The accounts are designed according to a standard chart of accounts available from sources like The Norwegian Association of Authorised Accountants (NARF).

Basically the accounts are divided in two parts: The profit and loss statement and the balance sheet.

What are the accounts?

The accounts are meant to convey financial information to the reader and play an important role in the financial management of the business. The accounts are tools that help you get an overview: How much you earn, what resources are used, what you own and your debts. The balance sheet gives an overview of the financial position at the end of the period, while the profit and loss statement shows the financial development in that period.

What does the profit and loss statement tell us?

The profit and loss statement is a table showing all income and expenses. In Norway, the income sources are given the account numbers between 3000 and 3999. Expenses have account numbers between 4000 and 8999. By using the standard chart of accounts, you may comply with the authorities' requirements with respect to specification of the accounts.

The result shows the actual profit or loss in the period. If for instance the rent is paid quarterly, only the rent for the actual period is listed in the expense account. The rent for the next two months is recorded as pre-paid rent. The accounts are time limited (to the actual period) when the actual income and expenses within that period are included.

Typical time limited records are:

• Depreciation
  
• Insurance
  
• Interests
  
• Holiday pay
  
• Payroll tax
  
• Accrued, not invoiced income
  
• Inventory adjustments

The profit is meant to cover the company's taxes and possible dividends. Profit after taxes and dividends is added to the company's equity capital and transferred to the next year. By strengthening the company's equity, the business becomes more sound and prepared to withstand possible future losses. The rule of thumb is to retain profit until the equity reaches 20 - 25% of the company's assets.

If the business is a sole proprietorship, the profit must also cover the owner's salary, i.e. own withdrawals and taxes.

What does the balance sheet reveal?

The balance sheet has two sides that obviously must balance: It shows how the business is being funded, and how those funds are being used. The balance equation states that the total value of the assets equals the total value of the equity plus the liabilities. If the sums of the two sides are different, then there is a mistake in the balance sheet. An increase in the value of one asset must be countered by a decrease in the value of another, an increase in the debts or an increase in the equity (share capital and reserves).

Likewise, an increase in the value of a liability account must be countered by an increase in the value of an asset, a decrease in the value of another liability account or a decrease in the equity.

Finally, changes in the balance may be caused by a combination of the cases above.

Purchases exceeding NOK 15 000 and with an estimated life cycle of more than 3 years are defined as investments in tangible (operational) assets. The investments are entered as fixed assets in the balance sheet and the value depreciated each year in for instance 3 years. The depreciation is entered in the profit and loss statement. The tax implications and rules governing the handling of the depreciation is described in the Act on Taxation of Property and Income (currently in Norwegian only).

The balance sheet tells a lot about the "health situation" in the company. An experienced reader of annual accounts will quickly get an impression of funding, inventory, investments, credit periods and liquidity.

Generally, all investments should be funded by the equity capital or long-term liabilities. Consequently, the equity plus long-term liabilities should equal or exceed the fixed assets.

The equity capital should preferably count for 20 – 25% of the total funding. A high proportion of equity capital is an insurance against future rough times.

Limited liability companies are required by the legislation to have a "reliable" equity. The members of the board have personal responsibilities regarding the board's actions following the loss of 50% of the equity.

More on the relation between the result (profit or loss) and the balance

When you start a new enterprise, you are required by law to have a start-up balance. This balance is the first input balance in the enterprise's history. When the first accounting period ends, the corresponding balance is the output balance at that particular point of time. Also, the balance is the input balance with respect to the next accounting period. Each period producing a profit will lead to an increase in the equity, while a loss will cause a decrease in the equity. At the end of each period the balance sheet will reflect how all the enterprise's assets are funded.

When an accounting period ends, all accounts belonging to the profit and loss statement are reset. Thus, the balance sheet acts as a bridge from one period to the next. The following example illustrates the point: You invoice NOK 1000 for sales to a customer. The balance sheet account "Claims on customers" is debited NOK 1000, and the profit and loss statement account "Sales" is credited NOK 1000. When a balance sheet account is increased or decreased due to changes in a profit and loss account, the balance will not "balance". The discrepancy equals the profit or loss in the period. The balance is restored by transferring the profit or loss to the equity in the balance sheet.

In the transition from one accounting year to the next, all the entries in the balance sheet accounts are brought forward from the previous year, and all the profit and loss accounts are reset. The difference between the income and the expenses is the only value that is brought forward from the profit and loss statement. The profit/loss is entered in the equity. Consequently, the equity at the end of a period is the sum of the equity at the beginning of that period and the profit/loss during the period.

What is the relationship between liquidity and equity?

There is no direct correlation between liquidity and equity. It is a well known misunderstanding that the business has NOK 150 000 “on hand” if the equity is
NOK 150 000.

• Liquidity is bank deposits plus unused overdraft (in Norwegian kassakreditt).
  
• The equity is the owners’ / shareholders’ capital plus retained profit. Thus, the equity is not money but rather a representation of the part of the assets owned by the business itself. The rest is owned by the bank and other creditors.
  
  
  

What is the relationship between liquidity and the profit?

There is no direct correlation between liquidity and the profit. The business may have a huge profit and still face bankruptcy.
It is correct that the profit may contribute to strengthen the liquidity, but the liquidity is also affected by down payments on loans, investments, increase in the inventory and payments to suppliers and the owners.

Do you save tax by more rapid down payments on the loans?

No, there is no tax reduction on down payments. You only receive tax reduction on the interests.

Do you save tax by investing this year?

Yes, you may save tax by investing in December compared to waiting until January next year. If the purchase has a value of more than NOK 15 000, the asset has to be capitalized. Then you can benefit from full tax related depreciation even if the investment is done in December. The condition is that the delivery also takes place in December.

Considering investments, you may want to know the most common annual rates of depreciation in Norway:

Investment in a new company car with a value of NOK 300 000 will yield a tax liability reduction of NOK 60 000 the first year, provided the company is in a position to pay tax.