Learning Materials For Accounting, Management , Finance And Economics.

Tuesday, June 29, 2010

Types Of Entries Made In The Journal Proper

The following are the important entries which are made in the journal proper

Opening Entries

All the assets and liabilities of the previous year are required to be carried forward to current year by passing entries. Such entries are called opening entries and passed through the journal proper. The assets are debited and liabilities are credited while passing opening entries. The excess of assets over liabilities is credited to capital account.

Closing Entries

The entries prepared for closing different ledger accounts in the process of preparing final account at the end of the year are called closing entries. Such entries are needed to transfer the expenses and incomes related with revenue nature to trading and profit and loss account. All those transactions are recorded in journal proper.

Transfer Entries

The transfer of amount from one account to another account is made through journal proper. Transfer of gross profit and net profit or loss are required at the time of final accounts preparation. Besides such transfers, the settlement of accounts also is needed. Such transfers of amount from one account to another account are made by passing entries in the journal proper.

Adjustment Entries

Incomes and expenses may occur after closing the ledger accounts at the end of accounting year. They appear in the form of adjustments. Such incomes and expenses should be adjusted either in trading account or profit and loss account or balance sheet. The entries passed for necessary adjustments are called adjustment entries. If those incomes and expenditures are nit incorporated, the trading and profit and loss account can not give true and fair result of operation. Hence, those items of incomes and expenses should be adjusted before preparing final account for a particular period. Since, they affect profit or loss, assets and liabilities of a business entity as a whole.

Monday, June 28, 2010

Concept And Meaning Of Journal Proper

Journal proper is one of the important journals or subsidiary books. It is a subsidiary book in which not all but only a few types of transactions are recorded. There are certain types of transactions which are not recorded in other subsidiary books but are recorded in the journal proper. These transactions, for example, include the transactions relating to drawings, outstanding expenses, accrued incomes, reserves, provisions, interest on capital, drawing of goods and assets by proprietor, loss of goods by some reasons, and credit purchase and sale of other assets such as land, buildings, machinery, and furniture. In journal proper book, the transactions are recorded by passing journal entries based on the rules of debit and credit. Formally, thus, the journal paper may be defined as a journal or subsidiary book in which not all but only a few types of financial transactions of the business are recorded systematically in a chronological order as and when they take place.

Sunday, June 27, 2010

Importance And Methods Of Preparation Of Trial Balance

Importance Of Trial Balance

The trial balance is important due to the following reasons

* Trial balance summarizes all the financial transactions of the business.

* Trial balance provides a check on the arithmetical accuracy of recordings of all the financial transactions of the business.

* Trial balance helps in locating errors by providing a starting point for the location of errors committed if any.

* Trial balance provides a basis for the preparation of final accounts.

Methods Of Preparation Of Trial Balance

The following are the methods of preparing a trial balance

1. Total Method

Under total method, trial balance is prepared by taking up the total of debits and credit of all ledger accounts.

2. Balance Method

Under balance method, only the balances of all the ledger accounts are taken up to prepare the trial balance.

3. Compound Method

Compound method is the combination of both the methods, total method and balance method. Thus, compound method is also known as total cum balance method.

Objectives Of Trial Balance

The following are the important objectives of trial balance

1. To Check The Arithmetical Accuracy

Trial balance is based on the double-entry principle of debit equals credit or credit equals debit. As a result, the debit and credit columns of trial balance must always be equal. If they do, it is assumed that the recordings of financial transactions are accurate. Conversely, if they do not, it is assumed that they are not arithmetically accurate. Therefore, one important purpose of preparing trial balance is to provide a check on the arithmetical accuracy of the recordings of the financial transactions.

2. To Help Locate Accounting Errors

Since the trial balance indicates if there is any error committed in the journal and the ledger, it helps the accountant to locate the error because the starting point of locating errors is trial balance itself.

3. To Summarize The Financial Transactions

A business performs several numbers of financial transactions during a certain period of time. The transactions themselves can not portray any picture of the financial affairs of the business. For that purpose, a summary of the transactions has to be drawn. The trial balance is prepared with a view to summarize all the financial transactions of the business.

4. To Provide The Basis For Preparing Final Accounts

Final accounts are prepared to show profit and loss and the financial position of the business at the end of an accounting period. These accounts are prepared by using the debit and credit of all ledger accounts. Therefore, since the trial balance is a statement of the debit and credit balances of the ledger accounts, it provides the basis for the preparation of the final accounts.

Concept And Meaning Of Trial Balance

Trial balance is an important statement prepared under the double-entry system. The fundamental principle of the double-entry system is that for every amount of debit there is an equal amount of credit and vice verse. This principle provides a check on arithmetical accuracy of the recording of financial transactions in different books such as journal and the ledger. Such a check can be performed by preparing a statement called trial balance. Trial balance is a statement prepared taking up the debit and credit totals or balances of all ledger accounts on a particular date.

Trial balance is a statement which is prepared by using the debit and credit totals or balances of all ledger accounts with a view to ascertain the arithmetical accuracy of the recordings of the financial transactions of the business. Trial balance is prepared after closing all the ledger accounts and drawing balances therefrom a certain date. All the debit and credit totals or balances are arranged in debit and credit column together with the heads of account in a separate sheet of paper so as to ascertain whether the totals of debit and credit columns agree. If the two totals of trial balance agree, it is assumed that recordings of financial transactions in the journal and the ledger are arithmetically accurate. The trial balance can also be used to prepare the final accounts of the business.

Preparation Of Bank reconciliation statement

The following procedures are followed while preparing the bank reconciliation statement:

* Compare cash book and pass book items.

* Give sign to all the items of cash book and pass book which are matched with each other.

* Make a list of unmatched items found in cash book and pass book.

* Prepare bank reconciliation statement taking balance either from cash book or pass book as a basis.

* Adjust the items which cause the disagreement in the balances. Add the items which have decreased the balance on the book with which reconciliation is to be made. On the contrary subtract the amount of those items which have increased the balance.

