Accounting Basics

1. What is Accounting?
Ans: Accounting is a process of identifying economic events and then recording them
into the business accounts and then communicating the results of such recording to
the users of Accounting information.

2. What are events and economic events?

Ans: Anything that happens are called events. For example, my uncle is affected by
COVID 19.
The events which can be measured in terms of money are called economic events.
And anything which cannot be measured in terms of money are called events. For
example my aunt paid money for hospital bill for the treatment of my uncle. So it’s
an economic event. Economic events are also called transactions. In Accounting we
record economic events/transactions in the books not events.

3. What are the examples of Accounting information?

Ans: Accounting information might include information about:
i. Profit
ii. Cash balance
iii. Bank balance
iv. Total amount owed by the business
v. Total amount owed by customers to the business

4. Who are users of accounting information?

Ans:
i. Owners: They want to know the profit of the business.
ii. Bank wants to know your ability to pay the loan. That’s why bank wants to
see profit of the business.
iii. Government wants to calculate tax on profit. That’s why govt needs
information about profit.

5. How transactions are recorded in accounting books?

Ans: Transactions are recorded in accounting books using double entry system.

6. What is double entry system?

Ans: Double entry system is a system in which each transaction is recorded twice, i.e.
one is debit and another one is credit.

7. What is debit and credit?

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 Ans: Debit is the left hand side of an account and credit is the right hand side of an
account.
Left side Account Right side
Debit Credit
Date Details £ Date Details £

8. What is Accounting Equation?

Ans:
Asset = Liability + Equity
Liability= Asset – Equity
Equity= Asset – Liability

9. What is Asset and what are its examples?

Ans:
Assets are resources owned by the business. For example:
i. Cash
ii. Bank balance
iii. Inventory
iv. Property
v. Motor vehicles
vi. Office equipment
vii. Computer
viii. Land
ix. Furniture
x. Fixtures and fittings
xi. Machinery
xii. Plant and equipment
xiii. Trade receivable
xiv. Building

10. What are the types of asset?

Ans: Assets are of two types:
1. Non-current assets

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 2. Current Assets
11. What is non-current asset?
Ans: Non-current assets are those assets which were bought for use in the business but
not for resale and which can be used for more than 1 year. Non-current assets are also two
types: a. Tangible non-current assets and b. Intangible non-current assets. Tangible non-
current assets are those assets which have physical existence. For example, Property, Motor
vehicles, Office equipment, Computer, Land, Furniture, Fixtures and fittings, Machinery,
Plant and equipment, Building. Intangible Non-current assets are those assets which do not
have physical existence. For example, Patent, Copyright, Good will etc.

12. What is current asset?

Ans: The assets which have a life of less one year is called current assets. For example:
i. Cash
ii. Bank balance
iii. Trade receivable
iv. Inventory
13. What is Liability?
Ans: The full responsibility for the debts of the business. In other words, the amount to
be paid to suppliers is called liability. There are two types of liability: Non-current
liability and Current liability.
14. What is non-current liability?
Ans: The liability which will be paid after more than one year is called non-current
liability. For example a loan is taken from bank on 2018. The loan will be repaid on 2025.
Examples of non-current liabilities are:
i. Loan from bank
ii. Loan from friends and family

15. What is current liability?

Ans: The liability which will be paid in less than one year is called current liability. For
example a loan is taken from bank on February 2018. The loan will be repaid on
November 2018. Examples of current liabilities are:
i. Trade payable
ii. Bank overdraft

16. What is Equity?

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 Ans: Money or any asset invested by the owner in to the business is called equity. For
example:
i. Owner invested 7000 cash in the business
ii. Owner withdrew 3000 from his own bank account and invest it in the business.
iii. Owner purchased a motor car for 2000 for the business from his own personal
funds.
Total equity is 7000+3000+2000=12000.

17. What is drawings?

Ans: Money withdrawn from the business by the owner for personal use is called drawings.
There are three types of drawings:
a. Cash drawings: Owner withdrew 3000 cash from business for personal use.
b. Drawings by cheque: Owner withdrew 4000 by cheque from business bank
account.
c. Goods/stock drawings: Owner withdrew goods from business for his personal
use.

18. What are the classes of Accounts?

Ans: There are total 6 classes of accounts:
i. Expense (E)
ii. Drawings (D)
iii. Assets (A)
iv. Capital/equity (C)
v. Income (I)
vi. Liability (L)

‘’E D A C I L’’
19. Explain the meaning of classes of Accounts.
Ans:
i. Expense (E): Money used for using resources.
ii. Drawings (D): Money withdrawn from the business by the owner for personal
use is called drawings.
iii. Assets (A): Assets are resources owned by the business.
iv. Capital/equity (C): Money or any asset invested by the owner in to the business
is called equity.
v. Income (I): Money earned from selling goods and services.

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 vi. Liability (L): The full responsibility for the debts of the business. In other words,
the amount to be paid to suppliers is called liability.
20. Give examples of each class of accounts.
Ans:
i. Expense (E):
a. Electricity bill/Water bill/Gas Bill/Utility bill
b. Rent
c. Taxes/business rates/tax on business property
d. Advertisement
e. Insurance
f. Wages
g. Salaries
h. Interest on loan
i. Depreciation
j. Stationery
k. Commission
l. Discount Allowed
m. Motor expense
n. General expense/Miscellaneous expense/Sundry expenses
o. Postage
p. Cleaning
q. Carriage outward (delivery charge)

ii. Drawings (D):

a. Cash drawings
b. Goods/stock drawings

iii. Assets (A):

Current Assets:
a. Cash
b. Bank balance
c. Trade receivable
d. Inventory

Non-Current Assets:
Tangible Assets:
a. Property
b. Motor vehicles
c. Office equipment

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 d. Computer
e. Land
f. Furniture
g. Fixtures and fittings
h. Machinery
i. Plant and equipment
j. Building
k. Premises
l. Land

Intangible Assets:
a. Copyright
b. Goodwill
c. Patent

iv. Capital/equity (C):

a. Started business with cash/ bank
b. Introduce new capital into the business
v. Income (I):
a. Revenue (Money earned from sell of goods and services)
b. Discount received
c. Commission received
d. Rent/fees/interest received

vi. Liability (L):

Non-current liability:
a. Bank loan/Loan from bank
b. Loan from friends and family

Current liability:
a. Bank overdraft
b. Trade payable

21. What is the rule of double entry system?

Ans:
EDA
i. Expense (E): Increase ‘Debit’ and decrease ‘Credit’
ii. Drawings (D): Increase ‘Debit’ and decrease ‘Credit’
iii. Assets (A): Increase ‘Debit’ and decrease ‘Credit’

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 CIL
i. Capital/Equity (C): Increase ‘Credit’ and decrease ‘Debit’
ii. Income (I): Increase ‘Credit’ and decrease ‘Debit’
iii. Liability (L): Increase ‘Credit’ and decrease ‘Debit’

22. How to do Journal Entries?

Ans:
Step 1: Identify two accounts from each transaction.
Step 2: Identify in which class each account will fall.
Step 3: Identify whether each class increasing or decreasing.
Step 4: Identify debit and credit of each account using the formula of double entry system.

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 (ACCOUNTING THEORIES) – A STUDY GUIDE TO ACHIEVE 9/A*
Author : Mohammed Abyad Ahmed Ayan

VOLUME 1
THIS VOLUME IS CREATED FOR INDIVIDUALS WHO HAVE A VERY LOW EXPERIENCE ON SOLVING
ACCOUTING PROBLEMS AND DESCRIBING EVALUATIONS, CONCEPTS AND THEORIES.

