Understanding Accounting Basics
The Profit and Loss report generated by your manual record keeping, your computer software, or the accountant you’ve previously hired, is also known as an Income Statement. This is perhaps one of the easier reports to compile, but one of extreme importance. Why? Because the businesses net income or loss is the result shown on the Income statement. Net income information is transferred directly onto your Balance sheet, and is used by business owners, lending institutions, and prospective investors to assess the financial health of your business.
In general, business owners will examine the Profit and Loss statement to determine profit ratios, to examine selling prices and costs, to compare wage expense from month to month, and to set advertising, purchasing and inventory budgets. Not every business owner utilizes the wealth of information available in the Profit and Loss report, sometimes simply due to a lack of understanding about the benefits gained by evaluating the report.
Not utilizing this report, however, can be compared to neglecting some part of your health. If you realize there is a problem internally, but see no obvious outward sign of ill health, do you just ignore what is happening? No, most people would seek the advice of a physician to help them correct the internal problem. That is what a Profit and Loss statement does for your business. It helps business owners take a look at the internal workings of their business. Outwardly, sales may be great; you see no obvious sign of ill health. But your cash account balances indicate a problem. Examination of the Profit and Loss reports for several months should be the equivalent of seeking professional advice concerning your health. You should be able to pinpoint problem areas, and seek solutions.
The other, sometimes crucial reason for maintaining accurate accounting information, especially as it pertains to profit and loss is to accurately report income and earnings for preparing tax returns. The IRS requires that business owners comply with some very specific rules about net income, depreciation, and inventory value. Intelligent business owners use the Profit and Loss report throughout the year to track the financial health of their business, but also to help them prepare and plan for the tax year. There are many options for businesses to protect their net income from Uncle Sam’s clutches, but only if they plan and prepare during the tax year. The Profit and Loss provides you with the information you need to most efficiently utilize your available resources and keep a larger portion of the net profit.
If you’re among the growing number of small businesses who choose to purchase software and do their own bookkeeping, generation of the Profit and Loss and Balance Sheet will be tremendously helpful at year end. Most businesses, while able to perform the bookkeeping requirements, are often not equipped to handle tax returns or the monthly reporting of sales tax, use tax, or payroll tax that is often required by the federal government. Accurate record keeping, and reports that can be provided to an accountant, make end of year tax issues much easier to resolve, and your accounting bill much smaller. After all, you’ve done the leg work, all the accountant now has to do is put the information together on the return. You can see, again, the benefit of using your Profit and Loss report.