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Basic Terms used in Accounting

Updated on February 6, 2014

Financial Statements

There are two basic financial statements which are prepared by an enterprise:

  1. Profit & Loss Statement, and
  2. Balance Sheet.

Accounting Equation

The three components of a balance sheet can be stated in the form of following basic accounting equation

Assets = Liabilities + Capital (owners equity)
eg: Rs.50,000=Rs. 10,000+Rs.40,000

This equation tells at a glance that the resources of this enterprise total Rs. 50,000 and these assets are financed by two sources — Rs. 10,000 by the creditors(liabilities), also known as outsiders claims, and Rs.40,000 by the owner (capital), also known as owner equity.

Business Transactions

It is an economic event that relates to a business entity. It can be a purchase of goods, collection of money, payment to creditors for goods and expenses. An event to be a transaction must possess the quality of economic substance, relate to business and affect the economic results. In other words, an event must be capable of being measured in monetary terms and related to business enterprise in terms of economic consequence.

Assets

These are economic resources of an enterprise that can be usefully expressed in monetary terms. Assets are things of value used by the business in its operations.

For example, Departmental Store owns a fleet of trucks, which is used by it for delivering food stuff; the trucks, thus, provides economic benefits to the enterprise. This item will be shown of the asset side of the balance sheet of Departmental Store. Assets can be broadly classified into two types: Fixed Assets and Current Assets.

  • Fixed Assets are assets held on a long term basis, such as land, buildings, machinery, plant, furniture and fixtures. These assets are used for doing business and not for re-sale in normal course of operation.
  • Current Assets are assets held on a short term basis such as debtors (account receivable), bills receivable (notes receivable), stock (inventory), temporary investment in securities, cash and bank balances. Normally the short term refers to an accounting year.

Liabilities

These are the obligations or debts that the enterprise must pay in money or services at sometime in the future.

Therefore, represent creditors, claims against assets of the firms. Both small and big businesses find it necessary to borrow money at some time or the other, and to purchase goods on credit.

For example, super bazaar, purchases goods for Rs. 10,000 on credit for a month from Fast Foods Products Company on 25 December 2001. If the balance sheet of Departmental stores is prepared as at 31 December 2001, Fast Food Products Company will be shown as creditors (accounts payable) on the liabilities side of the balance sheet. If the departmental store also takes a loan for a period of three years from ABC Bank Ltd., this will be shown as a liability in the balance sheet of the Departmental Stores.

  • Long term liabilities are those that are usually payable after a period of one year, for example, a term loan from financial institution or debentures (bonds) issued by the company.
  • Short term liabilities are obligations that are payable within a period of one year, for example, creditors (accounts payable), bills payable (notes payable), cash credit overdraft from a bank for a short period.

Capital

Investment by the owners for the use in the firm is known as capital. From the accounting equation given earlier, it can easily be found that the capital is Rs.40,000. Owner’s equity is the ownership claim on total assets. It is equal to total assets minus total external liabilities: E=A-L this is also called residual interest. Owner's equity is equal to capital.

Sales

Sales are total revenues from goods sold and/or services sold or provided to customers. Sales may be cash sales or credit sales.

Revenues

These are the amounts the business earns by selling it products or providing services to customers. These are called 'sales revenues'. Other items and sources of revenues common to many businesses are: sales, fees, commission, interest, dividends, royalties, rent received, etc.

Expenses

These are costs incurred by a business in the process of earning revenues. Generally, expenses are measured by the cost of assets consumed or services used during an accounting period.

The usual items of expenses are: depreciation, rent, wages, salary, interest, costs of heat, light and water, telephone, etc.

Expenditure

Expenditure is the amount of resources consumed. Usually, it is of long term in nature. Therefore, its benefit is to be derived in future. For example: capital expenditure.

Loss

Loss is the gross decreases in the assets or gross increases in the liabilities. It is the excess of expenses over revenues. It represents reduction in owners' equity due to inability of the firm to recover the assets used in the business.

For example, a firm spends Rs. 70,000 and generates revenue of Rs. 60,000, there is a loss of Rs. 10,000 which represents non-recovery of assets consumed in doing business.

Income

Income is the increase in the net worth of the organization either from business activity or other activities. Income is a comprehensive term, which includes profit also. In accounting income is the positive change in the wealth of the firm over a period of time.

Profit

Profit is the excess of revenues over expenses during an accounting year. It increases the owner’s equity.

Gains

Gain is the change in the equity (net worth) arising from change in the form and place of goods and holding of assets over a period of time whether realized or unrealized. It may either be of capital nature or revenue nature or both.

Drawings

It is the amount of cash or other assets withdrawn by the owner for his personal use.

Purchases

Purchases are total amounts of goods procured by a business on credit and for cash, for use or sale. In a trading concern, purchases are made of merchandise for resale with or without processing. In a manufacturing concern, raw materials are purchased, processed further into finished goods and then sold. Purchases may be cash purchases or credit purchases.

Stock

Stock (inventory) is a measure of something on hand-goods, spares and other items-in a business. It is called stock on hand.

In a trading concern, the stock on hand is the amount of goods which have not been sold on the date on which the balance sheet is prepared. This is also called closing stock (ending inventory). In a manufacturing company, closing stock comprises raw materials, semi-finished goods and finished goods on hand on the closing date.

