1

Journal & Ledger

Financial Accounting - purpose, use & role
Accountingisthelanguageofbusiness.Anditisascienceaswellasanart.Itissciencesinceaccounts arepreparedwithcertainbasicprinciplesandlaws.Accountingisanartbecauseitprescribestheprocess throughwhichtheobjectivesarefulfilled. Accountinginvolves Recordingofevents&transactionswhichareoffinancialcharacter. Classifyingsimilarfinancialtransactionstogether. Summarizing Analysis&Interpretation.Analysisrefersmethodicalclassificationofdata.Interpretationmeans drawingconclusionfromdata. Communicatetheresultstorelevantstakeholders. Themajorusersofaccountingare Creditors Shareholders Government Investors Lenders Management Thefinancialdataservestheinterestsofdifferentpersonsconcernedindifferentmanner,astheir objectivesaredifferent. Differentbranchesofaccountingare FinancialAccountingOriginalformofaccounting,mainlylimitedtothepreparationoffinancial statementsbasedonhistoricaldata. CostAccountingConcernedwiththeestimationofcostsinadvanceandtheirsubsequent detailedanalysisforthepurposeofcontrol. ManagementAccountingDealswithplanning,decisionmaking,forecasting,budgeting,control overcostsandstrategyformation. Majorobjectives/advantagesofaccountingare Tokeepsystematicrecords. Toascertaintheresultsofoperation,thatisprofitorloss. Toascertainthefinancialpositionofthebusiness. Toprovidecontrolandprotectbusinessassets. Toprovideinformationtothetaxauthorities. Tofacilitaterationaldecisionmaking.

Majorlimitationsare Profitshowninfinancialaccountingisnotfullyexact. Financialaccountingdoesnottellthewholestory. Accountingstatementsmaybedrawnupdifferently. Allassetsarenotshownuponfinancialstatements(examplehumanassets) Manipulation Impactofinflation. Therearetwosystemsforrecordingtransactions. SingleentrysystemItisnotascientificsystemandfinalaccountscannotbeeasilypreparedon thebasisofthissystem.Smallbusinessesandorganisationsthatdonotrequireascertainmentof profit,followthissystem. Doubleentrysystem

GAAP
Accountingprinciplescanbedefinedasthoserulesofactionorconductwhichareadoptedbythe accountants,universally,whilerecordingthetransactions.Themajorcharacteristicsofaccounting principlesare. Objectivityaccountinginfoshouldnotbeinfluencedbypersonalbiasorjudgment. Reliabilityinfoshouldbetruthful,accurate&completeandcapableofbeingverified. Feasibility Understandability Applicationshouldhaveapracticalutilityorapplication.

Accountingconcepts(8)arenecessaryassumptionsorconditionswhichformthebasisofaccounting. SeparateEntityConceptBusinessisconsideredasaseparateentity,distinctfromtheperson whoownit.Boutique+Daughters MoneyMeasurementConceptAccountingrecordsonlythosetransactionsthatcanbeexpressed intermsofmoney.Qualitieslikeworkforceskill,morale,marketleadership,brandrecognition,

qualityofmanagementetccannotbequantifiedinmonetarytermsandsonotaccountedforin booksofaccounts. DualAspectConceptEverybusinesstransactionhaveandualaspect.Thisconcepthelpsto establishthearithmeticalaccuracyoftheaccountsandenabledetectionoferrors. GoingConcernConceptItratherpresumesthattheenterprisewillcontinueinoperationlong enoughthatthecostofthefixedassetswouldbechargedovertheusuallivesoftheassets. Moreover,theconceptappliestothebusiness,asawhole.Evenifabranchordivisionofthe businesswereclosed,abilityofthebusinesstocontinuewouldnotbeaffected. CostConceptFixedassetslikelandsneedtobeshownatoriginalpriceatwhichtheyacquired. Applicableonlytofixedassets.Thisisrelatedtogoingconcernconcept. AccountingPeriodConcept MatchingConceptCostshouldmatchwithrevenue. RealizationConceptProfitisrecognizedaswhenrealized.