These procedures should be followed only when the cash book and pass book are to be compared. But if causes of differences are already given, the above procedures need not be followed.

If the causes of disagreement between the cash book and pass book balances are given, the bank reconciliation statement can be prepared either by taking the balance of cash book or pass book. The bank reconciliation statement can be prepared by using either of the following bases.

* Debit balance shown by cash book

* Credit balance shown by cash book (bank overdraft)

* Credit balance shown by pass book

* Debit balance shown by pass book (bank overdraft)

Reasons For Disagreement Between Cash Book And Pass Book Balances

The following are the important causes or reasons for the disagreement between the balances shown by the pass book and cash book.

1. Cheques issued but not presented for payment.

2. Cheques paid or deposited but not collected and credited by the bank.

3. Interest credited by the bank but entered in cash book.

4. Bank charges, commission and interest in overdraft debited by the bank but not entered in cash book.

5. Expenses directly paid by the bank on behalf of customer but not recorded in cash book.

6. Incomes directly collected by the bank on behalf of customer but not recorded in cash book.

7. Amount directly deposited into the bank by debtors but not entered in cash book.

8. Cheque deposited into the bank but dishonored.

9. Dishonor of bill discounted with the bank.

10. Errors committed in the cash book and pass book.

Needs And Importance Of Bank Reconciliation Statement

Bank reconciliation statement is an important technique by which the accuracy of the bank balance shown by the pass book and cash book is ensured. The need and importance of bank reconciliation statement can be summarized in the following points.

* Bank reconciliation statement ensures the accuracy of the balances shown by the pass book and cash book.

* Bank reconciliation statement provides a check on the accuracy of entries made in both the books.

* Bank reconciliation statement helps to detect and rectify any error committed in both the books.

* Bank reconciliation statement helps to update the cash book by discovering some entries not yet recorded.

* Bank reconciliation statement indicates any undue delay in the collection and clearance of some cheques.

Saturday, June 26, 2010

Concept And Meaning Of Bank Reconciliation Statement

A modern business performs its transactions through bank. It generally receives cash through bank deposits and makes cash payments by issuing cheques. In order to keep records of its transactions, it maintains a cash book with bank columns. It is in fact the bank account in the books of the business. On the other hand, bank also maintains the customer's account in its books. Whenever the business opens an account in the bank by depositing some amount, the bank provides it with a cheque book to facilitate the withdrawal or payment of cash, and a pass book which shows the detailed statement of the customer's account in the bank.

Any transaction that takes place through bank is supposed to be simultaneously recorded in the books. For example, if cash is deposited in the customer's account, it is debited in the bank column of the cash book, while it is credited in the pass book. Similarly, if cash is withdrawn from bank or payment is made through bank, the bank column of the cash book is credited and pass book is debited. As a result, it is supposed that the cash balance at bank shown by both cash book and pass book is always the same. However, the balance shown by the pass book hardly equals the balance shown by the bank column of the cash book.

The disagreement between the balance shown by the pass book and cash book occurs due to some transactions or errors that appear only in the cash book but not in the pass book, or only in the pass book but not in the cash book. However, it is essential to reconcile the difference in the balances shown by the pass book and the cash book for ensuring their accuracy. In order to reconcile the balances shown by them, a statement is prepared which is called bank reconciliation statement. A bank reconciliation statement is the statement which is prepared to reconcile the balances shown by the pass book and cash book by finding the causes of difference between the two balances.

Thursday, June 24, 2010

Types Of Petty Cash Book

The following are the types of petty cash book

1. Simple Petty Cash Book

A simple petty cash book is one in which there is only one amount column on its both sides with common date and particular column. The debit column is used for entering the balance of cash in the hand of petty cashier at the beginning of the period and the amount received from the head cashier. The credit amount column is used for entering the petty payments in order of date. It is balanced like a ledger account.

2. Analytical Petty Cash Book

An analytical petty cash book is one in which there is one amount column in its debit side and a number of columns on its credit side for different heads of expenses. Since the petty cash book analysis the expenses into a number of heads of expenses, the name given to it is analytical petty cash book. Each payment is recorded on it twice, one on total amount column and next on individual expense column. In fact, it is an extension of simple petty cash book. The total amount column is balanced and individual expense columns are totaled.

Meaning Of Petty Cash Book, Its Importance And Advantages

Meaning Of Petty Cash Book

A petty cash book is one in which all petty or small payments made through petty cash fund are recorded systematically. Petty cash book is maintained by the petty cashier. Petty cash book can be maintained either in a simple or in analytical way.

Importance And Advantages Of Petty Cash Book

Business performing a large number of petty transactions usually maintain a separate petty cash book. The following points highlight the importance and advantages of petty cash book which can be taken as its objectives as well.

* Petty cash book maintains records of all petty payments systematically.

* Petty cash book supplies information regarding petty payments made on different heads more easily and quickly.

* Petty cash book makes possible for making comparison of the petty expenses between two periods and helps in controlling such petty expenses more effectively.

* Petty cash reduces the burden of head cashier as he is not required to handle petty transactions. Hence, the head cashier will have enough time to manage and control major cash transactions more effectively.
* Petty cash book helps in making the main cash book more informative, clean and clear by including only major transactions.

* Petty cash book helps in making the records of cash transactions up-to-date because of division of labor in recording cash transactions.

Petty cash book saves time because each payment under particular head is not posted into the ledger separately. The posting is made with the periodical total at a time.

Wednesday, June 23, 2010

Concept And Meaning Of Petty Cash Fund And System Of Petty Cash

Petty cash fund is a certain amount of fund which is kept aside for paying all small or petty expenses, like bus fare, cartage, postage stamp etc. that cannot be paid particularly through cheque. The amount of fund is availed to a separate staff who is known as petty cashier by debiting petty cash account and crediting cash account.

System Of Petty Cash

There are two types of petty cash. One is ordinary and another is imprest system as explained below:

1. Ordinary System Of Petty Cash

Under it, the petty cashier is given a certain amount of cash for meeting petty expenses. When he spends nearly the whole amount , he submits the account of expenses along with surplus amount. If necessary, he will be given another sum to meet petty expenses of next period.

