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INTRODUCTION TO
ACCOUNTING

PRINCIPLES OF
ACCOUNTING

Nile Training Consultancy Service

Mobile +211929333778/+211916721776
Email: - muleredae@gmail.com , niletrainingcenter@gmail.com

Juba, South Sudan

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COURSE OUTLINE

CHAPTER ONE: - Introduction

 Introduction and definition to Accounting

 Users of Accounting reports
 The key to success

CHAPTER TWO: - Terminology and Principles of Accounting

 Basic Terms
 Classification of Accounts
 Principles of Accounting

CHAPTER THREE: - Financial Statements

 The Income Statement

 The Statements of Owners’ Equity
 The Balance sheet
 Basic Accounting Model
 Preparation of Financial Statement

CHAPTER FOUR: - Analysis and recording of business transactions

 Double Entry Accounting

 Debits and Credits
 Business Transactions
 Accounting Cycle
 Analysis and recording of transactions
 Chart of Account and the Ledger
 Basis of Accounting
 Adjusting Processes
 Work sheet

CHAPTER FIVE: - Closing Entries

 Closing entries
 Closing Process

CHAPTER SIX: - Accounting for merchandising business

 Accounting for merchandising

 Sections of merchandising firms’

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CHAPTER SEVEN: - CASH

 Bank statement
 Petty Cash

CHAPTER EIGHT: - Payroll System

 Payroll System
 Journalizing payroll entries
 Tax calculations

CHAPTER NINE: - Inventory

 Inventory valuation
 Valuation methods

COURSE OBJECTIVE

This manual is prepared for students with a very little or no knowledge and
experience of preparing financial reports, but who want to engage in different
business sectors.

The purpose of this manual is to give a brief introduction to basic accounting

system in general and the preparation of financial reports in particular. This

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manual will introduce the trainees with the general concepts and principles of
accounting and at least gives them on how financial reports are prepared.

The objective of this manual is that, by the end of the program, the
participants will be able to:

Clearly understand the different terminology’s and principles of

accounting;

Use the double entry system of accounting to record

transactions;

Complete the accounting cycle;

Prepare timely financial reports and give details of the different

accounts of the financial statements.

Understand financial reports

CHAPTER ONE: - INTRODUCTION

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By the end of this chapter we will Know the following: -

1. What Accounting is
2. Who are the users of the accounting information and
3. How Accounting is the basis for success

 Introduction and Definition to Accounting

Accounting has evolved, as have medicines, law and most other fields of
human activity, in response to the social and economic needs of society. As
business and society have become more complex over the years, accounting
has developed new concepts and techniques to meet the ever-increasing
needs for financial information. Without information, many complex economic
developments and social programs might never have been undertaken.

Definition

Every element of society from the individual to an entire industry or

government branch has to make decisions on how to allocate its recourses.
Sound decisions on reliable information, are essential for the efficient
distribution and use of the nation’s scarce recourses. Accounting, therefore,
plays an important role in our economic and social system.

Accounting is defined as broadly as identifying, measuring and

communicating economic information to permit informed judgment and
decisions by users of the information. In short, accounting is the process of
recording, classifying, summarizing and reporting business transactions and
interpreting their effects on the activities of a business entity.

Recording: translating a transaction in terms of money – money being the

common denominator- that enables an accounting system to function and
then entering the transaction into records. Accounting systems supply a
means of recording data so as to enable the accounting reports.

Classification: the accountant classifies the transactions into groups that

have common characteristics and summarizes the amount for example,
identifying whether an item is an asset or an expense, or which costs should
be included in inventory.

Measurement: accounting systems quantify data so as to enable the

accounting reports or for use in calculations. For example, determining how
much profit a business has earned in a year, or the value of a piece of
machinery.

For example, all sales transactions are usually grouped together, as all
purchases. This enables an entity to obtain information about the nature and
amount of sales and purchases that occurred during a particular period.

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Moreover, based on this summary, performance report of the company could

be prepared and the information would be interpreted so as to be able used
for decision making process by the business.

 Users of Accounting Information

The financial information provided with the help of accounting is important for
different users that are interested in the business both directly and indirectly.

Users with direct interest

i. Owners
ii. Creditors and Suppliers
iii. Potential owners
iv. Management (Directors and officers)
v. Tax Authorities
vi. Employees
vii. Customers

Users with indirect interest in a business

i. Financial annalists
ii. Labor Unions
iii. Stock exchanges
iv. Lawyers
v. Regulatory authorities
vi. Trade associations

 The Key to Success

Accounting is at the heart of business: accounting information pulsates

throughout an organization, feeding decision makers with details needed to
give them an edge over competitors. Because of new technologies, the
increasing speed and quantity of information available makes the task for
accountants an ever-increasing challenge. Decision makers cannot rely on
hunches and guesses. Decision makers depend on their knowledge of
accounting principles and practices to help identify and take advantage of
opportunities discovered from reviewing large volumes of information.
Through your studies of this course, you will learn about many of the
accounting concepts, procedures, and analyses common to both small and
large businesses. This knowledge will provide you with the basics necessary to
make better business decisions.

Accounting affects many parts of life. Some examples of common contacts

with accounting are through credit approvals, checking accounts, tax forms,
and payroll. These experiences are limited and tend to focus on the
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recordkeeping (or bookkeeping) parts of accounting. Recordkeeping, or

bookkeeping, is the recording of financial transactions and events, either
manually or electronically, for the purpose of creating a reliable bank of data
Accounting involves the recordkeeping process but is much more Accounting
also involves designing information systems to provide useful reports to
monitor and control an organization’s activities. In order to use the reports
effectively, decision makers must be able to interpret the information. The
skills needed to understand and interpret accounting information come from
an insight into each aspect of accounting, including recordkeeping. Because
accounting is part of so much that we do in business and our everyday lives,
you can enjoy greater opportunities if you understand and are able to use
accounting information effectively.

CHAPTER TWO
TERMINOLOGY AND PRINCIPLES OF
ACCOUNTING

There are various terms used in business, also like all fields, accounting
follows basic principles which help us to prepare reliable financial
reports. Some of the most important terms and principles will be
discussed in this chapter.

 Basic Terms

Transaction is the occurrence of an event or of a condition that affects the

business and it must be recorded.

Journal is the book of original entry that initially records the essential facts
and figures in connection with all transactions and selected other events. Here
are the types of journals: - General Journal, Sales Journal, Purchase journal,
Cash receipt journal and Cash payment journal.

Ledger refers to a group of related accounts that comprises a complete unit.

Assets are the properties owned by a business enterprise. E.g. Cash,

Equipment, Building, Land, Truck, Account Receivable

Liability is the amount that is owed (debt). A debt of the business; an amount
owed to creditors, employees, government bodies, or others; a claim against
assets.

Capital or Owners of equity the resources invested by the owner of the

business; asset - liabilities = owner's equity; also called residual equity.

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Revenue is the increase in capital that results from the operation of a

business. E.g. Sales, Fees, Interests etc…

Expense is the decrease in capital that results from the operation of a

business. The costs of the goods and services used up in the process of
obtaining revenue; expired cost.
E.g. Salary, rent, advertising expenses etc…

Withdrawal/Drawings are cash withdrawal by the owner for personal use. In

effect, this decreases the capital.

Account is a systematic arrangement that shows the effect of transactions on

a specific asset or equity. A separate account is kept for each asset, liability,
revenue, expense and for capital.

Credit the right side of an account.

Debit the left side of an account.

Income Statement A financial statement that shows the amount of income

earned by a business over an accounting period. It is a summary of revenue
and expenses of a business entity for a specific period of time.

Statement of Owner's Equity or Capital Statement is a financial

statement that shows the changes in the owner's capital investment during
the year

Balance Sheet is a financial statement that shows the financial position of

a business at a particular date. It is a list of assets, liabilities and capital of a
business entity as of a specific date.

 Classification of accounts

Accounts in a ledger are customarily classified according to common

characteristics within the asset, liability, capital, revenue and expenses
category. In addition, there may be sub-groupings with is the major categories.

Asset: - is any physical thing (tangible) or right (intangible) that has a money
value.

Current Assets are cash or other assets that may be reasonably be

expected to be realized into cash or sold or consumed usually within a
year or less through the normal operations of the business. E.g. Cash,
Note Receivables, Account Receivable, Prepaid expenses, supplies etc…
Fixed Assets (Non-Current assets) are tangible assets that are of a
permanent or fixed in nature with the exception of land, all fixed assets
depreciate within the passage of time. E.g. Equipment, Buildings,
Furniture, Car, Land etc…..

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Liabilities: - are debts of the business to outsiders (creditors) that arise from
normal operation of the business.

Current Liabilities are liabilities that will be due within a short time
usually one year or less and that are to be paid out of current assets.
E.g. Notes Payable Accounts payable, Interest payable, Rent payable.
Noncurrent Liabilities are liabilities that will be due for a comparatively
long time, usually more than one year. E.g. Mortgage payable, Bonds
payable, Bank loan payable.