Accountingconventionsarethecustomsandtraditions,whichguideusinpreparingaccounting statements. ConservatismWhenevertherearetwoequallyacceptablemethods,theone,whichismore conservative,willbeaccepted.Principallyapplicabletocurrentassets.(closinginvvaluation) ConsistencyAccountingPracticesareunchanged,yearafteryear.Iftheaccountingpractices arechanged,thefactistobementionedanditsimpactistobequantified.(closinginvvaluation) MaterialityThisconventionemphasisesthatallmaterialfactsshouldberecordedinaccounting. Accountantshouldattachimportancetomaterialdetailsandignoreinsignificantdetails.While sendingastatementofaccounttothedebtor,theexactamountreceivablefromtheconcerned debtoristobeshown.However,whenthesummaryofdebtorsispresentedtothetop management,theindividualdebtorsareroundedtothenearestthousand. FullDisclosureTheConventionofDisclosuremeansthatallmaterialfactsmustbedisclosedin thefinancialstatements.

Double Entry Accounting

WhatisDoubleEntry? Therearetwoaspectsineverybusinesstransaction.Theyarereceivingaspectandtheothergiving aspect.Underthissystem,everytransactionisrecordedtwice,oneonthedebitsidei.e.thereceiving aspectandtheothercreditsidei.e.givingaspect. Letusillustrate.Whenabusinessmanbuysgoods,hereceivesgoodsononesideandontheotherside, moneyisgiventowardsthevalueofgoods.Whenhehirestheservicesofemployees,servicesare receivedononeside,whilepaymentismadefortheservicesrendered. Thefeaturesofdoubleentrycanbesummarizedasunder: Itrecordstwoaspectsofeverytransaction. Oneaspectisdebitedandtheotheraspectiscredited. Totalofdebitsareequaltototalofcredits.

AccountingEquation Accountingequationisthestatementofequality.Here,theresourcesareequaltothesources.Theowner orproprietorandoutsidersprovidethesourcesforacquiringresources.Theresourcesareknownas Assets.Asownersandoutsidershaveprovidedthefundstothebusinessandbusinessisindependent fromthesepersons,duetobusinessentityconcept,thesepersonshaveaclaimagainsttheassetsofthe business.TheseclaimsareknownasEquities.Equitiesareoftwotypes.Theyareownersequityand outsidersequity.Ownersequity(orcapital)istheclaimofownersagainsttheassetsofthebusiness. Outsidersequity(orliabilities)istheclaimoftheoutsiderssuchascreditors,loanprovidersanddebenture holdersagainsttheassetsofthecompany. Resources(Assets)=SourcesofFinance(Capital+Liabilities) Wecansay Assets=Capital(Totalclaims) Assets=Ownersclaim+Outsidersclaim Assets=Equity+Liabilities Theaboveisknownastheaccountingequationorbalancesheetequation. Debit&CreditRules

Advantages Advantagesofdoubleentryare Possibletohaveacompleterecordofalltransactions. ArithmeticalaccuracycanbeeasilyascertainedbypreparingastatementcalledTrialBalance. Providesaccurateinformationonwhatbusinessownsandwhatitowes. Cancomparetheresultsofbusinesswiththoseofpreviousyears. Possibletopreparetradingandprofit&lossaccountattheendoftheaccountingperiod. Financialpositioncanbeascertainedbypreparingbalancesheet. Anymistakesorerrorcanbeeasilyfoundandrectified.

Misappropriationsoffundscanbereduced. Thissystemrecognisesthefundamentalfactthatabusinesstransactionisadoublesidedaffair.Double EntryBookkeepingensuresarithmeticalaccuracyalone,doesnotguaranteefinancialcorrectness.

Accounting Cycle
Anaccountingcycleisacompletesequenceoftransactions,beginningwiththejournal,laterrecordingina ledger,arrivingatthebalanceintheledger,movingtopreparetrialbalanceandfinallypreparationof financialstatementsTradingandProfitandLossAccount(IncomeStatement)andBalanceSheet (PositionStatement). 1. 2. 3. 4. 5. 6. 7. 8. Identificationoftransactions. Preparationofbusinessdocuments. Recordingoftransactionsinjournal. Postingtoledger.(classification) 1. Allsimilartransactionsaregrouped&postedinonebookcalledledger. Preparationofunadjustedtrialbalance.(summarizing) Passingofadjustingentries. Preparationofadjustedtrialbalance. Preparationofstatements.

