INTRODUCTION TO ACCOUNTING

MEANING OF ACCOUNTING
The American Institute of Certified Public Accountants (AICPA) had defined accounting as
the art of recording, classifying, and summarising in a significant manner and in terms of
money, transactions and events which are, in part at least, of financial character, and
interpreting the results thereof’.
Accounting as a Source of Information
accounting is a definite process of interlinked activities, that begins with the identification of
transactions and ends with the preparation of financial statements. Every step in the process of
accounting generates information. To be useful, the accounting information should ensure to:
• provide information for making economic decisions;
• serve the users who rely on financial statements as their principal source of information;
• provide information useful for predicting and evaluating the amount, timing and uncertainty
of potential cash-flows;
• provide information for judging management’s ability to utilise resources effectively in
meeting goals
• provide factual and interpretative information by disclosing underlying assumptions on
matters subject to interpretation, evaluation, prediction, or estimation; and
• provide information on activities affecting the society.
Branches of Accounting
The economic development and technological advancements have resulted in an increase in
the scale of operations and the advent of the company form of business organisation. This has
made the management function more and more complex and increased the importance of
accounting information. This gave rise to special branches of accounting. These are :
Financial accounting: The purpose of this branch of accounting is to keep a record of all
financial transactions so that:
(a) the profit earned or loss sustained by the business during an accounting period can be
worked out,
(b) the financial position of the business as at the end of the accounting period can be
ascertained, and
(c) the financial information required by the management and other interested parties can be
provided.
Cost Accounting:
The purpose of cost accounting is to analyse the expenditure so as to ascertain the cost of
various products manufactured by the firm and fix the prices. It also helps in controlling the
costs and providing necessary costing information to management for decision-making.
Management Accounting:
The purpose of management accounting is to assist the management in taking rational policy
decisions and to evaluate the impact of its decisions and actions.
Tax accounting
(GST and income tax). The purpose of this accounting is to calculate the tax liabilities of
business.
Social responsibility: It involves the recording of transactions related to expenditure on
social benefits.
Functions of Accounting
Identification:
It involves observing all business activities and selecting those events or
transactions which can be considered as financial transactions.
Measurement: In Accounting we record only those transactions which can be
measured in terms of money or which are of financial nature. If a transactions
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or event cannot be measured in monetary terms, it is not considered for
recording in financial accounts.
Recording: Once the economic events are identified and measured in financial
terms, these are recorded in books of account in monetary terms and in a
chronological order. Recording should be done in a systematic manner so that
the information can be made available when required.
Classifying: Once the financial transactions are recorded in journal or
subsidiary books, all the financial transactions are classified by grouping the
transactions of one nature at one place in a separate account. This is known as
preparation of Ledger.
Summarizing: It is concerned with presentation of data and it begins with
balance of ledger accounts and the preparation of trial balance with the help of
such balances. Trial balance is required to prepare the financial statements i.e.
Trading Account, Profit & Loss Account and Balance Sheet.
Communication: The main purpose of accounting is to communicate the
financial information the users who analyse them as per their individual
requirements. Providing financial information to its users is a regular process.
Objectives of Accounting
(i) The main objective of the accounting is to keep systematic record of business
transactions. That is why, all financial transactions are first recorded in journal
and then posted into ledger.
(ii) Accounting is helpful in preventing and detecting the errors and frauds.
(iii) Accounting plays important role in calculating the profit or loss during a
particular period by preparing Trading account and Profit and Loss Account.
(iv) Accounting is helpful in ascertaining the financial position of the business.
(v) Accounting provides useful information to its users.
Qualitative Characteristics of Accounting
(i) Reliability: Accounting information should be reliable, verifiable and based
on facts.
(ii) Relevance: Only Relevant information should be disclosed. Information
which is irrelevant and useless should be not be the part of financial
statements.
(iii) Understandability: Accounting information should be presented in a very
simple way so that it is easy to understand by its users.
(iv) Comparability: Financial Statements should contains the figures of current
year as well as figures of previous year so that the current performance of the
business can be compared with the performance of previous year.
Advantages of Accounting
1. Financial Information about Business

2. Assistance to Management
3. Replaces Memory
4. Facilitates Comparative Study
5. Facilitates Settlement of Tax Liabilities
6. Facilitates Loans
7. Evidence in Court
Limitations of Accounting
1. Accounting is not Fully Exact
2. Accounting does not Indicate the Realisable Value
3. Accounting Ignores the Qualitative Elements
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4. Accounting Ignores the Effect of Price Level Change
5. Accounting may Lead to Window Dressing
Interested Users of Information
Many users need financial information in order to make important decisions. These users can be
divided
into two broad categories: internal users and external users.
Internal users include: Chief Executive, Financial Officer, Vice President, Business Unit
Managers, Plant Managers, Store Managers, Line Supervisors, etc.
External users include: present and potential Investors (shareholders), Creditors (Banks and
other Financial Institutions, Debenture holders and other Lenders), Tax Authorities,
Regulatory Agencies (Department of Company Affairs, Registrar of Companies, Securities
Exchange Board of India, Labour Unions, Trade Associations, Stock Exchange and
Customers, etc.
• The owners/shareholders use them to see if they are getting a satisfactory return on their
investment, and to assess the financial health of their company/business.
• The directors/managers use them for making both internal and external comparisons in their
attempts to evaluate the performance. They may compare the financial analysis of their
company with the industry figures in order to ascertain the company’s strengths and
weaknesses. Management is also concerned with ensuring that the money invested in the
company/organisation is generating an adequate return and that the company/organisation is
able to pay its debts and remain solvent.
• The creditors (lenders) want to know if they are likely to get paid and look particularly at
liquidity, which is the ability of the company/organisation to pay its debts as they become due.
• The prospective investors use them to assess whether or not to invest their money in the
company/organisation.
• The government and regulatory agencies such as Registrar of companies, Custom
departments IRDA, RBI, etc. require information for the payment of various taxes such as
Income Tax (IT), Customs and Excise duties for protecting the interests of investors,
creditors(lenders), and also to satisfy the legal obligations imposed by The Companies Act
2013 and SEBI from time-to time.
Different Roles of Accounting
(i) As a language – it is perceived as the language of business which is used to communicate
information on enterprises;
(ii) As a historical record- it is viewed as chronological record of financial transactions of an
organisation at actual amounts involved;
(iii) As current economic reality- it is viewed as the means of determining the true income of
an entity namely the change of wealth over time;
(iv) As an information system – it is viewed as a process that links an information source (the
accountant) to a set of receivers (external users) by means of a channel of communication;
(v) As a commodity- specialised information is viewed as a service which is in demand in
society, with accountants being willing to and capable of providing it.

