This Accounting Basics tutorial discusses the five account types in the Chart of Accounts.
We define each account type, discuss its unique characteristics, and provide examples.
Having a good understanding of the account types is necessary for anyone creating accounts, posting transactions and journal entries, or reading financial reports.
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Account Type Overview
Assets: tangible and intangible items that the company owns that have value (e.g. cash, computer systems, patents)
Liabilities: money that the company owes to others (e.g. mortgages, vehicle loans)
Equity: that portion of the total assets that the owners or stockholders of the company fully own; have paid for outright
Revenue or Income: money the company earns from its sales of products or services, and interest and dividends earned from marketable securities
Expenses: money the company spends to produce the goods or services that it sells (e.g. office supplies, utilities, advertising)
Now let's look at each account type in greater detail.
► Assets
Assets can be defined as objects or entities, whether tangible or intangible, that the company owns that have economic value. Tangible assets are physical entities that the business owns such as land, buildings, vehicles, equipment, and inventory. While Intangible assets are things that represent money or value, e.g. Accounts Receivables, patents, contracts, and certificates of deposit (CDs).
Assets are also grouped according to either their life span or liquidity - the speed at which they can be converted into cash. Current assets are items that are completely consumed, sold, or converted into cash in 12 months or less. Examples of current assets include accounts receivable and prepaid expenses.
Fixed assets are tangible assets with a life span of at least one year and usually longer. Fixed assets might include machinery, buildings, and vehicles. Fixed assets are typically not very liquid.
Because of their higher costs and longevity, assets are not expensed, but depreciated, or "written off" over a number of years according to one of several depreciation schedules.
Liabilities are the debts, or financial obligations of a business - the money the business owes to others. Liabilities are classified as current or long-term. Current liabilities are debts that are paid in 12 months or less, and consist mainly of monthly operating debts. Examples of current liabilities may include accounts payable and customer deposits.
Current liabilities are usually paid with current assets; i.e. the money in the company's checking account. A company's working capital is the difference between its current assets and current liabilities. Managing short-term debt and having adequate working capital is vital to a company's long-term success.
Long-term liabilities are typically mortgages or loans used to purchase or maintain fixed assets, and are paid off in years instead of months.
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► Equity
Equity is of utmost importance to the business owner because it is the owner's financial share of the company - or that portion of the total assets of the company that the owner fully owns. Equity may be in assets such as buildings and equipment, or cash. Equity is also referred to as Net Worth.
For example, if you purchase a $30,000 vehicle with a $25,000 loan and $5,000 in cash, you have acquired an asset of $30,000, but have only $5,000 of equity. The Balance Sheet equation is:
Assets = Liabilities + Owner's Equity
We can see how this equation works with our example: $30,000 Asset = $25,000 Liability + $5,000 Owner Equity.
Now let's draw our attention to the three types of Equity accounts, discussed below, that will meet the needs of many small businesses.
○ Types of Equity Accounts ○
There are three types of Equity accounts that we need to know about. These accounts have different names depending on the company structure, so we list the different account names in the chart below.
○ Contribution (Money Invested)
There are times when company owners must invest their own money into the company. It may be start-up capital or a later infusion of cash. When this occurs, a Capital or Investment account is credited. See the first row in the table below.
○ Distribution or Draw (Money Withdrawn)
If a business is profitable, the owners often want some of the profit returned to them. To track this activity, a Draw or Distribution account is debited. This is the only Equity account (non-contra) that receives debits. See the second row in the table below.
○ Accumulation from Prior Years
To tracks a company's Net Income as it accumulates over the years, Retained Earnings or Owner's Equity is credited. On the first day of the fiscal year, most accounting programs automatically credit this account with the previous year's Net Income. See the third row of the table below.
NOTE: Most single-owner companies enter journal entries to "close out" the Contribution and Draw accounts to Retained Earnings on the last day of the fiscal year. Partnerships, however, may choose not to close out these accounts so that a permanent record of partner activity is maintained.
Sole Proprietor
Partnership
Subchapter S Corporation
Money invested
Owner's Investment - or - Capital Contribution
Partner A Capital Contribution, Partner B Capital Contribution, etc.
Paid in Capital - or - Capital Contribution
Money withdrawn
Owner's Draw
Partner A Draw, Partner B Draw, etc.
Distribution
Cumulative Earnings (less $$ withdrawn)
Owner's Equity - or - Owner's Capital
Partner A Equity, Partner B Equity, etc.
Retained Earnings
► Income or Revenue
Income is money the business earns from selling a product or service, or from interest and dividends on marketable securities. Other names for income are revenue, gross income, turnover, and the "top line."
