Valley Institute

of
Quality education
Bemina Srinagar
Accounting terminology:
Terminology means the technical or special
terms used in a special subject. So we can
say that accounting terminology includes
the technical or special terms used in
accounting. It is necessary to understand
the accounting terminology as it forms part
of standard accounting.
Business transaction: The term business
transaction may be defined as exchange of goods
or services for cash or on credit by the business
with any other person and is recorded in the books
of accounts. It is a financial event expressed in
terms of money which brings change in the value
of some assets, liabilities or capital.
Examples of business transactions are:
Sales of goods, purchases of goods, receipt from
debtors, payments to creditors, purchase/sale of
fixed assets etc.
Types of business transactions:
On the basis of mode of settlement of value the business
transactions are of two types:
Cash transaction
Credit transaction.
Cash transaction: When the amount is transacted
immediately on entering into a transaction it is a cash
transaction.
Or
When cash is involved in the transaction it is a cash
transaction.

Credit transaction: When the amount is promised to be paid

later it is a credit transaction.
Or
When cash is not involved in the transaction it is termed as
credit transaction.
Capital:
Capital is the amount invested by the proprietor
into the business to carry out the business.
It may be in the form of goods, cash or any other
asset having a monetary value. It is a liability of
the business towards the proprietor . Capital is
also known as owner’s equity or net worth.
Capital increases with further investments made
in the business and the amount of profit earned
and decreases when it is withdrawn (drawings) or
loss is incurred by the business.
Drawings: it is the amount of withdrawn or goods
taken by the proprietor for personal use. Drawing
reduce the capital of the proprietor.
Goods: the articles in which the business deals. It
includes all those articles that have been
purchased by the business for sale in usual course
of business. It also includes raw material
purchased for further processing.
For example: for a car dealer cars purchased are
goods,
For a furniture dealer furniture purchased is good.
Proprietor: Proprietor means the owner of the
business. The person who invests capital and starts
the business is termed owner/proprietor. The
proprietor bears all the risks associated with the
business.
In simple words, we can say that the person who
owns a business is termed as proprietor.
Debtor: Debtor is a person who owes money to the
business against credit sales of goods or services in
its ordinary course of business.
For instance: When goods are sold to Mr. Alex on
credit Mr. Alex becomes a debtor of the business
because he owes the money to the business.
Book debts: The amount of money owed to the
business by the debtors.
Bad-debt: Bad-debt is the amount owed to the
business that is written off because it has become
irrecoverable . It is a loss for the business and is
Bills receivable: means a Bill of Exchange accepted
by a debtor, the amount of which will be received on
the specified date.
Trade receivables: It is the amount receivable for
sale of goods or services rendered in the ordinary
course of business. Trade receivables is a sum total
of debtors and bills receivable.
Creditor: Creditor is a person to whom money is
owed by the business against credit purchases of
goods or services taken.
For instance: When goods are purchased from Mr.
Mohan on credit Mr. Mohan becomes creditor of the
business because the business owes money to Mr.
Mohan.
Bills payable: means a Bill of Exchange accepted, the
amount of which will be payable on the specified
date.
Trade payables: it is the amount of money payable
for purchases of goods or services taken in the
Assets: Assets are the properties owned by the business. They
are the economic resources of the business. Asset are
purchased to carry out the operations of the business.
In other words, anything that will enable the business to get
cash or an economic benefit in the future is termed as an
asset.
List of assets:
Land
Building
Plant
Machinery
Furniture
Stock
Debtors
Cash
Bank balance etc.
Types of Assets:
Assets can be classified into:
1. Fixed assets
2. Current assets
3. Fictitious assets.
Fixed assets: These are those assets which have
been purchased by the business for a long term
use and not with the purpose to resell them in the
ordinary course of business. Fixed assets are
purchased by the business to facilitate the
business operations.
Fixed assets are further dividend into two types:
Tangible assets
Intangible assets
Tangible assets: Tangible assets are those assets
which have physical existence i.e., they can be
seen and touched.
For example: land, building, machinery, furniture,
etc.
Intangible assets: Intangible assets are those
assets which do not have physical existence i.e.,
they can’t be seen and touched. These are usually
the rights to use, produce or provide the goods or
Current assets: Current assets are those assets the
benefit of which is derived for a shorter period of
time(usually one year) and they are held in the
form of cash or to be converted into cash.
In other words, we can say that current assets are
those assets which are held by the business with
the purpose of converting them into cash within a
short period of time i.e., one year.
For example: cash in hand,
Cash at bank,
Stock,
Debtors,
Bills receivable etc.
Fictitious assets: fictitious assets are those
assets which do not have any physical form and
also they do not have any realisable value. These
are losses not written off in the year in which
they are incurred but in more than one
accounting period.
For example: Preliminary expenses, discount or
loss on issue of debentures etc.

