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Classification of Accounts - Financial accounts

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It is necessary to know the classification of accounts and their treatment in a double-entry system of accounts. Broadly, the accounts are classified into three categories:

  • Personal accounts
  • Real accounts
            -   Tangible accounts.
            -   Intangible accounts.
  • Nominal accounts
Let us go through them each of them one by one.

Personal Accounts

Personal accounts may be further classified into three categories:

Natural Personal Account

An account related to any individual like David, George, Ram, or Shyam is called a Natural Personal Account.

Artificial Personal Account

An account related to any artificial person like M/s ABC Ltd, M/s General Trading, M/s Reliance Industries, etc., is called an Artificial Personal Account.

Representative Personal Account

A representative personal account represents a group of accounts. If there are a number of accounts of similar nature, it is better to group them like salary payable account, rent payable account, insurance prepaid account, interest receivable account, capital account, drawing account, etc.

Real Accounts

Every Business has some assets and every asset has an account. Thus, an asset account is called a real account. There are two types of assets:
  • Tangible assets are touchable assets such as plants, machinery, furniture, stock, cash, etc.
  • Intangible assets are non-touchable assets such as goodwill, patent, copyrights, etc.
Accounting treatment for both types of assets is the same.

Nominal Accounts

Since this account does not represent any tangible asset, it is called a nominal or fictitious account. All kinds of expense accounts, loss accounts, gain accounts,s or income accounts come under the category of nominal accounts. For example, rent account, salary account, electricity expenses account, interest income account, etc.

Accounting Systems

There are two systems of accounting followed:
  • Single Entry System
  • Double Entry System

Single Entry System

A single entry system is an incomplete system of accounting, followed by small businessmen, where the number of transactions is very less. In this system of accounting, only personal accounts are opened and maintained by a business owner. Sometimes subsidiary books are maintained and sometimes not. Since real and nominal accounts are not opened by the business owner, preparation of profit & loss account and balance sheet is not possible to ascertain the correct position of profit or loss or financial position of business entity.

Double Entry System

The double-entry system of accounts is a scientific system of accounts followed all over the world without any dispute. It is an old system of accounting. It was developed by ‘Luco Pacioli of Italy in 1494. Under the double-entry system of account, every entry has its dual aspects of debit and credit. It means the assets of the business are always equal to the liabilities of the business.
Assets = Liabilities
If we give something, we also get something in return and vice versa.

Rules of Debit and Credit under Double Entry System of Accounts

The following rules of debit and credit are called the golden rules of accounts:

Classification of accounts

Rules

Effect

Personal Accounts

Receiver is

 

Debit

Giver is

Credit

Debit = credit

Real Accounts

What Comes In

 

Debit

What Goes Out Credit

Credit

Debit = credit

Nominal Accounts

 

Expenses are

 

Debit

Incomes are

Credit

Debit = credit   

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