Net income is revenue less expenses. Other names for net income are profit, net profit, and the "bottom line."
Income is "realized" differently depending on the accounting method used. When a business uses the Accrual basis accounting method, the revenue is counted as soon as an invoice is entered into the accounting system.
If the Cash basis accounting method is used, the revenue is not realized until the invoice is paid.
Income accounts are temporary or nominal accounts because their balance is reset to zero at the beginner of each new accounting period, usually a fiscal year. Most accounting programs perform this task automatically.
► Expenses
Expenses are expenditures, often monthly, that allow a company to operate. Examples of expenses are office supplies, utilities, rent, entertainment, and travel.
Like revenue accounts, expense accounts are temporary accounts that collect data for one accounting period and are reset to zero at the beginning of the next accounting period. Most accounting programs perform this task automatically.
A unique type of Expense account, Depreciation Expense, is used when purchasing Fixed Assets. Costly items, such as vehicles, equipment, and computer systems, are not expensed, but are depreciated or written off over the life expectancy of the item.
Another unique account is Accumulated Depreciation—a contra-account. Accumulated Depreciation is used to offset the Asset account for the item. Depreciation can be very complicated, so we recommend seeing your Accountant for help with the depreciation of Assets.
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Assets: tangible and intangible items that the company owns that have value (e.g. cash, computer systems, patents) Liabilities: money that the company owes to others (e.g. mortgages, vehicle loans) Equity: that portion of the total assets that the owners or stockholders of the company fully own; have paid for outright.
You can calculate it by deducting all liabilities from the total value of an asset: (Equity = Assets – Liabilities). In accounting, the company's total equity value is the sum of owners equity—the value of the assets contributed by the owner(s)—and the total income that the company earns and retains.
The earning of revenues causes owner's equity to increase. Although revenues cause owner's equity to increase, the revenue transaction is not recorded into the owner's capital account at this time. Rather, the amount earned is recorded in the revenue account Service Revenues.
Equity income refers to income that is received through stock dividends. A dividend is essentially a reward paid to shareholders for their investment in a company, which is usually paid from the company's net profits.
For accounting purposes, revenue is recorded on the income statement rather than on the balance sheet with other assets. Revenue is used to invest in other assets, pay off liabilities, and pay dividends to shareholders. Therefore, revenue itself is not an asset.
Revenue (sometimes referred to as sales revenue) is the amount of gross income produced through sales of products or services. A simple way to solve for revenue is by multiplying the number of sales and the sales price or average service price (Revenue = Sales x Average Price of Service or Sales Price).
They show you where a company's money came from, where it went, and where it is now. There are four main financial statements. They are: (1) balance sheets; (2) income statements; (3) cash flow statements; and (4) statements of shareholders' equity.
There are six basic ratios that are often used to pick stocks for investment portfolios. These include the working capital ratio, the quick ratio, earnings per share (EPS), price-earnings (P/E), debt-to-equity, and return on equity (ROE).
Take a look at the three main rules of accounting: Debit the receiver and credit the giver. Debit what comes in and credit what goes out. Debit expenses and losses, credit income and gains.
Cash book − only cash related receipts and payments are recorded. General ledger − All business financial transactions. Debtor ledger − Provides information about the credit sales (related to customers). Creditor ledger − Provides information about the credit purchases (related to sellers).
Common examples of personal assets include: Cash and cash equivalents, certificates of deposit, checking, and savings accounts, money market accounts, physical cash, Treasury bills. Property or land and any structure that is permanently attached to it.
Key Takeaways. Revenue is the money a company earns from the sale of its products and services. Cash flow is the net amount of cash being transferred into and out of a company. Revenue provides a measure of the effectiveness of a company's sales and marketing, whereas cash flow is more of a liquidity indicator.
Capital is typically cash or liquid assets being held or obtained for expenditures. In a broader sense, the term may be expanded to include all of a company's assets that have monetary value, such as its equipment, real estate, and inventory. But when it comes to budgeting, capital is cash flow.
The term “equity” refers to fairness and justice and is distinguished from equality: Whereas equality means providing the same to all, equity means recognizing that we do not all start from the same place and must acknowledge and make adjustments to imbalances.
Profit share refers to the portion of a company's income that goes to its owner and investors. Equity share pertains to the size of ownership interest held by an investor or business owner.
Net income contributes to a company's assets and can therefore affect the book value, or owner's equity. When a company generates a profit and retains a portion of that profit after subtracting all of its costs, the owner's equity generally rises.
For instance, the investments via which profit or income is generated are typically put under the category of assets, whereas, the losses incurred or expenses paid or to be paid are considered to be a liability.