THE FIRST VOLUME IS CREATED BY THE AUTHOR FROM PERSONAL EXPERIENCES ON ACCOUNTING.
SOURCES FROM INTERNET IS ALSO USED SUCH AS (TAK)/ TAUSIF ALAM KHAN ACCOUNTING WEBSITE
AND THE IGCSE EDEXCEL STUDY GUIDE AND PAUL RUSSEL ROZARIO’s GUIDANCE AND NOTES.

THE FIRST VOLUME IS A LEAN STEP TO UNDERSTAND THE COMPLEXITY OF QUESTIONS IN EXAMS. IF
YOU REVISE EACH OF THESE PAGES IN THE FIRST VOLUME APPROPRIATELY, YOU WON’T
NECESSARILY REQUIRE THE VOLUME 2.

Within each Section A, 5 mark question in every paper, candidates are consistently presented with a task to fill in
various documents, typically centred around completing invoices. Occasionally, this may extend to credit notes and
statement of accounts.

- Section B consistently features a 15 mark question related to either the petty cashbook or cashbook. Given the
presence of a cashbook in the May 2023 paper, it's highly likely that the upcoming paper will include a question on
the petty cashbook.

- There is a possibility of a 5 mark question where candidates are required to identify source documents or books of
entry.

- There is also a possibility of encountering a question in which candidates may be required to prepare daybooks such
as the sales daybook, purchase daybook, return inward daybook, or return outward daybook. In addition to these
daybooks, candidates might need to set up the corresponding ledger accounts, including the sales account, purchase
account, return inward account, or return outward account – SOURCE – (TAK/ TAUSIF ALAM KHAN)

TOPIC 1: BOOKS OF ENTRY & SOURCE DOCUMENTS

WHAT TO REVISE:

1. Complete the following documents: Invoice, Credit note & Statement of accounts
2. Identify source documents & books of original entry
3. How to prepare three column cashbook
4. How to prepare petty cashbook

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5. How to prepare sales, purchase, return inward & outward daybook (May 2023(R), Q;14)
5. How to prepare discount allowed & discount received account from cashbook

6. How to prepare expenses account from petty cashbook

THEORY

- Benefits of preparing petty cashbook.

1) It helps in providing training for junior staffs or members who are not experienced

2) It reduces the overcrowd of transactions in the main cash book

3) It reduces workload/pressure from the administrative cashier or main cashier who is already loaded with other
tasks and activities in the main cash book.

4) It is used for recording small items on expenditures.

5) The petty cashbook does not contain transactions of the main cashbook which makes it easy to record small
stationary items.

6) It monitors all the small expenses efficiently.

- Why petty cashbook balance may differ from the amount in petty cash box. (Jan 2023, Q:16c)

1) The petty cashier might have forgotten to record a transaction.

2) Voucher not recorded by the petty cashier. / Voucher missing.

3) Some cash might have been stolen from the business.

4) The cash due from the main cashier has not been recorded

5) There may be some error in the petty cash book

- Definitions/ Purpose for different types of source documents (Jan 2020 Q:14)

Purchase Order: Sent by the buyer to order goods from the supplier

Invoice: Sent by the supplier to the buyer when goods are delivered advising of amount owed.

There are two types of Invoice:

Purchase Invoice: Sent by buyer to supplier.

Sales Invoice: Sent by the customer to supplier

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Credit Note : Sent by the supplier to the buyer to credit buyer for the return of goods.

(DEBIT NOTE is not included in the syllabus exactly, but it might be often be used in Bank reconciliation chapter and
other important chapters, therefore it should understand), Don’t confuse direct debit with debit note.

Credit Note Received: It is received by the customer for purchase returns

Credit Note Issued : It is sent by the customer to the supplier (sales return) due to being either faulty/damaged or
overpayment to the supplier.

Statement of Account: At the end of each month business sents out a document known as statement of account, the
statement of account contains details of all the customer’s transactions during the previous month. It then lists the
amount owing from the current month’s invoices. Any amounts that have been paid are deducted, credit notes are
also included. This results in the total amount outstanding. The total amount is then due for each month. In summary,
it is a summary of transactions that is accumulated and sent to the customer at the end of each month, reminding
them to clear their fees/ transactions within the correct date.

Remittance Advice: A remittance advice is a note sent from the customer to the supplier informing the supplier that
they have paid their invoice.

Cheque: A cheque is a written order to a bank to pay a stated sum of money to the person or business named on
order.

Receipts: A receipt is a written acknowledgement of money received and acts a proof of payment.

Cheque Stub: Evidence of money paid into the bank account respectively
Cheque Counterfoil: Given by the bank as a proof of the payment

Paying Slip: It is exactly same as Cheque stub

(NOTE; In some books, there are terms like “Wages Sheet”, this can come unexepectedly, but from 2011 Jan to 2023
october, there was no appearance of this)

Wages Sheet simply is the list of employees who receive wage or money from the firm.

DAYBOOK
Sales Day book – Used for Credit Sales

Purchases day book – Used for Credit purchases.

Purchases returns day book – Used for recording purchase returns/ return outwards to suppliers.

Sales returns day book – Used for recording sales returns/ return inwards by customers

Cash book: Used for recording receipts and payments of cash

Petty Cash book: Used for recording small items and expenditures

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Journal: Used for other items, such as non current asset purchase on credit, trial balance errors, writing off
irrecoverable debts, disposal of non current asset and other items.

IMPORTANT TIPS:
1. How to calculate discounts for both before and after payment in cashbook (Nov 2021 Q:15, check transaction on
16 Aug and 30 Aug)
2. How to restore petty cashbook both at the end and beginning of the month.

(THIS IS IMPORTANT FOR STUDENTS TO FACILIATATE THEIR UNDERSTANDING ON HOW TO CALCULATE

DISCOUNTS AFTER OR BEFORE)

Let me demonstrate you to the rules of increased or decreased percentage:

Ayan buys an asset for 5 taka, next year the asset increases to an amount, which is a 10% increase than
before.

INCREASE = (100+10) = 110%

110% x 5 = 5.5

Now what if I had said, that the asset decreases by 10%, then the same notion, but different operation.

DECREASE = (100-10) = 90%

90% x 5 = 4.5

THIS IS THE BASIC PRINCIPLE OF PERCANTAGE INCREASE OR DECREASE THAT MANY COMMERCE
STUDENTS FACE. SAME GOES FOR CASH BOOK PERCENTAGE.

Clearly enough, edexcel might fool you here, but wait a minute, if you are an English student, you must not fear this tone
of language. NOTICE, the first transaction states “AFTER TAKING 5% which means the cash discount allowed has been
already applied”

Math says:

If 95 % is 475, then 5% is (475/95)x5 = 25, DO NOT SUBTRACT ANYTHING

The second transaction resembles the first one till the line “in full settlement of an invoice for”, yet the tone changes after
a full stop. “THE RECEIPT WAS AFTER TAKING 5& CASH DISCOUNT”

Math says:

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5% x 1900 = 95

1900-95 = 1805 is the amount you received, in this case subtraction is essential.

TRY THIS OUT, hmmm. This is quite simple. Look, there is no mention of percentage being deducted “after”,which
means the 2% cash discount has to be directly multiplied with 150. We get “3”, subtract it from 150 to get 150-3= 147.

