Actbas1 Study Guide

Study Guide in Introductory Accounting for Service Business Benedick Manalaysay Accountancy Department De La Salle University

Manila

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TABLE OF CONTENTS Lesson Number Topic Starting Page 1 Introduction to Accounting 3 2 Transaction Analysis 12 3 General Journal, General Ledger, Trial Balance 22 4 Financial Statements 29 5 Statement of Cash Flows 36 6 Correcting Entries 38 7 Payroll Accounting 40 8 Accounting for Promissory Notes 43 9 Accrued Income 52 10 Accrued Expense 55 11 Prepaid Expense 58 12 Unearned Income 62 13 Depreciation 66 14 Doubtful Accounts 71 15 Closing Entries, Post-Closing Trial Balance 76 16 Reversing Entries 82 Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 1 INTRODUCTION TO ACCOUNTING Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Learn the history of accounting 2 Define accounting 3 Know the difference between bookkeeping and accounting 4 Know the branches of accounting 5 Distinguish the forms of business organizations according to ownership and according to activity 6 Know the role of Certified Public Accountant in the society 7 Know the functions of different government agencies and professional bodies relevant to the accounting profession 8 Know the purposes of the business documents 9 Define financial statements and its components, generally accepted accounting principles (GAAP), Financial Reporting Standards Council (FRSC), and users of the financial statements 10 Explain the different basic accounting concepts or assumptions 11 Know other terms related to basic accounting Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Objective 1 History of Accounting Accounting has a long history. Some scholars claim that writing arose in order t o record information. Account records date back to the ancient civilizations of China, Ba bylonia, Greece and Egypt. The rulers of these civilizations used accounting to keep track of th e cost of labor and materials used in building structures like the great pyramids. (Source: Horngren , Harrison and Robinson, 1995) Accounting developed as a result of the information needs of merchants in the ci ty-states of Italy during the 1400s. In that commercial climate a monk, Luca Pacioli, a mathematici an and friend of Leonardo da Vinci, published the first known description of double-entry bookkee ping entitled Summa de Arithmetica, Geometria, Proportioni et Proportionalite, which means Eve rything about Arithmetic, Geometry, and Proportion published in Venice in November 1494. This book contained primarily principles of mathematics and incidentally a set of accounti ng procedures. The pace of accounting development increased during the Industrial Revolution as the economies of developed countries began to mass-produce goods. Until that time, merchandise was priced based on managers hunches about cost but increased competition required merchants to adopt more sophisticated accounting system. In the nineteenth century, the growth of corporations especially those in the ra ilroad and steel industries, spurred the developed of accounting. Corporate owners were no longer necessarily the managers of their business. Managers had to create accounting systems to report to the owners how well their businesses were doing. Government played a role in leading more development in the field of accounting when it started using the income tax. Accounting supplied the concept of income. Also, governmen t at all levels has assumed expanded roles in health, education, labor and economic planning. To ensure that the information that it uses to make decisions is reliable, the government has requi red strict accountability in the business community. At the beginning of the third millennium, there would still be significant devel opments in the field of accounting. The great challenge of globalization and the effects of new technologies (e.g. super computers, robotics, inter and intra-net, etc.) pose a shift in the struct ure and pattern in this

field. More and better accounting information are now being required and therefo re, accounting, being the means used in communicating business and financial information, must a lso evolve into a more efficient level. Reference: Workbook in Introductory Accounting for Service Business Accounting as Language of Business The primary objectives of the business are: 1. To generate profits 2. To properly manage limited and scarce resources With these objectives, a business must prepare financial reports and interpret t hese reports as an aid in decision-making. In making decisions, accounting is used as a tool for co mmunication. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. 5 Objective 2 Definition of Accounting 1. Accounting is a service activity. a. Its function is to provide quantitative information, primarily financial in n ature, about economic entities that is intended to be useful in making economic decisions. 2. Accounting is the process of identifying, measuring and communicating economi c information to permit informed judgments and decisions by users of the informati on. a. Identifying this accounting process is the recognition or nonrecognition of business activities as accountable events (Valix, 2005). There are 3 types of transactions: i. Business transaction 1. transactions which are recorded in the financial books. Example is investment of the owner. ii. Personal transaction 1. transactions which are not recorded in the financial books. Example is purchase of house and lot of a business owner using his personal money. iii. Neither business nor personal transaction 1. Business events that are not recorded in the financial books. Examples are hiring of employees, death of the owner, entering into a contract etc. b. Measuring this accounting process is the assigning of Peso amounts to the accountable economic transactions and events (Valix, 2005) c. Communicating is the process of preparing financial statements and interpreting the results thereof 3. Accounting is the art of recording, classifying and summarizing in a signific ant manner and in terms of money, transactions and events which are, in part at least, of a financial character, and interpreting the results thereof. 4. Accounting is an information system that measures, processes, and communicate s financial information about an identifiable economic entity. Objective 3 Difference between Bookkeeping and Accounting Bookkeeping Accounting . Recording of transactions . Preparing financial reports . Recording of transactions . Preparing financial reports . Analyzing financial reports . Decision-making Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. 6 Objective 4 Branches of Accounting 1. Financial Accounting is primarily concerned with the recording of business tr ansactions and the eventual preparation of financial statements (Valix, 2005). 2. Cost Accounting is primarily concerned with proper accumulation of costs such as materials, labor and overhead, proper costing of inventories and study of differ ent costing methods. 3. Management Accounting is the preparation of financial reports and management research intended for management use and interpretation of these reports and res earches. Examples of financial reports are Sales reports, Cost of Production reports, Bud gets etc. Example of management research is evaluation of a business process and managemen t consulting. 4. Taxation deals with the study of provisions of the law with regard to Philipp ine taxation system and proper computation of taxes such as income tax, value-added tax, with holding tax and other taxes. 5. Auditing basically deals with the examination of the financial statements by an independent party (auditor) to ascertain whether such financial statements are i n conformity with Philippine Accounting Standards. Objective 5 Forms of Business Organizations 1. According to ownership a. Sole-proprietorship owned by only one person called sole-proprietor b. Partnership owned by 2 or more persons called partners c. Corporation owned by 5 or more persons called shareholders 2. According to activity a. Service renders services to the public such accounting firms, law firms, consulting firms, SPA, medical clinics, dental clinics, schools etc b. Merchandising buys and sells merchandise to the public c. Manufacturing buys raw materials and converts them into finished goods to be sold to the public Objective 6 Certified Public Accountant (CPA) - is an accounting professional doing accounting, audit, tax, management consult ing, education and research work. - Types of Accountants o Private Accountant / Management Accountant . is an accounting professional employed in a private company or organization Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. 7 o Public Accountant / Auditor . is an accounting professional independent from the private organizations and is usually employed in an auditing firm o Government Accountant . is an accounting professional employed in a government agency o Accounting Educator and Researcher . is an accounting professional employed in a university, college or research organization Objective 7 Government Agencies and Professional Bodies 1. Bureau of Internal Revenue (BIR) agency in charge of proper collection of tax es from the public 2. Securities and Exchange Commission (SEC) agency in charge of accumulating aud ited financial statements of organizations, regulating companies issuing securities s uch as stocks and bonds to the public, and monitoring companies in the insurance indust ry. This agency also facilitates the registration of partnerships and corporations. 3. Bangko Sentral ng Pilipinas (BSP) / Central Bank of the Philippines agency in charge of regulating Philippine bank operations, setting Philippine monetary policies e tc. 4. Philippine Stock Exchange (PSE) agency in charge of monitoring securities transactions of companies listed in the stock exchange. 5. Department of Trade and Industry (DTI) agency in charge of facilitating regis tration of sole-proprietorship businesses and regulating consumer commodity transactions. 6. Commission on Audit (COA) agency in charge of auditing government-related transactions 7. Board of Accountancy (BOA) - is an accounting body in charge of administering licensure examination for accountants 8. Professional Regulation Commission (PRC) - government agency in charge of iss uing licenses to successful examinees in board exams 9. Philippine Instititute of Certified Public Accountants (PICPA) - Professional organization of accountants in the Philippines 10. City Hall and Baranggay these political subdivisions issues business permits and collects business taxes. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. 8 Objective 8 Business Documents 1. Purchase Order shows items to be ordered by the business 2. Delivery Receipt shows items to be delivered in the business 3. Sales Invoice shows items that were sold to the business 4. Statement of Account shows the summary of sales invoices 5. Cash Voucher shows the liability of the business to be paid in the future 6. Official Receipt shows the amount received by the business Objective 9 Financial Statements - Shows the results of the recording of the business transactions and are expres sed in terms of assets, liabilities, equity, income and expenses. - Six (6) Components o Balance Sheet / Statement of Financial Position . Presents the financial condition of the business through its assets, liabilities and capital / owner s equity o Income Statement . Presents the financial performance of the business through its income and expenses o Statement of Changes in Owner s Equity . Presents the changes in capital such as additional investments, withdrawals, net income and/or net loss o Statement of Cash Flows . Presents the cash inflows and outflows of the business through its operating, investing and financing activities o Statement of Comprehensive Income . Presents gains and losses that were not presented in the Income statement. Examples are Unrealized gain on sale of trading securities, Foreign exchange gain on translation etc. o Notes to the Financial Statements . Presents the details of the line items in the Balance Sheet and Income Statement Generally Accepted Accounting Principles (GAAP) - Refers to rules, procedures, practice and standards followed in the preparatio n and presentation of financial statements (Valix, 2005). Financial Reporting and Standards Council (FRSC) - The council establishes and improves accounting standards that will be general ly accepted in the Philippines (Valix, 2005) Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Users of the Financial Statements Internal Users External Users 1. Management 2. Employees 1. Investors 2. Creditors / Lenders 3. Suppliers / Vendors 4. Government 5. Public Objective 10 Basic Accounting Concepts / Assumptions 1. Entity a. Under this concept, the business enterprise is viewed as separate from the owners, managers, and employees of the business (Valix, 2005) 2. Time period a. This concept requires that the indefinite life of an enterprise is subdivided in to time periods which are usually of equal length (Valix, 2005) b. Calendar year is a 12-month period that ends on December 31, otherwise it is called Natural business year or Fiscal year (Valix, 2005) 3. Monetary unit a. This concept assumes that financial transactions be measured in terms of money or currency of the Philippines 4. Cost a. This concept requires that assets should be recorded initially at original acquisition cost (Valix, 2005) 5. Adequate disclosure a. This concept requires that all significant and relevant information leading to t he preparation of financial statements should be clearly reported (Valix, 2005) 6. Materiality a. This concept relates to the significance of an item to the overall presentation of the financial statements. Information is material if its omission could influenc e the economic decision of the users of the financial statements (Valix, 2005) 7. Accrual a. This concept requires the income earned must be recognized in the financial statements whether cash is received or not. b.

