A-Z of accounting terms

There are lots of accounting terms out there so I thought I would go through the common ones and explain what they are!

A IS FOR ACCRUALS BASIS


Accruals basis is a type of accounting method.


This method records income and expenses when they are incurred rather than when the cash is paid or received.


You may hear accountants say they have “accrued” their accountancy fees for preparing your accounts so that the cost is included in the year end accounts even though the bill has not yet been received or paid.


Limited companies MUST prepare their year end accounts on an accruals basis whereas sole traders and partnerships can choose to use the cash basis instead if their turnover is less than £150,000.


B IS FOR BALANCE SHEET


A balance sheet gives you a snapshot at a given point in time, usually on your year end, of everything your business owns and everything your business owes.


It is usually one of the pages in the year end accounts prepared by your accountant.

  • The top part of the balance sheet shows the business assets – the things your business owns.

  • The middle part of the balance sheet shows the business liabilities – the things your business owes.

  • The bottom part of the balance sheet shows what is available to the owners/shareholders of the business and where this has been generated from.

By looking at a balance sheet you can get a good idea of a business’s financial position.


C IS FOR CORPORATION TAX


Corporation Tax is the tax payable by Limited companies on their profits.

The current rate of Corporation Tax is 19%.


Corporation Tax is payable to HMRC 9 months and 1 day after the end of your accounting period.


D IS FOR DEPRECIATION


Depreciation is an accounting adjustment to reduce the value of a businesses asset (such as machinery or a car) over a period of time.


We do this as assets purchased today usually will not be worth the same value in say 5 years time.


As a business you will set a standard policy to depreciate your assets over a set period of time. This could be 3 years, 4 years, 10 years etc.


This helps to show a truer picture of the value of the business’s assets.


E IS FOR EXPENSES


Expenses are the costs incurred in running your business.


This is an area where I get a lot of questions asking whether different costs can or cannot be included and whether they are allowed to be deducted for tax purposes (the answers may not be the same!).


Its worth having an understanding of the types of expenses you can include for business purposes and if you are unsure speak to you accountant or make a note for them when you send in your accounts information.


F IS FOR FIXED ASSETS


Fixed assets are items that you purchase for your business that will be used for at least a couple of years.


This may be things such as computer equipment, furniture, machinery, motor vehicles and property.


Fixed assets are shown on the balance sheet and depreciated over a set period of time (we covered this on D!).


G IS FOR GROSS PROFIT


Gross profit is the difference between your sales and cost of sales.


The gross profit figure is used to calculate a gross profit margin percentage which can be reviewed and compared to previous periods. The gross profit margin shows you how much profit (towards overheads) your business is making for every pound of sales.


The gross profit margin is effectively your sales mark up or added value to a product and can highlight pricing issues or inefficiencies.


H IS FOR HIRE PURCHASE


Hire purchase is a type of asset finance that allows businesses to use an asset without having to pay the full upfront cost.


They then spread the cost into monthly repayments and at the end of the agreement the asset is then owned by the individual/business.


Interest is usually payable on hire purchase agreements so it will cost you more in the long run to purchase the asset than it would if you bought it outright now but it gives individuals and businesses a more flexible option which can be better for cashflow purposes.


I IS FOR INVOICES


An invoice is a document that details the products and services a business provides to a customer. This is the document which asks a customer to make payment to your business.


Invoices should include:

  • a unique identification number

  • your company name, address and contact information

  • the company name and address of the customer you’re invoicing

  • a clear description of what you’re charging for

  • the date the goods or service were provided (supply date)

  • the date of the invoice

  • the amount(s) being charged

  • VAT amount if applicable

  • the total amount owed

If the business if VAT registered then VAT invoices must be prepared and sent to customers.


You must keep your records for a minimum of 6 years from the end of the last financial year. These can be kept in hard copy or as an electronic copy.


J IS FOR JOURNAL


A journal is a bookkeeping entry which usually enters transactions into your accounts which doesn’t normally have a physical invoice or bank transaction.


These are usually entered as part of the month or year end procedures.


If you use an accountant they are likely to process the journals onto your software for you.


Examples may include depreciation of fixed assets, accruals and prepayments.


K IS FOR KPI’s


KPI stands for Key Performance Indicators and these are usually formulas or figures which get reviewed on a monthly, quarterly, annual basis.


These help a business to monitor their business as you compare like for like.


Examples may include sales growth, gross profit margin (profit of selling a product or service after direct costs), net profit margin (profit of selling a product or service after all costs), wages as a % of sales, debtor days (how long on average it takes a customer to pay you), stock turnover (how long it takes you to sell your stock).


L IS FOR LIABILITIES


Liabilities are normally legally binding obligations that your business owes to another person or business.


Examples may include:

  • Trade creditors (day to day expenses such as stock, admin expenses etc)

  • Amounts owed to HMRC (such as Corporation Tax, VAT and PAYE)

  • Unpaid wages to employees

  • Loans


M IS FOR MANAGEMENT ACCOUNTS


Management accounts are financial reports for the owners of the business. These are usually prepared monthly or quarterly.


They will normally include a profit and loss account and balance sheet but they will be more detailed and less formal than the annual statutory accounts that are prepared.


The purpose of preparing management accounts is to understand how the business is currently performing and can help business owners make business decisions.


If you are using an accounting software these can be generated quite quickly if the information is up to date and correct.


