Postgraduate Diploma

in Professional Accounting

Basic Accounting

Lecture 2

Double-entry bookkeeping system

By: Mr. Steve T. W. Lee, CPA

17 January 2020
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Today’s Topic

• What is accounting cycle?

• Record Transactions in Journals
• The accounting equation and the balance sheet
• The double entry system
• Post Journals to Ledger Accounts
• Prepare a Trial Balance
• Prepare Financial Reports
• Close the Ledger

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The Accounting Cycle (Simplified Version)

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 The Accounting Cycle (Simplified Version)
Transactions & Source Documents:

•A business or financial transaction is basically doing

something in the course of business that involves the
exchange of money either immediately or in the future.

•Each transaction is evidenced by a business document that

tells the bookkeeper the amount and type of the transaction
and also serves as proof that the transaction actually took
place. The more common types of documents are invoices,
cheques, receipts, adjustment notes, cash register rolls
(tapes), internal memorandums and bank statements.

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 The Accounting Cycle (Simplified Version)
Record Transactions in Journals:

•A journal is basically a “book of first entry” prepared from

source documents. It records a business’s day-to-day
transactions in chronological order. Journals have the
following functions.

DR XXXX $XXXX
CR XXXX $XXXX

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 The Accounting Cycle (Simplified Version)
Post Journals to Ledger Accounts:
•This involves posting information from the journals to the
individual ledger accounts (usually monthly) using the rules of
DEBIT and CREDIT and “balancing” the accounts. Balancing
accounts refers to the act of either adding increases to or
subtracting decreases from the previous balance in the
account.

Prepare a Trial Balance:

•A trial balance is a list of all ledger accounts and their
balances. If a ledger account has a “debit” balance the
amount is written in one column and if the ledger account has
a “credit” balance the amount is written in another column.
Both columns are totalled and they should be equal.
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 The Accounting Cycle (Simplified Version)
Prepare Financial Reports:
•The Income Statement and Balance Sheet for the particular
accounting period can now be prepared using account
balances in the adjusted trial balance. (This will be covered in
the unit ‘Prepare Financial Reports’)

Close the Ledger:

•This basically involves a series of general journal and ledger
entries to transfer the balances in revenue and expense
accounts at the end of the accounting period to the profit and
loss account.

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Record Transactions in Journals

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Common examples of Assets include the following:

Current Assets
• Bank, Cash on hand / Petty cash
• Prepaid Expense
• Inventory (stock) on hand
• Trade debtors / Trade Receivable

Non Current Assets

• Property, plant and equipment:
- Land & buildings (premises) - Motor vehicles - Office equipment
- Plant & machinery - Fixtures & fittings
• Investments in Shares
• Fixed Deposit
• Intangible assets
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- Goodwill - Trademarks - Patents / Copyrights
Common examples of Liabilities include the following:

Current Liabilities
• Bank Overdraft
• Received in advanced
• Accrued Expenses
• Trade Creditors / Trade Payable

Non Current Liabilities

• Debentures / Loan Notes
• Bank Loan / Bank Mortgage Loan
• Loans from XXX

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Common examples of Equity include the following:

The owner’s equity (or interest) in the business is therefore the assets that are
either contributed by the owner or financed from profits of the business
•Capital
•Profit / Loss for the year
•Drawings

Owner’s equity can be calculated as follows:

Capital (Personal assets contributed by the owner to the business)
Plus: Profit (Revenue earned less expenses incurred)
Less: Drawings (Assets taken out of the business for the owner’s personal use)

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Common examples of Income include the following:

• Cash sales (Income received from the sale of trading stock)

• Credit sales (Income earned from the sale of trading stock)
• Fees Earned (income received or earned from providing a service)
• Interest Income
• Dividend Income
• Rental Income
• Discount received (savings in outflows after paying creditors promptly)

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Common examples of Expenses include the following:

• Cash / Credit purchases of trading stock

• Salary / Wages
• Electricity, gas, insurance, telephone etc.
• Rates
• Repairs and maintenance
• Advertising
• Stationery
• Interest expense
• Bank charges
• Rent expense
• Discount allowed
• Bad debts
• Depreciation of property, plant and equipment
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Record Transactions in Journals

Let’s go to activity 1-2

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The Accounting Equation
Assets = Liabilities + Owners’ Equity

At any point in the life of a business, the value of assets should

always be equal to the value of liabilities plus owner’s equity.
That is, the assets of the business can only be financed from
three areas – the owner’s capital investment (owner’s equity),
profit of the business represented by revenue less expenses
(owner’s equity) and borrowings (liabilities)

Every transaction has two equal and opposite effects on the

balance sheet equation (the duality concept).