Capital: - the term applies to the owner’s equity in the business. The initial
investment made by owners and retained earnings are included in the capital
account.

Revenue: - the gross increase in capital attributable to business activities.

The business may have different sources of revenue, so each source must be
separately shown. E.g. Sales, Fees, etc….

Expenses: - costs that have been consumed in the process of producing

revenue. Various types of expenses are incurred in order to produce the
revenue, so list of each expense must be shown. E.g. Salary expense, rent
expense, supplies expense etc….

Principles of Accounting
Some of the most important accounting principles are: -

BUSINESS ENTITY CONCEPT the main concern is with the company’s financial
statements. These statements are quite distinct from the statements of the
persons and organizations with which the company has dealings. In recording
transactions, therefore, the key question is “How do these events affect the
company?”

GOING CONCERN CONCEPT Financial reports are prepared on the assumption

that the business will continue for the unforeseeable future. For example, in
preparing the profit and loss account and the balance sheet, it is assumed that
there is no intention to close down the operations as a whole. This means that
it is appropriate to value stock, for e.g. at cost rather than at the amount
realizable on a future sale. The same principle applies to other assets such as
land and buildings.

TIME PERIOD CONCEPT to be useful, accounting information must be current

and presented in equal, understandable time units called accounting periods.

COST PRINCIPLE Income Statement and Balance Sheet accounts must be

recorded at cost, as evidenced by their objective fair market value at time of

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acquisition. Called historical costs, these figures, to the dismay of some, are
generally not adjusted to current market value.

REALIZATION PRINCIPLE With accrual accounting, revenue is recorded when

earned, and costs are recorded when incurred. For a retailing business, point
of sale easily establishes when earned,

for manufacturing and construction businesses, the process is more

complicated.

THE MATCHING PRINCIPLE When determining income, expenses must be

matched with the revenue they generate.

OBJECTIVITY PRINCIPLE To be reliable, accounting information must be

objective. Objectivity requires unbiased opinions of verifiable events
concerning business transactions.

MATERIALITY accounting principles need not be followed when the effect of

this action is immaterial and would not affect the reader's interpretation of the
accounting information.

FULL DISCLOSURE all relevant material facts must be incorporated into

financial statements. Some information, such as a contingent liability, is easily
communicated with a footnote.

CONSISTENCY accounting methods used to determine income and value of the

balance sheet items must be consistently applied.

STABLE DOLLAR ASSUMPTION Historical costing assumes a stable dollar.

Because the dollar is not stable, larger corporations, at FASB's request,
voluntarily prepare information on the effects of inflation on their financial
statements.

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CHAPTER THREE
FINANCIAL STATEMENTS
The principal financial statements are the income statement, the
statement of owners’ equity and the balance sheet.

 The Income Statement

The financial statement that reports the profitability of a business entity is

the income statement. The income statement compares revenue earned
during a specific period of time with expenses incurred during the same
period of time.

Revenue: the amount charged for the goods or a service rendered is called
revenue. Revenue represents the inflow of economic recourses to the
business entity. Examples of revenues are sales, commission earned, rental
fees, fees for professional services performed.

Expenses: A business’s expenses represent the economic resources

consumed in providing products or services to customers. Expenses include
the cost of goods sold, cost of services rendered to generate revenue, cost
of goods or services the company buys to operate the company buys to
operate the business.

RAINBOW RESERCH LAB

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Income Statement

Year ended December 31, 2010

Revenue ------------------------------------------------------------------------ $500,000.00

Expenses

Salary expense ---------------------------------- $89,300.00

Rent expense ------------------------------------- 95,000.00

Supplies expense -------------------------------- 55,000.00

Utilities expense -------------------------------- 28,900.00

Total expense ------------------------------------------------------------------ 268,200.00

Net Income -------------------------------------------------------------------- 231,800.00

When a business has more revenue than expense, the difference is its
profit, also called net income.

Revenue and expenses are time concepts. Without knowing what period of
time the statement covers, users can not interpret the financial data
reported, nor can they compare them with previous financial statement or
financial statement of other firms.

 The statement of owner’s equity

The statement of owner’s equity shows how the owner’s investment has
changed from the start of a period to the end of the period.

RAINBOW RESERCH LAB

Statement of owner’s equity

Year ended December 31, 2010

James Capital Jan1, 2010

$391,000.00

Add: Net Income

231,800.00

Total 622,800.00

Less: Withdrawals 120,000.00

James Capital Dec, 31, 2010

502,800.00

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 The balance sheet

The financial statement designed to show a business entity’s financial position

what is owned and what is owed on a particular date is called the Balance
sheet.

The balance sheet consists of two sides. The left side represents what the firm
owns, its assets, the right side represents what the firm owes, its liabilities,
and the amount of owner’s investment in the business, the owner’s equity.

The balance sheet is a list of assets, liabilities and owner’s equity at a point in
time. The assets of an economic entity are the economic resources that are
owned by the entity and are expected to provide future benefits. To be
included on the balance sheet as an asset, an economic resource must be
measurable. If not measurable it is not an asset. The liabilities of an economic
entity are its debts.

RAINBOW RESERCH LAB

Balance sheet

December 31, 2010

Assets Liabilities and

Owners equity

Cash $8,700.00 Liabilities

Account Receivable (A/R) 15,400.00 Note Payable

$20,000.00

Supplies on hand 3,200.00 Accounts payable (A/P)

7,900.00

Land 21,000.00 Total Liabilities

$27,900.00

Building 455,400.00 Owner’s Equity

Equipment 27,000.00 James’s Capital

502,800.00

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Total Assets $530700 Total Liabilities & Equity $530700

 Basic Accounting Model

The balance sheet equation:

All financial statements cannot be prepared until the financial transactions of

the business entity have been have been recorded, classified and summarized.

All financial statements relay on a simple relationship called the basic

accounting model, expressed by:

Asset = Liabilities + Owner’s Equity

A L OE/C

Whenever there is transaction, the equation is always in balance.

Effects of Financial Transactions on the Accounting Model

The following example illustrates how different transactions affect the

accounting model.

James decided to establish a car washing service. The business is to be

called James Car Wash. During March, 2010, the first month of operations,
various financial transactions took place.

Transaction1 James invests $20,000.00 from his personal savings in the new
business, depositing the money at the KCB into an account “James Car Wash”

Transaction 2 Car washing equipment costing $11,500.00 is required by

writing a check in that amount to the vendor (Supplied).

Transaction 3 Used car washing equipment is acquired on account,

$3,500.00.

Transaction 4 Soap, rags, polish and certain other necessary supplies in the
amount of $1,200.00 are acquired on account.

Transaction 5 during the month of March, car wash collects $4,300.00 in

cash for car James car washing service.

Transaction 6 James pays housing rent $750.00 for the month of March in
which James car wash is established.

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Transaction 7 James bills customers $1,300.00 for washing the company’s

vehicle.

Transaction 8 at the end of the month James pays the $3,500.00 bill for the
purchase of the used car washing equipment.

Transaction 9 Check in the amount of $700.00 is received from a corporate

for washing vehicles billed in transaction (7)

Transaction 10 James withdraws $1,000.00 from the business for his personal
use.

Transaction 11 James paid three high school students a total of $1,500.00 for
the month, for washing cars.

Transaction 12 The National advertising agency submitted a bill to James for

$950.00 advertising for the first month of operations.

Transaction 13 James invests an additional $500.00 in the business.

Now, based on the above transactions we can summarize the effect of each
transaction on the activity of the business.

 Preparing the Financial Statement

At the end of the month, after the last transaction has been recorded on the
financial transaction work sheet and the various columns have been totaled, it
is a relatively simple matter to prepare the financial statements – the income
statement, the owner’s equity and the balance sheet.

JAMES CAR WASH

Income Statement

For the month ended March, 31, 2011

Revenue

Car Wash $5,600.00

Expenses:

Rent expense $750.00

Wages expense 1,500.00

Advertising expense 950.00

Total Expenses 3,200.00

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Net Income $2,400.00

JAMES CAR WASH

Owner’s Equity Statement

For the month ended March, 31, 2011

James, Capital, March 1, 2011 $20,000.00

Add: Investments 500.00

Net Income 2,400.00

Total $22,900.00

Less: Withdrawals 1,000.00

James, Capital, March, 31, 2011$21,900.00

JAMES CAR WASH

Balance Sheet

March 31, 2011

Assets Liabilities &

Owners Equity

Cash..………………….. $7,250.00 Liabilities:

Accounts Receivable …. 600.00 Accounts Payable ……………

$2,150.00

Supplies on hand 1,200.00 Owner’s Equity:

Equipment 15,000.00 James, Capital

21,900.00

Total Assets $24,050.00 Total Liabs. & OE

$24,050.00

Exercise - 1

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David began operating his surveying business on Jan, 1, 2010. At that time, he
invested $1,000.00 of his personal funds into the business, which he called
David Surveyors. Listed below are the transactions for January.

a. Acquired $2,300.00 of equipment on account.

b. Acquired $500.00 of supplies paying cash.
c. Paid rent for the month, $250.00.
d. Received $800.00 cash for four surveyors completed this date.
e. Completed 10 surveys and billed clients a total of $2,000.00.
f. Paid $750.00 on the equipment acquired in (a).
g. Collected $600.00 from the surveyors completed in transaction (e).
h. Withdrawal $500.00 from the business.
i. Paid $100.00 for advertising that appeared in the local newspaper.

