Set up a chart of accounts as one of the first steps in beginning a new business. A chart of accounts is the listing of all the accounts in a general ledger, and it usually includes reference numbers to help classify the accounts by type. The chart organises and tracks all of the business activities and makes it possible to generate reports in a logical sequence to track the financial history and progress of the business. Here's how to set up a basic chart of accounts.
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Organise the business by classifying the items into what the business owns (assets), what the business owes (liabilities), the value of the business to the owners (equity), business income (revenues) and what the business spends to provide the income (expenses.)
Give each asset account a unique name, such as cash-checking, cash-savings, accounts receivable, inventory, investments and fixed (or depreciable) assets. Assign sequential numbers to these accounts from 1000 to 1999. The range of the account numbers allows the addition of new account names and numbers as the business expands.
Name each liability account with a unique name, such as accounts payable, notes payable, loans payable, wages payable, and payroll taxes payable to track any amounts the business owes to others. These may be further divided into short term liabilities (amounts due to be paid within one business year or less) and long term liabilities (amounts due to be paid later than one business year). Assign sequential numbers to these accounts from 2000 to 2999.
Classify each equity account with a unique name. These include common stock, paid-in capital and retained earnings (if the business is a corporation) partner distributions and partners' equity (if it's a partnership), and members' equity (if it's an LLC). Assign sequential numbers to these accounts from 3000 to 3999.
Assign unique names to each revenue account, such as sales, commission income, rent income and other income. Assign account numbers from 4000 to 4999 to these accounts. Revenue accounts track all the income the business brings in during the year.
Determine all of the costs of doing business within one business year. These are the expenses of the business, and they are segregated according how they are related to the production of income. For example, cost of goods sold accounts relate to manufacturing products, producing services and purchasing inventory. Number these accounts from 5000 to 5999. General expenses, including office expenses, advertising, accounting and legal expenses get numbers from 6000 to 6999, and wages and payroll expenses get numbers from 7000 to 7999.
Segregate any revenue and expenses which are not part of the normal course of the company's main business. This category might include Income from such activities as interest income from notes receivable or gain or loss from the sale of business assets. Similarly, there may be expenses that are not related to the production of the company's products or services, such as income tax expense or mortgage expense. Number these accounts 8000 to 8999.
Tips and warnings
- Asset, liability and equity accounts are called "permanent accounts" because they are carried over from one year to the next and adjusted as their values change. Revenue and expense accounts are called "temporary accounts" because at the end of each year the income and expenses are calculated for the final report, then these accounts are "closed," so the next year's income and expenses can be properly tracked.