Accounting in Everyday Life

Whether you are managing a business or a home, accounting an important part of everyday life.

You look at the salary you have coming in, pay the bills and decide where else to spend your money. You look at the pantry, and take inventory of canned goods and other products before you go grocery shopping.

  

For business and home, two accounting statements are valuable to understand and practice. These statements can help you understand where you money is going, and how to make the best use of what you have. These are the Balance Sheet and the Income Statement.

The Balance Sheet is a statement of your assets and your liabilities. Your home is an asset, because it is worth something, and the amount you owe on it is the liabilities. The equity portion is what you have left in the value of the home after subtracting the cost, or mortgage payments. The equity portion also called your net worth.

In the simplest terms, income statements represent the incoming and the outgoing. The incoming are your paychecks, your customer payments, or your dividend and interest income. The outgoing is what it costs you to maintain your home or business, the gas, the electricity, the groceries, the supplies used to make the product you sell, or used in the service sell. When the incoming is less than the outgoing, you are "in the red". This means you are not making a profit, and have a negative net worth.

The balance sheet and the income statement are dependent on each other. On the balance sheet, there is a liability called Accounts Payable. These are bills you have to pay. When you record an accounts payable, you also record an expense. The Accounts Receivable is the money others owe you. When you record an accounts receivable you record income.

When your Accounts Receivable plus your net worth, or net profit, are less than your accounts payable, you again have a negative net worth.

Credits and debits can be best understood by understanding the Balance Sheet and the Income Statement. On the balance sheet, the assets are debits, and the liabilities are credits. The Equity and net worth is also a credit.

On the income statement, the income is a credit, and the expenses are a debit. When you record your paycheck, you debit your checking account, an asset, and you credit your income. When you pay your bills, you credit your checking, your accounts payable, and debit your expense. At the end of the month, when you balance your checkbook and have cash left over, this is your net worth.

Because you have cash left, the credit of the cash coming in and the debit of the cash going out is a credit balance. This credit balance passes to the Balance Sheet Equity portion, and reduces the liability portion. Hopefully, your assets equal liabilities, and you are said to be "in balance".

Clear as mud?

Think of it as an X. At the top of each side of the X are the Assets and the Liability/Net Worth. Under the Assets are the Expenses; under the Liability/Net Worth is the Income. The Asset side of the X are debits, the Liability/Net Worth side of the X are Credits. The Income less the Expenses is the Net Income. A positive Net Income is a credit balance, and moves to the Balance Sheet. The Assets minus the Liabilities equal the Net equity, or Net Worth.

Can't you hire someone to do this? Of course, but at the end of the day, you need to know how much cash you have on hand. When you apply for a loan, the bank looks at your net worth in this way. That is why they ask about how much you owe on your home, what investments you have, and what you owe. It helps, especially in today's economy, to understand what you have, and do not have, and how to manage the cash coming in to pay your expenses and have some left over.