Required

1. Record the transactions listed above in a financial transaction

worksheet.
2. Prepare an income statement, a statement of owner’s equity, and a
balance sheet.

Exercise – 2

The accounts from the Balance sheet, statements of changes in owner’s

equity, and income statement of Samuel, ACCA Certified accountant and
Auditor, are:

a. Accounts payable $12,700.00

b. Accounts Receivable 39,600.00
c. Auditing fees Earned 272,300.00
d. Building 150,000.00
e. Cash 23,700.00
f. Samuel, Capital Jan. 1, 2010 261,700.00
g. Land 15,000.00
h. Note Receivable 12,000.00
i. Office equipment 72,500.00
j. Office Supplies expense 19,200.00
k. Office supplies on hand 5,600.00
l. Professional development fees 17,300.00
m. Rent expenses 10,500.00
n. Salaries Payable 6,100.00
o. Salaries expenses 147,000.00
p. Travel expense 8,200.00
q. Withdrawals 33,000.00
r. Utilities expense 3,600.00

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During the year just ended (Dec. 31, 2010), Samuel invested an additional of
$4,400.00 in the business.

Required

Prepare the three principal financial statements for the year ended Dec. 31,
2010.

Exercise 3

The information given below appears in the financial statement of Yancy

Company at the end of 2000.

1. Cash 30,000.00
2. Accounts payable 20,000.00
3. Accounts Receivable 40,000.00
4. Trucks 24,000.00
5. Notes payable 10,000.00
6. Office Equipment 32,000.00
7. John Yancy, Capital ?

Required

a. Calculate the amount of owner’s capital at the end of the year?

b. If the owner’s capital balance at the beginning of the year was
$40,000.00 and the owner withdrew $100,000.00 for personal use, how
much was net income for the year?

Exercise – 4

Trent Company, engaged in a service business, completed the following

selected transactions during July 2000. Now, indicate the effect of each
transaction on the accounting equation using (+) for the increase and (-) for
decrease.

Asset Liabilities Capital

1. Purchased office equipment on account
2. Paid an account payable
3. Earned service revenue on account
4. The company borrowed cash from a relative of the
Owner: a note was signed bearing no interest
5. Paid July salaries to employees
6. Received cash on account from a charge customer
7. Received gas and oil bill for July
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8. Purchased truck for cash.

CHAPTER FOUR
 DOUBLE ENTRY ACCOUNTING

Accounting Equation:

Assets of the business arise from creditors and owner’s claim.

Therefore,

ASSET = LIABILITIES +
CAPITAL
$100,000.00 $70,000.00
$30,000.00

is a basic accounting equation, i.e. the properties owned by a business are

equal to the rights or claims to the properties.

Example: Assume that a business owned assets of $100,000.00 owed

creditors $70,000.00 & owed owner $ 30,000.00. The accounting equation
would be:

If over a certain period the business had a net income of $10,000.00,

representing an increase of net assets, the change may be reflected as
increased cash, increased inventory or other assets, or as a decrease in
liabilities. Suppose that the $6,000.00 was used to reduce liabilities and the
balance remained in assets. The equation would then be:

ASSET = LIABILITIES + CAPITAL

$100,000.00 = $70,000.00 +
$30,000.00

(100,000.00+4,000.00) = (70,000.00-6,000.00) +
(30,000.00+10,000.00)

 Debits and Credits

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When an amount is entered in the left side of an account, it is debit and the
account is said to be debited. When an amount is entered on the right side, it
is a credit and the account is said to be credited. A debit (Dr) may be either an
increase or a decrease, depending on the nature of the account affected. A
credit (Cr) may likewise be either an increase or a decrease, depending on the
nature of the account.

Asset and expense increase are recorded as debits, while liability, capital
and revenue are recorded as credits. Asset and expense decreases are
recorded as credits. While liability, capital and revenue decreases are recorded
as debits. Or it can be stated the increase side of an account is its balance side
(Normal balance). Example, all assets and expenses increase when they are
debited, hence normal balance is DEBIT. All revenues, liabilities and capital
accounts credit when they are increased, therefore, their normal balance is
CREDIT.

o Note :- that the equality of debit and credit for each transaction is
inherent in the equation assets equal to the sum of liabilities and capital.

The rules of debit and credit could be summarized as follows:

Debits may signify

Increase in Asset accounts

Decrease in Liability accounts

Decrease in Capital accounts

Decrease in Revenue accounts

Increase in Expense accounts

Credits may signify

Decrease in Assets account

Increase in Liability accounts

Increase in Capital accounts

Increase in revenue accounts

Decrease in Expense accounts

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Every business transaction affects a minimum of two accounts. Regardless of

the complexity of a transaction or the number of accounts affected, the sum of
the debits is always equal to the sum of credits.

 Business Transactions

A transaction is almost any activity in which an entity engages i.e., event or

happening in a business that changes its financial position and or earnings.
Transactions are recorded in a journal and then posted to a ledger.

Examples of business transactions are investing in the business, buying

supplies, paying bills, withdrawing money from the business, buying
equipment and paying rent.

All business transactions, from the simplest to the most complex, can be
stated in terms of the resulting change in the three basic elements of the
accounting equation. The effect of these changes on the accounting equation
can be demonstrated by studying some typical transactions.

Assume that David established a sole proprietorship to be known as David

Taxi

A. David deposited $90,000.00 in a bank account in the name of David

Taxi.
B. David Purchased car and other equipment for which $75,000.00 in cash
is paid.
C. During the month, David purchased $800.00 of fuel, oil and other
supplies agreeing to pay in the near future (Purchased on account).
D. During the month $500.00 is paid to creditors on account.

The amount charged to customers for goods or services sold to them is

called Revenue alternative terms may be used for particular types of
revenue such as sales, fees, rent earned, interest earned, fares, etc….

E. During the month, David earned fares of $4,500.00 receiving the amount
in cash.
F. Various business expenses incurred and paid during the month were as
follows:
Rent exp = 75.00 Wages = 850.00 Utilities = 125.00 Miscellaneous
= 150.00
G. At the end of the month, it is determined that the cost of the supplies on
hand is $200.00. The remaining (800-200) has been used in the
operation of Taxi.
H. During the period, the Taxi was estimated to be depreciated $500.00.
I. David withdraws from the business $1,200.00 in cash for his personal
use.

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N.B The Taxi does wear out with usage and that in any event, its usefulness
decreases with the passage of time. This decrease in usefulness is called
Depreciation expense.

The accumulated depreciation is a contra asset account, which decreases the

fixed asset of David taxi to yield book value of fixed assets.

 Accounting Cycle
The principal accounting procedures of fiscal period could be presented in a
sequence of procedures, which is called the accounting cycle.

1. Transactions are analyzed

2. Transactions are journalized
3. Journal entries are posted to the ledger
4. Trial balance is prepared
5. Data needed to adjust the accounts are assembled
6. Work sheet is prepared
7. Financial statements are prepared
8. Adjusting entries are journalized and posted to the ledger
9. Post closing trial balance is prepared
10. Reversal entries are journalized and posted to the ledger
(Optional).

The basic phases of the accounting cycle will be discussed in the following
section.

 Analyzing Transactions
When a transaction occurs in a certain period of time, the first step to be taken
is to examine or analyze the effect of the transaction on the entity’s accounts.
Example the Fancy Company paid monthly salaries of its six employees.
The analysis of this transaction produces the following effects on the accounts
of the business, i.e. increase in the expense account and decrease on the cash
account.
 Recording Transactions
Business transactions completed during a period may affect assets, liabilities,
and capital, revenue, and expenses items. In order to have day to day
information available, when needed, it is necessary to record the transaction
and maintain a separate record for each different item. After journalizing is
completed, then the account has to be posted to its appropriate ledger
account.

