.
And while it is an art, it is also considered a science as it is a body of knowledge. But due to the constant changes in its rules and principles, it cannot be regarded as an exact science.
It consists of interconnected phases.
Accounting consists of three interconnected phases, namely, recording, classifying, and summarizing. Recording refers to keeping records of financial transactions. Whereas classifying refers to grouping together of similar items recorded. Lastly, summarizing is the last step that refers to the preparation of reports or financial statements from the classified entries.
It concerns transactions and events that have financial character.
All financial transactions and happenings are recorded as these impact the financial capabilities of the business. Some of these transactions include salary payments, sales, asset acquisition, expenses, and more.
Transactions are recorded in terms of money.
Recording transactions in accounting requires a nominal value. Without actual monetary amounts, accounting cannot be completed. These amounts make up the necessary figures in performing accounting functions.
It includes the interpretation of results.
Another phase of accounting is the interpreting of derived results. All the results acquired from financial reports generated serve several purposes for the business. After all, everything went through the phases to arrive at figures and data to better help the business study its financial behavior.
The objectives and scope of accounting
Here are the key objectives of accounting in every business:
To keep systematic records
The primary objective of accounting is to keep records of financial transactions. Systematically, all transactions are to be recorded to arrive at correct computations for the financial statements.
To measure profitability
With accounting, anyone can measure their profitability scale. Businesses get an overview of how much they profit or losses they incurred over a given time.
To evaluate the business’s financial position
The creation of a balance sheet makes it possible to assess the financial position of any business. As all assets, liabilities, and remaining equities are listed down in a balance sheet. You can get an indication as to how financially sound your business is.
To help make financial decisions
Accurate financial statements help businesses in decision making. Through these financial reports, a business can easily outline its plans based on past records. This then results in a more sound decision making for the business.
To comply with business laws
Many businesses struggle to comply with tax regulations when they don’t have an auditor to guide them. It is a crucial part of the business since it deals with the country’s governing laws, which may even affect the business’s capability to continue its run. And accounting will help fix all matters that concern compliance with the law.
The processes of accounting
There are nine steps involved in following the processes of accounting.
1. Collect and analyze accounting documents.
This is the identification of the source documents to be recorded. These are commonly the cash, bank sales, assets bought, loans, and other sources documents that have financial character.
2. Post in journal.
The above documents are then put in journal entries via the double-entry system. Here, the debit and credit must remain equal all throughout.
3. Post in ledger accounts.
A ledger is a collection of all accounts. All of the debit and credit balances on the above accounts are to be put in ledger accounts.
4. Preparation of the trial balance.
The trial balance summarizes all balances derived from the ledger accounts with their debit and credit balances. With the use of the double-entry system, the debit and credit balances should be equal as well. The preparation of trial balance is done at the end of an accounting period.
5. Post adjustment entries.
Here, the adjustment entries pass through the journal, then posted in ledger accounts, and in the trial balance. In instances that accrual basis of accounting is used to find correct values of assets, liabilities, revenues, and expenses, adjustment entries are necessary. This step is done every end of an accounting period.
6. Create an adjusted trial balance.
Due to the adjustment entries added, you should also prepare an adjusted trial balance that reflects all adjustments. The adjusted trial balance is an essential document in preparing a business’s financial statements.
7. Prepare the financial statements.
Financial statements present the overall financial health of the business by looking at the derived profits or losses. Some of its kinds include cash flow statement, income statement, balance sheet, statement of changes in owners’ equity, trading and profit & loss account, etc.
8. Perform post-closing entries.
All revenues and expenditures are transferred to the trading and profit & loss account. When all entries are posted, the balances of all accounts of income and expenses go to the net income or loss. And the net balance shows whether the business incurred profits or losses. These results are then recorded to the owners’ equity.
9. Do the post-closing trial balance.
Finally, the last step manifests the derived balances of assets, liabilities, and capital accounts. The balances are used as opening balances for the next accounting period.
That sums up the basic accounting tutorial you need when beginning to learn accounting. There are more terminologies and concepts to know. And here are some resources to help you get more comprehensive training: