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Double-Entry Accounting and Recording Transactions

Learn about the double-entry accounting system and the process of recording transactions. Understand how transactions are analyzed, journalized, and posted to the ledger accounts.

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Double-Entry Accounting and Recording Transactions

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  1. Chapter 3 Recording Transactions

  2. Learning Objective 1 Use Double-Entry Accounting

  3. LO-1 The Double-Entry Accounting System • Method followed for recording transactions, whereby every transaction affects at least two accounts • Accountants analyze each transaction to determine: • Which accounts it affects • Whether to increase or decrease the balances • How much each balance will change

  4. LO-1 The Double-Entry Accounting System • Transactions are recorded in: • General Journal: Chronological record of an organization’s transactions and how each transaction affects the balances in particular accounts • General Ledger: Collection of all ledger accounts that supports an organization’s financial statements • Ledger account:Listing of all the increases and decreases in a particular account

  5. LO-1 General Ledger: T-Account • Device used to portray individual ledger accounts in the general ledger • Each T-account takes the form of the capital letter T and represents an individual ledger account • Transactions affecting a particular ledger account are accumulated here

  6. LO-1 General Ledger: T-Account • Assets increase on the left side of the T-account and decrease on the right side • Liabilities and owners’ equity accounts increase on the right side of the T-account and decrease on the left side

  7. LO-1 General Ledger: T-Account • Balance: Net result of all activity that has been recorded in an account as of a particular point in time • In a T-account, it is the difference between the total left-side and right-side amounts • The balance in a ledger account at the end of the period is computed as: • Beginning balance + Amount of increases – Amount of decreases

  8. LO-1 General Ledger • In the double-entry system, every transaction affects at least two accounts • After each transaction, the balance sheet equation must always remain in balance • The process of creating a new T-account in preparation for recording a transaction is called opening the account Assets = Liabilities + Stockholders’ Equity

  9. LO-1 Recording Transactions in T-Accounts 1. Initial investment by owners, $400,000 cash • Analysis • The asset Cash increases • The stockholders’ equity Paid-in Capital increases

  10. LO-1 Recording Transactions in T-Accounts 2. Loan from bank, $100,000 • Analysis • The asset Cash increases • The liability Note Payable increases

  11. LO-1 Recording Transactions in T-Accounts 3. Acquired store equipment for cash, $15,000 • Analysis • The asset Cash decreases • The asset Store Equipment increases

  12. LO-1 Debits and Credits • Accountants use the terms • Debit (abbreviated Dr.): An entry or balance on the left side of any account • Credit (abbreviated Cr.): An entry or balance on the right side of any account • Some accountants use the word “charge” instead of debit

  13. Learning Objective 2 Describe the Five Steps in the Recording Process

  14. LO-2 The Recording Process • Sequence of five steps in recording and reporting transactions

  15. LO-2 Five Steps in Recording Process • Step 1- Transaction documentation • Source documents:Original records supporting any transaction • Generated as a result of transactions • Filed to verify details and accuracy of subsequent records • Step 2- General journal or book of original entry • Containsanalysis of the transaction, based on the source documents

  16. LO-2 Five Steps in Recording Process • Step 3- Ledger • Enter transactions into ledger accounts • Step 4- Trial balance • List of accounts in general ledger together with their balances • Aids in verifying clerical accuracy and in preparing financial statements

  17. LO-2 Five Steps in Recording Process • Step 5- Preparing financial statements • Occurs at least once a quarter, every three months, for publicly traded companies in the United States • Occurs at least annually for companies reporting under IFRS

  18. LO-2 Chart of Accounts • A numbered or coded list of all account titles • Typically arranged in order in which accounts appear in the financial statements • Varies across companies as a function of the size, nature, and complexity of the firm • May be used instead of account names

  19. Learning Objective 3 Analyze and Journalize Transactions and Post Journal Entries to the Ledgers

  20. LO-3 Journalizing Transactions • This is Step 2 of the recording process • Journalizing: The process of entering transactions into the general journal • Journal entry • An analysis of effects of a single transaction on various accounts, usually accompanied by an explanation • Identifies accounts to be debited and credited

  21. LO-3 Recording Journal Entries • Conventions for recording journal entries in the general journal • Date and identification number comprise the first two columns • Accounts and Explanation in the third column • Names of accounts affected • Debit account titles on the left margin • Credit account titles indented • Narrative explanation of the transaction

  22. LO-3 Recording Journal Entries • Fourth column is posting reference (Post Ref. ) • Contains identifying number from chart of accounts, which is used for cross-referencing to ledger accounts • Debit and credit columns are the fifth and sixth columns • Show the amounts debited (left-entry) or credited (right-entry) to each account • Currency symbols not used • Negative numbers do not appear

  23. LO-3 Posting Transactions to the General Ledger • This is Step 3 of the recording process • Posting: The transferring of amounts from general journal to the appropriate accounts in the general ledger • Cross-referencing • Helps identify each general ledger posting to appropriate journal entry • Allows users to find all the components of the transaction in the general ledger

