2023 4E5N Principles of Accounts Revision Notes PDF

Sec 4E5N (7087) Principles of Accounts Revision Notes Chapter Topic Page C1 Introduction to Accounting 2 C2 Accounting Informati...

Sec 4E5N (7087) Principles of Accounts Revision Notes Chapter Topic Page C1 Introduction to Accounting 2 C2 Accounting Information System 9 C3 Elements of Financial Statements and the Accounting Equation 11 C4 Double-entry Recording 13 C5 Trial Balance and Financial Statements 21 C6 Revenue and Other Income 30 C7 Cost of Sales and Other Expenses 33 C8 Cash – Internal Controls & Bank Reconciliation 35 C9 Inventories 42 C10 Trade Receivables 47 C11 Non-current Assets - Capital Expenditure vs Revenue Expenditure 52 C11 Non-current Assets – Depreciation & Sale of NCA 55 C12 Trade Payables 60 C13 Long-term Borrowings 61 C14 Equities - Sole Proprietorship (Owner’s Equity) 64 C14 Equities - Private Limited Company (Shareholders’ Equity) 68 C15 Correction of Errors 73 C16 Financial Statements Analysis – Profitability 78 C16 Financial Statements Analysis – Liquidity 83 C16 Financial Statements Analysis – Efficiency in Inventory Management 89 C16 Financial Statements Analysis – Efficiency in Trade Receivables 92 management YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 1 Chapter 1 – Introduction to Accounting Difference between trading and service business A trading business buys goods from suppliers and sells goods to customers while a service business provides services to customers. Examples of trading business Examples of service business - Bookshops - Medical/ dental clinics - Supermarkets - Banks Stakeholders and the decisions they have to make Type of The use of accounting information stakeholder Owner To decide whether to continue to invest in the business or sell the business, depending on the risks and returns related to the business Managers To decide whether to consider ways to improve the performance of the business Employees To decide whether to continue working for the business Lenders To decide whether to grant loans to the business, depending on the business’ ability to repay the loan principal and interest Suppliers To decide whether to sell to the business on credit, depending on its ability to pay Customers To decide whether to buy from the business, depending on the business’ ability to provide the goods and/or services they need and if there is good after-sales service. Government To decide whether the business complies with the tax regulations and decides the amount of tax to collect from the business Competitors To decide whether they are comparable to the business and how to improve their performance YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 2 Forms of business ownership Feature Sole proprietorship Limited Liability Private Limited (SP) Partnership (LLP) Company (PLC) 1. Capital structure (a) - Owned by one - Owned by two or - Owned by 50 or Ownership person who more partners less shareholders contributes where each where each capital to set up partner contributes shareholder buys the SP capital to set up shares1 and the LLP contributes capital (b) Access to - Less likely for - More likely for - More likely for funds banks and other banks and other banks and other lenders to lend lenders to lend lenders to lend money to an SP money to an LLP money to a due to the lack as there are more company as there of personal sources of are more business assets that can personal assets assets of high serve as from partners and value to serve as collaterals2. business assets to collaterals. - Funds is usually serve as - A company may limited to collaterals. issue more shares owner’s - An LLP can get to raise funds. personal funds more people to join [A] [D] as partners and contribute capital 2. Extent of liability (a) Risk - When an SP - When an LLP - When a company incurs debts of incurs debts of incurs debts of losses, the sole losses, the losses, owner is obliged partners are not shareholders are to pay them personally liable not obliged to pay using his/her for them. them using their personal assets. - When an LLP personal assets [D] incurs debts of and may not losses due to the receive wrongful actions of dividends3. one of the - They will only need partners, only that to forfeit their partner is investments in the personally liable worst case for them scenario. [A] YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 3  Feature Sole proprietorship Limited Liability Private Limited (SP) Partnership (LLP) Company (PLC) 3. Management of business (a) Level of - The sole owner - Control over the - The shareholders control usually suns the business is shared have no control business by among the over the running of himself/herself partners with at the business [D] , and has least one partner unless they are absolute control heavily involved in part of the over it [A] running the management team - May hire business. - The company hires professionals to - May hire professionals to help him/her professionals to manage the help them business on behalf of the shareholders (b) Lifespan - The SP exists - The LLP exists - The company as long as the forever until it is exists forever until owner is alive wound up4 or it is wound up or and desires to struck off5. struck off. continue operation. (c) - The sole owner - All partners need - Shareholders can Transferability can easily to agree to the pay a stamp duty7 of ownership update the addition or to the tax authority particulars of withdrawal of to give their shares the new owner partner(s) before to another person to notify the the corporate or organization. corporate regulatory regulatory authority will authority6 of acknowledge the the transfer of transfer of ownership. ownership (d) Formalities - The SP has - The LLP has few - The company must and minimal 8 regulatory duties comply with procedures administrative to comply with. statutory9 duties to adhere - One of the requirements and to. partners needs to file its annual [A] submit an annual financial reports. declaration stating [D] whether the LLP is able to pay its debts during the normal course of business. *refer to glossary on next page for explanations of the bolded words/phrases [A] – Advantage, [D] - Disadvantage YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 4 Glossary 1 Shares Units of business ownership (chapter 14) 2 Collaterals Assets that lenders can sell to get their money back if the borrower doesn’t repay the loan. 3 Dividends A portion of profits distributed to shareholders (chapter 14) 4 Wound up When all assets are sold to pay off all liabilities and expenses, with any remaining monies distributed to its partners or shareholders. 5 Struck off Ann LLP or PLC is struck off from the register if it has ceased operations, obtained consent from majority of owners, no existing assets or liabilities and is not involved in any legal proceedings. 6 Corporate regulatory In Singapore, the Accounting and Corporate Regulatory authority Authority (ACRA) establishes and administers a repository of documents and information relating to business entities. 7 Stamp duty A tax related to the transfer of property, stocks and shares. 8 Regulatory Rules issued by an authority appointed by the government. 9 Statutory Laws passed by the government. