The Accounting Cycle: Journals and Ledgers

CHAPTER 4
The Accounting Cycle: Journals and Ledgers

CHAPTER 4
Transition to Debits and Credits

The Accounting Cycle
Analyze Transactions
Journalize the Transaction
Post to Ledger Accounts
Prepare the Trial Balance
Ethics and Controls
In Summary
Exercise
Copyright © 2016 AME Learning Inc. 2

An account is an individual accounting record of increases and decreases in a specific asset, liability,
equity, revenue or expense item. The term debit indicates the left side of an account, and credit
indicates the right side.

Debit and Credit Reference Guide
In accounting, there are always at least two parts to a transaction. For each transaction, the total value
of debits equals the total value of credits. This is known as double entry. For any account, the account
shows a debit balance if the total of the debit amounts exceeds the credits. An account shows a credit
balance if the credit amounts exceed the debits.

Every transaction will have at least one debit and one credit. The total of all debits in a transaction must
equal the total of all credits. If debits do not equal credits, the accounting equation will not balance.
Transactions are summarized in a table and illustrated in T-accounts.

Self Study Question
In the debit and credit system, debits are always recorded on the:
a. Left
b. Right
c. Left or right depending on the financial
transaction
0% 0% 0% 0%
d. Income statement only
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Self Study Question
An increase to an asset should always be a:
a. Credit
b. Debit
c. Debit or credit depending on the asset

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Self Study Question
An increase to an expense is always a:
a. Debit
b. Credit
c. Debit or Credit depending on the type of
expense
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Self Study Question
True or False? Depending on the type of transaction, you can have either only two debits or only two
credits
a. True
b. False
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Self Study Question
An increase to a liability is:
a. A debit
b. A credit
c. Depends on the type of liability
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CHAPTER 4

Ethics and Controls
In Summary
Exercise

The accounting cycle refers to the steps required to complete the financial statements. Businesses
prepare financial statements at the end of each accounting period, whether it is a month, quarter, year,
etc.

CHAPTER 4

Ethics and Controls
In Summary
Exercise

The first part of the accounting cycle is to gather and analyze what must be recorded as transactions. All
transactions must have source documents or evidence that they actually happened. Source documents
can include sales receipts, bills, cheques, bank statements, etc.
Example
Suppose you pay a $100 utility bill with cash. To analyze this, first determine which accounts will be
affected. For each account, ask the following questions.
 What category does the account belong to?
 Is the account increasing or decreasing?
 Is the increase or decrease a debit or credit?

It is important to note that the analysis is just to determine whether the account will be debited or
credited. The full analysis for the transaction is shown in the table below.

From this analysis, we can illustrate how the accounts would be affected. Utilities expense increases with
a debit and cash decreases with a credit.

To help you analyze how increases and decreases translate into debits and credits, consider these
common transactions:
1. Provided consulting services for a customer for cash.
2. Received a bill for advertising, which will be paid later.
3. Received cash from a customer for work to be completed next month.
4. Paid cash toward the principal of a bank loan.
5. Prepaid cash for four months’ rent.
6. Purchased office furniture with cash.
7. Provided consulting services to a customer on account.
8. Paid cash toward the advertising bill received in transaction 2.
9. A customer paid an amount they owed.

Using the steps illustrated above on these transactions, we can create a table to determine which
accounts will be debited and credited.

Self Study Question
The entry to record the payment of bank loan principal requires:
a. Debit expense, credit cash
b. Debit bank loan, credit cash
c. Debit cash, credit bank loan
d. There are no entries as this transaction has no effect
0% 0% 0% 0%
on owner’s equity
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Self Study Question
Complete the following transactions in table format indicating the accounts used, whether the
accounts increase or decrease and whether the accounts will be debited or credited.
1. Provided services for a customer and received $4,000 cash
2. Received a bank loan of $6,000 cash.
3. Received a $400 bill for utilities which will be paid later.
4. Provided services to a customer who will pay $2,000 next month.
5. Paid the utilities bill recorded earlier with $400 cash.

