Tally PRIME

Basics of Accounting
Introduction
Accounting is a process of identifying, recording, summarising and reporting economic information to
decision makers in the form of financial statements. Financial statements will be useful to the following
parties:
 Suppliers
 Customers
 Employees
 Banks
 Suppliers of equipments, buildings and other assets
 Lenders
 Owners
Book Keeping

Book-keeping is the branch of knowledge that reveals how to keep a record of business transactions. It is
often routine and clerical in nature. It is important to note that only those transactions related to business
which can be expressed in terms of money are recorded. The basic objective of book-keeping is to have
permanent record of all the business transactions.

“Book-keeping is the science and art of correctly recording in the books of account, all those business
transactions that result in the transfer of money or money’s worth”. - R.N.Carter

Accounting

Accounting is considered as a system which collects and processes financial information of a business.
This information is reported to the users to enable them to make appropriate decisions.

 Definition of Accounting:

Important purposes of accounting are to ascertain profit or loss during a specified period, to show
financial position of the business on a particular date and to have control over the form’s property.
Financial Accounting is “ the art of recording, classifying and summarizing in a significant manner in
terms of money transactions and events which are in part, at least of financial character and interpreting
the results thereof.”
- American institute of Certified Public Accountants

Accounting is “a service activity. Its function is to provide quantitative information, primarily financial
in nature, about economic activities that is useful in making economic decision in making reasoned
choices among alternative course of action.”
- Accounting Principles Board (APB)

Accounting may be defined “as the identifying, measuring, recording and communicating of financial
information.”
- H.Bierman and AR Drebin

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 1

 Tally PRIME

Accounting is “the science of recording and classifying business transactions and events, primarily of a
financial character and the act of making significant summaries analysis and interpretation of these
transactions and events and communicating the results to persons who must make decisions or form
judgements.”
- Smith & Ashurne

Objectives of Accounting

The main objectives of accounting are;

1. To Maintain accounting records

2. To calculate the result of operations

3. To ascertain the financial position

4. To communicate the information to users

Accounting Process:

Input Process Output

Identifying
Recording
Bussiness Classifying Information
Transactions Summarising to
(Monetary value) Analysing Users
Interpreting
Communicating

1. Identifying:
Identifying the business transactions from the source documents.

2. Recording:
The next function of accounting is to keep a systematic record of all business transactions, which are
Identified in an orderly manner, soon after their occurrence in the journal or subsidiary books.

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 2

 Tally PRIME

3. Classifying:
This is concerned with the classification of the recorded business transactions so as to group the
transactions of similar type at one place, i.e.; in ledger (a book of accounts) by extracting the balances /
totals of accounts.

4. Summarizing:
It is the process of finding the totals of balances of all accounts so as to prepare trial balance.

5. Reporting:
The Classified information available from the trail balance is used to prepare profit and loss account
and balance sheet in a manner useful to the users of accounting information.

6. Analysing:
It establishes the relationship between the items of the profit and loss account and the balance sheet.
The purpose of analysing is to identify the financial strength and weakness of the business. It
provides the basis for interpretation.

7. Interpreting:
It is concerned with explaining the meaning and significance of the relationship so established by the
analysis. Interpretation should be useful to the users, so as to enable them to take correct decisions.

Accounting Cycle:

An Accounting cycle is a complete sequence of accounting process that begins with the recording of
business transactions and ends with the preparation of final accounts.

These include Journal, Ledger, Trail Balance and Financial Statements such as, Trading Account, Profit
and Loss Account, Balance Sheet.

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 3

 Tally PRIME

Journal

Accountyin
Financial g Ledger
Statement
Cycle

Trail
Balance

Accountancy, Accounting and Book-keeping

Accountancy refers to a systematic knowledge of accounting which covers rules, regulations,

principles, concepts and conventions, and standards that govern the accounting process.

Accounting refers to the actual process of preparing and presenting the accounting information. In
other words, it is an art of putting the academic knowledge of accountancy into practice.

Book-keeping is a part of accounting and is concerned with record keeping or maintenance of books of
accounts. It is often routine and clerical in nature.

Basic Accounting Terms

1. Account: A formal record of a particular type of transaction expressed in money or other unit of
measurement and kept in a ledger, (Kohler). In other words Account is a summary of relevant business
transactions at one place relating to a person asset expense revenue named in the heading. An account is
a brief history of financial transactions of particular person or item, which has two sides called debit side
and credit side.

