Accounts Basics
Accounts Basics
Accounts Basics
process
chapter - 2
By this time, you must have understood that
accounting is the process of identifying, measuring,
recording, classifying, summarising, analysing,
interpreting and communicating the financial
transactions and events. Accounting helps in
keeping systematic records to ascertain financial
performance and financial position of an entity and
to communicate the relevant financial information
to the interested user groups. Transactions and
events recorded by suitable account headings are
analysed in term of debit and credit; and thus assets
become equal to equity and liabilities. Accounts
are classified as personal, real and nominal types.
Transactions and events are first journalised, then
posted to suitable ledgers accounts and all accounts
are balanced at the end of year. Generally balances
of the nominal accounts are transferred to profit
and loss account for determination of profit or
loss and balance of personal and real accounts are
carried to balance sheet.
The process of accounting, depicting how information flows from the source documents up to
the stage where final accounts are prepared, can be shown as:
Source Documents
Ledger Accounts
Trial Balance
Final Accounts
All the above mentioned steps of the accounting process have been discussed in detail in the
subsequent units of this chapter. The students are advised to observe the whole sequence or
cycle of accounting, starting from journal to the preparation of trial balance (units 1 to 5 of this
chapter). The preparation of final accounts will be discussed in chapter 6 of the Study Material.
chapter - 2
Accounting
process
Unit 1
Basic Accounting
Procedures
Journal Entries
Learning Objectives
After studying this unit, you will be able to :
familiarige with the term 'account' and understand the classification of accounts into personal,
real and nominal.
understand how debits and credits are determined from transactions and events.
observe the points to be taken care of while recording a transaction in the journal.
1.
Double entry system of book-keeping has emerged in the process of evolution of various
accounting techniques. It is the only scientific system of accounting. According to it, every
transaction has two-fold aspectsdebit and credit and both the aspects are to be recorded in
the books of accounts. For example, if a business acquires something then either it must have
been given by someone or it must have been acquired by giving up something. On purchase of
furniture either the cash balance will be reduced or a liability to the supplier will arise. This has
been made clear already, the Double Entry System is so named since it records both the aspects.
We may define the Double Entry System as the system which recognises and records both the
aspects of transactions. This system has proved to be systematic and has been found of great use
for recording the financial affairs for all institutions requiring use of money.
2.
3.
ACCOUNT
We have seen how the accounting equation becomes true in all cases. A person starts his business
with say, ` 10,000; capital and cash are both ` 10,000. Transactions entered into by the firm will
alter the cash balance in two ways, one will increase the cash balance and other will reduce it.
Payment for goods purchased, for salaries and rent, etc., will reduce it; sales of goods for cash
and collection from customers will increase it.
2.4
We can change the cash balance with every transaction but this will be cumbersome. Instead it
would be better if all the transactions that lead to an increase are recorded in one column and
those that reduce the cash balance in another column; then the net result can be ascertained. If we
add all increases to the opening balance of cash and then deduct the total of all decreases we shall
know the closing balance. In this manner, significant information will be available relating to cash.
The two columns which we reffered above are put usually in the form of an account, called the
T form. This is illustrated below by taking imaginary figures:
CASH
Opening Balance
Increase
(Receipt)
Decrease
(Payment)
`
10,000
2,500
2,000
50
1,350
400
`
1,000
300
200
500
Total
New or Closing Balance
16,300
2,000
14,300
16,300
What we have done is to put the increase of cash on the left hand side and the decrease on the
right hand side; the closing balance has been ascertained by deducting the total of payments,
` 2,000 from the total of the left - hand side. Such a treatment of receipts and payment of cash is
very convenient.
The proper form of an account is as follows:
ACCOUNT
Dr.
Date
Particulars
Ref.
Amount
`
Date
Cr.
Particulars
Ref.
Amount
`
The columns are self-explanatory except that the column for reference (Ref.) is meant to indicate
the sources where information about the entry is available.
4.
We have seen that by deducting the total of liabilities from the total of assets the amount of capital
is ascertained, as is indicated by the accounting equation.
Assets = Liabilities + Capital
or
Assets Liabilities = Capital
Fundamentals of accounting
2.5
We have also seen that if there is any change on one side of the equation, there is bound to be
similar change on the other side of the equation or amongst items covered by it. This is again
illustrated below:
Transactions
Total
Assets
`
10,000
= Liabilities
`
10,000
+ 5,000
- 2,000
- 1,000
- 1,000
12,000
= 4,000
Balance
+ Owners
Capital
`
+ 5,000
- 2,000
+ 8,000
As has been seen previously, what has been given above is suitable only if the number of
transactions is small. But if the number is large, a different procedure of putting increases and
decreases in different columns will be useful and this will also yield significant information. The
transactions given above are being shown below according to this method.
Total Assets
Increase
`
(1)
10,000
(2)
5,000
= Liabilities
+ Owners Capital
Decrease
Decrease
Increase
Decrease
Increase
`
10,000
5,000
(3)
2,000
(4)
1,000
1,000
3,000
1,000
5,000
4,000
Total
15,000
Balance
12,000
2,000
2,000
10,000
+ 8,000
It is a tradition that:
(i) increases in assets are recorded on the left-hand side and decreases in them on the right-hand
side; and
(ii) in the case of liabilities and capital, increases are recorded on the right-hand side and decreases
on the left-hand side.
When two sides are put together in T form, the left-hand side is called the debit side and the
right hand side is credit side. When in an account a record is made on the debit or left-hand
side, one says that one has debited that account; similary to record an amount on the right-hand
side is to credit it.
2.6
(i) When there is an increase in the amount of an asset, its account is debited; the account will
be credited if there is a reduction in the amount of the asset concerned : Suppose a firm
purchases furniture for ` 800, the furniture account will be debited by ` 800 since the asset
has increased by this amount. Suppose later the firm sells furniture to the extent of ` 300,
the reduction will be recorded by crediting the furniture account by ` 300.
(ii) If the amount of a liability increases, the increase will be entered on the credit side of the liability
account, i.e. the account will be credited : similarly, a liability account will be debited if there is a
reduction in the amount of the liability. Suppose a firm borrows ` 500 from Mohan; Mohans
account will be credited since ` 500 is now owing to him. If, later, the loan is repaid, Mohans
account will be debited since the liability no longer exists.
(iii) An increase in the owners capital is recorded by crediting the capital account : Suppose the proprietor
introduces additional capital, the capital account will be credited. If the owner withdraws
some money, i.e., makes a drawing, the capital account will be debited.
(iv) Profit leads to an increase in the capital and a loss to reduction : According to the rule mentioned in
(iii) above, profit may be directly credited to the capital account and losses may be similarly
debited.
However, it is more useful to record all incomes, gains, expenses and losses separately.
By doing so, very useful information will be available regarding the factors which have
contributed to the years profits and losses. Later the net result of all these is ascertained and
adjusted in the capital account.
(v) Expenses are debited and Incomes are credited : Since incomes and gains increase capital, the rule
is to credit all gains and incomes in the accounts concerned and since expenses and losses
decrease capital, the rule is to debit all expenses and losses. Of course, if there is a reduction
in any income or gain, the account concerned will be debited; similarly, for any reduction
in an expenses or loss the concerned account will be credited.
The terms debit and credit should not be taken to mean, respectively, favourable and unfavourable
things. They merely describe the two sides of accounts.
Fundamentals of accounting
2.7
Illustration 1
2011
April
1.
2.
3.
4.
5.
`
R. started business with
He purchased furniture for
Paid salary to his clerk
Paid rent
Received interest
10,000
2,000
100
50
20
Solution
2011 Explanation
April
Accounts
Involved
Nature of
Accounts
How
affected
Debit
`
1.
` 10,000 cash
invested in business
Cash and
Rs
Asset
Proprietorship
Increased
Increased
10,000
2.
Purchased furniture
for ` 2,000
Furniture and
Cash
Asset
Asset
Increased
Decreased
2,000
3.
Salary &
Cash
Expense
Asset
Increased
Decreased
100
4.
Paid Rent ` 50
Expense
Asset
Increased
Decreased
50
5.
Received interest ` 20
Cash &
Interest
Asset
Income
Increased
Increased
20
5.
TRANSACTIONS
Credit
`
10,000
2,000
100
50
20
In the system of book-keeping, students can notice that transactions are recorded in the books
of accounts. A transaction is a type of event, which is generally external in nature and can be
determined in terms of money. In an accounting period, every business has huge number of
transactions which are analysed in financial terms and then recorded individually, followed by
classification and summarisation process, to know their impact on the financial statements. A
transaction is a two way process in which value is transferred from one party to another. In it
either a party receives a value in terms of goods etc. and passes the value in terms of money or vice
versa. Therefore, one can easily make out that in a transaction, a party receives as well as passes
the value to other party. For recording transaction it is very important that they are supported
by a substantial document like purchasing invoices, bills, pay-slips, cash-memos, passbook etc.
Transactions analysed in terms of money and supported by proper documents are recorded in
the books of accounts under double entry system. To analyse the dual aspect of each transaction,
two approaches can be followed:
2.8
6.
The relationship of assets with that of liabilities and owners equity in the equation form is known
as Accounting Equation. Basic accounting equation comes into picture when sum total of capital
and liabilities equalises assets, where assets are what the business owns and capital and liabilities
are what the business owes. Under double entry system, every business transaction has two-fold
effect on the business enterprise where each transaction affects changes in assets, liabilities or
capital in such a way that an accounting equation is completed and equated. This accounting
equation holds good at all points of time and for any number of transactions and events except
when there are errors in accounting process.
Let us suppose that an individual started business by contributing ` 5,00,000 and taking
loan of `1,00,000 from a bank to be repayable, after 5 years. He purchased furniture costing
` 1,00,000, and merchandise worth ` 5,00,000. For purchasing the merchandise he paid ` 4,00,000
to the suppliers and agreed to pay balance after 3 months. Assume that all these transactions and
events occurred at to, base point of time.
The contribution by the owner is termed as capital; the borrowings are termed as loans or liabilities.
Whenever the loan is repayable in the short-run, say within one year, it is called short-term loan
or liability. On the other hand, if the loan is repayable within 4 or 5 years or more, it would be
termed as long term loan or liability.
Some other short-term liabilities relating to credit purchase of merchandise are popularly called
as trade payables, and for other purchases and services received on credit as expense payables.
These short-term liabilities are also termed as current liabilities.
On the other hand, money raised has been invested in two types of assetsfixed assets and current
assets. Furniture is a fixed asset, if it lasts long, say more than one year, and has utility to the
business, while inventory and cash balance will not remain fixed for long as soon as the business
starts to roll-these are current assets.
Often the owners claim or fund in the business is called equity. Owners claim implies capital
invested plus any profit earned minus any loss sustained.
Now at to we have an equation:
or, Equity + Long-Term Liabilities = Fixed Assets + Current Assets - Current Liabilities
Fundamentals of accounting
2.9
Check :
L.H.S.
Equity
Long Term Liabilities
Current Liabilities
R.H.S.
Fixed Assets:
Furniture
Current Assets:
Inventory
Cash
` 5,00,000
` 1,00,000
` 1,00,000
` 7,00,000
` 1,00,000
` 5,00,000
` 1,00,000
` 7,00, 000
Cash
Let us use Eo, Lo and Ao to mean Equity, Liabilities and Assets respectively at t0. Thus the basic
accounting equation becomes
E0 + L0 = A0
or E0 = A0 - L0 ...(Eq. 1)
Now, let us suppose that at the end of period inventory valuing ` 2,50,000 is in hand, cash
` 2,00,000, trade payables, ` 50,000 bank loan ` 1,00,000 (interest was properly paid), furniture `
80,000 (` 20,000 is taken as loss of value due to use). So at t1 Assets:
Fixed assets/ Furniture
` 80,000
` 2,50,000
Cash
` 2,00,000
` 5,30,000
Liabilities:
LongTerm Liabilities
Current Liabilities
` 1,00,000
` 50,000
` 1,50,000
` 3,80,000
2.10
...(Eq. 2)
Let us compare E1 with E0. Equity is reduced by ` 1,20,000 (5,00,000 - 3,80,000). Reduction in
equity is termed as loss.
Since the business sustained loss during the period, E2 becomes less than E0.
E1 < E0 implies loss during t01
Similarly, E2 < E1 implies loss during t12 and so on.
On the other hand, E1 > E0 implies profit earned by business during t01, E2 > E1 implies profit
earned during t12 and so on.
So if En > En-1, in general terms, equity has increased, while En < En-1 implies that equity has declined.
Increase in equity is termed as profit while decrease in equity is termed as loss.
Illustration 2: Develop the accounting equation from following information available at the
beginning of accounting period:
`
Capital
1,00,000
Loan
50,000
Trade payables
70,000
Fixed Assets
80,000
Inventory
60,000
Trade receivables
50,000
30,000
Loan
50,000
Trade payables
80,000
Fixed Assets
72,000
Inventory
90,000
Trade receivables
50,000
Cash at Bank
60,000
2.11
Solution
(a) Accounting equation is given by
Let us use E0, L0 and A0 to mean equity, liabilities and assets respectively at the beginning of the
accounting period.
E0 = ` 1,00,000
= ` 50,000 + ` 70,000
= ` 1,20,000
= ` 2,20,000
E0 + L0 = A0
Let us use E1, L1, A1 to mean equity, liabilities and assets respectively at the end of the accounting
period.
= ` 50,000 + ` 80,000
= ` 1,30,000
= ` 2,72,000
(b)
Balance Sheet
`
Capital
Balance
Add: Profit
Loan
Trade payables
1,00,000
42,000
2.12
` Assets
Fixed Assets
Inventories
1,42,000 Trade receivables
50,000 Cash at Bank
80,000
2,72,000
`
72,000
90,000
50,000
60,000
2,72,000
7.
TRADITIONAL APPROACH
Under traditional approach of recording transactions one should first understand the term debit
and credit and their rules. The term debit and credit have already been explained in para 4 of
this Unit.
Transactions in the journal are recorded on the basis of the rules of debit and credit only. For the
purpose of recording, these transactions are classified in three groups:
(i) Personal transactions.
Personal Accounts
Impersonal Accounts
Real
Natural
Artificial
(legal)
Nominal
Representative
is also personal but adjustment on account of profits and losses are made in it. This account
is further classified into three categories:
(a) Natural personal accounts: It relates to transactions of human beings like Ram, Rita, etc.
(b) Artificial (legal) personal account: For business purpose, business entities are treated
to have separate entity. They are recognised as persons in the eye of law for dealing
with other persons. For example: Government, Companies (private or limited), Clubs,
Co-operative societies etc.
(c) Representative personal accounts: These are not in the name of any person or
organisation but are represented as personal accounts. For example: outstanding liability
account or prepaid account, capital account, drawings account.
(ii) Impersonal Accounts: Accounts which are not personal such as machinery account, cash
account, rent account etc. These can be further sub-divided as follows:
Fundamentals of accounting
2.13
(a) Real Accounts: Accounts which relate to assets of the firm but not debt. For example,
accounts regarding land, building, investment, fixed deposits etc., are real accounts.
Cash in hand and Cash at the bank accounts are also real.
(b) Nominal Accounts: Accounts which relate to expenses, losses, gains, revenue, etc. like
salary account, interest paid account, commission received account. The net result of
all the nominal accounts is reflected as profit or loss which is transferred to the capital
account. Nominal accounts are, therefore, temporary.
2.
3.
8.
JOURNAL
Transactions are first entered in this book to show which accounts should be debited and which
credited. Journal is also called subsidiary book. Recording of transactions in journal is termed as
journalizing the entries.
8.1 JOURNALISING PROCESS
All transactions are first recorded in the journal as and when they occur; the record is
chronological; otherwise it would be difficult to maintain the records in an orderly manner.
The form of the journal is given below :
JOURNAL
Date
Particulars
L.F.
(1)
(2)
(3)
2.14
Dr.
Amount
`
(4)
Cr.
Amount
`
(5)
The columns have been numbered only to make clear the following but otherwise they are not
numbered. The following points should be noted:
(i) In the first column the date of the transaction is entered-the year is written at the top, then
the month and in the narrow part of the column the particular date is entered.
(ii) In the second column, the names of the accounts involved are written; first the account to be
debited, with the word Dr written towards the end of the column. In the next line, after
leaving a little space, the name of the account to be credited is written preceded by the word
To (the modern practice shows inclination towards omitting Dr. and To). Then in the
next line the explanation for the entry together with necessary details is given-this is called
narration.
(iii) In the third column the number of the page in the ledger on which the account is written up
is entered.
(iv) In the fourth column the amounts to be debited to the various accounts concerned are entered.
(v) In the fifth column, the amount to be credited to various accounts is entered.
1.
Journal entries can be single entry (i.e. one debit and one credit) or compound entry (i.e.
one debit and two or more credits or two or more debits and one credit or two or more
debits and credits). In such cases, it is important to check that the total of both debits
and credits are equal.
2.
If journal entries are recorded in several pages then both the amount column of each page
should be totalled and the balance should be written at the end of that page and also that
the same total should be carried forward at the beginning of the next page.
`
Dr.
450
450
(i) Mohan commences business with ` 5,000. This means that the firm has
` 5,000 cash. According to the rules given above, the increase in an asset has to be debited
to it. The firm also now owes ` 5,000 to the proprietor, Mohan as capital. The rule given
above also shows that the increase in capital should be credited to it. Therefore, the
journal entry will be:
Fundamentals of accounting
2.15
Cash Account
Dr.
` 5,000
To Capital Account
` 5,000
(ii) Out of the above, ` 500 is deposited in the bank. By this transaction the cash balance is
reduced by ` 500 and another asset, bank account, comes into existence. Since increase
in assets is debited and decrease is credited, the journal entry will be:
Bank Account
Dr.
` 500
To Cash Account
` 500
(iii) Furniture is purchased for cash ` 200. Applying the same reasoning as above the entry
will be:
Furniture Account
Dr.
` 200
To Cash Account
` 200
` 400
To Cash Account
` 400
(v) Purchased goods for ` 1,000 credit from M/s. Ram Narain Bros. Purchase of merchandise
is an expense item so it is to be debited. ` 1,000 is now owing to the supplier; his account
should therefore be credited, since the amount of liabilities has increased. The entry will
be:
Purchases Account
Dr.
` 1,000
` 1,000
(vi) Sold goods to M/S Ram & Co. for cash ` 600. The amount of cash increases and therefore,
the cash amount should be debited; sale of merchandise is revenue item so it is to be
credited. The entry will be:
2.16
Cash Account
Dr.
` 600
To Sales Account
` 600
(vii) Sold goods to Ramesh on credit for ` 300. The Inventories of goods has decreased and
therefore, the goods account has to be credited. Ramesh now owes ` 300; that is an asset
and therefore, Ramesh should be debited. The entry is:
Ramesh
Dr.
` 300
To Sales Account
` 300
(viii)Received cash from Ramesh ` 300. The amount of cash increased therefore the cash
account has to be debited. Ramesh no longer owes any amount to the firm, i.e., this
particular form of assets has disappeared; therefore, the account of Ramesh should be
credited. The entry is:
Cash Account
Dr.
` 300
To Ramesh
` 300
(ix) Paid to M/s Ram Narain Bros. ` 1,000. The liability to M/S Ram Narain Bros. has been
discharged; therefore this account should be debited. The cash balance has decreased
and, therefore, the cash account has to be credited. The entry is:
M/S Ram Narain Bros.
Dr.
` 1,000
To Cash Account
` 1,000
(x) Paid rent ` 100. The cash balance has decreased and therefore, the cash account should
be credited. No asset has come into existence because of the payment; the payment is for
services enjoyed and is an expense. Expenses are debited. Therefore, the entry should
be:
Rent Account
Dr.
To Cash Account
` 100
` 100
Fundamentals of accounting
2.17
(xi) Paid ` 200 to the clerk as salary. Applying the reasons given in (x) above, the required
entry is:
Salary Account
Dr.
` 200
To Cash Account
` 200
(xii) Received ` 20 interest. The cash account should be debited since there is an increase in
the cash balance. There is no increase in any liability; since the amount is not returnable
to any one, the amount is an income, incomes are credited. The entry is :
Cash Account
Dr.
` 20
To Interest Account
` 20
Dr.
