Record business transactions using the double-entry system.
State and apply the accounting equation for each business transaction.
Define journals and ledgers; produce proper accounting records through journal entries and post them to the appropriate ledgers.
Prepare the trial balance and basic components of the financial statements.
Prepare a complete set of financial statements using actual data gathered from a sole proprietorship business in their local area.
The Role of Accounting Records
Establishes accountability for assets and transactions.
Keeps track of routine business activities.
Obtains detailed information about a particular transaction.
Evaluates efficiency and performance within the company.
Maintains evidence of a company’s business activities.
Accounting Process
All business transactions need to be recorded.
A journal entry is the first exercise in recording transactions, which are then posted to the ledger.
A journal is referred to as a "book" whereas a ledger is called an "account."
From the balances of different accounts, a trial balance is prepared, which acts as a source for final accounts.
Accounting Cycle
Journalize transactions.
Post entries to the ledger accounts.
Prepare a trial balance.
Make end-of-year adjustments.
Prepare an adjusted trial balance.
Prepare financial statements.
Prepare after-closing trial balance.
Journalize and post closing entries.
Cash and Credit Transactions
A cash transaction is when goods or services are paid for in cash or by cheque when they are received or delivered.
A credit transaction is when payment is made or received some time after delivery, typically in one installment after a few weeks.
Trade and Cash Discount
Trade discount: A discount given by one trader to another, deducted on the invoice, indicating the amount the buyer is charged for the goods.
Cash discount: A reduction in the amount the customer has to pay, provided payment is made within a given period stipulated by the seller at the time of sale (e.g., 5% if paid within 30 days).
Documents for Credit Transactions
Invoice: Its main purpose is to inform the buyer how much is owed to the seller for the goods supplied. It is not a demand for payment.
Debit note: Essentially an additional invoice to rectify any undercharge on the original invoice. Its main purpose is to inform the buyer of an additional amount owed to the seller for the goods supplied.
Credit note: Its main purpose is to inform the buyer of a reduction in the amount that is owed to the seller as a result of goods being returned or an overcharge on the original invoice.
Documents Used to Record Transactions
Cash transactions:
Cash receipts and payments - receipts given and received, respectively.
Cheques received and paid - bank paying-in book stubs and cheque book stubs, respectively.
Credit transactions:
Invoices, credit notes, and debit notes at the time the goods are received, sent, or returned.
The same as for cash transactions when payment is made or received.
Books of Prime Entry
Before a transaction is recorded in the ledger, it must first be entered in a book of prime entry.
These facilitate the posting of the ledger in that transactions of the same type are entered in the same book of prime entry, which is periodically posted to the ledger in total rather than one transaction at a time.
Definitions
An account is an individual accounting record, which shows the changes in specific assets, liabilities, and owner’s equity.
Assets are resources owned by the business.
Liabilities are obligations or existing debts, which have to be settled by the business.
Total assets minus total liabilities are equal to owner’s equity.
Transactions are entered in a journal, then posted to a ledger which will be used to prepare financial statements.
Example including Cash and Contributed Capital
The Journal
A journal is a record of each day’s transactions.
The process is called journalizing.
In chronological order
Also known as a book of first entry or a book of original entry
Elements of a simplified journal entry format:
The source of the transaction is referenced using a number or letter.
Debits are written first, and credits are written below the debits. The account names and amounts to be credited are indented to the right.
Total debits equal total credits.
The Ledger
A ledger is a collection of records (a group of accounts) that summarize the effects of transactions entered in the journal.
The T-Account
The T-account is a simplified version of a ledger.
T-Accounts: Separating Increases and Decreases
Each item on the balance sheet has its own T-account.
The increase symbol + appears on the left side of the T-account for accounts on the left side of the accounting equation and on the right side of the T-account for accounts on the right side of the equation.
The same balancing logic applies to decreases, which are on the side of the T-account closest to the equals sign.