Journal
WhatisJournal? Journalisabookinwhichtransactionsarerecordedintheorderinwhichtheyoccur.Journalisabookof dailyrecord. Journaliscalledthebookoforiginalentryorprimeentry,becauseallbusinesstransactionsarefirst recordedinthejournal. AnentrymadeinthejournaliscalledaJournalEntry.Ineverybusiness,accountantentersthebusiness transactionsdatewiseinachronologicalorderonthedebitandcreditside,alongwiththenarration accordingtotheprinciplesofdoubleentry.Theprocessofrecordingtransactionsinthejournaliscalled Journalising.

Thetotalsofdebitandcreditcolumnsaretobemadeoneverypagetoconfirmthecorrectnessofthe arithmeticalaccuracyastheprincipleisforeverydebit,therehastobeacorrespondingcredit.Ifthe totalofdebitandcreditdonotagree,itisanindicationthattheamountshavenotbeenentered,correctly, inthejournal. NarrationBriefexplanationgiventorememberthenature&particularsofthetransaction. JournalizingSteps Followingstepsshouldbefollowedforjournalizingatransaction 1. Findouttheaccountsaffected. 2. Identifytheaccounttypepersonalorrealornominal 3. Applytherulesofdebit&credit SubsidiaryJournals Thejournaliscalledthebookoforiginalentrybecausethetransactionsarefirstrecordedinit.Inbusiness concerns,therewillbeinnumerabletransactionseveryday.Ifthesetransactionshavetobepassedthrough thejournal,moretime&laborarerequired.Withtheobjectofsavingtime&energy,newmethodshave beendeveloped.Themethodofusingspecialjournalsorsubsidiaryjournalsisoneofthem.

Underthismethod,insteadofrecordingalltransactionsinonejournaleachkindoftransactionisrecorded inseparatejournals.Aspecialjournal,therefore,isajournalinwhichonlyonekindoftransactionis recorded. Transactionscanbenormallygroupedunder Buyingtransactions Sellingtransactions Cashtransactions Miscellaneoustransactions. Specialjournalsaredesignedonthebasisofabovegrouping. 1. Cashbookallkindsofcashreceipts&paymentsarerecordedhere. 2. Purchasebookallcreditpurchasesofgoods. 3. Salesbookallcreditsalesofgoods. 4. Purchasereturnbookrecordsofgoodstothesupplier. 5. Salesreturnbookrecordingthereturnofgoodsbyourcustomers. 6. Billsreceivablesbookrecordingallbillsdulyacceptedbydebtors. 7. Billspayablesbookrecordingallbillsacceptedbyus. 8. Journalproperfortransactionswhichcan'tbeenteredinanyoneofthespecialjournals. CompoundedJournalEntry Incertaincases,asingledebitistobeequalizedbytwoormorecreditentriesormoredebitentriesareto beequalizedbyonecreditentry.Thistypeofentryiscalledcompoundjournalentry. DrawingAccount Theproprietormayforpersonalpurposewithdrawmoneyfrombusiness.Hemayalsotakegoodsfrom thebusinessforpersonaluse.ThesetransactionsarerecordedinaseparateaccountcalledDrawing Account. Whenproprietorwithdrawmoneyfrombusinessforpersonaluse DebitDrawinga/c CreditCashorBanka/c Likewisewhengoodsarewithdrawnforpersonaluse DebitDrawinga/c CreditPurchasea/c Ifthewithdrawalsareveryfrequent,insteadPurchasea/c,creditSalesa/c. Attheendoffinancialcycle,Drawinga/cshouldbeclosedbytransferringtoCapitala/c. DebitCapitala/c CreditDrawinga/c

