Accounting Fundamentals: Lesson 1 (printer-friendly version) Your Instructor: Charlene Messier INSTRUCTIONS: To print this page, wait for

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Chapter 1 Introduction We all take in money from one source or another and we all dispense of our money in one way or another. This is true our entire life. We move money from our left pocket to our right pocket and back and forth trying to keep everyone, especially ourselves, content. Sometimes the pockets are fairly full and feel good. Other times, the pockets are almost empty and we don't always know why or how they got so empty. The relevance of this fact is a financial balancing act. How can you best track the money you take in and the money you give out? If you are like 99% of the population, you do not track every dollar that leaves your household. It is sometimes these "little" amounts that add up quickly: your daily coffee, newspaper, lunch, postage stamps, etc. Before you realize it, those little things have taken a considerable chunk out of your income. When I graduated from business college and landed my first job, I began to realize that my accounting classes were very important to me. I quickly learned that I needed a budget and incorporated some of my accounting skills to obtain that goal. I have always enjoyed working with numbers in a concrete way. Give me numbers, and I can usually figure out the solution to any problem. The preciseness of having only one correct answer has always intrigued me. To that end, I have spent many hours looking for an error, sometimes only cents, to make the problem equal. Presently, as a 20-year-plus business education teacher, I'm always pleased and proud to see some of my students blossom in this area and go on to acquire degrees and/or jobs in the accounting field. From the easy task of adding a row of numbers to the complex job of determining financial reports at the end of the year for a business, accounting continues to be a challenging yet satisfying and very important part of my life. I hope to instill this love of accounting in you, the students in my online Accounting Fundamentals class. This course will teach you how to track each and every dollar that comes into and goes out of your household. This course is based primarily for small businesses that require financial records with which to make decisions. However, all the principles used throughout this course can be tailored to single households, with very few adaptations. Tracking all your income and expenses is also a valuable asset at tax time. Compiling your financial transactions as they occur during the year can save you time, energy, and possibly money when April 15th rolls around. When you have completed this lesson, you will understand the concepts of account classifications, account titles, the debit side, the credit side, the increase side, the decrease side and the normal balance side of accounts. You will also understand the accounting equation and how it relates to the account classifications throughout this course. Note: There are forms located in each lesson's Supplementary Material section. Print the pages

before starting a lesson, as you will need them in order to follow along with the course material presented in the lesson. Solutions for each lesson are also located in the Supplementary Material sections. Because you'll be getting so much accounting practice within the lesson chapters, you won't need to complete an assignment at the end of each lesson (you'll notice that that section is blank).

Chapter 2 Types of Businesses There are two distinct types of businesses: service businesses and merchandising businesses. A service business provides a service for a fee. Some examples of service businesses might be a taxi service and a house cleaning business. All service businesses earn income from completing a service for their consumers. A merchandising business sells products to its consumers. This type of business buys or manufactures products to resell to its customers. They mark up the price of these products so that the business shows a profit after paying all expenses related to manufacturing and/or purchasing and reselling the product. Most stores are considered merchandising businesses. Consumers go in, pay for a product, and walk out with the product they bought. Most merchandising businesses collect a sales tax on their products. This tax is turned over to the state government at various intervals in the year. There are a few states that do not require a sales tax to be collected, and some states exempt certain items or certain amounts from their sales tax. We will discuss sales taxes in depth in a future lesson. Some businesses are a combination service/merchandise business. They provide a service and also sell a product. An example would be a mechanic's shop. They service your car for a fee and also replace parts, such as oil, filters, belts, etc. Part of their charge is for labor and part is for the materials they use. Another example would be a hair salon. They charge for cutting, styling your hair, and also have products for sale, such as shampoo, conditioner, brushes, etc. There are also many ways in which a business might organize itself. Some are sole proprietorships and have only one owner. Others are partnerships and consist of two or more owners. Still other businesses are corporations made up of stockholders.

Chapter 3 Account Classifications and Account Titles So, let's get started. The accounting equation is:

These are examples of classifications of accounts. Remember in first grade how you learned about classifications? The classification fruit has categories under it, such as oranges, bananas, apples, grapes, etc. The classification vegetables might have corn, beans, carrots, and peas under it. They are all classified as vegetables, but have their own individual names.

So it is in accounting. There are classifications of accounts, and these classifications have account titles under them. An account is a record summarizing all the information pertaining to a certain item in the accounting equation.

