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The Definitive Guide to Accounts and Chart of Accounts

Financial Accounting

The Definitive Guide to Accounts and Chart of Accounts

Do you know what terms are most used in the accounting area? Yep, “account” (noun) and “to account” (verbs.)

Even accounting itself comes from the word “account.”

This means, if you are interested in accounting then you need to know what account is. And if you (want to) have a career in this field then knowing is not enough; you must be skillful at creating, setting up, using, and maintaining accounts.

Although this is very basic, in fact, not everyone in accounting is capable of doing those job. Many of them can only use accounts. If you are one of them, do not feel guilty, though. There is always a chance for those who want to learn.

In this post, you will learn:

  • what an account is;
  • why accounting uses accounts;
  • types of accounts (with lists of accounts commonly used in accounting)
  • how to create a chart of accounts for the first time; and
  • how to keep the accounting system neat by adopting accounts management best practice.

 

What is Account?

In the general scope of a business, an account is a term that refers to a record of a person’s or organization’s activities or events. This is in the context of business arrangements that provide services. And, usually, involves an establishment and maintenance.

For example, Phone subscription accounts, online store accounts, and cable TV subscription accounts. Or, insurance accounts, bank accounts, electricity accounts, email accounts, and so on.

While in the accounting scope, an account is a term that refers to a chronological record of a company’s financial transactions in the accounting system. It contains dates of transaction, descriptions, amounts and balances, in a debit-credit format. The debit and credit mark reflects increase and decrease depending on the type of the account. A company gives accounts certain names by their transaction type.

For example, the Petty Cash account stores the record of the company’s petty cash transaction. It contains transaction dates, descriptions, and amounts, in debit and credit format. A debit mark on the Petty Cash account reflects an increased value. While a credit mark indicates a decreased in value.

If you can’t understand the definition, imagine the account as an archive folder lined up on a shelf. The functions of these folders to store evidence of transactions such as bills, invoices, receipts, and so forth. You label and name each of those folders according to the type of transaction you want to keep in there, such as:

  • You label and name the first folder with “Cash” to store the evidence of cash transactions.
  • You label and name the second folder with “Accounts Receivable” to store the evidence of receivable’s transactions.
  • You label and name the third folder with “Inventory” to store inventory transaction slips.
  • And so forth

The difference is that those folders were physical. They’re lined up on a wooden shelf that is also physical. And, the evidence of transactions that were stored there were also physical papers. While accounts are virtual and in the accounting system (spreadsheet or accounting software.) And, the evidence that you keep in that storage is in the form of journal entries. Nothing is physical.

Here is an example of Petty Cash account:

Petty Cash Account

But in accounting textbooks, for easier understanding, an account is presented in the form of a T-account as follows:

Petty Cash Ledger

Here, at AccountingLog, we use both types of format.

“But, why does Accounting uses accounts?” you may wonder.

 

Why Accounting Uses Accounts?

Accounting processes historical data. The amount of those data can reach thousands if not hundreds of thousands of transactions in one reporting period. Especially if calculated since the company established for its first time.

In large, busy corporations, like Toyota, the number of transactions may reach millions in each reporting period.

Such large transaction data must be processed in such a way that it can be presented in a financial statement consisting of only a few pages of paper:

  • 1 to 2-pages of income statement;
  • 1 to 2-pages of balance sheet; and
  • 1-page cash flow statement

How?

Summarize it. To do so, the transaction must be grouped first. Here the account plays 2 important roles:

  • as a place to store transaction records; and
  • as a unique identity that represents the group of transactions it stores.

For example, “Cash” account becomes a place to store all cash transactions since the company was founded until a second ago. In the accounting information system, the “Cash” account also serves as a unique identity. Using that identity, the system is able to perform a certain operation over the data.

And, ‘Cash’ is just one of many accounts used in the accounting system. The same is true for other accounts such as accounts receivable accounts, inventory accounts, fixed assets accounts, and so forth.

Next, let’s have a look at what accounts are commonly used in accounting systems in the real world.

