Accounting For ManagementUNIT I

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UNIT – I
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LESSON 1
INTRODUCTION TO ACCOUNTING
LEARNING OBJECTIVES
After studying this lesson, you should be able to:
• Know the Evolution of Accounting.
• Understand the Definition of Accounting.
• Comprehend the Scope and Function of Accounting.
• Ascertain the Users of Accounting Information.
• Know the Specialized Accounting Fields.
• Understand the Accounting Concepts and Conventions.
• Realize the Need for Accounting Standards
LEARNING OUTCOMES
Upon completion of the lesson, students are able to demonstrate a good understanding of:
⚫ Concept and functions of accounting
⚫ Explain bases of accounting and define accounting systems
⚫ Determine types of accounts and how to use accounting process
⚫ Branches of accounting and concept of financial accounting
⚫ Meaning and definition of cost accounting
Explain objectives and functions of management accounting
⚫
OVERVIEW
Accounting is the process of accumulating, classifying, interpreting, and presenting financial
information. However, as businesses grew bigger, and the area of operations widened, there came
into existence other two different branches of accounting namely management accounting and cost
accounting as an aid to the management of a business. Management accounting involves
accumulating, classifying, interpreting, and presenting financial data primarily for management
and other insiders. Cost accounting on the other hand is used for planning and controlling
operations and for decision making. The guiding light for cost accountants is also very usefulness.
The cost data must be accumulated, classified, interpreted, and presented in ways that are useful
to managers for decision making.
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1.1. INTRODUCTION TO ACCOUNTING
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Accounting is a system meant for measuring business activities, processing of information into
reports and making the findings available to decision-makers. The documents, which communicate
these findings about the performance of an organization in monetary terms, are called financial
statements.
1.2. MEANING OF ACCOUNTING AND DEFINITION OF ACCOUNTING
Accounting is the process of recording financial transactions pertaining to a business. The
accounting process includes summarizing, analyzing and reporting these transactions to oversight
agencies, regulators and tax collection entities.
The American Institute of certified public accountants (AICPA) defines accounting as “the art
of recording, classifying and summarizing ina significant manner and in terms of money transactions
and events whichare in part at least of a financial character and interpreting the results thereof”.
The American Accounting Association (AAA) has defined accounting as, “the process of
identifying, measuring and communicating economic information to permit informal judgments
and decisions by users of information”.
Definition by the American Institute of Certified Public Accountants (Year 1961):“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
result thereof”.
1.3. CHARACTERISTICS OF ACCOUNTING
The following attributes or characteristics can be drawn from the definition of accounting:
(a). Identifying financial transactions and events: Accounting records only those transactions
and events which are of financial nature. So, first of all, such transactions and events are identified.
(b.) Measuring the transactions: Accounting measures the transactions and events in terms of
money which are considered as a common unit.
(c). Recording of transactions: Accounting involves recording the financial transactions
inappropriate book of accounts such as Journal or Subsidiary Books.
(d). Classifying the transactions: Transactions recorded in the books of original entry – Journal
or Subsidiary books are classified and grouped according to nature and posted in separate
accounts known as ‘Ledger Accounts’.
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(e). Summarising the transactions: It involves presenting the classified data in a manner and in
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the form of statements, which are understandable by the users. It includes Trial balance, Trading
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Account, Profit and Loss Account and Balance Sheet.

(f). Analysing and interpreting financial data: Results of the business are analyzed and
interpreted so that users of financial statements can make a meaningful and sound judgment.
(g). Communicating the financial data or reports to the users: Communicating the financial
data to the users on time is the final step of accounting so that they can make appropriate
decisions.
1.4. OBJECTIVE OR IMPORTANT OF FINANCIAL ACCOUNTING
(i) Knowing Profitability of Business: Financial statements are required to ascertain whether
the enterprise is earning adequate profit and to know whether the profits have increased or
decreased as compared to the previous year(s), so that corrective steps can be taken well in
advance.
(ii) Knowing the Solvency of the Business: Financial statements help to analyse the position of
the business as regards to the capacity of the entity to repay its short as well as long term liabilities.
(iii) Judging the Growth of the Business: Through comparison of data of two or more years of
business entity, we can draw a meaningful conclusion as regard to growth of the business. For
example, increase in sales with simultaneous increase in the profits of the business, indicates a
healthy sign for the growth of the business.
(iv) Judging Financial Strength of Business: Financial statements help the entity in determining
solvency of the business and help to answer various aspects viz., whether it is capable to purchase
assets from its own resources and/or whether the entity can repay its outside liabilities as and
when they become due.
(v) Making Comparison and Selection of Appropriate Policy: To make a comparative study of
the profitability of the entity with other entities engaged in the same trade, financial statements
help the management to adopt sound business policy by making intra firm comparison.
(vi) Forecasting and Preparing Budgets: Financial statement provides information regarding
the weak-spots of the business so that the management can take corrective measures to remove
these short comings. Financial statements help the management to make forecast and prepare
budgets.
(vii) Communicating with Different Parties: Financial statements are prepared by the entities
to communicate with different parties about their financial position. Hence, it can be concluded
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that understanding the basic financial statements is a necessary step towards the successful
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management of a commercial enterprise.
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1.5. FUNCTIONS OF ACCOUNTING

The following Functions can be drawn from the definition of accounting:
(a). Systematic record-keeping: The first and foremost function of accounting is the systematic
record-keeping of the financial transactions, on a regular basis.
(b). Facilitating rational decision making: Another important function of accounting is to
communicate the results, i.e. the net profit or loss to the users, with the help of financial
statements, so as to help the interested parties in rational decision making.
(c). Legal compliance: The accounting statements must be prepared, keeping in mind the
compliance with the relevant laws
(d). Protection of business assets: Accounting not only keeps a record of all the business assets
but also ensures no unauthorised use of assets or property belonging to the enterprise.
(e). Determination of Profit/loss: Accounting plays a very important role in the ascertainment of
profit earned or loss sustained by the enterprise in an accounting period. This is possible only
when a proper record of all the business transactions, revenues and expenses are maintained.
(f). Ascertaining the profitability, liquidity and solvency of the entity: With the help of the
financial statement, i.e. Balance sheet and profit and loss account, the financial position of the
enterprise can easily be ascertained.
1.6. BASES OF ACCOUNTING
There are two bases of accounting in vogue. Either of the following bases may be adopted:
Cash Basis: Under cash basis of accounting, income is recognized and recorded only when cash is
received. So also, expense is recognized and recorded only when cash ispaid. No adjustments are
made for outstanding and prepaid expenses, income due and income received in advance.
Professionals like lawyers, doctors and brokers prefer to adopt this method as itis simple and easy
to comprehend and practice.
Accrual Basis: Here accounting entries are made the moment a receipt or payment becomes due,
irrespective of whether cash is received or paid. Adjustments are made for income due, income
received in advance, expenses due and prepaid expenses.
It is a comprehensive basis of accounting and is followed across the globe.
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1.7. ACCOUNTING SYSTEMS
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Business transactions are recorded in two different ways which are explained below:
(i). Single Entry: Single entry refers to a method of maintaining accounts which does not conform
to the principles of double entry. It does not connote that there is only one entry for each
transaction. Rather, it is a combination of:
(i). Double entry for some transactions, example, cash collected from debtors.
(ii). Single entry for transactions like cash purchases
No entry for providing depreciation. Succinctly, single entry denotes an unrefined incomplete
accounting method which does not record nominal accounts and most of the real accounts.
(ii). Double Entry: Invented by Iuco Pacioli in 1494 A.D., double entry system records two
aspects for every transaction. One is the benefit receiving aspect (called Debit) and the other is the
benefit giving aspect (called Credit). Under this system, for each transaction, one account is
debited and another account is credited, thus recording the transaction in a holistic way. The basic
principle here is that, for every debit there must be a corresponding and equal credit and vice
versa.
1.8. DIFFERENCES BETWEEN SINGLE ENTRY AND DOUBLE ENTRY SYSTEM
Table 1.1: Differences between Single Entry and Double Entry System
BASIS FOR SINGLE ENTRY SYSTEM DOUBLE ENTRY SYSTEM

COMPARISON
The system of accounting in which The accounting system, in which
only one-sided entry is required to every transaction affects two
Meaning
record financial transactions is Single accounts simultaneously is known
Entry System. as the Double Entry System.
Nature Simple Complex
Type of recording Incomplete Complete
Errors Hard to identify Easy to locate

Personal and Cash Account Personal, Real and Nominal
Ledger
Account
Preferable for Small Enterprises Big Enterprises

Preparation of Difficult Easy
Financial
Statement
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Suitable for tax No Yes
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Financial position Cannot be ascertained easily. Can be ascertained easily.
1.9. TYPES OF ACCOUNTS

The classification or types of accounts is given as follows:
(i). Personal Accounts: Accounts which are related to individuals, firms, companies, co-
operative societies, banks,
(a). Natural Personal Accounts: Financial institutions are known as personal accounts. The
personal accounts may further be classified into three categories:
Accounts of individuals (natural persons) such as Ashok A/c, Ramesh A/c, Sajith A/c are natural
personal accounts.
(b). Artificial Personal Accounts: Accounts of firms, companies, banks, financial institutions
such as TVS Ltd., Lions Club, Tamil Nadu Mercantile Bank, Axis Bank, are artificial personal
accounts.
(c). Representative Personal Accounts: The accounts recording transactions relating to limited
expenses and incomes are classified as nominal accounts. But in certain cases (due to the matching
concept of accounting) the amount on a particular date, is payable to the individuals or
recoverable from individuals.
Such amount: (i) Relates to the particular head of expenditure or income and
(ii) Represents persons to whom it is payable or from whom it is recoverable.
Such accounts are classified as representative personal account e.g., Wages outstanding
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account, pre-paid insurance account etc.
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(2). Real Accounts: Real accounts are the accounts related to assets/properties. These may be
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classified into tangible real account and intangible real account. The accounts relating to tangible
assets (which can be touched, purchased and sold) such as building, plant, machinery, cash,
furniture etc. are classified as tangible real accounts. Intangible real accounts (which do not have
physical shape) are the accounts related to intangible assets such as goodwill, trademarks,
copyrights, patents etc.
(3). Nominal Accounts: The accounts relating to income, expenses, losses and gains are classified
as nominal accounts. For example, Wages Account, Rent Account, Interest Account, Salary Account,
Bad Debts Account etc. fall in the category of nominal accounts.
1.10.RULES OF DEBIT AND CREDIT
Basically, debit means to enter an amount to the left side of an account and credit means to enter
an amount to the right side of an account. In the abbreviated form Dr. stands for debit and Cr. stands
for credit. Both debit and credit may represent either increase or decrease depending upon the
The Rules
nature of anfor Debit and Credit are given below:
account.
S.No TYPES OF ACCOUNTS RULES FOR DEBIT RULES FOR CREDIT

1 Personal account Debit the receiver Credit the giver
2 Real account Debit what comes in Credit what goes out
3 Nominal account Debit all expenses and losses Credit all incomes and gains
For example: How will you classify the following into personal, real and nominal accounts?
1. Investments
2. Freehold Premises
3. Accrued Interest to Ram
4. Haryana Agro Industries Corporation
5. Janata Mechanical Works
6. Salary Account
7. Loose Tools Accounts
8. Purchases Account
9. Corporation Bank Ltd.
10. Capital Account
11. Brokerage Account
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Toll Tax Account
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Dividend Received Account
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13.
14. Royalty Account
15. Sales Account
Solution:
S.No Particulars Name of the Accounts

1 Investments Real account
2 Freehold Premises Real account
3 Accrued Interest to Ram Personal account
4 Haryana Agro Industries Corporation Personal account
5 Janata Mechanical Works Personal account
6 Salary Account Nominal account
7 Loose Tools Accounts Real account
8 Purchases Account Real account
9 Corporation Bank Ltd. Personal account
10 Capital Account Personal account
11 Brokerage Account Nominal account
12 Toll Tax Account Nominal account
13 Dividend Received Account Nominal account
14 Royalty Account Nominal account
15 Sales Account Real account
1.11. ACCOUNTING PROCESS

The accounting process includes several steps that are meant to be followed ina sequence so as
to achieve the desired result. The steps are identification, record making, classification,
summarization and communication of financial transactions.
The accounting process or cycle has the following five steps.
(a). Identifying the financial transaction: Accounting process starts with identifying the
financial or monetary transactions. Only these transactions form a part of accounts (statement)
of a business.
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(b). Recording of Financial Transactions: When you have identified all the financial
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transactions, then the next step is to make a record of all of these in a journal or subsidiary books.
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(c). Classifying Financial Transactions: The next step is to classify the transactions related to
different classes of persons such as creditors, enterprises, expenses on assets, persons and
various others. The classified financial transactions are then recorded in different ledger books
such as rent account, creditors and debtors account, commission received accounts and land and
buildings accounts.
(d). Summarizing Financial Transactions: For summarization you need to have a trial balance
prepared. This will help you in analyzing the financial position of the business as it shows the
profits and losses of a business.
(e). Communicating the Results of Business: The last step is to communicate about the
financial status (the net result of the profits and losses made in a period of time) of the company
to the interested parties such as the creditors, managers and the owners of the company. This
step is important as it helps these people to arrive at crucial decisions.
1.12. BRANCHES OF ACCOUNTING
Each branch has come about thanks to technological, economic or industrial developments and
has its own specialised use.
1. Financial Accounting: Financial accounting involves recording and categorizing
transactions for business. This data is generally historical, meaning it’s from the past. It also
involves generating financial statements based on these transactions. All financial statements,
such a balance sheet and income statement, must be prepared according to the generally
accepting accounting principles (GAAP), according to Accounting verse. Public companies have
to follow a set of rules set out by the government (this is the Securities and Exchange
Commission in the U.S.). Financial accounting is performed to conform to external regulations
and is not for internal employees to analyze and make financial decisions—managerial
accounting is used for this purpose.
2. Cost Accounting: Cost accounting is considered a type of managerial accounting. Cost
accounting is most commonly used in the manufacturing industry, an industry that has a lot of
resources and costs to manage. It is a type of accounting used internally to assess a company’s
operations. Cost accounting concerns itself with recording and analyzing manufacturing costs.
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It looks at a company’s fixed (unchanging and constant costs, like rent) and variable costs
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(changing costs, like shipping charges) and how they affect a business and how these costs can
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be better managed, according to Accounting Tools.

3. Auditing: There are two types of auditing: external and internal auditing. In external
auditing, an independent third party reviews a company’s financial statements to make sure
they are presented correctly and comply with GAAP. Internal auditing involves evaluating how
a business divides up accounting duties, who is authorized to do what accounting task and what
procedures and policies are in place. Internal auditing helps a business zero in on fraud,
mismanagement and waste or identify and control any potential weaknesses in its policies or
procedures, according to Accounting Tools.
4. Managerial Accounting: Also known as management accounting, this type of accounting
provides data about a company’s operations to managers. The focus of managerial accounting
is to provide data that managers need to make decisions about a business’s operations, not
comply strictly with GAAP. Managerial accounting includes budgeting and forecasting, cost
analysis, financial analysis, reviewing past business decisions and more. Cost accounting is a
type of managerial accounting. FreshBooks has simple online accounting software for small
business that makes it easy to produce these reports.
5. Accounting Information Systems: Known as AIS for short, accounting information systems
concerns itself with everything to do with accounting systems and processes and their
construction, installment, application and observation. This can include accounting software
management and the management of bookkeeping and accounting employees.
6. Tax Accounting: Tax accounting involves planning for tax time and the preparation of tax
returns. This branch of accounting aides’ businesses be compliant with regulations set up by
the IRS. Tax accounting also helps businesses figure out their income tax and other taxes and
how to legally reduce their amount of tax owing. Tax accounting also analyzes tax-related
business decisions and any other issues related to taxes.
7. Forensic Accounting: This specialized accounting service is trending in accounting and is
becoming increasingly popular. Forensic accounting focuses on legal affairs such as inquiry into
fraud, legal cases and dispute and claims resolution. Forensic accountants need to reconstruct
financial data when the records aren’t complete. This could be to decode fraudulent data or
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convert a cash accounting system to accrual accounting. Forensic accountants are usually
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consultants who work on a project basis, according to Accounting Tools.
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8. Fiduciary Accounting: This branch of accounting centers around the management of

property for another person or business. The fiduciary accountant manages any account and
activities related to the administration and guardianship of property. Fiduciary accounting

covers estate accounting, trust accounting and receivership (the appointing of a custodian of a
business’s assets during events such as bankruptcy).
1.13. CONCEPT OF FINANCIAL ACCOUNTING
Financial accounting is the process of designing and operating an information system for
collecting, measuring and recording an enterprise’s transactions, and summarizing and
communicating the results of these transactions to usersto facilitate making financial economic
decisions.
Financial accounting is a specialized branch of accounting that keeps track of a company's
financial transactions. Using standardized guidelines, the transactions are recorded, summarized,
and presented in a financial report or financial statement such as an income statement or a balance
sheet.
Companies issue financial statements on a routine schedule. The statements are
considered external because they are given to people outside of the company, with the primary
recipients being owners/stockholders, as well as certain lenders. If a corporation's stock is
publicly traded, however, its financial statements (and other financial reporting’s) tend to be
widely circulated, and information will likely reach secondary recipients such as competitors,
customers, employees, labour organizations, and investment analysts.
It's important to point out that the purpose of financial accounting is not to report the value of a
company. Rather, its purpose is to provide enough information for others to assess the value of a
company for themselves.
1.14. COST ACCOUNTING: AN INTRODUCTION
Cost accounting is nothing but the accounting of various costs involved in a business. Accounting
of the cost that is incurred in the manufacturing of the products and in the transportation of the
raw materials required for the same is cost accounting. In other words, cost accounting is a process
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that helps in determining the profitability of a business by cost controlling through the well-
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established principles, rules and the process of accounting.
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1.15. MEANING AND DEFINITION OF COST ACCOUNTING

Cost accounting is a form of managerial accounting that aims to capture a company's total cost of
production by assessing the variable costs of each step of production as well as fixed costs, such
as a lease expense.
Cost Accounting is a business practice in which we record, examine, summarize, and study the
company’s cost spent on any process, service, product or anything else in the organization.
The Chartered Institute of Management Accountant (CIMA) has defined costing as – “The
techniques and processes of ascertaining cost.” Cost Accounting is a formal system of accounting
for costs in the books of accounts by means of which cost of products and services are
ascertained and controlled.
According to definition given by CIMA, London “Cost Accounting is the process of accounting for
cost from the point at which expenditure is incurred to the establishment of its ultimate
relationship with cost centers and cost units”.
1.16. FUNCTIONS OF COST ACCOUNTING

To elaborate the statement, the functions of cost accounting can be enumerated as follows:
(1). To calculate the cost per unit of the various products manufactured by the firm.
(2). To prepare a correct cost analysis of both by process or operations, and by the different
elements of cost.
(3). To ascertain the wastage in each process of manufacture and to prepare reports which can
assist wastage control.
(4). To provide the necessary information for the determination of selling prices.
(5). To compute product-wise profit, and advise the management for the enhancement of profit.
(6). To serve the management in the valuation of goods-in-process and finished goods, so that the
minimum capital is blocked up in the stocks.
(7). To install and implement cost control systems (budgetary control or standard cost system)
for the control of material, labour, and overhead expenses.
(8). To advise the management for the formulation of future expansion policies and proposed
capital outlays.
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(9). To establish an effective reporting system. This will help the different levels of management
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to receive the necessary cost data in time in order to enable them to fulfil their individual
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responsibilities in an efficient manner.

(10). To guide the management in the preparation and implementation of incentive schemes
based on productivity and cost savings.
(11). To advise the management on the profitability of present or new lines of products, the
comparative advantages and disadvantages of different types of production methods, the
replacement of manual operations by automation, and other such policy matters which have a
direct impact on the development of the company.
1.17. INTRODUCTION TO MANAGEMENT ACCOUNTING
Management accounting is a modern concept of accounting as a tool of management. The ICMA
London has defined management accounting as – “the presentation of accounting information in
such a way so as to assist management in the creation of policy and in day-to-day operations of an
undertaking.”
Management accounting makes use of various techniques which include marginal costing,
standard costing, budgetary control, break-even analysis, cost- volume-profit relationship, ratio
analysis, inter-firm comparison and uniform costing, internal audit, etc. Most of these techniques
are also employed by a cost accountant.
Some beautiful definitions of management accounting are mentioned below:
The Institute of Chartered Accountants of England and Wales defines, “Management Accounting is
that form of accounting which enables a business to be conducted more efficiently.”
According to R. N. Anthony, “Management Accounting is concerned with accounting information
that is useful to management.”
Professor J Batty defines, “It is the term used to describe the accounting methods, systems, and
techniques, which, coupled with special knowledge and ability, assist management in its task of
maximizing profits or minimizing losses.”
The Institute of Cost and Management Accountants London has defined, “Management Accounting
as the application of professional knowledge and skill in the preparation of accounting information
in such a way as to assist management in the formulation of policies and the planning control of
the operation of the undertakings.”
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1.18. PURPOSE AND OBJECTIVES OF MANAGEMENT ACCOUNTING

The primary objective of Management Accounting is to enable the management to maximize
profits or minimize losses.
(a). Uses of Information: The primary functions of management are the uses of information. It
presents accounting information in a form that enables the management, investors, and creditors
to analyze the financial statements.
(b). Planning and Policy Formulation: Planning is deciding in advance what is to be done. It
helps the management of ineffective planning. It provides costing and statistical data to be utilized
in setting goals and formulating future policies.
(c). Decision Making: Decision making is defined as the selection of a course of action from
among alternatives. It helps the management in decision-making. It uses accounting data to solve
various management problems.
(d). Motivating: Motivation means individuals need, desires, and concepts that cause him or her
to act in a particular manner. Delegation serves as a motivation device because it increases the job
satisfaction of employees and encourages them to look forward.
(e). Controlling: Management accounting helps management in controlling the performance of
the organization. Actual performance is compared with operating plans, standards, and budgets,
and deviations are reported to the management so that corrective measures may be taken.
(f). Coordinating Operations: It helps the management in controlling the performance of the
organization.
Actual performance is compared with operating plans, standards, and budgets, and deviations are
reported to the management so that corrective measures may be taken.
(g). Reporting: One of the primary objectives of management accounting is to keep the
management fully informed about the latest positions of the concern. The facilitates management
to take proper and timely decisions.
(h). Help in Organizing: Organizing is the process of allocating and arranging human and non-
human resources so that plans can be carried out successfully.
1.19. FUNCTIONS OF MANAGEMENT ACCOUNTING
The basic function of management accounting is to assist the management in performing its
functions effectively. The functions of the management are planning, organizing, directing, and
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controlling.
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Management accounting is a part of accounting. It has developed out of the need for making more
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use of accounting for making managerial decisions.

