Notes on Book keeping and Accountancy

Book Keeping
It is the systematic method of recording transactions in a set of books. It is the
technique and device of entering transactions in the books of account in terms of
money. In the words of Northcott Book-keeping is an art of recording in the books of
account the monetary aspect of commercial or financial transactions.
Object of Book keeping
1. Ascertaining the result of trading of the business for a period.
2. Measuring the financial position of the business on a particular date.
3. Supplying necessary information for making management decisions
4. Aiding to assess the progress of the business
5. Minimizing errors and frauds
6. Ensuring a complete and permanent record of all the transactions
Advantages of bookkeeping
1.It helps to find out the profit or loss for a definite period.
2 It enables to measure the financial condition of the business on a particular
date.
3 It provides necessary information for managerial decisions.
4 It shows the amounts due to the business from different persons and institutions
and the amounts due by the business to various parties.
5 It helps to find out the reasons for changes in profits
6 It facilitates the easy disposal of assets
7 It helps to get loans from financial institutions.
8 It helps for easy determination of tax liabilities
9 It prevents frauds and manipulations
Systems of bookkeeping
7. Single Entry System: The term single entry is used to describe the method
of maintaining accounts, which does not exactly follow the principles of
Double Entry System. It is system of book keeping in which as a rule only
records of cash and personal accounts are maintained. It is always
incomplete double entry varying with circumstances
Advantages:
8. It is simple and can be operated without perfect accounting knowledge.
9. Since the numbers of account books are limited, the expenses of recording
transactions are minimum.
10. This system is quite suitable to service institution like hospitals, schools and
small business establishments.
Disadvantages:
11. No basis to check arithmetical accuracy as there is no scope to compare the
debits and credits.
12. It is not possible to ascertain the correct amount of profit and loss of the
business for the period as the nominal accounts are not kept.
13. Balance sheet will not reveal the true financial positions as the values placed on
assets and liabilities cannot be relied upon.
 14. Chances of committing errors and frauds are more.
Double Entry System: This was developed by an Italian named Luco Paciolli
in 1494 AD. This is a method of recording transactions, that is universally applied
in business accounting, in which each transactions is recorded as a debit in one
account and an equal credit in another account., So the system depend on the
basic principles that for every debit there must be an equal and corresponding
credit
Advantages:
15. It helps in the preparation of Trial Balance at the end of a period, with which
accuracy of book keeping can be established.
16. Profit or loss of the business for a period can be correctly estimated.
17. The balance sheet as on a particular date can be prepared without difficulty.
Moreover the balance sheet prepared under this system shows the exact
financial position.
18. The system enables to make both internal and external comparisons and
provides reliable information for efficient management and control of the
business.
19. Double entry system minimises the chances for misappropriation and
manipulation.
Business transaction: Any exchange of money or moneys worth as goods and
services between two or more persons is called business transaction., It involves
giving benefit in one form and receiving benefit in another form., For instance, when
goods are sold, the trader receives cash and gives goods, when salary is paid, the
trader gets services for which cash is paid
Difference between single entry system and double entry system
Double entry system Single entry system
1. Both debit and credit aspects of allSome transactions are not recorded at all while
transactions are recorded some transactions are recorded in only one of
their aspects, either debit aspect or credit
aspect, and there are some transactions which
are recorded in the same manner as they are
recorded under double entry system
2. Various subsidiary books areNo subsidiary book except cash book is
maintained maintained