This concept also requires the expenses incurred must be recognized in the financial statements whether cash is paid or not. c. Because of this concept, organizations are preparing adjusting journal entries t o recognize accrued income and accrued expenses. d. Accrued income refers to income earned but not yet received. e. Accrued expense refers to expense incurred but not yet paid. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

8. Consistency a. This concept requires that the accounting methods and practices should be applied on a uniform basis from one time period to another (Valix, 2005). 9. Comparability a. There are 2 kinds of comparability: Comparability within an enterprise and Comparability between enterprises (Valix, 2005) b. Comparability within an enterprise is the quality of information that allows comparisons within a single enterprise from one time period to the next (Valix, 2005) c. Comparability between enterprises is the quality of information that allows comparisons between two or more enterprises engaged in the same industry (Valix, 2005) 10. Going Concern a. This concept assumes that business will operate indefinitely and there is no intention of liquidating or closing down the business 11. Revenue recognition a. Same as accrued income concept 12. Expense recognition a. Same as accrued expense concept 13. Matching a. This concept requires that costs and expenses incurred in earning a revenue should be reported in the same period when the revenue or income is earned (Valix, 2005) 14. Conservatism a. Under this concept, when alternatives exist, the alternative which has the least effect on net income or owner s equity should be chosen (Valix, 2005) b. Conservatism is synonymous with Prudence. Prudence is the desire to exercise care and caution when dealing with the uncertainties in the measurement process such as assets or income are not overstated and liabilities or expenses are not understated (Valix, 2005) 15. Objectivity a. This concept requires that financial transactions that were recorded be supporte d by business documents Objective 11 Other Terms Liquidity Solvency -Refers to the ability of the organization to pay its short-term (current) obligations -Refers to the ability of the organization to pay its long-term (noncurrent) obligations

Stock Certificate eholder

evidence certifying the ownership of shares of stock of a shar

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Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages2 11, 21, 25, 29 31, 92 94 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. 12 LESSON 2 TRANSACTION ANALYSIS Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Define the accounting equation and know the effects of the financial transactions on the accounting equation 2 Familiarize with the types of accounts for assets, liabilities, capital, income and expenses Objective 1 The Accounting Equation Assets = Liabilities + Capital The equation states that business assets are financed by two parties. They are t he creditors or vendors (liabilities) and the owner (capital). Income will increase assets as well as capital and expenses will decrease assets as well as capital. Business transactions will have an effect on the accounting equation. The follow ing are the basic financial transactions and the effects on the accounting equation. Transaction ASSETS LIABILITIES CAPITAL Investment of the owner . . Investment Withdrawal of the owner . . Withdrawal Borrowed money by issuing a promissory note . . Payment of the principal and interest of the promissory note . . . Interest expense Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. 13 Purchase of short-term investment for cash .. Sale of short-term investment at a gain .. . Gain on sale of investment in trading securities Sale of short-term investment at a loss .. . Loss on sale of investment in trading securities Cash advance to an employee .. Purchase of supplies for cash .. Purchase of supplies on account . . Purchase of a fixed asset for cash .. Purchase of a fixed asset on account . . Partial / Full payment of accounts payable . . Sale of a fixed asset at a gain .. . Gain on sale of equipment Sale of a fixed asset at a loss .. . Loss on sale of equipment Rendered services for cash . . Service Income Rendered services on

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Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. 14 Partial / Full collection of accounts receivable .. Received cash for commission income . . Commission Income Payment of expenses for cash . . Expense Objective 2 Types of Accounts CATEGORY DEFINITION ACCOUNT TITLE DEFINITION / EXAMPLES ASSETS CASH This includes bills and coins, bank check, bank accounts. PETTY CASH FUND Cash used to pay petty or small amount of expenses. CASH ON HAND Cash in the possession and custody of the business. CASH IN BANK Self-explanatory INVESTMENT IN TRADING SECURITIES This refers to shortterm, highly liquid investment in securities such as stocks and bonds. TRADE AND OTHE RECEIVABLES These refer to amounts collectible from a person or a company ACCOUNTS RECEIVABLE Amount collectible from clients or customers for services rendered or sale of goods Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m

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ALLOWANCE FOR DOUBTFUL ACCOUNTS Is a Contra-asset account that represents provision for estimated doubtful accounts NOTES RECEIVABLE Same with Accounts Receivable but is evidenced by a promissory note INTEREST RECEIVABLE Amount collectible in a loan transaction COMMISSION RECEIVABLE RENT RECEIVABLE ADVANCES TO EMPLOYEES Cash advance given to employees PREPAID EXPENSES These refer to expenses that are paid in advance PREPAID RENT PREPAID INSURANCE PREPAID ADVERTISING PREPAID SUBSCRIPTIONS OFFICE SUPPLIES STORE SUPPLIES PROPERTY, PLANT AND EQUIPMENT These refer to items that are useful for more than 1 year LAND OFFICE EQUIPMENT Computer, Fax machine STORE EQUIPMENT Cash register machine Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

TRANSPORTATION EQUIPMENT Delivery Van, Motorcycle, Cars, Trucks FURNITURE AND FIXTURES Cabinets, Tables, Chairs MACHINERY BUILDING Office building, Factory plant ACCUMULATED DEPRECIATION Is a Contra-asset account that represents cumulative depreciation for depreciable fixed assets LIABILITIES TRADE AND OTHER PAYABLES These refer to amounts payable to a person or a company ACCOUNTS PAYABLE Amount payable to supplier, creditor or vendor for money, supplies, goods or property loaned NOTES PAYABLE Same with Accounts Payable but is evidenced by a promissory note DISCOUNT ON NOTES PAYABLE Is a Contra-liability account that represents unamortized interest on the promissory note INTEREST PAYABLE Amount payable in a loan transaction TAXES AND LICENSES PAYABLE Unpaid taxes and licenses to be remitted / paid to the government Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse

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UTILITIES PAYABLE Unpaid communication, light and water bills SALARIES AND WAGES PAYABLE Unpaid salaries and wages of the employees UNEARNED INCOME This refers to cash received in advance but not yet earned UNEARNED RENT UNEARNED ADVERTISING UNEARNED SUBSCRIPTIONS UNEARNED COMMISSION MORTGAGE PAYABLE This refers to bank loan with assets such as house and lot or vehicle as collaterals BONDS PAYABLE This refers to loan that is evidenced by a bond certificate or indenture CAPITAL / OWNER S EQUITY OWNER, CAPITAL This refer to claim or interest of the owner OWNER, DRAWING This refer to temporary withdrawal of the owner of cash, supplies, goods or Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

property INCOME SERVICE INCOME Income derived from rendering of services Primary income for service business OTHER INCOME Secondary income for service business INTEREST INCOME Income from loan transactions DIVIDEND INCOME Income from stock investments RENT INCOME GAIN ON SALE OF EQUIPMENT Excess of selling price over the net book value of the fixed asset EXPENSES EMPLOYEE BENEFIT COST Expenses related to employee benefits SALARIES AND WAGES EXPENSE Represents the total gross salary or wages of the employees SSS PREMIUMS EXPENSE Represents total SSS (health benefit) contributions of the employer and the employees PHILHEALTH CONTRIBUTIONS EXPENSE Represents total Philhealth (health benefit) contributions of the employer and the employees Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

