PRINCIPLE OFACCOUNTING

CONTENTS

Chapter 01 Introduction

Chapter 02 Accounting cycle

Chapter 03 Books of Account

Chapter 04 Ledger and Trail balance

Chapter 05 Cash book

Chapter 06 Banking Transaction

Lecturer: Saeed Agha Ahmadzai

Email: [email protected]
 PRINCIPLE OF ACCOUNTING

CHAPTER 01

INTRODUCTION

History of the accounting practice begins from the days of the Roman Empire; the first book on
double entry book-keeping however appeared in 1494. With the passage of time need for accounting
and information reporting developed. In the early twentieth century, the business flourishes and
with the introduction of corporate form of business it become necessary to maintain and provide
financial information to a large number of persons including shareholders, creditors etc.

DEFINITIONS ACCOUNTING:
Accounting is a wider term. It includes and goes beyond book keeping; including the book keeping,
accounting is considered with the analysis and interpretation of financial data and with setting up
book keeping system.

More technically accounting is defined as “Accounting is an art of recording, classifying and

summarizing in a significant manner and in terms of money transactions and events of a financial
character, and interpreting the results thereof.

BOOK KEEPING:

As the name implies, book keeping means maintenance of books of accounts in proper form and
order. A book keeper in fact records the events (expressed in money, which affect to financial
Position of organization. He then classifies, sort and summarize these events. Book keeping can
therefore, be defined as “the art of recording, sorting and summarizing of events (expressed in
money) that affect the financial condition of a business

ACCOUNTING:
Accounting is a wider term. It includes and goes beyond book keeping;
including the book keeping, accounting is considered with the analysis and
interpretation of financial data and with setting up book keeping system.

More technically accounting is defined as “Accounting is an art of recording,

classifying and summarizing in a significant manner and in terms of money
transactions and events of a financial character, and interpreting the results
thereof.

1
Terminologies use in accounting:
THE BUSINESS ENTITY:
A business is a separate entity than its owner. This means that it is not the owners but the business
which purchases, sells pays and receives.

TRANSACTION:
A transaction is an event (expressed in money) that affects the financial condition of a business,
purchases, sales, payments and receipts of a business are transactions.

ACCOUNT:
In general account is a summarized record of transactions relating to an asset, liability, income or
expense.
BUSINESS:
It refers to an activity undertaken for the purpose of earning profit.

PURCHASES:

Goods purchased are called purchases.

SALES:
Goods sold are called sales.

DEBTOR/CREDITOR:
A person or business that owes money. The person or business on the other side of the transaction is
a creditor.

OWNERS EQUITY/CAPITAL:
The owners claim against the assets of a business after liabilities have been deducted is called the
owners equity. It is more often called as capital or net worth.

BUSINESS DOCUMENT / VOUCHER:

It is a paper prepared to record a business document which contains all the information about the
transaction and bears the classification before the details of the transaction is recorded.
ACCOUNTING PRINCIPLES
Accounting principles can be divided in to two kinds;
a) Accounting Concepts
b) Accounting Conventions

a) ACCOUNTING CONCEPTS:

The term “Concepts” includes those basic assumptions or conditions upon which accounting is
based. Following are the important accounting concepts:
Business Entity Concept Going
Concern Concept Money
1. Measurement Concept Cost
2. Concept
3. Dual Aspect Concept
4. Accounting Period Concept
5. Matching Concept
6. Realization Conception
7.
8.
BUSINESS ENTITY CONCEPT:
In accounting, business is treated as a separate entity from its owners. Accounts are prepared to
give information about the business and not about those who own it. A distinction is made between
business transactions and personal transactions.

GOING CONCERN CONCEPT:

According to this concept it is assumed that the business will exist for a long time to come.
Transactions are recorded in the books keeping in view the going concern aspect of the business
unit. A firm is said to be going concern when there is neither the intention nor necessity to wind up
its affairs. In other words, it should continue to operate at its present scale in the future.

MONEY MEASUREMENT CONCEPT:

Accounting records only those transactions which can be expressed in terms of money. Transactions
or events which cannot be expressed in money do not find place in the books of accounts though
they may be very useful for the business.

COST CONCEPT:
This concept is closely related to the going concern concept. According to this, an asset is ordinarily
recorded in the books at the price at which it was acquired i.e. at its cost price.

DUAL ASPECT CONCEPT:

This is the basic concept of accounting. Modern accounting system is based on dual aspect concept.
Dual concept may be stated as “for every debit, there is a credit”. Every transaction should have
two sided effect to the extent of same amount.
ACCOUNTING PERIOD CONCEPT:
According to this concept, the life of the business is divided into appropriate segments for studying
the results shown by the business after each segment. Since the life of the business is considered to
be indefinite (according to going concern concept) the measurement of income and studying of
financial position of the business according to the above concept, after a very long period would not
be helpful in taking proper corrective steps at the appropriate time. It is, therefore, absolutely
necessary that after each segment or time interval the businessman must stop and see, how things are
going on. In accounting such a segment or time interval is called accounting period. It is usually of
one year.

MATCHING CONCEPT:
The aim of every business is to earn profit. In order to ascertain the profit the costs (expenses) are
matched to revenues. The difference between income from sales and cost of producing the goods
will be the profit. When business is taken as a going concern then it becomes necessary to evaluate
the performance periodically.

