FABM Reviewer PDF

**DOA-ED1: SCHOLARLY WEEK 2.0** **STRAND: ABM GRADE LEVEL: 11** **SUBJECT: FABM** **VERIFIED BY: Mrs. Leddielyn Tomayao** **Coverage:** I. II. III. IV. V. VI. VII. VIII. IX. **Topic 1: Definition, Nature and Functions of Accounting, Users of Financial Information** **What is Accounting?**...

**DOA-ED1: SCHOLARLY WEEK 2.0** **STRAND: ABM GRADE LEVEL: 11** **SUBJECT: FABM** **VERIFIED BY: Mrs. Leddielyn Tomayao** **Coverage:** I. II. III. IV. V. VI. VII. VIII. IX. **Topic 1: Definition, Nature and Functions of Accounting, Users of Financial Information** **What is Accounting?** Accounting is a *service activity*. Its function is to provide *quantitative information* primarily *financial in nature*, about economic entities that is intended to be *useful in making economic decisions*. (Manila: PICPA, 1983, par.1) Accounting is the process of identifying, measuring and communicating economic information to permit informed judgments and decisions by users of information. (AAA) The American Institute of Certified Public Accountants defines accounting as the art of recording, classifying, and summarizing in a significant manner and in terms of money, transaction, events, which are in part at least of a financial character, and interpreting the result thereof. **Nature of Accounting** **1. Accounting is a systematic process.** A [process] is a series of actions to produce something to a particular result. The performance of the four aspects of accounting, such as recording, classifying, summarizing, and interpreting, leads to communicating to its users the relevant information needed by parties interested. Similar with baking, Accounting also has its input, process, and output illustrated below: A person serving food at a table Description automatically generated **Input:** Financial transaction data *Aling Nena sold 50 pcs of baked scallops and received Php 2,500. *  **Process:** The transaction will be recorded, classified, summarized, and interpreted in the books of the business. In this case, the business of Aling Nena uses MS Excel to summarize all her transactions.  **Output:** Financial Statements which is a basis of the business\' financial performance.  **2. Accounting is an art.** Art is a skill acquired by experience, study, or observation. The four aspects of accounting require both knowledge and skill through experience, study, or observation as a means to produce the key end product which are the financial reports. **3. Accounting deals with transactions that are Financial in Nature** Business transactions must be measured in terms of money. Non-monetary transactions are outside the scope of accounting. Relevant non-financial information, however, may be considered in recording transactions. **4. Accounting is a means and not an end.** Accounting merely provides information (e.g. Financial Statements/Management Reports/Advice) to the users of such but it does not make the decision itself. It is the users themselves that are the decision-makers **5. Accounting is an Information System** Accounting is an information system as it is a set of interrelated components that work together to achieve a common purpose. It is also a repository for financial data and information. **Functions of Accounting in Business** Based on the definition provided by the American Accounting Association, we can infer that the primary function of accounting is to provide information to users to permit informed judgment. It provides management with the information it needs for Informed Decision Making. We can also infer that Systematic Recordkeeping is an inherent function of accounting, given how reporting, classifying and summarizing are parts of its process. Compliance with Legal Requirements is also provided for by accounting, given how government agencies (e.g. BIR, SEC) require the periodic submission of reports. **Who are the users of Accounting Information?** Information is needed especially for decision makers. The more vital the decision for the company is, the greater is the need for accurate and reliable information. The users of financial information can be grouped to either internal or external user. **Internal users** -- the primary users of financial information who are inside the reporting entity and are directly involved in managing the company's daily operations and help the entity reach its overall mission and strategies. **External users** -- individuals or other entities that have current or potential financial interest in the reporting entity but not involved in the daily operations of the entity. Examples: Now that you have a knowledge of the definition and nature of accounting, and users of financial information, it\'s now time to discover the origins of Accounting. **Topic 2: BRIEF HISTORY OF ACCOUNTING** Ancient Accounting in Egypt, Mesopotamia, Greece, and Rome **EGYPT** 5000 BCE -- Abacus functioned as a calculator. 4000 BCE -- The Papyrus not only allowed recording of commercial transactions but also the transcriptions of religious text, music, literature, and more. Around 5,300 years ago - Clay tablets, considered to be the oldest tax accounting records. Discovered in the tomb of King Scorpion I in Egypt. **MESOPOTAMIA** Clay tokens and clay tablets to record their loans, herds, crops, and system of trade. The scribes who performed extensive duties in writing and recording in the Mesopotamian time are the equivalent of present-day accountants. **GREECE** 600 BCE -- introduced money in the form of coins. Adopted Phoenician Writing System and invented Greek Alphabet which they used to facilitate record-keeping. Offered credit and helped people transfer funds to banks in other cities as evidenced by banker's books of account. **ROME** Introduced annual budget which coordinated estimated revenues and taxes paid by the citizen in relation to the nation's expenditures. A cash book was maintained by households for their expenses. Pipe Roll or Great Roll of the Exchequer, is the most ancient surviving accounting record in the English language **14th Century -- Birth of Double - Entry Bookkeeping** The Model Chart of Accounts Luca Pacioli Father of Accounting Franciscan friar and mathematician In 1494, wrote the first book containing the double entry bookkeeping entitled "Everything About Arithmetic, Geometry and Proportion". Composed of 36 short chapters that describe bookkeeping. "All entries must be double entries\... if you make one creditor, you must make someone a debtor." "Books should be closed each year, especially in partnership because frequent accounting makes for long friendship" **19th Century -- Modern Accounting in Europe and America** Industrial Revolution The expanded business