FINANCIAL ACCOUNTING AND REPORTING
CHAPTER 1: THE ACCOUNTING AND
BUSINESS ENVIRONMENT
Accounting: Defined
Accounting has been defined in so many ways:
● Accounting is the art of recording, classifying
and summarizing, in a significant manner, and in
terms of money, transactions and events which
are in part at least of a financial character, and
interpreting the results thereof. (Committee on
Accounting Terminology of the American
Institute of Certified Public Accountants)
● Accounting is the process of identifying,
measuring, and communicating economic
information to permit informed judgment and
decisions by users of the information. (American
Accounting Association )
● Accounting is a service activity. Its function is to
provide quantitative information, primarily
financial in nature, about economic entities that
are intended to be useful in making economic
decisions. (Accounting Standards Council)
Basic Purpose of Accounting
● The basic purpose of accounting is to supply
financial information to users to help them make
informed judgments and better decisions.
● For example, a company is considering
obtaining a loan from the bank in order to
finance the operations of the business.
Relevant to this decision, accounting provides the
following information, among others:
● The resources and obligations of the business
● Interest is paid on the current debt/liabilities of
the business.
● Cash inflows and outflows resulting from
business operations
If management sees that the company has other
resources like a piece of land not used in the business, it
may decide instead to sell the land and use the resulting
cash to finance business operations.
Management also analyzes the existing
debts/liabilities of the business to check if it could still
handle additional debt as a result of borrowing from the
bank. Cash inflows and outflows are analyzed to see
other possible sources of financing or to determine how
the business would repay the bank loan if it ever
materializes.
If the company decides to apply for a loan, the
bank’s loan officer and lending personnel will require the
company to submit financial information which will be
used to determine whether to approve or reject the loan
application.
Accounting - The Language of Business
A language is a means for communicating ideas,
thoughts, and information to others. In information
technology, computer languages allow a programmer to
communicate with machines in order to get the desired
output or result. In the same way, accounting is the
language used to communicate financial information to
interested parties such as business owners,
management, employees, the government, etc. Through
accounting, different users of financial information
understand what is happening in the business
enterprise.
Business: Defined
● A business (also known as enterprise or firm) is
an organization engaged in the trade of goods,
services, or both to consumers. (Wikipedia)
● Generally, businesses are administered to earn
profit to increase the wealth of owners. These
are the profit-oriented types of businesses.
Profit-oriented businesses include food
manufacturers, gas stations, bookstores, among
many others. Some businesses, on the other
hand, are non-profit oriented. A non-profit
organization is an organization that uses surplus
revenues to achieve its goals rather than to
distribute them as profit or dividends. While non-
profit organizations are permitted to generate
surplus revenues, they must be retained by the
organization for its self-preservation, expansion,
or plans. Charitable organizations and some
educational institutions are businesses which
are non-profit oriented.
Our course for this semester will focus on the
accounting used for profit-oriented businesses.
Types of Business Enterprises - According to
Activity
A business enterprise may be classified according to the
nature of their business as either
● a service,
● a merchandising, or
● a manufacturing business.
A. Service Business
A service business offers services and typically
generates a profit by charging a fee.
Examples:
● Educational institutions charge tuition and
miscellaneous fees for educational services
rendered to students.
● Jeepneys, bus lines, airlines, and other
transportation businesses deliver goods and
individuals from one location to another location
generating a profit by collecting fares.
● Agencies collect agency fees from clients in
exchange for security and janitorial services.
● Accountants, doctors, lawyers, architects give
professional advice and earn profit by charging
professional fees.
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The service business is the simplest among the three.
B. Merchandising Business or Trading Concern
A merchandising or a trading business buys
goods and sells them without any alteration made on
their state or condition.
Examples:
● Sari-sari stores,
● bookstores, drugstores, and
● hardware stores are the typical merchandising
businesses.
C. Manufacturing Business
A manufacturing business buys goods called
raw materials, then converts them into finished products.
The manufacturing business is the most
complex because of the conversion of the raw materials
into finished goods.
Example:
● A shoe manufacturing business buys raw
materials (leather, rubber, and supplies such as
thread, glue, laces, and ringlets), uses the skills
of workmen to convert these raw materials into
shoes, and sells the finished shoes to customers
at a price higher than the cost of producing
them.
Legal Forms of Business - Business Ownership
Business enterprises may be organized either as
● a sole proprietorship,
● a partnership, or
● a corporation.
A. Sole Proprietorship
A sole proprietorship has only one owner, the
proprietor. The proprietor may operate on his/her own or
may employ others as business operations expand.
Many successful business undertakings started as sole
proprietorships. A sole proprietorship is the most basic
legal form of business.
Example:
● Mobile phone repair services, gravel-and-sand
enterprises, cottage industries, and other small-
scale businesses are mostly in the form of sole
proprietorships.
A sole proprietorship enjoys several advantages
over other forms of business ownership. It is the easiest
to form. It has less complex business transactions and
has minimal regulatory requirements. With only one
owner, decisions can be made and implemented faster.
Finally, the proprietor enjoys all the profits earned by the
business.
On the other hand, as the volume of business
increases, a proprietor faces financing problems
because of the enterprise’s limited ability to raise capital.
FINANCIAL ACCOUNTING AND REPORTING
The business can only expand in proportion to the
increase in resources contributed by the proprietor; and
when it expands, the expansion usually focuses on
areas within the expertise of the proprietor. In decision-
making, a proprietor does not receive the benefit of a
second opinion. While the proprietor enjoys all profits
earned by the business, he/she alone bears the risks
and losses of the enterprise. Finally, a sole proprietor
has unlimited personal liability for the debts incurred by
the business – his/her personal property may be used to
satisfy the obligations due to creditors of the
proprietorship.
B. Partnership
A partnership is an association of two or more
persons, the partners, who bind themselves to contribute
money, property, or industry to a common fund, with the
intention of dividing the profits among themselves.
Partnerships are governed by the Civil Code of the
Philippines. Partners agree, among other things, on how
the business will be managed, the amount of capital
contributions from each partner, how profits/losses will
be divided among them, and the form and mode of
settlement in case of withdrawal by, or death of, any of
the partners.
A partnership is easier to organize compared to
a corporation. Due to the plurality of owners, the burden
of managing the operations of the business is usually
shared among partners, and more ideas are exchanged
and brainstormed, resulting in better decision-making. A
partnership can raise more capital compared to sole
proprietorships.
On the other hand, the plurality of owners may
result in disagreements regarding ideas and
management style, hampering business operations. The
life of a partnership is fragile – it may be dissolved by
mere agreement, or by the withdrawal of, or the death of,
or incapacity of a partner. Finally, partners have
unlimited personal liability for partnership debts.
Limited liability partnerships do exist, but are not
within the scope of this text.
C. Corporation
A corporation is the most complex form of
business organization. Our Corporation Code defines a
corporation as an artificial being created by law. As
such, the corporation can sue and be sued. A person
who invests and becomes an owner of the corporation is
called a stockholder. For every share purchased, a
stockholder is issued a certificate of stock. A corporation
has standardized procedures for its creation,
organization, management, and liquidation as specified
in the Corporation Code. The management of the
operations of the corporation is centralized in the
corporation’s board of directors.
A corporation has the greatest capacity to raise
capital. The corporation can raise capital by selling
shares of stock to the public as a whole. Stockholders
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may transfer their shares without the need to obtain the
consent of other stockholders. Corporations may exist
for a period not longer than 50 years, subject to renewal.
But the major advantage of corporations over other legal
forms of business is the limited liability of owners (i.e.,
the liability of the stockholders to the corporation’s
creditors is limited only to the amount of the
stockholder’s investments in the corporation). If a
corporation goes bankrupt, creditors cannot go after the
personal assets of the stockholders.
The cost of forming and managing a corporation
is relatively high compared to partnerships and sole
proprietorships. Corporations are subject to greater
scrutiny, regulation, control, and supervision by the
government. Management of corporations is more
complex than partnerships and sole proprietorships.
While corporations can raise large amounts of capital, it
has limited powers, as expressly stated in the
Corporation Code of the Philippines and its own Articles
of Incorporation. Finally, corporations are subject to a
higher income tax rate.
Sole Proprietorships and Partnerships
Advantages Disadvantages
- Ease of Formation - Difficult to raise capital
- Subject to a few - Unlimited Liability
Regulations - Limited Life
- No corporate income
taxes
Corporation
Advantages Disadvantages
- Unlimited life - Double taxation
- Easy transfer of - Cost of set-up and
ownership report filing
- Limited liability
- Ease of raising capital
Activities of the Different Forms of Business
Economic Decisions
One important assumption in decision making is
the existence of reliable information. A significant
number of this comes from accounting information.
Management makes decisions as to the proper selling
price goods should be sold and management needs,
among many others, the total cost of these goods and
the selling prices of competitors. Management must
decide when to place an order for goods to be acquired.
For them to do so they need to know the lead time, from
the time of placing an order to the time of the goods are
FINANCIAL ACCOUNTING AND REPORTING
delivered; they likewise need to know the balance of the
goods still on hand and the number of goods expected to
be sold during the lead time, among many others.
Making the right decisions requires great skill,
timing, sound professional judgment, and the use of
reliable financial information.
Financial Information
The decision-making process requires financial
and non-financial information as well. Financial
information is basically a summary of all the transactions
of the business over a period of time. Transactions of the
business are recorded and summarized by bookkeepers
or accountants. Thus, the most important financial
information comes from accounting. Accounting may,
therefore, be viewed as a service function to
management. It basically processes raw data and
converts them into meaningful information that will be
useful for decision-making.
Accounting — An Information Process
Users of Accounting Information/Financial
Statements
I. Financial Accounting - External Users
● Investors
● Creditors
● Regulators
● Customers
● Competitors
II. Managerial Accounting - Internal Users
● Employees (those who are part of the
administrative process)
● Owners
● Managers
Users of Financial Statements
The users of financial statements (and their information
needs) are presented below:
● Investors. The “providers of risk capital”.
Investors and their advisers are concerned with
the risk inherent in and return provided by their
investments. They need the information to help
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them determine whether they should buy, hold,
or sell their investments. In the case of
corporations, shareholders are also interested in
information, which enables them to assess the
ability of the enterprise to pay dividends.
● Owners. Owners need financial information to
determine if the business is profitable and
whether to continue, improve, or drop it.
● Employees. Employees and their
representative groups are interested in
information about the stability and profitability of
their employers. They are also interested in
information which enables them to assess the
ability of the enterprise to provide remuneration,
retirement benefits, and employment
opportunities.
● Lenders/Creditors. These users are interested
in information that enables them to determine