PAG-IBIG CONTRIBUTIONS EXPENSE Represents total Pag-IBIG (housing benefit) contributions of the employer and the employees RENT EXPENSE PROFESSIONAL FEES Expense related to professional services of accountants, lawyers etc ADVERTISING EXPENSE COMMISSION EXPENSE Expense related to payment of commission to agents REPAIR AND MAINTENANCE EXPENSE SUPPLIES EXPENSE INSURANCE EXPENSE REPRESENTATION AND ENTERTAINMENT EXPENSE Expense related to cost of meetings with clients such as meals TRANSPORTATION EXPENSE Expense related to commuting from the office to client s office FUEL AND OIL EXPENSE UTILITIES EXPENSE Expense related to communication such as telephone, Internet, electricity and water Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

TAXES AND LICENSES EXPENSE Expense related to business taxes and permits from the city hall CHARITABLE CONTRIBUTION EXPENSE Expense related to donations DEPRECIATION EXPENSE Noncash expense that represents the total depreciation of the depreciable fixed assets for the year DOUBTFUL ACCOUNTS EXPENSE Noncash expense that represents the total estimated doubtful accounts for the year BAD DEBTS EXPENSE Noncash expense that represents the total accounts receivable that were written-off / removed from the financial books due to its proven uncollectibility MISCELLANEOUS EXPENSE OTHER EXPENSE LOSS ON SALE OF EQUIPMENT Excess of net book value over the selling price of the fixed asset FINANCE COST INTEREST EXPENSE Expense from loan transactions Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages14 20, 26 27, 159 164 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 3 GENERAL JOURNAL, GENERAL LEDGER TRIAL BALANCE Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Know the concept of double-entry bookkeeping and the appropriate accounting tool for financial transactions 2 Understand the concept of journalizing and prepare journal entries 3 Post journal entries to the general ledgers 4 Prepare the trial balance Objective 1 Double-entry Bookkeeping This concept uses the tools debit and credit to record financial transactions. F urther, this concept dictates that for every debit, there is at least one credit and vice-versa . Appropriate Accounting Tool The table shows the appropriate accounting tool for the effects of the financial transactions on assets, liabilities, capital, income and expenses. Increase Decrease Asset Debit Credit Liability Credit Debit Capital Credit Debit Income Credit Expense Debit Objective 2 Journalizing This refers to the process of recording the financial transactions in the Genera l Journal. General Journal is also known as Book of Original Entry . The following are examples of Journal Entries: Adapted from Exercise 6-8 of Workbook in Introductory Accounting for Service Bus iness Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Journalize the following selected transactions of MJ Dry Cleaning. The following transaction occurred during June 2010. 1 MJ Flores invested in the business the following: P 250,000 cash and P 420,000 worth of dry cleaning equipment with fair value of P 400,000 but with existing liability of P 100,000 which is to be assumed by the business 2 Purchased dry cleaning supplies from Wilson Cleaners for P 22,100, payable aft er 20 days 4 Bought cash register from Carter Equipment, P 45,800. Terms: 30% down payment, balance on account 7 Dry cleaning services rendered for the week totaled P 25,250 cash GENERAL JOURNAL Page xx Date Particulars F Debit Credit 2010 Jun 01 Cash 101 250 000 Dry Cleaning Equipment 110 400 000 Accounts Payable 210 100 000 MJ Flores, Capital 320 550 000 Investment of the owner 02 Dry Cleaning Supplies 108 22 100 Accounts Payable 210 22 100 Purchase of supplies on account 04 Office Equipment 111 45 800 Cash 101 13 470 Accounts Payable 210 32 060 Purchase of cash register 07 Cash 101 25 250 Dry Cleaning Service Income 410 25 250 Rendered dry cleaning service for cash Simple entry and Compound entry Simple entry is a journal with only one debit and one credit. Compound entry is a journal entry with at least two debits or at least two credits. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Objective 3 Posting This refers to the process of transferring the debit and credit amounts to the a ppropriate ledger accounts. Ledger accounts are placed in a financial book called General Ledger. This is also known as Book of Final Entry . After the amounts have been posted, one should post the ledger account number back to the general journal. This process is known as cross-refere ncing . Chart of Accounts This chart lists the account titles to be used by the business and the related a ccount numbers. The following is a typical example of chart of accounts. ASSETS 100 OWNER S EQUITY 300 Cash 101 MJ Flores, Drawing 310 Investment in Trading Securities 102 MJ Flores, Capital 320 Accounts Receivable 103 Allowance for Doubtful Accounts 104 Notes Receivable 105 INCOME 400 Advances to Employees 106 Prepaid Rent 107 Dry Cleaning Service Income 410 Dry Cleaning Supplies 108 Interest Income 420 Land 109 Dry Cleaning Equipment 110 Office Equipment 111 EXPENSES 500 Building 120 Accumulated Depreciation Dry Cleaning Equipment 130 Salaries and Wages Expense 510 Accumulated Depreciation Office Equipment 131 Rent Expense 520 Accumulated Depreciation Building 140 Advertising Expense 530 Commission Expense 540 LIABILITIES 200 Dry Cleaning Supplies Expense 550 Insurance Expense 560 Accounts Payable 210 Transportation Expense 570 Notes Payable 220 Utilities Expense 580 Discount on Notes Payable 230 Taxes and Licenses Expense 590 Unearned Advertising 240 Depreciation Expense 591 Mortgage Payable 250 Interest Expense 592 Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

General Ledger Postings CASH 101 Date Particulars F Debit Date Particulars F Credit 2010 2010 Jun 01 GJ1 250 000 Jun 04 GJ1 13 470 07 GJ1 25 250 Totals 275 250 13 470 Balance 261 780 DRY CLEANING SUPPLIES 108 Date Particulars F Debit Date Particulars F Credit 2010 Jun 02 GJ1 22 100 DRY CLEANING EQUIPMENT 110 Date Particulars F Debit Date Particulars F Credit 2010 Jun 01 GJ1 400 000 OFFICE EQUIPMENT 111 Date Particulars F Debit Date Particulars F Credit 2010 Jun 04 GJ1 45 800 ACCOUNTS PAYABLE 210 Date Particulars F Debit Date Particulars F Credit 2010 Jun 01 GJ1 100 000 02 GJ1 22 100 04 GJ1 32 060 Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

MJ FLORES, CAPITAL 320 Date Particulars F Debit Date Particulars F Credit 2010 Jun 01 GJ1 550 000 DRY CLEANING SERVICE INCOME 410 Date Particulars F Debit Date Particulars F Credit 2010 Jun 07 GJ1 25 250 Normal Balances of the Accounts Assets Debit Contra-assets Credit Liabilities Credit Contra-liabilities Debit Capital Credit Drawing Debit Income Credit Expenses Debit Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Objective 4 Trial Balance This refers to the summary of balances in the ledger accounts. The accounts are arranged in the order of assets, liabilities, equity, income and expenses. PATRICE CONSULTING SERVICES Trial Balance July 31, 2010 Debit Credit Cash P 56 300 Accounts Receivable 77 500 Office Supplies 2 100 Prepaid Insurance 2 200 Office Equipment 120 000 Accounts Payable P 23 020 Notes Payable 15 000 Simone Patrice, Capital 172 880 Simone Patrice, Drawing 2 000 Consulting Fees 253 000 Salaries and Wages Expense 168 200 Rent Expense 11 000 Transportation Expense 7 800 Utilities Expense 8 200 Advertising Expense 5 500 Miscellaneous Expense 3 100 _______ Totals P 463 900 P 463 900 ======== ======== Adapted from Workbook in Introductory Accounting for Service Business A balanced trial balance means that journal entries are properly posted and ledg er accounts are properly balanced. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages46 56, 57 73 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 4 FINANCIAL STATEMENTS Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the procedures in preparing the statement 2 Understand the procedures in preparing the changes in owner s equity 3 Understand the procedures in preparing the 4 Understand the procedures in preparing the financial statements 5 Compute the missing amounts in relation to capital

income statement of balance sheet notes to the changes in

Objective 1 Income Statement To recall, the Income Statement presents the financial performance of the busine ss through its income and expenses. Net Income refers to the excess of income over expenses, otherwise it is called Net Loss. There are two types of presentation for income statement. 1. Natural form a. In this presentation, income and expense accounts are grouped according to nature. Secondary income such as interest income, dividend income etc are grouped under line item Other Income . On the other hand, expenses are arranged from highest to lowest, except for Miscellaneous Expense, Other Expense and Finance Cost. These line items are the last 3 line items in the expense section. 2. Functional form a. In this presentation, expenses are grouped according to function. The 4 classification of expenses are: i. Distribution cost ii. General and administrative expenses iii. Other operating expenses iv. Finance cost Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author.