operations required a large amount of funds to build factories and purchase machineries resulting to the growth of corporations. Signaled the transformation of accounting into an actual profession. Demand for the expertise of accountants to gain corporate control of the flourishing business. **The Model Chart of Accounts** Eugen Schmalenbach Contributor to German language journals on the subjects economics, business management, and financial accounting. The Model Chart of Accounts, laid the foundation for all subsequent developments in uniform accounting in Germany. Important information could be gained from a firm's account. **20th Century -- Evolution of Modern Accounting Standards** First national profession association of CPAs formed in USA. Was tasked to set the accounting and auditing standards until the establishment of FASB (Financial Accounting Standards Board) in 1973. FASB (Financial Accounting Standards Board) and GASB (Governmental Accounting Standards Board) The Information Age Computer Age or Digital Age or New Media Age Manual, tedious and time-consuming work of accountants were replaced by faster and more accurate computer methods. Transaction can be consummated online. Software applications in accounting have been developed. **21st Century -- Accounting in the Modern Times Establishment of the AICPA (American Institute of Certified Public Accountants)** Two significant authorities establishing the GAAP (Generally Accepted Accounting Principles) Establishment of the International Accounting Standards Board International Accounting Standards (IAS) International Financial Reporting Standards (IFRS) Many countries, including the Philippines, have adopted the standards set by these institutions to support comparability and understandability of financial statements across the globe. **Topic 3: Accounting Concepts and Principles** ** Generally Accepted Accounting Principles (GAAP) ** \- These are general, broad statements or "rules and procedures" that serve as guides in the practice of accounting. \- These are standards, assumptions, and concepts with general acceptability. \- These are measurement techniques and standards used in the presentation and preparation of the financial statements. \- They serve as the foundation of accounting in order to avoid misunderstanding and enhance the understandability and usefulness of the financial statements (Valix et. al, 2013 as cited in Florendo, 2016) For the complete discussion of the concepts discussed below, you may refer to this video: [[Accounting Concepts and PrinciplesLinks to an external site.]](https://www.youtube.com/watch?v=XBFdjorUc8o) ** Fundamental Concepts ** **1. Business Entity Concept** \- An accounting entity is an organization or a section of organization that stands apart from other organizations and individuals as a separate economic unit. (e.g.  the owner, managers, or employees are all separate and distinct from the business) \- The transactions of different entities should not be accounted for together. Each entity should be evaluated separately.  - 1\. If the owner has a barber shop, the cash of the barber shop should be reported separately from personal cash. 2\. The owner had a business meeting with a prospective client. The expenses that come with that meeting should be part of the company's expenses. If the owner paid for gas for his personal use, it should not be included as part of the company's expenses. **2. Periodicity** \- An entity's life can be meaningfully subdivided into equal time periods for reporting purposes. \- Allows the users to obtain timely information to serve as a basis on making decisions about future activities. \- Usual accounting period is one year. \- The accounting period can be classified as either of the following: - A twelve-month period that's starts on January 1 and ends on December 31. - A twelve-month period that starts on any month of the year other than January and ends twelve months after the starting period, e.g., a business whose fiscal year starts May 1, 2006 ends its fiscal year on April 30, 2017. \- Note: A natural business year is any twelve-month period that ends when business activities are at the lowest point. - Philippine companies are required to report financial statements annually. The salary expenses from January to December 2015 should only be reported in 2015. **3. Stable Monetary Unit Concept** \- The Philippine peso is a reasonable unit of measure and its purchasing power is relatively stable. \- Allows accountants to add and subtract peso amounts as though each peso has the same purchasing power as any other peso at any time. - 1\. Furniture purchased during the year 1990 for a cost of 10,000 pesos is presented in the Financial statements together with Furniture bought for 100,000 pesos in 2021 2\. A 100 sq.m Land bought during 1970 for 10,000 is presented together with a 100sq. m land found in the same area bought during 2022 for 1,000,000 **4.  Accrual Basis** \- Accrual accounting depicts the effects of transactions and other events and circumstances on a reporting entity's economic resources and claims in the periods in which those effects occur, even if cash receipts and payments occur in a different period. \- Revenue should be recognized when earned regardless of when collection is done and expenses should be recognized when incurred regardless of when payment is made. \- On the other hand, the **cash basis principle** in which revenue is recorded when collected and expenses should be recorded when paid. Cash basis is not the generally accepted principle. - 1\. When a barber finishes performing his services he should record it as revenue even if it is on credit. 2\. When the barber shop receives an electricity bill, it should record it as an expense even if it is unpaid. **5. Going Concern** - **Basic Accounting Principles ** The set of guidelines and procedures that constitute acceptable accounting practice at any given time is GAAP (Generally Accepted Accounting Principles). In order to generate information that is useful to the users of financial statements, accountants rely upon the following principles: **1. Objectivity Principle** - - - - - - - **2. Cost Principle** - - - - - - **3. Revenue Recognition Principle**   - - - **4. Expense Recognition Principle** Basic Elements Of Expense Recognition - principlesofaccounting.com - - - - - - **5. Adequate Disclosure** - - - **6. Materiality**  - - - - - - **7. Consistency**  - - **Topic 4: Accounting Equation** **What are accounting events and transactions?