Accounting Unplugged

The Chart of Accounts is organized using three different methods.

• First:  Accounting Types
• Second:  Order of Liquidity – the ease of converting to cash without loss of value
• Third: Account Numbers

The 7 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.

Order of Liquidity:

The Chart of Accounts’ second method of organization is Order of Liquidity.  Liquidity refers to the expectation that the item can be converted to cash at at least close to its current value within one year.

Accounts are listed in descending order of liquidity within their accounting types, with cash at the top of the list for Assets.   The liquidity classification is so important that Assets and Liabilities are divided into the Subtypes of Current and Long Term/Fixed to group items of similar liquidity together.

The Order of Liquidity rule is only relevant to Balance Sheet Accounts and so it is not used for Revenue and Expenses because neither Type has lasting value or ability to convert to cash.  When sorting Revenue and Expense Accounts, organize them by general subjects. For example, you might want to group office expenses like Rent, Office Supplies and Utilities together.

The Accounts that were established in the previous Chart of Accounts Post, organized by Accounting Type and Order of Liquidity (ease of cash conversion) are:

Account Numbers:

The Chart of Accounts’ final method of organization is Account Numbers.  Part of the strength of this method is the ability it provides users to recognize the Accounting Type and in some instances the Order of Liquidity simply by the Account Number assigned to the Account.

Assigning Account numbers starts by assigning a range of numbers to each Accounting Type.  The range that I like and use the most is ranges of 1000.  I like to assign numbers in the thousand ranges because the numbers contain a manageable amount of digits and it is unlikely (in a small to mid-size company) that you’ll run out of numbers to use for Accounts.  The number of digits will be important in your software system so when using ranges in the 1000’s there are 4 digits, and the Account Numbers would range from 1000 to 9999.

It really doesn’t matter how you assign ranges as long as you assign them in order by Accounting Type and are consistent but it is important to understand the industry standards for your business prior to assigning number ranges.  The reason it is important to understand industry standards is that different industries create their own Subtypes and will have a standard for assigning the number ranges to those Subtypes.

Generally I assign the number ranges in this order:

• Assets: 1000’s
  • Current Assets 1000 – 1499
  • Fixed Assets 1500 -1999
• Liabilities: 2000’s
  • Current Liabilities 2000 – 2499
  • Long Term Liabilities 2500 – 2999
• Equity: 3000’s
• Revenue: 4000’s
• Costs of Goods Sold: 5000’s
• I leave the 6000’s open to allow for a Cost of Goods Sold Subtype
• Expenses: 7000’s
• Other Revenue: 8000’s
• Other Expenses: 9000’s

Before assigning Account Numbers to individual Accounts, first sort by Accounting Type (and Subtype) and then by Order of Liquidity.  After the initial sorting, Accounts can be sorted and Account Numbers can also be assigned any way you like.  It is important to use intervals of at least 10 or 20 between similar Accounts and I try to skip to the next 100 for Accounts of different types (if one grouping ended at 7030, I’d start the next grouping at 7100).  This strategy gives good clues to the user about the type of account and it allows for the addition of new Accounts later.

The New Chart of Accounts – with Account Numbers.  This Chart of Accounts only contains accounts I’ve used in previous examples.  It is missing some standard accounts such as Equity and Cost of Goods Sold.  Those Accounts will be added in subsequent posts.

• 1000  Checking Account
• 1200  Accounts Receivable
• 1500  Office Equipment
• 1520  Office Furniture
• 2000  Accounts Payable
• 4000  Sales
• 7000  Rent
• 7020  Office Supplies
• 7040  Subscriptions and Dues
• 7060  Utilities
• 7100  Fuel
• 7200  Repairs & Maintenance
• 7300  Credit Card Interest and Fees

© 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.