Guide­lines for a proper balance sheet, clearly explained

Every small business owner is obliged to keep accounts and should be familiar with the Generally Accepted Ac­count­ing Prin­ci­ples. These rules ensure that a company’s ac­count­ing system meets all legal re­quire­ments. The Generally Accepted Ac­count­ing Prin­ci­ples are an important part of this. A major aspect of business ac­count­ing is preparing the com­mer­cial balance sheet, which – for example, at the end of a financial year – presents the financial position of the company correctly and clearly. Here, you can find out what this means in concrete terms, what prin­ci­ples exist, and what else needs to be observed.

Ac­count­ing best practice in the US stip­u­lates that the annual financial state­ments for a business must be prepared after each financial year for a specific date. While there is no legal standard for ac­count­ing in the US, all of your book­keep­ing must be able to satisfy the re­quire­ments of the Internal Revenue Service and your local au­thor­i­ties when it comes time to pay your federal and state taxes. This aside, it is also worth adhering to clear, trans­par­ent, and con­sis­tent­ly struc­tured ac­count­ing methods so that you can access in­for­ma­tion ac­cu­rate­ly and easily when necessary.

The four prin­ci­ples of GAAP are as follows:

His­tor­i­cal cost principle: Companies must account for and report the ac­qui­si­tion costs of assets and li­a­bil­i­ties rather than their fair market value

• Revenue recog­ni­tion principle: Companies should record revenue when earned but not when received
• Matching principle: Expenses have to be matched with revenues as long as it is rea­son­able to do so.
• Full dis­clo­sure principle: In­for­ma­tion disclosed should be enough to make a judgment while keeping costs rea­son­able

These terms and more can be found in our guide to the prin­ci­ples of proper ac­count­ing.

Here are some guideline rules to keep in mind when preparing a balance sheet:

• A clear balance sheet: A balance sheet needs to be both clear and concise. The balance sheet should have a clear des­ig­na­tion of the different items on the balance sheet. This means that different types of assets and li­a­bil­i­ties should not be combined or offset against one another, and balance sheet items that are subject to dis­clo­sure should be included. Ad­di­tion­al items may be included if it is important for the balance sheet’s clarity. Detailed ex­pla­na­tions of the values need to be collected in notes so that the balance sheet can be read clearly.
• Balance sheet accuracy: The balance sheet needs to be complete and correct – you must not omit values or add figures that do not cor­re­spond with the truth. Values given in the balance sheet must be correct.
• Balance sheet con­ti­nu­ity: A company’s different annual financial statement should be able to be compared quickly. For this reason, the rules stating how to prepare annual accounts are the same every year. For example, annual financial state­ments are always prepared for the same day. The sequence of different items and their names should not change con­stant­ly either. This is the only way to ensure that there is con­ti­nu­ity.
  • Example: Let’s say for the sake of clarify that you combined several items on your balance sheet last year. This summary should not be dissolved when the next annual financial statement is being made. That would result in the balance sheets being in­com­pa­ra­ble.
• Identity of balance sheet: This principle pre­scribes a seamless change from one fiscal year to the next. The opening balance sheet must cor­re­spond to the closing balance sheet from the previous year. This means that all items, quan­ti­ties and values must be the same in both balance sheets.

Ma­te­ri­al­i­ty: The ma­te­ri­al­i­ty principle is an ac­count­ing rule that dictates any trans­ac­tions or items that sig­nif­i­cant­ly impact the financial state­ments and should be accounted for using GAAP ex­clu­sive­ly.

Going concern principle: The going concern concept or the going concern as­sump­tion states that busi­ness­es should be treated as if they will continue to operate in­def­i­nite­ly or at least long enough to ac­com­plish their ob­jec­tives.

As pre­vi­ous­ly mentioned, there is no legal re­quire­ment to adhere to these prin­ci­ples. They are simply con­sid­ered an aspect of best practice and can help you create accurate, con­sis­tent records.

The aim of these guide­lines is to make a balance sheet com­pre­hen­si­ble and mean­ing­ful, so that it provides a clear picture of a company’s economic situation. For example, these prin­ci­ples help prevent balance sheet con­ceal­ment. This offence can lead to serious legal con­se­quences.

All business owners and sole pro­pri­etors must issue financial state­ments that include a balance sheet annually. This means that anyone involved in a business should be familiar with these guide­lines. There are certain cir­cum­stances whereby a small business may be able to claim small company ex­emp­tions on their balance sheet statement. There are also some cir­cum­stances where a business owner may not be required to keep separate ac­count­ing records:

Sole pro­pri­etors: Sole pro­pri­etors are exempt from preparing balance sheets, since their revenue streams and expenses tend to be low, allowing them to use a pared-back book­keep­ing system based on cash flows. The most common system is usually a cash basis ac­count­ing system, which is a single-entry system.

If your business is classed as a public company, you are required to publish quarterly financial state­ments that are available to the public. If your business is classed as a private company, then you are not obliged to make your financial state­ments public, you just have to file your tax returns with the secretary of state that your business is in­cor­po­rat­ed in.

If your business is a public company, then shares in your company are available for purchase. It also means that you owe trans­paren­cy to your share­hold­ers, i.e. the public. Large re­tire­ment funds and non­prof­its may also be legally required to have audited financial state­ments. There can be ad­van­tages and dis­ad­van­tages to running a public or private company. If your company is private, then you have the benefits of con­fi­den­tial­i­ty, greater financial freedom, and an element of flex­i­bil­i­ty. On the other hand, if at any time you find yourself looking for outside help, either from a financial in­sti­tu­tion, angel investor or venture cap­i­tal­ist, you may run into dif­fi­cul­ties securing their as­sis­tance without providing a complete financial picture of the company

Ad­di­tion­al­ly, companies that issue financial state­ments often choose, or are obligated, to be audited by an in­de­pen­dent auditor. This means that an in­de­pen­dent examiner in­ves­ti­gates your company’s financial in­for­ma­tion to prevent fraud. By law, public entities are required to have their financial reports audited, thanks to the US Se­cu­ri­ties and Exchange Com­mis­sion. Other companies may choose to have their reports audited to lend cred­i­bil­i­ty to their financial position.

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