Study Guide in Introductory Accounting for Service Business

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Study Guide in

Introductory

Accounting for

Service Business

Benedick ManalaysayAccountancy Department

De La Salle University Manila

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TABLE OF CONTENTS

Lesson

Number

Topic Starting Page

1 Introduction to Accounting 3

2 Transaction Analysis 12

3 General Journal, General Ledger, Trial Balance 22

4 Financial Statements 29

5 Statement of Cash Flows 36

6 Correcting Entries 38

7 Payroll Accounting 40

8 Accounting for Promissory Notes 43

9 Accrued Income 52

10 Accrued Expense 55

11 Prepaid Expense 58

12 Unearned Income 62

13 Depreciation 66

14 Doubtful Accounts 71

15 Closing Entries, Post-Closing Trial Balance 76

16 Reversing Entries 82



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LESSON 1

INTRODUCTION TO ACCOUNTING

Study ObjectivesAfter studying this lesson, you should be able to:

Achievement of Objective

(Put a Check mark)

1 Learn the history of accounting

2 Define accounting

3 Know the difference between bookkeeping andaccounting

4 Know the branches of accounting

5 Distinguish the forms of business organizations

according to ownership and according to activity

6 Know the role of Certified Public Accountant in thesociety

7 Know the functions of different government agencies andprofessional bodies relevant to the accounting profession

8 Know the purposes of the business documents

9 Define financial statements and its components, generally

accepted accounting principles (GAAP), Financial

Reporting Standards Council (FRSC), and users of the

financial statements

10 Explain the different basic accounting concepts or

assumptions

11 Know other terms related to basic accounting



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Objective 1

History of Accounting

Accounting has a long history. Some scholars claim that writing arose in order to record

information. Account records date back to the ancient civilizations of China, Babylonia, Greece

and Egypt. The rulers of these civilizations used accounting to keep track of the cost of labor and

materials used in building structures like the great pyramids. (Source: Horngren, Harrison andRobinson, 1995)

Accounting developed as a result of the information needs of merchants in the city-states of Italy

during the 1400s. In that commercial climate a monk, Luca Pacioli, a mathematician and friend of

Leonardo da Vinci, published the first known description of double-entry bookkeeping entitledSumma de Arithmetica, Geometria, Proportioni et Proportionalite, which meansEverything about

Arithmetic, Geometry, and Proportion published in Venice in November 1494. This book

contained primarily principles of mathematics and incidentally a set of accounting procedures.

The pace of accounting development increased during the Industrial Revolution as the economies

of developed countries began to mass-produce goods. Until that time, merchandise was priced

based on managers hunches about cost but increased competition required merchants to adoptmore sophisticated accounting system.

In the nineteenth century, the growth of corporations especially those in the railroad and steelindustries, spurred the developed of accounting. Corporate owners were no longer necessarily the

managers of their business. Managers had to create accounting systems to report to the owners

how well their businesses were doing.

Government played a role in leading more development in the field of accounting when it started

using the income tax. Accounting supplied the concept of income. Also, government at all levels

has assumed expanded roles in health, education, labor and economic planning. To ensure that theinformation that it uses to make decisions is reliable, the government has required strict

accountability in the business community.

At the beginning of the third millennium, there would still be significant developments in thefield of accounting. The great challenge of globalization and the effects of new technologies (e.g.

super computers, robotics, inter and intra-net, etc.) pose a shift in the structure and pattern in this

field. More and better accounting information are now being required and therefore, accounting,being the means used in communicating business and financial information, must also evolve into

a more efficient level.

Reference: Workbook in Introductory Accounting for Service Business

Accounting as Language of Business

The primary objectives of the business are:

1. To generate profits2. To properly manage limited and scarce resources

With these objectives, a business must prepare financial reports and interpret these reports as anaid in decision-making. In making decisions, accounting is used as a tool for communication.



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Objective 2

Definition of Accounting1. Accounting is a service activity.

a. Its function is to provide quantitative information, primarily financial in nature,about economic entities that is intended to be useful in making economic

decisions.

2. Accounting is the process of identifying, measuring and communicating economicinformation to permit informed judgments and decisions by users of the information.

a. Identifying this accounting process is the recognition or nonrecognition ofbusiness activities as accountable events (Valix, 2005). There are 3 types of

transactions:

i. Business transaction 1. transactions which are recorded in the financial books. Example

is investment of the owner.

ii. Personal transaction 1. transactions which are not recorded in the financial books.

Example is purchase of house and lot of a business owner using

his personal money.

iii. Neither business nor personal transaction 1. Business events that are not recorded in the financial books.

Examples are hiring of employees, death of the owner, entering

into a contract etc.

b. Measuring this accounting process is the assigning of Peso amounts to theaccountable economic transactions and events (Valix, 2005)

c. Communicating is the process of preparing financial statements andinterpreting the results thereof

3. Accounting is the art of recording, classifying and summarizing in a significant mannerand in terms of money, transactions and events which are, in part at least, of a financial

character, and interpreting the results thereof.

4. Accounting is an information system that measures, processes, and communicatesfinancial information about an identifiable economic entity.

Objective 3

Difference between Bookkeeping and Accounting

Bookkeeping Accounting

Recording of transactions Preparing financial reports

Recording of transactions Preparing financial reports Analyzing financial reports Decision-making



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Objective 4

Branches of Accounting

1. Financial Accounting is primarily concerned with the recording of business transactionsand the eventual preparation of financial statements (Valix, 2005).

2. Cost Accounting is primarily concerned with proper accumulation of costs such asmaterials, labor and overhead, proper costing of inventories and study of different costing

methods.

3. Management Accounting is the preparation of financial reports and managementresearch intended for management use and interpretation of these reports and researches.

Examples of financial reports are Sales reports, Cost of Production reports, Budgets etc.

Example of management research is evaluation of a business process and managementconsulting.

4. Taxation deals with the study of provisions of the law with regard to Philippine taxationsystem and proper computation of taxes such as income tax, value-added tax, withholding

tax and other taxes.

5. Auditing basically deals with the examination of the financial statements by anindependent party (auditor) to ascertain whether such financial statements are in

conformity with Philippine Accounting Standards.

