WHAT IS A CHART OF ACCOUNTS?
Think of a chart of accounts (COA) as a filing cabinet where all a company’s financial transactions are stored and a complete listing of all the accounts that are currently in use are kept.
As a business owner, you're skilled in the art of organization. That said, how organized are your accounts? Every time you conduct a transaction, from a bank loan to a laptop purchase, you have to record it in the correct account. Otherwise, wires get crossed, numbers get transposed and money can go missing. Yet, with so many accounts active at any given time, how do you know which one to record it in? This is where a chart of accounts comes in handy.
Not sure what this is? Read on! Today, we're exploring what a chart of accounts is, how to create one, and why your business can't afford to go another day without one.
Ready to learn more? Let's dive in!
All About Charts of Accounts
Before we get into how to set one up, let's review what a chart of accounts entails. As its name implies, a chart of accounts is a comprehensive list of all the accounts that your company manages. When you look at it, you can see all of the different areas in which your various departments spend or make money. Though these can vary from business to business, the main five categories of accounts include:
• Revenue
• Expenses
• Assets
• Liabilities
• Equity
Within each category, you'll include sub-categories for each corresponding account. As you create yours, keep in mind that your industry and specialization will dictate the line items that you see listed on your chart of accounts. For instance, a restauranteur's chart of accounts will include a lot more references to "restaurant supplies" than a digital marketing agency's. Anyone should be able to glance at your chart of accounts at any time and understand the nature of your business.
Why Is It Important?
It might seem like just another part of managerial housekeeping, but creating a chart of accounts is one of the most important things you can do for your company's financial health.
Why?
When you're able to track every dollar that comes into and goes out of your business, you're able to make more informed business decisions. Moreover, organizing all of this data on the front end can make the rest of your administrative accounting duties that much easier. Both your balance sheet report and your profit/loss statement will reference data contained within your chart of accounts.
Come tax time, you'll be especially glad you created this database. The information saved therein is critical for filing important small business tax forms, such as Schedule C.
How to Set Up Your Chart of Accounts
Now that you know what a chart of accounts is and why it's so important, let's review the steps to follow when you're ready to set one up at your company.
All of the five main categories on your chart of accounts are four digits long. They include (in ascending order):
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Assets: 1,000 to 1,999
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Liabilities: 2,000 to 2,999
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Equity: 3,000 to 3,999
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Revenue: 4,000 to 4,999
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Expenses: 6,000 to 6,999
In addition, many business owners choose to add a category for Cost of Goods Sold (COGS), labeled as 5,000 to 5,999. Once you have these high-level categories in place, it's time to start breaking them down into sub-categories, or individual accounts.
As you do so, try to leave a few numbers in between each account for space. For instance, within your "Asset" category, you might list the following accounts:
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Checking
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Savings
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Cash
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Petty cash
With a span of 1,000 to 1,999 you don't have to list these as 10001 checking, 10002 and so forth. Rather, you can add 10 digits between each one and still have plenty of room. For instance, checking might be 1010 and savings can be 1020.
Why add a buffer of extra space? If things go according to plan, you want your business to grow! As it does, you might need to go in and add more accounts later on, and it's easier to leave space now than shift everything around down the road.
Specific Accounts to Include
Feeling overwhelmed by all of the possibilities?
When creating your chart of accounts, you might wonder which accounts should be on there. The rule of thumb is to be as comprehensive, yet concise, as you can.
Thankfully, you shouldn't have to create your chart of accounts from scratch. Most modern accounting software includes a wizard that can help walk you through the steps to set one up on your own. Many will simply generate the database for you based on your industry and business specialization.
As such, before launching this tool, there are a few important steps to take to make sure the auto-generated chart of accounts is as accurate as possible. These include:
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Deleting any unnecessary accounts
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Renaming any obscure accounts with titles you can easily recall
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Adding opening balances to every account
Using Your Chart of Accounts Successfully
It might be a pillar of your business, but a chart of accounts doesn't do any good if it sits unopened in a virtual file folder for years. Once you've created it, it's time to use it to your advantage. Here are a few ways to do so.
Keep an Eye on Sales
You can use this database to monitor precisely where your money comes from each month. One of the best places to look would be within your "Sales" account under the "Revenue" category. Here, you can take a closer look at every transaction that feeds into your total balance.
Understand Outstanding Debts
Your chart of accounts can also reveal helpful details on the money that your company owes to its creditors. Under "Liabilities", you can create an account labeled "Accounts Payable". Here, you'll track all of the invoices that your company has received from suppliers and vendors but has not yet paid. This timely data can keep you up-to-date on your bills, invoices and other expenses.
Keep Track of Assets
How many computers does your company own and where are they? If you don't know the answer, a chart of accounts can help you track such important assets and keep them together.
For instance, under "Assets", you can create a "Computer Equipment" account that tracks the movement of any computers, printers, copiers, or other related equipment. In one click, you can see the expense history of that item. Some software will also allow you to track its rate of depreciation.
Why does this all matter?
When it comes time to make important business decisions, a current chart of accounts keeps revenue, expenses, and other data neatly organized and gives an accurate perspective on a business’s financial outlook.
Automate and Simplify Your Chart of Accounts
Creating and maintaining an accurate chart of accounts is a critical part of your business accounting processes. However, we know that you've got plenty on your plate. Setting this database up and entering all the requisite data could take hours or even days for any employee to complete. That's why it's best to allow our automated bookkeeping program to take care of the legwork for you.
When you partner with us, we'll create a custom chart of accounts just for your business. We'll also collate all of your various data points into reports and financials personalized to fit your business.
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