All companies and businesses differ from each other in their structure based on their activities. For example, a profit-making company may be significantly different from a not-for-profit organization. However, some aspects of all businesses remain constant despite these differences. One such aspect is that of the financial accounts of an organization. Regardless of whether a company needs other departments or not, it will always require an accounting department to take charge of its financial accounts.
Due to the prominent roles of an accounting function in an organization, it is a critical part of any organization. Some businesses need an accounting function or department as a part of its internal reporting structure. Others may be required by law or regulations to maintain and keep accounts. Whatever the reason, accounting and financial accounts are necessary for running an organization.
There are four areas of a business in which financial accounts play an important role. These include the following.
First of all, financial accounts play a crucial role in the bookkeeping of a business. In fact, financial accounts dictate the bookkeeping process of a business as a whole. Bookkeeping refers to the process of keeping records of a business, in the form of accounts. Therefore, financial accounts are necessary for the bookkeeping process,
When transactions take place for a business, it must record them in its accounting system. This process of recording is also known as bookkeeping. The bookkeeping function of an accounting department intercepts all the transactions that take place in a business and record them for later use. This process starts by gathering source documents of the transactions and recording them in the books of prime entry. From there, it processes the transaction further into the ledgers of the business.
From the ledgers, the bookkeeping department prepares the trial balance. The trial balance of a business makes the basis for the preparations of its five main financial statements. Therefore, the importance of financial accounts for bookkeeping is significant, as, in its absence, it is not possible to prepare financial statements. Through the bookkeeping function, businesses can also keep track of their incomes and expenses, which helps with other aspects as well.
People often confuse bookkeeping with accounting. While bookkeeping mainly constitutes the process of recording transactions in the books of a business, accounting goes beyond that. Accounting consists of other functions as well, such as tax planning, advisory, compliance with rules and regulations, decision-making and much more.
When it comes to the importance of financial accounts with respect to accounting, there are many points to consider. Financial accounts play a crucial role in the accounting function of a business. It is because financial accounts help the accounting function use the information for its processes. As mentioned above, accounting consists of advisory functions, which depend on financial accounts.
Similarly, accounting consists of checking compliance with rules and regulations. In this regard, financial accounts also play an important role as some rules and regulations may relate to them. Through their use, the accounting function can also ensure compliance with relevant accounting standards that apply to the business and its financial statements.
One branch of accounting is cost accounting or management accounting, which deals with identifying or determining the costs of products or services. While cost accounting is different from financial accounting, it also relies on financial accounts for various purposes. Therefore, financial accounts also play a critical role in the cost accounting process of a business.
Finally, financial accounts also help in the decision-making aspect of the accounting function. It is because financial accounts can provide the accounting function with the relative information needed on which decisions can be based. It may include the use of several methods or techniques that depend on financial accounts, such as capital budgeting or cost-benefit analysis.
Financial accounts also play a vital role in the annual report of a company. An annual report is a document that companies must prepare annually and present it to its shareholders. It contains a comprehensive record of its activities during the last accounting period, usually one year. Because shareholders are not a part of the accounting process of a company, they can get all the relevant information from the annual report.
Annual reports consist of many different parts detailing different aspects of the company’s performance during the year. It includes information, such as general corporate information, operating and financial review, director’s report, corporate governance, etc. However, one critical part of the annual report is the financial statements of the company and the notes to the financial statements.
The annual report consists of 5 main financial statements. These include the Statement of Financial Position, Statement of Profit or Loss, Statement of Changes in Equity and the Statement of Cash Flows. Some also consider the Notes to the Financial Statements as the 5th financial statement. As mentioned above, the preparation of the financial statements depends on the data obtained from the financial accounts.
Based on these financial statements, the annual report may also consist of an analysis of the performance of the company in the form of variance or ratio analysis. Therefore, financial accounts also play a critical role in the preparation of the annual reports of a company. In the absence of financial reports, preparing financial statements and the relevant information is not possible.
Finally, financial accounts also play a vital role in the taxation function of a business. While taxation rules may be different from financial accounting standards, there are many similarities between them. Therefore, calculating the tax that a company must pay also depends on the financial information obtained from financial accounts.
Similarly, the tax jurisdiction in some countries may require companies to provide proof of expenditures or incomes. In that case, the financial accounts of the company are also important as they contain a record of the source documents of each transaction. In the absence of financial accounts and the related source documents, companies must pay penalties under taxation laws.
Overall, financial accounts not only help in determining the tax amount that the company must pay but also help with finding the relevant transaction details associated with incomes and expenses. Therefore, financial accounts are a critical part of the taxation process of a company. Apart from these, financial accounts may also help in the tax planning process of a company.
Financial accounting is a crucial part of any organization, regardless of its activities. Financial accounts can affect different aspects of a business and play a vital role in all of them. These consist of bookkeeping, accounting, annual report and taxation aspects. Given above is a detailed analysis of the importance of financial accounts in all of them.