Basic Accounting Terms to Know (Even If You Have an Accountant)

Are you new to accounting or just looking to brush up on your accounting terms as a business owner? Even if you have your own accountant, it’s important to familiarize yourself with the most common financial terms. Here are 17 terms you should know.

Accounts payable

Accounts payable is the combined bills your business owes, not including your payroll costs. Because they aren’t immediately paid, they’re considered liabilities and are usually expenses on company credit cards or bills. Accounts payable allows you to consider your current liabilities versus assets when buying something new for your company.

Accounts receivable

Accounts receivable is incoming money owed to your business for services or products received. This is considered an asset because it’s money that your business is bringing in. You typically track accounts receivable with invoices.

Accruals

Accruals are a type of accounting where you record your income as soon as it’s earned and expenses as soon as they’re billed. Therefore, your real time accounts aren’t always matching your recorded profit. Accruals give you a long-term view of your business’s future income and expenses.

[Read more: A Guide to Small Business Accounting]

Assets

Assets are resources or property with economic value owned by the business. Assets can be both tangible and intangible and can include investments, cash, inventory, and real estate.

Balance sheet

A balance sheet is used as a quick insight into your business’s current financial position. It includes what the company owes and owns, as well as any capital. It allows you to compare sections of your business to understand how much your business is worth at any given time.

Break-even point

A break-even point is when you’re bringing in just enough money to cover what you owe in your business. This means your business isn’t earning or losing any profit.

Burn rate

This is the amount of time your business will be able to continue operating with the cash you have without turning a profit. It tells you how long you can be self-sustaining without a steady income.

Cash flow

Cash flow is the amount of money that’s coming into and going out of your business—both your gains and losses. Your business’s cash flow is present in operating activities, investment activities, and financing activities.

Credit

Credit is the money that flows out of your business’s accounts. Using credit either increases liability or revenue accounts, or decreases an asset or an expense account. 

[Read more: 10 Free Accounting Tools for Your Small Business] 

Depreciation

Depreciation happens when an asset loses its value over time. In accounting software, depreciation is used as a method to allocate the cost of the asset’s life expectancy.

Dividends

Dividends refer to the amount owed to stockholders or shareholders from a company’s profits. They are a distribution of a company’s earnings, requiring the business to have a hold on its real-time losses and gains. A stockholder equity statement shows dividends as a reduction in retained earnings.

Expenses

Expenses are the costs a business owes for acquiring something. Expenses can be broken down into:

• Fixed: These expenses stay the same from month to month or year to year, such as rent and salaries.
• Variable: These expenses are based on a company’s production and can go up or down based on production of sales.
• Accrued: These expenses are calculated and reported but aren’t yet paid.
• Operational: These expenses are necessary for the operation of the business.

Using employee expense apps that integrate with your accounting software can improve accuracy. Some bookkeeping systems also have built-in expense tracking features. 

Fiscal year

A fiscal year is a measured period of time used for accounting purposes. Each company chooses its preferred timeline of what works best for them, and it doesn’t have to start in January. You will need to know what your fiscal year is when you set up bookkeeping software or outsource accounting tasks. 

Forecasting

Businesses use forecasting to predict future business trends by looking at past financial data. It can be used to predict things such as sales, gross profit, or how long it will take to pay off debts. Free accounting tools provide historical and current financial information that you can use to create forecasts.

Gross margin

Gross margin is the percentage of revenue you have after paying direct expenses, i.e., the cost of goods sold (COGS). Tracking changes to your gross margin can help you decide when to raise prices, invest in your business, or cut costs.     

Liabilities

Liabilities are legal or financial debts your business owes, such as mortgages, credit card debt, taxes, and accounts payable. Accounting tools typically track liabilities on payroll and tax reports, balance sheets, and accounts receivable aging reports. 

Net income

Net income is your bottom line. It shows how much money remains after paying all expenses. This is an essential financial health metric to track and refer to when making purchasing decisions.    

Profit and loss statement

A profit and loss statement is also known as an income statement or an earnings statement. It helps you identify your profits and losses to evaluate your company’s current financial standing, usually quarterly.

Revenue

Your business’s revenue is the total sales and cash flow of goods and services from its primary productions. 

Working capital

Working capital refers to how much money you have on-hand to meet daily business needs. Subtract current liabilities, such as accounts payable, from current assets (accounts receivable, cash, and inventory) to calculate working capital. 

How these terms connect: reading a financial statement from start to finish

Accounting terms are easier to understand when you see how they look in income statements, balance sheets, and cash flow statements. And financial statements turn into practical tools when you know how the terms connect. In fact, regularly reviewing statements is one of the best ways to avoid surprises and prevent common accounting mistakes. 

Here’s what you learn from reading financial statements:

• An income statement shows profitability.
• Your balance sheet reflects your financial position.
• A cash flow statement shows liquidity. 

Read financial statements together

Start with an income statement to see if your business made money during a specific time frame. This statement looks at revenue coming in from sales and COGS, the costs of producing or delivering goods. The difference between these figures is gross profit. Then, the statement goes through what it costs to run your business. It subtracts operating expenses, taxes, interest, and other items from gross profit to find net income. 

A balance sheet explains what your business owns (liabilities) and owes (assets). It also shows equity, which is your remaining interest after subtracting liabilities from assets. 

Lastly, a cash flow statement helps you understand where your money goes. This statement is particularly valuable when your income statement shows a profit but your company still struggles to pay bills. A cash flow statement can show how much money is tied up in operating, investing, or financing activities. 

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