What is a Sole Proprietorship?

A sole proprietorship is the business or an individual who has decided not to carry his business as a separate legal entity, such as a corporation, partnership or limited liability company. This kind of business is not a separate entity. Any time a person regularly provides services for a fee, sells things at a flea market or engage in any business activity whose primary purpose is to make a profit, that person is a sole proprietor. If they carry on business activity to make profit or income, the IRS requires that you file a separate Schedule C “Profit or Loss From a Business” with your annual individual income tax return. Schedule C summarizes your income and expenses from your sole proprietorship business.

As the sole proprietor of a business, you have unlimited liability, meaning that if your business can’t pay all it liabilities, the creditors to whom your business owes money can come after your personal assets. Many part-time entrepreneurs may not know this, but it’s an enormous financial risk. If they are sued or can’t pay their bills, they are personally liable for the business’s liabilities.

A sole proprietorship has no other owners to prepare financial statements for, but the proprietor should still prepare these statements to know how his business is doing. Banks usually require financial statements from sole proprietors who apply for loans. A partnership needs to maintain a separate capital or ownership account for each partners. The total profit of the firm is allocated into these capital accounts, as spelled out in the partnership agreement. Although sole proprietors don’t have separate invested capital from retained earnings like corporations do, they still need to keep these two separate accounts for owners’ equity – not only to track the business, but for the benefit of any future buyers of the business.

What are Independent Auditors?

Independent CPA auditors are like referees in the financial reporting arena. The CPA comes in, does an audit of the business’s accounting system and methods and gives a report that is attached to the company’s financial statements. Publicly owned businesses are required to have their annual financial reports audited by independent CPA firms and any privately owned businesses have audits done as well because they know that an audit report will add credibility to their financial reports.

 

An auditor judges whether the business’s accounting methods are in accordance with generally accepted accounting principles (GAAP). Generally everything is in place and the financial report is a reliable document. But at times an auditor will wave a yellow or red flag. Some indicators of potential trouble include when the business’s capability to continue normal operations is in doubt because of what are known as financial exigencies, which could mean a low cash balance, unpaid overdue liabilities, or major lawsuits that the business doesn’t have the cash to cover.

 

An auditor must exercise professional skepticism, meaning the auditor should challenge the accounting methods and reporting practices of the client in order to make sure that its financial statement conform with accounting standards and are not misleading – in short, that the financial statement are fairly presented. Indeed, the words “fairly presented” are the exact words used in the auditor’s report.

 

A good auditor need technical know-how, but also needs to know how to be tough on the accounting methods of the client. His job is to be the agent of the shareholders and other users of the business’s financial report. It’s incumbent on an auditor to strictly uphold GAAP, and not let any irregularities slide.

 

There are a number of well-known companies that engaged in accounting fraud recently  and that fraud was not discovered by the CPA auditors. Enron is one of these companies. In this case, the auditing firm, Arthur Anderson was found guilty of obstruction of justice because it destroyed audit evidence.

All About CMAs

A CMA is a Certified Management Accountant.  This is different from a Certified Public Accountant.  A Certified Management Accountant is employed by a business firm or a not-for-profit organization, and deal with private accounting.

 

A CMA can obtain employment by companies, government, and non-for-profit entities.  A CMA can obtain employment as a Bookkeeper, Payroll Clerk, General Accountant, Budget Analyst, Cost Accountant, Internal Auditor, or Information Technology Auditor.  These CMA careers have starting salaries ranging from $28,500 to $72,500, which is much higher than the salary range for CPAs.

 

A Bookkeeper does not need to have any certification, and therefore does not have to be a CMA.  A Payroll Clerk must have certification called Certified Payroll Professional, or CPP, but does not need to be a CMA.  A general accountant or budget analyst may not be required to be a CMA, but many CMAs begin as a general accountant or budget analyst.  A Cost accountant must be a CMA and be licensed by whatever state agency monitors and regulates accountancy in that state.  An Internal auditor must be a CMA and have an additional certification as a certified internal auditor, or CIA.  An Information technology auditor must be a CMA and also have certified information system auditor licensing, or CISA.

 

The certification program to become a CMA is sponsored by the Institute of Management Accountants, or IMA.  The CMA certification is proof of competence in management accounting.  To receive a CMA certification, you must have a college degree, two years of experience, and pass a two day session of testing.

 

A CMA does not have the versatility of a CPA.  Because a CMA works internally within a firm, the duties given to a CMA are fairly rote, meaning that the CMA does typically the same work each day.  On the other hand, a CPA has as much variety in type of work and work duties as the variety of his or her clients.  It is due to this fact that most accountants choose to obtain a CPA certification and licensing rather than a CMA certification and licensing.

 

Most CMAs are cost accountants.  A CMA cost accountant enters transactions into accounting records like journals and ledgers.  CMA cost accountants also prepare financial statements.  The financial statements that the CMA prepares are vital to the business.  The financial statements that the CMA prepares are used for business decision making, investor decision making, competitive comparison, and searching for industry trends.  A CMA must also attempt to discover and correct any errors in the cost accounting records.  This can be done in a number of ways, but is always very tedious for the CMA.

