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Recording Transactions

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Recording Basic Accounting Transaction (Accounting Cycle)

Recording Basic Accounting Transaction (Accounting Cycle)


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  • 1. Recording Transactions
  • 2. Learning Objectives
    • After studying this chapter, you should be able to
      • Use double-entry accounting
      • Analyze and journalize transactions
      • Post journal entries to the ledgers
      • Prepare and use a trial balance
      • Close revenue and expense accounts and update retained earnings
      • Correct erroneous journal entries and describe how errors affect accounts
      • Explain how computers have transformed processing of accounting data
  • 3. The Double-Entry Accounting System
    • In the double-entry system, every transaction affects at least two accounts
    • After each transaction, the balance sheet equation must always remain in balance
    • This balance sheet format is too cumbersome for recording each and every transaction
    Assets = Liabilities + Stockholders’ Equity
  • 4. Ledger Accounts
    • The elements of transactions are organized into accounts that group similar items together
    • In a double-entry system, a ledger contains the records for a group of related accounts
    • A general ledger is the collection of accounts that accumulate the amounts reported in the financial statements
  • 5. Ledger Accounts
    • A T-account is a simplified version of accounts used in practice
    • The vertical line in the T divides the account into left and right sides for recording increases and decreases
    • The account title is on the horizontal line
    Cash Left side (Increases in cash) Right side (Decreases in cash)
  • 6. Ledger Accounts
    • The T-accounts for the first three Biwheels Company transactions are as follows
    Assets = Liabilities + Stockholders’ Equity Cash Note Payable Increases Decreases Decreases Increases (1) 400,000 (3) 150,000 (2) 100,000 (2) 100,000 Merchandise Inventory Paid-in Capital Increases Decreases Decreases Increases (3) 150,000 (1) 400,000
  • 7. Ledger Accounts
    • Each transaction affects at least two accounts
    • The process of creating a new T-account in preparation for recording a transaction is called opening the account
    • An account balance is the difference between the total left-side and right-side amounts at any particular time
    Cash Balance 4,000 10,000 6,000
  • 8. Ledger Accounts
    • Asset accounts have left-side balances
      • Entries on the left side increase asset account balances
      • Entries on the right side decrease them
    • Liabilities and owners’ equity accounts have right-side balances
      • Entries on the right side increase their balances
      • Entries on the left side decrease them
  • 9. Debits and Credits
    • Accountants use the terms
      • Debit (abbreviated Dr.) to denote an entry on the left side of any account
      • Credit (abbreviated Cr.) to denote an entry on the right side of any account
    • Some accountants use the word “charge” instead of debit
    Cash Dr. Cr.
  • 10. The Recording Process
    • The sequence of five steps in recording and reporting transactions is as follows:
    • Source documents are the original records of any transaction
    Transactions Documentation Journal Ledger Trial Balance Financial Statements
  • 11. The Recording Process
    • The general journal is a formal chronological listing of each transaction and how it affects the balances in the accounts
    • Transactions are entered into the ledger
    • The trial balance is a simple listing of the accounts in the general ledger together with their balances
    • Preparation of financial statements occurs at least once a quarter for publicly traded companies
  • 12. Chart of Accounts
    • A chart of accounts is a numbered or coded list of all account titles
    • Account numbers are used as references in the Post Ref. column of the journal
  • 13. Journalizing Transactions
    • Journalizing is the process of entering transactions into the general journal
    • A journal entry is an analysis of all the effects of a single transaction on the various accounts, usually accompanied by an explanation
    • A compound entry means that a single transaction affects more than two accounts
  • 14. Journalizing Transactions
    • The following conventions are used for recording in the general journal
