Bookkeeping

Video Training
(Handout)

Harold Averkamp
CPA, MBA

Our materials are copyright © AccountingCoach, LLC and are for personal use by the original
purchaser only. We do not allow our materials to be reproduced or distributed elsewhere.
Learning Debits and Credits
1. Transactions are entered into records known as accounts. For example, there is an account
in which cash is recorded, another account for equipment, an account for the amounts owed
to suppliers, an account for sales, another for advertising expense, and so on. It is common for
companies to use hundreds of accounts to record, sort and store transactions. The amounts
in the accounts will appear on the company’s financial statements.

2. Two of the main financial statements on which the account balances and amounts will be
reported are:

• balance sheet - reports assets, liabilities and stockholders’ (owner’s) equity

• income statement - reports revenues/sales, expenses, gains, losses, and net

income

3. A company’s accounts are organized according to those two financial statements. Here’s a
partial list (shown on the next page):

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 Acct No. Account Title Type of Account Financial Statement
1010 Petty Cash Current asset Balance sheet
1030 Checking Account Current asset Balance sheet
1071 Money Market Account Current asset Balance sheet
1200 Accounts Receivable Current asset Balance sheet
1290 Accrued Revenues Receivable Current asset Balance sheet
1400 Inventory Current asset Balance sheet The balance sheet
1510 Supplies Current asset Balance sheet accounts are also
1530 Prepaid Insurance Current asset Balance sheet referred to as

1700 Land Noncurrent asset Balance sheet permanent accounts.

1710 Building Noncurrent asset Balance sheet

1730 Equipment Noncurrent asset Balance sheet The balances in these
accounts are not
1810 Accumulated Depreciation - Building Noncurrent asset Balance sheet
closed at the end of
1830 Accumulated Depreciation - Equipment Noncurrent asset Balance sheet
an accounting year.
2010 Loans Payable - Due Within 1 Year Current liability Balance sheet
2070 Current Portion of Long-term Debt Current liability Balance sheet
The balances in these
2100 Accounts Payable Current liability Balance sheet accounts will carry
2310 Interest Payable Current liability Balance sheet forward to the next
2380 Accrued Expenses Liability Current liability Balance sheet accounting year.
2410 Customer Deposits Current liability Balance sheet
2570 Loans Payable - Due After 1 Year Noncurrent liability Balance sheet
2600 Deferred Taxes Noncurrent liability Balance sheet
2710 Common Stock Stockholders’ equity Balance sheet
2750 Retained Earnings Stockholders’ equity Balance sheet

3010 Sales - Retail Revenue - operating Income Statement

3110 Sales - Wholesale Revenue - operating Income Statement
3200 Accrued Revenues Revenue - operating Income Statement
3600 Fees Earned Revenue - operating Income Statement The income state-
6010 Salaries - Office Expenses - operating Income Statement ment accounts are
6090 Fringe Benefits - Office Expenses - operating Income Statement known as temporary
accounts, because
6310 Rent Expenses - operating Income Statement
their balances will be
6320 Utilities Expenses - operating Income Statement
closed to an owner’s
6410 Repairs & Maintenance - Office Expenses - operating Income Statement or stockholders’
6420 Repairs & Maintenance - Other Expenses - operating Income Statement equity account at the
6610 Advertising - Internet Expenses - operating Income Statement end of each account-
6630 Advertising - Other Expenses - operating Income Statement ing year.

6710 Insurance Expenses - operating Income Statement

7810 Depreciation Expense - Building Expenses - operating Income Statement The balances in these
Income Statement accounts do not
7830 Depreciation Expense - Equipment Expenses - operating
carry forward to the
9010 Interest Earned Other revenue Income Statement
next accounting year.
9210 Interest Expense Other expense Income Statement
9610 Loss on Sale of Assets Loss Income Statement

4. The listing of account numbers and account titles is referred to as a chart of accounts.

5. The accounts listed in the chart of accounts are also referred to as general ledger accounts
because they are housed in the company’s general ledger. The general ledger could be an
electronic file, a printed version of the electronic file, or a binder with a separate ledger page
for each account.