Management accounting helps in the performance of each of these functions in the following ways:
(a). Provides data: Management accounting serves as a vital source of data for management
planning. The accounts and documents are a repository of a vast quantity of data about the past
progress of the enterprise, which is a must for making forecasts for the future.
(b). Modifies data: Management accounting modifies the available accounting data rearranging
in such a way that it becomes useful for management. The modification of data in similar groups
makes the data more useful and understandable. The accounting data required for management
decisions is properly compiled and classifies.
(c). Communication: Management accounting is an important medium of communication.
Different levels of management (top, middle, and lower) need different types of information. The
top management needs concise information at relatively long intervals, middle management
needs information regularly, and lower management is interested in detailed information at short-
intervals.
Management accounting establishes communication within the organization and with the outside
world.
(d). Analyses and interprets data: The accounting data is analyzed meaningfully for effective
planning and decision-making. For this purpose, the data is presented in a comparative form,
Ratios are calculated, and likely trends are projected.
(e). Serves as a means of communicating: Management accounting provides a means of
communicating management plans upward, downward, and outward through the organization.
Initially, it means identifying the feasibility and consistency of the various segments of the plan.
The later stages it keeps all parties informed about the plans they have been agreed upon and their
roles in these plans.
(f) . Facilitates control: Management accounting helps in translating given objectives and
strategy into specified goals for attainment t by a specified time and secures the effective
accomplishment of these goals efficiently. All this is made possible through budgetary control and
standard costing, which is an integral part of management accounting.
(g). Uses also qualitative information: Management accounting does not restrict itself to
financial data for helping the management in decision making but also uses such information that
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may be capable of being measured in monetary terms. Such information may be collected from
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special surveys, statistical compilations, engineering records, etc.
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(h). To assist in planning. : Management Accounting assists the management in planning as well
as to formulate policies by making forecasts about the production, selling the inflow and outflow
of cash, etc.
(i). To assist in organizing: By preparing budgets and ascertaining specific cost centers, it
delivers the resources to each center and delegates the respective responsibilities to ensure their
proper utilization. As a result, an interrelationship grows among the different parts of the
enterprise.
(j). Decision-Making: Management accounting furnishes accounting data and statistical
information required for the decision-making process, which vitally affects the survival and the
success of the business. Management accounting supplies analytical information regarding
various alternatives, and the choice of management is made easy.
(k). To assist in motivation: By setting goals, planning the best and economic courses of action,
and also by measuring the performances of the employees, it tries to increase their efficiency and,
ultimately, motivate the organization as a whole.
(l). To Coordinate: It helps the management in coordination the whole activities of the enterprise,
firstly by preparing the functional budgets, then co-coordinating the whole activities of the
enterprise, firstly, by preparing the functional budgets, then co-coordinating the whole activities
by integrating all functional budgets into one which goes by the name of ‘Master Budget.’
(m). To Control: The actual work done can be compared with ‘Standards’ to enable the
management to control the performances effectively.
1.20. DIFFERENCES BETWEEN FINANCIAL ACCOUNTING AND COST ACCOUNTING
Table 1.2: Differences between Financial Accounting and Cost Accounting
Basis of
S.NO Financial accounting Cost accounting
distinction
Objective Its objective is to show the Its objective is to provide detailed

1 profit or loss and financial information of cost for its control and
position of the business. decision making.
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Usefulness It is useful for external parties It is useful internally to management
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of business e.g., shareholders, in decision making.
2
creditors and Government for
analyzing the financial position.
Requirement Preparation of Financial Its maintenance is voluntary with

statements e.g., P/L A/c and exception of some industries.
3 Balance Sheet is compulsory
under Companies Act and
Income Tax.
Reporting Under Financial accounting Reporting related to cost may be

operating results and financial required at any time.
4
position is reported at the end
of the year.
Analysis of Profit Financial accounting discloses Cost accounting discloses the Profit or
5 the net Profit or loss at the loss of a job or process.
business as a whole.
Nature of Financial accounting relates to Cost accounts relates to

6 transactions commercial transactions of the manufacturing of goods and services.
business.
Fixation of Financial records do not help in Cost records, helps in fixing the selling
7
selling price fixing selling price. price after ascertaining cost per unit.
Figures It is concerned with historical Cost Accounting also deals with

8
figures. estimated figures.
Stock Valuation Closing Stock is valued at cost Stock is valued at cost.

9 or market price, whichever is
less.
Control Financial Accounting does not Cost Accounting uses control

Techniques make use of any control techniques like standard costing,
10
technique. budgetary control, marginal costing
etc.
1.21. DISTINCTION BETWEEN FINANCIAL AND MANAGEMENT ACCOUNTING

Table 1.3 presents a summary of distinctions between financial and management
accounting.
S.NO Basis of distinction Financial accounting Management accounting
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1 Primary user Outside parties and manager of the Business managers
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business
2 Decision criterion Accounts are based on generally Comparison of costs and

accepted accounting principles benefits of proposed action
3 Behavioral Concern about adequacy of Concern about how reports

implications disclosure. Behavioral implications will affect employee
are secondary behavior
4 Time focus Past orientation Future orientation
5 Reports Summary reports regarding the Detailed reports on the

whole entity parts of the entity
1.22. DIFFERENCE BETWEEN COST ACCOUNTING AND MANAGEMENT ACCOUNTING
Table 1.4 Difference Between Cost Accounting and Management Accounting
S.NO Cost accounting Management accounting

Cost accounting refers to an accounting Management accounting refers to an
system that revolves around cost accounting system that helps management
1
computation, cost control and cost make effective decisions about business.
reduction.
The main objective of it is to determine the The main objective of it is to assist the
2 cost of production and control the cost. management by providing necessary
accounting information.
Cost accountant is placed at lower level at Management accountant is placed at higher
3 hierarchy than management accountant in level at hierarchy than cost accountant in
an organizational setup. organizational setup.
Cost accounting is based on data derived Management accounting is based on data
4 from financial accountants. derived from financial accounting, cost
accounting and other sources.
It can be installed without management It cannot be installed without cost accounting.
5
accounting.
Cost accounting uses quantitative data Where management accounting uses both
6
only. quantitative and qualitative data.
Cost accounting uses both past and present Management accounting uses past data and
7
data and figure. future data for projection of future.
The scope of cost accounting is limited in The scope of management accounting is broad
8
cost determination and record. which includes financial and cost accounting.
Success of cost accounting does not depend Success of management accounting depends
9
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on management accounting. on cost accounting.
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It follows a specific procedure means there It does not follow a specific procedure meansra c k e r- s o ft w are
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is definite principle for ascertaining cost there is no definite principle for it as the
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and format. format changes based on management’s
requirement.
SELF-ASSESSMENT QUESTIONS
SHORT ANSWER QUESTIONS
1. Do you justify with the statement, “Accounting is commonly addressed asthe language of
business”?
2. Compare and contrast the external and internal users of accountinginformation.
3. Suppose you are a research scholar. Why will you need accountinginformation?
4. Give illustrations to show how accounting is historical function.
5. How does accounting helps in Auditing. Explain using a true example of afirm of your
choice.
6. Compare and contrast cash and accrual method of accounting.
7. What are the differences between Single Entry and Double-entryaccounting systems?
8. Discuss the classification of Real accounts.
9. Give one example of intangible Real Accounts.
10. Define cost accounting. What are the benefits of Cost Accounting?
11. Discuss the limitations or disadvantages of cost accounting.
12. State the differences between financial accounting and cost accounting.
13. What are the main characteristics of an ideal cost accounting system?
14. What are the limitations of financial accounting? How do you overcomeitem in cost
accounting?
15. State the advantages of costing. How does it aid the management and whatobjections are
raised against cost accounts?
16. How cost accounting is related with management accounting?
17. What is management accounting? Write its any four functions.
18. Analysis the scope of management accounting.
19. Distinguish between financial accounting and management accounting.
20. State the functions, objectives and limitations of management accounting.
LONG ANSWER QUESTIONS
1. Critically analyses the statement giving suitable example, “Double entry system of
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accounting is a systematic and scientific system of accounting.”
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2. Take any organization of your choice and analyses its accounting system.Also specify
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the objectives that it serves to the organization.

3. “Cost accounting is becoming more and more relevant in the emergingeconomic
scenario in India”. Explain this statement.
4. “Cost accounting system that simply records costs for the purpose of fixingsale price has
accomplished only a small part of its mission”. Explain.
5. “A good costing system is a valuable aid to management”. Discuss.
6. “Cost accounting has become an essential tool of management”. Comment and state the
steps to be taken while installing a costing system in amanufacturing concern.
7. "Cost accounting has become an essential tool of modern management". Comment on this
statement.
8. “Management accounting serves as a tool to management.” Analyses this statement.
9. Taking example of an organization draw a diagram to show the different objectives
served by the management accounting process.
10. Do you agree that the scope of management accounting is very wide? Is it true for Indian
firms also?
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LESSON - 2
ACCOUNTING PRINCIPLES,CONVENTIONS AND CONCEPTS
LEARNING OBJECTIVES

• Define the concept of Generally Accepted Accounting Principles (GAAP)
• Outline different accounting concepts presently used by firms
• Explain the various types accounting conventions.
LEARNING OUTCOMES
Upon completion of the lesson, students are able to demonstrate a goodunderstanding of:
• Define generally accepted accounting principles
• Concept of accounting and realization
• Matching concept and explain accounting conventions
• Recall need for accounting standards
OVERVIEW
GAAP helps govern the world of accounting according to general rules and guidelines. It
attempts to standardize and regulate the definitions, assumptions, and methods used in
accounting across all industries. GAAP covers such topics as revenue recognition, balance
sheet classification, and materiality.
The ultimate goal of GAAP is to ensure a company's financial statements are complete,
consistent, and comparable. This makes it easier for investors to analyse and extract useful
information from the company's financial statements, including trend data over a period of
time. It also facilitates the comparison of financial information across different companies.
2.1 MEANING OF GENERALLY ACCEPTEDACCOUNTING PRINCIPLES (GAAP)

GAAP helps govern the world of accounting according to general rules and guidelines. It attempts
to standardize and regulate the definitions, assumptions, and methods used in accounting across
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all industries. GAAP covers such topics as revenue recognition, balance sheet classification, and
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The ultimate goal of GAAP is to ensure a company's financial statements are complete, consistent,
and comparable. This makes it easier for investors to analyse and extract useful information from
the company's financial statements, including trend data over a period of time. It also facilitates
the comparison of financial information across different companies.
Generally Accepted Accounting Principles (GAAP) are basic accounting principles and guidelines
which provide the framework for more detailed and comprehensive accounting rules, standards
and other industry-specific accounting practices. For example, the Financial Accounting Standards
Board (FASB) uses these principles as a base to frame their own accounting standards.
R. N. Anthony states that, “The rules and conventions of accounting are commonly referred
to as principles.”
2.2. GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
These 10 general concepts can help you remember the main mission of GAAP:
(i). Principle of Regularity: The accountant has adhered to GAAP rules and regulations as a
standard. GAAP-compliant accountants strictly adhere to established rules and regulations.
(ii). Principle of Consistency: Consistent standards are applied throughout the financial reporting
process. Accountants commit to applying the same standards throughout the reporting process,
from one period to the next, to ensure financial comparability between periods. Accountants are
expected to fully disclose and explain the reasons behind any changed or updated standards in
the footnotes to the financial statements.
(iii). Principle of Sincerity: GAAP-compliant accountants are committed to accuracy and impartiality.
The accountant strives to provide an accurate and impartial depiction of a company’s financial
situation.
(iv). Principle of Permanence of Methods: Consistent procedures are used in the preparation of all
financial reports.
The procedures used in financial reporting should be consistent, allowing a comparison of the
company's financial information.
(v). Principle of Non-Compensation: All aspects of an organization’s performance, whether positive
or negative, are fully reported with no prospect of debt compensation.
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Both negatives and positives should be reported with full transparency and without the
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(vi). Principle of Prudence: Speculation does not influence the reporting of financial data.
This refers to emphasizing fact-based financial data representation that is not clouded by
speculation.
(vii). Principle of Continuity: Asset valuations assume the organization’s operations will continue.
While valuing assets, it should be assumed the business will continue to operate.
(viii). Principle of Periodicity: Reporting of revenues is divided by standard accounting time
periods, such as fiscal quarters or fiscal years.
Entries should be distributed across the appropriate periods of time. For example, revenue should
be reported in its relevant accounting period.
(ix). Principle of Materiality: Financial reports fully disclose the organization’s monetary situation.
Accountants must strive to fully disclose all financial data and accounting information in financial
reports.
(x). Principle of Utmost Good Faith: All involved parties are assumed to be acting honestly.
Derived from the Latin phrase “uberrimae fidei” used within the insurance industry. It
presupposes that parties remain honest in all transactions.
2.3. ACCOUNTING CONCEPTS
Accounting Concepts and Conventions
There are some concepts and conventions which are followed in accounting for a long time.
These concepts constitute the very basis of accounting. All the concepts have been developed
over the years from experience and thus, are universally accepted rules and are termed as
‘Generally Accepted Accounting Principle’ or GAAP. In accounting, there are many conventions
or practices which are used while recording the transactions in the books of accounts. In this
lesson you will learn accounting concepts and conventions.
I. ACCOUNTING CONCEPTS
(i). Business entity concept: A business and its owner should be treated separately as far as
their financial transactions are concerned.
(ii). Money measurement concept: Only business transactions that can be expressed in terms
of money are recorded in accounting, though records of other types of transactions may be kept
separately.
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(iii). Dual aspect concept: For every credit, a corresponding debit is made. The recording of a
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transaction is complete only with this dual aspect.
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(iv). Going concern concept: In accounting, a business is expected to continue for a fairly long
time and carry out its commitments and obligations. This assumes that the business will not be
forced to stop functioning and liquidate its assets at “fire-sale” prices.
(v). Cost concept: The fixed assets of a business are recorded on the basis of their original cost
in the first year of accounting. Subsequently, these assets are recorded minus depreciation. No
rise or fall in market price is taken into account. The concept applies only to fixed assets.
(vi). Accounting year concept: Each business chooses a specific time period to complete a cycle
of the accounting process—for example, monthly, quarterly, or annually—as per a fiscal or a
calendar year.
(vii). Matching concept: This principle dictates that for every entry of revenue recorded in a
given accounting period, an equal expense entry has to be recorded for correctly calculating
profit or loss in a given period.
(viii). Realization concept: According to this concept, profit is recognized only when it is
earned. An advance or fee paid is not considered a profit until the goods or services have been
delivered to the buyer.
2.4. ACCOUNTING CONVENTIONS
There are four main conventions in practice in accounting: conservatism; consistency; full
disclosure; and materiality.
(i). Conservatism is the convention by which, when two values of a transaction are available,
the lower-value transaction is recorded. By this convention, profit should never be
overestimated, and there should always be a provision for losses.
(ii). Consistency prescribes the use of the same accounting principles from one period of an
accounting cycle to the next, so that the same standards are applied to calculate profit and loss.
(iii). Materiality means that all material facts should be recorded in accounting. Accountants
should record important data and leave out insignificant information.
(iv). Full disclosure entails the revelation of all information, both favourable and detrimental to a
business enterprise, and which are of material value to creditors and debtors.
2.5. ACCOUNTING STANDARDS
The term, “Accounting Standard” is defined as written statements issued from time to time by
institutions of the accounting profession or institutions in which there is involvement and which
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are established expressly for this purpose.
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The objective of these accounting standards based on internal as well as external compulsions is
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to offer a sound base/foundation for accounting activities of an enterprise.

(i). Need for Accounting Standards
The basic purpose of accounting standard is to eradicate baffling variations in the treatment of
several accounting aspects and to bring about, to the extent possible, standardization in
presentation.
Accounting standards thus convert general accounting principles to specific rules. To that extent,
they lay down disclosure requirements for better understanding of financial statements.
(ii). Accounting Standards in India
Accounting Standards are formulated on the basis of the International Financial Reporting
Standards (IFRSs)/International Accounting Standards (IASs) issuedby the IASB. Of the 41 IASs
issued so far, 29 are at present in force, the remaining standards have been withdrawn. Apart from
this, 8 IFRSs have also been issued by the IASB. Corresponding to the IASs/IFRSs, so far, these
Indian Accounting Standards on the following subjects have been issued:
AS 1 Disclosure of Accounting Policies
AS 2 Valuation of Inventories
AS 3 Cash Flow Statements
AS 4 Contingencies and Events Occurring after the Balance Sheet Date
AS 5 Net Profit or Loss for the Period, Prior Period Items and Changes inAccounting
Policies
AS 6 Depreciation Accounting
AS 7 Construction Contracts
AS 8 Accounting for Research and Development (Withdrawn pursuant to AS26 becoming
mandatory)
AS 9 Revenue Recognition
AS 10 Accounting for Fixed Assets
AS 11 The Effects of Changes in Foreign Exchange Rates
AS 12 Accounting for Government Grants
AS 13 Accounting for Investments
AS 14 Accounting for Amalgamations
AS 15 Employee Benefits
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AS 16 Borrowing Costs
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AS 17 Segment Reporting
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AS 18 Related Party Disclosures

AS 19 Leases
AS 20 Earnings per Share
AS 21 Consolidated Financial Statements
AS 22 Accounting for Taxes on Income
AS 23 Accounting for Investments in Associates in Consolidated FinancialStatements
AS 24 Discontinuing Operations
AS 25 Interim Financial Reporting
AS 26 Intangible Assets
AS 27 Financial Reporting of Interests in Joint Ventures
AS 28 Impairment of Assets
AS 29 Provisions, Contingent Liabilities and Contingent Assets
AS 30 Financial Instruments: Recognition and Measurement
AS 31 Financial Instruments: Presentation
AS 32 Financial Instruments: Disclosures
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1. Define accounting principles.
2. What are the advantages and disadvantages of various accountingprinciples?
3. What is GAAP and how is it useful?
4. Compare and contrast any five accounting principles. Prepare a short reporton the same.
5. Highlight the two categories of accounting principles.
6. Why is the principle of full disclosure/materiality useful?
7. Owner and business are two different business entities. Explain.
8. Give example of Going Concern concept.
9. What is the duration of an accounting period?
10. Define Realizable value.
11. What is Replacement value?
12. Discuss the three forms of consistency.
13. Explain the role of Accounting Standard Board.
14. Conduct a group discussion on Stock Valuations according to IndianAccounting
Standards.
15. What is the concept of Materiality? Explain citing a practical example.
16. Define Cost from an accountant's point of view.
17. Do you think that different accounting principle/practice is adopted indifferent
industries?
18. Take any Indian manufacturing company of your choice and list down the manner in
which they use different accounting principles and standards.
19. Prepare an article on the topic, “Emerging roles of Accounting Principles and Standards in
India”, which is to be published in a leading financial journal of India.
20. List down the Indian Accounting Standards. Are these accounting standards formulating
on the basis of IFRSs?
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1. Do you agree with the statement, “Accounting principles are not rigid or fixed”?
Explain with the help of an example.
2. Comment on the truthfulness of the statement, “In the modern time of competition,
it is necessary that every trader compares his financial statements with the
financial statements of other enterprises from time to time”.
3. The entire accounting system is governed by the practice of accountancy. What are
the key principles used in accounting?
4. What are the key assumptions of going concern concept and matching concept?
5. What do you mean by business entity concept? Is it different from proprietary
concept? Explain.
6. Explain the terms: “Accounting Concepts” and “Accounting Conventions.”Do you
agree that both the terms represent the same meaning? Explain.
7. What is the dual aspect principle? Explain with five examples.
8. Why accounting practices should be standardized? Explain.
9. What progress has been made in India regarding standardization of accounting
practices?
10. Examine the role of accounting concepts in the preparation of financial statements.
Do you find any of the accounting concepts conflicting with each other? Give
examples.
11. “Revenue is recognised when a sales transaction is made or when services are
rendered.” Do you agree with this statement? Give reasons for your answer with
suitable illustrations, and exceptions, if any, to this statement.
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LESSON 3
JOURNAL, LEDGER AND TRIALBALANCE
LEARNING OBJECTIVES

⚫ Understand the meaning of journal and the rules for journalizing
⚫ Determine the nature of different accounting transactions
⚫ Discuss the concept of Sub-Division of Journal
⚫ Explain the ledger and its significance
⚫ Identify the process of closing and balancing of accounts
⚫ Explain the meaning, items and errors in trial balance
LEARNING OUTCOMES
• Define journal and rules for journalizing.
• Determination of the nature of transactions.
• Explain sub-division of journal and analyzing format of ledger
• Closing and balancing of accounts
• Recall significance of ledger
• Analyzing methods of preparation of trial balance
OVERVIEW
In the previous lesson, you learned about different accounting principles, concepts, convention
and standards formulated with a view to maintain uniformity and consistency in books of
accounts.
Keeping in mind the accounting principles and standards a firm prepares its financial
statements and reports. However, in preparation of financial statement a firm typically follows
a continuous series of steps known as accounting cycle. Accounting cycle is thus a complete
sequence of accounting procedures, which are required to be repeated in same order during
each accounting period.It begins with the recording of the transactions and ending with the
preparation of the final accounts. Therefore, a firm while preparing its financial statements
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performs the function of identification, classification, summarization, analysis, interpretation
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and communication of financial transactions.
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In this lesson, you will understand the earlier half of the accounting process where we will
focus on preparation of journals, ledger and trial balancesneeded for further formulation of
the final accounts of a firm. In this lesson we will study the manner in which financial
transactions are first recorded through passing of journal entries, preparation of ledgers from
journals and finally, we will analyses the steps in preparation of trial balance.
3.1 JOURNAL
Any economic transaction or event of a business which can be expressed in monetary terms
should be recorded. Traditionally, accounting is a method of collecting, recording, classifying,
summarizing, presenting and interpreting financial data of an economic activity.
The series of business transactions occurs during the accounting period and its recording is
referred to an accounting process/mechanism. An accounting process is a complete sequence of
accounting procedures which are repeated in the same order during each accounting period.
3.2. ACCOUNTING PROCESS INVOLVES THE FOLLOWING STEPS
(i). Identification of Transaction: In accounting, only financial transactions are recorded. A
financial transaction is an event which can be expressed in terms of money and which brings change
in the financial position of a business enterprise. An event is an incident or a happening which may
or may not bring any change in the financial position of a business enterprise. Therefore, all
transactions are events but all events are not transactions.
(ii). Recording the transaction: Journal is the first book of original entry in which all transactions
are recorded event-wise and date-wise and presents a historical record of all monetary
transactions. Journal may further be divided into sub-journals as well.
(iii). Classifying: Accounting is the art of classifying business transactions. Classification means
statement setting out for a period where all the similar transactions relating to a person, a thing,
expense, or any other subject are grouped together under appropriate heads of accounts.
(iv). Summarizing: Summarizing is the art of making the activities of the business enterprise as
classified in the ledger for the use of management or other user groups i.e., sundry debtors, sundry
creditors etc. Summarization helps in the preparation of Profit and Loss Account and Balance sheet
for a particular financial year.
(v). Analysis and Interpretation: The financial information or data is recorded in the books of
account must further be analyzed and interpreted so to draw meaningful conclusions. Thus,
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analysis of accounting information will help the management to assess in the performance of
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business operation and forming future plans also.
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(vi). Presentation or reporting of financial information: The end users of accounting

statements must be benefited from analysis and interpretation of data as some of them are the
"shareholders" and other one the "stake holders". Comparison of past and present statements and
reports, use of ratios and trend analysis are the different tools of analysis and interpretation.
3.3. ACCOUNTING EQUATION
Dual concept states that 'for every debit, there is a credit'. Every transaction should have two-sided
effect to the extent of same amount. This concept has resulted in accounting equation which states
that at any point of time assets of any entity must be equal (in monetary terms) to the total of
owner's equity and outsider's liabilities.
In other words, accounting equation is a statement of equality between the assets and the sources
which finance the assets and is expressed as:
ASSETS = SOURCES OF FINANCE
Assets may be tangible e.g., land, building, plant, machinery, equipment, furniture, investments,
cash, bank, stock, debtors etc. or intangible e.g., patent rights, trade marks, goodwill etc.,
Sources include internal i.e., capital provided by the owner and external i.e., liabilities. Liabilities
are the obligations of the business to others or outsiders. The above equation gets expanded.
ASSETS = LIABILITIES + CAPITAL
All transactions of a business can be referred to this equation:
ASSETS = LIABILITIES + OWNER'S EQUITY

To further explain the transaction of revenues, expenses, losses and gains, the equation can be
expanded thus:
Assets + Expenses = Liabilities + Owner's equity + Revenue Assets = Liabilities + Owner's

equity+ (Revenue – Expenses) Assets = Liabilities + Owner's equity + Net Revenue or Net
Profits Assets = Liabilities + Owner's equity
Let us consider the facts of the following case, step by step, to understand as to how
the equation remains true even in changed circumstances.
ILLUSTRATION: 1
1. Commenced business with cash Rs. 50,000
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2. Purchased goods for cash Rs. 20,000 and on credit Rs. 30,000
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3. Sold goods for cash Rs. 40,000 costing Rs. 30,000
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4. Rent paid Rs. 500

5. Bought furniture Rs. 5,000 on credit
6. Bought refrigerator for personal use Rs. 5,000.
Solution:
1. Commenced business with cash Rs. 50,000
Business receives cash Rs. 50,000 (asset) and it owes Rs. 50,000 to the proprietor as his capital
i.e. equity.
Assets = Liabilities + Owner's equity
Cash Rs. 50,000 = Nil + Capital Rs. 50,000
2. Purchased goods for cash Rs. 20,000 and on credit Rs. 30,000.
Business has acquired asset namely, goods worth Rs. 50,000 and another asset namely, cash
has decreased by Rs. 20,000 and while liability, creditors have been created of Rs. 30,000.
Assets = Liabilities + Owner's equity Cash 30,000 + Goods
50,000 = Creditors 30,000 + Capital 50,000
Rs. 80,000 = Rs. 30,000 + Rs. 50,000
3. Sold goods for cash Rs. 40,000 costing Rs. 30,000.
This transaction has resulted in decrease of goods by Rs. 30,000 and increase in cash by Rs.
40,000,
thus, Increasing equity by Rs. 10,000 (i.e. Profits)
Assets = Liabilities + Owner's equity Cash 70,000 + Goods
20,000 = Creditors 30,000 + Capital 60,000
Rs. 90,000 = Rs. 30,000 + Rs. 60,000
4. Rent paid Rs. 500.
This transaction has resulted in an expenditure of Rs. 500 effecting decrease of cash and equity by
Rs. 500 each.
Assets = Liabilities + Owner's equity
Cash 69,500 + Goods 20,000 = Creditors 30,000 + Capital 59,500 Rs. 89,500
= Rs. 30,000 + Rs.59,500
5. Bought furniture on credit Rs. 5,000.
This transaction results in acquiring an asset namely furniture worth Rs. 5,000 and increasing
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creditors by Rs. 5,000
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Assets = Liabilities + Owner's equity Cash 69,500 +

Goods 20,000 + Furniture 5,000 = Creditors 35,000 + Capital 59,500
Rs. 94,500 = Rs. 35,000 + Rs. 59,500
6. Bought Refrigerator for personal use Rs. 5,000.
This transaction will have the effect of reducing both cash as well as capital by Rs. 5,000 each.
Assets = Liabilities + Owner's equity Cash 64,500
+ Goods 20,000 + Furniture 5,000 = Creditors 35,000 + Capital 54,500
Rs. 89,500 = Rs. 35,000 + Rs. 54,500
3.4. ACCOUNT
An account is a summary of the relevant transactions at one place relating to a particular
head. It records not only the amount of transaction but also their effect and direction.
3.5 JOURNAL – MEANING
Journal is a historical record of business transactions or events. The word journal comes from
the French word "Jour" meaning "day".
It is a book of original or prime entry written up from the various source documents.
Journal is a primary book for recording the day-to-day transactions in a chronological
order i.e. in the order in which they occur. The journal is a form of diary for business
transactions.
This is also called the book of first entry since every transaction is recorded firstly in the journal.
JOURNAL – FORMAT:
Debit Credit
Date Particulars L.F. No.
(in Rs.) (in Rs.)
(a). Date Column: This column shows the date on which the transaction is recorded. The year and
month are written once, till they change.
(b). Particulars Column: Under this column, first the names of the accounts to be debited, then
the names of the accounts to be credited and lastly, the narration (i.e. a brief explanation of the
transaction) are to be entered.
(c). L.F. No. i.e., Ledger Folio Number Column: Under this column, the ledger page number
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containing the relevant account is entered at the time of posting.
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(d). Debit amount Column: Under this column, the amount to be debited is to be entered. k e r- s o ft w a
(e). Credit amount Column: Under this column, the amount to be credited is entered.
3.6. MEANING OF JOURNALISING
The process of recording a transaction in the journal is called journalizing.
3.7.THE VARIOUS STEPS TO BE FOLLOWED IN JOURNALISING BUSINESS TRANSACTIONS ARE
GIVEN BELOW:
➢ Step 1. Ascertain what accounts are involved in a transaction.
➢ Step 2. Ascertain what is the nature of the accounts involved.
➢ Step 3. Ascertain which rule of debit and credit is applicable for each of the accounts
involved.
➢ Step 4. Ascertain which account is to be debited and which is to be credited.
➢ Step 5. Record the date of transaction in the 'Date column'.
➢ Step 6. Write the name of the account to be debited, very close to the left-hand side
i.e. the line demarcating the 'Date column' and the 'Particulars column') along with
the abbreviation 'Dr.' on the same line against the name of the account in the
'Particulars column' and the amount to be debited in the 'Debit Amount column'
against the name of the account.
➢ Step 7. Write the name of the account to be credited in the next line preceded by
the word 'To' at a few spaces towards right in the 'Particular’s column' and the
amount to be credited in the 'Credit Amount column' against the name of the
account.
➢ Step 8. Write 'Narration' (i.e., a brief description of the transaction) within brackets in
the next line in the 'Particular’s column'.
➢ Step 9. Draw a line across the entire 'Particular’s column' to separate one Journal Entry
from the other.
3.8. ADVANTAGES OF JOURNAL
✓ The transactions are recorded in journal as and when they occur so the chances of errors are
minimized.
✓ It helps in preparation of ledger.
✓ Any transfer from one account to another account is made through Journal.
✓ The entries recorded in journal are self-explanatory as it includes narration also. It can
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record any such transaction which cannot be entered in any other books of account.
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✓ Every transaction is recorded in chronological order (date wise) so the chances of
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manipulations are reduced.

