Accounting glossary: the terms that matter, in plain English

Accounts payable is a liability account that tracks unpaid bills. When you receive a $600 invoice from a supplier on Net 30 terms, you record it as a bill: debit an expense or inventory account and credit accounts payable. When you pay it, you debit accounts payable and credit cash, bringing the balance back down.

Watching AP helps you pay on time, avoid late fees and plan cash. An aged payables report groups what you owe by how long it has been outstanding. PilotLedger tracks this through bills and payables, with full or partial payments.

Accounts receivable is an asset account. Under accrual accounting, sending a $2,500 invoice debits accounts receivable and credits revenue. When the customer pays, you debit cash and credit accounts receivable.

A growing AR balance can mean sales are up, or it can mean customers are paying slowly. Review an aged receivables report weekly so you know who to remind first. Clear payment terms, prompt invoicing and polite follow-ups are the simplest ways to keep AR under control and cash coming in.

Under accrual accounting, an invoice counts as revenue on the day you earn it, typically when you issue the invoice, even if the customer pays a month later. A bill counts as an expense when you receive the goods or service, not when you pay it.

This gives a truer picture of profit for each period, because income and the costs of earning it are matched. It also produces accounts receivable and accounts payable balances. Most growing businesses use accrual accounting, and larger businesses are generally required to for tax purposes. Compare it with cash-basis accounting.

An aging report shows who owes you money, or whom you owe, sorted into time buckets based on due date. An aged receivables report might show $4,200 current, $1,300 one to 30 days overdue and $650 more than 60 days overdue.

It is the most practical collections tool a small business has: start with the oldest and largest balances. Older receivables are less likely to be collected, so a growing 60+ day column is a warning sign. On the payables side, the report helps you schedule payments and avoid late fees. PilotLedger includes both Aged Receivables and Aged Payables among its financial reports.

Assets sit on the left side of the accounting equation: Assets = Liabilities + Equity. Current assets are expected to turn into cash or be used within a year, such as cash, accounts receivable, inventory and prepaid expenses. Non-current (fixed or long-term) assets last longer, such as equipment, vehicles and buildings.

Asset accounts have a normal debit balance: a debit increases them and a credit decreases them. Long-lived assets are usually expensed gradually through depreciation rather than all at once. Assets appear on the balance sheet, typically listed from most to least liquid.

An audit trail lets you follow any number on a report back to the original transaction and see its history: who entered it, when, and what was changed afterwards. It discourages errors and fraud, helps you answer questions from an accountant or tax authority, and makes it possible to understand why a past report changed.

Good practice is to correct mistakes with new entries, such as a credit note or reversing journal entry, rather than deleting records. Combined with a lock date, this keeps closed periods intact. PilotLedger keeps an audit log of changes as part of its double-entry accounting features.

The balance sheet is a snapshot of financial position on one date, such as December 31, 2026. It is organized around the accounting equation: assets on one side, liabilities and equity on the other, and the two sides must be equal.

A simple example: cash $12,000 plus receivables $5,000 plus equipment $8,000 equals $25,000 of assets, funded by $7,000 of liabilities and $18,000 of equity. Lenders use the balance sheet to judge liquidity and debt. Read it alongside the profit and loss statement, which covers a period rather than a single day.

Bank reconciliation confirms that your cash records are complete and correct. You tick off each transaction that appears both in your books and on the statement, add anything missing such as bank fees or interest, and identify timing differences such as checks that have not cleared yet. When finished, your adjusted book balance equals the statement balance.

Reconciling monthly catches duplicate entries, missed transactions, bank errors and unauthorized charges while they are still easy to investigate. It is one of the most important habits in small business bookkeeping. PilotLedger supports statement-by-statement bank reconciliation.

Your supplier's invoice is your bill. Recording bills when they arrive, rather than when you pay them, puts them in accounts payable so you can see what you owe and when it is due.

Entering a $900 bill for office furniture debits an expense or asset account and credits accounts payable. Paying it later debits accounts payable and credits cash. Many businesses add an approval step so someone confirms the goods arrived before payment. If the vendor issues a refund or reduction, you record a vendor credit against the bill. See bills and payables.

