Glossary of Accounting Terms
A
Above the Line
This term can be applied to many aspects of accounting. It means transactions, assets etc., that are associated with the everyday running of a business. See Below the Line.
Account
A section in a ledger devoted to a single aspect of a business (eg. a Bank account, Wages account, Office expenses account).
Accounting Cycle
This covers everything from opening the books at the start of the year to closing them at the end. In other words, everything you need to do in one accounting year accounting wise.
Accounts Payable
An account in the Nominal Ledger which contains the overall balance of the Purchase Ledger.
Accounts Payable Ledger
A subsidiary ledger which holds the accounts of a business’s suppliers. A single control account is held in the Nominal Ledger which shows the total balance of all the accounts in the purchase ledger.
Accounts Receivable
An account in the Nominal Ledger which contains the overall balance of the Sales Ledger.
Accounts Receivable Ledger
A subsidiary ledger which holds the accounts of a business’s customers. A single control account is held in the Nominal Ledger which shows the total balance of all the accounts in the sales ledger.
Accretive
If a company acquires another and says the deal is ‘accretive to earnings’, it means that the resulting PE ratio (price/earnings) of the acquired company is less than the acquiring company. Example: Company ‘A’ has an earnings per share (EPS) of $1. The current share price is $10. This gives a P/E ratio of 10 (current share price is 10 times the EPS). Company ‘B’ has made a net profit for the year of $20,000. If company ‘A’ values ‘B’ at, say, $180,000 (P/E ratio=9 [180,000 valuation/20,000 profit]) then the deal is accretive because company ‘A’ is effectively increasing its EPS (because it now has more shares and it paid less for them compared with its own share price) (see Dilutive).
Accruals
If during the course of a business certain charges are incurred but no invoice is received then these charges are referred to as accruals (they ‘accrue’ or increase in value). A typical example is interest payable on a loan where you have not yet received a bank statement. These items (or an estimate of their value) should still be included in the profit & loss account. When the real invoice is received, an adjustment can be made to correct the estimate. Accruals can also apply to the income side.
Accrual Method of Accounting
Most businesses use the accrual method of accounting (because it is usually required by law). When you issue an invoice on credit (ie. regardless of whether it is paid or not), it is treated as a taxable supply on the date it was issued for income tax purposes (or corporation tax for limited companies). The same applies to bills received from suppliers. (This does not mean you pay income tax immediately, just that it must be included in that year’s profit and loss account).
Accumulated Depreciation Account
This is an account held in the Nominal Ledger which holds the depreciation of a fixed asset until the end of the asset’s useful life (either because it has been scrapped or sold). It is credited each year with that year’s depreciation, hence the balance increases (ie. accumulates) over a period of time. Each fixed asset will have its own accumulated depreciation account.
Advanced Corporation Tax (ACT – UK only – no longer in use)
This is corporation tax paid in advance when a limited company issues a dividend. ACT is then deducted from the total corporation tax due when it has been calculated at year end. ACT was
abolished in April 1999. See Corporation Tax.
Amortization
The depreciation (or repayment) of an (usually) intangible asset (eg. loan, mortgage) over a fixed period of time. Example: if a loan of 12,000 is amortized over 1 year with no interest, the monthly payments would be 1000 a month.
Annualize
To convert anything into a yearly figure. Eg. if profits are reported as running at $10k a quarter, then they would be $40k if annualized. If a credit card interest rate was quoted as 1% a month, it would be annualized as 12%.
Appropriation Account
An account in the Nominal Ledger which shows how the net profits of a business (usually a partnership, limited company or corporation) have been used.
Arrears
Bills which should have been paid. For example, if you have forgotten to pay your last 3 months rent, then you are said to be 3 months in arrears on your rent.
Assets
Assets represent what a business owns or is due. Equipment, vehicles, buildings, creditors, money in the bank, cash are all examples of the assets of a business. Typical breakdown includes ‘Fixed assets’, ‘Current assets’ and ‘non-current assets’. Fixed refers to equipment, buildings, plant, vehicles etc. Current refers to cash, money in the bank, debtors etc. Non-current refers to any assets which do not easily fit into the previous categories (such as Deferred Expenditure).
At Cost
The ‘at cost’ price usually refers to the price originally paid for something, as opposed to, say, the retail price.
Audit
The process of checking every entry in a set of books to make sure they agree with the original paperwork (eg. checking a journal’s entries against the original purchase and sales invoices).
Audit Trail
A list of transactions in the order they occurred.
B
Bad Debts Account
An account in the Nominal Ledger to record the value of un-recoverable debts from customers. Real bad debts or those that are likely to happen can be deducted as expenses against tax liability (provided they refer specifically to a customer).
Bad Debts Reserve Account
An account used to record an estimate of bad debts for the year (usually as a percentage of sales). This cannot be deducted as an expense against tax liability.
