Basics of Financial Accounting

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Luca Pacioli

“The Father of
Accounting”

c. 1495, Attrib to Jacopo de’ Barbari

Father of Accounting
 Luca Pacioli (Italy)
 Developed the system of Accounting
 1490’s
 Concepts still used

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Definition
 The American Institute of Public
Accountants defines accounting as
follows:
 “Accounting can be defined as the art
of recording, classifying and
summarizing in a significant manner
and in terms of money, transactions
and events which are, in part, at least
of a financial character and
interpreting the results thereof.”

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Functions of Accounting

 Recording
 Classifying
 Summarising
 Deals with financial transactions
 Analyses and interprets
 Communicates

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Accounts Record . . .

 What we own
 What we owe

 What we’ve paid

 What we’ve received

 What we are owed

 What we have been paid

Persons interested in Accounting
Disclosures

 Proprietors
 Managers
 Creditors, Bankers & other Financial
Institutions
 Prospective investors
 Government
 Employees
 Income Tax Department
 Researchers
 Citizens

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The Need for Accounting

 What he owns?
 What he owes?
 Whether he has earned a profit or
suffered a loss in running the
business?
 What is his financial position, i.e.,
whether he will be in a position to
meet all his commitments in the near
future?

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Objectives of Financial Accounting

 To keep systematic record

 To protect business properties

 To ascertain the profit or loss

 To ascertain the financial

position of the business

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Accounting Concepts
 Separate Entity Concept
In accounting, business is considered
separate entity from the proprietor.
 Going Concern Concept
In this concept it is assumed that a
business will continue for a long time
to come. There is neither the intention
nor the necessity to liquidate the
business in the foreseeable future.

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Accounting Concepts
 Money Measurement Concept
According to this concept,
accounting records only
monetary transactions. Events
and transactions which cannot
be expressed in money cannot
be recorded in the accounting
books.

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Accounting Concepts

 CostConcept
According to this concept, all
transactions are entered in
the books of accounts at the
amount actually incurred

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Accounting Concepts

 Dual Aspect Concept

This is the basic concept of
accounting. According to this
concept, every business transaction
has dual effect. One is the debit
aspect and the other is the credit
aspect.

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Accounting Concepts
 Accounting Period Concept
The accounting period concept indicates
that the profitability of a business is to be
measured periodically. This period is
called the accounting period. It normally
consists of 12 months. For Income Tax
purposes the Financial Year i.e. 1st April
to 31st March is taken as the Accounting
Year.

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Accounting Concepts
 Periodic Matching of Cost.&
Revenue Concept
 This concept is based on
accounting period concept. In
order to ascertain the profit made
by a business during a period, it is
necessary that revenues of the
period should be matched with the
costs of that period.

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Accounting Concepts
 Revenue Realisation Concept
This concept states that revenue should
be recognized the moment it accrues. It
is not necessary that the actual
payment has been realized.

 Objectivity Concept
According to this concept accounting
must be carried out on an objective and
factual basis.

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Accounting Conventions

 Convention of Conservatism
According to this convention “anticipate
no profits but provide for all losses.”

 Convention of Full Disclosure

This convention states that all significant
information should be disclosed in the
financial statements.

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Accounting Conventions
 Convention of Consistency
As per this convention accounting
practices should remain unchanged
from one period to another. This is
necessary for the purposes of
comparison.

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Accounting Conventions
 Convention of Materiality
According to this convention the
accountant should attach importance to
material details and ignore insignificant
details.

 Convention of Timeliness
To be useful to the end users the
accounting information should be
provided timely.

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Accounting Conventions
 Convention of Industry Practice
While recording and presenting
accounting information the practice
prevalent in the particular industry
should be kept in mind.

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Double-Entry Accounting

Every transaction has two parts that must balance!

Double Entry System

 There are two aspects of every

business transaction. To have a
complete record of it, both these
aspects must be recorded in the
books of accounts, i.e., there must
be one entry for recording the debit
aspect and another entry for
recording the credit aspect.

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Accounting Equation
 This recording of business transactions in
its two fold aspect has given rise to the
term “Double Entry Book-Keeping”. In
the double entry system the dual aspect
concept is completely followed while
recording transactions. The system of
double entry book-keeping can be very
well explained by the Accounting Equation
given below:
 Assets = Equities

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Assets

 Theproperties owned by a
business are called assets.
The rights to the properties
are called equities. Equities
may be the rights of the
creditors and the rights of
the owners.

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Liabilities, Equities
 The equity of the creditors
represents debts of the business
and are called liabilities. The equity
of the owners is called capital or
owner’s equity. Thus
 Assets = Liabilities + Capital
 OR
 Assets – Liabilities = Capital

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 Accounting Equation denotes
that every debit has an equal
credit.
 “For every debit there must
be an equal and opposite
credit”.

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Types of Accounts and the Rules of
Debit & Credit
 Personal Accounts
 Personal accounts are the accounts of
persons with whom the business
deals.
 The persons may be natural
persons who are the creation of
God. For eg. Mohan’s A/c, Rita’s A/c
etc.
 Artificial persons like companies,
banks, cooperative societies, clubs
etc.

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Rule for personal accounts

 Debit the receiver

 Credit the giver

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Real Accounts

 Real A/c’s are the accounts of

assets and liabilities. Assets are
the resources owned by the
business while liabilities are what
the business owes.
 Eg. Cash, Building, Furniture,
Goodwill, Bank Overdraft, Plant &
Machinery etc.

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Rule for real accounts

 Debit what comes in

 Credit what goes out

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Nominal Accounts

 Nominal A/c’s include the A/c’s of all

expenses, losses, incomes and
gains.
 Eg. Rent, Wages, Salaries, Interest
received, Insurance charges, Audit
fees, Legal charges, Telephone
expenses etc.

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Rule for real accounts

 Debit all expenses and losses

 Credit all incomes and gains

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Basic Terms
 Capital Expenditure
 Revenue Expenditure
 Capital
 Revenue
 Expense
 Purchase
 Stock

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Basic Terms
 Debtors
 Creditors
 Trade Debtors
 Trade creditors
 Bills Receivable
 Bills Payable
 Opening Stock
 Closing Stock

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Basic Terms
 Depreciation
 Purchases Returns / Return
outwards
 Sales Returns / Return Inwards

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Thank You

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