REALIZATION CONCEPT:
This concept emphasis that revenue should be considered only when realized. b)

ACCOUNTING CONVENTIONS:

The term convention includes those customs or traditions which guide the accountants while
preparing the accounting statements.
The following are the important accounting conventions
1. Convention of Disclosure
2. Convention of Materiality
3. Convention of Consistency
4. Convention of Conservatism

CONVENTION OF DISCLOSURE:
The disclosure of all significant information is one of the important accounting conventions. It
implies that accounts should be prepared in such a way that all material information is clearly
disclosed to the reader.

CONVENTION OF MATERIALITY:
It refers to the relative importance of an item or event. According to this convention only those
events or items should be recorded which have a significant bearing and insignificant things should
be ignored. This is because otherwise accounting will be unnecessarily overburdened with minute
details.

CONVENTION OF CONSISTENCY:
This convention means that accounting practices should remain unchanged from one period to
another.
 CONVENTION OF CONSERVATISM:
This convention means a caution approach or policy of „play safe‟. This
convention ensures that uncertainties and risks inherent in business transactions
should be given a proper consideration. If there is a possibility of loss, it should
be taken into account at the earliest. On the other hand, a prospect of profit
should be ignored up to the time it does not materialize.

BOOK KEEPING CYCLE:

Book keeping is often regarded as a flow of information disorganized
information in the form of business transactions come in this information is
processed by recording, sorting and summarizing. The overall activities can be
grouped in the following steps.
i. recording transaction in the books of original entry
ii. posting to ledger accounts
iii. taking trial balance
iv. making adjustments for necessary matters
v. Preparing financial statements such as balance sheet and income statements.

DOUBLE ENTRY BOOK KEEPING

Every transaction involves two fold aspects e.g. an aspect of receiving and an
aspect of giving. The system of recording both aspects of recording the
transaction is referred as double entry book keeping. Let us say a business
receives cash of $ 5,000 for sale of goods. Here cash account increases whereas
the goods account decreases. To record this transaction cash account would be
debited whereas the sale of goods account will be credited.
Features of double entry book keeping
Main features are as under:
Both aspects of a transaction are recorded
Mathematical accuracy of the record can be confirmed by preparing a Trial Balance
The financial statements such as income statement, Balance sheet and other
necessary statements can be prepared easily accurately.

FINANCIAL STATEMENTS:
To ascertain overall results of a certain period, financial statements are prepared
and analyzed. A Financial Statement includes:
1. The balance sheet which described the overall financial position of an
organization at a particular time.
2. The income statement describes the operating results for a particular time
period.
Statement of changes in financial position describes the flow of funds and changes in
financial position during a particular period.
 PRINCIPLE OF ACCOUNTING

CHAPTER 02

ACCOUNTING CYCLE AND ACCOUNTING EQUATION

Accounting cycle is the process of recording and summarizing. In the first we should record the transaction
in the different books of accounts. And in the second phase we prepare the Income statement and Balance
Sheet at the fiscal year.

DIFFERENT STAGES OF ACCOUNTING OR ACCOUNTING CYCLE:

Transaction

Journals

Transactions
(Original
Records)

Financial
Statements Ledger
(Income
Statement and (Classification)
Balance Sheet)

Trail Balance
ELEMENTS OF FINANCIAL STATEMENTS: There are five element of a financial statement:

1. Assets
2. Liabilities
3. Owner Equity/Capital
4. Revenue
5. Expenditures

First three elements are part of balance sheet and the last two are Profit and Loss Account or Income
and Expenditure Account.

ASSETS:
Simple definition could be that all possessions and rights of a business that have money value are
called the assets of a business. More appropriate definition is however that “assets are the resources
controlled by the organization as a result of past transaction, from which, the economic benefit is
expected to flow to entity”.

LIABILITIES:
The debts of a business and the money owed to others are called its liabilities. Liabilities are defined
“A liability is present obligation, arising from the past transaction, the settlement of which is expected
to result in outflow of resources from the entity embodying economic benefit”

OWNER EQUITY:
It means the claims of owner of the business for his interest up to his investment after finalizing the
expenses and revenue up to the date.

REVENUES:
“Revenue is increase in economic benefit during the accounting period in the form of inflows or
enhancement of assets or decrease of liability that increase in owner equity.” These are inflows of
assets or settlement of liabilities or a combination of both, during a period as a result of the delivery
or production of goods, the rendering of services or other earning activities relating to the primary of
the business, sales, interest earned, rental income, Grants/ Donation received, commissioned earned
are examples of revenues.

EXPENSES:
Expenses are incurred to generate revenue. These are outflows of assets or the incurrence of
liabilities or a combination of both during a period as a result of delivery or production of goods,
the rendering of services or other earnings activities relating to the primary activities.
ILUSTRATION:

Classify the following into various kinds of accounts:

Hassan Bross. Cash, Umar, Building, Salaries, Ali, Furniture, Carriage, Rent,
Lahore Shoes, Capital, Purchaes, Commission, Motor Vehicle, Sales Returns,
Insurance, Sales, Purchases Returns, kamran, Plant and Machinery, Factory
Electricity.