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The accounting equation and the balance sheet

•It can be explained by saying that is a business is set up and

starts trading, it needs resources.
•Assuming that it is the owner of the business who has
supplied all of the resources. This can be shown as:

Resources supplied by the owner (Capital) =

Resources in the business (Assets)

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The accounting equation and the balance sheet

•Usually, however, people other than the owner has supplied

some of the assets. Liabilities is the name given to the
amounts owing to those people. Therefore, the accounting
equation has now be changed to:

Resources supplied by the owner (Capital) + Resources

supplied by other people (Liabilities) =
Resources in the business (Assets)

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The accounting equation and the balance sheet

Let’s see some examples

1. When the owner puts money say $50,000 into the

business as capital, the company owns some cash and
owes owner with the same amount.
Bank $50,000 = Capital $50,000

2. If the company borrows a loan $30,000 from a bank to

help starting up of the business. The company now owns
additional funds but also owes the bank for this amount.
Bank $80,000 = Capital $50,000 + Loan $30,000

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The accounting equation and the balance sheet

3. The company now using the available cash to purchase an

office flat for $40,000. The cash in bank is reduced and
replaced by the new asset called property. The balance in
the accounting equation is remained unchanged.
Bank $40,000 + Property $40,000 =
Capital $50,000 + Loan $30,000

4. The company receives service income of $8,000 by

cheque.
Bank $48,000 + Property $40,000 =
Capital $50,000 + Loan $30,000+ Profit $8,000
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The accounting equation and the balance sheet

5. The company earns service income of $5,000 on credit.

Bank $48,000 + Property $40,000+Debtors $5,000 =
Capital $50,000 + Loan $30,000+ Profit $13,000

6. The company pays electricity bill of $500 by cheque.

Bank $47,500 + Property $40,000+Debtors $5,000 =
Capital $50,000 + Loan $30,000+ Profit $12,500

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The accounting equation and the balance sheet

7. The business purchases office furniture on credit for $8,000.

Bank $47,500 + Property $40,000 + Debtors $5,000 +

Furniture $8,000 =
Capital $50,000 + Loan $30,000+ Creditors $8,000 + Profit $12,500

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The accounting equation and the balance sheet

8. The business pays $20,000 off the loan from Bank

Bank $27,500 + Property $40,000 + Debtors $5,000 +

Furniture $8,000 =
Capital $50,000 + Loan $10,000+ Creditors $8,000 + Profit $12,500

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The accounting equation and the
balance sheet
In a summary:

Owns =Owes
Assets = Owner’s capital + Profit
(revenue less expenses)
+ Liabilities
Assets – Liabilities = Owner’s capital + Profit
(revenue less expenses)

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 The Accounting Cycle (Simplified Version)
Record Transactions in Journals:
•A journal is basically a “book of first entry” prepared from
source documents. It records a business’s day-to-day
transactions in chronological order. Journals have the
following functions.
Journal: Type of transaction:

The Cash Receipts Journal: Transactions involving the receipt of cash.

The Cash Payments Journal: Transactions involving the payment of cash.

The Sales Journal: Credit sales of stock.

The Sales Returns Journal: Returns of stock from debtors where the original sale was on credit.

The Purchases Journal: Credit purchases of stock

The Purchase Returns Journal: Returns of stock to creditors where the original purchase was on credit.

The General Journal Records transactions that cannot be recorded in the cash or credit journals 24
Recording Transactions into the General Journal
• At this stage we will see how to record all transactions into
the general journal as this will help reinforce the rules of
‘debit’ and ‘credit’. However, it should be noted that to use
the general journal to record transactions that are repeated
over and over again is time consuming and unnecessary. A
large percentage of transactions for a trading business are
credit sales or purchases of stock and payments or receipts
of cash.

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The Double Entry System --- Journals

Credit sales – When goods are sold on credit at $25,000. The

double entry should be:

Dr. Trade receivables $25,000

Cr. Sales $25,000

When the trade receivables are settled by cheque, the double

entry should be:

Dr. Cash at bank $25,000

Cr. Trade receivables $25,000

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The Double Entry System

In the examples above, every transaction affects two items.

Therefore, we need to show these effects when we first
record each transaction. I.e. When we enter the data relating
to the transaction in the accounting books, we need to ensure
that the items that were affected by the transaction and only
those items, are shown as having changed. This is the
bookkeeping stage of accounting and this system we use is
called double entry system.

