What is a Chart of Accounts?
Before I can answer this, you first need to understand the basics of double-entry, the method by which the movement of money is recorded in your company.
You may have heard of the term debit and credit before, simply, these mean in and out.
For example, say you make a payment from your business bank account for a train ticket. This would credit (come out of) your business bank account and debit (go into) your travel account. This travel account is a theoretical account and doesn’t exist beyond allowing you to record what that money was spent on. The same goes if you receive money from a sale to one of your clients. It will debit your bank account and credit your sales account.
At the end of the year, your sales minus your expenses (among other accounting treatments) will give you your operating profit on which you can work out your corporation tax. This is why you need to record your transactions in accounts. It helps you work out further information that is legally required. But that’s enough on that.
The point I’m getting at is that with all of the possible transactions you can make and the need to have accurately explained transactions, you are going to end up with a lot of accounts. Where can you find and amend these accounts? On the Chart of Accounts.
This is just a list of your accounts and will usually be kept away from the main information that shows on your online accounting system.
Why do i need a tailored chart of accounts?
You don’t, not really.
However, as with any growing business, you will likely want to pay close attention to your incomings and outgoings to make sure profits are maximised. Tailoring your chart of accounts will make it that much easier to do this.
For example, a restaurant business would likely want to keep track of its stock so an asset account would be a useful addition for the business to keep track of how much stock is available at any given time. Also, the purchase of napkins and plates would be good to keep track off, so we know how much we are spending on these items and if they need to begin looking for a new supplier to keep costs down. An account for each of these would be good for them to create too.
The same goes for IT contractors. They might want to keep track of how much is spent on travel and consider whether they can work from home to combat travel costs. They can even keep track of their assets so they know what hardware they have in the business to derive future profits with.
I’ve mentioned above a couple of examples of accounts that may interest specific service sectors. There are some accounts though that all businesses should add to their chart of accounts if they are not already included:
- Dividends Paid – this is needed to keep track of the dividends you pay out of the company in any given year. Don’t forget to net these off against the retained earnings account once the year-end passes each year.
- Accommodation and Meals – Usually these are included under the travel account, but it doesn’t hurt to see how much you eat!
- Share Premium – This will pop up when you start selling shares in your business. Beyond the nominal price of your shares, any income garnered from selling shares will go to this account.
One thing to remember, you can have a great chart of accounts suitable for a particular business, but it will be of little use if the bookkeeping behind is not done properly. It is essential to make to sure that the data going in is properly posted in order to make most of the reports.
Setting up the Chart of Accounts in Xero?
Finding the chart of accounts in Xero is fairly straight forward but keep in mind that Xero often updates their systems and moves things around so this might have changed by the time you read this. If this is the case, give us a call, and we can talk you through the new procedure. (And then update this article)
First, you’ll need to have logged into Xero. Next, you’ll want to look at the top of your screen for a tab that says ‘Accounting.’ Then from the drop-down, you get after you click it, you’ll need to click on the ‘Chart of Accounts’ option. This will take you to your chart of accounts.
You will end up with the following screen.
Amending the chart of accounts
Now that you are in the chart of accounts, let’s see how to add an account.
First, you’ll need to click on the button highlighted in the screenshot above ‘Add Account’. This will open up the ‘Add New Account’ screen.
For this example, let’s add the share premium account. We’ll need to see what code is available so we’ll scroll down the chart of accounts to find an appropriate place to put it.
Seeing as this is an equity-type account and that the capital shares account is on code 950, let’s add the corresponding share premium account to code 951 as I can see this has not been used. You’ll need to fill in the corresponding boxes accordingly.
Notice that I have ticked the ‘show in expense claims’ and ‘enable payments to this account’ box. While not strictly needed for this account, the selection of these two tick boxes enables the Xero system to show this account as an option for selection when creating an out of pocket expense or when adding/reconciling a bank transaction in the banking section.
Click save now, and you should see the account added to the chart of accounts beneath the capital shares account.
Now you give it a go. Try adding the accommodation and meals account and dividends paid account. I recommend using codes 495 and 955 respectively. See if you can guess which type of account you should use.
In the rare case that you make a mistake when adding an account and you are not happy with it. You can delete it providing no transactions have been explained against it. To do this tick the box on the row detailing that account and then scroll up to the top of the chart of accounts and click the ‘Delete’ button.
You’ll be faced with this prompt.
Click OK, and you’re done.
If you want to discuss tailoring your chart of accounts specific to your business or anything to do with the chart of accounts, feel free to give us a call. We are Specialist Xero Advisors helping businesses streamline their processes and grow.