2. Imprest System Of Petty Cash

It is more popular system of petty cash. Under it, the petty cashier is given certain amount of cash usually at the beginning of a month. At the end of the period, the petty cashier submits the accounts of expenses keeping surplus amount himself. Now, the head cashier gives to the petty cashier another sum for the reimbursement of the fund which equals the amount spent by him during the period. Thus, every time petty cashier begins the next period with the same amount of float. Note that the fund is reimbursed by debiting individual expense account and crediting petty cash account. The system in which petty cash fund is reimbursed for the petty expenses incurred is called imprest system of petty cash.

Dishonor Of Cheque And Reasons For Dishonor

What Is Dishonor Of Cheque ?

The bank should pay the amount mentioned on the cheque as soon as it is presented. If the amount of cheque is paid by the bank to the payee, the cheque is said to be honored. If the bank refuses to pay the amount of cheque, then the cheque is said to be dishonored. Thus the dishonored of the cheque means the refusal by the bank to pay the amount of cheque to the payee. It is a condition in which the bank does not pay the amount of the cheque to the payee. In fact, when the drawer draws the cheque without following all the rules of issuing cheque or when he/she draws the cheque exceeding the bank balance then the bank dishonors the cheque.

Following are the some important reasons for dishonoring a cheque

* If the date is not written or written incorrectly or the date given is of three months before or if the advance date is given.

* If the name of the payee is not written or not written clearly.

* If the ordered or crossed cheques are transferred without proper endorsement and delivery.

* If the amount is not written in words and figures or written incorrectly or if the amount written in words and figures does not match with each other.

* If the alteration made on the cheque is not proved by the drawer giving signature.

* If the account number is not mentioned or if it is not clear or if it is not mentioned clearly.

* If the signature is not given or if the signature given in the cheque does not match with the signature given on the signature specification card kept by the bank.

* If the amount mentioned on the cheque is more than the amount that the drawer has in his bank account or if as per bank's rule the minimum balance in the account of the drawer can not remain.

* If the cheque is overwritten.

* If the cheque is not found in proper condition or it is found wet, torn or spotted.

* If the drawer has given order to the bank to stop payment of the cheque.

* If the bank has got the information regarding the death or insolvency or lunacy of the drawer of depositor.

* If the court of law orders the bank to stop payment of the cheque.

* If the bank balance remains shortage on account of not collecting the cheque deposited.

* If the drawer has closed his/her account before presenting the cheque.

Tuesday, June 22, 2010

Rules For Drawing A Cheque

If the drawer makes the cheque properly and if the balance of the drawer at the bank permits, the bank must pay the amount of cheque as soon as it is presented. If the drawer does not make the cheque properly, the bank rejects payment. Hence, to make the cheque properly, the following points or rules must be considered.

1. Date

Date should be mentioned on the cheque properly. If the cheque is more than three months old or contains future date then the bank will not pay the amount.

2. Name Of The Payee

The name of the payee should be mentioned on the cheque.

3. Amount Of The Cheque

The amount of the cheque should be mentioned both in words and figures clearly. The amount written in the word should tally with the amount written in figures.

4. Signature

The drawer should sign the cheque properly. The signature given on the cheque should tally with the signature given on the signature specification card. The signature specification card is kept by the bank.

5. Account Number

The drawer should mention his account number clearly and correctly.

6. Minimum Balance

The amount mentioned on the cheque should not be more than the amount deposited in the bank. Beside it, a certain amount of minimum balance should always be there in the account as per the rule of the bank.

7. Crossing And Overwriting

There should not be any crossing and overwriting in the cheque.

8. Condition Of The Cheque

Cheque should be in proper condition. If the cheque is torn, wet and spotted, it will not be acceptable to the bank.

9. Endorsement

The ordered and crossed cheques should be transferred by proper endorsement and delivery; otherwise, the amount of cheque will not be paid by the bank

Parties To A Cheque Or Parties Involved In A Cheque

There are three parties involved in a cheque. They are drawer, drawee and payee. Drawer is the account holder, drawee means bank and payee is the party who receives payment. Parties involved in a cheque can be described as follows:


1. Drawer

Drawer is the party who draws the cheque upon a specified banker. He is the maker of the cheque. He is the account holder who draws the cheque for drawing money from his bank account. He is the person who issues cheque directing the bank to pay a certain sum of money to a certain person or to the bearer. Thus, the person who signs the cheque is known as drawer.

2. Drawee

Drawee is the party upon whom the cheque is drawn. Drawee is the bank. It is the party to whom the drawer gives order to pay the amount to the person named on the cheque or his order to the bearer. When the bank follows the order and pays the amount of the cheque then the cheque is said to be honored. In case of refusal of the order, the cheque is said to be dishonored.

3. Payee

Payee is the party who presents the cheque for payment. He is the person who receives money from bank. He is the party in favor of whom cheque is issued. The payee is the person whose name is mentioned on the cheque. If the cheque is made payable to self, the drawer himself becomes the payee.

Meaning And Characteristics Of Cheque

What Is Cheque ?

Cheque is an important means of payment. Cheque is used for paying a large sum of money. It is the most widely used tool for drawing money from the bank. Cheque is used by the buyer or debtor to pay the due amount of goods to his seller or creditor out of his bank deposit. Cheque is a written order issued by a depositor to a particular bank directing it to pay a certain sum of money to a certain person or to the bearer of the cheque.

Characteristics Of Cheque

The main features or characteristics of cheque can be highlighted as follows:

1. An Unconditional Order

The drawer or the depositor should not lay down any condition in the cheque.

2. Drawn Upon A Specified Banker

The drawer issues cheque directing to a particular bank having deposit in it to pay the amount of cheque.

3. Signed By The Maker

The cheque should be signed by the account holder.

4. Amount In Words And Figures

The amount of cheque should be mentioned in words and figures.

5. Payable On Demand

The amount of cheque must be paid by the bank as soon as it is presented at its counter.