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Journal entry The information of a transaction can be stated in a formal

manner by listing the title of the accounts affected and the amount to be
debited and credited. This process of recording a transaction in a journal is
called Journalizing.
Date Description P/ Debit Credit
R
2/1/2010 Cash 90,000.00
D. Capital 90,000.00
( To record the initial investment)
5/1/2010 Equipment 75,000.00
Cash 75,000.00
(To record purchase of Equipment)
8/1/2010 Supplies 800.00
Accounts payable 800.00
(To record the purchase of SS on
account)
15/1/201 Account payable 500.00
0
Cash 500.00
(To record payment of A/P)
31/1/201 Cash 4,500.00
0
Fares earned 4,500.00
(To record the revenue earned)
31/1/201 Wages Expense 800.00
0
Utilities expense 125.00
Rent expense 75.00
Miscellaneous expense 150.00
Cash 1,200.00
(To record different expense)
Adjustments
31/1/201 Supplies expense 600.00
0
Supplies 600.00
(To record supplies expense)
31/1/201 Depreciation expense 500.00
0
Accumulated depreciation 500.00
(To record depreciation expense)
31/1/201 David’s Drawing 1,200.00
0
Cash 1,200.00
(To record David’s Drawings)

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CHART OF ACCOUNTS

The use of account numbers is essentially important when using computerized

accounting system. This system of numbering general ledger accounts for an
economic entity is called chart of accounts. Here is a typical chart of
accounts:

Assets
1100 Cash in Hand Cash
1200 Cash in Bank Cash
1300 Petty Cash Cash
1400 Merchandise Inventory Inventory
1500 Equipment Fixed Asset
1510 Accumulated Accumulated
Depreciation Depreciation
1600 Building Fixed Asset
1700 Supplies Current Asset
1800 Current Asset
1900 Land Fixed Asset
Liability
2100 Accounts Payable Accounts Payable
2200 Dividend Payable Account Payable
2300 Mortgage Payable Long Term Liability
2400 Income Tax Payable Accounts Payable
Capital
3100 D’s Capital Equity doesn’t get
closed
3200 D’s Divided Equity get closed
3300 D’s Retained Earning Equity Retained Earning
3400 Withdrawal Equity get closed
Income
4100 Sales Income
4200 Sales Discount Income
4300 Service Income
4400 Fares Earned Income
Cost of Sales
5100 Purchase Cost of Sales
5200 Purchase Discount Cost of Sales
Expense

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6100 Tax Expense Expense

6110 Salary Expense Expense
6120 Wage expense Expense
6130 Utility expense Expense
6140 Rent expense Expense
6200 Depreciation Expense Expense
6300 Supplies Expense Expense
6400 Insurance Expense Expense
6500 Utility Expense Expense
6600 Freight Expense Expense
6700 Miscellaneous Expense Expense
After a transaction is analyzed and journalized, it has to be posted to the right
accounts in the ledger.

The Ledger
Ledger is the grouping of accounts based on their common characteristics. E.g.
the cash ledger discloses the debits or credits of cash in a certain fiscal period.
The revenue, office equipment, salary expense… etc also shows the amount of
debit or credit that occurred in the period.

Posting is the process of transferring data from the journal entry to the
appropriate accounts.

T-account is the skeletal form of a ledger that discloses three information,

the account title, the debit side of an account and the credit side of an
account. In other words it can be said that, T-account is the simplest form of
an account that has three parts:

1. A title- the item recorded in the account.

2. A space for recording increases.
3. A space for recording decreases.

Exercise 1

After completing medical school, Dr. Alex opened his medical practice on July
1, 2010, by investing $2,500.00 of his personal fund into the business. During
the month of July, the following transactions occurred:

a. Date 3: - Acquired $4,600.00 of medical equipment on account.

b. Date 7:- Acquired $1,000.00 of medical supplies paying cash.
c. Date 10:- Paid the rent for the month $500.00
d. Date 11:- Received cash $1,600.00 from patients for medical fees
earned.
e. Date 15. Completed medical examination of several corporate
executives and billed the corporation a total of $4,000.00.
f. Date 17. Paid $1,500.00on the equipment acquired on July3.
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g. Date 20. Collected $1,200.00 from the corporation in July 15.

h. Date 30. Paid $200.00 for utilities.

Required

Record the above transactions in a general journal. And post the transactions
to the general ledger. Use the appropriate account number.

Completion of the Cycle

Trial Balance
From time to time, the equality of debits and credits in the ledger should be
verified. As the first step in preparing the trial balance, the balance of each
account in the ledger should be determined. The sum of all accounts in the
debit side has to be equal with the sum of all accounts in the credit side. All
accounts in a trail balance appear in the following order: Assets, Liabilities,
Capital, Revenue and expenses. Within the liability category, those liabilities
with the shortest maturity appear first.

Exercise 2

Genet Cleaning Company entered in to the following transactions during the

month of November 2002. She made initial investment of $250.00:

1. Date 1. Acquired office supplies on account, $220.00.

2. Date 3. Paid rent for the month, $170s.00.
3. Date 5. Paid telephone bill for the month, $35.00.
4. Date 9. Received cash for cleaning performed on this date, $320.00.
5. Date 10. Paid advertising in the local business, $55.00.
6. Date 14. Withdrew cash from the business, $125.00.
7. Date 17.Paid customers for cleaning for the supplies acquired in Nov. 1
transaction, $110.00
8. 17. Billed customers for cleaning services rendered $435.
9. Date 23. Paid salaries to employees, $90.00.
10. Date 27. Received payment from customers, $315.00.
11. Date 30. Paid electric bill for the month, $45.00.

Required

1. Record the transactions in a general journal page number1.

2. Prepare a trail balance (Use T-accounts in the posting process.)

Basis of Accounting

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Generally, there are two bases of accounting; the Cash & Accrual accounting.

The cash base accounting recognizes revenue when cash is received and
recognizes expense when cash is paid out. Since the cash base accounting
doesn’t match “efforts” and “accomplishments” in terms of expense incurred
and revenue earned, it is generally consider theoretically unacceptable.

The accrual base of accounting recognizes revenue when sales are made or
services are performed, regardless of when cash is received. Expenses are
recognized as incurred, whether or not cash has been paid out. Under the
accrual basis, adjusting entries are needed to bring the accounts up to date for
unrecorded economic activities that have taken place.

 Adjusting Process

A trial-balance that contains accounts from General ledger, which are not
adjusted against the period are called Unadjusted Trial balance. Adjustments
bring this trail balance to its appropriate balance.

Entries required at the end of an accounting period to record internal

transactions are called Adjusting entries. In a broad sense they may be said
to be corrections to the ledger. Accounts such as prepaid expenses, supplies,
fixed assets, accrued expenses (liabilities) need adjusting entries.

Any account with a balance that is partly a balance sheet amount and partly
an income statement amount is referred to as a mixed account. For example,
the balance of supplies in the trial balance is composed of two elements: the
inventory of supplies at the end of the period which is an unexpired cost
(Asset), and the supplies used during the period which is an expired cost
(expense). Other examples of mixed accounts are prepayments of expenses
and advance receipts of revenues. These mixed accounts need adjustments at
the end of the accounting period to separate the expense and asset account in
cases of prepaid expenses and the liability from the revenue in cases of
deferred revenue.

The fixed asset of the business also needs adjustment at the end of the period,
because the depreciated value of the fixed asset has to be included in the
expense of the income statement.

Classes of Adjusting entries:

Deferred items consist of adjusting entries involving data previously

recorded in accounts. These entries involve the transfer of data already
recorded in asset and liability accounts to expense and revenue accounts,
respectively.

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Accrued items consisting of adjusting entries relating to activity on which no

data have been previously recorded in the accounts. These entries involve the
initial, or first, recording of assets and liabilities and the related revenues and
expenses.

What is Depreciation?

Depreciation refers to the systematic allocation of the cost of a tangible fixed

asset over its useful life. It represents how much of an asset's value has been
used up over time. This concept is commonly applied to assets like machinery,
buildings, vehicles, and equipment.

Depreciation is essential in accounting because it reflects the expense of using

an asset in generating revenue during a specific period.

Key Points About Depreciation:

1. Non-Cash Expense: It doesn't involve any actual cash outflow.

2. Reduces Taxable Income: By treating it as an expense, businesses

can reduce their taxable income.

3. Allocates Costs Fairly: Distributes the cost of an asset across its useful
life.

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Straight-Line Method (SLM):

 Equal expense every year.

 Formula: Depreciation Expense=Cost of Asset−Salvage Value

Useful life of the asset

 Example: A machine costing $10,000 with a salvage value of $2,000 and a

useful life of 4 years has an annual depreciation of:

Depreciation Expense=Cost of Asset−Salvage Value

Useful life of the asset

= 410,000−2,000
=2,000per year.

Example the trial balance of Korman Company for Dec, 31, 1994, include
among other items, the following account balances:

 Supplies on hand $6,000.00

 Prepaid rent 25,200.00
 Building 200,000.00
 Accumulated Depr. Building $33,250.00
 Salaries Expense 124,000.00
 Unearned Delivery Fees 4,000.00

Additional Data:

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a. An inventory count of the supplies actually on hand at Dec, 31 1994

totaled to $2,400.00.
b. On May 1, of the current year, $25,200.00 rental payments were made
for 12 months of rent.
c. The annual depreciation for the buildings is based on the cost shown in
the building account less an estimated salvage value of $10,000.00.
Estimated useful life of the building is 40 years.
d. The salaries expense of $124,000.00 does not include, $6000.00 of
unpaid salaries earned since the last pay day.
e. The company has earned ¼ of the unearned delivery fees by Dec. 31.
f. Delivery services of $600.00 were performed for customers, but a bill
has not yet been sent.