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 6. Every transaction entered into the accounting records must involve two accounts (or more).
For instance, if a company borrows money, the company’s account Cash will increase and
the company’s liability account Loans Payable will increase. If someone works for us, we have
an expense and a liability to pay them. If we make a sale on credit, we have a sale and an
account receivable. If we pay a debt, we have less cash and less obligations. This is known as
double-entry bookkeeping or double-entry accounting.

7. Double-entry also means that one account will need an entry as a debit, another account
will need an entry as a credit. These terms go back 5 centuries when double-entry was
documented by an Italian monk. Today accountants continue to use dr. as the abbreviation
for debit, and cr. as the abbreviation for credit.

8. Debit means left-side, credit means right-side. (Do not think of debit as good or bad. Do
not think of credit as good or bad.)

9. Each entry’s debit amounts must equal the credit amounts.

10. To help us understand the effects of recording a transaction under the double-entry system,
we will use a visual aid known as T-accounts. Of course, for every transaction we will need at
least two T-accounts:

Account Title Account Title

debit amounts credit amounts debit amounts credit amounts

Let’s illustrate the use of T-accounts with a transaction. We will assume that a company
borrows $10,000 from its bank on April 12. The company’s asset account Cash increases and
the company’s liability account Loans Payable increases. Recall that one account must have
the amount entered as a debit (entered on the left-side) and one account must have the
amount entered as a credit (entered on the right-side). In this situation, Cash is debited and
Loans Payable is credited.

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 Cash Loans Payable

Apr 12 10,000 10,000 Apr 12

The challenging part of learning debits and credits is knowing which account gets the amount
entered as a debit and which account gets the amount entered as a credit.

11. Understanding the accounting equation can help us master debits and credits. The
accounting equation for a corporation is:

assets = liabilities + stockholders’ equity

Another aspect of double-entry is that the accounting equation must always be in balance.

12. In the accounting equation, assets are on the left-side or debit side, and...

• The asset accounts are expected to have debit balances (balances on the left-side).

• To increase the balance in an asset account, you debit the account.

13. In the accounting equation, liabilities and stockholders’ equity are on the right-side or credit
side, and...

• The liability and stockholders’ equity accounts are expected to have credit balances.

• To increase the balances in the liability or stockholders’ equity accounts, you credit
the account.

Recall our transaction where a company borrowed $10,000 from its bank on April 12. Since
the company’s asset account Cash is increasing we entered a $10,000 debit in the Cash
account. That means that another account will need a credit entry of $10,000. We also know
that a credit amount will increase the balance in a liability account such as Loans Payable.

Cash Loans Payable

Apr 12 10,000 10,000 Apr 12

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 Recap (for #12 and #13)

You increase an asset account (such as Cash, Inventory, Equipment, Land) with a debit, and
you should expect asset accounts to have debit balances.

You increase the balance in a liability account (such as Loans Payable and Accounts Payable)
with a credit, and you should expect liability accounts to have credit balances.

In terms of the accounting equation, we see that the April 12 transaction has the following
effect:

assets = liabilities + stockholders’ equity

+ 10,000 = + 10,000

Next, let’s assume that on the following day the company repays $4,000 of the loan. This
means we need to decrease the asset Cash. This is done with a credit entry of $4,000. Hence,
we entered $4,000 on the right-side of the Cash T-account. With the credit identified, we must
now debit an account. In this case we need to decrease the liability account Loans Payable
and a debit will decrease a liability account balance. Hence, we entered a debit of $4,000 in
Loans Payable as of April 13.

Cash Loans Payable

Apr 12 10,000 10,000 Apr 12

4,000 Apr 13 Apr 13 4,000
Bal Apr 13 6,000 6,000 Bal Apr 13

14. We learned that the chart of accounts and general ledger were organized according to the
following categories:

assets examples: Cash, Inventory, Equipment

liabilities examples: Notes Payable, Accounts Payable
stockholders’ or owner’s equity examples: Common Stock, Retained Earnings
revenues and gains examples: Sales, Fees Earned, Gain on Sale of LT Assets
expenses and losses examples: Cost of Goods Sold, Rent, Loss on Sale of LT
Assets

We will now look at the category of accounts known as revenues.

15. From the chart of accounts we know that revenues are income statement accounts. Examples
of revenue accounts are Sales, Service Revenues or Fees Earned, Sales of Warranties, Interest
Earned, and others.

