The chart of accounts, or COA, is the foundation of a company’s accounting system. It includes all accounts used by an organization to record financial transactions. Financially, it’s the basis of what holds everything to together and keeps it organized.
As you read on, you’ll discover how a well-organized chart of accounts helps a business run more smoothly by providing an efficient way to classify transactions. As a result, this enables easy access to reports for budgeting and decision-making. We also include a video tutorial on how to utilize the chart of accounts in QuickBooks.
What is a Chart of Accounts?
In businesses of all sizes, numerous transactions occur daily. These include purchasing materials, selling products or services, and paying for expenses like rent, advertising, and payroll.
Each time a company spends or receives money – or makes an internal transfer – it affects two accounts. If you remember the basic principle of double-entry accounting, each transaction generates a debit in one account and a credit in another.
Therefore, with so many transactions for so many things, a business needs a logical and methodical approach to maintain accuracy and consistency.
Structure of a Chart of Accounts
The chart of accounts provides a structured framework for organizing and classifying financial data.
Accounts are typically displayed and/or numbered in the order they appear on financial statements. Balance Sheet accounts (assets, liabilities and equity) are listed first, followed by accounts on the Profit and Loss Statement (income and expenses).
Some businesses choose to use only names on their COA, while other use a number + name system. Typically, asset reference numbers begin with a 1, liabilities a 2, equity a 3, income/revenue a 4, and expenses a 5, 6 or 7.
Using Sub-Accounts
Within the broader categories of assets, liabilities, equity, income and expenses, you may choose to further break things down into sub-accounts.
As an example, here is portion of Sample Landscaping Company’s COA:
As you can see, Sample Company generates its income from design, landscaping, and pest control services, as well as products for sale. Landscaping services are broken out between materials and labor. Each category further details the type of project materials, and whether labor is on new installations or maintenance/repair.
Benefits of a Well-Organized Chart of Accounts
With confidence that we’ve accounted for every transaction in a correct and specific category, we can use this information for many helpful purposes.
- Budgets and Forecasts – By utilizing sub-accounts, as we discussed above, you can assign costs more precisely to different departments, projects, or products. This provides insights into spending patterns, leading to a more accurate projection of future costs.
- Accurate Financial Statements – When you classify each transaction correctly and timely, you can assure that your Balance Sheet, Profit & Loss, Statement of Cash Flows, and any other reports you wish to generate, are accurate.
- Decision Making – Managers and stakeholders can analyze specific aspects of a business in more depth. You can quickly and easily calculate financial ratios or Key Performance Indicators (KPIs). This leads to more informed strategic decisions.
- Compliance and Reporting Requirements – With your transactions organized, you’ll be able to conveniently access to the numbers you need to file your annual tax returns. You’ll also be able to easily find amounts for other reports you may be required to file, such as sales tax and payroll taxes.
- Scalability – As businesses grow and evolve, their accounting needs may change. A flexible COA accommodates growth and adapts to new reporting requirements. Setting up the COA correctly initially allows organizations to scale their accounting systems efficiently without major disruptions.
Chart of Accounts in QuickBooks
This brief video demonstrates accessing, adding, deactivating, and merging accounts in QuickBooks Online. A tutorial for QuickBooks Desktop is here.
Similar to how a strong foundation supports a house, the chart of accounts supports a business by providing a system to keep track of all its financial information. Additionally, it helps business owners understand where their money is coming from and where it’s going, so they can make smart decisions. With a solid chart of accounts, businesses can grow steadily and succeed in the long run.