In conclusion, notice the “after” properly and use your mind to maximum capacity to analyze the situations. In some
cases you can do dummy tests with the percentage, if there is an irrational value / abnormal value showing up, you
can abruptly pass it and take a normal value.

PETTY CASH BOOK

PETTY CASH BOOK IS EASIER THAN A CASH BOOK. YET THE PROBLEM IS AFTER YOU ARE DONE
PREPARING ACCOUNT, the part of reimbursement .

Let’s look onto two different questions and analyze them.

NO- 1

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NO - 2

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THE FIRST THREE PETTY CASH BOOK WERE QUITE SIMPLE
BUT THE TRICK IS HERE, When do we subtract the cash float
and when do we simply let the total be the balance c/d. The first
three questions had used the same flow “Balance the petty cash
book and bring the balance forward”. However, the last question
differs, it says the amount to be restored for a cash float of 250,
you have to subtract the 166 from 250 to get 84. NOTE: In exam,
whenever you are said to reimburst, subtract the amount spent
from the cash float. On contrary if there is no cash float previously

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restored or there is no other saying of reimbursement, neglect
subtracting, rather the full amount should be restored.
IN SUMMARY, IF YOU ARE TOLD TO RESTORE THE FLOAT,
THEN DO NOT SUBTRACT THE AMOUNT.ON CONTRARY, IF
THE FLOAT IS ALREADY RESTORED, THEN YOU HAVE TO
SUBTRACT THE AMOUNT FROM THE RESTORED FLOAT
DONE PREVIOUSLY.
TOPIC 2: IRRECOVERABLE DEBTS
EXPECTED QUESTIONS
In Section A, there may be a concise 5-mark question in which candidates are required to calculate or prepare a
provision account.

WHAT TO STUDY:
1. How to calculate provision for irrecoverable debts
2. How to calculate the rate (%) for provision for irrecoverable debts
3. How to prepare irrecoverable debts account
4. How to prepare provision for irrecoverable debts account
5. How to prepare irrecoverable debts recover account.
6. State the treatment of provision for irrecoverable debts in financial statement.
7. Journal Entry for recording irrecoverable debts, provision for irrecoverable & bad debts recover

THEORY:
1. Explain how prudence concept in applied in calculation of provision for irrecoverable debts
2. Distinguish between irrecoverable debts and provision for irrecoverable debts
3. Credit control policy (i.e. how to reduce irrecoverable debts)

1) The prudence concept of accounting makes sure or ensures that assets and income is not
overstated and liabilities and expenses are not understated. This means that any asset or the profit
for the year in the income statement is not overstated and losses are treated evenly, not being
understated. As well as, if business has taken any loan, that must be classified properly. This
reflects a true and fair value of the business.
 PROFITS SHOULD NOT OVERSTATED
 LOSSES SHOULD BE TREATED PROPERLY, and not be understated, and reported as soon as they
are recognized.
 REVENUES SHOULD NOT BE ANTICIPATED BEFORE ACHIEVED/REALIZED
By maintain the provision for irrecoverable debts, the business ensures that receivables is not
overstated and profit is not overstated. Overstated literally means exaggerating, hence a true and fair
perspective is reflected.
2) Irrecoverable debt is an amount that will not be paid by the credit customer, which is ascertained
with certainty. Irrecoverable debt is an expense and recorded in the income statement. A provision
for irrecoverable debt is an estimate of the amount which a business will lose in a financial year
because of irrecoverable debts. A provision for doubtful debts is expresses in terms of percentage
on the irrecoverable debts, it is not ascertained with certainty.
INCREASE IN PROVISION FOR DOUBTFUL DEBTS -- > CLASSIFIED AS EXPENSES
DECREASE IN PROVISION FOR DOUBTFUL DEBTS  CLASSIFIED AS INCOME (added in other incomes
in the income statement).

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 3 Ans: 1) Restrict credit control, offer cash discount, send statement of account, Charging interest
on late payment. By reducing credit sales, business can reduce the chances of irrecoverable debts
and hence better profit can be achieved

TOPIC 3: DEPRECIATION
EXPECTED QUESTIONS:
Within Section B, there is a strong possibility of encountering a 15-mark question that necessitates the creation of
a provision for depreciation and disposal account. Furthermore, this question may include an additional 5-
mark component, assessing your evaluation of the application of accrual concepts in depreciation.
WHAT TO STUDY:
1. Calculation of depreciation using both straight line and reducing balance method
2. How to prepare non current assets account
3. How to prepare provision for depreciation account
4. How to prepare disposal account
5. State the treatment of depreciation in financial statements.
6. Journal Entry for recording depreciation and disposal.

THEORY
1. Definition of depreciation
2. Four factors of depreciation
3. Application of accrual concepts in calculation of depreciation
4. Application of consistency concepts in change in depreciation method
5. Evaluate the effect on financial statements of a change in the depreciation method

IMPORTANT TIPS:
- It's essential to thoroughly review the question to determine whether a monthly calculation is necessary for yearly
depreciation. So far, all questions have adhered to the policy of "No depreciation in the year of sale and full depreciation
in the year of purchase," which didn't require monthly calculations.
- When creating a disposal account, ensure that all transaction dates are specified, and include a closing date to
facilitate account reconciliation.
- On the credit side of the disposal account, provide detailed information for the total depreciation of the sold assets as
"provision for depreciation." It's important to avoid the common mistake of merely writing "(depreciation)," as this has
resulted in candidates losing marks.

Depreciation is an estimate of the loss in value of a non current asset over it’s expected working life.
1) PHYSICAL DETERIORATION-(wear and tear,erosion,rust, rot and decay)
2) Passage of time
3) Economic reasons (Obsolescence and Inadequacy)
4)Depletion
3) The Application of Matching/Accruals states that revenue and related expenses should be recorded in the year
they are made, whether or not cash is involved. This means the cost of purchasing a non current asset should be
matched against the income earned from that asset. In simpler term, matching the cost against income.
Depreciation is an estimate of the loss in value of a noncurrent asset over it’s expected working life. By matching
the cost of using the non current asset against it’s income, we apply the matching concept. It is matching the cost
against the benefit earned from the asset over it’s expected working life. In short, depreciation is simply a calculation
of much a business will lose in a year, expressed as an expense, and we already know that revenue and related
expenses are made in the year they are incurred, whether or not cash is involved.

Straight line method depreciates by the same amount every year.

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Reducing balance method depreciates the asset by different amount, for example depreciation charged on
first year is subtracted from the asset and then the percentage of depreciation is applied to that subtracted
value which is also know an the net book value/ carrying value.

Straight line method can be either expressed in percentage or the formula

(Costprice – residualvalue/disposalvalue/scrap value) / number of years of use
Reducing balance method on contrary is stressful as the amount is recalculated each year.
Reducing balance method charges depreciation that is greater in the early year’s of non current asset’s
useful life. Straight line method depreciates the same amount by same year and is easier to apply, however
most businesses prefer RBM, as it is more accurate and the benefit earned from the asset is greater than
the early year of usage. RBM is also known as diminishing balance method.
(NOTE: IN SYLLABUS, we have 3 methods only – straight line, reducing balance method and Written down
value method)

The concept of consistency states that an accounting method once selected must be consistently used in
the future years. Same method for same situations is applied. For example: If a trader decides to apply
straight line method 10% on the first 5 years on his non current assets and then again changes the method
of depreciation to reducing balance method, and then again straight line method. This constant/perpetual
change of accounting method can result in violating the consistency concept, hence leading to misleading
profit calculated, in accurate analysis and losses. The business is not obliged to use one method of
depreciation. Rather a business can independently use any any method of depreciation by considering
what is good for them. Any change of accounting method must be announced in the notes of the financial
statements. By adopting an accounting method consistently, business obeys consistency concept.