3. The ledger contains personal, realThe ledger contains some personal accounts only
as well as nominal accounts
4. Arithmetical accuracy of accountsIt is not possible
can be ascertained by preparing trial
balance
5.Income statement and balanceOnly a rough estimate can be prepared of profit
sheet are prepared in a scientificearned or loss incurred and only a statement of
manner affairs can be prepared which does not present a
scientifically correct financial position.
Systems of accounting:
20. Cash System: When transactions are recorded only at the time of actual
receipt or payment of cash.
 21. Mercantile System: When transactions are recorded as and when they
are due, irrespective of receipt or payment of cash
22. Mixed System: The trader records all cash transactions and some
important credit transactions like credit purchases and credit sale of goods
and other assets. Unlike mercantile system, the mixed system ignores
accrued expenses and incomes. This system is also known as Hybrid
System
Journal/Book of original entry/Book of prime entry/Day book
The book that is used to recorded transactions first, as when it occurs, is called a
journal. Transactions are recorded in the journal daily, in the order of their
occurrence. The journal shown the names of accounts and the amounts to be debited
and credited in respect of each transaction. The process of making entries in the
Journal is known as Journalising. After each journal entry, a brief description of
the transactions is given, it is known as Narration
Journals are two types: General Journal and Special Journal. Transactions which do no
not occur frequently are recorded in the General Journal. A special journal is prepared
to record transactions of similar nature to save expense and avoid complications.
The books of original entry are:
i. Journal
ii. Cash book single column, double column and petty cash book
iii. Other day books:
a. Purchases book
b. Sales book
c. Purchase returns book
d. Sales return book
e. Bills receivable book
f. Bills payable book
The following are the important special journals:
23. Purchase Day book: For recording all credit purchases of goods
24. Sales Day Book: For recording all credit sales of goods
25. Purchase Returns Book: For recording goods returned to the suppliers
26. Sales Returns Book: For recording goods returned by the customers
27. Cash Book: For recording all cash transactions
28. Bills receivable book: For recording all Bills Received from customers
29. Bills payable book: For recording acceptance given to suppliers
30. Journal proper: For recording transactions which are not entered in any
of the special journals. It is an ordinary journal used to record those
transactions which cannot be recorded in any of the special journals. E.g.
Credit purchase and sale of assets, opening entry and closing entry
Ledger
The term ledger is derived from Dutch word legger which means to lie. It is a book
in which various accounts lie. All the individual accounts recorded in the journal are
written in the ledger. Ledger is the principal or important book of any organisation
because it provides a summarised record of all transactions of the period. A ledger
may be defined as a collection of individual accounts
Ledger accounts can be classified into Permanent accounts and temporary
Accounts.
 Permanent accounts: accounts of assets, liabilities and capital(personal and real
accounts) are permanent accounts. These accounts are not closed during the course
of the business. All these accounts will appear in the Balance Sheet, unless the asset
is sold or discarded or the persons settled his accounts with the business.
Temporary accounts: Accounts of expenses (or loss) and income are closed and
transferred to trading and profit and loss account at the end of the accounting period.
All nominal accounts are temporary accounts. These accounts will not show opening
balance on the opening date of the next accounting period as there is no closing
balance on the closing date.
Format of a ledger
Dr Cr
Date Particulars J/F Amount Date Particulars J/F Amount
(Rs) (Rs)

