Would someone explain balance sheets to me?
Yes, I owned my own business and updated my P&L and balance sheets every month. P&L is simply a reconciliation, like a bank account. That’s easy. But I have never quite understood the purpose of a balance sheet. Why do both sides have to match? Is it simply to prove to the IRS and others that every penny is accounted for?
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Because if they don’t match something is wrong, you’ve ‘lost’ some money (well usually lost, I suppose it’s possible to gain money and not be able to account for where it can from but I’d guess it’s very rare). Yes the irs want to know that you’re paying the right amount of taxes but more importantly you as, a business owner, want to know that a) your business is making money and it’s worth while continuing and b) no one is stealing from you.
Thanks. That makes sense.
A balance sheet is a snapshot. It shows what’s owned, what’s owed, and what’s left over, always at a certain point in time. One side is assets (owned); the other side is liabilities (owed) plus the difference (assets minus liabilities); the two sides balance because of simple arithmetic.
Double entry bookkeeping was a great idea introduced in the Italian Renaissance. Everything is divided up into accounts, and all receipts of money and all payments of money is a transfer from one account to another – money is added to one account and subtracted from another. For example, if you sell something, there is a transfer between sales and cash accounts. At all times everything adds up to zero. The sum of the net red ink accounts has to add up to the sum of the net black ink accounts.
To make sure every penny is accounted for.
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