Objective 5

Forms of Business Organizations

1. According to ownershipa. Sole-proprietorship owned by only one person called sole-proprietorb. Partnership owned by 2 or more persons called partnersc. Corporation owned by 5 or more persons called shareholders

2. According to activitya. Service renders services to the public such accounting firms, law firms,

consulting firms, SPA, medical clinics, dental clinics, schools etc

b. Merchandising buys and sells merchandise to the publicc. Manufacturing buys raw materials and converts them into finished goods to be

sold to the public

Objective 6

Certified Public Accountant (CPA)- is an accounting professional doing accounting, audit, tax, management consulting,

education and research work.

- Types of Accountantso Private Accountant / Management Accountant

is an accounting professional employed in a private company ororganization



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o Public Accountant / Auditor is an accounting professional independent from the private organizations

and is usually employed in an auditing firm

o Government Accountant is an accounting professional employed in a government agency

o Accounting Educator and Researcher is an accounting professional employed in a university, college or

research organization

Objective 7

Government Agencies and Professional Bodies

1. Bureau of Internal Revenue (BIR) agency in charge of proper collection of taxes fromthe public

2. Securities and Exchange Commission (SEC) agency in charge of accumulating auditedfinancial statements of organizations, regulating companies issuing securities such as

stocks and bonds to the public, and monitoring companies in the insurance industry. Thisagency also facilitates the registration of partnerships and corporations.

3. Bangko Sentral ng Pilipinas (BSP) / Central Bank of the Philippines agency in chargeof regulating Philippine bank operations, setting Philippine monetary policies etc.

4. Philippine Stock Exchange (PSE) agency in charge of monitoring securitiestransactions of companies listed in the stock exchange.

5. Department of Trade and Industry (DTI) agency in charge of facilitating registration ofsole-proprietorship businesses and regulating consumer commodity transactions.

6. Commission on Audit (COA) agency in charge of auditing government-relatedtransactions7. Board of Accountancy (BOA) - is an accounting body in charge of administering

licensure examination for accountants

8. Professional Regulation Commission (PRC) - government agency in charge of issuinglicenses to successful examinees in board exams

9. Philippine Instititute of Certified Public Accountants (PICPA) - Professional organizationof accountants in the Philippines

10.City Hall and Baranggay these political subdivisions issues business permits andcollects business taxes.



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Objective 8

Business Documents

1. Purchase Order shows items to be ordered by the business2. Delivery Receipt shows items to be delivered in the business3. Sales Invoice shows items that were sold to the business4. Statement of Account shows the summary of sales invoices5. Cash Voucher shows the liability of the business to be paid in the future6. Official Receipt shows the amount received by the business

Objective 9

Financial Statements- Shows the results of the recording of the business transactions and are expressed in terms

of assets, liabilities, equity, income and expenses.

- Six (6) Componentso Balance Sheet / Statement of Financial Position

Presents the financial condition of the business through its assets,liabilities and capital / owners equity

o Income Statement Presents the financial performance of the business through its income

and expenses

o Statement of Changes in Owners Equity Presents the changes in capital such as additional investments,

withdrawals, net income and/or net loss

o Statement of Cash Flows Presents the cash inflows and outflows of the business through its

operating, investing and financing activitieso Statement of Comprehensive Income

Presents gains and losses that were not presented in the Incomestatement. Examples are Unrealized gain on sale of trading securities,Foreign exchange gain on translation etc.

o Notes to the Financial Statements Presents the details of the line items in the Balance Sheet and Income

Statement

Generally Accepted Accounting Principles (GAAP)- Refers to rules, procedures, practice and standards followed in the preparation and

presentation of financial statements (Valix, 2005).

Financial Reporting and Standards Council (FRSC)

- The council establishes and improves accounting standards that will be generallyaccepted in the Philippines (Valix, 2005)



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Users of the Financial Statements

Internal Users External Users

1. Management2. Employees 1. Investors2. Creditors / Lenders

3. Suppliers / Vendors4. Government5. Public

Objective 10

Basic Accounting Concepts / Assumptions

1. Entitya. Under this concept, the business enterprise is viewed as separate from the

owners, managers, and employees of the business (Valix, 2005)

2. Time perioda. This concept requires that the indefinite life of an enterprise is subdivided into

time periods which are usually of equal length (Valix, 2005)

b. Calendar year is a 12-month period that ends on December 31, otherwise it iscalled Natural business year or Fiscal year (Valix, 2005)

3. Monetary unita. This concept assumes that financial transactions be measured in terms of money

or currency of the Philippines

4. Costa. This concept requires that assets should be recorded initially at original

acquisition cost (Valix, 2005)

5. Adequate disclosurea. This concept requires that all significant and relevant information leading to the

preparation of financial statements should be clearly reported (Valix, 2005)

6. Materialitya. This concept relates to the significance of an item to the overall presentation of

the financial statements. Information is material if its omission could influence

the economic decision of the users of the financial statements (Valix, 2005)

7. Accruala. This concept requires the income earned must be recognized in the financial

statements whether cash is received or not.b. This concept also requires the expenses incurred must be recognized in the

financial statements whether cash is paid or not.

c. Because of this concept, organizations are preparing adjusting journal entries torecognize accrued income and accrued expenses.

d. Accrued income refers to income earned but not yet received.e. Accrued expense refers to expense incurred but not yet paid.



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8. Consistencya. This concept requires that the accounting methods and practices should be

applied on a uniform basis from one time period to another (Valix, 2005).

9. Comparabilitya. There are 2 kinds of comparability: Comparability within an enterprise and

Comparability between enterprises (Valix, 2005)b. Comparability within an enterprise is the quality of information that allows

comparisons within a single enterprise from one time period to the next (Valix,2005)

c. Comparability between enterprises is the quality of information that allowscomparisons between two or more enterprises engaged in the same industry(Valix, 2005)

10.Going Concerna. This concept assumes that business will operate indefinitely and there is no

intention of liquidating or closing down the business

11.Revenue recognitiona. Same as accrued income concept

12.Expense recognitiona. Same as accrued expense concept

13.Matchinga. This concept requires that costs and expenses incurred in earning a revenue

should be reported in the same period when the revenue or income is earned

(Valix, 2005)

14.Conservatisma. Under this concept, when alternatives exist, the alternative which has the leasteffect on net income or owners equity should be chosen (Valix, 2005)b. Conservatism is synonymous with Prudence. Prudence is the desire to exercise

care and caution when dealing with the uncertainties in the measurement process

such as assets or income are not overstated and liabilities or expenses are not

understated (Valix, 2005)

15.Objectivitya. This concept requires that financial transactions that were recorded be supported

by business documents

Objective 11Other Terms

Liquidity Solvency

- Refers to the ability of the organizationto pay its short-term (current)

obligations

- Refers to the ability of the organizationto pay its long-term (noncurrent)

obligations

Stock Certificate evidence certifying the ownership of shares of stock of a shareholder



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Further Readings

Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th edition. New Jersey:

John Wiley and Sons, Inc. pages 2 11, 21, 25, 29 31, 92 94

Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd

edition. Manila: GIC Enterprises &

Co., Inc.

