The Basic Accounts – Accounting Starts with Accounts
As you might expect, an accounting system is made up of accounts. Here accounts really serve as a way to group information, much like a filing system. For example, everything that happens with cash gets run through a cash account, and those ten receipts for stamps will all show up in the account for postage expense.
Although there are some basic rules to follow when it comes to accounts (as you’ll see later in this chapter), any grouping that would be meaningful to you can become an account. There are some standard accounts, and some standard account names, that you will find in almost every bookkeeping system. There are also plenty of specialized accounts, unique to particular businesses, that will not really apply anywhere else. For example, a florist would not need a “ketchup and mustard” account, and a hot-dog vendor would not need a “glass vases” account.
Permanent Versus Temporary
Every account falls under one of two main categories: permanent or temporary. Permanent accounts include assets, liabilities, and equity accounts, and they stay in place from year to year, accumulating information the whole time. Temporary accounts include revenues, costs, and expenses, and they carry the information of only a single accounting period (however long that may be).
FACT
In the world of accounting, net activity has nothing to do with fishing or tennis, and everything to do with math. When you net accounts together, you combine their balances (positive and negative) to come up with how much they’re worth as one lump. So if account A showed $10 and account B showed -$5, their net activity would be $5.
At the end of every accounting period, the temporary accounts get rolled up into permanent accounts. Then they are zeroed out to start the new period with a clean slate. What’s the point of this? Permanent account balances are measured at a particular time; for instance, the cash balance on March 3, 2007. Temporary accounts are measured for a period of time, such as racking up $10,000 in sales during February 2007. Those temporary accounts need to be reset so you can begin tracking them again, but their overall net activity needs to be permanently added to the records by way of the permanent accounts.
Account Numbers
There is no part of accounting that doesn’t involve numbers, and the accounts themselves are no different. In addition to a descriptive name, you will assign an account number to each. This cannot be done haphazardly, or it will wreak havoc on your records. Believe it or not, accounting is sup- posed to simplify how you deal with your business finances; doing every- thing according to tried-and-true systems can make everything so much easier.
This is the basic accounting convention. Asset account numbers start with 1, liability accounts with 2, equity accounts with 3, revenue accounts with 4, cost accounts with 5, and expense accounts with 6. Depending on how many accounts you have overall, you would add anywhere from one to ten digits to that first one. For example, if you have hundreds of accounts, you could use a three-digit account numbering system: Your cash account might be number 101, your inventory account 120, and your first fixed-asset account 150.