How to Make a Chart of Accounts | Actionable Tips for Small Business
To make a chart of accounts, you’ll need to first create account categories relevant to your business, and then assign a four-digit numbering system to the accounts you create. While making a chart of accounts can be time consuming, it’s an important tool for understanding the financial health of your business.
We’ve outlined everything you need to know to successfully create a chart of accounts:
How to Make a Chart of Accounts
To make a chart of accounts for your small business, you’ll first need to create account categories that apply to your company. The chart of accounts is the first step in creating your business’s accounting system, so it starts with organizing all your company’s financial information. You’ll then assign a four digit numbering system to the accounts you’ve created.
Here’s a step-by-step guide to making a chart of accounts:
1. Create Parent Accounts
The parent accounts help you organize your unique business sub-accounts by category. There are four categories of accounts that typically apply to service-based businesses:
- Asset Accounts
- Liability Accounts
2. Create Your Business’s Accounts
When you create the accounts for your business, think about the type of business you run. There are certain accounts that are common for service-based companies, including:
- Accounts Receivable
- Accounts Payable
- Income Tax Payable
- Sales From Services
Organize each of the account subcategories you create into the relevant parent account. So, cash and accounts receivable would both fall under Assets, for example.
3. Assign Account Numbers
The chart of accounts is based on a four-digit numbering system, which helps organize all your accounts. Here’s the most common numbering template to follow when making and numbering your accounts:
- Assets: Numbered 1000 – 1900
- Liabilities: Numbered 2000 – 2900
- Revenue: Numbered 4000 – 4900
- Expenses: Numbered 5000 – 5900
You’ll notice there are some gaps in the numbers; that’s because there are certain parent accounts that don’t typically apply to service-based businesses like those run by entrepreneurs and freelancers. Equity is usually numbered in the 3000s.
These sample charts will give you an idea of the different accounts you’ll set up and the numbering system.
What Is a Chart of Accounts?
A chart of accounts gives you a useful way to organize all the financial information related to your business. The chart of accounts is a list of all your business’s accounts, organized by the assets your company owns, the liabilities your company owes others, revenue and expenses.
The chart of accounts you create for your business will act as the foundation for all your financial recordkeeping, so it’s a crucial document for your business. Because the chart of accounts organizes all the data related to your business’s finances, it’s a useful tool for quickly and easily creating financial statements.
Why Do I Need a Chart of Accounts?
Small businesses need a chart of accounts to organize their accounting for more simple and accurate financial reporting. Because your chart of accounts places all your financial data in one document, it makes it easy to track all your business information.
A chart of accounts offers a clear picture of the overall financial health of your business and gives insights into where your money is going. You can use that information to improve your business process in the future.
The chart of accounts is also the basis for all your accounting reports, so it will help you (or your accountant) create your financial statements and file your tax returns.
What Categories Are on the Chart of Accounts?
There are five main categories on the Chart Of Accounts:
- Assets: Anything of value that can be converted into cash. This would include your accounts receivable (the money owed to you on outstanding invoices).
- Liabilities: Any money you owe. This would include any taxes and debts your business owes.
- Equity: Refers to an ownership interest in a business. This usually doesn’t apply to freelancers, so you can leave it off your chart of accounts.
- Revenue: The amount your business earns from providing its services to clients. This would include payments from clients.
- Expenses: The money your business spends in your efforts to earn money. This would include office supplies, utilities and office rent.
How to Use Your Chart of Accounts
You can use your chart of accounts to get a better understanding of your business’s financial state and plan for your business’s future. Here are some common ways small businesses use the chart of accounts:
1. Track Your Business’s Money
Your chart of accounts can let you know where all the money in your business is coming from. You can track all your sales and get a grasp of which assets could easily be liquidated if you ever needed to quickly collect cash for your business.
2. Understand What Your Business Owes
Your chart of accounts allows you to get an overview of all the money your business owes. You’ll see all your short, medium and long-term loans and if you have any employees, your chart of accounts lets you know what your business owes for payroll.
3. Track Your Spending
The chart of accounts lets you easily track all the money going out of your business. You’ll get to see your recurring payments, like rent, utilities and insurance. It can also help you make better spending decisions by seeing where your money goes and evaluating where cuts can be made.
4. File Your Tax Returns
A properly managed chart of accounts makes tax season much more efficient. Your chart of accounts will track all the expenses and revenues you’ll need to report to the IRS at tax time, in one place.