Valencia, E., and Roxas, G. (2009). Basic Accounting, 3rd edition. Baguio City: ValenciaEducational Supply.

Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accounting Vol.1. Manila: GIC Enterprises & Co., Inc.

Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2007). Principles

of Financial Accounting. John Wiley and Sons Australia, Ltd.



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LESSON 2

TRANSACTION ANALYSIS



(Put a Check mark)

1 Define the accounting equation and know the effects ofthe financial transactions on the accounting equation

2 Familiarize with the types of accounts for assets,

liabilities, capital, income and expenses

Objective 1

The Accounting Equation

Assets = Liabilities + Capital

The equation states that business assets are financed by two parties. They are the creditors or

vendors (liabilities) and the owner (capital).

Income will increase assets as well as capital and expenses will decrease assets as well as capital.

Business transactions will have an effect on the accounting equation. The following are the basic

financial transactions and the effects on the accounting equation.

Transaction ASSETS LIABILITIES CAPITAL

Investment of the owner Investment

Withdrawal of the owner Withdrawal

Borrowed money by

issuing a promissory note

Payment of the principaland interest of the

promissory note

Interestexpense



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Purchase of short-term

investment for cash

Sale of short-term

investment at a gain

Gain on sale

of investment

in tradingsecurities

Sale of short-term

investment at a loss

Loss on sale

of investment

in tradingsecurities

Cash advance to anemployee

Purchase of supplies for

cash

Purchase of supplies on

account

Purchase of a fixed asset

for cash

Purchase of a fixed asset onaccount

Partial / Full payment of

accounts payable

Sale of a fixed asset at a

gain

Gain on sale

of equipment

Sale of a fixed asset at aloss

Loss on saleof equipment

Rendered services for cash ServiceIncome

Rendered services on

account

Service

Income



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Partial / Full collection of

accounts receivable

Received cash for

commission income

Commission

Income

Payment of expenses forcash

Expense

Objective 2

Types of Accounts

CATEGORY DEFINITION ACCOUNT TITLE DEFINITION /

EXAMPLES

ASSETS

CASH This includes bills

and coins, bankcheck, bank

accounts.

PETTY CASH FUND Cash used to pay

petty or smallamount of

expenses.

CASH ON HAND Cash in the

possession and

custody of the

business.

CASH IN BANK Self-explanatory

INVESTMENT IN

TRADING

SECURITIES

This refers to short-

term, highly liquid

investment insecurities such as

stocks and bonds.

TRADE AND OTHERECEIVABLES

These refer toamounts collectible

from a person or a

company

ACCOUNTSRECEIVABLE

Amount collectiblefrom clients or

customers for

services rendered orsale of goods



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ALLOWANCE FOR

DOUBTFULACCOUNTS

Is a Contra-asset

account thatrepresents provision

for estimated

doubtful accounts

NOTES RECEIVABLE Same withAccounts

Receivable but isevidenced by a

promissory note

INTERESTRECEIVABLE

Amount collectiblein a loan transaction

COMMISSION

RECEIVABLE

RENT RECEIVABLE

ADVANCES TO

EMPLOYEES

Cash advance given

to employees

PREPAID EXPENSES These refer to

expenses that are

paid in advance

PREPAID RENT

PREPAID

INSURANCE

PREPAIDADVERTISING

PREPAIDSUBSCRIPTIONS

OFFICE SUPPLIES

STORE SUPPLIES

PROPERTY, PLANT

AND EQUIPMENT

These refer to items

that are useful formore than 1 year

LAND

OFFICE EQUIPMENT Computer, Fax

machine

STORE EQUIPMENT Cash register

machine



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TRANSPORTATION

EQUIPMENT

Delivery Van,

Motorcycle, Cars,Trucks

FURNITURE AND

FIXTURES

Cabinets, Tables,

Chairs

MACHINERY

BUILDING Office building,Factory plant

ACCUMULATEDDEPRECIATION

Is a Contra-assetaccount that

represents

cumulative

depreciation fordepreciable fixed

assets

LIABILITIES

TRADE AND OTHER

PAYABLES

These refer to

amounts payable to

a person or a

company

ACCOUNTS

PAYABLE

Amount payable to

supplier, creditor or

vendor for money,

supplies, goods orproperty loaned

NOTES PAYABLE Same withAccounts Payable

but is evidenced by

a promissory note

DISCOUNT ON

NOTES PAYABLE

Is a Contra-liability

account that

representsunamortized

interest on the

promissory note

INTEREST PAYABLE Amount payable ina loan transaction

TAXES ANDLICENSES PAYABLE

Unpaid taxes andlicenses to be

remitted / paid to

the government



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UTILITIES PAYABLE Unpaid

communication,light and water bills

SALARIES AND

WAGES PAYABLE

Unpaid salaries and

wages of the

employees

UNEARNED INCOME This refers to cash

received in advancebut not yet earned

UNEARNED RENT

UNEARNED

ADVERTISING

UNEARNED

SUBSCRIPTIONS

UNEARNEDCOMMISSION

MORTGAGEPAYABLE

This refers to bankloan with assets

such as house and

lot or vehicle ascollaterals

BONDS PAYABLE This refers to loanthat is evidenced by

a bond certificate

or indenture

CAPITAL / OWNERS EQUITY

OWNER, CAPITAL This refer to claim

or interest of the

owner

OWNER, DRAWING This refer to

temporarywithdrawal of the

owner of cash,

supplies, goods or



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property

INCOME

SERVICE INCOME Income derivedfrom rendering of

services

Primary income for

service business

OTHER INCOME Secondary incomefor service business

INTEREST INCOME Income from loantransactions

DIVIDEND INCOME Income from stockinvestments

RENT INCOME

GAIN ON SALE OFEQUIPMENT

Excess of sellingprice over the net

book value of the

fixed asset

EXPENSES

EMPLOYEE BENEFIT

COST

Expenses related to

employee benefits

SALARIES AND

WAGES EXPENSE

Represents the total

gross salary or

wages of theemployees

SSS PREMIUMS

EXPENSE

Represents total

SSS (health benefit)contributions of the

employer and the

employees

PHILHEALTH

CONTRIBUTIONS

EXPENSE

Represents total

Philhealth (health

benefit)contributions of the

employer and the

employees



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PAG-IBIG

CONTRIBUTIONSEXPENSE

Represents total

Pag-IBIG (housingbenefit)