5)A change in depreciation method can have many effects upon the business.
Firstly, by changing a depreciation method, business violates consistency concept as an accounting
method is not applied consistently. Supposedly , a business may use straight line method to depreciate it’s
asset during the beginning years, suddenly if it changes the method to RBM, the results would be much
different. Depreciation charged by RBM is greater in the early year of usage as higher benefits are gained
in the early years. The depreciation charged against profit is greater in the early years of usage and there
is usually a lower charge for repairs and upkeep. The profit would therefore be low in the early years.
However in straight line method, there is assurance of how profit would act as depreciation charged is same
each year using this type of method

If a business is constantly changing methods of depreciation, this would lead financial statement to show
misleading profits and inaccurate analysis will incur, resulting into loss.

In conclusion, if an asset has chance to become outdated quickly, a business must apply the reducing
balance method as greater benefits would be earned and there will be less maintenance.
However, if business does not faces any problem of outdated or greater benefits, then a method like straight
line is applicable, once again, it provides the same amount of depreciation each year.

A SAMPLE ANSWER CAN BE:

Ayan uses the reducing balance method to depreciate his plant and machinery as this is the most
suitable method for this type of asset (1). This method may have been chosen because his plant
and machinery may become out of date quickly (1) or the asset may have lower maintenance
cost in the early years (1) or there may be greater benefits to the business from the use of the
asset in the early years (1). If Ayan had chosen the straight line method, the same amount of
depreciation would have been charged each year (1)

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TOPIC 4: LEDGER ACCOUNT
EXPECTED QUESTION
- Less chance of having any question from this topic. There can be small question related to other payable and
receivable.

WHAT TO STUDY:
1. Income account
2. Expense account
3. Inventory account
4. How to adjust other payable & receivable
5. State then treatment of other payable & receivable in financial statement

THEORY
1. State the treatment of other payable & receivable in preparation of financial account
2. Define other receivable and payable
3. Application of accrual concepts in adjusting other payable & receivable

IMPORTANT TIPS:
Dates, Details & Amount must be mentioned properly when preparing "T" account. Mark will be provided combining
all three.

1)Other receivable is a current asset and is recorded in the current assets section of statement of financial position
2) Other payables is a current liability and is recorded in the current liabilities section of statement of financial
position.

2)Other receivables: Expenses paid in advance in the accounting period or Incomes which have been incurred but
not received yet.
Other payables: Expenses incurred but unpaid at the end of financial years or Incomes which have been received
in advance.

The matching concept is applied in this case as the revenue and related expenses are recorded in the year they
are incurred. By adjusting other receivables, business ensures that the amount that has been paid in advance of
the accounting period is recorded in that particular period and does not exceed the accounting period.
Similarly, by adjusting other payables, business ensures that the amount that is unpaid should be recorded in the
year it is incurred. For example, In the financial statement, if there is rent unpaid, it has to be adjusted immediately
in that particular period, on contrary, if there is rent paid in advance, it should be deducted immediately as this rent
is already paid before. Similarly, income received in advance should be matched in the period it is received , and
income not received should me matched according to it’s period.
TOPIC 5: CAPITAL & REVENUE EXPENDITURE
EXPECTED QUESTION
Every year, a question worth 5-10 marks is allocated to this particular topic. Usually, students are required
to identify between capital and revenue expenditures, while the rest of the questions revolve around theoretical
concepts. Notably, this topic was absent in the May 2023 paper. As a result, there is a strong likelihood of encountering
a substantial question from this topic in this November 2023 session.

1. What is capital expenditure

2. What is revenue expenditure
3 1. What is capital expenditure
2. What is revenue expenditure
3. Explain the effect on incorrect treatment of capital & revenue expenditure

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4. Application of materiality concepts in treatment of capital & revenue expenditure.

4. Application of materiality concepts in treatment of capital & revenue expenditure.

The purchase of any non current asset in the business is classified as capital expenditure.
 Buy non current assets
 Add to the value of an existing non current asset
 The cost of acquiring non current assets inside the business
 The legal cost of buying premises
 The cost of bringing non current assets to the business
 Delivery cost/ carriage inwards
 Any other cost involved in preparing the non current asset for use, installation cost and so on.
 Upgrades to existing non current asset,
A capital expenditure is a non current asset that lasts longer than an accounting period of one year and is recorded in
the non current assets section of the statement of financial position.

A revenue expenditure is the day to day running expenses of the business, that does not add to the value of a non
current asset. The revenue expenditure lasts lesser than an accounting period of one year and is written against the
profit for the year in the income statement. It may consist light and heating expenses, general expenses, miscellaneous
expenses, inventory, fuel, electricity and wage.

A capital receipt is the disposal/sale of non current asset. They are not part of the regular business day to day
transactions. They are not recorded usually, but only when there is profit on disposal or loss on disposal, they appear
in the income statement.
A revenue receipt is the normal trading activities of a business. It is the regular revenue generated by selling goods or
services to customers, and selling inventories.

If a business does not treat capital and revenue expenditure correctly their final accounts will not
be accurate and will not reflect a true and fair view (1) of the businesses profits or assets. For
example if they were to include the cost of a new motor vehicle (capital expenditure) (1) as an
item of expenditure in the profit and loss account (revenue expenditure) (1) their profits would be
understated (1) and the valuation on the balance sheet would also be understated (1)

Capital expenditure is monies spent on the purchase of or addition to a fixed asset (1) and are
included on the balance sheet (1). They are purchased to generate profit for the business and not
for resale (1). They will last longer than one year (1) (Max 3) Revenue expenditure is monies spent
on the day to day running of a business (1) and are included on the trading, and profit and loss
account (1). The cost is written off against profit in the year incurred (1). They are used up within
one year (1) (Max 3)

The materiality concept states that if the value of an item is too small that it does not warrant
separate recording, it should be recorded as expenses and not non current asset. This is because
the value of the item is too small to be charged in the financial statements. Rather it is appropriate
to classify it as an expense and not a capital expenditure, even though it might last longer than an
accounting period of one year, it should be under revenue expenditures as the item is not material
type. Example: Stapler, even if this small item lasts for 20 years, it should be considered as an
expense.
TOPIC 6: CONTROL ACCOUNT
Expected Questions:

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In section B, there is a significant likelihood of encountering a question related to this topic, where you might be required
to prepare either a control account or an individual account . This question will account for 15 marks. Ensure that you
have a strong grasp of both trade payable and trade receivable accounts.
1. Reason of preparing control account
2. Benefits of preparing control account
3. Reason of having abnormal balance or refund
4. Definition/ Reasons/ Benefits for cash discount and trade discounts
5. Evaluate the proposal to sale inventory on cash (Nov 2021, Q:16)
6. Evaluate the proposal to sale inventory on credit (May 2022, Q:15)

1) Control accounts are also known as total accounts. The trade receivables ledger control account is an account
summarizing all the transactions of trade receivables. The payables ledger control account is an account
summarizing all the transactions of trade payables.

Reasons:
 It helps in locating errors when the trial balance fails to balance
 It provides a summary of the transactions of trade receivables and trade payables that can be used to prepare
draft financial statements.
 It acts as a deterrant to fraud as a control account is prepared by someone who has not been involved in
making entries in those particular ledgers.
 It verifies the arithmetical accuracy of the ledger accounts.

