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TOPIC 6:
BOOK-KEEPING
PROCEDURES
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By the end of this chapter, you should be able to:
Explain what is meant by the accounting equation;
Understand definition of items in financial statements;
Understand the effect of business transactions on the
financial position;
Define debits and credits and explain how they are used to
record business transactions;
Identify the basic steps in the recording process;
Explain what a journal and ledger is and how it helps in
the recording process;
Prepare a trial balance and explain its purposes;
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Explain the time period assumption;
Explain why adjusting entries are needed;
Explain the major types of adjusting entries;
Prepare adjusting entries for prepayments and accruals;Understand errors and omissions and the method ofrectifying them;
Prepare correcting entries;
Prepare closing entries;
Prepare reversing entries;
Explain the difference between manual and computerizedaccounting.
By the end of this chapter, you should be able to:Continue..
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RULE IN BOOK-KEEPING
The main objective of financial accounting is toprovide
the information of financial position and financial
performance of the business.
Financial position
Balance Sheet: provides information on Assets;
Liability; and
Owners Equity.
Financial Performance
Income Statement.Provides information on the company
profitability.
(Revenue Expenses).
If PROFIT the owners equity will increase and if
LOSS will lower the owners equity.
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CLASSIFICATON OF ACCOUNTS
FIVE GROUP OF ACCOUNTS:
2) ASSETS
Resources owned by a business
Definition right or other access to future
economic benefits controlled by an entityas a result of past transactions or events
Two types of assets:Non current Assets Assets which have a
long life bought
with the intention to use in the businessand not with the intention to simplyresell them. Eg: land and building,
motor vehicle, premise, furniture etc.. Current Assets Goods for resale or items
having a short
life. Eg: bank, cash, stock, debtors etc..
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2) LIABILITY
Total of funds owed for assets supplied to abusiness or expenses incurred not yet paid.
Two types of liabilities:
Non-Current liabilities Liabilities that donot have to be
paid within twelve months of the balancesheet date.
Current Liabilities Liabilities to be paid forwithin a year of the balance sheet date.
3) OWNERS EQUITY
The total of resources invested and left in abusiness by its
owner.Increase in owners equity:
Owner increases its investment to abusiness either by
cash or by other assets.
any profits earned by the business
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Decrease in Owners Equity
Owner withdrawal cash or other assets from
the business.
Any losses sustained by the business.
4) REVENUE
The financial value of goods and services sold
to customers.Earning revenue causes owners equity to
increase.
5) EXPENSES
The value of all assets that have been used up
to obtainrevenues.
Often cited as cost of doing business
Expenses always cause a decrease in ownersequity.
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THE ACCOUNTING EQUATION or THEBALANCE SHEET EQUATION
The business can acquire assets eitherprovided by the owner or by other party(external sources) or combination ofboth.
The sum of the assets shown in balancesheet must be equal at all times to thesum of claims against those assets.
Therefore, accounting equation usually
shown the relationship between assets,liabilities, and owners equity of abusiness at a certain date.
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Example of simple accounting equations:
a) ASSETS = OWNERSEQUITY(Resources in the business) = (Resourcessupplied by the owner)
b) ASSETS = OWNERS EQUITY +LIABILITIES= (Resources supplied by the
owner & other party)
c) ASSETS = LIABILITIES
= (Resources supplied byother party)
Advanced Accounting Equation:
ASSETS = LIABILITY + OWNERS E UITY +
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THE EFFECT OF TRANSACTION TOWARDS THEACCOUNTING EQUATION
Paid Aseana RM125022
Jan
Paid rent RM890, wages RM4500 and utilityexpenses RM450 on cash
18Jan
Services being performed to Ali Trading; receivedRM250 in cash and RM1500 on credit.
15Jan
Paid advertising expense amounted RM75010Jan
Received cash for services rendered amountedRM2250
8 Jan
Bought an office supplies amounted RM3250 oncredit from Aseana4 Jan
Bought business furniture in cash at cost RM65003 Jan
Winnie started business with RM15,000 cash1 Jan
TransactionsDate
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Analyzed Accounting Equation
-Assets,Cash increased RM250, & Debtor increased 1500 &revenue increased RM1750
- F (6500) + C (10250) + OS(3250) + D(1500) =OE(15000)+OC(3250)+R(4000)
- Adv(750) +
15Jan
-Cash decreased RM750 & Expense (advertising) increasedRM750
-F (6500) + C (10000) + OS(3250) = OE(15000) +OC(3250) +R(2250)
- Adv(750)
10Jan
-Asset (Cash) increased RM2250 & Revenue increased RM2250
-F (6500) + C (10750) + OS(3250) = OE(15000) + OC(3250)+R(2250)
8 Jan
-Asset (office supplies) increased RM3250 & liability (othercreditor Aseana) increased RM3250)
-F (6500) + C (8500) + OS(3250) = OE(15000) + OC(3250)
4 Jan
-Asset (furniture) increased RM6500 & cash decreased RM6500
-Furniture (RM6500) + Cash (RM8500) = OE (RM15000)
3 Jan
- Asset (cash) increased RM15000 & Owner Equity increasedRM15000
- Cash(RM15000) = OE (RM15000)
1 Jan
Effect on Accounting EquationDate
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-Asset (cash) decreased RM1250 & Liability (othercreditor Aseana) decreased RM1250.