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 16. Revenues cause stockholders’ equity to increase. Therefore, the entries to revenue accounts
will be credits.

17. Revenue accounts are temporary accounts because at the end of the accounting year, the
amounts in the revenue accounts will be transferred to the stockholders’ equity account
Retained Earnings.

18. Under the accrual method of accounting, revenues are reported when goods or services are
delivered, which is often earlier than the date the money is received.

Let’s illustrate revenues with an example. Suppose that a local bakery sells $530 of goods at
a local farmers market on April 16. This transaction will affect the asset account Cash and
the income statement account, Sales - Farmers Market. Since the asset Cash is increasing,
we need to debit the Cash account for $530. That means the other account, Sales - Farmers
Market, will have to be credited for $530 as shown in these T-accounts:

Cash Sales - Farmers Market

Apr 16 530 530 Apr 16

In terms of the accounting equation, this April 16 transaction has the following effect:

assets = liabilities + stockholders’ equity

+ 530 = + + 530

Next let’s assume that on April 17, the bakery delivers $400 of goods to a restaurant but
the restaurant is allowed to pay 15 days later. The April 17 sales transaction will involve the
following accounts:

Accounts Receivable Sales - Wholesale

Apr 17 400 400 Apr 17

Notice that the Sales account has been credited because the goods have been delivered.
(Cash is not required for recording a sale under the accrual accounting method.) The asset
Accounts Receivable is increased with a debit.

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 In terms of the accounting equation, the April 17 sales transaction has the following effect:

assets = liabilities + stockholders’ equity

+ 400 = + + 400

On May 2 when the bakery receives the $400 from the restaurant, the bakery will increase
its asset Cash with a debit of $400 and will credit the asset account Accounts Receivable for
the $400 as shown here:

Cash Accounts Receivable

May 2 400 400 May 2

In terms of the accounting equation, the May 2 collection has the following effect:

assets = liabilities + stockholders’ equity

+ 400 = +

- 400

As we can see, the collection of the $400 of cash on May 2 did not involve a liability, revenue,
expense, or stockholders’ equity.

19. Now let’s look at the other major category of income statement accounts: expenses.
Expenses are entered into general ledger accounts such as Rent Expense, Wages Expense,
Advertising Expense, Depreciation Expense, Insurance Expense, Interest Expense, and
perhaps hundreds more.

20. Expenses cause stockholders’ equity to decrease. Therefore, the entries to expense accounts
must be debits.

21. Expense accounts are temporary accounts because at the end of the accounting year, the
amounts in the expense accounts will be transferred to the stockholders’ equity account
Retained Earnings.

22. Under the accrual method of accounting, costs will become expenses in one of the following
ways:

• When the expense best matches up with the revenues. Here are two examples:

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 1) the cost of goods sold expense, and

2) the commissions expense based on sales

• When a cost expires or is used up (depreciation of equipment is an example)

• When we cannot measure a future economic benefit (salaries of office workers,

advertising, R&D)

To illustrate an expense, let’s assume that on April 16 the local bakery pays $50 for the rent
of a space at the farmers market. The asset account Cash is decreasing and the expense
Farmers Market Rent is increasing. Since the asset Cash is decreasing, we credit the Cash
account for $50. This means the other account will need a debit of $50.

Cash Farmers Market Rent Expense

50 Apr 16 Apr 16 50

In terms of the accounting equation, this April 16 transaction has the following effect:

assets = liabilities + stockholders’ equity

- 50 = + - 50

Next, let’s assume that on April 24, the bakery runs a radio ad at a cost of $300 with payment
due on May 10. The April 24 transaction will involve the liability account Accounts Payable,
and the income statement account Advertising Expense. Since the liability account is
increasing, it needs to be credited, and the expense is debited.

Accounts Payable Advertising Expense

300 Apr 24 Apr 24 300

In terms of the accounting equation, this April 24 transaction has the following effect:

assets = liabilities + stockholders’ equity

= + 300 + - 300

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 When the company pays the radio station the $300 on May 10, the following T-accounts will
be involved:

Cash Accounts Payable

300 May 10 May 10 300

In terms of the accounting equation, the payment on May 10 has the following effect:

assets = liabilities + stockholders’ equity

- 300 = - 300 +

Note that the May 10 payment was not a new expense and therefore stockholders’ equity did
not change.