Balance Sheet
A summary of all the accounts of a business. Usually prepared at the end of each financial year. The term ‘balance sheet’ implies that the combined balances of assets exactly equals the liabilities and Equity (aka net worth).
Balancing Charge
When a fixed asset is sold or disposed of, any loss or gain on the asset can be reclaimed against (or added to) any profits for income tax purposes. This is called a balancing charge.
Bankrupt
If an individual or unincorporated company has greater liabilities than it has assets, the person or business can petition for, or be declared by its creditors, bankrupt. In the case of a limited company or corporation in the same position, the term used is Insolvent.
Below the Line
This term is applied to items within a business which would not normally be associated with the everyday running of a business. See Above the Line.
Bill
A term typically used to describe a purchase invoice (eg. an invoice from a supplier).
Bought Ledger
See Purchase Ledger.
Burn Rate
The rate at which a company spends its money. Example: if a company had cash reserves of $120m and it was currently spending $10m a month, then you could say that at the current ‘burn rate’ the company will run out of cash in 1 year.
C
CAGR
(Compound Annual Growth Rate) The year on year growth rate required to show the change in value (of an investment) from its initial value to its final value. If a $1 investment was worth $1.52 over three years, the CAGR would be 15% ((1 x 1.15) x 1.15 x 1.15)
Called-Up Share Capital
The value of unpaid (but issued shares) which a company has requested payment for. See Paid-up Share Capital .
Capital
An amount of money put into the business (often by way of a loan) as opposed to money earned by the business.
Capital Account
A term usually applied to the owners equity in the business.
Capital Allowances (UK specific)
The depreciation on a fixed asset is shown in the Profit and Loss account, but is added back again for income tax purposes. In order to be able to claim the depreciation against any profits the Inland Revenue allow a proportion of the value of fixed assets to be claimed before working out the tax bill. These proportions (usually calculated as a percentage of the value of the fixed assets) are called Capital Allowances.
Capital Assets
See Fixed Assets.
Capital Employed (CE)
Gross CE=Total assets, Net CE=Fixed assets plus (current assets less current liabilities).
Capital Gains Tax
When a fixed asset is sold at a profit, the profit may be liable to a tax called Capital Gains Tax. Calculating the tax can be a complicated affair (capital gains allowances, adjustments for inflation and different computations depending on the age of the asset are all considerations you will need to take on board).
Cash Accounting
This term describes an accounting method whereby only invoices and bills which have been paid are accounted for. However, for most types of business in the UK, as far as the Inland Revenue are concerned as soon as you issue an invoice (paid or not), it is treated as revenue and must be accounted for. An exception is VAT : Customs & Excise normally require you to account for VAT on an accrual basis, however there is an option called ‘Cash Accounting’ whereby only paid items are included as far as VAT is concerned (eg. if most of your sales are on credit, you may benefit from this scheme – contact your local Customs & Excise office for the current rules and turnover limits).
Cash Book
A journal where a business’s cash sales and purchases are entered. A cash book can also be used to record the transactions of a bank account. The side of the cash book which refers to the cash or bank account can be used as a part of the Nominal Ledger (rather than posting the entries to cash or bank accounts held directly in the nominal ledger – see ‘Three column cash book’).
Cash Flow
A report which shows the flow of money in and out of the business over a period of time.
Cash Flow Forecast
A report which estimates the cash flow in the future (usually required by a bank before it will lend you money, or take on your account).
Cash in Hand
Charge Back
Refers to a credit card order which has been processed and is subsequently cancelled by the cardholder contacting the credit card company directly (rather than through the seller). This results in the amount being ‘charged back’ to the seller (often incurs a small penalty or administration fee to the seller).
Chart of Accounts
A list of all the accounts held in the Nominal Ledger.
CIF (Cost, Insurance, Freight (c.i.f.))
A contract (international) for the sale of goods where the seller agrees to supply the goods, pay the insurance, and pay the freight charges until the goods reach the destination (usually a port – rather than the actual buyers address). After that point, the responsibility for the goods passes to the buyer.
Circulating Assets
The opposite to Fixed Assets. Circulating assets describe those assets that turn from cash to goods and back again (hence the term circulating). Typically, you buy some raw materials, start to manufacture a product (the asset is called Work in Progress at this point), produce a product (it is now Stock ), sell it (it is now back to cash again).
Closing the Books
A term used to describe the journal entries necessary to close the sales and expense accounts of a business at year end by posting their balances to the profit and loss account, and ultimately to close the profit & loss account too by posting its balance to a capital or other account.
Companies House (UK only)
The title given to the government department which collects and stores information supplied by limited companies. A limited company must supply Companies House with a statement of its final accounts every year (eg. trading and profit and loss accounts, and balance sheet).
Compensating Error
A double-entry term applied to a mistake which has cancelled out another mistake.