** An *accounting event* is an economic occurrence that causes changes in an enterprise's assets, liabilities, and / or equity. An example is the purchase of office supplies on account for the use of the admin department. This affects both your assets and liabilities since you acquired office supplies through debt. On the other hand, a *transaction* is a particular kind of event that involves the transfer of something of value between two entities. An example is the sale of goods to your customers. The ownership transfers to your customers upon their purchase of your products. **The Account** The *account *is the basic summary device of accounting. A separate account is maintained for each element that appears in the balance sheet (assets, liabilities, and equity) and on the income statement (income and expenses). With this said, an account may be defined as a detailed record of the increases, decreases, and balance of each element that appears in the entity's financial statements. The simplest form of the account is known as the "T" account because of its similarity to the letter "T". An account is debited (Dr. when abbreviated) when the amount is entered on the left side of the account and credited (Cr. when abbreviated) when entered on the right side. We will be discussing this in detail in the next module.  **The Accounting Equation** The Accounting Equation is the most basic tool in accounting which presents the resources controlled by the enterprise, the present obligations, and the residual interest in the assets. It states that assets (on the left side) **must always** equal liabilities and owner's equity (on the right side). This explains why the increase and decrease in assets are recorded in the opposite manner as liabilities and owner's equity are recorded. The equation explains also why liabilities and owner's equity follow the same rules of debit and credit, which will be explained in the next section. The logic of debiting and crediting is related to the accounting equation. Transactions may require addition or subtraction to both sides (left and right sides), or addition and subtraction on the same side (left or right side), but in all cases, the equality must be maintained always. Assets, liabilities and owner's equity are the basic elements of the Financial Statements. For more a more comprehensive discussion, please watch the short video below: [[Accounting Equation Links to an external site.]](https://www.youtube.com/watch?v=OYql7Y9NnBg)A black and grey play button Description automatically generated Let\'s apply our learnings!  1. **Answer:** Php 10 million worth of total assets  **Solution:** Let **x** be your Assets. Find the value of the x.  Assets = Liabilities + Owner\'s Equity **x** =  6,000,000 + 4,000,000 **10,000,000** =  6,000,000 + 4,000,000 2. **Answer:** Php 20,000  **Solution:** Let **x** be your Liabilities. Find the value of the x.  Assets = Liabilities + Owner\'s Equity 100,000 =  **x** + 80,000 100,000 --  80,000 =  **20,000** **\* **In this case, to look for your total liabilities, you have to derive the accounting equation by transposing the amount of your owner's equity to your assets. This is then deducted from your total assets, giving you the Php 20,000 as the value of your total liabilities. **Topic 5: Five Major Accounts and Typical Account Titles Used** **1. ASSETS** An **Asset** is a present economic resource controlled by the entity as a result of past events. An economic resource is a right that has the potential to produce economic benefits (per March 2018Conceptual Framework for Financial Reporting). [Examples:] **Current Assets** ∙ **Cash** is any medium of exchange that a bank will accept for deposit at face value. It includes coins, currency, checks, moneyorders, bank deposits and drafts. ∙ **Cash Equivalents** are short term, highly liquid investments that are readily convertible to known amounts of cash andwhichare subject to an insignificant risk of changes in value. ∙ **Accounts Receivable** are amounts due from customers arising from credit sales or credit services. This type of receivable offers less security than a promissory note. ∙ **Notes Receivable** are amounts due from clients supported by promissory notes. ∙ **Inventories** are assets which are (a) held for resale in ordinary course of the business; (b) in the process of production for such sale; or (c) in the form of materials or supplies to be consumed in the production process or in the rendering of service. ∙ **Supplies** are items purchased by an enterprise which are unused as of the reporting date. ∙ **Prepaid Expenses** are expenses paid in advance. They are assets at the time of payment and become expenses through the passage of time. It is an asset because the business avoid having to pay cash in the future for a specific expense. **Non -- Current Assets** ∙ **Property, Plant and Equipment** are tangible assets that are held by any enterprise for use in the production or supply of goods or services, or for rental to others, or for administrative purposes and which are expected to be used during morethanone period. ∙ **Long term Investments** are the investments made bythecompany for the accretion of wealth through capital distributionsuch as interests, royalties, dividends, and rentals, for capital appreciation or for other benefits to the investing enterprisesuchas those obtained through trading relationships. ∙ **Intangible Assets** are identifiable, non-monetary assetswithout physical substance held for use in the productionor supply of goods or services, for rental to others, or for administrative purposes. Examples include goodwill, trademarks, franchise and copyright, brand names, secret processes, andlicenses. **Contra Asset Accounts** are accounts deducted from the related asset accounts. ∙ **Allowance for bad debts** - estimated losses due touncollectible accounts. This is [deducted fromthe] *[accountsreceivable]* to get the net realizable value. ∙ **Accumulated depreciation** - represents the expiredcost of *[property, plant and equipment]* as a result of usage andpassage of time. This is deducted from the cost of relatedasset account to get the carrying value or book value of the asset. **2. LIABILITIES** **Liabilities** are present obligation of the entity to transfer an economic resources as a result of past events. [Examples:] ∙ **Accounts Payable** represents the inverse relationship of the accounts receivable. It includes debts arising from the purchase of an asset of the acquisition of services on account. ∙ **Notes Payable** is like a note receivable but in a reverses ensemble. It includes debt arising from the purchase of an asset or acquisition of services on account evidenced by a promissorynote. ∙ **Accrued Liabilities** are the amounts owed to others for unpaid expenses. Examples are salaries payable, utilities payable, taxes