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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Recording entries in ledgeraccounts
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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Recording entries in ledgeraccounts
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 Transactions
Revenue and expense accounts are a part
of Retained Income.
Retained Income
Expense Revenue
Decrease Increase
Debit
Increase
Credit
Increase
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Revenue and Expense Transactions
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.
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