- F (6500) + C (3160) + OS(3250) + D(1500) =
OE(15000)+OC(2000)+R(4000)
-[ Adv(750) +rent(890)
+wages(4500)+utility(450)]
22Jan
-Asset (cash) decreased RM5840 & Expenses increased(rent)RM890, (wages)RM4500& (utility) RM450
- F (6500) + C (4410) + OS(3250) + D(1500) =OE(15000)+OC(3250)+R(4000)
-[ Adv(750) +
rent(890)+wages(4500)+utility(450)]
18Jan
Effect on Accounting EquationD
ate
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DOUBLE ENTRY SYSTEM
The financial transaction has two effectson the financial position of the business.
This means that each transaction mustbe recorded twice in the books ofaccounts i.e. DEBIT and CREDIT.
Thus, for any transaction, the amount ofdebit must be EQUAL with the amount of
credit. Examples;
If transaction reduces an asset it mustalso:
Increase another asset,orDecrease a liability, or
Decrease owners equityAn item that increases/decrease Assets
must be debit/credit;An item that increase/decrease Liabilit
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BOOK-KEEPING RULES
Debit and Credit Procedures
DebitCreditRevenue
CreditDebitExpenses
Credit
Credit
Debit
Increase
DebitOwners Equity
DebitLiability
CreditAssets
DecreaseType of Accounts
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DEBITS AND CREDITS
The term DEBIT AND CREDIT mean left andright
Cash A/c
DEBIT CREDIT
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Use the same examples in accounting equation butchange to double entry system.
Date Transactions
1 Jan Winnie started business with RM15,000 cash
3 Jan Bought business furniture in cash at cost
RM65004 Jan Bought an office supplies amounted RM3250 on
credit from Aseana
8 Jan Received cash for services rendered amountedRM2250
10 JanPaid advertising expense amounted RM75015 Jan Services being performed to Ali Trading;
received RM250 in cash and RM1500 on credit.
18 JanPaid rent RM890, wages RM4500 and utilityexpenses RM450 on cash
22 JanPaid Aseana RM1250
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6.2 STEPS IN ACCOUNTING CYCLE
ANALYSED DATA
IDENTIFY TRANSCTION (SOURCE OF DOCUMENTS)
PREPARE JOURNAL ENTRY
POSTING TO LEDGER
PREPARE ADJUSMENT ENTRY
BALANCE UP ALL ACCOUNTS
TRIALBALANCE AFTER ADJUSMENT
PREPARE FINANCIAL STATEMENT
CLOSING ENTRY
POSTING TO LEDGER
REVERSING ENTRY
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STEPS IN ACCOUNTING CYCLE (IN DETAIL)
1. ANALYSED DATA
Accounting data that is related to the businesstransaction only will be taken intoconsideration in recording process.
2. SOURCE OF DOCUMENT
Any kind of document that are prepared forevery business transaction.
Eg: invoices, cheque butt,debit notes andcredit notes etc..
Purpose:
the document are prepared as a writtenevidence for each transaction.
to be used by an accountant to support theentry made in the accounting record.
3. JOURNAL
Transaction are initially recorded inchronological order in a journal before being
transferred to the account. (BOOK OFORIGINAL ENTRY
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Purpose:
Disclose one place the complete effect oftransaction
Provide chronological record of transactions
Helps to prevent or locate errors.
Types of journal:
Special Journal make an entry on thefrequently basis and
from the same category. Eg; credit sales andcredit purchase.
General Journal entry that are not in thespecial journal
category.
Example:Ray invested RM10,000 cash in thebusiness on 1 Jun
2000.
General JournalJ1 (Owner contribute cash
capital into a business
10,000Capital
10,000Cash1 Jun
CreditDebitRefDescriptionDate
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4. LEDGER
the entire group of account maintained by acompany is referred to collectively as aledger.