` 100
Salary Account
Dr.
` 200
To Cash Account
` 300
2.18
2.
3.
4.
Salaries paid for the month of March, 2011, ` 3,000 and ` 1,000 is still payable for the month
of March, 2011.
5.
Analysis
Account Affected
and Nature of
Account
Rule
Entry
Introduction of
` 40,000 cash
by the
Proprietor
Cash received
Investment
by owner
Cash Asset
Debit increase in
asset
Debit Cash
Capital Capital
Credit increase
in capital
Credit Capital
Cash
deposited
in bank
` 20,000
Bank balance
increases
Bank Asset
Debit increase in
asset
Debit Bank
Cash balance
decrease
Cash Asset
Credit decrease
in asset
Credit Cash
Loan from Y
` 5,000
Cash balance
increases
Cash Asset
Debit increase
in assets
Debit Cash
Creates an
obligation to
repay Y
Ys Loan
Liability
Credit increase
in liabilities
Credit Ys Loan
Salaries paid
` 3,000 and
outstanding
` 1,000
Salaries for
services received
` 4,000
paid ` 3,000
Obligation to pay
` 1,000
Salary Temporary
capital (Expense)
CashAsset
Debit increase in
expenses
Debit Salary
(` 4,000)
Salaries
outstanding
Liability
Credit decrease
in asset
Credit increase
in liabilities
Credit Cash
(` 3,000)
Credit Salaries
outstanding (`
1,000)
Furniture
purchased
` 5,000
Increases
furniture owned
Cash decreases
FurnitureAsset
Debit increase
in asset
Credit decrease
in asset
CashAsset
Fundamentals of accounting
Debit Furniture
Credit Cash
2.19
Rule
Entry
Introduction of
Cash is received CashReal
` 40,000 cash
by business
by the proprietor Owner has given CapitalPersonal
cash
Debit what
comes in
Credit the giver
Debit Cash
Cash deposited
in bank
` 20,000
Bank receives
cash
Cash goes out
of business
BankPersonal
CashReal
Loan from Y
` 5,000
Salary paid
` 3,000 and
still payable
` 1,000
Cost of services
used ` 4,000
Cash goes out
` 3,000
Furniture
purchased
` 5,000
Analysis
Account Affected
and Nature of
Account
Salary Nominal
CashReal
Credit Capital
Credit Cash
Debit Cash
Credit Ys Loan
Credit Salary
outstanding (`
1,000)
Furniture is
purchased
Cash is paid
Debit Furniture
Furniture Real
CashReal
Debit what
comes in
Credit what goes
out
Credit Cash
Conclusion:
It is evident from above analysis that procedure for analysis of transactions, classification of
accounts and rules for recording business transactions under accounting equation approach
and traditional approach are different. But the accounts affected and entries in affected accounts
remain same under both approaches. Thus, the recording of transactions in affected accounts on
the basis of double entry system is independent of the method of analysis followed by a business
enterprise. In other words, accounts to be debited and credited to record the dual aspect remain
same under both the approaches.
Illustration 4
Journalise the following transactions. Also state the nature of each account involved in the Journal
entry.
1.
2.20
2.
3.
4.
5.
6.
7.
8.
9.
Dr.
Particulars
Sl. Date
No
Nature of
L.F.
Account
Debit
(`)
Credit
(`)
1. Dec. 1
Cash Account
Dr.
To Capital Account
(Being commencement
of business)
Real A/c
40,000
Personal A/c
40,000
2. Dec. 3
Bank Account
Dr.
To Cash Account
(Being cash
deposited in the
Bank)
Personal A/c
2,000
Real A/c
2,000
3. Dec. 5
Purchases Account
Dr.
To Cash Account
(Being purchase of
goods for cash)
Real A/c
15,000
Real A/c
15,000
4. Dec. 8
Cash Account
Dr.
To Sales Account
(Being goods sold for cash)
Real A/c
6,000
Real A/c
6,000
Fundamentals of accounting
Cr.
2.21
5. Dec. 10
6. Dec. 12
7. Dec. 14
8. Dec. 15
9. Dec. 16
10. Dec. 18
11. Dec. 20
12. Dec. 24
13. Dec. 26
Furniture Account
Dr.
To Bank Account
(Being purchase of
furniture, paid by
cheque)
Arvind
Dr.
To Sales Account
(Being sale of goods)
Purchases Account
Dr.
To Amrit
(Being purchase of
goods from Amrit )
Amrit
Dr.
To Purchases
Returns Account
(Being goods returned
to Amrit)
Cash Account
Dr.
Discount Account
Dr.
To Arvind
(Being cash received
from Arvind in full
settlement and allowed
him ` 40 as discount)
Drawings Account
Dr.
To Purchases Account
(Being withdrawal of
goods for personal use)
Drawings Account
Dr.
To Cash Account
(Being cash withdrawal
from the business for
personal use)
Telephone Expenses
Dr.
Account
To Cash Account
(Being telephone
expenses paid)
Amrit
Dr.
To Cash Account
To Discount Account
(Being cash paid to
Amrit and he allowed
` 100 as discount)
2.22
Real A/c
5,000
Personal A/c
5,000
Personal A/c
4,000
Real A/c
4,000
Real A/c
10,000
Personal A/c
10,000
Personal A/c
Real A/c
5,000
5,000
Real A/c
3,960
Nominal A/c
40
Personal A/c
4,000
Personal A/c
1,000
Real A/c
1,000
Personal A/c
2,000
Real A/c
2,000
Nominal A/c
Real A/c
1,000
Personal A/c
5,000
Real A/c
Nominal A/c
1,000
4,900
100
14. Dec. 31
Stationery Expenses
Dr.
Rent Account
Dr.
Salaries Account
Dr.
To Cash Account
(Being expenses paid)
15. Dec. 31
Advertisement
Expenses Account
Dr.
To Purchases Account
(Being distribution of
goods by way of
free samples)
Nominal A/c
200
Nominal A/c
500
Nominal A/c
2,000
Real A/c
2,700
Nominal A/c
1,000
Real A/c
1,000
Total
1,03,700
1,03,700
Illustration 5
Show the classification of the following Accounts under traditional and accounting equation
approach:
(a) Building; (b) Purchases; (c) Sales; (d) Bank Fixed Deposit; (e) Rent; (f) Rent Outstanding; (g) Cash; (h)
Adjusted Purchases; (i) Closing Inventory; (j) Investments; (k) Trade receivables; (l) Sales Tax Payable,
(m) Discount Allowed; (n) Bad Debts; (o) Capital; (p) Drawings; (q) Interest Receivable account;
(r) Rent received in advance account; (s) Prepaid salary account; (t) Bad debts recovered account;
(u) Depreciation account, (v) Personal income-tax account.
Solution
Nature of Account
Sl. No.
Title of Account
Traditional Approach
(a)
Building
Real
Asset
(b)
Purchases
Real
Asset
(c)
Sales
Real
(d)
Real
Asset
(e)
Rent
Nominal (Expense)
(f)
Rent Outstanding
Personal
Liability
(g)
Cash
Real
Asset
(h)
Adjusted Purchases
Nominal (Expense)
(i)
Closing Inventory
Real
Asset
(j)
Investment
Real
Asset
(k)
Trade receivables
Personal
Asset
Fundamentals of accounting
2.23
(l)
Personal
Liability
(m)
Discount Allowed
Nominal (Expense)
(n)
Bad Debts
Nominal (Expense)
(o)
Capital
Personal
Capital
(p)
Drawings
Personal
(q)
Interest receivable
Personal
Asset
(r)
Rent received in
advance
Personal
Liability
(s)
Prepaid salary
Personal
Valuation (Asset)
(t)
Nominal (Gain)
(u)
Depreciation
Nominal (Expense)
(v)
Personal (Drawing)
Illustration 6
Transactions of Ramesh for April are given below. Journalise them.
2011
April
1
Ramesh started business with
2
Paid into bank
3
Bought goods for cash
5
Drew cash from bank for credit
13
Sold to Krishna goods on credit
20
Bought from Shyam goods on credit
24
Received from Krishna
Allowed him discount
28
Paid Shyam cash
Discount allowed
30
Cash sales for the month
Paid Rent
Paid Salary
2.24
`
10,000
7,000
500
100
150
225
145
5
215
10
800
50
100
Solution
JOURNAL
Date
2011
April 1
13
20
24
28
30
Particulars
Cash Account
To Capital Account
(Being the amount invested by Ramesh in
the business as capital)
Bank Account
To Cash Account
(Being the amount paid into bank)
Purchases Account
To Cash Account
(Being goods purchased for cash)
Cash Account
To Bank Account
(Being cash withdrawn from bank)
Krishna
To Sales Account
(Being goods sold to Krishna on credit)
Purchases Account
To Shyam
(Being goods bought from Shyam on credit)
Cash Account
Discount Account
To Krishna
(Being cash received from Krishna and
discount allowed to him)
Shyam
To Cash Account
To Discount Account
(Being cash paid to Shyam and discount
allowed by him)
Cash Account
Fundamentals of accounting
L.F.
Dr.
Dr.
Dr.
Dr.
Amount
`
1
4
10,000
5
1
7,000
500
Cr.
Date
`
10,000
7,000
500
Dr.
Dr.
Dr.
Dr.
Dr.
1
5
100
9
7
150
7
10
225
1
12
145
5
100
150
225
Dr.
Dr.
150
10
1
12
225
800
215
10
2.25
30
To Sales Account
(Being goods sold for cash)
Rent Account
Salaries Account
To Cash Account
(Being the amount paid for rent and salary)
Total
(Ledger Folio imaginary)
7
Dr.
Dr.
15
10
1
800
50
100
150
19,300
19,300
Illustration 7
Pass Journal Entries for the following transactions in the books of Gamma Bros.
(i) Employees had taken inventory worth ` 10,000 (Cost price ` 7,500) on the eve of Deepawali
and the same was deducted from their salaries in the subsequent month.
(ii) Wages paid for erection of Machinery ` 8,000.
(iii) Income tax liability of proprietor ` 1,700 was paid out of petty cash.
(iv) Purchase of goods from Naveen of the list price of ` 2,000. He allowed 10% trade discount,
` 50 cash discount was also allowed for quick payment.
Solution
Journal Entries in the books of Gamma Bros.
Particulars
Dr.
Cr.
Amount
Amount
`
`
Dr.
7,500
(i) Salaries A/c
To Purchase A/c
(Being entry made for inventory taken by employees)
7,500
Dr.
8,000
8,000
Dr.
1,700
1,700
Dr.
1,800
1,750
50
2.26
9.
ADVANTAGES OF JOURNAL
In journal, transactions recorded on the basis of double entry system, fetch following advantages:
1. As transactions are recorded on chronological order, one can get complete information about
the business transactions on time basis.
2. Entries recorded in the journal are supported by a note termed as narration, which is a precise
explanation of the transaction for the proper understanding of the entry. One can know the
correctness of the entry through these narrations.
3. Journal forms the basis for posting the entries in the ledger. This eases the accountant in their
work and reduces the chances of error.
(a) Income Statement (b) Statement of Cash flows
(c) Balance Sheet
(d) None of the above
(v) Which account is the odd one out?
Fundamentals of accounting
2.27
II. From the given information, choose the most appropriate answer.
1. Classify each of the following items under:
(i) Prepaid salary account.
(a) Personal
(b) Real
(c) Nominal (d) None of the above
(ii) Bill payable account.
(a) Personal
(b) Real
(c) Nominal (d) None of the above
(iii) Rent account.
(a) Personal
(b) Real
(c) Nominal (d) None of the above
(iv) Proprietors account
(a) Personal
(b) Real
(c) Nominal (d) None of the above
(v) Patents account.
(a) Personal
(b) Real
(c) Nominal (d) None of the above
[Ans. 1: (i)-(a), (ii)-(a), (iii)-(c), (iv)-(a), (v)-(b)]
2. Classify each of the following items under:
(i) Salaries.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) liability (L) or
(ii) Equipment.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) liability (L) or
(iii) Accounts payable.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) liability (L) or
(iv) Membership fees earned.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) liability (L) or
(v) Inventory.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) liability (L) or
(vi) Accounts receivable.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) liability (L) or
(vii) Building.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) liability (L) or
(viii) Profits.
(a) revenue(R)
(b) expense (E)
(c) asset (A)
(d) owners capital (OC) item.
[Ans.2: (i)-(b), (ii)-(c), (iii)-(d), (iv)-(a), (v)-(c), (vi)-(c), (vii)-(c), (viii)-(d)]
3. In each of the following, indicate the alternative which you consider to be correct:
(a) In Double Entry System of Book-keeping every business transaction affects:
(i) Two accounts.
(ii) Two sides of the same account.
(iii) The same account on two different dates. (iv) All of the above
(b) A sale of goods to Ram for cash should be debited to:
(i) Ram
(ii) Cash
(iii) Sales
(iv) Capital
(c) A withdrawal of cash from business by the proprietor should be credited to:
(i) Drawing Account
(ii) Capital Account
(iii) Cash Account
(iv) Purchase Account
[Ans:3: (a)(i), (b)(ii), (c)(iii)]
2.28
chapter - 2
Accounting
process
Unit 2
Ledgers
Ledgers
Learning Objectives
After studying this unit, you will be able to :
Learn the technique of opening accounts each year taking closing balances of the previous
year. Note also the use of 'balance c/d' and 'balance b/d'.
1.
INTRODUCTION
After recording the transactions in the journal, recorded entries are classified and grouped into
by preparation of accounts and the book, which contains all set of accounts (viz. personal, real
and nominal accounts), is known as Ledger. It is known as principal books of account in which
account-wise balance of each account is determined.
2.
A ledger account has two sides-debit (left part of the account) and credit (right part of the account).
Each of the debit and credit side has four columns. (i) Date (ii) Particulars (iii) Journal folio i.e.
page from where the entries are taken for posting and (iv) Amount.
Dr.
Date
3.
Particulars
J.F.
Account
Amount ( `)
Date
Particulars
J.F.
Cr.
Amount( `)
POSTING
The process of transferring the debit and credit items from journal to classified accounts in the
ledger is known as posting.
3.1 RULES REGARDING POSTING OF ENTRIES IN THE LEDGER
1.
Separate account is opened in ledger book for each account and entries from ledger
posted to respective account accordingly.
2.
It is a practice to use words To and By while posting transactions in the ledger. The
word To is used in the particular column with the accounts written on the debit side
while By is used with the accounts written in the particular column of the credit side.
These To and By do not have any meanings but are used to represent the account
debited and credited.
3.
The concerned account debited in the journal should also be debited in the ledger but
reference should be of the respective credit account. For example: Rent paid by cash
` 500. The journal entry for this transaction would be.
2.30
4.
BALANCING AN ACCOUNT
At the end of the each month or year or any particular day it may be necessary to ascertain the
balance in an account. This is not a too difficult thing to do; suppose a person has bought goods
worth ` 1,000 and has paid only ` 850; he owes ` 150 and that is balance in his account. To ascertain
the balance in any account, what is done is to total the sides and ascertain the difference; the
difference is the balance. If the credit side is bigger than the debit side, it is a credit balance. In
the other case it is a debit balance. The credit balance is written on the debit side as, To Balance
c/d; c/d means carried down. By doing this, two sides will be equal. The totals are written
on the two sides opposite one another.
Then the credit balance is written on the credit side as By balance b/d (i.e., brought down). This
is the opening balance for the new period. The debit balance similarly is written on the credit side
as By Balance c/d, the totals then are written on the two sides as shown above as then the debit
balance written on the debit side as, To Balance b/d, as the opening balance of the new period.
It should be noted that nominal accounts are not balanced; the balance in the end are transferred
to the profit and loss account. Only personal and real accounts ultimately show balances. In the
illustration given above, one will have noticed that the capital account, the purchases account,
sales account, the discount account, the rent account and the salary account have not been
balanced. The capital account will have to be adjusted for profit or loss and that is why it has not
been balanced yet.
Illustration 1
Prepare the Stationery Account of a firm for the year ended 31.12.2011 duly balanced off, from
the following details:
2011
Jan. 1
April 5
Nov. 15
Dec. 31
Inventory
Purchase of stationery by cheque
Purchase of stationery on credit from Five Star Stationery Mart
Inventory
`
480
800
1,280
240
Solution
Stationery Account
Dr.
Date
1.1.2011
5.4.2011
15.11.2011
1.1.2012
Cr.
To
To
To
To
Particulars
Balance b/d
Bank A/c
Five Star Stationery
Mart A/c
Balance b/d
Fundamentals of accounting
` Date
Particulars
480 31.12.2011 By Profit and loss
800
A/c (Balancing
figure)
1,280 31.12.2011 By Balance c/d
2,560
240
2,320
240
2,560
2.31
Ledgers
Illustration 2
Journalise the following transactions in the books of a trader
Debit Balance on January 1, 2011
Cash in Hand ` 8,000, Cash at Bank ` 25,000, Inventory of Goods ` 20,000, Building
` 10,000. Trade receivables: Vijay ` 2,000 and Madhu ` 2,000.
Credit Balances on January 1, 2011:
Trade payables: Anand ` 5,000. Capital ` 55,000
Following were further transactions in the month of January, 2011:
Jan. 1
Purchased goods worth ` 5,000 for cash less 20% trade discount and 5% cash
discount.
Received ` 1,980 from Vijay and allowed him ` 20 as discount.
Jan. 4
Jan. 8
Purchased plant from Mukesh for ` 5,000 and paid ` 100 as cartage for bringing
the plant to the factory and another ` 200 as installation charges.
Sold goods to Rahim on credit ` 600.
Jan. 12
Jan. 15
Rahim became insolvent and could pay only 50 paise in a rupee.
Jan. 18
Sold goods to Ram for cash ` 1,000.
Solution
Cash Account
Dr.
Date
2011
Jan. 1
Jan. 4
Jan. 15
Jan. 18
To Balance b/d
To Vijay
To Rahim
To Sales A/c
Feb. 1
To Balance b/d
Particulars
L.F.
Date
2011
8,000 Jan. 1
1,980 Jan. 8
300 Jan. 31
1,000
11,280
7,180
Particulars
L.F.
By Purchases A/c
By Plant A/c
By Balance c/d
Cr.
`
3,800
300
7,180
11,280
Bank Account
Dr.
Date
Jan. 1
To Balance c/d
Feb. 1
To Balance b/d
Dr.
Date
Jan. 1
Feb. 1
Particulars
Particulars
To Balance b/d
To Balance b/d
L.F.
` Date
Particulars
L.F.
` Date
20,000 Jan. 31
20,000
20,000
2.32
Particulars
By Balance c/d
L.F.
Cr.
`
25,000
25,000
Cr.
`
20,000
20,000
Building Account
Dr.
Date
Jan. 1
To
Particulars
Balance b/d
Feb. 1
To
Balance b/d
Dr.
Date
Jan. 1
To
Particulars
Balance b/d
L.F.
L.F.
` Date Particulars
10,000 Jan. 31 By Balance c/d
10,000
10,000
Vijay
`
2,000
Date
Jan. 4
Particulars
By Cash A/c
By Discount A/c
L.F.
L.F.
2,000
Madhu
Dr.
Date
Jan. 1
To
Particulars
Balance b/d
Feb. 1
To
Balance b/d
Dr.
Date
Jan. 31
To
Particulars
Balance c/d
L.F.
L.F.
` Date Particulars
2,000 Jan. 31 By Balance c/d
2,000
2,000
Capital Account
`
55,000
55,000
Date
Jan. 1
Particulars
By Balance b/d
L.F.
L.F.
To
To
Particulars
Cash
Discount
Feb. 1
To
Balance b/d
Dr.
Date
Jan. 4
Jan. 31
To
To
Particulars
Vijay
Balance c/d
L.F.
L.F.
` Date Particulars
3,800
200 Jan. 31 By Balance c/d
4,000
4,000
Discount Account
`
20
180
200
Fundamentals of accounting
L.F.
Cr.
`
10,000
10,000
Cr.
`
1,980
20
2,000
Cr.
`
2,000
2,000
Cr.
`
55,000
55,000
55,000
Cr.
`
4,000
4,000
Date
Jan. 1
Particulars
L.F.
By Purchases A/c
Cr.
`
200
Feb. 1
By Balance b/d
200
180
2.33
Ledgers
Plant Account
Dr.