✓ Journal shows all information in respect of a transaction at one place.
✓ The closing balances of previous year of accounts related to assets and liabilities can be
brought forward to the next year by passing journal entry in journal.
ILLUSTRATION: 2 Journalize the following transactions and find out the nature of
accounts and also state which account should be debited and which should be credited:
January 2015
1 Nikhil started business with cash Rs. 80,000.
6 Purchased goods from Ram on credit Rs. 30,000.
8 Sold goods on cash Rs. 6,000.
10 Sold goods to Ravi on credit Rs. 25,000.
15 Bought Furniture from Yoshitha for cash Rs. 8,000.
18 Opened a bank account and Deposited Rs. 5,000.
20 Withdrew Cash for personal use Rs. 2,000.
22 Withdrew from bank for office use Rs. 1,500.
29 Paid Salary to manager Rs. 6,500.
30 Paid Rent to land lord in cash Rs. 1,000.
31 Commission received Rs. 1,200.
Solution
Journal Entries
L.F. Debit Credit
Date Particulars
No. (in Rs.) (in Rs.)
Cash A/c Dr. 80,000
To Capital A/c 80,000
(Being Nikhil started business with cash)
Cash A/c → Real A/c
1.1.15 Cash what comes in to the business and it should be
debited.
Capital A/c → Personal A/c
Owner is the giver of capital into the business and his
account should be credited as capital
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Purchases A/c Dr. 30,000
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30,000k e r- s o ft w
(Being Purchased goods from Ram on credit)
Purchases A/c → Real A/c
6.1.15 Purchased goods what comes in to the business and
it should be debited.
Ram A/c → Personal A/c
Ram is the giver of goods in to the business and his
account should be credited.
Cash A/c Dr. 6,000
To Sales A/c 6,000
(Being Sold goods on cash)
debited.
Sales A/c → Real A/c
Sold goods what goes out from the business and it
should be credited.
Ravi A/c Dr. 25,000
To Sales A/c 25,000
(Being Sold goods to Ravi on credit)
Ravi A/c → Personal A/c
10.1.15 Ravi is the receiver of goods and his account should be
debited.
Sales A/c → Real A/c
Sold goods what goes out from the business and it
should be credited.
Furniture A/c Dr. 8,000
To Yoshitha A/c 8,000
(Being Bought Furniture from Yoshitha)
Furniture A/c → Real A/c
15.1.15 Furniture what comes in to the business and it should
be debited.
Yoshitha A/c → Personal Account.
Yoshitha is the giver and her account should be
credited.
Bank A/c Dr. 5,000
18.1.15 To Cash A/c 5,000
(Being Opened a bank account and deposited)
Bank A/c → Personal A/c (Artificial)
Banker is the receiver of cash and bank should be
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debited.
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Cash what goes out from the business to Bank and

cash should be credited.
Drawings A/c Dr. 2,000
To Cash A/c 2,000
(Being Withdrew Cash for personal use)
Drawings A/c → Personal A/c
Owner is the receiver, who withdrew cash for
20.1.15
personal use from the business and his name should
be debited as Drawings.
Cash what goes out from the business and it should be
credited.
Cash A/c Dr. 1,500
To Bank A/c 1,500
(Being Withdrew from bank for office use)
22.1.15 Cash what comes into the business from bank and cash
should be debited.
Bank A/c → Personal A/c (Artificial)
Banker is the giver of cash and bank should be
credited.
Salary A/c Dr. 6,500
To Cash A/c 6,500
(Being Salary paid to Manager)
Salary A/c → Nominal A/c
29.1.15 Salary is an expense to the business and it should be
debited.
credited.
Rent A/c Dr. 1,000
To Cash A/c 1,000
(Being Rent paid to landlord)
Rent A/c → Nominal A/c
30.1.15 Rent is an expense to the business and it should be
debited.
credited.
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Cash A/c Dr. 1,200
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To Commission A/c
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(Being Commission received)
31.1.15 Cash what comes into the business and it should be
debited.
Commission A/c → Nominal A/c
Commission is an income to the business and it should
be credited.
3.8. COMPOUND JOURNAL ENTRIES

When more than two accounts are involved in a transaction and the transaction is recorded by
means of a single journal entry instead of passing several journal entries, such single journal
entry is termed as 'Compound Journal Entry'.
ILLUSTRATION: 3 Journalize the following transactions and find out the nature of accounts and
also state which account should be debited and which should be credited:
1.11.15 Paid to Arun Rs. 5,900 discounts received from him Rs.100
5.11.15 Cash Received from Subash Rs. 9,800 and discount allowed to him Rs. 200.
6.11.15 Received from Somesh Rs. 1,900 and from Kamesh Rs. 1,000.
8.11.15 Paid cash to Raman Rs. 2,000 and Baskar Rs. 4,000.
31.11.15 Paid Salary in cash Rs. 7,600 and Paid Rent in cash Rs. 1,400
Solution:
Journal Entries
L.F. Debit Credit
Date Particulars
Arun A/c Dr. 5,900
To Discount received A/c 100
To Cash A/c
(Being Paid to Arun and discount received from 5,900
him)
1.11.15 Arun A/c → Personal A/c
Arun is the receiver and his account should be
debited.
Discount received A/c → Nominal A/c
Discount received is an income to the business and
it should be credited.
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Cash what goes out from the business and it should
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Cash A/c Dr. 9,800

Discount allowed A/c Dr. 200
To Subash A/c 10,000
(Being Cash Received from Subash and discount
allowed to him)
debited.
Discount allowed A/c → Nominal A/c
Discount allowed is an expense to the business and
it should be credited.
Subash A/c → Personal Account.
Subash is the giver and his account should be
credited.
Cash A/c Dr. 2,900
To Someh A/c 1,900
To Kamesh A/c
(Being Cash Received from Somesh and Kamesh 1,000
on the same date)
debited.
Somesh A/c → Personal Account.
Somesh is the giver and his account should be
credited.
Kamesh A/c → Personal Account.
Kamesh is the giver and his account should be
credited.
Raman A/c Dr. 2,000
Basker A/c Dr. 4,000
To Cash A/c 6,000
(Being Paid cash to Raman and Basker on the
8.11.15 same date)
Raman A/c → Personal A/c
Raman is the receiver and his account should be
debited.
Basker A/c → Personal A/c
Basker is the receiver and his account should be
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debited.
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be credited.
Rent A/c Dr. 1,400
To Cash A/c 9,000
(Being Salary and Rent paid)
Salary A/c → Nominal A/c
Salary is an expense to the business and it should
31.11.15 be debited.
Rent A/c → Nominal A/c
Rent is an expense to the business and it should be
debited.
be credited.
3.9. OPENING ENTRY
A journal entry by means of which the balances of various assets, liabilities and capital
appearing in the balance sheet of previous accounting period are brought forward in the books
of the current accounting period, is known as 'Opening Entry'.
While passing an opening entry, all assets accounts (individually) are debited and all liabilities
accounts (individually) are credited and the Net worth (i.e. excess of assets over liabilities) is
credited to Proprietor's Capital Account (in case of a proprietary concern) or Partners' Capital
Accounts (in case of a partnership concern).
ILLUSTRATION: 4 On 1st April 2016, Dhoni's assets and liabilities stood as follows:
Assets: Cash Rs. 6,000; Bank Rs. 17,000; Stock Rs. 3,000; Bills Receivable Rs.7,000; Debtors
Rs. 3,000; Building Rs.70,000; Investments Rs. 30,000; Furniture Rs. 4,000. Liabilities: Bills
payable Rs. 5,000; Creditors Rs. 9,000; Ram's Loan Rs. 13,000. Pass an opening Journal entry.
Solution:
Journal Entry
Date Particulars L.F. Debit Credit

Cash A/c Dr. 6,000
01.04.16 Bank A/c Dr. 17,000
Stock A/c Dr. 3,000
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Bills Receivable A/c Dr. 7,000
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Debtors A/c Dr. 3,000
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Building A/c Dr. 70,000

Investment A/c Dr. 30,000
Furniture A/c Dr. 4,000 5,000
To Bills payable A/c 9,000
To Creditor's A/c 13,000
To Ram's loan A/c 1,13,000
To Capital A/c (B/F)
(Being the opening balances of assets and
liabilities)
3.10. GOODS ACCOUNT
In accounting the meaning of goods is restricted to only those articles which are purchased by a
businessman with an intention to sell it. For example, if a businessman purchased Computers, it
will be goods for him if he deals in Computers, but if he deals in other business-like cloth business
then computer will be asset for him and clothes will be goods.
3.11.SUB-DIVISION OF GOODS ACCOUNTS
The goods account is not opened in accounting books. In place of goods account the following
accounts are opened in the books of accounts:
Purchases Account: This is opened for goods purchased on cash and credit.
Sales Account: This account is opened for the goods sold on cash and credit.
Purchase Returns Account or Return Outward Account: This account is opened for the goods
returned to suppliers.
Sales Returns Account or Return Inward Account: This account is opened for the goods returned
by customers.
3.12. IMPORTANT CONSIDERATIONS FOR RECORDING THE BUSINESS TRANSACTIONS
(i). Trade Discount: Trade discount is usually allowed on the list price of the goods. It may
be allowed by producer to wholesaler and by wholesaler to retailer for purchase of goods
in large quantity.
(ii). Cash Discount: Cash discount is a concession allowed by seller to buyer to encourage him to
make early cash payment. It is a Nominal Account. The person who allows discount, treat it as an
expense and debits in his books and it is called discount allowed and the person who receives
discount, treat it as an income and it is called discount received and credited in his books of
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account as "Discount Received Account."
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(iii). Goods distributed as free samples: Sometimes business distribute goods as free samples
for the purpose of advertisement. In this case, Advertisement Account is debited and Purchases
Account is credited. For example, goods costing Rs. 8000 were distributed as free sample. To
record this transaction following entry will be passed:
(iv). Interest on capital: Interest paid on capital is an expense. Therefore, interest account should
be debited. On the other hand, the capital of the business increases. So, the capital account should
be credited. The entry will be as follows:
(v). Interest charged on Drawings: If the interest is charged on drawings, then it will be an
increase in the income of business, so interest on drawings will be credited. On the other hand,
there will be increase in drawings or decrease in Capital. So, Drawings Account will be debited.
To record this, following entry will be passed:
(vi). Depreciation charged on Fixed Assets: Depreciation is the gradual, permanent decrease in
the value of an asset due to wear and tear and many other causes. Depreciation is an expense
so the following entry will be passed:
(vii). Bad Debts: Sometimes a debtor of business fails to pay the amount due from him. Reasons
may be many e.g. he may become insolvent or he may die. Such irrecoverable amount is a loss to
the business. To record this following entry will be passed:
(viii). Bad Debts Recovered: When any amount becomes irrecoverable from any costumer or
debtor his account is closed in the books. If in future any amount is recovered from him then his
personal account will not be credited because that does not exist in the books. So, the following
entry is passed.
(ix). Purchase and Sale of investment: When business has some surplus money it may invest
this amount is shares, debentures or other types of securities. When these securities are
purchased, these are recorded at the purchase price paid. At the time of sale of investment, the
sale price of an investment is recorded in the books of accounts.
(x). Loss of Goods by Fire/Accident/theft: A business may suffer loss of goods on account of fire,
theft or accident. It is a business loss and a nominal account. It also reduces the goods at cost price,
and increases the loss/expenses of the business. The entry will be passed as:
(xi). Income Tax Paid: Income Tax paid should be debited to Capital Account or Drawings
Account and credited to Cash Account in case of sole proprietorship and partnership firms. The
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reason behind this is that income tax is a personal expense for the sole trader and partners
because it is paid on income of proprietor. The entry will be as follows:
(xii). Bank Charges: Bank provide various services to their customers. Bank deducts some
charges by debiting the account of customers. It is an expense for the business. To record this,
Bank charges account is debited and bank account is credited in the books of customer.
(xiii). Drawings Account: It is a personal account of the proprietor. When the businessman
withdraws cash or goods from the business for his personal/domestic use it is called as 'drawings'.
Drawings reduce the capital as well as goods/cash balance of the business. The journal entry is:
(xiv). Personal expenses of the proprietor: When the private expenses such as life insurance
premium, income tax, home telephone bill, tuition fees of the son of the proprietor etc. are paid
out of the cash or bank account of business it should be debited to the Drawings Account of the
proprietor.
(xv). Sale of Asset/Property: When the asset of a business is sold, there may occur a profit or loss
on its sale. Amount paid Amount paid on behalf of creditors. When the creditors/supplier instructs
the business entity to make payment on their behalf, the amount so paid should be debited to
creditors account and liability of the business will decrease accordingly.
(xvi). Paid wages/installation charges for erection of machinery: Wages and installation
charges are the expenses of nominal nature. But for erection of machinery no separate account
should be opened for such expenses because these expenses are of capital nature and it will be
merged/debited to the cost of assets i.e. machinery.
ILLUSTRATION: 6 Journalize the following transactions of Mr. T.K.Thrishan:
2003, Mar. 1. Thrishan commenced business with cash Rs. 1,60,000;
2 Opened current account with Indian Bank Rs. 40,000;
3 Bought goods from Suganya Rs. 20,000;
4 Sales to Anitha Rs. 16,000;
5 Sold to Sheela Rs. 80,000;
6 Swamy sold goods to us Rs. 10,000;
7 Kannan bought goods from us Rs. 6,000;
8 Typewriter purchased Rs. 12,000;
9 Paid salaries Rs. 5,000;
25 Withdrew cash for personal use Rs. 3,000.
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Solution: Journal Entries

Cash A/c Dr. 1,60 ,000
1.3.2003 To Capital A/c 1,60 ,000
(Being Ram commenced business with cash)
Bank A/c Dr. 40,000
2.3.2003 To Cash A/c 40,000
(Being opened current account with Indian Bank)
3.3.2003 To Suganya A/c 20,000
(Being bought goods from Suganya)
Anitha A/c Dr. 16,000
4.3.2003 To Sales A/c 16,000
(Being sales to Anitha)
Sheela A/c Dr. 80,000
5.3.2003 To Sales A/c 80,000
(Being sold to Sheela)
6.3.2003 To Swamy A/c 10,000
(Being Swamy sold goods to us)
Kannan A/c Dr. 6,000
7.3.2003 To Sales A/c
6,000
(Being Kannan Bought goods from us)
Typewriter A/c Dr. 12,000
8.3.2003 To Cash A/c 12,000
(Being typewriter purchased)
Salaries A/c Dr. 5,000
9.3.2003 To Cash A/c 5,000
(Being paid salaries)
25.3.2003 To Cash A/c 3,000
(Being withdrew cash for personal use)
ILLUSTRATION: 7 Journalise the following transactions:
2006, Mar. 1 Venkatramaraju commenced business with a capital of Rs. 30,000;
2 Bought Machinery Rs. 5,000;
3 Bought goods for cash from Mr. Kadhir Rs. 2,500;
4 Sold goods for cash to Mr. Jagadish Rs. 4,000;
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5 Purchases goods from Mr. Barath Rs. 3,000;
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6 Cash sales Rs. 5,000;
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10 Received interest from Mr. Ashok Rs. 2,000;

11 Deposited cash into bank Rs. 6,000;
14 Paid cash to Mr. Barath Rs. 2,500 in full settlement of his account Rs. 3,000;
15 Paid rent by cheque Rs. 500.
Cash A/c Dr. 30 ,000
1.3.2006
To Capital A/c 30 ,000
(Being Venkatramaraju commenced business
with capital)
Machinery A/c Dr. 5,000
2.3.2006 To Cash A/c 5,000
(Being bought machinery)
3.3.2006 To Cash A/c 2,500
(Being bought goods for cash from Mr. Kadhir)
Cash A/c Dr. 4,000
4.3.2006 To Sales A/c 4,000
(Being sold goods to Jagadish for cash)
5.3.2006 To Barath A/c 3,000
(Being Purchased goods from Mr. Barath)
Cash A/c Dr. 5,000
6.3.2006 To Sales A/c 5,000
(Being Cash sales)
Cash A/c Dr. 2,000
10.3.2006 To Interest received A/c 2,000
(Being interest received from Mr. Ashok)
Bank A/c Dr. 6,000
11.3.2006 To Cash A/c 6,000
(Being deposited cash into bank)
Barath A/c Dr. 3,000
To Discount received 500
14.3.2006 A/c To Cash A/c 2,500
(Being paid cash to Mr. Barath in full
settlement of his account)
Rent A/c Dr. 500
15.3.2006
To Bank A/c 500
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ILLUSTRATION: 8 Mr. Subramani started his business on 1st April 2005 with Rs. 50,000 as his
capital. Following was the transaction for the month of April:
2005, Apr. 1 Paid into bank Rs. 20,000;
2 Purchased furniture from Modern furniture Ltd. on credit Rs. 3,000;
6 Sold goods on credit to Mr. Siva Rs. 3,500;
8 Paid to Modern Furniture Ltd. Cash Rs. 2,000;
9 Purchased goods from Mohan Rs. 8,800;
15 Paid wages in cash Rs. 200;
19 Issued Cheque to Mohan Rs. 7,000;
20 Received from Mr. Siva Rs. 1,500;
21 Paid into bank Rs. 1,500;
25 Cash purchases Rs. 1,800;
27 Goods withdrawn for personal use Rs. 500;
28 Cash withdrawn for personal use Rs. 750;
29 Paid for stationery Rs. 100;
30 Paid salaries by cheque Rs. 1,000.
L.F. Debit Credit
Date Particulars
Bank A/c Dr. 20,000
1.4.2005 To Cash A/c (Being paid into bank) 20,000
2.4.2005 To Modern Furniture Ltd. A/c 3,000
(Being purchased furniture from Modern
Furniture Ltd. on credit)
Siva A/c Dr. 3,500
6.4.2005 To Sales A/c 3,500
(Being Sold goods on credit to Siva)
Modern Furniture Ltd. A/c Dr. 2,000
8.4.2005 To Cash A/c 2,000
(Being paid to Modern Furniture Ltd.)
9.4.2005 Purchases A/c Dr. 8,800
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To Mohan A/c 8,800
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(Being Purchased goods from Mr. Mohan)
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Wages A/c Dr. 200

15.4.2005 To Cash A/c 200
(Being paid wages in cash)
Mohan A/c Dr. 7,000
19.4.2005 To Bank A/c 7,000
(Being issued to Cheque to Mohan)
Cash A/c Dr. 1,500
20.4.2005 To Siva A/c 1,500
(Being received from Siva)
Bank A/c Dr. 1,500
21.4.2005 To Cash A/c (Being paid into bank) 1,500
Cash A/c Dr. 3,500
23.4.2005 To Sales A/c (Being cash sales) 3,500
25.4.2005 To Cash A/c (Being cash purchases) 1,800
Drawings A/c Dr. 500
27.4.2005 To Purchases A/c 500
(Being goods withdrawn for personal use)
DrawingsA/c Dr. 750
28.4.2005 To Cash A/c 750
(Being cash withdrawn for personal use)
Stationery A/c Dr. 100
29.4.2005 To Cash A/c 100
(Being paid for stationery)
30.4.2005 To Bank A/c 1,000
(Being Salaries paid by cheque)
ILLUSTRATION: 9 Journalise the following transactions: 2005,
June 1 Karthick commences business with Rs. 20,000;
4 Purchased plant from Modi & Co Rs. 10,000;
5 Purchased goods from Manmohan Rs. 5,000;
6 Goods sold to Anbu Rs. 4,000;
8 Sold goods for cash Rs. 2,000;
10 Goods returned by Anbu Rs. 50;
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15 Paid Rent Rs. 250;

18 Withdrawn from bank for office use Rs. 2,500;
25 Withdrawn from bank for personal use Rs. 2,000;
26 Goods returns to Manmohan Rs. 100;
27 Paid for office furniture by cheque Rs. 1,500;
28 Received cash from Anbu Rs. 3,900 and discount allowed Rs. 50;
29 Paid Manmohan an account and discount allowed by him Rs. 100.
L.F. Debit Credit
Date Particulars
Cash A/c Dr. 20,000
1.6.2005 To Capital A/c 20,000
(Being Karthick commenced business with cash)
Bank A/c Dr. 5,000
2.6.2005 To Cash A/c (Being paid 5,000
into bank)
Plant A/c Dr. 10,000
4.6.2005 To Modi & Co. A/c 10,000
(Being Purchased plant from Modi & Co.)
5.6.2005 To Manmohan A/c 5,000
(Being paid to purchased goods from Manmohan)
AnbuA/c Dr. 4,000
6.6.2005 To Sales A/c 4,000
(Being goods sold to Anbu)
Cash A/c Dr. 2,000
8.6.2005 To Sales A/c 2,000
(Being sold goods for cash)
Sales Return A/c Dr. 50
10.6.2005 To Anbu A/c 50
(Being goods returned by Anbu)
Rent A/c Dr. 250
15.6.2005 To Cash A/c (Being 250
paid rent)
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Cash A/c Dr. 2,500
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18.6.2005 To Bank A/c 2,500
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(Being withdrawn from bank for office use)

20.6.2005 To Cash A/c (Being paid 1,800
salaries)
25.6.2005 To Bank A/c 2,000
(Being withdrawn from bank for personal use)
Manmohan A/c Dr. 100
26.6.2005 To Purchases Return A/c 100
(Being goods returned to Manmohan)
FurnitureA/c Dr. 1,500
27.6.2005 To Bank A/c 1,500
(Being paid for office furniture by cheque)
Cash A/c Dr. 3,900
Discount Allowed A/cDr. 50
28.6.2005 3,950
To Anbu A/c
(Being Received cash from Anbu and discount allowed)
Manmohan A/c Dr. 4,900
To Discount received A/c 100
29.6.2005 To Cash A/c (5,000 – 100 – 100) 4,800
(Being Paid Manmohan, an account and discount
allowed by him)
ILLUSTRATION: 10 Journalise the following transactions: 2020,

June 1 Purchased goods for cash Rs. 10,000;
2 Purchased stationery for cash Rs. 500;
3 Purchased furniture for cash Rs. 4,000;
5 Sold goods to Jani for cash Rs. 4,000;
6 Sold goods to Jayaprakash Rs. 2,000;
7 Paid rents to Varadhan, the landlord Rs. 2,400;
8 Paid Salaries Rs. 800;
9 Paid Lokesh, the manager his salary of Rs. 4,000; 10
Paid freight on goods purchased Rs. 2,000;
11 Paid wages Rs. 500;
12 Paid freight on machine purchased Rs. 400;
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13 Paid wages to erect a machine Rs. 1,000;
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14 Received from Kamal Rs. 800;
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15 Received from Kamal as interest Rs. 600;

16 Received from Savithiri as loan at 6% interest Rs. 7,000.
25 Received commission Rs. 4,000;
26 Received rent from sub-letting Rs. 500; 29
Paid Electricity charges Rs. 1,000;
30 Paid Telephone charges Rs. 1,200.

