Double-entry System
Process of accounting starts from posting of transactions. Every transaction in accounting has an impact on 2 accounts and double entry system is a system that recognizes and records both the aspects of the transactions,
E.g., on purchase of furniture either the cash balance will be reduced or a liability to the supplier will arise.
Different kind of accounts
1. PERSONAL ACCOUNT – These are accounts of parties with whom the business is carried on. Personal accounts may be:
Accounts of natural or physical persons. Ex: Ram Account, Kris Account
Accounts of artificial or legal persons. Ex: ABC & Co
2. REAL ACCOUNT - These are asset accounts that appear in the Balance Sheet. They are referred to as Real Accounts (or Permanent Accounts) as these are owned by businesses and the balances in these accounts at the end of an accounting period will be carried over to the next period.
Ex, Cash, Land, building etc.
3. NOMINAL ACCOUNT - These are accounts of expenses and losses which a business incurs and income and gains which a business earn in the course of business.
Ex: Rent account, Interest account.
Income Statement The first statement prepared is the Income Statement. The Income Statement reports a business’ performance for the period.
A simple format for an income statement is:
Revenues – Expenses = Net Income
Income Statement
Revenues are earned for the sale of goods or services. Note that revenues occur when the sale is made. The payment may or may not have been received.
Examples of revenues include sales, service revenue and interest revenue.
Income Statement
Expenses are incurred when a business receives goods and services. Like revenues, payment may or may not have been made.
Examples of expenses include salaries expense, utility expense and interest expense.
Income Statement
Most businesses require more information from their businesses than a simple income statement can provide. Therefore, they use a multi-step income statement format.
A format for a multi-step income statement is:
Income Statement
Sales revenue- Cost of goods sold Gross profit- Operating expenses Income from operations+/- Non-operating items Income before taxes- Income taxes Net income
Income Statement
Cost of goods sold represents the expense a business incurred to buy or make a product for resale.
Example - a book store buys a book for $25 and then sells it for $32. The cost of goods sold is $25.
Income Statement
Operating expenses are the usual expenses incurred in operating a business.
Accounts such as salaries expense, utility expense, and depreciation expenses are all shown in this section.
Income Statement
Non-operating items are revenue, expenses, gains and losses that do not relate to the company’s primary operations.
Accounts include interest expense and gains and losses of the sale of equipment and investments.
Balance Sheet
The purpose of the balance sheet is to report the financial position of an accounting entity at a particular point in time.
The basic format for the balance sheet is: Assets = Liabilities + Equity
Balance Sheet
Assets are economic resources owned by a company.
Examples include cash, accounts receivable, supplies, buildings and equipment.
Balance Sheet
Liabilities are the company’s debt or obligations.
Examples are accounts payable, unearned revenues and bonds payable.
Balance Sheet
Equity is the residual balance. Assets – liabilities = equity. Equity is commonly called stockholders’
equity if the business is a corporation as it represents the financing provided by the stockholders along with the earnings from the business not paid out as dividends.
Balance Sheet
There are two different types of assets shown on a balance sheet. These are current assets and non-current assets.
Current assets+ Non-current assets Total assets
Balance Sheet
Current assets are assets that will be used or turned into cash within one year.
Examples include cash, accounts receivable, inventory, short-term investments, supplies and prepaids.
Balance Sheet
Non-current assets comprise the remainder of the assets.
These include accounts such as: long-term investments, land, building, equipment and patents.
Balance Sheet
There are two different types of liabilities shown on a balance sheet – current liabilities and long-term liabilities.
Current liabilities+ Long-term liabilities Total liabilities
Balance Sheet
Current liabilities are obligations that will be paid in cash (or other services) or satisfied by providing service within the coming year.
Examples include accounts payable,, and taxes payable.
Balance Sheet
Long-term liabilities are obligations that will not be paid or satisfied within the year.
Examples include long term loan, debentures etc
Balance Sheet
Stockholders’ Equity is divided into two categories: share capital and retained earnings.
Share capital+ Retained earnings Total stockholders’ equity
Balance Sheet
Share capital is the amount of cash (or other assets) provided by the shareholders.
Retained earnings is the total earnings that have not been distributed to owners as dividends.
The Balance Sheet
Current assets+ Non-current assets Total assets
Current liabilities+ Long-term liabilities+ Stockholders’ equity Total liabilities and stockholders’ equity
Examples of Double Entry
1. Purchase of machine by cashDebit Machinery a/c ( Real )Credit Cash a/c ( Real )
2.Payment of utility BillDebit Utility exp a/c (Nominal)Credit Cash a/c (Real )
3. Interest received on bank depositDebit Cash a/c ( Real )Credit interest received ( nominal )
Example Problem
Cash 5,000 Sales 100,000
Utility Expense 8,000 Buildings 65,000
Common Stock 45,000 Accounts Payable 12,000
Supplies 4,000 Cost of Goods Sold 58,000
Interest Expense 5,000 Additional Paid in Capital
20,000
Bonds Payable 40,000 Supplies Expense 3,000
Salaries Expense 16,000 Accounts Receivable
10,000
Inventories 45,000 Retained Earnings 5,000 (beg. bal.)
Income Tax Rate 30%
Assets
Cash 5,000 Sales 100,000
Utility Expense 8,000 Buildings 65,000
Common Stock 45,000 Accounts Payable 12,000
Supplies 4,000 Cost of Goods Sold 58,000
Interest Expense 5,000 Additional Paid in Capital
20,000
Bonds Payable 40,000 Supplies Expense 3,000
Salaries Expense 16,000 Accounts Receivable
10,000
Inventories 45,000 Retained Earnings 5,000 (beg. bal.)
