Tracking payments and expenses is crucial to understanding how your freelance business works. And setting up a chart of accounts can help you breakdown your budget into basic categories to track different flows of money efficiently.
What Is a Chart of Accounts?
A chart of accounts is basically a way to organize the information within your accounting system. If you don’t have an accounting background, creating your chart of accounts may seem confusing, but don’t let it overwhelm you.
Think of it as a filing system that categorizes the financial transactions of your business. A filing system can be messy, forcing you to waste valuable time trying to find the information you need, or it can be well-organized, allowing you to find exactly what you need quickly and efficiently.
How Is a Chart of Accounts Organized?
There are five main sections to a chart of accounts. Think of these as filing drawers, in which more specific items will be organized. They are:
- Owner’s Equity
Accounting programs will use a numbering system to identify these categories, as well as items within them. For example, the income section typically starts at 4000. If you use one of the many popular accounting software programs, there’s a good chance you won’t even notice these numbers. Instead, focus on creating descriptive categories that make sense to you—and to your bookkeeper or accountant, of course.
The good news is that most freelancers will find their chart of accounts fairly simple to set up as the categories they need are often straightforward. Most freelancers, for example, don’t have inventory or similar expenses that need to be tracked in detail.
How Should Freelancers Set Up a Chart of Accounts?
To set up your chart of accounts, take some time to think about the money that will flow in and out of your business:
- How much will you put into your business checking account and what other assets, such as computers, will you acquire to run your business?
- Will you use a credit card or other type of financing, and how much do you need to set aside for tax liabilities?
- What types of revenue will you earn?
- What kinds of expenses will you have?
As you develop this list, try to avoid creating categories that are overly broad, or too narrow. Categories that are too broad will make it difficult to fully understand your financial situation. Categories that are too narrow can create bookkeeping headaches.
Example of a Chart of Accounts for Your Business
Let’s say you operate a freelance writing business. You may earn income from writing magazine and blog articles, and perhaps you also earn income from editing or from book royalties. If you categorize all that income as “sales” or even “writing income,” it will be difficult to figure out how much you make from each type of work.
Instead, you may want to set up each of these types of income as its own line item within the income section of your chart of accounts. For example:
- Magazine writing
- Blog writing
- Blog editing
- Book royalties
You can get more specific by creating a separate category for each of these types of work by client as well. But that’s probably overkill; as you issue an invoice and receive payment, you will associate that income with a specific client, and this will allow you to review how much you’ve billed or earned from everyone.
The Bottom Line
If you’ve set up your chart of accounts well, you’ll be able to get valuable insight about your financial health of your freelance business when you need it.
As you develop your chart of accounts, try to think ahead. Imagine your business one to five years from now, and ask yourself what you’d want to know about your finances at that point. A snapshot of earnings, for instance, can help you decide where to focus your marketing efforts.
Review your business plan, if you have one, get ideas for organizing your chart. Feel free to include categories that you expect to grow into, such as hiring contractors or employees. But don’t panic if you overlook something; you can always add additional line items later.