23. Recap on expenses:

Expense accounts are debited and will reduce stockholders’ equity. Rarely will we credit
expense accounts.

Expense accounts are temporary accounts because at the end of the accounting year, their
balances will be transferred to the stockholders’ equity account Retained Earnings.

24. Recap on revenues:

Revenue accounts are credited and will increase stockholders’ equity.

After the income statement for the year is published, the balances in the revenue accounts
are transferred to Retained Earnings, a stockholders’ equity account.

25. The following accounts are likely to have debit balances and their balances will increase
with a debit entry.

assets
expenses
losses
dividends at corporation or draws by sole proprietor

Think D-E-A-L for Dividends, Expenses, Assets, Losses

(Expenses, losses, dividends, and draws will reduce the normal credit balance in stockholders’
equity.)

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 26. The following accounts are likely to have credit balances and their balances will increase
with a credit entry.

liabilities
revenues
income
gains
stockholders’ equity

Think G-I-R-L-S for Gains, Income, Revenues, Liabilities, Stockholders’ equity

(Revenues, income, and gains will increase the normal credit balance in stockholders’ equity.)

27. Other tips on debits and credits:

When you write a check, credit Cash.

When you receive money, debit Cash.

General Journal and Adjusting Entries

1. Recording routine payments and receipts is easy with today’s accounting software. Often you
need to indicate only one of the two accounts and the software will automatically supply the
other. For example, when writing a check the software will automatically credit the asset Cash
and will debit the account which you indicate.

2. However, there are times when you must enter both the debit and credit information. This is
usually done in a general journal. The general journal might have headings such as these:

Account Refer- Debit Credit

Date Number Account Name or Description ence Amount Amount

3. One use of the general journal is to make adjusting entries prior to issuing the financial
statements. Adjusting entries are needed so that:

• the income statement reports all of the revenues earned and all of the expenses
incurred during the accounting period indicated in the heading of the income
statement.

• the balance sheet reports all of the company’s assets (including prepayments and
receivables) and all of the company’s liabilities (including payables and unearned
revenue) as of the date appearing in the heading of the balance sheet.

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 4. Adjusting entries will be recorded in at least one income statement account (revenue or
expense) AND in a least one balance sheet account (asset or liability).

Example 1. Adjusting Entry for a Deferral of Expense

On April 29 Loy Corp paid $6,000 for its insurance covering the six-month period of May through
October. The accounting software automatically credits Cash and prompts the bookkeeper for the
account to be debited. If the bookkeeper enters Insurance Expense, the entire $6,000 will appear
as an April expense. Instead of recording the $6,000 as an expense on April 29, it would be better if
the debit is entered in the current asset account Prepaid Insurance for $6,000. Then in the months
of May through October, the following adjusting entries should be recorded in order to charge each
month with $1,000 of expense:

Account Refer- Debit Credit

Date Number Account Name or Description ence Amount Amount

May 31 6710 Insurance Expense 1,000

May 31 1530 Prepaid Insurance 1,000

Jun 30 6710 Insurance Expense 1,000

Jun 30 1530 Prepaid Insurance 1,000

Jul 31 6710 Insurance Expense 1,000

Jul 31 1530 Prepaid Insurance 1,000

Aug 31 6710 Insurance Expense 1,000

Aug 31 1530 Prepaid Insurance 1,000

Sep 30 6710 Insurance Expense 1,000

Sep 30 1530 Prepaid Insurance 1,000

Oct 31 6710 Insurance Expense 1,000

Oct 31 1530 Prepaid Insurance 1,000

This type of adjusting entry is known as a deferral or deferral-type adjusting entry. A deferral-type
adjusting entry is needed when the amount recorded at the time of the transaction included an
amount which pertains to a future accounting period. In the above example, the $6,000 payment
was actually a prepayment for the following six months of insurance. The deferral-type adjusting
entry is needed so that each of the months of May through October will report $1,000 of insurance
expense. It assures that the $6,000 prepayment is matched with the accounting periods in which it is
expiring or is being used up.