Compound Interest
Apply interest on the capital plus all interest accrued to date. Eg. A loan with an annually applied rate of 10% for 1000 over two years would yield a gross total of 1210 at the end of the period (year 1 interest=100, year two interest=110). The same loan with Simple Interest applied would yield 1200 (interest on both years is 100 per year).
Contra Account
An account created to offset another account. Eg: a Sales contra account would be Sales Discounts. They are accounts included in the same section of a set of books, which when compared together, give the net balance. Example: Sales=10,000 Sales Discounts=1,000 therefore Net Sales=9,000. This example, affecting the revenue side of a business, is also referred to as Contra revenue. The tell-tale sign of a contra account is that it has the oposite balance to that expected for an account in that section (in the above example, the Sales Discounts balance would be shown in brackets – eg. it has a debit balance where Sales has a credit balance).
Control Account
An account held in a ledger which summarises the balance of all the accounts in the same or another ledger. Typically each subsidiary ledger will have a control account which will be mirrored by another control account in the Nominal Ledger (see ‘Self-balancing ledgers’).
Cook the Books
Falsify a set of accounts. See also Creative Accounting.
Corporation Tax (CT – UK only)
The tax paid by a limited company on its profits. At present this is calculated at year end and due within 9 months of that date. From April 1999 Advanced Corporation Tax was abolished and large (UK) companies now pay CT in instalments. Small and medium-sized companies are exempted from the instalment plan.
Cost Accounting
An area of Management Accounting which deals with the costs of a business in terms of enabling the management to manage the business more effectively.
Cost-Based Pricing
Where a company bases its pricing policy solely on the costs of manufacturing rather than current market conditions.
Cost-Benefit
Calculating not only the financial costs of a project, but also the cost of the effects it will have from a social point of view. This is not easy to do since it requires valuations of intangible items like the cost of job losses or the effects on the environment. Genetically modified crops are a good example of where cost-benefits would be calculated – and also impossible to answer with any degree of certainty!
Cost Centre
Splitting up your expenses by department. Eg. rather than having one account to handle all power costs for a company, a power account would be opened for each depatrment. You can then analyse which department is using the most power, and hopefully find of way of reducing those costs.
Cost of Finished Goods
The value (at cost) of newly manufactured goods shown in a business’s manufacturing account. The valuation is based on the opening raw materials balance, less direct costs involved in manufacturing, less the closing raw materials balance, and less any other overheads. This balance is subsequently transferred to the trading account.
Cost of Goods Sold (COGS)
A formula for working out the direct costs of your stock sold over a particular period. The result represents the gross profit. The formula is: Opening stock + purchases – closing stock.
Cost of Sales
A formula for working out the direct costs of your sales (including stock) over a particular period. The result represents the gross profit. The formula is: Opening stock + purchases + direct expenses – closing stock. Also, see Cost of Goods Sold.
Creative Accounting
A questionable! means of making a companies figures appear more (or less) appealing to shareholders etc. An example is ‘branding’ where the ‘value’ of a brand name is added to intangible assets which increases shareholders funds (and therefore decreases the Gearing). Capitalizing expenses is another method (ie. moving them to the assets section rather than declaring them in the Profit & Loss account).
Credit
A column in a journal or ledger to record the ‘From’ side of a transaction (eg. if you buy some petrol using a cheque then the money is paid from the bank to the petrol account, you would therefore credit the bank when making the journal entry).
Credit Note
A sales invoice in reverse. A typical example is where you issue an invoice for £100, the customer then returns £25 worth of the goods, so you issue the customer with a credit note to say that you owe the customer £25.
Creditors
A list of suppliers to whom the business owes money.
Creditors (Control Account)
An account in the Nominal Ledger which contains the overall balance of the Purchase Ledger.
Current Assets
These include money in the bank, petty cash, money received but not yet banked (see ‘cash in hand’), money owed to the business by its customers, raw materials for manufacturing, and stock bought for re-sale. They are termed ‘current’ because they are active accounts. Money flows in and out of them each financial year and we will need frequent reports of their balances if the business is to survive (eg. ‘do we need more stock and have we got enough money in the bank to buy it?’).
Current Cost Accounting
The valuing of assets, stock, raw materials etc. at current market value as opposed to its Historical Cost .
Current Liabilities
These include bank overdrafts, short term loans (less than a year), and what the business owes its suppliers. They are termed ‘current’ for the same reasons outlined under ‘current assets’ in the previous paragraph.
Customs and Excise
The government department usually responsible for collecting sales tax (eg. VAT in the UK).
D
Days Sales Outstanding (DSO)
How long on average it takes a company to collect the money owed to it.
Debenture
This is a type of share issued by a limited company. It is the safest type of share in that it is really a loan to the company and is usually tied to some of the company’s assets so should the company fail, the debenture holder will have first call on any assets left after the company has been wound up.