BASIC ACCOUNTING TERMS

Business Entity: It means a specifically identifiable business enterprise like Super

Bazar, ITC Limited, Hira & Co. etc.
Transactions: An event involving some value between two or more entities.
Assets: - These are properties or economic resources of an enterprises which can be
expressed in monetary terms it can be divided in two parts
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1.Non current assets(more than 1 year period)
2. Current assets (less than 1 year period)
Liabilities: These are certain obligations or dues which business has to pay to outsiders. These
are of two types:
1. Noncurrent liabilities(payable in more than 1 year)
2 current liabilities (payable in one year)
Capital: It is amount invested by the owner of business.
Sales: It can be credit or cash, in which goods are sold and delivered to customers.
Revenues: It is the amount which is earned by selling of products and services.
Expenses: It is known as cost of assets consumed or services which used.
Expenditure: It means spending money for some benefit.
Profit: Excess of revenues over expenses is called profit.
Gain: It generates from incidental transaction such as sales of fixed asset, winning of court
case.
Loss: Excess of expenses over income is termed as loss.
Discount: It is defined as concession or deduction in price of goods sold.
Voucher: It is known as evidence in support of a transaction.
Goods: It refers all the tangible goods in which a business deals. (Raw material, work in
progress, finished goods.)
Drawings: Amount of goods or cash which is withdrawn from business for personal use by the
proprietor.
Purchases: It means of procurement of goods on credit or cash.
Stock: It is a part of unsold goods. It can be divided into two categories.
a. Opening stock
b. Closing stock.
Debtors: There are persons who owe to an enterprise an amount for buying goods and
services on credit.
Creditors: These are persons who have to be paid by an enterprise an amount for
providing the enterprise goods and services on credit.
Discount it is the reduction in the price of goods. It is of two types: cash discount and
trade discount. Trade discount is given to increase sales while cash discount is given for early
or prompt payment

THEORY BASE OF ACCOUNTING

The principles are generally accepted by the accountants as general guidelines for preparing
accounting records. These are classified as:
(i) Basic Assumptions/Concepts
(ii) Basic Principles
(iii) Modifying Principles/Conventions
BASIC ASSUMPTION/CONCEPTS
In order to make the accounting statements convey the same meaning to all people and to
make
them more meaningful, accountants have agreed on a number of assumptions/concepts, which
are usually followed in preparing accounting records. These are following:
1. Going Concern Assumption: According to this assumption, it is assumed that business will
continue to exist for a long period in future. All transactions are recorded assuming that
enterprise will continue in future for a long time. That is why fixed assets are recorded at their
cost price and depreciated during its useful life, irrespective of its market value, because fixed
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asset are not meant for resale in business. Also without this assumption, the classification of
fixed and current assets, current and long term liabilities is impossible.
2. Accrual Concept: Accrual concept holds the recognition of transactions as they occur,
whether receipt or payment for the same is made or not. The accrual concept recognizes
revenue when it earned rather than when it is collected and recognizes expense when they
occur
rather than when these are paid.
3. Concept of Consistency: This principle states that accounting principles and methods
followed for preparing accounting statements should remain consistent year after year. If this
concept is not followed, different results can be drawn from the same accounting data. E.g. if
method of calculation of depreciation is changed, the profit figure will distort and no longer
comparable.
BASIC PRINCIPLES:
On the basis of accounting assumptions, certain principles have been developed that guide how
transactions should be recorded and reported. Following are some of basic principles:
1. Accounting Entity Concept: According to this concept, a business is treated as an entity
distinct from its owners. Business has its separate books of accounts and all business
transactions are recorded from firm’s point of view and not from owner’s point of view. It this
assumption is not followed, the operating results and financial position of the business entity
can’t be ascertained correctly.
2. Money Measurement Principle: According to this principle, only those transactions and
events are recorded in books of accounts, which can be measured and expressed in terms of
money. Also, accounting records are made simple, understandable and homogeneous by
expressing all the items in a common unit of measurement i.e. money.
3. Accounting Period Principle: According to this principle, the entire life of the business is
divided into small time intervals for calculation of profits and losses of the business and for
ascertaining its financial position. Each time interval, for which results are calculated, is known
as an Accounting Period. Twelve months is usually adopted for this purpose. This accounting
period can be of two types i.e. calendar year (from 1st Jan. - 31st Dec.) or financial year (from
1st Apr. – 31st Mar.). In India, financial year is adopted as accounting year.
4. Dual Aspect Principle: According to this principle, every transaction has two aspects i.e.
debit and credit, and both are recorded at the time of occurrence of a transaction. Each
transaction affects at least two accounts, one is debited and other is credited. This system is
based on dual aspect and is called Double Entry System of Book Keeping.