Debits and Credits-Solution
Account name Increase or Debit Credit

decrease
1 Cash Increase 4,000
Service Revenue Increase 4,000
2 Cash Increase 6,000
Bank Loan Increase 6,000
3 Utilities Expense Increase 400
Accounts Payable Increase 400
4 Accounts Receivable Increase 2,000
Service Revenue Increase 2,000
5 Accounts Payable Decrease 400
Cash Decrease 400

CHAPTER 4

Ethics and Controls
In Summary
Exercise

Journalize the Transactions
Once the analysis is complete, the transaction must be recorded. The transaction will be recorded in a
journal. Every company has the most basic form of journal, a general journal. Companies initially record
transactions in chronological order (the order in which they occur). Thus, the journal is referred to as the
book of original entry.
Journalizing
Entering transaction data in the journal is known as journalizing. Companies make separate journal
entries for each transaction. A complete entry consists of: (1) the date of the transaction, (2) the
accounts and amounts to be debited and credited, and (3) a brief explanation of the transaction.

Techniques of Journalizing
1 Date-The date of the transaction is entered in the Date column.

2 Account Titles and Explanation-This column indicates the names of the accounts being affected.
2a Any accounts that will be debited in the transaction will be listed first.

2b Any account that will be credited in the transactions will be listed after the debited accounts.
2c A brief explanation will be listed immediately after the transaction.

3 PR (Posting Reference)-The posting reference column is initially left blank when the journal entry is
prepared.
4 Debit or Credit-These two columns are used to record the amount of the transaction in the
appropriate side-debit or credit.
5 Leave a space between journal entries to make it easier to read and separate them.

Self Study Question
True or False? Every journal entry will have at least one debit and one credit.
a. True
b. False
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Self Study Question
Which of the following is normally true about the order of line entries within each journal entry?
a. Income statement accounts appear after

balance sheet accounts
b. The line entries are listed throughout the

journal entry in order of the PR number
c. Debits appear together, before credits

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CHAPTER 4

Ethics and Controls
In Summary
Exercise

The entire group of accounts maintained by a company is the ledger. The ledger keeps in one place all
the information about changes in specific account balances. A general ledger contains all the asset,
liability, equity, revenue and expense accounts. It is important to assign account numbers in a logical
manner and to follow specific industry standards.
Example

Each entry in the journal must be posted to the appropriate ledger account. To maintain up-to date
records, posting to the ledger accounts should be completed daily, weekly or monthly.
1 Transfer the date of the transaction.
2 The description in the ledger does
not have to be completed for every
transaction, if a description is
already recorded in the journal.
3 Transfer the page number of the
journal to the ledger’s PR column.
4 Enter the transaction amount into
the debit or credit column.

Each entry in the journal must be posted to the appropriate ledger account. To maintain up-to date
records, posting to the ledger accounts should be completed daily, weekly or monthly.
5 Calculate the new (i.e. ending)
account balance.
6 Enter the ledger number into the
posting reference in the journal.
7 Repeat the steps for all lines in the
journal entry.

Self Study Question
True or False? All journal entries should be posted to the general ledger.
a. True
b. False
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CHAPTER 4

Ethics and Controls
In Summary
Exercise

A trial balance is a list of accounts and their balances at a given time. Companies prepare a trial
balance at the end of an accounting period. They list accounts in the order in which they appear in the
ledger. Debit balances appear in the left column and credit balances in the right column. The total of
debits must equal the total of credits.
Example

Common errors that leave the trial balance balanced:
1. A transaction is not journalized,
2. A correct journal entry is not posted,
3. A journal entry is posted twice,
4. Incorrect accounts are used in journalizing or posting, or
5. Offsetting errors are made in recording the amount of a transaction.
The trial balance does not prove that the company has recorded all transactions or that the ledger is
correct. Locating errors can be a frustrating experience, so it is important to ensure that entries are made
correctly the first time.

Self Study Question
What is the main purpose of the trial balance?
a. To ensure accurate financial statements 25% 25% 25% 25%

b. To ensure that total debits equals total credits
c. To prepare adjusting entries
d. To see what caused the changes in an
account balance
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Self Study Question
True or False? A general ledger can be prepared after the trial balance has been prepared.
1. True
2. False
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CHAPTER 4

Ethics and Controls
In Summary
Exercise

Ethics and Controls
Regardless of whether the company uses accounting software or records transactions manually, there is
ample opportunity to manipulate the books. Most of the time, the accounting system used by a
company is not fully automated. This means that the user must input information into the system or
interact directly with the software at one point or another, which provides opportunity for inaccurate
reporting.
While most companies record transactions very

carefully, the reality is that mistakes still happen. If
minor mistakes are corrected, usually there is no
further problem. If mistakes are noticed but not
corrected, it can lead to larger problems later.