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 5 Role of accounting Accounting provides accounting information for stakeholders to make informed decisions regarding the management of resources and performance of businesses. Role of accountants Accountants set up an accounting information system to prepare and provide accounting information for decision making. Accountants become stewards of businesses and are responsible for managing the resources of the business on behalf of the owners. Professional ethics Have integrity Straightforward and honest in all professional relationships Be objective Will not let bias, conflict of interest or undue influence of others override his/her professional judgement YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 6 Accounting Theories Accounting Explanation Application/ Reference to theory another chapter Only business transactions that can Factors such as staff loyalty/ be measured in monetary terms are skills, shop location and brand 1. Monetary recorded. recognition are not recorded as it theory is not possible to place a monetary value on them. Accounting information recorded Source documents provide must be supported by reliable and reliable and verifiable evidence 2. Objectivity verifiable evidence so that financial to capture the occurrence of a theory statements will be free of bias. business transaction. Transactions should be recorded at - 3. Historical their original cost. cost theory The activities of a business are Capital contributions of assets to separate from the actions of the the business and drawings of 4. Accounting owner. All transactions are recorded assets for personal use from the entity theory from the point of view of the business by the owner have to business. be recorded. A business is assumed to have an - indefinite economic life unless there 5. Going is credible evidence that it may close concern theory down. The life of a business is divided into Financial statements are 6. Accounting regular time intervals. prepared at regular time period theory intervals, e.g. every 12 months Revenue is earned when goods Chapter 6: Revenue and Other 7. Revenue have been delivered or services Income recognition have been provided. theory Chapter 6: Revenue and Other Business activities that have Income 8. Accrual basis occurred, regardless of whether of accounting cash is paid or received, should be Chapter 7: Cost of Sales and theory recorded in the relevant accounting Other Expenses period. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 7  Accounting Explanation Application/ Reference to theory another chapter Expenses incurred must be matched Chapter 7: Cost of Sales and against income earned in the same Other Expenses period to determine profit for that 9. Matching period. Chapter 10: Trade Receivables theory Chapter 11: Non-Current Assets Relevant information should be Chapter 11: Non-Current Assets presented in the financial 10. Materiality statements if it is likely to make a theory difference to the decision-making process. Once an accounting method is Chapter 11: Non-Current Assets 11. Consistency chosen, this method shall be applied theory to all future accounting periods to enable meaningful comparison. The accounting treatment chosen Chapter 9: Inventories should be the one that least 12. Prudence overstates assets and profits and Chapter 10: Trade Receivables theory least understates liabilities and losses. Chapter 11: Non-Current Assets YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 8 Chapter 2 – Accounting Information System Types of business transactions (any activities carried out by the business) Cash transaction Payment is received/ made at the same time/ immediately during a cash sale/ purchase Credit transaction Payment is delayed/ postponed during a credit sale/ purchase Relevant accounting theories Monetary theory – Only business transactions that can be measured in monetary terms are recorded. 4 stages of the Accounting Cycle Identifying and recording → Adjusting → Reporting → Closing 5 steps of the Accounting Information System Source document → Journal → Ledger → Trial balance → Financial statements Source documents Definition A source document contains details of a business transaction. Relevant accounting theories Objectivity theory – Accounting information recorded must be supported by reliable and verifiable evidence so that financial statements will be free of bias. → Source documents provide reliable and verifiable evidence to capture the occurrence of a business transaction. Historical cost theory – Transactions should be recorded at their original cost. → based on the amount stated on the source document. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 9 Types and purpose of source documents Receipt Acknowledges payment received from customers immediately after the business has sold goods or provided services Keyword(s): cash purchases/ sales, cash, cheque Remittance advice Informs credit supplier that payment by cheque has been made for a specific invoice Invoice Informs credit customers of the amount owed after the business sold goods or provided services on credit Keyword(s): credit purchases/ sales, on credit Credit note Reduces the amount owed by credit customers who were previously overcharged/ after goods were returned Keyword(s): overcharge, return(s) Debit note Increases the amount owed by credit customers who were previously undercharged Keyword(s): undercharge Payment voucher Process payment to credit suppliers Bank statement Checks and tallies against the business records of its cash at bank account Keyword(s): cheque Source documents in transactions Sales invoice/ invoice issued/ debit note Dr Trade receivable (+) issued Cr Sales revenue (+) Purchase invoice/ invoice received/ debit Dr Inventory (+) note received Cr Trade payable (+) Credit note issued Dr Sales returns (customer returned goods) Cr Trade receivable (-) Credit note received Dr Trade payable (-) (returned goods to supplier) Cr Inventory (-) YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 10 Chapter 3 – Elements of Financial Statements and the Accounting Equation 5 elements of financial statements Assets Definition: Resources a business owns or controls that are expected to provide future benefits Examples: office equipment, motor vehicles, inventory, trade receivables, cash at bank, cash in hand, income receivables, prepaid expenses Liabilities Definition: Obligations owed by a business to others that are expected to be settled in the future Examples: loan from X, mortgage loan, trade payables, bank overdraft, income received in advance, expense payable Equity Definition: Claim by the owner on the net assets of the business Examples: capital, profit/ loss for the period, drawings Income Definition: Amounts earned through the activities of the business; comprises revenue (amounts earned through the main activity of the business) and other income (amounts earned from business activities other than the main business activity) Examples: sales revenue, service fee revenue, rent income, discount received Expenses Definition: Costs incurred in the operation of a business to earn income in the same accounting period Examples: cost of sales, interest expense, salaries expense, discount allowed Basic Accounting Equation Assets = Liabilities + Equity Expanded Accounting Equation Assets = Liabilities + Capital + Income – Expenses – Drawings Total assets = Total liabilities + Equity Total assets = Total liabilities + Capital – Drawings + (Income – Expenses) YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 11 Example Brian owns Brian Trading, which buys and sells sports shoes. State the effect of each transaction on Assets, Liabilities and Equity. Effect on Transaction Assets Liabilities Equity Received $500 (i) cheque for rent +$500 +$500 income. Cash at Bank No Effect Rent Income (ii) Brian contributed his +$25 000 +$25 000 personal car, $25 000, Motor vehicle No Effect Capital to the business. (iii) Brian withdrew $300 −$300 −$300 of sports shoes and Inventory No Effect Drawings gave to his son. (iv) Paid part-time cashier, −$1 200 −$1 200 $1 200, by cash. Cash in hand No Effect Salary expense (v) Bought leather sofa, +$7 000 +$7 000 $7 000, on credit from Fixtures & Other payable – No Effect Comfy Ltd. Fittings Comfy Ltd (vi) Paid Comfy Ltd. −$7 000 −$7 000 amount owing by Cash at bank Other payable – No Effect cheque. Comfy Ltd +$4 000 (vii) Withdrew $4 000 from Cash in hand business bank −$4 000 No Effect account for office use. Cash at bank YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 12 Chapter 4 – Double-entry Recording Double-entry recording rules 1. Each business transaction will affect at least 2 accounts. 