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Objective 2 Statement of Changes in Owner s Equity To recall, this component presents the changes in capital such as additional inv estments, withdrawals, net income and/or net loss. The following are the effects to the capital or equity: EFFECTS Investment Increase Withdrawal Decrease Income Increase Expense Decrease Net Income Increase Net Loss Decrease The Income Statement is connected to this component through Net Income or Net Lo ss and this component is connected to the Balance Sheet through the Ending balance of the ca pital account. The equation for computing Ending Capital Balance is Owner, Capital

beginning + Additional Investments + Net Income

Withdrawals Net Loss = Owner, Capital ending Using the accounting equation, the equation for computing Beginning Capital Bala nce is Assets, beginning

Liabilities, beginning = Owner, Capital (beginning)

On the other hand, the alternative equation for Ending Capital Balance is Assets, ending

Liabilities, ending = Owner, Capital (ending)

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Objective 3 Balance Sheet or Statement of Financial Position To recall, the Balance Sheet presents the financial condition of the business th rough its assets, liabilities and capital / owner s equity There are 2 forms of Balance Sheet: 1. Account-form a. This form presents assets on the left side and liabilities and capital on the ri ght side 2. Report-form a. This form presents assets on the upper side and liabilities and capital on the l ower side Assets Assets are classified into 2: 1. Current Assets a. These refer to assets that are useful to the business within one year. Examples are Cash, Investment in Trading Securities, Trade and Other Receivables, Merchandise Inventory and Prepaid Expenses. 2. Noncurrent Assets a. These refer to assets that are useful to the business for more than one year. Examples are Property, Plant and Equipment, Long-term investments and Intangible assets. Assets are arranged in order of liquidity. Cash is the first line item because i t is the most liquid asset. Liabilities Liabilities are classified into 2: 1. Current liabilities a. These refer to liabilities that are payable and will mature within one year. Examples are Trade and Other Payables and Current-portion of long-term notes payable. 2. Noncurrent liabilities a. These refer to liabilities that are payable and will mature beyond one year. Examples are Noncurrent-portion of long-term notes payable, Mortgage Payable, and Bonds Payable.

Liabilities are arranged in order of maturity. For Noncurrent liabilities, the o rder is usually Notes Payable, Mortgage Payable and Bonds Payable. The reason is Notes Payable will no rmally mature first before mortagage and bonds. Capital or Owner s Equity This represents the ending balance of capital from the statement of changes in o wner s equity. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Objective 4 Notes to the Financial Statements To recall, this component presents the details of the line items in the Balance Sheet and Income Statement Trade and Other Receivables For this category, the first line item is Accounts Receivable followed by Allowa nce for Doubtful Accounts. The difference between these two line items is called Net Realizable Va lue . Net realizable value represents the estimated amount to be collected from the client s / customers after deducting doubtful accounts. After Allowance for Doubtful Accounts, the next line item is Notes Receivable th en followed by account titles which have the word Receivable . They are arranged from highest to l owest since their nature are the same. Receivable accounts are synonymous with Accrued Income . F or example, Interest receivable is the same with Accrued Interest Income. The last line item is Advances to employees. Prepaid Expenses The items for this category are arranged from highest to lowest since their natu re are the same. Property, Plant and Equipment The tabular presentation for this note is as follows: Cost Accumulated Net Carrying Value Depreciation Land P 400,000 P 400,000 Transportation Equipment 530,000 P 30,000 500,000 Building 360,000 60,000 300,000 Equipment 240,000 40,000 200,000 Furniture and Fixtures 110,000 10,000 100,000 Total P 1,640,000 P 140,000 P 1,500,000 ========= ======== ========= Adapted from the exhibits of the Workbook The fixed asset items are arranged from highest acquisition cost to lowest acqui sition cost. The difference between the acquisition cost and accumulated depreciation is called t he Net carrying value or Net book value. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m

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Trade and Other Payables Line Item 1st Accounts Payable 2nd Notes Payable 3rd Discount on Notes Payable 4th nth Account with the word Last Unearned income

Payable

For the 4th line item, the accounts are arranged from highest to lowest since th eir nature are the same. Payable accounts are synonymous with Accrued Expense . For example, Rent payabl e is the same with Accrued Rent expense. Objective 5 Problems in connection to Statement of Changes in Owner s Equity 1. A firm has just completed its first year of operations. During the year, the own er withdrew P 50,000 and by the end of the year his equity stood at P 70,000, which was a P 10,000 increase from his initial investment. If revenues generated durin g the year totaled P 400,000, then expenses incurred during the year must have bee n ______________. Owner, Capital beginning + Additional Investments + Income Withdrawals Expense = Owner, Capital ending Expense = Owner, Capital beginning + Additional Investments + Income Withdrawals Owner, Capital ending Solution in good accounting form Beginning capital P 60,000 Income 400,000 Withdrawals (50,000) Ending capital (70,000) Expenses P 340,000 ======== Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

2. A business had assets of P 210,000 and liabilities of P 140,000 on January 1, 2008. Six months later, the assets totaled P 170,000 while outstanding debts amounted P 95,000. During the six-month period, the proprietor withdrew cash of P 12,000 and supplies worth P 5,000. During the same period, he also made additional investments of P 24,000 cash and a second-hand equipment originally costing P 45,000 but with a fair market value of P 20,000. The result of operati ons was a ___________ of ____________. Ending capital P 75,000 Beginning capital (70,000) Additional investments (44,000) Withdrawals 17,000 Net Loss P 22,000 ======== Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages21 24, 12 13 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 5 STATEMENT OF CASH FLOWS Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Recall the definition of Statement of Cash Flows and classify the transactions as operating activity, investing activity and financing activity 2 Prepare the Statement of Cash Flows and connect the Ending cash balance to the Balance Sheet Objective 1 Statement of Cash Flows To recall, the Statement of Cash Flows presents the cash inflows and outflows of the business through its operating, investing and financing activities. Business Activities 1. Financing activities a. These activities pertain to transactions such as i. Investments of the owner ii. Loans whether short term or long term iii. Withdrawal of the owner iv. Payment of the principal of the loans 2. Investing activities a. These activities pertain to transactions such as i. Sale of property, plant and equipment ii. Purchase of property, plant and equipment 3. Operating activities a. These activities pertain to transaction such as i. Payment of the interest of the loans ii. Other transactions not enumerated above Objective 2 Connection of the Statement of Cash Flows to the Balance Sheet The ending cash balance in the Statement of Cash Flows represents the cash balan ce in the Balance Sheet. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 718 726 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 6 CORRECTING ENTRIES Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Know the different accounting errors 2 Prepare correcting entries Objective 1 Accounting Errors 1. Transposition error a. Error in the position of figures. Example: 123 is written as 132 2. Transplacement error / Slide a. Error in the placement of decimal point. Example: 1000.90 is written as 100.0 9 Objective 2 Correcting journal entries -entries to correct incorrect journal entries On September 15, a temporary withdrawal of P 12,000 by X, the owner was recorded as a debit to Salaries and Wages Expense and a credit to Cash. The correcting entry was made a t month-end. Recorded entry Date Particulars Debit Credit 2009 Sep 15 Salaries and Wages Expense 12 000 Cash 12 000 Withdrawal of the owner Correct entry Date Particulars Debit Credit 2009 Sep 15 X, Drawing 12 000 Cash 12 000 Withdrawal of the owner Correcting Entry Date Particulars Debit Credit 2009 Sep 30 X, Drawing 12 000 Salaries and Wages Expense 12 000 Correcting entry Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 68 69, 156 158 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 7 PAYROLL ACCOUNTING Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the concept of employee benefits and compensation and the related terms such as Payroll Register and payroll deductions 2 Prepare journal entries pertaining to payroll accounting Objective 1 Employee Compensation and Benefits Organizations normally monitor the attendance of the employees through time cloc k cards. These cards show the time in and time out of the employees. Further, organizations als o prepare and distribute pay slips. These slips show the gross salary of an employee and the r elated deductions. The normal deductions from the gross salary are SSS, Philhealth, Pag-IBIG, Withh olding tax and Cash advances. Organizations also prepare the Payroll Register which shows the summary of the e mployees pay slips. The following is the tabular format of the Payroll Register Employee Name Gross Salary Overtime, Bonus and Other Benefits Total Salary SSS Philhealth PagIBIG Withholding Tax Cash Advance Net Salary Alpha Beta Charlie TOTAL

