July 5, 2020

SB-Accounting

Accounting + Finance Blog

Business term: what is Income? Definition and explanation

What exactly is income? To help understand it, after defining income, we will analyze the term from various aspects. That is individuals and companies. Each of these groups sees income in a different light. You may also read the tern revenue here

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Meaning of income

According to the International Financial Reporting Standard (IFRS) conceptual framework, Income is the increase in assets or decrease in liabilities that result to increase in equity other than those from the contribution of holders of equity claims.

Income can also be referred to as something of value (money or other valuables) received by an individual or company for the exchange of efforts made by them or through their investments.

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Key Explanations of income

From the first definition of income, it can be said that:

Income is a result of the increase in assets. This is rightly so. Two examples are given to explain this.

When inventory is bought for sale in a business, it is sold at a higher amount. The increase is, therefore, an income. An inventory may have been purchased for 200,000 Naira and sold for 430,000 Naira. The increase in this inventory value is referred to as income.

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When fixed assets are sold at a value higher than it’s scrap value, it is most times referred to as income. In this case gains. To explain further, assume a plant with a scrap value of 1 million Naira but was sold for 1.3 million. The increase in the value of 300,000 Naira is referred to as gains.

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More to it, income is a result of a decrease in liabilities. To explain this, if a firm debt repayment including interest is 2 million Naira. The total comprehensive income for that firm is reduced by 2 million Naira.

Assume that in the following year, the debt repayment reduced to 1.4 million Naira. The decrease of 600,000 Naira will increase the total comprehensive income by 600,000 Naira. This enhancement is an income to the business.

The result of the increase in assets and a decrease in liabilities are increasing in equity. Equity is also called capital for a single entrepreneur or a partnership firm. The total comprehensive Income or earnings, as it is something called is usually referred to as an increase to equity and is added to the same in the statement of financial position.

The screenshot of the interim financial statement 2019 for Academy Press Plc, a company quoted in the Nigerian Stock Exchange, shows that the total earnings for the year are added to the equity. This, therefore, increases the value of equity.

Business term: what is Income? Definition and explanation

The increase in equity is not as a result of contributions made by equity holders or shareholders. A company’s directors might decide to sell more of the firm’s outstanding shares. Either through a Public offering, bonus shares or rights shares.

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In any of this case, it will increase the equity of the firm by the amount the shares sold. However, such an increase is not an income as stipulated by the IFRS conceptual framework. The screenshot above also explains this point. You will notice that the share premium is also added to equity. Nevertheless, it is not an income, it is a separate line item in the financial statement.

The definition provided by IFRS conceptual framework is limited to companies. Individuals who earn income are excluded.

Due to this limitation, a more elaborated definition of income is given as the second definition. Which you may have read above.

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From the second definition of income we can make up the following points:

Income is something of value. Most times income is given as a monetary reward other than other valuables like jewelry and gold.

The income arises as a result of an effort made by an individual or company. The term income is not earned by chance. A person or business must have put in a certain effort to earn it.

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An individual earns income in the form of salaries, wages, profits or investment income (rent, dividend, interest). This is as a result of efforts exacted by him or her for a firm he or she works as an employee. Or profit earned as a result of been self-employed. Individuals can also earn investment income. This raised from investing in businesses and companies in the form of shares, bonds, treasury bills or debentures.

Companies also earn income in a similar way. But such income is often called total earning or total comprehensive income. Businesses can also earn dividends or interest as an institutional investor in shares, bonds or debentures of other companies.

To conclude, income has been elaborated in various ways. In this next lesson under business terms, we will examine the term expenses in detail.

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