whether their loans and the interest attaching to
them, will be paid when due.
● Suppliers and other trade creditors. These
users are interested in information that enables
them to determine whether amounts owing to
them will be paid when due. Trade creditors are
likely to be interested in an enterprise over a
shorter period than lenders unless they are
dependent upon the continuation of the
enterprise as a major customer.
● Customers. These users have an interest in
information about the continuance of an
enterprise especially when they have a long-
term involvement with, or are dependent on, the
enterprise.
● Government and their agencies/ Regulators.
These users are interested in the allocation of
resources and, therefore, the activities of
enterprises. They also require information in
order to regulate the activities of enterprises,
determine taxation policies, and as the basis for
national income and similar statistics.
● The public. Enterprises affect members of the
public in a variety of ways. For example,
enterprises may make a substantial contribution
to the local economy in many ways including the
number of people they employ and their
patronage of local suppliers. Financial
statements may assist the public by providing
information about the trends and developments
in the prosperity of the enterprise and the range
of its activities
The Accountancy Profession
While accounting as an information system is
not a new concept, accountancy as a profession is
relatively new. In recent years, it has attained a status
equivalent to that of law, medicine, and engineering.
Accounting is a profession because it has the attributes
required of a profession, as shown below:
● Mastery of a particular intellectual skill,
acquired by training and education.
Accounting requires a person to finish a degree
in Bachelor of Science in Accountancy and to
FINANCIAL ACCOUNTING AND REPORTING
pass a very rigorous government examination
administered by the Professional Regulatory
Board of Accountancy. Only then can he/she
use the title “Certified Public Accountant” (CPA).
● Adherence by its members to a common
code of values and conduct established by
its administrating body, including
maintaining an outlook which is essentially
objective. The Code of Ethics is mandatory for
all CPAs. It provides guidance for CPAs
whenever they encounter “what is the right thing
to do” situations.
● Acceptance of a duty to society as a whole
(usually in return for restrictions in the use
of a title or in the granting of a qualification).
Investors, creditors, employers, and other
sectors of the business community, as well as
the government and the public at large, rely on
CPAs for sound financial accounting and
reporting, effective financial management and
competent advice on a variety of business and
taxation matters.
The Philippine Act of 2004
● The accountancy profession is governed by law.
Republic Act No. 9298, the Philippine
Accountancy Act of 2004, was signed into law
with the following objectives:
● The standardization and regulation of
accounting education;
● The examination for registration of certified
public accountants;
● The supervision, control, and regulation of the
practice of accountancy in the Philippines
● Article II of the Republic Act No. 9298 creates
the Professional Regulatory Board of
Accountancy, the agency tasked to enforce the
provisions of the Philippine Accountancy Act. It
is also granted the right to issue, suspend,
revoke, or reinstate CPA certificates for the
practice of the profession. The Board is
composed of a chairman and six (6) members,
all of whom are appointed by the President of
the Republic of the Philippines.
The CPA Board Exams
● Passing the CPA Board Exams is a requirement
in order to join the accountancy profession. Any
person applying for examination shall establish
the following requisites to the satisfaction of the
Board that he/she:
● is a Filipino citizen;
● is of good moral character;
● is a holder of the degree of Bachelor of Science
in Accountancy conferred by a school, college,
academy or institute duly recognized and/or
accredited by the CHED or other authorized
government offices; and
● Has not been convicted of any criminal offense
involving moral turpitude.
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● The licensure examination for certified public
accountants shall cover, but are not limited to,
the following subjects:
○ Management Services
○ Regulatory Framework for Business
Transactions (RFBT)
○ Auditing
○ Financial Accounting and Reporting
(FAR)
○ Advance Financial Accounting and
Reporting (AFAR)
○ Taxation
● To be qualified as having passed the licensure
examination for accountants, a candidate must
obtain a general average of seventy-five percent
(75%), with no grades lower than sixty-five
percent (65%) in any given subject.
● In the event a candidate obtains the rating of
seventy-five percent (75%) and above in at least
a majority of subjects as provided for in this Act,
he/she shall receive a conditional credit for the
subjects passed. Such candidate shall take an
examination in the remaining subjects within two
years from the preceding examination, and if the
candidate fails to obtain at least a general
average of seventy-five percent (75%) and a
rating of at least sixty-five percent (65%) in each
of the subjects reexamined, he/she shall be
considered as failed in the entire examination.
● Candidates who fail two (2) complete
examinations shall be disqualified from taking
another set of examinations unless he/she
submits evidence to the satisfaction of the Board
that he/she enrolled in and completed at least
twenty-four (24) units of the subject given in the
licensure examination.
Sectors of Accounting Practice
CPAs generally practice their profession in four sectors:
● public practice,
● commerce and industry,
● education or the academe, and the
● government.
In each sector, the CPA uses specialized accounting
knowledge or principles that cater to the users in that
sector/field.
A. Public Practice
This sector includes individual practitioners,
small accounting firms, medium-sized and multinational
accounting firms that render independent professional
accounting services to the public. CPAs charge
professional fees for these services. Examples of
services provided by CPAs are:
● Auditing – this is the most common service
being provided by CPAs. It involves the
independent examination of financial statements
for the purpose of expressing an opinion on the
fairness of these statements. Users of audited
financial statements have reasonable assurance
FINANCIAL ACCOUNTING AND REPORTING
that the information they are using is free from
material misstatements due to fraud or error.
● Tax services – this includes the preparation of
tax returns for various clients, provision of
advice on tax matters, and representation of
clients in tax cases. CPAs have a reputation for
being experts in accounting and taxation.
● Management consulting services – involves
providing advisory/ consulting services to clients
on matters of accounting, finance, business
policies, organization procedures, budgeting,
product costing, and the conduct of operations.
B. Commerce and Industry
Accountants are employed in various positions, such as:
● vice-presidents for finance,
● chief accountant (controller),
● cost accountant,
● internal auditor, or
● budget officer.
The highest accounting officer in a business
organization is known as the controller (or comptroller).
Accountants in commerce and industry (or
private accountants) assist management in planning and
controlling a company’s operations.
C. Education
● This area employs accountants as professors,
reviewers, or researchers.
● They take steps to clarify and address emerging
accounting issues encountered by accountants
in other sectors.
● They share the results of discussion and
research with colleagues in other sectors.
● Educators also prepare aspiring CPAs for the
Licensure Examinations.
D. Government
● Accountants may be hired as
● staff,
● auditor,
● budget officer, or
● consultant in government units like the
○ Commission on Audit,
○ Bureau of Internal Revenue,
○ Department of Finance,
○ Department of Budget and
Management, and the
○ Securities and Exchange Commission.
Accounting and Bookkeeping Distinguished
Most people confuse accounting with
bookkeeping and vice-versa. Bookkeeping is the
procedural or mechanical aspect of accounting. It
involves the set-up, update, and maintenance of
accounting records.
Accounting is conceptual and goes beyond
bookkeeping. Accounting includes the interpretation of
information recorded under bookkeeping. Bookkeeping
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may be done even by properly trained non-accountants,
while the practice of accountancy can only be done by
certified public accountants.
Brief History of Accounting
Accounting traces its roots to the Middle East
region, whereas early as 8500 BC, tradesmen use clay
objects to represent commodities such as flocks of
sheep, jars of spices and oil, bolts of clothing, and other
goods. Some archaeologists later unearthed clay tablets
marred with symbols and other writings – and interpreted
them to mean records of goods sold and other statistics
kept at that time.
The ancient civilizations of Babylon, Greece,
and Egypt also used clay tablets (in later years, papyri
were used as the medium for record-keeping). These
records document wage payments, material requisitions,
and costs of labor, which only show that accounting is
already in use even during Biblical times.
In the 13th to 15th centuries, with the growth of
trade and commerce, more systematic record-keeping
methods were developed. Florentine, Venetian, and
Genoan merchants used these methods to keep track of
their business. Double-entry records first appeared in
Genoa in 1340 AD.
Luca Pacioli and the Summa
In 1494, Friar Luca Pacioli wrote a book that
contains discussions on the double-entry bookkeeping
system. The book was entitled Summa de Arithmetica,
Geometria, Proportioni et Proportionalita (Everything
about Arithmetic, Geometry,
Proportions, and Proportionality), a
summary of the existing
mathematical knowledge at the time.
Because of the Summa, Friar Pacioli
was considered the Father of
Double-Entry Bookkeeping.
Luca Pacioli,
The Developer of
Double-Entry Accounting
The Industrial Revolution
In the mid-18th to the mid-19th century, the
Industrial Revolution altered the way goods are
produced: from the artisan/craftsman method to the
assembly-line method. Large volumes of commodities
were produced in factories and commerce boomed.
With this development came the problem of accounting
for the costs involved in assembly-line manufacturing,
particularly overhead costs. Cost accounting, the
specialized field of accounting which deals with the
allocation of costs to products, was developed to
address this problem.
The corporate form of business organization
was created to accommodate the need for increasingly
large amounts of funds which are required to finance the
expansion of business during this period. The funds
FINANCIAL ACCOUNTING AND REPORTING
accumulated were used mainly to acquire machinery,
build factories, and streamline manufacturing methods
and processes.
With the birth of corporations, a business can
have many owners. The owners are gradually separated
from business operations, and other people are hired to
manage the enterprise. Because of this, there was a
need for those who manage the business to periodically
account for the performance of the corporation.
Between management and the shareholders, a
potential conflict of interest exists – management may be
too optimistic in the way they report the financial
condition and results of operations of the business;
owners, on the other hand, want a true and fair view of
the status of the business. This conflict of interest led to
the demand for financial statement audits.
Fields of Accounting
More complex accounting policies and
procedures were developed to suit the changing needs
of users of financial information. Standards were
developed to promote uniformity in the selection and
application of accounting policies and procedures. As
illustrated below, different fields of accounting emerged,
each one addressing a different particular need:
● Financial accounting focuses on the
preparation and presentation of general-purpose
financial statements with the aim of meeting
most of the needs of external users. Financial
accounting is the focus of this textbook.
● Management accounting is concerned
primarily with financial reporting for internal
users, such as management. These users have
control over the accounting system and can
specify precisely the type of reports needed for
use in decision-making.
● Cost accounting measures a business’s costs
to help management in controlling expenses.
Cost accounting records guide managers in
setting prices for their products and services to
achieve greater profits.
● Tax accounting has two aims: compliance with
the tax laws and minimizing the company’s tax
bill through legal means. Accountants provide
tax planning and tax consultancy services, such
as giving advice to clients on what type of
investments to make and on how to structure
business transactions.
Tax evasion is the use of illegal means to avoid
paying your taxes.
Tax avoidance- legal
● Government accounting encompasses the
process of analyzing, classifying, summarizing,
and communicating all transactions involving the
receipt and disposition of government funds and
property and interpreting the results thereof. In
other words, the focus of government
accounting is the proper custody, disposition,
and accounting for public funds.
● Accounting and Information Technology
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 FINANCIAL ACCOUNTING AND REPORTING