Abnormal balance
1) Overpayment by the customer or Overpayment to the supplier
2) Customer paying in advance for the goods supplied or Paying in advance to supplier for goods supplied
3) Customer returning goods after paying the account or Returning goods to the supplier after paying the account
4) Cash discount not being deducted before payment was made.
Sample Answer Benefits:
It helps in locating errors when the trial balance fails to balance because it is easier to find errors in the receivables
ledger control account as a control account contains summary of all trade receivables and trade payables.
It acts as a deterrant to fraud as a control account is prepared by a different person.
It verifies the arithmetical accuracy by reconciling the total of individual (personal) accounts / subsidiary ledger.
Overall, By maintaining a control account, business can receive a lot of benefits.

Contra reasons:
When the customer is also a supplier to the business
Instead of the customer paying us for the goods supplied.
Their balance is set off against the amount owed from goods/services supplied

Sale of inventory:
Cash would be received faster (1), resulting in improved cash flow/liquidity (1). Some
customers may not wish to make cash purchases (1) resulting in lost turnover/lower profits
(1). Eldin should continue making credit sales to retain customers/maintain profitability
(1).It will also reduce chances of Irrecoverable debts in the business.

Sale of inventory in credit:

It would result in faster turnover rate, it will increase the sales of the business, it will also help business gain
new customers at a faster rate. It will also help business gain higher profits. However there is chance of
irrecoverable debts that may lead to decreases in receivables and profit for the year.
TOPIC 7: TRIAL BALANCE & ERRORS

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Expected Questions:
- Each year, particularly in section B, there is consistently a 15 mark question focused on this topic in the examination.
Candidates are tasked with preparing a trial balance in response to this question.
- Additionally, there might be another question requiring candidates to identify or rectify errors in financial records
using journal entries.
- It is noteworthy that, until now, there has been no request for candidates to prepare a suspense account. However,
considering the dynamic nature of exams, candidates should remain vigilant and prepared for potential changes in the
examination format.
WHAT TO STUDY:
1. Trial Balance
2. Identify types of errors
3. Prepare Suspense account
4. Effects on profit, working capital or capital after correction

THEORY
1. Reason for preparing trial balance
2. Benefits of trial balance
3. Drawbacks/ Limitation of trial balance
4. Explain different types of error
5. Explain those errors which create difference in trial balance

ANSWERS:
1) A trial balance is prepared to verify the arithmetical accuracy of ledger accounts. A trial balance provides a
summary of the account balances (1)
2) which is useful in the preparation of the financial statements (1).
It is prepared to speed up the preparation of final accounts in the business.
Type of errors:
1) Commission: When the correct amount is entered on the correct side but in the wrong account of the
correct/same class.
2) Ommission: When a transaction has been completely omitted from the books of account.
3) Complete reversal : When the correct amount is entered but the double entry transaction is reversed,
such as sales is debited instead of credited and cash is credited instead of debited in the Cash sales
transaction. The item is entered on the wrong side of account.
4) Compensating: When two or more errors cancel each other out (sales overcast 200, purchase overcast
200)
5) Original entry: When the original figure is incorrect but the double entry is correct.
6) Principle: When the correct amount is entered on the correct side, but in the wrong class of accounts.
7) Transposition: When the amount is recorded incorrectly

Drawbacks of trial balance is that

Some errors will not be identified (1) for example an error of

commission (1) as these errors do not affect the balancing of

the trial balance (1)

Some errors such as addition error, posting error can affect trial balance.

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 Error of addition means the debit side and credit side does not matches due to incorrect addition of
numbers/figures.
Error of posting means if any excess transaction has been recorded in the debit side or credit side.

REASONS OF SUSPENSE ACCOUNT:

1)Used when trial balance fails to balance
2) It also speeds up the preparation of financial statements
3)To assist in locating errors
4) Used to balance the trial balance
5) To complete the double entry when trial balance fails to balance.

TOPIC 8: BANK RECONCILIATION

EXPECTED QUESTIONS
The likelihood of this chapter appearing in the exams is relatively low. It may be included in either Section A or
Section B. Combining problem-solving and writing theories in your responses could result in a scoring range of 5 to
10 marks.
THEORY
1. Purpose of preparing updated cashbook and bank reconciliation
2. Advantages & Disadvantages of preparing bank reconciliation statement
2. Difference between standing order and direct debit
4. Explain dishonoured cheque, bank lodgement and credit transfer

Updated Cashbook must be prepared in order to maintain a true and fair view, as the updated cash book bank
balance is compared with the bankstatement directly made by the bank.
A bank reconciliation statement is prepared in order to locate any errors in the main cash book, it helps

To check the accuracy of the cash book entries (1)

To check for any errors made by the bank (1)

Additionally, CashBook(Bank) Debit side = Bank Statement Credit Side

CashBook(Bank) Credit side = Bank Statement Debit Side
BENEFIT THEORY:
It enables errors in the cash book/bank statements to be identified (1) and correction will
ensure accurate financial statements (1). It acts as a deterrent to fraud (1) as the bank
statement is an independent record produced by the bank (1). Regular bank reconciliations
facilitates error-free accounting (1).

Dishonoured Cheque: A dishonoured cheque is a cheque returned by the bank when there
is insufficient amount of money in the cheque. Other reasons may include, cheque may
become outdated, unsigned cheque, outdated cheque, Insufficient funds.

Standing Order: A standing order is when a business instructs to a bank to pay a stated sum
of money on a given date.

1) Fixed payment (1)

2) Initiated by the payer / drawer (1)

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 Direct Debits: A direct debit is when a business allows an organization to collect amount
owing directly from the bank.
Bank statement: A bank statement is issued by the bank and shows the balance in a bank
account and the amounts that have been paid or deducted from it.
Unpresented Cheque: A cheque that has not been paid yet or not cleared yet through the
banking system.

Amounts dates can be Variable/ payment (1)

Initiated by the payee (1)

Credit transfer: A credit transfer is present in the Bank statement, it is credited in the bank statement and
debited in the cash book bank column.
Bank charges: Costs charged by bank, (debit item) includes overdraft fees and costs to maintain the account.
Interest Charged- Debit balance
Interest Received – Credit Balance

TOPIC 9: ACCOUNTING CONCEPTS

EXPECTED QUESTIONS
1. Importance of using accounting concepts and principle while preparing financial statements
2. Define accrual, prudence, consistency, materiality and business entity concepts
3. Explain the application of prudence concepts in calculation of provision for irrecoverable debts.
4. Explain the application of accrual concepts in recording depreciation
5. Explain how consistency is applied for choosing one method for depreciation
6. Application of materiality concepts in treatment of capital & revenue expenditure
7. Benefits of maintaining a full set of accounting records

MOST OF THE QUESTIONS FROM THIS TOPIC HAS BEEN DISCOVERED ABOVE
7) Maintaining a full set of accounting
records will enable Sam to monitor and control his
trade receivables (1) which will reduce the possibility of irrecoverable debts (1)
Maintaining a full set of accounting records will enable Sam to access up-to-date
information (1) which will facilitate better control / better decision making in his business
(1). Overall, this action will be of benefit to Sam’s business (1).
TOPIC 10: COMPUTERISED ACCOUNTING (ICT)

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EXPECTED QUESTIONS
1. Advantages & Disadvantages of introducing computerised accounting in a business
2. State two ways to protect the security of electronic data

A computerized accounting system increases the speed and accuracy of recording transactions as documents
such as statement of account, invoices, credit notes and remittance advices are prepared quickly and
automatically by a single click, It saves time.
However a computerized accounting system may require a fresh injection of capital and expertise or trained
members who can operate it properly. This may cause training costs, other costs of hardware and software
and data loss by hackers can be a dreadful aspect for the business.