 

Types of Accounts

In processing transactions, accounting uses 3 types of accounts, as follows:

1. Permanent (Real) Accounts

Permanent accounts are those accounts with continuing balances from period to period since the company was established until someday closed in the future. Falling into this type are the elements of the balance sheet, including Asset, Liabilities, and Owner’s Equity.

The term “permanent” in this case implies that the balance of these accounts never closed, only increased or decreased. At the end of the accounting period, these account balances are transferred and become an opening balance for the next period.

Note, however, that permanent accounts do not necessarily have to have a balance. Some accounts may have zero balances, either because there was no transaction from the start or indeed because there was nothing left of the account.

Permanent accounts are also known as “real accounts.” The term “real” in this case means that these accounts exist not merely serve as forms of record keeping, but substantively represent the position of assets, liabilities and owner’s equity at a specific moment in time. The balance in a real account is the net amount after subtracting decreases from increases in the account.

Here are the permanent (real) accounts commonly used in accounting:

(a) Assets

  • Cash – This is the company’s money deposited at the bank (balance: debit)
  • Petty Cash – This is money retained in the petty cash box for small and daily expenditures (balance: debit)
  • Accounts Receivable – This is money due from customers for services received or products shipped, but not yet received. ” (balance: debit)
  • Reserve for Bad Debts – This is a reserve money that is held as a contingency against the Non-payment of outstanding accounts receivable. This is a contra-accounts receivable. (balance: credit)
  • Marketable Securities – This is cash that is invested in easily traded equity or debt securities, including the cost of acquiring these securities. (balance: debit)
  • Raw Materials Inventory – This is the amount of materials kept on hand for eventual inclusion in finished goods. This cost includes freight costs associated with the purchase of raw materials. (balance: debit)
  • Work-in-Process Inventory – This is the cost of partially completed units of production. The costs stored in this account include raw materials, and any raw materials or overhead used to date. (balance: debit)
  • Finished Goods Inventory – This is the cost of completed products that have not yet been shipped to customers. This includes all raw materials, direct labor, and overhead used during the production process. (balance: debit)
  • Reserve for Obsolete Inventory – This is a reserve that is held as a contingency against the eventual write-off of any types of inventory that no longer have a resale value (balance: credit)
  • Fixed Assets—Buildings – This is purchased or self-constructed building that exceeding the corporate capitalization limit that has an expected life of greater than one year. (balance: debit)
  • Fixed Assets—Computer Equipment – This is purchased computer equipment exceeding the corporate capitalization limit that has an expected life of greater than one year. (balance: debit)
  • Fixed Assets—Vehicles – This is purchased vehicles exceeding the corporate capitalization limit that has an expected life of greater than one year. (balance: debit)
  • Fixed Assets—Furniture and Fixtures – This is purchased furniture exceeding the corporate capitalization limit that has an expected life of greater than one year. (balance: debit)
  • Fixed Assets—Leasehold Improvements – This is improvements made by the company to its leased properties, exceeding the corporate capitalization limit, that has an expected life of greater than one year. (balance: debit)
  • Fixed Assets—Machinery – This is purchased production equipment exceeding the corporate capitalization limit that has an expected life of greater than one year. (balance: debit)
  • Accumulated Depreciation—Buildings – This is the total of all depreciation charged against the buildings fixed asset account, net of disposed of assets (balance: credit)
  • Accumulated Depreciation—Computer Equipment – This is the total of all depreciation charged against the computer equipment fixed asset account, net of disposed assets. (balance: credit)
  • Accumulated Depreciation—Vehicles – This is the total of all depreciation charged against the vehicles fixed asset account, net of disposed assets. (balance: credit)
  • Accumulated Depreciation—Furniture and Fixtures – This is the total of all depreciation charged against the furniture and fixtures fixed asset account, net of disposed assets. (balance: credit)
  • Accumulated Depreciation—Leasehold Improvements – This is the total of all depreciation charged against the leasehold improvement fixed asset account, net of disposed assets. (balance: credit)
  • Accumulated Depreciation—Machinery – This is the total of all depreciation charged against the machinery fixed asset account, net of disposed assets. (balance: credit)
  • Other Assets – This is an account in which minor asset items are stored that do not fit into any other asset account categories. (balance: debit)