○ The advent of Information Technology

(I.T.) revolutionized accounting and
gave it a big boost in terms of efficiency
and timeliness. Accounting procedures
that used to be time-consuming can now
be performed with speed and accuracy
by computers. Accounting applications
have been written to suit different kinds
of business organizations. It is
comforting to note that computers can
take over most of the clerical aspects of
accounting, but they can never replace
the professional judgment of an
accountant.
● Accounting is a dynamic profession. It
continues to grow and serve the needs of users
of financial information. The CPA is one of the
most sought-after professionals in the business
world today. While other courses come and go
in terms of world demand, CPAs and accounting
are here to stay. Pacioli would have been
proud.

CHAPTER SUMMARY
● Accounting is an information system that
provides quantitative information for use by
decision-makers.
● Accounting is the process of identifying,
measuring, and communicating economic
information to permit informed judgment and
decisions by users of the information.
● The basic purpose of accounting is to supply
financial information to users of the information
to help them make informed judgments and
better (economic) decisions.
● Accounting is the language used to
communicate financial information to interested
parties such as business owners, management,
employees, the government, etc. Bookkeeping
is the procedural or mechanical aspect of
accounting. Accounting is broader compared to
bookkeeping.
● Businesses aim to earn income or profit by
providing services or selling goods.
● Businesses may be classified according to their
nature of operations as either service
businesses, merchandising businesses, or
manufacturing businesses.
● Businesses may be classified according to legal
form or ownership as either sole proprietorships,
partnerships, or corporations.
● Accounting is a profession mainly because of
three attributes: mastery of a particular
intellectual skill; adoption of a common code of
values or conduct; and acceptance of a duty or
responsibility to society.
● CPAs generally practice their profession in four
sectors: public practice, commerce and
industry, education or academe, and the
government.

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 FINANCIAL ACCOUNTING AND REPORTING

CHAPTER 2: FINANCIAL ACCOUNTING The FRSC, pursuant to its task, issues

accounting standards called Philippine Financial
AND REPORTING OVERVIEW Reporting Standards (PFRS). PFRS constitutes the
generally accepted accounting standards observed in
Generally Accepted Accounting Principles the Philippines.
As discussed in Chapter 1, accounting is considered to
be “the language of business”. A language has basic PFRS include the following:
concepts or underlying principles to follow for its proper ● Philippine Accounting Standards (PAS)
use. ● Philippine Financial Reporting Standards
● For example, the English language has a set of (PFRS)
principles governing proper spelling, ● Philippine Interpretations developed by the
pronunciation, and sentence construction. Philippine Interpretations Committee
Programming languages follow rules on logic
and syntax. Likewise, Accounting follows The Accounting Framework
certain rules or principles known as generally The Framework for the Preparation and
accepted accounting principles (GAAP). Presentation of Financial Statements (hereinafter called
● GAAP comprises the conventions, rules, the “Framework”) sets out the concepts that underlie the
processes, principles, standards, and underlying preparation and presentation of financial statements for
assumptions that are used in preparing financial external users.
statements.
● Members of the accounting profession have Purposes of the Framework
agreed on these principles and accepted them The purposes of the framework are to:
on the basis of experience, reason, custom, ● Assist the FRSC in developing accounting
usage, and practical necessity. Although the standards that represent GAAP in the
term “principles” is used, GAAP is not rigid or Philippines.
unchanging – accounting principles continue ● Assist the FRSC in its review and adoption of
to evolve as a response to the changes in the existing International Financial Reporting
financial information needs of business Standards.
stakeholders. ● Assist prepares for financial statements in
applying FRSC Philippine Financial Reporting
Financial Reporting Standards Council (FRSC) Standards and in dealing with topics that have
The Financial Reporting Standards Council yet to form the subject of an FRSC Statement.
(FRSC) is the official accounting standard-setting body ● Assist auditors in forming an opinion as to
in the Philippines. Upon the recommendation of the whether financial statements conform with
Board of Accountancy, the Professional Regulation Philippine GAAP.
Commission created the FRSC. The primary task of ● Assists users of financial statements in
FRSC is to improve and establish accounting standards interpreting the information contained in financial
that will be generally accepted in the Philippines. statements prepared in conformity with
Philippine GAAP; and
The FRSC has a Chairman and 14 representatives ● Provide those who are interested in the work of
coming from the following: the FRSC with information about its approach to
● Bangko Sentral ng Pilipinas 1 the formulation of Philippine Financial Reporting
● Board of Accountancy 1 Standards.
● Bureau of Internal Revenue 1
● Commission on Audit 1 Is the Framework part of the Accounting Standards?
● Major organization of preparers and users of The Framework is not a Philippine Financial
financial statements 1 Reporting Standard (PFRS) and hence does not define
● Securities and Exchange Commission 1 standards for any particular measurement or disclosure
● The accredited national professional issue. In case of conflict, the requirements of the PFRS
organization of CPAs in: shall prevail over those of the Framework.
○ Commerce and Industry 2
○ Public Practice 2 Scope of the Framework
○ Academe or Education 2 The Framework deals with the following matters:
○ Government 2 ● The objective of financial statements
14 ● Underlying assumptions in the preparation of
financial statements
The Chairman and the members of the FRSC ● Qualitative characteristics that determine the
serve a term of three years renewable for another term. usefulness of the information in financial
statements
● Definition, recognition, and measurement of the
Philippine Financial Reporting Standards elements of the financial statements
● Concepts of capital and capital maintenance.