L.F. Debit Credit
Date Particulars
1.6.2020 To cash A/c 10,000
(Being Purchased goods for cash)
2.6.2020 To Cash A/c 500
(Being purchased stationery for cash)
3.6.2020 To Cash A/c 4,000
(Being Purchased furniture for cash)
Cash A/c Dr. 8,000
4.6.2020 To Sales A/c 8,000
(Being sold goods for cash)
Cash A/c Dr. 4,000
5.6.2020 To Sales A/c 4,000
(Being goods sold for Jani for cash)
Jayaprakash A/c Dr. 2,000
6.6.2020 To Sales A/c 2,000
(Being sold goods to Jayaprakash)
Rent A/c Dr. 2,400
7.6.2020 To Cash A/c 2,400
(Being Rent to Varadhan, the landlord)
Salaries A/c Dr. 800
8.6.2020 To Cash A/c 800
(Being paid Salaries)
9.6.2020 To Cash A/c 4,000
(Being salary to Lokesh, the manager)
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Freight inwards A/c Dr. 2,000
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10.6.2020 To Cash A/c 2,000
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(Being freight on goods purchased)

Wages A/c Dr. 500
11.6.2020 To Cash A/c 500
(Being paid wages)
Machinery A/c Dr. 400
12.6.2020 To Cash A/c 400
(Being freight on machinery purchased)
MachineryA/c Dr. 1,000
13.6.2020 To Cash A/c 1,000
(Being wages paid on erection of a machinery)
Cash A/c Dr 800
To Kamal A/c 800
14.6.2020
(Being Received cash from Anbu and discount
allowed)
Cash A/c Dr. 600
15.6.2020 To Interest received A/c 600
(Being received from Kamal as interest)
Cash A/c Dr. 7,000
To Savithri’s Loan A/c 7,000
16.6.2020
(Being received from Savithri as Loan at 6%
interest)
Cash A/c Dr. 4,000
25.6.2020 To Commission A/c 4,000
(Being commission received)
Cash A/c Dr. 500
26.6.2020 To Rent received A/c 500
(Being rent received from sub-letting portion)
Electricity Charges A/c Dr. 1,000
29.6.2020 To Cash A/c 1,000
(Being paid electricity charges)
Telephone Charges A/c Dr. 1,200
30.6.2020 To Cash A/c 1,200
(Being paid telephone charges)
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3.13. SUB-DIVISION OF JOURNAL
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Journal is an important book for accounting in every business. In a small-sized business, the
number of transactions is less; hence, it is appropriate to do accounting in a journal. But in
large-scale operations, the number of transactions is more, and then it is not possible to
record every transaction in the journal. Moreover, the recording of all the transactions in the
journal may lead to delay in getting information. Hence, for convenience, the journal is
divided into many books.
Hence, the journal can be divided into the following:

(a). Cash Book: In this book, transactions of all cash receipts and cash payments are
recorded. All banking transactions are also recorded in this book.
(b). Purchases Book: Goods purchased on credit are recorded in this book.
(c). Sales Book: Goods sold on credit are recorded in this book.
(d). Purchases Return Book: If goods purchased on credit are returned, then they are
recorded in this book.
(e). Sales Return Book: If goods sold on credit are returned by customers, thenthere are
(f). Bills Receivable Book: Bills of exchanges, promissory notes, hundis, received from
customers are recorded in this book.
(g). Bills Payable Book: Bills of exchanges, promissory notes, hundis, issued by the
business are recorded in this book.
(h). Journal Proper: Any transaction, which is not recorded in the above books, is recorded
in this book, for example, opening entries, closing entries, adjustment entries, entries of
error rectification, etc.
3.14. LEDGER
Journal is a daily record of all business transactions. In the journal all transactions relating to
persons, expenses, assets, liabilities and incomes are recorded. Journal does not give a complete
picture of the fundamental elements of book keeping i.e. properties, liabilities, proprietorship
accounts and expenses and incomes at a glance and at one place.
Business transactions being recurring in nature, a number of entries are made for a particular type
of transactions such as sales, purchases, receipts and payments of cash, expenses etc., throughout
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the accounting year. The entries are therefore scattered over in the Journal. In fact, the whole
Journal will have to be gone through to find out the combined effect of various transactions on a
particular account. In case, at any time, a businessman wants to now :
(i) How much he has to pay to the suppliers/creditors of goods?
(ii) How much he has to receive from the customers?
(iii) What is the total amount of purchases and sales made during a particular period?
(iv) How much cash has been spent/incurred on various items of expenses such as
salaries, rent, carriage, stationery etc.
(v) What is the amount of profit or loss made during a particular period?
(vi) What is the financial position of the unit on a particular date?
The above-mentioned information cannot be easily gathered from the journal itself because the
details of such information is scattered all over the journal. It is thus of dire need to get a
summarized/grouped record of all the transactions relating to a particular person, or a thing or
an expenditure to take managerial decisions. The mechanics of collecting, assembling and
summarizing all transactions of similar nature at one place can better be served by a book known
as 'ledger' i.e. a classified head of accounts.
3.16. LEDGER – MEANING
The mechanics of collecting, assembling and summarizing all transactions of similar nature at
one place can better be served by a book known as 'ledger' i.e. a classified head of accounts.
Ledger is a principal book of accounts of the enterprise. It is rightly called as the 'King of
Books'. Ledger is a set of accounts. Ledger contains the various personal, real and nominal
accounts in which all business transactions of the entity are recorded.
3.17. MAIN FUNCTION OF THE LEDGER
The main function of the ledger is to classify and summarize all the items appearing in Journal
and other books of original entry under appropriate head/set of accounts so that at the end of
the accounting period, each account contains the complete information of all transaction relating
to it.
A ledger therefore is a collection of accounts and may be defined as a summary statement of all
the transactions relating to a person, asset, expense or income which have taken place during a
given period of time and shows their net effect.
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3.18. RELATIONSHIP BETWEEN JOURNAL AND LEDGER

Journal and Ledger are the most useful books kept by a business entity. The points of distinction
between the two are given below:
➢ The journal is a book of original entry whereas the ledger is the main book of
account.
➢ In the journal business transactions are recorded as and when they occur i.e.
date-wise. However, posting from the journal is done periodically, may be
weekly, fortnightly as per the convenience of the business.
➢ The journal does not disclose the complete position of an account. On the
other hand, the ledger indicates the position of each account debit wise or
credit wise, as the case may be. In this way, the net position of each account
is known immediately.
➢ The record of transactions in the journal is in the form of journal entries
whereas the record in the ledger is in the form of an account.
3.19. UTILITY OF A LEDGER

The main utilities of a ledger are summarized as under :
❖ It provides complete information about all accounts in one book.
❖ It enables the ascertainment of the main items of revenues and expenses
❖ It enables the ascertainment of the value of assets and liabilities.
❖ It facilitates the preparation of Final Accounts.
3.20. FORMAT OF A LEDGER ACCOUNT

A ledger account can be prepared in the following form:
Dr. NAME OF THE LEDGER Cr.
J.F. Amount J.F. Amount
Date Particulars Date Particulars
No. (in Rs.) No. (in Rs.)
3.21. POSTING – MEANING:

Posting refers to the process of transferring debit and credit amounts from the Journal or
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subsidiary books to the respective heads of accounts in the ledger.
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Journal will have at a minimum of one debit and one credit for each transaction. The ledger will
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have either a debit or a credit for each account used in the Journal. Posting may be done daily,
weekly fort nightly or monthly according to the convenience and requirements of the business,
but care should be taken to complete it before the preparation of annual financial statements.
3.22. PROCEDURE/RULES OF POSTING
The following rules should be followed while posting business transactions to respective
accounts in the ledger from the journal:
a) Enter the date and year of the transaction in the date column.
b) Open separate account in the ledger for each person, asset, revenue, liability, expense,
income and loss appearing in the Journal.
c) The appropriate/relevant account debited in the Journal will be debited in the
ledger, but the reference should be given of the other account which has been
credited.
d) Similarly, the account credited in the Journal should be credited in the ledger, but
the reference has to be given of the other account which has been debited in the
Journal.
(e).The debit posting should be prefixed by the word 'To' and credit posting should be
prefixed by the word 'By'.
(f). In the Journal Folio (J.F.) column the page number of the book of original entry (Journal) is
entered.
ILLUSTRATION: 11. Goods sold to Ravi for Rs. 1,000 on credit on 1st April 2016. Record this
transaction in the journal and the ledger.
Solution:
Journal Entry
L.F. Debit Credit
Date Particulars
Ravi A/c Dr. 1,000
1.4.16 To Sales A/c 1,000
(Being goods sold to Ravi on credit)
The above journal entry will appear in the ledger in two accounts as follows. On the
debit side of Ravi's Account, will enter as "To Sales Account" and on the credit side of
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Sales Account will enter "By Ravi Account".

Ledger Accounts:
Dr. Ravi A/c Cr.
1.4.16 To Sales A/c 1,000
Dr. Sales A/c Cr.
1.4.16 By Ravi A/c 1,000
3.23. POSTING OF COMPOUND JOURNAL ENTRY
When a single entry is passed to record more than one transaction, it is known as a
compound journal entry. However, it will be treated as several separate entries while posting.
The following example will make the point clear:
ILLUSTRATION: 12. On 31.3.2016 Purchased stationary 1,000; Paid salary 7,000; Paid wages
600; Paid rent 1,200.
Pass the necessary journal entry and prepare ledger accounts.
Solution:
Journal Entry
Stationery A/c Dr. 1,000
Wages A/c Dr. 600
31.3.16 Rent A/c Dr. 1,200 9,800
To Cash A/c
(Being Purchased stationery and Sundry expenses
paid)
Ledger Accounts:
Dr. Stationery A/c Cr.
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31.3.16 To Cash A/c 1,000
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k e r- s o ft w
Dr. Salary A/c Cr. k e r- s o ft w a

31.3.16 To Cash A/c 7,000
Dr. Wages A/c Cr.
31.3.16 To Cash A/c 600
Dr. Rent A/c Cr.
31.3.16 To Cash A/c 1,200
r. Cash A/c Cr.
By Stationery A/c 1,000
31.3.16 By Salary A/c 7,000
By Wages A/c 600
By Rent A/c 1,200
2.24. BALANCING OF AN ACCOUNT

After transferring the entries from Journal to the ledger, the next stage is to ascertain the net effect
of all the transactions posted to relevant account. When the posting is completed, most of the
accounts may have entries on both sides of the accounts i.e. debit entries and credits entries. The
process of finding out the difference between the totals of the two sides of a Ledger account is
known as balancing and the difference of the total debits and the total credits of accounts is known
as balance.
If the total of the credit side is bigger than the total of the debit side, the difference is known as
credit balance. In the reverse case, it is called debit balance.
2.25. STEPS FOR BALANCING LEDGER ACCOUNT
Ledger accounts may be balanced as and when it is required. The balances of various
accounts are ascertained as under :
a) Make the total of both sides of an account in a worksheet.
b) Write down the higher amount on the side obtained e.g. if the total of the debit
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side is 10,000 and the credit side is 8,000, the amount Rs. 10,000 is first inserted
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in the total on the debit side.
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c) Also write down the same total on the other side of the account i.e. the total of
Rs. 10,000 is written against the total on the credit side also.
d) Find out the difference between the two sides of the account. In this example
debit side is more than credit side; therefore, there is a debit balance of
Rs. 2,000.
e) This debit balance of Rs. 2,000 is to be shown as "By Balance c/d" in the account
on the credit side.
f) Finally, the amount of the closing balance should be brought down as the
opening balance at the beginning of the next day. Remember that if the opening
balance is not written on the next day, the balancing is incomplete.
2.26. BALANCING OF DIFFERENT ACCOUNTS
Balancing is done either weekly, monthly, quarterly, biannually or annually, depending on the
requirements of the business concern.
(i). Personal Accounts: Personal accounts are balanced regularly to know the amounts due to
the persons or due from the persons. A debit balance of this account indicate that the person
concerned is a debtor of the business concern and a credit balance indicates that he is a creditor
of the business concern. If a personal account shows no balance at all, it means that the amount
due to him or due from him is settled in full.
(ii). Real Accounts: Real accounts are generally balanced at the end of the accounting year
when final accounts are prepared and show either debit balance or credit balance.
(iii). Nominal Accounts: In fact, nominal accounts are not balanced, as they are to be closed by
transferring them to the final accounts i.e. Trading and Profit and Loss Account.
ILLUSTRATION: 13Journalese the following transactions and post them in the ledger and
prepare trial balance:
2020, July 1 Ram Started business with a capital of Rs. 10,000;

4 He purchased goods from Mohan on credit Rs. 2,000;
5 He paid cash to Mohan Rs. 1,000.
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Solution: Journal Entries in the books of Mr. Ram

L.F. Debit Credit
Date Particulars
Cash A/c Dr. 10,000
1.7.2020 To Capital A/c 10,000
(Being Ram started business with capital)
2.7.2020 To Cash A/c 4,000
(Being purchased furniture for cash)
4.7.2020 To Mohan A/c 2,000
(Being Purchased goods from Mohan on credit)
Mohan A/c Dr. 1,000
5.7.2020 To Cash A/c 1,000
(Being paid cash to Mohan)
Ledger Accounts in the books of Mr. Ram
Dr. Cash A/c Cr.
J.F. J.F.
Date Particular Amount Date Particulars Amount
No. No.
1.7.20 To Capital A/c 10,000 2.7.20 By Furniture A/c 4,000
5.7.20 By Mohan A/c 1,000
31.7.20 By Balance c/d 5,000
10,000 10,000
1.8.20 To Balance b/d 5,000
Dr. Capital A/c Cr.
J.F. J.F.
Date Particular Amount Date Particular Amount
No. No.
31.7.20 To Balance c/d 10,000 1.7.20 By Cash A/c 10,000
10,000 10,000
1.8.20 By Balance b/d 10,000
Dr. Furniture A/c Cr.
J.F. J.F.
Date Particulars Amount Date Particulars Amount
No. No.
2.7.20 To Cash A/c 4,000 31.7.20 By Balance c/d 4,000
4,000 4,000
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Dr. Purchases A/c Cr.

J.F. J.F.
No. No.
4.7.20 To Mohan A/c 2,000 31.7.20 By Balance c/d 2,000
2,000 2,000
Dr. Mohan A/c Cr.
Date Particulars J.F. Amount Date Particulars J.F. Amount
No. No.
5.7.20 To Cash A/c 1,000 1.7.20 By Purchases A/c 2,000
31.7.20 To Balance c/d 1,000
2,000 2,000
1.8.20 By Balance b/d 1,000
ILLUSTRATION: 14. Pass Journal entries, Prepare Ledger account and also Prepare Trial
Balance for the following transactions in the books of Mrs. Leah Thomas:
2019 June 1 Started business with cash Rs. 45,000; Paid into bank Rs. 25,000;
1Goods purchased for cash Rs. 15,000;
4 Purchase of furniture and payment by cheque Rs. 5,000;
5 Goods sold Rs. 8,500;
8 Goods sold to Aravind Rs. 4,000;
10 Goods from Arun Rs. 7,000;
12 Goods returned to Arun Rs. 1,000; 15
Goods returned by Aravind Rs. 200;
15 Cash received from Aravind and discount allowed to him Rs. 40;
19 Withdrew from bank for private use Rs. 1,000;
21 Withdrew from bank for use in the business Rs. 5,000;
25 Paid for telephone rent Rs. 400;
27 Cash paid to Arun in full settlement of his account Rs. 5,940;
30 Paid for stationery Rs. 200; Rent Rs. 1,000 and Salaries to staff Rs. 2,500.
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Solution: Journal Entries in the books of Mrs. Leah Thomas

L.F. Debit Credit
Date Particulars
Cash A/c Dr. 45,000
1.6.2019 To Capital A/c 45,000
(Being started business with cash)
Bank A/c Dr. 25,000
1.6.2019 To Cash A/c 25,000
(Being paid into bank)
2.6.2019 To Cash A/c 15,000
(Being goods purchased for cash)
4.6.2019 To Bank A/c 5,000
(Being purchased furniture by cheque)
Cash A /c Dr. 8,500
5.6.2019
To Sales A/c (Being goods sold) 8,500
Aravind A/c Dr. 4,000
8.6.2019 To Sales A/c 4,000
(Being goods sold to Aravind)
10.6.2019 To Arun A/c 7,000
(Being Purchased goods from Arun)
Arun A/c Dr. 1,000
12.6.2019 To Purchases Return A/c (Being 1,000
goods returned to Arun)
15.6.2019 To Aravind A/c 200
(Being goods returned by Aravind)
Cash A/c (4,000 – 200 – 40) Dr. 3,760
3,800
18.6.2019 To Aravind A/c
(Being cash received from Aravind and
discount allowed)
21.6.2019 To Bank A/c 1,000
(Being withdrew from bank for private use)
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Cash A/c Dr. 5,000
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22.6.2019 To Bank A/c
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(Being withdrew from for used in the business)

Telephone Rent A/c Dr. 400
25.6.2019 To Cash A/c 400
(Being paid Telephone rent)
Arun A/c Dr. 6,000
To Discount received A/c (7,000 – 1,000 – 60
5,940)
28.6.2019
To Cash A/c 5,940
(Being cash paid to Arun in full settlement of
his account)
Cash A/c Dr. 4,000
30.6.2019 To Commission Received A/c 4,000
(Being Received commission)
Rent A/c Dr. 1,000
30.6.2019 Salaries A/c Dr. 2,500
3,700
To Cash A/c
(Being Paid for stationery, rent and salaries to
staff)
Ledger Accounts in the books of Mrs. Leah Thomas
Dr. Cash A/c Cr.
J.F.
Date Particulars Amount Date Particulars J.F.No. Amount.
No.
1.6.19 To Capital A/c 45,000 1.6.19 By Bank A/c 25,000
5.6.19 To Sales A/c 8,500 2.6.19 By Purchases A/c 15,000
18.6.19 To Aravind A/c 3,760 25.6.19 By Telephone Rent A/c 400
22.6.19 To Bank A/c 5,000 28.6.19 By Arun A/c 5,940
28.6.19 To Commission 4,000 30.6.19 By Stationery A/c 200
Received A/c
30.6.19 By Rent A/c 1,000
30.6.19 By Salaries A/c 2,500
30.6.19 By Balance c/d 16,220
66,260 66,260
1.7.19 To Balance b/d 16,220
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Dr. Capital A/c Cr.

J.F.
Date Particulars Amount Date Particulars J.F.No. Amount
No.
45,000 45,000
1.7.19 By Balance b/d 45,000
Dr. Bank A/c Cr.
J.F. J.F.
No. No.
1.6.19 To Cash A/c 25,000 4.6.19 By Furniture A/c 5,000
21.6.19 By Drawings A/c 1,000
22.6.19 By Cash A/c 5,000
30.6.19 By Balance c/d 14,000
25,000 25,000
1.7.19 To Balance b/d 14,000
J.F. J.F.
No. No.
10.6.19 To Arun A/c 7,000
22,000 22,000
1.7.19 To Balance b/d 22,000
J.F. J.F.
No. No.
4.6.19 To Bank A/c 5,000 30.6.19 By Balance c/d 5,000
5,000 5,000
Dr. Sales A/c Cr.
J.F. J.F.
No. No.
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8.6.19 By Aravind A/c 4,000
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12,500 12,500 k e r- s o ft w
1.7.19 By Balance b/d 12,500
Dr. Aravind A/c Cr.
J.F. J.F.
No. No.
8.6.19 To Sales A/c 4,000 15.6.19 By Sales Returns A/c 200
18.6.19 By Cash A/c 3,760
18.6.19 By Discount Allowed A/c 40
4,000 4,000
Dr. Arun A/c Cr.
Date Particulars J.F. Amount Date Particulars J.F Amount
No. .No.
12.6.19 To Purchases Returns A/c 1,000 10.6.19 By Purchases A/c 7,000
28.6.19 To Discount Received A/c 60
28.6.19 To Cash A/c 5,940
7,000 7,000
Dr. Purchases Return A/c Cr.

J.F. J.F.
No. No.
30.6.19 To Balance c/d 1,000 12.6.19 By Arun A/c 1,000
1,000 1,000
Dr. Sales Return A/c Cr.
J.F. J.F.
No. No.
15.6.19 To Aravind A/c 200 30.6.19 By Balance c/d 200
200 200
1.7.19 To Balance b/d 200
Dr. Discount Allowed A/c Cr.
J.F. J.F.
Date Particulars Amount Date Particulars Amount.
No. No.
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40 40 k e r- s o ft w a

Dr. Drawings A/c Cr.
J.F. J.F.
No. No.
1,000 1,000
Dr. Telephone Rent A/c Cr.
J.F. J.F.
No. No.
25.6.19 To Cash A/c 400 30.6.19 By Balance c/d 400
400 400
Dr. Discount Received A/c Cr.
J.F. J.F.
No. No.
30.6.19 To Balance c/d 60 28.6.19 By Arun A/c 60
60 60
1.7.19 By Balance b/d 60
Dr. Commission Received A/c Cr.
J.F. J.F.
No. No.
4,000 4,000
J.F. J.F.
No. No.
200 200
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Dr. Rent A/c Cr.

