Chart of Accounts to Match Schedule C and Form 1120-S

What is a chart of accounts, and does the IRS require one?

A chart of accounts is the list of accounts your books post to: income, expenses, assets, liabilities and owner's equity. The IRS requires no particular list or system. You may choose any recordkeeping system that clearly shows your income and expenses (IRS recordkeeping). If you use a computerized system, keep a complete description of it. Publication 583 says that description must show, among other items, charts of accounts and detailed account descriptions.

What the return fixes is its lines. Build expense accounts that roll up to them. Names and numbers are your choice; the line each account feeds is not. Software often calls accounts categories; this page says account for both. The tables below work as a starting list: copy the account column, then add sub-accounts.

The lines depend on how the business is taxed. A sole proprietor, and a single-member LLC that has not elected corporate treatment, reports on Schedule C (Schedule C instructions). An S corporation reports on Form 1120-S (IRS). This page maps both.

Your case is not simple if:

• the business has two or more owners: an LLC with two or more members is a partnership by default and files a partnership return, not Schedule C (IRS). Married couples can be an exception: outside an LLC, spouses who are the only owners, both materially participate and file a joint return can elect qualified joint venture status and each file a Schedule C (Schedule C instructions), and the IRS accepts partnership or disregarded-entity treatment for an entity owned only by spouses as community property (Rev. Proc. 2002-69). Check which return was filed. See LLC equity accounts and spouse and family LLCs;
• the owner of a single-member LLC is a foreign person: the LLC is ignored for income tax but is treated as a corporation for Form 5472 and may have to file it (Form 5472 instructions); see foreign-owned single-member LLC filing;
• you own more than one business: Publication 583 says to keep a complete and separate set of records for each;
• you make or resell goods: cost of goods sold has its own part of Schedule C, covered in cost of goods sold;
• the business has just elected S status: the election has an effective date. Books before it feed the old return (usually Schedule C for a one-owner business) and books from it feed Form 1120-S. Form 2553 is generally due within 2 months and 15 days after the start of the tax year the election is to take effect (instructions); see books after an S election;
• your categories have grown past the return's lines, your preparer re-maps them every year, you changed from Schedule C to an S corporation and the old accounts no longer fit, or an S corporation balance sheet does not tie to Schedule L: the account list and the entries to recode before filing are worth settling with bookkeeping help.

Gather the last return (Schedule C, or Form 1120-S with its attached statements), your current list of accounts, and a profit and loss report by account for the year. An S corporation also needs its year-end balance sheet.

Is a chart of accounts the same as a general ledger?

No. The chart of accounts is the list. The general ledger holds every entry posted to those accounts. Publication 583 describes a ledger as a book of totals from the journals, organized into accounts. Change the list and every report built from the ledger changes with it.

Which accounts does every business need?

Five groups: income, expenses, assets, liabilities and owner's equity. Publication 583 describes double-entry books this way: income and expense accounts close at the end of each tax year, while asset, liability and net worth accounts stay open.

Keep refunds and returns in their own income account. Schedule C line 2 and Form 1120-S line 1b take them apart from gross receipts (Schedule C instructions; Form 1120-S instructions).

Sales tax imposed on the buyer, which you collect and pay over to the state, is not income or a deductible expense (Schedule C instructions), so give it a liability account. See recording sales tax and, for deposits that arrive net of fees, reconciling sales and payouts.

Apart from inventory, a sole proprietor's balance sheet accounts do not appear on Schedule C. They still matter, because loans, equipment and owner draws are the items that must stay out of expenses.

Which Schedule C line does each expense account feed?

Create one expense account per Schedule C line you use, named for the line, so one profit and loss report by account reads straight onto the form. The lines below come from the IRS's early release drafts of Schedule C and its instructions, which can change before the final forms; confirm them on the final form. The draft splits interest into three lines. For a return of an earlier year, interest has two lines (mortgage and other): use that year's form.

Goods you make or resell are costed in Part III of Schedule C, not in these accounts. See cost of goods sold.

Where does an expense with no Schedule C line of its own go?