Purpose:
to ensure the entire recording process aredistribute among workers
to ensure the reference and controlling canbe done easily.
to increase efficiency in recording process.format of Account Ledger:
Cash A/c No2
OR
Cash A/c
DEBIT CREDIT
BalanceCreditDebitRefExplanation
Date
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Types of Ledger:
General Leger
is a group of account that will be presented
in the financialstatement, such as account asset, liability and
capital.
also included in the general ledger areDEBTORS or
CREDITORS CONTROL account. The controlaccount will
control subsidiary ledger of each debtors orcreditors.
Subsidiary Ledger
is a detail ledger for a account such asdebtors and creditors.
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Posting procedures.
Ray contributed RM10,000 cash in the business on 1 Jun1999.
General Journal J1
General Ledger
10000
Debit
(Owner contribute cash capital in abusiness)
1000022Capital
2Cash1 Jun
CreditRefDescriptionDate
1000010000J1Capital1 Jun
Balance
CreditDebitRefExplanation
Date
CashNo 2
Balance
CreditDebitRefExplanation
Date
10,00010,000J1Cash1 Jun
CapitalNo22
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5. TRIAL BALANCE
Trial balance is a list of account and theirbalances at their given time.
Purpose:to prove the mathematical equality of debit and
credit.
the trial balance also discovers errors injournalizing and
postinguseful in preparing financial statement
Format in preparing Trial Balance
Listing the account titles and balances at theend of the
accounting period. How to know whetherthe accounts
have DEBIT or CREDIT BALANCE?? If totaldebits
exceed total credit, the account has a debit
balance andvice versa.
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Eg:
XYZ Company
Trial Balance as at 30 Jun 2000Debit Credit
Capital 15,000
Cash 15000
15000 15000
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6. Adjustment Entry and Correcting Errors:
Why we need to make adjustments to the
financial statement? Reason: there is a timing differences andrecognizing revenue
and expenses.
Accounting period vs Fiscal year
Fiscal year (one year period)
- usually begins with the first day of the monthand ends 12
month later.
Accounting period- accounting period usually coincides with
calendar year
(1 January until 31 December)
- eg; If the company chooses to prepare their
financial statement
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Recognizing Revenue and Expenses
In order for revenue to be recorded in theperiod in which they are
earned and for expenses to be recognized in theperiod in which
they are incurred, adjusting entry entry arerequired.
Matching between revenue and expenses thatare earned and
charge. (MATCHING CONCEPT)
Example: Rent expense: RM1200 per year
1 Jan 31 Dec
1 Jun Accounting Period 31 May
Types of Adjusting entry:
Depreciation
Bad debt/Allowance for doubtful debt
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7. CLOSING ENTRIES
Closing entries formally recognize in theledger to transfer of
net income or net loss and owners drawingto owners capital.
These entries will produce a zero balance ineach temporary
account. Data can be accumulating to separate data in
the next
accounting period from data prior period.
Types of account need to be closed
- ALL TEMPORARYaccounts like all REVENUEaccounts, all EXPENSES accounts and OWNERSDRAWING.
ALL PERMANENT accounts no need to be
closed like all
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Example:
- The expenses below show a balance on 31 Dec2000
Rent RM300 and Salaries RM1200. Closed allthe accounts
1200Salaries
300Rent
1,500IncomeStatement
31 Dec2000
CtDtDescriptionDate
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8. REVERSING ENTRIES
is an entry prepared for the beginning of thenext accounting
period. The entries are taking from theadjustment entries
from accounting period.
Purpose:
to simplified and summarized the entries for
preparation thenew entries for the new accounting period.
XYZ Enterprise paid their workers salariesevery 2 weeks.
On the 31 December 2001, there are unpaidsalaries
amounted RM6000.
Normal Entries:
31 Dec Dt Salary expense6,000
Cr Unpaid Salary 6,000 Reversing Entries:
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9. CORRECTING ERRORS:a.Errors no affecting trial balance
complete omission of transactions
reversal entry (entry suppose to debit arecredit instead)
an error of commission (debit in the wrongaccount but
with the right type)
error of principle (entry made entirely wrongtype of
account)
error at the book of prime entry
a pair of compensating error
b.Errors affecting trial balance
error of single entry
error of amount entered into the books
calculating the balance in the ledgerincorrectly
entirely omitting a balance from trial
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Example:
A trial balance extracted from the books of abusiness on 31 December 2001 showed a totaldebit balances equal to total credit balances.However, the following errors were subsequentlydiscovered:
a) RM purchase invoice from G Smith had beencredited to J
Smiths account in the purchase ledgerb) A cheque for wages of RM250 had beenentirely omitted from
the books of account.
c) A RM378 sales invoice relating to P Charles
had been recordedas RM738 in the sales daybook.
d) The RM8500 cost new motor vehicle had beendebited to motor
expenses
e) A RM30 discount allowed to V Baker had beend bi d