N IS FOR NET BOOK VALUE


When you have machinery and equipment (called fixed assets) you will be spreading the cost of them over a number of years (also called depreciation).


The net book value of an asset is the initial cost of the item less any depreciation charged to date.


You would expect that the net book value of an asset to be similar to the price you would get if you sold that asset today.


You will see net book value or NBV for short in the notes to your accounts as part of the fixed assets note.


O IS FOR OVERHEADS


Overheads are the costs associated with running the business rather than the cost of selling a product.


Examples include:

  • Rent

  • Telephone

  • Advertising

Its important to keep an eye on your overheads as the costs can creep up so its always worth making a 6 monthly check on subscriptions and direct debits to make sure they are still required.


P IS FOR PREPAYMENTS


A prepayment is when you pay an invoice or costs for a period in advance. What a prepayment does in the accounts is moves part of the cost to the period it relates to.


You will find it sat within debtors on the balance sheet.


Examples include:

  • Rent

  • Insurance

  • Subscriptions

Q IS FOR QUICKBOOKS


Ok so not technically an accounting term but it is Q!


Quickbooks Online is a cloud based accounting software which helps you to prepare your financial information quickly and efficiently.


The key features of Quickbooks Online:

  • Create sales invoices, send to customers and offer payment options to get paid quicker

  • Connect your bank account to Quickbooks to reduce manual entry

  • Upload purchase invoices through their receipt scan software

  • Have access to your financial information on the go with their mobile app

  • And much more

If you aren’t currently using an accounting software for your business you will need to be over the next couple of years so now might be the perfect time to have a look.


R IS FOR RETAINED EARNINGS


You may have heard of retained earnings if you have a Limited company as this refers to the accumulated profit or income left in a business after paying the shareholders dividends.


You will see this figure on the balance sheet and it is sometimes called ‘profit and loss account’.


This needs to be positive in order to declare a dividend.


S IS FOR SOLE TRADER


A sole trader is a self-employed person who owns and runs their own business as an individual.


Operating as a sole trader is the simplest way to get started.


As a sole trader you get taxed on the profits you make through your Self Assessment Tax Return.


T IS FOR TURNOVER


When you think turnover you may have an image pop up of a warm fruity pastry…but unfortunately that’s not the same in accounting.


Turnover is a fancy accounting word for the total sales your business makes.


U IS FOR UTR


UTR stands for Unique Taxpayer Reference. This is a 10 digit number provided to you or your Limited company by HMRC.


This 10 digit number identifies you to HMRC and is required when you file a tax return or make a tax payment to HMRC.


V IS FOR VAT


VAT stands for Value Added Tax and is a tax you have to pay on goods and services.


There are different rates of VAT:

  • 20% (standard rate)

  • 5% (reduced rate) examples include electricity/gas, car seats, hospitality (for now).

  • 0% (zero rated) examples include most supermarket food, childrens clothes, newspaper and magazines.

As a business if your taxable sales exceed £85,000 you are required to register with HMRC for VAT and start charging VAT on your sales. There are some circumstances where it may be beneficial for you to become VAT registered even though your sales do not exceed the threshold.


W IS FOR WORKING CAPITAL


Working capital is the fancy name for the cash your business needs to run.


Working capital is calculated as current assets (so trade debtors, stock and cash) less current liabilities (so trade creditors, payroll, PAYE/NI, VAT).


This can be calculated from your balance sheet.


As a business you want this figure to be positive – have enough cash to fund your day to day activities.


This may not be possible in the short term so it may be negative as you fund the business through overdrafts, loans or personal funding. An example of this may be where you have to buy £x amount of stock upfront to sell to your customers but they are not going to pay you for 30/60/90 days etc.


Working capital and cashflow work hand in hand and they are important to get a handle on when running a business.


X IS FOR XERO


Ok so not technically an accounting term but it is X!


Xero is a cloud based accounting software which helps you to prepare your financial information quickly and efficiently.


The key features of Xero:

  • Create sales invoices, send to customers and offer payment options to get paid quicker

  • Connect your bank account to Xero to reduce manual entry

  • Upload purchase invoices through their receipt scan software Hubdoc

  • Have access to your financial information on the go with their mobile app

  • And much more

If you aren’t currently using an accounting software for your business you will need to be over the next couple of years so now might be the perfect time to have a look.


Y IS FOR YEAR END


This is a term used all the time by accountants and we just can’t help it!!


Year end is the end of your financial year. It’s the date we prepare your accounts up to.


For most sole traders and partnerships this is likely to be 31st March or 5th April but for Limited companies it could be the end of any month!


As a Limited company your year end is normally determined by when you first incorporated (set up) your Limited company at Companies House. You can choose to make your year end a different date with Companies House too if for some reason it doesn’t quite work for you.


Z IS FOR ZERO RATED VAT


There are a number of goods and services where they are chargeable to VAT at 0% - known as Zero rated.


This means that they still fall into the VAT rules but VAT is charged at 0% rather than the standard rate of 20% or the reduced rate of 5%.


Zero rated supplies should be included on your VAT return.


Examples of zero rated goods and services:

  • Childrens clothes and footwear

  • Basic foods

  • Books and newspapers

If your business is one that supplies mostly zero rated goods and services then it may be beneficial to voluntarily register for VAT in order to reclaim VAT on your expenses.


If you have any questions on any of the topics mentioned please feel free to get in touch.

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