To xxxxxxxxxxxxx By xxxxxxxxxx
Balancing of accounts:
After posting the transactions from the journal into the ledger the accounts are
balanced periodically to ascertain the cumulative effect of the debit and credit
entries in the ledger. Balance in an account means the difference between amount
entered on the debit and credit sides of the account. Balancing is the process of
ascertaining of the difference between the total of the amounts in the debit side and
credit side of an account.
If the total of the debit side exceeds the total of the credit side, the account shows a
debit balance. If the total of the credit side exceeds the total of the debit side, the
account shows a credit balance. If the total of the two sides are equal, the account is
said to be in balance.
Difference between Journal and Ledger
Journal Ledger
1. It is the book of original or primary It is the book of secondary entry in which
entry in which all the transactions are the transactions recorded in the journal
recorded first are posted
2. Supported by a source document Supported by Journal only
3. It is a chronological record of It is an analytical record of transactions
business transactions
4. Journal is not balanced Ledger is balanced
5. It does not give an idea about the It givens an idea about individual
individual accounts accounts
6. The process of recording a Recording of a transaction in the ledger is
transaction in the journal is called called posting
Journalising
Accounting
According to the American Institute of Certified Public Accountants, Accounting is the
Art of recording, classifying and summarizing in a significant manner and in terms of
money, transactions and events which are at least of financial character and
interpreting the results thereof. Modern Accounting is often called the language of
business. The basic functions of accounting are communicating the results of the
business operations to various parties who are interested in it. The persons interested
in accounts are (i) Shareholders, (ii) Investors (iii) Creditors, (iv) Labour (v)
Government (vi) Researchers
The objectives of Accounting
The most important objective of accounting is to provide information to the
interested users to enable them to make decisions. The others objectives include:
31. Maintenance of records of business
32. Calculation of profit or loss
33. Depiction of financial position and
34. Making information available to various groups.
Assets
Cash or any valuable owned by the business that can be converted into cash or
anything beneficial to the future operations of business can be termed as an asset.
Assets may be either fixed or current. Assets which are acquired and employed by
Business Concerns for comparatively longer period of time are called fixed asset.
Eg. Land and Building, Machinery, Furniture etc.
Assets which are held for a short period are known as current assets. Such assets
are expected to be realized in cash or consumed during the normal operating cycle of
the business. Stock of goods, debtors, cash etc. is examples of current assets.
Current assets are also called floating assets or circulating assets.
Fixed Assets - Capital Assets
Current Assets - Circulating Assets, Floating Assets.
Liabilities
Liabilities are the obligations or debts payable by the enterprises in future in the form
of money or goods. It is the proprietors or creditors claim against the assts of the
business. Liabilities can be grouped under short term liabilities and long term
liabilities.
Liabilities which become due and payable within a period of one year are called short
term liabilities. Creditors, bills payable, outstanding expenses etc. are examples of
such obligations. On the other hand liabilities which need not be discharged or paid
off within a period of 12 months but remain in the business for a longer period is
called long term liabilities. Debentures, long term loans etc. are examples of fixed
liabilities.
Opening Entry
Opening entry is an entry passed on the opening date of an accounting year in order
to bring down the assets and liabilities of a business from the previous year to the
current year. In opening entry all assets are debited and liabilities are credited. The
excess of assets over liabilities is considered as the capital of the proprietor.
Compound Journal Entry
Sometimes a number of transactions relating to one particular account and of similar
nature are taken place on the same day; such transactions may be recorded by
means of a single journal entry instead of passing several entries. Such an entry with
more than one debit or credit or both is called a compound journal entry.
Accounting Concepts or Assumptions.
Accounting concepts refers to certain necessary assumptions or conditions on which
the accounting system is based. These assumptions provide a foundation for the