8

● All of the above matters are discussed within
this Chapter, with the exception of concepts of
capital and capital maintenance; this topic is
covered by intermediate accounting courses.
Basic Accounting Concepts
Accounting calls for a scientific approach toward
the recording of innumerable business transactions.
There are various accounting conventions, principles,
and concepts that are meant to serve as guidelines to
the whole process of accounting of a business entity.
The following are basic concepts which form the basis
for proper accounting:
● Business entity principle
● Dual-effect of business transactions
● Matching principle
● Accrual Basis
● Periodicity (Time Period Concept)
● Going Concern (Continuity Assumption)
This concept states that the business is
considered from the owner(S) of the business. The
personal transactions of owners are not included in the
records of the business. The business is considered a
separate accounting entity. An accounting entity is an
organization (or a section or division of an organization)
that is accounted for as a separate economic unit. Clear-
cut distinctions are made between entities so as not to
confuse its affairs with those of the owner or those of
other entities.
A. Business Entity Principle
This concept states that the business is
considered distinct and separate from the owner(s) of
the business. The personal transactions of owners are
not included in the records of the business. The
business is considered a separate accounting entity.
An accounting entity is an organization (or a
section or division of an organization) that is accounted
for as a separate economic unit. Clear-cut distinctions
are made between entities so as not to confuse its
affairs with those of the owner or those of other entities.
B. Dual-Effect of Business Transactions
The resources controlled by a business are
referred to as its assets. For a new business, these
assets originate from two possible sources:
● Owners
● Creditors who extend loans to the business
Those who contribute assets to a business have
legal claims on those assets. Since total assets of the
business are equal to the sum of the assets contributed
by owners and the assets contributed by creditors, the
following relationship holds and is referred to as the
accounting equation:
ASSETS = LIABILITIES + EQUITY
C. Matching Principle
FINANCIAL ACCOUNTING AND REPORTING
Under the matching principle, profit or loss is
computed by deducting the expenses incurred from the
income earned during an accounting period. This means
that the income recorded and reported in one accounting
period should be matched against the expenses that
directly or indirectly contributed to the generation of the
income.
D. Accrual Basis
Under the accrual basis, income is recognized
when it is earned, regardless of when cash is received.
Expenses are recognized when incurred, regardless of
when cash is paid.
E. Periodicity (Time Period Concept)
To make effective economic decisions, timely
financial information must be made available to decision-
makers. The periodicity concept assumes that the
operating life of an enterprise may be conveniently
divided into time periods of equal length (such as one
year), called accounting periods. This allows accounting
to provide information on a timely basis and makes it
possible for users of financial statements to assess the
condition and performance of the business across time
periods (for example, comparing the amount of net
income this year to last year).
F. Going Concern (Continuity Assumption)
The financial statements are normally prepared
on the assumption that an enterprise is a going concern
and will continue in operation for the foreseeable future.
It is assumed that the enterprise has neither the intention
nor the need to liquidate or curtail materially the scale of
its operations.
G. Cash Basis of Accounting
Another method used in accounting for business
transactions is the cash basis of accounting. Under this
method, income is recognized when cash is received,
and expenses are recognized when cash is paid.
F. Stable Monetary Unit
Accounting provides information which is
primarily financial in nature - it is concerned with
information which can be quantified and expressed in
terms of money. For a business transaction to be
included in the accounting records and financial
statements of the enterprise, it must be expressed in
terms of a uniform means of measurement. In the
Philippines, the monetary unit is the Philippinepeso. For
multinational companies, financial statements distributed
worldwide are usually expressed in U.S. dollars. This
text presents and records transactions using the
Philippine peso.
The amount of cash received or the amount of cash paid
becomes the usual basis for recording a businesS
transaction involving cash. Transactions which do not
involve cash are assigned values according to
acceptable bases for measurement.
9

Accounting also assumes that the peso is not materially
affected by inflation. Because of this assumption, peso
values already recorded in the financial records of an
enterprise are not normally revised to consider changes
in the purchasing power of the peso.
Cash Basis VS Accrual Basis
To differentiate the accrual basis from the cash basis of
accounting, assume the following transactions:
● On January 2, 2012, Flowers Galore received an
order for flowers to be delivered to ABC
Company on January 10. The delivery of the
flowers was made on January 10. The
collection of the P5,000 was made on January
15.
● Under the accrual basis, Flowers Galore
recognizes income at the date of delivery, which
is January 10. But under the cash basis, Flowers
Galore recognizes income upon receipt of cash,
which is January 15.
● On January 2, 2012, Flowers Galore received a
billing statement for P6,500 from the Meralco
Electric Company for the electricity charges of
December 2011. The company paid the bill on
January 5, 2012.
● Under the accrual basis, Flowers Galore
recognizes Expense will be recognized in/on:
○ Accrual basis – December 2011
○ Cash basis – January 5, 2012
● On December 27, 2011, Flowers Galore had its
transportation vehicle insured, paying P12,000
as insurance premium covering one year (from
January 1 to December 31, 2012).
● The expense will be recognized in/on:
○ Accrual basis – January to December
2012
Financial Statements
As discussed, the basic purpose of accounting is
to provide quantitative financial information about a
business that is useful to users in making economic
decisions. Accountants/bookkeepers accumulate
financial information through the preparation of financial
statements. These financial statements are the means
by which the information accumulated and processed in
financial accounting is communicated to users on a
timely basis.
Financial statements are the means by which
the information accumulated in and processed by
financial accounting is communicated to users on a
periodic basis. Financial statements are the end-product
of the financial accounting process.
A complete set of financial statements includes
the following:
● Statement of financial position or balance sheet
● Statement of comprehensive income
● Statement of changes in equity
● Statement of cash flows
● Notes to the financial statements.
FINANCIAL ACCOUNTING AND REPORTING
The Elements of the Financial Statements
Financial statements portray the financial effects
of transactions and other events by grouping them into
broad classes according to their economic
characteristics. These broad classes are termed the
elements of financial statements.
The elements directly related to the measurement of
financial position are
● assets,
● liabilities and
● equity.
The elements directly related to the measurement of
performance are
● Revenue/income and
● expenses.
The statement of changes in equity and the statement of
cash flows usually reflect a combination of all these
elements. :
● assets,
● liabilities
● equity.
● Revenue/income and
● expenses.
Elements Pertaining to Financial Position
The elements of financial position are:
● assets,
● liabilities and
● equity.
Assets
An asset is a resource owned and/or controlled
by the enterprise. An asset is expected to provide future
economic benefits to the enterprise (that is, it is
expected to continue to be useful to the enterprise).
Some characteristics of assets are:
● Assets are resources owned and/or controlled
by the enterprise.
● Assets are acquired by an enterprise as a result
of a past transaction or event.
● The enterprise should have the capacity to
restrict or prevent other entities from enjoying
the economic benefits arising from the use of the
resource or item.
Examples of Assets:
● Cash – money on hand, or in banks, and other
items considered as a medium of exchange in
business transactions.
● Accounts receivable – valid claims from
customers or clients arising from the provision of
services or delivery of goods in the ordinary
course of business, where the price for these
services or goods have not yet been paid (on
account or on credit).
● Supplies on hand – refers to supplies
purchased by an enterprise (for example, bond
paper, envelopes, printer cartridges, pencils,
10

paper clips, etc.) which are unused as of the
reporting date.
● Merchandise inventory – goods that have
been bought from suppliers for resale to
customers at a price higher than cost.
● Property, plant, and equipment – long-lived
assets that have been acquired for use in
operations. Land, building, machinery, furniture,
fixtures, equipment, transportation, or delivery
vehicles are examples of property, plant, and
equipment.
Liabilities
A liability is a present obligation of the enterprise
arising from past events, which are to be settled in the
future. In layman’s terms, liabilities refer to the debts of
the business. Liabilities are settled thru paying cash, the
delivery of goods, the provision of services, or settled in
some other form. When a company purchases
merchandise inventory on account or on credit, it incurs
a liability to the supplier of the inventory. When a
company borrows money from the bank, the borrowing
transaction creates a liability in favor of the bank. Some
characteristics of liabilities are:
● A liability is a present obligation arising out of a
past event. Examples of events are a purchase
transaction or a borrowing transaction.
● Liability is required to be settled in the future.
Examples of Liabilities:
● Accounts payable – amounts due, or payable
to, suppliers for goods purchased on account or
for services received on account.
● Salaries payable – salaries due to employees
which are unpaid as of reporting date.
● Utilities payable – amounts due, or payable to,
utility companies for electricity, heat, light and
water charges.
● Advances from customers – amounts received
from customers, in advance, for the delivery of
goods or provision of services.
● Loans payable – obligations of an enterprise to
lenders (such as banks and finance companies)
to be paid on demand or at a specified future
date agreed between the enterprise and the
lender.
Equity
Equity means a claim. Technically, creditors
and owners both have claims on the assets of the
enterprise. The claim of creditors is known as creditors’
equity or simply, liabilities. The claim of owners is known
as owner’s equity or simply, equity (sometimes it is also
known as capital). In accounting parlance, when the
word equity is used, it refers to the owner’s equity.
Equity is the residual interest in the assets of the
enterprise after deducting all its liabilities. Equity (or
partners’ equity, in the case of partnerships, or
shareholders’ equity, in the case of corporations) refers
to the claim of the owner(s) of the enterprise to the
FINANCIAL ACCOUNTING AND REPORTING
assets of the business after all the claims of creditors
have been settled or paid.
Equity arises from the original investment by an
owner (proprietor, partner, or shareholder) into the
business. Equity is increased by additional investments
by the owner(s), and by profit earned during a period.
On the other hand, losses and withdrawals by the
owner(s) decrease equity.
Elements Pertaining to Performance or Profitability
The elements of performance or profitability are:
● income and
● expenses.
Income
Income refers to increases in economic benefits
during the accounting period in the form of inflows or
enhancements of assets or decreases of liabilities that
result in an increase in equity, other than those relating
to contributions from equity participants. The definition of
income encompasses both revenue and gains.
Revenue arises in the course of the ordinary
activities of an enterprise and is referred to by a variety
of different names including sales, fees, interest,
dividends, royalties, and rent.
Examples of business transactions that give rise to
revenues are:
● A dentist earns fees for providing dental care to
clients.
● Repair services are rendered for customers,
either for cash or on credit.
● Electric appliances are sold to a customer, either
for cash or on credit.
● A professor renders teaching services during a
regular semester at the university.
● A barber has provided haircutting services in
exchange for cash.
Gain represents other items that meet the definition of
income and may, or may not, arise in the course of the
ordinary activities of an enterprise. Examples of
transactions resulting in gains are:
● Land owned by a plastics manufacturer is sold
at a price higher than its acquisition cost.
● Sale of a company’s transportation vehicle for a
price higher than the recorded value (carrying
value or book value) of the vehicle in the
company’s accounting records.
Expenses
Expenses refer to decreases in economic
benefits during the accounting period in the form of
outflows or depletions of assets or incidences of
liabilities that result in decreases in equity, other than
those relating to distributions to equity participants.
The definition of expenses encompasses losses
as well as those expenses that arise in the course of the
ordinary activities of the enterprise.
11