2. At least one account will be debited and at least one account will be credited. 3. Total debits must equal total credits so that the accounting equation remains balanced. Journal Entries Journal Date Particulars Dr Cr 2022 $ $ MMMDD Account to be debited XX Account to be credited XX * Journal is prepared to record transactions. It acts like a diary. Double entry rules: Follow AEDLIC Dr Cr + Assets - + Expenses - + Drawings - - Liabilities + - Income + - Capital + OR Double entry rules: Follow DEAD COIL Dr Cr Expenses OE (Capital) Assets Income Drawings Liabilities Dr+, Cr- Dr-, Cr+ Steps to recording journal entries: 1. Identify the 2 accounts affected in the transaction 2. Identify if there is an increase or decrease in the 2 accounts 3. Classify the 2 accounts according to AEDLIC 4. Apply AEDLIC for the Dr and Cr entry YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 13 Ledger Account [Name of account] Date Particulars Dr Cr Balance 2022 $ $ $ * Ledger account is a consolidation of all the transactions relating to a specific asset, liability, equity, income or expense item. Discounts Trade discount Cash discount Definition A reduction to the list price A reduction to the invoiced price Purpose To encourage customers to buy in To encourage credit customers to bulk, customers’ patronage and pay early customers’ loyalty Calculation Invoice price = List price – Trade Amount paid = Invoiced price – Cash discount discount Recording Not recorded in the ledger account Recorded in the ledger account as discount allowed or discount received YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 14 Journal entries involving trade payables (credit suppliers) Trade payable → amount owing to credit supplier Liability: Dr – (owe less), Cr + (owe more) Transaction Double entry 1. Purchase of goods on credit Dr inventory (+) Cr trade payable (+) 2. Return of goods to credit Dr trade payable (-) suppliers Cr inventory (-) 3. Payment to credit suppliers Dr trade payable (-) Cr cash at bank (-) 4. Discount received from credit Dr trade payable (-) suppliers Cr discount received (+) Trade payable account Date Transactions Dr - Cr + Balance 2022 $ $ $ Balance b/d (Beginning balance) XX CR Inventory1 XX (goods purchased on credit) Inventory2 XX (goods returned to credit suppliers) Cash at bank/ Cash in hand XX (payments to credit suppliers) Discount received (cash discount received) XX Balance b/d (Ending balance) XX CR 1 Trade discounts are NOT recorded 2 If a trade discount is received upon purchase, it has to be deducted upon return as well. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 15 Journal entries involving trade receivables (credit customers) Trade receivable → amount owing from credit customers Asset: Dr + (owe more), Cr - (owe less) Transaction Double entry Dr trade receivable (+) 1. Sale of goods on credit Cr sales revenue (+) Dr cost of sales (+) Cr inventory (-) Dr sales returns (-) 2. Return of goods from credit Cr trade receivables (-) customers Dr inventory (+) Cr cost of sales (-) 3. Payment received from credit Dr cash at bank/cash in hand (+) customers Cr trade receivable (-) 4. Discount allowed (given) to Dr discount allowed (+) credit customers Cr trade receivable (-) 5. Dishonoured cheque and Dr trade receivable (+) discount allowed withdrawn Cr cash at bank (-) Cr discount allowed (-) Trade receivable account Date Transactions Dr + Cr - Balance 2022 $ $ $ Balance b/d (Beginning balance) XX DR Sales revenue1 (goods sold on credit) XX Sales returns2 XX (goods returned from credit customers) Cash at bank/ Cash in hand XX (payments received from credit customers) Discount allowed (cash discount given) XX Cash at bank (dishonoured cheque) XX Discount allowed (cash discount withdrawn) XX Balance b/d (Ending balance) XX DR 1Trade discounts are NOT recorded 2If a trade discount is given upon sale, it has to be deducted upon return as well. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 16 Example – YYSS 2020 Sec 3NA WA2 Saloni buys goods on credit from Ariana. On 1 May 2020 Saloni owes $3 500 to Ariana. Saloni provided the following information for May 2020. 2020 Transactions May 6 Purchased goods costing $2 460 on credit from Ariana. May 22 Returned goods worth $780 of the wrong colour to Ariana. May 30 Paid for the amount owing on 1 May by cheque after receiving a cash discount of 10%. (a) Prepare journal entries to record the transactions in May 2020. (b) Prepare Ariana’s account in the books of Saloni for the month of May 2020. Bring down the balance on 1 June 2020. Answer a) Journal 2020 Particulars Dr ($) Cr ($) May 6 Inventory 2 460 Trade payable - Ariana 2 460 May 22 Trade payable – Ariana 780 Inventory 780 May 30 Trade payable – Ariana 3500 x 90% 3 150 Cash at bank 3 150 May 30 Trade payable – Ariana 3500 x 10% 350 Discount received 350 b) Trade payable – Ariana account Date Dr Cr Balance 2020 $ $ $ May 1 Balance b/d 3 500 Cr May 6 Inventory 2 460 5 960 Cr May 22 Inventory 780 5 180 Cr May 30 Cash at bank (3 500 x 90%) 3 150 2 030 Cr May 30 Discount received (3 500 x 10%) 350 1 680 Cr Jun 1 Balance b/d 1 680 Cr YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 17 Example – YYSS 2020 Sec 3NA EOY P2 Q4 (Preparing journal entries involving TR) Audrey is a sole trader retailing in jewellery. In the month of June 2020, Audrey had the following transactions. 2020 1 Jun Credit customer Yiling’s account showed a balance of $7 800. 10 Jun Sold jewellery listed at $9 000 on credit to Yiling. A trade discount of 15% was given. The cost of the jewellery sold was $6 299. 18 Jun Yiling returned jewellery that were of the wrong specification. The jewellery was sold on 10 June 2020 and had a list price of $800. The cost of the jewellery returned was $560. 25 Jun Received a cheque from Yiling for the amount owing on 1 June 2020. A cash discount of 4% was given to Yiling. REQUIRED Prepare journal entries for the above transactions. Answer Journal Date Particulars Dr Cr 2020 $ $ 10 Jun Trade receivable – Yiling 9000 x 85% 7 650 Sales revenue 7 650 10 Jun Cost of sales 6 299 Inventory 6 299 18 Jun Sales returns 800 x 85% 680 Trade receivable – Yiling 680 18 Jun Inventory 560 Cost of sales 560 25 Jun Cash at bank 7800 x 96% 7 488 Trade receivable - Yiling 7 488 25 Jun Discount allowed 7800 x 4% 312 Trade receivable - Yiling 312 YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 18 Example – YYSS 2020 Sec 3Exp EOY P2 Q4 (Preparing a trade receivable a/c) Susy is a sole trader. Her business buys and sells goods on credit. During the month of July 2020, Susy’s business had the following transactions with Kasper. 