ACCOUNTING

Need and Objectives of Accounting

1. Systematic recording of transactions
2. Determination of profit and loss
3. Preparation of Tax Returns
4. Providing Necessary information to financial institution 
5. The depiction of Financial Position
6. Effective Control over Business
7. Providing information to Interested Parties.
 Systematic Recording of Transactions
 The first objective of accounting is to record the business
transactions and events by proper classification and book-keeping
in proper books to show assets liabilities capital and profit and
loss.
 Determination of Profit and Loss
 Business Transactions are done for Earning Profits. Every
businessman wants to know the results of transactions done in a
specific period.
 Preparation of Tax Returns
One of the main objectives of Accounting is to provide the information for
filling up the tax Returns of-
• Income tax
• Wealth tax
• Sales tax
• Value-added tax
• Tax on dividends
• Exercise duty
• Import-export duties
• Export incentive etc.
Thus, the Assessment of tax is done on the Basis of Financial
Statements and Vouchers.
 Providing Necessary information to Financial institution
 If a Businessman Requires money from the financial institution,
much more information regarding business is to be given to these
institutions. Such as previous years’ Sells, stock position,
profitability, and financial position
 The depiction of Financial Position
 Every Businessman wants to know the position of his invested
money. The balance sheet is the statement of Assets and
liabilities of the business at a particular point of the time and helps
in an ascertaining the financial health of the business.
 Effective Control over the Business
 Accounting provides the actual data of Production Cost, Sales,
Expenses, Profit and Loss of the business.
 Providing information to Interested Parties
 One of the objects of Accounting is to provide information to
creditors, employees, present and future investors, Researchers,
and Society.
 ACCOUNT
 An account is a part of the accounting system used to classify
and summarize the increases, decreases, and balances of
each asset, liability, stockholders’ equity item, dividend,
revenue, and expense
 Firms set up accounts for each different business element,
such as cash, accounts receivable, and accounts payable.
 Every business has a Cash account in its accounting system
because knowledge of the amount of cash on hand is useful
information.
 Accountants may differ on the account title (or name) they
give the same item.
 For example, one accountant might name an account Notes
Payable and another might call it Loans Payable.
 Both account titles refer to the amounts borrowed by the
company.
 The account title should be logical to help the accountant
group similar transactions into the same account.
  JOURNAL ENTRY
 A journal is a chronological (arranged in order of time) record of
business transactions
 A journal entry is the recording of a business transaction in the
journal.
 A journal entry shows all the effects of a business transaction as
expressed in debit(s) and credit(s) and may include an explanation
of the transaction.
 A transaction is entered in a journal before it is entered in ledger
accounts. Because each transaction is initially recorded in a journal
rather than directly in the ledger, a journal is called a book of
original entry.
 LEDGER
 A ledger (general ledger) is the complete collection of all the accounts
and transactions of a company.
 The ledger may be in loose-leaf form, in a bound volume, or in
computer memory. 
 The chart of accounts is a listing of the titles and numbers of all the
accounts in the ledger. The chart of accounts can be compared to a
table of contents.
 The groups of accounts usually appear in this order: assets,
liabilities, equity, dividends, revenues, and expenses.
 Think of the chart of accounts as a table of contents of a textbook. It
provides direction as to what exactly will be found in the financial
statement preparation.
Ledger Entry Example
Ledger entry can be written from the account of Manohar from the
following transactions:

2008
Oct 1   Sold him the commodities worth Rs. 900.
Oct 5   Received from him Rs. 350 on account. Allowed him discount
Rs. 10.
Oct 7   Bought from him goods worth Rs.300.
Oct 8   Returned to him goods worth Rs.25.
Oct 12   Received from him further cash Rs.100.
Oct 15   Sold him goods worth Rs.100.
Oct 18   Manohar returned goods worth Rs. 25.
Oct 20   Sent him cash Rs. 125.
Oct 26   Bought from him goods worth Rs. 125.
 TRIAL BALANCE

