Financial statements are a set of records that present a company’s financial position and performance. While most investors focus on the income or cash flow statement, the balance sheet is also crucial. It shows various accounting balances classified into three categories. Usually, these balances have a specific classification known as normal account balance.
Normal account balance helps classify various accounts on the balance sheet. Before discussing it, it is critical to understand the concept of the account balance.
What is an Account Balance?
Account balance refers to the financial resources or obligations in a specific heading. This definition applies to accounting, where these balances appear on the balance sheet. However, account balance also relates to banks. In banking, account balance refers to the total money an account holder has in their bank account. It can also refer to their total assets after deducting their liabilities.
Account balances in accounting are crucial in showing the financial position of an entity. In accounting systems, these balances come with one or several accounts. The underlying accounts have a specific classification within those systems. Usually, these accounts are either assets, equity, or liabilities. Further types may include income, expenses, dividends, drawings, etc.
What does Normal Account Balance mean?
The concept of normal account balance only applies to accounting. It refers to the usual classification of an account based on its type. A normal account balance shows whether an account is a debit or a credit. Similarly, it specifies whether it will be on the left or right side of the trial balance. Normal account balance is a crucial part of the double-entry accounting concept.
Normal accounting balances are an essential part of the ledger. In the general ledger, accounting entries go on the left or right. The left represents the debits in that account, while the right gets the credit transactions. Normal account balances help understand the origin of an account. Similarly, it helps classify that account under the relevant financial statements.
What are Normal Account Balances?
Based on accounting practices, each type of account in the financial statements is either a debit or credit. These practices dictate how companies should classify those accounts. Usually, these normal balances also fall on the relevant side of the accounting equation. Any items on the left side of the accounting equation are debits, while those on the right are credits.
The basic accounting equation is as follows.
Assets = Equity + Liabilities
In the above equation, assets are normal debit balances and are, therefore, on the left. On the other hand, equity and liabilities are normal credit balances and on the right. However, the accounting equation also expands further to include other items. These are as follows.
Assets + Expenses + Dividends/Drawings + Losses = Capital + Income + Profits + Liabilities
In the above equation, the items on the left have a normal debit balance. Similarly, those on the right have a normal credit balance.
Account balances represent financial resources or obligations within a specific account. These balances also have a common classification based on their underlying type. Primarily, it shows the side of the trial balance on which these account balances will go. Understanding normal accounting balances is straightforward with the help of the accounting equation.
Have an answer to the questions below? Post it here or in the forum