 

A CMA should be found if you are starting a business that will require extensive and accurate bookkeeping and accounting.  You can save a lot of money in your business by hiring a CMA in house rather than using a CPA on a fee for service basis.  In this way, you are left free to run your business while someone else worries about the accounting for your business.

Accounting Dictionary

Are you taking up an accounting course or are you already a graduate of accountancy? It doesn’t really matter whether you’re a student or a full-pledged accountant; you need to have an accounting dictionary with you. You can even treat it like a bible.

 

You see, one can’t possibly memorize all the accounting terms. Students and fresh graduates have better memories. The accounting lessons are still fresh in their minds. But what about those who graduated many years ago? To guide them in their work, they have to get an accounting dictionary so that they will not be lost in their lessons if ever they come across an unfamiliar accounting term.

 

Students and accounting professionals should have their own accounting dictionary. That way, they can easily look up for the definition of a certain term especially when they’re unsure of the true meaning. You can’t afford to make mistakes in accounting because the success of the business rests on you and your knowledge. One tiny mistake can lead to a wrong analysis and decision.

 

In choosing an accounting staff, the company should get only the best. You see, accounting professionals will be the ones to analyze the financial situation of the company. They have the power to influence business decisions. Therefore, you must hire only the best and the most competitive employees. That way, you can be sure that even when your back is turned, they are still doing their job.

 

Where can you find accounting dictionaries? You can easily purchase them in bookstores worldwide. These dictionaries are not hard to find and for accounting students, it is a must to have it. It can help you a lot in mastering your lessons. If you can understand accounting terms with ease, all the lessons will be a piece of cake.

 

Professional accountants often opt for online accounting dictionaries. Most companies have internet connection in their offices. With the use of online accounting dictionaries, accountants will just type the term that they would like to find and the results are on the screen in seconds. They no longer have to carry dictionary books because it can be found online.

 

Whether you’re using a dictionary book or an online dictionary, what matters is how you understand the various terms and definitions. By now, students and professionals should have already mastered the different terms, but you can’t blame them if their memory fails once in a while. Nobody’s perfect and that’s a fact that you need to accept. It also helps to have a handy accounting dictionary especially if you need one.

 

If you prefer the online dictionary, you would have to choose among the many websites online. Make sure that you choose a good site which can provide you with a complete dictionary of accounting terms. Take note of the website so that you won’t have to search for it all over again.

 

If you opt for the dictionary book, you should also choose the one which has the complete definition of accounting terms. Get the latest edition of the dictionary so that the new terms can be found on it. The dictionaries don’t cost much; besides, you can still use it even after you graduate. Books are great investments, so don’t think that you’re wasting money.

 

Always have a handy accounting dictionary with you to avoid mistakes in doing your accounting works.

What are Other Ratios Used in Financial Reporting?

The dividend yield ratio tells investors how much cash income they’re receiving on their stock investment in a business. This is calculated by dividing the annual cash dividend per share  by the current market price of the stock. This can be compared with the interest rate on high-grade debt securities that pay interest, such as Treasure bonds and Treasury notes, which are the safest.

 

Book value per share is calculated by dividing total owners’ equity by the total number of stock shares that are outstanding. While EPS is more important to determine the market value of a stock, book value per share is the measure of the recorded value of the company’s assets less its liabilities, the net assets backing up the business’s stock shares. It’s possible that the market value of a stock could be less than the book value per share.

 

The return on equity (ROE) ratio tells how much profit a business earned in comparison to the book value of its stockholders’ equity. This ratio is especially useful for privately owned businesses, which have no way of determining the current value of owners’ equity. ROE is also calculated for public corporations, but it plays a secondary role to other ratios. ROE is calculated by dividing net income by owners’ equity.

 

The current ratio is a measure of a business’s short-term solvency, in other words, its ability to pay it liabilities that come due in the near future. This ratio is a rough indicator of whether cash on hand plus the cash to be collected from accounts receivable and from selling inventory will be enough to pay off the liabilities that will come due in the next period. It is calculated by dividing the current assets by the current liabilities. Businesses are expected to maintain a minimum 2:1 current ratio, which means its current assets should be twice its current liabilities.

Investing and Financing

Another portion of the statement of cash flows reports the investment that the company took during the reporting year. New investments are signs of growing or upgrading the production and distribution facilities and capacity of the business. Disposing of long-term assets or divesting itself of a major part of its business can be good or bad news, depending on what’s driving those activities. A business generally disposes of some of its fixed assets every year because they reached the end of their useful lives and will not be used any longer. These fixed assets are disposed of or sold or traded in on new fixed assets. The value of a fixed asset at the end of its useful life is called its salvage value. The proceeds from selling fixed assets are reported as a source of cash in the investing activities section of the statement of cash flows. Usually these are very small amounts.

Like individuals, companies at times have to finance its acquisitions when its internal cash flow isn’t enough to finance business growth. Financing refers to a business raising capital from debt and equity sources, by borrowing money from banks and other sources willing to loan money to the business and by its owners putting additional money in the business. The term also includes the other side, making payments on debt and returning capital to owners. it includes cash distributions by the business from profit to its owners.