Overall, time saved by a computerized system will eventually cover the cost of purchasing a computerized
system. The cost (1) of the hardware and software may require a fresh injection of

capital (1). (Candidates may also refer to the cost of training staff or the

cost of making staff redundant.) There is a risk (1) that data may be lost

or corrupted due to computer viruses (1). Therefore Ed’s business may

not benefit from this investment. (1)

Safety Measurements:
Passwords
Antivirus/Firewall
Security codes
TOPIC 11: TYPES OF BUSINESS & PROFESSIONAL ETHICS
EXPECTED QUESTIONS
1. Distinguish between private sector and public sector
2. State all the stakeholders and their interest
3. Advantages & Disadvantages of operating a business as a sole trader
4. Advantages & Disadvantages of operating a partnership business
5. State all the fundamental principle of professional ethics

A private sector organization aims to work for profit, it is operated by an individual or partners. It has to pay
tax and sells goods and services to customer, it does not provide any free service to government or does not
exist to provide any services to community.

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 A public sector organization does not aim for profit, it is operated by the government, it provides free serice to
the community. It has unlimited source of funds as it is run by the government where as private sector may
have only a few partners to invest.
Advantages of sole trader:
1) Keeps all profit
2) All decisions can be made alone by sole trader, a soul trader does not have to hear other’s freaking
opinion.
3) Accounts do not have to be published
4) Easier to set up and operate
5) Sole trader has complete control
6) Sole trader has fewer reporting requirements
Disadvantages of a sole trader:
1)Unlimited liability of debts, personal possessions at risk
2)Stressful to make all decisions
3)Sole trader may lack enough fund/capital to expand the business
4) No continuity, as business dies when sole trader dies.
5) Sole trader may have lack of appropriate skills
6) Sole trader has to face all the loss of the business

There are five main principles of professional ethics that students need to know:
1. Integrity - does the accountant operate in a straightforward and honest manner
demonstrating fairness and trustworthiness? They cannot produce financial statements
that deliberately omit data that could lead to misunderstanding or take bribes to change
data.
2. Objectivity - accountants must be free from bias or conflict of interest, for example,
they cannot prepare accounts for a family member or a company in which they have
shares.
3. Professional competence and due care - accountants’ knowledge and skills must be
of an appropriate level to provide a professional service. This means that they need to
be qualified to the relevant standard and keep up to date with any changes in
accounting policies and regulations.
4. Confidentiality - there is a legal obligation to maintain the confidentiality of financial
information which means not passing on information to any third parties. There are
exceptions to this ruling if a client is found to be trying to deceive the government by
paying less tax or are involved in money laundering.
5. Professional behaviour - this means that accountants have to comply with all
relevant laws and regulations so as not to bring the profession into disrepute.

Advantages of Partnership:
1)Increased workforce/ skills/ new partners can bring more knowledge skills and enthusiasm
2) Shared ideas
3) More fund/capital can be raised by additional partners
4)Decisions can be made by different partners, reducing stress of sole trader
5)Partners are entitled for loss and can share them equally between each other
6)Partners can form a bond that can expand the business in terms of quality of management.
7)Partners can invest capital or take loans to expand the size of the business
8)Partners can take part in the management of the business and assist the business
9) Losses can be shared between partners

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Disadvantages of partnership:

1) Partners have unlimited liability, which means they have to cover the debts of other partners who are in debts
2) Profits and losses have to be shared among partners
3) Partnership dissolves in the death of a partner
4) There may be conflict between paertners
5) It is difficult to liquidate or transfer the partnership
6) Some partners can become greedy and steal money/ (withdraw excessively from the business)
7) Partners consist from 2 to 20 members, which means, more partners, more profit divided between each of
them resulting into greater conflicts
8) Sometimes partnership can find it difficult to raise capital
9) Partners are entitled interest on drawings.

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Cash discount:

Discount Allowed – Debit

Discount Received – Credit

Given for prompt payment, reminding customers to pay their account promptly. Reducing chances of
irrecoverable debts, cash discount can also encourage customers to pay their account within the correct date.
Cash discount is only allowed if the invoice is paid within a certain time limit. To improve cash flow or
liquidity and working capital position by payments of their outstanding amounts.

Trade discount : Trade discount is shown as a deduction in the invoice.

Given by a trader to trader to show loyalty

Bulk buying

Encourage traders to purchase more supplies at a cheaper rate.(offering credit term may introduce new
customers, increasing turnover and profits but resulting into chances of irrecoverable debts)

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 Paul Russel Rozario - Lecturer of Accounting
IGCSE Accounting
Depreciation

Syllabus -Depreciation
a) Explain the causes of depreciation.
b) Distinguish between straight line and reducing balance methods of
depreciation.
c) Calculate and record depreciation in the books of account.
d) Calculate and record profit or loss of disposal of non-current assets.

Pearson Study –Guide for Depreciation

a) Explain the causes of depreciation. Non-current assets provide a benefit to the
business over several years. The non-current asset will lose value/depreciate as it
is used up. The business will have to estimate this annual depreciation and record
it as an expense in the Income Statement.
Depreciation is caused by: obsolescence - the asset becoming out of date due to
improvements in technology; wear and tear/physical deterioration - the asset
becomes less useful as it becomes older and less reliable; erosion, rust, rot and
decay - equipment eroded or wasting away due to forces of nature; excessive use
- over time the asset may lose value due to being used intensively; inadequacy -
the growth or size of the business makes the asset unsuitable eg larger vehicles
resulting in businesses selling off their smaller vehicles; time factor - some assets
have a legal life fixed in terms of years eg a lease where a proportion of the lease
is depreciated each year until it’s value is nil; depletion - some assets are of a
wasting nature such as the extraction of raw materials from mines or quarries.

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b) Distinguish between straight line and reducing balance methods of
depreciation.
Annual depreciation is treated as an expense in the Income Statement. It
represents a reduction in the value of the non-current asset. Rather than placing
the full cost of the asset as an expense, the business only charges the amount of
the asset used up this year to this year’s Income statement.
Students are expected to know about only two methods of depreciation. Straight
line depreciation depreciates the asset by the same amount every year. The
depreciation is spread evenly over the expected life of the asset. This can be
worked out in two ways: using the formula (cost price - disposal value) / number
of years of use OR the annual depreciation is a given percentage of the cost price.
Students should know which method is appropriate for which type of non-current
asset. Eg the reason why a business uses the reducing balance method is because
motor vehicles bring more benefits to the business in the early years and,
therefore, in order to match revenue with related expenses (matching concept)
the business has to use the reducing balance method which gives high
depreciation charges in the early years.
c) Calculate and record depreciation in the books of account.
Students need to be able to calculate depreciation and prepare ledger accounts
and journal entries for the provision of depreciation.
d) Calculate and record profit or loss of the disposal of non-current assets.
Students need to be able to prepare ledger accounts and journal entries to record
the sale of non-current assets, including the use of disposal accounts and the
resultant calculation of profit or loss on disposal.
This topic will be re-visited in Paper 2 when students will be required to transfer
the appropriate depreciation figures to the financial statements as well as the
profit or loss on disposal figure.

