What are charts of accounts? How do we record data in it? Is this a basic question that arises at the beginning of every work? And how do we calculate all our financial records? So here the solution is, a directory tool for recording every financial account in a company’s general ledger in an organised way.
Charts of accounts manage finances, maintain a record of all transactions, and provide a more transparent perspective of a company’s financial status. It has an identification code, name, and brief description for the quick location of specific accounts.
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What are Charts of Accounts?
A chart of accounts (COA) is a collection of all the accounts used by your business, organised in a single location, part of the company’s general ledger. It offers a comprehensive overview of all segments of your business that either incur expenses or generate income. The primary account categories include Revenue, Expenses, Assets, Liabilities, and Equity.
To clarify this concept, one can relate it to personal finance. When you access your online banking, you usually encounter a dashboard outlining your various accounts—checking, savings, and credit card—along with their respective balances. This serves as a reflection of your financial resources and their respective locations.
Similarly, a business’s chart of accounts functions in the same way. A key difference is that they usually have a broader variety of accounts compared to an individual, resulting in a more complex chart; however, the fundamental purpose and concept stay the same. Ultimately, the chart of accounts should provide anyone reviewing it with a general understanding of your business’s essence by itemising all accounts related to daily operations.
What are the Types of Charts of Accounts?
The charts of accounts are divided into:
Asset accounts:
Financial records that list a company’s assets and their values are called asset accounts. These accounts demonstrate the worth of the company’s assets, which it possesses and whose future worth may be calculated. When an asset account is debited, its value rises; when it is credited, it falls. The business balance sheet shows the balances of the asset accounts. It goes into one of two categories: current or capital. Since asset accounts are real or permanent, they are not closed after the fiscal year. Rather, the remaining amount at the end of the year is carried over to the following year. Cash, accounts receivable, inventory, prepayments, investments, buildings, machinery, and automobiles are illustrations of asset accounts.
Liability accounts:
Anything a person or business owes, typically money, is called a liability. Over time, liabilities are resolved by transferring financial gains, such as cash, products, or services. Loans, accounts payable, mortgages, deferred revenues, bonds, warranties, and accumulated expenses are all listed on the right side of the balance sheet. The reverse of assets are liabilities. They speak of items you have borrowed or owe. Items that you possess or owe are considered assets.
Liabilities are classified as either current or non-current, depending on their temporality. They may consist of an unpaid obligation from a prior transaction or a future service owed to others, such as short—or long-term borrowing from banks, people, or other organisations.
Equity accounts:
Equity is the sum of money provided by a company’s owners or shareholders to support the original launch and ongoing operations of the enterprise. Total equity, which is shown on the balance sheet of the business, is also the amount that remains in assets after all liabilities have been settled. Just subtract all liabilities from all assets to determine total equity.
The entire shareholders’ equity is made up of a variety of equity account kinds. Common stock, preferred stock, surplus contributions, additional paid-in capital, retained earnings, other comprehensive earnings, and treasury stock are all included in these accounts.
Revenue accounts :
All sources of money for the company are included in revenue accounts; these could include asset sales, rental income, interest income, and sales. The method of accounting you adopt will determine when you enter revenue in your accounting records. Revenue is recorded when a sale is made, not when the money is received if accrual accounting is used. Only record sales as revenue when you are paid in person if you utilise cash-basis accounting.
Revenue doesn’t tell you how much your company makes in a given time frame. Profit indicates how much your company makes or loses after expenses are subtracted. You must start with your company’s revenue to determine your profit, net income or loss. Subtract all of your costs from all of your income to determine your profit.
Expense accounts:
Expense accounts are essential financial documents that help control a business’s expenses because they have an impact on a company’s earnings and stockholders’ equity balance. Expenses can include direct expenditures like Cost of Goods Sold (COGS), rent, marketing, and payroll, along with indirect costs such as utilities, general expenses, and service fees. Understanding the various types of expenses—such as operating, non-operating, fixed, and variable—can improve a business’s cash flow and profitability.
Why are Charts of Account Important?
Knowing where your company’s money is going is not possible without a chart of accounts. The chart of accounts functions similarly to a map of your company’s many financial components. It is a significant tool that arranges several transactions in an accessible manner. Transactions are easily located and evaluated because they are shown as line items. This is essential for giving stakeholders and investors a broad overview of a company’s financial information.
It is designed to help you generate precise financial statements, enhance decision-making, give a clear view of your business’s status, and ensure compliance with financial reporting standards.
How Do Financial Statements Relate to the Charts of Accounts?
The data entered in the general ledger is used to create financial statements, such as the cash flow, income, and balance sheets. These three financial reports are significantly shaped by the COA’s structure:
Balance Sheet:
The balance sheet is closely related to the accounts in the Charts of Accounts under assets, liabilities, and equity. The company’s assets and liabilities are shown on the balance sheet, which gives a quick overview of the company’s financial situation at a particular moment in time.
Income statement:
Revenues and expenses, which are grouped in the Charts of Accounts, are the main emphasis of the income statement, which shows the company’s financial success over time. By keeping track of these accounts, the income statement shows the net income or loss of the business, which is calculated by deducting all costs from all revenues.
Cash Flow Statement:
The cash flow statement uses data from the assets, liabilities, and equity sections, particularly those accounts that have an impact on cash and cash equivalents, even though it is not specifically included in the Charts of accounts. It offers information about the company’s long-term cash inflows and outflows.
Charts of Accounts Format
Any format can be used, created, or altered by a business. However, the most popular approach, according to experience, arranges data by each account and gives each account a code and description. For comparisons between periods and between years, it is crucial to stick to the same format over time.
How Does a Company Set Up Charts Of Accounts?
Every business is distinct, and the chart of accounts may be set up differently based on the organisation’s size and complexity. Nonetheless, there are a few fundamental stages involved in creating a chart of accounts.
For any account you’re reporting on (bank fees, cash, taxes, etc.),
- Create a business account name.
- Give business accounts account numbers.
- Sort account names according to account categories.
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Conclusion:
All of the financial transactions that a business makes during an accounting period are numbered and listed in a document called a chart of accounts. Typically, the data is organised into categories that correspond to those seen on the income statement and balance sheet.
Because it gives people inside businesses and outsiders, including investors and shareholders, access to comprehensive financial data, the chart of accounts is a particularly helpful tool. In short, it’s an essential tool for monitoring your company’s finances, particularly as it expands.
Disclaimer: All the information provided in this article on Charts of accounts, including all the texts and graphics, is general in nature. It does not intend to disregard any of the professional advice.
