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3Types of Accounts :
Practically every business
1) Deals with other persons, firms & companies;
2) Possesses assets like cash, stock, buildings, furniture etc. &
receives incomes such as commission, interest etc.
It is necessary to maintain the following to record all the above changes.

An A/C of each person, firm or co. with which the business deals. A/Cs under
this class are known as Personal A/Cs.
An A/C of each type of asset which a business owns comes under the class of
Real A/Cs.
A/C for each expense & gain A/Cs under this class are known as Nominal or
Ficticious A/Cs.

An A/C is a statement in the ledger which records the transactions relevant to the
person, asset, expense or profit named in the heading.
A/Cs can be divided into: Personal A/Cs
Impersonal A/Cs real & nominal
PERSONAL A/CS
a) Natural persons Smiles A/C
b) Artifical persons or legal bodies Firms A/Cs, Co.s A/Cs
c) Representative personal A/Cs A/Cs representing O/S expenses &
accured or prepaid incomes are personal A/Cs. eg:- prepaid insurance, O/S
wages, salary, real, etc.
IMPERSONAL A/CS
a) Real A/Cs A/Cs in which the business records the real things owned by
it ie assets of the business are known as real A/Cs. Real A/Cs are of 2
types: Tangible land , plant etc.
Intangible trademark , patent , goodwill A/C
b) Nominal A/Cs - relates to the items which exist in a name only. Expenses,
incomes etc. are there in business activities. A/cs which record expenses,
incomes, losses & gains of the business are called Nominal A/Cs such as
Rent A/C, Salaries A/C, Telephone charges A/C, Postage A/C, Advertising
A/C, Commission Received A/C, Interest Received A/C.
ACCOUNTING RULES
A transaction should be divided into 2 aspects:i) Debit aspect
ii) Credit aspect

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The rules for making entries under double entry system can be summarized as
follows : Personal A/C 1a) Debit. the receiver
1b) Credit the giver
Real A/C
2a) Debit what comes in
2b) Credit what goes out
Nominal A/C 3a) Debit. all expenses & losses
3b) Credit all incomes & gains
BASIS OF ACCOUNTING

Cash basis
Accrual or Mercantile basis
Mixed or Hybrid basis

1. Cash basis - Under cash basis of accounting all incomes are considered to be
earned only when they are actually received in cash. Expenses are considered to be
incurred only when they are actually paid. The difference b/w total income &expenses
represents profit. No adjustments are needed for o/s and prepaid expenses. Similarly,
accrued income & income recd. In adv. are also not adjusted. Income is recognized
only when cash is received. Govt. system of A/Cing is mostly on cash basis.
Cash basis accounting is a very simple form of accounting. When a payment is
received for the sale of goods or services, a deposit is made, and the revenue is
recorded as of the date of the receipt of funds no matter when the sale was made.
Checks are written when funds are available to pay bills, and the expense is recorded
as of the check date regardless of when the expense was incurred.
The primary focus is on the amount of cash in the bank, and the secondary focus is on
making sure all bills are paid. Little effort is made to match revenues to the time
period in which they are earned, or to match expenses to the time period in which they
are incurred.
2. Accured basis of accounting or Mercantile system is a system in which
A/Cing entries are made on the basis of amounts having become due for payment or
receipt. Incomes are credited to the period in which they are they are earned, whether
cash is received or not. Similarly, expenses & losses are debited to the period in which
they are incurred, whether cash is paid or not. The profit or loss of any A/Cting period
is the difference b/w incomes earned & expenses incurred, irrespective of cash
payment or receipt. All O/S expenses & prepaid expenses, accured incomes &
incomes received. In adv are adjusted while finalizing the A/Cs. This method is
followed by all the merchants, trade & industry. That is why it is known as Mercantile
System.
Accrual basis accounting matches revenues to the time period in which they are
earned and matches expenses to the time period in which they are incurred. While it is
more complex than cash basis accounting, it provides much more information about
your business. The accrual basis allows you to track receivables (amounts due from
customers on credit sales) and payables (amounts due to vendors on credit purchases).
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The accrual basis allows you to match revenues to the expenses incurred in earning
them, giving you more meaningful financial reports.
3. Mixed or Hybrid basis of accounting Some items of income are taken on cash
basis while must of the expenses are shown on accrual basis. It is mainly for
conservative people.
CASH BASIS

ACCRUAL BASIS

Revenues are recorded when they are Revenues are recorded when they are
received, which may be before or after they earned, which may be before or after they
are earned.
are received.

Expenses are recorded when they are paid, Expenses are recorded when they are
which may be before or after they are incurred, which may be before or after
incurred.
they are paid.

Financial statements reflect revenues and Financial statements match revenues to the
expenses based on when transactions were expenses incurred in earning them, and
entered rather than when revenues were more accurately reflect the results of
earned or expenses incurred.
operations.

No receivables are recorded.

A receivable is recorded when payment is

not received at the point of sale.

No payables are recorded.

Payables are recorded when payment is

not made at the time of purchase.

No method of tracking partial payments is Revenues and expenses are recorded in

available.
full, even though partial payments may be
made over extended time periods.

