Clear, concise, and down to earth strategies to managing your personel and small business financial goals!

Kenneth M. Rumberger, LLC

(727) 375-1040

adviser@strategicaccounting.com

NEW PORT RICHEY, FLORIDA USA

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The Learning Center

Accounting 101

The purpose of this section is to familiarize yourself with the basic fundamental accounting principles.

A chart of accounts is a list of all accounts, sub-accounts and contra-accounts which are used to, (1) identify and measure Assets, Liabilities and Owners Equity and (2) categorize and measure Revenues and Expenses. All accounts will be classified as one of these types; asset, liability, owners' equity, revenue, expense.

Two basic accounting equations are:

A = L + OE
Assets = Liabilities + Owners Equity

NI = Rev - Exp
Net Income = Revenues - Expenses

All transactions you make in your accounting system are a factor in one or both of these equations.

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Debits and Credits

Each account is characterized by a "normal"or regular balance as either a debit or a credit. When you are increasing the balance of an account, your entry would be charged to the "normal" balance for that account.

A transaction is entered into a journal which records the accounts and their debits and credits. There are many combinations of accounts, debits, and credits that can make up an entry, however, the sum of the debits will always equal the sum of the credits.

To make a journal entry you would list the account description in the 1st column, debits in the 2nd, and credits in the 3rd. The following example shows an entry where cash is received and a sale is made. We are increasing an asset and a revenue account. Cash is an asset account with a "normal" debit balance. Sales is a revenue account with a "normal" credit balance.

The example below shows how a decrease in cash (credit) is used to pay an expense (debit).

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Financial Statements

While journal entries record each transaction effecting an account, the company financial statements report on the balances in the accounts.

Three statements include; Income Statement, Balance Sheet & Cash Flow Statement

Income Statement
Net Income = Revenues less Expenses
Reports on a period of time such as, January 1 thru December 31, 2001
The account balances on this statement must be closed at year end (Zero to start new period)

Balance Sheet
Assets = Liabilities + Owners Equity
Reports on a moment in time such as, December 31, 2001
The account balances on this statement carry forward to next period.

Cash Flow Statement
Reconciles Net Income from the income statement with the Cash balance on the balance sheet.
Reports on the change in cash balance over a period of time.
The account balances on this statement originate from both the income statement and balance sheet.

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Methods of Accounting

Cash basis vs. Accrual basis. When to recognize and realize revenues and expenses.

Cash basis accounting recognizes and realizes revenues and expenses when they are collected and disbursed.

Accrual basis accounting recognizes revenues when earned and expenses when incurred.

What's the difference? Accrual basis accounting matches revenues with the expenses incurred to earn those revenues. The advantage is that your financial statements reflect performance more accurately.

Cash basis accounting recognizes revenue when payment is received rather than when earned. Expenses are recognized when paid. If expenses are paid currently and revenues collected 90 days later you can see that a monthly income statement would not reflect performance, but rather collections and disbursements.

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The Time Value of Money

The concept of Time Value of Money (TVM) recognizes the fact that money in hand today is worth more than the same amount at some later point in time. Why? Money earns interest. If $1000 today is deposited @ 10% APR simple interest, then one year from now you have $1100. So the value of $1000 today and $1000 received 1 year today are different by the amount interest earned for the year. Now reverse the scenario and determine the "present value"(PV) of that $1000 received one year from now. Now assume a 10% discount rate (expected APR) to find the PV of $1000 received after one year. You can refer to present value tables such as the one below to find the appropriate present value factor or the following equation will produce the same result.

Equation: Present value factor = 1 / ( 1 + i )ⁿ
where i = discount rate and n = number of periods

1 / ( 1 + .10 )¹ = 1 / 1.10 = .909091 multiplied by the $1000 received a year from now = $909.091 PV

If we deposit $909.091 today @ 10%, in one year from now we have $909.091 * 1.10 = $1000

So if our company is expected to generate $12,000 per year of net profits over the next 10 years you can find the present value of those expected earnings to determine today's value of those furture earnings. Market conditions and the risk of the investment determine the discount rate.

Table:Present Value of $1

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Fixed Assets & Accumulated Depreciation

Fixed assets are physical assets owned by the company. Property, vehicles, equipment, etc...
The purchase of a fixed asset is recorded at the cost of the asset. The asset is then depreciated over it's economic life, thus the cost of the asset is expensed over the life of the asset, rather than expensing the entire cost in the first year.

Accumulated Depreciation is a " contra-account" used to record current and prior depreciation.

Purchase an asset: Equipment for $1000

Record Depreciation Expense 1st Year: (assuming straight-line depreciation for 10 years)

Record Depreciation Expense 2nd Year:

If asset entries are normally "debit", then entries for contra-accounts of an asset would be the opposite "credit".

After two years, the Fixed Asset section of your Balance Sheet would look like this.

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Depreciation

Interest capitalization

Costing & Allocation

Intangible Assets

Liabilities

Equity & Retained Earnings

Entity Structure

Deferred Tax Assets & Liabilities

Inventory Valuation

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Produced by: Kenneth M Rumberger, LLC
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Last revised: November 23, 2003