NAME OF ACCOUNT NATURE OF ACCOUNT

Hassan Bross Balance Sheet

Cash Assets

Umar Balance Sheet

Building Assets

Salaries Expense account /O.E

Ali Balance Sheet account

Furniture Assets

Carriage Expense account

Rent Expense account

Lahore Shoes Balance sheet account

Capital O.E

Purchases Expenses account

Commission Expenses account

Motor vehicle Assets

Sales Returns Expenses

Insurance Expenses
 Sales Revenue

Purchase Return Revenue

Kamran Balance Sheet

Plant and Machinery Assets

Factory Electricity Expense account

THE ACCOUNTING EQUATION

Assets and Equities (Liabilities + Owner‟s Equity) are the basic elements of
accounting. We can express these elements by an equation known as
“accounting Equation”.

ASSETS = EQUITIES OR ASSETS = LIABILITIES+OWNERS EQUITY

Almost we have five elements of account i.e Assets, liabilities, owners equity,
revenue and expenses. But an above we have discuss only three of them, the
remaining should goes the trading profit and loss account.
 PRINCIPLE OF ACCOUNTING

CHAPTER 03

BOOKS OF ACCOUNTS:

The business transactions from primary data to be recorded in the books of accounts. How an
accounting cycle runs? Can briefly be described in the following steps.

Step.1 A number of transactions are made daily and a business documents prepared for each
transaction.

Step.2 Information from the business transaction is entered daily in the general journal.

Step.3 The entries from the general journal are posted to the individual accounts maintained in the
ledger.

Step4. At the end of a particular period summaries from the end balance of the ledger are
prepared which form a trail balance.

Step.5 Adjustment if required is made in the books of accounts or in a separate work sheet so as
to work out the final balance.

DEBIT AND CREDIT ASPECTS:

Each transaction affects at least two accounts. Entry of a debit amount is one account always
accompanies a corresponding entry of a credit amount in one or more other accounts. A transaction
may affect a number of accounts but the total of debit account total of a credit of each transaction
must be equal. The following table describes how various entries are recorded on the debit or credit
side of a transaction.

Class Of Account Increases Are Decreases Are

Recorded In Recorded In
Assets Debit side Credit side
Liabilities Credit side Debit side
Owners Credit side Debit side
equity/capital
Revenue Credit side Debit side
Expenses Debit side Credit side

BOOKS OF ORIGINAL ENTRY:

A book of original entry is the book where the entry is initially recorded on day to day basis in
chronological order. It contains the date of transaction, names of accounts to be debited or credited to record
each transaction and amount to be debited and credited.
JOURNAL:

Journal is a book of originally entry and contains all the information that is required in a book of
original entry. When only one journal is used it is called general journal. A special journal is used to
record each set of smaller transactions. Most commonly used are Cash Journal, Sales Journal, and
Purchase Journal. General journal in such organizations are used to record transactions which
cannot be recorded in the special journals.

ENTRIES IN THE JOURNAL:

To record a transaction in the General Journal in the prescribed manner is called entry. Entries in the
Journal may be made in a manner that it contains all the required information in a classified
manner, which could either be utilized for future reference and aggregate results after the end of
accounting period.

FORM OF JOURNAL:

It may be seen from the format that transaction on the journal is recorded in respective column and
as such the entry in the journal is completed. The information is therefore required to be entered in
the following manner.
1. Date of the transaction in the “date” column.
2. Names of the two description of the transaction in the “particular” column. Use separate in
for each account name and description also use the accounts to be debated in top line.
3. Reference of the ledger page or code where the entry is to be posted.
4. Amounts in front of each account name to be debited in the debit column.
5. Amount in front of each account to be credited in the credit column.
6. To separate each entry a line is drawn at the end of each entry.

Date Particular L.F Dr Cr

Illustration:

On October 1st 2007 Afghan Relief Agency received a donation of 50,000 and its transaction during the
first month was as follows:
October, 02 Paid rent of the shop for the month 2,000
October, 03 Purchased furniture for cash 5,000
October, 10 Goods Purchased from Saleem & Co on credit 20,000
October, 15 Goods Purchased from ABC limited on credit 25,000
October, 16 Cash received as membership fee 3,000
October, 20 Cash received as membership fee 10,000
October, 30 Cash paid to Saleem & Co 15,000

Record these transactions in the journal?

10
 JOURNAL OF AFGHAN RELIEF AGENCY Page 1

Date Particulars L.F Debit Credit

Cash 1 50,000
Oct 01
To Donation 5 50,000
Rent 8 2,000
Oct 02 To cash 1 2,000
Rent paid
Furniture 5,000
Oct 03 To cash 5,000
Furniture purchases for cash
Purchases 20,000
Oct 10 To Saleem & Co 20,000
Goods purchased
Purchases 25,000
Oct 15 To ABC Ltd 25,000
Goods purchased
Cash 3,000
Oct 16 To Membership Fee 3,000

Cash 10,000
Oct 20
To Membership Fee 10,000
Salim & Co 15,000
Oct 30 To Cash 15,000
paid to Saleem & Co

From the above it may be seen that ledger folio column of ledger folio column is
blank. This indicates the page number format to which the respective debit or
credit entry shall be posted. A time of posting page number will have to be
recorded.

COMPOUND JOURNAL ENTRIES:

Sometime a single transaction (or a few transactions of the same nature) may be
such that it affects a number of accounts. In such case a single entry is passed
instead of separate entries.

