Recording Transactions

Chapter 3

Recording transactions

TRANSACTIONS

• Types of transactions – External transactions with outside parties – Internal transactions based on economic events that do not involve external transactions – Non-transaction events are not usually recorded because there has been no exchange of goods or services

SOURCE DOCUMENTS

• Provide written evidence of transactions • Serve to control the entity’s resources – tax invoice – purchase order – cash register tapes – credit card slips

1 THE ACCOUNTING CYCLE

Steps in the cycle Accounting records

1. Recognise & record Source documents transactions Start of new period 2. Prepare financial Financial statements statements

THE LEDGER ACCOUNT

• Three basic parts – Title – Place for recording increases – Place for recording decreases Account Title Date Explanation Amt Date Explanation Amt

Debit (Dr) side Credit (Cr) side

THE LEDGER ACCOUNT continued

Cash at Bank Date Explanation Amt Date Explanation Amt 2010 2010 2/1 Darren Jones, 3/1 Vehicle 21 000 Capital 35 000 3/1 Lawn & Garden 20/1 Lawn and Garden Equipment 9 000 Income 2 000 22/1 Employee Wages 31/1 Accounts Expense 450 Receivable 550 31/1 Accounts Payable 2 500 31/1 Darren Jones, Drawings 200 Balance c/d 4 600

37 750 37 756 0 Balance b/d 4 600

2 Account formats

• T-accounts are a convenient way of showing the effects of transactions on individual accounts • Running balance accounts are generally used in practice

Account formats continued

ACCOUNT Cash at Bank Account No. 100 Post Date Explanation Ref. Debit Credit Balance 2010 Jan. 2 D Jones, Capital 1 35 000 35 000 3 Vehicle 1 21 000 14 000 3 Garden Equipment 1 9 000 5 000 20 Garden Revenue 1 2 200 7 200 22 Wages Expense 1 450 6 750 31 Accounts Receivable 1 550 7 300 31 Accounts Payable 1 2 500 4 800 31 D Jones, Drawings 1 200 4 600

Accounts commonly used

• Balance Sheet – Asset accounts – Liability accounts – Equity accounts • Income Statement – Income – Expenses

3 Accounts: balance sheet

• Asset accounts – Cash at bank – Accounts receivable – Bills receivable – Other receivables or debtors – Prepaid expenses – Land – Buildings – Plant and equipment

Accounts: balance sheet continued

• Liability accounts – Accounts payable – Bills payable – Unearned income – Other current liabilities – GST collections and outlays – Mortgage payable

Accounts: balance sheet continued

• Equity accounts – Four main types of transactions • Investment of assets by owner • Withdrawal of assets by owner • Income derived • Expenses incurred – Types of accounts • Capital • Drawings or withdrawals

4 Accounts: income statement

• Income – Revenues • Income which arises from ordinary activities – Gains • Income which does not arise from ordinary activities • Expenses – Cost of services and economic benefits consumed or lost or liabilities incurred during the period

GENERAL LEDGER

• Collection of all the individual accounts of an entity • Organised in the order of appearance on balance sheet • Each account has a specific ID number

CHART OF ACCOUNTS

• Complete listing of ledger account titles and ID numbers • Used as reference point when analysing transactions • A good chart will reveal – Nature of the organisation – Nature of activity – Types of income and expenses

5 DOUBLE-ENTRY ACCOUNTING

• In analysing transactions, must determine – Which assets, liabilities or equity items are affected – By how much each items must be increased or decreased • At least two accounts are affected by each transaction

Expansion of the Basic Equation

Debit and credit rules

• Accounts: balance sheet

Assets = Liabilities + Equity Debit to Credit to Debit to Credit to Debit to Credit to increase decrease decrease increase decrease increase

Normal Normal Normal balance balance balance

6 Debit and credit rules continued

• Accounts: income statement

Income (incl. revenues) Expenses Debit to Credit to Debit to Credit to decrease increase increase decrease

Normal Normal balance balance

Debit and credit rules continued

All assets accounts = All liability accounts + All equity accounts Dr Cr Dr Cr Dr Cr Debit to Credit to Debit to Credit to Debit to Credit to increase decrease decrease increase decrease increase Normal Normal Normal balance balance balance

Expense accounts Income accounts Dr Cr Dr Cr Debit to Credit to Debit to Credit to increase decrease decrease increase Normal Normal balance balanc20e

Normal account balances

Increases Account recorded on Normal balance Assets Debit side Debit Liabilities Credit side Credit Equity Investment in entity Credit side Credit Drawings from entity Debit side Debit Income: Revenues Credit side Credit Expenses Debit side Debit

7 EXPANDED ACCOUNTING CYCLE

1. Recognise & record transactions Source documents

2. Journalise transaction General journal

3. Post to ledger accounts General ledger

4. Prepare trial balance of GL Trial balance

5. Prepare financial statements Financial statements

GENERAL JOURNAL

• Recording transactions in a journal – Analyse transaction • determine ledger accounts affected • determine effect on each account – At least 2 accounts are always affected – Debits must always equal credits – Equality of accounting equation maintained

GENERAL JOURNAL continued

• Posting from journal to ledger – Aim is to classify effects of all transactions on each individual asset, liability, equity, income and expense account – In computerised accounting systems, posting process is carried out automatically by the computer – Essential initial data entry is accurate – Running balance formats are used for ledger accounts in computerised systems

8 Journalising

TRIAL BALANCE

• Lists all ledger accounts and their balances • Debits in one column, credits in another • Can be prepared at any time to test equality of debits and credits • Limitations – May balance and still contain errors

CORRECTING ERRORS

• Error detected before posting – Cross out with single line and insert correct amount • Error detected after posting – Must be corrected with another entry • Never erase!

9 APPENDIX INTRODUCTION TO GST IN AUSTRALIA

• GST rate is 10% • All supplies of goods and services are subject to GST unless they are non-taxable • Two types of non-taxable supplies – GST-free supplies e.g., basic food, education, health services, exports – Input-taxed supplies e.g., financial services and residential rents

INTRODUCTION TO GST IN AUSTRALIA continued

• If gross revenues < $1 M pa can account for GST on either cash or accrual basis • If gross revenues > $1M, must use accruals • Cash accounting system – GST collections recorded at time cash is received for supply of services and goods – GST outlays recorded when cash is paid • Accrual accounting system – Collections/outlays recorded when tax invoice issued/received or cash is received/paid (whichever occurs first) 29

Flow of GST among entities and ATO

10 Accounts for recording GST

• Must complete Business Activity Statement (BAS) for each tax period • Need at least 2 new accounts – GST Collections account – GST Outlays account • Since amount of GST collected usually exceeds GST paid each tax period, – GST Collections normally classified as current liability – GST Outlays normally classified as current asset 31