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Chapter 4



This chapter looks at how coding systems can be devised and used in accounting systems.

The use of codes in categorising and processing transactions

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

Concise: 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.

Precise: 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.

Checking: 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; sometime more

sophisticated checks can be carried out on the structure

off the code. This reduces the chance of errors.

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 computerized 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.

Different methods of coding

There are several methods of coding. Codes should be:

* Simple to use

* Understandable

* Concise

* Precise

* Expandable

As we will see, these requirements can be in conflict.

Sequential codes

In this method products or customer are simply allocated numbers in sequence:

0001 Abrahams

0002 Adkins

0003 Ahmad




It is simple and concise, but as constructed might have some faults:

1 There is no relationship at all between the code and the item/person being encoded .

2 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

Here, are you progress through the code, information become increasingly specific. Many libraries use this system to code their books using the Dewey Decimal System

500 Natural sciences mathematics



510 Mathematics

520 Astronomy & allied sciences

530 Physics

540 Chemistry & allied sciences

550 Earth sciences

560 Paleontology, pale zoology

570 Life sciences

580 Botanical sciences

590 Zoological sciences



555 Earth sciences of Asia

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.

3 | | 1 | | 1 | | 2 | |
1 | = expenses | 1 | = non-current assets | 1 | = cost | 1 | = property | 2 | = income | 2 | = current assets | 2 | = accumulated | 2 | = machinery | 3 | = assets | | | depreciation | 3 | = office equipment | 4 | = liabilities | | | | | 4 | = motor vehicles |

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.

Block codes

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

1xxx = expenses 2xxx = income 3xxx = assets 4xxx = liabilities

Faceted codes

These are an improvement of block codes and provide more information but lack a logical hierarchical structure. The code is broken down into sections or groups of digits and each group codes for a particular attribute.

For example and employee code could be:

Facet 1 | Sex of employee: | 1 = male; 2 = female |
Facet 2 | Department: | 01 = accounts; 02 = sales; 03 = IT etc | Facet 4 | Full or part time | 1 = full time; 2 = part time | Facet 5 Weekly or monthly paid: | 01 = weekly; 02 = monthly | | | |


All the codes illustrated do far have been purely numerical. Mnemonic codes contain letters to help humans to learn what the codes mean. The hierarchical code above:

3 | | 1 | | 1 | | 2 |
1 | = expenses | 1 | = non-current | 1 | = cost | 1 | = property | 2 | = income | assets | 2 | = accumulated | 2 | = machinery | 3 | = assets | 2 | = current assets | depreciation | 3 | = office equipment | 4 | = liabilities | | | | | 4 | = motor vehicles |

could then become | | | | | |

A | N | C | M |
E = expenses | N = non-current | C = cost | P = property |
I = income | assets | A = accumulated | M = machinery |
A = assets | C = current assets | depreciation | O = office equipment | L = liabilities | | | M = motor vehicles |

It is not common to have full mnemonic codes and often just the first character will be mnemonic and the rest will follow another system.


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