2. Accounting Entry: A record of financial transaction in the books of accounts, like, Journal, Cash
Book etc.

3. Transactions: Transactions are these activities of a business, which involve transfer of money of
goods or services between two persons or two accounts. For example, purchase of goods, sale of goods,
borrowing from bank, lending of money, salaries paid, rent paid, commission received and dividend
received. Transactions are of two types, namely, cash and credit transactions.

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 4

 Tally PRIME

4. Accounting Period: The period of time, for which an operating statement is prepared.

5. Proprietor: A person who owns a business is called as a proprietor. He contributes capital to the
business with an intention of earning profit.

6. Capital: It is the amount invested in the business. This amount is increased by the amount of profits
earned and the amount of additional capital introduced. It is decreased by the amount of losses incurred
and the amounts withdrawn.

7. Assets: Assets are the properties of every description belonging to the business. Cash in hand, plant
& machinery, furniture and fittings, bank balance, debtors, bills receivable, stock of goods, investments,
goodwill are some examples for assets. Assets can be classified into tangible and intangible .

Tangible Assets: These are the assets having physical existence, which can be seen and touched. For
example, Plant & Machinery, cash etc.

Intangible Assets: These are the assets having no physical existence, but their possession gives rise to
some rights and benefits to the owner. It cannot be seen and touched. Goodwill, patents, trademarks are
some of the examples.

8. Liabilities: Liabilities refer to the financial obligations of a business. These denote the amounts
which a business owes to others, e.g., loans from banks or other persons, creditors for goods supplied,
bills payable, outstanding expenses, bank overdraft etc.

9. Drawings: It is the amount of cash or value of goods withdrawn from the business by the proprietor
for his personal use. It is deducted from the capital.

10. Debtors: A person (individual or firm), who receives a benefit without giving money or money’s
worth immediately, but liable to pay in future or in due course of time is a debtor. The debtors are shown
as an asset in the Balance Sheet.

11. Creditors: A person who gives a benefit without receiving money or money’s worth immediately
but claim in future, is a creditor. The creditors are shown as a Liability in the Balance Sheet.

12. Purchases: Purchases refer to the amount of goods bought by a business for resale or for use in
the production. Goods purchased for cash are called cash purchases. If it is purchased on credit, it is
called as Credit Purchases. Total purchases include both cash and credit purchases.

13. Sales: Sales refer to the amount of goods sold that are already bought or manufactured by the
business. When goods are sold for cash, they are cash sales, but if goods are sold and payments is not
received at the time of sale, it is credit sales. It is credit sales. Total sales include both cash and credit
sales.

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 5

 Tally PRIME

14. Stock: Stock includes goods unsold on a particular date. Stock may be opening and closing Stock.
The term opening stock means goods unsold in the beginning of the accounting period. Whereas, the
term closing stock includes goods unsold at the end of the accounting period.

15. Revenue: Revenue means the amount receivable or realised from sale of goods and earnings from
interest, dividend, commission etc.

16. Expense: It is the amount spent in order to produce and sell the goods and services. For example,
purchase of raw materials, payment of salaries, wages etc.

17. Income: Income is the difference between revenue and expense.

18. Voucher: It is a written document in support of a transaction. It is a proof that a particular

transaction has taken place for the value stated in the voucher. It may be in the form of cash receipt,
invoice, cash memo, bank pay-in-slip etc. Voucher is necessary to audit the accounts.

19. Receipt: Receipt is an acknowledgement for cash received. It is issued to the party paying cash.
Receipts form the basis for entries in cash book.

Accounting Principles, Concepts and Conventions:

The Accounting Principles, concepts and conventions form the basis for how business transactions are
recorded. A number of principles, concepts and conventions are developed to ensure that accounting
information is presented accurately and consistently. Some of these concepts are briefly described in the
following sections.

Revenue Realisation
According to Revenue Realisation concept, revenue is considered as the income earned on the
date, when it is realised. As per this concept, unearned or unrealised revenue is not taken into
account. This concept is vital for determining income pertaining to an accounting period. It
reduces the possibilities of inflating incomes and profits.

Matching Concept
As per this concept, Matching of the revenues earned during an accounting period with the cost
associated with the respective period to ascertain the result of the business concern is carried out.
This concept serves as the basis for finding accurate profit for a period which can be distributed to
the owners.

Accrual
Under Accrual method of accounting, the transactions are recorded when earned or incurred
rather when collected or paid i.e., transactions are recorded on the basis of income earned or
expense incurred irrespective of actual receipt or payment. For example, a seller bills the buyer at
the time of sale and treats the bill amount as revenue, even though the payment may be received
later.