accounting process. No enterprise can prepare financial statements without
considering these assumptions. The following are some of the major and generally
accepted concepts:
35. Accounting entity concept. Under this concept, it is assumed that Business
Unit is distinct and completely separate from its owners. The Business is
treated as a unit or entity separate from the parsons who controls it.
Accounts are maintained for business entity as distinguished from all
categories of persons associated with it. The proprietor is treated as a
creditor to the extent of the amount invested by him on the assumption that
he has given money and the business has received it.
36. Going concern concept. As per this concept, the business unit is assumed
to have an indefinite life; it is deemed that there is no intention or necessity to
wind up the business activity in the immediate future. Hence the firm is
treated as a going concern.
37. Money measurement concept. As per this concept, transactions that can
be measured in terms of money only are recorded in the books of accounts.
This helps to record different kinds of economic activities on a uniform basis.
The basic purpose of using money is to apply an element of uniformity among
diversity.
38. Verifiable objective concept. It expresses that accounting data must be
capable of verification. They are subject to verification by independent
experts known as Auditors. Therefore all transactions should be supported by
documentary evidences such as invoices, vouchers, etc.
39. Accounting period concept. The period of interval for which account is
kept for ascertaining the result of business during the period is called
accounting period. Generally the results are ascertained at short intervals.
Usually a period of 365 days or 52 weeks is considered as fair interval. The
performance of a business unit is measured by matching the cost incurred
during the accounting period against the revenue earned during that period.
Accounting Conventions or Principles.
The term convention denotes a rule of practice which by common consent is
employed in the solution of a particular class of problem. Placing debits on the left
hand side and credits on the right hand side of an account is an example of
convention. These conventions refer to an accounting procedure followed by
accountants all over the world on the basis of year old customs. The following are the
major principles used in the accounting procedure.
40. Principle of revenue realization.
This principle deals with the points of time at which the revenue is taken as
earned. It says that revenue is realized when goods are transferred or services are
rendered to a customer. An advance payment received from customers is not treated
as revenue earned
41. Expense or cost.
According to this principle assets are recorded in the books of accounts at the
price at which they are acquired. All subsequent transactions in relation to this is
made on the basis of the recorded cost.
 42. Matching principle.
In order to ascertain the profit or loss of a business, the cost incurred during
the accounting period must be matched against the revenue earned during that
period. All expenses incurred during the relevant period may not be related to that
period alone. Expenses relating to the previous period or to the subsequent period
might have been incurred during the period under reference. Likewise, the entire
amount of revenue received may not be of the current period. As per the matching
concept, only those expenses pertaining to the current accounting period must be
matched against the revenue relating to the same period.
43. Convention of Disclosure
This convention suggests that all accounting statements must be prepared
honestly and must contain all relevant material information. It implies that the
published financial statements must fully disclose the true and fair view of the state
of affairs of the concern for a particular period or on a particular date. Adequate
disclosure creates confidence in those who are interested in the affairs of the
enterprise.
44. Dual Aspect.
This is the basic principle of accounting. According to this principle each and
every transactions has two aspects, ie. a giving aspect and a receiving aspect. The
system of recording business transaction on the basis of this concept is called Double
Entry System. This principle states that for every debit there is a corresponding
credit. The relationship of assets and liabilities is termed as accounting equation in
this concept:
Capital = Assets Liabilities.
Classification of accounts:
45. Personal Accounts, ie. accounts of persons (creditors, customers, etc,)
46. Impersonal Accounts:
(i) Real Accounts ie. Accounts old properties and assets, and
(ii) Nominal Accounts, ie. Accounts of incomes, expenses and losses.