payable, and interest payable. ∙ **Unearned Income** is cash collected in advance; theliabilityis the services to be performed or goods to be deliveredinthefuture. **3. OWNER\'S EQUITY** **Equity** is the residual interest in the assets of the enterpriseafter deducting all its liabilities. In other words, they are claims against the entity that do not meet the definition of a liability. It includes: **Capital** is used to record the original and additional investment of the owner of the business entity. It is increased by the amount of profit earned during the year or is decreased by a loss. **Drawing** is an account debited for assets withdrawn by theowner for personal use from the business. **4. REVENUES** **Revenue (or income)** is the in flow of money or other assets(including claims to money, such as sale made on credit) that results from the sale of goods or services for a or fromtheuseof money or property. The result of revenue is increase in assets. Examples: **Service Income -** Revenues earned by performing services for acustomer or client (example: accounting services, laundry services). **Sales -** Revenue earned as a result of the sale of merchandise(example: sale of building materials by a construction suppliesfirm). **5. EXPENSES** An **expense** involves the outflow of money, the use of other assets, or the incurring of a liability. Expenses include the costs of anymaterials, labor, supplies, and services used in the effort toproduce revenue. Examples: ∙ Cost of sales ∙ Salaries or wages expense ∙ Telecommunications, electricity, fuel and water expenses ∙ Supplies expense ∙ Rent expense ∙ Insurance expense ∙ Depreciation expense A business transaction is the occurrence of an event or a condition that affects financial position and can be reliably recorded. Every financial transaction can be analyzed or expressed in terms of its effects on the accounting equation. The financial transaction will be analyzed by the means of a financial transaction worksheet which is a form used to analyze the increases or decreases in the assets, liabilities or owner's equity of a business entity. Recall the Accounting Equation: ASSETS = LIABILITIES + OWNER'S EQUITY **Topic 6: Application of the Accounting Equation (Accounting for Business Transactions)** **A. Transactions that involve Assets, Liabilities, and Owner's Equity** Paolo Reyes started a delivery service on July 1, 2020. The following transactions occurred during the month of July. *Assets invested by the owner* July 1 - Paolo invested PHP 800,000 cash, and cars amounting to PHP 200,000.  A separate entity that is distinct from Paolo's personal financial affairs is created. Economic resources -- cash of Php 800,000 and cars of Php 200,000 are added to the business. The source of this asset is the contribution made by the owner, which represents owner's equity. The owner's equity account is Reyes, Capital. The dual nature of the transaction is that cash and cars are invested, and owner's equity is created. The effects of this transaction on the accounting equation are as follows: **increase in assets** -- cash and cars from zero to Php 800,000 and Php 200,000 respectively and **increase in owner's equity** from zero to Php 1,000,000. *Borrowings from the bank* July 2 -- Paolo borrowed PHP100,000 cash from the Bank of the Philippine Islands for use in his business. Note that Cash increased by Php 100,000, now valued at Php 900,000. Borrowings from the bank represent liabilities. With this, the loans payable account was opened with Php 100,000. Effect in the Accounting Equation: **increase in assets; increase in liabilities.** *Asset purchased for cash* July 7 -- Bought tables and chairs from Ikea and paid PHP 45,000 cash.  Note that Cash decreased by Php 45,000, now valued at Php 855,000. Furnitures account was opened which represents the tables and chairs purchased from Ikea. This transaction did not change the total assets, but it did change the composition of the assets -- decrease in Cash and increase in Furnitures. Effect in the Accounting Equation: **increase and decrease in assets.** Note that the sums of the balances on both sides of the equation are equal. This equality must always exist. *Assets purchased on account* July 15 -- Various equipment were purchased on account from Fortune for PHP 55,000. The term "on account" means that the purchase was made on credit, thus considered as a liability. The Accounts Payable account was opened. An Equipment account was opened from such transaction. Effect in the Accounting Equation: **increase in assets; increase in liabilities.** *Cash withdrawal by the owner* July 18 -- Paolo made a cash withdrawal of PHP 5,000 for personal use.  Withdrawals decreases the Owner's Equity and the cash of the business. Note that the cash and owner's equity reduced by Php 5,000. Effect in the Accounting Equation: **decrease in assets; decrease in owner's equity.** *Payment of liability* July 20 -- The account due to Fortune was paid in cash. It is important to properly match the liability transaction with its corresponding payment transaction. In this case, we should go back to our transaction last July 15 and note the full amount of the liability. With this, our cash decreased by Php 55,000 as well as our liabilities (Accounts Payable). Since we have fully settled our Accounts Payable, such amount was removed from the illustration. The effect of this transaction on the accounting equation is a **decrease in the asset** (cash) and a **decrease in the liability** (accounts payable). To summarize:  It can be seen that both sides (assets on the left and liabilities and owner's equity on the right) are balanced since both have the same total net amount of Php 1,095,000. : **B. Effects of Revenue and Expenses** Revenues (or Income) and Expenses are components of the Owner's Equity. The following transactions are **independent** from each other. *Received cash for income earned* July 21 -- A customer hired the services of Paolo. Cash of PHP 15,000 was received from the customers. The entity earned service income by rendering services to its clients. Paolo rendered his professional services and collected revenues in cash. The effect in the accounting equation is an **increase in the asset** (cash) and an **increase in income**. Income **increases owner's equity**. *Paid cash for expenses incurred* July 22 -- Cash was paid for the following: gas and oil, PHP 500 and car repairs, PHP 1,000.  