This post was contributed to VentureApp by Dan Wywrot, director of finance and co-founder at Paro, an exclusive network of highly vetted on-demand financial professionals.
As a refresher, your balance sheet shows the value of your company at a set point in time, along with breakouts of your assets (what you own), liabilities (what you owe), and equity (ownership and retained earnings).
There are a couple of line items, both of which fall under assets, that we will outline here to help you better allocate expenses for the period they should be used in (accrual basis accounting), rather than the period they were paid for (cash basis accounting). This gives you a more realistic and smooth view on the all-important P&L of what happened during that period. With easy-to-use templates, you’ll get less jagged expense line items and an overall better understanding of the balance sheet.
Prepaid expenses occur when you send cash out the door but not all of it relates to the period it was paid in. Think of your annual CRM subscription, your annual E&O policy, or even that deposit you put down for your holiday party. While these either are, or will lead to, expenses, they do not necessarily relate to the period they were paid in. That annual CRM subscription should be expensed at 1/12th of the cost in the month you paid it, and 1/12th each month afterward, with the balance sitting in an asset account slowly decreasing on your balance sheet.
In the template (download link below) you’ll notice on the left a section to list out your individual prepaids (we’ve included some common examples), their type, and date cash went out the door, along with how long these expenses should be spread out (in months). You will also need to ensure the expense types you choose are pasted up into the ‘Expense Type Totals’ in Column I, where the template will automatically sum up all prepaids by type, and lay out exactly how much of each prepaid should be expensed each month.
Depreciation is a bit more complicated than prepaid expenses, which is why we’ve put together this simple template to get a handle on the basics. Depreciation means that, rather than expensing an asset completely in the period you purchased it, you capitalize it by putting it on your balance sheet and expensing it (via a depreciation expense) over its useful life. The most common small business items that are capitalized are Computers and Equipment, and Furniture and Fixtures. In order to depreciate items you purchased, they must have a value lasting at least one year (i.e. the item is worth more than $0 a year after you purchased it) and have a determinable, substantial value (a definition often defined differently from company to company). By substantial, we mean that you would capitalize that $2,000 Mac Book Pro or $850 standing desk you purchased, but likely not your $150 Crate and Barrel file cabinet, or the $90 Apple Track Pad you bought. Each company is different, but a common threshold for small businesses is usually $400 – $500. Computers and Equipment typically have a balance sheet life of 5 years, and Furniture and Fixtures 7 years.
We’ve also created a great depreciation / fixed asset tracker template (also included in the attached template). While some accounting software includes this, most common cloud accounting platforms do not (at least at the time this post was written, of course). There are several common ways to depreciate items (evenly over the item’s life, half the value in the first year and then evenly over the rest of its life, the list of methods goes on and on), but our template will help you depreciate items with either the straight line or evenly over their life methods. Similar to the prepaid expense template, you will need to include the individual items being expensed in their proper category (we’ve only outlined computers and furniture), after which they will automatically flow up into their respective totals. In the end, you’ll know exactly how much should be hitting your depreciation expense each month.
Before using these templates, make sure you understand why some of your expenses should be capitalized and expensed on your P&L over a period of time, rather than all on the date you paid.