UNIT 4: The Accounting Cycle

Accounting Cycle

A series of steps performed during each accounting period to classify, record, and summarize data for a business.

Analyzing Business Transactions

The process of examining financial events that change the assets, liabilities, and equity of a business entity.

Journalizing

The act of recording business transactions in a journal.

Posting

Transferring information from a journal to a ledger.

Trial Balance

A list of all ledger accounts with their balances, used to test the accuracy of total debits and credits.

Journal

A chronological record of business transactions, also known as the book of original entry.

General Journal

A general-purpose journal for recording all types of entries.

Business Document

A source document that provides evidence of transactions and serves as a basis for recording business transactions.

Debit

An entry on the left side of an account, indicating an increase in asset, withdrawals, or expenses.

Credit

An entry on the right side of an account, indicating an increase in liabilities, equity, capital, or revenue.

Permanent/Real Account

An account that is carried forward to the next accounting period.

Temporary/Nominal Account

An account that is closed at the end of the accounting period.

Double Entry System

An accounting system that records effects of each transaction as debits and credits.

Normal Balance

The side of an account in the accounting equation that shows an increase.

Account Balance

The difference between the two sides of an account.

General Ledger

A permanent and classified record of all accounts of a business.

Subsidiary Ledger

Groups of similar ledgers with combined balances that equal a specific general ledger account.

Chart of Accounts

A list of accounts used by a business to record its financial transactions.

Journal Entry

The method by which transactions are recorded in the journal.

Simple Entry

A journal entry that contain one debit or credit.

Compound Entry

A journal entry that contains multiple debits or credits.

Transposition Error

An error that occurs when digits are switched in a number.

Addition Errors

Errors that result from incorrect addition of amounts.

Omission Error

Not recording a journal entry that affects the trial balance.

Error of Commission

Recording an amount in the wrong account.

Post-Closing Trial Balance

A trial balance prepared after closing entries are made.

Reversing Entries

Entries made to cancel or reverse adjusting entries.

Credit Note

A document issued by a seller to a buyer, reducing the amount owed.

Receipt

Document acknowledging that payment has been received.

Promissory Note

A written promise to pay a specified amount on a certain date.

Debit Note

A document sent by a buyer to the seller informing them of a return or price reduction.

Petty Cash Voucher

A document used to authorize petty cash fund payments.

Inventory Take Sheet

A document used for recording the count of inventory.

Sales Journal

A journal specifically for recording credit sales.

Purchases Journal

A journal used for recording credit purchases.

Cash Receipts Journal

A journal for recording all cash receipts.

Cash Payments Journal

A journal for recording all cash payments.

Sales Returns Journal

A journal for recording goods returned by customers.

Purchases Returns Journal

A journal for recording goods returned to suppliers.

Audit Trail

A chain of references that enables tracing information and locating errors.

Financial Statements

Reports that summarize the financial status and operations of a business.

Error of Omission

Failing to record a transaction in the books.

Double Recording

Recording the same transaction more than once.

Footing

The process of adding amounts in a column to find the total.

Normal Balance of Assets

Debits increase assets, and credits decrease them.

Normal Balance of Liabilities

Credits increase liabilities, and debits decrease them.

Normal Balance of Owner's Equity

Credits increase owner’s equity, and debits decrease it.

Expenses

Costs incurred by a business to generate revenue.

Revenues

Income generated from normal business operations.

Owner's Drawings

Withdrawals made by the owner from the business.

Mathematical Operations

Representatives of calculations including addition, subtraction, multiplication, and division.

Subsidiary Legers Examples

Individual accounts for Accounts Receivables, Accounts Payables, each item of Property, Plant, and Equipment, Inventory types such as Merchandise inventory, Raw materials, Work inprogress, Finished goods

Finding Trial Balance errors

1. Re-check the account balance

2. Re-add the total debit and the total credit

3. Re-check if each debit and each credit is recorded properly

Errors that cause unequal Trial Balance

• Addition errors

• Only the debit side is recorded OR only the credit side is recorded

• Double recording on the same side

• Not the same amount of debit and credit

Errors that cause equal Trial Balance

• Not recording a journal entry (error of omission)

• Double recording a journal entry

• Recording the correct amount but in a different debit account or a different credit account

• Recording the incorrect amount on the debit and credit side

Trial Balances Uses

• A proof of accuracy at face value [‘prima facie’], it checks the mathematical accuracy of debit and credit balances

• If equal, it serves a basis for preparing financial statements

• If unequal, it may be used in locating errors

Trial Balance Limitations

• Not a proof of accuracy because there are errors that will still give an equal trial balance

• If the trial balance doesn’t agree, the trial balance can’t locate the actual error

• Takes time to prepare, the financial statements can be prepared directly from the balances of the ledger accounts