2020 July 1 Kasper owed Susy $3 850. 4 Susy sold goods to Kasper at a list price of $5 900 less 5% trade discount. 9 Kasper returned goods with a list price of $700. These goods were previously sold to him on July 4. 25 Kasper paid a cheque for the amount owed on July 1, less 2% cash discount. REQUIRED (a) State one reason why Susy offered Kasper a trade discount on July 4. (b) State one reason why Susy offered Kasper a cash discount on July 25. (c) State one reason why Kasper returned the goods on July 9. (d) Prepare Kasper’s account for the month of July 2020 in Susy’s ledger. On 2 August 2020, Susy received the bank statement for the month of July 2020. Susy discovered that Kasper’s cheque received on July 25 was dishonoured. REQUIRED (e) Prepare the journal entries to record the dishonoured cheque on 2 August 2020. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 19 Answer a) Any acceptable answer - to clear unsold inventory - to encourage Kasper to buy in bully - to encourage customer loyalty. 4b) Any acceptable answer - to encourage Kasper to pay up earlier 4c) Any acceptable answer - due to wrong specifications - due to damaged goods 4d) Kasper account Date Debit Credit Balance Particulars 2020 $ $ $ Jul 1 Balance b/d 3 850 Dr Jul 4 Sales revenue 5900 x 95% 5 605 9 455 Dr Jul 9 Sales returns 700 x 95% 665 8 790 Dr Jul 25 Cash at bank 3850 x 98% 3773 5 017 Dr Jul 25 Discount allowed 3850 x 2% 77 4 940 Dr Aug 1 Balance b/d 4 940 Dr 4e) Journal Date Particulars Debit Credit 2020 $ $ Aug 2 Trade receivable - Kasper 3 773 Cash at bank 3 773 Aug 2 Trade receivable - Kasper 77 Discount allowed 77 YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 20 Chapter 5 – Trial Balance and Financial Statements Trial Balance Definition It is a list of all the ledger accounts and their ending balances at a point in time. Purpose 1. To ensure arithmetic accuracy in recording 2. To facilitate the preparation of the financial statements [Name of business/ Name of sole proprietor] Trial balance as at [DD MONTH YYYY] Dr Cr $ $ Capital 10 500 Cash at bank 700 Motor vehicles 7 650 Cost of sales 3 900 Trade payables 150 Sales revenue 5 680 Trade receivables 2 930 Drawings 1 150 [Totals] 16 330 16 330 Accounts with DEBIT balances: assets, expenses, drawings, sales returns Accounts with CREDIT balances: liabilities, income, capital Q: What is the limitation of a trial balance? A balanced trial balance does not mean that there are no errors in the recording. (Chapter 15: Correction of Errors) YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 21 Financial Statements Relevant accounting theories Going concern theory – A business is assumed to have an indefinite economic life unless there is credible evidence that it may close down. Accounting period theory – The life of a business is divided into regular time intervals. → hence financial statements should be prepared at regular time intervals to provide timely information for stakeholders to make decisions. Statement of Financial Performance A statement of financial performance shows the income earned and expenses incurred for a period of time. It informs stakeholders of the profitability of a business. Formulas Net sales revenue = Sales revenue – Sales returns Gross profit/ (loss) = Net sales revenue – Cost of sales Profit/ (loss) for the period/ year = Gross profit/ (loss) + Other income – Other expenses YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 22 Adjustments for financial Adjustments for Financial statements Statements Item Adjustments 1. Expense payable 1. Add to Expense (amounts owing/outstanding) 2. Create "Expense payable" as CL in SoFPos 2. Prepaid expense 1. Minus from Expense (amounts paid in advance) 2. Create "Prepaid expense" as CA in SoFPos 3. Income receivable 1. Add to Income (amounts earned but not received) 2. Create "Income receivable" as CA in SoFPos 4. Income received in advance 1. Minus from Income (amounts received in advance) 2. Create "Income received in advance" as CL in SoFPos 5. Trade receivables written off 1. Minus from trade receivables 2. Minus from "Allowance for impairment of trade receivables " 6. Allowance for impairment of trade receivables (amounts estimated uncollectible from TR) A) First time 1. Create "Allowance for impairment of trade receivable" and show as a contra entry to trade receivables in SoFPos 2. Create "Impairment loss on trade receivable" (expense) in SoFPerf B) Existing amount i. increase i. 1. Calculate the increase in value* and show as "Impairment loss on trade receivable" (expense) in SoFPerf 2. Show NEW amount as allowance for impairment of trade receivables ii. decrease ii. 1. Calculate the decrease in value* and show as "Impairment loss on trade receivables (reversal)" in SoFPerf 2. Show NEW amount as allowance for impairment of trade receivables New allowance = rate % x TR balance *Change in allowance (impairment loss on TR) = New allowance – (previous year’s allowance – amount written off) 7. Depreciation 1. Calculate and create "Depreciation of NCA" (expense) in SoFPerf A) First time 2A. Create "Accumulated depreciation of NCA" and show as a contra entry to non-current assets in SoFPos B) Existing amount 2B. Add to existing Accumulated depreciation amount and show as a contra entry to non-current assets in SoFPos Straight-line method/on cost: (cost - scrap value) x % or (cost - scrap value)/useful life Reducing balance method/ on NBV: (cost - acc dep) x % YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 23 8. Drawings of inventory/cash in hand/ 1. Add to Drawings cash at bank for own/personal use 2. Minus from inventory/cash in hand/cash at bank 9. Bank charges not paid 1. Create/add to "Bank charges" (expense) in SoFPerf A) Cash at bank 2A. Minus from Cash at bank B) Bank overdraft 2B. Add to Bank overdraft 10. Impairment loss on inventory 1. Record decrease in inventory value as "Impairment loss on inventory" (expense) in SoFPerf 2. Record net realisable value of inventory as new inventory value in SoFPos 11. Current portion of long-term 1. Subtract amount due within a year from long-term borrowing borrowing 2. Show current portion of long-term borrowing as CL in SoFPos 12. New share capital issued Share capital = number of new shares issued x issue share price 1. Add to share capital 2. Add to cash at bank 13. Dividends declared Dividends = total number of shares x dividend rate 1. Subtract from retained earnings 2a. Create "dividends payable" as CL (if not paid yet) 2b. Or subtract from cash at bank (if paid already) SHOW ALL WORKINGS!! *Adjustments 12 and 13 are for financial statements of Private Limited Companies YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 24 Statement of Financial Performance (for trading business) [Name of business/ Name of sole proprietor] Statement of financial performance for the year ended [DD MONTH YYYY] $ $ Sales revenue XX Less: Sales returns (XX) Net sales revenue XX Less: Cost of sales (XX) Gross profit XX Add: Other income Commission income XX Interest income XX Discount received XX Rental income XX XX XX Less: Other expenses Discount allowed XX Rental expense XX Utilities expense XX Salaries and wages expense XX Commission expense XX Stationery expense XX Insurance expense XX Interest expense XX Advertising expense XX (XX) Profit for the year XX * Statement of financial performance is prepared at the end