Date
Jan. 8
Jan. 8
Feb. 1
Dr.
Date
Jan. 31
To
To
Particulars
Mukesh
Cash A/c
To
Balance b/d
To
Particulars
Balance c/d
L.F.
L.F.
` Date Particulars
5,000 Jan. 31 By Balance c/d
300
5,300
5,300
Mukesh
`
5,000
5,000
Date
Jan. 8
Feb. 1
Sales Account
Dr.
Date
Jan. 31
Dr.
Date
Jan. 12
To
To
By Balance b/d
Cr.
`
5,000
5,000
5,000
Particulars
By Rahim
By Cash A/c
By Balance b/d
Cr.
`
600
1,000
1,600
Particulars
By Plant A/c
L.F.
L.F.
Particulars
Sales A/c
` Date Particulars
L.F.
L.F.
600 Jan. 15 By Cash A/c
Jan. 15 By Bad Debts A/c
600
Bad Debts Account
To
Particulars
Rahim
Feb. 1
To
Balance b/d
L.F.
Cr.
`
5,300
5,300
Particulars
Balance c/d
Dr.
Date
Jan. 15
` Date
1,600 Jan. 12
Jan. 18
1,600 Feb. 1
Rahim
L.F.
` Date Particulars
300 Jan. 31 By Balance c/d
300
300
L.F.
L.F.
Cr.
`
300
300
600
Cr.
`
300
300
Illustration 3
The following data is given by Mr. S, the owner, with a request to compile only the two personal
accounts of Mr. H and Mr. R, in his ledger, for the month of April, 2011.
1 Mr. S owes Mr. R ` 15,000; Mr. H owes Mr. S ` 20,000.
4 Mr. R sold goods worth ` 60,000 @ 10% trade discount to Mr. S.
5 Mr. S sold to Mr. H goods prices at ` 30,000.
2.34
Cr.
Date
Particulars
` Date
Particulars
1.4.2011
To
Balance b/d
20,000
5.4.2011
To
Sales A/c
24,775
17.4.2011
To
Sales A/c
225
40,000
5,000
90,000
Mr. R Account
Dr.
Cr.
Date
18.4.2011
Particulars
To
Purchase
` Date
5,400 1.4.2011
To
Bank A/c
26.4.2011
To
Discount
Received A/c
30.4.2011
To
Balance c/d
By Balance b/d
15,000
Purchases A/c
54,000
25,000
Returns A/c
26.4.2011
Particulars
4.4.2011
1,000
10,000
94,000
94,000
1.5.2011
Fundamentals of accounting
By Balance b/d
10,000
2.35
Ledgers
Working Notes:
(1) Sale of ` 10,000 on 19th April is a cash sales, therefore, it will not be recorded in the Personal
Account of Mr. H; and (2) On 22nd April, Mr. H owes Mr. S ` 90,000, amount paid by Mr. H
of ` 90,000 less % discount i.e. ` 45,000 ` 225 = ` 44,775. Out of this amount, ` 20,000 paid by
cheque and the balance of ` 24,775 in cash.
(i) The process of transferring the debit and credit items from a Journal to their respective
accounts in the ledger is termed as
(a) Posting
(b) Purchase
(ii) The technique of finding the net balance of an account after considering the totals of
both debits and credits appearing in the account is known as
(a) Posting
(b) Purchase
(v) At the end of the accounting year all the nominal accounts of the ledger book are
(b) Not balanced and also the balance is not transferred to the profit and loss
account
(d) Not balanced and their balance is transferred to the profit and loss account.
chapter - 2
Accounting
process
Unit 3
Trial Balance
trial balance
Learning Objectives
After studying this unit, you will be able to :
Learn the technique of taking balances from ledger accounts to prepare trial balance.
1.
INTRODUCTION
Preparation of trial balance is the third phase in the accounting process. After posting the accounts
in the ledger, a statement is prepared to show separately the debit and credit balances. Such a
statement is known as the trial balance. It may also be prepared by listing each and every account
and entering in separate columns the totals of the debit and credit sides. Whichever way it is
prepared, the totals of the two columns should agree. An agreement indicates reasonable accuracy
of the accounting work; if the two sides do not agree, then there is simply an arithmetic error(s).
This follows from the fact that under the Double Entry System, the amount written on the debit
sides of various accounts is always equal to the amounts entered on the credit sides of other
accounts and vice versa. Hence the totals of the debit sides must be equal to the totals of the credit
sides. Also total of the debit balances will be equal to the total of the credit balances. Once this
agreement is established, there is reasonable confidence that the accounting work is free from
clerical errors, though is not proof of cent per cent accuracy, because some errors of principle and
compensating errors may still remain. Generally, to check the arithmetic accuracy of accounts,
trial balance is prepared at monthly intervals. But because double entry system is followed, one
can prepare a trial balance any time. Though a trial balance can be prepared any time but it is
preferable to prepare it at the end of the accounting year to ensure the arithmetic accuracy of all
the accounts before the preparation of the financial statements. It may be noted that trial balance
is a statement and not an account.
2.
2.38
TRIAL BALANCE
as at.......................
S. No
Ledger Accounts
L.F.
Dr. Amount
Cr. Amount
(Total or Balance)
(Total or Balance)
3.
One should note that the agreement of Trial Balance is not a conclusive proof of accuracy. In
other words, in spite of the agreement of the trial balance some errors may remain. These may
be of the following types:
(i) Transaction has not been entered at all in the journal.
(ii) A wrong amount has been written in both columns of the journal.
(iii) A wrong account has been mentioned in the journal.
(iv) An entry has not at all been posted in the ledger.
(v) Entry is posted twice in the ledger.
Still, the preparation of the trial balance is very useful; without it, the preparation of financial
statement, the profit and loss account and the balance sheet, would be difficult.
4.
1.
TOTAL METHOD
Under this method, every ledger account is totaled and that total amount (both of debit side
and credit side) is transferred to trial balance. In this method, trial balance can be prepared as
soon as ledger account is totaled. Time taken to balance the ledger accounts is saved under
this method as balance can be found out in the trial balance itself. The difference of totals of
each ledger account is the balance of that particular account. This method is not commonly
used as it cannot help in the preparation of the financial statements.
Fundamentals of accounting
2.39
trial balance
Illustration 1
Given below is a ledger extract relating to the business of X and Co. as on March, 31, 2011. You
are required to prepare the Trial Balance by the Total Amount Method.
Cash Account
Dr.
Cr.
Particulars
Particulars
To
Capital A/c
10,000
By Furniture A/c
3,000
To
Rams A/c
25,000
By Salaries A/c
2,500
To
Cash Sales
500
By Shyams A/c
21,000
By Cash Purchases
1,000
By Capital A/c
500
By Balance c/d
7,500
35,500
35,500
Furniture Account
Dr.
Cr.
Particulars
To
Cash A/c
Particulars
3,000
By Balance c/d
3,000
3,000
3,000
Salaries Account
Dr.
Cr.
Particulars
To
Cash A/c
Particulars
2,500
By Balance c/d
2,500
2,500
2,500
Shyams Account
Dr.
Cr.
Particulars
To
Cash A/c
To
To
Balance c/d
`
21,000
500
Particulars
By Purchases A/c
`
25,000
(Credit Purchases)
3,500
25,000
25,000
2.40
Purchases Account
Dr.
Cr.
Particulars
To
To
Particulars
1,000
By Balance c/d
26,000
25,000
26,000
26,000
Cr.
Particulars
Balance c/d
500
500
Particulars
500
Rams Account
Dr.
Cr.
Particulars
To
`
30,000
Particulars
By Sales Returns A/c
By Cash A/c
By Balance c/d
30,000
`
100
25,000
4,900
30,000
Sales Account
Dr.
To
Cr.
Particulars
Balance c/d
30,500
Particulars
By Cash A/c (Cash Sales)
`
500
30,000
30,500
Cr.
Particulars
To
Particulars
100
By Balance c/d
100
100
Fundamentals of accounting
100
2.41
trial balance
Capital Account
Dr.
Cr.
Particulars
To
Cash A/c
To
Balance c/d
`
500
Particulars
By Cash A/c
10,000
9,500
10,000
10,000
Solution
Trial Balance of X and Co. as at 31.03.2011
Sl. No.
Name of Account
Total Debit
Items
`
1.
Cash A/c
35,500
2.
Furniture A/c
3,000
3.
Salaries A/c
2,500
4.
Shyams A/c
21,500
5.
Purchases A/c
26,000
6.
7.
Rams A/c
8.
Sales A/c
9.
100
10.
Capital A/c
500
Total of
Credit Items
`
28,000
25,000
500
30,000
25,100
30,500
1,19,100
10,000
1,19,100
2. BALANCE METHOD
Under this method, every ledger account is balanced and those balances only are carry forward to
the trial balance. This method is used commonly by the accountants and helps in the preparation
of the financial statements. Financial statements are prepared on the basis of the balances of the
ledger accounts.
Illustration 2
Taking the same information as given in Illustration 1, prepare the Trial Balance by Balance
Method.
2.42
Solution
Sl. No.
1.
2.
3.
4.
5.
6.
7.
8.
9.
10.
3.
44,000
Credit Balance
`
3,500
500
30,500
9,500
44,000
Under this method, the above two explained methods are combined. Under this method statement
of trial balance contains seven columns instead of five columns. This has been explained with the
help of the following example:
Trial Balance of X as at 31.03.2011
Sl. No.
Heads of Account
1.
Cash Account
2.
L.F.
Debit
Total
(`)
Credit
Total
(`)
7,500
35,500
28,000
Furniture Account
3,000
3,000
3.
Salaries Account
2,500
2,500
4.
Shyams Account
5.
Purchases Account
6.
7.
Rams Account
8.
Sales Account
9.
10.
Capital Account
Total
Fundamentals of accounting
Debit
Balance
(`)
Credit
Balance
(`)
3,500
26,000
21,500
26,000
500
4,900
500
30,000
30,500
100
44,000
25,000
25,100
30,500
100
9,500
500
10,000
44,000
1,19,100
1,19,100
2.43
trial balance
5.
If the trial balance do not agree after transferring the balance of all ledger accounts including
cash and bank balance and also errors are not located timely, then the trial balance is tallied by
transferring the difference of debit and credit side to an account known as suspense account. This
is a temporary account opened to proceed further and to prepare the financial statements timely.
6.
While preparing the trial balance from the given list of ledger balances, following rules should
be taken into care:
1.
The balances of all (i) assets accounts (ii) expenses accounts (iii) losses (iv) drawings (v) cash
and bank balances are placed in the debit column of the trial balance.
2.
The balances of all (i) liabilities accounts (ii) income accounts (iii) profits (iv) capital are placed
in the credit column of the trial balance.
Illustration 3
From the following ledger balances, prepare a trial balance of Anuradha Traders as on 31st
March, 2011:
Account Head
Capital
`
1,00,000
Sales
1,66,000
Purchases
1,50,000
Sales return
1,000
Discount allowed
2,000
Expenses
10,000
Trade receivables
75,000
Trade payables
25,000
Investments
15,000
37,000
1,500
Insurance paid
2,500
2.44
Solution
Trial Balance of Anuradha Traders as on 31.03.2011
Dr. balance
Purchases
1,50,000
Cr. balance
Capital
1,00,000
1,66,000
Sales return
1,000
Sales
Discount allowed
2,000
Trade payables
Expenses
10,000
Trade receivables
75,000
Investments
15,000
37,000
Insurance paid
Total
25,000
1,500
2,500
2,92,500
2,92,500
Illustration 4
One of your clients, Mr. Singhania has asked you to finalise his accounts for the year ended 31st
March, 2011. Till date, he himself has recorded the transactions in books of accounts. As a basis
for audit, Mr. Singhania furnished you with the following statement.
Dr. Balance (`)
Singhanias Capital
Singhanias Drawings
Leasehold premises
Sales
Due from customers
Purchases
Purchases return
Loan from bank
Trade payables
Trade expenses
Cash at bank
Bills payable
Salaries and wages
Inventories (1.4.2010)
Rent and rates
Sales return
564
750
2,750
530
1,259
264
256
528
700
226
100
600
264
463
5,454
Fundamentals of accounting
98
5,454
2.45
trial balance
The closing Inventory on 31st March, 2011 was valued at ` 574. Mr. Singhania claims that he
has recorded every transaction correctly as the trial balance is tallied. Check the accuracy of the
above trial balance.
Solution
Corrected Trial Balance of Mr. Singhania
as on 31st March, 2011
Particulars
Dr.
Amount
`
Singhanias Capital
Cr.
Amount
`
1,556
Singhanias Drawings
564
Leasehold premises
750
Sales
2,750
530
Purchases
1,259
Purchases returns
264
256
Creditor/Suppliers
528
Trade expenses
700
Cash at Bank
226
Bills payable
100
600
Inventory (1.4.2010)
264
463
Sales return
98
5,454
5,454
Reasons:
1. Due from customers is an asset, so its balance will be a debit balance.
2.
Purchases return account always shows a credit balance because assets go out.
3.
4.
5.
6.
Sales return account always shows a debit balance because assets come in.
2.46
Illustration 5
An inexperienced bookkeeper has drawn up a Trial Balance for the year ended 30th June, 2011.
Provision For Doubtful Debts
Bank Overdraft
Capital
Trade payables
Trade receivables
Discount Received
Discount Allowed
Drawings
Office Furniture
General Expenses
Purchases
Returns Inward
Rent & Rates
Salaries
Sales
Inventory
Provision for Depreciation on Furniture
Total
Dr. (`)
200
1,654
2,983
252
1,200
2,155
10,923
314
2,520
2,418
364
24,983
Cr. (`)
4,591
1,637
733
829
330
16,882
25,002
Required:
Draw up a Corrected Trial Balance, debiting or crediting any residual errors to a Suspense
Account.
Solution
Trial Balance as on 30th June, 2011
Heads of Accounts
Provision for Doubtful Debts
Bank overdraft
Capital
Trade payables
Trade receivables
Discount Received
Discount allowed
Drawings
Office furniture
General Expenses
Purchases
Returns Inward
Rent & Rates
Fundamentals of accounting
Dr. `
2,983
733
1,200
2,155
829
10,923
330
314
Cr. `
200
1,654
4,591
1,637
252
2.47
trIal balance
Salaries
Inventory
Provision for Depreciation on Furniture
Sales
Suspense Account (Balancing figure)
Total
2,520
2,418
1,175
25,580
364
16,882
25,580
chapter - 2
Accounting
process
Unit 4
Subsidiary Books
The Institute of Chartered Accountants of India
subsidiary books
Learning Objectives
After studying this unit, you will be able to :
Understand the techniques of recording transactions in Purchase Book, Sales Book; Returns
Inward Book and Returns outward book; Bills Receivable and Bills Payable book.
Learn the technique of posting from Subsidiary Books to Ledger.
Understand that even if subsidiary books are maintained, journalisation is required for
many other transactions and events.
Learn the difference between the subsidiary books and principle books.
1.
In a Business most of the transactions generally relate to receipts and payments of cash, sale
of goods and their purchase. It is convenient to keep a separate register for each such class of
transactions one for receipts and payments of cash, one for purchase of goods and one for sale of
goods. A register of this type is called a book of original entry or of prime entry. For transactions
recorded in such books there will be no journal entry. The system by which transactions of a class
are first recorded in the book, specially meant for it and on the basis of which ledger accounts are
then prepared is known as the Practical System of Book keeping or even the English System. It
should be noted that in this system, there is no departure from the rules of the double entry system.
These books of original or prime entry are also called subsidiary books since ledger accounts are
prepared on their basis and, without the further process of ledger posting, a trial balance cannot
be taken out. Normally, the following subsidiary books are used in a business:
(i)
Cash book to record receipts and payments of cash, including receipts into and payments
out of the bank.
(ii)
Purchases book to record credit purchases of goods dealt in or of the materials and stores
required in the factory.
(iii) Purchase Returns Books to record the returns of goods and materials previously purchased.
(iv) Sales Book to record the sales of the goods dealt in by the firm.
(v)
(vi) Bills receivable books to record the receipts of promissory notes or hundies from various
parties.
(vii) Bills Payable Book to record the issue of the promissory notes or hundies to other parties.
(viii) Journal (proper) to record the transactions which cannot be recorded in any of the seven
books mentioned above.
It may be noted that in all the above cases the word Journal may be used for the word book
Advantages of Subsidiary Books
The use of subsidiary books affords the undermentioned advantages :
(i) Division of work : Since in the place of one journal there will be so many subsidiary books,
the accounting work may be divided amongst a number of clerks.
2.50
(ii) Specialisation and efficiency : When the same work is allotted to a particular person over a
period of time, he acquires full knowledge of it and becomes efficient in handling it. Thus
the accounting work will be done efficiently.
(iii) Saving of the time : Various acconting processes can be undertaken simultaneously because
of the use of a number of books. This will lead to the work being completed quickly.
(iv) Availability of informations : Since a separate register or book is kept for each class of
transactions, the information relating to each transactions will be available at one place.
(v) Facility in checking: When the trial balance does not agree, the location of the error or errors
is facilitated by the existence of separate books. Even the commission of errors and frauds
will be checked by the use of various subsidiary books.
Principal
Books
Ledger
Simple Cash Book
Cash Book with
Discount Column
Cash Book with
Bank & Dis. Column
Cash
Book
Financial
Books
Purchase Book
Purchase
For Credit Sales
For Credit Purchases
Returns
For Credit
Sales Returns
For Bills
Subsidiary
Books
Purchase Return
Book
Sales Return Book
Receivable Received
Bills Receivable
Book
For Bills
accepted
Bills Payable
Book
For record of
transactions
not recorded
elsewhere
Fundamentals of accounting
Sales Book
Journal Proper
2.51
subsidiary books
3. PURCHASES BOOK
To record the credit purchases of goods dealt in or materials and stores used in the factory, a
separate register called the Purchases Book or the Purchases Journal, is usually maintained by
firms. The ruling is given below:
Date
Particulars
L.F.
Details
Amount
1.
2.
3.
4.
5.
Solution
2.52
PURCHASES BOOK
Date
Particulars
2011
M/s. Brown & Co.
Feb. 1
5 gross pencils @ ` 10 per gross
1 gross registers @ ` 24 per doz.
Less : 10% trade discount
4
The Paper Co.
5 reams white paper @ ` 10 per ream
10 reams ruled paper @ ` 15 per ream
Less : 10% trade discount
5
M/s. Verma Bros.
1 doz. ink-pots @ ` 1.50 each
L.F.
Amount
50.00
288.00
338.00
(33.80)
304.20
50.00
150.00
200.00
(20.00)
180.00
18.00
18.00
Total
502.20
Note : Purchases of cash and purchase for typewriter cannot be entered in the Purchase
Book.Illustration 2
Enter the following transactions in Purchase Book and post them into ledger.
2011
April 4
Purchased from Ajay Enterprises, Delhi
100 Doz. Rexona Hawai Chappal
@ ` 120 per Doz.
200 Doz. Palki Leather Chappal
@ ` 300 per Doz.
Less : trade discount @ 10%
Freight charged ` 150.
April 15
Purchased from Balaji Traders, Delhi
50 Doz. Max Shoes
@ ` 400 per Doz.
100 pair Sports Shoes.
@ ` 140 per paid.
Less : trade discount @ 10%.
Freight charged ` 200.
April 28
Purchased from Tripti Industries, Bahadurgarh
Fundamentals of accounting
2.53
subsidiary books
Solution
Date
2011
April 4
April 15
April 28
Particulars
Ajay Enterprises
100 Doz chappal
@ ` 120 per Doz - ` 12,000
200 Doz Palki Leather Chappal
@ ` 300 per Doz - ` 60,000
Less trade discount @ 10%
Balaji Traders, Delhi
50 Doz Max Shoes
@ ` 400 per Doz - ` 20,000
100 pair Sports shoes
@ ` 140 per pair - ` 14,000
Less trade discount @ 10%
Tripti Industries, Bahadurgarh
40 pair Leather shoes
@ ` 400 per pair - ` 16,000
100 DOZ Rosy Hawai Chappal
@ ` 180 per DOZ - ` 18,000
Less trade discount @ 10%
Gross
Amount
Trade
Discount
Net
Price
Sales
Tax
Freight
Total
Amount
72,000
7,200
64,800
6,480
150
71,430
34,000
3,400
30,600
3,060
200
33,860
34,000
3,400
30,600
3,060
100
33,760
1,40,000
14,000
1,26,000
12,600
450
1,39,050
Ledgers
Purchases A/c
Dr.
