2.Double-entry recording process_CLC

8/7/2019 2.Double-entry recording process_CLC

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Principle of Accounting

Week 2

Chapter 4

The double-entry Recording Process

BA in International Business

Foreign Trade University


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Outline

An introduction to double-entry accounting

Footing and balancing ledger accounts

The role of trial balance

Detecting errors through a trial balance

Chart of account

Three-column ledger accounts

Accounting for drawings


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The Account

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Cash

Accountingsmain summary device

is the account, the record ofchanges.

Accounts are grouped in three broad categories,

according to the accounting equation:


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The Account

Assets are the economic resources that

benefit the business now and in the future

Cash

Accounts receivableInventory

Notes receivable

Prepaid expenses

Land

BuildingsEquipment,

furniture,

and fixtures


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The Account

Liabilities are the debts of the company.

Notes payable

Accounts payable

Accrued liabilities

(for expenses incurred but not paid)

Long-term liabilities(bonds)


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The Account

Stockholders (owners) equity is the

owners claims to the assets of a corporation.

A proprietorship uses a single account.

A partnership usesseparate accounts for each

ownerscapital balance and withdrawals.Acorporation usesseparate capital

accounts for each source of capital.


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The Account

Common Stock Retained Earnings

Dividends Revenues Expenses


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Transactions

Atransaction is any event that both affects

the financial position of the business entity

and can be reliably recorded.


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Double-Entry Accounting

Double-entry bookkeeping means to record

the dual effects of each business transaction.


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LedgerAccounts

Ledger - a group of related accounts kept currentin a systematicmanner

Think of a ledger as a book with one page for eachaccount.

The ledger is a companys books.

General ledger - the collection of

accounts that accumulates theamounts reported in the majorfinancial statements

Ledger


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LedgerAccounts

Asimplified version of a ledger account iscalled the T-account.

They allow us to capture the essence of theaccounting process without having to worryabout too many details.

The account is divided into two sides for

recording increases and decreases in theaccounts.

Account Title

Left Side Right Side


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LedgerAccounts

Balance - difference between total left-side

amounts and total right-side amounts at

any particular time

Assets have left-side balances.

Increased by entries to the left side

Decreased by entries to the right sideLiabilities and Owners Equity have right-side

balances.

Decreased by entries to the left side

Increased by entries to the right side


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LedgerAccounts

T-accounts and the balance sheet equation:

Assets = Liabilities + Owners Equity

Assets

Increases Decreases

Liabilities

Decreases Increases

Owners Equity

Decreases Increases


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Debits and Credits

Debit (dr.) - an entry orbalance on the left

side of an account

Credit (cr.) - an entry orbalance on the

right side of an account

Remember:

Debit isalways the left side!

Credit isalways the right side!


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The T-Account

Account Title

Debit

LEFT SIDE RIGHT SIDE

Credit

Accounting

Equation: Assets = Liabilities +Stockholders

Equity

Rules of

Debit and

Credit: Debit

+

Debit

Debit

Credit

Credit

+

Credit

+


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Recording entries in ledgeraccounts

Identify the transaction and state two ledger accounts

affected by the transaction

Determine whether each account isincreased or decreasedby the transaction

State whether the accounts will havea debit or a credit entry

Classify the ledger accounts according totheir report classification


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Air & Sea received $50,000 from issuing stock.

Assets = Liabilities +

Stockholders

Equity

Debitfor

Increase,

50,000

Creditfor

Increase,

50,000

Cash Common Stock


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Air & Sea purchased land for $40,000 cash.

Common Stock

Bal. 50,000

Cash

Credit

forDecrease,40,000

Bal. 50,000

Land

Debitfor

Increase,40,000

Assets = Liabilities +Stockholders

Equity


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RecordingTransactions

in the Journa

l

Date Accounts and Explanation Debit CreditJournal Page 1

April 2 Cash 50,000

Common Stock 50,000

Issued common stock


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Posting from Journal to Ledger

The ledgeris a grouping of all the

accounts; it shows theirbalances.