contributions of the

employer and the

employees

RENT EXPENSE

PROFESSIONAL FEES Expense related to

professional

services ofaccountants,

lawyers etc

ADVERTISINGEXPENSE

COMMISSIONEXPENSE

Expense related topayment of

commission to

agents

REPAIR AND

MAINTENANCE

EXPENSE

SUPPLIES EXPENSE

INSURANCEEXPENSE

REPRESENTATION

ANDENTERTAINMENT

EXPENSE

Expense related to

cost of meetingswith clients such as

meals

TRANSPORTATIONEXPENSE

Expense related tocommuting from

the office to

clients office

FUEL AND OIL

EXPENSE

UTILITIES EXPENSE Expense related tocommunication

such as telephone,

Internet, electricityand water



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TAXES ANDLICENSES EXPENSE

Expense related tobusiness taxes and

permits from the

city hall

CHARITABLECONTRIBUTION

EXPENSE

Expense related todonations

DEPRECIATION

EXPENSE

Noncash expense

that represents the

total depreciationof the depreciable

fixed assets for the

year

DOUBTFUL

ACCOUNTS EXPENSE

Noncash expense

that represents thetotal estimateddoubtful accounts

for the year

BAD DEBTSEXPENSE

Noncash expensethat represents the

total accounts

receivable thatwere written-off /

removed from the

financial books due

to its provenuncollectibility

MISCELLANEOUSEXPENSE

OTHER EXPENSE LOSS ON SALE OF

EQUIPMENT

Excess of net book

value over theselling price of the

fixed asset

FINANCE COST INTEREST EXPENSE Expense from loan

transactions



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Journalize the following selected transactions of MJ Dry Cleaning. The following transaction

occurred during June 2010.

1 MJ Flores invested in the business the following: P 250,000 cash and P 420,000 worth ofdry cleaning equipment with fair value of P 400,000 but with existing liability of P

100,000 which is to be assumed by the business

2 Purchased dry cleaning supplies from Wilson Cleaners for P 22,100, payable after 20days

4 Bought cash register from Carter Equipment, P 45,800. Terms: 30% down payment,balance on account

7 Dry cleaning services rendered for the week totaled P 25,250 cash

GENERAL JOURNAL Page xx

Date Particulars F Debit Credit

2010

Jun 01 Cash 101 250 000

Dry Cleaning Equipment 110 400 000

Accounts Payable 210 100 000

MJ Flores, Capital 320 550 000

Investment of the owner

02 Dry Cleaning Supplies 108 22 100Accounts Payable 210 22 100

Purchase of supplies on account

04 Office Equipment 111 45 800

Cash 101 13 470

Accounts Payable 210 32 060

Purchase of cash register

07 Cash 101 25 250

Dry Cleaning Service Income 410 25 250

Rendered dry cleaning service

for cash

Simple entry and Compound entry

Simple entry is a journal with only one debit and one credit. Compound entry is a journal entry

with at least two debits or at least two credits.



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Objective 3

PostingThis refers to the process of transferring the debit and credit amounts to the appropriate ledger

accounts. Ledger accounts are placed in a financial book called General Ledger. This is also

known as Book of Final Entry. After the amounts have been posted, one should post the ledger

account number back to the general journal. This process is known as cross-referencing.

Chart of Accounts

This chart lists the account titles to be used by the business and the related account numbers. Thefollowing is a typical example of chart of accounts.

ASSETS 100 OWNERS EQUITY 300

Cash 101 MJ Flores, Drawing 310

Investment in Trading Securities 102 MJ Flores, Capital 320

Accounts Receivable 103

Allowance for Doubtful Accounts 104

Notes Receivable 105 INCOME 400

Advances to Employees 106

Prepaid Rent 107 Dry Cleaning Service Income 410

Dry Cleaning Supplies 108 Interest Income 420

Land 109

Dry Cleaning Equipment 110

Office Equipment 111 EXPENSES 500

Building 120

Accumulated Depreciation Dry Cleaning Equipment

130 Salaries and Wages Expense 510

Accumulated Depreciation

Office Equipment

131 Rent Expense 520

Accumulated Depreciation Building 140 Advertising Expense 530Commission Expense 540

LIABILITIES 200 Dry Cleaning Supplies Expense 550

Insurance Expense 560

Accounts Payable 210 Transportation Expense 570

Notes Payable 220 Utilities Expense 580

Discount on Notes Payable 230 Taxes and Licenses Expense 590

Unearned Advertising 240 Depreciation Expense 591

Mortgage Payable 250 Interest Expense 592



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General Ledger Postings

CASH 101

Date Particulars F Debit Date Particulars F Credit

2010 2010Jun 01 GJ1 250 000 Jun 04 GJ1 13 470

07 GJ1 25 250

Totals 275 250 13 470

Balance 261 780

DRY CLEANING SUPPLIES 108


2010

Jun 02 GJ1 22 100

DRY CLEANING EQUIPMENT 110


2010

Jun 01 GJ1 400 000

OFFICE EQUIPMENT 111


2010

Jun 04 GJ1 45 800

ACCOUNTS PAYABLE 210


2010

Jun 01 GJ1 100 00002 GJ1 22 100

04 GJ1 32 060



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MJ FLORES, CAPITAL 320


2010

Jun 01 GJ1 550 000

DRY CLEANING SERVICE INCOME 410


2010

Jun 07 GJ1 25 250

Normal Balances of the Accounts

Assets Debit

Contra-assets Credit

Liabilities Credit

Contra-liabilities Debit

Capital Credit

Drawing Debit

Income Credit

Expenses Debit



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Objective 4

Trial BalanceThis refers to the summary of balances in the ledger accounts. The accounts are arranged in the

order of assets, liabilities, equity, income and expenses.