Discounts CashDiscount Tomakepromptpayment,cashdiscountisnormallyallowed.Attimes,somereductionintheformof discountisallowedtoreceivethefullandfinalsettlement.Tothepersonwhoallowsthediscount,itis expenditure.Discountisanincometothepersongettingit. Discountgiventocustomerisanexpense. Discountreceivedfromsupplierisanincome. Discounta/c TradeDiscount Whensellergivesadeductiononthelistprice,itisknownastradediscount.Normally,trade discountisgiventoencouragehigherquantumofpurchases. Neverappearinbooksofaccount. Returns PurchaseReturns Underthefollowingcircumstancesabuyermayreturngoodstotheseller. Apartofthegoodsthathepurchasedisdefective. Itisdamagedintransit. Itisnotaccordingtothesampleororder. Receivedexcessquantity. Itisofinferiorquality. Thesellerwillallownecessarycredittoaccountofthebuyerifheacceptsthereturnofgoods.For convenience,aseparatebookiskeptforrecordingsuchreturnsofgoods.Entriesaremadeinpurchase returnbooksunderfollowingcircumstances. 1. Whentheentirepartorpartofapurchaseisactuallyreturnedtothesupplier. 2. Whenthepurchaserclaimsanyallowanceandsupplieragreestotheclaim. Itisanincome/gain.DebitSuppliera/c&CreditPurchaseReturnsa/c DebitNotewhengoodsarereturnedtotheseller,astatementisalsosentalongwiththem.Thisisto informthesupplieraboutthedebitgiventohisaccount. SalesReturns Normallywhenevergoodsoncesoldarereturnedbythecustomer,itisrecordedinthesalesreturnbook orreturnsinwardbook. Expense/Loss DebitSalesReturnsa/c&CreditDebtor'sa/c CreditNoteAfterpassinganentry,debtorsshouldbeinformedofthecreditgiventotheir accounts. OpeningEntry Atthebeginningofeveryaccountperiod,abusinessmayopennewbooksofaccounts.Thejournalentry madetoopenthenewbooksofaccountwiththepreviousbalancesintheaccountisknownasopening entry.Thisisrecordedbydebitingassetaccountsandcreditingliability&capitalaccounts.Iftheamount

ofcapitalisnotknown,itcanbeascertainedbyapplyingtheformulacapital=assetsliabilities.

Ledger
WhatisLedger? ClassificationofrecordedtransactionsaredoneinLedger.Ledgerisabookwithvariousaccounts(Real, PersonalandNominalAccounts),eachaccountonaseparatepage,thatgivesthedetailsofthedifferent transactionsanditssummary. Finalinformationrelatedtothefinancialpositionemergesonlyfromtheaccounts.Astheledgercontains allaccounts,theledgerisalsocalledasPrincipalBook. ProformaofLedger

JournalVsLedger Basis NatureofBook Record Importanceforlegalevidence ClassificationofData Process Narration Folio FinalAccounts Accuracy Journal Originalentry Datewise,chronologicalorder Greaterweight Basedontransactions Journalizing Neededforeverytransaction Folioofledgeriswritten Accuracycantbetestedeasily Ledger Secondentry Accountwise Lesserweight Basedonaccounts Posting Notneededforeveryposting Folioofjournaliswritten Canbetestedfromtrialbalance.

Finalaccountscantbeprepared Finalaccountscanbeprepared.

AdvantagesofLedger Knowledgeofaccounts:Informationabouteachaccountisknownimmediately,whichisnot possiblefromthejournal. Knowledgeofincomeandexpenditure:Separateaccountsareopenedforeachheadofincome

