Introduction to Coding systems
It is universal practice in accounting systems to use coding systems to refer to customers, suppliers, accounts and employees. Codes are used because they are concise and precise, and can be subject to computer checking
Instead of referring to a product as a “50cm high resolution LED monitor”, the product is given a code such as 50HRL. This is much quicker to write or type.
There might be several makes of 50cm high resolution LED monitors and information might be confusing and ambiguous if the manufacturer (Sony, Panasonic, Samsung LG etc) wasn’t specified. A code number can therefore be used to ensure that products and people are referred to uniquely eg 50HRLLG.
Codes can also help in processing transactions. For example if all income-related accounts have the structure 1xxxx, all expense-related accounts have the structure 2xxxx, all asset-related accounts 3xxxx and all liability accounts 4xxxx, then this will help the production of the income statement (all 1xxxx amounts less all 2xxxx amounts) and the statement of financial position (3xxxx as asset amounts and 4xxxx amounts as liabilities). This is particularly needed in computerised accounting systems because the computer cannot understand that, say, rent is an expense, but doesn’t need this understanding so long as rent is coded, say 21892. Because it starts with ‘2’ it will be treated as an expense.
If all inventory codes are 7 digits long then forms and input screens can be designed for this. Computers can check that all 7 digits are present, and sometime more sophisticated checks can be carried out on the structure off the code. This reduces the chance of errors.
Different methods of coding
There are several methods of coding. Codes should be:
- Simple to use
In this method products or customer are simply allocated numbers in sequence:
This is simple and concise, but as constructed might have some faults:
There is no relationship at all between the code and the item/person being encoded.
Expansion might be difficult once you have over 9999 customer if documents and computer files can hold only four digits. Additionally, if someone called Affleck becomes a customer, he will have to be tagged onto the end of the sequence ie not reflecting alphabetical order. To avoid this problem, often sequence codes proceed as 0010, 0020, 0030…etc so that gaps are built in for future use.
Hierarchical or significant digit codes
In a business, hierarchical codes could be used to code the accounts in the general ledger. For example a code such as 3112 could be interpreted as the Machinery Cost Account, using the following system.
The great advantage of this type of code is that its structure provides information both to human users and to computers. For example, it would be easy to program the compute to work out the total cost of all fixed assets: simply add up all accounts starting 311.
These lie somewhere between simple sequence codes and the full, detailed hierarchical code. They start off giving some information but then lose enthusiasm. So for general ledger codes you might have
You will see in the next chapter that accounting systems rely on double entry bookkeeping. There it is essential that the accounting entries made are precise and before transactions are recorded in the system it would be normal to attach codes to the transactions.