Going Concern

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 6

 Tally PRIME

As per this assumption, the business will exist for a long period and transactions are recorded from
this point of view.

Accounting Period
The users of financial statements required periodical reports to ascertain the operational and the
financial position of the business concern. Thus, it is essential to close the accounts at regular
intervals. viz., 365 days or 52 weeks or 1 year is considered as the accounting period.

Accounting Entity
According to this assumption, a business is considered as a unit or entity apart from its owners,
creditors and others. For example, in case of a Sole Proprietor concern, the proprietor is treated to
be separate and distinct from the business, which he controls. The proprietor is treated as a
creditor to the extent of his capital and all the business transactions are recorded in the books of
accounts from the business stand point.

Money Measurement
In accounting, only business transactions and events of financial nature are recorded. Only
transactions that can be expressed in terms of money are recorded.

Accounting Conventions:
Accounting conventions are the customs or traditions guiding the preparation of accounts. They are
adopted to make financial statements clear and meaningful. Following are the four accounting
conventions.

1. Convention of Disclosure: Accounting statements should disclose fully and completely all the
significant information, based on which, decisions can be taken by various interested parties. It involves
proper classification and explanations of accounting information which are published in the financial
statements.

2. Convention of Materiality: The materiality principle requires the disclosure of the significant
information, exclusion of which would influence the decisions. Unimportant and insignificant
information are either left out or merged with other items.

3. Convention of Consistency: The convention of consistency facilitates comparison of financial

performance of an entity from one accounting period to another, which is possible when the accounting
principles followed by an entity are consistently applied over the years. For example, an organization
should not change its method of depreciation every year. i.e. from straight line method to written down
value method or vice versa.

4. Convention of Conservatism: As per this convention, the anticipated profits should be

ignored but all the anticipated losses should be considered into the books of accounts of an entity. The
essence of this principle is “anticipate no profit and provide for all possible losses. This means that all
prospective losses are taken into consideration, however, no doubtful income is taken into consideration
in recording of transactions by an entity.
Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 7
 Tally PRIME

Branches of Accounting
Following are the main branches of accounting:

1. Financial Accounting
2. Cost Accounting
3. Management Accounting
4. Tax Accounting
5. Social Responsibility of Accounting

1. Financial Accounting

The main purpose of this branch of accounting is to ascertain profit or loss during a specific period, to
show financial position of the business on a particular date and to have control over the firm’s property.
Such accounting records are used to impart useful information to outsiders and to meet the legal
requirements.

2. Cost Accounting

The main aim of cost accounting is to ascertain cost relating to the various activities of the business
and to have cost control. The cost accountant is required to assemble and interpret cost data for the
use of management in controlling current operations and in planning for the future.

3. Management Accounting

It supplies the management significant information in order to assist the management to discharge its
various functions such as planning, control, evaluation of performance and decision making etc.

4. Tax Accounting

Different types of taxes have to be paid by an enterprise on behalf of itself or on behalf of others, such
as, employees, shareholders etc. Tax Accounting is helpful in complying with the provisions of
complex tax laws governing income-tax, sales tax, excise duties, custom duties and estate duties.

5. Social Responsibility of Accounting

It is concerned with social responsibility aspects of a business. Management is held responsible for
what it contributes to the social well being and progress. It is the process of identifying, measuring
and communicating the social effects of the business decisions to permit informed judgements and
decisions by the users of information.
Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 8
 Tally PRIME

Account:
Every transaction has two aspects and each aspect has an account. It is stated that ‘An account is a
summary of relevant transactions at one place relating to a particular head’.
The common form of an account has three parts
1. A 'Title’ that describes the name of the asset, liability or equity account
2. A ‘left side’ or the ‘debit side’
3. A ‘right side’ or the ‘credit’ side
This form of account is called a ‘T’ account because of its similarity to the letter ’T’ as shown below:

Dr Title of the Account Cr

Left = Debit Right = Credit

Debit

an entry recording a sum owed, listed on the left-hand side or column of an account. "a double-entry
system of bookkeeping, where each debit has a corresponding credit entry"

Credit
an entry recording a sum received, listed on the right-hand side or column of an account. "the columns
should be added across and down and the total debits should equal the total credits"

 Accounting Equation:

Accounting equation is the basis of double entry system. It is a mathematical expression to show
the assets and liabilities of a firm are always equal. American accountants have derived the rules
of debit and credit through accounting equation which is given below:

Assets = Equities

Assets = Liabilities + Capital

or
Capital = Assets - Liabilities
or
Liabilities = Assets – Capital

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 9

 Tally PRIME

 Rules of Accounting Equation:

1. Regarding Assets
Increases in assets are debits and decreases in assets are credits.

2. Regarding Liabilities
Increases in Liabilities are credits and decreases in liabilities are debits.

3. Regarding Capital
Increases in capital are credits and decreases in capital are debits

4. Regarding Expenses
Increases in expenses are debits and decreases in expenses are credits.

5. Regarding Incomes or Profits

Increases in Incomes or Profits are credits and decreases in Incomes
or profits are debits.

