Accounting terms explained

The vocabulary that underpins financial accounting. Each term is defined on its own so it can be read — or quoted — without the rest of the page.

45 terms defined

Accounting equation

Assets = Liabilities + Equity. The identity that must hold on every balance sheet, and the basis of double-entry bookkeeping.

Accrual basis accounting

Recognising revenue when it is earned and expenses when they are incurred, regardless of when cash moves. Required under both US GAAP and IFRS for general-purpose financial statements.

Cash basis accounting

Recognising revenue and expenses only when cash is received or paid. Simpler than accrual accounting but not permitted under US GAAP or IFRS for most reporting entities.

Accounts payable

Amounts a business owes suppliers for goods or services already received but not yet paid for. A current liability.

Accounts receivable

Amounts customers owe a business for goods or services already delivered but not yet paid for. A current asset.

Accumulated depreciation

The total depreciation charged against a fixed asset since acquisition. A contra-asset account that reduces the asset's carrying amount.

Amortisation

The systematic allocation of the cost of an intangible asset over its useful life. The intangible-asset equivalent of depreciation.

Asset

A resource controlled by an entity as a result of past events, from which future economic benefits are expected to flow.

Balance sheet

A financial statement showing an entity's assets, liabilities and equity at a single point in time. Also called the statement of financial position.

Book value

The value of an asset as recorded in the accounts: original cost less accumulated depreciation and any impairment.

Capital expenditure

Spending to acquire or improve a long-term asset. Capitalised on the balance sheet and expensed over time rather than charged to the current period.

Carrying amount

The amount at which an asset or liability is recognised in the balance sheet after deducting accumulated depreciation, amortisation and impairment losses.

Chart of accounts

The structured list of every account an entity uses to record transactions, organised by assets, liabilities, equity, revenue and expenses.

Contra account

An account that offsets the balance of a related account, such as accumulated depreciation against a fixed asset or allowance for doubtful accounts against receivables.

Cost of goods sold

The direct costs of producing the goods a business sold during a period, including materials and direct labour. Subtracted from revenue to give gross profit.

Credit

An entry on the right side of a ledger account. Credits increase liabilities, equity and revenue, and decrease assets and expenses.

Debit

An entry on the left side of a ledger account. Debits increase assets and expenses, and decrease liabilities, equity and revenue.

Deferred revenue

Cash received before the related goods or services have been delivered. Recorded as a liability until the revenue is earned.

Depreciation

The systematic allocation of a tangible fixed asset's cost over its useful life, reflecting consumption of its economic benefits.

Double-entry bookkeeping

The convention that every transaction is recorded in at least two accounts, with total debits equal to total credits, keeping the accounting equation in balance.

Equity

The residual interest in an entity's assets after deducting its liabilities. Comprises contributed capital and retained earnings.

Expense

A decrease in economic benefits during a period through outflows or depletion of assets, or the incurring of liabilities, that decreases equity.

Fair value

The price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date.

FIFO

First-in, first-out. An inventory costing method assuming the earliest units purchased are the first sold, leaving the most recent costs in closing inventory.

Going concern

The assumption that an entity will continue operating for the foreseeable future and is not intending or required to liquidate. Underpins the basis on which financial statements are prepared.

Goodwill

The excess of consideration transferred in a business combination over the fair value of the identifiable net assets acquired. Tested for impairment rather than amortised under US GAAP.

Gross profit

Revenue less cost of goods sold, before operating expenses, interest and tax.

Impairment

A reduction in an asset's recoverable amount below its carrying amount, recognised as a loss in the income statement.

Income statement

A financial statement reporting revenue, expenses and profit or loss over a period. Also called the profit and loss account or statement of operations.

Intangible asset

An identifiable non-monetary asset without physical substance, such as a patent, trademark, licence or software.

Inventory

Goods held for sale in the ordinary course of business, in the process of production, or as materials to be consumed in production.

Journal entry

The record of a single transaction in the accounting system, listing the accounts debited and credited and the amounts.

Liability

A present obligation arising from past events, the settlement of which is expected to result in an outflow of economic benefits.

Liquidity

How readily an asset can be converted to cash, or how well an entity can meet its short-term obligations as they fall due.

Matching principle

The principle that expenses should be recognised in the same period as the revenues they helped generate.

Materiality

The threshold above which an omission or misstatement could reasonably be expected to influence the decisions of users of the financial statements.

Net income

Total revenue less total expenses, including interest and tax, for a period. The bottom line of the income statement.

Operating expenses

Costs incurred in normal business operations that are not directly attributable to producing goods, such as rent, salaries and marketing.

Prepaid expense

A payment made for goods or services to be received in a future period. Recorded as an asset and expensed as the benefit is consumed.

Retained earnings

Cumulative net income not distributed to owners as dividends, carried forward as part of equity.

Revenue

Income arising in the course of an entity's ordinary activities, from the sale of goods or provision of services.

Statement of cash flows

A financial statement classifying cash movements during a period into operating, investing and financing activities.

Trial balance

A listing of all ledger account balances at a point in time, used to check that total debits equal total credits before preparing financial statements.

Working capital

Current assets less current liabilities. A measure of the short-term resources available to fund day-to-day operations.

Write-off

Removing an asset's carrying amount from the accounts when it is no longer recoverable, such as an uncollectible receivable.