Objective 2 Payroll Example and Journal Entries Total Employee Contributions Total Employer Contributions SSS 30,000 60,000 Philhealth 10,000 10,000 Pag-IBIG 5,000 5,000 Assume Total gross salaries and wages is P 200,000, Total withholding taxes paya ble is P 20,000, and Total advances to employees is P 10,000 Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Salaries and Wages of the employees Date Particulars Debit Credit 2009 Sep 30 Salaries and Wages Expense 200 000 SSS Premiums Payable 30 000 Philhealth Contributions Payable 10 000 Pag-IBIG Contributions Payable 5 000 Withholding Tax Payable 20 000 Advances to Employees 10 000 Cash 125 000 Salaries and Wages of the employees Employer Contributions Date Particulars Debit Credit 2009 SSS Premiums Expense 60 000 Sep 30 Philhealth Contributions Expense 10 000 Pag-IBIG Contributions Expense 5 000 SSS Premiums Payable 60 000 Philhealth Contributions Payable 10 000 Pag-IBIG Contributions Payable 5 000 Employer Contributions Remmittance to the government agencies Date Particulars Debit Credit 2009 SSS Premiums Payable 90 000 Sep 30 Philhealth Contributions Payable 20 000 Pag-IBIG Contributions Payable 10 000 Withholding Tax Payable 20 000 Cash 140 000 Remmittance to the government agencies Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 8 ACCOUNTING FOR PROMISSORY NOTES Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the concept of promissory notes and its parts and prepare the journal entries in relation to issuance of promissory notes and payment on the maturity date 2 Understand the concept of discounting of customer s note and prepare the necessary journal entries 3 Understand the concept of discounting of own note and prepare the necessary journal entries Objective 1 Promissory Notes A promissory note is an unconditional promise in writing made by one person to a nother, signed by the maker, engaging to pay on demand or at a fixed or determinable future tim e a sum certain in money to order or to bearer (Valix, 2005). Parts of a Promissory note March 24, 2009 I promise to pay X, P 5,000 on April 7, 2009 with 12% interest. (Sgd) Y 1. Date of the note March 24, 2009 2. Maturity date April 7, 2009 3. Maker Y 4. Payee X 5. Face value / Principal P 5,000 6. Interest rate 12% Given the above promissory note, how much is the Maturity value? Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Maturity value = Principal + Interest Interest = Principal x Interest rate x Term / 360 Term refers to the period between the date of the note and the maturity date. 36 0 represents the number of days in a year in accordance to Banker s rule. In the above example the term is 14 days. 7 days in March (31-24) and 7 days in April. For years 2000, 2004, 2008 and so on, remember that there are 29 days in Februar y. Interest = 5,000 x 12% x 14/360 = 23 Maturity value = 5,000 Journal Entries Date of the note Books of the Maker Date Particulars Debit Credit 2009 Mar 24 Cash 5 000 Notes payable 5 000 Issuance of promissory note Books of the Payee Date Particulars Debit Credit 2009 Mar 24 Notes receivable 5 000 Cash 5 000 Receipt of promissory note Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Maturity Date Books of the Maker Date Particulars Debit Credit 2009 Apr 07 Notes payable 5 000 Interest expense 23 Cash 5 023 Payment of promissory note Books of the Payee Date Particulars Debit Credit 2009 Apr 07 Cash 5 023 Notes receivable 5 000 Interest income 23 Collection of principal and interest Dishonoring of promissory note When the maker fails to pay the principal and interest on the maturity date, the n the promissory note is considered dishonored. For the journal entry in the books of the maker, instead of crediting Cash, Accounts payable is credited. On the other hand in the books of the payee, instead of debiting Cash, Accounts receivable is debited. Maturity Date Books of the Maker Date Particulars Debit Credit 2009 Apr 07 Notes payable 5 000 Interest expense 23 Accounts payable 5 023 Payment of promissory note Books of the Payee Date Particulars Debit Credit 2009 Apr 07 Accounts receivable 5 023 Notes receivable 5 000 Interest income 23 Collection of principal and interest Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Discounting of promissory notes When a promissory note is negotiable, the payee may obtain cash before maturity date by discounting the note at a bank or other financing company. To discount the note, the payee must endorse it. Thus, legally the payee becomes an endorser and the bank becomes an endorsee (Valix, 2005). Two types of discounting 1. Discounting of customer s note 2. Discounting of own note Objective 2 Discounting of Customer s note Using the above example, assume that the maker discounted the note on April 2 at a discount rate of 15%. The necessary equations for note discounting are as follows: Interest on discounting = Maturity value x Discount rate x Discount period / 360 Cash proceeds = Maturity value

Interest on discounting

Discount period refers to the period between the discount date and the maturity date. For this example, the discount period is 5 days (April 7 2). Interest on discounting = 5,023 x 15% x 5 / 360 = 10 Cash proceeds = Maturity value = 5,023 10 = 5,013

Interest on discounting

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Discount Date Books of the Maker Date Particulars Debit Credit 2009 Apr 02 No journal entry Books of the Payee Date Particulars Debit Credit 2009 Apr 02 Cash 5 013 Interest expense 10 Notes receivable discounted 5 000 Interest income 23 Discounting of note Notes receivable discounted is classified as a Contra-asset account and is prese nted as a deduction from Notes receivable Notes receivable P xxx Less: Notes receivable

discounted xxx P xxx

On the discount date, the payee needs to inform the maker that the note is disco unted. On the maturity date, the maker should directly pay to the bank or financing company. Maturity Date Books of the Maker Date Particulars Debit Credit 2009 Apr 07 Notes payable 5 000 Interest expense 23 Cash 5 023 Payment of promissory note Books of the Payee Date Particulars Debit Credit 2009 Apr 07 Notes receivable discounted 5 000 Notes receivable 5 000 Cancellation of contingent liability Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Types of endorsement 1. Endorsement with recourse a. This type requires the endorser to pay the endorsee if the maker dishonors the note. This is the contingent or secondary liability of the endorser. 2. Endorsement without recourse a. This type does not impose contingent liability on the endorser. In the absence of any evidence to the contrary, endorsement is assumed to be wit h recourse (Valix, 2005). Assume that in the above example, the maker dishonored the note and the bank cha rged a protest fee of P 500. Maturity Date Books of the Maker Date Particulars Debit Credit 2009 Apr 07 Notes payable 5 000 Interest expense 23 Miscellaneous expense 500 Accounts payable 5 523 Dishonoring of note Books of the Payee Date Particulars Debit Credit 2009 Apr 07 Accounts receivable 5 523 Cash 5 523 Payment of promissory note plus protest fees in behalf of the maker Notes receivable discounted 5 000 Notes receivable 5 000 Cancellation of contingent liability Principal P 5,000 Interest 23 Protest fees 500 Total payment P 5,523 ====== Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Objective 3 Discounting of own note In this type of discounting, the maker issues a promissory note to obtain cash. Interest on discounting is deducted in advance and is debited using the account title Discoun t on Notes Payable . Example 1: On July 14, 2009, for money borrowed, X discounted its own 30-day, 12% P 10,000 note with Y. Interest on discounting = Principal x Interest rate x Term / 360 = 10,000 x 12% x 30 / 360 = 100 Discount Date Books of the Maker Date Particulars Debit Credit 2009 Jul 14 Cash 9 900 Discount on notes payable 100 Notes payable 10 000 Discounting of note Maturity Date Books of the Maker Date Particulars Debit Credit 2009 Aug 13 Notes payable 10 000 Cash 10 000 Payment of promissory note Interest expense 100 Discount on note payable 100 Amortization of discount Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Example 2: On December 14, 2009, for money borrowed, X discounted its own 30-day, 12% P 10, 000 note with Y. The accounting period ends on December 31. Year-end amortization Amortization = Discount x (Year-end date = 100 x (31-14) / 30 = 57

Discount date) / Discount period

Discount Date Books of the Maker Date Particulars Debit Credit 2009 Dec 14 Cash 9 900 Discount on notes payable 100 Notes payable 10 000 Discounting of note Amortization at year-end Books of the Maker Date Particulars Debit Credit 2009 Dec 31 Interest expense 57 Discount on note payable 57 Amortization of discount Presentation Notes payable P 10,000 Less: Discount on notes payable 43 P 9,957 Maturity Date Books of the Maker Date Particulars Debit Credit 2010 Jan 13 Notes payable 10 000 Cash 10 000 Payment of promissory note Interest expense 43 Discount on note payable 43 Amortization of discount Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 396 400, 473 474 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 9 ACCRUED INCOME Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the concept of adjusting entries and the reasons for providing adjusting entries at year-end 2 Recall the concept of accrued income and prepare adjusting entry in relation to accrued income Objective 1 Adjusting Entries Adjusting entries refer to journal entries made at the end of the year for the f ollowing reasons: 1. Accrued income a. There may be unrecorded income and there is a need to accrue income or recognize receivables. 2. Accrued expense a. There may be unrecorded expenses and there is a need to accrue expenses or recognize payables. 3. Prepaid expense a. There may be a consumed or used portion in the recorded prepaid expense or there may be an unconsumed or unused portion in the recorded expense. 4. Unearned income a. There may be an earned portion in the recorded unearned income or there may be an unearned portion in the recorded income. 5. Depreciation a. There is a need to provide depreciation for depreciable fixed assets. 6. Doubtful accounts a. There is a need to provide estimated doubtful accounts in relation to accounts receivable. Objective 2 Accrued income To recall, accrued income refers to income earned but not yet received. The foll owing are the examples of accrued income to be recognized at year-end: 1.