CHAPTER 4

Ethics and Controls
In Summary
Exercise

In Summary
Distinguish between debits and credits

 The term debit indicates the left side of an account, and credit indicates the right side.
 Assets, expenses, and owner’s drawings increase with debits and decrease with credits. Liabilities,
revenues, and owner’s capital increase with credits and decrease with debits.
Describe the accounting cycle

 The accounting cycle refers to the steps required to complete the financial statements.
Explain how to analyze a transaction

 The first part of the accounting cycle is to gather and analyze what must be recorded as
transactions.
Record transactions in the general journal

 A journal is a record in which transactions are recorded before they are posted. Journals are
known as books of original entry.
 Double-entry transactions are called journal entries. Every journal entry must have at least one
debit and one credit entry so that the total of the debits equals the total of the credits.

In Summary
Post general entries to the general ledger

 A general ledger contains all the asset, liability, and owner’s equity accounts. It is important to
assign account numbers in a logical manner and to follow specific industry standards.
 The listing of all the accounts being used by a business is called a chart of accounts.
 The general ledger is similar to a collection of T-accounts. The debits and credits of each account
are shown along with the current balance of the account.
Prepare a trial balance

 A trial balance is a list of accounts and their balances at a given time.
 If the trial balance is not balanced, an error has occurred and must be fixed before continuing
with the accounting cycle.

CHAPTER 4

Ethics and Controls
In Summary
Exercise

Exercise
We will enter 5 transactions, one step at a time:
Date Description
June 2 Received and deposited $2,000 payment from repair work
June 3 Paid employee salary of $600
June 4 Paid $400 rent with cash
June 5 Purchased equipment worth $9,000 to be paid next month
June 6 Paid $400 cash towards accounts payable

Exercise
June 2. Received and deposited payment from repair work: $2,000
JOURNAL Page 1
DATE ACCOUNT TITLE & EXPLANATION PR DEBIT CREDIT
Jun 2 Cash 101 2,000
Service Revenue 400 2,000
Performed services for cash

Exercise
June 3. Paid employee salary: $600
JOURNAL Page 1
Jun 3 Salaries Expense 545 600
Cash 101 600
Paid employee salary

Exercise
June 4. Paid rent with cash: $400
JOURNAL Page 1
Jun 4 Rent Expense 540 400
Cash 101 400
Paid rent with cash

Exercise
June 5. Purchased equipment to be paid next month: $9,000
JOURNAL Page 1
Jun 5 Equipment 120 9,000
Accounts Payable 200 9,000
Purchased equipment on account

Exercise
June 6. Paid cash toward account payable: $400
JOURNAL Page 1
Jun 6 Accounts Payable 200 400
Cash 101 400
Paid accounts payable

Exercise
The information from the journal must now be posted to the general ledger. We will examine each journal
transaction in turn and post the amounts to the general ledger.
JOURNAL Page 1
Jun 2 Cash 101 2,000
Service Revenue 400 2,000
Performed services for cash
Account: Cash GL No. 101 Account: Service Revenue GL No. 400
Date Description PR Debit Credit Balance Date Description PR Debit Credit Balance
Jun 2 J1 2,000 2,000 Dr. Jun 2 J1 2,000 2,000 Cr.

Exercise
JOURNAL Page 1 Notice the running

total in the Cash
DATE ACCOUNT TITLE & EXPLANATION PR DEBIT CREDIT account balance.
Jun 3 Salaries Expense 545 600
Cash 101 600
Paid employee salary
Account: Cash GL No. 101 Account: Salaries Expense GL No. 545
Jun 2 J1 2,000 2,000 Dr. Jun 3 J1 600 600 Dr.
Jun 3 J1 600 1400 Dr.

Exercise
JOURNAL Page 1
Jun 4 Rent Expense 540 400
Cash 101 400
Paid rent with cash
Account: Cash GL No. 101 Account: Rent Expense GL No. 540
Jun 2 J1 2,000 2,000 Dr. Jun 4 J1 400 400 Dr.
Jun 3 J1 600 1,400 Dr.
Jun 4 J1 400 1,000 Dr.

Exercise
JOURNAL Page 1
Jun 5 Equipment 120 9,000
Accounts Payable 200 9,000
Purchased equipment on account
Account: Equipment GL No. 120 Account: Accounts Payable GL No. 200
Jun 5 J1 9,000 9,000 Dr. Jun 5 J1 9,000 9,000 Cr.

