Basic Bookkeeping Part Ii: Assets, Liabilities, and Expenses

Once you have a handle on the basics of double entry accounting, the next section of bookkeeping to tackle is developing an understanding of assets, liabilities and expenses. This is the key to knowing the worth of your company. It is also immensely helpful in understanding your bookkeeping records and your taxes, as well as avoiding audits, or penalties in that unfortunate circumstance.

Assets are the tangible things your company owns. Your inventory for resale is an asset. So is any equipment you have, including computers, copiers, refrigerators and microwaves and office furniture. Even office supplies you have on hand are considered assets, though they are consumable. Any office supplies or other consumables you have on hand are valued at the amount at which they were purchased. So is inventory. Your checking account, petty cash and accounts receivables are also assets valued with no adjustment to your books. Any equipment your company owns is valued at a specific percentage of the purchase price based on age. The adjustment for the loss in value is called depreciation.

There is also a term for things that have no purchase value, but can still increase the value of your company. These things are called intangible assets. Contracts, customer lists, contacts, insider knowledge, and patents are intangible assets. Many of these things are based on the current condition of the market in your niche, and will vary depending on the timing of this calculation. Really anything you can stake a claim to is an asset. The value of these things is not based on anything other than purchase price and time since. If you owe money on something, that part of the calculation for the value of your company is recorded under liabilities.

Liabilities are accounts that show the amount of money your company owes people. Any loans, accounts payable and payroll liabilities are all accounts that indicate money owed and qualify as liabilities. The equity in your company is the difference between your assets and your liabilities. If your liabilities exceed your assets, then your equity will be negative. The report that shows all of this is called a balance sheet. It is a collective value for your company based on the assets, the liabilities and the equity. The assets will always equal the liabilities plus the equity. Subtracting the liabilities and the equity from the assets will always equal zero. That is the balance. The balance sheet is necessary in calculating taxes, but it has nothing at all to do with expenses.

Expenses are a record of how your company spends money. They help you budget, and they help you figure out your net profit and thereby your company taxes, but only figure into the value of your company in the net profit. Your expense accounts should be specific enough to help you keep your records organized, but they do not need to be individualized to each vendor. Common expense accounts are, among others, freight, office supplies, advertising, telephone, rent, utilities, insurance, licenses and fees, travel and entertainment, and taxes. Many companies also utilize a miscellaneous expense account for random expenses incurred which do not fall under any of the other categories, particularly if the purchase is a one-time thing. Donuts for a breakfast meeting might fall under this category.

Something that many people do not understand is that each and every time you spend money on something it falls under some expense account somewhere. Whether or not that expenditure is a valid expense is a totally different issue. If you spent the money out of your company and not personally, it falls under an expense account. If it is supposed to be personal, I recommend recording it under payroll as a bonus or something so that it is taxed appropriately and in the event of an audit you can avoid a penalty.

I highly recommend that everyone learn the basics of assets, liabilities and expenses. It will make everything you do in your business easier. It can help you calculate the value of your company in the event of a sale or merger, and it will also help you avoid problems with various revenue departments. It does not have to be complicated. It just has to be accurate and correct. Once you know the rules, you can follow them. If you already have someone following the rules in your company, now you can begin to understand them.