Cr.
2011
April 30 To amount as per purchase book
1,38,600
Freight A/c
2011
April 30 To amount as per purchase book
2.54
`
450
Ajay Enterprises
2011
By Freight A/c
`
71,280
150
Balaji Traders
2011
By Freight A/c
`
33,660
200
Tripati Industries
2011
By Freight A/c
`
33,660
100
Purchase Account will be debited by net price and sales tax because sales tax is a part of cost of
goods purchased.
3.1 POSTING THE PURCHASES BOOK
The Purchases Book shows the names of the parties from whom goods have been purchased on
credit. These parties are now trade payables. Their accounts have to be credited for the respective
amounts shown in the purchase book. The total of the amounts column shows the total purchases
made in a period. The amount is debited to the Purchase Account to indicate receipt of goods.
In illustration 11, the Purchases Account is debited by ` 502.12, M/s. Brown & Co. is credited by
` 304.12, the Paper Company by ` 180 and M/s. Verma Bros. by ` 18. The total of the amounts
put on the credit side equals the debit. Thus the double entry is completed.
4.
SALES BOOK
The Sales Book is a register specially kept to record credit sales of goods dealt in by the firm,cash
sales are entered in the Cash Book and not in the Sales Book. Credit sales of things, other than
the goods dealt in by the firm are not entered in the Sales Book ; they are journalised. The ruling
is the same as for the Purchases Book.
Entries in the sales book are also made in the same manner as in the Purchase Book. The particulars
column will record the name of the customers concerned together with particulars and quantities
of the goods sold. For each item, the amount is entered in the details column ; after totalling
the amounts for one sale, charges for packing etc; are added and the trade discount, if any is
deducted: the net amount is put in the outer column. The total of this column will show the total
credit sales for a period.
Illustration 3
The following are some of the transaction of M/s Kishore & Sons of the year 2011 as per their
Waste Book. Make out their Sales Book.
Fundamentals of accounting
2.55
subsidiary books
Particulars
2011
Details
`
L.F.
Amount
`
240.00
200.00
440.00
(44.00)
396.00
400.00
750.00
500.00
1,250.00
(125.00)
Total
1,125.00
1,921.00
Note : Cash sale and sale of furniture are not entered in Sales Book.
4.1 POSTING THE SALES BOOK
The names appearing in the Sales Book are of those parties which have received the goods. The
2.56
accounts of the parties have to be debited with the respective amounts. The total of the Sales Book
shows the credit sales made during the period concerned; the amount is credited to the Sales
Account. In the illustration 12, ` 1,921 is credited to the Sales Account; ` 396 is debited to M/s.
Gupta and Verma ` 400 to M/s Jain and Sons and ` 1,125 to M/s Mathur & Jain. The amount
put on the credit side is equal to the total of the amount put on the debit side. Thus, the double
entry principle is followed correctly.
4.2. SALES BOOK WITH SALES TAX COLUMN
Sales Tax is one levied at the point of sales. Sales tax is collected by the seller from the customers
on sales of goods and deposited the same with the state government. Sales tax is charged at a
fixed percentage on the net price of the goods. It is calculated after giving trade discount, if any.
Generally a separate column is provided in the Sales Book for sales tax so that a proper record
is maintained regarding sales tax collected. Rates of sales tax vary from item to item and also on
local sales and interstate sales (or say central sales). A separate column in sales book for each rate
of sales tax helps the dealer in calculating sales tax liability accurately.
At the end of a certain period, generally quarterly or monthly, the total of sales tax column is
credited to the Sales Tax Account. When sales tax is deposited with the sales tax department,
the Sales Tax Account is debited and Cash/Bank Account is credited. When there is any credit
balance in Sales Tax Account, it shows the amount payable as sales tax and hence be shown in
the Balance Sheet as a liability.
Illustration 4
February 2, 2011 :
Sold to Sen & Co. 10 chests of tea @ ` 500 per chest less 10%
Trade Discount; Sales tax is charged @ 5%.
Solution
Date
February 2, 2011
Sales Book
Particulars
South Indian Toys
500 toys @ ` 60 each
Less: Trade discount @ 5%
Add: Sales tax @ 10%.
Fundamentals of accounting
Details
Amount
30,000
(1,500)
28,500
2,850
31,350
2.57
subsidiary books
Ria Sisters
100 kg. wheat @ ` 40 per kg.
Less: Trade discount @ 5%.
4,000
(200)
3,800
Raj Bros.
20 bags of cement @ ` 2,000 per bag
Less: Trade discount @ 2%
Add: Sales tax @ 8%.
190
3,990
40,000
(800)
39,200
3,136
42,336
5,000
(500)
4,500
225
4,725
82,401
Illustration 5
Enter the following transactions in Sales Book of M/s. Pranat Engineers Ltd., Delhi 2011
Jan. 2.
Sold to M/s. Ajanta Electricals, Delhi 5 pieces of colour T.V. @ ` 6,000/- each less
trade Discount @10%
Sold to M/s. Ajanta Electricals Plaza, 10 pieces of Washing Machines @ ` 8,000/each less trade discount 5%.
15 Sold to M/s. Haryana Traders, 5 pieces of Black & White T.V. @ ` 3,500/- each less
trade discount @ 10%.
All sales are subject to 10% Sales Tax and 10% surcharge on sales tax.
2.58
Solution
Sales Book
Date
Particulars
Gross
Amount
Trade
Discount
Net
Price
Sales
Tax +
Surcharge
Total
Amount
30,000
3,000
27,000
2,970
29,970
80,000
4,000
76,000
8,360
84,360
17,500
1,750
15,750
1,732.50
17,482.50
1,27,500
8,750
1,18,750
2011
Jan. 2
15
13,062.50 1,31,812.50
Posting
If separate column of sales tax is provided then, each individual Trade receivable account will be
debited by the total amount of respective sales bill, Sales Account and Sales Tax Payable Account
shall be credited with the total of column of net sales and sales tax respectively.
Illustration 6
Post into the ledger the entries of Sales Book prepared in illustration 5.
Ledger
Dr.
Cr.
Ajanta Electricals
Date
Particulars
L.F.
2011
Jan. 2
Amount Date
Particulars
L.F.
(`)
To Sales A/c
Amount
(`)
27,000
2,970
Electronics Plaza
Date
Particulars
L.F.
2011
Jan. 8
Amount Date
(`)
To Sales A/c
To Sales Tax Payable A/c
Fundamentals of accounting
Particulars
L.F.
Amount
(`)
76,000
8,360
2.59
subsidiary books
Haryana Traders
Date
Particulars
L.F.
Amount Date
2011
Jan. 15
Particulars
L.F.
Amount
(`)
To Sales A/c
(`)
15,750
1,732.50
Sales Account
Date
Particulars
L.F.
Amount Date
Particulars
L.F.
Amount
(`) 2011
(`)
Jan 31
By Sundries
(As per Sales Book)
1,18,750
Particulars
Amount
Particulars
L.F.
Amount Date
L.F.
(`) 2011
(`)
By Sundries
(As per Sales Book)
Jan 31
5.
13,062.5
If customers frequently return the goods sold to them, it would be convenient to record the returns
in a separate book, which is named as the Sales Returns Book or the returns Inward Book. The
ruling of the book is similar to the Purchases or the Sales Book and entries are also made in the
same manner. The following, assumed figures, will illustrate this:
RETURNS INWARD BOOK
Date
2011
June 7
Particulars
Details
L.F.
Amount
`
2.60
42.00
(4.20)
37.80
Total
3.50
41.30
6.
Such a book conveniently records return of goods or material purchased to the suppliers-if
however, the returns are not frequent, it may be sufficient to record the transaction in the journal.
The ruling of the Purchase Returns or Returns Outward Book is similar to that of the Purchase
Book; entries are also similarly made, as the illustration given below shows:
RETURNS OUTWARD BOOK
Date
2011
June 2
Particulars
`
Premier Electric Co.
One 36 Usha Ceiling Fan
Mohan Electric Co.
Ten Iron Heaters
Less : Discount
Total
28
150.00
(15.00)
Amount
`
175.00
135.00
310.00
30
Particulars
Rajindra Prakash & Sons
One 36 Usha Ceiling Fan
Less : Trade Discount @ 10%
Modern Electric Company
Total
Fundamentals of accounting
L.F.
Details
`
200.00
(20.00)
Amount
`
180.00
100.00
280.00
2.61
subsidiary books
Solution
LEDGER
RAJINDRA PARKASH & SONS.
Dr.
Date
2011
Cr.
Particulars
Folio
Amount
Date
Particulars
Folio
Amount
180.00
MODERN ELECTRIC CO.
Cr.
Dr.
Date
2011
Particulars
Folio
Amount
Date
Particulars
Folio
Amount
100.00
Cr.
Particulars
Folio
Amount
Date
2011
Particulars
Folio
Nov. 30 By Sundries
as per Returns
Outward A/c
Amount
280.00
7.
IMPORTANCE OF JOURNAL
Students are now familiar with the journal. They also know that :
(i) Cash transactions are recorded in the cash book;
(ii) Credit purchases of goods or materials are recorded in the purchases book;
(iii) Credit sales of goods are recorded in the sales book ;
(iv) Returns from customers are recorded in the sale returns book; and
(v) Returns to suppliers are entered in the purchase returns book.
Bill transactions are entered in the bills receivable books or the bills payable books, if these are
maintained. Apart from the transactions mentioned above, there are some entries also which
have to be recorded. For them the proper place is the journal. In fact, if there is no special book
meant to record a transaction, it is recorded in the journal (proper). The role of the journal is thus
restricted to the following types of entries :
2.62
(i) Opening entries : When books are started for the new year, the opening balance of assets
and liabilities are journalised.
(ii) Closing entries : At the end of the year the profit and loss account has to be prepared. For
this purpose, the nominal accounts are transferred to this account. This is done through
journal entries called closing entries.
(iii) Rectification entries : If an error has been committed, it is rectified through a journal entry.
(iv) Transfer entries : If some amount is to be transferred from one account to another, the transfer
will be made through a journal entry.
(v) Adjusting entries : At the end of the year the amount of expenses or income may have to
be adjusted for amounts received in advance or for amounts not yet settled in cash. Such an
adjustment is also made through journal entries. Usually, the entries pertain to the following:
(a) Outstanding expenses, i.e., expenses incurred but not yet paid;
(b) Prepared expenses, i.e., expenses paid in advance for some period in the future;
(c) Interest on capital, i.e., the interest which the proprietor thinks proper to allow on his investment;
and
(d) Depreciation, i.e., fall in the value of the assets used on account of wear and tear.
(vi) Entries on dishonour of Bills : If someone who accepted a promissory note (or bill) and is
not able to pay in on the due date,a journal entry will be necessary to record the non-payment
or dishonour.
(vii) Miscellaneous entries : The following entries will also require journalising:
(a) Credit purchase of things other than goods dealt in or materials required for production
of goods e.g. credit purchase of furniture or machinery will be journalised.
(b) An allowance to be given to the customers or a charge to be made to them after the issue
of the invoice.
(c) Receipt of promissory notes or issue to them if separate bill books have not been
maintained.
Illustration 8
From the following transactions, prepare the Purchases Returns Book of Alpha & Co., a saree
dealer and post them to ledger :
Fundamentals of accounting
2.63
subsidiary books
Date
Particulars
04.01.2011
101
09.01.2011
16.01.2011
102
30.01.2011
Solution
Purchase Returns Book
Date
Name of supplier
L.F.
Amount
2011
Jan. 4
101
Jan. 16
102
1,300
1,800
Jan. 31
500
In which book of original entry, will you record the following transactions?
(iii) A second hand motor car was purchased on credit from B Brothers for ` 10,000.
(v) Accounting for partial recovery from Mr. C of an amount of ` 2,000 earlier written off
as bad debt.
2.64
(vii) A bills receivable of ` 1,000, which was received from a debtor in full settlement for a
claim of ` 1,100, is dishonoured.
(x) A debit note for ` 2,000 issued to Mr. F for goods returned by us is to be accounted for
(xi) Goods Outward Journal is meant for recording all returns of goods
(xii) The total of the purchases day book is posted periodically to the debit of:
[Ans 1: (i)-(b), (ii)-(b), (iii)-(a), (iv)-(c), (v)-(d), (vi)-(a), (vii)-(d), (viii)-(b), (ix)-(c), (x)-(d),
(xi)-(b), (xii)-(a), (xiii)-(c)]
2.
Fundamentals of accounting
2.65
subsidiary books
[Ans: 2: (i), (b); (ii), (c); (iii), (a); (iv), (a); (v), (a)]
2.66
chapter - 2
Accounting
process
Unit 5
Cash Book
The Institute of Chartered Accountants of India
Cash book
Learning Objectives
After studying this unit you will be able to :
Understand that a Cash Book is a type of subsidiary book but treated as a principal book.
Be familiar with various kinds of Cash Books, viz., Simple Cash Book, Two-column Cash
Book and Three-column Cash Book.
Learn the technique of preparation of Simple Cash Book and how to balance it.
See how Double-Column Cash Book is a prepared adding discount column alongwith
cash column.
Understand what is a Petty Cash Book and the Imprest System of Petty Cash.
Learn how to maintain a Petty Cash Book and how to post the entries of the Petty Cash
Book in the ledger.
2.68
side as By balance c/d. The totals are then entered in the two columns opposite one another and
then on the debit side the balance is written as To Balance b/d, to show cash balance in hand
in the beginning of next period.
Illustration 1
Enter the following transactions in a Simple Cash Book:
2011
Jan.1
5
7
8
10
27
31
31
Cash in hand
Received from Ram
Paid Rent
Sold goods for cash
Paid to Shyam
Purchased Furniture
Paid Salaries
Rent due, not yet paid, for January
`
1,200
300
30
300
700
200
100
30
Solution
CASH BOOK
Dr.
Date
2011
Jan. 1
5
8
Receipts
L.F.
To Balance b/d
To Ram A/c
To Sales A/c
Amount
`
1,200
300
300
Date
2011
Jan. 07
10
27
31
31
Payments
By Rent A/c
By Shyam A/c
By Furniture A/c
By Salaries A/c
By Balance c/d
L.F.
Cr.
Amount
`
30
700
200
100
770
1,800
2011
Feb. 1
To Balance b/d
1,800
770
2.69
Cash book
250
500
950
`
15
150
1,000
560
6 He allowed discount
10
Paid Ali & Sons
400
6 Received cash from
Krishna & Co.
600
They allowed discount
8
Allowed discount
20
Make out the two-column Cash Book (Cash and discount column) for the month of April, 2011.
2.70
Solution
CASH BOOK
Dr.
Cr.
Date
Receipts
2011
4 To Sales A/c
6 To Krishna A/c
` 2011
Payments
950
20
`
250
2 By Purchases A/c
500
600
5 By Ram Mohan
10
560
7 By Petty
Expenses A/c
15
8 By Purchases A/c
150
13 By Typewriter A/c
13 By Ali & Sons
1,000
8
30 By Balance c/d
20
May 1 To Balance b/d
3,550
400
675
18
3,550
675
To summarise :
(i) the discount columns in the cash book are not accounts;
(ii) they are not balanced; and
(iii) their totals are entered in the discount received/paid account in the ledger.
Note : The person who pays, is credited by both the cash paid by him and the discount allowed
to him. Similarly, the person to whom payment is made, is debited with both the amount paid
and the discount allowed by him.
2.3 THREE-COLUMN CASH BOOK
A firm normally keeps the bulk of its funds at a bank; money can be deposited and withdrawn
at will if it is current account. Probably payments into and out of the bank are more numerous
than strict cash transactions. There is only a little difference between cash in hand and money at
bank. Therefore, it is very convenient if, on each side in the cash book, another column is added
to record cash deposited at bank (on the receipt side of the cash book) and payments out of the
bank (on the payment side of the cash book).
For writing up the three-column cash book the under mentioned points should be noted:
1.
While commencing a new business, the amount is written in the cash column if cash is
introduced and in the bank column if it is directly put into the bank with the description To
Capital Account. If a new cash book is being started for an existing business, the opening
balances are written as : To Balance b/d.
Fundamentals of accounting
2.71
Cash book
2.
All receipts are written on the receipts side, cash in the cash column and cheques in the bank
column. If any discount is allowed to the party paying the amount, the discount is entered in
the discount column. In the particulars column the name of the account in respect of which
payment has been received is written.
3.
All payments are written on the payments side, cash payment in the cash column and
payments by cheques in the bank column. If some discount has been received from the party
receiving the payment, it is entered in the discount column.
4.
Contra Entries: Often cash is withdrawn from bank for use in the office. In such a case the
amount is entered in the bank column on the payments side and also in the cash column on
the receipts side. In the reverse case of cash being sent to the bank, the amount is recorded
in the bank column on the receipts side and in cash column on payment side. Against such
entries, the letter C should be written in the LF. column, to indicate that these are contra
transaction and no further posting is required for them.
Note : If initially cheques received are entered in the cash column and then sent to the
bank, the entry is as if cash has been sent to the bank.
While recording contra entries, the basic but important rules should be followed -
Dr.
The Giver
Cr.
Dr.
Cr.
e.g. where a Cash Book with separate columns for Bank Account is maintained.
(a) If cash is deposited in Bank Account, the Bank will be the Receiver, hence it will be
Debited and as the cash is going out, cash will be credited.
(b) If cash is withdrawn from the Bank Account, the Bank will be the Giver, hence it will
be Credited and, as the cash is coming in, cash will be Debited.
5.
If some cheque sent to the bank is dishonoured, i.e., the bank is not able to collect the amount,
it is entered in the bank column on the credit side with the name of the related party in the
particulars column.
6.
If some cheque issued by the firm is not paid on presentation, it is entered in the Bank column
on the debit side with the name of the party to whom the cheque was given.
7.
In a rare case, a cheque received may be given to some other party, i.e., endorsed. On receipt,
it must have been entered in the bank column on the debit side; on endorsement the amount
will be written in the bank column on the credit side.
(a) the Cash Account and the Bank Account are prepared simultaneously, therefore the
double entry is completed in the Cash Book itself. Thus the contra entries can be easily
cross-checked in Cash column in one side and the Bank column in the other side of the
Cash Book. Also the chances of error are reduced.
2.72
(b) the information regarding Cash in Hand and the Bank Balance can be obtained very
easily and quickly as there is no need to prepare Ledger of the Bank Account.
In case of maintaining more than one Bank Account, separate column can be add for each Bank
Account. Transactions between these two or more Bank Accounts can be recorded and tallied
with a much less effort.
Suppose, there are two Bank Accounts namely PNB Current Account and SBI-Cash Credit Account.
Now, if a cheque is deposited from PNB cheque Book to SBI Account, the receiver - i.e., PNB
Account will be debited and the giver i.e. the SBI Account shall be credited.
Balancing: The discount columns are totalled but not balanced. The cash columns are balanced
exactly in the same manner as indicated for the simple cash book. The process is similar for
balancing the bank columns also. It is possible, however, that the bank may allow the firm to
withdraw more than the amount deposited i.e., to have an overdraft, In such a case, the total of the
bank column on the credit side is bigger than the one on the debit side. The difference is written
on the debit side as To Balance c/d. Then the totals are written on the two sides opposite one
another, the balance is then entered on the credit side as By Balance b/d.
However, the usual case is that payments into the bank will exceed the withdrawals or payments
out of the bank. Then the bank columns are balanced just like the cash columns.
Illustration 3
Enter the following transactions in Cash Book with Discount and Bank Columns. Cheques are
first treated as cash receipt.
2011
Jan.1 Chandrika commences business with Cash
3 He paid into Current A/c
`
20,000
19,000
600
600
330
475
450
Fundamentals of accounting
1,000
275
50
2.73
To Cash
To Balance b/d
25
Feb. 1
C
35
To Sales A/c
20
35
To Warshi
15
2.74
21,225
175
450
20,745
21,075
1,000
475
600
12
To Cash
600
31 By Balance c/d
30 By S. Exp. A/c
27 By Purchases A/c
25 By Bank A/c
7 By Bank A/c
19,000
To Cash
20,000
Date Payments
To Capital A/c
Bank
`
Jan. 1
L.F.