J.F. J.F.
No. No.
1,000 1,000
Dr. Salaries A/c Cr.
J.F. J.F.
No. No.
2,500 2,500
3.27.SUB-DIVISION OF JOURNAL
Journal is an important book for accounting in every business. In a small-sized business, the
number of transactions is less; hence, it is appropriate to do accounting in a journal. But in large-
scale operations, the number of transactions is more, and then it is not possible to record every
transaction in the journal. Moreover, the recording of all the transactions in the journal may lead
to delay in getting information. Hence, for convenience, the journal is divided into many books.
Hence, the journal can be divided into the following:
(a). Cash Book: In this book, transactions of all cash receipts and cash payments are recorded.
All banking transactions are also recorded in this book.
(b). Purchases Book: Goods purchased on credit are recorded in this book.
(c). Sales Book: Goods sold on credit are recorded in this book.
(d). Purchases Return Book: If goods purchased on credit are returned, then they are
(e). Sales Return Book: If goods sold on credit are returned by customers, thenthere are
(f). Bills Receivable Book: Bills of exchanges, promissory notes, hundis, received from
customers are recorded in this book.
(g).Bills Payable Book: Bills of exchanges, promissory notes, hundis, issued by the business
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8. Journal Proper: Any transaction, which is not recorded in the above books, is recorded in
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this book, for example, opening entries, closing entries, adjustment entries, entries of error
rectification, etc.
3. 28. LEDGER
Format of Ledger
A Trial Balance is a two-column schedule listing the titles and balances of all the accounts in
the order in which they appear in the ledger. The debit balances are listed in the left-hand
column and the credit balances in the right-hand column. In the case of the General Ledger,
the totals of the two columns should agree.
The fundamental principle of double entry system of accounting where for every debit, there
must be a corresponding credit. Therefore, for every debit or a series of debits given to one
or several accounts, there is a corresponding credit or a series of credits of an equal amount
given to some other account or accounts and vice versa. Hence, according to this principle,
the sum total of debit amounts must equal the credit amounts of the ledger at any date.
If the various accounts in the ledger are balanced, then the total of all debit balances must be
equal to the total of all credit balances. If the same is not true then the books of accounts are
arithmetically inaccurate. It is, therefore, at the end of the financial year or at any other time,
the balances of all the ledger accounts are extracted and are recorded in a statement known
as Trial Balance and finally totaled up to see whether the total of debit balances is equal to
the total of credit balances.
2.29. MEANING OF TRIAL BALANCE
A Trial Balance defined as a statement of debit and credit totals or balances extracted
from the various accounts in the ledger books with a view to test the arithmetical accuracy
of the books.
The agreement of the Trial Balance reveals that both the aspects of each transaction have
been recorded and that the books are arithmetically accurate. If both the sides of Trial
Balance do not agree to each other, it shows that there are some errors, which must be
detected and rectified if the correct final accounts are to be prepared.
Thus, Trial Balance forms a connecting link between the ledger accounts and the final accounts.
2.30. METHODS OF PREPARATION OF TRIAL BALANCE
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A trial balance can be prepared by the following two methods:
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A. Total method: In this method, the debit and credit totals of each account are shown in the k e r- s o ft w a
two amount columns (one for the debit total and the other for the credit total).
B. Balance Method: In this method, the difference of each amount is extracted. If debit side of
an account is bigger in amount than the credit side, the difference is put in the debit column of
the Trial Balance and if the credit side is bigger, the difference is written in the credit column
of the Trial Balance.
C. Compound method: It is a combination of the above two methods, i.e., under this method
both debit and credit totals of each account are shown under respective totals columns.
Similarly, debit and credit balances are shown under respective balances columns. There will
be different totals according to different methods but the total of debit and credit of each
method will be equal.
Suspense Account
You must be aware that if the trial balance does not tally after proper checking, then it is tallied
by transferring the difference to suspense account. Later on, when the errors will be located, they
will be rectified through the suspense account. The suspense account will automatically be closed
when all the errors will be located.
A SPECIMEN OF THE TRIAL BALANCE IS GIVEN AS FOLLOWS:
TRIAL BALANCE OF …………… AS ON ……………..
S. No. Name of the Account L.F. No. Debit Balance Credit Balance
(in Rs.) (in Rs.)
Total
Details of the above columns are as follows:

Date: Those page numbers are written in this column, which are
written in journal.
Particulars: The name of the other account, which is affected by the transaction, is written
in this column. In debit ‘To’ and in credit ‘By’ words and used.
Journal Folio No.: In this column, that number of journals is written from where the
transaction is posted.
Amount: The amount related to transaction is written.
Page | 68
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2.31. UDENTS MUST AWARE ABOUT, WHETHER THE TRANSACTIONS ARE APPEARING IN
THE JOURNAL ENTRY, EITHER IN DEBIT SIDE (or) CRDIT SIDE (or) BOTH SIDES:
Name of the Transaction Transaction Appearing Debit Side Credit Side
Purchases Always appearing in debit side xxx
Sales return (or) Return inwards Always appearing in debit side xxx
Drawings Always appearing in debit side xxx
Expenses paid (or) Expenses allowed Always appearing in debit side xxx
Losses written off Always appearing in debit side xxx
Bills Receivable Always appearing in debit side xxx
Debtors (or) Customers Always appearing in debit side xxx
Assets purchased Always appearing in debit side xxx
Sales Always appearing in credit side xxx

Purchase return (or) Return outwards Always appearing in credit side xxx
Capital Always appearing in credit side xxx
Incomes received (or) Incomes earned Always appearing in credit side xxx
Gains earned (or) Profits earned Always appearing in credit side xxx
Bills Payable Always appearing in credit side xxx
Creditors (or) Suppliers Always appearing in credit side xxx
Assets sold Always appearing in credit side xxx
Cash Appearing in both sides xxx xxx

Bank Appearing in both sides xxx xxx
ILLUSTRATION: 14. Prepare trail balance as on 31.3.18 from the books of Mrs. Haritha:
Amount Amount
Particulars Particulars
(in Rs.) (in Rs.)
Capital 2,49,000 Drawings 24,000
General expenses 97,000 Buildings 78,000
Machinery 1,18,680 Stock (1.4.17) 1,32,400
Wages 14,400 Insurance 2,610
Page | 69
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Bad debts 1,100 Creditors 5,000
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Sales 3,30,720 Loan (Cr.) 75,000 k e r- s o ft w
Commission 5,500 Purchases 2,10,800
Bills payable 7,700 Reserve fund 15,000
Bank overdraft 28,600 Cash in hand 25,320
Furniture 1,210
Solution:
The Trail balance as on 31.3.18 from the books of Mrs. Haritha
Debit Credit
S.No. Name of the Accounts L.F. No
(Amount) (Amount)
1. Capital - 2,49,000
2. General expenses 97,000 -
3. Machinery 1,18,680 -
4. Wages 14,400 -
5. Bad debts 1,100 -
6. Sales - 3,30,720
7. Commission 5,500 -
8. Bills payable - 7,700
9. Bank overdraft -- 28,600
10. Drawings 24,000 -
11. Buildings 78,000 -
12. Stock (1.4.17) 1,32,400 -
13. Insurance 2,610 -
14. Creditors - 5,000
15. Loan (Cr.) - 75,000
16. Purchases 2,10,800 -
17. Reserve fund - 15,000
18. Cash in hand 25,320 -
19. Furniture 1,210 -
Total 7,10,000 7,10,000
2.32. JOURNAL, LEDGER AND TRIAL BALANCE – PROBLEMS
ILLUSTRATION: 15. Journalese the following transactions and post them in the ledger and
Page | 70
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prepare trial balance:
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2020, July 1 Ram Started business with a capital of Rs. 10,000;
ac ac

4 He purchased goods from Mohan on credit Rs. 2,000;
5 He paid cash to Mohan Rs. 1,000.
Solution: Journal Entries in the books of Mr. Ram
L.F. Debit Credit
Date Particulars
Cash A/c Dr. 10,000
1.7.2020 To Capital A/c 10,000
(Being Ram started business with capital)
2.7.2020 To Cash A/c 4,000
(Being purchased furniture for cash)
To Mohan A/c 2,000
4.7.2020
(Being Purchased goods from Mohan on
credit)
Mohan A/c Dr. 1,000
5.7.2020 To Cash A/c 1,000
(Being paid cash to Mohan)
Ledger Accounts in the books of Mr. Ram
Dr. Cash A/c Cr.
J.F. J.F.
No. No.
1.7.20 To Capital A/c 10,000 2.7.20 By Furniture A/c 4,000
5.7.20 By Mohan A/c 1,000
31.7.20 By Balance c/d 5,000
10,000 10,000
Dr. Capital A/c Cr.
J.F. J.F.No
No. .
10,000 10,000
Page | 71
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1.8.20 By Balance b/d 10,000
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Dr. Furniture A/c Cr. k e r- s o ft w a
Date Particulars J.F. Amount Date Particulars J.F. Amount

No. No.
4,000 4,000
J.F J.F.
Date Particulars Amount. Date Particulars Amount
.No. No.
4.7.20 To Mohan A/c 2,000 31.7.20 By Balance c/d 2,000
2,000 2,000
Dr. Mohan A/c Cr.
J.F J.F.
.No. No.
5.7.20 To Cash A/c 1,000 1.7.20 By Purchases A/c 2,000
31.7.20 To Balance c/d 1,000
2,000 2,000
Trial Balance of Mr. Ram
S. No. Name of the Account L.F. Debit Balance Credit Balance
1 Cash A/c 5,000 --
2 Capital A/c -- 10,000
3 Furniture A/c 4,000 --
4 Purchases A/c 2,000 --
5 Mohan A/c -- 1,000
Total 11,000 11,000
ILLUSTRATION: 16. Pass Journal entries, Prepare Ledger account and also Prepare Trial
Balance for the following transactions in the books of Mrs. Leah Thomas:
2019 June 1 Started business with cash Rs. 45,000;
3Goods purchased for cash Rs. 15,000;
Page | 72
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4Purchase of furniture and payment by cheque Rs. 5,000;
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5 Goods sold Rs. 8,500; k e r- s o ft w a
8 Goods sold to Aravind Rs. 4,000;

10 Goods from Arun Rs. 7,000;
12 Goods returned to Arun Rs. 1,000;
15 Goods returned by Aravind Rs. 200;
18 Cash received from Aravind and discount allowed to him Rs. 40;
21 Withdrew from bank for private use Rs. 1,000;
20 Withdrew from bank for use in the business Rs. 5,000;
21 Paid for telephone rent Rs. 400;
28 Cash paid to Arun in full settlement of his account Rs. 5,940;
30 Paid for stationery Rs. 200; Rent Rs. 1,000 and Salaries to staff Rs. 2,500.
Solution:
Journal Entries in the books of Mrs. Leah Thomas
L.F. Debit Credit
Date Particulars
Cash A /c Dr. 45,000
1.6.2019 To Capital A/c 45,000
(Being started business with cash)
1.6.2019 Bank A/c Dr. 25,000
To Cash A/c (Being paid into bank) 25,000
2.6.2019 To Cash A/c 15,000
(Being goods purchased for cash)
4.6.2019 To Bank A/c 5,000
(Being purchased furniture by cheque)
Cash A /c Dr. 8,500
5.6.2019 To Sales A/c 8,500
(Being goods sold)
Aravind A/c Dr. 4,000
8.6.2019 To Sales A/c 4,000
(Being goods sold to Aravind)
10.6.2019 Purchases A/c Dr. 7,000
To Arun A/c 7,000
Page | 73
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(Being Purchased goods from Arun)
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Arun A/c Dr. 1,000

12.6.2019 To Purchases Return A/c 1,000
(Being goods returned to Arun)
15.6.2019 To Aravind A/c 200
(Being goods returned by Aravind)
Cash A/c (4,000 – 200 – 40) Dr. 3,760
3,800
18.6.2019 To Aravind A/c
(Being cash received from Aravind and discount
allowed)
21.6.2019 To Bank A/c 1,000
(Being withdrew from bank for private use)
Cash A/c Dr. 5,000
22.6.2019 To Bank A/c 5,000
(Being withdrew from for used in the business)
Telephone Rent A/c Dr. 400
25.6.2019 To Cash A/c 400
(Being paid Telephone rent)
Arun A/c Dr. 6,000
To Discount received A/c (7,000 – 1,000 – 5,940) 60
28.6.2019 To Cash A/c 5,940
(Being cash paid to Arun in full settlement of his
account)
Cash A/c Dr. 4,000
30.6.2019 To Commission Received A/c 4,000
(Being Received commission)
Rent A/c Dr. 1,000
30.6.2019 Salaries A/c Dr. 2,500
3,700
To Cash A/c
(Being Paid for stationery, rent and salaries to staff)
Ledger Accounts in the books of Mrs. Leah Thomas
Dr. Cash A/c Cr.
J.F. J.F.
Date Particulars Rs. Date Particulars Rs.
No. No.
1.6.19 To Capital A/c 45,000 1.6.19 By Bank A/c 25,000
Page | 74
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5.6.19 To Sales A/c 8,500 2.6.19 By Purchases A/c 15,000
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18.6.19 To Aravind A/c 3,760 25.6.19 By Telephone Rent A/c 400 k e r- s o ft w a
22.6.19 To Bank A/c 5,000 28.6.19 By Arun A/c 5,940

28.6.19 To Commission 4,000 30.6.19 By Stationery A/c 200
Received A/c
30.6.19 By Rent A/c 1,000
30.6.19 By Salaries A/c 2,500
30.6.19 By Balance c/d 16,220
66,260 66,260
1.7.19 To Balance b/d 16,220
Dr. Capital A/c Cr.
J.F. J.F.
No. No.
45,000 45,000
1.7.19 By Balance b/d 45,000
Dr. Bank A/c Cr.
J.F. J.F. Rs.
Date Particulars Rs. Date Particulars
No. No.
1.6.19 To Cash A/c 25,000 4.6.19 By Furniture A/c 5,000
21.6.19 By Drawings A/c 1,000
22.6.19 By Cash A/c 5,000
30.6.19 By Balance c/d 14,000
25,000 25,000
1.7.19 To Balance b/d 14,000

Date Particulars J.F. Rs. Date Particulars J.F. Rs.
No. No.
Page | 75
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10.6.19 To Arun A/c 7,000
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22,000 22,000 k e r- s o ft w a
1.7.19 To Balance b/d 22,000

J.F. Rs J.F.
Date Particulars Date Particulars Rs.
No. . No.
5,000 5,000
Dr. Sales A/c Cr.
No. No.
8.6.19 By Aravind A/c 4,000
12,500 12,500
1.7.19 By Balance b/d 12,500
Dr. Aravind A/c Cr.
No. No.
8.6.19 To Sales A/c 4,000 15.6.19 By Sales Returns A/c 200
18.6.19 By Cash A/c 3,760
18.6.19 By Discount Allowed 40
A/c
4,000 4,000
Dr. Arun A/c Cr.

Date Particulars J.F Rs. Date Particulars J.F. Rs.
.No. No.
12.6.19 To Purchases 1,000 10.6.19 By Purchases A/c 7,000
Returns A/c
28.6.19 To Discount 60
Received A/c
28.6.19 To Cash A/c 5,940
Page | 76
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7,000 7,000
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Dr. Purchases Return A/c Cr.

Date Particular J.F. Rs. Date Particulars J.F. Rs.
No. No.
30.6.19 To Balance c/d 1,000 12.6.19 By Arun A/c 1,000
1,000 1,000
Dr. Sales Return A/c Cr.
J.F. J.F.
No. No.
200 200
Dr. Discount Allowed A/c Cr.
No. No.
40 40
Dr. Drawings A/c Cr.
J.F. J.F.
No. No.
1,000 1,000
Dr. Telephone Rent A/c Cr.
No. No.
400 400
Dr. Discount Received A/c Cr.
J.F. J.F.
No. No.
Page | 77
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30.6.19 To Balance c/d 60 28.6.19 By Arun A/c 60
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60 60 k e r- s o ft w a
1.7.19 By Balance b/d 60

Dr. Commission Received A/c Cr.
J.F. Rs J.F. Rs
No. . No. .
4,000 4,000
J.F. J.F.
No. No.
200 200
Dr. Rent A/c Cr.
Date Particulars J.F. Rs Date Particulars J.F. Rs.
No. . No.
1,000 1,000
Dr. Salaries A/c Cr.

J.F. J.F.
No. No.
2,500 2,500
Page | 78
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Trial Balance of Mrs. Leah Thomas
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L.F. Debit Balance Credit Balance k e r- s o ft w a
S. No. Name of the Account

1 Cash A/c 16,220 --
2 Capital A/c -- 45,000
3 Bank A/c 14,000 --
4 Purchases A/c 22,000 --
5 Furniture A/c 5,000 --
6 Sales A/c -- 12,500
7 Purchases Return A/c -- 1,000
8 Sales Return A/c 200 --
9 Discount Allowed A/c 40 --
10 Drawings A/c 1,000 --
11 Telephone Rent A/c 400 --
12 Discount Received A/c -- 60
13 Commission received A/c -- 4,000
14 Stationery A/c 200 --
15 Rent A/c 1,000 --
16 Salaries A/c 2,500 --
Total 62,560 62,560
2.31. SUSPENSE A/C MAY APPEAR EITHER SIDE.

ILLUSTRATION: 32 From the following balance prepare a trail balance as on 31.12.2016:
Particulars Amount Particulars Amount
(in Rs.) (in Rs.)
Cash account 12,220 Discount account (Cr.) 20
Capital account 45,000 Drawing’s account 1,000
Bank account (Dr) 14,000 Telephone rent account 400
Purchases account 22,000 Stationery account 200
Furniture account 5,000 Rent account 1,000
Sales account 12,500 Salaries account 2,500
Return outwards account 1,000 Returns inwards 200
Solution: Trial Balance
L.F. Debit Balance Credit Balance
1 Cash account 12,220 --
2 Capital account -- 45,000
3 Bank account (Debit balance) 14,000 --
4 Purchases account 22,000 --
Page | 79
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5 Furniture account 5,000 --
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6 Sales account -- 12,500
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7 Return outwards account -- 1,000

8 Discount account (Cr.) -- 20
9 Drawing’s account 1,000 --
10 Telephone rent account 400 --
11 Stationery account 200 --
12 Rent account 1,000 --
13 Salaries account 2,500 --
14 Returns inwards 200 --
Total 58,520 58,520
ILLUSTRATION: 17. From the following balance prepare a trail balance as on 31st December
2011:
Amount Amount
(in Rs.) (in Rs.)
Capital account 1,29400 Rent and taxes 5,620
Drawing’s account 11,550 Stock on 1st January 89,680
Bills receivable 9,500 2011 Salaries 11,000
Plant and machinery 28,800 Travelling expenses 1,880
Sundry debtors 62,000 Insurance 400
Loan account (Cr.) at 6% 20,000 Cash in hand 540
Wages 40,970 Cash at bank 18,970
Returns inwards 2,780 Repairs 4,470
Purchases 2,66,590 Interest paid 5,860
Sales 4,50,440 Bad debts 4,400
Commission received 5,640 Sundry creditors 66,190
Furniture 8,800

L.F. Debit Balance Credit Balance
1 Capital account -- 1,29,400
2 Drawings account 11,550 --
3 Bills receivable 9,500 --
4 Plant and machinery 28,800 --
5 Sundry debtors 62,000 --
6 Loan account (Cr.) at 6% -- 20,000
7 Wages 40,970 --
8 Returns inwards 2,780 --
9 Purchases 2,66,590 --
Page | 80
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10 Sales -- 4,50,440
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11 Commission received -- 5,640a c k e r- s o ft w ar
e
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.
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k e r- s o ft w a
12 Rent and taxes 5,620 --

13 Stock on 1st January 2011 89,680 --
14 Salaries 11,000 --
15 Travelling expenses 1,880 --
16 Insurance 400 --
17 Cash in hand 540 --
18 Cash at bank 18,970 --
19 Repairs 4,470 --
20 Interest paid 5,860 --
21 Bad debts 4,400 --
22 Sundry creditors -- 66,190
23 Furniture 8,800 --
24 SUSPENSE A/C (B/F) 97,860 --
Total 6,71,670 6,71,670
ILLUSTRATION: 18. Prepare the trial balance:
Amount Amount
(in Rs.) (in Rs.)
Opening stock 10,600 Loan (Cr.) 1,400
Carriage 200 Wages 2,200
Purchases 12,000 Commission (Dr.) 400
Trade expenses 580 Returns inwards 440
Plant 2,600 Rent 200
Cash in hand 200 Repairs to plant 460
Debtors 4,000 Cash at bank 1,000
Drawings 700 Income tax 500
Sales 25,200 Returns outwards 150
Capital 7,000 Discount received 400
Creditors 840
1 Opening stock 10,600 --
2 Carriage 200 --
3 Purchases 12,000 --
4 Trade expenses 580 --
5 Plant 2,600 --
7 Debtors 4,000 --
Page | 81
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8 Drawings 700 --
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9 Sales -- 25,200
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10 Capital -- 7,000
11 Loan (Cr.) -- 1,400
12 Wages 2,200 --
13 Commission (Dr.) 400 --
15 Rent 200 --
16 Repairs to plant 460 --
18 Income tax 500 --
19 Returns outwards -- 150
20 Discount received -- 400
21 Creditors -- 840
22 SUSPENSE A/C (B/F) -- 1,090
Total 36,080 36,080
ILLUSTRATION: 19. Prepare trial balance as on 31.12.16:

Amount Amount
(in Rs.) (in Rs.)
Openings stock 10,600 Cash at bank 1,000
Wages 2,200 Debtors 4,000
Carriage 200 Income tax 500
Commission (Dr.) 400 Drawings 700
Purchases 12,000 Returns outwards 150
Returns inwards 440 Sales 25,200
Trade expenses 580 Discount received 400
Rent 200 Capital 7,000
Plant 2,600 Creditors 840
Repairs to plant 460 Loan (Cr.) 1,400
Cash in hand 200 Bills payable 1,090
1 Opening’s stock 10,600 --
2 Wages 2,200 --
3 Carriage 200 --
4 Commission (Dr.) 400 --
Page | 82
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8 Rent 200 --
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9 Plant 2,600 --
10 Repairs to plant 460 --
13 Debtors 4,000 --
14 Income tax 500 --
15 Drawings 700 --
16 Returns outwards -- 150
17 Sales -- 25,200
18 Discount received -- 400
19 Capital -- 7,000
20 Creditors -- 840
21 Loan (Cr.) -- 1,400
22 Bills payable -- 1,090
Total 36,080 36,080
ILLUSTRATION: 19. Prepare trial balance from the following ledger balance for the year
ending 31.12.2018:
Amount Amount
Particulars (in Rs.) Particulars (in Rs.)
Opening stock 10,000 Capital Creditors 60,000
Salaries 5,000 Loan from Krishna 10,000
Bills payable 5,000 Discount allowed 25,000
Cash in hand 2,000 Accrued interest payable 700
Bank overdraft 4,000 Purchases 5,000
Debtors 15,000 Reserve for bad debts 40,000
Cash at bank 18,000 Trade expenses 1,200
Sales 80,000 Outstanding salaries 500
Wages 1,000 Plant and machinery 2,000
Prepaid insurance 2,500 Outstanding interest on 90,000
Depreciation on plant 8,000 overdraft 500
Solution :
Trial Balance
S.No. Name of the Account L.F. Debit Balance Credit Balance
1 Opening stock 10,000 --
2 Salaries 5,000 --
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4 Cash in hand 2,000 --
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5 Bank overdraft -- 4,000
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6 Debtors 15,000 --
8 Sales -- 80,000
9 Wages 1,000 --
10 Prepaid insurance 2,500 --
11 Depreciation on plant 8,000 --
12 Capital -- 60,000
13 Creditors -- 10,000
14 Loan from Krishna -- 25,000
15 Discount allowed 700 --
16 Interest payable (or) Outstanding -- 5,000
18 Reserve for bad debts -- 1,200
20 Outstanding salaries -- 2,000
22 Outstanding interest on overdraft -- 500
Total 1,92,700 1,92,700
ILLUSTRATION: 20. Prepare trial balance from the following ledger balance for the year
ending 31.12.2017:
(in Rs.) (in Rs.)
Capital 50,000 Purchases 60,000
Sales 1,77,000 Return inwards 1,000
Return outwards 750 Discount (Dr.) 450
Stock on 1.1.17 40,000 Bank charges 75
Discount (Dr.) 800 Creditors 25,000
Debtors 45,000 Carriage inwards 750
Salaries 6,800 Carriage outwards 1,200
Wages 10,000 Rent and taxes 10,000
Bad debts provision 525 Cash in hand 900
Advertisement 2,000 Cash at bank 6,000
Plant and machinery 80,000 Bills payable 10,100
1 Capital -- 50,000
2 Sales -- 1,77,000
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3 Return outwards -- 750
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4 Stock on 1.1.17 40,000 --
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5 Discount (Cr.) -- 800

6 Debtors 45,000 --
7 Salaries 6,800 --
8 Wages 10,000 --
9 Bad debts provision -- 525
10 Advertisement 2,000 --
13 Return inwards 1,000 --
14 Discount (Dr.) 450 --
15 Bank charges 75 --
16 Creditors -- 25,000
17 Carriage inwards 750 --
18 Carriage outwards 1,200 --
19 Rent and taxes 10,000 --
Total 2,64,175 2,64,175
ILLUSTRATION: 21. From the following balances extracted from the ledger, you are required to
prepare a trial balance:
Amount Amount
(in Rs.) (in Rs.)
Drawings account 5,800 Overdraft with the central bank 6,000
Capital account 24,000 Purchases 50,000
Sundry creditors 44,000 Duty and clearance charges 4,500
Bills payable 4,000 Sales 1,28,000
Sundry debtors 51,000 Staff salaries 9,500
Bills receivable 5,200 Return from customers 1,000
Loan advanced to Navin 10,000 Return to creditors 1,100
Fixtures and fittings 4,500 Commission and travelling expenses 4,700
Stock at commencement 47,000 Trade expenses 2,500
Cash in office 900 Rent account 2,000
Cash at the state bank 12,500 Discount received 4,000
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Credit
L.F. Debit Balance
S. No. Name of the Account Balance (in
No. (in Rs.)
Rs.)
1 Drawing’s account 5,800 --
2 Capital account -- 24,000
3 Sundry creditors -- 44,000
5 Sundry debtors 51,000 --
6 Bills receivable 5,200 --
7 Loan advanced to Navin 10,000 --
8 Fixtures and fittings 4,500 --
9 Stock at commencement 47,000 --
10 Cash in office 900 --
11 Cash at the state bank 12,500 --
12 Overdraft with the central bank -- 6,000
14 Duty and clearance charges 4,500 --
15 Sales -- 1,28,000
16 Staff salaries 9,500 --
17 Return from customers 1,000 --
18 Return to creditors -- 1,100
19 Commission and travelling expenses 4,700 --
20 Trade expenses 2,500 --
21 Rent account 2,000 --
22 Discount received -- 4,000
Total 2,11,100 2,11,100
Short Answer Questions

