I’ve seen it too many times, debits in the liability section and credits in the asset section of company books and no one really knows why. Accountants then have to dig down and dissect what happened (which is fine, just realize, time is money) and then put it back in the right place, some easier than others, and some well….nightmares (at least for an accounting nerd like myself). So I have a challenge for you. You may know everything I mention below, but I challenge you to read it anyway for a refresher and use it to ask questions about your company books.
Starting with some Balance Sheet basics
Assets should equal Liabilities plus Equity (Assets = Liabilities + Equity). If they don’t, you might have one of those nightmares I mentioned above. That’s okay! At least now you are aware of it and can take action going forward. Back to the Balance Sheet. Below are your account types, simple definitions and “normal balances”.
- Assets – The simple definition, something useful or will/is providing value to the company. The normal balance in this account is a debit (which is a positive number)
- Liabilities – Something you (company) are responsible for: a debt, a loan, something needed to be repaid. The normal balance in this account is a credit (which, good guess… is a negative number)
- Equity – This is everything else. It is company stock, earnings and/or losses. The normal balance is a credit (-)
Yes, I understand two negatives don’t make a positive here, but the reference to negative and positive is more for helping people make journal entries into their tax software.
So, moving on to the income statement or profit & loss statement…
- Expenses – normally debits (+)
- Income (Revenue) – normally credits (-) (Need a definition? Dictionary.com)
Now that you know what the normal balance in each account is, based on debits (+) and credits (-), look at your books and see if you can find any that are NOT the “normal” balance; OR, compare it to last year and look for any changes. Do you understand the reason for the balance/change? If you don’t, well, this is the reason for the challenge. Figure it out or ask for an explanation from someone that may know. Do it for the following reasons. (There are probably a million reasons why, so don’t stick to just my small list.)
- Know financially where your company sits.
- Have an internal control on your bookkeeper. (Are they worth what you’re paying or do they know what they are doing?)
- Know if your company has made a profit or loss overtime (multiple years, not just current year).
- Discover places to trim excess fat (expenses). Did expenses increase and were they necessary?
- Keep yourself in check. (Are you taking more money out than you make? Are business expenses getting mixed in with distributions or vice versa?)
- It could save you and your accountant time, money and a headache on tax preparation
This is just a small list and it sounds ridiculous (I know), but you would be surprised how often things just go without ever being checked or questioned. You can’t trust everyone; it isn’t their company and they may not have the same passion as you. So do yourself a favor and look at your books (daily, monthly, or quarterly) and test yourself by asking questions about changes, variations etc., to see if you understand how your company is being translated to the books. If you find yourself needing help or have questions, you know who to call!
Chris Morrison, CPA