The first classification of accounts is assets. An asset is anything you have that has any value to it. Examples would be a home, car, land, furniture, etc. The number one asset (and most popular I'm sure) is cash. Even if an asset has a loan or mortgage on it, it is still an asset. The value of a mortgaged asset will be decreased by the amount left on the mortgage when we list liabilities. Any asset with a loan outstanding will also have its worth decreased by the amount remaining on the loan. Examples of asset accounts might be supplies, insurance, cash, office equipment, appliances, jewelry, automobiles, computers, furniture, etc. Each account will have its own title, but all assets will be grouped under the classification of assets. Next is the classification of accounts called liabilities. A liability is anyone you owe money to. This could be a person, bank, credit union, or any other institution or company you owe money to. Account titles would be the name of the person to whom you owe money, or the name of a business from whom you have bought on credit, or the name of the bank where your loan or mortgage is financed. Again, you may have many account titles under the classification of liabilities. The third classification of accounts is called owners' equity. This classification of accounts usually has two main account titles: Your Name, Capital and Your Name, Drawing. The capital account shows the owner's net worth in the business or a person's net worth, and the drawing account shows how much money the owner of a business has withdrawn throughout the fiscal period (not too applicable to a household budget, but very important to a business). A fiscal period is the period of time for which a business records its activities (usually one month). The drawing account is considered a contra account. Contra means to go against. Therefore, the balance in the drawing account goes against the balance in the capital account. If you stop to think about this concept, you will see that the balance in the drawing account (the amount that the owner of a business takes out for personal use) must be deducted from the account balance in the capital account (the owner's net worth). Therefore, the contra account drawing goes against (or is deducted from) the balance in the capital account. If this were not done, the owner's net worth in the business would be overstated. If there are partners in the business (two or more), there would be two capital accounts and two drawing accounts (one for each partner).

The fourth classification of account is expense. Needless to say, expenses represent where money is spent to run the business or household. Some examples of expense account titles might be utilities, rent, delivery, medical, food, clothing, shipping, etc. Again, these account titles will vary from business to business and from household to household. Each business or household will set up its accounting system with the expense accounts it requires. Very small, infrequently used expenses can be combined under the account title Miscellaneous Expense. Next, comes the account classification revenue. This is the money that comes into the business or household. Money can come from many different sources. A business may have an account for sales or labor income or any other source of income that they have. Larger stores may want to track income by department, such as sporting goods sales, women's clothing, cosmetics, toys, etc. A household may have income from salaries or interest or any other source of income they may have. Therefore, some businesses may only have one account title under this classification while others may have ten. Both would be absolutely correct. Last, but not least, comes cost of merchandise sold. Merchandising businesses that sell products use this classification of account. Its primary purpose is to determine if the selling price of the merchandise is enough to make a profit for the business.

Chapter 4 T-Accounts A T-account is exactly what it sounds likea big T with a left and a right side. The left side of a T-account is called the debit side and the right side of the T-account is called the credit side. This does not change, no matter what classification of account you are working with. What does change, however, is which side of the account you enter dollar amounts on.

Location of debits and credits in a T-account

Any asset account is increased on the left or debit side and decreased on the right or credit side. The same for expense and drawing accountsincreased on the debit side and decreased on the credit side.

Asset, expense, and drawing accounts

Liabilities are just the oppositethey increase on the credit side and decrease on the debit side. The capital and revenue accounts are the same as liabilitiesincreased on the credit side and decreased on the debit side.

Liability, capital, and revenue accounts

The increase side of any account is always the normal balance side. In other words, the balance in an asset account would be on the debit side, the balance in a liability account would be on the credit side, etc. A transaction is any activity that changes two or more accounts. Keep in mind that each transaction affects at least two accounts: one by a debit entry and the other by a credit entry. Therefore, the debits and credits always equal after each transaction. This is known as the double entry system of accounting.

