The document discusses the accounting equation, source documents, business transactions, and how they affect the basic accounting equation of Assets = Liabilities + Equity. It also introduces the expanded accounting equation to include income and expenses, and provides examples of business transactions and how they impact the elements in the accounting equation. The accounting equation must always be in balance and separate accounts are maintained for each financial element to record increases, decreases, and balances.
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Overview
A business transaction is an exchange of values (expressed in
terms of money) involving two parties (in the case of external
transactions) or within the enterprise (in the case of internal
transactions).
Not all events in a business enterprise are considered
accountable. An event is accountable only if it has an effect on
the elements of the financial statements – assets, liabilities,
equity, income and expense.
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Source Document
The original record of business transaction.
Includes the following information:
Date of the transaction
Nature of the transaction
Amount involved
Names of the parties involved
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Control Over Source Documents
All business transactions that are taken up in the accounting
records of the enterprise should have supporting source
documents.
Original source documents are considered more appropriate
compared to photocopies.
Since management is responsible for the financial statements,
internally-generated source documents (such as credit sales
invoices to be issued to customers) should have authorization from
the appropriate level of management before the transaction is
recorded.
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Examples of Source Documents
Sales Invoice
Issued to evidence a sale for cash (cash sales invoices) or a sale
on credit (charge sales/credit sales invoice)
Official Receipt
Issued to evidence the receipt of cash from customers, the
proprietor and other parties
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Business Transaction and The
Accounting Equation
In analyzing business transactions for purposes of recording,
remember the following:
In every transaction, value received = value parted with. The two
values must always be equal.
The basic accounting equation must always be maintained.
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Business Transaction and The
Accounting Equation
Business transactions therefore, have the following possible effects
on the accounting equation:
a) Increase in Assets = Increase in Liabilities
b) Increase in Assets = Increase in Equity
c) Increase in One Asset = Decrease in Another Asset
d) Decrease in Asset = Decrease in Liability
e) Decrease in Asset = Decrease in Equity
f) Increase in Liability = Decrease in Equity
g) Increase in Equity = Decrease in Liability
h) Increase in One Liability = Decrease in Another Liability
i) Increase in One Equity = Decrease in Another Equity
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Business Transaction and The
Accounting Equation: Illustrated
Manny Pacquiao is a famous accountant who took up boxing as
a hobby and ended up a champion of the sport. After ten
successful title defenses, Manny retired and went into the
advertising business. Manny established a sole proprietorship,
named Manny Advertising. During 2022, the company’s first
month of operations, the following transactions occurred:
Jan 5: Investmet of P 500,000 in a bank account in the name of
Manny Advertising.
Jan 10: Purchase of computer equipment for P 50,000 cash.
Jan 15: Purchase of office supplies on account for P 20,000.
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Expanded Accounting Equation
ASSETS = LIABILITIES + EQUITY + INCOME - EXPENSES
The expanded accounting equation includes the elements of
income and expense. Every time a business delivers good or
provides services, it earns income. Expenses are decreases in
equity that occur from using assets or increasing liabilities in the
course of delivering goods or providing services. Expenses are
cost of doing business and are the opposite of income.
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Expanded Accounting Equation:
Illustrated
Collection of P 150,000 cash from various customers for advertising services
rendered.
Payment of P 30,000 cash to Meralco for the monthly electric expenses of
Manny Advertising.
Billing amounting to P 50,000 sent to customers for services already rendered
during the month, but still uncollected as of Jan 20.
Partial payment of P 15,000 for the Jan 15 purchase on account (office supplies)
Collection from clients amounting to P 40,000, for billings dated Jan 20.
Withdrawal of cash by Manny, P 20,000 from the business for his personal use.
Receipt of billing from Jinkee Repairs, P 2,000, for the repair of computer
equipment. The billing will be paid in February 14.
Payment of the monthly salary of Jimuel, Manny’s assistant, P 15,000.
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The Account
The basic summary device of accounting. Separate accounts
are maintained for each element (assets, liabilities, equity,
income, expenses).
Records the increases, decreases and balance of each element
of the financial statements.
Debit refers to left side and credit means right side.