ILLUSTRATION:
Afghan Relief Agency has received the following from its donor; machinery valuing
$.l0, 000, furniture worth $5, 000 and Cash 30,000 entry in the journal of Afghan Relief
Agency would appear as follows:
 PRINCIPLE OF ACCOUNTING

CHAPTER 04

LEDGER: When we have learnt, how the business transactions are recorded in journal, our task now is
to classify these transactions according to the accounts affected. In ledger we putt together all entries
relating to an account. In this way, we bring under the head of an account all the other accounts relating to
its kind. For example, if we want to know the total sales during a period, we can do so by putting together
all the amount of sales appearing on different pages in the journal.

theoriginal
containing
of Journal,entry.
record
the individual
of transactions
accounts
Distinction in aare
between classified
yet toand
ledger be Entries
manner
affected.
journal
10,000 are
broughtmade
A ledger
can be inaposted
in or
is
made chronological
After
group
as these
from order
of accounts
follows: the books
Machinery in
JOURNAL LEDGER
It is a book of original entry It is a book of second entry.
The process of recording transaction in The process of recording transaction in
the journal is called journalizing. the ledger is called posting.
The unit of classification is the date of
transaction. The unit of classification is the account
It contains entries in chronological order It contains entries in an analyzed form
and total effect in an individual account showing the total effect in an individual
is not known. account in any stage.

In the previous illustration we have seen a number of transactions affecting cash but after giving
effect through the journal we cannot easily see the net effect in the cash account. This is possible in
ledger.

A ledger may be a book. A loose leaf binder or a computer disc. In case of a book or lose leaf binder,
each page is used for a separate account.

Posting to the ledger may be made any time. Normally it is done at frequent intervals, such as the
end of each week, month, etc. in same organization such as banks posting to ledger account is made
simultaneously as the entry is made in the journal.

Form of a ledger:

Account Name of Account Account No.

Date Particular Folio Debit Date Particulars Folio Credit

From the above, it may be seen that ledger folio has two parts debit side & credit side. Sometimes
the format of the ledger is not like the above but it contains all the relevant information.

Posting is made in the following steps:

1. Locate the account to be debited /credited in the ledger.
 2. Enter the information in the respective columns and give the folio number of ledger.
3. Enter the account number reference in the journal to which the entry had been posted.

ILLUSTRATION:

The information of Afghan Relief Agency is produced for understanding the journalizing and
posting process.

Pass necessary entries in journal and pass them in the ledger account

SOLUTION:
Ledger Account of Afghan Relief Agency

Account
Account Cash
No 1
Folio Folio
Date Particular Debit Date Particulars Credit

Oct,01 Donation 1 50,000 Oct,02 Rent 01 2,000

Oct,16 Membership fee 1 3,000 Oct,03 Furniture 01 5,000
Membership fee
Oct,20 1 10,000 Oct, 30 Saleem & Co 02 15,000

Oct, 30 Balance C/F 02 41,000

63,000 63,000

Account No
Account Donation
5
Date Particular Folio Debit Date Particulars Folio Credit

Oct, 30 Balance C/F 50,000 Oct,01 Cash 1 50,000

50,000 50,000
Account Account
Purchases
No 15
Date Particular Folio Debit Date Particulars Folio Credit
Oct ,10 Salim & Co 1 20,000 Oct, Balance C/F 45,000
30
Oct, 15 ABC Ltd 1 25,000

45,000 45,000

Account Membership Account

Fee No 20
Date Particular Folio Debit Date Particulars Folio Credit
Oct,16 Cash 1 3,000

Oct 20 Cash 1 10,000

Account Account
Furniture
No 10
Date Particular Folio Debit Date Particulars Folio Credit
Oct,03 Cash 1 5,000 Oct, Balance C/F 5,000
30

5,000 5,000

Account Account
Rent
No 8
Folio
Date Particular Debit Date Particular Folio Credit
Oct,02 Cash 1 2,000 Oct, Balance C/F 2000
30

2,000 2,000
 Account Account
Saleem & Co
No 30
Folio
Date Particular Debit Date Particular Folio Credit
Oct,30 Cash 1 15,000 Oct 10 Purchases 1 20,000

Oct,30 Balance C/F 5,000

20,000 20,000

Account
Account ABC Ltd
No 31
Foli
Date Particular Debit Date Particulars Folio Credit
o
Oct 15 Purchases 1 25,000
Oct,30 Balance C/F 25,000
25,000 25,000

From the above, it may see that reference of the journal page1 has been given on each ledger entry.
Similarly the reference of each ledger page (account number) is given in the journal at their time of
posting. This facilitates any future referencing.

SUBSIDIARY LEDGERS:

Small organizations usually maintain a simple ledger. For large organizations where it is of
transactions of the same nature taken place, various accounts do not reflect the required
information. In such cases a general ledger is maintained to which all the entries are pasted to major
accounts. There details are kept in subsidiary ledger. For instance one account for debtors and
creditors each is kept in the general ledger and account of individual debtor and creditor is kept in
the subsidiary ledger. The sum of the balances of the subsidiary ledgers at any given date equals to
the balance of he related account appearing in the general ledger.

CLOSING THE BALANCE & PREPARATION OF TRIAL BALANCE:

At the end of an accounting period, after the work on posting of entries is completed, both the sides of
the ledger are totalled. The difference in the debit and credit side is worked out and written at the side
with a lower total so that total of both sides equals. In case the credit side is lower their balance would
be a debit balance. Similarly if the debit side is lower, the balance would be called as credit balance.