Debit
A column in a journal or ledger to record the ‘To’ side of a transaction (eg. if you are paying money into your bank account you would debit the bank when making the journal entry).
Debtors
A list of customers who owe money to the business.
Debtors (Control Account)
An account in the Nominal Ledger which contains the overall balance of the Sales Ledger.
Deferred Expenditure
Expenses incurred which do not apply to the current accounting period. Instead, they are debited to a ‘Deferred expenditure’ account in the Non-Current Assets area of your Chart of Accounts. When they become current, they can then be transferred to the profit and loss account as normal.
Depreciation
The value of assets usually decreases as time goes by. The amount or percentage it decreases by is called depreciation. This is normally calculated at the end of every accounting period (usually a year) at a typical rate of 25% of its last value. It is shown in both the profit & loss account and balance sheet of a business. See Straight-Line Depreciation.
Dilutive
If a company acquires another and says the deal is ‘dilutive to earnings’, it means that the resulting P/E (price/earnings) ratio of the acquired company is greater than the acquiring company. Example: Company ‘A’ has an earnings per share (EPS) of $1. The current share price is $10. This gives a P/E ratio of 10 (current share price is 10 times the EPS). Company ‘B’ has made a net profit for the year of $20,000. If company ‘A’ values ‘B’ at, say, $220,000 (P/E ratio=11 [220,000 valuation/20,000 profit]) then the deal is dilutive because company ‘A’ is effectively decreasing its EPS (because it now has more shares and it paid more for them in comparison with its own share price). (see Accretive)
Dividends
These are payments to the shareholders of a limited company.
Double-Entry Book-Keeping
A system which accounts for every aspect of a transaction – where it came from and where it went to. This from and to aspect of a transaction (called crediting and debiting) is what the term double-entry means. Modern double-entry was first mentioned by G Cotrugli, then expanded upon by L Paccioli in the 15th century.
Drawings
The money taken out of a business by its owner(s) for personal use. This is entirely different to wages paid to a business’s employees or the wages or remuneration of a limited company’s directors (see ‘Wages’).
E
EBIT
Earnings before interest and tax (profit before any interest or taxes have been deducted).
EBITA
Earnings before interest, tax and amortization (profit before any interest, taxes or Amortization have been deducted).
EBITDA
Earnings before interest, tax, depreciation and amortization (profit before any interest, taxes, Depreciation or Amortization have been deducted).
Encumbrance
A liability (eg. a mortgage is an encumbrance on a property). Also, any money set aside (ie. reserved) for any purpose.
Entry
Part of a transaction recorded in a journal or posted to a ledger.
Equity
The value of the business to the owner of the business (which is the difference between the business’s assets and liabilities).
Error of Commission
A double-entry term which means that one or both sides of a double-entry has been posted to the wrong account (but is within the same class of account). Example: Petrol expense posted to Vehicle maintenance expense.
Error of Ommission
A double-entry term which means that a transaction has been ommitted from the books entirely.
Error of Original Entry
A double-entry term which means that a transaction has been entered with the wrong amount.
Error of Principle
A double-entry term which means that one or both sides of a double-entry has been posted to the wrong account (which is also a different class of account). Example: Petrol expense posted to Fixtures and Fittings.
Expenses
Goods or services purchased directly for the running of the business. This does not include goods bought for re-sale or any items of a capital nature (see Stock and Fixed Assets).
F
FIFO
First In First Out. A method of valuing stock.
Fiscal Year
The term used for a business’s accounting year. The period is usually twelve months which can begin during any month of the calendar year (eg. 1st April 2001 to 31st March 2002).
Fixed Assets
These consist of anything which a business owns or buys for use within the business and which still retains a value at year end. They usually consist of major items like land, buildings, equipment and vehicles but can include smaller items like tools. (see Depreciation)
Fixtures & Fittings
This is a class of fixed asset which includes office furniture, filing cabinets, display cases, warehouse shelving and the like.
Flash Earnings
A news release issued by a company that shows its latest quarterly results.
Flow of Funds
This is a report which shows how a balance sheet has changed from one period to the next.
FOB
An abbreviation of Free On Board. It generally forms part of an export contract where the seller pays all the costs and insurance of sending the goods to the port of shipment. After that, the buyer then takes full responsibility. If the goods are to travel by train, it’s called FOR (Free On Rail).
Freight Collect
The buyer pays the shipping costs.
G
Gearing (aka Leverage)
The comparison of a company’s long term fixed interest loans compared to its assets. In general two different methods are used: 1. Balance sheet gearing is calculated by dividing long term loans with the equity (or proprietor’s net worth). 2. Profit and Loss gearing: Fixed interest payments for the period divided by the profit for the period.
General Ledger
See Nominal Ledger.