Liabilities: Liabilities means amount payable by

the business. In general, liabilities are financial
obligations of the business to owner or outside
parties arising from events that have already
happened. Liability of the business towards the
owner is termed as internal liability. On the other
hand, liability of the business towards the
outsiders, is termed as external liability.
Internal liability arises, when the owner invests
capital into the business. On the other hand,
external liability arises because of credit
transactions or loans taken.
Examples: creditors, bank overdraft, long-term
borrowings, and other liabilities.
Liabilities may be further classified as:
Non-current liability: Non-current liability is that
liability which is payable by the business in more
than one year .
Examples: long term loans, debentures etc.

Current liability: Current liability is that liability

which is payable by the business within one year.
Examples: creditors, bills payable, short-term
loans etc.
Contingent liability: contingent liability is
that liability which may or may not become
payable in future. Future events decide
whether it is really a liability or not. Due to
their uncertainty, these are known as
contingent liability.
Example: Financial cases pending against
the business in the court of law, guarantees
given on behalf of others. These liabilities
are shown in the footnote of the balance
sheet.
Stock/inventory: Unsold goods lying with the
business. Stock is classified as a current asset in
the balance sheet.
Stock/inventory may be:
Opening stock
Closing stock
Opening stock: means the stock-in-hand at the
beginning of the accounting year.
Closing stock: means the stock-in-hand at the end
of the accounting year.
Sales: The term “sales” is associated with or used
for sale of goods that are dealt with by the firm. It
includes both cash sales and credit sales. When
goods are sold for cash, it is termed as cash sale.
When goods are sold on credit it is termed as credit
sale.

Sales return or returns inward: It is that part of

goods sold which is returned by the
purchaser/customer to the business. Sales return is
also known as Returns inward because the goods
are coming back to the business from the
customers. In order to calculate net sales of the
business, sales return is deducted from sales.
For example: ABC business sold goods for ₹10,000
to Rahim. Rahim returned goods worth ₹1,000 to
the business.
For ABC business:
Purchases: The term “purchases” is used for purchases
of goods for resale or for producing the finished
products which are to be sold. It includes both cash
purchases and credit purchases. When goods are
purchased for cash, it is termed as cash purchases.
When goods are purchased on credit, it is termed as
credit purchases.
Purchases return or returns outward: It is that part of
goods purchased which is returned to the supplier by
the business. Purchases return is also known as returns
outward because the goods are going out from the
business to the supplier. In order to calculate net
purchases of the business, purchases return is deducted
from purchases.
For example: ABC business purchased goods worth
₹50,000 from the supplier and returned goods worth
₹5,000 the supplier as these goods were defective.
For ABC business:
₹50,000 is purchases
₹5,000 is purchases return
Expense: Expense is the cost incurred for
generating revenue. Expense is that portion of the
expenditure which has been consumed during the
current accounting year to earn revenue. An
expense is debited to Trading Account or Profit and
Loss Account.
Examples: salaries paid, postage, advertisement,
depreciation on assets etc.
Revenue : Revenue means amount earned by an
enterprise from its operating activities.
Examples: Sale of goods or services.
Profit: Excess of total revenue over total expenses of
a business enterprise for an accounting period is
termed as profit. It increases the owner’s equity.
It means income earned by the business from its
operating activities i.e., the activities carried out by
the business to earn profit.
For example: A bookseller sells a pen for ₹ten which he
purchased for ₹eight. Here:
₹ 8 is expense ₹ 10 is revenue ₹ 2 (10-8) is profit