Examples of expenses that arise in the ordinary course
of business are:
● Salaries and other employee benefits paid to
employees
● Rent expense
● Expenses for electricity, water, and other utilities
● Cost of used supplies
● Taxes, business permits, and licenses paid
● Professional fees paid to the company’s lawyer
and accountant
● Commissions paid to company salespersons
● Advertising and promotion expenses
Losses represent other items that meet the definition of
expenses and may, or may not, arise in the course of the
ordinary activities of the enterprise. Examples of
transactions and events that give rise to losses are:
● Land is sold at a price lower than acquisition
cost.
● Natural disasters (earthquake, flood) cause
damage to the company’s building, machinery,
and equipment.
● The company’s inventory was destroyed by fire
due to faulty electrical wiring.
● The determination of whether a transaction is
classified as an expense or as a loss depends
on the nature of the transaction and the nature
of the company.
Recognition of the Elements of the Financial
Statements
Recognition is the process of incorporating in
the statement of financial position or statement of
comprehensive income an item that meets the definition
of an element and satisfies the criteria for recognition.
Criteria for Recognition
An item that meets the definition of an element should
be recognized if:
● It is probable that any future economic benefit
associated with the item will flow to or from the
enterprise; and
● The item has a cost or value that can be
measured with reliability.
● Following these two main criteria, we can
summarize the recognition principles for each
element, as follows:
● An asset is recognized in the statement of
financial position when it is probable that the
future economic benefits will flow to the
enterprise and the asset has a cost or value that
can be measured reliably.
● A liability is recognized in the statement of
financial position when it is probable that an
outflow of resources embodying economic
benefits will result from the settlement of a
present obligation and the amount at which the
settlement will take place can be measured
reliably.
● Income is recognized in the statement of
comprehensive income when an increase in
FINANCIAL ACCOUNTING AND REPORTING
future economic benefits related to an increase
in an asset or a decrease of a liability has arisen
that can be measured reliably.
● Expenses are recognized in the statement of
comprehensive income when a decrease in
future economic benefits related to a decrease
in an asset or an increase of a liability has arisen
that can be measured reliably.
Measurement of the Elements of the Financial
Statements
Measurement is the process of determining the
monetary amounts at which the elements of the financial
statements are to be recognized and carried in the
financial statements. This involves the selection of the
particular basis of measurement. Measurement bases
include the following: historical cost, current cost,
realizable or settlement value, and present value.
Historical cost. Assets are recorded at the
amount of cash or cash equivalents paid or the
fair value of the consideration given to acquire
them at the time of their acquisition. Liabilities
are provided at the amount of proceeds received
in exchange for the obligation or in some
circumstances (for example, income taxes), at
the amounts of cash or cash equivalents
expected to be paid to satisfy the liability in the
normal course of business. Historical cost is the
most commonly used measurement basis in
accounting because it is deemed as the most
objective basis.
Current cost. Assets are carried at the amount
of cash or cash equivalents they would have to
be paid if the same or an equivalent asset was
acquired currently. Liabilities are carried at the
undiscounted amount of cash or cash
equivalents that would be required to settle the
obligation currently.
Realizable (settlement) value. Assets are
carried at the amount of cash or cash equivalent
that could currently be obtained by selling the
asset in an orderly disposal. Liabilities are
carried at their settlement values; that is the
undiscounted amounts of cash or cash
equivalents expected to be paid to satisfy the
liabilities in the normal course of business.
Users of Financial Statements
The users of financial statements (and their information
needs) are presented below:
● Investors. The “providers of risk capital”.
Investors and their advisers are concerned with
the risk inherent in and return provided by their
investments. They need the information to help
them determine whether they should buy, hold,
or sell their investments. In the case of
corporations, shareholders are also interested in
information, which enables them to assess the
ability of the enterprise to pay dividends.
12
 FINANCIAL ACCOUNTING AND REPORTING

● Employees. Employees and their Elements Assets Income All Elements

representative groups are interested in
information about the stability and profitability of
their employers. They are also interested in
information that enables them to assess the
ability of the enterprise to provide remuneration,
retirement benefits, and employment
opportunities.
● Lenders. These users are interested in
information that enables them to determine
whether their loans and the interest attaching to
them, will be paid when due.
● Suppliers and other trade creditors. These
users are interested in information that enables
them to determine whether amounts owing to
them will be paid when due. Trade creditors are
likely to be interested in an enterprise over a
shorter period than lenders unless they are
dependent upon the continuation of the
enterprise as a major customer.
● Customers. These users have an interest in
information about the continuance of an
enterprise especially when they have a long-
term involvement with, or are dependent on, the
enterprise.
● Government and their agencies. These users
are interested in the allocation of resources and,
therefore, the activities of enterprises. They also
require information in order to regulate the
activities of enterprises, determine taxation
policies, and as the basis for national income
and similar statistics.
● The public. Enterprises affect members of the
public in a variety of ways. For example,
enterprises may make a substantial contribution
to the local economy in many ways including the
number of people they employ and their
patronage of local suppliers. Financial
statements may assist the public by providing
information about the trends and developments
in the prosperity of the enterprise and the range
of its activities.
Involved Liabilities Expenses
Equity
A. Financial Position
This refers to the condition of a business, in
monetary terms, as of a given date or points in time.
Information about the financial position is primarily
provided in a statement of financial position or balance
sheet. The financial position of an enterprise is affected
by the economic resources it controls, its financial
structure, its liquidity and solvency, and its capacity to
adapt to changes in the environment in which it
operates.
Liquidity? Solvency? Capacity for Adaptation? What do
they mean?
● Liquidity is the availability of cash in the near
future to cover currently maturing liabilities or
obligations.
● Solvency is the availability of cash over the long
term to meet obligations when they fall due.
● Capacity for adaptation is the ability of the
enterprise to use its available cash for
unexpected requirements and investment
opportunities.
A Sample Statement of Financial Position
This statement is unclassified. Classified
statements of the financial position involve more
complex concepts and are discussed in later modules of
this course.

Information Provided by Financial Statements

Financial statements aim to provide information about
the
● financial position,
● financial performance and
● cash flows of an entity
that is useful to a wide range of users in making
economic decisions.

Summary of Information Provided by Financial Statements and

Elements of Financial Statements
Information Financial Performance/ Changes in
Provided Position Profitability Financial
Position

Financial Statement of Statement of Statement of

Statements Financial Position Comprehensive Changes in
(Balance Sheet) Income Equity,
Statement of
Cash Flows

13
 FINANCIAL ACCOUNTING AND REPORTING

B. Financial Performance
Performance or profitability refers to whether a
company is able to generate profit or incur a loss during
a particular accounting period. Information about
performance is primarily provided in a statement of
comprehensive income. The statement of
comprehensive income has two parts
● the profit/loss portion (income statement) and
● the other comprehensive income portion.
General-Purpose Financial Statements
This textbook covers the first part. Other
While all of the information needs of these users
comprehensive income is discussed in intermediate
cannot be met by financial statements, there are needs
accounting courses.
that are common to all users. As investors are providers
of risk capital to the enterprise, the provision of financial
The income statement (also called the statement
statements that meet their needs will also meet most of
of performance, profit/loss statement, or statement of
the needs of other users that financial statements can
earnings) is a useful tool for evaluating management’s
satisfy. Financial statements that meet most of the
stewardship of the resources of the enterprise. It is also
needs of other users are known as general-purpose
useful in assessing the inflow and outflow of cash.
financial statements.
Special-purpose financial statements are
covered by management accounting and auditing
courses. This textbook focuses on general-purpose
financial statements.

Frequency of Preparation of Financial Statements

Financial statements are prepared at least
annually. On the other hand, financial statements for
periods of less than one year may also be prepared –
such as monthly, quarterly, or semi-annually. These
shorter-period financial statements are known as interim
financial statements. Ultimately, the frequency of
preparation of financial statements depends on the
needs of users and the cost-benefit consideration (the
cost of preparing financial statements more frequently
must not exceed the benefits obtained from the use of
these financial statements).

C. Changes in Financial Position Responsibility for Financial Statements

Information concerning changes in the financial The management of an enterprise has the
position of an enterprise is useful in order to assess its primary responsibility for the preparation and
investing, financing, and operating activities during the presentation of the financial statements of the
reporting period. This information provides financial enterprises. Management is also responsible for
statement users with a basis to assess the ability of the selecting and applying the accounting policies and
enterprise to generate cash and cash equivalents and principles which are appropriate for the company.
the needs of the enterprise to utilize those cash flows.
Underlying Assumption in the Preparation of
The statement of changes in equity shows the Financial Statements
balance of the owner’s investment in the business at the Underlying assumptions refer to concepts that
beginning of the accounting period, additional are assumed to have been applied in preparing financial
investments made by the owner, withdrawals (drawings) statements. There are two underlying assumptions:
by the owner for personal use, the profit or loss for the 1. accrual basis and
period, and the balance of the owner’s investment at the 2. going concern.
end of the accounting period. A sample of this
statement is shown below: Qualitative Characteristics of Financial Statements
Qualitative characteristics are the attributes that
make the information provided in financial statements
useful to users. The four principal qualitative
characteristics are:
1. relevance,
2. reliability,