Required

Prepare the adjusting entries for Dec. 31, assuming adjusting entries are
prepared only at year end.

Solution

a. Supplies expense (6000-2400) $3,600.00

Supplies on hand 3,600.00
b. Rent expense [(25200/12)x8] $16,800.00
Prepaid rent 16,800.00
c. Depr. Expense [(200000-10000)/40] 4,750.00
Accm. Depr. Building 4,750.00
d. Salaries expense 6,000.00
Salaries payable 6,000.00
e. Unearned delivery fees (4000/4) 1,000.00
Delivery fees earned 1,000.00
f. Accounts Receivable 600.00
Delivery Fees Earned 600.00
N.B the decrease in value of fixed assets is called Depreciation.
Salvage value (Scrap value) is the amount that the company can
probably sell the asset at the end of its estimated useful life.
Using a straight line method, Depreciation is calculated as follows:

Annual Depreciation =Asset Cost – Estimated Salvage Value

Estimated no. of Yrs of Useful life
Exercise 4
The trail balance of Martin Company as of Dec, 31, 1994 includes,
among other items, the following account balances:
Prepaid rent $96,000.00
Prepaid Insurance 48,000.00

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Buildings 800,000.00
Accum. Depn: Building $256,000.00
Salary expense 440,000.00
Additional Data
a. The debit balance in the prepaid insurance account is the advance
premium for one year from September 1 of the current year.
b. The buildings have an estimated useful life 25 years and an
estimated salvage value of $160,000.00
c. Salaries incurred but not paid at December 31 are $35,200.00
d. The debit balance in the prepaid rent is for one year period that
started March 1, of the current year.

Required: - Prepare annual adjusting journal entries for December 31,

1994

The Work sheet

Work sheets are extremely important and helpful but are not part of the
permanent accounting records of a business entity. Records such as the
general journal, general ledger, and the financial statements are
permanent, so they are maintained in a durable state.

Work sheets are written in pencil so that any detected errors can be easily
erased and corrected prior to preparing permanent record. The worksheet
has five column headings, each embracing a pair of debit- credit columns,
as follows.

Unadjusted Adjusted Income

Trial Adjustment Trial statement Balance
Balance s Balance sheet
Debit Credi Debit Credi Debit Credi Debit Credi Debit Credi
t t t t t

Example: The unadjusted trial balance of Elina Company year ended October
31, 2002 was as follows.

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Nile training center

ABC Consulting Services began operations on March 1, 2024. Below are the
transactions for the month of March:

1. March 1: The company issued common stock for $100,000 cash.

2. March 3: Purchased office supplies for $2,500 on account.
3. March 5: Paid $12,000 for a one-year insurance policy, effective immediately.
4. March 10: Completed a consulting project and billed the client $15,000.
Payment is due in 30 days.
5. March 15: Received $5,000 cash advance from a client for services to be
performed in April.
6. March 20: Paid salaries to employees totaling $8,000.
7. March 25: Received a $1,200 utility bill for March; payment is due in April.
8. March 30: Collected $10,000 from the client billed on March 10.
Additional Information for Adjustment

 As of March 31, $1,000 of office supplies remain unused.

 The insurance policy purchased on March 5 covers one year.
 Depreciation on office equipment is estimated to be $500 per month.
 Employees have earned an additional $2,000 in salaries by March 31, to be
paid on April 5.
Requirements:

Complete the accounting cycle by using the above questions.

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DEF Services Co. began operations on July 1, 2024. Below are the transactions for
the month of July:

1. July 1: The company issued common stock for $75,000 cash.

2. July 2: Purchased office equipment costing $15,000, paying $5,000 in cash

and signing a note payable for the remaining balance.

3. July 5: Paid $6,000 for a six-month insurance policy, effective immediately.

4. July 10: Provided services to clients and earned $20,000, with $12,000
received in cash and the remaining $8,000 on account.

5. July 15: Purchased office supplies for $2,000 on account.

6. July 20: Received $5,000 from clients for services previously performed on
account.

7. July 25: Paid salaries to employees totaling $7,500.

8. July 28: Declared and paid dividends of $2,000 to shareholders.

Additional Information for Adjustments:

 As of July 31, $500 of office supplies remain unused.

 The insurance policy purchased on July 5 covers a six-month period.

 The office equipment has an estimated useful life of 5 years with no salvage
value. Depreciation is to be recorded monthly using the straight-line method.

 Employees have earned an additional $1,500 in salaries by July 31, to be paid

on August 5.

Requirements:

Complete the accounting cycle by using the above questions.

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Elina Company
Unadjusted Trial Balance
October 31, 2002
Description Debit Credit
Cash $19,600.00
A/R 30,800.00
Prepaid Rent 27,000.00
Office Supplies on hand 4,200.00
equipment 70,000.00
Account peyable $21,000.00
Unearned Commission 12,000.00
Elina, Capital 94,500.00
Elina Withdrawal 8,200
Commission earned 80,100.00
Salary Expense 46,200.00
Utilities expense 1,600.00
Total $207,600.00 $207,600.00

The Elina Co. started operations on Nov. 2001. At the end of October 2002, in
addition to what we see in the trial balance, we also know the following facts.

a. Elina’s rent is $9000.00 per year

b. The value of the office supplies on hand is $2,800.00 as determined by a
count on October 31, 2002.
c. Office equipment purchased and installed on the first of Nov. 2001, is
determined at the rate of $3,600.00 per year.
d. Unearned commission of $3,000.00, recorded earlier in the year, has
been earned.
e. $1,200.00 Salaries are owed to Elina’s employees.

Required

Complete the worksheet and prepare income and balance sheet statements.

 CHAPTER FIVE
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Closing Entries
The closing entries are recorded in the general journal immediately
following the adjusting entries.

Asset, Liability, Capital, Revenue and Expense accounts are divided in to

two account groups. These groups are called real accounts and nominal
accounts.

Real accounts are accounts that appear on the balance sheet, which are
Asset, Liability and Capital. They are called Permanent accounts.

Nominal Accounts are accounts that appear on the income statement

which are revenue and expense accounts and also drawings made by the
owner for personal use. They are also called temporary accounts.

In this process of closing, all of the nominal or temporary accounts are

cleared off their balances, reducing them to zero so they will be ready to
receive data for the next accounting period. The final effect of closing out
such balances is a net increase or a net decrease in the capital account
(owner’s equity account).

 The closing process:

the closing process is the act of transferring (1) the balance in the revenue
and expense accounts to a clearing account called income summary and
then to owner’s capital, and (2) the balance in the owner’s drawing account to
the owner’s capital account.

In accounting, the process of closing is often referred to as closing the books.

The four basic steps in the closing process are:

1. Closing the revenue (s) transferring the balances in the revenue

accounts to a clearing account called income summary.
2. Closing the expense accounts transferring the balances in the
expense accounts to a clearing account called income summary.
3. Closing the income summary account transferring the balance of
income summary account to owner’s capital account.
4. Closing the owner’s drawing account transferring the balance of the
owner’s drawing account to the owner’s capital account.

N.B Remember that only revenue, expense and drawing accounts are closed
not asset, liability or owner’s equity accounts.

In other words, the effect of closing entries may be described as follows:

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a. The first entry closes all income statement accounts with credit balances
by transferring the total to the credit side of the capital account (income
summary).
b. The second entry closes all income statement accounts with debit
balances by transferring the total to the debit side of the capital account
(income summary).
c. The third entry closes income summary by transferring its balances to
capital or retained earnings in case of corporations.
d. The forth entry closes drawings or divides by transferring its balance to
capital or retained earnings respectively.

Example Prepare a closing entry for the example given to the Elina Company.

 Post closing Trial Balance

It is a trial balance taken after the closing entries have been posted. The only
accounts that should be opened are assets, liabilities, and owner’s capital
accounts. Account balances are listed in debit and credit columns and totaled
to make sure debits and credits are equal.

Example:

ABC COMPANY

Post Closing Trial Balance

July 31, 2002

Cash $9,500.00
A/R 8,100.00
Land 40,000.00
Building 24,000.00
Accumulated Depreciation: $200.00
Building
Salaries Payable 100.00
A/P 1,100.00
Loan Payable 40,000.00
John, Capital 40,200.00
Total $81,600.00 $81,600.00

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Practice exercise and Problems

Exercise 1

Juba Medical Studio has the following accounts in its ledger as of Jan. 1, 2002

Cash = $12,000.00 A/c Rec. = $4,500.00 Supplies = $6,500.00; Office

Equipment = $15,000.00

A/c Pay. = $13,000.00; K. Capital = $25,000.00

The following transactions were completed during the month of January.

a. Date 1. Paid rent for the month; $2,750.00

b. Date 2. Paid cash for supplies; $300.00
c. Date 8. Purchased office equipment on account; $450.00
d. Date 13. Paid advertising expense; $280.00
e. Date 15. Received cash from customers on account; $370.00
f. Date 18. Paid creditors on account; $150.00
g. Date 25. Withdrew cash for personal use; $300.00
h. Date 29. Paid telephone bill for the month; $50.00
i. Date 30 paid electricity bill for the month; $90.00
j. Date 31. Fees earned and billed to customers for the month; $9,000.00
k. Date 31. Paid employees; $2,500.00 for the month’ salary.

