Summary: Introduction To Accounting

Accounting Equation

Fundamental relation showing financial position at a point in time.

• Accounting Equation: Assets = Liabilities + Capital.
• Asset: Resource controlled by business expected to bring future benefit.
• Liability: Present obligation arising from past events payable in future.
• Capital: Owner's residual interest; opening and closing capital adjusted for profit/drawings.
• Profit (or Loss): Income - Expenses; affects Capital (closing capital = opening capital + profit - drawings + additional capital).

Double-Entry System and Journal

Rules and primary recording method for every transaction.

• Double-entry principle: Each transaction has equal debit and credit effects.
• Debit/Credit rules: Debit increases Assets & Expenses; Credit increases Liabilities, Income & Capital.
• Journal: Chronological book of original entry with format: Date - Debit A Dr. amount; To Credit B Cr. amount; narration.
• Source documents: Voucher, invoice, receipt used to support journal entries.

Ledger, Trial Balance and Subsidiary Books

Secondary classification and trial check for recording accuracy.

• Ledger: Book of final accounts with individual account heads; posting transfers journal entries to ledger.
• Trial Balance: List of ledger balances to check arithmetical accuracy; totals of debit and credit must match.
• Subsidiary books: Special journals for routine transactions - Cash Book, Purchase Book, Sales Book, Purchase Returns, Sales Returns, Petty Cash Book.
• Cash Book: Acts as both subsidiary book and ledger for cash/bank; includes contra entries for cash-bank transfers.
• Bank Reconciliation Statement: Brief reconciliation of cash book and bank passbook balances; common causes: outstanding cheques, deposits in transit, bank charges.

Accounting Concepts and Conventions

Basic assumptions used to prepare accounting records and reports.

• Business Entity: Business separate from owner.
• Money Measurement: Only transactions measurable in money are recorded.
• Going Concern: Business assumed to continue for foreseeable future.
• Accrual and Matching: Record income/expenses when earned/incurred, not when cash flows occur.
• Consistency: Use same accounting policies period-to-period.
• Prudence (Conservatism): Do not overstate assets or income; provide for probable losses.
• Materiality: Record items significant enough to influence decisions.

Capital vs Revenue Items and Depreciation

Distinguish long-term vs recurring items and allocation of asset cost.

• Capital Expenditure: Creates future benefit or increases asset life (e.g., purchase of machinery).
• Revenue Expenditure: Recurring expense for running business (e.g., repairs, salaries).
• Depreciation: Systematic allocation of cost of a tangible asset over its useful life.
• Straight-line method: Annual Depreciation = (Cost - Residual value) / Useful life.
• Reducing-balance method: Depreciation = WDV × rate (applied to written-down value each year).