 A trial balance is a listing of all accounts (in this order:  asset,

liability, equity, revenue, expense) with the ending account
balance. 
 It is called a trial balance because the information on the form
must balance.  
 The basic purpose of preparing a trial balance is to test the
arithmetical accuracy of the ledger.
 If all debit balances listed in the trial balance equal the total of
all credit balances, this shows the ledger’s arithmetical
accuracy.
Analyzing the contents of the above
trial balance
 Asset accounts like cash, accounts receivable, inventory,
furniture, etc., show the position of the assets at the end of
the accounting period.
 Liability and owner’s equity accounts such as accounts
payable and capital reflect the position of liabilities and
capital at the end of the accounting period.
 Accounts relating to expenses (purchases, wages, carriage,
rent, etc.) show the total of their respective items over the
accounting period.
 FOCUS POINTS
When the trial balance does not balance:
• Check the trial balance additions again—your figures may be out
of alignment
• Check all additions again, in particular those in the cash book
and those of the purchases and sales accounts
• Make sure that the closing cash balance has been brought to
the debit of the trial balance
• Check the double-entry of all postings in the books, debit for
credit, and re-check the extraction of the balances to their
correct side of the trial balance
Steps in recording business transactions
 Source documents, such as bills received from suppliers for goods or
services received, bills sent to customers for goods sold or services
performed, and cash register tapes provide the evidence that a business
transaction occurred.
 After recognizing a business event as a business transaction, we analyze it
to determine its increase or decrease effects on the assets, liabilities, equity,
dividends, revenues, or expenses of the business. Then these are translated
as increase or decrease effects into debits and credits.
 The information in the source document serves as the basis for preparing a
journal entry. Then a firm posts (transfers) that information to accounts in the
ledger.
 However, before recording the journal entry, one must understand the rules
of debit and credit. 
General Rules for Debits and Credits
 One of the first steps in analyzing a business transaction is deciding
if the accounts involved increase or decrease. 
 However, we do not use the concept of increase or decrease in
accounting.  We use the words “debit” and “credit” instead of
increase or decrease.  
 The meaning of debit and credit will change depending on the
account type.  
 Debit simply means left side; credit means right side. 
 Accounting equation: ASSETS = LIABILITIES + EQUITY 
 The accounting equation must always be in balance and the rules of
debit and credit enforce this balance.
BALANCE SHEET ACCOUNTS
 Balance Sheet accounts are assets, liabilities and equity. 
 The balance sheet proves the accounting equation. 
 Recording transactions into journal entries is easier when you
focus on the equal sign in the accounting equation.
 Assets, which are on the left of the equal sign, increase on the
left side or DEBIT side.
 Liabilities and stockholders’ equity, to the right of the equal
sign, increase on the right or CREDIT side.
 Balance Sheet is the “Snapshot” of a company’s financial
position at a given moment and reports the amount of a
company’s
 Assets – Current assets/Long-term assets
 Liabilities – Current Liabilities/Long-term liabilities
 Stockholders’ (or owner’s) equity – Common stock / Retained
earnings
 The most important equation while forming the Balance Sheet
Assets = Liabilities + Shareholders’ Equity

 Current assets :
 Cash & Cash Equivalents
 Short-term investments
 Inventories
 Trade & Other Receivables
 Prepayments & Accrued Income
Current Liabilities
Long term assets

 Tangible Assets: These assets have a physical existence.

Assets like Real Estate, Buildings, Offices, Machinery,
Furniture, Telephone belong to this category.
 Natural Resources: These assets have an economic value
derived from Earth and used up over time. Examples include
Oil fields, mines, etc
 Intangible Assets: These assets have no physical existence,
and they cannot be felt or touched or seen.
Long-Term Liabilities

 In most cases, it contains long-term debt.

 Long-term debt is subject to various covenants or restrictions.
 Long-term debt can be obtained from many sources and may
differ in the structure of interest, and principal payments and
the claims creditors have on the assets of the firm.
Stockholders’ Equity 
 Assets Liabilities & Equity

DEBIT increases CREDIT increases

CREDIT decreases DEBIT decreases

• There is an exception to this rule:  Dividends (or withdrawals for a

non-corporation) is an equity account but it reduces equity since
the owner is taking equity from the company. 

• This is called a contra-account because it works opposite the way

the account normally works. 

• For Dividends, it would be an equity account but have a normal

DEBIT balance (meaning, debit will increase and credit will
decrease).
Recording changes in Income Statement Accounts

 Net income is revenues – expenses and calculated on the income

statement.  The recording rules for revenues and expenses are:
Revenues Expenses
CREDIT increases DEBIT increases
DEBIT decreases CREDIT decreases

 The reasoning behind this rule is that revenues increase retained

earnings, and increases in retained earnings are recorded on the
right side.
 Expenses decrease retained earnings, and decreases in retained
earnings are recorded on the left side.
 The side that increases (debit or credit) is referred to as an
account’s normal balance. 
 Account Type    Normal Balance  
Asset DEBIT 
Liability CREDIT 
Equity CREDIT 
Revenue CREDIT 
Expense DEBIT 
   
Exception:  
Dividends DEBIT

Regardless of what elements are present in the business transaction, a

journal entry will always have at least one debit and one credit.
Double-entry bookkeeping

