Chart of accounts classification: which statement, which section

Every account in a chart of accounts ends up somewhere in the financial statements. Learn the simple rule that sends each account to its statement, how a classified balance sheet groups assets and liabilities, and how to handle the accounts that look like they belong somewhere else.

What classifying an account means

A chart of accounts is the full list of accounts a business uses. Each account collects one kind of balance: Cash, Accounts Payable, Rent Expense and so on. At the end of a period those balances are reported in the financial statements.

Classifying an account means answering two questions:

1. Which financial statement reports it? The income statement, the balance sheet or the statement of owner's equity.
2. If it is on the balance sheet, which section? Current assets, property, plant and equipment, current liabilities, long-term liabilities or equity.

Both answers follow from the account's type. If you can already say whether an account is an asset, liability, equity, revenue or expense, most of the work is done. If not, normal balance of accounts covers the five types and the contra accounts that flip the usual side.

The three statements and what each one reports

The statements are linked. Net income from the income statement flows into the statement of owner's equity. The ending capital from that statement flows into the balance sheet. That chain is why drawings sit in the middle statement: they change capital, but they have nothing to do with profit.

So the rule is short:

• Revenue or expense type: income statement.
• Owner's Drawing: statement of owner's equity.
• Everything else, meaning assets, liabilities and Owner's Capital: balance sheet.

Worked example: Copperleaf Studio

Copperleaf Studio is setting up its chart of accounts. For each account, choose the financial statement that reports it.

1. Advertising Expense. An expense, so it reduces profit. Income statement.
2. Wages Expense. Another expense. Income statement.
3. Supplies. No "Expense" in the name. Supplies on hand are an asset the business owns until they are used. Balance sheet. (Supplies Expense, the amount used up, would go on the income statement.)
4. Purchase Returns and Allowances. A contra account that reduces the cost of goods bought. It belongs to the expense type, so it sits with cost of goods on the income statement.
5. Owner's Drawing. The owner taking money out. Not an expense. Statement of owner's equity.
6. Unearned Revenue. Customers paid in advance and are still owed the work. That is a liability. Balance sheet.
7. Premium on Bonds Payable. An amount added to Bonds Payable when bonds are issued above face value. It is part of the liability. Balance sheet.
8. Sales Discounts. A contra revenue account: it reduces sales revenue for customers who paid early. Income statement.

The type column isn't part of the exercise, but writing it down first is the fastest route to the right statement. Notice that every contra account goes to the same statement as the account it reduces. Sales Discounts reduce revenue, so they sit on the income statement next to Sales Revenue.

The classified balance sheet

A classified balance sheet doesn't just list assets and liabilities. It groups them so a reader can see what turns into cash soon and what is owed soon. The sections used in the exercises are:

• Current assets. Cash, and anything expected to turn into cash or be used up within a year: Accounts Receivable, Interest Receivable, Inventory, Supplies and prepaid items such as Prepaid Rent. The Allowance for Doubtful Accounts sits here too, because it reduces Accounts Receivable.
• Property, plant and equipment. Long-lived assets the business uses to operate: Equipment, Buildings and Land. Accumulated Depreciation sits here as well, as a reduction of the equipment and buildings it relates to.
• Current liabilities. Amounts owed within a year: Accounts Payable, Wages Payable, Interest Payable, Sales Tax Payable and Unearned Revenue.
• Long-term liabilities. Amounts owed after more than a year, such as Bonds Payable, with its Discount or Premium on Bonds Payable.
• Equity. Owner's Capital.

Some accounts can't be placed from the name alone. A note receivable or note payable could be due in six months or in five years, so you would need its terms. The exercises leave those accounts out of the section questions for that reason.

A second example: Harbor Bakery

Here is how Harbor Bakery's accounts fall into sections:

Contra accounts follow the account they reduce here too. Discount on Bonds Payable carries a debit balance, which might suggest an asset. But it only makes sense as an adjustment to Bonds Payable, so it sits with long-term liabilities.

Adding the normal balance

The third exercise asks for the statement and the normal balance together. Two checks keep this straight. First, the statement comes from the type. Second, the normal balance comes from the type, then flips for a contra account. A few examples from Harbor Bakery:

Cash Short and Over records small differences when the cash counted doesn't match the register. In this course it is treated as an expense with a debit balance, so it goes on the income statement. Loss on Sale of Equipment and Payroll Tax Expense follow the same pattern: expenses, debit balances, income statement.

Common mistakes and how to avoid them

These are the mistakes the exercises recognize. Each one gets its own feedback.

Putting Owner's Drawing on the income statement

Drawing has a debit balance and reduces equity, just as expenses do, so it is easy to send it to the income statement. But it is not a cost of earning revenue. If it were treated as an expense, net income would be understated by the full amount the owner took out. Drawing goes on the statement of owner's equity, where it is subtracted from capital.

Putting Unearned Revenue on the income statement

The word "Revenue" is the trap. Unearned Revenue is money received for work not yet done, so it is a liability on the balance sheet. It reaches the income statement only as the work is done, through an adjusting entry. The unearned revenue adjusting entry page shows that step.

Listing long-term assets as current

Equipment, Buildings and Land are used for many years. They belong under property, plant and equipment, not current assets. Their Accumulated Depreciation goes with them. Putting them under current assets would make the business look as if it had far more short-term resources than it does.

Listing Unearned Revenue under equity

Unearned Revenue has a credit balance, like equity, and the word "Revenue" suggests something that adds to equity. But the business owes the work to its customers. Until the work is done it is a current liability, not part of the owner's claim.

Giving contra accounts their type's usual side

Sales Returns and Allowances is a revenue account, so learners often mark it as a credit. It reduces revenue, though, so it carries a debit. Accumulated Depreciation is an asset account with a credit balance. Owner's Drawing is equity with a debit balance. Ask whether the account reduces another; if it does, flip the side.

How to check your work

• Write the type first. Statement, section and normal balance all follow from it.
• Only Owner's Drawing goes to the statement of owner's equity in these exercises.
• Distrust names with "Revenue" in them. Check for "Unearned" first.
• Keep contra accounts with their partner. Same statement, same section, opposite side.
• Ask "within a year?" for every balance sheet account to choose current or long-term.

Classifying accounts is the step before building the statements themselves. The income statement practice page uses these classifications to calculate net income, and trial balance practice shows the list of balances you start from.