Types of Accounts:

Classification:

Accounts

Personal Impersonal
Accounts Accounts

Natural Artificial Representative

Nominal
Person's person's Person's Real Accounts
Accounts
Accounts Accounts Accounts

Tangible Real Intangible Real

Accounts Accounts

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 10

 Tally PRIME

There are basically three types of Accounts maintained for transactions :

 Personal Accounts
 Real Accounts
 Nominal Accounts

Personal Accounts
Personal Accounts are Accounts which relate to persons. Personal Accounts include the following.
 Suppliers
 Customers
 Lenders

Real Accounts
Real Accounts are Accounts relating to properties and assets, which are owned by the business concern.
Real accounts include tangible and intangible accounts. For example,
 Land
 Building
 Goodwill
 Purchases
 Cash
Nominal accounts
Nominal Accounts are Accounts which relate to incomes and expenses and gains and losses of a business
concern. For example,
 Salary Account
 Dividend Account
 Sales

Accounts can be broadly classified under the following four groups.

 Assets
 Liabilities
 Income
 Expenses
The above classification is the basis for generating various financial statements viz., Balance Sheet, Profit
& Loss A/c and other MIS reports. The Assets and liabilities are taken to Balance sheet and the Income
and Expenses accounts are posted to Profit and Loss Account.

Golden Rules of Accounting:

Personal Account Real Account Nominal Account
Debit The Receiver What Comes In Expenses And Loses
Credit The Giver What Goes Out Incomes And Gains

Journal :
A journal is a record in which all business transactions are entered in a chronological order.
Journal Entry:
A record of a single business transaction is called a journal entry

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 11

 Tally PRIME

Journal entry proforma:

Date Particulars L.F Debit Credit
Amount Rs. Amount Rs.

Double Entry System of Book Keeping:

As per Double Entry System of book-keeping, all the business transactions recorded in accounts have two
aspects - Debit aspect (receiving) and Credit aspect (giving). For example, when a business acquires an
asset (receiving) and pays cash (giving) for it. This accounting technique records each transaction as debit
and credit, where every debit has a corresponding credit and vice versa.

Features of Double Entry System of Book Keeping

The Double entry system of book keeping comprises of the following features :
 Every business transaction affects two accounts
 Each transaction has two aspects, i.e., debit and credit
 Maintains a complete record of all business transactions
 Helps to check the accuracy of the accounting transactions, by preparation of trial balance
 Helps ascertaining profit earned or loss occurred during a period, by preparation of Profit & Loss
Account
 Helps ascertaining financial position of the concern at the end of each period, by preparation of
Balance Sheet
 Helps timely decision making based on sufficient information
 Minimises the possibilities of fraud due to its systematic and scientific recording of business
transactions

The following chart explains the way in which accounting transactions are recorded in the Double Entry
system and financial statements are prepared

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 12

 Tally PRIME

Mode of Accounting:
Accounting process begins with identifying and recording the transactions in the books of accounts i.e.,
the first step in the Accounting Process is recording of transactions in the books of accounts. Accounting
identifies only those transactions and events which involves money and is sorted based on various source
documents.
The following are the most common source documents.
 Cash Memo
 Invoice or Bill
 Vouchers
 Receipt
 Debit Note
 Credit Note

Voucher
A voucher is a document in support of a business transaction, containing the details of such
transaction.

Receipt
When a trader receives cash from a customer against goods sold by him, issues a receipt containing
the name of such customer, details of amount received with date.
Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 13
 Tally PRIME

Invoice or Bill
When a trader sells goods to a buyer, he prepares a sales invoice containing the details of name and
address of buyer, name of goods, amount and terms of payments and so on. Similarly, when the
trader purchases goods on credit receives a Invoice/bill from the supplier of such goods.

Journals and Ledgers

A journal is a record in which all business transactions are entered in a chronological order. A record
of a single business transaction is called a journal entry. Every journal entry is supported by a
voucher, evidencing the related transaction.