Data must be copied to the ledger

a processcalled posting.

The journalis a chronological recordof all transactions listed by date.


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AccountsPayable

Individual liability accounts

Ledger

All individualaccountscombinedmake up

the ledger.

Individual stockholders equity accounts

CommonStock

Cash Individual assetaccounts

Posting from Journal to Ledger


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Flow of AccountingData

TransactionOccurs

TransactionAnalyzed

Transaction

Entered inthe Journal

Amounts

Posted tothe Ledger

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Analysis chart

An analysischart provides an analysis of a financial

transaction to determine the double-entry to be

recorded in ledger accounts.

An analysischart helps to ensure that the double-entry for each transaction iscorrectly determined.

Example

Transaction A/c names Classifica-tion

Increase/Decrease

Debit/Credit

Bought vehicle for

$18,000

Vehicle

Cash at bank

Asset

Asset

Increase

Decrease

Dr

Cr


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Double-entryaccounting

Cash at bank

Vehicles

Wages

Mar 1 Vehicles 18,000

Mar 4 Wages 400

Mar 1 Cash at bank 18,000

Mar 4 Cash at bank 400


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Revenue and Expense Transactions

Retained Income ismerely accumulated

revenues less expenses,but we cannot just

increase or decrease the Retained Incomeaccount directly.

This would make preparing the income

statement very difficult

By accumulating revenues and expenses

separately, a more meaningful income

statement can be easily prepared.


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Revenue and expense accounts are a part

of Retained Income.

Retained Income

Expense Revenue

Decrease Increase

Debit

Increase

Credit

Increase


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Summary of revenue and expense transactions:

Acredit to a revenue increases the revenue

and increases Retained Income.

A debit to a revenue decreases the revenue and

decreases Retained Income.

Acredit to an expense decreases the expense

and increases Retained Income.

A debit to an expense increases the expense

and decreases Retained Income.


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Example Exercise 4.3 (Contd)

Transaction Account

names

Classifi-

cation

Increase/

Decrease

Debit/

Credit

Sold CDs forcash $4,300

Paid 1 months advertising

$600

Borrowed cash frombank

$5,000

Sold CDs on credit at cost

$600

(Record Cost ofsale)

Sold CDs on credit for $1,200

(Record revenue)

Purchased stock forcash

$3,600


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Example Exercise 4.3 (Contd)

Transaction Account

names

Classifi

-cation

Increase/

Decrease

Debit/

Credit

Repaid the National Bank

$2,000

Paid wages $800

Cash sales ofstock at cost

$1,200 (record cost ofsale)

Cash sales ofstock for $2,200

(record revenue)

Purchased inventory on credit

for $3,400


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Footing & balancing ledger

a

ccounts To foot an account: (informal procedures)

Calculate total debits and credits.

The difference is noted as the balance on the largerside (normally done by pencil).

To balance an account: (formal procedures)

Total the two sides of ledger account, larger amount is

written on both sides of the account. The difference is entered asbalance and written on the

side with the lower amount.


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Footing Example E 4.3

Feb 1 Capital $60,0005 Sales $ 3,400

8 Loan $ 5,000

10 Sales $ 2,200

Feb 2 Rent $ 4,0003 Shop fittings $ 12,000

6 Advertising $ 600

9 Stock control $ 3,600

14 Loan $ 5,000

15 Wages $ 800

$70,600 $23,000

47,600

Cash at bank


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Balancing Example E 4.3

Feb 1 Capital $60,000

5 Sales $ 3,400

8 Loan $ 5,000

10 Sales $ 2,200

Feb 2 Rent $ 4,000

3 Shop fittings $ 12,000

6 Advertising $ 600

9 Stock control $ 3,600

14 Loan $ 2,00015 Wages $ 800

Balance $ 47,600

$70,600 $70,600

Balance $47,600

Cash at bank


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Closing the Accounts

Once the financial statements are prepared,

the ledger accountsmust be prepared to

record the next periods transactions. Thisprocess iscalled closing the books.

