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One of the first things that entrepreneurs should understand, is that each loan account should have a separate balance sheet account. Regardless of how big or small the loan is, there should never be a co-mingling of loans on the balance sheet. There could be a variety of reasons for the loan including mortgage and vehicle financing as well as asset purchases.
The next thing business owners should be aware of how loans and capital leases appear on their balance sheet is where their monthly payment needs to be posted. While many entrepreneurs believe that monthly payments should appear on the income statement, Edmonton bookkeeping says that it actually shows up on the balance sheet because it deals with the principal payment. The interest component should belong on the income statement, however, if it is not an unknown interest amount, or if it is not obvious, then the business owner can simply leave it on the balance sheets in their individual accounts.
It is also important for business owners to understand especially prior to obtaining a loan or capital lease that they need to have enough income being made in their business in order to cover principal payments. If they do not ensure that they have enough income being made in their business to cover payments, they should avoid getting the loan or lease. The reason why, is if there is not enough profits in the business to cover the payments, they will end up running a negative balance in their business because they will have to pay the loan or the lease with money that should be used for something else.
Business owners should be able to see the payments as they are made each month by looking at their balance sheet. How they will see it, is if there are decreases every single month, that means that the loan payment is coming out regularly. However, if they do not see a decrease in the account each month, there are three possible reasons why: it has been misclassified, it has been entered into the wrong account, or the payment was missed that month. By being able to look each month to verify the payments are being made and knowing the likely reasons for if they do not see that payment is important to have an entrepreneur understand what is going on on their financial statements.
By understanding how their loans and capital leases look on their balance sheets, Edmonton bookkeeping says that business owners can catch errors, and learn how to make informed financial decisions in their business based on the information. Very important that entrepreneurs become well acquainted with how loans and capital leases look on these statements as soon as they have loans or capital leases that they have to pay.
Unfortunately, many business owners tend to struggle with understanding basic business financial literacy says Edmonton bookkeeping. In fact, into it, who is the company behind QuickBooks software surveyed business owners, asking them about financial literacy questions. Eighty-two of all of the respondents scored 70% or lasts on the quiz, showing that it is common for entrepreneurs to struggle with understanding their business finances. However, it can be easy for business owners to learn what to look for on their financial statements in order to understand loans and capital leases, which will help them understand the cash flow in their business much better.
In order to understand how loans and capital leases look on their financial statements, this is owners need to understand what the difference is between the two, and how they appear differently on the statements. Edmonton bookkeeping says that capital leases are legally structured like a loan because the transaction is geared towards ownership of the asset that they are leasing. Leases, like rent of a space, does not have the ownership being transferred to the business owner at the end of the lease. However, capital leases have the intent of transferring ownership at the end of the term.
If a business owner is wondering if the assets that they are paying for is a lease or capital lease, there are several criteria they need to look for. For example, if the lease has an extremely discounted buyout option at the end of the term, it will be a capital lease, because that extreme discount the end of the term is intended for the business owner to buy out the assets. Because the goal of the lease is ownership, it is considered a capital lease, which is going to be treated like a loan.
Another one of the criteria that business owners need to look for when understanding if their lease is actually a capital lease, is if the lease term is for longer than 75% of the asset’s lifespan. If the business owner is going to be paying for it for most of the asset’s useful lifespan, the intention is for the business owner to keep that asset at the end of the term. Edmonton bookkeeping says that if entrepreneurs keep this in mind, it can help understand how these show up on their balance sheet. If the goal of the lease is for the business owner to own the asset at the end of the term, that is a capital lease and it is structured like a loan. An operating lease, on the other hand, is when an entrepreneur has to give it up at the end of the term. Think like rent, if they do not renew the lease at the end of their term, they have to vacate their space.
By understanding the difference between capital leases and regular leases can help entrepreneurs understand how it appears on their balance statement so that they can gain a deeper understanding of their cash flow in their business. Edmonton bookkeeping says that understanding the cash flow and how balance sheets look is the extremely first step to understanding their business finances.