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1. Depreciation- Depreciation is an estimate of the loss in value of a non-current asset over its
expected working life.

Most of the non-current assets of a business lose value over a period of time that they are used by
the business. If the accounting records continue to show these assets at their cost prices then the
accounts will provide misleading information. It is, therefore, necessary to record an estimate of the
loss in value. The records can only show an estimate of the loss in value of a non-current asset
because of depreciation. The exact amount will only be known when the asset is disposed of or sold.
Buildings depreciate over time but land does not usually lose value (unless it is something like a well
or mine when value is removed from the land).

The purchase of a non-current asset is capital expenditure.

The cost of a non-current asset is not charged as an expense in the year of purchase as it benefits the
business for several years. Matching the capital expenditure against the sales it has helped the
business to earn is done by an annual charge for depreciation. This means that the cost of the non-
current asset is spread over the years which benefit from the use of that asset. The depreciation for
the year is included in the expenses in the income statement, so the profit for the year is not
overstated. This is an application of the principle of prudence. If the profit is overstated, the owner of
a business may be tempted to withdraw more cash than the business can actually afford.

The principle of prudence is also applied in the statement of financial position as the non-current
assets are recorded at a figure less than the cost price (this is known as carrying value).

Depreciation is a non-monetary expense as it does not involve an outflow of money, nor does it
provide a cash fund to use for the replacement of a non-current asset.

1.2 Causes of depreciation

The four main causes of depreciation are physical deterioration, economic reasons, passage of time
and depletion.

Physical deterioration -This is the result of ‘wear and tear’ due to the normal usage of the non-
current asset. It can also be because the asset falls into a poor physical state due to rust, rot, decay
and so on.

Economic reasons- The non-current asset may become inadequate as it can no longer meet the needs
of the business. It can also be because the non-current asset has become obsolete as newer and
more eff icient assets are now available.

Passage of time-This arises where a non-current asset, for example a lease, has a fixed life of a set
number of years.

Depletion-This arises in connection with non-current assets such as wells and mines. The worth of
the asset reduces as value is taken from the asset.

1.3 Methods of calculating depreciation

There are several methods used to calculate the estimated loss in value of a non-current asset. Diff
erent types of non-current assets are oft en depreciated using diff erent methods. The method

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 selected should be the one which spreads the cost of the asset as fairly as possible over the periods
which benefit from its use. Once a method has been selected for a particular non-current asset, it
should be applied each year. This is an application of the principle of consistency.

There are two main methods of depreciation:

• Straight line method

• Reducing balance method

Straight line method of depreciation

This is also known as the fixed instalment method. The formula used for calculating the annual
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑎𝑠𝑠𝑒𝑡−𝑟𝑒𝑠𝑖𝑑𝑢𝑎𝑙 𝑣𝑎𝑙𝑢𝑒
depreciation using this method is:
𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑦𝑒𝑎𝑟𝑠 𝑒𝑥𝑝𝑒𝑐𝑡𝑒𝑑 𝑡𝑜 𝑢𝑠𝑒

This expresses the annual depreciation as an amount of money. The answer to this formula is
expressed as a percentage of the total cost.
This method applies the same amount of depreciation (or the same percentage rate of the cost
price) each year. The value of the asset can fall to nil if there is no residual value (see below).
This method is used where each year is expected to benefit equally from the use of the asset.

Advantages of the straight line method of deprecation.

1 It is relatively easy to calculate.

2 It is useful when a non-current asset provides equal benefit for each year of its useful life.

Disadvantages of the straight line method of depreciation.

1 It is necessary to estimate the useful life and the residual value of the non-current asset.
2 It ignores the actual rate at which the non-current asset will lose value.

Reducing balance method of depreciation

As the name implies, the amount of depreciation reduces each year. The same percentage rate is
applied, but it is calculated on a different value each year. At the end of the first year the depreciation
for that year is calculated on the cost of the asset. The depreciation for the following year is calculated
(using the same percentage) on the cost of the asset less the depreciation previously written off. The
figure of cost less depreciation is known as the Carrying value of the asset.
The value of the asset can never fall to nil as the depreciation is always calculated as a percentage of the
net book value. This method is
used where the greater benefits from the use of the asset will be gained in the early years of its life.
Assets depreciated by this method often have lower maintenance costs in the early years. This method
is often used for those assets which quickly become out of data because of advancing technological
progress.Any residual value is taken into consideration when the percentage rate is selected.

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Advantages of the reducing balance method of deprecation.
1 It matches costs with revenue.
2 It is useful for those non-current assets where greater benefits are gained in the early years of usage.

Disadvantages of the reducing balance method of deprecation.

1 The depreciation has to be recalculated each year.
2 The depreciation charge against profit is greater in the early years of the non-current asset’s life.

Advantages of the reducing balance method of deprecation.

1 It matches costs with revenue.

2 It is useful for those non-current assets where greater benefits are gained in the early years of usage.

Disadvantages of the reducing balance method of deprecation.

1 The depreciation has to be recalculated each year.

2 The depreciation charge against profit is greater in the early years of the non-current asset’s life.

1.4 Which method should be used? Straight line or reducing balance?

In the real world, businesses should choose whichever method they believe best reflects the pattern of
benefits that they expect to gain from the assets in question. For example, if a business invests in new
technology, it may initially gain an advantage over rival businesses and, therefore, get more benefit
from the asset in its early years of use. Machinery might also be more efficient when it is new and
become slower and more prone to breaking down in later years. Again, a business might expect to gain
more benefit from such a machine in the early years. In these examples, the reducing balance method
would probably be more appropriate.

However, the straight-line method is by far the most commonly used in the real world. One reason
might be that depreciation figures are based on a huge amount of assumption. How long will the asset
be used for? What will it be worth at the end of its useful life? The assumption inherent in depreciation
calculations weakens any arguments that the reducing balance method is somehow ‘more accurate’.
The straight-line method is certainly simpler and (given all the uncertainty) simplicity is a big advantage.

In practice, businesses will usually adopt a policy of depreciating each different category (or ‘class’) of
non-current asset in a particular way. For example, a business might decide to depreciate all its buildings
over 50 years on a straight-line basis, its vehicles over 5 years on a straight-line basis, and its machinery
at 30% per year on a reducing balance basis. Textbooks and exams will tell you the depreciation policies
of the business in question.

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1.5 Depreciation on assets bought or sold part way through a year

So far, we have only calculated the depreciation expense for whole years of use. In reality, of course,
most assets are likely to be bought at some point part way through the business’s financial year. They
will therefore be used for less than 12 months in the year in which they are bought. In this situation,
businesses can choose one of the following two approaches:

1. Calculate depreciation ‘pro rata’ based on the number of months that the asset was in use during the
financial year. For example, if a machine is bought on 1 July 2024, then the depreciation expense for the
financial year ended 31 December 2024 will be 6/12 of the full annual charge; or

2 Charge a full year’s depreciation in the year of purchase but none in the year of disposal. This policy
can also be described as simply calculating a full year of depreciation on all assets in use as at the end of
the year.

1.6 Recording depreciation in the ledger

Each type of non-current asset has two ledger accounts:

• an account for recording the cost of the asset (the asset account)
• an account for recording the depreciation (the provision for depreciation of asset account).

The asset account always has a debit balance and the provision for depreciation always has a credit
balance. These two accounts must always be considered together. The difference between the balances
of these accounts represents the net book value of the asset.

During the year – when the asset is purchased

debit the asset account and credit either the cash book or the supplier’s account
with the cost price.