Accrued commission income a. It is possible that the company has already rendered the service pertaining to commission but it has not yet received the commission as of year-end. 2. Accrued rent income Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

a. It is possible that the company or lessor has already earned the rent but it has not yet received the rent payment as of year-end. 3. Accounts receivable a. It is possible that the company has not yet recorded as of year-end the service rendered. 4. Accrued interest income a. It is possible that the company has not yet recorded the interest that is earned in relation to notes receivable from the date of the promissory note until year-end date. Accrued income is the same with receivable. For example, accrued interest income is the same with interest receivable. Pro-forma Entry Date Particulars Debit Credit xxxx Dec 31 _____ receivable xxx _____ income xxx Recognition of accrued income Example 1: A company leases an office space for P 14,000 per month. As of December 31, 2009 , company s year-end, the tenant has not yet paid its rent for two months. Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Rent receivable 28,000 Rent income 28,000 (14, 000 x 2) Recognition of accrued rent Example 2: As of December 31, 2009, ABC Hotel has generated lodging revenue of P 127,000 fr om guests whose payments are not yet received until they check out. Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Lodging receivable 127,000 Lodging income 127,000 Recognition of accrued lodging If the company did not recognize accrued income at year-end, then the financial statements will be misstated showing understated assets and understated income.

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Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 95 96, 103 104 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 10 ACCRUED EXPENSE Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Recall the concept of accrued expense and prepare adjusting entry in relation to accrued expense Objective 1 Accrued expense To recall, accrued expense refers to expense incurred but not yet paid. The foll owing are the examples of accrued expense to be recognized at year-end: 1. Accrued interest expense a. It is possible that the company has not yet recorded the interest that is incurr ed in relation to notes payable from the date of the promissory note until year-end da te. 2. Accrued salaries and wages expense a. It is possible that as of year-end, the company has not yet paid the employees because the year-end date is not the same with the payroll date. 3. Accrued rent expense a. It is possible that the company or lessee has already incurred the rent but it h as not yet paid the rent as of year-end. 4. Accrued utilities expense a. It is possible that as of year-end, the company has not yet paid the utilities o r the billing statements of the utilities have not yet received by the company. 5. Accrued taxes and licenses expense a. It is possible that as of year-end, the company has already earned from services rendered and sale of goods but has not yet paid the related taxes. Accrued expense is the same with payable. For example, accrued interest expense is the same with interest payable. Accrued expense is the opposite of accrued income. When one party recognize accr ued income, the other party should recognize accrued expense. Pro-forma Entry

Date Particulars Debit Credit Xxxx Dec 31 _____ expense xxx _____ payable xxx Recognition of accrued expense Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Example 1: Property taxes for three months estimated to total P 13,300 have accrued. Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Taxes and Licenses expense 13,300 Taxes and Licenses payable 13,300 Recognition of accrued taxes and licenses Example 2: Electricity consumption for the month of December amounting to P 7,100 is not ye t paid. Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Utilities expense 7,100 Utilities payable 7,100 Recognition of accrued utilities If the company did not recognize accrued expense at year-end, then the financial statements will be misstated showing understated liabilities and understated expense. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 104 108 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 11 PREPAID EXPENSE Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Recall the concept of prepare expense and prepare adjusting entry using the Asset method 2 Prepare adjusting entry using the Expense method Prepaid expense To recall, prepaid expense is an asset that is paid in advance but not yet consu med or used. Companies have two options or methods in recording prepaid items. They may use t he Asset method or the Expense method. Objective 1 Asset Method If the company chooses to use the Asset method, then upon purchasing the prepaid item the proforma entry will be: Date Particulars Debit Credit xxxx xxx xx Prepaid _____ expense xxx Cash xxx Purchase of prepaid item It is possible that in this recorded prepaid expense there may be consumed or us ed portion. To adjust the recorded prepaid expense, the pro-forma entry will be: Date Particulars Debit Credit zxxx Dec 31 _____ expense xxx Prepaid _____ expense xxx Recognition of consumed or used portion of the recorded prepaid expense Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Example: On March 15, 2009, XYZ Company purchased office supplies for cash, P 100,000. At the end of the year, record shows that 25% worth of supplies have been used. Date Particulars Debit Credit 2009 Mar 15 Office supplies 100,000 Cash 100,000 Purchase of prepaid item Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Office supplies expense 25,000 Office supplies 25,000 Recognition of used portion of the recorded office supplies If the prepaid expense account is not adjusted at year-end, then the financial s tatements will be misstated showing overstated assets and understated expenses. If the adjusted Office supplies of P 75,000 is fully consumed in the following y ear, then the entire P 75,000 will be transformed to Office supplies expense also in the following ye ar. Objective 2 Expense Method On the other hand, if the company chooses to use the Expense method, then the pr o-forma entry to record the purchase of prepaid item is: Date Particulars Debit Credit xxxx xxx xx _____ expense xxx Cash Xxx Purchase of prepaid item It is possible that in this recorded expense there may be unconsumed or unused p ortion. To adjust the recorded expense, the pro-forma entry will be: Date Particulars Debit Credit xxxx Dec 31 Prepaid _____ expense xxx _____ expense Xxx Recognition of unconsumed or unused portion of the recorded expense Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author.

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Example: Assume the same example in asset method but this time the company will use the e xpense method. Date Particulars Debit Credit 2009 Mar 15 Office supplies expense 100,000 Cash 100,000 Purchase of prepaid item Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Office supplies 75,000 Office supplies expense 75,000 Recognition of unused portion of the recorded expense If the expense account is not adjusted at year-end, then the financial statement s will be misstated showing understated assets and overstated expenses. Notice that whether the company uses the asset method or expense method, the fin ancial statements will show same amounts for assets and expenses. In the above example, both methods will show Office supplies adjusted balance of P 75,000 and Office supplies expen se adjusted balance of P 25,000. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. 96 100, 115 117 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 12 UNEARNED INCOME Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Recall the concept of unearned income and prepare adjusting entry using the Liability method 2 Prepare adjusting entry using the Income method Unearned income To recall, unearned income is a liability that is received in advance but not ye t earned. Unearned income is the opposite of prepaid expense. If one party has recorded a prepaid item, then the other party has to record an unearned item. Companies have two options or methods in recording unearned items. They may use the Liability method or Income method. Objective 1 Liability Method If the company chooses to use the liability method, then upon receiving the unea rned item the pro-forma entry will be: Date Particulars Debit Credit Xxxx xxx xx Cash xxx Unearned _____ income Xxx Receipt of unearned item in advance It is possible that in this recorded unearned income there may be earned portion . To adjust the recorded unearned income, the pro-forma entry will be: Date Particulars Debit Credit Xxxx Dec 31 Unearned _____ income xxx _____ income xxx Recognition of earned portion of the recorded unearned income Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Example: On October 1, 2009, the company received from the tenant the advance rent paymen t of P 100,000 representing 10-month rent. Date Particulars Debit Credit 2009 Oct 01 Cash 100,000 Unearned rent income 100,000 Receipt of unearned item in advance Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Unearned rent income 30,000 Rent income 30,000 100,000 / 10 = 10,000 x 3 Recognition of earned portion of the recorded unearned rent If the unearned income account is not adjusted at year-end, then the financial s tatements will be misstated showing overstated liabilities and understated income. If the adjusted Unearned rent income of P 70,000 is fully earned in the followin g year, then the entire P 70,000 will be transformed to Rent income also in the following year. Objective 2 Income Method On the other hand, if the company chooses to use the Income method, then the pro -forma entry to record the unearned item is: Date Particulars Debit Credit xxxx xxx xx Cash xxx _____ income xxx Receipt of unearned item in advance It is possible that in this recorded income there may be unearned portion. To ad just the recorded income, the pro-forma entry will be: Date Particulars Debit Credit xxxx Dec 31 _____ income xxx Unearned _____ income xxx Recognition of unearned portion of the recorded income Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m