Cash
`
2011
Receipts
Discount
`
CASH BOOK
2011
Dr.
Date
Solution
20
20
Discount
L.F.
`
21,225
300
50
275
1,000
600
19,000
Cash
`
21,075
20,745
330
Cr.
Bank
`
Cash book
3.
Students would have seen that the cash columns in the cash book is actually the cash account and
the bank column is actually bank account. Also, the discount columns are memorandum columns,
meant only to provide information about the total discount allowed and total discount received.
The debit side columns for cash and bank indicate receipts. Therefore, the amounts debited in
the cash book should be put to the credit of the account in respect of which cash or cheque has
been received. For instance, in the cash book given above we see that ` 175 have been received
for sale of goods. For posting, the amount is credited to the Sales Account as By Cash ` 175. We
also see M/s. Warsi have paid ` 450 and also they have been allowed ` 35 as discount; thus they
have discharged a debt of ` 485. In the account of M/s. Warsi, the posting is on the credit side as
By Cash
By Discount
` 450
` 35
or as :
By Sundries
` 485
All payments are recorded on the credit side. The particulars columns show on what account
payments have been made. In the ledger accounts concerned the amount in put on the
debit side. For example, the cash book shows that a cheque for ` 330 has been issued to
M/s. Ratan & Co. and also that they have allowed a discount of ` 20; thus an obligation of ` 350
has been met. In the account of M/s. Ratan & Co. the posting is :
To Bank
To Discount
` 330
` 20
Or
To Sundries
` 350
The rule thus develops: From the debit side of the cash book credit the various accounts
with their respective amounts (including any discount that may have been allowed); from
the credit side of cash book the posting will be to the debit of the accounts mentioned in the
particular column with their respective amounts (including the discount which may have
been received).
As has been shown already, the total of the discount columns on the debit side is debited to the
discount account; the total of the column on the credit side is credited to the discount account.
From the cash book given on the previous page ` 35 is debited and ` 20 be credited to the discount
account.
4.
In a business house a number of small payments, such as for telegrams, taxi fare, cartage, etc.,
have to be made. If all these payments are recorded in the cash book, it will become unnecessarily
heavy. Also, the main cashier will be overburdened with work. Therefore, it is usual for firms to
appoint a person as Petty Cashier and to entrust the task of making small payments say below
Fundamentals of accounting
2.75
Cash book
` 25, to him. Of course he will be reimbursed for the payments made. Later, on an analysis, the
respective account may be debited.
4.1 IMPREST SYSTEM OF PETTY CASH
It is convenient to entrust a definite sum of money to the petty cashier in the beginning of a period
and to reimburse him for payments made at the end of the period. Thus, he will have again the
fixed amount in the beginning of the new period. Such a system is known as the imprest system
of petty cash.
The system is very useful specially if an analytical Petty Cash Book is used. The book has one
column to record receipt of cash (which is only from the main cashier) and other columns to
record payments of various types. The total of the various columns show why payments have
been made and then the relevant accounts can be debited.
(i) The amount fixed for petty cash should be sufficient for the likely small payments for a
relatively short period, say for a week or a fortnight.
(ii) The reimbursement should be made only when petty cashier prepares a statement showing
total payments supported by vouchers, i.e., documentary evidence and should be limited
to the amount of actual disbursements.
(iii) The vouchers should be filed in order.
(iv) No payment should be made without proper authorization. Also, payments above a certain
specified limit should be made only by the main cashier.
(v) The petty cashier should not be allowed to receive any cash except for reimbursement.
In the petty cash book the extreme left-hand column records receipts of cash. The money column
towards the right hand shows total payments for various purposes; a column is usually provided
for sundries to record infrequent payments. The sundries column is analysed. At the end of the
week or the fortnight the petty cash book is balanced. The method of balancing is the same as
for the simple cash book.
Illustration 4
Shri Ramaswamy maintains a Columnar Petty Cash Book on the Imprest System. The imprest
amount is ` 500. From the following information, show how his Petty Cash Book would appear
for the week ended 12th September, 2011:
`
7-9-2011
8-9-2011
9-9-2011
10-9-2011
11-9-2011
12-9-2011
Balance in hand
Received Cash reimbursement to make up the imprest
Stationery
Miscellaneous Expenses
Repairs
Travelling
Stationery
Miscellaneous Expenses
Repairs
2.76
134.90
365.10
49.80
20.90
156.70
68.50
71.40
6.30
48.30
COMMON PROFICIENCY TEST
Fundamentals of accounting
2.77
13
To Balance b/d
365.10
To Reimbursement
78.10
500.00
134.90
To Balance b/d
Sept. 7
Amount
`
Receipts
Date
2011
Solution
68.50
71.40
10 By Travelling
11 By Stationery
By Balance c/d
By Repairs
500.00
78.10
27.20
205.00
68.50
156.70
421.90
6.30
20.90
48.30
121.20
71.40
68.50
`
49.80
Travelling
Stationery
48.30
6.30
156.70
9 By Repairs
12 By Misc. Expenses
20.90
49.80
Total
Amount
`
8 By Misc. Expenses
7 By Stationery
Date Payments
2011
Cash book
Illustration 5
Prepare a Petty Cash Book on the imprest System from the following:
2011
Jan. 1
.50
Paid cartage
2.50
5.00
6.00
4.00
2.00
Bus fare
1.00
Cartage
4.00
7.00
Tonga charges
3.00
Cartage
3.00
Stationery
2.00
Refreshments to customers
5.00
2.78
15.00
Fundamentals of accounting
2.79
13
14
To Cash
60.00
By Balance c/d
By General Expenses
By Stationery
By Cartage
By Conveyance
To Balance b/d
12
40.00
100
11
By Cartage
9
By Postage and Telegrams
By Conveyance
10
By Repairs to Furniture
By Conveyance
By Stationery
By Wages
By Cartage
By Conveyance
To Cash
100 Jan.1
` 2011
Solution
12.00
7.00
6.00
6.00
Wages
15.00
Sundries
100.00
40.00
20.00
6.00
2.00
4.00
5.00
Postage &
Telegrams
`
60.00
9.50
3.00
4.00
2.50
Stationery
`
5.00
6.50
3.00
1.00
2.00
.50
Cartage
5.00
2.00
3.00
3.00
7.00
4.00
1.00
15.00
2.00
4.00
6.00
5.00
2.50
.50
Conveyance
`
`
Total
Cash book
Conveyance Account
Dr.
6.50
Cartage account
Dr.
9.50
Stationery account
Dr.
6.00
Dr.
12.00
Wages Account
Dr.
6.00
Repairs Account
Dr.
15.00
Dr.
5.00
60.00
Dr.
100
100
Particulars
Jan.1
To Cash
To Cash
Folio
Amount Date
` 2011
100.00 Jan.6
60.00
Particulars
Folio Amount
`
By Sundries:
Conveyance
6.50
Cartage
9.50
Stationery
6.00
6.00
Repairs
15.00
General Expenses
5.
12.00
5.00
Now-a-days sales through Credit/Debit Cards are issued by almost every Bank in India either
directly or with collaboration of some other agencies. HSBC Card, SBI Card, BOB Card, ICICI
Bank Card, HDFC Card and Andhra Bank Card are some of the popular Cards.
The procedure for issuing Credit/Debit Cards are as follows 1.
A small Plastic Card, called Credit Card is issued by bank to a prospective customer, after
verifying his credibility, which is generally measured by his income sources. Debit Card is
issued by bank to a customer who has an account with the bank, maintaining a minimum
balance. Now a days ATM Card issued by the bank can also be used as Debit Card. This
card would contain an embossed 16 digit number and also the name of the cardholder.
2.
Generally Bank charges annual subscription fees from the credit card holder. No fee is charged
in case of Debit Card, though some banks charge a nominal fee on Debit Card.
3.
When the Card holder intends to buy some goods or services through Credit or Debit Card,
the seller fills in a form, generally in triplicate, the details of the goods a with the amount of
sales and uses the embossed card with the help of the Credit Card machine to print the data
on that form. Also the customer has to countersign the form. One carbon copy of the form
is given to the customer for the record.
4.
The seller sums up the different amounts sold like this and submits, generally everyday, to
his bank all the forms. The amount is credited by the bank to the sellers account and debited
to the account of the Bank or the company issuing the Credit/Debit Card.
5.
The bank issuing the Card, charges commission for each such transaction, which varies
between 1% to 4% and is immediately debited to sellers bank account.
6.
The bank sends a monthly statement to the card holder. In case of Debit Card the account
is immediately debited to the card holders account, whereas in case of Credit Card, card
Fundamentals of accounting
2.81
Cash book
holder has to pay the amount in full or part. However, if not paid in full, the interest is
charged.
5.1 ACCOUNTING FOR CREDIT/DEBIT CARD SALE
From the sellers point of view, this type of sale is equivalent to a cash sale. Commission charged
by the bank will be treated as selling expenses. The following journal entries will be made in the
sellers books of accounts
1.
Bank A/c
Dr.
To Sales Account
2.
Commission Account
Dr.
To Bank Account
Illustration 7
Enter the following transaction in Cash Bank with Discount and Bank columns. Cheques are first
treated as cash receipts 2011
March 1 Cash in Hand
Overdraft in Bank
2 Cash Sales
3 Paid to Sushil Bros. by cheque
Discount received
5 Sales through credit card
6 Received cheque from Srijan
7 Endorsed Srijans cheque in favour of Adit
9 Deposit into Bank
10 Received cheque from Aviral
and deposited the same into Bank
by allowing discount of ` 50
11 Adit informed that Srijans cheque is dishonoured and paid to Adit
through own cheque
15 Sales through Debit Card
24 Withdrawn from Bank
28 Paid to Sanchit by cheque
30 Bank charged 1% commission on sales through
Debit/Credit Cards
2.82
`
15,000
500
3,000
3,400
100
2,800
6,200
6,800
3,600
3,200
1,800
3,000
Fundamentals of accounting
2.83
50
24 To Bank A/c
15 To Sales A/c
12 Adit
C
50
26,000
1,800
6,200
22,600
3,200
3,600
6,800
9 To Cash A/c
10 To Aviral
6,200
6 To Srijan
C
2,800
5 To Sales
31 By Balance c/d
30 By Commission
28 By Sanchit
24 By Cash A/c
12 By Adit
9 By Bank
7 By Adit
3 By Sushil Bros.
3,000
Particulars
2 To Sales
Bank Date
`
Cash
`
15,000
Discount
`
L.F.
2011
Particulars
CASH BOOK
2011
Dr.
Date
Solution
L.F.
19,200
6,800
Cash
`
100 26,000
100
Discount
`
22,600
1,440
60
3,000
1,800
6,200
6,200
3,400
500
Cr.
Bank
`
Cash book
(c)
(a)
(c)
(a)
(c)
Cash column
Petty cash column
2.84
(a)
(c)
(a)
(b) A profit
(c) An asset
(d) A liability.
An expense
(iii) If Ram has sold goods for cash, the entry will be recorded
(a)
(c)
In the Journal
Answers
1
(i)
(d)
(ii)
(d) (iii)
(a) (iv)
(c)
(ii)
(c) (iii)
(a)
(c) (v)
(d) (vi)
(b)
2
(i)
Fundamentals of accounting
2.85
chapter - 2
Accounting
process
Unit 6
Capital and Revenue
Expenditures
and Receipts
The Institute of Chartered Accountants of India
Learning Objectives
After studying this unit you will be able to :
1.
Learn the criteria for identifying Revenue Expenditure and distinguishing from Capital
Expenditure.
Be familiar with the term Deferred Revenue Expenditure.
Learn the distinction between capital and revenue receipts.
Understand the linkage of such distinction with the preparation of final accounts.
INTRODUCTION
Accounting aims in ascertaining and presenting the results of the business for an accounting period.
For ascertaining the periodical business results, the nature of transactions should be analysed
whether they are of capital or revenue nature. The Revenue Expense relates to the operations of
the business of an accounting period or to the revenue earned during the period or the items of
expenditure, benefits of which do not extend beyond that period. Capital Expenditure, on the
other hand, generates enduring benefits and helps in revenue generation over more than one
accounting period. Revenue Expenses must be associated with a physical activity of the entity.
Therefore, whereas production and sales generate revenue in the earning process, use of goods
and services in support of those functions causes expenses to occur. Expenses are recognised in
the Profit & Loss Account through matching principal which tells us when and how much of the
expenses to be charged against revenue. A part of the expenditure can be capitalised only when
these can be traced directly to definable streams of future benefits.
The distinction of transaction into revenue and capital is done for the purpose of placing them in
Profit and Loss account or in the Balance Sheet. For example: revenue expenditures are shown in
the profit and loss account as their benefits are for one accounting period i.e. in which they are
incurred while capital expenditures are placed on the asset side of the balance sheet as they will
generate benefits for more than one accounting period and will be transferred to profit and loss
account of the year on the basis of utilisation of that benefit in particular accounting year. Hence,
both capital and revenue expenditures are ultimately transferred to profit and loss account.
Revenue expenditures are transferred to profit and loss account in the year of spending while
capital expenditures are transferred to profit and loss account of the year in which their benefits
are utilised. Therefore we can conclude that it is the time factor, which is the main determinant
for transferring the expenditure to profit and loss account. Also expenses are recognized in profit
and loss account through matching concept which tells us when and how much of the expenses
to be charged against revenue. However, distinction between capital and revenue creates a
considerable difficulty. In many cases borderline between the two is very thin.
Fundamentals of accounting
2.87
3.
As we have already discussed, capital expenditure contributes to the revenue earning capacity
of a business over more than one accounting period whereas revenue expense is incurred to
generate revenue for a particular accounting period. The revenue expenses either occur in direct
relation with the revenue or in relation with accounting periods, for example cost of goods sold,
salaries, rent, etc. Cost of goods sold is directly related to sales revenue whereas rent is related to
the particular accounting period. Capital expenditure may represent acquisition of any tangible
or intangible fixed assets for enduring future benefits. Therefore, the benefits arising out of capital
expenditure last for more than one accounting period whereas those arising out of revenue
expenses expire in the same accounting period.
2.88
4.
Deferred revenue expenditure is that expenditure for which payment has been made or a
liability incurred but which is carried forward on the presumption that it will be of benefit over
a subsequent period or periods. In short, it refers to that expenditure that is, for the time being,
deferred from being charged against income. Such suspension of charging of operation may be
due to the nature of expenses and the benefits expected there from.
Deferred revenue expenditure should be revenue expenditure by nature in the first instance.
But its matching with revenue may be deferred considering the benefits to be accrued in future.
A thin line of difference exists between deferred revenue expenses and prepaid expenses. The
benefits available from prepaid expenses can be precisely estimated but that is not so in case of
deferred revenue expenses. For example, insurance premium paid say, for the year ending 30th
June, 2011 when the accounting year ends on 31st March, 2011 will be an example of prepaid
expense to the extent of premium relating to three months period i.e. from 1st April, 2011 to 30th
June, 2011. Thus the insurance protection will be available precisely for three months after the
close of the Year and the amount of the premium to be carried forward can be calculated exactly.
As per para 56 of AS 26 Intangible Assets, in some cases expenditure is incurred to provide
future economic benefits (for more than one accounting period) which does not create an asset
to be recognized in the books of an entity. Such expenses, should be charged to profit and loss
account in the year the amount is incurred.
However, it may be noted that accounting issues of specialised nature such as accounting for
discount or premium relating to borrowings and ancillary costs incurred in connection with the
arrangement of borrowings, share issue expenses and discount allowed on the issue of shares
may be deferred for more than one accounting period.
Illustration 1
State with reasons whether the following statements are True or False.
(1) Overhaul expenses of second-hand machinery purchased are Revenue Expenditure.
(2) Money spent to reduce working expenses is Revenue Expenditure.
(3) Legal fees to acquire property is Capital Expenditure.
(4) Amount spent as lawyers fee to defend a suit claiming that the firms factory site belonged
to the plaintiffs land is Capital Expenditure.
(5) Amount spent for replacement of worn out part of machine is Capital Expenditure.
(6) Expense incurred on the repairs and white washing for the first time on purchase of an old
building are Revenue Expenses.
(7) Expenses in connection with obtaining a license for running the cinema is Capital Expenditure.
(8) Amount spent for the construction of temporary huts, which were necessary for construction
of the Cinema House and were demolished when the cinema house was ready, is Capital
Expenditure.
Fundamentals of accounting
2.89
Solution
(1) False: Overhaul expenses are incurred to put second-hand machinery in working condition
to derive endurable long-term advantage. So it should be capitalised.
(2) False: It may be reasonably presumed that money spent for reducing revenue expenditure
would have generated long-term benefits to the entity. It becomes part of intangible fixed
assets if it is in the form of technical know-how and tangible fixed assets if it is in the form
of additional replacement of any of the existing tangible fixed assets. So this is capital
expenditure.
(3) True: Legal fee paid to acquire any property is part of the cost of that property. It is incurred
to possess the ownership right of the property and hence a capital expenditure.
(4) False: Legal expenses incurred to defend a suit claiming that the firms factory site belongs to
the plaintiff is maintenance expenditure of the asset. By this expense, neither any endurable
benefit can be obtained in future in addition to that what is presently available nor the
capacity of the asset will be increased. Maintenance expenditure in relation to an asset is
revenue expenditure.
(5) False: Amount spent for replacement of any worn out part of a machine is revenue expense
since it is part of its maintenance cost.
(6) False: Repairing and white washing expenses for the first time of an old building are incurred
to put the building in usable condition. These are the part of the cost of building. Accordingly,
these are capital expenditure.
(7) True: The Cinema Hall could not be started without license. Expenditure incurred to obtain
the license is pre-operative expense which is capitalised. Such expenses are amortised over
a period of time.
(8) True: Cost of temporary huts constructed which were necessary for the construction of the
cinema house is part of the construction cost of the cinema house. Therefore such costs are
to be capitalised.
Illustration 2
State with reasons whether the following are Capital or Revenue Expenditure:
(1) Expenses incurred in connection with obtaining a license for starting the factory for
` 10,000.
(2) ` 1,000 paid for removal of Inventory to a new site.
(3) Rings and Pistons of an engine were changed at a cost of ` 5,000 to get fuel efficiency.
(4) Money paid to Mahanagar Telephone Nigam Ltd. (MTNL) ` 8,000 for installing telephone
in the office.
(5) A factory shed was constructed at a cost of ` 1,00,000. A sum of ` 5,000 had been incurred
in the construction of temporary huts for storing building material.
2.90
Solution
(1) Money paid ` 10,000 for obtaining license to start a factory is a capital expenditure. This is
an item of expenditure incurred to acquire the right to carry on business.
(2) ` 1,000 paid for removal of Inventory to a new site is revenue expenditure. This is neither
bringing enduring benefit nor enhancing the value of the asset.
(3) ` 5,000 spent in changing Rings and Pistons of an engine to get fuel efficiency is capital
expenditure. This is an expenditure on improvement of a fixed asset. It results in increasing
profit-earning capacity of the business by cost reduction.
(4) Money deposited with MTNL for installation of telephone in office is not expenditure. This
is treated as an asset and the same is adjusted over a period of time against actual telephone
bills.
(5) Cost of construction of building including cost of temporary huts is capital expenditure.
Building is fixed asset which will generate enduring benefit to the business over more than
one accounting period. Construction of temporary huts is incidental to the main construction.
Such cost is also capitalised with the cost of building.
5.
Just as a clear distinction between Capital and Revenue expenditure is necessary, in the same
manner capital receipts must be distinguished from revenue receipts.
Receipts which are obtained in course of normal business activities are revenue receipts (e.g.
receipts from sale of goods or services, interest income etc.). On the other hand, receipts which
are not revenue in nature are capital receipts (e.g. receipts from sale of fixed assets or investments,
secured or unsecured loans, owners contributions etc.). Revenue and capital receipts are
recognised on accrual basis as soon as the right of receipt is established. Revenue receipts should
not be equated with the actual cash receipts. Revenue receipts are credited to the Profit and Loss
Account.