It goes in Part V, Other expenses, the last part of Schedule C. The instructions say to list the type and amount of each expense separately, and the total goes on lines 48 and 27b (instructions). Make one account per type, all under a parent account called Other expenses.

The instructions name several types that belong there:

• amortization;
• bad debts that were included in income and are definitely worthless;
• business startup costs, which have their own deduction and amortization rules;
• technology and software tools, such as subscription services used to manage the business, unless the software must be depreciated or amortized;
• small purchases you elect to deduct under the de minimis safe harbor, which the instructions say to deduct only in Part V (instructions); see expense or capitalize small purchases.

Bank fees are another common example: the form has no line for them, and Publication 334 lists them among other business expenses you can deduct, so they are listed here by type.

Avoid one account called Miscellaneous. Part V asks for each type, so a large Miscellaneous balance means your preparer must open every transaction in it. Anything with its own line belongs on that line, not in Part V.

How does the Form 1120-S list differ from Schedule C?

Form 1120-S separates officer pay from employee pay, names fewer expense lines, and sends everything else to line 20 with an attached statement. Three differences drive the account list:

• Officer pay is line 7 and other wages are line 8. Keep two accounts.
• Insurance, legal and professional fees, supplies, travel, meals and utilities have no named line. The instructions list them as examples of line 20 deductions, so each gets its own account under Other deductions (instructions).
• Some items are not in lines 7 to 20 at all: rental expenses, deductions tied to portfolio income, nondeductible expenses, and items the shareholders figure separately, such as charitable contributions. Give each its own account so it stays out of the ordinary lines (instructions).

In the fringe-benefit rows, ownership counts stock treated as owned under section 318 (a family member's stock, for example). The more-than-2% test looks at outstanding stock or combined voting power on any day of the tax year (instructions).

Lines 15 and 19 (depletion, energy efficient commercial buildings deduction) need an account only if used. The line numbers above are the same on the IRS's early release draft form for this tax year, which can change before the final form.

A corporation with total receipts of $500,000 or more that deducts officer pay also attaches Form 1125-E, a schedule of each officer's pay. Total receipts is broader than sales (instructions). If the corporation makes or resells goods, cost of goods sold is reported on Form 1125-A, not on lines 7 to 20 (instructions); see cost of goods sold, written for Schedule C.

Income also has a boundary. Lines 1a to 5 take trade or business income only. Rental income and portfolio income go to Schedules K and K-1, and rental real estate also to Form 8825 (instructions).

Officer pay, distributions and the Form 1125-E test are covered in full in S corporation bookkeeping.

Which equity and balance sheet accounts does an S corporation add so Schedule L agrees with the books?

An S corporation needs a balance sheet account for each Schedule L line that applies, because Schedule L, the balance sheet attached to the return, should agree with the corporation's books and records (instructions). Smaller corporations may skip Schedule L; the test and the details are in Schedule L on a corporate return. The lines are on Form 1120-S.

Three accounts matter more for an S corporation than for a sole proprietor:

• Distributions. A separate equity account, closed to retained earnings at year end. Distributions other than dividends go on Schedule K, line 16d. Dividends paid from accumulated earnings and profits go on line 17c and Form 1099-DIV, not Schedule K-1, so keep enough detail to separate them (instructions). See recording S corporation distributions.
• Shareholder loans. Money a shareholder lends the corporation is a liability, kept apart from capital stock. The amount on Schedule L, line 19 should generally reconcile to the shareholders' Schedules K-1 (instructions). See shareholder loans.
• Accumulated adjustments. The Schedule M-2 account tracks undistributed income. The instructions recommend that every S corporation maintain it (instructions).

How detailed should the chart of accounts be?

One account per return line you use, with sub-accounts only where you would act on the detail. Every sub-account must roll up to exactly one line.

If you never look at two accounts separately, merge them. If you do, keep them as sub-accounts of the same line. Numbering is optional; if you number, keep sub-accounts next to their parent.

What must stay out of expenses?

Owner draws, distributions, loan principal and personal spending are not expenses, whatever they look like in the bank feed. Each has an account of its own. Equipment is an asset unless it qualifies for the de minimis safe harbor, which requires the books to expense it.