You might want to try this to help you remember which accounts increase on which side of the T account:

DEAD means accounts that increase on the debit side are expenses, assets, and drawing. The first D is for debit, the E is for expenses, the A is for assets, and the D is for drawing. CLeRC means accounts that increase on the credit side are liabilities, revenue, and capital accounts. The first C is for credit, the L for liabilities, the little e doesn't stand for anything except to make the acronym easier to remember (as in the word clerk), the R stands for revenue and the last C for capital. For easy reference, I have made a chart for you to refer to when entering dollar amounts into the accounts:

T-accounts entry reference

I would like you to try this short assignment so that you can practice the concepts you learned in this lesson. Please put the following account titles on the form you printed out. (The account title should be written on the top line of the T.) Cash Petty Cash SuppliesStore SuppliesOffice Prepaid Insurance Continue with the vendors that the company owes money to: Costco Wholesalers, Inc. Office Quarters, Inc. Staples, Inc. Next: Joan Caldwell, Capital Joan Caldwell, Drawing Book Sales Video Sales Toy Sales Advertising Expense

Miscellaneous Expense Rent Expense Utilities Expense Next, I would like you to label the debit and credit sides of each T-account. Remember, the left side is always the debit side and the right side is always the credit side, regardless of what account you are working with. You can use Dr for debit (don't ask me where the r came from) and Cr for credit. Okay, now I would like you to put a plus sign (+) on the increase side of each account and a minus sign (-) on the decrease side of each account. On the normal balance side, put NB. Remember, the increase side of any account is also the normal balance side. You may check your work by viewing the solution, which is located in the Supplementary Material section.

Chapter 5 Conclusion In this lesson, you have learned the difference between a service business and a merchandising business, and you have learned about account classifications and account titles. You have also learned about the debit and credit sides of T-accounts, the increase and decrease sides, and the normal balance side of T-accounts. I have explained the accounting equation in this chapter. These concepts will become very familiar to you as we move through the course and you actually begin to enter dollar amounts into accounts. Please feel free to refer to the chart in this lesson until you are comfortable with the debit/credit, increase/decrease sides of the various accounts. I hope you are now "hooked" on accounting fundamentals and are eager to learn more. When you have finished and feel ready, I would like you to take a quick, multiple-choice quiz. Good luck! Supplementary Material Adobe Acrobat Reader http://www.adobe.com/products/acrobat/readermain.html All of the forms you will need to complete the exercises in this course are Adobe Acrobat PDF files. You will need the current version of Adobe Acrobat Reader to view and print them. Download the latest version for free by clicking Free Adobe Reader in the upper-left corner under Downloads. Blank T-Account Form https://api.ed2go.com/CourseBuilder/2.0/images/resources/prod/fun0/L01-T-account.pdf Used to learn the debit/credit sides, increase/decrease sides, and the normal balance side of accounts. Lesson 1 Solutions https://api.ed2go.com/CourseBuilder/2.0/images/resources/prod/fun0/L01-Solutions.pdf All finished? Click here to check your work against this lesson's solution forms. You can print them or check the amounts online. Unfortunately, some of the wider forms can only appear sideways, so printing may be your better option. If you don't mind tilting your

head, you'll be able to see what you need to see on the screen while saving some printer ink and paper! Note: Only those forms and accounts with new entries in them will appear in each lesson's solutions. If you're curious about a transaction in a previous lesson, you'll have to go back to that lesson's Solutions link. Accounting Coach http://www.accountingcoach.com/online-accountingcourse/07Dpg01.html Debits and Credits Drills. ABC News.com: Business Glossary http://abcnews.go.com/Business/story?id=88881&page=1 An extensive glossary of business and accounting terms. Understanding Accounting http://www.kat.elmvalefarm.com/bk01.htm Good resource for all aspects of accounting. Accounting--Basic Accounting Terms and Concepts http://www.businesstown.com/accounting/basic-terms.asp Excellent explanations of debit/credit concepts.

FAQs Q: How can an asset with a loan on it still be an asset? A: An asset that has a loan on it is still an asset; however, the amount of the unpaid loan or mortgage is subtracted from the value of the asset to get the true equity of the asset. Q: How can a business be both a service business and a merchandising business? A: A business can be both a service business and a merchandising business if it offers both a service and a product to its customers. For example, a car body shop which charges for labor for fixing your car and also charges a fee for the materials used to fix the car. Q: Why is accounting referred to as a double entry system? A: Accounting is sometimes referred to as a double entry system because at least two accounts are affected by each transaction (one with a debit entry and one with a credit entry). Also, the debits have to equal the credits after each transaction and must remain equal at any given point in the fiscal period.

Assignment The assignments for this course are placed within the lesson material.

There are forms located in each lesson's Supplementary Material section. Print the pages before starting a lesson, as you will need them in order to follow along with the course material presented in the lesson.

Solutions for each lesson are also located in the Supplementary Material sections.

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