1. What do you understand by journal? Give its format.
2. What is the meaning of journal? Describe its objectives and importance.
3. What do you understand by goods? In how many types can it be divided?
4. Salaries paid to staff will be debited to which A/c?
5. What is ledger? Why is it necessary?
6. Explain the difference between journal and ledger.
7. Explain the posting of an opening journal entry.
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8. Explain the posting of compound journal entry.
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9. Explain the significance of ledger.
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10. What do you mean by balancing of accounts? Explain the procedure ofbalancing of
accounts.
11. State the objectives of trial balance.
12. Explain the different methods of preparing trial balance.
13. Discuss the various kinds of errors committed in writing up a set of books.
14. State the errors that cannot be detected even when matching the trialbalance. Explain
with examples.
15. What is trial balance? Why is it prepared? Explain the advantages andlimitations of
trial balance.
16. Give journal entries for the following transactions:

1995, Jan. 21 Purchased furniture for cash Rs. 28,000;
22 Purchased goods for cash Rs. 49,000;
23 Sold Machinery for cash Rs. 25,000;
29 Paid to Indhumathi Rs. 5,000;
30 Received cash from Sahadevan Rs. 12,000.
17. Journalise the following transactions of Mr. Bakthvathchalam:
2003, Mar. 1Bakthvathchalam commenced business with cash Rs. 4,80,000;
2 Opened current account with Tamilnadu Mercantile Bank Rs. 2,00,000;
3 Bought goods from Kuppammal Rs. 2,00,000;
4Sales to Narayanan Rs. 1,25,000;
5Sold to Balaji Rs. 1,80,000;
6Babu sold goods to us Rs. 90,000;
7 Krishnaswamy bought goods from us Rs. 65,000;
8Typewriter purchased Rs. 40,000;
25 Withdrew cash for personal use Rs. 18,000.
18.Journalise the following transactions:
2006, Mar. 1 Basker commenced business with a capital of Rs. 1,40,000;
2 Bought Machinery Rs. 25,000;
3 Bought goods for cash from Mr. Venkatesh Rs. 30,000;
4 4 Sold goods for cash to Mr. Ravi Rs. 25,000;
5 Purchases goods from Mr. Deena Rs. 30,000;
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9 Received interest from Mr. Choudhry Rs. 28,000;
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11 Deposited cash into bank Rs. 24,000;
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14 Paid cash to Mr. Deena Rs. 29,000 in full settlement of his account Rs. 1,000;
15 Paid rent by cheque Rs. 3,000.
20.Mr. Sathyamoorthi started his business on 1st April 2005 with Rs. 2,50,000 as his
capital. Following was the transaction for the month of April:
2005, Apr. 1 Paid into bank Rs. 1,00,000;
2 Purchased furniture from Sathyam furniture Ltd. on credit Rs. 18,000;
6 Sold goods on credit to Mr. Narasimaan Rs. 20,000;
8 Paid to Sathyam Furniture Ltd. Cash Rs. 18,000;
9 Purchased goods from Andal Rs. 45,000;
15 Paid wages in cash Rs. 800;
24 Issued Cheque to Amdal Rs. 16,000;
25 Received from Mr. Narasiman Rs. 15,000;
25 Cash purchases Rs. 3,600;
27 Goods withdrawn for personal use Rs. 1,000;
28 Cash withdrawn for personal use Rs. 2,000;
29 Paid for stationery Rs. 2,000;
30 Paid salaries by cheque to Mrs. Varalakshmi Rs. 3,000.
21.Journalise the following transactions:
2005, June 1 Gowindraj commences business with Rs. 80,000;
4 Purchased plant from Chandramma & Co Rs. 30,000;
5 Purchased goods from Padmaja Rs. 25,000;
5 Goods sold to Dharanibai Rs. 24,000;

10 Goods returned by Dharanibai Rs. 300;
15 Paid Rent Rs. 2,500;
18 Withdrawn from bank for office use Rs. 4,000;
25 Withdrawn from bank for personal use Rs. 4,000;
26 Goods returns to Padmaja Rs. 500;
29 Paid for office furniture by cheque Rs. 5,000;
30 Received cash from Dharanibai Rs. 23,400 and discount allowed Rs. 300; 29
Paid Padmaja an account and discount allowed by her Rs. 500.
Journal And Leader Account
22.Journalise and leadger the following transactions of Mr. Munuswamy:
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2020, Jan. 1 Business started with cash Rs. 10,50,000 and cash deposited with
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bank Rs. 5,00,000;
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2 Purchased goods for cash Rs. 1,00,000;

4 Purchased stationery for cash Rs. 1,500; 5
Purchased furniture for cash Rs. 12,000; 7
Sold goods for cash Rs. 60,000;
10 Sold goods for Venkadasamy for cash Rs. 84,000;
15 Sold goods to Rangsamy Rs. 42,000;
16 Paid rent to Krishnasamy the landlord Rs. 18,000;
18 Paid salary Rs. 40,000;
25 Paid freight on goods purchased Rs. 4,000.
22. Journalise and leadger the following transactions:
2020, June 1 Purchased goods for cash Rs. 20,000;
2 Purchased stationery for cash Rs. 1,000;
5Sold goods to Mohana for cash Rs. 8,000;
6 Sold goods to Varadhan Rs. 4,000;
7 Paid rent to Nagarajan, the landlord Rs. 4,800; 8
Paid Salaries Rs. 1,600;
9 Paid Janaki, the manager her salary of Rs. 8,000;
10 Paid freight on goods purchased Rs. 4,000;
11 Paid wages Rs. 1,000;
12 Paid freight on machine purchased Rs. 800;
13 Paid wages to erect a machine Rs. 2,000;
14 Received from Navyashri Rs. 1,600;
16 Received from Navyashri as interest Rs. 1,200;
17 Received from Nikhilersh as loan at 6% interest Rs. 14,000.
26 Received rent from sub-letting Rs. 1,000;
29 Paid Electricity charges Rs. 2,000;
30 Paid Telephone charges Rs. 2,400.
Trial Balance:
23. From the following balance prepare a trail balance as on 31.12.2016:
Particulars Amount (in Rs.) Particulars Amount (in Rs.)
Cash account 36,660 Discount account (Cr.) 60
Capital account 1,35,000 Drawing’s account 3,000
Bank account (Dr) 42,000 Telephone rent account 1,200
Purchases account 66,000 Stationery account 600
Furniture account 15,000 Rent account 3,000
Sales account 37,500 Salaries account 7,500
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Return outwards account 3,000 Returns inwards 600
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Answer: Trial Balance Total Rs. 1,75,560. k e r- s o ft w a
24. From the following balance prepare a trail balance as on 31st December 2011:
(in Rs.) (in Rs.)
Capital account 2,58800 Rent and taxes 11,240
Drawings account 23,100 Stock on 1st January 2011 1,79,360
Bills receivable 19,000 Salaries 22,000
Plant and machinery Sundry 57,600 Travelling expenses 3,760
debtors 1,24,000 Insurance 800
Loan account (Cr.) at 6% 40,000 Cash in hand 1,080
Wages 81,940 Cash at bank 37,940
Returns inwards 5,560 Repairs 8,940
Purchases 5,33,180 Interest paid 11,720
Sales 9,00,880 Bad debts 8,800
Commission received 11,280 Sundry creditors 1,32,380
Furniture 17,600
Answer: Trial Balance Total Rs. 13,43,340.
25. Prepare the trial balance:
Particulars Amount Particulars Amount (in
(in Rs.) Rs.)
Opening stock 21,200 Loan (Cr.) 2,800
Carriage 400 Wages 4,400
Purchases 24,000 Commission (Dr.) 800
Trade expenses 1,160 Returns inwards 880
Plant 5,200 Rent 400
Cash in hand 400 Repairs to plant 920
Debtors 8,000 Cash at bank 2,000
Drawings 1,400 Income tax 1,000
Sales 50,400 Returns outwards 300
Capital 14,000 Discount received 800
Creditors 1,680
Answer: Trial Balance Total Rs. 72,160.
26. Prepare trial balance from the following:
Particulars Amount (in Rs.) Particulars Amount (in
Rs.)
Capital 36,000 Rent outstanding 4,000
Plant and machinery 48,000 Opening stock 8,000
Purchases 32,000 Sales returns 16,000
Sales 48,000 Investments 56,000
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Sundry creditors 32,000 Debtors 48,000
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Bank loan 88,000
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27. Prepare trial balance as on 31.12.16:
(in Rs.) (in Rs.)
Openings 31,800 Cash at bank 3,000
stock Wages 6,600 Debtors 12,000
Carriage 600 Income tax 1,500
Commission (Dr.) 1,200 Drawings 2,100
Purchases Returns 36,000 Returns 450
inwards Trade 1,320 outwards Sales 75,600
expenses Rent 1,740 Discount 1,200
Plant 600 received Capital 21,000
Repairs to plant 7,800 Creditors 2,520
Cash in hand 1,380 Loan (Cr.) 4,200
600 Bills payable 3,270
28. Prepare trial balance from the following ledger balance for the year ending 31.12.2018:
(in Rs.) (in Rs.)
Opening stock 70,000 Capital 4,20,000
Salaries 35,000 Creditors 70,000
Bills payable 35,000 Loan from Krishna 1,75,000
Cash in hand 14,000 Discount allowed 4,900
Bank overdraft 28,000 Accrued interest payable 35,000
Debtors 1,05,000 Purchases 2,80,000
Cash at bank 1,26,000 Reserve for bad debts Trade 8,400
Sales 5,60,000 expenses Outstanding 3,500
Wages 7,000 salaries 14,000
Prepaid insurance 17,500 Plant and machinery 6,30,000
Depreciation on plant 56,000 Outstanding interest on overdraft 3,500
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29. Prepare trial balance from the following ledger balance for the year ending 31.12.2017:
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(in Rs.) (in Rs.)

Capital 1,00,000 Purchases 1,20,000
Sales 3,54,000 Return inwards 2,000
Return outwards 1,500 Discount (Dr.) 900
Stock on 1.1.17 80,000 Bank charges 150
Discount (Dr.) 1,600 Creditors Carriage 50,000
Debtors 90,000 inwards 1,500
Salaries 13,600 Carriage outwards 2,400
Wages 20,000 Rent and taxes 20,000
Bad debts provision 1,050 Cash in hand 1,800
Advertisement 4,000 Cash at bank 12,000
Plant and machinery 1,60,000 Bills payable 20,200
30.The following trial balance has been prepared wrongly. You are asked to prepare the trial
balance correctly.
Particulars Debit balance Credit balance
(in Rs.) (in Rs.)
Cash in hand -- 6,000
Purchase returns 12,000 --
Wages 24,000 --
Establishment expenses 36,000 --
Sales returns -- 24,000
Capital 66,000 --
Carriage outwards -- 6,000
Discount received 3,600 --
Commission earned 2,400 --
Machinery -- 60,000
Stock -- 30,000
Debtors 24,000 --
Creditors -- 36,000
Sales -- 1,32,000
Purchases 84,000 --
Bank overdraft 42,000 --
Manufacturing expenses -- 42,000
Loan from Ajay 42,000 --
Carriage inwards 3,000 --
Interest on investments -- 3,000
3,42,000 3,42,000
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31. Redraw correctly the trial balance given below:
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(in Rs.) (in Rs.)

Capital 32,000 Debtors 30,320
Bad debts recovered 1,000 Bank deposit 11,000
Creditors 5,000 Discount allowed 160
Return outwards 1,800 Drawings 2,400
Bank overdraft 6,280 Returns inwards 1,800
Rent 1,840 Sales 58,760
Salaries 3,400 Bills payable 5,800
Postage 1,600
Cash in hand 840
Opening stock 9,800
Purchases 47,480
1,09,840 1,09,840
32. Correct the following trial balance by identifying the errors:
(in Rs.) (in Rs.)
Opening stock 20,000 Loan A/c (Cr.) 30,000
Purchases 98,000 Sundry debtors 84,000
Wages 30,000 Capital 1,00,000
Rent, rates 2,000 Provision for bad debts 5,600
Salaries 16,000 Sales returns 4,000
General expenses 1,800 Discount allowed 1,000
Plant 30,000
Sundry creditors 40,000
Furniture 16,000
Cash at bank 10,000
Sales 2,57,200
Buildings 1,20,000
8,41,000 2,24,800
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LESSON 4
FINANCIAL STATEMENTS
LEARNING OBJECTIVES

⚫ Explain the meaning of Financial Statements
⚫ Identify the different types of final accounts of a firm
⚫ Discuss the manufacturing account of a firm
⚫ Examine the Balance Sheet and related concepts
⚫Evaluate the process of marshalling of Balance Sheet
LEARNING OUTCOMES
Upon completion of the lesson, students are able to demonstrate a good

understanding of:
Concept of meaning of financial statements
Define trading account
Profit & loss account and related concepts
Define manufacturing account
Explain balance sheet and related concepts
Recall classification of assets and liabilities
Marshalling of balance sheet and explain methods of preparing balancesheet
OVERVIEW
In the earlier lesson, we discussed the concept of preparation of journal, ledger posting and
trial balance.
As we all know that every business entrepreneur is interested to know the ultimate results
of his business enterprise, i.e., whether he/she has earned profits or suffered losses in the
accounting period. In order to achieve these objectives of accountancy, final accounts are
prepared after trial balance.
By ‘Final Account’ we mean the trading account, profit and loss account and balance sheet.
These are called final accounts because they are the last accounts, prepared at the end of
the year. Final Accounts represent the financial position of the business prepared at the
end of the financial year to cater to the needs of the users of the accounting information.
You need to note that the preparation of financial statements is not the first stepin the
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accounting process but they are the end products of the accounting process, which give
concise accounting information of the accounting period after the accounting period is
over. Thus the process of preparation of final accounts needs on our part a thorough
understanding of preparation of income statement, balance sheet and its balancing also.
This lesson has been designed to give you an understanding of the meaning of financial
statements, preparation of profit and loss account and balance sheet, their formats, the
items included in each and the marshalling of balance sheet, etc.
4.1. FINAL ACCOUNTS – AN OVERVIEW
It will be interesting for you to know that final accounts of a firm are prepared from the various
balances depicted by the Trial Balance. Some balances of the Trial Balance accounts are used
to prepare the Trading Account and some for the preparation of the Profit and Loss Account
and the remaining balances are transferred to the Balance Sheet. Thus, all the balances of
accounts of the Trial Balance are used in the final accounts.
You must know in the Trading and Profit & Loss Account all those accounts are disclosed which
affect the profit or loss of the business. In other words, all the nominal accounts of the Trial
Balance are used to prepare the Trading and Profit & Loss Account. In the left-hand side, all the
expenses incurred during aperiod and in the right-hand side all the incomes earned during a
period are disclosed. This account contains two parts:
⚫ Trading Account
⚫ Profit & Loss Account
Trading Account
You must know that trading account is primary financial statement prepared bythe owner of
the enterprise to determine the gross profit during the year, through the matching concept of
accounting. The gross profit of the enterprise is calculated through the comparison of purchase
expenses, manufacturing expenses, and other direct expenses with the sales.
Items of Income (Cr.) side
• Total sales of goods fewer Sales returns
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• Closing stock of goods.
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Items of expenditure (Dr.) Side

• Opening stock of goods
• Total purchases of goods Less purchase returns
• All direct expenses like Carriage inward & Freight expenses, rent for godown or
factory, Electricity and Power expenses, wages of workers and supervisors, Packing
expenses, etc.
Proforma of Trading Accountin the Books of ……………. Trading Account

(for the year ending .......... )
Dr Cr
Particulars Amount Amount Particulars Amount Amount
To Opening Stock XXXX By Cash Sales XXXX
To Cash Purchases XXXX Add Credit Sales XXXX
Add Credit Purchases XXXX By Total Sales XXXX
To Total Purchases XXXX Less Sales Return XXXX
Less Purchase Return XXXX By Net Sales XXXX
To Net Purchases XXXX By Closing Stock XXXX

To Wages XXXX By Gross Loss C/d** XXXX
To Carriage Inward XXXX
To Factory lighting XXXX
To Fuel, coal, oil XXXX
To duty on Import of XXXX
Materials
To Octroi duty XXXX
To Gross Profit* C/d XXXX
* Gross profit is resultant of excess of income in the credit side over the expenses in the debit
side of Trading Account.
** Gross loss is an outcome of excess of expenses in the debit side over the income on the
credit side.
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ILLUSTRATION: 22. From the information given below prepare Trading Account.
Opening stock Rs. 1,00,000; Purchases Rs. 1,50,000; Purchase return Rs. 25,000; Direct
Expenses Rs. 10,000; Carriage inward Rs. 5,000; Sales Rs. 4,00,000; Closing stock Rs. 50,000.
Solution:
Dr Trading Accounting for the Year ended…… Cr.

To Opening stock 1,00,000 By Sales 4,00,000
To Purchases 1,50,000 By Closing stock 50,000
Less: Purchase return 25,000 1,25,000
To Direct Expenses 10,000
To Carriage inward 5,000
To Gross Profit c /d 2,10,000
4,50,000 4,50,000
ILLUSTRATION: 23 From the following ledger balances extracted at the close of a trading year
ended 31st December 2019, prepare Trading account as at that date. Opening stock Rs.40,000
Purchases Rs.1,00,000 Sales Rs. 4,00,000 Returns inwards Rs.7,500 Returns outwards Rs.2,000
Carriage inwards Rs. 6,000 Wages Rs.16,500 Freight and dock charges Rs.12,000 Stock on
31.12.2013 Rs. 35,000.
Solution:
Dr. Trading Accounting for the Year ended 13.12.2019. Cr.

To Opening stock 40,000 By Sales 4,00,000
To Purchases 1,00,000 Less: Returns 7,500 3,92,500
inwards
Less: Returns outwards 2,000 98,000 By Closing stock 35,000
To Carriage inwards 6,000
To Wages 16,500
To Freight and dock 12,000
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charges
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To Gross Profit c/d 2,55,000
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4,27,500 4,27,500
ILLUSTRATION: 24. From the information given below prepare Trading account: Opening
stock Rs. 2,00,000 Direct expenses Rs.20,000 Purchases Rs.3,00,000 Closing stock Rs. 1,00,000
Carriage inwards Rs.10,000 Sales Rs.8,00,000 Purchase returns Rs. 50,000.
Dr. Trading Accounting for the Year ended……. Cr.
To Opening stock 2,00,000 By Sales 8,00,000

To Purchases 3,00,000 By Closing stock 1,00,000
Less: Purchase return 10,000
To Direct Expenses 20,000
To Carriage inward 10,000
9,00,000 9,00,000
4.2. PROFIT & LOSS (P&L) ACCOUNT AND RELATED CONCEPTS
The starting point in understanding the profit and loss account is to be clear about the meaning of
“profit”. Profit is the reward for taking risk.Profit has an important role in allocating resources (land,
labour, capitaland enterprise). Put simply, falling profits signal that resources should betaken out of
that business and put into another one; rising profits signalthat resources should be moved into this
business. The main task of accounts, therefore, is to monitor and measure profits. Profit =
Revenues less Costs. So, monitoring profit also means monitoring andmeasuring revenues and
costs. It has two parts.
(1). Recording financial data. This is the ‘book-keeping’ part ofaccounting.
(2). Measuring the result. This is the ‘financial’ part of accounting.Profits are ‘spent’ in
three ways.
(3). Retained for future investment and growth.
(4). Returned to owners e.g., a ‘dividend’.
(5). Paid as tax.
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4.3 COMPONENTS OF PROFIT AND LOSS ACCOUNT
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The Profit & Loss Account aims to monitor profit. It has three parts.
1. The Trading Account: This records the money in (revenue) and out(costs) of the business as a
result of the business’ ‘trading’ ie buyingand selling. This might be buying raw materials and selling
finishedgoods; it might be buying goods wholesale and selling them retail.The figure at the end of
this section is the Gross Profit.
2. The Profit and Loss Account: This starts with the Gross Profit andadds to it any further costs and
revenues, including overheads. Thesefurther costs and revenues which may be in the nature of other
operating, administrative, selling and distribution expenses. This account also includes expenses
which are from any other activities not directly related to trading (non-operating). An example is
intereston investments. Thus, profit and loss account contain all other expenses and losses, incomes
and gains of the business for the accounting year for which financial statements are being prepared. In
this process, it follows the mercantile basis of accounting (i.e, it takesinto account all paid and payable
expenses, and received and receivable receipts). The net result of profit and loss account is calledas net
profit. The main feature of profit and loss account is that it takes into account all expenses and
incomes that belong to the current accounting year and excludes those expenses and incomes that
belong either to the previous period or the future period.
3. The Appropriation Account. This shows how the profit is ‘appropriated’ or divided among the
three uses mentioned above.
The format of a typical profit and loss account is as follows:

Dr. Profit & Loss Accounts for the Year ended ……... Cr.
To Gross loss b/d xxx By Gross profit b/d xxx
To Salaries xxx By interest received xxx
To Rent xxx By Reserve for xxx
discount on Creditors
To Advertisement xxx By discount received xxx
To Commission xxx By gain on sale of fixed xxx
Assets
To Advertisement xxx By net loss transferred
To Bad debts xxx to capital account xxx
To Discount allowed xxx
To Reserve for bad xxx
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debts
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To Reserve for xxx
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doubtful debts
To Reserve for xxx
discount on debtors
To Freight/ carriage xxx
outwards
To loss on sale of fixed xxx
assets
To uninsured loss due XXX
to fire
To interest on capital XXX
To manger’s XXX
commission
To transfers to reserve XXX
Accounts
To Net profit XXX
transferred to XXX
capital account
Total Total
ILLUSTRATION: 25. From the following information, ascertain Gross Profit and Net profit.
Opening stock Rs. 2,400; Purchases Rs. 15,205; Sales Rs. 20,860; Closing stock Rs. 3,840; Return
outwards Rs. 185; Return inwards Rs. 860; Carriage inwards Rs. 524; Productive wages paid Rs.
2,800; Productive wages due Rs. 96; Loss due to fire Rs. 1,000; Indirect expenses Rs. 200.
Solution:
Dr. Trading Account for the year ended ……. Cr.
To Opening stock 2,400 By Sales 20,860
To Purchases 15,205 Less: Return inwards 860 20,000
Less: Return outwards 185 15,020 By Closing stock 3,840
To Carriage inwards
To Productive wages 524
To Productive wages 96
due
To Loss due to fire 1,000
To Indirect expenses 200
To Gross Profit c/d 4,600
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23,840 23,840
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ILLUSTRATION: 26. From the following balance taken out at the close a year ended 31st
December 2017, prepare a Profit and Loss Account.
Amount (Rs.) Amount (Rs.)
Gross profit 1, 02,000 Discount (Dr) 1,000
Carriage outwards 5,000 Apprentice premium 3,000
Salaries 11,000 Printing and Stationary 500
Rent 2,200 Rates and Taxes 700
Insurance Premium 1,800 Traveling expenses 400
Bad debts 4,200 Depreciation 12,000
Sundry trade expenses 600 Repairs and maintenance 5,600
Solution:
Dr Profit and Loss accounts for the year ended 31st December 2017. Cr
To Carriage outwards 5,000 By Gross profit b/d 1, 02,000
To Salaries 11,000 By Apprentice premium 3,000
To Rent 2,200
To Insurance Premium 1,800
To Bad debts 4,200
To Sundry trade expenses 600
To Discount 1,000
To Printing and Stationary 500
To Rates and Taxes 700
To Traveling Expenses 400
To Depreciation 2,000
To Repairs and Maintenance 5,600
To Net Profit c/d 60,000
1 ,05,000 1,05,000
4.4.THE BALANCE SHEET AND RELATED CONCEPTS
According to Howard, a Balance sheet may be defined as – ‘a statementwhich reports the values
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owned by the enterprise and the claims of thecreditors and owners against these properties.
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The Balance sheet is a statement that is prepared usually on the last dayof the accounting year, k e r- s o ft w a
showing the financial position of the concern as on that date. It comprises a list of assets,
liabilities and capital. An asset isany right or thing that is owned by a business. Assets include land,
buildings,equipment and anything else a business owns that can be given a value inmoney terms
for the purpose of financial reporting. To acquire its assets,a business may have to obtain money
from various sources in addition toits owners (shareholders) or from retained profits.
The various amounts of money owed by a business are called its liabilities. To provide
additional information to the user, assets and liabilities are usually classified in the balance
sheet as:
- Current: those due to be repaid (Current liabilities) or converted into cash within 12 months
of the balance sheet data (Current Assets). - Long-term: those due to be repaid (Long term
liabilities) or converted into cash more than 12 months after the balance sheet data (Fixed
Assets).
1. Fixed Assets: A further classification other than long-term or current is also used forassets.
A “fixed asset” is an asset which is intended to be of a permanentnature and which is used by the
business to provide the capability to conduct its trade. Examples of “tangible fixed assets”
include plant &machinery, land, buildings and motor vehicles. “Intangible fixed assets”may include
goodwill, patents, trademarks and brands - although they may only be included if they have been
“acquired”. Investments in othercompanies which are intended to be held for the long-term can
also be shown under the fixed asset heading.
2. Capital; Apart from borrowing from banks and other sources, all companies receive finance from
their owners. This money is generally available for the life of the business and is normally only
repaid when the company is “wound up”. To distinguish between the liabilities owed to third
partiesand to the business owners, the latter is referred to as the “capital” or “equity capital” of
the company. In addition, undistributed profits arere-invested in company assets (such as stocks,
equipment and the bankbalance). Although these “retained profits” may be available for distributionto
shareholders - and may be paid out as dividends on a future date - theyare added to the equity capital
of the business in arriving at the total “equityshareholders’ funds”.
At any time, therefore, the capital of a business is equal to the assets (usually cash) received from
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the shareholders plus any profits made bythe company through trading that remain undistributed.
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The basic functions of a balance sheet are:
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1. It gives the financial position of a company on any given date

