Basic Accounting Principles: Accounting Basics & Main Principles for Beginners

basic accounting principles and tools

To learn more about how debits and credits work, see this explainer on double-entry accounting. We believe everyone should be able to make financial decisions with confidence. For instance, GAAP allows companies to use either first in, first out (FIFO) or last in, first out (LIFO) as an inventory cost method. The Securities and Exchange Commission (SEC), the U.S. government agency responsible for protecting investors and maintaining order in the securities markets, has expressed interest in transitioning to IFRS. However, because of the differences between the two standards, the U.S. is unlikely to switch in the foreseeable future. The 35-member Financial Accounting Standards Advisory Council (FASAC) monitors the FASB.

basic accounting principles and tools

A business with healthy (positive) equity is attractive to potential investors, lenders, and buyers. Investors and analysts also look at your business’s EBITDA, which stands for earnings before interest, taxes, depreciation, and amortization. Essentially, debits and credits track where the money in your business is coming from, and where it’s going. We wrote this accounting guide to ease you into the world of business accounting. By the end, you’ll feel ready to tackle your own business’s accounting (or find someone who can help).

What’s an Expense Report? [Why It Matters + Template]

The going concern assumption means the accountant believes that the company will not be liquidated in the foreseeable future. In other words, the company will be able to continue operating long enough to meet its obligations and commitments. As a result, the accountant can continue to report most assets at their historical cost and can defer some costs to future periods. If companies were able to pick and choose what information to disclose and how, it would be a nightmare for investors. Accounting principles differ around the world, meaning that it’s not always easy to compare the financial statements of companies from different countries. Accounting information is not absolute or concrete, and standards are developed to minimize the negative effects of inconsistent data.

  • Finally, individuals analyze these reports and make decisions based on the information in them.
  • The International Financial Reporting Standards (IFRS) is the most widely used set of accounting principles in EU countries.
  • A chart of accounts includes assets, liabilities, equity, revenue, expenses, and cost of goods sold.
  • If a business has positive retained earnings, then the business’s equity will increase.
  • The going concern principle just means that you should act and record transactions as though your company will keep existing for the foreseeable future.

For example, most accounting packages offer basic modules that handle general ledger, sales order, accounts receivable, purchase order, accounts payable, and inventory control functions. Tax programs use accounting data to prepare tax returns and tax plans. Point-of-sale terminals used by many retail firms automatically record sales and do some of the bookkeeping.

Reliability principle

Conversely, debits are accounting entries that increase an asset or expense account and decrease a liability or equity account. These entries are recorded on the left side of the account and reflect incoming money. In other words, the burn rate is the amount of money your business needs to cover all expenses and commitments in a time period. Assets are any tangible or intangible item with monetary value that a business owns or controls.

basic accounting principles and tools

The only exception to this principle is if a company is about to be liquidated, in which case the acting accountant should disclose this information in any assessment. This prevents your books from having abstract or vague units of currency Best Law Firm Accounting Software in 2023 take the place of real cash. For example, if you’re a small business owner, you shouldn’t record “a favor” as a unit of currency. This helps you to keep better records for your business and will assist with any future audits.

Forensic accounting

Accountants take bookkeepers’ transactions, classify and summarize the financial information, and then prepare and analyze financial reports. Accountants also develop and manage financial systems and help plan the firm’s financial strategy. Revenues are to be recognized (reported) on a company’s income statement when they are earned.

  • For a full rundown of GAAP and what each concept means, see NerdWallet’s generally accepted accounting principles (GAAP) explainer.
  • Say you’re comparing two departments, but they record the same transactions in different ways.
  • The United States uses a separate set of accounting principles, known as generally accepted accounting principles (GAAP).
  • During the month of February, Metro Corporation earned a total of $50,000 in revenue from clients who paid cash.
  • That way, businesses can easily compare financial reports from different accounting periods.

The principle of permanence of methods confirms that all financial reporting methods remain the same over time. That way, businesses can easily compare financial reports from different accounting periods. You can think of accounting principles as standards or guidelines that accountants and business owners should strive to adhere to all the time.

Regularly review your accounting processes

Accounting basics include understanding assets, liabilities, equity, revenues, and expenses, as well as relevant financial statements and accounting principles. In this case, we’re discussing number one, the basic accounting principles that dictate how your accountant does their job. These accounting principles guarantee consistency in accounting reports and financial statements among all businesses and therefore, help protect business owners, consumers, and investors from fraud. Ultimately, then, the more you understand about these basic accounting principles, the easier it will be to work with any accounting professional you hire for your business.

This way, you’ll arm yourself with all of the accounting knowledge you need to address issues as they arise and ultimately, promote your business’s financial success. It is because of this basic accounting principle, then, why you defer the recognition of expenses to a later accounting period. The matching principle entails that the earned income and related expenses must be accounted for in the same accounting period. If the income and expenses don’t correlate, the costs must be charged to expenses. The concept of the matching principle highlights the necessity of recording the cause and effect of revenues and expenses. Basic accounting principles are the foundation for all other financial reporting.

Leave a Comment

Your email address will not be published. Required fields are marked *