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ACCOUNTING TERMINOLOGY
1. Capital represents owners funds invested in a business. It may be the original
amount invested by the owner or original contribution adjusted for the profits &
drawings. It is also known as owners equity or net worth. Capital represents owners
claim against the assets of the business. It is equal to the total assets minus outside
liabilities.
2. Liabilities represents temporary interest of outside creditors in the assets of a
business. Liabilities are debts, they are amounts owned to creditors; thus the claims of
those who are not owners are called liabilities. Eg.debts repayable to outsiders by the
business
3. Assets are defined as anything of value owned by a business. Assets are future
economic benefits, the rights, which are owned & controlled by an organization or an
individual.
4.Revenue defined as the inflow of assets which result in an increase in the owners
equity includes all incomes like sales receipt, interest, commission, brokerage. Etc.
however, receipts of capital nature like addition of capital, sale of assets etc. , are not
a part of revenue.
5.Expense amount spent in order to produce & sell the goods & services which
bring in the revenue may be defined as the cost of the use of things or services for the
purpose of generating revenue.
Expenses can be capital expense & revenue expense.
Capital expense generates revenue over several A/Cting years. It includes acquisition
of long term assets like M/C.
Revenue expense generates revenue in the current A/Cting year. It includes current
expenses like salary, rent etc.
6. Debtors a person who receives a benefit without receiving money or moneys
worth immediately but, liable to pay in future is a debtor. Debtors can be trade
debtors if he buys goods on credit whereas others are non-trade debtors.
7. Creditors a person who gives benefit without receiving money or moneys worth
immediately, but liable to claim in future. Creditors can be trade creditors if he
supplies goods on credit whereas others are non-trade creditors.
8. Tangible assets which have physical existence ie they can be seen or touched.
Ex:- cash, buildings.
9. Intangible assets which have no physical existence ie they cannot be seen or
touched. Ex:10. Ficticious asstes items shown along with the assets on the assets side of a B/S,
but actually representing unadjusted losses are termed as ficticious assets. Eg:preliminary expenses, P&L A/C, dr. balance.
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11. Washing assets that loose value with usage. Mines, forest become waste once the
material is fully exhausted.
12. Fixed assets acquired for income generation but not for resale are called fixed
assets. Benefit derived from them is for a longer time.
13. Current or floating assets are converted into cash in less than 1 year in a normal
course of business. Eg:- stock, debtors
14. Purchases buying of goods with the intention of resale is called purchases. Cash
paid, cash purchases, payment postponed, credit purchases.
15. Sales selling of goods in the normal course of business is termed as sales.
Immediate cash payment is cash sales and postponed payment is credit sales.
16. Stock refers to goods lying unsold on a particular date.
17. Losses loss really indicates something against which a firm receives no benefit.
It represents money given up without any return. Expenses leads to revenue but losses
do not. Eg:- loss due to fire, theft & damage payable to others.
18. Drawings any amount of money or moneys worth withdrawn by the owners of
the business is termed as drawings usually subtracted from capital.
19. Invoice statement prepared by a seller of goods to be sent to the buyer shows
details of quantity price, value etc. of the goods & any discount given, finally showing
the net amount payable by buyer.
20. Vouchers written record & evidence of a transaction. So documentary evidence
of any transaction is called a voucher.
21. Goods includes all merchandise, commodities etc. in which a trader deals in the
course of a business. Ex:- for a furniture dealer, a furniture say a chair is a good but
for a firm, it is an asset.
22. CurrentLiabilities liabilities which are payable within 1 year in the normal
course of business. ex:- trade creditors, B/P
23. Long term liabilities beyond a period of 1 year. Eg:- bulk loans, mortgage loans.
24. Solvent - a person who has assets with realizable values which exceeds his
liabilities is solvent.
25. Insolvent a person whose liabilities are more than the realizable values of his
assets is called insolvent.
BASIC ACCOUNTING CONCEPTS AND CONVENTIONS

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CHARACTERSTICS OF ACCOUNTING CONCEPTS & CONVENTIONS

1. The A/Cing principles are developed for practical purposes.
2. Are for common usage to ensure uniformity & understanding. They are not rigid.
3. They are not specifically made or legislated by any govt. or legal authority.
4. They are in the process of evolution & are likely to change as per the dictates of
changing circumstances & technology.
A/Cing concepts, are the assumptions or postulates or ideas which are essential to the
practice of A/Cting & preparation of financial statements.
Entity Concept
Money Measurement Concept
Going Concern Concept
Dual Aspect Concept
Accounting period Concept
Cost Concept
Revenue Recognition or Realization Concept
Matching Concept
Accrual Concept
Objective Evidence Concept
1. Entity concept The entity represents the association of persons is considered
distinct & separate from the owners & employees of the business. Eg:- sole
proprietorship, partnership firm, joint stocks co.
The entity concept de-limits the area to be covered by A/Cting records &
reports. It determines what is to be recorded & what is to be excluded from the
books of A/Cs. it underlines the A/Cting concept of projit in which a sharp
distinction is made b/w the operating expense of the business & payments to
owners.
It implicates that A/Cting has to maintain the financial records of the business,
records incomes& expenses of the business, ascertain profit or loss made by
the business entity & show its financial position periodically.
2. Money measurement concept All business transactions are measured, expressed
& recorded in terms of money. Money provides a common denominator or unit of
measurement.
It excludes all business transactions & events which cannot be measured in
terms of money.