of the financial year. Profit for the year is calculated using gross profit add total other income less total other expenses. If it is a loss for the year, write “loss for the year” and write the loss in brackets, (XX). YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 25 Statement of Financial Performance (for service business) [Name of business/ Name of sole proprietor] Statement of financial performance for the year ended [DD MONTH YYYY] $ $ Service fee revenue XX Add: Other income Commission income XX Interest income XX Discount received XX Rental income XX XX XX Less: Other expenses Discount allowed XX Rental expense XX Utilities expense XX Salaries and wages expense XX Commission expense XX Stationery expense XX Insurance expense XX Interest expense XX Advertising expense XX (XX) Profit for the year XX * Statement of financial performance is prepared at the end of the financial year. There is no trading portion for a service business. Profit for the year is calculated using gross profit add total other income less total other expenses. If it is a loss for the year, write “loss for the year” and write the loss in brackets, (XX). YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 26 Statement of Financial Position The statement of financial position lists the assets, liabilities and equity of a business as at a specified date. It provides information on how resources are obtained and used in a business and the net claim by the owner on the net assets of the business at a point in time. Formula Assets = Liabilities + Equity Assets Non-current assets (Resources a business owns - Benefits last beyond one financial year or controls that are expected - Not easily converted to cash to provide future benefits) - Examples: office equipment, fixtures and fittings, motor vehicles Current assets - Benefits are used within one financial year - Easily converted to cash - Examples: cash in hand, cash at bank, inventory, trade receivables, prepaid expense, income receivable Liabilities Non-current liabilities (Obligations owed by a - Due to be paid beyond one financial year business to others that are - Examples: bank loan, mortgage loan expected to be settled in the - Consolidated as long-term borrowings in the future) statement of financial position Current liabilities - Due to be paid within one financial year - Examples: trade payables, bank overdraft, expense payable, income received in advance Equity Owner’s equity (Claim of owner on net - Presented as a single line, capital, in the statement assets of the business) of financial position - Ending capital = Beginning capital + Additional capital + Profit/ (-Loss) – Drawings YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 27  [Name of business/ Name of sole proprietor] Statement of financial position as at [DD MONTH YYYY] Assets $ $ $ Non-current assets Cost Accumulated Net book depreciation value Property XX XX XX Fixtures and fittings XX XX XX Motor vehicles XX XX XX Office equipment XX XX XX Total non-current assets XX XX XX Current assets Trade receivables XX Less: allowance for impairment of trade receivables XX XX1 Inventory XX Cash at bank^ XX Cash in hand XX Prepaid expense XX Income receivable XX Total current assets XX Total assets XX Equity and Liabilities Owner’s equity Capital XX (Beginning capital + Additional capital + Profit/(-loss) – drawings) Non-current liabilities Long-term borrowings XX Current liabilities Trade payables XX Current portion of long-term borrowings XX Bank overdraft^ XX Expense payable XX Income received in advance XX Total current liabilities XX Total equity and liabilities XX * Statement of financial position is prepared at the end of the financial year. Profit/(loss) amount is taken from the profit/loss for the year amount from the statement of financial performance. Total assets must equal total liabilities and equity. ^ Either one of these items will appear, depending on the bank balance. If it is a positive number, it appears under current assets as cash at bank. If it is a negative number, it appears under the current liabilities as bank overdraft. XX1 → net trade receivables (TR – allowance) YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 28  [Name of business/ Name of limited company] Statement of financial position as at [DD MONTH YYYY] Assets $ $ $ Non-current assets Cost Accumulated Net book depreciation value Property XX XX XX Fixtures and fittings XX XX XX Motor vehicles XX XX XX Office equipment XX XX XX Total non-current assets XX XX XX Current assets Trade receivables XX Less: allowance for impairment of trade receivables XX XX1 Inventory XX Cash at bank^ XX Cash in hand XX Prepaid expense XX Income receivable XX Total current assets XX Total assets XX Equity and Liabilities Shareholders’ equity Share capital, XX ordinary shares XX Retained earnings XX (Beginning R.E + Profit/(-loss) – dividends) Total equity XX Non-current liabilities Long-term borrowings XX Current liabilities Trade payables XX Current portion of long-term borrowings XX Bank overdraft^ XX Expense payable XX Income received in advance XX Dividends payable XX Total current liabilities XX Total equity and liabilities XX YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 29 Chapter 6 – Revenue and Other Income 1. Service fee revenue received in advance/ Other income received in advance - Refers to service fees/ other income which are received before services are provided - Is a current liability Relevant accounting theories Revenue recognition theory – revenue is earned when goods have been delivered or services have been provided (for service fee revenue) Accrual basis of accounting theory – business activities that have occurred, regardless of whether cash is paid or received, should be recorded in the relevant accounting period. → Service fee revenue/ other income received before services are provided should not be recognised until the services are provided to the customer, regardless of whether payment has been received or not. 2. Other income receivable - Refers to other income earned but not yet received - Is a current asset Relevant accounting theories Accrual basis of accounting theory – Other income earned but not received must be recorded as other income in the current financial period. Journal entries Income received in advance Income receivable 1 SOY adjustment Dr Income received in advance (CL-) Dr Income (-) Cr Income (+) Cr Income receivable (CA-) 2 Amounts received Dr Cash at bank/ cash in hand (CA+) Cr Income (+) 3 EOY adjustment Dr Income (-) Dr Income receivable (CA+) Cr Income received in advance (CL+) Cr Income (+) 4 Transfer income earned to Dr Income (-) income summary Cr Income summary YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 30 Calculating revenue/ income earned for the current financial year Start of the current During the year End of the current financial year financial year Add income received in Add income receivable advance $$ received next year but $$ received last year but income earned this year income earned this year OR OR Add cash/ cheque received for income during the year Cash at bank/ cash in hand received in the year Minus income received in Minus income receivable $$ received this year but advance $$ received this year but income earned last year income earned next year Journal entries Start of the current financial During the year End of the current financial year year Dr Income received in advance Dr Income Cr Income Dr Cash at bank Cr Income received in advance Cr Income OR OR Dr Income Dr Income receivable Cr Income receivable Cr Income Transfer and close the a/c Dr Income Cr Income Summary YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 31 Example YYSS 2020 Sec3Exp EOY P1 Q4 adapted Young and Chic Trading is a business trading in fashion accessories. Their financial year ends on 31 October 2019. The following balance were provided. 