Eli5 What does it mean to ‘balance the books’?
In: 3
Accounting is “double entry” meaning that every transaction has a “debit” side and a “credit” side that equal each other. The basic accounting equation is: Assets = Liabilities + Equity
The reason the equation always balances out is because every entry to the books must balance.
Here’s an example:
Your company has $100 and buys $100 of inventory: Debit Inventory $100 / Credit Cash $100
…then sells all of it for $150: Credit Inventory $100 / Debit Cost of Goods Sold $100 / Credit Sales $150 / Debit Cash $150
Each entry balanced (debits=credits), so your books are balanced. Back to the equation:
Assets (cash): $150
Liabilities: $0
Equity: $100 (the original $100 you had in your account)
Income: $150
Expenses: $100
At the end of the period, you move net income to equity, so the $50 in net income is added to the $100 beginning equity, and now
Assets ($150) = Liabilities ($0) + Equity ($150)
Perfectly balanced.
The other way to look at it is what is called a “Trial Balance” – the TB lists every account on the ledger, and the balance in each account is either a Debit (expressed as a positve number) or Credit (expressed as a negative number), and if you add them all up, you get zero.
From the example:
Cash 150
Equity (100)
Income (150)
Expenses 100
Balance 0
Accounting is “double entry” meaning that every transaction has a “debit” side and a “credit” side that equal each other. The basic accounting equation is: Assets = Liabilities + Equity
The reason the equation always balances out is because every entry to the books must balance.
Here’s an example:
Your company has $100 and buys $100 of inventory: Debit Inventory $100 / Credit Cash $100
…then sells all of it for $150: Credit Inventory $100 / Debit Cost of Goods Sold $100 / Credit Sales $150 / Debit Cash $150
Each entry balanced (debits=credits), so your books are balanced. Back to the equation:
Assets (cash): $150
Liabilities: $0
Equity: $100 (the original $100 you had in your account)
Income: $150
Expenses: $100
At the end of the period, you move net income to equity, so the $50 in net income is added to the $100 beginning equity, and now
Assets ($150) = Liabilities ($0) + Equity ($150)
Perfectly balanced.
The other way to look at it is what is called a “Trial Balance” – the TB lists every account on the ledger, and the balance in each account is either a Debit (expressed as a positve number) or Credit (expressed as a negative number), and if you add them all up, you get zero.
From the example:
Cash 150
Equity (100)
Income (150)
Expenses 100
Balance 0
Most of these comments are far from ELI5 answers.
At it’s heart this term just means keeping accurate and complete financial records. Typically this term would be used by a “bookkeeper”, or accountant, to describe the process of producing financial statements for a business at the end of any reporting period, e.g. a month or a year, and checking to ensure they’re correct.
In essence, they want to make sure all of the transactions for a period are recorded. When people used paper checks to make payments they would call this “balancing” a checkbook, making sure that a ledger, or list, of all the checks they’ve written corresponds to the balance in their account, or “book”.
The bank would not keep a detailed record of your transactions, e.g. who you’re paying with each check. A bank statement would only include a list of checks by check number, or numerical identifier. People would manually keep a record of all the checks they’ve written (who they paid and how much) and check it against their bank statement. That process, the verification, was referred to as “balancing”.
Accountants keep many lists, lists of sales made, lists of expenses, lists of payments made, lists of payments received, etc. They “balance” (verify) many “books” (accounts).
Most of these comments are far from ELI5 answers.
At it’s heart this term just means keeping accurate and complete financial records. Typically this term would be used by a “bookkeeper”, or accountant, to describe the process of producing financial statements for a business at the end of any reporting period, e.g. a month or a year, and checking to ensure they’re correct.
In essence, they want to make sure all of the transactions for a period are recorded. When people used paper checks to make payments they would call this “balancing” a checkbook, making sure that a ledger, or list, of all the checks they’ve written corresponds to the balance in their account, or “book”.
The bank would not keep a detailed record of your transactions, e.g. who you’re paying with each check. A bank statement would only include a list of checks by check number, or numerical identifier. People would manually keep a record of all the checks they’ve written (who they paid and how much) and check it against their bank statement. That process, the verification, was referred to as “balancing”.
Accountants keep many lists, lists of sales made, lists of expenses, lists of payments made, lists of payments received, etc. They “balance” (verify) many “books” (accounts).
Most of these comments are far from ELI5 answers.
At it’s heart this term just means keeping accurate and complete financial records. Typically this term would be used by a “bookkeeper”, or accountant, to describe the process of producing financial statements for a business at the end of any reporting period, e.g. a month or a year, and checking to ensure they’re correct.
In essence, they want to make sure all of the transactions for a period are recorded. When people used paper checks to make payments they would call this “balancing” a checkbook, making sure that a ledger, or list, of all the checks they’ve written corresponds to the balance in their account, or “book”.
The bank would not keep a detailed record of your transactions, e.g. who you’re paying with each check. A bank statement would only include a list of checks by check number, or numerical identifier. People would manually keep a record of all the checks they’ve written (who they paid and how much) and check it against their bank statement. That process, the verification, was referred to as “balancing”.
Accountants keep many lists, lists of sales made, lists of expenses, lists of payments made, lists of payments received, etc. They “balance” (verify) many “books” (accounts).
A simple way to look at it is what most people should be doing with their bank statements. So you would keep track of what you bought vs money coming into the account. Look at the beginning statement and how much money is in the account, add up all the money that came into the account for a certain period and then subtract money that went out for bills and such. You should have a number that matches the number at the beginning of the next statement. In business, this would have to do with the financials of a company except more involved. You should balance your books to make sure there wasn’t an error and companies balance their books for the same reasons but also to get a state of the business presently and for tax reasons.
A simple way to look at it is what most people should be doing with their bank statements. So you would keep track of what you bought vs money coming into the account. Look at the beginning statement and how much money is in the account, add up all the money that came into the account for a certain period and then subtract money that went out for bills and such. You should have a number that matches the number at the beginning of the next statement. In business, this would have to do with the financials of a company except more involved. You should balance your books to make sure there wasn’t an error and companies balance their books for the same reasons but also to get a state of the business presently and for tax reasons.
A simple way to look at it is what most people should be doing with their bank statements. So you would keep track of what you bought vs money coming into the account. Look at the beginning statement and how much money is in the account, add up all the money that came into the account for a certain period and then subtract money that went out for bills and such. You should have a number that matches the number at the beginning of the next statement. In business, this would have to do with the financials of a company except more involved. You should balance your books to make sure there wasn’t an error and companies balance their books for the same reasons but also to get a state of the business presently and for tax reasons.
This is one of those things where once you get it you are going to be like “oh duh…”. Ok so lets say you own a business, you are going to have a lot of money coming in from providing services/goods (revenue) as well as money going out paying workers, operating costs, and raw materials (expenses). So when you look at the cash flow to the business you are going to have a bunch of money coming in and money going out, but what is important is to know how much money you actually have. So when you “balance the books” you take all of the money coming in, you add it to what you already had, and then you subtract how much you have paid out. This gives you how much money you currently have.
This is one of those things where once you get it you are going to be like “oh duh…”. Ok so lets say you own a business, you are going to have a lot of money coming in from providing services/goods (revenue) as well as money going out paying workers, operating costs, and raw materials (expenses). So when you look at the cash flow to the business you are going to have a bunch of money coming in and money going out, but what is important is to know how much money you actually have. So when you “balance the books” you take all of the money coming in, you add it to what you already had, and then you subtract how much you have paid out. This gives you how much money you currently have.
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