The chart of accounts is the foundation of your financial statements. Without a solid foundation, your statements may not be telling you what you need to know. As a result, you might not be making business decisions with all of the necessary information.
A chart of accounts is a list of ledger account names and associated numbers arranged in the order in which they normally appear in your financial statements. However, the chart of accounts is usually much larger in number than the lines of your financial statements.
In addition to the basic accounting elements (assets, liabilities, equity, revenues and expenses), your chart of accounts should include industry-specific categories.
If you’re just getting started, or are in the process of setting up a new company or division, create your chart of accounts before you collect or pay the first dime. If you’re already up and running, but feel that your chart of accounts needs an overhaul, wait until the beginning of your next fiscal year to simplify your year-end financial and tax reporting. Otherwise you will have to piece together two sets of books for your year-end work.
Once you’ve decided to create or adjust your chart of accounts, keep in mind the reasons for creating it. You need the chart of accounts in order to produce accurate financial statements, provide quality information for decision-making, and to allow for growth and diversification.
You rely on your statements to provide an accurate snapshot of your company’s financial position and results of operations. Therefore, it’s important to know where the numbers are coming from. Organize your chart of accounts in much the same manner as you do your financial statements but in greater detail.
Doing so has become easier because of the capabilities of today’s accounting software packages. A well-thought-out chart of accounts will make the process of producing your financial statements easier.
How many accounts do you need? This question can’t be answered generally. Your chart of accounts must be detailed enough to provide you with a meaningful picture of where your money is going, but not so detailed that you lose sight of bigger issues.
For example, you may make reporting payroll tax expenses easier by segregating the employee withholdings and employer portions by jurisdiction, but your eyes may cross if you have 15 different cost-of-goods-sold accounts.
It will probably take a little trial and error to find the right balance, but if you have established a good framework the trial and error will likely be painless.
Your initial chart of accounts needs to leave some room for growth. Create an account for each current bank account, but leave open another group of accounts immediately following your existing accounts.
For example, if you set up your cash accounts within the 1000 series, set aside accounts 1000 to 1049 for cash accounts. This will enable you to track accounts as you open and close them.
In addition, consider allowing for additional company divisions or cost centers. This could include a universal suffix that can be included initially but not necessarily used.
All too often, a company’s chart of accounts is an afterthought. However, if the chart of accounts is properly planned and executed, it can provide a solid foundation from which to produce and analyze your financial statements.
Jeff Firestone, CPA, CFE, is a manager in the Business Valuation & Litigation Consulting Services department at Saltz, Shamis & Goldfarb Inc., the tax and accounting division of SS&G Financial Services Inc. (www.SSandG.com). Contact him at mailto:JFirestone@SSandG.com or (440) 248-8787.