The entity incurred an expense which decreases the owner's equity. Also, payment for such expense caused a decrease in cash. Both decreases are represented by the parenthesis. Effect in the Accounting Equation: **decrease in assets; increase in expenses**. Increases in the expenses cause a **decrease in the owner's equity**. *Income rendered on account* July 24 -- Another customer hired the services of Reyes and promised to pay PHP 16,000 on July 31. For this transaction, instead of receiving cash after the performance of the service, the client promised to pay the amount on month end. Note that since the entity has done the service, income should already be recognized. With this, Accrual Basis is in place. The accounts receivable account will be used because this represents the client's promise to pay the amount in the future. Effect in the Accounting Equation: **increase in assets; increase in income**. Income **increases owner's equity**. July 25 -- Paid PHP 500 for telephone bill.  Expenses are recorded when they are incurred. Expenses can be paid in cash when they occur, or they can be paid later. The payment for telephone bill is an expense for the month of July. It represented an outflow of resources and a reduction of owner's equity. Since expenses have the opposite effect of income; they can cause the business to shrink. Effect in the Accounting Equation: **decrease in assets; increase in expenses**. Increases in the expenses cause a **decrease in the owner's equity**. *Revenue earned with a down payment, balance on account* July 27 -- Another customer hired the services of Paolo. A bill was issued to them for PHP 20,000, 50% of which was collected. Since the service was already performed, the entity should recognize a service revenue. Instead of receiving the full amount, the customer only paid in cash 50% of the amount, which is Php 10,000. With this, both the cash and the accounts receivable account will increase by Php 10,000. Totaling both amounts will yield the service revenue of Php 20,000. Effect in the Accounting Equation: **increase in assets; increase in income**. Income **increases owner's equity**. *Customer's account collected in cash* July 30 -- The customer on July 24 paid 50% of his account in cash.  Recall the transaction that transpired during July 24. The accounts receivable recognized was Php 16,000. Since 50% was collected on this date, the entity received Php 8,000 while its outstanding accounts receivable decreased by the same amount as well. Effect in the Accounting Equation: **increase and decrease in assets** July 31 -- Paid PHP 10,000 for rental of office space, and salaries of PHP 9,000. Expenses represents a cash outflow in the business entity. The treatment is similar to the payment of telephone bill. Effect in the Accounting Equation: **decrease in assets; increase in expenses**. Increases in the expenses cause a **decrease in the owner's equity**. **Topic 7: Rules of Debit and Credit: The Double-Entry System** Accounting is based on a double entry system which means that the dual effects of a business transaction is recorded. *A debit side entry must have a corresponding credit side entry.* For every transaction, there must be one or more accounts debited and one or more accounts credited. Each transaction affects at least two accounts. *The total debits for a transaction must always equal the total credits.* The account type determines how increases or decreases are recorded. Increases in assets are recorded as debits (left side of the account) while decreases are recorded as credits (right side of the account). On the other hand, increases in liabilities and owner's equity are recorded by credits (right side of the account) and decreases as entered as debits (left side of the account). To illustrate: **[Assets]** Debit Credit (+) Increase (-) Decrease **[Owner's] E[quity]** **[Liabilities]** Debit Credit (-) Decrease (+) Increase The rules of debit and credit for income and expense accounts are *based on the relationship of the accounts to Owner's Equity*. Income increases owner's equity and expense decreases owner's equity. With this said, increases in income are recorded as credits and decreases as debits. Increases in expenses are recorded as debits and decreases as credits. To illustrate: **[Expenses]** Debit Credit (+) Increase (-) Decrease **[Income / Revenue]** Debit Credit (-) Decrease (+) Increase **Note:** Debit represents a deduction in owner's equity; hence, expenses are being debited. Credit represents an increase in owner's equity; thus, income is being credited. The normal balance of an account is the side where that certain account **increases always when recorded**. Assets, expenses, and the owner\'s drawing or withdrawal normally have debit balances. Liabilities, owner's capital, and income normally have credit balances. To summarize, the normal balances of the accounts are as follows: **[Account]** [Normal balance: **debit** side] [Normal balance: **credit** side] **[Increases in]** **[Increases in]** Assets Liabilities Expenses Capital Drawing Revenue **[Decreases in Decreases in]** Liabilities Assets Capital Expenses Revenue Drawing **Topic 8: Book of Accounts** **What are Books of Accounts?** Books of Accounts are a set of books or records kept and maintained by the company to keep track of its transactions more efficiently. These serve as a financial memory and comprise of every single business transaction and financial information of a company. These are also crucial in ensuring regulatory compliance as they serve as proof of the business transactions reflected in the Financial Statements. The two major Books of Accounts are the **Journal** and **Ledger**. **Journals** It is often referred to as the *Book of Original Entry*. It is the chronological record of all company\'s transactions listed by date. The recording of financial information into the journal is known as the process of ***JOURNALIZING***. Further classified into General and Special Journals. The **General Journal** is the simplest form of a journal. **Format:** ~1~ 2 3 4 5 **Date** **Account Titles And Explanation** **P.R.