14

3. understandability, and
4. comparability.
Relevance and reliability refer to the content of
financial statements, while understandability and
comparability refer to the way financial statements are
presented.
A. Relevance
The information has the quality of relevance
when it influences the economic decisions of users by
helping them evaluate past, present, or future events, or
confirming or correcting, their past evaluations. The
following are the ingredients of relevance:
1. Predictive role. Information is relevant if it is used to
make predictions of, say, future cash inflows or income
in future periods.
● For example, MNO Company’s management is
preparing the annual company budget for 2012.
One of the relevant sources of information for
making the budget would be prior period
financial statements.
2. Confirmatory role. Information is relevant if it is used
to confirm or correct the earlier expectations of a
financial statement user.
● For example, GHI Corporation manufactures
and sells two hair products, A and B. After a
long and careful study, GHI’s management
decided to introduce a new product, C, effective
January 1, 2012. The financial statements of
GHI Corporation for 2012, if properly prepared
and presented, can be used to confirm, whether
the decision to manufacture and market product
C is in accordance with expectations. Based on
the financial information presented, GHI’s
management may decide to continue or cease
manufacturing product C. It may even decide to
drop product A or B (or both) and concentrate on
product C.
3. Materiality. Information is material if its omission or
misstatement could influence the economic decisions of
users taken on the basis of the financial statements.
There is no clear-cut amount considered to be material –
what is material to one company may be immaterial to
another. In determining materiality, management would
ask: “If this item is misstated or omitted from the
financial statements, would it affect the economic
decisions of users?” If the answer to the question is yes,
then the item is considered material. Examples:
● P1.8 million is given as a charitable contribution
to the Missionaries of Charity. This amount may
be material if the donor is a medium-sized
general merchandising store. But it may be
considered immaterial by a multinational
company which earns billions of dollars every
year.
● Ask five classmates about their “ideal” monthly
allowance. You are most likely to receive five
different answers also. Different people have
FINANCIAL ACCOUNTING AND REPORTING
different ways of attaching value to numbers.
P5,000 may be just enough for some
classmates; it may be insufficient for some of
them.
B. Reliability
Information should be free from material error
and bias and can be depended upon by users to
represent faithfully that which it either purports to
represent or could reasonably be expected to represent.
Elements that enhance reliability include faithful
representation, substance over form, neutrality,
prudence, and completeness.
1. Faithful representation. To be reliable, information
must represent faithfully the transactions and other
events it either purports to represent or could reasonably
be expected to represent. This means that the actual
effects of transactions should be properly accounted for
and reflected in the financial statements.
● For example, if the statement of comprehensive
income of GHI Company shows sales of
P120,000, it means that the company really sold
goods for this amount.
2. Substance over form. It is necessary that
transactions and other accountable events are
accounted for and presented in accordance with their
substance and economic reality and not merely their
legal form. The substance of transactions or other
events is not always consistent with that which is
apparent from their legal form.
● For example, land owned by RST Company was
sold to XYZ Company on an installment basis.
The title is to be retained by RST (seller) until all
installment payments have been received from
XYZ (buyer). From a legal viewpoint, RST is the
owner of the land (because RST still holds the
title). From an accounting viewpoint, XYZ is
already the owner (because the economic
substance of the transaction transfers control of
the land to XYZ). RST only retains title as a
security measure, not because it is still the
owner of the land.
3. Neutrality. Financial statements must be free from
bias. Financial statements are not neutral if, by the
selection or presentation of information, they influence
the making of a decision or judgment in order to achieve
a predetermined result or outcome.
● For example, ABC Company is applying for a
loan with BPI. One of the bank’s requirements
is for ABC to provide the bank with its latest
financial statements. In preparing financial
statements, ABC intentionally omits some
expenses from its income statement, thus
showing higher net income and increasing its
chances of obtaining the loan. This is a violation
of neutrality because it favors ABC Company to
the detriment of BPI. In addition, the omission of
expenses also violates faithful representation.
15

4. Prudence (Conservatism). Prudence is the inclusion
of a degree of caution in the exercise of judgment
needed in making the estimates required under
conditions of uncertainty, such that assets or income are
not overstated and liabilities or expenses are not
understated. Whenever an accountant encounters
situations involving reporting uncertainties, the
application of prudence requires the accountant to
choose an alternative or accounting method which
results in higher expense or lower income. The
intentional understatement of income or overstatement
of expenses is not a proper application of prudence.
5. Completeness. The information in financial
statements must be complete within the bounds of
materiality and cost. An omission can cause the
information to be false or misleading and thus unreliable.
C. Understandability
Financial statements should be readily
understandable by its users. Words and other
accounting terminology being used are those expected
to be known and understood by users of the financial
statements. For this purpose, users are assumed to
have a reasonable knowledge of business and economic
activities and accounting and a willingness to study the
information with reasonable diligence. Information about
complex matters which are relevant to users should not
be excluded merely on the grounds that it may be too
difficult for certain users to understand. Where
necessary, additional explanations need to be included
in the financial statements in order to facilitate
understanding.
D. Comparability
Users must be able to compare the financial
statements of an enterprise across accounting periods
(this is known as intra-comparability). For example, well-
prepared and presented financial statements for 2012
can be compared to financial statements for 2011 and
other prior periods for the purpose of determining
improvements in business performance.
Users must also be able to compare the
financial statements of different enterprises (for example,
comparing financial information for two or more
enterprises in the same industry) in order to evaluate
their relative financial position, financial performance,
and cash flows (this is known as inter-comparability). A
company usually compares its performance against the
performance of competitors and industry leaders in order
to motivate itself to greater achievement and address
any identified areas for improvement.
Constraints on Relevant and Reliable Information
While management desires to provide the most
relevant and reliable information to financial statement
users, there are several constraints that may cause
financial statement preparers to issue financial
statements that are less relevant or less reliable than
they want it to be. These constraints are
1. timeliness,
FINANCIAL ACCOUNTING AND REPORTING
2. cost-benefit, and
3. balance between qualitative characteristics.
1. Timeliness. If there is undue delay in the reporting of
information it may lose its relevance. Management may
need to balance the relative merits of timely reporting
and the provision of reliable information. To provide
information on a timely basis it may often be necessary
to report before all aspects of a transaction or other
events are known, thus impairing reliability.
Conversely, if reporting is delayed and all aspects are
known, the information may be highly reliable but of little
use to users who have had to make decisions in the
interim. In achieving a balance between relevance and
reliability, the overriding consideration is how best to
satisfy the economic decision-making needs of users.
2. Cost-benefit. The cost of providing financial
information includes the cost of maintaining financial
records, computerization, salaries of accounting
personnel, supplies (paper, ink, electricity), etc. The cost
of providing financial information should not exceed the
benefits of having this information available for decision-
makers.
3. Balance between Qualitative Characteristics. In
practice, a balancing, or trade-off, between qualitative
characteristics is often necessary. Oftentimes,
relevance, and reliability are not present simultaneously
as desired. Generally, the aim is to achieve an
appropriate balance among the characteristics in order
to meet the objective of financial statements. The
relative importance of the characteristics in different
cases is a matter of professional judgment.
CHAPTER SUMMARY
● Accounting as a language has a set of basic
accounting concepts
● Generally accepted accounting principles
(GAAP) comprise the accounting principles and
processes, standards, and underlying
assumptions that are used in preparing financial
statements.
● GAAP is developed by the Financial Reporting
Standards Council (FRSC). In the Philippines,
GAAP is known as Philippine Financial
Reporting Standards or PFRS.
● Financial statements are the means by which
the information accumulated in and processed
by financial accounting is communicated to
users on a periodic basis.
● Financial statements are the end-product of the
accounting process.
● A complete set of financial statements includes
the statement of financial position (balance
sheet), statement of comprehensive income,
statement of changes in equity, statement of
cash flows, and the notes to the financial
statements.
● Information about the financial position is
primarily provided in a statement of financial
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 FINANCIAL ACCOUNTING AND REPORTING

position. Information about performance is will flow to or from the enterprise; the item has a
primarily provided in a statement of cost or value that can be measured with
comprehensive income. Information about reliability,
changes in financial position is provided in the ● Measurement is the process of determining the
financial statements by means of the statement monetary amounts at which the elements of the
of cash flows and the statement of changes in financial statements are to be recognized and
equity. carried in the financial statements.
● Additional information that is relevant to the ● Measurement bases used include historical cost,
needs of users about the items in the balance current cost, realizable (settlement) value, and
sheet and income statement are presented on present value).
the face of the financial statements or in the ● Qualitative characteristics are the attributes that
notes to the financial statements. make the information provided in financial
● Users of financial statements include investors, statements useful to users.
employees, lenders, suppliers and other trade ● The four principal qualitative characteristics are
creditors, customers, government and their relevance, reliability, understandability, and
agencies, and the public. comparability.
● Financial statements that meet most of the ● The ingredients of relevance include
needs of other users are known as general- confirmatory value (role), predictive value (role),
purpose financial statements. and materiality.
● Financial statements are prepared at least ● The ingredients of reliability include faithful
annually. The management of an enterprise representation, substance over form, prudence
has the primary responsibility for the preparation (conservatism), neutrality, and completeness.
and presentation of the financial statements of ● The following are constraints on relevant and
the enterprises. reliable information: timeliness, balance between
● The Framework for the Preparation and benefit and cost, and balance between
Presentation of Financial Statements qualitative characteristics.
(hereinafter called the “Framework”) sets out the
concepts that underlie the preparation and
presentation of financial statements for external
users.
● Two underlying assumptions are mentioned in
the Framework are the accrual basis of
accounting and going concern.
● Under the accrual basis, the effects of
transactions and other events are recognized
when they occur (and not as cash or its
equivalent is received or paid) and they are
recorded in the accounting records and reported
in the financial statements of the periods to
which they relate.
● The financial statements are normally prepared
on the assumption that an enterprise is a going
concern and will continue in operation for the
foreseeable future.
● Other basic concepts useful in the study of
accounting are Business entity principle,
periodicity, dual-effect of business transactions,
stable monetary unit, and matching principle.
● Financial statements portray the financial effects
of transactions and other events by grouping
them into broad classes according to their
economic characteristics. These broad classes
are termed the elements of financial statements.
● The elements directly related to the
measurement of financial position are assets,
liabilities, and equity.
● The elements directly related to the
measurement of performance are income and
expenses.
● An item that meets the definition of an element
should be recognized if it is probable that any
future economic benefit associated with the item

17
 FINANCIAL ACCOUNTING AND REPORTING

CHAPTER 3: THE ACCOUNTING EQUATION

Debits and Credits
AND THE DOUBLE-ENTRY BOOKKEEPING
SYSTEM

Overview
A business transaction is an exchange of values
(expressed in terms of money) involving two parties (in
the case of external transactions) or within the enterprise
(in the case of internal transactions). It is an economic
activity that causes increases and/or decreases in the
elements of the financial statements.