Instructions

1. Determine whether the item affected is asset, liability, capital, revenue,

or expense.
2. Determine whether the item affected increases or decreases.
3. Determine whether the effect of the transaction should be recorded as a
debit or as a credit.
4. Record the forgoing transaction in a two-column journal.
5. Post the journal to the ledger.
6. Prepare a trail balance as of January 31, 2002.

Exercise 2

Accounts all with normal balance at Dec. 31, 2002 just before adjustment
appear below on alphabetical order.

A/P $6,000.00 Notes payable $20,000.00

A/R 4,200.00 Prepaid Insurance 2,000.00
Accm Dep. 4,000.00 Rent exp. 3,000.00
Furniture
Cash 65,000.00 Salaries exp. 24,000.00
David’s Capital 16,000.00 Service revenue 85,600.00
David’s Drawing 14,000.00 Supplies 800.00

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Furniture 16,000.00 Utilities exp. 2,000.00

Miscellaneous 600.00
exp.

The following adjusting information has come to your attention.

a. Inventory of supplies on Dec. 31, 1995 $300.00

b. Insurance expires during the period $1,600.00
c. Furniture is depreciated annually at 12%
d. Unexpired rent is $1,800.00
e. Accrued salaries but not paid $2,000.00

Instructions

1. Prepare a trial balance at Dec. 31, 2002 before adjustment

2. Record the adjusting entries in a general journal.
3. Record the closing entries in a general journal.

Problem 1

The preliminary trial balance of West Coast Co. presented below does not
balance. In reviewing the ledger and other records you discover the following:

1. The debits and credits in the cash account totals $39,200.00 and
$32,200.00 respectively.
2. A receipt of $ 500 from a customer on account was not posted to the
accounts receivable account.
3. A payment of $1,000.00 to a creditor on account was not posted to the
cash account.
4. The balance of the equipment account is $13,000.00.
5. Each account had a normal balance.

Prepare a corrected trial balance

West Coast Co.

Trial Balance
Dec. 31, 2002
Debit Credit
Cash $7,400.00
A/R 8,700.00
Prepaid Insurance $1,100.00
Equipment 11,200.00
A/P 6,300.00
Salaries payable 800.00
Capital 16,800.00
Drawing 900.00
Revenues 12,500.00

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Salary expense 5,600.00

Rent expense 600.00
Miscellaneous expense 1,000.00
Total 34,700.00 38,200.00

Exercise 3

Presented below are the accounts of Poole Butler service prior to the
September 30, 2002, yearend adjustment.

Revenue $45.00 Unearned Revenue $12.00

Office Equipment 30.00 Account payable 9.00
Poole, Capital 24.00 Account receivable 9.00
Salary expense 18.00 Poole, Withdrawal 9.00
Office supplies on 15.00 Cash 3.00
hand
Accm. Dep. 12.00 Rent expense 3.00
Prepaid Insurance 12.00 Miscellaneous 3.00
expense

The following data are available for the September 30, 2002 yearend
adjustments:

Accrued $6.0 Unearned revenue earned during $9.00

Salaries 0 the year
Depreciation 3.00 Office supplies on hand 6.00
Expired 6.00
insurance

Required: Prepare and complete the worksheet.

Exercise 4

The following information relating to the accounts of the Edinburgh equipment

company is available prior to July. 31, 2000 yearend adjustments:

a. The company paid $600.00 to the Glasgow insurance company on July 1,

for three months insurance to cover the months of July, August, and
September.
b. The general ledger account store supplies on hand shows a $1,850.00
debit balance. A count of the store supplies on July 31, amounts to
$370.00
c. On May 1, 2000 the company received a $5,400.00 payment for
equipment to be delivered in equal dollar amounts over the months of

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May and the following 8 months. The $5,400.00 is reflected on July 31, in
the unearned revenue accounts.
d. The office furniture account shows a $25,000.00 balance on July 31
representing furniture acquired on Feb. 1, 2000. The furniture is
estimated to have a 10 year life after which the furniture will be of no
value.
e. The last day of July, 2000 falls on Tuesday. Employees of the company
are paid $7,500.00 every week.

Required

1. For each of the five items above prepare adjusting entry.

2. Record the payment of the $7,500.00 salary on Friday August 3, 2000.
Exercise 5
The XYZ enterprise’s year ends on Dec, 31, 2000. Prepare in general journal
entry form the yearend adjusting entries indicate by each of the following
four items.
a. Prepare rent paid in the amount of $600.00 was paid on April 1, 2000,
for a 12 month period ending March 31, 2001.
b. Office supplies were acquired on May 15 in the amount of $2,735.00. on
Dec 31, 2000 the amount of office supplies remaining amounted to
$415.00.
c. XYZ enterprise received $1,440.00 on September 1, 2000 for advertising
that it will do for a client over the next 24 months.
d. The company acquired new office equipment costing $8,000.00 on July
1, 2000. The machine has an estimated life of 10 years, after which it
will be worthless.

Exercise 6

A building is depreciated by an estimated amount of $25,000.00 per year. You

know it had an original cost of $280,000.00 and was expected to last 10 years.
What is the estimated salvage value?

Exercise 7

Dana & Heather, a law firm performed legal services in late Dec, 2002 for
clients. The $102,000.00 of services will be billed to the clients in Jan. 2003.
Give the adjusting entry that is necessary on Dec. 31, 2002, if financial
statements are prepared at the end of each month.

Exercise 8

Susan Company incurs salaries at the rate of $4,000.00 per day. The last pay
day in January is Friday, January 27. Salaries for Monday, and Tuesday of the
next week have not been recorded or paid as of January 31. Financial
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statements are prepared monthly. Give the necessary adjusting entry on

January 31?

Exercise 9

Assuming that the company acquired building on January 1 2002, at a cost of

$2,000,000.00. The building has an estimated an estimated useful life of 40
years and an estimated salvage value of $400,000.00. What adjusting entry is
needed on December 31 2002, to record the depreciation for the entire year
2002?

Exercise 10

After preparing and posting adjusting entries, Bowen Company had the
following balances in its nominal accounts on December 31 2002 before
closing the books.

Rent expense $20,000.00

Service Revenue 100,000.00
J.Bowen, Drawing 30,000.00
J.Bowen, Capital 170,000.00
Salaries expense 70,000.00
Interest revenue 2,000.00

Prepare Journal entries to record the necessary closing entries.

CHAPTER SIX
 ACCOUNTING FOR MERCHANDISE

Merchandising firms (trading firms) are those whose main business activity is
to buy and sell products, either at the retail level or at the wholesale level.

An income statement for a merchandising concern firm is as follows

XYZ Company
Income Statement
For the year ended Dec. 31, 2011
Sales $172,000.00
Cost of Goods Sold 123,975.00
Gross Profit $48,750.00
Operating Expenses
Salary expense $27,325.00
Advertising expense 6,255.00
Rent expense 2,700.00
Depreciation expense 1,125.00

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Insurance expense 750.00

Store Supplies 1,920.00
expense
Total Operating 40,125.00
Expenses
Net Income $8,625.00
A merchandising concern business has two types of expenses:

 The cost of goods sold: is the expense of the merchandising sold for the
period.
 Operating expenses are the other expenses necessary to run the
business.

The cost of goods sold is subtracted from the revenue (sales); the difference is
gross profit (gross margin). Operating expenses are then deducted from gross
margin to determine the net income.

Sections of Merchandising Firm’s Income Statement

The Income statement of merchandising firms comprises three distinct

sections: Sales, Cost of Goods Sold and Operating Expenses.

The Operating Expense Section:

Some merchandising firms break down operating expenses into two sections:
Selling and General expenses.

Selling expenses are those expenses related to the marketing functions,

such as sales salaries or commissions, delivery expenses, and depreciation on
store equipment.

General expenses included all other expenses, such as executive and office
salaries and depreciation on office equipment.

The Sales Section

The primary objective of a merchandising concern is the same as for any

business entity, to earn a profit. For a merchandising business to earn a profit,
the amount of its sales revenue must exceed the sum of its cost of goods sold
and operating expenses.

The sales of merchandise on cash are referred to as cash sales or, the seller
can agree to accept payment at some time after delivery of merchandise. This
is referred to as sales on account.