Concept And Types Of Bank Accounts

Concept Of Bank Account

In order to perform cash transactions through bank, a business requires to operate an account in commercial bank which is known as 'Bank Account'.

Types Of Bank Accounts
 
The following are the types of bank accounts in which amount can be deposited or cash transactions can be operated.

1. Current Account

A current account is one in which there is no restriction in respect of the number of withdrawals and extent of the amount to be drawn. Mostly, it is operated by businessmen for the sake of convenience ans safety in handling cash transactions. No interest is allowed by the bank on the deposit made in current account. The trader is required to maintain a minimum balance in current account all the times. The minimum balance may vary depending upon the policy of individual bank. The business deposits cash and cheques in its current account and withdraws amount from it as and when required. The bank does not give credit to the current account for the cheque deposited until it collects the amount from the drawee bank. The business is required to fill in a pay-in-slip and submit to the bank at the time of depositing cash and cheques.

2. Saving Account

A saving account is one in which there is restriction in respect of the number of withdrawals and the extent of the amount to be drawn. Saving account is not suitable for business. Usually, it is opened by individuals. An individual prefers to open saving account to earn moderate interest. The depositor or the account holder is required to maintain the minimum balance all the times. The amount of minimum balance is usually less than that of the current account. Banks do not restrict for number of withdrawals provided daily withdrawals do not exceed the maximum limit. They require pre-information to withdraw more than the limit specified. They provide the facility of debit card from which amount can be withdrawn at any time not exceeding the limit fixed by the bank without issuing cheque. The account holder can draw the money by using debit card from any branch bank where the ATM service is available.

3. Fixed Deposit Account

A fixed deposit account is one in which a large sum is deposited for fixed period of time, say, for 1 year or 2 years or more years. The account holder can not withdraw her/his deposit before the period expires. If the depositor does not require the amount before the expiry of a fixed period then he prefers to deposit his/her amount in fixed deposit account. The rate of interest is the highest in such account. The bank issues a fixed deposit receipt against the deposit made. The account holder returns the fixed deposit receipt on maturity and gets his/her amount back. Usually, the interest is allowed by the bank on half-yearly basis. The fixed deposit account is not suitable for a trader.

Monday, June 21, 2010

Objectives And Importance Of Cash And Banking Transactions

A business must have strict financial rules and accounting system to perform , record, report and control the cash and banking transactions. Proper recording and accounting of cash and banking transactions are important to achieve the following objectives.

* To have systematic and permanent record of all cash and banking transactions in a separate book.

* To obtain reliable and detailed information of all cash receipts and payments easily and immediately.

* To keep effective control over misappropriation of cash and banking transaction.

* To know the main sources and heads of payment of cash.

* To know cash and bank balances.

* To help to prepare cash budget and to avoid the possibility of having excess or shortage of cash.

* To make the cashier and other concerned officers accountable for all cash and banking transactions.

Concept Of Cash And Banking Transactions

All financial transactions are ultimately settled in cash. Some transactions are settled immediately after purchase and sale and the rest are after few days. In fact, business transactions are settled sooner or later either in cash or through bank. Usually, small sums are settled in cash and large sums are settled through bank. There is a greater chance of misappropriating cash while performing cash and banking transactions. Cash can be misappropriated by showing no record or less record of cash receipts. Similarly, it can be misappropriated by showing more or fictitious record of payments. Hence, in order to have proper information and control over cash and banking transactions, every business maintains a separate cash book.

Cash Transaction

Cash transactions refer to cash receipts and payments. The receipts of cash from various sources and payment of cash on various heads are important routine transactions of a business. The main sources of cash receipts are sale of goods and services, sale of old assets, contribution of capital, loan borrowed, interest, rent, commission and other receipt from customers. The main heads of payments are purchase of goods, wages, rent, stationary, interest on loan borrowed, drawing, repayment of liabilities, advertising and payment to suppliers.

Banking Transaction

Banking transactions refer to all receipts and payment made through bank. It is inconvenient and risky affair to get and make payment of large sum directly in cash. A modern business operates bank account to settle all receipts and payment. It issues cheque for making payments accepts cheques for getting amount. It may also instructs its bank to pay and collect amount on its behalf. In fact, the bank is treated by the business as its agent for collecting all receipts and making all payments. Except the balance in petty cash account, no cash balance is maintained in the office of a modern business.

Importance And Utility Of Ledger Accounts

The following are the important utilities of ledger accounts

1. Recording Of Transactions

Ledger account keeps a permanent record of all financial transactions in a classified manner.

2. Providing Information

Ledger account shows detailed financial information of a business regarding debtors and creditors, assets, and incomes and expenses.

3. Preparation Of Trial Balance

Ledger account helps to prepare a trial balance in order to check the arithmetical accuracy of the recording of the financial transactions of the business.

4. Preparation Of Profit And Loss Account

Ledger account helps to prepare profit and loss account so as to ascertain the profit or loss of the business.

5. Preparation Of Balance Sheet

Ledger account helps to prepare the balance sheet with a view to show the financial position of the business.

Objectives Of Ledger Accounts

The following are main objectives of ledger accounts

1. To Provide Classified Financial Information

The ledger is a permanent book of record which contains a number of accounts of different subjects. Its purpose is, therefore to provide classified financial information about the subjects such as a person, asset and an expense or income.

2. To Provide Check On Arithmetical Accuracy

The fundamental double-entry principle provides that debit is always equal to credit or vice verse. Since the ledger account is prepared under the double-entry system, it helps to prepare a trial balance that provides a check on the arithmetical accuracy of the recording transactions in the books of accounts.

3. To Help Ascertain Profit Or Loss

The ledger is a book of accounts relating to all the financial transaction of the business. It contains the accounts of all expenses, losses, incomes and gains. Therefore it helps to prepare the profit and loss account of the business so as to ascertain the profit earned or loss suffered during a specified period.