5. Historical Cost Principle: According to this principle, an asset is recorded in the books of
accounts at the price at which it is acquired. Market value of assets and price level changes
(inflation and deflation) are ignored and not recorded. The cost of the asset relates to the past, it
is referred to as Historical Cost. If nothing is paid to
acquire assets of company, it is not recorded as an asset like increasing goodwill. 19
6. Principle of Full Disclosure: According to this principle, all significant financial information of
an entity should be completely disclosed in financial statements. It means disclosing sufficient
information, which is material to the interests of users of financial statements e.g. while reporting
sales during the year, sales returns should be disclosed separately as deduction from the amount
of sales, rather than showing the net sales for the year. As the huge amount of sales return can
raise the inquiry and may lead to corrective action.
7. The Revenue Recognition Concept: This concept holds that revenue is considered to have
been realized when a transaction has been entered into and the obligation to receive the amount
has been established. In other words, revenue is considered as being earned when goods are
sold or services rendered and not when cash is received.
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8. The Matching Concept: This principle holds that the cost incurred to earn the revenue
should be set out against the revenue in the period during which it is recognized as earned. For
matching expenses with revenue, first revenue is recognized and the costs associated with this
revenue are recognized.
9. Verifiable Objective Evidence/Objectivity Concept: All transactions, which are recorded
in books of accounts, must be supported by relevant vouchers e.g. invoices, bills, passbook etc.
Personal bias has no place in preparation and presentation of financial records.
MODIFYING PRINCIPLES/CONVENTIONS:
These are certain accounting principles, which can be modified by different accountants
according to the situations and requirements of business. Some of these are following:
1. Principle of Conservatism/Prudence: This principle tells us that all anticipated losses
should be recorded in books of accounts, but all anticipated and unrealized gains should be
ignored. Provision is made for all known liabilities and losses even though the amount can’t be
determined with certainty. It is the policy of playing safe. E.g. closing stock is valued at cost
or market price whichever lower and making provision for doubtful debts etc.
2. Principle of Materiality: According to this principle, only those items are to be disclosed
separately in financial statements which are material for decision making for the users of
financial statements of the business. Insignificant items or items which are not relevant to the
users need not to be disclosed separately in books of accounts. These can be merged with
other items. Here materiality based on both information and amount. An information is
considered material if this could change the decisions of a person to whom this information is
communicated. This principle is an exception to the principle of full disclosure.
ACCOUNTING STANDARDS
Accounting standards may be defined as written statements issued from time to time by
institutions of accounting professionals e.g ICAI, specifying uniform rules or practices for
preparing ad presenting financial statements.

BASIS OF ACCOUNTING :

(1) Cash basis

Under this entry in the books of accounts are made when cash received or paid and not when
the receipt or payment becomes due. For example, if salary Rs. 7,000 of January 2010 paid in
February 2010 it would be recorded in the books of accounts only in February, 2010.
(2) Accrual basis
Under this however, revenues and costs are recognized in the period in which they occur rather
when they are paid. It means it record the effect of transaction is taken into book when they are
earned rather than in the period in which cash is actually received or paid by the enterprise. It
is more appropriate basis for calculation of profits as expenses are matched against revenue
earned in the relation thereto. For example, raw materials consumed are matched against the
cost of goods sold for the accounting period.

GOODS AND SERVICES TAX

(One Country One Tax)

GST is a destination-based tax on consumption of goods and services. It is proposed to be
levied at all stages right from manufacture up to final consumption with credit of taxes paid at
previous stages available as setoff. GST has a dual aspect with the Centre and States
simultaneously levying on a common tax base. There are three main components of GST which

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are CGST, SGST, IGST CGST means Central Goods and Services Tax. Taxes collected under
CGST will constitute the revenues of the Central Government. SGST means State Good and
Services Tax. A collection of SGST is the revenue of the State Government. For example,
Ramesh a dealer in Punjab sell goods to Seema in Punjab worth ` 10,000. If the GST rate is 18%,
i.e., 9% CGST and 9% SGST, ` 900 will go to Central Government and 900 will go to Punjab
Government. IGST means Integrated Goods and Services Tax. Revenue collected under IGST is
divided between Central and State Government as per the rates specified by the Government.
IGST is charged on transfer of goods and services from one state to another. Import of goods and
services are also covered under IGST.
Characteristics of Goods and Services Tax
1. GST is a common law and procedure throughout the country under single administration.
2. GST is a destination-based tax and levied at a single point at the time of consumption of
goods and services by the end consumer.
3. GST is a comprehensive levy and collection on both goods and services at the same rate with
benefit of input tax credit or subtraction of value.
4. Minimum number of rates of tax does not exceed two.
5. There is no scope for levy of cess, resale tax, additional tax, turnover tax etc.
6. There is no multiple levy of tax on goods and services, such as sales tax, entry tax, octroi,
entertainment tax or luxury tax etc.
Advantages
1. Introduction of GST has resulted in the abolition of multiple types of taxes in goods and
services.
2. GST widens the tax base and increased revenue to Centre and State thereby reducing
administrative cost for the Government.
3. GST has reduced compliance cost and increases voluntary compliance.
4. GST has affected rates of tax to the maximum of two floor rates.
5. GST has removed the cascading effect on taxation.
6. GST will result in enhancing manufacturing and distribution system affecting the cost of
production of goods and services and consequently the demand and production of goods and
services will increase.
7. It will eventually promote economic efficiency and sustainable long-term economic growth
as GST is neutral to business processes, business models, organisational structure and
geographical location.
8. GST would help to extend competitive edge in international market for goods and services
produced in the country leading to increased exports.

MEANING OF ACCOUNTING EQUATION

Accounting equation signifies that the assets of a business are always equal to the total of its
liabilities and capital. The equation reads as follows:
Where,
A = Assets
L = Liabilities
C = Capital
The above equation can also be presented in the following forms as its derivatives to enable
the determination of missing figures of Capital(C) or Liabilities (L).
(i) A – L = C
(ii) A – C = L
Since, the accounting equation depicts the fundamental relationship among the components
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of the balance sheet, it is also called the Balance Sheet Equation. As the name suggests, the
balance sheet is a statement of assets, liabilities and capital.
Example 1.
Find the capital of the business if total assets are ₹1,70,000 and its liabilities are ₹70,000.
Solution:
Assets = Liabilities + Capital
So, Capital = Assets – Liabilities
Capital = 1,70,000 – 70,000 = ₹1,00,000
Example 2.
X commenced business on 1st April, 2016 with a capital of ₹50,000. On 31st March, 2017, his
assets were worth ₹95,000 and liabilities of ₹30,000. Find the capital at the end of the year
and profit earned during the year.
Solution:
Assets = Liabilities + Capital
So, Capital = Assets – Liabilities
Capital = 95,000 – 30,000 = ₹65,000
Profit = Closing Capital – Opening Capital
Profit = 65,000 – 50,000 = ₹15,000