On the other hand, Capital receipts are not directly credited to Profit and Loss Account.
For example, when a fixed asset is sold for ` 92,000 (cost ` 90,000), the capital receipts
` 92,000 is not credited to Profit and Loss Account. Profit/Loss on sale of fixed assets is calculated
and credited to Profit and Loss Account as follows:
Sale Proceeds
` 92,000
Cost
(` 90,000)
Profit
` 2,000
Illustration 3
Good Pictures Ltd., construct a cinema house and incur the following expenditure during the
first year ending 30th June, 2011.
(i) Second-hand furniture worth ` 9,000 was purchased; repainting of the furniture costs ` 1,000.
The furniture was installed by own workmen, wages for this being ` 200.
Fundamentals of accounting
2.91
(ii) Expenses in connection with obtaining a license for running the cinema worth ` 20,000.
During the course of the year the cinema company was fined ` 1,000, for contravening rules.
Renewal fee ` 2,000 for next year also paid.
(iii) Fire insurance, ` 1,000 was paid on 1st January, 2011 for one year.
(iv) Temporary huts were constructed costing ` 1,200. They were necessary for the construction
of the cinema. They were demolished when the cinema was ready.
Point out how you would classify the above items.
Solution
1.
The total cost of the furniture should be treated as ` 10,200 i.e., all the amounts mentioned
should be capitalised since without such expenditure the furniture would not be available
for use. If ` 1,000 and ` 200 have been respectively debited to the Repairs Account and the
Wages Account, these accounts will be credited to the Furniture Account.
2.
License for running the cinema house is necessary, hence its cost should be capitalised. But
the fine of ` 1,000 is revenue expenditure. The renewal fee for the next year is also revenue
expenditure but pertains to the next year; hence, it is a prepaid expense.
3.
Half of the insurance premium pertains to the year beginning on 1st July, 2011. Hence such
amount should be treated as prepaid expense. The remaining amount is revenue expense
for the current year.
4.
Since the temporary huts were necessary for the construction, their cost should be added to
the cost of the cinema hall and thus capitalised.
Illustration 4
State with reasons, how you would classify the following items of expenditure:
1.
Overhauling expenses of ` 25,000 for the engine of a motor car to get better fuel efficiency.
2.
3.
Compensation of ` 2.5 crores paid to workers, who opted for voluntary retirement.
Solution
1.
Overhauling expenses are incurred for the engine of a motor car to derive better fuel efficiency.
These expenses will reduce the running cost in future and thus the benefit is in form of
endurable long-term advantage. So this expenditure should be capitalised.
2.
Inauguration expenses incurred on the opening of a new unit may help to explore more
customers This expenditure is in the nature of revenue expenditure, as the expenditure may
not generate any enduring benefit to the business over more than one accounting period.
3.
The amount paid to workers on voluntary retirement is in the nature of revenue expenditure.
Since the magnitude of the amount of expenditure is very significant, it may be better to
defer it over future years.
2.92
Illustration 5
Classify the following expenditures and receipts as capital or revenue:
(i) ` 10,000 spent as travelling expenses of the directors on trips abroad for purchase of capital
assets.
(ii) Amount received from Trade receivables during the year.
(iii) Amount spent on demolition of building to construct a bigger building on the same site.
(iv) Insurance claim received on account of a machinery damaged by fire.
Solution
(i) Capital expenditure.
(ii) Revenue receipt.
(iii) Capital expenditure.
(iv) Capital receipt.
Illustration 6
Are the following expenditures capital in nature?
(i) M/s ABC & Co. run a restaurant. They renovate some of the old cabins. Because of this
renovation some space was made free and number of cabins was increased from 10 to 13.
The total expenditure was ` 20,000.
(ii) M/s New Delhi Financing Co. sold certain goods on installment payment basis. Five
customers did not pay installments. To recover such outstanding installments, the firm spent
` 10,000 on account of legal expenses.
(iii) M/s Ballav & Co. of Delhi purchased a machinery from M/s Shah & Co. of Ahmedabad.
M/s Ballav & Co. spent ` 40,000 for transportation of such machinery.
(iv) M/s Dogra & Co. installed a machinery for ` 5,00,000 on 1.1.2005. They were charging
deprecation on straight line basis taking useful life of the machine as 10 years In December,
2011 they found that the machine became obsolete which could not be used. The machine
can fetch only ` 50,000.
Solution:
(i) Renovation of cabins increased the number of cabins. This has an effect on the future revenue
generating capability of the business. Thus the renovation expense is capital expenditure in
nature.
(ii) Expense incurred to recover installments due from customer do not increase the revenue
generating capability in future. It is a normal recurring expense of the business. Thus the
legal expenses incurred in this case is revenue expenditure in nature.
(iii) Expenses incurred on account of transportation of fixed asset is capital expenditure in nature.
(iv) Loss arising out of obsolescence of machinery is revenue expenditure. This loss is to be
charged against revenue of the year in which such loss is recognised. In this case, loss due
to obsolescence is:
Fundamentals of accounting
2.93
Cost
1,50,000
(50,000)
5,00,000
(3,50,000)
1,00,000
Illustration 7
Are the following expenses capital in nature?
(i) Wages paid for installation of fixed assets.
(ii) Expenses of trial run of a newly installed machine.
(iii) Money deposited with the wholesaler as security.
(iv) Money paid to Mahanagar Telephone Nigam Ltd. (MTNL) ` 8,000 for installing Telephone
in the office.
(v) Diwali advance to employees.
(vi) Money advanced to suppliers for booking of goods.
Solution:
Expenses incurred including wages for installation of any fixed asset is capital expenditure
in nature.
(ii) Expenses incurred for trial run of a newly installed machinery is capital expenditure in
nature.
(iii) Money deposited as security is not an expenditure item.
(iv) Money deposited with MTNL for installation of telephone is not expenditure item. This is
treated as an asset.
(v) Diwali advance to employees is not an expense item.
(vi) Money advanced to supplies for booking goods is not an expense item.
(i)
(i) Money spent ` 10,000 as traveling expenses of the directors on trips abroad for purchase
of capital assets is
2.94
(ii) Amount of ` 5,000 spent as lawyers fee to defend a suit claiming that the firms
factory site belonged to the plaintiffs land is
(iii) Entrance fee of ` 2,000 received by Ram and Shyam Social Club is
(iv) Subsidy of ` 40,000 received from the government for working capital by a manufacturing
concern is
(vii) Amount received from IDBI as a medium term loan for augmenting working capital is
(ix) A second hand car is purchased for ` 10,000, the amount of ` 1,000 is spent on its repairs,
` 500 is incurred to get the car registered in owners name and ` 1,200 is paid as dealers
commission. The amount debited to car account will be
(a) ` 10,000.
(b) ` 10,500.
(c) ` 11,500.
(d) ` 12,700.
(x) Revenue from sale of products, ordinarily, is reported as part of the earning in the period
in which
(xi) If repair cost is ` 25,000, whitewash expenses are ` 5,000, cost of extension of building
is ` 2,50,000 and cost of improvement in electrical wiring system is ` 19,000; the amount
to be expensed is
(a) ` 2,99,000.
(b) ` 44,000.
Fundamentals of accounting
(c) ` 30,000.
(d) ` 49,000.
2.95
[Ans. 1: (i)-(a), (ii)-(b), (iii)-(a), (iv)-(b), (v)-(a), (vi)-(b), (vii)-(c), (viii)-(d), (ix)-(d), (x)-(a), (xi)-(c)]
2. Out of the following which are (1) capital expenditure; (2) revenue expenditure; and (3)
deferred revenue expenditure?
[Ans: 2: (ii) Is a capital expenditure and Item no. and remaining items are revenue expenditures.]
2.96
chapter - 2
Accounting
process
Unit 7
Contingent Assets
and Contingent
Liabilities
The Institute of Chartered Accountants of India
Learning Objectives
After studying this unit you will be able to :
Understand the meaning of the terms 'Contingent Assets' and 'Contingent Liabilities'.
Distinguish 'Contingent Liabilities' with 'Liabilities' and 'Provisions'.
1.
CONTINGENT ASSETS
A contingent asset may be defined as a possible asset that arises from past events and whose
existence will be confirmed only after occurrence or non-occurrence of one or more uncertain
future events not wholly within the control of the enterprise. It usually arises from unplanned
or unexpected events that give rise to the possibility of an inflow of economic benefits to the
business entity. For example, a claim that an enterprise is pursuing through legal process, where
the outcome is uncertain, is a contingent asset.
As per the concept of prudence as well as the present accounting standards, an enterprise should
not recognise a contingent asset. These assets are uncertain and may arise from a claim which an
enterprise pursues through a legal proceeding. There is uncertainty in realisation of claim. It is
possible that recognition of contingent assets may result in recognition of income that may never
be realised. However, when the realisation of income is virtually certain, then the related asset
no longer remains as contingent asset.
A contingent asset need not be disclosed in the financial statements. A contingent asset is
usually disclosed in the report of the approving authority (Board of Directors in the case of a
company, and the corresponding approving authority in the case of any other enterprise), if an
inflow of economic benefits is probable. Contingent assets are assessed continually and if it has
become virtually certain that an inflow of economic benefits will arise, the asset and the related
income are recognised in the financial statements of the period in which the change occurs.
2.
CONTINGENT LIABILITIES
(i) it is not probable that an outflow of resources embodying economic benefits will be
required to settle the obligation; or
Possible Obligation: An obligation is a possible obligation if, based on the evidence available, its existence at the balance sheet
date is considered not probable.
Present Obligation: An obligation is a present obligation if, based on the evidence available, its existence at the balance sheet date
is considered probable, i.e., more likely than not.
2.98
A contingent liability is a possible obligation arising from past events and may arise in future
depending on the occurrence or non-occurrence of one or more uncertain future events [part (a)
of the definition]. A contingent liability may also be a present obligation that arises from past
events [(part (b) of the definition)].
An enterprise should not recognise a contingent liability. A Contingent liability is required to
be disclosed unless possibility of outflow of a resource embodying economic benefits is remote.
These liabilities are assessed continually to determine whether an outflow of resources embodying
economic benefits has become probable. If it becomes probable that an outflow or future economic
benefits will be required for an item previously dealt with as a contingent liability, a provision is
recognised in financial statements of the period in which the change in probability occurs except
in the extremely rare circumstances where no reliable estimate can be made.
Fundamentals of accounting
2.99
Provision
Contingent liability
(1)
(2)
(3)
(4)
Let us take an example to understand the distinction between provisions and contingent liabilities.
The Central Excise Officer imposes a penalty on Alpha Ltd. for violation of a provision in the
Central Excise Act. The company goes on an appeal. If the management of the company estimates
that it is probable that the company will have to pay the penalty, it recognises a provision for the
liability. On the other hand, if the management anticipates that the judgement of the appellate
authority will be in its favour and it is less likely that the company will have to pay the penalty, it
will disclose the obligation as a contingent liability instead of recognising a provision for the same.
2.100
(b) In the report of the approving authority (Board of Directors in the case of a company,
and the corresponding approving authority in the case of any other enterprise).
(iii) In the case of ___________, either outflow of resources to settle the obligation is not
probable or the amount expected to be paid to settle the liability cannot be measured
with sufficient reliability.
(a) Liability.
(b) Provision.
(iv) Present liability of uncertain amount, which can be measured reliably by using a
substantial degree of estimation is termed as ________.
(a) Provision.
(b) Liability.
(a) Recognised
(c) Adjusted.
Answers
(i)
(a)
(ii)
(b) (iii)
Fundamentals of accounting
(c) (iv)
(a) (v)
(b)
2.101
chapter - 2
Accounting
process
Unit 8
Rectification of
Errors
The Institute of Chartered Accountants of India
Learning Objectives
After studying this unit, you will be able to :
1.
Understand different types of errors which may occur in course of recording transactions
and events.
Be familiar with the steps involved in locating errors.
Learn the nature of one-sided errors and two-sided errors.
Understand why suspense account is opened for rectification of errors.
Understand the technique of correcting errors of one period in the next accounting period.
INTRODUCTION
Unintentional omission or commission of amounts and accounts in the process of recording the
transactions are commonly known as errors These various unintentional errors can be committed
at the stage of collecting financial information/data on the basis of which financial statements
are drawn or at the stage of recording this information. Also errors may occur as a result of
mathematical mistakes, mistakes in applying accounting policies, misinterpretation of facts,
or oversight. To check the arithmetic accuracy of the journal and ledger accounts, trial balance
is prepared. If the trial balance does not tally, then it can be said that there are errors in the
accounts which requires rectification thereof. Some of these errors may affect the Trial Balance
and some of these do not have any impact on the Trial Balance although such errors may affect
the determination of profit or loss, assets and liabilities of the business.
Illustrative Case of Errors and their Nature
We have seen that after preparing ledger accounts a trial balance is taken out where debit and
credit balances are separately listed and totalled. If the two totals do not agree, it is definite that
there have been some errors We shall now study the types of errors which may be committed
and how they may be rectified. For this purpose, the working of the following illustrative cases
should be carefully seen.
Illustrative Cases of Errors
(a) Wrong Entry: Let us start from the first phase in the accounting process. Wrong entry of
the value of transactions and events in the subsidiary books, Journal Proper and Cash Book may
occur.
Example 1: Credit purchases ` 17,270 are entered in the Purchases Day Book as ` 17,720. Credit
sales of ` 15,000 gross less 1% trade discount are wrongly entered in Sales Day Book at ` 15,000.
Cheque issued ` 19,920 are wrongly entered in the credit of bank column in the Cash Book as
` 19,290.
(b) Wrong positing from subsidiary books: Subsidiary books are totalled periodically and
posted to the appropriate ledger accounts. There may arise totalling errors. Totalling errors may
arise due to wrong entry or simply these may be independent errors.
Example 2: For the month of January, 2011 total of credit sales are ` 1,75,700, this is wrongly
totalled as ` 1,76,700 and posted to sales account as ` 1,76,700.
Fundamentals of accounting
2.103
Rectification of errors
(c) Wrong casting of subsidiary book: For example, wrong castings of the Cash Book result in
balancing error.
Example 3: The following cash transactions of M/s Tularam & Co. occurred:
2011
Jan. 1
Jan. 2
Jan. 6
Cheque collected from M/s Scindia & Bros. ` 42,240 and deposited for clearance;
Jan. 7
Jan. 8
Dr.
Date
Cr.
Particulars
Cash
2011
Cash
Bank
2011
Jan. 1
To Balance b/d
Jan. 6
Jan. 7
To Sales A/c
Jan. 8
To Sales A/c
Jan. 8
To Cash A/c
22,500
By Wages A/c
12,200
27,200
By Bank A/c
34,500
37,370
By Balance c/d
19,070 71,420
42,420
34,500
65,770 93,920
65,770 93,920
Wrong entries and casting are shown in bold prints. However, errors of cash entries generally are
not carried. Usually cash balances are tallied daily. So errors are identified at an early stage. But
bank balance cannot be checked daily and thus errors may be carried until bank reconciliation is
made. In the above example, there are four wrong entries and one wrong casting Bank and cash
balances are affected by these errors.
(d) Wrong casting of ledger balances: Likewise Cash Book, any ledger account balance may be
cast wrongly. Obviously wrong postings make the balance wrong; but that is not wrong casting
of balances. Whenever there arises independent casting error as in the case of bank column in
the Cash Book of example (4), that is called wrong casting of ledger balances.
2.104
Example 4: The following are the credit purchases of M/s Ballav Bros.:
2011
Jan. 1 Purchases from M/s Saurabh & Co.- gross ` 1,00,000 less 1% trade discount.
Jan. 3 Purchases from M/s Netai & Co.- gross ` 70,000 less 1% trade discount.
Jan. 6 Purchases from M/s Saurabh & Co.- gross ` 60,000 less 1% trade discount
Let us cast M/s Saurabh & Co.s Account:
M/s Saurabh & Co. Account
Dr.
Date
Cr.
Particulars
Amount
`
2011
Jan. 1
Date
Particulars
Amount
`
2011
To Balance c/d
1,55,000
Jan. 1
By Purchases A/c
99,000
Jan. 6
By Purchases A/c
59,000
1,55,000
1,55,000
While casting the credit side an error has been committed and so the account is wrongly balanced.
Example 5: Goods are purchased on credit from M/s Saurabh & Co. for ` 27,030 and from M/s
Karnataka Suppliers for ` 28,050. The following Day Book is prepared:
Purchases Day Book
Date
Particulars
Amount
`
27,050
28,030
55,080
In the Day Book both the transactions are entered wrongly but the first error has been compensated
by the second. Even if these errors are not rectified Trial Balance would tally.
Trial Balance
Particulars
M/s Saurabh & Co.
M/s Karnataka Suppliers
Purchases Account
Fundamentals of accounting
Dr.
`
55,080
55,080
Cr.
`
27,050
28,030
55,080
2.105
Rectification of errors
2.
STAGES OF ERRORS
Errors may occur at any of the following stages of the accounting process:
2.1 AT THE STAGE OF RECORDING THE TRANSACTIONS IN JOURNAL
Following types of errors may happen at this stage:
(i) Errors of principle,
(ii) Errors of omission,
(iii) Errors of commission.
2.2 AT THE STAGE OF POSTING THE ENTRIES IN LEDGER
(i) Errors of omission:
1.
2.
3.
On the above basis, we can classify the errors in four broad categories:
1. Errors of Principle,
2. Errors of Omission,
3. Errors of Commission,
4. Compensating Errors.
2.106
3.
TYPES OF ERRORS
(iv) Wrong posting, ie., writing the wrong amount [see (d) above.]
(vii) Omitting to write the cash book balances in the trial balance.
(b) The errors that do not affect the trial balance are the following:
(i) Omitting an entry altogether from the subsidiary book [see (i) above.]
(ii) Making an entry in the wrong subsidiary book [see (ii) above.]
(iii) Posting an amount in a wrong account but on the correct side, e.g., an amount to be
debited to A is debited to B, the trial balance will still agree.
Fundamentals of accounting
2.107
2.108
Wrong casting
of subsidiary
books.
ERRORS
Posting the
wrong amount
in the ledger.
Clerical Errors
Posting an
amount on
the wrong side.
Errors of
Commission Crrors
Errors of Omission
Omitting an entry
completely from the
subsidiary books. Trial
Balance will agree.
Wrong
balancing
of an account
Compensating
Errors Trial
Balance will
agree.
Rectification of errors
4.
Even if there is only a very small difference in the trial balance, the errors leading to it must be
located and rectified. A small difference may be the result of a number of errors. The following
steps will be useful in locating errors :
(i) The two columns of the trial balance should be totalled again. If in place of a number of
accounts, only one amount has been written in the trial balance the list of such accounts
should be checked and totalled again. List of Trade receivables is the example from which
Trade receivable balance is derived.
(ii) It should be seen that the cash and bank balances have been written in the trial balance.
(iii) The exact difference in the trial balance should be established. The ledger should be gone
through; it is possible that a balance equal to the difference has been omitted from the trial
balance. The difference should also be halved; it is possible that balance equal to half the
difference has been written in the wrong column.
(iv) The ledger accounts should be balanced again.
(v) The casting of subsidiary books should be checked again, especially if the difference is
` 1, ` 100 etc.
(vi) If the difference is very big, the balance in various accounts should be compared with the
corresponding accounts in the previous period. If the figures differ materially the cases
should be seen; it is possible that an error has been committed. Suppose the sales account
for the current year shows a balance of ` 32,53,000 whereas it was ` 36,45,000 last year; it is
possible that there is an error in the Sales Account.
(vii) Postings of the amounts equal to the difference or half the difference should be checked. It
is possible that an amount has been omitted to be posted or has been posted on the wrong
side.
(viii) If there is still a difference in the trial balance, a complete checking will be necessary. The
posting of all the entries including the opening entry should be checked. It may be better to
begin with the nominal accounts.
5.
RECTIFICATION OF ERRORS
Errors should never be corrected by overwriting. If immediately after making an entry it is clear
that an error has been committed, it may be corrected by neatly crossing out the wrong entry
and making the correct entry. If however the errors are located after some time, the correction
should be made by making another suitable entry, called rectification entry. In fact the rectification
of an error depends on at which stage it is detected. An error can be detected at any one of the
following stages:
(a) Before preparation of Trial Balance.
