Professional Documents
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Pushpa Kumari
STRUCTURE
11.1 11.2 11.3 11.4 11.5 11.6 11.7 11.8 Introduction Objectives Book keeping Double Entry System Main Accounting Terms Accounting Equation Advantages of Double Entry System. Journal Entries 11.8.1 Accounts 11.8.2 Rules Regarding Dr. And Cr. 11.8.3 Entry 11.9 Journal 11.10 Ledger 11.11 Trial Balance 11.11.1 Methods of Preparing Trial Balance 11.11.2 Objectives of preparing Trial Balance 11.11.3 Limitations of Trial Balance 11.12 Summary 11.13 Glossary. 11.14 Self Assessment Questions. 11.15 Answers to check your progress 11.16 Further Readings.
11.1 INTRODUCTION
So far you have studied who is an entrepreneur, how he starts his business and how he arranges finance for his business. Now the next step should be control over the finance and overall performance of the business. This can be done only by proper maintenance of accounts. Lack of accounting knowledge may seriously affect the working of the business. Through accounting processes the entrepreneur can obtain many useful information regarding sources and
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application of funds, amount of expenses, sales, purchases, cost of goods sold etc. If he has detailed information regarding each and every item than only he can control the activities of the business properly. This is facilitated through the preparation of accounts only. For maintaining accounts, he may hire a professional accountant but still he must have some basic accounting knowledge in order to understand what the accountant is telling him.
11.2 OBJECTIVES
After going through this lesson you should be able to explain: Meaning of Book Keeping. Meaning of Double Entry System. Accounting Equation. Main accounting terms. Advantages of Double Entry System. Meaning of Journal Entries. Types of accounts. The rules of Debit and Credit. Meaning of Trial Balance. Objectives and methods of preparing Trial Balance
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corresponding credit and vice versa and upon this dual aspect has been raised the whole superstructure of double entry system of accounting. Thus we may define the Double Entry System as that system which recognizes and records both the aspects of transaction. This system has been proved to be systemic and has been found of great use for recording the financial affairs of all institutions requiring use of money. (Ref.: Jain and Narang, Financial Accounting)
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5.
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Check Your Progress Activity 1 Imagine that you are going to start your own boutique, now find out the assets required by you to start the business
Effect of transactions on accounting equation Suppose Ramesh starts a business and following transactions take place. I. Commence business with a capital of Rs. 2, 00,000 Assets Cash Rs. 2, 00,000 = 0 + Rs. 2, 00,000 = Liabilities + Capital
II.
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Liabilities + Capital
0 + 2, 00,000 0+0
0 + 2, 00,000
III. Purchase goods for Rs. 10,000 on cash and Rs. 10,000 on credit Assets = Liabilities + Capital
Cash + Furniture + Goods = Creditors + Cap Old Balance 1, 95,000+5,000+0 New Transaction (-) 10,000+ 0 +20,000 New Balance 1, 85,000+5,000+20,000 = 0 + 2, 00,000 = 10,000+ 2,00,000 = 10,000+2, 00,000
IV. Business sells goods on credit for Rs. 30,000 the cost of the goods is Rs. 15,000 Assets = Liab + Cap.
Cash + Furniture +Goods +Debtors = Creditors + Cap. Old Balance 1, 85,000+5,000+20,000+0 = 10,000+2,00,000 = 0+ (15,000) (Profit added to the capital)
= 10,000+2,
V.
The business pays Rs. 1,000 for rent and Rs. 2,000 for salaries. Assets Cash+ Furniture + Goods + Drs Old Balance 1, 85,000+5,000 +5,000+30,000 New Transaction (-) 3,000+ 0+ 0 +0 = Liab. + Cap = Creditors + Cap = 10,000+ 2, 15,000 = 0 (-) 3,000
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1, 82,000+5,000+5,000+30,000
10,000+2,
From the above examples it is clear that every transaction has two aspects and in the double entry system both the aspects are recorded. Check Your Progress Activity 2. The key words used in accounting equation are .. .
Q. 1. Supply missing amounts on the basis of accounting equation. Assets (a) (b) (c) 20,000 ? 10,000 = = = = Liab + Capital 15,000+? 5,000+ 10,000 ? + 8,000
Q.2.
X starts business with cash Purchased goods on cash Purchased goods on credit Sold goods (cost Rs.10, 000) for
.. .. ...
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1.
Scientific system This system is the only scientific system of recording business transactions as compared to other systems of book keeping. It helps to attain the objectives of accounting. This system maintains a complete record of all business transactions. By the use of this system the accuracy of the accounting work can be established through device of Trial Balance. This system helps in assessment of profit earned or loss suffered by the business though preparation of Profit and Loss A/C. The financial position of the firm can be ascertained at the end of each period, through preparation of Balance Sheet. This system permits accounts to be kept in as much detail as necessary and therefore affords significant information for purposes of control etc. Comparative study is possible results of one year may be compared with those of previous year and reasons for the change may be ascertained. Helps management for decision-making. The management may be able to obtain good information for its work, especially for decisionmaking. No scope for fraud The firm is saved from frauds and misappropriations since full information about all assets and liabilities will be available.