PATRICE CONSULTING SERVICES

Trial BalanceJuly 31, 2010

Debit Credit

Cash P 56 300

Accounts Receivable 77 500

Office Supplies 2 100

Prepaid Insurance 2 200

Office Equipment 120 000

Accounts Payable P 23 020

Notes Payable 15 000

Simone Patrice, Capital 172 880

Simone Patrice, Drawing 2 000

Consulting Fees 253 000

Salaries and Wages Expense 168 200

Rent Expense 11 000

Transportation Expense 7 800

Utilities Expense 8 200

Advertising Expense 5 500

Miscellaneous Expense 3 100 _______

Totals P 463 900

========

P 463 900

========

Adapted from Workbook in Introductory Accounting for Service Business

A balanced trial balance means that journal entries are properly posted and ledger accounts areproperly balanced.



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Further Readings


John Wiley and Sons, Inc. pages 46 56, 57 73



Co., Inc.







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LESSON 4

FINANCIAL STATEMENTS



(Put a Check mark)

1 Understand the procedures in preparing the incomestatement

2 Understand the procedures in preparing the statement of

changes in owners equity

3 Understand the procedures in preparing the balance sheet

4 Understand the procedures in preparing the notes to thefinancial statements

5 Compute the missing amounts in relation to changes incapital

Objective 1

Income StatementTo recall, the Income Statement presents the financial performance of the business through its

income and expenses.

Net Income refers to the excess of income over expenses, otherwise it is called Net Loss.

There are two types of presentation for income statement.

1. Natural forma. In this presentation, income and expense accounts are grouped according to

nature. Secondary income such as interest income, dividend income etc are

grouped under line item Other Income. On the other hand, expenses are

arranged from highest to lowest, except for Miscellaneous Expense, Other

Expense and Finance Cost. These line items are the last 3 line items in theexpense section.

2. Functional forma. In this presentation, expenses are grouped according to function. The 4

classification of expenses are:i. Distribution cost

ii. General and administrative expensesiii. Other operating expensesiv. Finance cost



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Objective 2

Statement of Changes in Owners EquityTo recall, this component presents the changes in capital such as additional investments,

withdrawals, net income and/or net loss.

The following are the effects to the capital or equity:

EFFECTS

Investment Increase

Withdrawal Decrease

Income Increase

Expense Decrease

Net Income Increase

Net Loss Decrease

The Income Statement is connected to this component through Net Income or Net Loss and this

component is connected to the Balance Sheet through the Ending balance of the capital account.

The equation for computing Ending Capital Balance is

Owner, Capital beginning + Additional Investments + Net Income

Withdrawals Net Loss = Owner, Capital ending

Using the accounting equation, the equation for computing Beginning Capital Balance is

Assets, beginning Liabilities, beginning = Owner, Capital (beginning)

On the other hand, the alternative equation for Ending Capital Balance is

Assets, ending Liabilities, ending = Owner, Capital (ending)



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Objective 3

Balance Sheet or Statement of Financial PositionTo recall, the Balance Sheet presents the financial condition of the business through its assets,

liabilities and capital / owners equity

There are 2 forms of Balance Sheet:

1. Account-forma. This form presents assets on the left side and liabilities and capital on the right

side2. Report-form

a. This form presents assets on the upper side and liabilities and capital on the lowerside

Assets

Assets are classified into 2:

1. Current Assetsa. These refer to assets that are useful to the business within one year. Examples are

Cash, Investment in Trading Securities, Trade and Other Receivables,

Merchandise Inventory and Prepaid Expenses.2. Noncurrent Assets

a. These refer to assets that are useful to the business for more than one year.Examples are Property, Plant and Equipment, Long-term investments andIntangible assets.

Assets are arranged in order of liquidity. Cash is the first line item because it is the most liquid

asset.

Liabilities

Liabilities are classified into 2:

1. Current liabilitiesa. These refer to liabilities that are payable and will mature within one year.Examples are Trade and Other Payables and Current-portion of long-term notespayable.

2. Noncurrent liabilitiesa. These refer to liabilities that are payable and will mature beyond one year.

Examples are Noncurrent-portion of long-term notes payable, Mortgage Payable,

and Bonds Payable.

Liabilities are arranged in order of maturity. For Noncurrent liabilities, the order is usually Notes

Payable, Mortgage Payable and Bonds Payable. The reason is Notes Payable will normally

mature first before mortagage and bonds.

Capital or Owners Equity

This represents the ending balance of capital from the statement of changes in owners equity.



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Objective 4

Notes to the Financial StatementsTo recall, this component presents the details of the line items in the Balance Sheet and Income

Statement

Trade and Other ReceivablesFor this category, the first line item is Accounts Receivable followed by Allowance for Doubtful

Accounts. The difference between these two line items is called Net Realizable Value. Netrealizable value represents the estimated amount to be collected from the clients / customers after

deducting doubtful accounts.

After Allowance for Doubtful Accounts, the next line item is Notes Receivable then followed by

account titles which have the word Receivable. They are arranged from highest to lowest since

their nature are the same. Receivable accounts are synonymous with Accrued Income. For

example, Interest receivable is the same with Accrued Interest Income.

The last line item is Advances to employees.

Prepaid Expenses

The items for this category are arranged from highest to lowest since their nature are the same.

Property, Plant and Equipment

The tabular presentation for this note is as follows:

Cost Accumulated

Depreciation

Net Carrying Value

Land P 400,000 P 400,000Transportation Equipment 530,000 P 30,000 500,000

Building 360,000 60,000 300,000Equipment 240,000 40,000 200,000

Furniture and Fixtures 110,000 10,000 100,000

Total P 1,640,000

=========

P 140,000

========

P 1,500,000

=========

Adapted from the exhibits of the Workbook

The fixed asset items are arranged from highest acquisition cost to lowest acquisition cost. The

difference between the acquisition cost and accumulated depreciation is called the Net carryingvalue or Net book value.



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Trade and Other Payables

Line Item

1st Accounts Payable

2nd Notes Payable

3rd

Discount on Notes Payable

4th nth Account with the word Payable

Last Unearned income

For the 4th

line item, the accounts are arranged from highest to lowest since their nature are thesame. Payable accounts are synonymous with Accrued Expense. For example, Rent payable

is the same with Accrued Rent expense.

