As an essential tool for organizing and
categorizing financial transactions, the chart of accounts plays a pivotal role
in maintaining accurate and reliable financial records for businesses. Whether
you are a small business owner, an aspiring accountant, or someone interested
in learning more about accounting principles, understanding the chart of
accounts is crucial. In this blog post, we will explore the concept of a chart of
accounts, its significance, and how it is used in financial accounting. So,
let's dive in and unravel the mysteries of the chart of accounts!
A chart of accounts is an index of all the financial
accounts in the general ledger of a company.
A chart of accounts is an organizational tool
to break down the transaction into understandable categories and subcategories
based on the five main types of classification.
A chart of accounts enables you to see
transactions with descriptions, Numbers, and names. As explained earlier in the definition
section the chart of accounts makes it understandable and you can sort
transactions or accounts (similar transaction category) in the general ledger.
The main categories you’ll find within a chart of accounts are:
•
Assets
•
Liabilities
•
Shareholder’s equity
•
Revenue
•
Expenses
Why
is a Chart of Accounts Important?
A chart of accounts is necessary because you
can track the financial figures and records of transactions through a general
ledger, which is possible through the chart of accounts.
A chart of accounts is tailored according to
company operational requirements. The investors can go through charts of
accounts and account balances for the investment option. Also, investors use
financial statements whether to invest in a business or not that line appearing
on the balance sheet is also the chart of accounts.
A chart of accounts will include the following
categories:
•
Assets
•
Liabilities
•
Owner’s equity
•
Revenue
•
Expenses
Assets
Assets are the items that the company owns
from past activities and have future economic benefits in terms of cash
inflows. You can set the number along with the name and description for assets
its starts with 1000. You can apply this for setting up your charts of accounts
in accounting software such as QuickBooks Online.
There are two main categories of assets
dependent on the time that are current and non-current assets.
Current assets are the assets that the company
will benefit from for 12 months. current assets include:
•
Inventory
•
Cash
•
Prepaid expenses
Non-current assets are assets that are useful
for more than 12 months. Non-current assets include:
•
Property plant and equipment
•
Buildings
•
Furniture and fixtures
•
Lease right of use
•
Vehicles
Liabilities
Liabilities are what your company owes. While
setting the chart of accounts the liabilities number starts from 2000.
The chart of accounts will include the
following items for current liability but is not limited to:
•
Unearned income
•
Accrued expenses
•
Payroll taxes payable
•
Sales taxes payable
•
Loans and mortgages payable
Non-current liabilities accounts include:
•
Loan
•
Mortgages payable
Equity
For a chart of accounts, the equity no starts
with 3000 and refers to shareholder equity. Some of the equity most commonly
found in a chart of accounts are:
•
Share capital
•
Common stock
•
Preferred stock
•
Retained earnings
•
Owner draws
Revenue
Revenue is the sales of the business.
Operating income is the income your business earns from primary business
activity.
Non-operating revenue is revenue that your
company makes from other than the principal activity. This form of revenue can
come from:
•
Sales revenue
•
Interest income
•
Dividend income
•
Foreign exchange gains or losses
•
Profits or losses from investments
•
Rental income from property
The revenue section starts with the 4000
number along with the name and description.
Expenses
Expenses may be related to operating
activities called operating expenses and other non-operating expenses.
Operating expenses are expenses that occur to
run a business or operational activity. You may have expenses from the
following:
•
Salaries and wages
•
Insurance
•
Marketing
•
Meal
•
Legal and professional
Non-operating expenses are expenses not
related to business operations. These include:
•
Depreciation
•
Amortization
•
Interest charges
How
to Set up a Chart of Accounts
The process involves creating a structured
framework that organizes and categorizes financial transactions in a systematic
and consistent manner. To set up a chart of accounts, begin by identifying the
specific accounts that are relevant to your business operations.
These accounts typically include assets,
liabilities, equity, revenue, and expense accounts. Next, determine the
appropriate account numbering system and naming conventions that align with
your business needs and industry standards.
It's essential to consider factors such as the
size and complexity of your business, reporting requirements, and future
scalability when designing your chart of accounts. Once the accounts are
established, input them into your accounting software or ledger system,
ensuring that each account is properly categorized and assigned a unique
account number.
If you want to set a chart of accounts here
are the three things you can look at while setting a chart of accounts.
Account
Name
The first and most important is the name of
the account which will be a specific and valid name such as salary and wages,
marketing, Inventory, and so on.
Type
of Account
The second thing to add is the type of
account. This is the broad category in which various accounts fall. That may be
the cost of goods sold, assets, liabilities, equity, assets, and expense.
Description
The description is short text added to
understand what is the account type about what transaction it will.
Professional at Bookkeeping Pro Services helps you set a chart of accounts as per
your business requirement no matter what accounting and ERP software is used.
Professional at Bookkeeping
Pro Services has helped thousands of small and mid-sized businesses to set up their chart of accounts and manage their bookkeeping and accounting.
Useful
Resources
A
Guide to Small Business Expense Tracking