Basic Rules of Accounting

The three basic rules about recording transactions are:
a. Debit the receiver and
- Personal Accounts
credit the giver

b. Debit what comes in

- Real Accounts
and credit what goes out

c. Debit all expenses (and losses) and

- Nominal Accounts
credit all incomes (and gains).
 Cash Discount and Trade Discount
When a customer buys goods in a large quantity the seller may allow him a discount
which is called trade discount. In the invoice, trade discount is deducted from the list
price of the goods sold and the customer is debited only with the net amount. The
cash discount is allowed for payment within a stipulated period.
Trade Discount Cash Discount
1. It is allowed to encourage buyers to It is allowed to encourage the buyers of
buy goods in large quantities goods to make payment at an early
date
2. It is reduction in the list price granted It is a reduction in the amount payable
by the supplier either because of a for payment within a certain period
trade practice or for purchases
exceeding a certain quantity
3. It is allowed at the time of purchase It is allowed at the time of payment for
the purchase
4. It is shown as a deduction in the It does not appear in invoice
invoice
5. In the ledger, there is no trade discount Cash discount account is maintained in
account the ledger
Classification of Expenditure.
Depending on the period for which the benefit of an item of expense lasts, expenses
can be classified into
47. Capital expenditure
48. Revenue expenditure
49. Deferred revenue expenditure
Capital expenditure
An expenditure incurred to derive long term advantage is a capital expenditure. It is
the amount spent for acquisition of an asset or for increasing the earning capacity of
a business. Purchases of fixed assets, addition to the building, cost of removing the
business to more spacious and better suited building etc. are examples of such
expenditure. Such expenses are taken to Balance Sheet and are determined by the
fact whether
The expenditure is made for the purpose of acquiring fixed assets
The expenditure results in some more or less long term benefits to the business
The exependiture increases the earning capacity of the business or reduces working
expenses,.
Revenue expenditure
If the benefit of an item of expenditure lasts only for a period of 12 months, then it
can be referred to as an item of revenue expenditure. Such expenditure is incurred
to maintain the revenue earning capacity of the business. Payment of salary, rent,
selling expense, amount spend for purchase of raw materials, etc. come under this
category. Such item appear in the Trading and Profits and loss account,.
Deferred Revenue Expenditure.
It is the expenditure which would normally be treated as revenue expenditure. But it
is not written off in one accounting period as its benefits is not completely exhausted
in the year in which it is incurred. A part of the amount is charged to P&L account of
each year and balance is carried forward to subsequent years as deferred revenue
expenditure and is shown as asset in the balance sheet. Eg. Heavy advertisement
expenses, preliminary expenses, underwriting commission, discount on issue of
shares and debentures
Discount
A discount is a reduction or concession allowed either on selling price of goods or on
the amount due. Discounts are of two kinds (i) Trade Discount and (ii) Cash Discount.
Trade Discount - Deduction from the list price or catalogue price, usually allowed
by the wholesaler to retailer on bulk purchases is called Trade Discount. It is
deducted in the invoice from the list price and the net amount only is recorded in the
books of the accounts.
Cash Discount - It is the reduction allowed by the creditor to the debtor usually on
making prompt payment. Such a reduction is an expense to the creditor who allows it
and an income to the debtor who make the payment at a lesser amount
Depreciation
Depreciation is a permanent continuing and gradual shrinkage in the book value of a
fixed asset. It is defined as a permanent and continuing diminution in the quantity or
value of an asset.
Causes of depreciation
50. Wear and tear: The decrease in the value, efficiency and utility of fixed asset
by constant use is termed as depreciation due to wear and tear.
51. Expiry of time: There are certain assets like lease hold property, patents,
copy rights etc. that are acquired for a particular period. On expiry of the
period their value ceases to exist.
52. Obsolescence: Obsolescence is the loss in the value of an asset which arises
out of new invention.
53. Depletion: Assets such as mines, quarries, etc. are of wasting nature. By
extraction of natural deposits, their value is reduced. This reduction in value
of natural deposits due to depletion is a cause of depreciation.
54. Non-use: Machines which lie idle becomes less useful with the passage of
time.
Importance or need for providing depreciation.
Depreciation is provided with the following objectives:
55. To ascertain true profit
56. To ascertain true value of an asset
57. Provision of funds for replacement of assets
58. Ascertaining accurate cost of production
59. To ensure that dividend is distributed only out of profit
60. Avoiding excess payment of Income Tax.
Trial Balance:
A Trial Balance is a list of all the balances in the ledger accounts of a concern at any
given date. It is a device to check the arithmetical accuracy of the entries in the
ledger accounts. Under double entry system every debit has a corresponding and
equal credit. So the total of all the debits must be equal to all credits. A trial balance
may be described as a schedule or list of balances, both debit and credit, extracted
from all the accounts in the ledger and including cash and bank balances taken from
the cash book.
 Objectives of preparing the trial balance:
61. It is a check on the accuracy of postings. If the trial balance agrees, it can be
assumed that both the aspects of all the transactions have been correctly
posted in the ledger.
62. It brings at one place, the balances of the accounts which facilitates the
preparation of final accounts.