RECORDING OF TRANSACTIONS I

Meaning of Debit and Credit

All accounts are divided into two sides. The left side of an account is traditionally called Debit side
and the right side of an account is called Credit side. Normally account is prepared in ‘T’ shape.
Double entry system is the most progressive, scientific and complete system of recording the
financial transaction of a business. According to this system there are two accounts involved in
every business transaction. One of them is debited and the other is credited.
Types of accounts:
There are 5 types of accounts as per Modern approach
1. Assets
2. Liabilities
3. Expenses and losses
4. Incomes and gains
5. Capital
Debit is written as Dr. and credit is written as Cr. An account is abbreviated as A/c.
Rule for Debit and Credit
1. Asset Accounts (Land and Building, Plant and machinery, furniture, stock, debtors, cash &
bank etc.) Debit the increases and Credit the decreases.
2. Liability Accounts (Creditors, bank loan, outstanding expenses, bills payable etc.)
Debit the decreases and credit the increases.
3. Capital Account (Capital account and drawings account)
Debit the decreases and credit the increases.
4. Income/ Revenue account (sales, discount received, interest received,
commission received, discount received, bad debts recovered etc.)
Debit the decreases and credit the increases.
5. Expenses/ loss Accounts (purchases, wages, salary, depreciation, bad debts,
rent, discount allowed etc.)
Debit the increases and Credit the decreases
On which side will increase in following accounts be recorded? Also, mention the
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nature of accounts are debited and credited?
1. Cash 2. Creditors 3. Bank loan 4. Stock 5. Rent received 6. Salary paid 7. Salary payable 8.
Rajan
(owner) 9. Soman (debtor) 10. Sharan (Customer) 11. Purchase 12. Sales 13. Interest Payable
Accrued Commission 15. Drawings 16. Discount received 17. Depreciation
Name of the Account Nature of the account Side in which Increase
will be recorded
1.Cash Asset Debit
2. Creditors Liability Credit
3. Bank loan Liability Credit
4. Stock Asset Debit
5. Rent Received Income/ Revenue Credit

JOURNAL

MEANING OF JOURNAL
A journal is a detailed account that records all of a company’s financial activities and is used for
future reconciliations and information transfer to other formal accounting records, such as the
general ledger. In a double-entry bookkeeping system, a journal records the date of a
transaction, which accounts were affected, and the balances.
A journal is a book of accounts that records every transaction that occurs in a business with
precise explanation for it. It is maintained day to day, hence the chances of mistakes occurring
are greatly reduced. There are generally six types of journal entries namely, opening entries,
transfer entries, closing entries, compound entries, adjusting entries, reversing entries, and each
represent a specific purpose for which such entries are made
Transactions related to Goods:
1. Goods purchased for cash:
Purchase A/c Dr.
To Cash A/c
(Being goods purchased for cash)
2. Goods purchased from ram on Credit:
Purchase A/c Dr.
To Ram
(Being goods purchased from Ram on credit)
3. Goods sold for cash:
Cash A/C Dr.
To Sales A/c
(Being goods sold for cash)
4. Goods sold on credit to Mohan:
Mohan Dr.
To Sales A/c
(Being goods sold to Mohan on credit)
5. Withdrawal of goods by owner for personal use:
Drawings A/c Dr.
To Purchase A/c
(Being goods withdrew by owner for personal use)
6. Goods distributed as free samples:
Advertisement A/c Dr.
To Purchase A/c
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(Being goods distributed as free samples)
7. Goods given as charity:
Charity A/c Dr
. To Purchases A/c
(Being goods given as charity)
8. Goods lost by fire/flood/theft etc.:
Loss by fire/theft A/c Dr.
To Purchase A/c
Transactions related to Bank:-
1. Cash deposited into the bank:
Bank A/c...... Dr.
To Cash A/c
(Being cash deposited to bank)
2. Cash withdrawn for office use:
Cash A/c...... Dr.
To Bank A/c
(Being cash withdrew from bank for office use)
3. When cheque is received from customer and deposited into bank same day:
Bank A/c..... Dr.
To Customer’s personal A/c
(Being cheques deposited into bank)
4. Cash withdrawn for personal use by owner:z
Cash A/c...... Dr
. To Bank A/c
(Being cash withdrew for personal use)
5. When cheque is received from customer and not deposited into bank same day:
Cheque-in-hand A/c.... Dr.
To customer’s personal A/c
6. When above cheque (Point 5) is deposited later into bank:
Bank A/c ......Dr.
To cheque-in-hand A/c
(Being cheques deposited into bank received from …………….. On ………)
7. When payment is made through cheque:
Personal A/c .......Dr.
To Bank A/c
(being payment made to …….. by cheque)
8. When expense is paid through cheque:
Expense A/c ........Dr.
To Bank A/c
(Being expense paid by cheque)
9. When interest is allowed by the bank:
Bank A/c........ Dr.
To Interest A/c
(Being interest allowed by bank)
10. When Bank charges for the services provided:
Bank Charges A/c...... Dr.
To Bank A/c
(Being Bank charges deducted)
Fixed Asset Related Transactions
Example:
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1. When furniture purchased for Cash Rs. 20,000
Furniture A/c Dr.
To Cash A/c
2. When furniture purchased from A Ltd on credit Rs.10,000
Furniture A/c Dr.
To A Ltd A/c
3. Depreciation charged on furniture Rs.2,000
Depreciation A/c Dr. 2,000
To Furniture A/c 2,000
4. When furniture sold for Rs.18,000
Cash A/c Dr.
To Furniture A/c
5. Bricks worth Rs.10,000 purchased for the construction of building
Building A/c Dr.
To Cash
6. Paid installation charges of machinery Rs.2,000
Machinery A/c Dr.
To Cash A/c
7. Purchased Furniture for Rs.10,000 and spent Rs.100 for its carriage
Furniture A/c Dr. 10,100
To Cash 10,100

