Your balance sheet provides a high-level view of your business’s assets, liabilities, and owners’ or stockholders’ equity. However a high level view of these accounting equation variables isn’t always what you need. Do you know the individual items that comprise assets, liabilities, and equity? In the course of doing business, you acquire assets to be used in operations or to add worth to your business. Let’s consider the question, “What are assets?”
What are assets?
Assets are tangible (physical) or intangible (valuable, but cannot be touched) items that are considered an individual’s or business’s property, have value, and are available to meet commitments and debts. Whether you use basic accounting software, or you do your bookkeeping manually, you will want to carefully track your assets in your accounting records.
Intangible assets are not physical items, and they include copyrights, goodwill, trademarks, and patents. Both types of assets have value. Any basic accounting system will provide some kind of recordkeeping for your assets.
Accounting basics: Current and long-term assets
Assets are further classified as current or long-term.
Current assets (short-term assets) include items that could be converted into cash easily within a 12-month period. Examples include the available balances in checking or savings accounts, accounts receivable, and short-term investments (bonds with short-term maturity or money markets).
Long-term assets are not intended to be converted into cash within a year. They can include property such as land, buildings, machinery, and long-term investments (such as stocks or bonds with a maturity date greater than 12 months).
Since intangible items such as goodwill are not easy to sell, they are categorized as long-term assets. The value of goodwill lies in your strong relationships with customers and employees, and you can’t exactly sell that on eBay. On the other hand, the sale of an office desk (current asset) might generate some quick cash flow.
How do you determine the value of your assets?
The value of an asset is not necessarily the same as the original cost of the asset. Here are some of the factors you may need to consider (or your accountant will be taking into consideration) when determining the value of an asset:
- Fair market value is an asset’s agreed-upon price when both a motivated buyer and the seller are satisfied. Fair market value can be important when you sell assets, report sales to the IRS, apply for loans, etc.
- Depreciation is the process of spreading the expense of an asset over time. Depreciation is used for income tax deductions. Learning how to calculate depreciation expense can be difficult, so you may want to consult the IRS publications that address depreciation.
- Accounting basics for small businesses are usually handled with cash basis accounting methods. The calculation of the value of your assets can vary depending on your accounting method, type of business, etc. The IRS Publication 551, Basis of Assets details different ways to determine the value of your assets.
You or your accountant track your business’s assets for other reasons; for example, collateral, insurance, ROI, and working capital.
Business collateral refers to an asset that is being offered to a lender as security for a loan. Both tangible and intangible assets may be used as collateral.
Have you protected your assets with insurance? Perhaps you have intangible assets that you have not thought to insure. Perhaps your tangible assets have increased in value, and you need to update your insurance coverage.
For example, let’s say that Joe bought a “fixer upper” building in a struggling neighborhood for his startup business, Joe’s Furniture Designs. Over time, Joe has put on a new roof, installed central air, and built an inviting showroom — and the neighborhood has become a trendy art district.
An appraisal would probably value Joe’s property much higher today than his original investment. Joe will want to be sure he has updated his insurance to cover the higher valuation.
Return on investment (ROI)
How is ROI related to assets? ROI is a tool for measuring how effective your expenditures are in comparison with the resulting revenue. And in order to calculate the ROI, you will need to know the amount of your average operating assets.
Here’s an example. You decide to spend money on both Facebook and radio advertising for your new donut shop. Which type of ad brought in more sales? Computing your ROI can give you the answer and help you decide where to place future advertising dollars.
Working capital is the money you need to cover the expenses of your day-to-day operations. Your current (short-term) assets and current liabilities are used to compute your working capital.
Liquidation of assets
When a business needs a quick influx of cash, one option is to liquidate business assets. Liquidation also happens when a business closes.
For example, maybe you liquidated a large amount of inventory. The IRS may want to know if you ended up with a loss or a gain. If you drastically reduced your price to sell quickly, you may have gotten the needed cash but experienced a loss. That loss may be deductible on your taxes.
See IRS Publication 544, Sales and Other Dispositions of Assets for information on how to calculate your losses and gains from the sale of assets.
Recording your assets
Assets are an important part of your business’s financial status. It is particularly valuable to see assets in context with your liabilities and equity on your most recent balance sheet.
Your assets are reported on your business’s balance sheet in descending order, based on the level of liquidity. An asset’s liquidity is the ease with which you can convert the asset into cash. Your most liquid assets are listed first.
- Cash is your most liquid asset. So, your balance sheet shows your current assets first, starting with the balance available in your checking or savings account. Other current assets, like accounts receivable, will be listed next.
- The balance sheet then shows a subtotal of all the current assets.
- Next your long-term assets are listed, and subtotaled, on your balance sheet.
- Finally, the grand total of all your assets is posted.
Sample balance sheet
The following balance sheet shows how assets are recorded.
Balance Sheet as of January 31, 2016
|Total Current Assets||$2,625.35|
|Machine ID 20863||$400.00|
|Total Long-Term Assets||$600.00|
|Total Current Liabilities||$500.00|
|Total Long-Term Liabilities||$0.00|
|TOTAL LIABILITIES & OWNER EQUITY||$3,225.35|
How do you keep track of your assets? You can try our small business accounting software for simple, accurate, and affordable recordkeeping. Your first month is free!
Original publication date was 08/02/2013. Updated on 12/04/2015.