Objective 5

Problems in connection to Statement of Changes in Owners Equity

1. A firm has just completed its first year of operations. During the year, the ownerwithdrew P 50,000 and by the end of the year his equity stood at P 70,000, whichwas a P 10,000 increase from his initial investment. If revenues generated during

the year totaled P 400,000, then expenses incurred during the year must have been______________.

Owner, Capital beginning + Additional Investments + Income

Withdrawals Expense = Owner, Capital ending

Expense = Owner, Capital beginning + Additional Investments + Income

Withdrawals Owner, Capital ending

Solution in good accounting form

Beginning capital P 60,000

Income 400,000

Withdrawals (50,000)Ending capital (70,000)

Expenses P 340,000

========



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2. A business had assets of P 210,000 and liabilities of P 140,000 on January 1,2008. Six months later, the assets totaled P 170,000 while outstanding debts

amounted P 95,000. During the six-month period, the proprietor withdrew cash ofP 12,000 and supplies worth P 5,000. During the same period, he also made

additional investments of P 24,000 cash and a second-hand equipment originally

costing P 45,000 but with a fair market value of P 20,000. The result of operationswas a ___________ of ____________.

Ending capital P 75,000

Beginning capital (70,000)Additional investments (44,000)

Withdrawals 17,000

Net Loss P 22,000========



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Further Readings





Co., Inc.







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LESSON 5

STATEMENT OF CASH FLOWS



(Put a Check mark)

1 Recall the definition of Statement of Cash Flows andclassify the transactions as operating activity, investing

activity and financing activity

2 Prepare the Statement of Cash Flows and connect theEnding cash balance to the Balance Sheet

Objective 1

Statement of Cash FlowsTo recall, the Statement of Cash Flows presents the cash inflows and outflows of the businessthrough its operating, investing and financing activities.

Business Activities1. Financing activities

a. These activities pertain to transactions such asi. Investments of the owner

ii. Loans whether short term or long termiii. Withdrawal of the owneriv. Payment of the principal of the loans

2. Investing activitiesa. These activities pertain to transactions such as

i. Sale of property, plant and equipmentii. Purchase of property, plant and equipment

3. Operating activitiesa. These activities pertain to transaction such as

i. Payment of the interest of the loansii. Other transactions not enumerated above

Objective 2Connection of the Statement of Cash Flows to the Balance SheetThe ending cash balance in the Statement of Cash Flows represents the cash balance in theBalance Sheet.



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Further Readings


John Wiley and Sons, Inc. pages 718 726



Co., Inc.







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LESSON 6

CORRECTING ENTRIES


Achievement of Objective(Put a Check mark)

1 Know the different accounting errors

2 Prepare correcting entries

Objective 1

Accounting Errors1. Transposition error

a. Error in the position of figures. Example: 123 is written as 1322. Transplacement error / Slide

a. Error in the placement of decimal point. Example: 1000.90 is written as 100.09Objective 2

Correcting journal entries- entries to correct incorrect journal entries

On September 15, a temporary withdrawal of P 12,000 by X, the owner was recorded as a debit to

Salaries and Wages Expense and a credit to Cash. The correcting entry was made at month-end.

Recorded entry

Date Particulars Debit Credit

2009

Sep 15 Salaries and Wages Expense 12 000

Cash 12 000

Withdrawal of the owner

Correct entry


2009

Sep 15 X, Drawing 12 000

Cash 12 000

Withdrawal of the owner

Correcting Entry


2009

Sep 30 X, Drawing 12 000

Salaries and Wages Expense 12 000

Correcting entry



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Further Readings





Co., Inc.







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LESSON 7

PAYROLL ACCOUNTING



(Put a Check mark)

1 Understand the concept of employee benefits andcompensation and the related terms such as Payroll

Register and payroll deductions

2 Prepare journal entries pertaining to payroll accounting

Objective 1

Employee Compensation and BenefitsOrganizations normally monitor the attendance of the employees through time clock cards. These

cards show the time in and time out of the employees. Further, organizations also prepare anddistribute pay slips. These slips show the gross salary of an employee and the related deductions.

The normal deductions from the gross salary are SSS, Philhealth, Pag-IBIG, Withholding tax andCash advances.

Organizations also prepare the Payroll Register which shows the summary of the employees pay

slips.

The following is the tabular format of the Payroll Register

Employee

Name

Gross

Salary

Overtime,

Bonus and

Other

Benefits

Total

Salary

SSS Philhealth Pag-

IBIG

Withholding

Tax

Cash

Advance

Net

Salary

Alpha

Beta

Charlie

TOTAL

Objective 2

Payroll Example and Journal Entries

Total Employee Contributions Total Employer ContributionsSSS 30,000 60,000

Philhealth 10,000 10,000

Pag-IBIG 5,000 5,000

Assume Total gross salaries and wages is P 200,000, Total withholding taxes payable is P 20,000,and Total advances to employees is P 10,000



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Salaries and Wages of the employees


2009

Sep 30 Salaries and Wages Expense 200 000SSS Premiums Payable 30 000

Philhealth Contributions Payable 10 000

Pag-IBIG Contributions Payable 5 000

Withholding Tax Payable 20 000

Advances to Employees 10 000

Cash 125 000

Salaries and Wages of the employees

Employer Contributions

Date Particulars Debit Credit2009 SSS Premiums Expense 60 000

Sep 30 Philhealth Contributions Expense 10 000

Pag-IBIG Contributions Expense 5 000

SSS Premiums Payable 60 000

Philhealth Contributions Payable 10 000


Employer Contributions

Remmittance to the government

agencies

Date Particulars Debit Credit2009 SSS Premiums Payable 90 000

Sep 30 Philhealth Contributions Payable 20 000


Withholding Tax Payable 20 000

Cash 140 000

Remmittance to the government

agencies



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Further Readings

Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC Enterprises &

Co., Inc.

Valencia, E., and Roxas, G. (2009). Basic Accounting, 3rd

edition. Baguio City: Valencia

Educational Supply.




