Understanding a Bookkeeper’s Chart of Accounts
12 of 12 in Series: The Essentials of Accounting Basics
The Chart of Accounts is the roadmap that a business creates to organize its financial transactions. Essentially, this chart lists all the accounts a business has, organized in a specific order; each account has a description that includes the type of account and the types of transactions that should be entered into that account.
Every business creates its own Chart of Accounts based on how the business is operated, so you’re unlikely to find two businesses with the exact same Charts of Accounts. However, some basic organizational and structural characteristics are common to all Charts of Accounts.
The organization and structure are designed around two key financial reports: the balance sheet, which shows what your business owns and what it owes, and the income statement, which shows how much money your business took in from sales and how much money it spent to generate those sales.
The Chart of Accounts starts first with the balance sheet accounts, which include:
Current Assets: Includes all accounts that track things the company owns and expects to use in the next 12 months, such as cash, accounts receivable (money collected from customers), and inventory.
Long-term Assets: Includes all accounts that tracks things the company owns that have a lifespan of more than 12 months, such as buildings, furniture, and equipment.
Current Liabilities: Includes all accounts that track debts the company must pay over the next 12 months, such as accounts payable (bills from vendors, contractors, and consultants), interest payable, and credit cards payable.
Long-term Liabilities: Includes all accounts that tracks debts the company must pay over a period of time longer than the next 12 months, such as mortgages payable and bonds payable.
Equity: Includes all accounts that tracks the owners of the company and their claims against the company’s assets, which includes any money invested in the company, any money taken out of the company, and any earnings that have been reinvested in the company.
The rest of the Chart of Accounts is filled with income statement accounts, which include:
Revenue: Includes all accounts that track sales of goods and services as well as revenue generated for the company by other means.
Cost of Goods Sold: Includes all accounts that track the direct costs involved in selling the company’s goods or services.
Expenses: Includes all accounts that track expenses related to running the businesses that aren’t directly tied to the sale of individual products or services.
When developing the Chart of Accounts, you start by listing all the Asset accounts, the Liability accounts, the Equity accounts, the Revenue accounts, and finally, the Expense accounts. All these accounts come from two places: the balance sheet and the income statement.
You should develop an account list that makes the most sense for how you’re operating your business and the financial information you want to track. The Chart of Accounts is a money management tool that helps you track your business transactions, so set it up in a way that provides you with the financial information you need to make smart business decisions.
You’ll probably tweak the accounts in your chart annually and, if necessary, you may add accounts if you find something for which you want more detailed tracking. You can add accounts during the year, but it’s best not to delete accounts until the end of a 12-month reporting period.