1 November 2018 $ Rental income received in advance 820 The cash at bank account showed the following receipts for the financial year ended 31 October 2019. $ Receipts Rental income 5 000 Additional information: 1) Rental income earned per month was $500. REQUIRED a) Prepare the journal entries needed to record the rental income for the year ended 31 October 2019. Narrations are not required. b) State effects on profit for the year and current asset if no adjustments were made for the rental income on 31 October 2019. Answer a) Journal Date Particulars Dr ($) Cr ($) 2018 1 Nov Rental income received in advance 820 Rental income 820 2019 Oct 31 Cash at bank 5 000 Rental income 5 000 Oct 31 Rental income receivable 180 Rental income 180 Oct 31 Rental income 6 000 Income summary (500x12) 6 000 b) Profit for the year is understated by $180. Current asset is understated by $180. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 32 Chapter 7 – Cost of Sales and Other Expenses Relevant accounting theories (a) Matching theory – Expenses incurred must be matched against income earned in the same period to determine profit for that period. (b) Accrual basis of accounting theory – Business activities that have occurred, regardless of whether cash is paid or received, should be recorded in the relevant accounting period. 1. Expense payable - Refers to services used but not paid yet - Is a current liability 2. Prepaid expense - Refers to other expenses paid in advance before services are used - Is a current asset Journal entries Prepaid expense Expense payable 1 SOY adjustment Dr Expense (+) Dr Expense payable (CL-) Cr Prepaid expense (CA-) Cr Expense (-) 2 Amounts paid Dr Expense (+) Cr Cash at bank/ cash in hand (CA-) 3 EOY adjustment Dr Prepaid expense (CA+) Dr Expense (+) Cr Expense (-) Cr Expense payable (CL+) 4 Transfer expense incurred Dr Income summary to income summary Cr Expense (-) YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 33 Calculating expenses incurred for the current financial year Start of the current During the year End of the current financial year financial year Add prepaid expense Add expense payable $$ paid last year but $$ paid next year but expense incurred this year expense incurred this year OR OR Add cash/ cheque paid for expense during the year Cash at bank/ cash in hand paid in the year Minus expense payable Minus prepaid expense $$ paid this year but $$ paid this year but expense expense incurred last year incurred next year Journal entries Start of the current During the year End of the current financial year financial year Dr Expense Dr Expense Cr Prepaid Expense Dr Expense Cr Expense Payable Cr Cash at bank OR OR Dr Expense Payable Dr Prepaid Expense Cr Expense Cr Expense Transfer and close the a/c Dr Income Summary Cr Expense YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 34 Example Roland has a business trading candies. His financial year ends on 28 February. The following information was extracted for the year ended 28 February 2021. 1. On 1 March 2020, the rent payable account showed a balance of $4,500. 2. On 8 January 2021, the business paid cash of $35,000 for rent. 3. Roland has $5,000 of prepaid rent on 28 February 2021. 4. Closing entry for the rent expense account was made for the year ended 28 February 2021. REQUIRED a) Calculate the rent expense incurred for the year ended 28 February 2021. b) Prepare all journal entries relating to rent expense for the year ended 28 February 2021. Narrations are not required. c) State and explain the accounting theory applied when a business makes year-end adjustment for expenses. Answer a) Rent expense incurred for the year = −$4 500 + $35 000 −5 000 = $25 500 b) Journal Date Particulars Dr Cr 2020 $ $ Mar 1 Rent payable 4,500 Rent expense 4,500 2021 Jan 8 Rent expense 35,000 Cash in hand 35,000 Feb 28 Prepaid rent 5,000 Rent expense 5,000 Feb 28 Income Summary 25,500 Rent expense 25,500 c) Matching theory states that expenses incurred should be matched against the income earned in the same accounting year to obtain an accurate profit. or Accrual basis of accounting theory states that expenses should only be recognised and recorded when it is incurred (enjoyed services) in the financial period, not paid (money). This is to obtain an accurate profit. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 35 Chapter 8 – Cash Internal Controls Purpose 1. To safeguard assets of the business 2. Ensure business transactions are recorded accurately 3. Comply with laws and regulations 4. Deter/ detect occurrence of fraud Why are internal controls needed to protect cash? Cash is highly portable and has a high chance of getting stolen. Internal controls help to reduce the possibility of theft or the likelihood of error to ensure cash is well-protected and accurately reported. Examples of internal controls 1. Segregation Separate cash handling and cash recording duties among different of duties employees so that no single person has control over the entire cash process. Examples: - Different employees receive and deposit cash - Different employees authorise invoices for payment and process payment to suppliers - Different employees write and authorize cheques 2. Custody of Secure cash and cheques in a locked storage. cash Examples: - Limit access of cash to authorized personnel - Provide combinations, passwords, or other access codes to authorised personnel only - Deposit cash daily into the bank to minimise the amount of cash kept overnight at the business location 3. Obtain proper approvals for all payments from authorized personnel. Authorisation Examples: - Require at least two persons to review and approve all payments - Require all valid supporting documents for all payments 4. Bank Compare business’ records with the bank’s records to identify items reconciliation that caused the differences between the ending balances in the business cash at bank and the bank statement. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 36 Bank Reconciliation Purpose 1. Identify items which caused the difference between the cash at bank balance and bank statement balance 2. Calculate the accurate bank balance after updating the cash at bank account 3. Identify errors in the bank statement or cash at bank account 4. Act as a deterrence against fraud Examples of timing differences (items which cause discrepancies between the balances in the cash at bank account and bank statement) 1. Items recorded in cash at bank account but not in bank statement Deposits in transit Business has deposited the cheque with the bank but the bank has not processed the cheque yet Cheques not yet Business has issued a cheque to the supplier but supplier has not presented presented the cheque to the bank yet 2. Items recorded in bank statement but not in cash at bank account Direct deposits Customer deposits cash/ cheques with the bank directly or transfers funds directly to the business bank account through credit transfer. Bank pays interest on deposits directly into the business bank account. Direct payments Bank authorised by business via a standing order to pay and transfer funds directly to suppliers’ bank account. Bank deducts bank charges, interest on overdraft and interest on loans directly from the business bank account. Dishonoured Bank rejects a cheque that the business has previously cheques deposited. Reasons for dishonoured cheques 1. Cheque has expired. 