Bookkeeping covers sending and recording invoices, entering bills and expenses, recording payments, categorizing transactions in the chart of accounts and reconciling bank accounts. It produces the records that accountants use to prepare financial statements and tax returns.

Accounting is broader: it interprets those records, prepares reports and advises on taxes and decisions. Many small business owners do their own bookkeeping with software and a weekly routine of about an hour, then hire an accountant for year-end work. Our small business bookkeeping guide includes a weekly, monthly and yearly checklist.

The cash flow statement explains why your cash balance changed. Operating activities cover cash from running the business, such as customer payments and supplier payments. Investing activities cover buying or selling long-term assets like equipment. Financing activities cover loans, loan repayments, owner contributions and draws.

It matters because profit and cash are not the same. A business can show a profit on its profit and loss statement while cash shrinks, for example if customers pay slowly or it buys equipment. Review it monthly or quarterly alongside the balance sheet. It is one of PilotLedger's standard financial reports.

Cash-basis accounting is simple: income counts when money hits your account, and an expense counts when you pay it. An invoice sent in December but paid in January is January income.

It is easy to follow and closely tracks your bank balance, which suits very small businesses and many freelancers. The downside is that it can distort profit, because income and the costs of earning it may land in different periods, and it does not show what customers owe or what you owe vendors. Businesses above certain size thresholds generally must use accrual accounting for taxes. Ask your accountant which method fits.

The chart of accounts is the filing system for your books. Each account has a name and usually a number, often with the first digit showing its type: 1000s for assets, 2000s for liabilities, 3000s for equity, 4000s for revenue and 5000s and up for expenses.

Every transaction is posted to accounts in this list, and every financial statement is built from their balances. Keep it lean, match expense accounts to your tax return categories, and deactivate rather than delete accounts with history. See our chart of accounts guide for a full sample list a small business can adapt.

COGS covers only costs tied directly to what you sold, not overhead like rent or marketing. A common formula is beginning inventory + purchases − ending inventory. If you started the quarter with $10,000 of stock, bought $25,000 more and ended with $12,000, COGS was $23,000.

COGS is subtracted from revenue to get gross profit. Service businesses often have little or no COGS. With perpetual inventory, COGS is recorded at the moment of each sale. In PilotLedger, invoicing a tracked item posts COGS automatically at average cost; see inventory.

In double-entry accounting, credit simply means the right side of an account. It does not mean "good" or "money in". Whether a credit increases or decreases an account depends on the account type: credits increase liabilities, equity and revenue, and decrease assets and expenses.

Example: when you invoice a customer $1,000, you credit Service revenue $1,000 and debit Accounts receivable $1,000. Every journal entry must have total credits equal to total debits. Our accounting basics guide includes a full debit and credit rules table.

Instead of editing or deleting an invoice that has already been sent, you issue a credit note. If a customer was billed $1,500 but $200 of the work was cancelled, a $200 credit note reduces what they owe to $1,300, and your records show both documents.

A credit note reduces revenue and accounts receivable, and any sales tax charged on the credited amount. It can be applied to an open invoice, kept for a future invoice, or refunded. Using credit notes keeps a clean audit trail. PilotLedger supports credit notes and refunds as part of invoicing.

In double-entry accounting, debit means the left side of an account. Debits increase assets, expenses and owner's draws, and decrease liabilities, equity and revenue.

Example: buying a $1,200 laptop with cash debits Equipment $1,200 and credits Cash $1,200. Paying rent of $2,000 debits Rent expense and credits Cash. The everyday meaning of "debit" as money leaving your bank account comes from the bank's point of view, which is the opposite of yours. Every entry's debits must equal its credits.

When you buy equipment that will last several years, its cost is not expensed all at once. Instead, a portion is recorded as depreciation expense each period. Under the straight-line method, a $6,000 machine with a five-year life and no salvage value is depreciated $1,200 a year, or $100 a month.