Similarly, opening stock (beginning inventory) is the amount of stock at the beginning of the accounting year.

Debtors/Accounts Receivable

Debtors (accounts receivable) are persons and/or other entities who owe to an enterprise an amount for receiving goods and services on the credit. The total amount due from such persons and/or entities on the closing date is shown in the balance sheet as the sundry debtors (account receivables) on the asset side.

Creditors/Accounts Payable

Creditors (accounts payable) are persons and/or other entities who have to be paid by an enterprise an amount for providing the enterprise goods and/ or services on credit. The total amount standing due to such persons and/or entities on the closing date is shown on the balance sheet as sundry creditors (accounts payable) on the liability side.

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    • profile image

      akki 6 years ago

      it helps to make a good command in account....i m thankful to provide the basic terminology

    • cheerfulnuts profile image

      cheerfulnuts 6 years ago from Manila, Philippines

      Well-written hub. Easy to understand for laymen like me. =D

    • forlan profile image

      forlan 6 years ago

      What is drawings?

    • dilipchandra12 profile image
      Author

      Dilip Chandra 6 years ago from India

      @ forlan

      While preparing financial statements, entity/company is treated as a person. The owner of the entity too, treated as an outsider.

      Amount of cash or other assets withdrawn from the entity/ company by the owner for his personal use are considered as drawings.

    • profile image

      Kamdar Sonali 5 years ago

      Nice one............perfect for students to understand it thoroughly

    • profile image

      bloch 5 years ago

      these terms provide an essential knowledge to a student but a beginner who doesn't know anything abot accounting this vocabulary is somewhat difficult and some basic terminologies are also missing like discount, drawings etc. It's my suggestion. Plz think about it. but i'm satisfied

    • profile image

      kamal rajput 5 years ago

      what is finance

    • dilipchandra12 profile image
      Author

      Dilip Chandra 5 years ago from India

      @ kamal rajput, Finance is the management of large amounts of money, esp. by governments or large companies. Also, it is provide funding for a person or enterprise.

    • profile image

      reji 5 years ago

      what is dividend?

    • profile image

      Shatabdi Das 5 years ago

      thanks for the guidance.

    • profile image

      mandeep kaur 4 years ago

      hey its a nice.how can i download these terms

    • profile image

      saidy 4 years ago

      helpfull for all us

    • profile image

      ChocoRag 4 years ago

      What is a Issued debit note, and Issued credit note? Explain about received too. Thanks.

    • profile image

      tazeem moazam 4 years ago

      how share holders are debtors of company

    • profile image

      tajamul 4 years ago

      i am doing m.com right now i would have love to learn it before five years this is such a great platform for freshers. thanks

    • profile image

      sam 4 years ago

      ..hey its great!!!

    • profile image

      kate 4 years ago

      this explanation was understandable :P

    • profile image

      Pankaj 4 years ago

      What is bank Reconciliation

    • profile image

      Jayshree Patil 4 years ago

      It is very useful

    • profile image

      B. MalReddy 4 years ago

      we need simple definition for all accounting terms and concepts, Pls send the soft copy to my mail sir, Mail ID: bmalli80@gmail.com

    • profile image

      laksh 4 years ago

      what is firm under writing or what is importance for firm underwriters!!!!

    • dilipchandra12 profile image
      Author

      Dilip Chandra 4 years ago from India

      An underwriting firm is also called a house of issue. They are hired by the issuer (Company issuing new shares) to place a new issue with investors.

      Their importance: Underwriters guarantee the price for a certain number of shares of the new issue. Underwriters often increases the chance that the placement will be successful with their experience on placing securities with investors.

    • profile image

      rakesh 4 years ago

      thank u guys.............

    • profile image

      Rajeeb Chakrabarty 4 years ago

      directly come over the topic

    • profile image

      Shir-lene 4 years ago

      Can anyone tell me which of these is owner equity accounts receivable cash at bank drawings and land

    • profile image

      Rak... 4 years ago

      owner equity is capital.. it comes under liability and accounts receivable, cash at bank it all comes under current asset

    • profile image

      mankatha madhan 3 years ago

      its really usefull..................................

    • profile image

      bose 3 years ago

      super

    • profile image

      charu 3 years ago

      what is event

    • profile image

      SONU KUMAR JHA 3 years ago

      Any or all activities in which we are doing in our day to day life.

      E.g., Singing, Eating , Buying, Selling, Sleeping etc.

    • profile image

      happa 3 years ago

      helpful

    • profile image

      grenp 3 years ago

      Is there any terminology for mid term capital investment? For example: Owners/investors investing their personal money into the company accounts to meet expenses during period of loss?

    • dilipchandra12 profile image
      Author

      Dilip Chandra 3 years ago from India

      @ grenp - The term is Capital infusion.

    • profile image

      grenp 3 years ago

      Thanks @dilipchandra12

    • csmiravite-blogs profile image

      Consolacion Miravite 3 years ago from Philippines

      Nice hub about accounting terms and terminologies. It comes as easy reading for non-accountants! Nice hub!

    • profile image

      manju s k 2 years ago

      Its good and understandable

    • profile image

      fulmati hessa 2 years ago

      I have learnd many terminologies from this..Its good and useful..

    • profile image

      hawa 2 years ago

      What is error of account

    • profile image

      amar singh 2 years ago

      Thanks.

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