Accounting for Real Estate Investors

If you're a real estate investor, you need good "books".  These can be done by you, or by your CPA, etc.

It does help, however, to have at least a basic understanding of your own financials.  Many people are not accountants or bookkeepers and have no idea about some of the financial terminology used by the profession.  They may have these reports prepared by their accountant and not care about anything except how much in taxes they have to pay!

Here is a quick terminology primer:

Trial balance

A trial balance is a list of all accounts in your ledger, with debit or credit balances.  All debits must match all credits, hence the term "balance".  If the two sides do not equal, something is off and must be corrected.

Balance Sheet

A balance sheet shows all accounts that retain balances year after year (perpetual accounts) as well as your current net income.  A balance sheet contains the following:

1. Assets

2. Liabilities

3. Equity - current year (net income) and prior year

The balance sheet accounts contain everything that the trial balance does, only the income statement accounts are rolled up.

Assets

Unlike in the "Rich Dad, Poor Dad" world, assets on a balance sheet are "Anything tangible or intangible that is capable of being owned or controlled to produce value and that is held to have positive economic value." (credit Wikipedia for the definition)  Some examples:

- Petty cash

- Checking, saving, money market accounts

- Receivables (think notes)

- Land and properties

- Vehicles

- Prepaid expenses (think insurance)

Liabilities

Liabilities are anything that you owe.  Some examples:

- Mortgages or other notes payable

- Contractor invoices

Equity

There are several classes in the equity section, but essentially equity is what you have as of the end of last year (net income) and what you have as of this year (net income).  This is referred to as "retained earnings" (because you are retaining earnings -- positive or negative -- from one year to the next, unless you take the earnings out as distributions).

Income Statement

Your income statement is the report that most investors like to review.  It shows all of your income, your cost of sales, and expenses.  Your "net income" is your revenue less any cost or expense.  Typically income statement reports also show costs and expenses as a percentage of income.

Income statements are also called "P&Ls" or profit and loss statements.

Those are a few quick key words and phrases you might hear when talking with your accountant and reading the reports.  There are many, many books devoted to the study of accounting as well as "Accounting for Dummies" books that can go into much more depth.