2. Cheque is post-dated. 3. Information on cheque is not consistent. 4. Information on cheque is not complete. 5. Payer’s bank account does not have enough money, is closed or is frozen. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 37 Why is a debit balance in the cash at bank account shown as a credit balance in the bank statement? To the business, the money kept with the bank is treated as an asset as the money belongs to the business, hence a debit balance. To the bank, the money kept with the bank is seen as a liability, money owed to the business, hence a credit balance. Cash at bank (updated) Date Particulars Dr Cr Balance 20XX $ $ $ MMM DD^ Balance b/d (Ending balance of cash at bank account) XX MMM DD^ MMM DD^ MMM DD^^ Balance b/d AA** ^Last day of the month ^^First day of the next month [Name of business/ Name of sole proprietorship] Bank reconciliation statement as at [DD MONTH YYYY] $ $ Balance as per bank statement (ending balance in bank statement) XX Add: Deposits in transit (circled accounts in Dr column) XX XX XX Less: Cheques not yet presented (circled accounts in Cr column) XX XX (XX) Adjusted balance as per cash at bank account AA** * Bank reconciliation statement is prepared at the end of the month. If the ending balance in the bank statement is a credit amount, it is shown as a positive balance as per bank statement in the bank reconciliation statement. If the ending balance in the bank statement is a debit amount, it is shown as a negative balance as per bank statement in the bank reconciliation statement. ** The adjusted balance as per cash at bank account must be the same as the final balance b/d in the updated cash at bank account. If the adjusted balance as per cash at bank account is a positive number, the final balance b/d in the updated cash at bank account should be a debit balance. If the adjusted balance as per cash at bank account is a negative number, the final balance b/d in the updated cash at bank account should be a credit balance. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 38 Example – YYSS 2021 MYE Paper 1 Q1 Louis provided the following details from his cash at bank account and bank statement for the month of July 2020. Cash at bank account Date Particulars Cheque Debit Credit Balance 2020 number $ $ $ Jul 1 Balance b/d 15 180 Dr 6 Si Yue 1880 17 060 Dr 8 Melinda Eyecare 533 2093 14 967 Dr 9 Interest income 30 14 997 Dr 14 Capital 420 15 417 Dr 16 Office equipment 534 5895 9 522 Dr 23 Fixtures and fittings 535 3025 6 497 Dr 27 Fauzi Sports 311 6 808 Dr 28 Yasirah Dress 536 633 6 175 Dr 29 Sales revenue 734 6 909 Dr Aug 1 Balance b/d 6 909 Dr Bank Statement Date Particulars Payments Receipts Balance 2020 $ $ $ Jul 1 Balance b/d 15 560 Cr 2 Cheque no. 531 380 15 180 Cr 8 Credit transfer – Si Yue 1880 17 060 Cr 9 Bank interest 30 17 090 Cr 11 Cheque no. 533 2093 14 997 Cr 14 Cash 420 15 417 Cr 19 Cheque no. 534 5895 9 522 Cr 20 Standing order - Insurance 1050 8 472 Cr 23 Credit transfer – Vionna Drums 215 8 687 Cr 24 Cheque no. 535 3205 5 482 Cr 29 Direct payment (rent) 1900 3 582 Cr Louis discovered that he had recorded the transaction wrongly on 23 July 2020. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 39  REQUIRED (a) State two advantages of a business preparing a bank reconciliation statement. (b) Explain why a debit balance in a business cash at bank account is shown as a credit balance in the bank statement. (c) Update the cash at bank account at 31 July 2020 and bring down the balance to the next month. (d) Prepare a bank reconciliation statement as at 31 July 2020. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 40 Answer a) Any 2 - helps the business to identify errors - helps the business to prevent fraud. - helps the business to obtain the correct cash at bank balance at the end of the month. - helps the business to identify uncredited and unpresented cheques. b) The cash at bank account is an asset of the business so it has a debit balance in the business books. However, the bank treats the deposits as liabilities as the deposits do not belong to the bank. Hence, the deposits are recorded as credit balances in the bank statement. c) Cash at bank account Date Particulars Debit Credit Balance 2020 $ $ $ Jul 31 Balance b/d 6 909 Dr Fixtures and fittings (correction of error) 31 3205−3025 180 6 729 Dr 31 Vionna Drums 215 6 944 Dr 31 Insurance expenses 1 050 5 894 Dr 31 Rent expenses 1 900 3 994 Dr Aug 1 Balance b/d 3 994 Dr d) Bank Reconciliation Statement as at 31 July 2020 $ Credit balance as per bank statement 3 582 Add deposits in transit - Fauzi Sports 311 - Sales revenue 734 1 045 Less unpresented cheque - Yashirah Dress ( 633) Adjusted balance as per cash at bank 3 994 YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 41 Chapter 9 – Inventories Cost of Purchases Cost of purchase = cost price + any expense incurred to prepare goods for resale Examples: - Transport e.g. shipping fees, air freight charges - Custom duties - Insurance for goods in transit - Packing materials - Wages for employees involved in repacking goods Method to record flow of inventory: First In First out (FIFO) The goods purchased first are assumed to be sold first. Goods that are purchased last and not sold remain in the business as ending inventory. Valuation of Inventory Inventory is valued at the lower of cost and net realisable value (NRV). NRV is the potential amount receivable from selling the inventory (selling price less additional costs to sell the inventory). Impairment loss on inventory - Occurs when the net realisable value falls below the cost of inventory - Is an expense - Journal entry to record impairment loss on inventory Date Particulars Dr ($) Cr ($) MMM DD Impairment loss on inventory XX Inventory XX - Closing entry Date Particulars Dr ($) Cr ($) (last day) Income summary XX Impairment loss on inventory XX YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 42 Relevant accounting theories Prudence theory – The accounting treatment chosen should be the one that least overstates assets and profits and least understates liabilities and losses. When net realisable value falls below the cost of inventory, the business must reduce the value of inventory and record the potential loss as an expense. This expense is known as impairment loss on inventory. Hence, assets and profits are not overstated. Effects of not recording impairment loss on inventory in the current year Expenses for the year Profit for the year Current assets Equity Understated Overstated Overstated Overstated Effects of selling the overstated inventory in the next year Expenses for the year Profit for the year Current assets Equity No effect Understated No effect No effect Insurance claim - To manage the risk of potential loss caused by damaged goods, a business may buy insurance and make an insurance claim to seek compensation - Journal entry to record insurance claim receivable Date Particulars Dr ($) Cr ($) MMM DD Insurance claim receivable XX Impairment loss on inventory XX - Journal entry to record collection of insurance claim Date Particulars Dr ($) Cr ($) MMM DD Cash at bank XX Insurance claim receivable XX YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 43 Financial statement extracts Name of business Statement of financial performance for the year ended DD MONTH YYYY (extract) $ $ Less: Other expenses Impairment loss on inventory XX Name of business Statement of financial position as at DD MONTH YYYY (extract) Assets $ $ Current assets Inventory (NRV) XX Insurance claim receivable XX YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 44 Example - YYSS 2021 MYE P1 Q2 Issac Hub, a mobile phone accessories shop, buys and sells goods by cheques only. The business uses the First-In-First-Out (FIFO) method to record inventory movement. On 1 April 2021, the business had 20 units of phone casings valued at $350. The following purchases of phone casings took place in the month of April 2021. 