All businesses need to prepare accounts, either for statutory purposes or for supporting the completion of a tax return, and whilst accountants exist to make this necessity easier for clients, all too often we hear the phrase…
“I’ll just sign them, I don’t understand what I’m reading anyway”.
The intricacies of accounts and tax cannot be summed up in one article, but there are some simple points that when clarified could help you to understand what you are signing. It is important that business owners and managers understand their financial picture in order that the information can be used to better plan for the future of the business, through growth, succession, sale, etc, so below I provide some basic outlines of how to better understand your accounts.
A basic set of accounts for most small businesses will consist of a:
- Profit and Loss Account. This is a record of the income and expenses a business has incurred over a given time period, in the majority of cases this will be 12 months, and will show if there has been a profit or a loss made in that time.
- In simple terms this is the revenue (monies the company has earned) with the various costs (expenses) subtracted, resulting in a net profit or loss. Most profit and loss accounts are initially compiled using the transactions that have gone through the business bank account during the period.
- Other items are then also brought into the accounts in order to be compliant with accounting legislation such as movements in prepayments or accruals (the balances of these being shown in the Balance sheet – explained below). These are items that may have been either paid for within the period of account but relate to another period or have been incurred in the period but not yet invoiced.
- Balance sheet. This is a snapshot in time of the assets and liabilities of the business as at the end of the period that the profit and loss account covers. Assets are items that benefit a company economically, such as inventory, buildings, equipment and cash. They help a business manufacture goods or provide services, now and in the future. Liabilities are a company’s obligations—either money owed or services not yet performed.
Depending on the size of your business, and particularly if you are a company, there may be further statutory documents within your accounts and the number of notes or disclosures required normally also increase the larger you are.
No matter your type of business entity, a set of accounts leads to a tax return and one of our most common questions is:
“Why do my accounts show a loss but the tax computation shows a profit?”
To explain this simply, there are differences in the legislation for accounts preparation and tax return preparation, the most common of these being depreciation and capital allowances.
For accounts purposes assets are depreciated over a number of years which is determined by the accountant or the client and different rates are normally applied to different types of assets, cars would retain their value a lot longer than a new laptop for instance, so will have an adjusted year on year economic benefit on the balance sheet.
However for tax, many assets qualify for allowances that mean they can be written off in full in their year of purchase or are subject to allowances that are at rates set by Government.
Accountants have studied for years to gain the level of understanding that we have and, with the ongoing changes we see to legislation, the learning never ends. You trust us to put together a compliant set of accounts for filing on your behalf and we use our knowledge and expertise to do this. That aside, we know that it is a complex area of your business so a good accountant would never mind you asking questions about anything in your accounts. We pride ourselves in knowing the answers so you don’t have to.