The accruals concept
Accountants use the UK GAAP (UK Generally Accepted Accounting Principles) to prepare accounts which includes adopting the accruals basis. This means you record transactions as the liability or asset falls due or is receivable. The benefit of accounting in this way is that you bring expenses incurred but not yet paid for into your allowable expenses, and the amount that is yet to be paid is recorded in your balance sheet as creditors. However, you must also bring in the value of any work in progress that has not been billed before the end of the year, and record any work not yet paid for in your debtors figure.
Financial statements
A set of financial statements will typically include a Profit and Loss Account which records the income and expenditure for the year, and a balance sheet, which shows the historical cost of any assets used in the business, and other assets and liabilities. Financial statements can be used as a basis for completing your tax return, as well as showing potential investors something of the financial standing of your business.
If you have a business which holds stock, you should conduct a stock take at each year end. The amount of stock you have should be valued at the lower of cost or net realisable value, and the increase in stock year on year will be deducted from your purchases figure before you include it in your tax return.
A balance sheet will also include your fixed assets, prepayments, other liabilities and the amount of capital and drawings you have contributed or taken out of the business. It can provide a useful snapshot of the financial health of your business.
Calculating taxable profits
The profit that your business has made for the year will be shown as the total of your income minus your expenses and many accounting software packages will allow you to report your own profit and loss account. However, this profit figure will not always be the same as the one you will put on your tax return because of certain adjustments required to reach your taxable profit.
For example, in your accounts, you would want to reflect the total assets being used in your business which would include the written down value of any fixed assets. This could be different to the amount you offset in capital allowances. Also, your accounts may include the full value of stationery, but actually, you may have used some of that stationery for your own personal use, in which case an adjustment for personal use is required to reach your taxable profit.
Getting your profit right depends on a multitude of factors, such as making sure your records of income and expense are complete, making sure you don’t forget to include items you’ve bought out of your own personal funds, etc. Another key area to consider when preparing your accounts, and your taxable profit, is the accruals basis. Fundamentally, this means getting your income and expenses into the right year end.
If you have a service based business, such as a Virtual Assistance business, it is very likely that you will have ongoing projects where you may even take the money up front (good for your cashflow too if you do!). When you get to the year end, we’ll assume this is 5 April, you may have projects where you have completed say 50% of the work, but have billed them already for 100%, or you may not have even billed them at all.
Where this is the case, you should make sure that the income you include in your accounts is the true reflection of the proportion of work completed and billable, often referred to as Work In Progress. So in the example above, you should include 50% of the income regardless of how much you have actually billed your client.
The same principle applies to your expenses. If you know you have received a good or service before the year end but haven’t paid for it until after the year end, you should make an accrual in your expenses for it. So for example, a VA did some work for me which was completed by 30th March, but I did not receive her bill until 15th April. When preparing my accounts, I made sure I included the expense in the earlier year end.
If you are paying for insurance, and other lump sum annual expenses, you will also need to adjust your figures to make sure you only include the amount relating to the appropriate year end. So if you took out annual insurance for £240 on 5th March, you would include only one month’s worth of expense, £20, in the first year end.
If you would like any advice in this area or any other areas of accounting or tax, please contact me on 01767 260282 or amy@tayloraccountancy.net, www.tayloraccountancy.net.
Amy Taylor Accountancy takes every care in preparing material to ensure that the content is accurate and up to date. However no responsibility for loss to any person acting or refraining from acting as a result of this material can be accepted by Amy Taylor Accountancy You should always ask your accountant to give you specific advice which is tailored to your personal and business circumstances and properly implemented.