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Example: Assume the same example in liability method but this time the company will use t he income method. Date Particulars Debit Credit 2009 Oct 01 Cash 100,000 Rent income 100,000 Receipt of unearned item in advance Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Rent income 70,000 Unearned rent income 70,000 100,000 / 10 = 10,000 x 7 Recognition of unearned portion of the recorded income If the income account is not adjusted at year-end, then the financial statements will be misstated showing understated liabilities and overstated income. Notice that whether the company uses the liability method or income method, the financial statements will show same amounts for liabilities and income. In the above examp le, both methods will show Unearned rent income adjusted balance of P 70,000 and Rent inc ome adjusted balance of P 30,000. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 100 103, 117 118 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 13 DEPRECIATION Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the concept of depreciation and its kinds 2 Enumerate the factors of depreciation and compute depreciation using the straight line method Objective 1 Concept of depreciation Property, plant and equipment, except land, normally are usable for a number of years after which they have relatively little value either for service or for sale. The difference between the original cost of a property and any remaining value when it is retired or worn out is an expense that should be distributed to the periods during which the asset is used (Valix, 2000 ). Depreciation accounting -Is a system of accounting which aims to distribute the cost of the depreciable fixed asset less salvage value, if any, over the estimated useful life of the asset in a sys tematic and rational manner. It is a process of allocation, not of valuation (Valix, 2000). -The objective of depreciation accounting is to have each period benefitting fro m the use of the asset bear an equitable share of the asset cost (Valix, 2000). Depreciation -Is the portion of the cost of the asset charged as expense during an accounting period (Valix, 2000). Kinds of depreciation (Valix, 2000) 1. Physical depreciation a. Is related to the depreciable asset s wear and tear and deterioration over a perio d. This also results to the ultimate retirement of the property or termination of t he service of the asset. b. Physical depreciation may be caused by: i. Wear and tear due to frequent use ii.

Passage of time due to nonuse iii. Action of the elements such as wind, sunshine, rain or dust iv. Accidents such as fire, flood, earthquake and other natural disaster v. Diseases in animals and wooden buildings 2. Functional or economic depreciation a. Arises from obsolescence or inadequacy of the asset to perform efficiently. i. Obsolescence may arise from the following: Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

1. When there is no future demand for the product which the depreciable asset produces 2. When a new depreciable asset becomes available and the new asset can perform the same function for substantially less cost ii. Inadequacy arises when the asset is no longer useful to the firm because of an increase in the volume of operations. Objective 2 Factors of depreciation (Valix, 2000) In order to properly compute the amount of depreciation to be charged as expense during an accounting period, three factors are necessary, namely: 1. Cost 2. Scrap value a. Is the amount estimated to be recovered when the asset is retired from use. b. It is also known as Residual value or Salvage value. c. From the practical standpoint, the scrap value is often considered as zero becau se the valuation is usually very small or not capable of estimation. 3. Estimated useful life a. Is the expected service or economic life of the asset. Straight line method of depreciation (Valix, 2000) Under the straight line method, the annual depreciation charge is calculated by allocating the amount to be depreciated equally over the number of years of estimated useful li fe. The formula for the computation of the annual depreciation following the straigh t line method is as follows: Annual depreciation = Cost minus scrap Life in years Cost minus scrap value equals Depreciable cost. Depreciable cost multiplied by t he Annual depreciation rate also gives the amount of annual depreciation. The Annual depreciation rate is determined by dividing 100% by the life of the a sset in years. For example, if the life of the asset is 5 years, then the depreciation rate is 20% (100% / 5). The straight line method is based on the theory that periods benefited by the us

e of the asset should bear an equal or equitable share of the asset cost because the straight l ine approach considers depreciation as a function of time rather than as a function of usage. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Pro-forma Adjusting Entry Date Particulars Debit Credit xxxx Dec 31 Depreciation expense xxx Accumulated depreciation xxx Depreciation of fixed asset Example: Assume the following data for 2011 Equipment cost, purchased on January 1, 2011 P 105,000 Scrap value P 5,000 Life in years 5 years A depreciation table may appear as follows: Year Depreciation Accumulated depreciation Net carrying value Acquisition cost 105,000 2011 20,000 20,000 85,000 2012 20,000 40,000 65,000 2013 20,000 60,000 45,000 2014 20,000 80,000 25,000 2015 20,000 100,000 5,000 Adjusting entry for 2011 Date Particulars Debit Credit 2011 Dec 31 Depreciation expense 20,000 Accumulated depreciation Equipment 20,000 Depreciation of equipment for 2011 Note xx Property, Plant and Equipment Cost Accumulated Net Carrying Value Depreciation Land P xxx,xxx P xxx,xxx Transportation Equipment xxx,xxx P xxx,xxx xxx,xxx Building xxx,xxx xxx,xxx xxx,xxx Equipment Furniture and Fixtures 105,000 xxx,xxx 20,000 xxx,xxx 85,000 xxx,xxx Total P xxx,xxx P xxx,xxx P xxx,xxx ========= ======== ========= Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse

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Adjusting entry for 2012 Date Particulars Debit Credit 2012 Dec 31 Depreciation expense 20,000 Accumulated depreciation Equipment 20,000 Depreciation of equipment for 2012 Note xx Property, Plant and Equipment Cost Accumulated Net Carrying Value Depreciation Land P xxx,xxx P xxx,xxx Transportation Equipment xxx,xxx P xxx,xxx xxx,xxx Building xxx,xxx xxx,xxx xxx,xxx Equipment 105,000 40,000 65,000 Furniture and Fixtures xxx,xxx xxx,xxx xxx,xxx Total P xxx,xxx P xxx,xxx P xxx,xxx ========= ======== ========= Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 422 431, 435 436 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 14 DOUBTFUL ACCOUNTS Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the concept of doubtful accounts 2 Compute doubtful accounts using the percent of accounts receivable approach 3 Compute doubtful accounts using the aging analysis approach Objective 1 Accounting for Doubtful Accounts Business enterprises sell on credit rather than only for cash to increase total service income or sales and thereby increase income. However, an enterprise that sells on credit a ssumes the risk that some clients or customers will not pay their accounts (Valix, 2005). When an account becomes uncollectible, the enterprise has sustained a bad debt l oss. This loss is simply one of the costs of doing business on credit. Two methods are followed in accounting for this bad debt loss, namely: 1. Allowance method 2. Direct write-off method For ACTBAS1, only the allowance method will be discussed. Allowance method The allowance method requires recognition of doubtful accounts expense even if s ome of the accounts receivable are doubtful of collection. The adjusting entry to recognize doubtful accounts is: Date Particulars Debit Credit xxxx Dec 31 Doubtful accounts expense xxx Allowance for doubtful accounts xxx Recognition of doubtful accounts Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Basis for computing doubtful accounts There are two bases or approaches for computing doubtful accounts. 1. Balance sheet approach a. Percent of Accounts receivable balance b. Aging analysis 2. Income statement approach For ACTBAS1, only the balance sheet approach will be discussed. Objective 2 Percent of Accounts receivable balance A certain rate is multiplied to the accounts receivable balance in order to get the required allowance balance. The rate used is usually determined from past experience of t he company (Valix, 2005). Example 1: Assume accounts receivable balance of P 2,000,000 and doubtful accounts are esti mated to be 3% of accounts receivable are given in 2009 financial records Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Doubtful accounts expense 60,000 Allowance for doubtful accounts 60,000 (2,000,000 x 3%) Recognition of doubtful accounts Note xx

Trade and Other Receivables

Accounts receivable P 2,000,000 Less: Allowance for doubtful accounts 60,000 P 1,940,000 Example 2: Assume accounts receivable balance of P 2,000,000 and doubtful accounts are esti mated to be 3% of accounts receivable are given in 2010 financial records. Assume also that All owance for doubtful accounts has a balance of P 10,000 before adjustment. Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Doubtful accounts expense 50,000 Allowance for doubtful accounts 50,000 (2,000,000 x 3%) 10,000 Recognition of doubtful accounts Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author.