After the balancing process is over, a preliminary trial balance prepared. Trail balance is a statement of
containing end balances of all the ledger account s at a given date. If there is nothing wrong in the
posting process, total of the debit & credit side of the trial balance should be equal. The trial balance
verifies the mathematical accuracy of the debit and credit balances of the ledger accounts. It does not
verify that all transaction has been recorded, or if so whether they have been properly journalized and
posted to the proper accounts. The trial balances however provide basic information to facilitate the
adjusting entries and to properly utilize it in the financial statements. 15
Trial Balance is extracted from the illustration of the Afghan Relief Agency:
RELEIF AGENCY:

Trial Balance as on 30-10-2004

Ledger Account
L.F. Debit Credit
Cash 1 41,000
Donation 5 50,000
Rent 8 2,000
Furniture 10 5,000
Purchases 15 45,000
Membership Fee 20 13,000
ABC Ltd 31 25,000
Salim & Co 35 5,000
TOTAL 93,000 93,000

ADJUSTING ENTRIES:

At the end of each accounting period the accountant may realized that a number of transactions
relating to the business might have incurred but remained unaccounted for. This may be due to a
number of reasons such as
1. Such a transaction does not involve movement of cash during the accounting period.
2. The cash transaction incurred may be for a smaller or larger period than the accounting
period.
3. Inventory adjustments

ADJUSTED TRIAL BALANCE & STATEMENT:

As soon as the adjustment entries are passed in ledger accounts, a final or adjusted trial balance is
prepared. The adjusted trial balance lists all the ledger balances after the adjusting entries have been
posted.
We have now the basic data in the adjusted trial balance to facilitate the preparation of financial
statements, mainly to Income and Expenditure Statement and the balance sheet.

17
PRINCIPLE OF ACCOUNTING

CHAPTER 05

CASH BOOK

JOURNAL:

As we know journal is book of original entry and that keeping in view the size of organization and
number of transactions, special journal is maintained. The transactions in such organizations can
easily be grouped into following clauses.

1 Cash
2 Bank
3 Purchases
4 Purchases Return
5 Sales
6 Sales Return

Advantages of maintaining special journals are:

1 It is easy to record transactions of a similar nature

2 It is easy in posting.
3 It is easy for future referencing and evidence
4 The overall work of record keeping can be distributed amongst a number of persons.

CASH BOOK:

Most of business transaction result in payment of receipt of cash or bank cheque for the purpose
cash book is maintained, which is a book of original entry for recording transactions relating to cash
receipts and payments only. The cash book is not only the book of original entry but also serves as a
ledger account for cash transactions. It contains cash transaction in chronological order and as such
it serves a journal. On the other had it contains classified account of cash transaction as such it
serves as a ledger.

FORM & TYPES OF CASH BOOK:

Keeping in view the size of business and nature of transactions the following types of cash books are
used.
1. Single column
2. Cash Book with Cash/Bank Column
 SINGLE COLUMN CASH BOOK:

In this type of cash book only receipt and payments are recorded. One side of the cash book is
meant to record receipts and the other for payments. It is also called a simple cash book. Form and
the columns of simple cash book are given below:

Debit Receipts Payments Credit

Date Particular
Date Particular L.F Amount L.F Amount

HOW TO RECORD TRANSACTIONS:

Thefollowing procedure is adopted:

1. At the beginning of the day if there is a previous balance, it is recorded in the top left receipts
side.
2. While recording receipts; date, Particulars and amount of receipts are recorded on the left side
of the cash book.
3. Date, Particulars and amount of payments are recorded in the right side of the cash book.
4. The cash book is balanced at end of each day or appropriate period and the end balance is
taken to the next page.

ILLUSTRATION:

For the month of November cash transaction were incurred by M/S Ali Traders as follows:

Month Date Particulars Amount

November 2004 1 Beginning balance 36,000
3 Cash Sales 4,000
6 Cash received from Karim & Co 5,000
10 Cash paid Rent 2,000
13 Cash paid to ABC Ltd 20,000
18 Cash received from XYZ Ltd 10,000
24 Cash paid to Saleem & Co 5,000
28 Cash paid for electricity bill 1,000
30 Cash Sales 4,000

Enter there transactions in the cash book?

 Solution:

CASH BOOK

Amoun
Date Particular L.F Amount Date Particulars L.F
t
Nov, 1 Balance B/F 36,000 Nov, Rent 8 2,000
10
Nov ,03 sales 4,000 Nov, ABC Ltd 31 20,000
13
Nov,6 Karim & Co 35 5,000 Nov, Salim & Co 30 5,000
24
Nov, 18 XYZ Ltd 38 10,000 Nov, Electricity 9 1,000
28 Charges
Nov, 30 Sales 20 4,000 Balance C/F 31,000
Total 59,000 59,000

THREE COLUMN CASH BOOK:

Receipts Payments
Date Particular Ref Disc Cash Bank Date Particular Ref Disc Cash Bank
Opening balance

Closing balance

Feature of Three column cash book:

1. There are two main sides one is Receipts and Payments.

2. The first column is date. Each transaction should record on proper date.

3. The second column is for particular/ detail, transaction detail should be written.

4. The third column is use for discount.

5. The fourth column is use for the Cash. All the cash detail should be written in cash column.

6. The fifth column is use for bank transaction. All bank related transaction should be recorded in the
bank column.
Note that cash book contains its page number and similarly account pages contain their own page
numbers. While posting entries in cash book, ledger folio of the account head is entered and
similarly cash book folio is entered in Ledger account.