Keep one Needs review account for anything you cannot place yet, and clear it before you run the year-end report. See uncategorized expenses before tax time.

Can I change categories mid-year or between years without changing my accounting method?

Often yes. Renaming, merging or splitting accounts, or moving a cost between two expense lines, usually changes where it is reported, not when. An accounting method covers when income and expenses count, and a change in the treatment of any material item, meaning one that affects the proper time to include income or deduct an expense, is a method change. An adjustment that does not involve the proper time is not, and needs no IRS approval (Publication 538).

A move that changes the amount deducted, such as between meals and travel, is a different question: the line must be right, so confirm it with your preparer. The books and the return must use the same accounting method (Publication 583). When you change the list mid-year, recode the earlier months so one report covers the whole year, and keep a note mapping old accounts to new ones for year-to-year comparison.

Re-sorting books does not change a return already filed. If re-sorting shows an amount on a filed return was wrong, that is a correction question for your preparer; see uncategorized expenses before tax time.

What report from the chart does my preparer need at year end?

A profit and loss report by account for the full tax year, with each account tied to a return line. Your preparer also needs:

1. The account-to-line map: a column in the report, or a one-page list.
2. The detail behind the lists the return asks for: Schedule C Part V, or the Form 1120-S line 20 statement, each by type and amount.
3. Equity activity: draws and contributions, or distributions and shareholder loans.
4. For an S corporation, balance sheets at the start and end of the year, which Schedule L should agree with, and the depreciation schedule.

The full list, and what the preparer adjusts, is in books to the business tax return.

Example

These examples are illustrative; all amounts are in US dollars.

A single-member LLC consultant

A consultant who owns a single-member LLC with no corporate election, and so files Schedule C, has US$120,000 of receipts and 14 expense accounts. Twelve feed named Schedule C lines: advertising (8), car and truck (9), contract labor (11), depreciation (13), insurance (15), legal and professional (17), office expense (18), rent (20b), supplies (22), taxes and licenses (23), travel (24a) and utilities (25). Two have no line: software subscriptions at US$3,600 and bank fees at US$400. They are listed by type in Part V and total US$4,000 on line 27b. One report by account gives every line without re-sorting.

An S corporation with US$400,000 of receipts

Officer pay of US$80,000 sits in one officer compensation account for line 7. Other payroll of US$60,000 sits in a wages account for line 8. Insurance, supplies and utilities have no named line, so each is listed by type on the line 20 statement. Assume the officer pay is reasonable for the work, so a US$50,000 distribution stays a distribution and goes to the distributions account in equity. Coded as an expense, it would understate book profit by US$50,000, and the preparer would have to move it back before the return reports the right income.

A sole proprietor with 60 categories

A sole proprietor's software has 60 categories and the return uses about 20 lines. Six advertising categories (search ads, social ads, print flyers, business cards, sponsorships and website ads) total US$9,000. They become sub-accounts of one Advertising account that feeds line 8. Doing the same for each line turns 60 categories into about 20 accounts.

Different for you?

• Your account list needs rebuilding, not just reading: your categories have outgrown the return, your preparer re-maps them every year, you just made an S election, your S corporation balance sheet does not tie to Schedule L, or your books are behind or earlier returns used the wrong categories. The account list, the transactions to recode before filing, and the opening balances are worth settling with bookkeeping help. See also books after an S election, Schedule L on a corporate return and catching up on overdue books.
• The business has two or more owners: an LLC member's contributions and distributions are tracked in a capital account, not as one owner's draws, and a married couple's business may still file Schedule C: confirm which return was filed. See LLC equity accounts, spouse and family LLCs and setting up books for a new LLC.
• The LLC's owner is a foreign person: see foreign-owned single-member LLC filing and cross-border tax help.
• You own rental property: use the rental chart of accounts by Schedule E line.
• You sell goods: cost of goods sold has its own accounts.
• You report to investors: see chart of accounts for a startup.
• Draws, distributions or personal costs are already coded as expenses: see recording owner's draws and uncategorized expenses before tax time.
• You want to know which expenses the IRS questions, or which app to use: see Schedule C expenses the IRS questions and a bookkeeping app for Schedule C.