Goodwill
This is an extra value placed on a business if the owner of a business decides it is worth more than the value of its assets. It is usually included where the business is to be sold as a going concern.
Gross Loss
The balance of the trading account assuming it has a debit balance.
Gross Margin
The difference between the selling price of a product or service and the cost of that product or service often shown as a percentage. Eg. if a product sold for 100 and cost 60 to buy or manufacture, the gross margin would be 40%. Gross margin can also be expressed on a the total revenue and costs of producing that revenue as well as on an item by item basis.
Gross Profit
The balance of the trading account assuming it has a credit balance.
Growth and Acquisition (G & A)
Describes a way a company can grow. Growth means expanding through its normal operations, Acquisition means growth through buying up other companies.
H
Historical Cost
Assets, stock, raw materials etc. can be valued at what they originally cost (which is what the term ‘historical cost’ means), or what they would cost to replace at today’s prices. (see Price Change Accounting)
I
Impersonal Accounts
These are accounts not held in the name of persons (ie. they do not relate directly to a business’s customers and suppliers). There are two types, see Real and Nominal.
Imprest System
A method of topping up petty cash. A fixed sum of petty cash is placed in the petty cash box. When the petty cash balance is nearing zero, it is topped up back to its original level again (known as ‘restoring the Imprest’).
Income
Money received by a business from its commercial activities. See ‘Revenue’.
Inland Revenue
The government department usually responsible for collecting your tax.
Insolvent
A company is insolvent if it has insufficient funds (all of its assets) to pay its debts (all of its liabilities). If a company’s liabilities are greater than its assets and it continues to trade, it is not only insolvent, but in the UK, is operating illegally (Insolvency act 1986).
Intangible Assets
Assets of a non-physical or financial nature. An asset such as a loan or an endowment policy are good examples. See Tangible Assets.
Integration Account
See Control Account.
Inventory
A subsidiary ledger which is usually used to record the details of individual items of stock. Inventories can also be used to hold the details of other assets of a business. See Perpetual , Periodic .
Invoice
A term describing an original document either issued by a business for the sale of goods on credit (a sales invoice) or received by the business for goods bought (a purchase invoice).
J
Journal(s)
A book or set of books where your transactions are first entered.
Journal Entries
A term used to describe the transactions recorded in a journal.
Journal Proper
A term used to describe the main or general journal where other journals specific to subsidiary ledgers are also used.
L
Landed Costs
The total costs involved when importing goods. They include buying, shipping, insuring and associated taxes.
Ledger
A book in which entries posted from the journals are re-organised into accounts.
Leverage
See Gearing.
Liabilities
This includes bank overdrafts, loans taken out for the business and money owed by the business to its suppliers. Liabilities are included on the right hand side of the balance sheet and normally consist of accounts which have a credit balance.
LIFO
Last In First Out. A method of valuing Stock.
LILO
Last In Last Out. A method of valuing Stock.
Long Term Liabilities
These usually refer to long term loans (ie. a loan which lasts for more than one year such as a mortgage).
Loss
See Net Loss.
M
Management Accounting
Accounts and reports are tailor made for the use of the managers and directors of a business (in any form they see fit – there are no rules) as opposed to financial accounts which are prepared for the Inland Revenue and any other parties not directly connected with the business. See Cost Accounting.
Manufacturing Account
An account used to show what it cost to produce the finished goods made by a manufacturing business.
Matching Principle
A method of analysing the sales and expenses which make up those sales to a particular period (eg. if a builder sells a house then the builder will tie in all the raw materials and expenses incurred in building and selling the house to one period – usually in order to see how much profit was made).
Maturity Value
The (usually projected) value of an Intangible asset on the date it becomes due.
MD & A
Management Discussion and Analysis. Usually seen in a financial report. The information disclosed has deen derived from analysis and discussions held by the management (and is presented usually for the benefit of shareholders).
Memo Billing (aka Memo Invoicing)
Goods ordered and invoiced on approval. There is no obligation to buy.
Memorandum Accounts
A name for the accounts held in a subsidiary ledger. Eg. the accounts in a Sales Ledger .
Minority Interest
A minority interest represents a minority of shares not held by the holding company of a subsidiary. It means that the subsidiary is not wholly owned by the holding company. The minority shareholdings are shown in the holding company accounts as Long Term Liabilities .
Moving Average
A way of smoothing out (i.e. removing the highs and lows) of a series of figures (usually shown as a graph). If you have, say, 12 months of sales figures and you decide on a moving average period of 3 months, you would add three months together, divide that by three and end up with an average for each month of the three month period. You would then plot that single figure in place of the original monthly points on your graph. A moving average is useful for displaying trends. See Normalize.