The General journal entry to record cash sales is:

i. Cash $100.00
Sales $100.00
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The General journal entry to record sales on account:

j. Account Receivable $200.00

Sales $200.00

Sales returns and allowances

After purchasing an item, a customer may find it defective in some way-

perhaps it malfunctions, or is the wrong size or color. The customer returns the
item to the merchandising firm, which acknowledges receipt of the returned
item – a transaction that essentially neglects the original sale.

When merchandising is returned, this transaction is recorded in the contra

account by debiting to sales returns and allowances and crediting to cash or
Accounts receivable.

k. Sales returns and allowance $50.00

Cash (A/R) $50.00

Sales Discount

The arrangement between the seller and the buyer or merchandising

concerning the methods of payment is usually expressed on the sales invoice –
the bill. The arrangement is referred to as the credit terms of the sale. One
common arrangement is to require that the bill be paid 10 days after the end
of the month in which the sale was made. This is expressed on the sales
invoice as: n/10, EOM. Net income is due 10 days after the end of month.
Another common credit term is to require payment 30 days after the sale. The
term n/30 is used to express this arrangement which means net amount is due
30 days after the sale. Many seller offer a cash discount (a sales discount) if
the bill is paid within a specified period of time.

Example: it is common practice to offer a 2% discount of the price of the

merchandise if the bill is paid in full within 10 days of the sale, if not the
amount will be paid within 10 days, terms would be represented on the sales
invoice as 2/10, n/30. The seller establishes the discount and time period.

Example XY Company credit sales are subject to the terms 2/10, n/30, and
that a customer with $450.00 sales on account pays within the 10 days
discount period. The general journal entry to record the payment would be:

l. Cash $441.00
Sales discount (450 x 2%) 9.00
Account Receivable $450.00

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Sales discount like sales return an allowance, is a contra revenue account.

Sales Tax

A liability, sales tax payable, is incurred when the sales takes place (whether
for cash or on account). This liability will be paid periodically to the
government, and unpaid amounts are reported on the company’s balance
sheet as a liability, Tax liability the tax is collected at the time cash is received
from the sale or the payment of the Account receivable.

Example: A cash of $80.00 in a state having a 5% sales tax would be recorded

as follows.

a. Cash 84.00
Sales 80.00
Sales tax payable 4.00

If the $80.00 sale were made on account the entry would be

1. Account Receivable 84.00

Sales 80.00
Sales tax payable 4.00

The payments of sales tax to the concerned body involve the following
transaction.

j. Sales tax payable 4.00

Cash 4.00
 Cost of Goods Sold Section

The matching principle requires that only those products sold during an
accounting period be matched against the revenue earned. This significant
expense is called the cost of goods sold. The amount of products purchased
but not yet sold is called the merchandising inventory so the product on
hand at the end of an accounting period is called the ending merchandise
inventory.

Beginning Inventory + Purchase = Goods Available for Sale

Goods Available for Sale – Ending Inventory = Cost of Goods Sold

Current year beginning merchandise inventory is simply last years ending

merchandising inventory

Purchase we use the term purchase in accounting to refer to merchandise

that is bought for one purpose to be resold purchase may be for cash or on

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account. The purchase of merchandise for cash involves the following

journal entry.

a. Purchase 400.00
Cash or A/P 400.00

Purchase returns and allowances to seller are equivalent to purchases returns

and allowances to a buyer.

CHAPTER SEVEN
RECONCILING THE BANK BALANCE (BANK STATEMENT)

Bank provides important services to individuals or businesses. They accept

deposits, process payments to others, and provide statements that account for
these and other transactions.

Their services helps business to control cash in several ways:-

1. Safeguarding- Bank is secure place to deposits cash, therefore business

needs to keep limited amount of cash on hand so this will reduce the risk
of stolen or misplaced.
2. Improving efficiency and effectiveness- by allowing to process payment
by cheque, banks can facilitate transaction.
3. Independently verifying- helps to verify the accuracy of the cash book by
independent accountant of the bank.

An account with a bank that is provided to the depositor is called a checking

account. Writing a check makes withdrawals from a checking account. A
check is an order in writing signed by the depositor, ordering the bank to pay
cash from the depositors account. These are three parties to a check:

a. Drawer one who signs the check as the owner of the checking account.
b. Payee the one to whom order the check is written.
c. Drawee the bank on which the check is drawn, that is the bank which is
ordered to pay the cash

Bank Reconciliation: the process of comparing two sets of record is

called reconciling.

A bank reconciliation system is a process that ensures the

accuracy and consistency between a company's internal
financial records and its bank statements. This process involves

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comparing the company's recorded transactions with those

listed on the bank statement to identify and rectify any
discrepancies. Regular bank reconciliations are essential for
effective financial management, as they help detect errors,
prevent fraud, and provide an accurate picture of a company's
cash flow.
Key Steps in the Bank Reconciliation Process:
1. Obtain Bank Statement and Company Records:
o Gather the bank statement for the reconciliation period
and the company's cash book or ledger.
2. Compare Deposits:
o Match deposits recorded in the company's books with
those on the bank statement.
o Identify any deposits in transit (deposits recorded in
the company's books but not yet reflected on the bank
statement).

3.Compare Withdrawals:
o Match withdrawals, including checks issued, with those
on the bank statement.
o Identify any outstanding checks (checks issued by the
company that have not yet cleared the bank).
3. Identify Bank-Recorded Transactions:
o Note any transactions on the bank statement not
recorded in the company's books, such as bank fees,
interest earned, or direct debits.
4. Adjust Company Records:
o Update the company's cash book to reflect any
unrecorded transactions identified in the previous step.
5. Prepare the Bank Reconciliation Statement:
o Start with the bank statement's ending balance.
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o Add deposits in transit.

o Subtract outstanding checks.
o Adjust for any bank errors if applicable.
o The resulting amount should match the adjusted
balance in the company's cash book.
Practical Example:
Let's consider XYZ Corporation's bank reconciliation for March
2024.
 Bank Statement Balance (March 31, 2024): $10,000
 Company's Cash Book Balance (March 31, 2024): $9,500
Reconciling Items:
1. Deposits in Transit:
o A deposit of $1,500 made on March 31 is not yet
reflected on the bank statement.
2. Outstanding Checks:
o Check #105 for $700 issued to a supplier has not yet
cleared the bank.
3. Bank Fees:
o A bank service fee of $50 was deducted by the bank
but not yet recorded in the company's books.
4. Interest Earned:
o Interest of $20 was credited to the bank account but
not recorded in the company's books.
Bank Reconciliation Statement:
 Bank Statement Balance: $10,000
o Add: Deposits in Transit: $1,500
o Less: Outstanding Checks: ($700)
 Adjusted Bank Balance: $10,800
 Company's Cash Book Balance: $9,500
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o Add: Interest Earned: $20

o Less: Bank Fees: ($50)
 Adjusted Cash Book Balance: $9,470
Discrepancy:
The adjusted balances do not match, indicating a discrepancy
of $1,330 ($10,800 - $9,470). This discrepancy needs to be
investigated further to identify any errors or omissions in either
the bank statement or the company's records.
Next Steps:
 Review Transactions: Examine all transactions for errors,
such as double entries or omissions.
 Check for Bank Errors: Contact the bank to verify any
potential errors on their part.
 Update Records: Once discrepancies are identified, update
the company's records accordingly and prepare a revised
bank reconciliation statement.
Regular bank reconciliations help maintain accurate financial
records, detect fraud, and ensure effective cash flow
management.

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1 VALUATION AND INVENTIRY

VALUATION METHODS

The term inventory is defined as merchandise held for sale. For a

manufacturing business, inventory also means materials in the process of
production and raw materials held in store.

Accounting for any kind of inventory is involved in solving two main

issues:

a) Determining the total cost of inventory acquired, and

b) Allocating those costs between the goods that were sold and those that
remain on hand.

The ending inventory could be made by counting the number of the

physical units of inventory owned by the firm. All businesses are required
to make physical inventory counting at least once in a year. These counts
are made to ensure that no record keeping errors are made and to
discover the amount of any inventory stolen or spoiled. In determining the
ending inventory, we can use two methods, namely, the perpetual
inventory system and the periodic inventory system.
10.3 The Periodic System:
When the periodic system is used, the counting, weighing, and measuring
should be done at the end of the accounting period. To accomplish this,
the inventory crew may work continuously until the counting is finished.
At the counting time, business operations may be stopped. A common
practice of counting in this system is to use a team of two persons. One
person determines the quantity and the other lists the description and the
quantity on the inventory sheets. In this system, we can also apply the
three inventory counting methods that we used in the perpetual system.

perpetual inventory system

A perpetual inventory system is a method of continuously
tracking inventory levels in real-time through the use of
computerized systems. This approach updates inventory
records immediately as transactions occur, providing
businesses with accurate and up-to-date information on stock
quantities
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Cost flow assumptions

First-In, First-Out (FIFO) is an inventory valuation method
that assumes the earliest purchased or produced goods are the
first to be sold or used. This approach aligns with the natural
flow of inventory, where older items are sold before newer
ones.