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LESSON 8

ACCOUNTING FOR PROMISSORY NOTES



(Put a Check mark)

1 Understand the concept of promissory notes and its partsand prepare the journal entries in relation to issuance of

promissory notes and payment on the maturity date

2 Understand the concept of discounting of customers noteand prepare the necessary journal entries

3 Understand the concept of discounting of own note andprepare the necessary journal entries

Objective 1

Promissory NotesA promissory note is an unconditional promise in writing made by one person to another, signed

by the maker, engaging to pay on demand or at a fixed or determinable future time a sum certainin money to order or to bearer (Valix, 2005).

Parts of a Promissory note

March 24, 2009

I promise to pay X, P 5,000 on April 7, 2009 with 12% interest.

(Sgd) Y

1. Date of the note March 24, 20092. Maturity date April 7, 20093. Maker Y4. Payee X5. Face value / Principal P 5,0006. Interest rate 12%

Given the above promissory note, how much is the Maturity value?



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Maturity value = Principal + Interest

Interest = Principal x Interest rate x Term / 360

Term refers to the period between the date of the note and the maturity date. 360 represents thenumber of days in a year in accordance to Bankers rule.

In the above example the term is 14 days. 7 days in March (31-24) and 7 days in April.

For years 2000, 2004, 2008 and so on, remember that there are 29 days in February.

Interest = 5,000 x 12% x 14/360= 23

Maturity value = 5,000

Journal Entries

Date of the note

Books of the Maker


2009

Mar 24 Cash 5 000Notes payable 5 000

Issuance of promissory note

Books of the Payee


2009

Mar 24 Notes receivable 5 000

Cash 5 000

Receipt of promissory note



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Maturity Date

Books of the Maker


2009

Apr 07 Notes payable 5 000

Interest expense 23

Cash 5 023

Payment of promissory note

Books of the Payee


2009

Apr 07 Cash 5 023

Notes receivable 5 000

Interest income 23Collection of principal and interest

Dishonoring of promissory note

When the maker fails to pay the principal and interest on the maturity date, then the promissorynote is considered dishonored. For the journal entry in the books of the maker, instead of

crediting Cash, Accounts payable is credited. On the other hand in the books of the payee, instead

of debiting Cash, Accounts receivable is debited.

Maturity Date

Books of the Maker


2009


Interest expense 23

Accounts payable 5 023


Books of the Payee

Date Particulars Debit Credit2009

Apr 07 Accounts receivable 5 023


Interest income 23

Collection of principal and interest



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Discounting of promissory notesWhen a promissory note is negotiable, the payee may obtain cash before maturity date bydiscounting the note at a bank or other financing company. To discount the note, the payee must

endorse it. Thus, legally the payee becomes an endorser and the bank becomes an endorsee

(Valix, 2005).

Two types of discounting1. Discounting of customers note2. Discounting of own note

Objective 2

Discounting of Customers noteUsing the above example, assume that the maker discounted the note on April 2 at a discount rate

of 15%.

The necessary equations for note discounting are as follows:

Interest on discounting = Maturity value x Discount rate x Discount period / 360

Cash proceeds = Maturity value Interest on discounting

Discount period refers to the period between the discount date and the maturity date.

For this example, the discount period is 5 days (April 7 2).

Interest on discounting = 5,023 x 15% x 5 / 360= 10

Cash proceeds = Maturity value Interest on discounting

= 5,023 10= 5,013



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Discount Date

Books of the Maker


2009

Apr 02 No journal entry

Books of the Payee


2009

Apr 02 Cash 5 013

Interest expense 10

Notes receivable discounted 5 000

Interest income 23

Discounting of note

Notes receivable discounted is classified as a Contra-asset account and is presented as adeduction from Notes receivable

Notes receivable P xxx

Less: Notes receivable discounted xxx P xxx

On the discount date, the payee needs to inform the maker that the note is discounted. On the

maturity date, the maker should directly pay to the bank or financing company.

Maturity Date

Books of the Maker


2009


Interest expense 23

Cash 5 023


Books of the Payee


2009

Apr 07 Notes receivable discounted 5 000


Cancellation of contingent liability



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Types of endorsement1. Endorsement with recourse

a. This type requires the endorser to pay the endorsee if the maker dishonors thenote. This is the contingent or secondary liability of the endorser.

2. Endorsement without recoursea. This type does not impose contingent liability on the endorser.

In the absence of any evidence to the contrary, endorsement is assumed to be with recourse

(Valix, 2005).

Assume that in the above example, the maker dishonored the note and the bank charged a

protest fee of P 500.

Maturity Date

Books of the Maker


2009


Interest expense 23

Miscellaneous expense 500

Accounts payable 5 523

Dishonoring of note

Books of the Payee


2009

Apr 07 Accounts receivable 5 523

Cash 5 523

Payment of promissory note plus

protest fees in behalf of the maker

Notes receivable discounted 5 000


Cancellation of contingent liability

Principal P 5,000Interest 23

Protest fees 500

Total payment P 5,523======



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Objective 3

Discounting of own noteIn this type of discounting, the maker issues a promissory note to obtain cash. Interest on

discounting is deducted in advance and is debited using the account title Discount on Notes

Payable.

Example 1:On July 14, 2009, for money borrowed, X discounted its own 30-day, 12% P 10,000 note with Y.

Interest on discounting = Principal x Interest rate x Term / 360

= 10,000 x 12% x 30 / 360

= 100

Discount Date

Books of the Maker


2009

Jul 14 Cash 9 900

Discount on notes payable 100

Notes payable 10 000

Discounting of note

Maturity Date

Books of the Maker


2009

Aug 13 Notes payable 10 000

Cash 10 000


Interest expense 100

Discount on note payable 100

Amortization of discount



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Example 2:

On December 14, 2009, for money borrowed, X discounted its own 30-day, 12% P 10,000 notewith Y. The accounting period ends on December 31.

Year-end amortization

Amortization = Discount x (Year-end date Discount date) / Discount period= 100 x (31-14) / 30

= 57

Discount Date

Books of the Maker


2009

Dec 14 Cash 9 900Discount on notes payable 100

Notes payable 10 000

Discounting of note

Amortization at year-end

Books of the Maker


2009

Dec 31 Interest expense 57



Presentation

Notes payable P 10,000

Less: Discount on notes payable 43 P 9,957

Maturity Date

Books of the Maker


2010Jan 13 Notes payable 10 000

Cash 10 000


Interest expense 43





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Further Readings





Co., Inc.