1. Trade Discount: Trade discount is an allowance given by the seller of goods out of the
selling
price (list price or catalogue price). It is usually allowed by the wholesaler to the retailer, when
goods are purchased in large quantity. Trade discount is allowed on both on cash as well as
credit
transactions. Trade discount is related to the purchase and not to the payment. No separate
entry
is passed for the trade discount, as it is deducted in the invoice from the list price and the net
amount only is recorded in the books of accounts.
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2. Cash Discount
Cash discount is usually allowed by the seller to the customers (creditor to the debtor) to
encourage
prompt or early payment. Cash discount is allowed only if the customer/debtor makes the
payment
within a fixed period. When cash discount is allowed, it is an expense and debited to ‘Discount
allowed Account’ and when cash discount is received, it is a revenue and credited to ‘Discount
Received Account’. It is an expense for the business allowing and gain for the business availing
it.

CASH BOOK
A cash book can be defined as a financial journal which contains all the cash receipts and
disbursements. Cash Book also includes bank deposits and bank withdrawals. The entries that
come in the cash book are then posted into the general ledger. In the cash book entries, the
daily
cash receipts and cash payments are easily and smoothly analyzed. The Cash in hand at any
point
of time can be easily ascertained through the Cash Book balance.
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Types of Cash Book
1.Simple Cash Books- This is also known as the Single Column Cash Book. This cash book
will
only be recorded for the purpose of cash transactions. The cash that is coming in is known as
the
receipts which will be on the left and the cash payments are recorded on the right.

Two Column Cash- Here we have an additional column for the discounts. Thus, along with the
cash transactions, we are also required to have discounts in the same cash book. Hence both
the
discounts received and the discount which is given here is recorded.

Petty Cash Book- The firm usually has cash transactions which are happening in all the
departments. The cash transactions are then recorded in one of the above formats of the cash
books.
But there are a lot of cash transactions which are recorded for every small amount. Even the
dozens
of such transactions that occur in just one day are also recorded here. These are known as the
petty
transactions.

SUBSIDIARY BOOKS
The Subsidiary books are known as the books of original entry. In daily business transactions, a
majority of the transactions are either related to sales, or to purchases or to cash. Thus, we
record
the transactions of the same or similar nature in one place, that place is a subsidiary book. We
record the transactions chronologically to facilitate the accountant.
Types of Subsidiary Books
The subsidiary books are of various types which suit the needs of an organization. The types
are
as follows:
Cash book
Purchases book
Sales book
Purchases return or return outwards book
Sales return or return inwards book
Journal proper
Subsidiary Books of Accounts
The Subsidiary Books are the books of Original Entry. These books are also called Day Books
or
special journals. We record the transactions in this book which are of similar nature, the
recordings
are done in chronological manner in Subsidiary Books. Subsidiary books actually are helpful in
overcoming the limitations of journal books or journal entries.

LEDGER
Meaning of Ledger: After recording the business transactions in the Journal or special purpose
Subsidiary Books, the next step is to transfer the entries to the respective accounts in the
Ledger
Ledger is a book where all the transactions related to a particular account are collected at one
place.
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Definition: The Ledger is the main or principal book of accounts in which all the business
transactions would ultimately find their place under various accounts in a duly classified form.
Utility of Ledger: To know the collective effect of all the transactions pertaining to one
particular account. By this classification/collective effect, we are able to know the following-
It provides complete information about all accounts.
It provides position of Assets and Liabilities.
It facilitates the preparation of Trial Balance.
The Journal and the Ledger are the most important books of the double entry mechanism of
accounting and are indispensable for an accounting system.
Following points of comparison are worth noting :
1. The Journal is the book of first entry (original entry); the ledger is the book of second entry.
2. The Journal is the book for chronological record; the ledger is the book for analytical record.
3. The Journal, as a book of source entry, gets greater importance as legal evidence than the
ledger.
4. Transaction is the basis of classification of data within the Journal; Account is the basis of
classification of data within the ledger.
5. Process of recording in the Journal is called Journalising; the process of recording in the
ledger is known as Posting.

Bank Reconciliation Statement

Bank Reconciliation Statement is a record book of the transactions of a bank account.
This statement helps the account holders to check and keep track of their funds and update
the transaction record that they have made. Bank Reconciliation statement is also known
as bank passbook. The balance mentioned in the bank passbook of the statement must
tally with the balance mentioned in the cash book. In the statement, all the deposit will be
shown in the credit column and withdrawals will be shown in the debit column. However,
if the withdrawal exceeds deposit it will show a debit balance (overdraft).
Importance
While making a comparison between the company’s cash book and bank balance, the
balance does not tally. Therefore, it is important to determine the cause for the difference
and display them in the bank reconciliation statement and then tally the two balances. The
bank reconciliation statement helps in explaining the differences in the amount between the
company’s cash book and bank balance. The cash book and the bank passbook differences
are caused by:
The difference in timing can be caused by many factors which are:
1. Bank-issued cheque but not yet deposited for payment
2. Paid cheque in the bank but yet not cleared
3. Bank made direct debit from the customer’s side
4. Cheque/ amount deposited directly to the bank account
5. Dividends and Interest collected by the bank
6. Bank made direct payment from the customer’s side
7. Cheques deposited/bills discounted dishonoured
In a few occasions, the error in two balances can be made from the bank side or in the
company’s
cash book. Few errors are as follows:
1. Errors made while registering the transaction by the company
2. Errors made while registering the transaction by the bank
Types of Bank Reconciliation Statement
The Bank Reconciliation Statement can be prepared in 2 ways:
1. Documenting of bank reconciliation statement without adjusting the cash book balance.
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2. Filing of bank reconciliation statement after adjusting the cash book balance.
Steps to Prepare Bank Reconciliation Statement:
First, the date on which the statement is recorded is mentioned.
After which the balance displayed in the cash book is mentioned in the statement.
Sometimes, the balance mentioned in the passbook can also be mentioned.
The deposited cheques which are not collected are deducted.
Then the cheques issued but the deposited for payment, but amount directly deposited in the
bank
account are recorded
\
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All the transactions like overdraft interest, amount debited by the bank but not recorded in the
cash
book, cheques and bills dishonoured are deducted.
All the credits and profit collected by the company and directly deposited in the bank is added.
Adjustments of errors are made
Now the balance between the cash book and statement should be equal or the same.