4. To Help Reveal The Financial Position

The ledger also contains the accounts of the financial transactions relating to capital, all liabilities and assets of the business. With the help of the balances of these accounts and profit and loss of the business, a balance sheet may be prepared to show its financial position at a certain point in time.

Meaning Of Ledger And Ledger Accounts

The final destination of all entries made in the journal is the ledger as they are all subsequently transferred to it. The ledger is the most important book under the double-entry system. Ledger is a permanent book of record, which contains all accounts relating to the financial transactions of a business. Therefore, it is also called the book of accounts. An account contained in the ledger book is called ledger account. A ledger account is a statement shaped liked an English alphabet 'T' that systematically contains all financial transactions relating to either a particular person or thing for a certain period of time. Ledger account provides financial information such as how much a particular person owes to or from the business, what is the value of particular asset the business possesses at a point in time, or what is the amount of particular head of expense or income business has incurred or earned during a particular period. , The ledger book, therefore, contains the details of all classified information of financial transactions of the business. It is also called the principal or main book of accounts. It collects records and provides the financial information of the business in a classified manner so as to ascertain the profit and loss and financial position of the business at a certain point of time.

Rules Of Journalizing Or Rules Of Debit And Credit

Under the double entry system, every financial transactions of a business has a double effect. That is, each transaction involves at least two accounts. One aspect of the transaction is debited in an account and the other credited in another account. The debiting and crediting of the accounts are done on the basis of certain rules. These rules are called rules of journalizing i.e debit and credit. There are two alternative bases for the rules of debit and credit such as follows.

1. Rules Of Debit And Credit Based On The Types Of Account
2. Rules Of Debit And credit Based On The Accounting Equation

1. Rules Of Debit And Credit Based On The Types Of Account

Under double-entry system an account is classified into three types. They are personal account, real account and nominal account. For each of these types of account, there are three separate rules of debiting and crediting the financial transactions. The rules of debit and credit under different types of account are as follows.

A. Personal Account

Personal account is a account of a person. A person can be a natural person such as people like us, an artificial person such as firms, organizations and institutions and a representative person such as debtors and creditors. Since a person, be it a natural, artificial or representative, can be the receiver of benefits or giver of benefits, the rule of debiting and crediting the account of the person is as follows:
* Debit the receiver of benefits
* Credit the giver of benefits
This rule states that whenever a person receives benefits is debited by the amount of the benefit received. On the contrary, whenever the person gives the benefits is credited by the amount of benefits given. For example, if cash is paid to Michael (Michael is a natural person), his account (Michael's account) is debited since he is the receiver of the benefit (cash). If cash is received from City Enterprises (City Enterprises is an artificial person), its account (City enterprises account) is credited because it is the giver of benefits (cash).

B. Real Account

Real account is a record of an asset. An asset can be current asset such as cash, a fixed asset such as building and intangible asset such as goodwill. Since an asset, is a current, fixed or an intangible asset , can either come in the business through its purchase or go out of the business through its sales, the rule of debiting and crediting the real (asset) account is as follows:
* Debit what comes in
* Credit what goes out
This rule states that whenever some benefit in the form of asset come into the business through its purchase, its (asset) account is debited. Conversely, whenever some benefit in the form of asset goes out of the business through its sales, its (asset) account is credited. For example, if cash is invested in the business, cash (current asset) account is debited by the amount of cash. If furniture is purchased for cash, furniture (fixed asset) account is debited because it comes into and cash (current asset) account is credited because it goes out from the business in exchange for furniture.

C. Nominal Account

Nominal account is a record of expense or loss or income or gain. An expense or loss is the sacrifice of benefits in exchange for service used and an income or gain is the benefit earned in exchange for service rendered. Since the business makes expenses and earns incomes, the rule of debiting and crediting the expense and income (nominal) account is as follows:
* Debit all expenses and losses
* Credit all incomes and gains
This rule states that whenever some benefit is sacrificed in exchange for service used ( expense made or loss suffered), its (expense) account is debited. On other hand, whenever some benefit is earned in exchange for service rendered, its (income or gain) account is credited. For example, when salary is paid, an expense is made by the business, therefore salary account is debited. On the other hand , when interest is received, an income is earned by the business, hence, interest received account is credited.

2. Rules Of Debit And Credit Based On The Accounting Equation

Accounting equation is a statement of equality between the three basic elements of accounting. They are assets, capital and liabilities. Each and every financial transaction affects the three basic elements. However, the total of all assets is always equal to the total of capital and liabilities at any point in time. The rules of debiting and crediting an account based on the accounting equation can be summarized in the following way.

S.N...............Effect of Transactions........................................Debit or Credit
1...................Increase in assets and expenses/losses...........Debit
2...................Decrease in assets and expenses/losses...........Credit
3...................Increase in capital,liabilities,income/gains........Credit
4...................Decrease in capital,liabilities,income/gains........debit

Sunday, June 20, 2010

Meaning Of Journal,Its Objectives And Journalizing


Concept And Meaning Of Journal

Accounting process starts with the identification of financial transactions of a business. Such financial transactions are recorded permanently in the books of accounts systematically in different specialized books. These books of accounts are called journal.

The journal is an important book under the double-entry system. Journal is the first book of systematic record of the financial transactions of the business. Journal is called the book of original or prime entry, because its financial transactions are first of all recorded in this book as and when they take place. Journal is also called a subsidiary book as it is maintained to help prepare the main book called the ledger. The journal is prepared with the help of memorandum or waste book, which is a rough and temporary record of the financial transactions of the business.

The literal meaning of the journal is a record of day-to-day financial transactions. Formally, however, it may be defined as a book of original entry or subsidiary book in which the financial transactions of the business are systematically recorded in order of their occurrence.

Objectives Of The Journal

The following are the main objectives of the journal

* Journal is prepared to keep a systematic record of financial transactions.

* Journal is prepared to show financial transactions in chronological order.

* Journal is prepared to present necessary information about the financial transactions.

* Journal is prepared to use as a legal evidence of financial transactions.

* Journal is prepared to facilitate the preparation of ledger book

What is Journalising ?