  24. LO-3 Posting Transactions to the General Ledger • The following example shows • How the $15,000 credit to Cash from the purchase of store equipment in transaction 3 is posted from the general journal to the general ledger • Columns for dates, explanations, journal references, and amounts in the ledger

  25. LO-3 Posting Transactions to the General Ledger

  26. LO-3 Posting Transactions to the General Ledger • Another format for the general ledger • Shows a running balance of the account holdings in the far right column • Provides status report for account at a glance

  27. LO-3 Simple and Compound Entry • Simple entry: A journal entry for a transaction that affects only two accounts • Compound entry: A journal entry for a transaction that affects more than two accounts

  28. LO-3 Revenue and Expense Transactions Assets = Liabilities + Stockholder’s Equity Assets = Liabilities + ( Paid-in Capital + Retained Earnings) The T-accounts can be grouped in the following way: = + +

  29. LO-3 Revenue and Expense Transactions • Revenue and expense information is accumulated separately to simplify the preparation of the income statement • However, revenue and expense accounts are part of retained earnings on the balance sheet

  30. LO-3 Revenue and Expense Transactions • Revenue account accumulates items that increase retained earnings • Credit to revenue is effectively a credit to retained earnings • Expense account accumulates items that decrease retained earnings • Debit to expense is effectively a debit to retained earnings • Debit entry increases expense, but decreases retained earnings =

  31. LO-3 Recording Revenue and Expense Transactions 10a. Sales on credit, $160,000 • Analysis • The asset Accounts Receivable increases • Stockholders’ equity, specifically Retained Earnings,increases because a revenue account, Sales Revenue, increases • Journal Entry

  32. LO-3 Recording Revenue and Expense Transactions

  33. LO-3 Recording Revenue and Expense Transactions 10b. Cost of merchandise inventory sold, $100,000 • Analysis • The asset Merchandise Inventory decreases • Stockholders’ equity, specifically Retained Earnings,decreases because an expense account, Cost of Goods Sold, increases • Journal Entry

  34. LO-3 Recording Revenue and Expense Transactions

  35. LO-3 Prepaid Expenses and Depreciation Transactions 12. Paid rent for 3 months in advance, $6,000 • Analysis • The asset Cashdecreases • The asset Prepaid Rent increases • Journal Entry

  36. LO-3 Prepaid Expenses and Depreciation Transactions

  37. LO-3 Prepaid Expenses and Depreciation Transactions 13. Recognized expiration of rental services, $2,000 • Analysis • The asset Prepaid Rent decreases • Stockholders’ Equity, specifically Retained Earningsdecreases because an expense account, Rent Expense , increases • Journal Entry

  38. LO-3 Prepaid Expenses and Depreciation Transactions

  39. LO-3 Prepaid Expenses and Depreciation Transactions 14. Recognized depreciation, $100 • Analysis • The asset-reduction account Accumulated Depreciation, Store Equipment increases • Stockholders’ Equity, specifically Retained Earnings, decreases because an expense account, Depreciation Expense, increases • Journal Entry

  40. LO-3 Prepaid Expenses and Depreciation Transactions

  41. LO-3 Accumulated Depreciation • Accumulated Depreciation: Cumulative sum of all depreciation recognized since the date of acquisition of an asset • Also called Allowance for Depreciation • Contra account • A separate but related account that offsets or is a deduction from a companion account

  42. LO-3 Accumulated Depreciation • Balance is on opposite side as that of the related companion account • Contra asset: A contra account whose companion account is an asset • Contra asset has a credit balance • Balance in contra asset is deducted from the related asset account, which has a debit balance

  43. LO-3 Book Value • Book Value: Balance of an account shown on the books, minus the value of any associated contra accounts • Called net book value, carrying amount, carrying value

  44. Learning Objective 4 Prepare and Use a Trial Balance

  45. LO-4 Preparing the Trial Balance • Purpose • Help check accuracy of postings • Establish a summary of balances in all accounts • Total debits should equal total credits

  46. LO-4 Preparing the Trial Balance • List assets, liabilities, and stockholders’ equity followed by the income statement accounts, revenues and expenses • All accounts except retained earnings show their balances as of the date the trial balance is prepared

  47. LO-4 Preparing the Trial Balance *If a Retained Earnings balance existed at the start of the accounting period, it would appear here.

  48. Learning Objective 5 Close Revenue and Expense Accounts and Update Retained Earnings

  49. LO-5 Closing the Books and Deriving Financial Statements from the Trial Balance • Close the books:To transfer the balances in all revenue and expense accounts to retained earnings • Resets the revenue and expense accounts to zero so that they are ready to record the next period’s transactions

  50. LO-5 Closing the Books and Deriving Financial Statements from the Trial Balance • Closing entries: Journal entries that transfer balances in the “temporary” stockholders’ equity accounts (revenue and expense accounts) to the “permanent” stockholders’ equity account, Retained Earnings

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