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73 Note xx

Trade and Other Receivables

Accounts receivable P 2,000,000 Less: Allowance for doubtful accounts 60,000 P 1,940,000 Objective 3 Aging analysis The aging of accounts receivable involves an analysis of the accounts where they are classified into not due or past due. Past due accounts are further classified in terms of t he length of the period they are past due. The most common classifications are: 1. Not due 2. 1 to 30 days past due 3. 31 to 60 days past due 4. 61 to 90 days past due 5. 91 to 120 days past due 6. 121 to 180 days past due 7. 181 to 365 days past due 8. More than 1 year past due 9. Bankrupt or under litigation The allowance is then determined by multiplying the total of each classification by the rate or percent loss experienced by the company for each category. The major argument for the use of this method is the more accurate and scientifi c computation of the allowance for doubtful accounts, and consequently, the accounts receivable a re fairly presented in the balance sheet at net realizable value (Valix, 2005). Example: The following data are summarized in aging the accounts at the end of the period : Accounts receivable balance Experience rate Required allowance Not due 500,000 1% 5,000 1 to 30 days past due 300,000 2% 6,000 31 to 60 days past due 200,000 4% 8,000 61 to 90 days past due 100,000 7% 7,000 91 to 180 days past due 50,000 10% 5,000 181 to 365 days past due 30,000 30% 9,000 More than 1 year past due 20,000 50% 10,000 Totals 1,200,000 50,000 Confidentiality Requirement

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The amount computed by aging of accounts receivable represents the required allo wance for doubtful accounts at the end of the period. Thus, if the Allowance for doubtful accounts has a credit balance of P 10,000 be fore adjustment, the doubtful accounts expense is determined as follows: Adjusting entry Date Particulars Debit Credit 2009 Dec 31 Doubtful accounts expense 40,000 Allowance for doubtful accounts 40,000 50,000 10,000 Recognition of doubtful accounts Note xx Trade and Other Receivables Accounts receivable Less: Allowance for doubtful accounts P 1,200,000 40,000 P 1,160,000 When is an account past due? The credit terms will determine whether an account is past due. For instance, if the credit terms were 2/10 n/30, and the account is 45 days old, it is considered to be 15 days p ast due. Net realizable value -This represents the estimated amount to be collectible from the clients or cust omers after deducting the allowance for doubtful accounts. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 387 388, 391 393, 105 118 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 15 CLOSING ENTRIES, POST-CLOSING TRIAL BALANCE Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the concept of closing entries and prepare closing entries 2 Prepare the Post-Closing Trial Balance Objective 1 Closing entries After the preparing the financial statements, one needs to close the nominal acc ounts or income statement accounts. If these accounts are not closed at the end of the year, the n these accounts will be carried forward to the next accounting period. If that happens, the foll owing accounting period will show a misstated income statement. The following are the procedures in closing the nominal accounts. 1. Debit the income accounts and credit the Income summary account. Closing entry Date Particulars Debit Credit xxxx Dec 31 _____ income xxx _____ income xxx Income summary xxx Closing entry for income accounts 2. Debit the Income summary account and credit the expense accounts. Closing entry Date Particulars Debit Credit xxxx Dec 31 Income summary xxx _____ expense xxx _____ expense xxx _____ expense xxx _____ expense xxx _____ expense xxx Closing entry for expense accounts Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

3. Close the Income summary account to the Owner, drawing account. If the Income summary has a credit balance, it means Net income, otherwise it means Net loss. Closing entry representing Net income Date Particulars Debit Credit xxxx Dec 31 Income summary xxx Owner, drawing xxx Closing of income summary to drawing account Closing entry representing Net loss Date Particulars Debit Credit xxxx Dec 31 Owner, drawing xxx Income summary xxx Closing of income summary to drawing account 4. Close the Owner, drawing account to the Owner, capital account. Owner, drawing has a debit balance before closing entry Date Particulars Debit Credit Xxxx Dec 31 Owner, capital xxx Owner, drawing xxx Closing of drawing account to capital account Owner, drawing has a credit balance before closing entry Date Particulars Debit Credit Xxxx Dec 31 Owner, drawing xxx Owner, capital xxx Closing of drawing account to capital account Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Example: Given the following Trial Balance after adjusting entries (Adjusted trial balanc e), prepare the necessary closing entries at fiscal-year ended September 30, 2010. Adapted from Workbook in Introductory Accounting for Service Business KIM SAM SOON COMPANY Adjusted Trial Balance September 30, 2010 Debit Credit Cash on hand P 6 000 Cash in bank 30 200 Accounts Receivable 150 450 Prepaid Office Supplies 7 800 Prepaid Insurance 1 330 Office Furniture 120 600 Accumulated Depreciation Office Furniture P 17 340 Delivery Equipment 156 000 Accumulated Depreciation Delivery Equipment 33 150 Accounts Payable 33 100 Accrued Salaries and Wages Expense 12 670 Accrued Rent Expense 12 000 Accrued Interest Expense 3 500 Notes Payable 120 000 Unearned Service Income 9 600 Kim Sam Soon, Capital 130 100 Kim Sam Soon, Drawing 29 370 Service Income 242 000 Depreciation Expense 26 860 Office Supplies Expense 3 100 Utilities Expense 4 960 Salaries and Wages Expense 39 620 Rent Expense 24 000 Interest Expense 12 300 Insurance Expense 870 _________ Totals P 613 460 P 613 460 ======== ======== Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Closing entry Date Particulars Debit Credit 2010 Sep 30 Service income 242,000 Income summary 242,000 Closing entry for income accounts Closing entry Date Particulars Debit Credit 2010 Sep 30 Income summary 111 710 Depreciation Expense 26 860 Office Supplies Expense 3 100 Utilities Expense 4 960 Salaries and Wages Expense 39 620 Rent Expense 24 000 Interest Expense 12 300 Insurance Expense 870 Closing entry for expense accounts Closing entry representing Net income Date Particulars Debit Credit 2010 Sep 30 Income summary 130, 290 Kim Sam Soon, Drawing 130, 290 (242,000 111, 710) Closing of income summary to drawing account Owner, drawing has a credit balance before closing entry Date Particulars Debit Credit 2010 Sep 30 Kim Sam Soon, Drawing 100,920 Kim Sam Soon, Capital 100,920 (130,290 29,370) Closing of drawing account to capital account Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Objective 2 Post-Closing Trial Balance After posting the closing entries, one needs to prepare the Trial balance after closing entries or the Post-Closing Trial Balance. KIM SAM SOON COMPANY Post-Closing Trial Balance September 30, 2010 Debit Credit Cash on hand P 6 000 Cash in bank 30 200 Accounts Receivable 150 450 Prepaid Office Supplies 7 800 Prepaid Insurance 1 330 Office Furniture 120 600 Accumulated Depreciation Office Furniture P 17 340 Delivery Equipment 156 000 Accumulated Depreciation Delivery Equipment 33 150 Accounts Payable 33 100 Accrued Salaries and Wages Expense 12 670 Accrued Rent Expense 12 000 Accrued Interest Expense 3 500 Notes Payable 120 000 Unearned Service Income 9 600 Kim Sam Soon, Capital _________ 231 020 Totals P 472 380 P 472 380 ======== ======== Notice that in the Post-Closing Trial Balance, the income statement accounts and the drawing account are not anymore included because they already have zero balances. In thi s trial balance, the only remaining accounts are the real accounts or balance sheet accounts. Not ice also that after the closing entries, Kim Sam Soon, Capital increased from P 130,100 to P 231,020 . This is due to the addition of P 100,920, which is the amount in the last closing entry. If the Post-Closing Trial Balance shows equal totals, then the books of accounts are ready for the recording of transactions in the next accounting period. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 140 159, 166 167 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

LESSON 16 REVERSING ENTRIES Study Objectives After studying this lesson, you should be able to: Achievement of Objective (Put a Check mark) 1 Understand the concept of reversing entries and prepare reversing entries Objective 1 Reversing Entries Reversing entries are optional entries that are prepared on the first day of the next accounting period. The benefit of these entries is convenience in the recording of the jour nal entries which are related to adjusting entries. The following adjusting entries may be reversed: 1. Accrued income 2. Accrued expense 3. Prepaid expense (Expense method only) 4. Unearned income (Income method only) Pro-forma Entries Accrued income Date Particulars Debit Credit xxxx Jan 01 _____ Income xxx _____ Receivable xxx Reversing entry for accrued income Accrued expense Date Particulars Debit Credit xxxx Jan 01 _____ Payable xxx _____ Expense xxx Reversing entry for accrued expense Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Prepaid expense (Expense method only) Date Particulars Debit Credit xxxx Jan 01 _____ Expense xxx Prepaid _____ Expense xxx Reversing entry for prepaid expense Unearned income (Income method only) Date Particulars Debit Credit xxxx Jan 01 Unearned _____ income xxx _____ income xxx Reversing entry for unearned income Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.

Further Readings Kieso, D., Kimmel, P. and Weygandt, J. (2008). Accounting Principles, 8th editio n. New Jersey: John Wiley and Sons, Inc. pages 156, 169 171 Kimwell, Mercedes (2009). Fundamentals of Accounting, 2nd edition. Manila: GIC E nterprises & Co., Inc. 3rd Valencia, E., and Roxas, G. (2009). Basic Accounting, edition. Baguio City: Vale ncia Educational Supply. Cabrera, M.E.B, Ledesma, E.F., and Lupisan M.C.Y. (2007). Fundamentals of Accoun ting Vol. 1. Manila: GIC Enterprises & Co., Inc. Chalmers, K., Fyfe, M., Kieso, D., Kimmel, P., Mitrione, L., and Weygandt, J. (2 007). Principles of Financial Accounting. John Wiley and Sons Australia, Ltd. Confidentiality Requirement This material is prohibited for reproduction or distribution without prior conse nt from the author. Created with novaPDF Printer (www.novaPDF.com). Please register to remove this m essage.