Many people mistakenly use accounting and finance interchangeably, but the reality is that they're two different concepts. Although they both have to do with money, and there are many similar characteristics between them, each has its own scope and focus. So, what is the difference between these terms?
The key difference between accounting and finance is that accounting deals with the day-to-day flow of money in and out of a business, while finance is a broad term related to how an individual or a business manages assets and liabilities. However, there are additional differentiating factors.
Whether you're considering a career in accounting, or finance or you simply want to know the difference between the terms, this post provides a full comparison so that you won't be confused or use them incorrectly in the future.
Is Accounting Finance?
There's a fine line between finance and accounting, which is why no one could blame you if you thought they were the same thing. To get a better understanding of what each one is, let's review their core definitions, how each one works, and their differences.
What Is Accounting?
According to Dictionary.com, accounting in its most basic form is:
"the process or work of keeping financial accounts."
Essentially, it's the art of reporting and communicating financial information about an organization, business, or individual in a systematic way. Accounting provides an accurate snapshot of a particular entity's financial position and profitability at a specific point in time. This practice of recordkeeping results in the information or data on which strategic financial decisions and activities are based.
Typically, accounting involves collecting financial information, recording transactions, compiling reports, and then analyzing and summarizing the person or business's performance. The results are usually presented in the form of financial statements, including cash flow statements, income statements, and balance sheets.
One thing to note about accounting is that there are two types: financial accounting and managerial accounting.
The main difference between the two primarily centers on accounting standards, compliance, how information is organized and presented, and the target audience. In layman's terms, financial accounting is aimed at aggregating financial information into statements for internal and external use, while managerial accounting focuses on internal accounting processes and generating reports that help managers within an organization make well-informed strategic business decisions.
But let's look at accounting as a whole.
The process entails eight crucial steps:
Step 1: Identify Which Transactions To Record.
This involves observing and selecting all relevant financial transactions, including incoming funds (i.e., sales, income, etc.) and outgoing payments (i.e., business or personal expenses).
Step 2: Record Transactions In A Journal Or Subsidiary Books.
The second step requires the systematic entry of financial transactions in an accounting journal as they occur.
Step 3: Post Transactions From The Journal To An Account In A General Ledger.
After data is recorded in a Journal, it should be posted to a secondary book called a general ledger. A ledger provides a breakdown of all accounting activities by account. In other words, transactions of a similar type or nature are grouped together. This allows a bookkeeper or accountant to monitor financial statuses by account.
Step 4: Prepare An Unadjusted Trial Balance.
Once an accounting period has ended, an unadjusted trial balance is created. This sums up the total credits and total debits in each of a business's accounts (i.e., all accounts found in the general ledger). The purpose of this balance sheet is to ensure the total credit balance equals the total debit balance. If the figures don't match up, there's a mistake with one or more of the entries. Fixing these errors is known as correcting entries, which should be done before moving to the next step.
Step 5: Make Adjusting Entries In The Trial Balance.
Adjustments ensure your financial statements only include information relevant to the period of time in question. There are four main types of adjustments:
- Deferrals (e.g., money received before delivering a good or service)
- Accruals (e.g., revenue not immediately received or expenses not paid immediately)
- Missing transactions
- Tax adjustments (e.g., depreciation and other deductions)
Step 6: Create An Adjusted Trial Balance.
This is a new trial balance that takes into account all of the adjusting entries. It serves as proof that all of the ledger's debits and credits balance after all the adjustments.
Step 7: Prepare Financial Statements.
Financial statements reveal the financial position, profitability, and cash flow of an entity. There are three main types:
- Income statement: this is made up of the revenue and expense sections of the trial balance
- Balance sheet: this consists of assets, liabilities, and owner's equity
- Cash flow statement: this shows all transactions where funds enter or leave your account
Step 8: Close The Books.
In this final step, closing entries are created to transfer temporary account balances to a permanent account. This involves closing and zeroing out the revenue and expense accounts for the next account cycle. These are income statement accounts, which show performance for a specific period. The balance sheet accounts are not closed, as they show a business's financial position at a certain point in time. Once the accounting cycle closes, the next one begins.
Ultimately, accounting aims to record monetary transactions systematically, determine the outcome of recorded transactions, and determine the financial position of a person or business. It also provides information for making sound decisions and lets a company's key stakeholders know its solvency status.
What Is Finance?
According to Dictionary.com, finance in its most basic form is:
"the monetary resources and affairs of a state, organization, or person."
Technically, finance is the part of economics that deals with the allocation of resources and the management of funds. It encompasses activities such as budgeting, investing, borrowing, lending, and forecasting.
The field of finance contains three main subcategories.
- Personal finance: relates to the activity of managing the finances of an individual. Financial strategies depend on the person's goals, desires, earnings, and living requirements.
- Corporate finance: refers to the financial activities involved in running a corporation. This includes the sourcing and application of funds in a way that increases the value of the business in the long run.
- Public finance: deals with government debt, revenue, and expenditure, specifically concerning how they impact the economy. This also encompasses how state and local governments manage revenue and expenses in order to deliver public utilities.
Although these categories cover a similar set of activities, each type has nuances when it comes to regulations, concerns, processes, and other features.
Two key roles that direct the financial operations of a company are the treasurer and controller. Each position has its own responsibilities as outlined below:
- Cash management
- Credit/Receivables management
- Banking relations
- Funds and securities management
- Asset management
- Planning and budgeting
- Financial accounting
- Cost accounting
- Data processing
- Tax management
- Internal auditing
- Annual reports
But even with all this said, there's nothing like a comparison chart to truly see the differences between the two concepts, so let's pit them against each other once and for all.
Finance Versus Accounting
|Accounting is a methodical process for keeping a record of transactions.||Finance leverages the information provided by accounting to help individuals or businesses set long-term goals or make budget decisions.|
|Accounting is a sub-domain of finance.||Finance is a part of economics.|
|Focuses on the past.||Focuses on the future.|
|Accountants play a vital role in preparing financial statements, offering advice on investment decisions, monitoring tax payments, and overseeing financial operations.||Finance professionals are future-focused, evaluating, anticipating, and managing uncertainties and risks.|
|With accounting, financial statements are prepared.||With finance, financial statements are analyzed.|
|Accounting professionals can become accountants, tax consultants, auditors, etc.||Finance professionals can become finance consultants, financial analysts, investment bankers, etc.|
|Employee settings often include accounting firms, corporations, banks, financial service agencies, and mortgage companies.||Employee settings often include banks, brokerages, investment firms, corporations, and mortgage companies.|
|Follow Generally Accepted Accounting Principles (GAAP).||No standards but understands GAAP.|
So, Is Account And Finance The Same Thing?
As you've seen from our comparison above, accounting and finance are related, but they're not the same thing. However, developing your financial acumen in both areas is key to helping you make better decisions—whether in business or personally. From deciding how to allocate resources and where to invest to understanding your financial health, many of the choices you need to make are rooted in accounting and finance. And if you're considering either as a career, we hope you now have a better idea of which one interests you more.
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Shawn Manaher is a former financial advisor, has founded 5 online businesses, and is a coach, speaker, podcast host, and author. He's been featured on Forbes, The Consults Corner on TAE Radio, The Writing Biz, What's Your Story, and more.