Equity is not considered an asset or a liability on a company's financial statements. Equity is what you get when you subtract liabilities from assets. Equity is reflected on a company's balance sheet.
These five categories are assets, liabilities, owner's equity, revenue, and expenses. ... These terms also refer to the three types of accounts in which a business records its transactions.
The general ledger is a permanent summary of accounts that details all the financial information for your company in journals, including sales, cash receipts and cash disbursem*nts. General ledgers contain four parts: the chart of accounts, financial transactions, account balances and accounting periods.
Current account. A current account is a deposit account for traders, business owners, and entrepreneurs, who need to make and receive payments more often than others. ...
There are three different classes of accounting which are Financial Accounting, Cost Accounting, and Management Accounting. All three have their own characteristics and use. Further, they have different results as well as recording and maintenance.
These branches are located outside the country. They are operated in the foreign country which has a different currency and, as such, question of rate of exchange will arise. These branches may be of: (i) Dependent Branch or (ii) Independent Branch depending on the method of accounting.
The accounting cycle is the process of accepting, recording, sorting, and crediting payments made and received within a business during a particular accounting period.
Total Expenses means the sum of cost of sales and operating expenses (including research and development, general and administrative, and sales and marketing expenses), all as disclosed on Exact Sciences' consolidated statements of operations.
Revenue and profit are both good signs for your business, but they're not interchangeable terms. Both represent an important way to understand your business. Revenue describes income generated through business operations, while profit describes net income after deducting expenses from earnings.
Common types of assets include current, non-current, physical, intangible, operating, and non-operating. Correctly identifying and classifying the types of assets is critical to the survival of a company, specifically its solvency and associated risks.
For rental expense under the accrual method, when rent is paid ahead of schedule – which happens rather often – then the rent is recorded in the prepaid expenses account as an asset.
Land is classified as a long-term asset on a business's balance sheet, because it typically isn't expected to be converted to cash within the span of a year. Land is considered to be the asset with the longest life span.
You can figure out how much equity you have in your home by subtracting the amount you owe on all loans secured by your house from its appraised value.
Total assets are the representation of the worth of everything a person owns after considering all assets and liabilities. An asset is anything that a person or organization owns, such as a car or a share. Individuals or organizations purchase an asset because it has the potential to increase in value in the future.
Key Takeaways. Total liabilities are the combined debts that an individual or company owes. They are generally broken down into three categories: short-term, long-term, and other liabilities. On the balance sheet, total liabilities plus equity must equal total assets.
Current account. A current account is a deposit account for traders, business owners, and entrepreneurs, who need to make and receive payments more often than others. ...
Major Accounts is herein defined as those accounts owed to any of the Accounts Grantors by account debtors that are major oil and industrial companies determined in the sole discretion of Premier and Hibernia to be Major Accounts based on the credit quality of the account debtors.
In accounting, a standard chart of accounts is a numbered list of the accounts that comprise a company's general ledger. Furthermore, the company chart of accounts is basically a filing system for categorizing all of a company's accounts as well as classifying all transactions according to the accounts they affect.
These four branches include corporate, public, government, and forensic accounting. An undergraduate degree is most often required for any accounting career, while previous master's work, especially in the accounting field, is often strongly preferred.
In a nutshell, basic accounting records and reveals cash flows and operations. It divides all business transactions into credits and debits. The definitions of these are somewhat counterintuitive in financial accounting: Debits increase asset or expense accounts and decrease liability or equity accounts.
An increase in liabilities or shareholders' equity is a credit to the account, notated as "CR."A decrease in liabilities is a debit, notated as "DR." Using the double-entry method, bookkeepers enter each debit and credit in two places on a company's balance sheet.
Cash book − only cash related receipts and payments are recorded. General ledger − All business financial transactions. Debtor ledger − Provides information about the credit sales (related to customers). Creditor ledger − Provides information about the credit purchases (related to sellers).
A salary account is a type of savings bank account in which an employee receives their salary from the employer every month. Major companies and corporations have their tie-ups with specific banks where they open the salary account of all of their employees.
If the child age is below 18, the bank will call these a minor account. For kids below 10, the account has to be jointly operated with the parent or guardian, but if the child's age is between 10 and 18, the account can be operated by the child.
Call Account is a flexible interest bearing saving account that requires you to maintain a certain amount of deposit to earn you a pre-negotiated interest. Call Account also gives you the flexibility for unlimited withdraw.
Accounts payable (AP) are amounts due to vendors or suppliers for goods or services received that have not yet been paid for. The sum of all outstanding amounts owed to vendors is shown as the accounts payable balance on the company's balance sheet.
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