Gain: Gain is a profit that arises from transactions which are

not operating activities of the business but are incidental to it
such as gain on sale of fixed assets or investments.
For example: when machinery costing ₹90,000 sold
for₹1,00,000, there is a gain of ₹10,000.
Loss: loss is excess of expenses of a period over its revenues.
It decreases the owner’s equity. It is a broad term and
includes loss incurred in its operating activities, loss against
which the business receives no benefit
Example: cash or goods lost in theft
Loss on sale of fixed assets.
Income: Income is a broader term than the term ‘profit’
because it includes profit from operating and non operating
activities. In other words, income is the profit earned during a
period.
Receipts: Receipt is the amount received or receivable for
selling assets, goods or services. Receipts in simple words
may be defined as the financial inflows into the business
from various resources. Receipts are further categorised
into revenue receipts and capital receipts.
Revenue receipts: It is the amount received or receivable in
the normal course of business. Revenue receipts consist of
recurring receipts into the business as an outcome of the
firm’s activities in the accounting period. Revenue receipts
do not create any liability. These are shown on the credit
side of Trading and Profit and Loss Account. These receipts
may comprise of:
a. Sale of goods and services.
b. Commission or discount received
c. Interest and dividend received.
Capital receipts: It is the amount received or receivable
against transactions which are not revenue in nature. It
consists of non-recurring receipts into the business which
are shown on the liability side of the balance sheet or as a
reduction in the value of assets.
For example: amount received or receivable for sale of
machinery, building, furniture, investment, loans taken etc.
Expenditure: Expenditure is the amount spent for
acquiring assets, goods or services. It includes the
amount incurred for recurring and non-recurring
business transactions. In simple words, we can say
that any payment made for the receipt of the
benefit is termed as expenditure.
Expenditure may be categorised into:
Capital expenditure
Revenue expenditure
Deferred revenue expenditure.
Capital expenditure: The amount incurred for the
purchase of assets or improving the existing
assets from which the benefit will be derived in
future is termed as capital expenditure. Capital
expenditure increases the earning capacity of the
business. It may be incurred to acquire tangible
assets or intangible assets. Capital expenditure is
shown on the assets side of Balance Sheet.
Examples of capital expenditure are purchase of
machinery, land, building, vehicles, furniture etc.
Revenue expenditure: Revenue expenditure is the
expenditure incurred the benefit of which is
derived within the accounting period. It includes
the amount incurred for purchase of goods or
services and amount incurred for meeting day to
day expenses. In simple words, we can say that
revenue expenditure is the expenditure on
purchasing items which are used, directly or
indirectly, to produce revenue in the current
accounting period. Revenue expenditure is shown
on the debit side of the Trading and Profit and Loss
Account.
Examples of revenue expenditure are cost of goods
sold, salaries, rent, advertisement etc.
Deferred revenue expenditure: A heavy
expenditure of revenue nature incurred, having
the effect of generating income over a number
of years is classified as deferred revenue
expenditure. This expenditure is written off
(charged) equally over the number of years for
which the benefit is anticipated.
For example: A heavy expenditure on
advertisement that will give benefit for more
than one accounting period is a deferred
revenue expenditure.
Account: An account is a summarised record of transactions
relating to a particular head at one place. It is a date-wise
summary of transactions relating to persons, property,
expenses or incomes. It records not only the amount of
transactions but also their effect and direction. An account
records transactions of similar nature. For example: in cash
account we will record only those transactions in which cash
is involved.

Dr. Machinery Account

Cr.
The account is having two sides: left hand side
and right hand side:
The left hand side is called debit side and the
right hand side is called credit side.
Debit is abbreviated as Dr. and Credit is
abbreviated as Cr. in accounting. Debit is derived
from the Latin word debitur which means debtor
and credit is derived from Latin word creder which
means lender.
Debitur

