How to Set Up a Chart of Accounts for Your Small Business

The chart of accounts is the list of categories your bookkeeping software uses to organize every transaction. Set it up well, and your reports are clear and tax prep is easy. Set it up poorly, and you'll have a mess of "miscellaneous" and duplicate accounts.

The five main account types

1. Assets: what the business owns

• Business checking and savings
• Accounts receivable (money customers owe you)
• Equipment, vehicles, inventory

2. Liabilities: what the business owes

• Credit cards
• Loans
• Sales tax payable
• Payroll liabilities

3. Equity: the owner's stake

• Owner contributions
• Owner draws (or distributions)
• Retained earnings

4. Income: money earned

• Sales or service revenue, broken out by service line if helpful

5. Expenses: costs of running the business

• Cost of goods sold or job materials
• Operating expenses like rent, software and advertising

Assets, liabilities and equity appear on your balance sheet. Income and expenses appear on your profit and loss statement.

Tips for a clean chart of accounts

Match your tax return

Organize expense accounts so they line up with the categories on your tax return (for example, Schedule C for sole proprietors). Your tax preparer will thank you.

Keep it simple

A small business typically needs 20 to 40 accounts, not 150. Too many accounts lead to inconsistent categorization.

Separate what you need to track

Create separate accounts for things that need special tax treatment or reporting:

• Meals (generally 50% deductible)
• Contract labor (for 1099 reporting)
• Sales tax collected (a liability, not income)
• Vehicle expenses

Break out income where it helps decisions

A remodeling company might track "Repair labor," "Remodel projects" and "Materials resold." A bookkeeper might track "Monthly bookkeeping," "Cleanup projects" and "Business registration."

Avoid "Miscellaneous"

If you're putting a lot into "Other" or "Ask my accountant," it's a sign you need a real category.

A sample starter list for a service business

Income: Service revenue, Reimbursed materials

Cost of services: Materials and supplies, Subcontractors

Operating expenses: Advertising and marketing, Bank and merchant fees, Insurance, Licenses and fees, Meals, Office supplies, Phone and internet, Professional fees, Rent, Software and subscriptions, Tools and small equipment, Training and education, Travel, Vehicle expenses

Equity: Owner contributions, Owner draws

Don't forget Washington-specific accounts

• Sales tax payable if you collect sales tax
• B&O tax expense for state and city B&O taxes you pay
• Payroll liabilities for Washington employer programs if you have employees

The bottom line

A clean chart of accounts makes every report and tax return easier. Set it up thoughtfully when you start, keep it lean, and review it once a year.

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Need help getting this right? TRIG Bookkeeping & Tax Services helps new business owners in Washington with company registration, monthly and annual bookkeeping, and government compliance. Contact us to talk about your business.

This article is general information, not legal or tax advice for your situation. Tax rules and fees change, so confirm current details with the IRS, the Washington Department of Revenue, or a qualified professional.