2. 3. 4. 5. 6.
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It is because of these advantages that the system has been used extensively in all countries. (Ref. T.S. Grewal, Double Entry Book Keeping)
11.8.1 ACCOUNT
You have seen how the accounting equation is true in all cases. A person starts his business with Rs. 10,000. Both Capital and Cash are then Rs. 10,000. Transactions entered into by the firm will affect the cash balance in two ways: some will increase the cash balance and other will decrease it. Payments will reduce the cash balance and receipts will increase it. You can change the cash balance with every transaction but this will be a cumbersome job. Instead it would be better if all the transactions that lead to an increase were recorded in one column and those that reduce the balance in another column. If to the opening balance of cash you add all increases and then deduct the total of all decreases, you shall know the closing balance. In
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this manner significant information will be available relating to cash. The two columns of which we talked of above are put usually in the following form, which is the form of an Account. (Ref.: T.S. Grewal, Double Entry Book Keeping) ACCOUNT Dr. Date Particulars Amount (Rs.) Date Particulars Cr. Amount (Rs.)
ACCOUNTS
Personal A/Cs
Impersonal A/Cs
Real A/Cs
Nominal A/Cs
Relates to the assets of the firm e.g. land, building, investment, cash etc.
Relates to expenses, losses, gains, revenue e.g. sales a/c, interest a/c etc.
Activity 3 Classify the following accounts into real account, personal account and nominal account. Furniture a/c, Rameshs a/c, Creditors a/c, Salaries a/c, Investment a/c, Commission received a/c, Discount allowed a/c
.. .. ..
11.8.3 ENTRY
An entry is the record made in the books of accounts in respect of a transaction or event. An entry can be made by following rules of Debit. And Credit
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Example 1.
Ramesh starts business with Rs. 1, 00,000 Cash A/C Dr. 1, 00,000 To Capital A/C 1, 00,000 (Increase in Cash Dr.) (Increase in Liab Cr.)
II.
Purchase furniture for Rs. 50,000 Furniture A/C Dr. 50,000 (Dr. what comes in and To cash 50,000 Cr. What goes out) Purchase goods for Rs. 10,000 for Cash and Rs. 10,000 on credit Purchases A/C Dr. 20,000 (Stock is increased) To cash Rs. 10,000 (cash is Decreased) To creditors Rs. 10,000 (liability is increased)
III.
IV.
Sale of goods for cash Rs. 10,000 Cash A/C Dr. 10,000 To sales A/C. Rs. 10,000
V.
Sale of goods to Ram on credit for Rs. 1,000 Ram A/C Dr. 1,000 (Debtors increased) To sales A/C 1,000 (stock decreased) Rs. 1,000 received from Ram Cash A/C Dr. 1,000 To Ram 1,000 Paid Rs. 5,000 as salary in Cash Salary A/C Dr. 5,000 To Cash 5,000
VI.
VII.
11.9 JOURNAL
The book in which entries are recorded is called journal. It is also called books of original entry. The Specimen Performa of a Journal is as follows: Journal Date Particulars L. F. Dr. Dr. Amount Rs. 1,000 1,000 Cr. Amount Rs.
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Check Your Progress Q.3. Journalise these transactions: 2006 January 1 January 2 January 3 January 4 January 5 X started business with Cash Salary paid in cash Bought goods for cash Sold to Krishna goods on credit Machinery purchased for cash 10,000 7,000 5,000 1,500 10,000 Rs.
11.10 LEDGER
The book, which contains accounts, is known as the ledger also called the Principal Book. Ledger provides necessary information regarding various accounts. Personal accounts in ledger show how much money firm owes to the creditors and the amount it can recover from its debtors. The real accounts show the value of properties and also the value of stock. Nominal accounts reflect the sources of income and also the amount spent on various items. The financial position of the business concern can be ascertained easily at any time with the help of ledger. (Ref.: T.S. Grewal, Double Entry Book Keeping) Posting the entries: Recording the amount involved in Entry in the related accounts is called posting the entries. This posting of entries can be illustrated through following example: Entry Furniture A/C Dr. 12,000 To Modern Furnishers A/C Rs. 12,000 The amount of Rs. 12,000 will be debited to the Furniture A/C and credited to Modern furnishers A/C in the following way
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Posting the opening entry The first entry in the journal is to record the closing balances of various assets and liabilities at the end of the previous year or the opening balance in the beginning of the New Year. It is called the opening entry. Posting The assets will all show a Dr. Balance such accounts will be opened and the relevant amounts written on the Dr. Side as To Balance brought down (To Bal b/d). Example Dr. To Bal b/d Cash A/C Cr.