Under this double entry system, for each transaction that we

need to record, we will have to made an entry to show an
increase or decrease of one item, and another entry to show an
increase or decrease of another item.
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Posting General Journal to
the Ledger Accounts

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Posting General Journal to the Ledger Accounts

• After the transactions have been recorded into the journal,

the next step is the transfer of the journal entries to the
ledger accounts. This process is referred to as “posting” to
the ledger.

• As mentioned earlier, it is normal to record transactions from

source documents into the journals on a daily basis.
However, posting to ledger accounts is usually carried out
either weekly or monthly.

• The general ledger is a book (or in the case of a

computerised system, a file) containing all of the individual
ledger accounts.
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Format of Ledger Accounts

•Each account should be shown on a separate page in the

general ledger. The double entry system divides each page
into two halves. The left-hand side of each page is called
DEBIT side, while the right-hand side of each page is called the
CREDIT side. The title of each account is written across the
top of the account at the centre. The layout of a page of an
accounts book is as follows:

Title of account written here

DEBIT side CREDIT side

This is commonly referred to as “T-accounts”.

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Format of Ledger Accounts --- T Accounts

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Format of Ledger Accounts

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The Double Entry System

•The double entry rules for bookkeeping are:

Accounts To record Entry in the a/c

Assets An increase DEBIT
A decrease CREDIT
Liabilities An increase CREDIT
A decrease DEBIT
Capital An increase CREDIT
A decrease DEBIT

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The Double Entry System

•Looking at T-accounts, the rules will appear:

Capital
Decrease (-) Increase (+)
Any asset account
Increase (+) Decrease (-)
Any liability account
Decrease (-) Increase (+)
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The Double Entry System

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The Double Entry System

•T-account (ledger account) is a “collecting pot” for all similar

transactions and thus transactions are recorded cumulatively
in T-accounts. If the total of all transactions needs to be found,
we need to add up the debit and credit side transactions of a
T-account and take one away from the other.

•T-account with a debit balance means debit side is bigger

than the credit side.

•When T-account with a credit balance means credit side is

bigger than the debit side.

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Posting General Journal to
the Ledger Accounts

Let’s go to activity 3-4

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Trial Balance

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Trial balance

•If the double entry book-keeping system is correctly

performed, the total of debit balances should equal to the
total of credit balances. A trial balance (TB), which is a listing
of individual ledger account balances, is prepared on a
periodic basis to test for this equality.

•A trial balance is extracted when all the transactions for a

period have been completed prior to the period end
adjustments and the preparation of the balance sheet and
income statement.

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Trial balance

•A TB is a 2-column memorandum listing of the names and

balances of all the ledger accounts. In an accounting context
memorandum means that the listing is not a part of the
double entry book-keeping system.

•In the TB, the debit balances are listed in the left-hand
column and the credit balances are listed in the right-hand
column. The two columns are totaled to prove the equality of
the debit and credit balances.

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Prepare Financial Statements

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Format of Income Statement

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Format of Statement of Financial Position

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Prepare Financial Statements

Let’s go to activity 5

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Close the Ledger

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Close the Ledger

This basically involves a series of general journal and ledger

entries to transfer the balances in revenue and expense
accounts at the end of the accounting period to the profit and
loss account.

After this procedure the balance in the profit and loss account
will be the net profit for the period and the balance in the
revenue and expense ledgers will be zero, ready to commence
the next period.

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Close the Ledger

Balancing and close the ledger accounts

The cash account for ABC Limited is as follows:

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Close the Ledger

Balancing and close the ledger accounts

The cash account for ABC Limited is as follows:

a)Sum up the debit totals and credit totals in the cash account. Make a
note of total debit of $72,500 and a total credit of $48,000.
b)Write the greater total, i.e. $72,500 at the bottom of both sides,
leaving one line for the inclusion of a balance carried down
c)Insert on the side that has the smaller total (i.e. credit side) for bal c/d
and the amount should be $24,500, bringing the total of both sides
equal.
d)The amount will extract to the TB as DEBIT balance and will appear
at the debit side in the ledger at the beginning next month.

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Close the Ledger
Balancing and close the ledger accounts

•It is important to note that the balances obtained form the balancing
procedures have different meanings for different types of ledger
accounts.

•Assets, liabilities and equity are permanent accounts. Their balances

at the end of an accounting period are carried forward to the next
accounting period.

•Revenues and expenses account are temporary accounts. Temporary

accounts are used to gather the information for only one accounting
period. Their balances at the end of each accounting period will charge
to income statement according to their original balances (i.e. debit
balances will go to debit side of the TB and credit balances will go to
credit side of TB), which then can be used to determine the net profit for
the period.
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Prepare Financial Statements

Let’s go to activity 6

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