(b) Liabilities

  • Accounts Payable – This is the billed and accrued commitments to pay suppliers for products delivered or services rendered to the company. (balance: credit)
  • Accrued Payroll Liability – This is an obligation to pay wages to employees which have not yet been paid. (balance: credit)
  • Accrued Vacation Liability – This an obligation to pay for earned vacation time to employees which has not yet been paid. (balance: credit)
  • Accrued Expenses liability—Other – This an account in which minor accrued expenses are stored, or those accrued expenses are stored, that do not occur on a recurring basis. (balance: credit)
  • Un-remitted Sales Taxes – This is sales taxes to the government that are a company obligation to make as a result of selling products or services into the geographic areas governed, but which have not yet been made. (balance: credit)
  • Un-remitted Pension Payments – This is pensions payments that are an obligation of the company to make into the employee pension fund which has not yet been made. (balance: credit)
  • Short-term Notes Payable – This is debt obligations that are due for payment in less than one year. (balance: credit)
  • Other Short-term Liabilities – This is an account in which minor liability items are stored that do not fit into any other liability account categories. (balance: credit)
  • Long-Term Notes Payable – This is debt obligations that are due for payment in more than one year. (balance: credit)

(c) Equity

  • Capital Stock – This the amount of funds received from investors in exchange for the issuance of preferred or common stock. (balance: credit)
  • Retained Earnings – This is the total corporate earnings since the creation of the company, less dividends and any prior period adjustments (balance: credit.)
FYI: Only manufacturing companies that have ‘Raw Material Inventory’ and ‘Work-in-Process Inventory.’ While trading companies only have Finished Good Inventory. And, service companies do not have any inventory.  

2. Temporary (Nominal) Accounts

Temporary accounts are those accounts with a temporary balance. Falling into this type are the elements of the Income Statement account, including:

  • Revenues;
  • Cost of Goods Sold;
  • Operational Expenses
  • Other Gains;
  • Other Losses; and
  • Extraordinary costs

The term “temporary” implies that the account balance of this type is temporal in nature. Balances in temporary accounts are cumulative over a period of time. At the end of each accounting period, precisely at the close of the book, the accounts are closed; the balance of each account is zeroed and then shifted to Retained Earnings (a sub-account of owner’s equity.) And, the opening balances will be started from zero again.

(Read: the link between income statements and balance sheet)

Temporary accounts are also named “nominal accounts.”

Here are temporary accounts commonly used in the business environment:

  • Revenue – This is the sale of products or services, or receipts from investments, such as interest, royalties, or dividends. (balance: credit)
  • Cost of Goods Sold—Materials – The direct cost of materials associated with the sale of a tangible product. This includes all materials listed on a product’s bill of materials, plus all scrap incurred during production, less the resale value of any by-products. (balance: debit)
  • Cost of Goods Sold—Direct Labor – The labor expense required to produce a product or service, which is limited to assembly labor. (balance: debit)
  • Cost of Goods Sold—Manufacturing Supplies – The cost of supplies consumed when a product is manufactured. This includes all incidental machinery maintenance supplies and packaging materials. (balance: debit)
  • Cost of Goods Sold—Applied Overhead – The cost of manufacturing, excluding materials, direct labor, and supplies. Includes depreciation on manufacturing equipment and facilities, as well as factory administration, indirect labor, maintenance, production Employee’s benefits, quality control and inspection, production facility rent, repair expenses, rework labor, and spoilage. (balance: debit)
  • Bank Charges – The expense associated with credit card fees, bank service charges, and the cost of printing checks. (balance: debit)
  • Benefits – The expense associated with medical insurance, dental insurance, long-term and short-term disability insurance, and health club reimbursement fees. All employee payroll deductions to co-pay benefits should be credited to this account. (balance: debit)
  • Depreciation – The expense associated with the periodic reduction of the value of fixed assets, in accordance with a standard value-reduction methodology. (balance: debit)
  • Insurance – The expense associated with key-man life insurance, business insurance, and workers’ compensation insurance. (balance: debit)
  • Office Supplies – The expense associated with miscellaneous tangible office purchases, such as paper products, printer cartridges, and diskettes. (balance: debit)
  • Salaries and Wages – The expense associated with employee pay, which includes salaries, wages, severance payments, signing bonuses, and accrued wages. (balance: debit)
  • Telephones – The expense associated with phone service, incoming phone lines, and cell phones. (balance: debit)
  • Training – The expense associated with outsourced training suppliers, tests, and purchased training materials. (balance: debit)
  • Travel and Entertainment – The expense associated with the travel of either employees or reimbursed contractors. Includes airfare, lodging, parking, and meals. (balance: debit)
  • Utilities – The expense associated with water, heat, waste removal, and electricity fees charged by utilities. (balance: debit)
  • Other Expenses – Includes all incidental expenses under a certain level of an amount ($300 for example) that do not readily fall into any other category. (balance: debit)
  • Interest Expense – The expense associated with the interest cost of revolving debt, interest on late payments to suppliers, and outstanding company bonds. Also, includes accrued interest on unpaid interest expenses. (balance: debit)
  • Extraordinary Items – Any expense that is both unusual and infrequent, such as a gain on a troubled debt restructuring or the loss of foreign assets due to governmental expropriation. (balance: debit)
FYI: a trading or service company does not need to break down its ‘Cost of Goods Sold’ into Materials, Direct Labor, and Applied Overhead.