The accounts of liabilities show credit balance Account for each liability will be opened and the relevant amount will be written on the credit side as By Balance brought down (By Bal b/d). Example Dr. Creditors A/C By Bal b/d Cr.
Balancing an account At the end of each month or year or any particular day, it may be necessary to ascertain the balance in an account. This is not a difficult thing to do suppose a person has bought goods worth Rs. 1,000 and has paid only Rs. 850 he owes Rs. 150 and that is the balance in his account. To ascertain the balance in any account, one has to total the two sides and ascertain the difference. If the credit side is bigger than the debit side it will be a credit balance and vice versa. The credit balance is written on the Debit side as To Balance carried down (To BAL C/D) and the debit balance is written in the credit side as By Balance carried down(by Bal c/d). After these two sides totals will be equal. The totals are written on the two sides opposite one another with one line above and two lines below like this. ---------------========== It should be noted that nominal accounts are not balanced, the balance in them are transferred to Profit and Loss A/C. Only personal and real accounts ultimately show balances (Ref.: T.S. Grewal, Double Entry Book Keeping) Example
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Journalise following transactions. Prepare Rams A/C 1.1.06 3.1.06 4.1.06 Purchased goods from Ram Purchased goods from Ram on Credit Amount paid to Ram Rs. 10,000 Rs. 12,000 Rs. 10,000
(Goods purchased from Ram on credit) 3.1.06 Purchases A/C To Ram (Goods purchased from Ram on credit) 4.1.06 Ram A/C To Cash (Cash paid to Ram) Dr. 10,000 10,000 Dr. 12,000 12,000
Rams A/C Dr. Date 4.1.06 31.1.06 Particulars To Cash /Ac To Bal C/d Amt. Rs. 10,000 12,000 22,000 ===== Date 1.1.06 3.1.06 Particular By Purchases A/C By Purchases A/c Cr. Amt. Rs. 10,000 12,000 22,000 =====
Check Your Progress Activity 4 Find out five key words used in the above discussion
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Performa of Trial Balance Trial Balance As at Name of the Ledger Accounts Debit Amount (Total or Balance) Rs. Credit Amount (Total or Balance) Rs.
==================
===============
At the end the two columns are totaled, whatever way it is prepared the totals of the two columns should agree. An agreement indicates reasonable accuracy of the accounting work, if the two sides do not agree there is definitely some error or errors.
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2. 3. 4.
But the preparation of Trial Balance is still very useful, without it the preparation of financial statement the Profit and Loss A/C and Balance sheet would be difficult. (Ref.: T.S. Grewal, Double Entry Book Keeping) Check Your Progress Activity 5 Complete the following sentences 1. A trial balance is a (Statement /Account) 2. A trial balance helps in (Locating of errors /rectifications of errors) 3. A trial balance facilitates preparation of
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(Final accounts /journal) 4. The agreement of trial balance indicates .. In the accounting work. (Total Accuracy/ Reasonable Accuracy)
11.12. SUMMARY
A business is working well or not, earning profits or incurring losses these questions can be answered by the accounts of that business. It is well said that accounting is the language of the business; therefore to read the accounts every businessman must have knowledge of basic accounting. This chapter threw light on some basic concepts of accounting. The knowledge of which will help you to understand the superstructure of accounts. Accounting starts with book keeping which means recording of business transactions. Every business transaction has two aspects. The whole superstructure of the accounting is based on this dual aspect. When both the aspects of a transaction are recorded the system followed is called as Double Entry system. First of all journal entries are made, then they are posted to ledger accounts and from the balances appearing in the ledger, Trial Balance is prepared.
11.13. GLOSSARY
Final accounts-are those accounts, which are prepared at the end of the accounting period to find out the profit or loss and the financial position of the business. Profit and Loss account An account prepared to calculate Net Profit or Net Loss of the business for an accounting period Balance Sheet Statement showing assets and liabilities of the business at a certain date
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d. Revenue
e. Expense
4. What do you mean by Trail Balance? How it can be prepared? 5. What are the main limitations of Trail Balance? 6. What do you mean by an account? What are the main types of account? 7. What are rules regarding debit and credit. 8. Journalise the following transactions and prepare relevant accounts in the ledger. (i) Balances in the beginning Cash Machinery Loan Creditors Rs. Rs. Rs. 5,000 50,000 10,000 15,000
Rs. 1, 00,000
(ii) Purchase goods on credit from X Co. Rs. (iii)Sale of goods for cash (iv) Salaries paid in Cash (v) Amount paid to X Co.
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