 Double-entry bookkeeping, in accounting, is a system of

bookkeeping so named because every entry to an account
requires a corresponding and opposite entry to a different
account.
 Journal entries are the way we capture the activity of
business.
 When a business transaction requires a journal entry, one
must follow these rules:
 The entry must have at least 2 accounts with 1 DEBIT amount
and at least 1 CREDIT amount.
 The DEBITS are listed first and then the CREDITS.
 The DEBIT amounts will always equal the CREDIT amounts.
 The owner invested Rs.30,000 cash in the corporation.  We
analyzed this transaction by increasing both cash (an asset)
and common stock (an equity) for Rs.30,000. We learned you
increase an asset with a DEBIT and increase an equity with a
CREDIT.  The journal entry would look like this:
 Purchased Rs.5,500 of equipment with cash.  We analyzed
this transaction as increasing the asset Equipment and
decreasing the asset Cash.  To increase an asset, we debit
and to decrease an asset, use credit.  This journal entry would
be:
FINAL ACCOUNTS

 One of the main purposes of businessmen to enter into

a business is to earn profit and accounting is the way
to know the profit and loss of the business concern.
 As to know the profitability and the position of the
business, these accounts are prepared at the end of
the accounting cycle that is why it is known as the final
account.  
Components of final accounts:  
Trading account:
 It is a part of final accounting that shows the gross profit or loss earned
by the business during a particular period of time.
 It gives details about the total sale and purchase and all direct
expenses and incomes.  
Profit and loss Account:
 The profit and loss accounts shows net profit and loss at a particular
period of time.
 It is also called an income statement.   
Balance sheet:
 It shows the financial position of the business.
 It records all the assets on one side and liabilities on the other side. A
balance sheet is a part of financial statements.
Recap
 Account A part of the accounting system used to classify and
summarize the increases, decreases, and balances of each asset,
liability, stockholders’ equity item, dividend, revenue, and expense. The
three-column account is normally used. It contains columns for debit,
credit, and balance.
 Accounting cycle A series of steps performed during the accounting
period (some throughout the period and some at the end) to analyze,
record, classify, summarize, and report useful financial information for
the purpose of preparing financial statements.
 Accrual basis of accounting Recognizes revenues when sales are
made or services are performed, regardless of when cash is received.
Recognizes expenses as incurred, whether or not cash has been paid
out.
 Business transactions Measurable events that affect the
financial condition of a business.
 Chart of accounts The complete listing of the account titles
and account numbers of all of the accounts in the ledger;
somewhat comparable to a table of contents.
 Compound journal entry A journal entry with more than one
debit and/or credit.
 Credit The right side of any account; when used as a verb, to enter a
dollar amount on the right side of an account; credits increase liability,
stockholders’ equity, and revenue accounts and decrease asset,
expense, and Dividends accounts.
 Credit balance The balance in an account when the sum of the credits
to the account exceeds the sum of the debits to that account.
 Debit The left side of any account; when used as a verb, to enter a
dollar amount on the left side of an account; debits increase asset,
expense, and Dividends accounts and decrease liability, stockholders’
equity, and revenue accounts.
 Debit balance The balance in an account when the sum of the debits to
the account exceeds the sum of the credits to that account.
 Double-entry procedure The accounting requirement that each
transaction must be recorded by an entry that has equal debits and
credits.
 Horizontal analysis The calculation of dollar and/or percentage
changes in an item on the financial statements from one year to
the next.
 Journal A chronological (arranged in order of time) record of
business transactions; the simplest form of journal is the two-
column general journal.
 Journal entry Shows all of the effects of a business transaction
as expressed in debit(s) and credit(s) and may include an
explanation of the transaction.
 Journalizing A step in the accounting recording process that
consists of entering the effects of a transaction in a journal.
 Ledger The complete collection of all of the accounts of a
company; often referred to as the general ledger.
 Permanent accounts (real accounts) Balance sheet accounts; their
balances are not transferred (or closed) to any other account at the
end of the accounting period.
 Posting Recording in the ledger accounts the information contained in
the journal.
 Real accounts See permanent accounts.
 Simple journal entry An entry with one debit and one credit.
 T-account An account resembling the letter T, which is used for
illustrative purposes only. Debits are entered on the left side of the
account, and credits are entered on the right side of the account.
 Temporary accounts (nominal accounts) They temporarily contain
the revenue, expense, and dividend information that is transferred
(or closed) to a stockholders’ equity account (Retained Earnings)
at the end of the accounting period.
 Trial balance A listing of the ledger accounts and their debit or
credit balances to determine that debits equal credits in the
recording process.
 Vertical analysis Shows the percentage that each item in a
financial statement is of some significant total such as total assets
or sales.