2. It gives the liquidity picture of the concern
3. It gives the solvency position of the concern
The basic components of a balance sheet are:
LIABILITIES ASSETS
1. Net Worth 1. Fixed assets
2. Non-current liabilities / long 2. Intangible assets
termliabilities 3. Current assets
3. Current liabilities 4. Deferred expenditure
5. Other assets
The basic components of a balance sheet are:
LIABILITIES ASSETS
1. Net Worth 1.Fixed assets
2.non-current liabilities / long termliabilities 2.Intangible assets
3.Current liabilities 3.Current assets
4.Deferred expenditure
5.Other assets
Pro-forma of a Balance sheet is as follows:
Balance sheet as on ………
Liabilities Amount Amount Assets Amount Amount
Capital Fixed assets:
Xxx
Add: Net profit for the
Xxx Land & Buildings xxx
periodFurther
capital introduced
Interest on capital
Less: Drawings
Xxx Plant & Machinery xxx
Interest on drawings
Net loss for the period Xxx xxx Equipment xxx
Loans xxx Furniture & Fixtures xxx
Investments:
Other long-term xxx xxx
borrowings
Sundry creditors xxx Current assets:
Bills / Notes payable xxx Sundry debtors xxx
Outstanding expenses xxx Bills / Notes receivable xxx
Incomes received in xxx Prepaid expenses xxx
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advance
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Outstanding incomes xxx k e r- s o ft w a
Cash in hand xxx

Cash at bank xxx
Total xxx Total xxx
4.5. COMMON ADJUSTMENTS AFFECTING THEPREPARATION OF BALANCE SHEET ARE

1.Closing stock: Closing stock appears on the credit side of trading account and assets side of
balance sheet if it is given in the adjustments.If it is given in the trial balance it will appear only on the
assets side ofthe balance sheet. The entry passed is
Closing Stock, A/c Dr.
To Trading Account.
2. Outstanding expenses: Outstanding expenses refer to those expenses which have become
due during the accounting period forwhich financial statements are being prepared, but not yet
have been paid. Such expenses if given in the adjustments, should be added to the respective
expenditure account on the debit side of profit and lossaccount and must be shown as liabilities in
the balance sheet. If suchexpenses are given in the trial balance, they should be recorded onlyon
the liability side of the balance sheet. The journal entry to be passed is
Respective Expenditure A/c Dr.
To Outstanding Expenditure
3.pre-paid expenses: They are the expenses which have been paid in advance. They are also
known as un-expired expenses. If given in adjustments, they should be deducted from the
respective expenditure account on the debit side of the profit and loss accountand must be shown
on the asset side of the balance sheet. If given inthe trial balance, they must be shown only on the
asset side of the balance sheet. The adjustment entry is
Pre-paid expenditure A/c Dr.
To Respective Expenditure
4.Outstanding or accrued income: This is the income which has been earned during the current
accounting year and has become duebut not yet received by the firm. If given in the adjustments,
it mustbe added to the respective income account on the credit side of theprofit and loss account
and must be shown on the assets side of thebalance sheet. But if given in the trial balance, it must
be shown onlyon the asset side of the balance sheet. The entry is
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Outstanding/Accrued Income A/c Dr.
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To Respective Income
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5.Depreciation: It is a reduction in the value of the asset due to wear and tear, lapse of time,
obsolescence, exhaustion and accident. It ischarged on fixed assets of the business. If given in the
adjustments, it must be shown on the debit side of the profit and loss account and must be
deducted from the respective asset account in the balance sheet. If given in the trial balance, it
must be shown only on the debitside of the profit and loss account. The entry is
Depreciation A/c Dr.
To Respective Fixed Asset
6.Bad Debts: They represent that portion of credit sales (debtors) that had become bad due to
the inability of the debtor to repay the amount. It is a loss to the business and gain to the debtor.
This is areal loss to the business and as such must be deducted from the debtors before deducting
any reserves created on debtors. If givenin the adjustments it must be shown on the debit side of
the profit andloss account and must be deducted from the debtors account on theasset side of the
balance sheet. If given in the trial balance this amountmust be shown only in the profit and loss
account. The entry is
Bad debts A/c Dr.
To Debtor’s personal account
7.Provision for bad debts: This represents a provision made by thebusiness for any potential
bad debts. It is charged to the profit and loss account debit side and must be deducted from the
debtors afterdeducting the bad debts if any on the asset side of the balance sheet,if given in the
adjustments. If given in the trial balance, it must beconsidered only in preparing the profit and loss
account. The entry is
Profit and loss A/c Dr.
To Provision for bad debts
8. Provision for doubtful debts: This represents a provision made by the business for any
potential doubtful debts. If given in the adjustments, it must be charged to the profit and loss
account debitside and must be deducted from the debtors after deducting the baddebts (if any)
and reserve for bad debts on the asset side of the balance sheet. If given in the trial balance, it
must be considered onlyin preparing the profit and loss account. The entry is
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To Provision for doubtful debts
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9.Provision for doubtful debts: This represents a provision made by the business for any
potential discount to be allowed to the debtors.If given in the adjustments, it must be charged to
the profit and lossaccount debit side and must be deducted from the debtors after deducting
the bad debts (if any), reserve for bad debts (if any) and reserve for doubtful debts (if any) on
the asset side of the balance sheet. If given in the trial balance, it must be considered only in
preparing the profit and loss account. The entry is
To Provision for discount on debtors
10. Reserve for discount on creditors: This represents a provision madeby the business for any
potential discount to be allowed by the creditorsof the business. If given in the adjustments, it must
be charged to theprofit and loss account credit side and must be deducted from the creditors on
the liabilities side of the balance sheet. If given in thetrial balance, it must be considered only
in preparing the profit andloss account. The entry is
Reserve for discount on creditors A/c Dr
To Profit and Loss A/c
11. Interest on capital: This is the return the owners of the business willget for investing in the
business. Usually, it is paid or added to the capital at a fixed percentage. If given in the
adjustments, it is shownon the debit side of the profit and loss account and is usually added to
the capital account on the liabilities side of the balance sheet. If givenin the trial balance, it must
be shown on the debit side of profit andloss account. The entries are :
Profit and Loss A/c
To Interest on capitalInterest on capital A/c Dr
To capital A/c
12. Interest on Drawings: Drawings represent the withdrawals madeby the owners during the
accounting year either in the form of stock,cash or withdrawal from bank for personal use. They
must be deducted from the capital account on the liabilities side of the balancesheet. Sometimes,
firms charge interest on such drawings made by the owners to discourage them from
withdrawing their investment.Usually, it is levied as a fixed percentage. It is an income to the
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business and a loss to the owner. Hence, if given in the adjustments,it must be shown on the credit
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side of the profit and loss account anddeducted from the capital in the balance sheet. If given in
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the trialbalance, it must be shown only in the profit and loss account. Therespective entries are:
Interest on Drawings A/c Dr
To Profit and loss A/c
Interest on Drawings A/c Dr
13. Income received in advance: Income received in respect of which service has not been
rendered is known as income received in advance.In order to calculate the exact profit or less
made during the year, such income should not be taken into account while preparing profitand
loss account. Hence this amount must be deducted from the respective income account in the
profit and loss account and must betreated as a liability in the balance sheet. The adjustment
Income account Dr.
To income received in advance.
ILLUSTRATION: 27. From the following Trial balance of Evergreen and Company, prepare
trading and Profit and Loss and Balance Sheet.
Particulars Debit (Rs.) Credit (Rs.)
Cash in hand 2,400
Purchases 2, 40,000
Stock on 1st January 2005 70,000
Debtors 1, 00,000
Plant and Machinery 1, 20,000
Furniture 30,000
Bills receivable 40,000
Rent and taxes 20,000
Wages 32,000
Salaries 37,600
Capital 2, 00,000
Bills payables 44,000
Creditors 48,000
Sales 4, 00,000
-------------------- -----------------
6, 92,000 6, 92,000
-------------------- -----------------
Additional Information:
(i). Closing Inventory as on 31st December 2015 Rs.50, 000.
(ii). Outstanding Wages Rs.5,000.
(iii). Depreciation on Plant and Machinery at 10 per cent and Furniture at 5 per cent.
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SOLUTION:
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Evergreen Company Trading and Profit & Account for the Year ending 31st December 2015
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To Opening Stock 70,000 By Sales 4,00,000
To Purchases 2,40,000 By Closing Stock 50,000
To Wages 32,000
Add: Outstanding 5,000 37,000
Total 4,50,000 Total 4,50,000
Salaries 37,600 To Gross Profit b/d 1,03,000
To Rent & Taxes 20,000
To Depreciation
10%Plant &Machinery 12,000
5%Furniture 1,500 13,500
Total 1,03,000 Total 1,03,000
Evergreen &Company Balance Sheet as on 31st December 2015

Capital 2,00,000 Cash in hand 2,400
Add: Net Profit 31,900 2,31,900 Debtors 1,00,000
Bills Payable 44,000 Plant & Machinery 1,20,000
Sundry Creditors 48,000 Less;10% Deprecation 12,000
Outstanding Wages 5,000 Furniture 30,000
Less;5% Deprecation 1,500 28,500
Bills Receivable 40,000
Closing Stock 50,000
3,28,900 3,28,900
ILLUSTRATION: 28. Form the flowing data prepares trading and profit & loss account and
balance sheet of Mr.X as on 31st March, 2007.Capital 80,000, Bills Payable 20,400, Creditors
35,000, Purchases Return 1,000,Sales 4,00,000, Drawings 10,000, Goodwill 40,000, Land and
Building 50,000, Plant 20,000, Loose Tools 1,000, Bills Receivables 2,000, Stock on First April 2006
30,000, Purchases 2,00,000, Wages 10,000, Carriage Outward 1,000, Carriages Inwards 500, Coal
3,000, Salaries 25,000, Rent Paid 1,800, Discount Paid 1,000, Cash in Hand 500, Cash at Bank
20,000, Debtors 40,000, Repairs 1,000, Printing and Stationary 400, Bad Debts 1,000,
Advertisement 2,000, Sales Return 2,000, Furniture 15,000, General Expenses 3,000.
Adjustments:
(i) Closing Stock on 31st March 2017 was Rs.50, 000.
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(ii) Depreciation on plant, Loose tools, Furniture by 10% and Land and Building 15%.
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(iii) Outstanding wages Rs.1, 500.
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(iv) Advertisement prepaid Rs.1, 000.

(v) Create 5% Bad Debts on Debtors.
Solution:
Dr Mr. X. Trading and Profit & Loss Account for the Year ending 31st March 2017 Cr
To Purchases Less: Sales Return 2,000 3,98,000
2,00,000
Less: Purchase 1,000 1,99,000
Return
To Coal 3,000 By Closing Stock 50,000
To Wages
1,500
To Carriage Inwards 500
Total 4,48,000 Total 4,48,000
To Carriage outwards 1,000 By Gross Profit b/d 2,04,000
To Salaries 25,000
To Rent 1,800
To Discount 1,000
To Repairs 1,000
To Printing and 400
Stationary
To Generals Expenses 3,000
To Advertisement 2,000
Less: Prepaid 1,000 1,000
To 5%Provision for Bad 2,000
Debts
To Bad Debts 1,000
To Depreciation
10%Loose tools 100
10%Furniture 1,500
15%Building 7,500 11,100
To Net Profit c/d 1,55,700
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Total 2,04,000 Total 2,04,000
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Mr.X. Balance Sheet as on 31st March 2017.
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Capital Good will 40,000
80,000
Add ;Net Profit 1,55,700 Bills Receivables 2,000
2,35,700 Cash in hand 500
Less: Drawing 10,000 2,25,700 Cash at bank 20,000
Prepaid
Creditors 35,000 Advertisement 1, 000
Bills payable 20,400 Land and 50,000
Building
Outstanding Wages 1, 500 Less;15%
Deprecation 7,500 42,500
Plant 20,000
Less:10%
Loose Tools 1,000
Less:10%
Deprecation 100 900
Furniture 15,000
Less:10%
Debtors 40,000
Less: 5%
Provision 2,000 48,000
For Bad Debts
Suspense 56,200
Accounts
Total 2,82,600 Total 2,82,600
ILLUSTRATION: 29. The following is the Trial Balance of B Govil on 31st March 2000.
Dr. Cr.
Cash in hand 540
Cash at bank 12,630
Purchases 1, 40,675
Sales 2, 58,780
Returns inwards 2,680
Returns outwards 1,500
Wages 20,480
Fuel and power 4,730
Carriage on Sales 3,200
Carriage on Purchases 2,040
Stock (1 April, 1999)
st 25,760
Buildings 30,000
Freehold land 20,000
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Machinery 20,000
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Patents 7,500
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Salaries 15,000
General expenses 13,000
Insurance 600
Drawings 15,245
Capital 82,000
Sundry debtors and Creditors 14,500 6,300
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3, 48,580 3, 48,580
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Taking into account into the following adjustments, and prepare Trading and Profit and Loss
Accounts and Balance Sheet:
(i) Stock on hand on 31st March, 2020 is Rs.26,800
(ii) Machinery is to be depreciated at the rate of 10% and patents at the rate of 20%.
(iii) Salaries for the moth of March 2000 Amounting to Rs.1, 500 were unpaid.
(iv) Insurance includes a premium of Rs.170 on a policy, expiring on 31st September
2000.
(v) Wages include a sum of Rs.2, 000 spent on the erection of a cycle shed for
employees and customers.
(vi) A provision for bad and doubtful debts to be created to the extent of 5% on debtors.
Solution:
Dr Mr. Govil Trading and Profit & Loss Account for the Year ending 31st March 2020 Cr
To Purchases Less: Sales Return 2,680 2,56,100
1,40,675
Less: Purchase Return 1,500 1,39,175
To Fuel 4,730 By Closing Stock 26,800
To Wages 20,480
Add ; Outstanding 2,000 22,480
To Carriage Inwards 2,040
To Gross Profit c/d 88,715
2,82,900 2,82,900
To Salaries 15,000 By Gross Profit b/d 88,715
To General Expenses 13,000
To Insurance 600
Less: Prepaid 170 430
To 5%Provision for bad 725
debts
To Depreciation
10%Machinery 2,000
20%Patents 1,500 3,500
To Carriage on sales 3,200
To Net Profit 51,360
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88,715 88,715
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Mr. B Govil Balance Sheet as on 31st March 2020.
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Capital 82,000 Cash in hand 540
Add: Net Profit 51,360 Cash at bank 12,630
1,33,360 Debtors 14,500
Less: Drawings 15,245 1,18,115 Less:5% Provision for bad 725 13,775
Debts
Sundry Creditors 6,300 Prepaid Insurance 85
Outstanding Salary 1,500 Stock 26,800
Outstanding Wages 2,000 Land 20,000
Machinery 20,000
Less: 10%Deprecation 2,000 18,000
Patterns 7,500
Less:20% Deprecation 1,500 6,000
Building 30,000
1,27,915 1,27,915
ILLUSTRATION: 30. Prepare Trading and Profit and Loss Accounts for the year ended 31st
March, 2020 and Balance Sheet as at the date form the following Trail Balance of K.Rama
Rao
Debit Balance Rs. Credit Balance Rs.
Drawings 45,000 Capital 1, 60,000
Goodwill 80,000 Bills Payable 33,800
Land and Buildings 60,000 Creditors 70,000
Plant and Machinery 40,000 Purchases Returns 2,650
Loose Tools 3,000 Sales 4, 18,000
Stock, 1st April, 1989 40,000
Purchases 2, 51,000
Wages 20,000
Carriage Outwards 500
Carriage Inwards 1,000
Coal 5,800
Salaries 35,000
Rent, Rates& Taxes 2,800
Discount 1,500
Cash at Bank 25,000
Cash in hand 400
Sundry Debtors 45,000
Repairs 1,800
Printing and Stationery 500
Bad Debts 1, 200
Advertisements 3,500
Sales Retunes 2,000
Furniture 11,200
General Expenses 5,250
Page | 112
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Adjustments:
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(i). Closing Stock on 31st March, 1990 was Rs. 35,000.
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(ii). Depreciate Plant and Machinery, Tools and Furniture by 10% and Land and Building
by 5%. Provide Rs.1,500 for Wages
(iii). Advertisement Prepaid are Rs.500.
(iv). Provide 5% on Debtors against bad debts and discount.
Solution:
Dr. Mr.K.Rama RaoTrading and Profit & Loss Account for the Cr
Year ending 31st March 2020
To Opening Stock 40,000
To Purchases 2,51,000 By Sales 4,18,000
Less: Purchase Return 2,650 2,48,350 Less: Sales Return 2,000 4,16,000
To Wages 20,000 By Closing Stock 35,000

To Carriage Inwards 1,000
To Coal 5,800
4,51,000 4,51,000
To Salaries 35,000 By Gross Profit b/d 1,34,350
To Rent, Rates And Taxes 2,800
To Advertising 3,500
Less: Prepaid 500 3,000
To Repairs 1,800
To Printing And 500
Stationery
To General Expenses 5,250
To Carriage Outwards 500
To Discount 1,500
To Bad Debts (Old) 1,200
To 5% Bad Debts (New) 2,250
To2% Discount On 855
Debtors
To Depreciation
5%Land 3,000
10%Tools 300
10%Furniture 1,120
10%Plant and 4,000 8,420
Machinery
1,34,350 1,34,350
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Mr.K.Rama Rao Balance Sheet as on 31st March 20200.
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Liabilities Amount Amount Assets Amount Amounttra c k e r- s o ft w are
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Capital 1,60,000 Goodwill 80,000

Add: Net Profit 71,275 Bill Receivable 3,000
2,31,275 Cash in Hand 400
Less : Drawing 45,000 1,86,275 Cash at Bank 25,000
Advertising Prepaid 500
Bills payable 33,800 Land and Building 60,000
Creditors 70,000 Less : 5%Deprecation 3,000 57,000
Outstanding wages 1,500
Plant and Machinery 40,000
Loose Tools 3,000
Less: Deprecation 300 2,700
Debtors 45,000
Less: 5%Provision 2,250
42,750
Less:2%Discount 2,138 40,612
Furniture 11,200
2,91,575 2,91,575
ILLUSTRATION: 31. From the following Ledger Balance extracted at the close of trading year
ended 31st March 2008.Prepare Trading and Profit and loss account and Balance Sheet at date,
after diving effect to the under mentioned adjustment :
(Rs) (Rs)
Capital on 1.4.2007 50,000 Business premises 55,000
Stock on 1.4.2007 8,000 Furniture and fixtures 2,500
Purchases 20,000 Bills receivable 3,500
Sales 80,000 Bills payable 2,500
Return inwards 1,500 Sundry creditors 15,800
Return out wards 400 Packing machinery 4,500
Wages 6,900 Smith’s Loan (Dr) @ 10%on 1.4.07 5,000
Advertisement 5,500 Investment 3,000
Apprenticeship premium 1,200 Cash in hand 250
Interest on Smith’s Loan 300 Cash at bank 3,500
Proprietor’s withdrawals 3,000 Sundry debtors 20,000
Office expenses 8,050
Adjustments to be made for the current period are:
(i) Stock in hand at 31st March 2008 Rs. 7,000.

(ii) Apprenticeship premium is for thee years, paid advance on 1st April,2007.
(iii) Interest on capital to be allowed at 5% for the year.
(iv) Interest on Drawings to be charged to him as ascertained for the year Rs.80.
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(v) Rs. 5,000 out of the advertisement expenses are to be carried forward.
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(vi) Stock valued at Rs. 3,000 destroyed by the fire on 25.3.2008 but the insurance company tra c k e r- s o ft w are
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admitted a claim of Rs. 2,000 only and paid it in April 2008.

(vii) The manager is entitled to a commission of 10% of the Net profit calculated after
charging such
commission;
(viii) Included in sales is an amount of Rs. 10,000 representing goods on ‘sales or return ‘.
The customer still having the right to return the goods. The goods were invoiced
charging a profit of 20% on sales;
(ix) The stock included material worth Rs, 1,000 for which bills had not been received and
therefore, not yet accounted for.
Solution:
Dr Trading and Profit & Loss Account for the year ending 31st March 2008. Cr

To Opening Stock 8,000 By Sales 80,000
To Purchases 20,000 Less: Return Inwards 1,500
Less: Return 400 78,500
Outwards
19,600 Less: goods on sales or 10,000
return basis
Add: Material Not 1,000 20,600 68,500
Included In Stock
By Closing Stock 7,000
To Wages 6,900 Add: goods remaining 8,000 15,000
on sales
or return basis
To Gross Profit c/d 51,000 By loss of stock in fire 3,000

86,500 86,500
To Advertising 5,500 By Gross Profit b/d 51,000
Less: carried forward 5,000 500 By Apprenticeship 400
Premium
To Interest on 80 By Smith Loan Interest 300
Drawings
To Interest on capital 2,500 Add: Interest Accrued 200 500
To Interest on loan 300
To Office expense 8,050
To Loss on sale of stock 1,000
To Managerial 3,977
commission
51,980 51,980
Balance Sheet as on 31st March 2004.

Capital 50,000 Cash in hand 3,500
Page | 115
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Add ; Net profit 35,793 Cash at bank 250
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85,793 Investment 3,000 tra c k e r- s o ft w are
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Less: Drawing 3,000 Bills Receivable 3,500

82,793 Business Premises 55,000
Add: Interest on Capital 2,500 Furniture and Fixtures 2,500
85,293 Packing Machinery 4,500
Add: Interest on 80 85,373 Insurance Company 2,000
Drawings
Pre-paid Advertising 5,000
Sundry Creditors 15,800 Sundry Debtors 20,000
Add: Materials not 1,000 16,800 Less: goods on sale or 10,000 10,000
Accounted for return basis
Bills Payable 2,500 Smith Loan 5,000
Apprenticeship 800 Add: Interest Accrued 200 5,200
Premium
Managerial Commission 3,977
Closing Stock 7,000
Add: goods on sales or 8,000
return basis 15,000
1,09,450 1,09,450
Short Answer Questions

1. What do you mean by errors?
2. What do you mean by Trading Account?
3. What do you mean by adjustment?
4. Explain the different adjustment entries.
5. Illustrate the interrelationship between the accounting statements andstatement of
position.
6. Highlight the effect of the following entries in the:
(a) Closing stock
(b) Interest received in advance
(c) Rent outstanding
7. How many types of persons are interested in financial statements?
8. Give any two persons of Internal Users.
9. What is Stock Exchange?
10. What is the time period of preparing Trading Account?
11. Write brief note on Gross Profit.
12. What is the purpose of crediting the closing stock in the trading account?
13. Why Manufacturing Account is prepared?
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14. Highlight the orders into which balance sheet can be disclosed.
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15. How is Taxable income computed?
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16. Which method of accounting is known as Accrual Accounting System?