** **Debit** **Credit** ---------- -- ------------------------------------ ---------- ----------- -- ------------ ------- ------- ------- ------- ------- -- -- -- -- ------- ------- ------- ------- ------- 2019 Nov. 10 Accounts Payable 201 **6** **0** **0** **0** **0** Cash 101 **6** **0** **0** **0** **0** Partial Payment. **Parts of the General Journal:** **1. Date --** Write the month on the first transaction unless there is a change in month for the succeeding transactions or a new page is issued. **2. Account titles and explanation --** Write the debit account on the extreme left of the first line and indent the credit account on the next line. The explanation describing the transaction is written on the extreme left of the next line below the credit. Remember to skip one line before proceeding to the next transaction. **3. P.R. (Posting Reference) --** Write the corresponding account number here once the entry is posted. It is left blank until the posting has been done. **4. Debit --** Under this column, write the debit amount for each debit account. **5. Credit --** Under this column, write the credit amount for each credit account. **Special Journals** are used to record typical and similar types of transactions by large companies that are often engaged in hundreds of transactions each day. The number of special journals managed by a company is dependent on the types of transactions that occur frequently. This includes sales journal, cash receipts journal, purchases journal, and cash payments journal. **Ledgers** After journalizing the business transactions in the general journal and special journals, the company will now proceed to the process of ***POSTING***. The ledger is the grouping of all accounts of a company showing its respective outstanding balances. It is also called as the *Book of Final Entry*. Involves the transferring of journal entries to the ledger accounts to bring together the effect of the transactions to the individual accounts of the company. Includes General and Subsidiary Ledgers. A **General Ledger** is the "reference book" of the accounting system and is used to classify and summarize transactions, and to prepare data for basic financial statements. The accounts in the general ledger are classified into two general groups: 1\. Balance sheet or permanent accounts (assets, liabilities, and owner's equity). 2. Income statement or temporary accounts (income and expenses). Temporary accounts are used to gather information for a particular accounting period. At the end of the period, the balances of these accounts are transferred to a permanent owner's equity account. Each account has its own record in the ledger. Every account in the ledger maintains the basic format of the T-account but offers more information ( e.g. the account number at the upper right corner and the journal reference column). Compared to a journal, a ledger organizes information by account. This is a sample ledger. **CASH** No. 101 4 5 6 7 8 ---------------------------- ------------------------------------ ---------- ----------- ------------ -------------- **Date** **Explanation** **J.R.** **Debit** **Credit** **Balance** 2019 Jan 1 Investment by Owner J1 200, 000 200, 000 3 Purchase Inventories from supplier J1 20, 500 179, 500 Balance **179, 500** **Parts of the General Ledger:** **1. Account Title --** Write the account title. **2. Numerical Code --** Lift the assigned numerical code from the Chart of Accounts. **3. Date --** Arrange the dates chronologically. **4. Explanation --**Describe the transaction that transpired. You may use the explanation provided in the journal entries. **5. J.R. (Journal Reference) --** Write the corresponding page number where such transaction can be found in the General Journal. **6. Debit --** Under this column, write the debit amount of such transaction. **7. Credit --** Under this column, write the credit amount of such transaction. **8. Balance --** Provide a running balance per date of transaction. Use the normal balances of the accounts to guide you in the application of addition or subtraction. **Special Ledgers** Expansion of the general ledger and provides more detailed individual balances of accounts such as accounts receivable and accounts payable. Examples: 1\. *Accounts Receivable Ledger* - Used in tracking individual accounts receivable balances of company\'s customers. 2\. *Accounts Payable Ledger* - Used in tracking individual accounts payable balances of company\'s creditors. **Chart of Accounts** It is a listing of all the accounts and their account numbers in the ledger. The chart is arranged in the financial statement order -- assets, then liabilities, owner's equity, income and expenses. The accounts should be numbered in a flexible manner to permit indexing and cross -- referencing. The accountant refers to the chart of accounts when analyzing transactions to identify the important accounts to be increased or decreased. If an appropriate account title is not listed in the chart, the additional account may be added. Below is an example of the chart of accounts: **DEL MUNDO LANDSCAPE SPECIALIST** [Chart of Accounts] [Balance Sheet Accounts Income Statement Accounts] *Assets* *Income* 110 Cash 410 Landscaping Revenues 120 Accounts Receivable 420 Lawn Cutting Revenues 130 Supplies 140 Prepaid Rent *Expenses* 150 Prepaid Insurance 510 Salaries Expense 160 Vehicles 520 Supplies Expense 165 Accumulated Depreciation -- Vehicles 530 Rent Expense 170 Equipment 540 Insurance Expense 175 Accumulated Depreciation -- Equipment 550 Gas Expense 560 Advertising Expense *Liabilities* 570 Depreciation Expense -- Vehicles 210 Notes Payable 580 Depreciation Expense -- Equipment 220 Accounts Payable 590 Interest Expense 230 Salaries Payable 240 Interest Payable 250 Unearned Revenues *Owner's Equity* 310 Del Mundo, Capital 320 Del Mundo, Withdrawals [330 Income Summary] Note that all the numerical assignments of assets start with **1**, liabilities with **2**, equity with **3**, revenues with **4**, and expenses with **5**. We will now start recording the transactions of Del Mundo Landscape Specialist that transpired during the month of October. You may also refer to the Chart of Accounts covered in the previous topic for the complete list of account titles used by the business. This example was adopted from the textbook of Ballada, 2020. **Initial Investment** Oct. 1 The owner of the Del Mundo Landscape Specialist, Galicano Del Mundo, invests Php 450,000 to open the business. Analysis **Increase** in assets; **increase** in owner's equity. Rules Increases in assets are recorded by **debits**. Increases in owner's equity are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Cash**. Increase in owner's equity is recorded by a credit to **Del Mundo, Capital**. Journal Entry: 2020 Dr. Cr. ------ --- ---------------------------------------- -- --------- --------- Oct 1 Cash (A) 450,000 Del Mundo, Capital (OE) 450,000 To record initial investment of owner. **Rent Paid in Advance** Oct. 1 Rented office space and paid three months' rent in advance, Php 21,000. ***Note:** Given the length of time, i.e., more than a month, that this contract is in effect, the matching principle requires that the contract's cost initially be recorded as an asset since it provides a future benefit.