Let’s use T-accounts to help us visualize the results of using adjusting entries.

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 Prepaid Insurance Insurance Expense

Apr 29 6,000
1,000 Adj May 31 Adj May 31 1,000
1,000 Adj Jun 30 Adj Jun 30 1,000
1,000 Adj Jul 31 Adj Jul 31 1,000
1,000 Adj Aug 31 Adj Aug 31 1,000
1,000 Adj Sep 30 Adj Sep 30 1,000
1,000 Adj Oct 31 Adj Oct 31 1,000
Bal Oct 31 -0- Bal Oct 31 6,000

Through the use of the adjusting entries, each month’s income statement reported insurance
expense of $1,000 and each month’s balance sheet reported $1,000 less in the account Prepaid
Insurance.

NOTE: Prepaid Insurance reports the amount of unexpired cost. Insurance Expense reports the
amount of expired cost.

Example 2. Adjusting Entry for a Deferral of Revenue

When the insurance company receives the $6,000 payment from Loy Corp on May 1, the insurance
company has not yet earned the amount received. Therefore, the insurance company will credit
Unearned Insurance Premiums (a current liability account) for $6,000 and will debit Cash.

Account Refer- Debit Credit

Date Number Account Name or Description ence Amount Amount

May 1 1030 Cash 6,000

2xxxxx Unearned Insurance Premiums 6,000

Beginning on May 1 the insurance company will begin earning the premiums at a rate of $1,000 per
month. To report the revenues in the months in which they are earned, the insurance company will
make a deferral-type adjusting entry in each of the months of May through October similar to the
following:

Account Refer- Debit Credit

Date Number Account Name or Description ence Amount Amount

May 31 2xxxxx Unearned Insurance Premiums 1,000

May 31 3xxxxx Insurance Premium Revenues 1,000

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Each month the liability account Unearned Insurance Premiums will be reduced and the income
statement account Insurance Premium Revenues will report $1,000 as earned.

Example 3. Adjusting Entry for an Accrual of Revenue

Sometimes a company will have earned revenues and incurred expenses but the paperwork has
not been processed as of the date that the balance sheet and income statement is prepared. For
example, an electric utility will have generated and delivered a tremendous amount of electricity as
of April 30, but the customers’ meters have not yet been read and therefore the customers have not
yet been billed by the utility.

Without an adjusting entry, the utility will not be reporting an asset (a receivable) for the amount it
has a right to receive for the electricity provided as of April 30. The utility’s income statement will
also fail to report the revenues it has earned during the period. To be in compliance with the accrual
method of accounting, the utility will need to make an adjusting entry before its financial statements
are prepared.

If the utility determines that as of April 30 it has earned $700,000 of revenues that will not be billed
until May, the utility will make the following entry to accrue revenues:

Account Refer- Debit Credit

Date Number Account Name or Description ence Amount Amount

Apr 30 1xxxxx Accrued Revenues Receivable 700,000

Apr 30 3xxxxx Accrued Revenues Earned 700,000

If the utility had previously accrued March revenues and the related receivable at the end of March,
that entry should be reversed (removed) during April. The reason for the reversal of the March 31
accrual is that the actual bills would have been processed during April and we cannot double-count
the revenues that were accrued as of March 31.

Example 4. Adjusting Entry for an Accrual of Expense

The Loy Corp uses a significant amount of electricity in its operations. The utility reads the meter on
the first day of each month and mails the bill so that Loy Corp receives it on the 10th day of each
month. As of April 30, Loy Corp’s accounting records reflect the bill it received on April 10. In other
words, Loy Corp’s accounting records reflect only the electricity used through March 31.

None of the electricity used during the month of April has been recorded as of April 30. If Loy Corp
were to issue its financial statements without April’s electricity included, it will be omitting a large

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liability and its retained earnings within stockholders’ equity will report an amount that is too high.
Its income statement will also have the incorrect amount of electricity expense. To be in compliance
with the accrual method of accounting, Loy Corp must process an accrual-type adjusting entry.