CASH/BANK COLUMN (TWO COLUMN CASH BOOK):

It is similar to the single column cash book but contains an additional column for bank account.
This not only serves as a ledger account for the bank but also ……….. a lot of accounts work.
Cheques received deposited the same day, it is entered on the debit side of the cash book and the
amount is recorded in the bank column. In case the cheque is not deposited in the bank, the
amount is recorded in the cash column.
Payment made by cheque is entered on the credit side of the cash book and the amount in the
bank column. If cash is deposited in the bank account entry, is made in the credit side and the
amount entered in the cash column. On the debit side the corresponding entry is made and
amount written in the bank column. This is called CONTRA Entry as it does not have any effect
on the ledger account.

POSTING TO LEDGER:

Contra entries are marked distinctly as “C” and are not posted. Bank debit entries are posted to
the respective credit side and credit entry is posted to the debit of the ledger accounts.

ILLUSTRATION:

The following are the transactions by M/S Ali Traders during the month of January 2004.

January 2004

1 cash beginning balance $ 31,400

2 Cash deposited in the bank $ 15,000
3. Purchases made and paid through cheque $ 7,800
5. Cheque received from XYZ Ltd and deposited in the bank $ 9,700
10. Paid cheque to ABC Ltd $ 10,800
12. Cash sales $ 5,000
14 cash deposited in bank $ 5,000
16. Cash purchases $ 7,000
20. Cash sales $ 6,000
22. Cash deposited in bank $ 5,000
24. Paid by cheque for cash purchases $ 2,000
28. Received cheque from XYZ Ltd $ 9,900
30. Paid cheque to ABC Ltd $ 4,900
Record these transactions in two column cash book.
 CASH BOOK OF ALI TRADERS

Dat Particular V.No L.F Cash Bank Date Particular V.N0 L.F Cash Bank
e
Jan,1 Balance b/f 31,400 Jan,2 By bank C 15,000

Jan,2 C 15,000 Jan,3 By purchases 7,800

Jan,5 To Cash 9,700 Jan,10 10,800

By ABC Ltd
Jan,12 To XYZ Ltd. 5,000 Jan,14 C 5,000
By bank
Jan,14 C 5,000 Jan,16 7,000
By
Jan, To Sales 6,000 Jan,22 purchases C 5,000
20
To C 5,000 Jan,24 By bank 2,000
Jan, Cash
22 9,900 Jan 30 By 4,900
To Purchases
Jan, Sales
28 By ABC Ltd
To
Cash

To XYZ Jan,30 10,400 19100

Ltd

By Bal C/F

42,400 44,600 42,400 44,600

PURCHASES Account
No
Date Particulars Folio Debit Date Particulars Folio Credit
Jan 3 Bank 7,800

Jan Cash 7,000

14
Jan Bank 2,000
22
 ABC Limited Account
No
Date Particulars Folio Debit Date Particulars Folio Credit
Jan Bank 10,800
10
Jan Bank 4,900
30

SALES Account
No
Date Particulars Folio Debit Date Particulars Folio Credit
Jan Bank 5,000
12
Jan Bank 6,000
20

XYZ Limited Account

No
Date Particulars Folio Debit Date Particulars Folio Credit
Jan 5 Bank 9,700
Jan Bank 9,900
28

In large business organizations almost all the receipts and payments are made through bank. Still
cash is needed for certain payments which cannot be made through cheque.

PETTY CASH BOOK:

To meet the day to day requirements, small amount are spent out of cash for lower expanses like
stationary, postage, local conveyance, office supplies etc. for convenience purpose an amount is kept
separately to meet such expenses and the transactions so incurred are recorded in special cash book
called petty cash book.

FORM OF PETTY CASH BOOK:

The petty cash book contains a column for recording receipts, date, Particulars, voucher. A number
of columns are then left for recording head wise payments. Every payment is recorded twice. 1st in
the total column and then in the head wise column. The total of the total column at any time would
agree to the grand total of the total of each column. The difference between the receipts total and
total of the payment column is cash in hand.

POSTING FROM PETTY CASH BOOK:

The posting to ledgers is normally made at the end of a month. The totals of each column of receipts
and payment are made directly to respective ledger accounts.
IMPREST SYSTEM:

This means a system where a certain sum of money called imprest is kept with a staff member to
meet petty payments. Sometimes imprest is kept with more than one staff member working in
different locations. Statement of payments supported with vouchers is prepared at frequent
intervals and sent to the chief cashier. The amount spent is reimbursed to meet payments for the
next period. Advantages of the petty cash or imprest is that

(a) Timely payments are possible at a place out of the reach of the main cashier.
(b) The petty cashiers or imprest holder has to maintain up to date record to get timely
reimbursement.

ILLUSTRATION:

The following transactions were incurred by petty cashier of M/S Ali Traders during the month of
February 2004.

February 1 Cash Received from main cashier $ 500

03 paid for stationery paid for $ 25

06 postage stamps $ 20

07 paid for stationery $ 15

10 Wages paid to $ 50
11 taxi charges paid $ 15
14 Bus fair paid $ 05
20 Tea expenses paid $ 30
25 purchased for office $ 10
28 Postage stamp purchased $ 20
28 Kitchen Expenses paid $ 310
Enter the above transaction in the petty cash book of Ali Traders.