Creder

If an account is debited it means the entry will be

recorded on the debit side of the account.
If an account is credited it means the entry will be
recorded on the credit side of the account.
Entry: A transaction or event when recorded in
the books of accounts is termed as entry.
Books of accounts: Books of accounts are those
books in which transactions are recorded such as
journal, ledger, cash book etc.
Book value: this is the amount at which an item
appears in the books of accounts or financial
statements.
Solvent: solvent is a person or business which is
in a position to its debts.
Insolvent: insolvent is a person or business which
is not in a position to pay its debts.
Accounting concepts:
Accounting concepts are the basic or
fundamental assumptions within which
accounting operates. They are generally
accepted accounting rules based on which
transactions are recorded and financial
statements are prepared. It is important
to follow the accounting concepts because
it enables uniformity in the preparation of
financial statements and also enable the
users of financial statements to
understand them in a better and same
manner.
1. Separate entity concept
2. Going concern concept
3. Accounting period concept
4. Money measurement concept
5. Dual aspect concept
6. Cost concept
7. Revenue recognition concept
8. Objectivity concept
9. Matching concept
SEPARATE ENTITY CONCEPT:
According to this concept, business is considered
to be separate and distinct from its owners. All the
transactions in the books of accounts are
recorded as per business point of view, not as per
the owner’s point of view. Owners being regarded
as separate and distinct from business they are
considered creditors of the business as per their
capital. This principle applies to every form of
business enterprise.
Separate entity concept is also known as business
entity concept , legal entity concept and
accounting entity concept.
For example: When the proprietor introduces
capital ₹ 1,00,000. Cash comes into the business
but at the same time business owes ₹1,00,000 to
the proprietor. Capital account of proprietor will
be credited which means the business has a
GOING CONCERN CONCEPT:
According to this concept, it is assumed that
business will continue for an indefinite period of
time and there is no intention to close the
business. In simple words, we can say that
business is a continuous process and will exist for
a longer period of time. This implies that business
will not be dissolved in the immediate future
unless there is clear evidence to the contrary.
ACCOUNTING PERIOD CONCEPT:
According to this concept, the life of a business is
divided into small parts so that the performance is
measured. Accounting period refers to the interval
of the time at the end of which financial statements
are prepared. Normally after one year accounting
statements are prepared which may be a calendar
year, financial year or any other year. Accounting
period concept is also known as periodicity
assumption or time period assumption.