Income Tax Rate 30%
Assets, Liabilities,
Cash 5,000 Sales 100,000
Utility Expense 8,000 Buildings 65,000
Common Stock 45,000 Accounts Payable 12,000
Supplies 4,000 Cost of Goods Sold 58,000
Interest Expense 5,000 Additional Paid in Capital
20,000
Bonds Payable 40,000 Supplies Expense 3,000
Salaries Expense 16,000 Accounts Receivable
10,000
Inventories 45,000 Retained Earnings 5,000 (beg. bal.)
Income Tax Rate 30%
Assets, Liabilities, Equity
Cash 5,000 Sales 100,000
Utility Expense 8,000 Buildings 65,000
Share capital 45,000 Accounts Payable 12,000
Supplies 4,000 Cost of Goods Sold 58,000
Interest Expense 5,000 Additional Paid in Capital
20,000
Bonds Payable 40,000 Supplies Expense 3,000
Salaries Expense 16,000 Accounts Receivable
10,000
Inventories 45,000 Retained Earnings 5,000 (beg. bal.)
Income Tax Rate 30%
Assets, Liabilities, Equity, Revenues
Cash 5,000 Sales 100,000
Utility Expense 8,000 Buildings 65,000
Share capital 45,000 Accounts Payable 12,000
Supplies 4,000 Cost of Goods Sold 58,000
Interest Expense 5,000 Additional Paid in Capital
20,000
Bonds Payable 40,000 Supplies Expense 3,000
Salaries Expense 16,000 Accounts Receivable
10,000
Inventories 45,000 Retained Earnings 5,000 (beg. bal.)
Income Tax Rate 30%
Assets, Liabilities, Equity, Revenues, Expenses
Cash 5,000 Sales 100,000
Utility Expense 8,000 Buildings 65,000
Share capital 45,000 Accounts Payable 12,000
Supplies 4,000 Cost of Goods Sold 58,000
Interest Expense 5,000 Additional Paid in Capital
20,000
Bonds Payable 40,000 Supplies Expense 3,000
Salaries Expense 16,000 Accounts Receivable
10,000
Inventories 45,000 Retained Earnings 5,000 (beg. bal.)
Income Tax Rate 30%
Step Two
Prepare the Income Statement. Sales revenue- Cost of goods sold Gross profit- Operating expenses Income from operations+/- Non-operating items Income before taxes- Income taxes Net income
Income Statement
Sales 100,000
- Cost of Goods Sold
-58,000
Gross Margin 42,000
- Operating Expenses
-27,000
Income from Operations
15,000
- Non-operating Items
-5,000
Income before Taxes
10,000
- Income Taxes -3,000
Net Income 7,000
Income Statement
Sales 100,000
- Cost of Goods Sold
-58,000
Gross Margin 42,000
- Operating Expenses
-27,000
Income from Operations
15,000
- Non-operating Items
-5,000
Income before Taxes
10,000
- Income Taxes -3,000
Net Income 7,000
Operating expenses include:
Utility expense 8,000Salaries expense 16,000Supplies expense 3,000
Income Statement
Sales 100,000
- Cost of Goods Sold
-58,000
Gross Margin 42,000
- Operating Expenses
-27,000
Income from Operations
15,000
- Non-operating Items
-5,000
Income before Taxes
10,000
- Income Taxes -3,000
Net Income 7,000
Non-operating items include:
Interest expense 5,000
Income Statement
Sales 100,000
- Cost of Goods Sold
-58,000
Gross Margin 42,000
- Operating Expenses
-27,000
Income from Operations
15,000
- Non-operating Items
-5,000
Income before Taxes
10,000
- Income Taxes -3,000
Net Income 7,000
Income taxes = Income before taxes * Income tax rate
10,000 * 30% = 3,000
Step Three
Prepare the Statement of Retained Earnings.
Beg. balance, retained earnings+ Net income- Dividends End. balance, retained earnings
Statement of Retained Earnings
Beginning Balance, Retained Earnings
5,000
+ Net Income +7,000
- Dividends -0
Ending Balance, Retained Earnings
12,000
Net Income is brought forward from the Income Statement.
Step Four
Prepare the Balance Sheet.
Current assets+ Non-current assets Total assets
Current liabilities+ Long-term liabilities+ Stockholders’ equity Total liabilities and stockholders’ equity
Balance SheetCurrent Assets: Current
Liabilities:
Cash 5,000 Accounts Payable 12,000
Accounts Receivable
10,000 Long-term liabilities:
Inventories 45,000 Bonds Payable 40,000
Supplies 4,000 Stockholders’ Equity:
Non-Current Assets:
Share capital 45,000
Buildings 65,000 Additional Paid in Capital
20,000
Retained Earnings 12,000
Total Assets 129,000 Total Liabilities and Equity
129,000
Balance SheetCurrent Assets: Current
Liabilities:
Cash 5,000 Accounts Payable 12,000
Accounts Receivable
10,000 Long-term liabilities:
Inventories 45,000 Bonds Payable 40,000
Supplies 4,000 Stockholders’ Equity:
Non-Current Assets:
Share capital 45,000
Buildings 65,000 Additional Paid in Capital
20,000
Retained Earnings 12,000
Total Assets 129,000 Total Liabilities and Equity
129,000
End. Bal. is brought forward from the Statement of Retained Earnings