Depreciation, Provisions and Reserves.

Meaning of depreciation:
Fixed assets are subject to decline in value and this decline is technically referred to as
depreciation. In other words, depreciation may be described as a permanent, continuing and
gradual shrinkage in the book value of fixed assets.
Features of Depreciation:
1. It is decline in the book value of fixed assets.
2. It includes loss of value due to effluxion of time, usage or obsolescence.
3. It is a continuing process.
4. It is an expired cost and hence must be deducted before calculating taxable profits.
5. It is a non-cash expense. It does not involve any cash outflow.
Depletion:The term depletion is used in the context of extraction of natural resources like
mines, quarries, etc. that reduces the availability of the quantity of the material or asset.
Amortisation:Amortisation refers to writing-off the cost of intangible assets like patents,
copyright, trade marks, franchises, goodwill which have utility for a specified period of time.
Causes of Depreciation:
1. Wear and Tear due to Use or Passage of Time
2. Expiration of Legal Rights
3. Obsolescence
4. Abnormal factors such as accidents due to fire, earthquake, floods, etc.
Need for Depreciation:
1.Matching of Costs and Revenue
2.Consideration of Tax
3.True and Fair Financial Position
4. Compliance with Law
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Factors Affecting the Amount of Depreciation:
The determination of depreciation depends on three parameters, viz. cost, estimated useful
life and probable salvage value.
Methods of Calculating Depreciation Amount :
1.Straight Line Method- It is also called fixed instalment method because the amount of
depreciation remains constant from year to year over the useful life of the asset. According
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to this method, a fixed and an equal amount is charged as depreciation in every accounting
period during the lifetime of an asset
Depreciation = Cost of asset - Estimated net residential value
Estimated useful life of the asset
Rate of Depreciation = Annual depreciation amount x100
Acquisition cost
Advantages of Straight -Line Method:
Straight Line method has certain advantages which are stated below:
1.It is very simple, easy to understand and apply. Simplicity makes it a popular method in
practice;
2.Asset can be depreciated up to the net scrap value or zero value.
3.Every year, same amount is charged as depreciation in profit and loss account. This
makes comparison of profits for different years easy.
4.This method is suitable for those assets whose useful life can be estimated accurately and
where the use of the asset is consistent from year to year.
2. Written Down Value Method:
Under this method, depreciation is charged on the book value of the asset. Since book
value keeps on reducing by the annual charge of depreciation, it is also known as ‘reducing
balance method’.
For example, the original cost of the asset is ₹ 2,00,000 and depreciation is charged @ 10%
p.a. at written down value, then the amount of depreciation will be computed as follows:
(i)Depreciation (I year) = ₹20,00,000 x10/100=₹ 20,000
(ii) Written down value = ₹ 2,00,000 – ₹20,000 = ₹1,80,000 (at the end of the I year)
(iii) Depreciation (II year) =₹ 1, 80, 000 ×10/100 = ₹18,000
(iv) Written down value = ₹1,80,000 – ₹18,000 = ₹1,62,000 (at the end of the II year)
(v) Depreciation (III year) =₹ 1, 62, 000 ×10/100 = ₹16,200
(vi) Written down value = ₹ 1,62,000 – ₹16,200 = ₹1,45,800
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Advantages of Written Down Value Method: Written down value method has the
following advantages:
1.This method is based on a more realistic assumption that the benefits from asset go on
diminishing (reducing) with the passage of time.
2.It results into almost equal burden of depreciation and repair expenses taken together
every year on profit and loss account.
3.Income Tax Act accept this method for tax purposes.
4.As a large portion of cost is written-off in earlier years, loss due to obsolescence gets
reduced.
5.This method is suitable for fixed assets which last for long and which require increased
repair and maintenance expenses with passage of time.