3. Personal Accounts

Personal accounts are those accounts that refer to names of individual or organization, mostly receivables and payables. For example:

  • Mr. Brown’s Payable – This is payable to Mr. Brown, a freelancer who provides the company with computer maintenance services in credit and on a regular basis.
  • XYZ LLC’s Receivable – This is receivable from XYZ LLC, a customer that regularly purchases the company’s products in credit.

Note, however, that the number of suppliers and customers can reach hundreds if not thousands. So it is too much to show on the financial statements.

Therefore, usually, these personal accounts are only presented as “accounts receivable” (if it is a customer) and “Accounts Payable” (if it is a supplier) on the financial statements.

Now you know the types of accounts (permanent, temporary, and personal accounts) with list of account names commonly used in the accounting system.

Next, as I have promised, you will learn how to create your own chart of accounts that can be used for real work.

 

How to Create Chart of Accounts

Basically, chart of accounts is a list of accounts used by companies to run the accounting process.

The format of a chart of accounts is simple. It consists of two main columns only:

  • Account Number; and
  • Account name;

For the ‘Account Name’ column, I do not need to explain anymore, you already know the account names in the previous section. You only need to enter the required account names only.

What I need to explain a bit is the ‘Account Number’ column. The columns where you will create the account code in number format.

Note that, in the accounting information system, the account code serves as the identity number for each account.

There are three models of account code structure commonly used by companies around the world, as follows:

1. The 3-digit structure of numbers – This is the simplest structure and widely used by small to medium-sized companies. These three numeric codes represent the name of the account only, where a 3-digit number combination (e.g. 010) represents one account (eg “Cash”.) With this structure, the company can create up to 999 accounts, more than enough for a small to mid-sized company.

2. The 5-digit structure of numbers – This coding structure is a little more complicated and adopted by large-scale companies that want to create segmented reports by department.

For example, 10-825.

From the 5 digit number in this code example, the last three digits (825) stands for the account name (Office Supplies Expense), whereas the two-digit number in front of the dash (10-) indicates the name of the department (eg Sales.)

Thus, the 10-825 is account number for Office Supplies Expense for the Sales Department.

To note, the 2-digit department code is usually only on the temporary accounts (elements of income statements.) While permanent accounts only fill in the numbers ’00’. Eg: 00-010 is the Cash account code (Balance Sheet.)

However, in the financial statements that published for external, revenue and expenses of all departments are merged and presented on a single Income Statement.

3. The 7-Digits structure of numbers – This is the most complicated coding structure. Used by companies that separate the report not only per department but also per division (operational area.)

For example, 12-10-825.