External transactions include the sale of goods to

customers or the provision of services to clients. Internal
transactions include the manufacture of goods for sale
and incurrence of losses by the company resulting from Normal Balance of an Account
fire or flood.
Asset Debit
● These losses are sometimes known as casualty
losses.
Liability Credit
Not all events in a business enterprise are considered Owner’s Equity Credit
accountable. The death of a company officer, for
example, is not an accountable event. An event is Revenue Credit
accountable only if it has an effect on the elements of
the financial statements – assets, liabilities, equity, Expense Debit
income and expense.

The Basic Accounting Equation

In accounting, we present business transactions in terms
of the elements of the financial statements that are
affected by each transaction. This is done through the
basic accounting equation, which states that:
ASSETS = LIABILITIES + EQUITY

Net Assets
The accounting equation is the most basic tool of
accounting. Another way of presenting the accounting
equation is to focus on equity, or the claim of owners to
the assets of the business: EQUITY = ASSETS –
LIABILITIES.

Notice that the equation expresses equity as the

remaining assets of an enterprise after the liabilities are
paid. For this reason, equity is also called net assets.

ASSETS = LIABILITIES + EQUITY

(Left side of the equation) ( Right side of the equation)

The Account
● This is the basic summary device of accounting.
● Separate accounts are maintained for each
element (assets, liabilities, equity, income,
expense).
● An account records the increases, decreases
and balance of each element of the financial
statements.
● Debit refers to the left side of an account and
credit means the right side. Non-accountants
and basic accounting students usually think that
to debit means to increase while to credit means
to decrease. This is not always the case.

18

Common Examples of Account Titles Used
Asset Accounts
Cash. Cash is the medium of exchange for business
transactions. It is accepted by a bank for deposit and
immediate credit at face value. Cash includes: currency
and coins, checks, money orders, bank drafts and
demand deposit accounts.
Held for trading securities. Temporary Investments of
excess cash which are primarily held for short-term gain.
Technically, this account is known as investments at fair
value through profit or loss”. Other categories of
investments, such as investments at fair value through
other comprehensive income, are discussed in
intermediate accounting courses.
Loans and Receivables. Loans and receivables
include trade receivables and non-trade receivables.
Trade receivables are claims against others which arise
in the ordinary course of doing business. Examples are:
Trade accounts receivable. These are claims against
customers arising from the provision of services or
delivery of goods on credit.
Trade notes receivable. A note receivable is a written
promise from the customer to pay a fixed amount of
money on a certain future date. Being a formal and
written document. It offers more security than accounts
receivable.
Non-trade receivables represent all other claims which
are not traded. They may be non-trade accounts
receivable or non-trade notes receivable.
Inventories. These are assets which are (a) held for
sale in the ordinary course of business; (b) in the
process of production for such sale; or (c) in the form of
materials or supplies to be consumed in the production
process or in the rendering of services.
Prepaid Expenses. These are expenses paid for by the
business in advance. Examples are prepaid insurance
and prepaid rent. Prepaid expenses are assets when
they are paid for. Subsequently, they become
expenses. These are covered in the succeeding
chapters of the book.
Long-term Investments. An investment as an asset
held by an enterprise for the accretion of wealth through
capital distribution, such as interest, royalties, dividends
and rentals, for capital appreciation or for other benefits
to the investing enterprise such as those obtained
FINANCIAL ACCOUNTING AND REPORTING
through trading relationships. Investments are classified
as long-term when they are intended to be held for long
periods of time (i.e., more than one year).
Property, Plant and Equipment. These are tangible
assets held by an enterprise for use in the production or
supply of goods or services, or for rental to others, or for
administrative purposes and which are expected to be
used during more than one accounting period .
Examples are land, building, transportation and delivery
vehicles. furniture and fixtures, machinery and
equipment.
Intangible Assets. These assets are identifiable, non-
monetary assets without physical substance. These
include patents, copyrights, licenses, franchises, and
trademarks.
Liability Accounts
Accounts Payable. This account is the opposite of
accounts receivable. Examples include purchasing
goods or receiving services for which the buyer agrees
to pay in the near future (usually within 30 to 60 days).
Notes Payable. A note payable is like a note receivable,
except that this time the enterprise is the one who
promises to pay (not the one who receives the promise).
Accrued Liabilities. These are amounts owed to others
for unpaid expenses. They are similar to accounts
payable, except that accounts payable are for items
which have already been consummated (such as the
purchase of goods), while accrued expenses are for
items which are continuing in nature (such as utility
services like electricity and water). Examples are
salaries payable, interest payable, taxes payable and
accruals for utility expenses.
Unearned Revenues. Sometimes the enterprise
receives payments before providing its customers with
goods or services. This creates an obligation on the part
of the enterprise to deliver goods or provide services.
Once the enterprise complies with what is required of it,
the advance collections from customers are already
earned and become part of income.
Mortgage Payable. This account is used for recording
long-term debt(s) of an enterprise for which the company
has pledged certain assets as security for the debt
(collateral). In the event that the debtor could not pay
the obligation, the creditor can “foreclose” or cause the
mortgaged asset to be sold and the proceeds are used
to settle the debt.
Bonds Payable. Large sums of money are often
required by a business for working capital and expansion
purposes. An enterprise often obtains the needed funds
by issuing (floating) bonds. A bond is a contract
between the issuer and the lender specifying the terms
of repayment as well as the interest to be paid. Interest
is normally paid on an annual, semi-annual or quarterly
basis.
19

Equity Accounts
Equity. Equity, or “Capital” is used to record the original
and additional investments of the owner of the business
entity. Capital is increased by net income earned during
the year. Conversely, a net loss decreases capital. In a
sole proprietorship and a partnership, capital accounts
bear the name of the owner(s). In corporations, capital
is classified in a more complex manner, bearing names
such as “Share Capital”, “Premium on Share Capital”,
and so on.
● Accounting for partnerships and corporations will
be taken up in a higher accounting course.
Withdrawals. When the proprietor (or a partner in a
partnership) withdraws cash or other assets for non-
business use, such withdrawals are reflected in the
“Withdrawals” account. Some accounting references
use the term “Drawings” or “Personal” instead of
“Withdrawals”.
Income Summary. It is a temporary account used to
summarize all income and expenses for a given period.
If total income is greater than total expenses, a net
income results. If the opposite happens, a net loss was
sustained by the business. Some accounting references
use the term “Profit or Loss Summary” instead of
“Income Summary”.
Income Accounts
Service Income or Fees Income. Revenues earned by
performing services for customers.
Sales. Revenues earned as a result of sale of
merchandise; for example, sale of building materials by
a construction supplies firm.
Expense Accounts
Cost of Sales. The cost incurred to purchase or to
produce the products sold to customers during the
period . For a service business, any expense which
could be directly attributed to the provision of services is
called cost of services.
Salaries and Wages Expense. Includes all payments
as a result of an employer-employee relationship such
as salaries or wages, 13th month pay, and other related
employee benefits. Salaries are normally paid for
workers who use analytical skills (white-collar
employees), on the other hand, wages are paid to
workers who use manual labor (blue-collar employees).
Utilities Expense (Telephone, Electricity, Fuel and
Water Expenses). Expenses related to use of
communication facilities, the consumption of electricity
and water.
Rent Expense. Expense for leased office space,
equipment or other assets rented from others.
FINANCIAL ACCOUNTING AND REPORTING
Supplies Expense. The account used for recording the
usage of supplies (e.g. office supplies) in the normal
course of business.
Insurance Expense. Portion of premiums paid on
insurance coverage (e.g. on motor vehicle, health, life,
fire, typhoon or flood) which has expired.
Depreciation Expense. The portion of the cost of a
tangible asset (e.g. buildings and equipment) allocated
or charged as expense during an accounting period.
Bad Debts Expense. The amount of receivables
estimated to be uncollectible and charged as expense
during an accounting period. This account is sometimes
called “Uncollectible Accounts Expense” or “Impairment
Loss on Receivables”
Interest Expense. An expense related to use of
borrowed funds. This is also known as finance cost.
Identifying and Recording Transactions
What to Record?
An item should be recognized in the financial statements
if it is
● an element of the financial statements,
● is measurable,
● relevant and a
● faithful representation.
In analyzing business transactions for purposes of
recording, remember the following:
● In every transaction, value received = value
parted with. The two values must always be
equal.
● The basic accounting equation must always be
maintained.
Business transactions therefore, have the following
possible effects on the accounting equation:
● Increase in Assets = Increase in Liabilities
● Increase in Assets = Increase in Equity
● Increase in One Asset = Decrease in Another
Asset
● Decrease in Assets = Decrease in Liabilities
● Decrease in Assets = Decrease in Equity
● Increase in Liabilities = Decrease in Equity
● Increase in Equity = Decrease in Liabilities
● Increase in One Liability = Decrease in Another
Liability
● Increase in One Equity = Decrease in Another
Equity
Double-Entry Accounting
“Double-entry accounting is based on a simple concept:
each party in a business transaction will receive
something and give something in return. In bookkeeping
terms, what is received is a debit and what is given is a
credit. The T account is a representation of a scale or
balance.”
EXAMPLE
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 FINANCIAL ACCOUNTING AND REPORTING