2021 Quantity (units) $ Apr 3 45 740 Apr 5 50 790 Apr 12 40 700 Apr 22 35 615 Issac Hub sold 65 units on 10 April and 50 units on 21 April. REQUIRED (a) Prepare the inventory account for the month ended 30 April 2021 and bring down the balance to the next month. Issac Hub also sells wireless chargers. On 30 April, the business had an inventory of wireless charges costing $5 965. After a review, it was discovered that these wireless chargers had a net realisable value of $5 299. REQUIRED (b) State the valuation rule for inventory. (c) Explain the accounting theory applicable to the valuation of inventory. (d) State the effect on profit for the month of April 2021 and current assets if the inventory was not adjusted. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 45 Answer a) Inventory account Date Debit Credit Balance Particulars 2021 $ $ $ 1 Apr Balance b/d 350 Dr 3 Apr Cash at bank 740 1 090 Dr 5 Apr Cash at bank 790 1 880 Dr 10 Apr Cost of sales 1 090 790 Dr 12 Apr Cash at bank 700 1 490 Dr 21 Apr Cost of sales 790 700 Dr 22 Apr Cash at bank 615 1 315 Dr 1 May Balance b/d 1 315 Dr b) Inventory is valued at the lower of cost and net realisable value. c) The prudence theory states that the accounting treatment chosen should be the one that least overstates assets and profits, and least understates liabilities and losses. When the cost of inventory is higher than its net realisable value, the business must reduce the inventory value and record the potential loss as an impairment loss even though the inventory has not yet been sold to ensure that current assets and profit are not overstated. d) Impairment loss on inventory = $5965 − $5299 = $666 Profit for the year will be overstated by $666 Current assets will be overstated by $666 YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 46 Chapter 10 – Trade Receivables Definition Refers to the amount owed by customers who buy goods and services from business on credit. Signs of uncollectible debts Likely to be uncollectible Confirmed to be uncollectible - Debts long overdue despite reminders - Bankrupt - Business is unable to contact the debtor - Deceased - Rumours that the business is not doing well Allowance for impairment of trade receivables - Refers to estimated amount of trade receivables that are likely to be uncollectible - Recorded in the statement of financial position as a deduction against trade receivables as a contra asset - Formula o Estimated percentage (%) x Ending trade receivables balance Impairment loss on trade receivables - Refers to the change in the allowance for impairment of trade receivables - Recorded in the statement of financial performance as an expense - Formula o New allowance – (prior year’s allowance – amount written off) YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 47 Journal entries 1. Write-off of trade receivable (unable to pay –bankrupt/deceased) Date Particulars Dr ($) Cr ($) MMM DD Allowance for impairment on trade receivables XX Trade receivable – AA XX 2. Collections from trade receivable (able to pay) Date Particulars Dr ($) Cr ($) MMM DD Cash at bank/ Cash in hand XX Trade receivable – AA XX 3. Increase in allowance for impairment of trade receivables and closing entry Date Particulars Dr ($) Cr ($) (last day) Impairment loss on trade receivables XX Allowance for impairment of trade receivables XX (last day) Income summary XX Impairment loss on trade receivable XX 4. Decrease in allowance for impairment of trade receivables and closing entry Date Particulars Dr ($) Cr ($) (last day) Allowance for impairment of trade receivables XX Impairment loss on trade receivables XX (last day) Impairment loss on trade receivable XX Income summary XX YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 48 Financial statement extracts Name of business Statement of financial performance for the year ended DD MONTH YYYY (extract) $ $ Less: Other expenses Impairment loss on trade receivables XX OR Reversal of impairment loss on trade receivables (XX) Name of business Statement of financial position as at DD MONTH YYYY (extract) Assets $ $ Current assets Trade receivables A Less: Allowance for impairment of trade receivables B A−B* *Net trade receivables Effects of adjustment of allowance for impairment on trade receivables Expense Profit for the Current assets year Increase in allowance Increase Decrease Decrease Decrease in allowance Decrease Increase Increase Relevant accounting theories Matching theory – A business provides for allowance for impairment of trade receivables so that amounts that are likely to be uncollectible will be recognised as an impairment loss on trade receivables (expense) to be matched with the income earned from sales to the trade receivables within the same accounting period to determine accurate profit. Prudence theory – Where debts are likely to be uncollectible, a business should recognise the loss in the value of the asset as an expense (impairment loss on trade receivables) so as not to overstate profit. The contra asset (allowance for impairment of trade receivables) is recorded as a deduction from the asset (trade receivables) so that the asset amount would not be overstated. YYSS 2023 7087 revision notes (Prepared by Mr Leong KH, Ms Bernice Mok & Ms Melody Toh) Page 49 Example – YYSS 2021 MYE P1 Q3 The financial year of Jerabelle Ltd ends on 31 December. On 1 January 2019 the business provided the following balances. $ Allowance for impairment of trade receivables 2 005 The following information relates to its trade receivables: 31 December 2019 31 December 2020 $ $ Trade receivables 33 200 46 740 Additional information: 1 On 13 April 2020, Erica Crafts was declared a bankrupt. Jerabelle Ltd decided to write off the full amount of $290 outstanding. 2 On 26 July 2020, ZhenHong Textile which owed $368 was declared bankrupt. ZhenHong Textile was able to repay 25 cents for every $1 owed by cheque. The remaining amount owed had to be written off. 3 Jerabelle Ltd estimates that at the end of every financial year, 5% of total trade receivables are likely to be uncollectible. REQUIRED (a) Use an appropriate accounting theory to explain why it is necessary for a business to account for impairment loss on trade receivables. (b) Prepare journal entries to record the transactions on 26 July 2020. Narrations are not required. (c) Prepare journal entries to adjust the balance of allowance for impairment of trade receivables for the year ended 31 December 2019 and 31 December 2020. Narrations are not required. (d) Prepare an extract of the statement of financial performance for the year ended 31 December 2020. (e) Prepare an extract of the statement of financial position as at 31 December 2020. YYSS 2023 7087 revis