Accounting Equation:
Assets = Liabilities + Owners' Equity
Assets:
Increases on the Debit (Left) side (+)
Decreases on the Credit (Right) side (-)
Liabilities:
Decreases on the Debit (Left) side (-)
Increases on the Credit (Right) side (+)
Owner's Equity:
Decreases on the Debit (Left) side (-)
Increases on the Credit (Right) side (+)
Double Entry Accounting - Equality of Debits and Credits
Debit = Left
Credit = Right
Asset accounts increase on the left or debit side and decrease on the right or credit side.
Liability accounts increase on the right or credit side and decrease on the left or debit side.
Owners’ equity accounts increase on the right or credit side and decrease on the left or debit side.
In every transaction, the total dollar value of all debits equals the total dollar value of all credits.
Debits and Credits - Expanded View
Revenues (and Gains):
Decrease on the Debit (Left) side
Increase on the Credit (Right) side
Expenses (and Losses):
Increase on the Debit (Left) side
Decrease on the Credit (Right) side
Contributed Capital:
Decrease on the Debit (Left) side
Increase on the Credit (Right) side
Retained Earnings:
Decrease on the Debit (Left) side
Increase on the Credit (Right) side
Double-Entry System
Each transaction recorded will have a dual (two-sided) effect, which are debit and credit.
Recording each transaction will involve two accounts or two sides of the same account (one debit entry and one credit entry).
Debit means receipt or received value.
Credit means given or given value.
In terms of presentation in the T-account, debit refers to the entry on the left side of the account, and credit refers to the entry on the right side of the account.
Rules of Debit and Credit
Item/Account
Debit
Credit
Assets
Increase
Decrease
Liabilities
Decrease
Increase
Capital
Decrease
Increase
Drawings
Increase
Decrease
Revenues
Decrease
Increase
Expenses
Increase
Decrease
Example Transactions: JJ’s Lawn Care Service
May 1: Jill Jones and her family invested 8,000 in JJ’s Lawn Care Service and received 800 shares of stock.
Cash increases 8,000 (Debit)
Capital increases 8,000 (Credit)
May 2: JJ’s purchased a riding lawn mower for 2,500 cash.
Cash decreases 2,500 (Credit)
Tools & Equipment increases 2,500 (Debit)
May 8: JJ’s purchased a 15,000 truck, paying 2,000 in cash and issuing a note payable for the remaining 13,000.
Truck increases 15,000 (Debit)
Cash decreases 2,000 (Credit)
Notes Payable increases 13,000 (Credit)
May 11: JJ’s purchased some repair parts for 300 on account.
Tools & Equipment increase 300 (Debit)
Accounts Payable increase 300 (Credit)
May 18: JJ’s sold half of the repair parts to ABC Lawns for 150, a price equal to JJ’s cost. ABC Lawns agrees to pay JJ’s within 30 days.
Tools & Equipment decrease 150 (Credit)
Accounts Receivable increases 150 (Debit)
May 29: JJ’s provided lawn care services for a client and received 750 in cash.
Cash increases 750 (Debit)
Sales Revenue increases 750 (Credit)
May 31: JJ’s purchased gasoline for the lawn mower and the truck for 50 cash.
Cash decreases 50 (Credit)
Gasoline Expense increases 50 (Debit)
May 31: JJ’s Lawn Care paid Jill Jones and her family a 200 dividend.
Cash decreases 200 (Credit)
Dividends increase 200 (Debit)
Posting Journal Entries to Ledger Accounts
Cash and Capital accounts are updated to reflect transactions.
Ledger format with a running balance is used.
T-accounts are simplified versions of the ledger account.
T-Account Balances
To compute the balance in T-accounts, draw a single line through each T-account below the amounts you wish to total.
Calculate the ending balance by converting each T-account into equation form.
Each account in the ledger is divided into two halves: the debit side (left) and the credit side (right).
The money value of every transaction is recorded once on each side of the ledger in different accounts.
This system provides a means of ascertaining the total amount of each type of income and expenditure, and the value of assets and liabilities at any point in time.
When the total amount on the debit side of an account is greater than that on the credit side, the account has a debit balance. When the reverse is the case, the account has a credit balance.
An account with a debit balance represents either an asset, an expense, or a loss. An account with a credit balance represents capital, a liability, income, or a gain.