Garcia Solutions
“On August 1, 2020, Earl Garcia started a Aug 4 - ERG Borrowed P500,000 from GJ Company
business called Garcia Solutions. He plans to
use his knowledge in Taxation and Accounting
by offering consulting services for a fee. The
following double-entry transactions show how
amounts received (debits) always equal
amounts given (credits).” Effect:
Assets (Cash) increases 500,000 (debit) and
Aug 1 - ERG invested P400,000 in the business Liability (Accounts payable) increases 500,000
(credit)

Effect:
Asset (Cash) increases 400,000 (debit)
Equity(Capital)increases 400,000 (credit)

Aug 5 - ERG purchased office equipment from ABC

Merchandising costing for P100,000

Aug 2 - ERG invested land and building valued at

P400,000 and P3,600,000 respectively in the
business. Effect:
Asset (Office Equipment) increases 100,000
(debit) Asset (Cash) decreases 100,000 (credit)

Effect:
Assets (Land and Building) increase 400,000
(debit) and 3,600,000 (debit)
Equity(Capital)increases 4,000,000 (credit)

Aug 6 - ERG purchased office supplies from RCBC

General Merchandising costing P10,000 on account.

21
 FINANCIAL ACCOUNTING AND REPORTING

Effect:
Asset (office supplies) increases 10,000 (debit)

Liability (Accounts payable) increases 10,000

(credit)

Aug 9 ERG rendered Tax compliance services to

EDT Company for P500,000. EDT promises to pay
him on August 20.

Aug 7 - Paid P6,000 to the contractor for repairs of Effect:

the building. Asset (Accounts Receivable) increases 500,000
(debit) Equity (increases due to Service
Revenue) 500,000 (credit)

Effect:
Asset (Cash) decreases 6,000 (credit) Equity
(decreases - due to an expense) 6,000 (debit)

Aug 12 - ERG rendered Management advisory

services to LEAD Review School for P600,000.

Effect:
Aug 8 - ERG was billed for P15,000 by the the
Asset (Cash) increases 600,000 (debit) Equity
contactor for painting services done in his building
(increases due to Service Revenue) 600,000
(credit)

Effect:
Liabilities increases 15,000 (credit) Equity
(decreases due to an expense) 10,000 (debit)

22
 FINANCIAL ACCOUNTING AND REPORTING

Aug 22 - ERG Paid P500,000 to GJ Company to settle

his obligation.
Aug 15 - ERG paid P30,000 employees salaries.

Effect:
Asset (Cash) decreases 30,000 (credit) Effect:
Equity(decreases due to salaries expense) Asset (Cash) decreases 500,000 (credit)
30,000 (debit) Liabilities (Accounts payable) decreases
500,000 (credit)

Aug 20 - ERG collected P500,000 receivable from

EDT. Company Aug 27 - ERG Received the following billing: water
bill P500, Telephone bill P1,500 and Electricity bill
P8,000.

Effect:
Asset (Cash) increases 500,000 (debit)
Asset(Accounts receivable) decreases 500,000
(credit) Effect:
Equity ( decreases due to expenses) 10,000
(credit) Liabilities (Utilities payable) Increases
10,000 (credit)

23
 FINANCIAL ACCOUNTING AND REPORTING

Aug 28 - ERG paid the following billing: water bill Aug 31- ERG made withdrawals of P30,000for
P500, Telephone bill P1,500 and Electricity bill personal use,
P8,000

Effect:
Effect: Asset (Cash) decreases 30,000 (credit)
Liability (Utilities payable) decreases 10,000 Equity(decreases due to withdrawal) 30,000
(debit) Asset(Cash) decreases 10,000 (credit) (debit)

The Accounting Cycle

Aug 30- ERG paid P30,000 employees salaries.

Effect:
Asset (Cash) decreases 30,000 (credit)
Equity(decreases due to salaries expense)
30,000 (debit)

Journal, Ledger, Trial Balance

NetSolutions

24
 FINANCIAL ACCOUNTING AND REPORTING

“On August 1, 2020, Earl Garcia started a business

called Garcia Solutions. He plans to use his knowledge
in Taxation and Accounting by offering consulting
services for a fee. The following double-entry
transactions show how amounts received (debits)
always equal amounts given (credits).”

Journal, Ledger, Trial Balance

25
 FINANCIAL ACCOUNTING AND REPORTING

T- Accounts will be used to summarize the

remaining transactions

Journal, Ledger, Trial Balance

26

P250,000 is not yet the amount to be presented
in the Balance Sheet
Net income will still be added, and drawings will
also be deducted from this balance
FINANCIAL ACCOUNTING AND REPORTING
Source Documents
The source document is the original record of a business
transaction. At a minimum, source documents contain
the following information: the date of the transaction, the
nature of the transaction (for example, a sale of
inventory) and the amount involved. It also contains the
names of parties involved in the transaction.
Control Over Source Documents
All business transactions taken up in the accounting
records of the enterprise should have supporting source
documents. Original source documents are considered
more appropriate compared to photocopies. Since
management is responsible for the financial statements,
internally-generated source documents (such as credit
sales invoices to be issued to customers) should have
authorization from the appropriate level of management
before the transaction is recorded.
Usually, the source documents supporting the
transactions for the day are collected, classified and filed
in chronological order or sequential order. If several
documents pertain to the same transaction, they are
attached and filed together. Then they are used by the
accountant in updating the accounting records of the
company.
Properly maintained files or folders of source documents
can facilitate the audit of a company's financial
statements, which is usually performed a short time after
a company’s year-end. Examples of source documents
are:
Sales Invoice. A sales invoice is issued to evidence a
sale-for-cash; a charge sales invoice or credit sales
invoice is issued to evidence a sale where goods are
sold on account or on credit.
Delivery Receipt. A document prepared by the
enterprise and signed by the customer to evidence the
acceptance/receipt of the goods delivered to the
customer.
Official Receipt. Issued by the business to evidence the
receipt cash from customers, the proprietor, and other
parties.
27

Vendor’s Invoice. This is actually a sales invoice,
except that it is issued to the enterprise by the
enterprise's suppliers or vendors. A bill for purchased or
services availed.
Purchase Requisition Forms. Source document which
evidences an employee's request for the purchase of
needed goods or supplies. Purchase requests must be
approved by company management before an actual
purchase is made.
IOUs. A note acknowledging indebtedness to the
enterprise. Usually prepared, signed, and issued by
employees who request and receive cash advances
from the enterprise.
Promissory Notes. An unconditional promise in writing
made by one person (called the maker) to another,
signed by the maker, engaging to pay on demand, or at
a fixed or determinable future time, a sum certain in
money to order or to bearer.
Bank Statements. A summary of all financial
transactions occurring over a certain period (usually one
month) on a bank account. It shows the beginning
balance of the account, any increases or decreases
(with briere lanations) and the ending balance Of the
account.
Minutes of Meetings. Written record Of a meeting (such
as meetings of shareholders or the board of directors of
a corporation).
Business Letters. Business correspondence With
government agencies, customers, suppliers, or other
parties.
Job Time Tickets. Forms containing information on time
spent working at a particular customer order (job).
Certificates of Stock. Documents evidencing ownership
shares in a corporation.
Time Records/Timesheets. A detailed record showing
time-in and time-out of employees for a particular period
of time (usually every half-month).
Check Voucher. Form used to facilitate the
authorization of cash disbursement transactions. A
voucher contains the name of the payee (the person or
company to receive cash paid by the enterprise), the
reason for the disbursement (such as payment for goods
purchased on account), and the amount involved.
Management affixes its signature on the voucher,
evidencing approval of the cash disbursement.
Journal Voucher. Document used for transactions and
journal entries for which there is no other source
document. Usually prepared in connection With year-end
FINANCIAL ACCOUNTING AND REPORTING
adjustments to the accounting records and for correcting
errors in the records.
CHAPTER SUMMARY
● A business transaction is an exchange of values
(expressed in terms of money) involving two
parties (in the case of external transactions) or
within the enterprise (in the case of internal
transactions).
● The source document is the original record of a
business transaction.
● All business transactions that are taken up in the
accounting records of the enterprise should
have supporting source documents.
● The basic accounting equation states that:
ASSETS + LIABILITIES = EQUITY
● The expanded accounting equation includes
income and expense elements: ASSETS =
LIABILITIES + EQUITY + INCOME - EXPENSE
● The account is the basic summary device of
accounting. Separate accounts are maintained
for each element (assets, liabilities, equity,
income, expense).
● An account is debited when an amount is
entered on the left side of the account and
credited when the amount is entered on the right
side.
● Increases in assets and expenses are recorded
as debits, while decreases are recorded as
credits.
● Increases in liabilities, equity and income are
recorded as credits and decreases are entered
as debits.
● For every debit (Dr.) entry, there must be a
corresponding credit (Cr.) entry. The accounting
equation must always be maintained.
● Each transaction affects at least two accounts
(one debited, one credited).
● Total debits for a transaction must equal total
credits.
● A T-account is a simplified version of an
account.
Reviewer by: Adrian Gulapa
Sources: Fundamentals of Accounting IFRS Based 2017
Sir E. Garcia
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