ACTG 2010 – chapter 3

Double entry accounting system:

- Requires that each transaction be recorded that affects at least two
accounts, with the transaction amount recorded in each account.
- Total effects will be equal & offsetting
- Enable companies to use hundreds & thousands of accounts to
capture information in detail
- Easy to summarize information by account

Normal Balance:
- The balance (credit/debit) an account is normally expected to have
- DEBIT: Assets, expenses, losses
- CREDIT: Liabilities, shareholder’s equity, revenues, gains
- Accounts normal balance is used to increase it
- Opposite of an accounts normal balance is used to decrease it

Which accounts are affected? Assets/liabilities?

Are they going up/ down
Is that a credit/ debit
Example:
1. Cash:
▪ Asset, on the “LEFT” of T, = debit balance (DR)
▪ To record an increase, = debit it
▪ To record a decrease, = credit it
▪ At the end: debit>credit
2. Accounts payable
▪ Liability, on the “RIGHT” of T = credit balance (CR)
▪ To record an increase = credit it
▪ To record a decrease = debit it
▪ At the end: credit>debit

Difference between template approach & double entry accounting system

- Double entry:
o Hundreds & thousands of columns
o Specific accounts for them: transfer balances of revenues,
expenses, dividends declared accounts to the retained earnings
account (Closing entry process)
- Template:
o limitation of number of columns
o categories for revenue accounts, expense accounts, dividends
declared account
o Cards of assets---Cards of liability --- Cards of shareholder’ equity
Revenue increase retained earnings – (Credit balance),
Expenses decrease retained earnings – (debit balance)
Dividends decrease retained earnings – (debit balance)
因为 retainted earnings normally has a credit balance, increase 是
credit, decrease 是 debit

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 Accounting cycle:

Chart of Account:
- Information systems
- List of names of all accounts used in a particular accounting system
- Can be changed: as company grow, add property, plant, equipment
- Identified by a number/ names indicates the sequence of accounts &
purpose, make it easier to record transactions
Non transaction examples:

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 Goods will arrive tomorrow
Company ‘promise’ was made

*Changes to temporary accounts (revenue and expense accounts) are made

only at the beginning of an accounting period.
因为以年度数据计入，否则需要返回并调整

Difference between permanent & temporary accounts:

1. Opening balances
Permanent:
- Accounts balance that carry over from one period to the next
- 从上一个周期剩下的余额从而开启下一个周期
- Assets(cash), liability, shareholder’s equity
Temporary:
- Accounts used to keep track of information temporarily during each
accounting period,
- Accounts closed at the end of each accounting period –“reset” 结清
- Revenue, expense, dividends declared

2. Transaction analysis

- Identify whether an event or transaction has occurred, and effect

- “Source document” indicating that a transaction has occurred that
needs to be recorded
- Ex. Invoices, cheques, cash register tapes, bank deposit slips

3. Recorded in General journal

- General Journal

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 - Initial entries are usually made in general journal
- Detailed information on each transaction
- Chronological listing(时间排序) of all events that recorded in
accounting system

- Journal entry: Each entry in journal shows the effect of a transaction

▪ Date, numbered sequentially 顺序, names of accounts
affected by transaction, amount involved, debit(first),
credit(second), explanation of the transaction(finally)
- TOTAL $ OF DEBIT = TOTAL $ OF CREDIT in each journal entry (MUST)
- RECORD DEBIT BEFORE CREDIT
- INDENT ALL CREDIT ENTRIES

4. Journal entries are post to General ledger

General ledger (G/L):

- SUMMARY information for each account (journal is detailed info)
- Provide more efficient access to information about transaction effect
- Posting:
o The process of transferring the debit/credit balance from journal
to ledger accounts
- Each account in ledger represents a separate/specific T account
o (name, number, beginning balance, posting, ending balance)
*Accounting system need both journal entries & ledger accounts

5. Trial balance is prepared

- Trial balance:

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 o A listing of all the ledger accounts & balances
o Used for check whether debit = credit
o Need to be same order as ledger, (1. Permanent accounts, 2.
Temporary accounts), to easier prepare for financial statements
- Hint:
o Trial balance (all accounts) balance sheet (asset, liability,
shareholder’s equity)
o Order same as income statement
o IF NOT EQUAL: calculate the difference between the total debits and the total
credits, Divide the difference from the first step by 2, and check to see whether a
debit for this amount has been recorded as a credit, Divide the difference from
the first step by 9. If it divides evenly—with no decimals—check for a
transposition error: two digits that have been reversed.