Compared to the additional 5-digit structure, the only 2 first digits code shows the division. So, in the case of the above 12-10-825:

  • the ‘825’ stands for Ofice Supplies Expense;
  • the ’10’ stands for Sales Department; and
  • the ’12’ stands for California Division.
FYI: If you ever get the impression that there is a certain standard for creating account code, that is not true. The truth is that the coding is left to the accountants to determine for themselves. In this case, the stakeholders just want to make sure the financial statements presented are free from material misstatements. However, there is a convention for the use of 3-digit, 5-digit, and 7-digit coding system, as above, and this is a consensus among practitioners in the field (not a standard.)

“So, how do I create a chart of accounts?” you probably wonder.

Follow these steps:

Step-1. Create two columns on an Excel spreadsheet. Put a title “Account Numbers” on the first column and “Account Name” on the second one.

Step-2. Key in the “Account Name” column with the required account, one account name per line. Start with the “Permanent Accounts” (the elements of Balance Sheet) first, and then followed by the “Temporary Accounts” (the elements of Income Statements.) If you’re not sure about the required accounts, you can use the accounts I have listed in the previous section as a start (revise it later as you go.) Here how the list looks alike, up to this step:

Chart of Accounts Example

Step-3. Key in the “Account Numbers” column with the accounts code. Consider whether you want to create a 3-digits structure OR a 5-digits one. As a start, I would recommend the 3-digits. Now, it’s starting to get trickier; what numbers to put and how to structure them so that you will get an intuitive chart of accounts.  Follow these sub-steps:

  • Step-3.1. Count how many account names you have overall on the list (mine on the above example is 51)
  • Step-3.2. Divide 999 by the number you got on step-3.1. Mine is 999/51 = 19.59, so I rounded it down to 19.
  • Step-3.3. If yours is like mine then you can use a multiple of 19 for each number you’ll use as account code, sure it will not run out of digits. But for the better, I’d recommend multiples of 10. So start with the code 010 for the first account on the list. And, then followed by code 020 for the second row. And so on until you reach the last line. Here what you will get when you’re done with this step:
  • Chart of Accounts

Step-4. Refine the account codes. Look again at the chart of accounts you have generated from step-3 above. Scan the account codes from the top row to the bottom row. Can you remember those account codes easily? Not sure about others, I find it hard to remember. It would be better and more intuitive if they are arranged to follow a certain pattern. For example, all fixed assets begin with the number 1, then the liability group starts with the number 3, and so on. Here is my final Chart of Accounts after refining the account numbers:

Final Chart of Accounts

Well, now looks more intuitive and certainly easier to remember.

Step-5. Create a simple manual. One of the factors that affect the accuracy of financial statements is the classification of transactions into the correct account. Meanwhile, on the other hand, personnel in the accounting department come and go. New staffs need a definitive guide to usage of accounts. So it’s important for the company to have a simple manual that at least explains which account for what transaction. For starters, you can use the account descriptions in the previous section as a simple manual. You can review and revise it later as you need.

That’s it. I hope, from now on, you can create a chart of accounts yourself.

To note, in actual practice, companies keep much more accounts than they report in their balance sheets and income statements. If you were to look at the chart of accounts maintained by even a relatively small business, you’d find hundreds of accounts (or maybe more).

For example, a business may keep a separate account for each checking account it uses but, in its balance sheet, report only one cash account, which is the combined total of all its separate cash accounts.

Similarly, the business may keep different notes payable accounts, one for each note payable obligation, but combine all notes into one total liability amount in its balance sheet.

Another example is a business that keeps different sales revenue accounts, broken down by product lines, sales territories, and so on. It reports only one total sales revenue account in its income statement.

Have a look at the other common accounts in the next section.

 

Other Common Accounts Used for Chart of Accounts

Here some other common accounts used in real world.