Account
No 38
Receiv Dat V.N Tot Posta Station wag Conveya Entertain
Ed e Particulars o al ge Ary es nce Ment
500 Feb To Cash
1 To 25 25
3 Stationery 20 20
6 To Postage 15 15
8 To 50 50
10 Stationery 15 15
11 To wages 5 5
14 To 30 30
20 Conveyance 10
To 10
25 Conveyance
To 20 20
28 entertainme 310
nt 310
To
Entertainme
nt
To Postage

To Balance
500 40 40 50 20 40
PRINCIPLE OF ACCOUNTING

CHAPTER 06

BANKING TRANSACTIONS:

Small businesses such as retailer settle most of the transactions either through payment or receipts
of cash. Other business handles most of their transactions through bank. Banks take deposits and
such act as borrower. The funds so collected are invested by sending the same.

TYPES OF BANK ACCOUNTS

These are as follows

a. CURRENT ACCOUNT:

There is no limit on the amount and the number of times accounts are withdrawn. No interest is
normally allowed on current accounts. Business organizations usually keep current account so as to
have an easy access to cash.

b. SAVING BANK ACCOUNT

There is a limit on the amount and the number of times amounts are withdrawn. Banks allow
interest on the amount kept in the bank. These accounts are kept by persons intending to save small
accounts.

FIXED DEPOSITS:

Amounts are kept for a certain fixed period such as weeks, month, and three month, six month or
year. Interest is allowed by the bank keeping in view the period of deposit. Surplus funds are kept
in such deposits.

d. OTHERS:

The amounts for various other purposes such as securities. The bank lends money in the following
forms.

LOANS:

Funds are lend to the business organizations or general public for various purposes. Most of
these loans are either to be utilized in the acquisition of fixed assets or for the running of a
business and are for a fixed period. A certain fixed rate of interest is charged by the bank on
the loan.

OVERDRAFTS:

Through an arrangement with the bank, business organization is allowed to draw amount
more than their available balance.
Some other terms which are commonly used are:

CHEQUE:

It is an instrument originally supplied by the bank. It is issued as an instruction to the bank to pay a
certain amount to a person or business named in the cheque or to the bearer or to the order of such
person.

BANK DRAFTS:

Bank drafts are normally used to transfer money form one place to another. It is an instrument
issued by a bank instructing one of its branches to pay a certain amount to a person named therein.

BANK STATEMENT OR BANK STATEMENT:

Bank statement or bank statement is a copy of the ledger account of the customer as it appears in the
records of the bank. It shows the beginning balance, deposits in the customers account and with
drawl from the account and the balance at the end of the date. Bank statement is usually a small
booklet in a bind form whereas the bank statement is the same thing on loose leaf printed columer
paper.

DISHONOUR OF CHEQUE:

If there is no defect in the cheque and the amount mentioned on the cheque is available in the bank
accounts, the cheque is paid by the bank and it is said that the cheque has been honoured. In case,
for some reasons, given on an attached paper, the cheque is not paid, it is said to be dishonoured.

RECORDING BANKING TRANSACTIONS:

Bank for account purposes is treated as debtor or creditor. Entries are recorded in the following
manner.

1. When cash is deposited in the bank.

Bank account
To Cash account

2. When Cash is withdrawn from the bank

Cash account
To Bank account

3. When a cheque is received from a debtor

Bank account
To Debtors account
4. When a cheque deposited in the bank is dishonoured.
Bank account
To Debtors account (personal)

5. In case of loan/ overdraft the bank charges interest. When interest is charged by the bank .
Interest charges
Bank account

6. In case of saving or other interest earning accounts interest is allowed by the bank. On
receipts of the interest from the bank
Bank account
To Interest earned

7. When some service charges are recovered by the bank from the proceeds of a cheque, or
debited to the account.
Bank charges
Bank account

8. For various services commission is paid to the bank when a bank draft is prepared out of
Cash and the bank draft is sent to a creditor.
Creditor (Draft amount)
Bank Charges (Commission amount)
To Cash

Similarly When bank draft is prepared by issuing a cheque to the bank and the draft is sent to the
creditor.
Creditor
Bank charges
To bank account

ILLUSTRATION:

The following transactions were incurred by M/S Ali Traders during the month of February 2004.

Feb 1 Cash beginning balance

Feb 2 Amount deposited in HBL current a/c 10,000
Feb 3 Amount deposited in HBL saving a/c 10,000
Feb 5 Cheque received from XYZ Ltd are deposited in the HBL current a/c 2,000
Feb 6 Cheque issued for electricity charges 1,000 from current a/c HBL
Feb 6 Cheque issued for furniture purchases 5,000
Feb 8 Cheque received from Karim & Co and deposited next day 80,000 ABC current a/c
Feb 11 Cheque issued for bank draft $.2, 000 in favor of Lahore Traders for 2,020 Draft
Feb 15 received from XYZ Ltd and deposited in the bank 6,000
Feb 16 Bank informed that cheque of $. 80,000/- deposited on 9th Feb has been dishonoured
Feb 20 Fresh draft received from Karim & Co 8,000 and deposited in the bank
Feb 22 Rent paid by cheque 2,000
Feb 25 Cash with drawl from HBL current a/c 5,000
Feb 26 Cheque issued in form of Lahore Traders 3,000
Feb 27 Cheque received from Karim & Co 5,000 & deposited in bank.
Feb 28 Bank charged collective charges for cheque collected $.50 in the month of Feb

Enter the above transactions in Journal.

