The Five Main Types of Accounts
In double entry bookkeeping, all accounts fall into one of five categories. Understanding these categories is essential for proper recording of transactions.
1. Assets
Definition: Resources owned by a business that have economic value.
Normal Balance: Debit (increases with debits, decreases with credits)
Examples: Cash, Trade Receivables, Inventory, Equipment, Buildings, Land, Prepaid Expenses
Rule: Assets = Liabilities + Equity
2. Liabilities
Definition: Obligations that a business owes to others.
Normal Balance: Credit (increases with credits, decreases with debits)
Examples: Trade Payables, Loans Payable, Deferred Income, Wages Payable, Mortgage Payable
Rule: Liabilities = Assets - Equity
3. Equity
Definition: The ownership interest in the business; the residual value after liabilities are subtracted from assets.
Normal Balance: Credit (increases with credits, decreases with debits)
Examples: Ordinary Shares, Preference Shares, Retained Profits, Owner's Capital, Share Premium
Rule: Equity = Assets - Liabilities
4. Revenue
Definition: Income earned from the business's primary operations and other activities.
Normal Balance: Credit (increases with credits, decreases with debits)
Examples: Sales Revenue, Service Revenue, Interest Revenue, Rent Revenue, Commission Revenue
Rule: Revenue increases Equity when recognised
5. Expenses
Definition: Costs incurred in the process of earning revenue.
Normal Balance: Debit (increases with debits, decreases with credits)
Examples: Cost of Sales, Rent Expense, Wages Expense, Utilities Expense, Depreciation Expense
Rule: Expenses decrease Equity when incurred
The Expanded Accounting Equation
Assets = Liabilities + Equity + (Revenue - Expenses)
or
Assets = Liabilities + Equity + Net Income
Permanent vs. Temporary Accounts
| Permanent (Real) Accounts | Temporary (Nominal) Accounts |
|---|---|
| Assets, Liabilities, and Equity accounts | Revenue, Expense, and Dividend/Drawing accounts |
| Carry balances forward indefinitely | Closed (zeroed out) at the end of each accounting period |
| Appear on the Balance Sheet | Appear on the Income Statement |
Account Codes and the Chart of Accounts
A chart of accounts typically organises accounts with numeric codes:
| Range | Account Type |
|---|---|
| 1000-1999 | Assets |
| 2000-2999 | Liabilities |
| 3000-3999 | Equity |
| 4000-4999 | Revenue |
| 5000-5999 | Cost of Sales/Direct Expenses |
| 6000-9999 | Other Expenses |
UK Specific Accounting Terms
| UK Term | Description |
|---|---|
| Trade Receivables | Amounts owed to the business by customers (Accounts Receivable in US) |
| Trade Payables | Amounts owed by the business to suppliers (Accounts Payable in US) |
| Ordinary Shares | Basic ownership shares in a company (Common Stock in US) |
| Preference Shares | Shares with priority for dividends (Preferred Stock in US) |
| Share Premium | Amount paid for shares above nominal value (Additional Paid-in Capital in US) |
| Debentures | Long-term debt instruments (Bonds in US) |
| Retained Profits | Accumulated profits kept by the company (Retained Earnings in US) |