If Loy Corp determines that as of April 30 it owes the electric utility $4,100, it should make the
following adjusting entry:

Account Refer- Debit Credit

Date Number Account Name or Description ence Amount Amount

Apr 30 6xxxxx Electricity Expense 4,100

Apr 30 2xxxxx Accrued Expenses Liability 4,100

If Loy Corp had accrued electricity expense at March 31, that entry must be reversed (removed)
during April. The reason for the reversal of the March 31 accrual is that the actual bills for the
electricity provided during March would have been processed by Loy Corp in April and cannot be
double-counted.

To assist you in visualizing the need for the accrual of electricity expense and the related liability, we
will use the following illustration. It assumes that a company began operating on March 1 and that it
prepares financial statements at the end of each month.

Electricity used in March Electricity used in April

1 March 31 1 April 30 1 May 31

On April 1, the utility reads

the company’s meters to
determine the quantity of
electricity used in March.

On April 10, the company On May 10, the company

receives and records the receives and records the
electric bill for the electricity electric bill for the electricity
it used in the month of it used in the month of
March. April.

Without an accrual adjust-

ing entry at March 31, the
March income statement
will not be reporting elec-
tricity expense and the
March 31 balance sheet will
not be reporting a liability
for the electricity used
during March.

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Example 5. Adjusting Entry for Depreciation

Perhaps the most common adjusting entry involves depreciation of the buildings, equipment,
furnishings, and vehicles used in a business. (These assets are sometimes referred to as plant assets
or fixed assets.) Under the accrual method of accounting for financial reporting (as opposed to
income tax reporting) the cost of plant assets should be matched to the accounting periods in which
revenues are earned from the use of these assets.

Let’s assume that Loy Corp purchased a building for its operations. The cost of the building and land
was $950,000 with the building’s portion of the cost being $750,000. Loy Corp expects the useful
life of the building to be 25 years with no salvage value at the end of the 25 years. Therefore, it
calculates its monthly depreciation to be $2,500. (The calculation is: the building’s cost of $750,000
divided by 25 years = $30,000 per year divided by 12 months per year = $2,500 per month. Land is
not depreciated.) Therefore, the company will make the following entry each month for 300 months:

Account Refer- Debit Credit

Date Number Account Name or Description ence Amount Amount

Apr 30 7810 Depreciation Expense - Building 2,500

Apr 30 1810 Accumulated Depreciation - Building* 2,500

*This is a contra-asset account used instead of crediting the asset account Buildings.

At the end of the useful life of 300 months, the depreciation ends (even if the building continues to
be used).

Tips on Adjusting Entries

Accruals indicate that a company has not yet recorded a revenue or an expense into the accounts,
but a transaction did occur.

Deferrals indicate that a company has recorded a transaction but some of the amount belongs in a
future accounting period.

Typical Accrual-type Adjusting Entries Involving Expenses and Liabilities

• Services received but not yet recorded: examples are electricity, gas, phone, sewer, property
tax, repairs.

• Compensation payable for employees’ work but not yet recorded: wages, bonuses,
employer’s share of payroll taxes.

• Interest occurring on the company’s debt but the interest has not yet been recorded.

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Typical Accrual-type Adjusting Entries Involving Revenues and Assets

• Revenues earned from services provided but clients have not yet been billed.

Typical Deferral-type Adjusting Entries Involving Expenses and Assets

• Supplies purchased but not completely used during the current accounting period.

• Prepaid insurance premiums paid, but some of the amount paid covers future accounting
periods.

• Prepaid rent, prepaid maintenance, prepaid memberships, prepaid subscriptions covering

future accounting periods.

Typical Deferral-type Adjusting Entries Involving Revenues and Liabilities

• Companies and firms receiving advance payments and deposits from customers (money
is received in one accounting period, but will be earned or returned in a later accounting
period). These are likely to occur at insurance companies receiving premiums for the
following 6 or 12 months, organizations receiving annual membership dues in the beginning
of the year, companies offering annual service contracts, magazine publishers receiving
subscription fees one or two years in advance, lawyers requiring money in advance of
taking a case, money paid to manufacturers for special equipment to be produced in future
accounting periods, landlords and utilities receiving security deposits, and more.

Other Types of Adjusting Entries

• Depreciation of buildings, equipment, vehicles, and other assets used in a business.

• Adjustment of the Allowance for Doubtful Accounts (pertains to Accounts Receivable and Bad
Debts Expense).