      • The title of the account or accounts to be debited are placed at the left margin
      • The title of the account or accounts to be credited are indented in a consistent way
  • 15. Journalizing Transactions
    • The following conventions are used for recording in the general journal
      • The journal entry is followed by the narrative explanation of the transaction
      • The Post. Ref. column contains an identifying number that is assigned to each account and is used for cross-referencing to the ledger accounts
  • 16. Journalizing Transactions
    • The following conventions are used for recording in the general journal
      • The debit and credit columns are for recording the dollar amounts that are debited or credited for each account
  • 17. Posting Transactions to the Ledger
    • Posting is the transferring of amounts from the journal to the appropriate accounts in the ledger
    • The following example shows
      • How the debit to merchandise inventory and the credit to cash are posted
      • Columns for dates, explanations, journal references, and amounts in the ledger
  • 18. Posting Transactions to the Ledger
  • 19. Posting Transactions to the Ledger
    • Cross-referencing is the process of using numbering, dating, and/or some other form of identification to relate each ledger posting to the appropriate journal entry
    • A single transaction from the journal might be posted to several different ledger accounts
    • Cross-referencing allows users to find all the components of the transactions in the ledger no matter where they start
  • 20. Revenue and Expense Transactions
    • Ignoring dividends, T-accounts can be grouped as follows:
    Assets = Liabilities + Paid-in Capital + Retained Earnings Debit Credit Debit Credit Debit Credit Debit Credit + - - + - + - + Expenses Revenues Debit Credit + +
  • 21. Revenue and Expense Transactions
    • Revenue and expense information is accumulated separately to prepare a more meaningful income statement
    • Expense and revenue accounts are part of Retained Earnings
      • A revenue account increases retained earnings
      • An expense account decreases retained earnings
    • Although a debit entry increases expenses, it results in a decrease in retained earnings
  • 22. Revenue and Expense Transactions Transaction : Sales on credit, $160,000 Analysis : The asset account Accounts Receivable increases The stockholders’ equity account Sales Revenues increases Journal Entry : Accounts receivable……….160,000 Sales revenues………… 160,000 Posting : Accounts Receivable Sales Revenues 160,000 160,000
  • 23. Revenue and Expense Transactions Transaction : Cost of merchandise sold, $100,000 Analysis : The asset Merchandise Inventory decreases Stockholders’ equity decreases because an expense account, Cost of Goods Sold ( a negative stockholders’ account) increases Journal Entry : Cost of Goods Sold………………..100,000 Merchandise Inventory………… 100,000 Posting : Merchandise Inventory Cost of Goods Sold 100,000 100,000
  • 24. Prepaid Expenses and Depreciation Transactions Transaction : Paid rent for 3 months in advance, $6,000 Analysis : The asset Cash decreases The asset Prepaid Rent increases Journal Entry : Prepaid rent………………..6,000 Cash…………………… 6,000 Posting : Cash Prepaid Rent 6,000 6,000
  • 25. Prepaid Expenses and Depreciation Transactions Transaction : Recognized expiration of rental services, $2,000 Analysis : The asset Prepaid Rent decreases The negative stockholders’ equity account Rent Expense increases Journal Entry : Rent expense………………..2,000 Prepaid Rent…………….. 2,000 Posting : Prepaid Rent Rent Expense 6,000 2,000 2,000
  • 26. Prepaid Expenses and Depreciation Transactions Accumulated Depreciation, Store Equipment Depreciation Expense Transaction : Recognized depreciation, $100 Analysis : The asset reduction account Accumulated Depreciation, Store Equipment increases The negative stockholders’ equity account Depreciation Expense increases Journal Entry : Depreciation expense…………………………………………...100 Accumulated depreciation, store equipment…………….. 100 Posting : 100 100
  • 27. Prepaid Expenses and Depreciation Transactions Asset: Store Equipment $14,000 Contra Asset: Accumulated depreciation, equipment 100 Net asset: Book value $13,000
    • The book value or carrying value is the balance of an account minus the value of any contra accounts
  • 28. Preparing the Trial Balance
    • A trial balance is a list of all the accounts with their balances