The entry debits Depreciation expense and credits Accumulated depreciation, a contra-asset account that reduces the asset's book value on the balance sheet. Depreciation reduces profit but uses no cash. Tax depreciation rules can differ from book depreciation, so ask your accountant how to handle major purchases.

Double-entry accounting keeps the accounting equation, Assets = Liabilities + Equity, in balance after every transaction. Buying $300 of supplies on credit debits Supplies expense $300 and credits Accounts payable $300. Because debits always equal credits, many errors show up immediately.

It tracks the full picture: not just cash, but what you own, owe and earn, and it is what makes a balance sheet possible. Read our guide to what double-entry accounting is for worked examples. PilotLedger posts balanced entries to a real general ledger for every invoice, bill and payment; see double-entry accounting.

Equity is what would be left for the owners if every asset were sold at book value and every liability paid. If a business has $40,000 of assets and $15,000 of liabilities, equity is $25,000.

Equity increases when owners invest money and when the business earns profit. It decreases when owners take money out through an owner's draw or dividends, and when the business makes a loss. In a sole proprietorship it is often shown as owner's capital; in a corporation it includes paid-in capital and retained earnings. Equity accounts have a normal credit balance.

If you invoice a client €1,000 when the rate is 1.10, you record $1,100 of revenue and receivables. If the client pays when the rate is 1.07, you receive $1,070. The $30 difference is a realized exchange loss. Had the rate risen, you would record a gain.

Realized gains and losses are reported as other income or expense on the profit and loss statement, separate from operating revenue. They become "realized" once payment is made; open balances are revalued as unrealized gains or losses. PilotLedger's multi-currency feature, included from the Growth plan ($34.99/month), records realized gains and losses automatically.

Expenses reduce profit and therefore equity. They appear on the profit and loss statement, usually split into cost of goods sold and operating expenses. Expense accounts have a normal debit balance.

Under accrual accounting an expense is recorded when incurred, even if paid later; under cash-basis accounting, when paid. Not every payment is an expense: buying equipment creates an asset, repaying loan principal reduces a liability, and owner's draws reduce equity directly. Categorize expenses consistently so they match your tax return. See expense tracking.

Many small businesses use the calendar year, January 1 to December 31, as their fiscal year. Others choose a different 12-month period that fits their business cycle, such as July 1 to June 30 for a business whose busy season ends in early summer.

Your fiscal year determines when annual reports are prepared, when the books are closed and when certain tax filings are due. Tax rules limit which fiscal years some business types can use, so check with your accountant before choosing a non-calendar year. Closing each year with a lock date keeps finished periods stable.

The general ledger holds the full history of every account in your chart of accounts. Each line shows a date, description, debit or credit amount and the account's running balance. Journal entries are posted to it, and the trial balance and financial statements are built from its totals.

When a number on a report looks wrong, the general ledger is where you trace it back to individual transactions. In accounting software, invoices, bills, payments and manual journal entries post to the ledger automatically. PilotLedger includes a General Ledger report among its financial reports.

Gross margin = gross profit ÷ revenue × 100. If you sell a product for $50 and it cost $30, gross profit is $20 and gross margin is 40%.

Margin is different from markup, which compares profit to cost rather than to price. The same $50/$30 sale has a markup of about 66.7%. Tracking gross margin over time shows whether pricing keeps pace with costs. A falling margin often signals rising supplier prices, heavy discounting or a shift toward lower-margin products. Our markup calculator converts between margin and markup.

Gross profit shows how much your products or services earn before overhead. If a business has net revenue of $133,000 and cost of goods sold of $52,000, gross profit is $81,000.

It appears near the top of the profit and loss statement, and must cover operating expenses like rent, salaries and marketing before any net income remains. Expressed as a percentage of revenue, it becomes gross margin. See a full worked example in our guide to the profit and loss statement.

An invoice records a sale and tells the customer what to pay, by when and how. It should include a unique invoice number, issue and due dates, your details and the customer's, itemized lines, any tax and discounts, the total due and payment instructions.