In simple words, journalising is an act of recording financial transactions in the journal book. It is a process of systematic recording of financial transactions in the book of prime or original entry.
The following steps are taken while journalising the transactions in the journal book.

* To identify the two aspects of the transaction.

* To identify the appropriate accounts for the two aspects of the transactions.

* To debit and credit the accounts relevant to the transaction by using the rules of debit and credit.

* To write the entry in the journal in chronological order. Such an entry is called journal entry.

Computation Of Accounting Equation

The accounting equation shows that any point of time the total assets of a business are always equal to the total of its capital and liabilities. If, by a financial transaction, there is a change in the amount of assets there must be a corresponding change in the amount of either capital or liabilities or both. Therefore, double-entry book-keeping can also be seen as mainly a set of rules by which an increase in assets is connected with a corresponding decrease or with the balancing increase and/or decrease in equity. The set of can be stated in the following manner.

* An increase in the amount of assets with a corresponding decrease in the amount of assets.

* An increase in the amount of assets with a corresponding increase in the amount of capital or liabilities or both.

* A decrease in the amount of assets with a corresponding increase in the amount of assets.

* A decrease in the amount of assets with a corresponding decrease in the amount of capital or liabilities or both.

* An increase in the amount of capital with a corresponding increase in the amount of assets.

* An increase in the amount of capital with a corresponding decrease in the amount of liabilities.

* A decrease in the amount of capital with a corresponding decrease in the amount of assets.

* An increase in the amount of liabilities with a corresponding increase in the amount of assets.

* An increase in the amount of liabilities with a corresponding decrease in the amount of liabilities.

* A decrease in the amount of liabilities with a corresponding decrease in the amount of assets.

Concept And Meaning Of Accounting Equation

One of the important features of double-entry book-keeping is that it makes a twofold or double effect. It implies that every financial transaction has a simultaneous effect on two separate accounts. Such an effect is always of equal amount. This gives rise to the fundamental principle of double-entry system. That is 'For every debit, there is a corresponding credit or vice verse', or Debit= Credit and Credit= Debit. With this fundamental principle, a relationship between three basic elements of accounting can be developed. The three basic elements of accounting equation are assets, capital and liabilities. The relationship between the elements can be shown in the form of a mathematical equation which is called accounting equation. The accounting equation is also called balance sheet equation. It represents a mathematical expression of the balance sheet items of the business. Formally, therefore, accounting equation is a statement of equality between total assets and total claims or equities of the business mathematically.

Accounting equation can be expressed in the following ways.

Assets = Total claims or equities
Or,
Assets = Owners' claim or equity+ Outsiders' claim or equity
Or,
Assets = Capital + Liabilities
Or,
Capital = Assets - Liabilities
Or,
Liabilities = Assets - Capital

Concept Of Accounting Process Or Accounting Cycle And Its Steps

What Is Accounting Process ?

Accounting consists of a number of sequential steps of activities. Those include identifying, recording, classifying, summarizing and communicating financial transactions. The sequence of the steps to be followed in accounting activities is known as accounting process. The accounting process takes the form of a cycle. The sequential steps of accounting activities are taken in cyclical order. The cyclical order starts from the beginning of the transaction till financial results are derived by preparing final accounts at the end of the accounting year. This cycle follows the same order every year.

The accounting process or cycle has the following five steps.

1. Identifying the financial transaction

A business may perform several transactions. Of which, only financial transactions are recorded in accounts. In the first step of the accounting process, therefore, financial transactions are identified. Financial transactions are those which are expressed in monetary terms.

2. Recording Of Financial Transactions

In the second step of accounting process, all financial transactions performed by the business are systematically recorded in the journal, and subsidiary books.

3. Classifying Financial Transactions

In the third step of accounting process, financial transactions are classified mainly into the transaction related with persons that include enterprises, persons, assets and income-expenses. Then, they are recorded in their respective ledger accounts, such as debtors' and creditors' accounts, land and building accounts, commission received accounts, and rent account.

4. Summarizing Financial Transactions

All financial transactions are summarized in this step of accounting process. They are summarized by preparing a trial balance. Preparation of trial balance helps to prepare final accounts which disclose the profit and loss and financial position.

5. Communicating The Results Of Business

In the last step of accounting process, the results of business operations such as profit or loss and the company's financial position are communicated to the users. Those users include owners, creditors and managers who need financial information for decision making purposes.

Importance And Advantages Of Double-entry Book-keeping

Double entry book-keeping is a scientific and systematic system of recording business transactions of the firm.The following are the main advantages of double-entry book-keeping:

1. Scientific System Based On Fixed Rules And Principles

The double-entry book-keeping system is a scientific system of book-keeping. Double-entry system has its own set of principles and rules. Under those principles and rules, two aspects of every financial transaction are recorded.

2. Systematic System Of Recording Transactions

A systematic technique is followed in recording financial transaction in double-entry book-keeping system. It records financial transactions in a systematic and chronological order with suitable narration of the financial transaction.

3. Complete System

Double-entry system is a complete system of book-keeping. It records not only each and every financial transaction, but also each aspect of the transaction.

4. Ensures Accuracy

Double-entry book-keeping system is based on the double-entry principle which means ' for every debit amount there is a corresponding credit amount'. Such a method of debit and credit can help ensure arithmetical accuracy of the recordings of financial transactions.

5. Ascertainment Of Profit Or Loss

Double-entry book-keeping system helps to ascertain the true profit or loss of a business by preparing the profit and loss account for a given period.

6. True Financial Position Of The Business

Double-entry book-keeping system also helps to reveal information about the financial position of the business by preparing a statement called balance sheet.

7. Assists Cost Control

Double-entry book-keeping system keeps a detailed record of financial transactions. Therefore, the recording of financial transactions in books provides necessary information for the purpose of costs control.

8. Helpful In Decision Making

Double-entry book-keeping system communicates financial information that is necessary for taking decisions by a business. Double-entry book-keeping system also provides necessary information to different users such as owners, managers and creditors for their decision making purposes.