Multiple-Step Income Statement (aka Multi-Step)
An income statement (aka Profit and Loss) which has had its revenue section split up into sub-sections in order to give a more detailed view of its sales operations. Example: a company sells services and goods. The statement could show revenue from services and associated costs of those revenues at the start of the revenue section, then show goods sold and cost of goods sold underneath. The two sections totals can then be amalgamted at the end to show overall sales (or gross profit). See Single-Step Income Statement .
N
Narrative
A comment appended to an entry in a journal. It can be used to describe the nature of the transaction, and often in particular, where the other side of the entry went to (or came from).
Net Loss
The value of expenses less sales assuming that the expenses are greater (ie. if the profit and loss account shows a debit balance).
Net of Tax
The price less any tax. Eg. if you sold some goods for $12 inclusive of $2 sales tax, then the ‘net of tax’ price would be $10.
Net Profit
The value of sales less expenses assuming that the sales are greater (ie. if the profit and loss account shows a credit balance).
Net Worth
See Equity.
Nominal Accounts
A set of accounts held in the nominal ledger. They are termed ‘nominal’ because they don’t usually relate to an individual person. The accounts which make up a Profit and Loss account are nominal accounts (as is the Profit and Loss account itself), whereas an account opened for a specific customer is usually held in a subsidiary ledger (the Sales Ledger in this case) and these are referred to as Personal accounts.
Nominal Ledger
A ledger which holds all the nominal accounts of a business. Where the business uses a subsidiary ledger like the sales ledger to hold customer details, the nominal ledger will usually include a control account to show the total balance of the subsidiary ledger (a control account can be termed ‘nominal’ because it doesn’t relate to a specific person).
Normalize
This term can be applied to many aspects of accounting. It means to average or smooth out a set of figures so they are more consistent with the general trend of the business. This is usually done using a Moving Average .
O
Opening the Books
Every time a business closes the books for a year, it opens a new set. The new set of books will be empty, therefore the balances from the last balance sheet must be copied into them (via Journal entries) so that the business is ready to start the new year.
Ordinary Share
This is a type of share issued by a limited company. It carries the highest risk but usually attracts the highest rewards.
Original Book of Entry
A book which contains the details of the day to day transactions of a business (see Journal ).
Overheads
These are the costs involved in running a business. They consist entirely of expense accounts (eg. rent, insurance, petrol, staff wages etc.).
P
Paid-Up Share Capital
The value of issued shares which have been paid for. See Called-Up Share Capital.
P.A.Y.E (UK only)
‘Pay as you earn’. The name given to the income tax system where an employee’s tax and national insurance contributions are deducted before the wages are paid.
Pareto Optimum
An economic theory by Vilfredo Pareto. It states that the optimum allocation of a society’s resources will not happen whilst at least one person thinks he is better off and where others perceive themselves to be no worse.
Pay On Delivery
The buyer pays the cost of the goods (to the carrier) on receipt of them.
Periodic Inventory
A Periodic Inventory is one whose balance is updated on a periodic basis, ie. every week/month/year. See Inventory.
PE Ratio
An equation which gives you a very rough estimate as to how much confidence there is in a company’s shares (the higher it is the more confidence). The equation is current share price multiplied by earnings and divided by the number of shares . ‘Earnings’ means the last published net profit of the company.
Perpetual Inventory
A Perpetual Inventory is one whose balance is updated after each and every transaction. See Inventory.
Personal Accounts
These are the accounts of a business’s customers and suppliers. They are usually held in the Sales and Purchase Ledgers.
Petty Cash
A small amount of money held in reserve (normally used to purchase items of small value where a cheque or other form of payment is not suitable).
Petty Cash Slip
A document used to record petty cash payments where an original receipt was not obtained (sometimes called a petty cash voucher).
Point of Sale (POS)
The place where a sale of goods takes place, eg. a shop counter.
Post Closing Trial Balance
This is a trial balance prepared after the balance sheet has been drawn up, and only includes balance sheet accounts.
Posting
The copying of entries from the journals to the ledgers.
Preference Shares
This is a type of share issued by a limited company. It carries a medium risk but has the advantage over ordinary shares in that preference shareholders get the first slice of the dividend ‘pie’ (but usually at a fixed rate).
Pre-Payments
One or more accounts set up to account for money paid in advance (eg. insurance, where part of the premium applies to the current financial year, and the remainder to the following year).
Price Change Accounting
Accounting for the value of assets, stock, raw materials etc. by their current market value instead of the more traditional Historic Cost.
Prime Book of Entry
See Original Book of Entry .
Profit
See Gross Profit, Net Profit, and Profit and Loss Account.
Profit and Loss Account
An account made up of revenue and expense accounts which shows the current profit or loss of a business (ie. whether a business has earned more than it has spent in the current year).
Profit Margin
The percentage difference between the costs of a product and the price you sell it for. Eg. if a product costs you $10 to buy and you sell it for $20, then you have a 100% profit margin. This is also known as your ‘mark-up’.
