The basics between Assets and liabilities should be understood by everyone, not just accountants and financial advisers. By knowing what the differences are between the two, you can increase your chances of financial success while minimizing your risk of becoming poor. Here you will learn the difference between the two along with some basic knowledge of accounting so you have a better understanding of your finances in every aspect of life.
What exactly are Assets? Assets are anything that generates income. It is owned by either a business or an individual and has cash value that is positive. Real estate, a business or an investment would fall into this category. The main thing you will need to look at when determining if an item is an asset is whether or not it will bring in more money than you initially invested. You need to be able to see a return on investment in order to place an item in this category. Three classifications are used when it comes to categorizing an asset: current, fixed and intangible. Knowing which classification to use will benefit you as the classification is what determines how you record the income on a financial statement.
In order to place something in the current assets category, the item must be either cash in hand or an item that can be converted to cash quickly. Those things which fall into this category are used to fund daily operations. The advantage of doing so it the avoidance of interest on short term financing. Five different items fall into this particular category: cash, accounts receivable, inventories, investments and prepaid expenses.
Tangible assets are those which are fixed and cannot be turned in to cash quickly. Equipment and real estate fall into this category along with other items such as computers. A professional in the financial industry, such as an accountant, can help you to determine which other items should be categorized this way. An asset in this category can be depreciated and is treated differently for tax purposes.
Any monetary item that can't be physically touched is considered an intangible asset. Although this monetary item may be converted into cash, it holds value for the owner. Patents and copyrights are just two examples. Legal and competitive intangibles are the two types and a financial professional can help you with these also.
Liabilities are the opposite of Assets. A liability is anything that you owe to someone else whether it be a business or an individual. A liability costs you money rather than generating income. There are two types of liabilities: current and long-term.
Current liabilities must be repaid with one year and usually are funded through the current assets account. Many categories are considered current liabilities including accounts payable, dividends payable and short term debt. Long term liabilities are those which take more than a year to pay such as deferred taxes or a lease.
In order to have a positive net worth, you must have more assets than liabilities. This is the only way to grow your wealth. If you limit the number of liabilities you take on so that your assets can cover them completely with money left over, your net worth will grow over time.