The goal of adjusting entries is to comply with the accrual method of accounting...to report all of the
revenues and receivables that have been earned, and to report all of the expenses and liabilities that have
been incurred.

Introduction to Internal Control

Entering bills and paying bills is easy with accounting software. However, not every invoice received
is legitimate. In other words, it is possible that some invoices should not even be entered, much less
paid. Some other invoices received may have incorrect quantities or incorrect prices, or both. Some
of these incorrect invoices might be accidental while some are intentional.

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Here are two examples:

• Someone in your company negotiated a one-time special price on the goods ordered from
one of your suppliers. When the supplier prepared its sales invoice, the regular prices were
used instead of the special lower prices that were promised.

• A company found out that your internet domain names are due for renewal and mailed
your company what appears to be an invoice for renewing the domain names. However, the
“invoice” is not from the company that you used to register your domain names.

Those two examples illustrate that the bookkeeper must not only process a high volume of
transactions in a limited amount of time, but the bookkeeper must take steps to assure that only
approved transactions and accurate amounts are entered into the accounting system.

The entering of incorrect amounts, even if discovered before paying, means that the financial
statements will be incorrect. For example, if a purchase of goods or services is entered at the
incorrect amount, it could mean that both the income statement and the balance sheet will be
incorrect.

Safeguarding a company’s assets from dishonest acts or from simple errors is part of what is known
as internal control.

Our discussion includes only a brief introduction to the topic of internal control.

A Few Examples of Internal Control

One of the common procedures used in the area of accounts payable is known as the 3-way match.
The 3-way match refers to a bookkeeper (or accounts payable clerk) comparing the following:

1. Vendor’s (supplier’s) invoice - what the company is being billed

2. Company’s purchase order - what the company agreed to buy at a specified price

3. Company’s receiving report - the quantity of goods actually received by the company

If the three items do not match, the differences must be reconciled before payment is made. For
more on accounts payable, I recommend Controller and CFO’s Guide to Accounts Payable by Mary S.
Schaeffer (John Wiley & Sons, Inc., 2007). For current information visit MarySchaeffer.com.

The separation or segregation of duties is an important principle of internal control in order to

safeguard assets. For example, internal control is improved when the company’s bank statement is
reconciled by someone other than the person writing the checks, depositing the money, or entering
amounts into the general ledger Cash account. At churches the internal control is improved if the
money counters are different from the person recording the contributions into the memberships’

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giving records. The proper separation of duties will reduce the risk of loss because it will now require
two dishonest people (instead of only one person) in the same office working together to defraud an
organization.

Our message is that the bookkeeper can assist the owners of a business by insisting on adherence
to the company’s rules for internal control. The 3-way match, insisting on the proper documentation
for travel reimbursements and other payments, and the segregation of duties are a few examples of
good internal control practices.

Again, we are merely introducing the importance of an organization’s internal control. It is important
that you consult with a qualified accountant to enhance your organization’s internal control.

Bank Reconciliation

An important step to be certain that the company’s records are complete and accurate is to prepare
a reconciliation of the bank statement. Accountants refer to this as preparing the bank rec.

You can see an illustration of a bank reconciliation on AccountingCoach.com under the topic Bank
Reconciliation. For now we want to provide you with some of the highlights.

1. The balance in the company’s Cash account is probably not the correct balance. Here are a
few reasons why:

• The bank may have removed some money from the checking account for its service
charge, check printing fees, loan payments, other fees, online transactions, etc.

• The checking account might have been increased by the bank for some credit card
deposits, wire transfers, online transactions, interest earned, and so on.

• The entries in your general ledger Cash account may have some amounts that were
entered incorrectly.

As we know, our accounting systems are usually double-entry systems. Therefore, if there is
an error in a company’s Cash account, there is going to be an error in another account as well.
This makes it especially important to reconcile the bank statement.

2. The balance on the bank statement is probably not the correct amount either. Here are a
few reasons why the balance on the bank statement will not be the true amount of cash:

• Some of the checks written by the company as of the date of the bank statement
have not cleared the bank account. These are known as outstanding checks.

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 • Perhaps some money received by the company on the ending date of the bank
statement had not been processed by the bank as of the date of the bank statement.
These are known as deposits in transit or outstanding deposits.