  • Meals and Lodging – Includes meals and lodging costs (hotel, motel, etc.) in accordance with company policy for reimbursement. Per diem allowances for meals and lodging are included here.
  • Travel in Private Vehicle – Includes travel in employee-owned vehicles at the currently approved mileage reimbursement rate.
  • Travel in Rented Vehicle – Includes daily car rental fees from outside providers.
  • Travel in Public Carrier – Includes air, bus, and train travel.
  • Travel in Motor Pool Vehicles – Includes charges for the use of company-owned vehicles at the approved rates. Costs of air travel for the company-owned airplane are included here.
  • Other Travel Costs – Includes such incidental expenses as tips, telephone calls, taxis, tolls, and parking while on a company-authorized trip. Tips on meals are included in meal costs.
  • Conference and Registration Fees – Includes registration fees for seminars, workshops, conferences, and similar meetings. Tuition for schools and workshops is included here. If meals and lodging fees included in registration fees cannot be separated, then they are included here.
  • Postage – Includes postage charges for mailing, as well as service and rental fees for postage machines, and periodic service fees charged by online postage providers.
  • Express Postage – Includes all freight costs for express delivery services, including pickup fees.
  • Cell Phones – Includes the basic monthly fees, as well as roaming charges, for all issued cell phones.
  • Telephone Local Service – Includes the basic monthly charges for all phones.
  • Telephone Long Distance – Includes the charges for all long distance services, including the WATS line, line rentals, and telegraph charges.
  • Telephone Installation and Maintenance – Includes all charges for the installation of phones and subsequent maintenance of the phone system.
  • Advertising – Includes the cost of classified advertising for employee hiring, as well as required advertising for published purchasing bids.
  • Publicity and Public Information – Includes the cost of radio, television, and live shows promoting the company, as well as related layout and copy costs.
  • Rental of Buildings and Floor Space – Includes payments to others for buildings, rooms for events, and floor space in buildings for special events. Rental of housing facilities and meeting rooms is included here.
  • Rental of Computer Equipment – Includes the rental or lease cost of computer software and equipment, such as payments on operating leases.
  • Other Rentals – Includes any rental that cannot be recorded in other rental accounts.
  • Repairs, Streets, and Parking – Includes repairs and other maintenance on roads, streets, drives, and parking lots.
  • Repairs, Building, and Grounds – Includes wages and material costs of repairing, cleaning, and maintaining buildings and grounds. Outside contractor costs for this purpose are recorded here.
  • Repairs, Office Equipment – Includes the costs of repairing and maintaining office equipment such as furniture, copiers, and facsimile machines. It does not include maintenance on the phone system.
  • Maintenance Contracts, Equipment – Includes the annual contract costs for maintenance contracts on office equipment.
  • Repairing and Servicing Other Equipment – Includes the costs of repairing and servicing machinery, engineering equipment, laboratory equipment, shop equipment, and other equipment not classified in the preceding repair accounts.
  • Engineering Fees – Includes out-of-pocket fees for professional engineering services.
  • Auditing Fees – Includes the costs of auditing fees to outside independent auditors. Other incidental costs of the audit, such as supplies, telephone, postage and printing charges related to the audit, are included here.
  • Medical Fees – Includes direct payments to others for medical services, including pre-employment physicals and lab tests.
  • Legal Fees – Includes all fees paid to attorneys, appraisers, notaries, and witnesses, in addition to court costs and legal document recording fees.
  • Laboratory and Testing Fees – Includes outside laboratory fees and fees paid to outside agencies for testing services other than medical services.
  • Consultant Expense Reimbursements – Includes travel costs paid to consultants and other non-employees.
  • Insurance and Fidelity Bonds – Includes the cost of all casualty and liability insurance and fidelity bond coverage.
  • Dues – Includes approved dues for company memberships in professional organizations.
  • Subscriptions – Includes the cost of subscriptions to newspapers, magazines, and periodicals.
  • Computer Software Acquisitions – Includes the initial cost of acquiring operating or systems software packages. Included is the purchase price, related freight, and software manuals.
  • Computer Software Maintenance – Includes the annual maintenance fees to maintain purchased software systems.
  • Land Improvement Supplies – Includes asphalt, cement, joint fillers, curbing, and so forth used in repairing or replacing roads, sidewalks, and parking lots on company property.
  • Building Construction Supplies – Includes lumber, caulking, steel, fabricated metal parts, flooring, ceiling tiles, plaster, lime, and other materials used in repairing or renovating buildings.
  • Paints and Preservatives – Includes interior and exterior paints, wood preservatives, and road striping materials used for remodeling or maintenance.
  • Hardware, Plumbing, and Electrical Supplies – Includes all hardware, plumbing parts and accessories, and electrical wire or parts, including lights used in maintaining or renovating buildings.
  • Custodial Supplies and Cleaning Agents – Includes all custodial supplies of an expendable nature, such as cloths, brooms, cleaning compounds, mops, or pails.
  • Printing, Binding, and Padding – Includes the cost of printing, binding, and padding paid to outside contractors.
  • Duplication and Reproduction – Includes the paper, toner, and other supplies used in the company copy machines.
  • Office Supplies – Includes all office supplies and materials, such as pens, paper, pencils, staples, paper clips, and so forth.
  • Fuels – Includes vehicle fuels (gasoline, diesel fuel, propane) purchased for motor pool vehicles or airplanes.
  • Lubricating Oils and Greases – Includes lubricating oils and greases used for all vehicles and machinery.
  • Tires and Tubes – Includes the purchase of tires and tubes for all vehicles in the company motor pool.
  • Repair and Replacement Parts – Includes the purchase of vehicle and machinery repair and replacement parts and supplies.
  • Shop Supplies – Includes the cost of shop supplies, such as shop rags, windshield cleaner, glues and cements, brushes, degreasers, solvents, and so forth, used in equipment repair and maintenance operations.
  • Small Tools – Includes small tools used in manufacturing operations that are below the corporate capitalization limit.