The balances in all temporarystockholders

equity accounts are transferred to apermanentstockholders equity account.

The revenue and expense accounts are reset

to zero and the current net income is

transferred to Retained Income.


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Closing the Accounts

The Closing Process:

The revenue accounts are

closed to Income Summaryin the first entry.

The expense accounts are

closed to Income Summary

in the second entry.

The amount of Net Income (revenues -

expenses) is then transferred from Income

Summary to Retained Income.


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Preparing the TrialBalance

Once all transactions have been posted to the

ledger, a trial balance is prepared.

Trial balance - a list of all of the accountswith theirbalances assets first, followed by

liabilities, and then stockholders equity. It is

prepared as a test orcheckbefore continuingthe recording process.


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Preparing the TrialBalance

The purposes of the trial balance:

To help check on accuracy of posting by

proving whether the total debits equal the totalcredits

To detect errors in double-entry recording

To establish a convenient summary ofbalances in all accounts for the preparation of

formal financial statements


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Trialbalance An example

Dr Cr

Capital Mammone 60,000

Rent 4,000

Shop fittings 12,000

Stock control 7,500

Advertising 600

Loan 3,000

Wages 800

Sales 6,800

Costs of sales 3,800

Debtors 1,200

Creditors 7,700

Cash at bank 47,600

77,500 77,500


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Trialbalance (Contd)

Some errorsmay not be detected by a trialbalance:

Entering an incorrect amount forboth the debit andcredit.

Entering a debit orcredit in the wrong account.

The debit and credit entries are reversed.

Omitting a transaction completely.

Compensating errors.


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Detecting errors through

a trialbalance

Debit orcredit omitted

Duplication of a debit orcredit

Transposing error

Search the records for a missing amount.

Divide the out-of-balance amount by 2

(a debit treated as a credit or vice versa).

Divide the out-of-balance amount

by 9, which may indicate a slide

or a transposition.


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Chart ofaccounts

An organised index to the ledger accounts

Groups the account together according to their

accounting report classifications Facilitate report preparation


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Three-column ledgeraccounts

Asimpler form of ledger with three columns: debit entry,credit entry and the balance of account.

Advantage: the balances of all accounts are readily

available. Ideal forcomputerised system.Eg: Three-column ledger Cash at bank account

Date Account Dr Cr Balance

1 Capital 25,000 25,000 Dr

2 Loan 10,000 35,000 Dr

4 Loan 500 34,500 Dr

5 Stockcontrol 600 33,900 Dr


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Accounting forDrawings

Drawings: withdrawals of assetsby the ownerfor personal use.

The balance of drawings is accounted for as adeduction against the owners equity.Example:

The proprietor withdraws $500 cash for personal use.

Balances of accountsunder owners equity section are asfollows:

Capital account: $50,000Profit earned for the year: $20,000

Drawings for the year: $10,000

Requirement: Record the transaction and prepare an extract ofthe statement of financial position, owners equity section.


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Accounting forDrawings (Contd)

Dr Drawings a/c $500

Cr Cash at bank a/c $500

Extract statement of financial position

Owners equity

Capital $50,000

Plus Net profit $20,000 $70,000

Less Drawings $10,000 $60,000


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The RecordingProcess

The sequence ofsteps in recording

transactions:

Transactions Documentation Journal

Financial

Statements

Trial

BalanceLedger


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Practice questions

Exercise 4.4

Exercise 4.10


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Homework

Exercise 4.5

Exercise 4.9

Exercise 4.11


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Quiz

Give appropriate terms for the below definitions.

1. A numerical list of all the accountsused by a company.

2. An entry on the left side of an account.

3. A list of each account and itsbalance at a specific point in

time used to prove the equality of debits and credits.

4. Asystem of accounting in which every transaction is

recorded with equal debits and credits.

5. An entry on the right side of an account

6. An analysis of a financial transaction leading to determine

the double-entry to be recorded in ledger accounts.

2.Double-entry recording process_CLC

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