• Perhaps the bank made an error such as coding the amount or bank account
number incorrectly.

3. The method that we recommend for reconciling the bank statement will get both the balance
per the bank, and the balance per the company’s books to be the same correct (or adjusted)
amount.

4. Here is how to determine the adjusted balance per the BANK:

Balance per bank statement at March 31, 2019 $ 3,165.00

Add: Deposits in transit + 900.00
Deduct: Outstanding checks - 1,600.00
Add or Deduct: Bank errors + or - -
ADJUSTED BALANCE PER BANK $ 2,465.00 A

5. Here is how to determine the adjusted balance per the BOOKS:

Balance per books at March 31, 2019 $ 1,800.00

Add: Interest earned + -
Deduct: NSF checks - 100.00
Deduct: NSF check fees - 25.00
Deduct: Bank service charges - 10.00
Add: Credit card deposits + 700.00
Add: Other electronic deposits + 100.00
Add or Deduct: Our errors + or - -
ADJUSTED BALANCE PER BOOKS $ 2,465.00 B

6. The adjusted balance per BANK must agree to the adjusted balance per BOOKS. (“A” must be
equal to “B”)

7. The adjustments to the balance per BOOKS must be entered in the company’s records.
Any additions will be a debit to Cash and a credit to another account. The deductions will be a
credit to Cash and a debit to another account.

Here’s an 80-year-old-tip for reconciling the bank statement: “Put it where it ain’t.” For example, the
bank service charge is on the bank statement but it is not on the books; therefore, put the bank
service charge as an adjustment to the balance per books.

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Sales on Credit, Accounts Receivable and Bad Debts
Expense

1. When a company sells merchandise on credit, the accounting entry at the time of the billing
is likely to be a debit to Accounts Receivable (a current asset account reported on the balance
sheet) and a credit to Sales (a revenue account reported on the income statement).

2. Another thing that occurs at the time of the sale is the seller’s inventory is decreased and
the buyer’s inventory is increased. In other words, the seller transferred the ownership of
the goods to the buyer in return for the receivable that was recorded. If the receivable is not
collected, the seller will be out the cost of the inventory plus whatever other expenses were
incurred. For example, if a company makes a sale for $1,000 and the cost of the merchandise
and expenses were $900, the company earns only 10% on its sales ($100 of net income
divided by its $1,000 sale). If the customer does not pay the $1,000, the company will need to
sell an additional $9,000 of merchandise in order to recover its costs and expenses of $900.

3. It is important to continually monitor the accounts receivable in order to minimize any losses
resulting from giving customers 10 days, 15 days, 30 days, 60 days, or 90 days to pay.

4. Of course you want to do a credit check on all new customers as well.

5. One tool that we have available is the aging of accounts receivable. Usually a company’s
accounting software can sort the accounts receivable according to the age of each of the
receivables. In other words, the date of each sales invoice is compared to the current date
and then the amounts are sorted according to the number of days. A general rule is that the
older the receivable, the less likely the receivable will be collected in full.

6. The accounting software also allows the seller to send statements to its customers with
balances in accounts receivable.

7. If your company sells with credit terms, your company will likely be an unsecured creditor. This
means if the customer files for bankruptcy, your company’s claim will come after the claims
of the secured creditors. For instance, if your customer’s bank has lent your customer money
and the bank has a lien on the customer’s cash, accounts receivable and inventory, the bank
will be paid before your company gets paid. The end result may mean little money available
for your company and other unsecured creditors.

8. For financial reporting, the company’s balance sheet should report the amount of the
accounts receivable that is going to turn to cash within one year of the date of the balance
sheet. Therefore, the company has to estimate the amount that will not be collectible. Here’s

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 how the balance sheet might report the accounts receivable:

Accounts receivable $ 13,000

Less: Allowance for doubtful accounts (1,000)
Accounts receivable - net $ 12,000

9. Any adjustment to the Allowance for Doubtful Accounts is reported on the income statement
in an account such as Bad Debts Expense.

10. For income tax purposes, the estimated allowance account method is not permitted. For
income tax purposes, the company must actually write-off a specific account in order to get
the income tax deduction.

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