(b) After Trial Balance but before the final accounts are drawn.
(c) After final accounts, i.e., in the next accounting period.
Fundamentals of accounting
2.109
Rectification of errors
accounts are involved. The rectification will be done by the entry To wrong posting on
` 100 in the debit of Vimal account and By omission of posting on ` 1,000 in the credit
of Vinod account.
Thus, from the above illustrations we are convinced that the general rule that errors affecting two
accounts can always be corrected by a journal entry is not always valid.
Illustration 1
How would you rectify the following errors in the book of Rama & Co.?
1. The total to the Purchases Book has been undercast by ` 100.
2. The Returns Inward Book has been undercast by ` 50.
3. A sum of ` 250 written off as depreciation on Machinery has not been debited to Depreciation
Account.
4. A payment of ` 75 for salaries (to Mohan) has been posted twice to Salaries Account.
5. The total of Bills Receivable Book ` 1,500 has been posted to the credit of Bills Receivable
Account.
6. An amount of ` 151 for a credit sale to Hari, although correctly entered in the Sales Book,
has been posted as ` 115.
7. Discount allowed to Satish ` 25 has not been entered in the Discount Column of the Cash
Book. It has been posted to his personal account.
Solution
1.
2.
3.
4.
5.
6.
7.
The Purchases Account should receive another debit of ` 100 since it was debited short
previously :
To Undercasting of Purchases Book for the month of --- ` 100.
Due to this error the Returns Inward Account has been posted short by ` 50 : the correct
entry will be :
To Undercasting of Returns Inward Book for the month of --- ` 50.
The omission of the debit to the Depreciation Account will be rectified by the entry :
To Omission of posting on ` 250.
The excess debit will be removed by a credit in the Salaries Account by the entry :
By double posting on ` 75.
` 1,500 should have been debited to the Bills Receivable Account and not credited. To correct
the mistake, the Bills Receivable Account should be debited by ` 3,000 by the entry:
To Wrong posting of B/R received on ` 3,000
Haris personal A/c is debited ` 36 short. The rectification entry will be :
To Wrong posting ` 36.
Due to this error, the discount account has been debited short by ` 25. The required entry
is :
To Omission of discount allowed to Satish on ` 25.
So far we have discussed the correction of errors which affected only one Account of more than
one account but for which rectifying entries were not complete journal entries in fact that rectifying
entry is made directly in the account(s) concerned. We shall now take up the correction of errors
Fundamentals of accounting
2.111
Rectification of errors
which affect more than one account in such a way that complete journal entries are possible for
their rectification. Read the following illustrations :
(i) The purchase of machinery for ` 2,000 has been entered in the purchases book. The effect
of the entry is that the account of the supplier has been credited by ` 2,000 which is quite
correct. But the debit to the Purchases Account is wrong : the debit should be to Machinery
Account. To rectify the error, the debit in the purchases Account has to be transferred to the
Machinery Account. The correcting entry will be to Credit Purchases Account and debit the
Machinery Account. Please see the three entries made below: the last entry rectifies the error:
Wrong Entry :
`
`
Purchases Account
Dr.
2,000
To Trade Payable
2,000
Correct Entry :
Machinery Account
Dr.
2,000
To Trade Payable
2,000
Rectifying Entry :
Machinery Account
Dr.
2,000
To Purchases Account
2,000
(ii) ` 100 received from Kamal Kishore has been credited in the account of Krishan Kishore. The
error is that there is a wrong credit in the account of Krishan Kishore and omission of credit
in the account of Kamal Kishore; Krishan Kishore should be debited and Kamal Kishore be
credited. The following three entries make this clear :
Wrong Entry :
`
`
Cash Account
Dr.
100
To Krishan Kishore
100
Correct Entry :
Cash Account
Dr.
100
To Kamal Kishore
100
Rectifying Entry :
Krishan Kishore
Dr.
100
To Kamal Kishore
100
(iii) The sale of old machinery, ` 1,000 has been entered in the sales book. By this entry the account
of the buyer has been correctly debited by ` 1,000. But instead of crediting the Machinery
Account. Sales Account has been credited. To rectify the error this account should be debited
and the Machinery Account credited. See the three entries given below:
Wrong Entry :
`
`
Buyers Account
Dr.
1,000
To Sales Account
1,000
Correct Entry :
Buyers Account
Dr.
1,000
To Machinery Account
1,000
Rectifying Entry :
Sales Account
Dr.
1,000
To Machinery Account
1,000
2.112
Illustration 2
The following errors were found in the book of Ram Prasad & Sons. Give the necessary entries
to correct them.
(1) ` 500 paid for furniture purchased has been charged to ordinary Purchases Account.
(2) Repairs made were debited to Building Account for ` 50.
(3) An amount of ` 100 withdrawn by the proprietor for his personal use has been debited to
Trade Expenses Account.
(4)
(5)
(6)
(7)
Solution
JOURNAL
(1)
(2)
(3)
(4)
(5)
Particulars
L.F.
Furniture A/c
Dr.
To Purchases A/c
(Correction of wrong debit to Purchases A/c
for furniture purchased)
Repairs A/c
To Building A/c
(Correction of wrong debit to building A/c for
repairs made)
Drawings A/c.
To Trade Expenses A/c
(Correction of wrong debit to Trade Expenses
A/c for cash withdrawn by the proprietor for
his personal use)
Rent A/c
To Landlords Personal A/c
(Correction of wrong debit to landlords A/c
for rent paid)
Salaries A/c
To Clerks (Personal) A/c
(Correction of wrong debit to Clerks personal
A/c for salaries paid)
Fundamentals of accounting
Dr.
`
500
Cr.
`
500
Dr.
50
50
Dr.
100
100
Dr.
100
100
Dr.
125
125
2.113
Rectification of errors
(6)
(7)
Particulars
L.F.
Dr.
Dr.
`
100
Cr.
`
100
Dr.
700
700
Illustration 3
Give journal entries to rectify the following :
(1) A purchase of goods from Ram amounting to ` 150 has been wrongly entered through the
Sales Book.
(2) A Credit sale of goods amounting ` 120 to Ramesh has been wrongly passed through the
Purchase Book.
(3) On 31st Dec. 2011 goods of the value of ` 300 were returned by Hari Saran and were taken
inventory on the same date but no entry was passed in the books.
(4) An amount of ` 200 due from Mahesh Chand, which had been written off as a Bad Debt in
a previous year, was unexpectedly recovered, and had been posted to the personal account
of Mahesh Chand.
(5) A Cheque for ` 100 received from Man Mohan was dishonoured and had been posted to the
debit of Sales Returns Account.
Solution
JOURNAL
Particulars
(1)
(2)
(3)
Purchases A/c
Sales A/c
To Ram
(Correction of wrong entry in the sales Book
for a purchases of goods from Ram)
Ramesh
To Purchases A/c
To Sales A/c
(Correction of wrong entry in the Purchases
Book of a credit sale of goods to Ram)
Returns Inwards A/c
To Hari Saran
(Entry of goods returned by him and taken in
Inventory omitted from records)
2.114
L.F.
Dr.
Dr.
Dr.
`
150
150
Cr.
`
300
Dr.
240
120
120
Dr.
300
300
Particulars
(4)
(5)
L.F.
Mahesh Chand
Dr.
To Bad Debts Recovered A/c
(Correction of wrong credit to Personal A/c in
respect of recovery of previously written off bad debts)
Man Mohan
Dr.
To Sales Return A/c
(Correction of wrong debit to Sales Returns A/c
for dishonour of cheque received from Man Mohan)
Dr.
`
200
Cr.
`
200
100
100
Thus it can be said that errors detected before the preparation of trial balance can be rectified
either through rectification statements (not entries) or through rectification entries.
5.2 AFTER TRIAL BALANCE BUT BEFORE FINAL ACCOUNTS
The method of correction of error indicated so far is appropriate when the errors have been
located before the end of the accounting period. After the corrections the trial balance will agree.
Sometimes the trial balance is artificially made to agree inspite of errors by opening a suspense
account and putting the difference in the trial balance to the account - the suspense account will be
debited if the total of the credit column in the trial balance exceeds the total of the debit column;
it will be credited in the other case.
One must note that such agreement of the trial balance will not be real. Effort must be made to
locate the errors.
The rule of rectifying errors detected at this stage is simple. Those errors for which complete
journal entries were not possible in the earlier stage of rectification (i.e., before trial balance) can
now be rectified by way of journal entry(s) with the help of suspense account, for it these errors
which gave rise to the suspense account in the trial balance. The rectification entry for other type
of error i.e. error affecting more than one account in such a way that a complete journal entry
is possible for its rectification, can be rectified in the same way as in the earlier stage (i.e. before
trial balance).
In a nutshell, it can be said that each and every error detected at this stage can only be corrected
by a complete journal entry. Those errors for which journal entries were not possible at the earlier
stage will now be rectified by a journal entry(s), the difference or the unknown side is being taken
care of by suspense account. Those errors for which entries were possible even at the first stage
will now be rectified in the same way.
Suppose, the sales book for November, 2010 is cast ` 100 short; as a consequence the trial balance
will not agree. The credit column of the trial balance will be ` 100 short and a Suspense Account
will be credited by ` 100. To rectify the error the Sales Account will be credited (to increase the
credit to the right figure. Since now one error remains, the Suspense Account must be closed- it
will be debiting the Suspense Account. The entry will be :
Suspense Account
Dr.
` 100
To Sales Account
` 100
(Correction of error of undercasting the sales
Book for Nov. 2010)
Fundamentals of accounting
2.115
Rectification of errors
Illustration 4
Correct the following errors (i) without opening a Suspense Account and (ii) opening a Suspense
Account :
(a) The Sales Book has been totalled ` 100 short.
(b) Goods worth ` 150 returned by Green & Co. have not been recorded anywhere.
(c) Goods purchased ` 250 have been posted to the debit of the supplier Gupta & Co.
(d) Furniture purchased from Gulab & Bros, ` 1,000 has been entered in Purchases Day Book.
(e) Discount received from Red & Black ` 15 has not been entered in the Discount Column of
the Cash Book.
(f) Discount allowed to G. Mohan & Co. ` 18 has not been entered in the Discount Column of
the Cash Book. The account of G. Mohan & Co. has, however, been correctly posted.
Solution
If a Suspense Account is not opened.
(a) Since sales book has been cast ` 100 short, the Sales Account has been similarly credited
` 100 short. The correcting entry is to credit the Sales Account by ` 100 as By wrong totalling
of the Sales Book ` 100.
(b) To rectify the omission, the Returns Inwards Account has to be debited and the account of
Green & Co. credited. The entry :
Returns Inward Account
Dr.
` 150
To Green & Co.
(Goods returned by the firm, previously
omitted from the Returns Inward Book)
` 150
(c) Gupta & Co. have been debited ` 250 instead of being credited. This account should now be
credited by 500 to remove the wrong debit and to give the correct debit. The entry will be
on the credit side... By errors in posting ` 500.
(d) By this error Purchases Account has to be debited by ` 1,000 whereas the debit should have
been to the Furniture Account. The correcting entry will be :
Furniture Account
Dr.
` 1,000
To Purchases Account
` 1,000
(e) The discount of ` 15 received from Red & Black should have been entered on the credit
side of the cash book. Had this been done, the Discount Account would have been credited
(through the total of the discount column) and Red & Black would have been debited. This
entry should not be made :
2.116
Red & Black
Dr.
` 15
To Discount Account
(Rectification of the error by which the discount
allowed by the firm was not entered in Cash Book)
` 15
(f) In this case the account of the customer has been correctly posted; the Discount Account has
been debited ` 18 short since it has been omitted from the discount column on the debit side
of the cash book. The discount account should now be debited by the entry; To Omission
of entry in the Cash Book ` 18.
If a Suspense Account is opened :
Particulars
(a)
(b)
(c)
(d)
(e)
Suspense Account
To Sales Account
(Being the correction arising from undercasting of Sales Day Book)
Return Inward Account
To Green & Co
(Being the recording of unrecorded returns)
Suspense Account
To Gupta & Co.
(Being the correction of the error by
which Gupta & Co. was debited instead
of being credited by ` 250).
Furniture Account
To Purchases Account
(Being the correction of recording purchase
of furniture as ordinary purchases)
Red & black
To Discount Account
L.F.
Dr.
Dr.
`
100
Cr.
`
100
Dr.
.
150
Dr.
500
150
500
Dr.
1,000
1,000
Dr.
15
15
(f)
Discount Account
To Suspense Account
(Being the correction of omission of the
Dr.
18
18
Fundamentals of accounting
2.117
Rectification of errors
Suspense Account
Dr.
Date
Particulars
Amount
Date
`
To Sales A/c
To Gupta & Co.
100
500
Cr.
Amount
`
Particulars
By Difference in
Trial Balance
By Discount A/c
582
18
600
600
Note :
(i) One should note that the opening balance in the Suspense Account will be equal to the
difference in the trial balance.
(ii) If the question is silent as to whether a Suspense Account has been opened, the student
should make his assumption, state it clearly and then proceed.
Illustration 5
Correct the following errors found in the books of Mr. Dutt. The Trial Balance was out by
` 493 excess credit. The difference thus has been posted to a Suspense Account.
(a) An amount of ` 100 was received from D. Das on 31st December, 2011 but has been omitted
to enter in the Cash Book.
(b) The total of Returns Inward Book for December has been cast ` 100 short.
(c) The purchase of an office table costing ` 300 has been passed through the Purchases Day
Book.
(d) ` 375 paid for Wages to workmen for making show-cases had been charged to Wages
Account.
(e) A purchase of ` 67 had been posted to the trade payables account as ` 60.
(f) A cheque for ` 200 received from P. C. Joshi had been dishonoured and was passed to the
debit of Allowances Account.
(g) ` 1,000 paid for the purchase of a motor cycle for Mr. Dutt had been charged to Miscellaneous
Expenses Account.
(h) Goods amounting to ` 100 had been returned by customer and were taken in to Inventory,
but no entry in respect there of, was made into the books.
(i) A sale of ` 200 to Singh & Co. was wrongly credited to their account.
Solution
(a) Journal Entries
Particulars
Cash Account
To D. Das
L.F.
Dr.
100
100
2.118
(b)
(c)
(d)
(e)
(f)
Dr.
Drawings Account
To Miscellaneous Expenses
(Being the motor cycle purchased for Mr. Dutt debited
to his Drawings Account instead of Miscellaneous
Expenses Account as previously done by mistake)
Returns Inward Account
To Debtors (Personal) Account
(Correction of the omission to record return of goods
by customers)
Singh & Co.
To Suspense Account
(Being the correction of mistake by which the account
of Singh & Co. was credited by ` 200 instead of being
debited)
Dr.
100
100
Dr.
300
300
Dr.
375
375
Dr.
7
7
Dr.
200
200
(g)
(h)
(i)
Fundamentals of accounting
1,000
1,000
Dr.
100
100
Dr.
400
400
2.119
Rectification of errors
Suspense Account
Dr.
Date
2011
Dec.31
Particulars
To Difference in
Trial Balance
To Trade Payables A/c
Cr.
Amount
`
Amount Date
Particulars
` 2011
Dec. 31 By Returns
493
Inwards A/c
7
By Singh & Co.
500
100
400
500
Illustration 6
The following errors, affecting the account for the year 2011 were detected in the books of Jain
Brothers, Delhi:
(1) Sale of old Furniture ` 150 treated as sale of goods.
(2) Receipt of ` 500 from Ram Mohan credited to Shyam Sunder.
(3) Goods worth ` 100 brought from Mohan Narain have remained unrecorded so far.
(4) A return of ` 120 from Mukesh posted to his debit.
(5) A return of ` 90 to Shyam Sunder posted as ` 9 in his account.
(6) Rent of proprietors residence, ` 600 debited to rent A/c.
(7) A payment of ` 215 to Mohammad Sadiq posted to his credit as ` 125.
(8) Sales Book added ` 900 short.
(9) The total of Bills Receivable Book ` 1,500 left unposted.
You are required to pass the necessary rectifying entries and show how the trial balance would
be affected by the errors.
Solution
JOURNAL
Particulars
(1)
(2)
Sales Account
To Furniture Account
(Rectification of sales of furniture treated
as sales of goods)
Shyam Sunder
To Rama Mohan
(Rectification of a receipt from Ram Mohan
credited to Shyam Sunder)
2.120
L.F.
Dr.
Dr.
Amount
`
150
Cr.
Amount
`
150
Dr.
500
500
(3)
(6)
Purchases Account
To Mohan Narain
(Purchases of goods from Mohan
Narain unrecorded)
Drawing Account
To Rent Account
(Rectification of Payment of rent of
proprietors residence treated as payment
of office rent)
Dr.
100
100
Dr.
600
600
N.B. : For 4, 5, 7, 8, 9 no journal entry can be passed as they affect a single account. The correction
will be as under:
(4) Credit Mukeshs Account with ` 240.
(5) Debit the account of Shyam Sunder by ` 81.
(7) Debit the account of Mohammad Sadiq by ` 340.
(8) Credit Sales Account by ` 900.
(9) Debit Bills Receivable Account with ` 1,500.
Effect of the Errors on Trial Balance
1. No effect
2. No effect
3. No effect
4. Trial Balance credit total short by
5. Trial Balance debit total short by
6. No effect
7. Trial Balance debit total short by
8. Trial Balance credit total short by
9. Trial Balance debit total short by
`
`
240.
81.
`
`
`
340.
900.
1,500.
Illustration 7
The trial balance of Mr. W & H failed to agree and the difference ` 20,570 was put into suspense
pending investigation which disclosed that :
(i) Purchase returns day book had been correctly entered and totalled at ` 6,160, but had been
posted to the ledger.
(ii) Discounts received ` 1,320 had been debited to discounts allowed.
(iii) The Sales account had been under added by ` 10,000.
(iv) A credit sale of ` 1,470 had been debited to a customer account at ` 1,740.
(v) A vehicle bought originally for ` 7,000 four years ago and depreciated to ` 1,200 had been
sold for ` 1,500 in the beginning of the year but no entries, other than in the bank account
had been passed through the books.
Fundamentals of accounting
2.121
Rectification of errors
(vi) An accrual of ` 560 for telephone charges had been completely omitted.
(vii) A bad debt of ` 1,560 had not been written off and provision for doubtful debts should
have been maintained at 10% of Trade receivables which are shown in the trial balance at
` 23,390 with a credit provision for bad debts at ` 2,320.
(viii) Tools bought for ` 1,200 had been inadvertently debited to purchases.
(ix) The proprietor had withdrawn, for personal use, goods worth ` 1,960. No entries had been
made in the books.
Required :
(i) Pass rectification entries without narration to correct the above errors before preparing annual
accounts.
(ii) Prepare a statement showing effect of rectification on the reported net profit before correction
of these errors.
Solution
(i)
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
(viii)
(ix)
Particulars
Suspense Account
To Return Outward A/c
Suspense Account
To Discount Allowed Account
To Discount Received Account
Suspense Account
To Sale Account
Suspense Account
To Customer Account
Suspense Account
To Vehicle Account
To Profit on Sale of Vehicle Account
Telephone Charges Account
To Outstanding Expenses Account
Bad Debts Account
To Trade receivables Account
Provision for Doubtful Debts Account
To Profit and Loss Account
Loose Tools Account
To Purchases Account
Drawings Account
To Purchases Account
2.122
Dr.
Dr.
6,160
Cr.
6,160
Dr.
2,640
1,320
1,320
Dr.
10,000
Dr.
270
10,000
270
Dr.
1,500
1,200
300
Dr.
560
Dr.
1,5601
Dr.
164
560
1,560
2
164
Dr.
1,200
Dr.
1,960
1,200
1,960
Working Notes :
(i)
(ii)
To Return outward Account
To Discount allowed Account
To Discount Received Account
To Sales
To Customers
To Vehicles
To Profit on Sale of Vehicle
23,390
270
1,560
Suspense Account
`
6,160 By balance b/d
1,320
1,320
10,000
270
1,200
300
20,570
1,830
21,560
`
20,570
20,570
Illustration 8
Show by means of Journal entries how the following matters should be adjusted when preparing
the Annual Accounts of a firm for the year ended 30th September, 2011.