6. Adjustments are journalized & posted

- Adjusting entries:
o Journal entries made at END of accounting period to record
transaction that not yet recorded
o (no cash account): the depreciation of property, equipment; the
expiration of prepaid expenses; the accrual of interest; and the
consumption of supplies all occur daily.
o Enhance comparability(chapter2) of financial information

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 ▪ ACCRUALS: when a revenue/expense need to be
recognized before cash is received/ paid
▪ DEFERRALS: 延期 when a revenue/expense need to be
recorded after cash has received/ paid

- always involve at least 1 statement of income account

(revenue/expenses) and 1 statement of financial position account
(assets/liabilities)

DEPRECIATION (deferral entry)

- Accumulated Depreciation account:
o A contra- asset account whose normal balance is a credit
- Contra- asset account
o An account used to record reductions in a related asset account.
(accumulated depreciation)
o Normally has credit balance

- Carrying amount
o Net book value
o Cost of the property, plant, equipment less the accumulated
depreciation on that asset
o Represents portion of the asset’s cost that has yet to be
expensed
o DOES NOT represent the asset’s market value
“we will make entries in a property, plant, and equipment account only when an
asset is purchased or sold, but not when recording depreciation.”

Journal entry
• depreciation expenses

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 Debit (because expense normally have a debit balance)
• Accumulated depreciation
Credit (normal balance of contra-asset is credit)

7. Adjusted trail balance is prepared

- Adjusted trial balance

A listing of the accounts & their balance after adjusting entries
Before the closing entries

8. Financial statements are prepared

1. Income statement (first)

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 2. Statement of changes in equity (second)

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 3. Statement of financial position

4. Statement of cash flows

9. Closing entries are journalized & posted

- The balances in the temporary accounts must be transferred to the

retained earnings account.
- ‘RESETS’ all temporary accounts to zero END of year (to start the next year)
- All the accounts on balance sheet are PERMANENT accounts
- All the accounts on company’s income statement are TEMPORARY
- Transferred to RETAINED EARNINGS ACCOUNT at the end of year
- (Also, dividends declared is also temporary account)

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 - Different way to prepare closing entries: 1/2/3/4/entry approach (depends)
o FOUR CLOSING ENTRIES:
o Income summary account: temporary account that is opened &
closed on the last day of company’s fiscal year
1. Close all revenue accounts to the income summary account
2. Close all expense accounts to the income summary account
3. Close the income summary account to retained earnings
4. Close the dividend declared account to retained earnings

If company has retained earnings:

- Company has at least operated for 1 year (transferred from last year)
- Company was profitable (revenue> expenses)

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Tutorial:
C2-2
1. The payment of the insurance should have been recorded as a prepaid
expense. Which is a current asset because there’s a future benefit
associated with the insurance. As year goes, the benefit will used up. As the
benefit of policy expire, the related costs should be expensed. At the end of
year, one-third of a Three-year policy would expire. The remaining two
third should remain as a Prepaid expense (ASSET) on balance sheet

- 1000 Is for insurance expenses (Expenses--- income statement)

- 2000 is for prepaid insurance expenses (assets --- Balance sheet)

2. The full amount of the cost of new machine (10,000) should have been
record as asset, as time passes and machine is used, it should be
depreciated as expenses on income statement that reduce carrying value of
the machine. The depreciation expenses should report in same time when
the machine is generating revenue

- Straight-line depreciation: ($10,000-$2,000)/5 * 6/12 = $800

3. The company should report all future claims on assets, even when whose
claims don’t become due for 4 years. The loan should be recorded as a Long
term liability until the end of 3rd ear, where it turns to a current liability,
and record will provide a complete listing of total liabilities

4. The interest on the loan should be recorded when its incurred. Even though
the owner didn’t pay any interest. There is an obligation to pay the interest
soon, which there’s a claim on the assets of the company that should
record in financial statement. As a current liability, interest must be
accrued for 2 months because the loan was taken out oct 31 and the year
ends dec 31

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 5. Dividends is NOT an expense but reduce retained earnings. It’s a
distribution of profit to the shareholder. The payment should not appear on
income statement, but appear on statement of retained earnings (ASPE) or
statement of changes in equity (IFRS) and as financing activity on statement
of cash flows

DQ3-2:
Indicate whether each of the following statements is true or false:

a. Under the accrual basis of accounting, when cash is collected on accounts

receivable, revenue is recorded.
False: Revenue recorded when the work is none, not cash is collected

b. Cash receipts from customers are debited to Accounts Receivable.

False: decrease accounts receivable = credit to accounts receivable

c. The cash basis of accounting recognizes expenses when they are incurred.
False: cash recognizes cash is paid

d. Under the cash basis of accounting, there is no such thing as a Prepaid

Expenses account.
True. Only record expense when we use cash to pay

e. Asset accounts and expense accounts normally have debit balances.

True

f. Credits increase asset accounts.

False: debit increase assets

g. Revenues are recorded with credit entries.

True: revenue increase with CREDIT

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 h. Dividends are an expense of doing business and should appear on the
statement of income.
False: dividend are not expenses, it’s a distribution of profits, should be
reflected as a deduction in retained earnings

DQ3-14
If a company fails to record an accrued expense at the end of an accounting
period, what effect will this omission have on the current period’s financial
statements? On the next period’s financial statements?

The effect of not recording an accrued expenses is that the expenses will be
understated and the net income for the current period will be overstated.
Liabilities will also be understated. If not corrected, the expenses will be
recognized in the next period when it is paid for, thus leading to an overstatement
of expenses and an understatement of net income in the next period.
Accrued expenses: BEFORE the cost incurred

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