Provision: - Provision can be described as an amount kept aside to cover a known

expense/liability in the future.
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This is the fund that is to be put aside by a company/organisation to cover the anticipated
losses in the future. Example: - 1. Provision for depreciation. 2. Provision for bad debts. 3.
Provision for discount on debtors.
Reserves: -A part of the profit which may be set aside and retained in the business to provide
for certain future needs like growth and expansion or to meet future contingencies such as
workmen compensation.
Examples of reserves are: • General reserve; • Workmen compensation fund; • Investment
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fluctuation fund; • Capital reserve; • Dividend equalisation reserve; • Reserve for redemption
of debenture.
Difference between Reserve and Provision:
The points of difference between reserve and provision are explained below:
1. Basic nature: A provision is a charge against profit whereas reserve is an appropriation
of profit.
2. Purpose: Provision is made for a known liability or expense pertaining to current
accounting period, the amount of which is not certain. On the other hand, reserve is created
for strengthening the financial position of the business.
3. Presentation in balance sheet: Provision is shown either (i) by way of deduction from
the item on the asset side for which it is created, or (ii) on the liabilities side along with
current liabilities. On the other hand, reserve is shown on the liabilities side after capital.
4. Effect on taxable profits: Provision is deducted before calculating taxable profits. Hence,
it reduces taxable profits. A reserve is created from profit after tax and therefore it has no
effect on taxable profit.
5. Element of compulsion: Creation of provision is necessary to ascertain true and fair profit
or loss in compliance with ‘Prudence’ or ‘Conservatism’ concept. Whereas creation of a
reserve is generally at the discretion of the management. However, in certain cases law has
stipulated for the creation of specific reserves.
6. Use for the payment of dividend: Provision cannot be used for distribution as dividends
while general reserve can be used for dividend distribution.
Types of Reserves:
A reserve is created by retention of profit of the business can be for either a general or a
specific purpose.
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1. General reserve: When the purpose for which reserve is created is not specified, it is
called General Reserve. It is also General reserve strengthens the financial position of the
business.
2. Specific reserve: Specific reserve is the reserve, which is created for some specific
purpose and can be utilised only for that purpose.
Reserves are also classified as revenue and capital reserves.
Revenue reserves: Revenue reserves are created from revenue profits which arise out of the
normal operating activities of the business.
Examples of revenue reserves are: • General reserve; • Workmen compensation fund; •
Investment fluctuation fund; • Dividend equalisation reserve; • Debenture redemption
reserve;
Capital reserves: Capital reserves are created out of capital profits which do not arise from
the normal operating activities. Such reserves are not available for distribution as dividend.
Examples of capital profits, are: • Premium on issue of shares or debenture. • Profit on sale
of fixed assets. • Profit on redemption of debentures. • Profit on revaluation of fixed asset &
liabilities. • Profits prior to incorporation. • Profit on reissue of forfeited share
Difference between Revenue and Capital Reserve:
Revenue reserves and capital reserves are differentiated on the following grounds:
1. Source of creation: Revenue reserve is created out of revenue profits, which arise out of
the normal operating activities of the business. On the other hand capital reserve is created
primarily out of capital profit, which do not arise from the normal operating activities of the
business
2. Purpose : Revenue reserve is created to strengthen the financial position, to meet
unforeseen contingencies or for some specific purposes. Whereas capital reserve is created
for compliance of legal requirements or accounting practices.
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3. Usage : A specific revenue reserve can be utilised only for the earmarked purpose while a
general reserve can be utilised for any purpose including distribution of dividend. Whereas
a capital reserve can be utilised for specific purposes as provided in the law in force, e.g., to
write off capital losses or issue of bonus shares.
Secret Reserve :Secret reserve is a reserve which does not appear in the balance sheet. It
may also help to reduce the disclosed profits and also the tax liability. The secret reserve can
be merged with the profits during the lean periods to show improved profits.
Secret reserve can be created by way of :

TRIAL BALANCE & RECTIFICATION OF ERRORS

Meaning of Trial Balance: When posting of all the transactions into the Ledger is
completed and accounts are balanced off, then the balance of each account is put on a list
called
Trial Balance.
Definition: Trial Balance is the list of debit and credit balances taken out from ledger. “It also
includes the balances of Cash and bank taken from the Cash Book”.
Preparation : Steps (Balance Method)
1. Ledger A/c’s which shows a debit balance is put on the Debit side of the trial balance.
2. The A/c Showing credit balance is put on the Credit side of Trial Balance.
3. Accounts which show no balance i.e. whose Debit and Credit totals are equal are not entered
in Trial Balance.
4. Then the two sides of the Trial Balance are totalled. If they are equal it is assumed that there
is no arithmetical error in the posting and balancing of Ledger A/c’s.
Objectives or Functions of Trial Balance:
It helps in ascertaining the arithmetic accuracy of ledger accounts.
Helps in locating errors.
Provides the summary of Ledger A/c’s.
Helps in the preparation of Final A/c’s

RECTIFICATION OF ERRORS
Classification of Errors
Keeping in view the nature of errors, all the errors can be classified into the following in four
categories:
• Errors of Commission
• Errors of Omission
• Errors of Principle
• Compensating Errors
ERRORS OF COMMISSION
These are the errors which are committed due to wrong posting of transactions, wrong totalling
or wrong balancing of the accounts, wrong casting of the subsidiary books, or wrong recording
of amount in the books of original entry, etc. For example: Raj Hans Traders paid Rs. 25,000
to Preetpal Traders (a supplier of goods). This transaction was correctly recorded in the
cashbook But while posting to the ledger, Preetpal’s account was debited with Rs. 2,500. only.
This constitutes an error of commission. Such an error by definition is of clerical nature and
most of the errors of commission affect in the trial balance.
ERRORS OF OMISSION
The errors of omission may be committed at the time of recording the transaction in the books
of original entry or while posting to the ledger. These can be of two types:
(i) errors of complete omission
(ii) errors of partial omission
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ERRORS OF COMPLETE OMISSION – When a transaction is completely omitted from
recording in the books of original record, it is an error of complete omission.
FOR EXAMPLE- Credit sales to Mohan ₹. 10,000, not entered in the sales book.
ERRORS OF PARTIAL OMISSION - When the recording of transaction s is partly omitted
from the books, in the above EXAMPLE, credit sales had been duly recorded in the sales book
but the posting from sales book to Mohan’s account has not been made, it would be an error of
partial omission.
ERRORS OF PRINCIPLE –
Accounting entries are recorded as per the generally accepted accounting principles. If any of
these principles are violated or ignored, errors resulting from such violation are known as errors
of principle. An error of principle may occur due to incorrect classification of expenditure or
receipt between capital and revenue. This is very important because it will have an impact on
financial statements. It may lead to under/over stating of income or assets or liabilities, etc.
ERROR OF COMPENSATING
When two or more errors are committed in such a way that the net effect of these errors on the
debits and credits of accounts is nil, such errors are called compensating errors. Such errors do
not affect the tallying of the trial balance.
.
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RECTIFICATION OF ERRORS
From the point of view of rectification, the errors may be classified into the Following into two
categories:
(a) errors which do not affect the trial balance.
(b) errors which affect the trial balance.
This distinction is relevant because the errors which do not affect the trial balance usually take
place in two accounts in such a manner that it can be Easily rectified through a journal entry
whereas the errors which affect the trial balance usually affects one account and a journal entry
is not possible for Rectification unless a suspense account has been opened.
RECTIFICATION OF ERROR WHICH DO NOT AFFECT THE TRIAL BALANCEThese
errors are committed in two or more accounts. Such errors are also known As two sided
errors. They can be rectified by recording a journal entry giving the Correct debit and credit to
the concerned accounts.
The rectification process essentially involves:
• Cancelling the effect of wrong debit or credit by reversing it; and
• Restoring the effect of correct debit or credit.
For this purpose, we need to analyse the error in terms of its effect on the Accounts involved
which may be:
(i) Short debit or credit in an account; and/or
(ii) Excess debit or credit in an account.
Therefore, rectification entry can be done by:
(i) Debiting the account with short debit or with excess credit,
(ii) Crediting the account with excess debit or with short credit.
The procedure for rectification for such errors is explained with the help of Following
examples:
(a) Credit sales to Mohan ₹. 10,000 were not recorded in the sales book. This is an error of
complete omission. Its affect is that Mohan’s account has not been debited and Sales account
has not been credited. Accordingly, recording usual entry for credit sales will rectify the error.