(a) Goods sold and recorded as sales for ` 4,000, were packed. However, Inventory taking
intervened and the parcel of goods was not despatched but was included in Inventories.
The title of goods has not been transferred to the buyer.
(b) Several employees took their salary in advance in the month of September, 2011 which was
payable to them in October, 2011 amounting to ` 2,500.
(c) A cheque of ` 2,500 received for a loss of Inventory sustained by fire has been paid by the
proprietor into his private bank account and not recorded in the business books.
(d) A cheque for ` 1,250 received as Insurance claim for loss of goods in transit at the time of
import was recorded in the books. However, the same was deposited by the proprietor into
his private bank account. The full value of the invoice was passed through the purchase
book.
(e) A purchase was made for a staff member of ` 1,000 and the cost was included in purchases.
A deduction of similar amount was made from his salary and the net payment to him posted
to salaries account.
(f) Bill received from Mr. Anup for repairs to furniture ` 300 and new furniture supplied for `
1,000 was entered in the invoice book as ` 1,100.
(g) Furniture which stood in the books at ` 500 was sold for ` 275 in part exchange of new
furniture costing ` 875 and the new invoice of ` 600 was passed through the purchase book.
Fundamentals of accounting
2.123
Rectification of errors
Solution
Journal
Adjustment Entries
Date Particulars
2011
Sep.30
(a)
Sales Account*
To Trade receivables Account
(Entry for credit sales reversed as goods have not been
despatched to the customer)
(b)
Prepaid Salaries Account
To Salaries Account
(Salaries paid in advance for Oct. and debited to Salaries
Account, now transferred to Prepaid Salaries Account)
(c)
Drawings Account
To Insurance Company Account
(Being the rectification of cheque received for loss of Inventory
due to fire deposited in the private account of the proprietor)
(d)
Drawings Account
To Purchases Account
(Being the rectification of cheque received as insurance claim
for loss of goods in transit deposited into private bank
Account of the proprietor)
(e)
Salaries Account
To Purchases Account
(Goods purchased for staff-member recorded as trade
purchases, new charged to Salaries Account)
(f)
Note :
Dr.
`
Dr.
4,000
4,000
Dr.
2,500
2,500
Dr.
2,500
2,500
Dr.
1,250
1,250
Dr.
1,000
1,000
Repairs Account
Dr.
300
Furniture Account
Dr.
1,000
To Purchases Account
To Mr. Anup
Cr.
`
1,100
200
In (a) above, goods recorded as sales may not be reversed, instead may be excluded from closing
Inventory, as the goods have been ascertained and appropriated according to the contract if the title in
the goods would have already passed to customer.
2.124
(Being the rectification of Bill received from Mr. Anup for repairs
to furniture ` 300 and new furniture supplied for ` 1,000 entered
in the purchases book at ` 1,100)
(g)
Furniture Account
Dr.
375
Dr.
225
To Purchases Account
600
L.F.
Dr.
Dr.
`
Cr.
`
50
50
Fundamentals of accounting
2.125
Rectification of errors
Suspense Account
Dr.
100
To Sales Account
100
Dr.
225
To Suspense Account
225
Dr.
100
To Suspense Account
100
Dr.
500
To Purchases Account
500
Dr.
100
To Suspense Account
100
`
50 By Difference in Trial Balance
100 By Trade payables
425 By Sales Returns Account
By Trade receivables
575
By Balance b/d
Cr.
`
150
225
100
100
575
425
Since the Suspense Account does not balance, it is clear that all the errors have not been traced.
It is assumed that the day-book is the Purchase Day Book in which case only the suppliers account would be posted wrongly
(creditor of ` 250 instead of ` 25). If however, by day-book is meant a book in which all transactions are recorded and posted at
the ledger therefrom, it would mean that both the Suppliers Account and Purchases Account are wrongly posted.
2.126
Increased by Decreased by
`
`
50
100
500
100
100
650
550
Net Increase
As a result of these adjustments, the Profits will be increased by ` 550.
Illustration 10
Write out the Journal Entries to rectify the following errors, using a Suspense Account.
(1) Goods of the value of ` 100 returned by Mr. Sharma were entered in the Sales Day Book and
posted therefrom to the credit of his account;
(2) An amount of ` 150 entered in the Sales Returns Book, has been posted to the debit of
Mr. Philip, who returned the goods;
(3) A sale of ` 200 made to Mr. Ghanshyam was correctly entered in the Sales Day Book but
wrongly posted to the debit of Mr. Radheshyam as ` 20;
(4) Bad Debts aggregating ` 450 were written off during the year in the Sales ledger but were
not adjusted in the General Ledger; and
(5) The total of Discount Allowed column in the Cash Book for the month of September, 2011
amounting to ` 250 was not posted.
Solution
Journal
Particulars
(1)
Sales Account
Sales Returns Account
To Suspense Account
(The value of goods returned by Mr. Sharma
wrongly posted to Sales and omission of debt
to Sales Returns Account, now rectified)
Fundamentals of accounting
L.F.
Dr.
Dr.
Dr.
`
100
100
Cr.
`
200
2.127
Rectification of errors
(2)
(3)
(4)
(5)
Suspense Account
To Mr. Philip
(Wrong debit to Mr. Philip for goods
returned by him, now rectified)
Dr.
Mr. Ghanshyam
To Mr. Radheshyam
To Suspense Account
(Omission of debit to Mr. Ghanshyam and wrong credit
to Mr. Radhesham for sale of ` 200, now rectited)
Bad Debts Account
To Suspense Account
(The amount of Bad Debts written off not
adjusted in General Ledger, now rectified)
Discount Account
To Suspense Account
(The total of Discount allowed during
September, 2011 not posted from the Cash
Book; error now rectified)
Dr.
300
300
200
20
180
Dr.
450
450
Dr.
250
250
Illustration 11
The Trial balance of Messrs. A, B and C did not agree. A Suspense Account was opened with the
amount of the difference. The following errors were discovered on scrutiny:
(1) The addition of the Analysis Column of the Tabular Purchase Journal posted to Goods
Purchased for Resale Account was found to be short by ` 150 though the addition of the
total column was correct.
(2) A dishonoured B/R for ` 400 returned to the firm by bank had been credited to Bank Account
for collection of bills and debited to B/R Account. A cheque was later received from the
customer for ` 400 and was duly paid into the firms bank account.
(3) An amount of ` 450 treated as paid in advance on account of insurance in the previous year
was not brought forward.
(4) Sales on approval amounting to ` 2,000 were included in the Sales Account. Half of these
were returned but no entries were passed in respect of these goods. However, the returned
goods have been included in the closing Inventory at their cost price of ` 500.
(5) ` 1,260 represent credits given to customers when the payments against sales invoices were
received. However, these invoices themselves were not entered in the books. A discount of
10% is allowed on the selling price in all such invoices.
2.128
You are required to pass rectifying entries making use, of the Suspense Account, wherever
necessary.
Solution
Journal of M/s. A, B and C
Particulars
1.
L.F.
Dr.
Dr.
`
Dr.
`
150
To Suspense Account
150
Customers A/c
Dr.
400
400
Insurance Account
Dr.
450
To Suspense Account
450
Sales Accounts
Dr.
1,000
To Customers Account
1,000
Discount Account
Dr.
140
Customers Account
Dr.
1,260
To Sales Account
1,400
Fundamentals of accounting
2.129
Rectification of errors
Illustration 12
The trial balance of Anil Traders did not agree. The difference was put in the Suspense Account
and the following trial balance was drafted :
Trial Balance as on 31st March, 2011
Dr.
Capital Account
45,000
Drawing Account
6,500
Purchases Account
92,750
Sales Account
1,07,200
12,250
17,500
Debtors Account
30,250
Creditors Account
21,250
Stationery Account
1,250
Cash at Bank
5,700
Cash in Hand
2,300
15,750
Cr.
9,000
3,200
Suspense Account
5,000
1,87,450
1,87,450
2.130
You are required to pass the rectification entries and redraft the trial balance.
Solution
M/s Anil Traders
Journal
Particulars
(a)
(b)
(c)
(d)
(e)
(f)
Drawings Account
To Purchases Account
(Goods withdrawn for personal consumption
by the proprietor, now recorded)
Ram (Debtor) Account
To Rahim (Debtor) Account
To Suspense Account
(Goods sold to Ram for ` 1,250 wrongly
debited to Rahim account for ` 250, now rectified)
Furniture and Fittings Account
To Salaries and Wages Account
(Wages paid for fittings wrongly debited to
salaries and wages account, now rectified)
Suspense Account
To Atul (Creditor) Account
(Goods brought on credit from Atul wrongly
debited to his account, now rectified)
Suspense Account
To Arun (Debtor) Account
To Ajay (Debtor) Account
(Bill received from Arun wrongly debited to
Ajay Account, now rectified)
Purchases Account
Sales Account
To Debtors Account*
To Creditors Account*
(A credit sale and a credit purchase wrongly
entered in purchases day book and sales day
book respectively, now rectified)
L.F.
Dr.
Cr.
`
1,500
Dr.
`
1,500
Dr.
1,250
250
1,000
Dr.
500
500
Dr.
5,000
5,000
Dr.
1,000
500
500
Dr.
Dr.
500
500
500
500
* In the debtors ledger and creditors ledger, the affected individual accounts should be rectified with the full amount.
In other words, in the debtors ledger the concerned debtors account should be debited by ` 1,500 for credit sales and
the debtors account wrongly debited for credit purchase should be credited by ` 2,000.
Fundamentals of accounting
2.131
Rectification of errors
Particulars
Capital Account
Drawings Account
Purchases Account
Sales Account
Salaries and Wages Account
Furniture and Fittings Account
Debtors Account
Creditors Account
Stationery Account
Cash at Bank
Cash in Hand
Bills Receivable Account
Bills Payable Account
Rent and Rates Account
Cr.
`
45,000
8,000
91,750
1,06,700
11,750
18,000
29,750
26,750
1,250
5,700
2,300
15,750
9,000
3,200
1,87,450
1,87,450
Working Notes :
1.
Dr.
To Atul Account (entry d)
To Arun Account (entry e)
To Ajay Account (entry e)
Suspense Account
`
5,000 By Balance b/d
500 By Ram Account (entry b)
500
6,000
2.132
Cr.
`
5,000
1,000
6,000
2.
Drawings
Purchases
Debtors
Furniture & Fittings
Salaries & Wages
Creditors
Sales
Rectification
effect
`
(+) 1,500
(-) 1,000
(-) 500
(+) 500
(-) 500
(+) 5,500
(-) 500
Reference
(entry no.)
Rectified
balance
(a)
(a) & (f)
(b), (e) & (f)
(c)
(c)
(d) & (f)
(f)
`
8,000
91,750
29,750
18,000
11,750
26,750
1,06,700
Fundamentals of accounting
2.133
Rectification of errors
(iv) White carrying forward the total in the Purchases Account to the next page, ` 65,590 was
written instead of ` 56,950.
(v) A sale of machine on credit to Mr. Mehta for ` 9,000 was not entered in the books at all. The
book value of the machine was ` 7,500. The firm has the practice of writing off depreciation
@10% on the balance at the end of the year.
Pass journal entries to rectify the errors. Have you any comments to make?
Solution
Journal of Mr. A
Date
Particulars
L.F.
Dr.
Dr.
Dr.
`
2,300
2,300
Cr.
`
4,600
Dr.
1,240
1,240
Dr.
Dr.
5,600
900
6,500
Dr.
560
Dr.
8,640
560
8,640
Dr.
9,000
6,750
2,250
Comments
The Suspense Account will now appear as shown below :
Suspense Account
Dr.
Date Particulars
2011 To Profit and Loss
Adjustment A/c
To Profit and Loss
Adjustment A/c
Amount
`
900
8,640
Date Particulars
2010 By Balance b/d
Oct. 1 By Sundries
Mrs. Mala
Mr. Lala
By Profit and Loss
Adjustment A/c
By balance c/d
9,540
Cr.
Amount
`
830
2,300
2,300
1,240
2,870
9,540
Since the Suspense Account still shows a balance, it is obvious that there are still some errors left
in the books.
Profit & Loss Adjustment A/c
(For Prior Period Items)
Dr.
Date Particulars
2011
To Suspense A/c
To Plant and
Machinery A/c
To Balance c/d
Amount
`
1,240
560
15,590
17,390
Date Particulars
2011
By Machinery A/c
By Suspense A/c
By Suspense A/c
By Mr. Mehta
Cr.
Amount
`
5,600
900
8,640
2,250
17,390
Illustration 14
A merchants trial balance as on June 30, 2010 did not agree. The difference was put to a Suspense
Account. During the next trading period, the following errors were discovered :
(i) The total of the Purchases Book of one page, ` 4,539 was carried forward to the next page as
` 4,593.
(ii) A sale of ` 573 was entered in the Sales Book as ` 753 and posted to the credit of the customer.
(iii) A return to a creditor, ` 510 was entered in the Returns Inward Book; however, the creditors
account was correctly posted.
(iv) Cash received from C. Dass, ` 620 was posted to the debit of G. Dass.
Fundamentals of accounting
2.135
Rectification of errors
(v) Goods worth ` 840 were despatched to a customer before the close of the year but no invoice
was made out.
(vi) Goods worth ` 1,000 were sent on sale or return basis to a customer and entered in the Sales
Book. At the close of the year, the customer still had the option to return the goods. The sale
price was 25% above cost.
You are required to give journal entries to rectify the errors in a way so as to show the current
years profit or loss correctly.
Solution
Journal Entries
Particulars
(i)
(ii)
(iii)
(iv)
Suspense Account
To Profit and Loss Adjustment A/c
(Correction of error by which Purchase
Account was over debited last year- ` 4,593
carried forward instead of ` 4,539)
Profit & Loss Adjustment A/c
Customers Account
To Suspense Account
(Correction of the entry by which (a) Sales
A/c was over credited by ` 180 (b)
customer was credited by ` 753 instead of
being debited by ` 573)
Suspense Account
To Profit & Loss Adjustment A/c
(Correction of error by which Returns
Inward Account was debited by ` 510
instead of Returns Outwards Account being
credited by ` 510)
Suspense Account
To C. Dass
To G. Dass
(Removal or wrong debit to G. Dass and
giving credit to C. Dass from whom cash
was received).
2.136
L.F.
Dr.
Dr.
`
54
Cr.
`
54
Dr.
Dr.
180
1,326
1,506
Dr.
1,020
1,020
Dr.
1,240
620
620
(v)
Customers Account
To Profit & Loss Adjustment A/c
(Rectification of the error arising from nonpreparation of invoice for goods delivered)
(vi)
Dr.
840
840
Dr.
Dr.
200
800
1,000
Dr.
1,534
1,534
Will the students find out the difference in the Trial Balance?1
Illustration 15
Mr. Roy was unable to agree the Trial Balance last year and wrote off the difference to the Profit
and Loss Account of that year. Next Year, he appointed a Chartered Accountant who examined
the old books and found the following mistakes :
(1) Purchase of a scooter was debited to conveyance account ` 3,000.
(2) Purchase account was over-cast by ` 10,000.
(3) A credit purchase of goods from Mr. X for ` 2,000 entered as a sale.
(4) Receipt of cash from Mr. A was posted to the account of Mr. B ` 1,000.
(5) Receipt of cash from Mr. C was posted to the debit of his account, ` 500.
(6) ` 500 due by Mr. Q was omitted to be taken to the trial balance.
(7) Sale of goods to Mr. R for ` 2,000 was omitted to be recorded.
(8) Payment of ` 2,395 for purchase was wrongly posted as ` 2,593.
Fundamentals of accounting
2.137
Rectification of errors
Mr. Roy used 10% depreciation on vehicles. Suggest the necessary rectification entries.
Solution
Journal Entries in the books of Mr. Roy
Date Particulars
(1) Motor Vehicles Account
To Profit and Loss Adjustment A/c
(Purchase of scooter wrongly debited to
conveyance account now rectified-capitalisation
of ` 2,700, i.e., ` 3,000 less 10% depreciation)
(2) Suspense Account
To Profit & Loss Adjustment A/c
(Purchase Account overcast in the previous
year; error now rectified).
(3) Profit & Loss Adjustment A/c
To Ps Account
(Credit purchase from P ` 2,000, entered
as sales last year; now rectified)
(4) Bs Account
To As Account
(Amount received from A wrongly posted to
the account of B; now rectified)
(5) Suspense Account
To Cs Account
(` 500 received from C wrongly debited to
his account; now rectified)
(6) Trade receivables (Q)
To Suspense Account
(` 500 due by Q not taken into trial
balance; now rectified)
(7) Rs Account
To Profit & Loss Adjustment A/c
(Sales to R omitted last year; now adjusted)
(8) Suspense Account
To Profit & Loss Adjustment A/c
(Excess posting to purchase account last
year, ` 2,593, instead of ` 2,395, now adjusted)
(9) Profit & Loss Adjustment A/c
To Roys Capital Account
(Balance of Profit & Loss Adjustment A/c
transferred to Capital Account)
(10) Roys Capital Account
To Suspense Account
(Balance of Suspense Account transferred
to the Capital Account)
Dr.
Dr.
`
2,700
Dr.
10,000
Dr.
4,000
Dr.
1,000
Dr.
1,000
Dr.
500
Dr.
2,000
Dr.
198
Dr.
10,898
Dr.
10,698
Cr.
`
2,700
10,000
4,000
1,000
1,000
500
2,000
198
10,898
10,698
Note : Entries No. (2) and (8) may even be omitted; but this is not advocated, Entry (6) will not
be posted in Qs Account.
2.138
`
4,000 By Motor Vehicles A/c
10,898 By Suspense A/c
By R
By Suspense Account
14,898
`
2,700
10,000
2,000
198
14,898
Suspense Account
`
To Profit & Loss Adjustment
Account
To C
To Profit & Loss Adjustment
Account
`
500
10,698
11,198
1.
(i) Goods purchased from A for ` 10,000 passed through the sales book. The error will
result in
(ii) If a purchase return of ` 1,000 has been wrongly posted to the debit of the sales returns
account, but has been correctly entered in the suppliers account, the total of the
(a) Trial balance would show the debit side to be ` 1,000 more than the credit
(b) Trial balance would show the credit side to be ` 1,000 more than the debit.
(c) The debit side of the trial balance will be ` 2,000 more than the credit side.
(d) The credit side of the trial balance will be ` 2,000 more than the debit side.
(iii) If the amount is posted in the wrong account or it is written on the wrong side of the
account, it is called
Fundamentals of accounting
2.139
Rectification of errors
(ii) On purchase of old furniture, the amount of ` 1,000 spent on its repair should be debited
to
(iv) Goods worth ` 100 taken by proprietor for domestic use should be credited to
(a) Correct totalling of the balance sheet; (b) Correct totalling of the trial balance;
(vii) ` 200 received from Smith whose account, was written off as a bad debt should be
credited to :
(viii) Purchase of office furniture ` 1,200 has been debited to General Expense Account. It
is :
2.140
[Ans: 2 : (i) (b); (ii) (b); (iii) (c); (iv) (c); (v) (c); (vi) (c); (vii) (a); (viii) (b); (ix) (b)]
II. From the given information, choose the most appropriate answer.
1. Classify the following errors under (a) Errors of omission, (b) Errors of commission and
(c) Errors of principle, (d) Compensating errors
(i) The total of sales book was not posted to the ledger.
(iii) Goods taken away by the proprietor for personal use not recorded anywhere.
(iv) The total of a folio in the sales book ` 1,000 was carried forward as ` 100.
2. Point out the type of the errors given below: (put 1 against errors of omission, 2 against errors
of commission, 3 against errors principle, 4 if it is not an error).
(d) ` 120 received from Ganesh has been debited to his account.
(e) Freight paid on machinery has been debited to the freight account.
(f) The discount columns of the cash book have not been posted.
(j) The amount of a dishonoured bill has been debited to general expenses account.
[Ans : 2 : - 1 : (f); 2 : (a) (d) (h) (i); 3 : (b) (c) (e) (g) (j)]
Fundamentals of accounting
2.141
Rectification of errors
III. Given below are the questions containing multiple answers. Choose the correct answer(s).
1. Which of the following errors will not be revealed by the Trial Balance:
2.142
Notes
Fundamentals of accounting
2.143
Notes