What is business accounting?
Business accounting is the methodology by which businesses gain an understanding of their finances. Without accurate accounting, SMEs cannot get to grips with their cash flow, make informed financial decisions or ensure tax compliance.
Businesses may handle their accounts in-house or enlist an outsourced accountant to manage them. Whether you choose to manage your accounts or not, it is always worth getting to know the fundamental principles of accounting to understand your business finances better.
The basics of business accounting
Business accounting is a broad term encompassing various principles and disciplines. However, these accounting basics will help you understand the fundamentals that inform business decision-making and help to ensure compliance when your company needs to file its tax return. Let’s take a look.
Assets, liabilities and equity
The three main accounting principles are assets, liabilities and equity.
Your company’s finances are made up of the things you owe (your liabilities, the things you and your shareholders own (your equity) and the items that make your company what it is (its assets).
Assets and liabilities are divided into the following subcategories:
Current Asset: Assets that will only be with you for one year or less such as cash, accounts receivable, prepaid expenses, and stock/inventory
Fixed Assets: These are long-term assets like machinery, plant or equipment that are with you for the long haul
Current Liabilities: [Current liabilities]((https://squareup.com/gb/en/glossary/current-liability) are debts and expenses that need to be paid within the financial year, such as short term loans, accounts payable, wages, etc.
Long-Term Liabilities: these will stay with the company for more than a year and cannot be liquified (converted into cash). These may include financed or leased vehicles, machinery or plant, trademarks and patents, etc.
The fundamental formula of accounting:
Assets = Liabilities + Equity
Cash vs accrual accounting
Cash and accrual are different accounting methods that lend themselves to different business sizes and operational models. The fundamental difference is when cash is logged as an asset.
When using the cash method, the funds are logged as an asset as soon as they are received. Tax is then calculated based on the resulting net earnings. This is the simplest form of accounting, used by smaller companies and microbusinesses.
When using the accrual method, revenue is recognised as soon as the company sends an invoice. While the company does not yet have access to the invoice amount, it is still technically an asset. Likewise, expenses are logged in the period that matches the revenue they helped generate instead of when funds are outgoing.
Accounting vs bookkeeping: What’s the difference?
Bookkeeping is one of the disciplines that fall under the umbrella of accounting. Bookkeeping is all about recording the day-to-day transactions that make up your operations and ensuring that all revenue and expenditure are correctly accounted for.
On the other hand, accounting focuses on the bigger picture, using the data recorded during bookkeeping activities to drive business decisions and report to HMRC.
Frequently asked questions about business accounting
Why is business accounting important?
Business accounting is essential in providing visibility of your company’s finances. It helps businesses understand their assets, liabilities and equity better and make strategic decisions accordingly.
Business accounting is also essential for ensuring accuracy and compliance when reporting your income and expenditure to HMRC.
I have an accountant. Do I also need a bookkeeper?
Accountants may or may not include bookkeeping as part of their service. If you are a sole trader or a microbusiness, you may be able to manage your bookkeeping yourself. However, this may prove impractical for some SMEs. There are many standalone bookkeeping services or automated bookkeeping platforms like FreshBooks.
With Square, you can easily integrate with one of our partner integrations for your accounting and tax needs.