SOLUTION:

Date Particular Folio Debit Credit

February HBL current a/c 10,000
2,2004 To cash a/c 10,000
Cash deposited in the bank
February 3 HBL saving a/c 10,000
To cash a/c 10,000
Cash deposited in the bank
February 5 HBL current a/c 2,000
XYZ Ltd 2,000
Cheque received and deposited in
the bank
February 6 Electricity charges 1,000
HBL current a/c 1,000
Electricity charges paid by cheque
February 6 Furniture a/c 5,000
HBL current a/c 5,000
February 8 HBL current a/c 8,000
Karim & Co 8,000
Cheque deposited in bank
February 11 Lahore Traders 2,000
Bank charges 20
HBL current 2,020
Cheque issued for payment to
Lahore Traders and bank charges for
draft preparation
February 15 HBL current a/c 6,000
XYZ Ltd 6,000
Draft received & deposited
February 16 Karim & Co 8,000
HBL current a/c 8,000
Cheque dishonored & returned
February 20 HBL current a/c 8,000
Karim & Co 8,000
Draft received & deposited
 February 22 Rent a/c 2,000
HBL current a/c 2,000
Rent paid by cheque
February 25 Cash 5,000
HBL current a/c 5,000
Cash withdrawl for HBL a/c
February 26 Lahore Traders 3,000
HBL current a/c 3,000
Cheque issued
February 27 HBL a/c 3,000
Karim & Co 3,000
Cheque received & deposited
February 28 Bank charges 50
HBL current a/c 50
Bank collective charges in Feb 1991

BANK RECONCILIATION STATEMENT:

In the day to day business the transactions shown in the bank book of a trader are checked with the
entries shown in the records of bank. For this purpose, statement of account is obtained from the
bank and checked with the bank book. The balances shown in the statement of account at most of the
times do not tally with the balance given in the bank book. The causes of disagreement of the two
balances are as under.

1. The trader may have issued charges at the end of a certain period which might not have been
presented to the bank.
2. The bank may have received some cheques on behalf of the trader directly remained
unknown and unrecorded by the Traders.
3. The bank might have allowed interest on savings are accounts and remained unrecorded in
the books of Traders.
4. The bank might have debited commission or interest to the account of the trader but
remained unknown and unrecorded by the trader.
5. The trader may have deposited cheques/drafts but bank might not collect the same till the
date of the statement.
6. Some of the cheques/drafts deposited in the bank may have been dishonored and the effect
of dishonour remained unknown and unrecorded in the trade recorded.

In order to examine whether the disagreement is due to certain genuine reasons as described above
or there is some misappropriation of funds, a reconciliation statement is prepared and the causes of
disagreement discovered.
PREPARATION OF BANK RECONCILIATION STATEMENT:

The following steps are involved in the preparation of a bank reconciliation statement.

1. Check all the entries on receipts and payments side with the possible bank statement and tick
them.
2. prepare a list of unticked entries of the bank statement and record the same in the bank book
so as to work out the correct balance of the bank book
3. Prepare a list of unticked entries in the bank book and prepare the reconciliation statement by
using one of the following methods.

a) Starting from the cash book balance:

i. If there is a debit balance, deduct all cheques/drafts deposited in the bank but not
credited by the bank, and add all the cheques issued but not given in the bank
statement/bank statement (or not presented to bank for payment. The balance now would
agree with the bank statement.
ii. If there is a credit balance, add all cheques/drafts deposited in the bank, but not credited
in the bank and debit all cheques issued but not presented to the bank for payment. The
balance now would agree with the bank statement.

b) Starting from the bank statement:

If there is a credit balance in the bank statement ,add to it all cheques/drafts deposited but
not collected and credited by the bank and deduct all cheques issued but not presented to
bank for payment

If there is a debit balance in the bank statement debit all cheques/drafts deposited but not
collected and credited by the bank and add to it all cheques issued but not posted to the bank
for payment.

ILLUSTRATION:

On 30th June 2004, the balance of cash at bank as shown by the cash book of Afghan Relief Agency
was $. 4,500/- and in the bank statement the balance was shown at $. 19,500.

On checking the cash book with the bank statement it was found that.

a. Cheque of $. 2,000 deposited in bank on 27th June were not credited by the bank.
b. Two cheques issued to ABC Limited amounting $ 17,000on 24 th June 2004 were not
presented to the bank for payment.
Prepare bank reconciliation statement
SOLUTION:

Method 1 (starting from the cash book balance)

Balance as per cash book (debit)

4,500

Less cheques deposited but not collected 2,000 2,500

Add: cheques issued but not presented to the bank 17,000

Balance as per bank statements 19,500

Method II (Starting from the bank statement/bank statement)

Balance as per bank statement (credit) 19,500

Less cheques issued but not presented 17,000

2,500
Add cheque deposited but not collected 2,000
4,500

ILLUSTRATION:

Prepare Bank Reconciliation statement from the following data;

Cash Book Balance: $ 805.15

Balance as per Bank statement: $ 1,112.30
On investigation of the difference b/w two sums, it was established that

1. Cash Book has been under cast by $ 90 on the debit side.

2. Cheques paid in not credited by Bank: $208.20
3. Cheques drawn not yet presented to the bank for payment: $425.35

ILLUSTRATION:
A Company‟s bank statement shows $ 715 direct debits and $ 353 investment income not recorded
in cash book. The bank statement does not show a customer Cheque for $ 875. Cash Book shows a
Credit Balance of $ 610. What is the balance of Bank Statement? (1847 OD