Pro-Forma Accounts (pro-forma financial statements)
A set of accounts prepared before the accounts have been officially audited. Often done for internal purposes or to brief shareholders or the press.
Pro-Forma Invoice
An invoice sent that requires payment before any goods or services have been despatched.
Provisions
One or more accounts set up to account for expected future payments (eg. where a business is expecting a bill, but hasn’t yet received it).
Purchase Invoice
See Invoice.
Purchase Ledger
A subsidiary ledger which holds the accounts of a business’s suppliers. A single control account is held in the Nominal Ledger which shows the total balance of all the accounts in the purchase ledger.
R
Raw Materials
This refers to the materials bought by a manufacturing business in order to manufacture its products.
Real Accounts
These are accounts which deal with money such as bank and cash accounts. They also include those dealing with property and investments. In the case of bank and cash accounts they can be held in the Nominal Ledger, or balanced in a journal (eg. the cash book) where they can then be looked upon as a part of the nominal ledger when compiling a balance sheet. Property and investments can be held in subsidiary ledgers (with associated control accounts if necessary) or directly in the nominal ledger itself.
Realisation Principle
The principle whereby the value of an asset can only be determined when it is sold or otherwise disposed of, ie. its ‘real’ (or realised) value.
Rebate
If you pay for a service, then cancel it, you may receive a ‘rebate’. That is, you may be refunded some of the money you paid for the service. (eg. if you cancel a 1 year insurance policy after 3 months, you may get a rebate for the remaining 9 months)
Receipt
A term typically used to describe confirmation of a payment – if you buy some petrol you will normally ask for a receipt to prove that the money was spent legitimately.
Reconciling
The procedure of checking entries made in a business’s books with those on a statement sent by a third person (eg. checking a bank statement against your own records).
Refund
If you return some goods you have just bought (for whatever reason), the company you bought them from may give you your money back. This is called a ‘refund’.
Reserve Accounts
Reserve accounts are usually set up to make a balance sheet clearer by reserving or apportioning some of a business’s capital against future purchases or liabilities (such as the replacement of capital equipment or estimates of bad debts). A typical example is a company where they are used to hold the residue of any profit after all the dividends have been paid. This balance is then carried forward to the following year to be considered, together with the profits for that year, for any further dividends.
Retail
A term usually applied to a shop which re-sells other people’s goods. This type of business will require a trading account as well as a profit and loss account.
Retained Earnings
This is the amount of money held in a business after its owner(s) have taken their share of the profits.
Retainer
A sum of money paid in order to ensure a person or company is available when required.
Retention Ratio
The proportion of the profits retained in a business after all the expenses (usually including tax and interest) are taken into account. The algorithm is retained profits divided by profits available for ordinary shareholders (or available for the proprietor/partners in the case of unincorporated companies).
Revenue
The sales and any other taxable income of a business (eg. interest earned from money on deposit).
Run Rate
A forecast for the year based on the current year to date figures. If a company’s 1st quarter profits were, say, $25m, they may announce that the run rate for the year is $100m.
S
Sales
Income received from selling goods or a service. See Revenue.
Sales Invoice
See Invoice.
Sales Ledger
A subsidiary ledger which holds the accounts of a business’s customers. A control account is held in the Nominal Ledger (usually called a debtors’ control account) which shows the total balance of all the accounts in the sales ledger.
Self Assessment (UK only)
A new style of income tax return introduced for the 1996/1997 tax year. If you are self-employed, or receive an income which is un-taxed at source, you will need to register with the Inland Revenue so that the relevant self assessment forms can be sent to you. The idea of self assessment is to allow you to calculate your own income tax.
Self-Balancing Ledgers
A system which makes use of control accounts so that each ledger will balance on its own. A control account in a subsidiary ledger will be mirrored with a control account in the Nominal Ledger.
Self-Employed
The owner (or partner) of a business who is legally liable for all the debts of the business (ie. the owner(s) of a non-limited company).
Selling, General & Administrative Expense (SG & A)
The expenses involved in running a business.
Service
A term usually applied to a business which sells a service rather than manufactures or sells goods (eg. an architect or a window cleaner).
Shareholders
The owners of a limited company or corporation.
Share Premium
The extra paid above the face value of a share. Example: if a company issues its shares at $10 each, and later on you buy 1 share on the open market at $12, you will be paying a share premium of $2.
Shares
These are documents issued by a company to its owners (the shareholders) which state how many shares in the company each shareholder has bought and what percentage of the company the shareholder owns. Shares can also be called ‘Stock’.
Shares Issued (aka Shares Outstanding)
The number of shares a company has issued to shareholders.
Simple Interest
Interest applied to the original sum invested (as opposed to Compound Interest). Eg. 1000 invested over two years at 10% per year simple interest will yield a gross total of 1200 at the end of the period (10% of 1000=100 per year).