* Analysis **Increase** and **decrease** in assets. Rules Increases in assets are recorded by **debits**. Decreases in assets are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Prepaid Rent**. Decrease in assets is recorded by a credit to **Cash**. Journal Entry: Dr. Cr. ----- --- --------------------------------- -- -------- -------- Oct 1 Prepaid Rent (A) 21,000 Cash (A) 21,000 To record rent paid in advance. **Vehicle Acquired by Issuing a Note** Oct. 2 Del Mundo purchases a Php 300,000 used truck by paying Php 200,000 in cash and signing a Php 100,000 note payable which is due in 18 months. Analysis **Increase** in assets. **Decrease** in assets. **Increase** in liabilities. Rules Increases in assets are recorded by **debits**. Decreases in assets are recorded by **credits**. Increase in liabilities are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Vehicles**\*. Decrease in assets is recorded by a credit to **Cash**. Increase in liabilities are recorded by a credit to **Notes Payable**. *\***Note**: Such account title should be aligned with the business' Chart of Accounts. The Property, Plant, and Equipment account may also be used.* You have two options in recording this transaction. You may record this using two simple entries: Dr. Cr. ----- --- ------------------------------------------------------- -- --------- --------- Oct 2 Vehicles (A) 200,000 Cash (A) 200,000 To record purchased truck in cash. Vehicles (A) 100,000 Notes Payable (L) 100,000 To record purchased truck by issuing a notes payable. However, this looks redundant and the format occupies a lot of space in your journal. Hence, we can combine both entries, forming a **compound entry**, as shown below. With this, your presentation becomes simplified. *The creation of compound entries are preferred.* Journal Entry (Compound Entry): Dr. Cr. ----- --- -------------------------------------------------------------- -- --------- --------- Oct 2 Vehicles (A) 300,000 Cash (A) 200,000 Notes Payable (L) 100,000 To record purchased truck and the issuance of notes payable. **Equipment Acquired for Cash** Oct. 3 Del Mundo purchases mechanical lawn mowers for Php 54,000 in cash. Analysis **Increase** and **decrease** in assets. Rules Increases in assets are recorded by **debits**. Decreases in assets are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Equipment**. Decrease in assets is recorded by a credit to **Cash**. Journal Entry: Dr. Cr. ----- --- ------------------------------------------ -- -------- -------- Oct 3 Equipment (A) 54,000 Cash (A) 54,000 To record purchase of equipment in cash. **Expenses Incurred and Paid** Oct. 4 Del Mundo paid for Php 1,500 worth of gasoline. Analysis **Decrease** in assets. **Increase** in expenses which will eventually cause a decrease in owner's equity. Rules Decrease in assets are recorded by **credits**. Increase in expenses are recorded by **debits**. Entry Increase in expenses is recorded as debit to **Gas Expense**. Decrease in assets is recorded by a credit to **Cash**. Journal Entry: Dr. Cr. ----- --- ----------------------------------- -- ------- ------- Oct 4 Gas Expense (E) 1,500 Cash (A) 1,500 To record payment of gas expense. **Insurance Premiums Paid** Oct. 5 Del Mundo pays Php 24,000 for a one year insurance contract that protects his business from October 1 until September 30 of the following year. Analysis **Increase** and **decrease** in assets. Rules Increases in assets are recorded by **debits**. Decreases in assets are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Prepaid Insurance**. Decrease in assets is recorded by a credit to **Cash**. Journal Entry: Dr. Cr. ----- --- -------------------------------------- -- -------- -------- Oct 5 Prepaid Insurance (A) 24,000 Cash (A) 24,000 To record insurance paid in advance. **Supplies Purchased on Account** Oct. 8 Del Mundo purchases Php 1,000 worth of office supplies, placing the purchase on his account with the store rather than paying cash. ***Note:** Supplies are a prepaid expense (an asset) until they are used which then becomes a cost of doing business (expense).* Analysis **Increase** in assets. **Increase** in liabilities. Rules Increases in assets are recorded by **debits**. Increase in liabilities are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Supplies**. Increase in liabilities is recorded by a credit to **Accounts Payable**. Journal Entry: Dr. Cr. ----- --- ------------------------------------- -- ------- ------- Oct 8 Supplies (A) 1,000 Accounts Payable (L) 1,000 To record supplies paid on account. **Revenues Earned and Cash Collected** Oct. 14 The Del Mundo Landscape Specialist cuts grass for 7 customers, receiving Php 2,500 from each. Analysis **Increase** in assets. **Increase** in revenues which will eventually increase the owner's equity. Rules Increases in assets are recorded by **debits**. Increase in revenues are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Cash**. Increase in revenues is recorded by a credit to **Lawn Cutting Revenues**. Journal Entry: Dr. Cr. ----- ---- ---------------------------------------------------------------------------- -- -------- -------- Oct 14 Cash (A) 17,500 Lawn Cutting Revenues (A) 17,500 To record revenue earned through the performance of lawn cutting services. \* 7 customers @ Php 2,500 each = Php 17,500 **Unearned Revenues Collected** Oct. 20 Del Mundo receives Php 13,500 from a customer for six future maintenance visits. ***Note:** An advance deposit for a customer is an obligation to perform work in the future. It is a liability until the work is performed, at which it becomes revenue. Therefore, the advance deposit is called unearned revenues.* Analysis **Increase** in assets. **Increase** in liabilities. Rules Increases in assets are recorded by **debits**. Increases in liabilities are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Cash**. Increase in liabilities is recorded by a credit to **Unearned Revenues**. Journal Entry: Dr. Cr. ----- ---- ------------------------------------------------- -- -------- -------- Oct 20 Cash (A) 13,500 Unearned Revenues (L) 13,500 To record cash received from unearned revenues. **Revenues Earned on Account** Oct. 22 Del Mundo Landscape Specialist cuts grass for 8 customers, billing each one Php 2,500 but receiving no cash. ***Note**: In accordance with the revenue recognition principle, revenue is* *recognized upon the completion of a service or the delivery of a product, even if cash was not received at that time.