This is Part 4 in our “All About Bookkeeping” series.
If you missed our first three articles check them out here:
Now that we have a solid foundation of what bookkeeping is and the basics on debts, credits, cash vs accrual, and the chart of accounts, lets talk about the two most popular financial statements, the income statement and balance sheet.
These two statements are the core of your financials and the very first output you typically will get from your bookkeeper.
1. What Is a Income Statement (also known as Profit and Loss)?
Shows you how profitable your business is over a period of time.
- Common Accounts: An income statement contains all your sales (revenue) and expenses. These can include but are not limited to: Sales, Cost of Goods Sold, Bank Service Charges, Contact Labor, Consulting, Travel, Wages & Salaries, etc.
- Time Frame: Any period you would like, however typically: monthly, quarterly, or annually.
- What Does the Income Statement Tell You?
- How much money you made
- How much money you spent
- Profitability of your business
- Start with Revenue
- Next Record Cost of Goods Sold
- Next Record Operating Expenses
- End with Profit or Loss
2. What Is a Balance Sheet?
Shows the financial condition of your business on a specific date in time.
- Common Accounts: A balance sheet contains assets, liabilities, and equity accounts. These can include but are not limited to: Checking Account, Furniture, Equipment, Credit Cards, Loan Payable, Owners Contribution, Owners Draw, Current Year Income (or Loss), etc.
- Time Frame: A balance sheet is always one specific date in time. For example, you could create a balance sheet as of September 30th and it will very likely be different if you use October 1st the next time you run it. That is because it is a snapshot at a specific point in time.
- What Does the Balance Sheet Tell You?
- What You Own
- What You Owe
- What’s Left Over
- Start with Assets
- Next You List Liabilities
- Finally You Have Equity
- Remember Accounting Equation: Assets = Liabilities + Equity
3. Differences Between Income Statement and Balance Sheet
It is important to know the difference between the two because this can often be confusing for business owners.
- Know Whether It Hits Income Statement or Balance Sheet – When you spend money it does not necessarily always go to your income statement and reduce profit.
- Asset Purchase: If you purchase a $10,000 piece of equipment you would not deduct it on the income statement right away. Instead you would add it to your balance sheet as an asset and then expense it over time via depreciation which is when you get the actual expense for it.
- Loan: If you have a loan you only deduct your interest expense, principal payments are not deductible and simply lower your loan payable on your balance sheet. On that same not when you received the loan money it is not considered income, instead it would just increase your loan payable amount on your books.
- Owners Contribution or Owners Draw: When you contribute personal money into the business that is not included as income to the business, instead it is recorded as an owners contribution. In the same note when you withdrawal money as an owners draw or distribution, that is not an expense to the business.
- Normal Income and Operating Expenses: These are the items that hit the income statement and factor into your profit or loss which in the end is what you pay taxes on.
This article was meant to give you a deeper look into two major financial statements for every business. In the next couple articles are going to dig into each financial statement a little deeper to give you a better understanding of each.
If you don’t have an accounting or tax advisor (or you need assistance with anything discussed), click here to book your complimentary strategy session with JETRO.