Features Of Double-entry Book-keeping

The following are the main features of double-entry book-keeping system

1. Two Aspects

The double-entry book-keeping recognizes that every transaction has two aspects. It is based on the fact that a transaction is an exchange and every exchange involves either two things, or two persons, or a thing and a person. Furthermore, if business makes a transaction, the business will be either the benefit receiver or benefit giver.

2. Debit And Credit

The double-entry book-keeping system provides the two aspects of the transaction with the names 'debit' and 'credit' respectively. For example, the benefit receiver is given the name 'debit' and the benefit giver is given 'credit'. Thus, for each transaction, one aspect is debited and another aspect is credited.

3. Two Fold/Double Effect

The double-entry book-keeping system records two-fold or double effect of every transaction. This implies that the two aspects of a transaction are recorded on two opposite sides of two separate accounts. For example, if cash of $1000 is received by a business from Tom, one aspect of the transaction is recorded on the debit side of the cash account and other aspect is recorded on the credit side of Tom's account in the book of the business.

4. Equal Effect

The double-entry book-keeping system shows an equal effect of the two aspects of a transaction. This implies that the amount of one aspect of a transaction is always equal to the amount of other aspect. It, therefore, follows that for every debit amount there is an equal credit amount which means ' for every debit there is a corresponding credit or vice versa'.

Concept And Meaning Of Double-entry Book-keeping

Book-keeping is an act of keeping permanent records of the financial transactions of a business in a systematic and orderly manner. The financial transactions of the business are identified, recorded and classified in different books. In modern entities, records of financial transactions are maintained under a double-entry system. The double entry system has been recognized as a systematic and complete system for recording financial transactions. Double-entry system recognizes that every financial transactions has two aspects. It then records two aspects of a transaction simultaneously in two separate accounts with equal amounts. It provides the aspects of a transaction with their names of debit and credit. Thereafter, with the help of ledger accounts, profit and loss account and the balance sheet are prepared to ascertain the profit and loss and the financial position of the business. Thus, the double-entry system is the most systematic and complete system of book-keeping. Therefore double-entry system is the technique or method of book-keeping which recognizes the fact that every financial transaction has two aspects and records two aspects of each transaction simultaneously in two separate account giving their names 'debit' and 'credit' respectively.

Wednesday, June 9, 2010

Concept About The Absorption Of Overheads

The absorption of overheads is also known as the recovery of the overheads. Absorption of overheads is the process of sharing the overhead costs by all the products of a particular department. Absorption of overheads is the application of overheads to each unit of output. In other words, the process of ascertaining the total overhead costs of each unit of output or job by using overhead rate is known as the absorption of overhead. Thus the distribution of the overhead expenses allotted to a particular department over the units of produced in that department is absorption of overheads.

In order to absorb the overheads by the units if output of a particular department, the overhead absorption rate or overhead rate should be determined. The two popular methods of absorption of overheads are labor hour rate and machine hour rate . The formula to calculate overhead rate under these methods are given below.

Labor hour rate = Total Overheads/Total Labor Hours

Machine hour rate = Total Overheads/ Total Machine Hours

Concept Of Allocation Of Overhead And Apportionment Of Overheads

Allocation Of Overheads

Overheads are common costs incurred for the benefits of a number of costs centers or cost units. Therefore, they can not be identified and allocated directly to a particular unit of output. As such, they are to be allocated among the units of output of a particular department or a number of departments or cost centers.

Allocation of overheads is the process of charging overhead costs to a particular department or cost center. It is the allotment or assignment of an overhead cost to a particular cost unit. If the overhead cost is associated with a single department or cost center, the whole amount is charged or distributed among the units of output of that particular department. For example, the whole amount of repair and maintenance expenses for a machine is charged or allocated to that department where the machine has been installed.

Apportionment Of Overheads

Distribution of an overhead cost to several departments or cost centers is known as apportionment of overheads. It is the process of charging or apportioning costs to a number of cost centers or cost units. If a given cost is common to two or more departments or cost centers, such cost should be apportioned or divided among these departments on an equitable basis. For example, the amount of factory rent should be apportioned to all the departments. Similarly, the amount of remuneration of the general manager should be distributed to the production, administration and marketing departments as the general manager is associated with all these departments.

Classification Of Overheads Based On Control

Control of cost is one of the prime concerns of management. There are some expenses which can easily be controlled by the management while some other cannot be. From the point of view of cost control, overheads can be divided into two types:

1. Controllable Overheads

Controllable overheads are the indirect expenses which the management of a manufacturing concern can keep under its control, as they are influenced by its decisions. Therefore those overheads which vary due to the management decisions are called controllable overheads. The examples of controllable overheads are indirect materials, power expenses and lighting expenses.

2. Uncontrollable Overheads

Those indirect expenses which are beyond the control of the management are known as uncontrollable overheads. The management cannot influence such expenses by its decisions and therefore, they are uncontrollable. The examples of uncontrollable overheads are fixed overheads like factory rent, office salaries, depreciation, and legal expenses.

Tuesday, June 8, 2010

Classification Of Overheads Based On Element

Based on the components or elements, overheads can be classified as indirect materials, indirect labor and other indirect expenses. This classification is also known as classification of overheads according to their nature or sources. Each element of such overheads is described below:

1. Indirect Materials

All materials other than direct ones are indirect materials. Indirect materials do not form the part of the finished products. They can not be identified with or traceable to a particular cost unit or cost centers. They cannot be allocated but can be apportioned to a number of cost units or centers. The cost of lubricants, cotton waste, grease and materials used by service department are some of the examples of indirect materials.

2. Indirect Labor (Wages)

The labor who is not directly involved in production process is called indirect labor and wages paid to such labor are called indirect wages. Indirect labor, however, assists in the production process. The costs of such indirect labor can not be identified and allocated to a particular cost center but can be apportioned to a number of cost centers. The wages paid to watch-men, sweepers, workers of service department, supervisors, and works clerical staffs are the examples of indirect labor or indirect wages.

