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Understanding Financial Statements

Understanding your financial statements can be such a daunting task. It does not have to be scary anymore.

What are the most important reports to review as a business owner?

There are three statements that I highly suggest reviewing regularly as a business

owner. The Profit and Loss, Balance Sheet, and Cash Flows Statement. These three

reports are the most important because they show you all about your business.

Why are Profit and Loss important?

Profit and Loss are important because it reports your income and your expenses.

Keep in mind, this is also the most important report you need to complete your

taxes, no matter your business. You need a Profit and Loss, even if you do not

realize it, the schedule C is basically a Profit and Loss. So, keep that in mind when

you are reviewing your Profit and Loss. The first part of your Profit and Loss is the

income. Then you will list a breakdown of all your business deductions. Keep in

mind, when you pay yourself from your business, it should be reflected as Owner's

Equity and it does not show up on the Profit and Loss. It is only reflected on the

balance sheet. I often get asked why it does not show up on your Profit and Loss.

The reason is, it is not a taxable expense. It is your income that you paid yourself

and it is taxable income.

Common Expenses listed on the Profit and Loss:

· Advertising

· Business Insurance

· Commissions and Fees

· Contract Labor

· Depreciation of Assets

· Job Supplies

· Mortgage of Office, Storage, or Manufacturing Center

· Office Supplies

· Legal and Professional Services

· Rent or Lease of Office

· Rent of Lease of Vehicles

· Repairs and Maintenance

· Business Taxes (not personal income taxes) and Business Licenses

· Business Travel

· Business Office, or Manufacturing Center Utilities (not personal home office


· Business Vehicle Expenses (not a vehicle used for both personal and business)

· Corporate Rent for those who are incorporated and work from home

Note: On the Profit and Loss, you do not list your business office utilities and rent if

you are using your own home. Do you use your own car for business travel? Make

sure to keep track of your business miles. The mileage and maintenance on your

personal vehicle are not listed on your Profit and Loss because it is a personal

expense that is written off only on taxes at the mileage rate that is given yearly by

the IRS. These are only added to your taxes but not to your bookkeeping.

What to look for when reviewing your Profit and Loss?

When reviewing your Profit and Loss, especially watch for negative numbers or

accounts that seem too high or too low. Best if you can review your Profit and Loss

Detail report. Make sure that if you do find changes that need to be made, make

them. If your using QuickBooks Online here is a tip: go to the reports and look up

the Profit and Loss Detail. Then review each line item. If there is a change that

needs to be made, click right there on the line item, and make the change.

What is a balance sheet?

Think of it as a scale that needs to balance. The assets must equal the Liabilities and

Equity. Your balance sheet lists your assets first. Your business assets include the

business checking and savings accounts. It also includes inventory on hand,

equipment, computers, buildings, etc. The rule of thumb is if you purchase

something that is over $500, most likely it will need to be listed as an asset and

depreciated over the lifetime of the asset. Liabilities are what you owe to someone

else. Make sure you list your business credit cards and loans as liabilities. Equity is

listed last. This is where your payments to yourself get listed. Many think it should

be on the Profit and Loss but it does not show up there. It shows up on the Balance

Sheet under Owner's Equity. Make sure you are paying yourself through this

account. Note: Any payroll payments are different from just transfers from your

business account to your personal account, you have a w2 for yourself in business

and are paying yourself through payroll software, do get listed on the Profit and


What to look for when reviewing the Balance Sheet?

When reviewing your Balance Sheet, make sure all assets and Liabilities are listed

correctly. Watch for negative numbers. Make sure your equity for the year is

accurate! It is important that you update all assets and liabilities with the current

balance. Your assets and liabilities balances should change throughout the year and

it is very common for small business owners to only adjust them at the end of the

year for taxes, so make sure these are up to date.

What is a Statement of Cash Flows?

Some businesses like to look at the Statement of Cash Flows. Basically, the

Statement of Cash Flows takes the important numbers from both the Profit and

Loss and the Balance Sheet and combines the two reports into one overview

report. This report is very useful when looking at how much money the business

has. If you only have time to look at the Profit and Loss and Balance sheet, those

are the two most important reports to review regularly.

Need some help understanding what a Profit and Loss look like? I made this free

Profit and Loss Template just for you! This will help you understand what accounts

are on the Profit and Loss and how it works. Download yours today!

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