RECTIFICATION OF ERROR WHICH AFFECT THE TRIAL BALANCE –

The errors which affect only one account can be rectified by giving an explanatory note in the
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account affected or by recording a journal entry with the help of the Suspense Account. such
errors are error of casting; error of carrying forward; error of balancing; error of posting to
correct account but with wrong amount ; error of posting to the correct account but on the
wrong side ; posting to the wrong side with the wrong amount; omitting to show an account in
the trial balance .

SUSPENSE ACCOUNT
Even if the trial balance does not tally due to the existence of one sided errors, accountant has
to carry forward his accounting process prepare financial statements. The accountant tallies
his trial balance by putting the difference on shorter side as ‘suspense account’.

FINANCIAL STATEMENTS OF SOLE PROPRIETORSHIP

“Financial Statements of a company shows its financial position for the current year”
Meaning :
The financial statements provide a summary of the accounts of a business enterprise.
Financial statements include two statements include two statements:
i) ‘Trading and Profit and Loss Account’ or Income Statement’ (To Know Profit or loss)
ii) Balance Sheet (To know value of assets and liabilities on the closing date of an
accounting period)
The basic objectives of preparing financial statements are :
(a) To present a true and fair view of the financial performance of the business;
(b) To present a true and fair view of the financial position of the business; and
For this purpose, the firm usually prepares the following financial statements:
1. Trading and Profit and Loss Account 2. Balance Sheet
Capital Nature Items:
Capital Expenditure: Those expenditures which are incurred in acquiring and increasing the
value
of fixed assets. Ex.
1. Purchase of fixed assets or bringing into existence of fixed assets
2. Expenditure incurred on erection of a fixed asset
3. Payment of goodwill
4. Decrease in long term debts.
5. Capital Receipts: Any receipt from the sale of fixed assets is known as capital receipt.
Revenue Nature items :
Revenue Receipts: Receipts in the business of recurring nature are called as Revenue receipts
ex:
rent received, discount received, commission received
Revenue Expenditures: Recurring nature of expenditure done in the business which are done in
order to earn profit are known as revenue expenditure ex.:
1. Purchase of goods during the year
2. Money spent in acquiring or manufacturing goods like freight, carriage, wages etc.
Any expenses for meeting day to day business like wages, salaries, postage etc.

COST OF GOODS SOLD

Cost of goods sold is computed in two ways :
(i) Cost of goods sold or cost of sales = Sales – Gross profit
(ii) Cost of goods sold = Opening stock + Purchases + Direct expenses – Closing stock

OPERATING PROFIT AND NET PROFIT

After getting Gross Profit from the business. Profit may be divided into two parts :
1 Operating Profit, 2 Net Profit
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Similarly, sales constitute the main item of revenue for the business. The excess of sales over
purchases and direct expenses is called gross profit. If the amount of purchases including direct
expenses is more than the sales revenue, the resultant figure is gross loss. The computation of
gross
profit can be shown in the form of equation as : Gross Profit = Sales – (Purchases + Direct
Expenses)
Operating Profit: Operating profit is that profit which is earned through the normal activities of
the business. It can be ascertained by deducting all operating expenses from the gross profit.
2. Net Profit: Net profit is that profit which is earned after deducting all operating as well as
nonoperating
expenses from the Gross Profit
Profit and Loss Account :
Profit and loss account is prepared to know the result of the business in the term of net profit

Balance Sheet The Balance Sheet is a statement prepared for showing the financial position of
the
business summarizing its assets and liabilities at a given date.
Grouping and Marshalling of Assets and Liabilities: Grouping: The term ‘Grouping’ means
putting
together items of a similar nature under a common heading. For example, under the heading
‘trade
Creditors’ the balances of the ledger accounts of all the suppliers from whom goods have been
purchased on credit, will be shown.
Marshalling: It refers to the order in which the various assets and liabilities are shown in the
Balance Sheet. The assets and liabilities can be shown either in the order of liquidity or in the
order
of permanence.
METHOD FOR CALCULATION OF MANAGER’S COMMISSION
(i) On net profit before charging such commission
Manager’s commission = Net profit X Rate/100
(ii) On net profit after charging such commission :
Manager’s commission = Net profit X Rate/ 100+ Rate
Wasting Assets: - Assets which are exhausted during the working are called wasting assets.
For
exp. Mines, oil wells etc.
Contingent liabilities: - Liabilities the happening of which is uncertain are called contingent
liabilities. For exp. – case of bonus pending in the court, bill discounted not yet matured. It is
stated as footnote below the balance sheet.

Common mistakes by students:

1- Calculation of Cost of Goods Sold
Solution : To calculate Cost of Goods Sold the following formula will be applied :
COGS = Opening Stock + Net Purchase + Direct Expenses
(Carriage on purchase + wages) – Closing Stock
2- Confusion in calculating operating profit :
Solution: To calculate operating profit the following formula will be
used :
Operating Profit = Net Profit + Non Operating
Expenses – Non Operating Incomes
3- Marshalling and Grouping of Assets and Liabilities:
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Solution: Arrangement of assets and liabilities in a particular order is known as
marshalling.
4- Provision for Bad Debts:
First of all deduct bad debts given in adjustment from the debtors
Calculate provision for doubtful debts on the amount of debtors
Deduct the amount of provision for doubtful debts given in credit side of trial balance

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