Most business borrow money for both short terms and long terms. Most cash flow statements report only the net increase or decrease in short-term debt, not the total amounts borrowed and total payments on the debt. When reporting long-term debt, however, both the total amounts and the repayments on long-term debt during a year are generally reported in the statement of cash flows. These are reported as gross figures, rather than net.

Gains and Losses

It would probably be ideal if business and life were as simple as producing goods, selling them and recording the profits. But in some cases we don’t do as well as we had hoped, and it’s part of the accountants job to report these as well. Changes in the business climate, or cost of goods or any number of things can lead to exceptional or extraordinary gains and losses in a business.  Situations that can change the income statement can include downsizing or restructuring the business. This used to be a rare thing in the business environment, but is now fairly commonplace. Usually it’s done to offset losses in other areas and to decrease the cost of employees’ salaries and benefits. However, there are costs involved with this as well, such as severance pay, outplacement services, and retirement costs.

 

In other circumstances, a business might decide to discontinue certain product lines. Western Union, for example, recently delivered its very last telegram. The nature of communication has changed so drastically, with email, cell phones and other forms, that telegrams have been rendered obsolete. When you no longer sell enough of a product at a high enough profit to make the costs of manufacturing it worthwhile, then it’s time to change your product mix.

 

Lawsuits and other legal actions can cause extraordinary losses or gains as well. If you win damages in a lawsuit against others, then you’ve incurred an extraordinary gain. Likewise if your own legal fees and damages or fines are excessive, then these can significantly impact the income statement.

 

Occasionally a business will change accounting methods or need to correct any errors that had been made in previous financial reports. Generally Accepted Accounting Procedures (GAAP) require that businesses make any one-time losses or gains very visible in their income statement.

What Does a Bookkeeper or an Accountant Do?

Wondering what a bookkeeper or an account does with your financial information? What do these people do on a daily basis?

 

Well, one thing they do that’s terribly important to everyone working there is Payroll. All the salaries and taxes earned and paid by every employee every pay period have to be recorded. The payroll department has to ensure that the appropriate federal, state and local taxes are being deducted. The pay stub attached to your paycheck records these taxes. They usually include income tax, social security taxes plus employment taxes that have to be paid to federal and state government. Other deductions include personal ones, such as for retirement, vacation, sick pay or medical benefits.  It’s a critical function. Some companies have their own payroll departments; others outsource it to specialists.

 

The accounting department receives and records any payments or cash received from customers or clients of the business or service. The accounting department has to make sure that the money is sourced accurately and deposited in the appropriate accounts. They also manage where the money goes; how much of it is kept on-hand for areas such as payroll, or how much of it goes out to pay what the company owes its banks, vendors and other obligations. Some should also be invested.

 

The other side of the receivables business is the payables area, or cash disbursements. A company writes a lot of checks during the course of year to pay for purchases, supplies, salaries, taxes, loans and services. The accounting department prepares all these checks and records to whom they were disbursed, how much and for what. Accounting departments also keep track of purchase orders placed for inventory, such as products that will be sold to customers or clients. They also keep track of assets such as a business’s property and equipment. This can include the office building, furniture, computers, even the smallest items such as pencils and pens.

Introduction into Assets and Liabilities

Making a profit in a business is derived from several different areas and is a goal you have set out for yourself. It can become complicated because just as in our personal lives, business is run on credit as well. Many businesses sell their products to their customers on credit. Accountants use an asset account called accounts receivable to record the total amount owed to the business by its customers who haven’t paid the balance in full yet. Much of the time, a business hasn’t collected its receivables in full by the end of the fiscal year, especially when your credit sales happen toward the end of the fiscal year.

The accountant records the sales revenue and the cost of goods sold for these sales in the year in which they were sold and delivered to the customer and not when you received the money for the products and/or service. This is called accrual based accounting, which records revenue when sales are made and records expenses when they’re incurred as well. When sales are made on credit, the accounts receivable asset account is increased. When cash is received from the customer, then the cash account is increased and the accounts receivable account is decreased.

The cost of goods sold is one of the major expenses of businesses that sell goods, products or services. Even a service involves expenses. It means exactly what it says in that it’s the cost that a business pays for the products it sells to customers. A business makes its profit by selling its products at prices high enough to cover the cost of producing them, the costs of running the business, the interest on any money they’ve borrowed and income taxes, with money left over for profit.

When the business acquires products, the cost of them goes into what’s called an inventory asset account. The cost is deducted from the cash account, or added to the accounts payable liability account, depending on whether the business has paid with cash or credit.

Tax Changes are Coming. How do you Plan?

Every election that we can remember there are promises of change to Taxation, most of the time for less tax but always Big Reform is one of the topics that seems to attach itself to every political candidate. Then after the new blood gets into the “Big Chair”, or the old guard settles back down the budget gets opened and the talks begin, and usually, taxes are added or deductions get eliminated. Many people expected the corporate tax rates to already be 15% from the election rhetoric of late but no surprise the changes to cut tax are always way harder to implement that changes to increase tax. Continue reading