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A QUALITY E-LEARNING PROGRAM BY WWW.LEARNWITHFLIP.COM
Businesses can be structured in 3 ways: 1. 2. 3. Proprietorship: business with a single owner. Owner has complete liability for all debts of the company. Partnership: business with 2 to 10 equal owners. All partners share complete liability for all debts of the company. Limited company: Many owners with limited liability for debts of the business; this liability is only up to their capital contributed. There are t two types of limited companies: private and public. The former is held by 250 owners privately. The latter has unlimited number of owners, and any member of the public can be a part-owner.
A business has numerous transactions which need to be recorded following certain accounting principles and process.
These are called Generally Accepted Accounting Principles, or GAAP. Key GAAPs are 1. 2. 3. 4. 5. 6. Going Concern Concept: This principle assumes that a business will go on, that is, it will continue in the foreseeable future – it has no finite life. We use this principle to project cash flows in the future. Legal Entity: The business is an entity separate from owners; even if it’s a small, one person business running out of home. Therefore the business accounts are taken separate from the owners. Conservatism: Be cautious and conservative while accounting. Recognize income only when it’s definite. Accrual Concept: Income and expense are recognized/recorded when a transaction occurs- not when cash changes hands. Income and expense are recorded irrespective of cash. Matching Concept: The business must match the expenses incurred for a period, to the income earned during that period. Cost Concept: All assets are recorded on the books at purchase price, not market price, with some exceptions.
Income: It refers to revenues/ financial benefits received by the business (not necessarily a cash inflow). Expense: Expense is the costs incurred directly or indirectly to earn income (not necessarily a cash outflow). Asset: Assets are resources with defined financial value owned by the business. Liability: Liability is the financial obligation to pay cash or provide goods and services. Owners’ Equity: It is the same as net worth which refers to funds belonging to the owner/s, currently held by the business.
Accounting Process 1. Transaction: The process starts with a transactions. Any action involving money, such as purchase, sale, loan, deposit is called an transaction. 2. Journal Book: It is a Book of accounts in which transactions are entered on a serial, per day basis. 3. General Ledger: It is a book of accounts where transactions are entered under categories. They are transferred from the journal into the GL. In an automated process, transactions are entered directly into the GL. 4. Trial Balance: It is a process where all debits and credits from the GL are balanced. The total of the debit side must equal the total of the credit side. 5. Financial Statements: Three main financial statements are cash flow statement, Profit & Loss statement & Balance Sheet. They are prepared after the Trial Balancing is done.
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KEY CONCEPTS OF FINANCE A QUALITY E-LEARNING PROGRAM BY WWW. or for reasons such as the one mentioned above – one time promotion/advertising expenses for the launch of a new product. and the contra entry into the other account. Amortization is also used for land. leads to a debit entry in the asset account. recognize which two accounts are affected by the transaction. Next. The main equation for a balance sheet is Asset = Liability + Owners’ Capital/Equity. Proprietary content. How are they cleared? By posting ‘adjustment entries’. a portion of the expense is recorded each year. (FLIP). where every transaction has two entries. the expense is spread over time. Please do not misuse! . The rules for passing Debit and Credit entries are as follows: Assets Increase-> Debit = Liabilities Increase-> Credit + Owners’ Equity Increase->Credit An increase in an asset. it is obvious that: Assets Decrease-> Credit = Liabilities Decrease-> Debit + Owners’ Equity Decrease-> Debit There are 3 steps while passing entries for a transaction: First. whereas the term ‘amortization’ is used when intangible assets are purchased. and when books are closed – that is. purchase of machinery. which clear the suspense account and post the balance to the correct accounts. one time expenses such as building of a plant. post the entry into the debit or credit side of the account. expenses must be matched to the revenues in a period. Suspense accounts are temporary in nature. 2010. one is not sure of their source or where they should go. the result of an increase is the reverse: a credit entry Therefore.COM Transactions are recorded using the ‘Double Entry’ method. apply the above rule for one of them (best is for an asset account). That is. ©Finitiatives Learning India Pvt. furniture. Ltd. The concept of Suspense Accounts Suspense accounts are temporary accounts. computers. or promotion of a new product. They are created to hold amounts which are doubtful in nature – that is.LEARNWITHFLIP. This expense is called Depreciation or Amortization. The term ‘Depreciation’ is used when physical assets are purchased. and final trial balance etc is being prepared – suspense accounts should be cleared. Third. One is called a Debit (Dr) entry and the other a Credit (Cr) entry. on the other side of the equation. Concept of Depreciation and Amortisation As per the ‘matching principle’. when the accounting period (such as a quarter or a year) is over. Hence for all large.
An increase in assets is a debit entry.LEARNWITHFLIP. cash is debited and Savitha’s saving a/c credited.000 on 1st July. Rahul has taken an educational loan from a bank on 1st January 2010. 15th July – Savitha withdraws money. every month. Therefore. it is debited. 1st July – Savitha is depositing cash.000 on 15th July. An increase in asset is a? That’s right. 15th July & 31st July? Answers: 1. Ltd. Which are the two accounts affected? The bank’s ‘Cash’ account and the interest receivable account. cash is credited and Savitha’s saving a/c is debited. ©Finitiatives Learning India Pvt. this interest amount is not yet received as the bank will receive this interest at the end of 6 months. bank pays INR 30 to her account as interest.COM Exercises 1. Therefore. As always. But. so interest income is one account. Proprietary content. She withdraws INR 15. Savitha’s saving a/c is credited. an asset account. Note that the interest receivable account is a temporary/suspense/adjustment account. Cash. as the suspense account of interest receivable is now cleared by the balancing debit and credit entries. Please do not misuse! . Interest is an expense for the bank. What will be the accounting entries at the end of each month and end of 6 months for this year? 2. They are the bank’s cash account and Savitha’s account with the bank. All income is a credit entry. 2010. has increased. a debit. Hence cash a/c is debited and interest outstanding/receivable is credited. She deposits INR 50. interest outstanding or interest income receivable is the other account. Hence the interest income account is credited and the interest receivable account is debited. End of 6 months: Rahul will pay the interest due. Savitha has a savings account with New Gen Bank. The cash account is an asset account. which are the two accounts affected? The bank is earning interest. first identify the two affected accounts. 2. The net effect is a debit to cash and a credit to interest income. 31st July – The two affected accounts are ‘Interest expense’ account and Savitha’s account. On 31st July. Terms of the agreement are – Interest is to be paid semi annually. Cash is going out. End of each month: First. Repayment of principal starts after 2 years The bank however recognizes interest income internally. (FLIP). Therefore.KEY CONCEPTS OF FINANCE A QUALITY E-LEARNING PROGRAM BY WWW. What are the entries in the bank's books on 1st July.
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