Accounting Basics: Types of Accounts

Account Definition

• An account is a record of financial transactions.
• It summarizes increases and decreases in assets, liabilities, and equity.
• Accounts are categorized into different types, such as asset, liability, and equity accounts.

Types of Accounts

• Asset Accounts: Represent resources owned that offer future economic value.
  • Examples: Cash, Accounts Receivable, Inventory, Equipment.
  • Normal balance is a debit.
• Liability Accounts: Represent obligations to others.
  • Examples: Accounts Payable, Salaries Payable, Loans Payable.
  • Normal balance is a credit.
• Equity Accounts: Reflect the owners' stake in the business.
  • Examples: Common Stock, Retained Earnings.
  • Normal balance is a credit.
  • Contributed capital (common stock, preferred stock) increases with credit.
  • Retained earnings increases with net income and decreases with net loss.
• Revenue Accounts: Track increases in equity from business activities.
  • Examples: Sales Revenue, Service Revenue.
  • Normal balance is a credit.
• Expense Accounts: Represent resource outflows used to generate revenue.
  • Examples: Rent Expense, Salaries Expense, Utilities Expense.
  • Normal balance is a debit.

Account Structure and Balancing

• Accounts have debit and credit sides.
• Debit increases asset and expense accounts while decreasing liability, equity, and revenue accounts.
• Credit increases liability, equity, and revenue accounts while decreasing asset and expense accounts.
• The fundamental accounting equation (Assets = Liabilities + Equity) must always balance.
• The double-entry system ensures this balance.
• Account balances are found by summarizing all debits and credits recorded in the account.

Account Usage

• Accounts track individual transactions within a business.
• This allows for monitoring the flow of money and resources.
• Each transaction impacts multiple accounts.
• Businesses use these records to create financial statements, including the balance sheet (assets, liabilities, equity), income statement (revenues, expenses, net income/loss), and statement of cash flows (cash inflows and outflows).

Account Maintenance

• Maintaining accurate accounts is crucial for sound financial record-keeping.
• This involves timely and accurate recording of all transactions.
• Proper journal entries help maintain accurate records.
• Internal controls ensure account integrity and reliability.
• A trial balance, listing account balances, is prepared periodically to assess accuracy and ensure debits equal credits.

Account Closing

• At the end of an accounting period, some accounts (temporary) need closing.
• Temporary accounts (revenues and expenses) are closed to retained earnings.
• Permanent accounts (assets, liabilities, equity) are carried forward.