    • The purpose of the trial balance is twofold:
      • Proving whether the total debits equal the total credits in the ledger
      • Summarizing the balances in the ledger accounts in preparation to construct the financial statements
  • 29. Preparing the Trial Balance *Retained earnings in the trial balance does not yet reflect the income for the period *
  • 30. Preparing the Trial Balance
    • The trial balance is prepared with the accounts in the following order:
      • Asset accounts
      • Liability accounts
      • Stockholders’ equity accounts
      • Revenue accounts
      • Expense accounts
    • The trial balance is the springboard for preparing the balance sheet and the income statement
  • 31. Deriving Financial Statements from the Trial Balance Balance Sheet Income Statement
  • 32. Closing the Accounts
    • Closing the accounts has two purposes:
      • It transfers the balances of the “temporary” stockholders’ equity accounts (revenues and expenses) to the “permanent” stockholders’ equity account (retained earnings)
      • It makes the revenues and expense accounts have a zero balance, which readies them for the next period’s transactions
  • 33. Closing the Accounts Cost of Goods Sold Bal. 100,000 C2 100,000 0 Rent Expense Bal. 2,000 C2 2,000 Bal. 100 C2 100 0 0 Depreciation Expense Income Summary C2 102,100 C1 160,000 Sales C1 160,000 Bal. 160,000 0 Retained Income Bal 0 C3 57,900 C3 57,900 New bal. 57,900 0 There are three closing entries: C1: Close all revenue accounts C2: Close all expense accounts C3: Close the Income Summary account
  • 34. Closing the Accounts C1. Transaction : Clerical procedure of transferring the ending balances of revenue accounts to the Income Summary account Analysis : The stockholders' equity account Sales decreases to zero The stockholders’ equity account Income Summary increases Journal Entry : Sales………………………160,000 Income Summary…… 160,000 C2. Transaction : Clerical procedure of transferring the ending balances of expense accounts to the Income Summary account Analysis : The negative stockholders’ equity (expense) accounts Cost of Goods Sold , Rent Expense , etc. decrease to zero The stockholders’ equity account Income Summary decreases Journal Entry : Income Summary……………102,100 Cost of goods sold………. 100,000 Rent expense……………. 2,000 Depreciation expense…… 100
  • 35. Closing the Accounts C3. Transaction : Clerical procedure of transferring the ending balance of Income Summary account to the Retained Earnings account Analysis : The stockholders' equity account Income Summary decreases to zero The stockholders’ equity account Retained Earnings increases Journal Entry : Income summary…………57,000 Retained earnings…… 57,000
  • 36. Effects of Errors
    • If an error is detected after posting to the ledger accounts, a correcting entry must be made
    • The following is an example of a correcting entry:
    • The correcting entry cancels or offsets the erroneous debit to Equipment
    CORRECT ENTRY 12/27 Repair Expense 500 Cash 500 ERRONEOUS ENTRY 12/27 Equipment 500 Cash 500 CORRECTING ENTRY 12/31 Repair Expense 500 Equipment 500
  • 37. Some Errors are Temporary Errors—Others Persist Until Corrected
    • Some errors in one period are automatically corrected in the next period
    • Such errors misstate net income in both periods
    • By the end of the second period the errors counterbalance or cancel each other out
    • They affect the balance sheet of only the first period—not the second
    • Some errors will keep subsequent balance sheets in error until correcting entries are made
  • 38. Data Processing and Accounting Systems
    • Data processing refers to the procedures used to record, analyze, store, and report on chosen activities
    • In an accounting data processing system, a computer can automatically carry out steps such as ledger postings and financial statement preparation
  • 39. Data Processing and Accounting Systems
    • The cash register may be linked to a computer that also records a decrease in inventory
    • It may also
      • Activate an order to a supplier
      • Check a credit limit
      • Update the accounts receivable
      • Prepare monthly statements
  • 40. Data Processing and Accounting Systems
    • Computers also reduce the time it takes to close the books and prepare financial statements
    • The most recent advance in data processing for financial reporting is the use of XBRL
    • XBRL is an XML-based computer language that allows easy comparisons across companies