Exercise
JOURNAL Page 1
Jun 6 Accounts Payable 200 400
Cash 101 400
Paid accounts payable
Account: Cash GL No. 101 Account: Accounts Payable GL No. 200
Jun 2 J1 2,000 2,000 Dr. Jun 5 J1 9,000 9,000 Cr.
Jun 3 J1 600 1,400 Dr. Jun 6 J1 400 8,600 Cr.
Jun 4 J1 400 1,000 Dr.
Jun 6 J1 400 600 Dr.

Exercise
The information from the ledger must now be used to create a trial balance. The ledger balances will be
given to you to create the trial balance.

Exercise
Account: Cash GL No. 101 Account: Rent Expense GL No. 540
Jun 2 J1 2,000 2,000 DR Jun 4 J1 400 400 DR
Jun 3 J1 600 1,400 DR Account: Salaries Expense GL No. 545
Jun 4 J1 400 1,000 DR Date Description PR Debit Credit Balance
Jun 6 J1 400 600 DR Jun 3 J1 600 600 DR
Account: Equipment GL No. 120 Trial Balance

Date Description PR Debit Credit Balance June 30, 2016
Jun 5 J1 9,000 9,000 DR Account Debit Credit
Cash $600
Account: Accounts Payable GL No. 200
Date Description PR Debit Credit Balance Equipment 9,000
Jun 5 J1 9,000 9,000 CR Accounts Payable $8,600
Jun 6 J1 400 8,600 CR
Service Revenue 2,000
Account: Service Revenue GL No. 400 Rent Expense 400
Date Description PR Debit Credit Balance
Salaries Expense 600
Jun 2 J1 2,000 2,000 CR
Total $10,600 $10,600

The Accounting Cycle: Journals and Ledgers

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CHAPTER 4

The Accounting Cycle: Journals and Ledgers

Transition to Debits and Credits

Copyright © 2016 AME Learning Inc. 2

Copyright © 2016 AME Learning Inc. 3

Debit and Credit Reference Guide

Copyright © 2016 AME Learning Inc. 4

Copyright © 2016 AME Learning Inc. 5

c. Left or right depending on the financial

An increase to an asset should always be a:

c. Debit or credit depending on the asset

An increase to an expense is always a:

c. Debit or Credit depending on the type of

An increase to a liability is:

c. Depends on the type of liability

Transition to Debits and Credits

Copyright © 2016 AME Learning Inc. 11

Copyright © 2016 AME Learning Inc. 12

Transition to Debits and Credits

Copyright © 2016 AME Learning Inc. 13

 What category does the account belong to?

 Is the account increasing or decreasing?

 Is the increase or decrease a debit or credit?

Copyright © 2016 AME Learning Inc. 14

Copyright © 2016 AME Learning Inc. 15

Copyright © 2016 AME Learning Inc. 16

1. Provided consulting services for a customer for cash.

2. Received a bill for advertising, which will be paid later.

3. Received cash from a customer for work to be completed next month.

4. Paid cash toward the principal of a bank loan.

5. Prepaid cash for four months’ rent.

6. Purchased office furniture with cash.

7. Provided consulting services to a customer on account.

8. Paid cash toward the advertising bill received in transaction 2.

9. A customer paid an amount they owed.

Copyright © 2016 AME Learning Inc. 18

The entry to record the payment of bank loan principal requires:

a. Debit expense, credit cash

b. Debit bank loan, credit cash

c. Debit cash, credit bank loan

d. There are no entries as this transaction has no effect

1. Provided services for a customer and received $4,000 cash

2. Received a bank loan of $6,000 cash.

3. Received a $400 bill for utilities which will be paid later.

4. Provided services to a customer who will pay $2,000 next month.

5. Paid the utilities bill recorded earlier with $400 cash.

Copyright © 2016 AME Learning Inc. 20

Account name Increase or Debit Credit

Copyright © 2016 AME Learning Inc. 21

Transition to Debits and Credits

Copyright © 2016 AME Learning Inc. 22

Copyright © 2016 AME Learning Inc. 23

1 Date-The date of the transaction is entered in the Date column.

Copyright © 2016 AME Learning Inc. 24

Copyright © 2016 AME Learning Inc. 25

Copyright © 2016 AME Learning Inc. 26

a. Income statement accounts appear after

b. The line entries are listed throughout the

c. Debits appear together, before credits

Transition to Debits and Credits

Copyright © 2016 AME Learning Inc. 29

Copyright © 2016 AME Learning Inc. 30

1 Transfer the date of the transaction.