Account
An account is a statement of transactions affecting any particular asset, liability, expense or income.

Ledger
A Ledger is a book which contains all the accounts whether personal, real or nominal, which are
entered in journal or subsidiary books.

Chart of Accounts
A chart of accounts is a list of all accounts used by an organisation. The chart of accounts also
displays the categorisation and grouping of its accounts.

Posting
Posting is the process of transferring the entries recorded in the journal or subsidiary books to the
respective accounts opened in the ledger i.e., grouping of all the transactions relating to a particular
account to a single place.

Accounting Period
Generally, the financial statements are generated for a regular period such as a quarter or a year, for
timely and accurate ascertainment of operating and financial position of the organisation.

Trial Balance
Trial balance is a statement which shows debit balances and credit balances of all Ledger accounts. As
per the rules of double entry system, every debit should have a corresponding credit, the total of the
debit balances and credit balances should agree. A detailed trial balance has columns for
 Account name
 Debit balance
 Credit balance


Financial Statements:
Financial statements are final result of accounting work done during the accounting period. Financial
statement serves a significant purpose to users of accounting information in knowing about the
profitability and financial position of the organisation. Financial statements normally include
 Trading Account
 Profit and Loss Account

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 14

 Tally PRIME

 Balance Sheet

Trading Account
Trading refers to buying and selling of goods. The trading account displays the transactions pertaining to
buying and selling of goods.
The difference between the two sides of the Trading Account indicates either Gross Profit or Gross Loss.
If the credit side total is in excess of the debit side total, the difference represents Gross Profit. On the
other hand, if the total of the debit side is in excess of the credit side total, the difference represents Gross
Loss. Such Gross Profit / Gross Loss is transferred to Profit & Loss Account. The Gross Profit is
expressed as :
Gross Profit = Net Sales – Cost of Sales

Profit and Loss Account

The profit and loss account helps to ascertain the net profit earned or net loss suffered during a particular
period. after considering all other incomes and expenses incurred over a period. This helps the company
to monitor and control the costs incurred and improve its efficiency. In other words, the profit and loss
statement shows the performance of the company in terms of profits or losses over a specified period.

The Net Profit is expressed as :

Net Profit = (Gross Profit + Other Income) – (Selling and Administrative Expenses + Depreciation
+ Interest + Taxes + Other Expenses)

A key element of the Profit and Loss Account, and one that distinguishes it from a balance sheet, is that
the amounts shown on the statement represent transactions over a period of time, while the items
represented on the balance sheet show information as on a specific date. All revenue and expense
accounts are closed once the profit and loss account is prepared. The Revenue and Expenses accounts will
not have an opening balance for the next accounting period.

Balance Sheet
The balance sheet is a statement that summarises the assets and liabilities of a business. The excess of
assets over liabilities is the net worth of a business. The balance sheet provides information that helps in
assessing
 A company’s Long-term financial strength
 A company’s Efficient day-to-day working capital management
 A company’s Asset portfolio
 A company’s Sustainable long-term performance
The balances of all the real, personal and nominal (capital in nature) accounts are transferred from trial
balance to balance sheet and grouped under the major heads of assets and liabilities. The balance sheet is
complete when the net profit/ loss is transferred from the Profit and Loss account.

Transactions:
A transaction is a financial event that takes places in the course or furtherance of business and effects the
financial position of the company. For example, when you deposit cash in the bank, your cash balance
reduces and bank balance increases or when you sell goods for cash, your cash balance increases and your
stock reduces.

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 15

 Tally PRIME

Transactions can be classified as follows :

 Receipts – cash or bank
 Payments – cash or bank
 Purchases
 Sales

Recording Transactions:
The important aspect of accounting is to record transactions promptly and correctly to ascertain the
financial status of a company as on a particular date
Generally, the business transactions may be of the following nature :
 Purchase of goods either as raw materials for processing or as finished goods for resale
 Payment of expenses incurred towards business
 Sale of goods or services
 Receipts (in Cash or by Cheques)
 Payments (in Cash or Cheques)
The Accounting information is useful to various interested parties, both internal and external viz.,
 Suppliers, who supply goods and services for cash or on credit
 Customers, who buy goods or services for cash or on credit
 Employees, who provide services in exchange of salaries and wages.
 Banks, with whom accounts are maintained
 Suppliers of equipment, buildings and other assets needed to carry on the business.
 Lenders from whom, you borrow money to finance your business
 Owners, who hold a share in the capital of your business

Dr.B.V.Raju Foundation & Sri Vishnu Educational Society 16