3. Other Indirect Expenses

The indirect expenses other than indirect materials and indirect labor are called indirect expenses. These expenses also can not be directly traced to any product unit or cost center. Therefore, they are apportioned to a number of cost centers. Some examples of such expenses are rent, insurance, telephone, charges, lighting, office salaries and depreciation.

Classification Of Overheads Based On Behavior

This classification is based on the behavior or variability of overheads. Such a classification of overheads is based on change in the amount of overheads with the change in output. According to this classification, there are four types of overheads:

1. Fixed Overheads

Fixed overheads are also called period costs or capacity costs. Fixed overheads are incurred for creating an output capacity of the concern for a fixed period of time. They are the costs which remain fixed or constant in total despite changes in the volume of production or sales. Fixed overheads remain fixed in total up to a certain level of activity which is known as relevant range of activity but fixed overheads per unit always vary with the production or sales volume in an opposite direction. For example, per unit fixed overheads decrease with an increase in the production or sales volume and vice verse. Examples of fixed overheads are rent, salaries, depreciation, interest and legal expenses.

2. Variable Overheads

Variable overheads are those type of overheads which vary positively with the production and sales volume. Hence, they vary directly in proportion to the volume. Variable overheads increase in total with the increase in volume and vice versa. They, however, remain constant in per unit. Examples of variable overheads are indirect materials, indirect wages and power expenses.


3. Semi-variable overheads
Semi-variable overheads are neither completely fixed nor variable. Therefore, they are also called semi-fixed costs. Semi-variable overheads comprise the quality of both the fixed and variable costs. They vary disproportionately with the change in the volume of output. They do not vary directly proportion to the volume. They are the mixed type of overheads. The semi-variable overheads increase with the increase in output units but not at the same rate. Telephone , electricity, repair and maintenance, heating, lighting, supervision and inspection, salesmen remuneration are some of the examples of semi-variable or semi-fixed overheads.

                      Also Read: Classification Of Overheads Based On Control

4. Step Fixed Overheads

Step fixed overheads remain fixed within a certain range of output level and jump up once the range of output level exceeds. Step fixed overheads remain constant for a given volume, but increase by another fixed amount the moment there is addition of volume, and keep on increasing by a fixed amount with the addition of volume. Hence, such overheads increase step by step according to the relevant range of output level. For example, a college bus driver is paid salary of $ 2500 a month which will remain constant until another bus is bought or hired. But as soon as the number of college bus increases, the salary cost will be increase by $2500 with every addition of such buses.

Thursday, June 3, 2010

Classification Of Overheads Based On Functions

A manufacturing concern carries out mainly two types of functions. These are manufacturing and non-manufacturing functions. Manufacturing functions are concerned with converting raw materials into finished goods while non-manufacturing functions are concerned with general administration, selling and distribution of goods. The organization incurs several indirect expenses while performing such manufacturing and non-manufacturing activities. The classification of overheads with reference to these major functions of the organization is functional classification. Thus , the following are the two major types of overheads on the basis of functions:

1. Manufacturing Overheads:

Manufacturing overheads are also known as production overheads or works or factory overheads. Manufacturing overheads are indirect expenses which are incurred in carrying out manufacturing activities of the concern. Manufacturing overheads include all the indirect expenses incurred in converting raw materials into finished goods. Power, factory rent, factory insurance, indirect materials, indirect wages, depreciation and repair and maintenance of factory building, plant and machinery are some examples of manufacturing overheads.

2. Non-manufacturing Overheads:

The non-manufacturing overheads include the following two overheads:

* Administrative overheads
Administrative overheads are indirect expenses which are incurred in connection with general administration of the whole concern. Administrative overheads incur while carrying out office and administrative activities. Examples of office and administrative overheads are office salaries, rent, printing and stationary, telephone and electricity, depreciation and repair and maintenance of office building, furniture and equipment, legal charges and directors' remuneration.

* Selling And Distribution Overheads
All the indirect expenses incurred for selling and distribution of finished goods are known as selling and distribution overheads. Selling overheads are incurred for creating demand, attracting present and potential customers and retaining old customers. Remuneration to sales personnel, advertisement, showroom expenses, samples and free gifts and after sales service expenses are some of the examples of selling overheads.

Wednesday, June 2, 2010

Meaning And Classification Of Overheads

A manufacturing concern incurs different items of costs while converting raw materials into finished outputs. Such costs can be classified on different basis. One such basis is the directness of the costs to the product unit or identifications of costs with a particular product unit.For example, raw materials can be directly identified with the product unit, whereas consumable stores or cotton waste can not be directly identified with any product unit. On this basis, therefore, the cost can be classified into direct costs and indirect costs. Hence, the total cost of a product consists of direct and indirect costs. The direct portion of the total cost is known as prime costs and the indirect portion is called overheads. In fact overheads are the total of all indirect costs incurred in the production of outputs which must be taken into account while ascertaining the total cost of a product or job.

The overheads are the aggregate of all indirect costs such as indirect materials, indirect wages and other indirect expenses. They are also known as 'common costs or on costs. They are called common costs because they are common expenses incurred for different products and departments. Similarly, they are also known as 'on cost' as they are the costs over and above the prime cost or total of all direct costs. Overheads or indirect costs are incurred not just for a particular product unit or cost center, but for a number of cost units or cost centers. Therefore, they cannot be identified with a particular cost center or cost unit. Hence overheads should be appropriately apportioned to a number of cost units or cost centers, while determining the total cost of different products.

Classification Of Overheads

Overheads can be classified on different basis. The common basis of classifying overheads are as follows.

1.Classification Of Overheads Based On Function

* Manufacturing Overheads
* Non-manufacturing overheads

2.Classification Of Overheads Based On Behavior

* Fixed Overheads
*Variable Overheads
* Semi-variable Overheads
* Semi-fixed Overhead

3. Classification Of Overheads Based On Elements

* Indirect Materials
* Indirect labor (Wages)

4. Classification Of Overheads Based On Control

* Controllable Overheads
* Uncontrollable Overheads