Key Features of FIFO:

 Cost Allocation: Under FIFO, the cost of the oldest inventory
items is assigned to the cost of goods sold (COGS), while the
remaining inventory is valued at the most recent purchase
costs.

 Financial Impact: In periods of rising prices, FIFO results in

lower COGS and higher ending inventory values, leading to
higher taxable income. Conversely, in periods of falling
prices, FIFO results in higher COGS and lower ending
inventory values.

Last-In, First-Out (LIFO) is an inventory valuation

method that assumes the most recently acquired items are the first
to be sold or used. Under LIFO, the cost of the latest purchased or
produced goods is expensed first, impacting the cost of goods sold
(COGS) and ending inventory values.

Key Features of LIFO:

 Cost Allocation: The most recent inventory costs are assigned

to COGS, while older inventory costs remain in ending
inventory.

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 Impact on Financial Statements: In periods of rising prices,

LIFO results in higher COGS and lower ending inventory
values, potentially reducing taxable income .

A weighted average is a statistical measure that assigns

different levels of importance, or "weights," to each value in a data
set. Unlike a simple average, where each value contributes equally,
a weighted average accounts for the varying significance of each
data point.

Calculation of Weighted Average:

To compute a weighted average, follow these steps:

1. Multiply each value by its corresponding weight:

o For each data point, multiply the value by its assigned

weight.

2. Sum the weighted values:

o Add all the products obtained in the previous step.

3. Divide by the sum of the weights:

o Divide the total from step 2 by the sum of all weights to

obtain the weighted average

DATE EXPLANATIO UNITS UNIT TOTAL

N COST COST

JAN .1 BEGNNING 100 $10 $1000

INVENTORY

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APR .15 PURCHASE 200 11 2200

AGO.24 PURCHASE 300 12 3600

NOV.27 PURCHSE 400 13 5200

TOTAL 1000 12000

The company had a total of 1,000 units available

that it could have sold during the period.The total
cost of these units was $12,000.A physical
inventory at the end of the year determined that
during the year Houston sold 550 units and had
450 units in inventory at December 31. The
question then is how to determine what prices to
use to value the goods sold and the ending
inventory.The sum of the cost allocated to the
units sold plus the cost of the units in inventory
must be $12,000, the total cost of all goods
available for sale.
fifo

date explanati units Unit Total

on cost cost

Jan.1 Begning 100 10 1000

inventor
y

April.1 Purchase 200 1 2200

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Agust. Purchase 300 12 3600

24

Nov.27 purchase 400 13 5200

total 1000 12,00

0

Step 1 ending inventory step 2 cost of

goods sold

Date uni Uni C,o,g,a,f,s

t t $12,000
cos Less ending inventory 5800
t
Cost of goods sold $6200

Nov. 40 52
27 0 00

Agu. 50 60
24 0

total 45 58
0 00

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LIFO
Cost of goods available for
sale

Date explanati units Unit Tot

on cost al
cost

Jan.1 Beginnin 100 10 100

g 0
inventor
y

Apr .1 200 11 220

5 0

Agu.24 300 12 360

0

Nov.27 400 13 520

0
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Total 1000
12,000

Step 1 .ending inventory

Date units unit cost cost
Jan . 100 10 1000
Apr.15 200 11 2200
Aug.24 150 12 1800
Total 450

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Average cost method

Payroll
Payroll is refers to the process followed to pay employees for their work,
payroll costs includes: - Salaries, wages, bonuses, employer payroll taxes
and employee benefits.

Salaries – are fixed amounts that are paid monthly, typically to

managerial, sales, and administrative personals.

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Wages – are based on rate per hour or per unit of production and typically
paid for clerks, factory workers, and art time employees.

Bonuses – are extra amounts paid to employees for outstanding

performances. It is not usual for executive level employees to receive
more on bonuses than in salary.

Employee benefits include amounts employers paid on behalf of

employees for health insurances, retirement pensions and vacation,
illness and family leave.

Payroll calculation

1. Gross Earning - 2. Payroll Deductions =

3. Net Pay

↓ ↓ ↓
Salaries and wages expenses owed to government & other organization Owed
to employees

Example

Payroll
Annua
Sr. Full Regul Overtim Employee Pensio Health l Net
No Name ar e Bonus Taxes n Inus. Leave Pay

Journalizing payroll

Journalizing payroll entries is a fundamental accounting task that

ensures accurate financial records for employee compensation. Here's
a step-by-step guide to help you through the process:

1. Gather Payroll Information: Collect all necessary data, including

gross wages, tax withholdings, benefit deductions, and employer
contributions. This information is typically obtained from your payroll
register or software.

Hourly

2. Set Up Payroll Accounts: Ensure your chart of accounts includes

specific payroll-related accounts, such as:

 Wage Expense

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 Payroll Tax Expense

 Employee Benefits Expense

 Federal Income Tax Payable

 State Income Tax Payable

 Social Security Payable

 Medicare Payable

 Cash

3. Record Gross Wages: Debit the Wage Expense account for the total
gross wages earned by employees.

4. Account for Employer Payroll Taxes: Debit the Payroll Tax Expense
account for the employer's portion of payroll taxes (e.g., Social
Security and Medicare). Credit the corresponding liability accounts
(e.g., Social Security Payable, Medicare Payable) for the amounts
owed.

5. Record Employee Deductions: Debit the Wage Expense account for

the total employee deductions (e.g., federal and state income taxes,
retirement contributions). Credit the corresponding liability accounts
(e.g., Federal Income Tax Payable, State Income Tax Payable) for the
amounts withheld.

6. Record Net Pay: Credit the Cash account for the total net pay to
employees. Debit the Cash account for the total net pay to
employees.

Example:

Assume the following payroll details for a pay period:

 Gross Wages: $10,000

 Employee Deductions:

o Federal Income Tax: $1,500

o State Income Tax: $500

o Retirement Contributions: $300

 Employer Payroll Taxes:

o Social Security: $620

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o Medicare: $145

The journal entry would be:

Credi
Account Debit
t

$10,0
Wage Expense
00

Federal Income Tax $1,5

Payable 00

State Income Tax Payable $500

Retirement Contributions
$300
Payable

Social Security Payable $620

Medicare Payable $145

$7,9
Cash
35

In this entry:

 Wage Expense is debited for the total gross wages.

 Federal Income Tax Payable, State Income Tax Payable, and

Retirement Contributions Payable are credited for the amounts
withheld from employees.

 Social Security Payable and Medicare Payable are credited for the
employer's portion of payroll taxes.

 Cash is credited for the net pay to employees, calculated as:

o $10,000 (Gross Wages) - $1,500 (Federal Tax) - $500 (State

Tax) - $300 (Retirement) - $620 (Social Security) - $145
(Medicare) = $7,935 (Net Pay)

Tax calculations
alculating personal income tax in South Sudan involves
understanding the applicable tax rates and applying them to your
taxable income. Here's a step-by-step guide to help you through the
process:

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1. Determine Your Taxable Income: Taxable income includes all

earnings such as salaries, wages, bonuses, and other compensations.
It's essential to account for all sources of income to accurately
determine your taxable amount.

2. Apply the Personal Income Tax Rates: South Sudan's personal

income tax rates are structured as follows:

 Up to 300 SSP: Exempt from tax.

 Above 300 SSP: Taxed at 10%.

 Above 5,000 SSP: 470 SSP plus 15% of the amount exceeding
5,000 SSP.

Example Calculation:

Suppose your monthly taxable income is 6,000 SSP.

 First 300 SSP: Exempt.

 Next 4,700 SSP (from 300 to 5,000): Taxed at 10% = 470 SSP.

 Remaining 1,000 SSP (above 5,000): Taxed at 15% = 150 SSP.

Total Tax Payable: 470 SSP + 150 SSP = 620 SSP.

3. Consider Additional Deductions: South Sudan mandates a

contribution of 8% of an employee's gross income to the National
Social Insurance Fund.

For a monthly income of 6,000 SSP, the social security contribution

would be:

 Social Security Contribution: 6,000 SSP × 8% = 480 SSP.

4. Calculate Net Income: To determine your net income after tax and
social security contributions:

 Gross Income: 6,000 SSP

 Less Tax Payable: 620 SSP

 Less Social Security Contribution: 480 SSP

Net Income: 6,000 SSP - 620 SSP - 480 SSP = 4,900 SSP.

Additional Considerations:

 Advance Tax Payments: Individuals engaged in entrepreneurial

activities or receiving rental income are required to make
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advance payments of estimated personal income tax in specified

installments.

 Withholding Tax: Employers are responsible for withholding

income tax from employees' wages, including bonuses and
allowances, for the appropriate payroll period.

For a more detailed understanding and to assist with calculations,

you can use the South Sudan Tax Calculator provided by iCalculator™
SS.

iCalculator

Please note that tax laws and rates are subject to change. It's
advisable to consult with a tax professional or refer to the latest
guidelines from the South Sudan Revenue Authority for the most

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