Going concern concept According. To 2 a (i), the enterprise is normally

viewed as a going concern, ie, as continuing in operation for the foreseeable
future.
It is assumed that the enterprise has neither the intention nor the necessity of
liquidation. This concept assumes that a business entity has continuity of life..
Imp. For valuation of assets & liabilities. It recognizes the value of assets &
liabilities of the business enterprise on the basis of their productivity & not on
the basis of their current realizable value.
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4. Dual aspect concept Every business transaction has 2 aspects receiving &
giving of benefit. It is the basis for double entry system of book keeping which is
universally used. It is also the basis of A/Cing equation. Assets = Equities.
Assets represents all properties acquired by a business for generating
income in the short run & long run.
Equities represent the claims of different claimants, including the owners,
against the assets. The equities are usually sub divided into capital &
liabilities to distinguish b/w the claims of owners from the outsiders.
Capital + Liabilities = Assets
Capital = Assets - Liabilities
5. Accounting Period Concept necessary to sub-divide the indefinite life span of a
firm into smaller units for measurement of performance & understanding the financial
position.
Such smaller & usable time frame is called an A/Cing period. It should not be
too short which results in the burden of preparing financial statements
frequently.
6. Cost concept Assets are recorded at the price paid to acquire them.
The cost is basis for all subsequent A/cting for the assets. The assets are
generally depreciated on the basis of cost & effective life of asset.
7. Revenue recognition or realization concept Revenue is the gross inflow of cash,
receivables or other consideration arising in the course of an enterprise from the sale
of goods, services & from holding of assets. Acc.
To the realization concept, revenue is considered as earned on the date when it is
realised. The term realisation implies the legal liability to pay by the buyer or user or
customer. The realization concept is vital for determining incomes pertaining to an
A/Cting period avoids the possibility of inflating incomes & profits.
8. Matching concept The accountants are responsible to match the revenues earned
during an A/Cting period with the cost associated with the period to ascertain the
profit earned. Matching of revenues & costs relevant to a specific period is called the
matching concept.
It is the basis for finding reliable profit for a period which can be safely
distributed to the owners. O/S expenses & prepaid expenses & incomes have
to be properly adjusted. Matching is done in 2 stages.
Direct costs are matched with sales revenue to ascertain GP. Indirect costs are
matched with GP & other incomes to ascertain net profit from operations. Non
operating losses like loss a sale of FA, abnormal losses due to theft,fire etc.
Capital expenses to be written off like preliminary exp., underwriting common
should also be matched with the operating profit to find disposable NP.
9. Accural concept makes a distinction b/w receipt of cash & the right to receive
cash & payment of cash & the legal obligation to pay cash in relation to revenues &
expenses respectively. Accrual concept is the basis for mercantile system of A/Cting.
It ensures that the profit or loss shown on the basis of full facts relating to all expenses
& incomes.
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10. Objective evidence concept All A/Cing entries must be based on objective
evidence. Objective refers to verifiability, reliability & absence of bias.
No transaction must be recorded in the books of A/Cs without verifiable
evidence.ex;- cash receipts for payments made, bank paying in counterfoils,
invoice copies for purchases etc. eliminates unauthorized entries.
ACCOUNTING CONVENTIONS
1. Convention of full disclosure All A/Cting statements should be prepared honestly.
The statement should fully disclose all the significant information. This type of
disclosure needs proper classification, summarization, aggregation & explanation of
all the numerous business transactions.
The footnotes, comments, descriptive captions, supplementary schedules etc.
in the A/Cting reports are an invaluable aid for full disclosure. eg:- market
value of investments may be given on footnotes.
The full disclosure does not imply providing any information required by
anybody or revealing trade secrets & strategies.
2. Convention of consistency is to preserve the comparability & reliability of
financial statements. According to this convention, the rules, practices & concepts
used in A/Cting should be continuously observed & applied year after year.
Consistency at 3 levels Vertical, Horizontal & Dimensional.
Vertical refers to consistency in the various aspects of financial statements in
the same year in a firm.
Horizontal consistency of practices b/w different year in a firm.
Dimensional refers to consistent A/Cting practices in the financial statements
of different firms in the same industry.
3. Convention of materiality Materiality means relative importance.
All important items & facts should be disclosed in A/Cting statements.
Unimportant & immaterial details need not be separately given. An item
should be regarded as material if there is reason to believe that knowledge of it
would influence the decision of informal investor.
The test of materiality can be applied to 3 aspects : Information
Amounts
Brocedures
4. Convention of conservatism Conservatism is a policy of caution or playing safe.
It demands taking a gloomy view of a situation. It is defensive A/Cting mechanism
against uncertainty. Conservatism is a guideline which chooses b/w acceptable
A/Cting alternatives for recording transactions so that the least favorable immediate
effect on assets, income & owners equity is reported.