Single-Step Income Statement
An income statement where all the revenues are shown as a single total rather than being split up into different types of revenue (this is the most common format for very small businesses). See Profit and Loss, Multiple-Step Income Statement
Sinking Fund
An account set up to reduce another account to zero over time (using the principles of amortization or straight line depreciation). Once the sinking fund reaches the same value as the other account, both can be removed from the balance sheet.
SME
Small and Medium Enterprises (ie. small and medium size businesses). The distinction between what is ‘small’ and what is ‘medium’ varies depending on where you are and who you talk to.
Sole Trader
See Sole-Proprietor.
Sole-Proprietor
The self-employed owner of a business (see Self-Employed).
Source Document
An original invoice, bill or receipt to which journal entries refer.
Stock
This can refer to the shares of a limited company (see Shares) or goods manufactured or bought for re-sale by a business.
Stock Control Account
An account held in the Nominal Ledger which holds the value of all the stock held in the inventory subsidiary ledger.
Stockholders
See Shareholders.
Stock Taking
Physically checking a business’s stock for total quantities and value.
Stock Valuation
Valuing a stock of goods bought for manufacturing or re-sale.
Straight-Line Depreciation
Depreciating something by the same (ie. fixed) amount every year rather than as a percentage of its previous value. Example: a vehicle initially costs $10,000. If you depreciate it at a rate of $2000 a year, it will depreciate to zero in exactly 5 years. See Depreciation.
Subordinated Debt
If a company is liquidated (i.e. becomes Insolvent), the secured creditors are paid first. If any money is left, the unsecured creditors are then paid. The amount of money owed to the unsecured creditors is termed the ‘subordinated debt’ of the company.
Subsidiary Ledgers
Ledgers opened in addition to a business’s Nominal Ledger. They are used to keep sections of a business separate from each other (eg. a Sales Ledger for the customers, and a Purchase Ledger for the suppliers). (See Control Accounts)
Suspense Account
A temporary account used to force a trial balance to balance if there is only a small discrepancy (or if an account’s balance is simply wrong, and you don’t know why). A typical example would be a small error in petty cash. In this case a transfer would be made to a suspense account to balance the cash account. Once the person knows what happened to the money, a transfer entry will be made in the journal to credit or debit the suspense account back to zero and debit or credit the correct account.
T
T Account
A particular method of displaying an account where the debits and associated information are shown on the left, and credits and associated information on the right.
Tangible Assets
Assets of a physical nature. Examples include buildings, motor vehicles, plant and equipment, fixtures and fittings. See Intangible Assets.
Three Column Cash Book
A journal which deals with the day to day cash and bank transactions of a business. The side of a transaction which relates directly to the cash or bank account is usually balanced within the journal and used as a part of the nominal ledger when compiling a balance sheet (ie. only the side which details the sale or purchase needs to be posted to the Nominal Ledger).
Total Cost of Ownership (TCO)
The real amount an asset will cost. Example: An accounting application retails at $1000. Support – which is mandatory, costs a further $200 per annum. Assuming the software will be in use for 5 years, TCO will be $2000 (1000+5×200=2000).
Trading Account
An account which shows the gross profit or loss of a manufacturing or retail business, i.e. sales less the cost of sales.
Transaction
Two or more entries made in a Journal which when looked at together reflect an original document such as a sales invoice or purchase receipt.
Trial Balance
A statement showing all the accounts used in a business and their balances.
Turnover
The income of a business over a period of time (usually a year).
U
Undeposited Funds Account
An account used to show the current total of money received (ie. not yet banked or spent). The ‘funds’ can include money, cheques, credit card payments, bankers drafts etc. This type of account is also commonly referred to as a ‘cash in hand’ account.
V
Value Added Tax (VAT – applies to many countries)
Value Added Tax, or VAT as it is usually called is a sales tax which increases the price of goods. At the time of writing the UK VAT standard rate is 17.5%, there is also a rate for fuel which is 5% (this refers to heating fuels like coal, electricity and gas and not ‘road fuels’ like petrol which is still rated at 17.5%). VAT is added to the price of goods so in the UK, an item that sells at £10 will be priced £11.75 when 17.5% VAT is added.
W
Wages
Payments made to the employees of a business for their work on behalf of the business. These are classed as expense items and must not be confused with ‘drawings’ taken by sole-proprietors and partnerships (see Drawings).
Work in Progress
The value of partly finished (ie. partly manufactured) goods.
Write-Off
Depreciating an asset to zero in one go.
Z
Zero Based Account (ZBA)
Usually applied to a personal account (checking) where the balance is kept as close to zero as possible by transferring money between that account and, say, a deposit account.
Zero Based Budget (ZBB)
Starting a budget at zero and justifying every cost that increases that budget.
