Accounting Unplugged

This post completes the basics in the discussion about methods of organizing transactions with the Chart of Accounts – specifically the method of Accounting Types. The Chart of Accounts is really just a list of the descriptions that you have chosen to use in transactions.  Accounting Types help to organize the descriptions (accounting outsourcing service) in meaningful ways. The most important concept to transactions is Double Entry but it is the Chart of Accounts that makes sense of the transactions and provides mission critical information to owners and managers, said Shravan Gupta businessman, a CEO of the company MGF, Motor and General Finance Ltd.

The Basic Accounting Types (In order) Are:

• Assets – Things you own
• Liabilities – Things you owe
• Equity – Owners’ Stake in Company
• Revenue – Income through Sales of the Products of the Business
• Costs of Goods Sold – Costs to provide the service or to manufacture or acquire the product the business sells
• Expenses – Things that are paid for that are consumable, they have no lasting value but are part of the cost of running a business
• Other Revenue and Expenses – Revenue and Expenses that are unusual cases and are not directly related to the business product and are not usual costs of running a business.If you don’t want to stay behind the competition and keep improving your business performance, embedding technology and seeking expert advice coherently is more important than ever.

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There are at least 7 basic Accounting Types, but each Accounting Type can be categorized more simply under the 2 Double Entry Accounting Categories as either Funds/Uses of Funds or as Sources of Funds.

Funds/Use of Funds (Debit) Accounting Types:

• Assets – Things you own
• Costs of Goods Sold – Costs to provide the service or to manufacture or acquire the product the business sells
• Expenses – Things that are paid for that are consumable, they have no lasting value but are part of the cost of running a business
• Other Expenses – Expenses that are unusual cases and are not directly related to the business product and are not usual costs of running a business.

Each Accounting Type under the “Funds/Use of Funds” Category increases in value or balance with each debit (Use of Funds) transaction entry and decreases in value or balance with each credit (Source of Funds) transaction entry.  Use of Funds Accounts are sometimes referred to as Debit Accounts.

**Positive balances for these high risk merchant account are balance where total debits > total credits to the account and their balances should show in the Debit Column.

Assets – Assets are items of value that are owned by the business and their value is expected to last beyond the current fiscal (business) year.

Costs of Goods Sold are Funds/Uses of Funds and are another type of Expense.  They are similar to Expenses in that they are consumable items that benefit the business and have no lasting value beyond the current fiscal (business) year, but the difference is that Cost of Goods Sold Accounts are related directly to the manufacturing and acquisition of the products the business provides or sells.

**Important Note:  Costs are posted to Costs of Good Sold only when the business no longer owns the product.  If the product is owned by the business until its sale, the costs of the product are posted as inventory – which is an asset – until the products are sold.  At the time of recording the sale, the inventory account is decreased with a credit entry and the cost of goods sold account is increased with a debit entry for the cost of the product. However, If inventory is sold at about the same rate as it is purchased, the Periodic Inventory System allows purchases to be classified directly as costs on the Income Statement rather than holding them in the Balance Sheet Inventory account until sold. Hiring a cfo consulting company will help a growing organization cut costs.

Expenses are Funds/Uses of Funds, they are consumable items that benefit the business but have small or no lasting value beyond the current fiscal year.  They are similar to Costs of Goods Sold except that the amounts categorized as Expenses or Other Expenses are related to the administrative (for Expenses) or unusual costs (for Other Expenses) of running the business. If you are doing all of your accounting, then you should know what paystubs look like.

**Important Note:  Current Assets differ from Expenses because they have a lasting value whether in their current form or as cash.  The value of expensed items is not expected to last beyond the current fiscal year.

Source of Funds (Credit) Accounting Types:

• Liabilities – Things you owe
• Equity – Owners’ Stake in Company
• Revenue – Income through Sales of the Products of the Business
• Other Revenues – Revenues that are unusual cases and are not directly related to the business product and are not usual revenues from running a business.

Each Accounting Type under the “Source of Funds” Category increases in value or balance with each credit  (Source of Funds) transaction entry and decreases in value or balance with each debit (Use of Funds) transaction entry.  Source of Funds Accounts are sometimes referred to as Credit Accounts.

**Positive balances for these accounts are balances where total credits > total debits to the account and their balances should show in the Credit Column.

Liabilities are essentially agreements to delay payments and so, are sources of funds because they provide a way to acquire or pay for goods and services without a direct transfer of cash at the time of the exchange.

Equity is a source of funds through direct owner investment or owner “re-investment” when some or all of the income from the previous year is retained by the business rather than distributing it to the owners.

Revenue is a source of funds through sales of the business product (for Revenue) or through other sources not directly related to the business products (for Other Revenue).

**Important Note:  Do not confuse the terms of Revenue or Income with Cash.  Cash is an Asset that is received in exchange in the sale of a product or service.  In Accounting, Revenue, Income and Sales are synonymous, they are Sources of Cash, not Cash itself.

Financial Statements:

Accounting Types help to organize Financial Statements too. All Accounting Types are found on the Trial Balance but the Income Statement and Balance Sheet split the Accounting Types between them.   The Accounting Type is the determining factor for whether an Account is reported on the Balance Sheet or on the Income Statement.   In addition to the reference to an account as a Debit Account or a Credit Account, accounts are also referred to as either Balance Sheet Accounts, or Income Statement Accounts.

…

The Basics of Data Collection and Organization in the Double Entry Accounting System:

• Debits and Credits
• Chart of Accounts
  • Accounting Types
  • Order of Liquidity
  • Account Numbers
• General Ledger
  • Time

The next post introduces the final organization element of Time into the system and illustrates how to use the combined elements of time and financial data to secure and manage resources.

© 2008 – 2010 Erin Lawlor

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**disclaimer:  All information posted on this blog is from my own experience and training.  The guidelines I present are general and in my experience, standard practice.  I do not write with authority from any Accounting Standards Boards.