How to set up your chart of accounts

 What is a chart of accounts?

The chart of accounts (COA) is an organized list of financial account numbers and names in your company's general ledger. Typically, a chart of accounts will have four categories: assets, liabilities, income, and expenses. 

Accounting systems have a general ledger where you record your accounts to help balance your books. Keeping your accounts in place and up to date is important for analyzing your finances. However, your accounting requires you to record your transactions in the correct accounts. A chart of accounts helps you do just that! 

Chart of accounts structure

In order to understand the balance sheet and income statement for your business, you need to first have an understanding of the components that make up a chart of accounts. Knowing how to keep your company's chart organized can make it easier for you to access financial information when you need it. 

Within each of the chart of accounts categories, line items distinguish the specific accounts. Each line item represents an account within each category. The main account types for a chart of accounts include asset liability, income, and expense accounts. 

Asset Accounts

The chart of accounts streamlines various asset accounts by organizing them into line items so that you can track multiple components easily. 

Your asset accounts typically include:

• Buildings and land
• Equipment and vehicles
• Inventory
• Bank accounts
• Accounts Receivable

Asset accounts can be confusing because they not only track what you paid for each asset, but they also follow processes like depreciation. 

Liability Accounts

Liabilities are things you owe. Major liability accounts include things like: 

• Accounts payable
• Payroll Taxes
• Bank loans
• Credit card balances
• Deferred tax liabilities

Current liabilities are any outstanding payments that are due within the year, while noncurrent or long-term liabilities are payments due more than a year from the date of the report. 

Income Accounts

Income is often the category that business owners underutilize the most. Some of the most common types of revenue or income accounts include sakes, rental, and dividend income. 

Consider creating separate line items in your chart of accounts for different types of income. Instead of lumping all your income into one account, assess your various profitable activities and sort them by income type.

An example, imagine you have a store that sells an array of items, such as food and books. You would create a chart of accounts as follows:

1. On your chart of accounts, you create line items for "income from food sold" and "income from books sold."
2. Then, compare the profit levels and costs of goods sold from each category (which allows you to better determine your financial health.)
3. When compiling data in your income accounts category, consider anything that brings money into the company, including things like interest income. 

By identifying which location, events, items, or services bring in the most cash flow, you will be able to allocate resources to more profitable parts of your business and cut costs in areas that may be lagging. 

Expense Accounts

Expense accounts represent any money that you spend. This can include the rent you pay for the building you may have your business in. Some examples of expense accounts for your business may be:

• Advertising expense
• Interest expense
• Depreciation expense
• Salaries or wages

It is also good to break up expenses into separate accounts. If you ship a lot of products, you may want to track your costs from different shipping carriers separately. Within each line account, you can create sub-categories for the various expenses associated with each carrier. 

How to set up the chart of accounts

Setting up your chart of accounts is relatively simple. First create your blank chart and assign the columns. The chart of accounts typically breaks down into three columns:

1. Create business account names

            The account names are the titles of the business accounts you use. Example: Bank fees, rent expenses

    2. Assign account numbers to business accounts

    

                Account numbers are the numbers you assign to each account name. These numbers are typically four digits, and each account has a unique number. 

The most common number sequences for each account are:

• Assets: 1000-1999
• Liabilities: 2000-2999
• Income: 4000-4999
• Expenses: 6000-7999

You can create sub-accounts to streamline your account numbering. An example would be if you need to create a new account for "PayPal Fees". Instead of creating a new line on your chart of accounts, you can create a sub-account under "bank fees"

    3. Organize account names into one of the four account category types

                For optimal organization, each of your account names should have an account type. Choose the main account types like assets vs liabilities or income vs expenses. Once you set up your chart, you can then begin adding specific account names and the account category they are associated with. 

Below is an example of what your chart of accounts will look like: 

Tips for organizing your chart of accounts

Once you set up your COA, keeping it organized as you continue to add or adjust accounts is important. the following tips will help you set your chart of accounts up for success:

• Use simple account names: when setting up your line items for the first time, keep it simple. Provide titles for your line items that make sense to you and your accountant. 
• Create sub-accounts: as time goes by, you may want to create a new line item for each transaction. However, doing so could littler your company's chart and make it confusing to navigate. Instead, take advantage of your accounting software's sub-accounts. 
• Add financial statements: You can ass an account statement column to your COA to record which statement you will be using for each account - Cash flow, balance sheet, or income statement. For example, balance sheets are typically asset and liability accounts, while income statements are for expense accounts. 
• Track account movements: Your chart of accounts is a living document for your business and because of that, accounts will inevitably need to be added or removed. The general rule for adding or removing accounts is to add accounts as they come in but wait until the end of the year or quarter to remove any old ones. 

As your business grows, so will your need for accurate, fast, and legible reporting. Your chart of accounts helps you understand the past and look toward the future. A chart of accounts should keep your business accounting error-free and straightforward. This will allow you to quickly determine your financial health so that you can make intelligent decisions moving forward. 

If you need some help setting up your Chart of Accounts I would love to help! 

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