At the year-end – debit the income statement and credit the provision for depreciation account with
the depreciation for the year

balance the provision for depreciation account and carry down as a credit balance

balance the asset account if there have been any transactions during the year and
carry down as a debit balance.

Example 1 Numiba’s financial year ends on 30 June.

On 1 July 20–3 she purchased fixtures costing $25 000 and paid by cheque. She estimated that she
would be able to use the fixtures for four years and then be able to sell them for $3
000.

Calculate the depreciation for each of the four years of the fixtures’ working life using the reducing
balance method at the rate of 40% per annum.

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 $

Cost 25 000

Depreciation for year ended 30 June 20–4 at 40% 10 000

Carrying value at 1 July 20–4 15 000

Depreciation for year ended 30 June 20–5 at 40% 6 000

Carrying value at 1 July 20–5 9 000

Depreciation for year ended 30 June 20–6 at 40% 3 600

Carrying value at 1 July 20–6 5 400

Deprecation for year ended 30 June 20–7 at 40% 2 160

Carrying value at 1 July 20–7 3 240

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1.7 Recording depreciation in the financial statements

Recording depreciation in the income statement

The depreciation for the year for each type of asset is credited to the provision for
depreciation account in the nominal ledger and is debited to the income statement. This
reduces the business’s profit for the year. As depreciation is a non-monetary expense, it is
usually shown after the monetary expenses in the income statement.

Recording depreciation in the statement of financial position

It is usual to show the total cost of each type of non-current asset less the total depreciation
written off up to the date of the statement of financial position (referred to as provision for
depreciation or depreciation to date). The difference between these figures is the net book
value.

Example-Zaima`s financial year ends on 30 June.

On 1 July 20–3 she purchased fixtures costing $25 000 and paid by cheque. She estimated that she
would be able to use the fixtures for four years and then be able to sell them for $3
000.Zaima decided to use the reducing balance method of depreciation at 40% per annum.

a Prepare a relevant extract from Zaima’s income statement for each of the years ended 30 June 20–4
and 30 June 20–5

b Prepare a relevant extract from Zaima’s statement of financial position at 30 June 20–4 and at 30 June
20–5.

Zaimaa

Extract from income statement for the year ended 30 June 20–4

Expenses – Depreciation of fixtures 10 000

Zaimaa

Extract from income statement for the year ended 30 June 20–4

Expenses – Depreciation of fixtures 6 000

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 Zaimaa

Extract from Financial statement for the year ended 30 June 20–4

$ $ $

Non-current assets Cost Provision for Carrying value

Depreciation

Fixtures 25000 10000 15000

Zaimaa

Extract from Financial statement for the year ended 30 June 20–4

$ $ $

Non-current assets Cost Provision for Carrying value

Depreciation

Fixtures 25000 16000

1.8 The financial statements are prepared from a trial balance and its accompanying notes. In the trial
balance, the balances on the asset accounts are shown in the debit column and the
balances on the provision for depreciation accounts are shown in the credit
column. One of the notes will indicate the depreciation to be charged for the
current financial year. The depreciation for the year will appear twice in the
financial statements: It is an expense in the income statement, and it is included in
the statement of financial position as part of the provision for depreciation (the
depreciation for the year is added to the balance shown in the trial balance).

Example- Zaima’s financial year ends on 30 June.

She depreciates her fixtures using the reducing balance method of depreciation at 40% per annum.

Her trial balance drawn up on 30 June 20–6 included the following:

Dr Cr

$ $

Fixtures 25 000
Provision for depreciation of fixtures 16 000

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 Zaima

Extract from income statement for the year ended 30 June 20–6

Expenses – Depreciation of fixtures 3600

Zaima

Extract from statement of financial position at 30 June 20–6

Non-current assets $ $ $

Non- Current asset Cost Provision for depreciation Carrying value

Fixtures 25 000 19 600 5 400

• The deprecation relating to the current financial year is included as an expense in the income
statement.

• In the statement of financial position the total depreciation up to that date ($16 000 shown in the trial
balance plus the depreciation for the year of $3 600) are deducted from the cost price of the asset.

1.9 Disposal of non-current assets

Because the purchase of a non-current asset is capital expenditure it is recorded in an account for the
non-current asset rather than in the purchases account. When a non-current asset is sold it is a capital
receipt and is recorded in a special account known as a disposal of non-current asset account rather
than in the sales account.

When a non-current asset is sold or disposed of, it must be removed from the ledger records. The cost
of the asset and the depreciation on the asset are removed from the asset account and the provision for
depreciation account and transferred to a disposal account. The proceeds of sale are also entered in this
account. It is quite likely that this account will not balance. This is because the depreciation was only an
estimate of the loss in value. Only when the asset is sold can the actual loss in value be calculated. The
difference on the disposal account represents either a loss on disposal (when the actual depreciation
proved to be more than the estimate) or a profit on disposal (when the actual depreciation proved to be
less than the estimate).

The entries are summarised as follows.

On the date of sale – credit the asset account and debit the disposal of non-current asset account with
the original cost price (of the asset being sold)

debit the provision for depreciation account and credit the disposal of non-current
asset account with the total depreciation charged (on the asset being sold)

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 credit the disposal of non-current asset account and debit either the cash book or
the debtor’s account with the proceeds of sale.

At the year-end – transfer any difference on the disposal of non-current asset account to the income
statement.

Example-Zaima’s financial year ends on 30 June. On 1 July 20–3 she purchased fixtures costing $25 000
and paid by cheque. She decided to depreciate the fixtures using the reducing
balance method.
On 1 July 20–7 the provision for depreciation of fixtures account showed a credit
balance of $21 760.
Kavita sold all the fixtures on credit to Traders Ltd for $3 100 on 1 July 20–7.
Make the entries in Zaima’s nominal ledger accounts for the year ended 30 June 20–
8.

Zaima

Nominal Ledger
Fixture Account
Date Detail $ Date Detail $
20-3 20-7
Jul 1 Bank 25000 Jul 1 Disposal 25000
25000 25000

Provision for depreciation fixtures account

Date Detail $ Date Detail $

20-7 20-7
Jul 1 fixture disposal 21760 July 1 Balance b/d 21760
21760 21760

Disposal of fixtures account

Date Detail $ Date Detail $

20-7

• The difference on the disposal account remains in that account until the end of the financial
year when it is transferred to the income statement.

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 • In this case the depreciation had been under-provided so there was a small loss of $140 to
transfer to the income statement.

• If the total of the credit side of the account had exceeded the debit side, there would have
been an over-provision of depreciation. The transfer to the income statement would have
been shown on the debit of this account and on the credit of the income statement.

If only some of the assets of a particular type are being sold, it is important that only the entries relating
to the assets being sold are removed from the ledger records.

Businesses may operate different policies in relation to depreciation where an asset is sold or disposed
of part-way through the year. Some ignore depreciation in the year of sale; others charge depreciation
up to the date of disposal of the asset. Once a method has been selected it should be employed
consistently.

Revision:
■ Depreciation is an estimate of the loss in value of a non-current asset over its expected working life.

■ The main causes of depreciation are physical deterioration, economic reasons, passage of time and
depletion.

■ The three main methods of calculating depreciation are straight line, reducing balance and
revaluation.

■ Depreciation is shown as an expense in the income statement.

■ In the statement of financial position the total depreciation to date is deducted from the cost of the
asset.

■ When a non-current asset is sold it is removed from the ledger records by transfer to a disposal of
noncurrent asset account.

The END

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