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LESSON 9

ACCRUED INCOME



(Put a Check mark)

1 Understand the concept of adjusting entries and thereasons for providing adjusting entries at year-end

2 Recall the concept of accrued income and prepare

adjusting entry in relation to accrued income

Objective 1

Adjusting EntriesAdjusting entries refer to journal entries made at the end of the year for the following reasons:

1. Accrued incomea. There may be unrecorded income and there is a need to accrue income or

recognize receivables.2. Accrued expense

a. There may be unrecorded expenses and there is a need to accrue expenses orrecognize payables.

3. Prepaid expensea. There may be a consumed or used portion in the recorded prepaid expense or

there may be an unconsumed or unused portion in the recorded expense.

4. Unearned incomea. There may be an earned portion in the recorded unearned income or there may be

an unearned portion in the recorded income.

5. Depreciationa. There is a need to provide depreciation for depreciable fixed assets.

6. Doubtful accountsa. There is a need to provide estimated doubtful accounts in relation to accounts

receivable.

Objective 2

Accrued income

To recall, accrued income refers to income earned but not yet received. The following are theexamples of accrued income to be recognized at year-end:

1. Accrued commission incomea. It is possible that the company has already rendered the service pertaining to

commission but it has not yet received the commission as of year-end.

2. Accrued rent income



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a. It is possible that the company or lessor has already earned the rent but it has notyet received the rent payment as of year-end.

3. Accounts receivablea. It is possible that the company has not yet recorded as of year-end the service

rendered.

4. Accrued interest incomea. It is possible that the company has not yet recorded the interest that is earned in

relation to notes receivable from the date of the promissory note until year-end

date.

Accrued income is the same with receivable. For example,

accrued interest income is the same with interest receivable.

Pro-forma Entry


xxxx

Dec 31 _____ receivable xxx

_____ income xxxRecognition of accrued income

Example 1:

A company leases an office space for P 14,000 per month. As of December 31, 2009, companys

year-end, the tenant has not yet paid its rent for two months.

Adjusting entry


2009

Dec 31 Rent receivable 28,000

Rent income 28,000

(14, 000 x 2)

Recognition of accrued rent

Example 2:

As of December 31, 2009, ABC Hotel has generated lodging revenue of P 127,000 from guests

whose payments are not yet received until they check out.

Adjusting entry


2009Dec 31 Lodging receivable 127,000

Lodging income 127,000

Recognition of accrued lodging

If the company did not recognize accrued income at year-end, then the financial statements will

be misstated showing understated assets and understated income.



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Further Readings





Co., Inc.







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LESSON 10

ACCRUED EXPENSE



(Put a Check mark)

1 Recall the concept of accrued expense and prepareadjusting entry in relation to accrued expense

Objective 1

Accrued expenseTo recall, accrued expense refers to expense incurred but not yet paid. The following are theexamples of accrued expense to be recognized at year-end:

1. Accrued interest expensea. It is possible that the company has not yet recorded the interest that is incurred in

relation to notes payable from the date of the promissory note until year-end date.

2. Accrued salaries and wages expensea. It is possible that as of year-end, the company has not yet paid the employees

because the year-end date is not the same with the payroll date.

3. Accrued rent expensea. It is possible that the company or lessee has already incurred the rent but it has

not yet paid the rent as of year-end.4. Accrued utilities expense

a. It is possible that as of year-end, the company has not yet paid the utilities or thebilling statements of the utilities have not yet received by the company.

5. Accrued taxes and licenses expensea. It is possible that as of year-end, the company has already earned from services

rendered and sale of goods but has not yet paid the related taxes.

Accrued expense is the same with payable. For example, accrued

interest expense is the same with interest payable.

Accrued expense is the opposite of accrued income. When one party recognize accrued income,

the other party should recognize accrued expense.

Pro-forma Entry


Xxxx

Dec 31 _____ expense xxx

_____ payable xxx

Recognition of accrued expense



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Example 1:

Property taxes for three months estimated to total P 13,300 have accrued.

Adjusting entry


2009Dec 31 Taxes and Licenses expense 13,300

Taxes and Licenses payable 13,300

Recognition of accrued taxes andlicenses

Example 2:

Electricity consumption for the month of December amounting to P 7,100 is not yet paid.

Adjusting entry


2009

Dec 31 Utilities expense 7,100

Utilities payable 7,100

Recognition of accrued utilities

If the company did not recognize accrued expense at year-end, then the financial statements will

be misstated showing understated liabilities and understated expense.



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Further Readings


John Wiley and Sons, Inc. pages 104 108



Co., Inc.







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LESSON 11

PREPAID EXPENSE



(Put a Check mark)

1 Recall the concept of prepare expense and prepareadjusting entry using the Asset method

2 Prepare adjusting entry using the Expense method

Prepaid expenseTo recall, prepaid expense is an asset that is paid in advance but not yet consumed or used.

Companies have two options or methods in recording prepaid items. They may use the Asset

method or the Expense method.

Objective 1

Asset Method

If the company chooses to use the Asset method, then upon purchasing the prepaid item the pro-

forma entry will be:


xxxx

xxx xx Prepaid _____ expense xxx

Cash xxx

Purchase of prepaid item

It is possible that in this recorded prepaid expense there may be consumed or used portion. To

adjust the recorded prepaid expense, the pro-forma entry will be:


zxxx

Dec 31 _____ expense xxx

Prepaid _____ expense xxx

Recognition of consumed or usedportion of the recorded prepaid

expense



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Example:

On March 15, 2009, XYZ Company purchased office supplies for cash, P 100,000. At the end ofthe year, record shows that 25% worth of supplies have been used.


2009

Mar 15 Office supplies 100,000Cash 100,000

Purchase of prepaid item

Adjusting entry


2009

Dec 31 Office supplies expense 25,000

Office supplies 25,000

Recognition of used portion of the

recorded office supplies

If the prepaid expense account is not adjusted at year-end, then the financial statements will be

misstated showing overstated assets and understated expenses.

If the adjusted Office supplies of P 75,000 is fully consumed in the following year, then the entire

P 75,000 will be transformed to Office supplies expense also in the following year.

Objective 2

Study Guide in Introductory Accounting for Service Business

Documents

Transcript of Study Guide in Introductory Accounting for Service Business