* Analysis **Increase** in assets. **Increase** in revenues. Rules Increases in assets are recorded by **debits**. Increases in revenues are recorded by **credits**. Entry Increase in assets is recorded by a debit to **Accounts Receivable**. Increase in revenues is recorded by a credit to **Lawn Cutting Revenues**. Journal Entry: Dr. Cr. ----- ---- --------------------------------------- -- -------- -------- Oct 22 Accounts Receivable (A) 20,000 Lawn Cutting Revenues (I) 20,000 To record service revenue on account. **\*** 8 customers @ Php 2,500 each = Php 20,000 **Payment of Expenses - Salaries** Oct. 26 Del Mundo pays Php 4,000 in salaries to part time employees. Analysis **Decrease** in assets. **Increase** in expenses which will eventually cause a decrease in owner's equity. Rules Decrease in assets are recorded by **credits**. Increase in expenses are recorded by **debits**. Entry Increase in expenses is recorded by a debit to **Salaries Expense**. Decrease in assets is recorded by a credit to **Cash**. Journal Entry: Dr. Cr. ----- ---- ----------------------------------------- -- ------- ------- Oct 26 Salaries Expense (E) 4,000 Cash (A) 4,000 To record salaries paid for the period. **Payment of Expenses - Advertising** Oct. 28 Del Mundo pays Php 1,750 to print advertising flyers. Analysis **Decrease** in assets and owner's equity. **Increase** in expenses which will eventually cause a decrease in owner's equity. Rules Decrease in assets are recorded by **credits**. Increase in expenses are recorded by **debits**. Entry Increase in expenses is recorded by a debit to **Advertising Expense**. Decrease in assets is recorded by a credit to **Cash**. Journal Entry: Dr. Cr. ----- ---- -------------------------------------------- -- ------- ------- Oct 28 Advertising Expense (E) 1,750 Cash (A) 1,750 To record advertising paid for the period. **Withdrawal of Cash by Owner** Oct. 29 Del Mundo withdraws Php 5,000 for personal use. Analysis **Decrease** in assets. **Increase** in drawing which will eventually decrease owner's equity. Rules Decrease in assets are recorded by **credits**. Increases in drawing are recorded by **debits**. Entry Increases in drawing is recorded by a debit to **Del Mundo, Withdrawals.** Decrease in assets is recorded by a credit to **Cash**. Journal Entry: Dr. Cr. ----- ---- ------------------------------------ -- ------- ------- Oct 29 Del Mundo, Withdrawals (D) 5,000 Cash (A) 5,000 To record owner's cash withdrawal. **Partial Collection of Accounts Receivable** Oct. 30 Five out of eight customers billed last October 22 each pay Php 2,500. Analysis **Increase** and **decrease** in assets. Rules Increase in assets are recorded by **debits**. Decrease in assets are recorded by **credits**. Entry Increase in assets is recorded by debit to **Cash**. Decrease in assets is recorded by a credit to **Accounts Receivable**. Journal Entry: Dr. Cr. ----- ---- ---------------------------------------------------------------- -- -------- -------- Oct 30 Cash (A) 12,500 Accounts Receivable (A) 12,500 To record collection of partial payment from billed customers. \* 5 customers @ Php 2,500 each = Php 12,500 **Partial Payment of Notes Payable** Oct. 30 Del Mundo paid 10% of the outstanding balance of notes payable from the purchased truck last October 2. ***Note:** On October 2, the business purchased a truck, issuing a promissory note. Since 10% of the outstanding amount was paid, this will cause the notes payable account, previously recorded, to decrease.* Analysis **Decrease** in assets. **Decrease** in liabilities. Rules Decreases in assets are recorded by **credits**. Decreases in liabilities are recorded by **debits**. Entry Decrease in assets is recorded by a credit to **Cash**. Decrease in liabilities are recorded by a debit to **Notes Payable**. Dr. Cr. ----- ---- ---------------------------------------------------------- -- -------- -------- Oct 30 Notes Payable (L) 10,000 Cash (A) 10,000 To record partial payment of truck purchased on account. \*Php 100,000 x 10% = Php 10,000 **Sample Problem 1: Journalizing Entries** Geraldine Garcia is an experienced legal consultant. The transactions and accounts of her small business for the year 2019 are as follows: July 1 Invested ₱100,000 in cash to start her business. 1 Paid ₱10,000 in advance for two months' rent. 3 Bought office furniture for ₱15,000 in cash. 3 Received delivery of laptop computer, ₱54,000. Paid 50% down and balance due in 30 days. 5 Performed events services for ₱12,000 in cash. 5 Acquired a fax machine for ₱7,500; paid ₱3,000 in cash, balance due in 10 days. 5 Performed events services for ₱10,800 on credit and issued a billing statement. 7 Received ₱5,400 from the billed client. 14 Paid ₱10,000 for salaries. 14 Settled in full the ₱4,500 balance for the fax machine. 14 Received ₱7,000 in cash for services performed. 20 Performed events services for ₱12,000 on credit. 23 Paid ₱1,350 for the monthly telephone bill. 23 Paid ₱2,400 for the electric and water bills. 27 Collected ₱2,000 from billed clients. 29 Geraldine withdrew ₱7,000 in cash for personal expenses. **Required**: Journalize using the following accounts: Cash; Accounts Receivable; Prepaid Rent; Office Furniture; Office Equipment; Accounts Payable; Garcia, Capital; Garcia, Withdrawals; Consulting Revenues; Salaries Expense; and Utilities Expense. **The answers can be found on the next page.** Answers: Date Account Title / Explanation PR Debit Credit ------ -------------------------------------------------------------------- ---- --------- --------- 2019 July 1 Cash 100,000 Garcia, Capital 100,000 To record initial investment. Prepaid Rent 10,000 Cash 10,000 To record advance payment of rent. 3 Office Furniture 15,000 Cash 15,000 To record the purchase of office furniture. Office Equipment 54,000 Cash 27,000 Accounts Payable 27,000 To record purchase of office equipment. 5 Cash 12,000 Consulting Revenues 12,000 To record the revenue from the service rendered. Office Equipment 7,500 Cash 3,000 Accounts Payable 4,500 To record the purchase of office equipment. Accounts Receivable 10,800 Consulting Revenues 10,800 To record the revenue from the service rendered. 7 Cash 5,400 Accounts Receivable 5,400 To record the collection of payment from billed client. 14 Salaries Expense 10,000 Cash 10,000 To record payment of salaries. Accounts Payable 4,500 Cash 4,500 To record the payment of the remaining balance of the fax machine. Cash 7,000 Consulting Revenues 7,000 To record the revenue from the service rendered Date Account Title / Explanation PR Debit Credit ------ ------------------------------------------------------------- ---- -------- -------- 2019 July 20 Accounts Receivable 12,000 Consulting Revenues 12,000 To record the revenue from the service rendered on account. 23 Utilities Expense 1,350 Cash 1,350 To record payment for telephone bill. Utilities Expense 2,400 Cash 2,400 To record payment for electric and water bills. 27 Cash 2,000 Accounts Receivable 2,000 To record the collection of payment from billed client. 29 Garcia, Withdrawals 7,000 Cash 7,000 To record cash withdrawal by the owner.