Under accrual accounting, issuing an invoice debits accounts receivable and credits revenue. Mistakes are corrected with a credit note rather than by editing a sent invoice. Learn the steps in how to make an invoice, or create one now with the free invoice generator.

Journal entries are the basic building blocks of double-entry bookkeeping. Each one has a date, at least two lines, and a short description. For example, recording a month of depreciation: debit Depreciation expense $100, credit Accumulated depreciation $100.

In accounting software, most entries are created automatically when you record invoices, bills and payments. Manual journal entries are used for adjustments such as depreciation, accruals, corrections and opening balances. Entries then post to the general ledger. PilotLedger requires every manual journal entry to balance before it can be saved.

Liabilities sit on the right side of the accounting equation alongside equity. Current liabilities are due within a year, such as accounts payable, credit card balances, payroll liabilities and sales tax payable. Long-term liabilities, such as a five-year equipment loan, are due later.

Liability accounts have a normal credit balance: a credit increases them and a debit decreases them. Taking a $10,000 loan debits Cash and credits Loan payable. Liabilities appear on the balance sheet, and comparing current liabilities with current assets gives your working capital.

Closing a period means finishing the bookkeeping for a month or year, reconciling accounts, making adjustments and reviewing reports. A lock date then freezes everything on or before that date, so a report you shared with your accountant or lender cannot quietly change later.

If a correction is needed after the lock date, the usual practice is to record an adjusting entry in the current open period, or for an authorized user to move the lock date deliberately. Lock dates work hand in hand with an audit trail. PilotLedger offers a lock date and a period-close checklist on the Business plan, under double-entry accounting.

Markup % = (price − cost) ÷ cost × 100. If an item costs $40 and you sell it for $60, the markup is $20, or 50%.

Markup and gross margin describe the same profit from different angles: margin divides by price, markup divides by cost. The $40/$60 example has a 50% markup but a 33.3% margin. Confusing the two is a common pricing mistake that can leave you earning less than you planned. To convert quickly, a 25% margin requires a 33.3% markup. Try our free markup calculator to find selling prices from either figure.

Net income = revenue − cost of goods sold − operating expenses ± other income and expenses − income taxes. If a business earns $133,000 in revenue and its total costs and taxes are $112,100, net income is $20,900. A negative result is a net loss.

Net income flows into equity: for corporations it adds to retained earnings, and for sole proprietors and partnerships it increases owners' capital. Net income is not the same as cash, because non-cash expenses like depreciation and timing differences affect it. Divide it by revenue to get net profit margin.

When you move to new accounting software or start formal bookkeeping for an existing business, you enter opening balances as of a cut-off date: bank balances, unpaid customer invoices, unpaid vendor bills, inventory, equipment, loans and owner's equity.

Opening balances must themselves balance, with total debits equal to total credits; any difference is usually posted to an opening balance equity account that your accountant reviews and clears. Choosing the first day of a month or fiscal year as the cut-off makes this much simpler. Use the balances from your last reconciled bank statement and your accountant's prior-year balance sheet.

An owner's draw is not a business expense and not a salary. It reduces the owner's equity directly. If you transfer $3,000 from the business account to your personal account, you debit Owner's draw $3,000 and credit Cash $3,000. Profit and loss is unaffected.

Draws are common in sole proprietorships, partnerships and many LLCs. Corporations pay owners through salaries or dividends instead. Taking a draw does not change how much tax the business profit generates, since owners of pass-through businesses are taxed on profit whether they withdraw it or not. Ask your accountant how to pay yourself in your structure.

In a perpetual inventory system, buying stock increases the inventory asset immediately, and each sale reduces it while recording cost of goods sold at the same time: debit COGS, credit Inventory. You always know your on-hand quantity and inventory value without waiting for a physical count.

The alternative, periodic inventory, calculates COGS only at period end from a stock count. Perpetual systems still benefit from regular counts to catch shrinkage and errors. In PilotLedger, items with "Track inventory" on add stock at cost when billed and post COGS at average cost when invoiced; see inventory.