Financial statement: the statement which shows

financial position of a business. It includes profit
and loss account and balance sheet.
Calendar year: the year that starts on January 1 and
ends on December 31 of the same year.
Financial year: the year that starts on April 1 of one
year and ends on March 31 of another year.
MONEY MEASUREMENT CONCEPT
According to this concept, only those transactions and
events that can be measured in monetary terms are
recorded in the books of accounts of the business. In
other words, the transactions and events which are
cannot be expressed in terms of money are not recorded
in the books of accounts. Money is the common
denominator in recording and reporting all transactions
and events.
For example: Human resource is important for the
effective functioning of the enterprise but are not
shown in the financial statements because they are not
measured and expressed in terms of money.
DUAL ASPECT CONCEPT:
According to this concept, every business transaction has two
aspects, that is, a debit and a credit of equal amount. In
simple words, for every debit there is a credit of equal
amount in one or more accounts. It is also true vice versa.
This concept can be compared with the Newton’s law of
motion “To every action there is equal and opposite reaction.”
In accounting we can say that “To every debit there is equal
credit.”
The entire system of book keeping is based on this concept.
This concept has resulted in accounting equation which
states that at any point of time the assets of any business
must be equal to the total of owner’s capital and outsider’s
liabilities.
E.G., If Rohan starts a business with a cash of ₹1,00,000 this
transaction has two aspects:
One aspect is business is having cash of ₹1,00,000
Another aspect is business is having a liability towards Rohan
of ₹1,00,000.
Debits: Items recorded on debit side of an account.
Credits: Items recorded on credit side of an account.
Cost concept:
According to this concept, an asset is recorded in the
books of accounts at the price at which it is
acquired(purchased) which means cost price. This cost
price serves as the basis for the accounting of the asset
during the subsequent years. Cost concept does not
mean that assets are shown year after year at the cost
price. Assets are shown at cost price at the time of its
purchases and are systematically reduced in the value by
the process called depreciation. The market value of an
asset may change with the passage of time but for
accounting purposes it continues to be recorded in the
books of accounts at cost price less depreciation
provided up to date. This concept is also known as
historical cost concept.
DEPRECIATION:
The word depreciation is derived from the Latin term
“Depretium”. Depretium itself is the combination of two
terms “De” and “Pretium”. De means decline and
Pretium means price. Therefore depreciation means
Revenue recognition concept:
According to revenue recognition concept, revenue
is considered to have been realised when a
transaction has been done and obligation to receive
the amount has been established. It simply means
that revenue is considered to be realised when
sales are done or services are rendered. It should
be noted that realisation of revenue and receipt of
an amount are two separate things.
As soon as goods are transferred from seller to
buyer we have to assume that we have earned
revenue. Even if goods are sold on credit we have to
assume that we have earned revenue because the
debtor is legally liable to pay our debts. Also when
an advance payment is made by a customer the
same cannot be treated as revenue realized until
the goods or services are rendered. This concept is
also known as revenue realisation concept.
Objectivity concept:
According to this concept, accounting data should be free
from personal bias. Each and every transaction recorded in
the books of accounts should be supported by
documentary evidence. The accounting records maintained
on the basis of proper documentary evidence produce
genuine results and are legally acceptable. Measurements
that are based on verifiable evidences are regarded as
objective. These supporting documents may be in the
form of cash memos, invoices, sales bills etc. and they
provide the basis for accounting and audit.
This concept is also known by the name verifiable objective
concept.
MATCHING CONCEPT:
This concept is based on the accounting period
concept. An important objective of the business is
to determine profit periodically. According to this
concept, it is necessary to match revenues of a
particular accounting period with expenses of the
same accounting period to determine correct profit
or loss for the accounting period. Profit earned by
the business during the period can be correctly
measured only when the revenue earned during the
period is matched with the expenditure incurred to
earn that revenue. It is irrelevant when the
payment was made or received. Therefore,
according to this concept, adjustments should
made for all outstanding expenses, prepaid
expenses, accrued income, advance income, etc.
This concept should be followed while preparing
financial statements to have a true and fair view of
the profitability and financial positions of the
Accounting conventions:
Accounting conventions are the customs or traditions which
are followed by the accountants as a guide in the
preparation of financial statements of a business enterprise.
In simple words, we can say that accounting conventions are
the outcome of accounting practices or principles being
followed by the enterprise over a period of time. These are
the guidelines that arise from the practical application of
accounting principles. These exist in cases where there are
different alternatives, which are equally logical but some of
these are generally accepted having consideration to time,
cost, convenience etc. Conventions may undergo a change
with time to bring about improvement in the quality of
accounting information. An accounting convention is not a
legally binding practice.
Convention of consistency:
According to this convention, accounting practices once selected and
adopted, should be applied consistently year after year. This means that
once a particular method of calculation or recording has been decided,
the business should follow the same method for all subsequent years.
The application of this convention in accounting helps in better
understanding of accounting information and makes it comparable with
that of the previous years. This principle is particularly important when
alternative accounting practices are equally acceptable for a particular
item.
For example: two methods of charging depreciation Written down value
method and straight line method are equally acceptable. Under this
convention, a method once selected and applied should be applied year
after year.
It should be noted that the convention of consistency does not mean
that a particular method once adopted, it cannot be changed. If more
useful method is available it may be followed, but a note should be
given in the financial statements regarding the change in accounting
method.
Convention of materiality:
The materiality convention refers to material importance of
an item or an event. According to the American Accounting
Association, “ An item should be regarded as material if there
is a reason to believe that knowledge of it would influence the
decision of an informed investor.
The accountant should attach importance to material details
and ignore insignificant details. If this is not done, accounts
will be overburdened with minute details. Therefore, keeping
the convention of materiality in view, unimportant items are
either left out or merged with other items. Whether the
information is material or not depends upon the
circumstances of the case & common sense. The rule to be
kept in mind is that if omission
of the information impairs the decision or conduct of its user,
it should be regarded as material. However, an item may be
material for one purpose but immaterial for another, material
for one concern but immaterial for another or material for
one year but immaterial for the next year.
Convention of full disclosure:
According to this convention there should be
complete and understandable reporting in the
financial statements of all significant information
relating to the economic affairs of the entity.
The accounting reports should disclose all the
material, relevant and reliable information to the
shareholders, creditors, bankers and others.
Disclosure of material facts does not mean leaking
out the secrets, but disclosing all relevant
information for the use of stakeholders.
Disclosure of material information will result in
better understanding. It builds the confidence and
faith among the stakeholders. Good accounting
practices as well as law mentions that all material
and significant information should be disclosed.
Convention of conservatism Or Prudence:
As per this convention, the business should take into
consideration all possible losses but not prospective profits.
The prudence convention is many a times described using
the phrase “Do not anticipate a profit, but provide for all
possible losses”. In simple words, the business should not
consider any future profits but provide for all possible
losses. This principle follows the policy of playing safe. The
application of this convention ensures that the financial
statements present a realistic picture of the state of affairs
of the business.

Some examples of this principle are:

Closing stock is valued at cost price or market price which
ever is less.
Investments are valued at cost price or market price which
ever is less.
Maintaining provisions for doubtful debts
Showing depreciation on fixed assets