10

andexpenditure.So,informationisavailableabouttheexpenseandincome,accountwise. Testofaccuracy:Atrialbalanceisprepared,takingthesummaryofallaccountsopenedinthe ledgerandarithmeticalaccuracyistested. Knowledgeofassetsandliabilities:Asseparateaccountisopenedforeachassetaswellas liability,positionofeachassetandliabilityisimmediatelyknown. Evidenceinbusinessdisputes:Theledgerprovessufficientevidenceinacourtforbusiness disputes. TypesofLedgers Personal(Accountsofdebtors&creditorsarekeptinthisledger) PurchaseLedgeraccountsofcreditorsonly. SalesLedgeraccountsofdebtorsonly. ImpersonalAllreal&nominalareenteredhere.AlsocalledGeneralLedger PrivateToensuresecrecyoftheaccounts,capital&drawingaccountofproprietorisentered here. RulesofPosting Openingofseparateaccounts Eachtransactionaffectsminimumtwoaccounts.Separateaccountistobeopenedinthe ledger.Suchaccountmaybereal,nominalandpersonalaccount.Noaccountistobe opened,twice.Alltransactionsrelatingtothataccount,debitaswellascredit,aretobe postedintheconcernedaccount,sothatnetpositionoftheaccountisknown. Postingjournalentrytoconcernedside Ifanaccountisdebitedinthejournal,postingwillbemadeonthedebitsideofthe accountintheledger.Similarly,ifanaccountiscreditedinthejournal,thataccountwould becreditedintheledger. Useoftheword'To'and'By' Whilewritingthedebitside,commencewithwordsToandwritethenameofthe account,whichiscreditedinthejournal.WritethewordsByonthecreditsidebefore writingthenameoftheaccountthatisdebitedinthejournal.Inotherwords,thenameof theotheraccountistobewritten. Balanceinaccount Side(Debitorcredit)thatisheavyistobetotaled,first.Thesametotalistobeputonthe totalcolumnoftheothersideintheaccount.Netpositionisarrived.Ifdebittotalishigher thanthecreditside,netpositionwouldbedebitandviceversa. BalancinganAccount Whenpostingiscompleteineachaccount,balancingistobedone.Todobalancing,firsttotaltheheavier sideoftheaccountandputthesametotalontheothersideandarriveatthebalance.Suchbalanceis calledbalancec/d.ThedifferenceofthetotaloftwosidesofanaccountiscalledBalance,whichcanbe debitorcreditbalance. Balanceintheaccounthastobebroughtdown.Suchbalanceiscalledbalanceb/d.Thebalancethatis

11

broughtdownappearsinthetrialbalance.Ifthebroughtdownbalanceisdebit,theamountappearsunder thedebitcolumninthetrialbalance.Similarly,ifthebalancebroughtdowniscredit,thebalanceappears underthecreditcolumninthetrialbalance.Bothdebitsandcreditsshouldbeequalinthetrialbalance.If bothdebitandcreditareequal,itisanindicationthatthereisarithmeticalaccuracy. Balanceb/distheclosingbalanceoftheaccountfortheyearconcerned.Thesameamountwould becometheopeningbalanceforthenextyear.

Questions
ClosingEntries(3) BusinessEntityConcept(3) MoneyMeasurementConcept(3) Definethetermfinancialaccounting(3) WhatdoyoumeanbyJournal(3) Doubleentrybookkeeping(3) Accrualconcept(3) Ledger&itsformat(3) Doubleentryaccountingsystem(10) Distinguishbetweenaccountconceptandaccountingconvention(10)

**CashBook** CashBookisajournalaswellasaLedger.Cashandbanktransactionsaredirectlyenteredintothecash book.So,cashbookservesthepurposeofajournal,bookoforiginalentry.Thefunctionofaledgeristo showthebalanceofanaccount.Fromcashbook,cashandbankbalance,attheendofanyday,isknown, servingthepurposeofaledgertoo.CashBookhasauniqueposition,servingthepurposesofajournalas wellasaledger. **ContraEntries **PettyCashBook **ImprestSystem

Accrual Concept Businesstransactionsarerecordedwhentheyoccurandnotwhentherelatedpaymentsarereceivedor made.Thisconceptiscalledaccrualbasisofaccountinganditisfundamentaltotheusefulnessof financialaccountinginformation. Anairlinesellsitsticketsdaysorevenweeksbeforetheflightismade,butitdoesnotrecordthe paymentsasrevenuebecausetheflight,theeventonwhichtherevenueisbasedhasnotoccurredyet. Abusinessrecordsitsutilitybillsassoonasitreceivesthemandnotwhentheyarepaid,becausethe servicehasalreadybeenused.Thecompanyignoredthedatewhenthepaymentwillbemade.

12

Accountingstandardsstrictlyrequireaccountingonaccrualbasis.However,thereisanalternativecalled cashbasisofaccounting.Underthecashbasiseventsarerecordedbasedontheirunderlyingcashinflows oroutflows.Cashbasisisnormallyusedwhilepreparingfinancialstatementsfortaxpurposes,etc. Realizationconceptinaccounting,alsoknownasrevenuerecognitionprinciple,referstotheapplicationof accrualsconcepttowardstherecognitionofrevenue(income).Underthisprinciple,revenueisrecognized bythesellerwhenitisearnedirrespectiveofwhethercashfromthetransactionhasbeenreceivedornot.