The profit and loss statement starts with revenue, subtracts cost of goods sold to show gross profit, subtracts operating expenses, adjusts for other income, expenses and taxes, and ends with net income. It covers a period, such as a month, quarter or year.

It answers whether the business is making money and where. Compare it month over month and year over year. Read the full guide, what is a profit and loss statement, with a worked example, or download a free profit and loss template.

A quote, also called an estimate or quotation, lets a customer see and approve the price before you commit time or materials. It lists the items or services, quantities, prices, taxes, total and an expiry date.

A quote creates no accounting entry, because nothing has been sold yet. Once the customer accepts, you convert it into an invoice when the work is delivered or a milestone is reached. Some businesses treat "estimate" as a rough figure and "quote" as a fixed price, so be clear in your wording. PilotLedger lets customers accept quotes online; see quotes and estimates or grab a free estimate template.

Retained earnings = beginning retained earnings + net income − dividends (or distributions). If a company started the year with $50,000 of retained earnings, earned $20,000 and paid $8,000 in dividends, it ends with $62,000.

Retained earnings is an equity account on the balance sheet. At the end of each fiscal year, revenue and expense balances are closed into it so the next year's profit and loss starts fresh. Accounting software does this automatically in its reports. Note that retained earnings is not a cash balance; the profits may already be invested in inventory or equipment.

Revenue is the top line of the profit and loss statement. Under accrual accounting it is recorded when earned, usually when you deliver and invoice; under cash-basis accounting it is recorded when payment is received.

Revenue accounts have a normal credit balance and increase equity. Net revenue is gross sales minus returns and discounts. Not every receipt is revenue: customer deposits for future work are usually a liability until earned, loan proceeds are a liability, owner investments are equity, and sales tax collected is owed to the government.

In the US, sales tax is set by states and often counties and cities, so rates and rules vary widely. Many states tax physical goods while exempting some or all services. Whether you must collect depends on where you have nexus, such as a physical presence or enough sales into a state.

Sales tax you collect is not your income. It is recorded as a liability, sales tax payable, until you file and pay. On a $500 taxable sale at 8%, you invoice $540 and owe $40 to the state. Check your state's revenue department or an accountant for rules. PilotLedger applies tax rates on invoices and includes a Tax Summary report.

A trial balance is a quick check that your books are mathematically in balance. It lists each account from the chart of accounts with its ending balance in a debit or credit column; the two column totals must match.

A balanced trial balance does not prove the books are correct. Entries posted to the wrong account, omitted transactions or entries recorded twice will still balance. That is why reconciliation and review matter. Accountants often start year-end work from the trial balance and use it to prepare financial statements. It is one of PilotLedger's financial reports.

If you have a €5,000 invoice outstanding at month end and the euro has strengthened since you issued it, the receivable is now worth more in your home currency. Revaluing it to the current rate records an unrealized gain. If the euro weakened, you record an unrealized loss.

The gain or loss is unrealized because no cash has changed hands; the final result is only known when the invoice is paid and becomes a realized exchange gain or loss. Revaluation keeps the balance sheet accurate. PilotLedger's multi-currency feature, included from the Growth plan ($34.99/month), includes unrealized revaluation.

A vendor credit is the purchasing-side counterpart of a credit note. If you return $150 of damaged stock, the supplier issues a $150 credit. You record it by debiting accounts payable and crediting the expense or inventory account originally charged.

You can apply the credit to an open bill, keep it against a future bill, or record a refund if the vendor pays you back. Tracking vendor credits stops you from overpaying suppliers or losing money owed to you. PilotLedger supports vendor credits and vendor refunds under bills and payables.

Working capital shows whether a business can cover its upcoming obligations. If current assets (cash, receivables, inventory) total $45,000 and current liabilities (payables, card balances, short-term debt, taxes owed) total $30,000, working capital is $15,000.

Positive working capital is a cushion; negative working capital can mean trouble paying bills on time. Dividing current assets by current liabilities gives the current ratio, here 1.5. Collecting receivables faster, holding less idle inventory and negotiating longer payment terms with vendors all improve working capital. Both inputs come from the balance sheet.