17. What is a prepaid expense?
18. Who is a debtor?

19. What is Cash method of accounting?
20. What is Profit & Loss Account?
1. Explain the various accounting concepts and conventions throughadditional

information or adjustments.
2. Explain the importance of adjustments in the final accounts. Explain anyfive with
examples.
3. What is the difference between the Trading Account and Profit and Explain?.
4. From the balances given below, prepare trading and profit and
loss account for the year ended 31 March 1999.
5.
Particulars (`Rs.) Particulars (Rs.`)
Salaries 3500 Opening Stock 16100
Purchases 39500 Godown Rent 1390
Carriage on purchases 1300 Factory rent 2000
Interest 1600 Stationary 350
Wages 3150 Advertisement 340
Import duty 1020 Power 890
Interest received 850 Furniture 6500
Sales 82510 Discount 610
Carriage on sales 1190 Sundry receipts 620
Manufacturing Expenses 2360 Export duty 1470
Postage 350
Audit fees 1070
(Ans: Gross profit ` 32100, N.P. ` 21700)
5. From the following trial balance, prepare the necessary final accounts ofM/s Bhushan & Co.
Trial Balance as on 31 December, 2004
Particulars Amount Amount

(`Dr. ) (`Cr. )
Purchase and Sales 42600 94400
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Carriage 1500
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k e r- s o ft w a
Electricity 1400 k e r- s o ft w a
Return 2150 2000

Wages & Salaries 2800
Rent 700
Capital 94140
Drawings 5400
Printing Charges 800
Legal Charges 480
Interest earned 420
Machinery 65000
Land 42000
Factory Lighting 600
Stock on 1 Jan 2004 7500
Furniture 18500
Commission received 4170
191430 191430
Additional Information
Closing stock ` 5760
(Ans: G.P. ` 45160, N.P. ` 42520, total of B/S ` 131260)
6. Prepare trading and profit & loss account from the following trial balance extracted from
the books of Ram on 31 December, 2001.
Particulars Dr (Rs.`) Cr ( Rs.`)

Purchases and Sales 7475 17650
Returns 200 125
Building 7500
Furniture and Fittings 640
Bank Overdraft 2850
Advertisement 450
Sundry Debtors and Creditors 3800 3500
Motor Vehicles 6000
Interest 118
Capital 12500
Stock on 01.01.2001 4460
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Taxes & Insurance 1250
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Commission 375 k e r- s o ft w a
Bad debts 125

Cash 650
Provision for bad debts 200
General expenses 782
Audit fees 250
Wages 1200
Salaries 2300
37200 37200
(a) Stock in hand on 31 December 2001 was ` 4000
(b) Depreciation on Building @ 5%, Furniture & Fittings @ 10% andMotor Vehicles
@ 20%
(c) Write off further ` 100 as bad debts and make provision further of 5%on sundry
debtors
(d) Salaries ` 300 and Taxes ` 120 are outstanding
(e) One third of commission received in respect of work to be done in thenext year
(f) ` 85 is due for interest on bank overdraft
(Ans: GP ` 8440; NP ` 1186; B/S ` 20666)
7. The following is the trial balance of XYZ Ltd as on 30th June 2005.
Particular Debit Credit
Rs. Rs.
Capital - 1, 86,000
Drawings 15,735 -
Stock on 1-7-2004 17,280 -
Sundry creditors - 18,900
Sundry debtors 43,500 -
Machinery 60,000 -
Patents 22,500 -
Freehold land 30,000 -
Buildings 96,000 -
Sales - 2, 96,340
Purchases 1, 22,025 -
Sales returns 2,040 -
Purchases returns - 1,500
Cash at bank 7,890 -
Cash in hand 1,620 -
Insurance 1,800 -
General expenses 9,000 -
Salaries 45,000 -
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Wages 25,440 -
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Factory fuel 14,190 -
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Carriage on purchases 6,120 -

Carriage on sales 9,600 -
Rent - 27,000
____________ ____________
5, 29,740 5, 29,740
_____________ _____________
The following adjustment is to be affected:

(i) Stock on 30th June 2005 Rs.20, 400.
(ii) 5% on sundry debtors is to be written off as bad
(iii) Salaries for the month of June 2005 amounting to Rs.4, 500 were unpaid.
(iv) Rent Rs.3, 000 is accrued but not received.
(v) Depreciate machinery @ 10% and Patents @ 20%
You are required to prepare Trading and Profit & Loss Accounts and Balance Sheet as on
30-06-2005. ( G.P, 1,31,145, N.P, 79,080, B/s. 2,72,745).
8. Form the following ledger balance of Mr. Dinesh, Prepare a trading, P and L and a balance
sheet, after making necessary adjustments.
Rs.
Dinesh’s Capital 8, 00,000
Dinesh’s Drawings 60,000
Plant and Machinery (1.4.2007) 2, 00,000
Plant and Machinery (1.7.2007) 50,000
Stock on 1.4.2007 1, 50,000
Purchase 8, 20,000
Carriage in 20,000
Furniture and fixtures 2, 00,000
Carriage out 25,000
Sundry expenses 8.000
Printing, Stationary and Postage 12,000
Rent, Rates and taxes 40,000
Bad depts. 5,000
Sundry Creditors 95,000
Sales 12, 00,000
Purchase Returns 10,000
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Provisions for Bad & doubtful debts (1/4/2007) 8,000
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Commission Received 16,000
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Insurance Charges 10,000
Salary 2, 10,000
Cash in hand 62,000
Cash at bank 2, 05,000
Adjustments
(i) Closing stock on 31.03.2008 was valued at Rs.1,40,000
(ii) Create provision for bad and doubtful debts@ of 5% of sundry debtors.
(iii) Provide for depreciation on furniture and fixtures at 10% and Plant and
Machinery for at 20% p.a
(iv) Insurance paid in advance is 1,000
(v) Commission receivable in arrears is 5,000.
(vi) Salaries payable are 15,000.
(G.P, 3,60,000, N.L, 5,100, B/s. 8,45,900).
9. The following is the Trial Balance of Miss Biba Ganguly on 31st December 20004
Particular Debit Credit
Rs. Rs.
Capital 20,000
Plant and Machinery 25,000
Office furniture and fittings 1,300
Stock on 1-1-2004 24,000
Motor Vehicle 6,000
Cash in hand 200
Cash at bank 3,250
Wages 75,000
Salaries 7,000
Purchases 1, 06,750
Sales 2, 40,000
Bills Payable 2,800
Sundry Creditors 26,000
Returns inwards 4,650
Provision for doubtful debts 1,250
Drawings 3,500
Returns Outwards 2,750
Rent 3,000
Factory Lighting 400
Insurance 3,150
General Expenses 500
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Bad debts 1,250
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Discount 3,250 1,850
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____________ ______________
2, 94, 650 2, 94, 650
____________ ______________
The following adjustment is to be affected:
(i) Stock on 31st December 2004 Rs. 26,000.
(ii) Furniture to be depreciated by 5%.
(iii) Factory lighting is due for 3 month, but not paid Rs.150.
(iv) Write off further bad debts Rs.350.
(v) The provision for doubtful debts to be increased to Rs.1, 500 and provision for
discount on debt at 2% to be made.
During the year, machinery was purchased for Rs.10, 000 but it was debited to purchases
account. You are required to prepare the Trading and Profit and Loss Account and the
Balance Sheet as on 31st December 2004.
(G.P, 67,800, N.P, 50,415, B/s. 95,865).
9. The following is the Trial Balance of Mr Sohan as at March 31, 2006:
Particulars `Amount Particulars `Amount
Fixed Assets 280000 Bills Payable 6600
Carriage inwards 7000 Creditors 100000
Carriage outwards 4000 Loan from bank 4000
Opening stock 87000 Capital 500000
Bills receivable 11000 Sales 630000
Debtors 205000 Purchase returns 5000
12% investments 50000 Discount earned 1000
(purchased on 1.7.2005) Bad debts 3500
recovered
Drawings 7000 Interest 2000
Cash in hand 8000
Cash In Bank 13000
Purchases 525000
Sales returns 10000
Rent 3000
Insurance 3600
Discount allowed 1500
Office & Administration 14200
Expenses
Bad debts 5000
Interest 2500
Selling & Distribution Exp. 15300
1252100 1252100
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a. Rent is payable at ` 300 per month
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b. Closing stock as on 31.03.2006 was ` 42000

c. Provide for depreciation on fixed assets at 10% p.a.
d. Insurance premium was paid for the year ending 30 June, 2006.
e. Write off further ` 5000 as bad.
f. Interest on investment is payable half-yearly on 30th June and 31stDecember.
g. Create provision for bad and doubtful debts at 10%.
h. Create a reserve for discount on creditors at 2%
Prepare Trading and Profit and Loss Account for the year ended 31 March,2006
and Balance Sheet as on that date.
(Ans. GP ` 48000; NL ` 46400, Balance Sheet total ` 555800)
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LESSON 5
INFLATION AND HUMANRESOURCES ACCOUNTING
LEARNING OBJECTIVES
⚫ Discuss the meaning and need of inflation accounting
⚫ Describe the methods of inflation accounting
⚫ Identify the problems relating to inflation accounting
⚫ Explain the meaning and definition of Human Resource Accounting (HRA)
⚫ Identify the methods of Human Resource Accounting
⚫ Discuss the importance of HRA

LEARNING OUTCOMES
• Meaning and need of inflation accounting
• Identifying methods of inflation accounting
• Meaning and definition of human resource accounting
• Explain need and objectives of HRA
• Methods and importance of human resource accounting

OVERVIEW
Assessing a company’s performance after adjusting for the effects of inflation is the general
meaning of inflation accounting. And it involvesthe adoption of definitions of costs, revenue, profit
and loss that are fullyinflation-adjusted.
However, we can say if a firm operated in an economy which is suffering from the effects of
inflation than these financial statements fail to reflect the true picture of the organization’s
financial strength and performance. Thus there arises a need for a preparation of financial
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statements by adjusting them for price level changes.
Moreover, it is a universal truth that progress of an organization depends on the skillful

employment of its human resource. Thus, it is worth noting for you that there is a need for a
separate field of accounting which can enable a firm to gain quantitative and valuable information
regarding human capital.
Thus, keeping in mind these two concepts, we can say that this lesson has been designed out
to provide you a good understanding of the concepts of inflation accounting and HRA. First part
of the lesson explains you the concept, methods and benefits of inflation accounting and the
second part focuses on meaning, definitions, methods and limitations of HRA.
5.1. DEFINITION OF INFLATION ACCOUNTING
According to M.A.Sahaf, Inflation accounting is an accounting technique which aims to record
business transactions at current values and to neutralize the impact of changes in the price on
the business transaction.
5.2. REASONS FOR DISCREPENCIES IN ACCOUNTS DUE TOADOPTION OF HISTORICAL
COST ACCOUNTS
• Recording fixed assets at their historical costs
• Recording inventory at historical cost instead of current cost
• Recording other assets and liabilities without taking into account theircurrent values
5.3. ISSUES IN INFLATION ACCOUNTING
(1). Adjustment Of Historic Cost Data: In the early days of inflation accounting development,
business houses often usedto debate whether the historic cost data should be adjusted for inflation
induced price level changes or not. But, later they started to follow itall the same while preparing
their financial statements.
(2). Adjustment Items: While adjusting items for inflation, thereare 2 approaches one can take
– 1) covering the adjustment of all financial items, 2) covering the adjustment of only those
items thathave direct impact on financial results
(3). Use Of Index No: The opinion of experts is varied on the useof index numbers for adjusting
the financial accounts. They can either use general purchasing power index or specific index
number. Mostlythe use of general purchasing power index is recommended as (a) it
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replaces the monetary unit of measurement which ceases to be stableduring the changing price level
(b) it provides the uniform standard ofmeasurement for comparing diverse resources (c) it can be
used forrestating assets as well as shareholders capital (d) it communicatesinformation regarding
utilization of funds and profits gained to theproprietors
5.4. TECHNIQUES OF INFLATION ACCOUNTING
The most important techniques developed by professional institutes and accountants to deal with
inflationary conditions are (1) Current purchasing power – [CPP], (2) Replacement cost accounting
method [RCA], (3) Current value accounting method [CVA] and (4) Current cost accounting method
[CCA].
(1). Current Purchasing Power [CPP]: This is a very popular methodamong professional institutes.
Under this system the business keepsits accounts maintained under financial accounting system {i.e.
conventional historical cost basis}. Then at the end of the accountperiod supplementary statements
must be prepared showing all theitems of financial statements in terms of the value of a rupee to which
they relate. These supplementary statements indicate the changes in the financial conditions of the
concern during the financial period as aresult of changes in the purchasing power of a rupee. For this
purposegeneral price index is used.
(2). Replacement cost accounting method [RCA] : This method attempts to resolve financial
reporting problems that arise during theperiods of rapidly changing prices. It states that firms should
create fixed asset replacement provision in the Profit and loss account which is adequate to meet the
requirements. Thus the charges to profit andloss account are governed by the replacement cost of each
item ratherthan the depreciation cost. This concept requires that the reported amount of expenses are
to be measured at the time of asset expiration.Further all the non-monetary items must be reported at the
respectivereplacement cost as on the balance sheet date.
(3). Current value accounting method [CVA] : Under this method all items of balance sheet are
shown at current values. According to this method, the net assets at the beginning and at the end of the
accounting period are ascertained and difference is implied to be profit or loss for the period. It
attempts to reflect economic reality to the preparationof financial statements by using current values
for reporting variousitems in the balance sheet.
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(4). Current cost accounting method [CCA] : This method had been suggested as a base for financial
reporting by Sandiland Committeeappointed by the British Committee in 1973 to solve the problem
ofprice level changes. The Committee reported that CPP may be usedalong with either historical cost
or value accounting.
5.5. ADVANTAGES OF INFLATION ACCOUNTING
• It reflects an accurate picture of the profitability of the concern as itmatches its current revenues
with its current costs. It keeps that capitalintact as it does not allow payment of dividend and
taxes out of capital.
• It enables a comparative study of the profitability of various concernsset up at different periods.
• As depreciation is charged on current value of assets, it is easier forthe concern to replace the
assets.
• By providing accurate financial information to the various interestedparties, it discharges the
social obligation of the business.
• It enables the company to realize a realistic price for its shares in theinvestment market.
5.5.DIS-ADVANTAGES OF INFLATION ACCOUNTING
• It is a complicated, and time-consuming process as it requires lot ofwork.
• The adjusted financial statements are difficult to be understood, analyzed and interpreted
by a common man. If proper conversion method is not adopted the information provided
may be inaccurate.
• Income Tax Act of 1961 does not recognize the depreciation chargedon current value of
fixed assets. Hence it is not suitable for tax purposes.
• During inflation profits are overstated as lower depreciation is chargedto fixed assets.
5.6. INTRODUCTION TO HUMAN RESOURCE ACCOUNTING
The concept of HR accounting was not known to the world till the early60’s. During this period,
few experts like Hermanson, Hekimian, Jones and Rensis Likert had recognised HR as assets just
like any othertangible or intangible assets.
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5.7. DEFINITION OF HUMAN RESOURCE ACCOUNTING(HRA)

The term ‘HR Accounting’ implies accounting for Human resources –namely, the knowledgeable,
trained and loyal employees who participatein the earning process and total assets. Different authors
have defined HRAccounting in different terms. According to the American AccountingAssociation
(1973), HR Accounting is ‘the process of identifying and measuring data about human resources and
communicating the information to interested parties’. In the words of Stephen Knauf – HR
Accountingis ‘the measurement and quantification of human organization inputs, suchas recruiting,
training, experience and commitment’.
Thus, HR Accounting had been defined by many authors in different ways.In essence, it represents a
systematic attempt to assess the value of humanresource of an organization.
5.8.THE OBJECTIVES OF HRA
The objectives of HR accounting are:
• To provide relevant information about the human resource to themanagement and aid in
its decision making
• To help management in evaluating the performance of its personneland calculate its return
on investment
• To help the management in planning and controlling the various functions or activities
related to its human resource such as – man power planning, recruiting, training and
retirement etc.
5.9. ADVANTAGES OF HRA
The various advantages a firm can enjoy by establishing HR Accountingare as follows:
• Its adoption acts as a motivating factor for the employees of theconcern as it is reflected
in its financial statements.
• It helps the management in identifying and controlling several problemsrelated to human
resources.
• It enables the management in efficiently using its man power byproviding quantified
information about its HR.
• By considering HR as an asset in its financial statements, it provides ameasure of profitability.
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• It helps the investors or potential investors in assessing the true valueof a firm by providing
realistic information about its HR
5.10. DISADVANTAGES OF HRA
At the same time, a firm may also face certain limitations in implementingHRA such as :HR as an
asset cannot be owned by any firm.
• Quantification of HR value is subjective in nature and there is no common valuation model
which can be used across the industries orby all the companies in the same industry
As its establishment and implementation involves huge cost, it maynot suit small firms.
• The concept of HRA is not recognized by tax authorities and has onlyacademic value.
• There is no objective procedure to be followed in the valuation of the HR, hence comparative
analysis may not be possible, and even, ifpossible, may not be reliable.
There are around eight techniques for valuation of HR. They are as follows
5.11. METHODS OF HUMAN RESOURCE ACCOUNTING
(1). Historical cost Method: This method was developed by Rensis Likert and his associates and
was adopted by R.G.Barry corporation, Ohio, Colombia, USA, in 1968. This method involves
capitalizationof the costs incurred on HR related activities such as – recruitment, selection, placement,
training and learning etc, and amortized overthe expected length of services of the employees.
The un expired cost represents the firm’s investment in HR. In case an employee leaves the
organization before the expiry of the expectedservices’ life period, the firm shall write off the entire
amount of unexpired cost against the revenue of the period during which he or sheleaves.
(2). Replacement Cost Method: This method was initially developed by Hekimian and Jones.
According to this method, a firm’s HR value is its replacement cost. According to Flamholtz, this
replacementcost may be – i) individual replacement cost – which refers to the cost of replacing an
employee with an equivalent substitute in terms of skill, ability and knowledge and ii) positional
replacement cost –which refers to the cost of replacing the set of services expected tobe rendered
by an employee at the respective positions he holds andwill hold at present and in future. Thus, the
HR value will appear inthe financial statements at its replacement cost.
(3).Opportunity cost method: This method has been suggested by Hekimian and Jones and refers
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to the valuation of HR on the basisof an employee’s value in alternative uses, i.e, opportunity cost. This
cost refers to the price other divisions are willing to pay for the service of an employee working in
another division of an organization.
(4). Capitalization of Salary method: This method had been proposed by Baruch Lev and Aba
Schwartz in terms of economic value of HR. According to them, the salaries payable to employees
during their stay with the organization may be used in valuing the HR of an organization. Thus the
value of HR is the present value of future earnings of homogeneous group of employees.
(5). Economic valuation method: The values the HR of an organization by considering the
present worth of the employees’ future service expected to be derived during their stay with the
organization. Under this method, the valuation of HR involves 3 steps – 1) estimation of employee’s
future services, 2) multiply step1 by the employee’s rate of pay and 3) Multiply step 2 by the rate of
return on investment. This would give the present worth of employee’sservice.
(6). Return on efforts employed method: Under this method, HR valuation is done on the basis of
the quantifying the efforts made by the individuals for the organizational benefits by taking into
accountfactors such as –positions an employee holds, degree of excellenceemployee achieves, and
the experience of the employee.
(7). Adjusted discounted future wages method: This model has been developed by
Roger.H.Hermanson. Under this method, HR valuation is done on the basis of relative efficiency of an
organizationin the industry. This model capitalizes the extra profit a firm earnsover and above that
of the industry expectations. As such, this model involves 4 steps – 1) estimation of 5 years
(succeeding) wages andsalaries payable to different levels of employees 2) finding out the present
value of such estimated amount at the normal rate of return of the industry, 3) determining the
average efficiency ratio (the co’s average rate of return for the past 5 yrs)/ Industry’s average rate
ofreturn for the past 5 yrs) for 5 years, 4) finding out the present valueof future services of the co’s Hr
by multiplying the discount value (asin 2nd step) by the firm’s efficiency ratio (as calculated in 3rd step)
(8). Reward valuation method: This model has been developed by Flamholtz and is commonly
known as – the stochastic rewards valuation model. It values the HR of a concern on the basis of an
employee’s value to an organization at various service states (roles)that he is expected to occupy
during the span of his working life with the organization. This model involves – estimation of an
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employee’s
expected service life, identifying the set of service roles he may occupyduring his service life, estimating
the value derived by an organizationat a particular service state of a person for the specified time
period,estimating the probability that a person will occupy at possible mutuallyexclusive service state
at specified future times, quantifying the total services derived by the organization from all its
employees, and discounting the total value thus arrived at to its present value at a pre-determined
rate.
1. What is inflation accounting?

2. What is the need of inflation accounting?
3. What are the methods of inflation accounting?
4. List down the reasons on account of which financial Statement is beingdistorted and a
need for the inflation accounts arises.
5. Discuss Current Purchasing Power Accounting Method.
6. Discuss Current Cost Accounting Method.
7. What formula is used for conversion value of the item?
8. What are the problems to inflation accounting?
9. Inflation accounting is carrying so many problems in implementation butwhat is the main
problem?
10. Explain the concept of Human Resource Accounting (HRA).
11. Describe the main objective of human resource accounting.
12. Discuss the managerial role of human resource accounting.
13. What are the three important aspects of HRA?
14. What is the need of HRA?
15. What is the role of information as a key factor in human resourceaccounting system?
16. Explain different methods of HRA.
17. What is the importance of HRA?
18. What is historical cost method?
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19. Discuss the scope of HRA usage in India with help of firms using this accounting system at
present.
1. What is Human Resource Accounting? Discuss with reference to a fewdefinitions

of Human Resource Accounting.
2. Define Inflation Accounting. Explain its need in business.
3. Explain the main problems in the way of inflation accounting.
4. Do you agree with the statement “Any increase in the price-level will reduce the
purchasing power of money of that country and vice versa”? Explain.
5. Critically examine the various methods of Human Resource Accounting. Which
method, do you think is better than others?
6. Explain the following:
(i) Lev and Schwartz Model
(ii) Replacement Cost Method
(iii) Opportunity Cost Method
7. What is historical cost method? Discuss the replacement cost method.Explain opportunity
cost method.
8. What are the various methods of monetary and non-monetary valuation ofhuman
resources?
9. What are the process and problems of designing and implementing aHuman Resource
Accounting system?
Page | 132

Accounting For ManagementUNIT I

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Accounting For ManagementUNIT I

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Definition by the American Institute of Certified Public Accountants (Year 1961):“Accounting

Account, Profit and Loss Account and Balance Sheet.

1.5. FUNCTIONS OF ACCOUNTING

BASIS FOR SINGLE ENTRY SYSTEM DOUBLE ENTRY SYSTEM

Nature Simple Complex

Type of recording Incomplete Complete

Errors Hard to identify Easy to locate

Preferable for Small Enterprises Big Enterprises

Financial position Cannot be ascertained easily. Can be ascertained easily.

1.9. TYPES OF ACCOUNTS

S.No TYPES OF ACCOUNTS RULES FOR DEBIT RULES FOR CREDIT

S.No Particulars Name of the Accounts

1.11. ACCOUNTING PROCESS

be better managed, according to Accounting Tools.

8. Fiduciary Accounting: This branch of accounting centers around the management of

activities related to the administration and guardianship of property. Fiduciary accounting

1.15. MEANING AND DEFINITION OF COST ACCOUNTING

1.16. FUNCTIONS OF COST ACCOUNTING

responsibilities in an efficient manner.

1.18. PURPOSE AND OBJECTIVES OF MANAGEMENT ACCOUNTING

use of accounting for making managerial decisions.

1.20. DIFFERENCES BETWEEN FINANCIAL ACCOUNTING AND COST ACCOUNTING

Table 1.2: Differences between Financial Accounting and Cost Accounting

Objective Its objective is to show the Its objective is to provide detailed

Requirement Preparation of Financial Its maintenance is voluntary with

Reporting Under Financial accounting Reporting related to cost may be

Nature of Financial accounting relates to Cost accounts relates to

Figures It is concerned with historical Cost Accounting also deals with

Stock Valuation Closing Stock is valued at cost Stock is valued at cost.

Control Financial Accounting does not Cost Accounting uses control

1.21. DISTINCTION BETWEEN FINANCIAL AND MANAGEMENT ACCOUNTING

S.NO Basis of distinction Financial accounting Management accounting

2 Decision criterion Accounts are based on generally Comparison of costs and

3 Behavioral Concern about adequacy of Concern about how reports

4 Time focus Past orientation Future orientation

5 Reports Summary reports regarding the Detailed reports on the

1.22. DIFFERENCE BETWEEN COST ACCOUNTING AND MANAGEMENT ACCOUNTING

Table 1.4 Difference Between Cost Accounting and Management Accounting

S.NO Cost accounting Management accounting

the objectives that it serves to the organization.

ACCOUNTING PRINCIPLES,CONVENTIONS AND CONCEPTS

After studying this lesson, you should be able to:

2.1 MEANING OF GENERALLY ACCEPTEDACCOUNTING PRINCIPLES (GAAP)

to offer a sound base/foundation for accounting activities of an enterprise.

AS 18 Related Party Disclosures

SHORT ANSWER QUESTIONS

After studying this lesson, you should be able to:

(vi). Presentation or reporting of financial information: The end users of accounting

ASSETS = LIABILITIES + CAPITAL

All transactions of a business can be referred to this equation:

ASSETS = LIABILITIES + OWNER'S EQUITY

Assets + Expenses = Liabilities + Owner's equity + Revenue Assets = Liabilities + Owner's

4. Rent paid Rs. 500

Assets = Liabilities + Owner's equity Cash 69,500 +

manipulations are reduced.

Cash what goes out from the business to Bank and

3.8. COMPOUND JOURNAL ENTRIES

Cash A/c Dr. 9,800

Cash what goes out from the business and it should

Date Particulars L.F. Debit Credit

Building A/c Dr. 70,000

3.10. GOODS ACCOUNT