 

Creating accounts is the most basic step in preparing an accounting system. Besides as a tool to store transaction record, carefully crafted accounts can also help speed up the work in the internal control system area.

Another important point, in addition to careful account creation, is the intelligent use and the smart management of those accounts.

So, as an extra takeaway, here are account management best practices that you can apply yourself at work.

 

Accounts Management Best Practice

Here are some best practices you can apply when managing accounts in a real business environment:

1. Use the accounts in sufficient quantities. The number of accounts that are too small will make it difficult for you to produce proper financial statements. Conversely, the number of accounts that are too many, other than cluttering the system, this will also be confusing and eventually generate empty accounts without balance. The absolute minimum number of accounts that you need are 20 balance sheet accounts and 6 income statement accounts. Otherwise, you don’t have enough separation of information to prepare financial statements.

2. Use accounts consistently, when recording transactions. Inconsistent account usage results in inaccurate financial statements. To be consistent then you should not have any doubts at all. And the only way to eliminate the potential of doubt is to put it in the company’s accounting procedures and policies. In the procedure and policy documents, list what account should be debited and what account should be credited.

3. Check your chart of accounts’ condition on a regular basis. Particularly permanent accounts (assets, liabilities, and equity.) Find accounts that sit in the system with zero or a small amount of balance (under $ 100) for a long time. Consider combining such accounts with other similar accounts. However, do not delete any accounts without prior approval from a controller or CFO.

4. Refrain from the tendency to add new accounts. There is a tendency for accounting staff to add new accounts, especially cost accounts, which they think are important to record separately. The more detailed an internal report (especially the costs), the easier it is to control it. But keep in mind that a financial statement should be comparable between one period to another. Any addition of a new account will make the Income Statement incomparable to the previous period.

The presence of computer technology and accounting software is often used as an excuse for the incapability of creating and setting up accounts. Maybe they think, “why bother if there is already accounting software that handles, we just install the software, then use.”

Wrong!

It is funny, perhaps ironic to be more precise, when accounting people use the services of accounting software consultants to create and set up accounts for them.

Accounting software is useful. And the existence of chart of accounts built in the accounting software package is also very helpful, up to a certain degree. But at some point, we can no longer rely on the software completely. In fact, we, as users, who better know what we need based on the characteristic of business we work on.

Let say you have accounting software that is designed specifically for your industry. Still, you must set up the account for the first time before accounting software is ready for use. This means that you still have to know what accounts are, how to create, how to setup, how to manage, and how to maintain it.

And I hope this post can be used as a basic guide in knowing, creating and managing accounts, in order to prepare an accounting system.

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