Distinction between trial balance and balance sheet

Trial Balance Balance Sheet
1.Contents: Trial balance is a statement showing Balance sheet is a statement
debit and credit balances of all the showing assets and liabilities of the
ledger accounts as on a particular firm as on a particular date, it
date, it contains balances of contains personal; and real accounts
personal, real as well as nominal only
accounts
2. Purpose: The purpose of preparing trial Balance sheet is prepared to show
balance is to test the arithmetical the financial position as on a
accuracy of the books of accounts particular date
3. Frequency: Trial balance is prepared much more Balance sheet is mostly prepared
frequently; it may be prepared only at the end of the accounting
weekly, monthly, quarterly or half year
yearly. It is definitely prepared at the
end of the accounting year before
preparing the final accounts
4. Use: Trial balance is prepared for internal Balance sheet is prepared for internal
use only use as well as external use; balance
sheet is always a part of published
accounts.
Rectification of Errors.
If books of accounts are properly maintained according to the principles of
double entry system, both the debit and credit columns of the trial balance must be
equal. In case both these sides are not equal, there may be some errors in
accounting. Accounting errors are mistakes and omissions made unknowingly while
recording transactions in books of accounts.
On the basis of nature, errors can be classified into the following categories.
1 Errors of Commission
2. Errors of Omission
3. Errors of Principle
4. Compensating Errors.
Errors of Commission
Errors committed when transactions are incorrectly recorded are called errors of
commission. These are the errors caused by wrong posting, wrong totaling, wrong
balancing or carry forwarding etc. Most of these errors of commission are reflected in
the trial balance and hence their location is easier
Errors of Omission.
When a transaction is not entered in the books of original entry or not posted from
the original entry to the ledger, an error of omission is caused. The omission may be
complete or partial.
If a transaction is not entered in the subsidiary books, it is a case of complete
omission as the postings in the ledger accounts are also omitted. In an error of
complete omission, as both the debit and credit aspects go unrecorded, it does not
affect the agreement of Trial Balance.
If only one aspect of a transaction is recorded, it is a case of partial omission. It
happens while postings from day book to ledger accounts; this will affect the
agreement of trial balance.
Errors of principle.
If any accounting principle is violated in recording a transaction, it is an error of
principle. Errors of principle are committed in those cases where a proper distinction
between revenue and capital items is not made ie. A capital expenditure is taken as
revenue expenditure or vice versa. Similarly, a capital receipt may have been taken
as a revenue receipt or vice versa. Such errors by themselves do not affect the
agreement of trial balance.
Compensating Errors.
Compensating errors are those errors which compensate each other. When two or
more errors are committed in such a way that the net effect of those errors on the
debit and credit of accounts in nil, compensating errors occur. These errors do not
affect the agreement of trial balance.
Errors which affect the Trial Balance
These are errors which affect one account only. These errors can be rectified by
giving an explanatory note or by passing a correcting entry with the help of a
suspense account. These errors are also called clerical errors:
63. Error in casting (totaling) of subsidiary books
64. Error in posting to the correct account but wrong side or posting to the
correct account but with wrong amount or posting to the wrong side with
wrong amount
65. Error in carry forward or error in balancing
66. Error of partial omission
Errors which do not affect the Trial Balance
These are errors which affect two or more accounts. Such errors can be rectified by
posting a journal entry by giving correct debit and credit to the concerned accounts.
The errors which do not affect the trial balance are:
67. Errors of complete omission: An error of omitting a transaction from
recording in the journal, it can be corrected by passing a fresh journal
entry. If it is an error of omission to post an entry to the ledger, it can
be rectified by posting to the ledgers.
68. Error or recording When a wrong amount is recorded in the book of
original entry, it is the case of errors of recording. Such an error can be
rectified by passing a journal entry for the difference amount. Eg. A
credit sale of Rs. 1000 to Aruna is recorded as Rs. 100. This results in
shortage of Rs. 900 in two accounts, viz. Aruna and Sales. This can be
rectified by passing the following entry:
Aruna Dr 900
To Sales 900
(Error in short recording of sales to Aruna now accounted)
69. Error of posting to the correct side but of wrong account
This type of error is committed when posting is done to the correct side
of a wrong account. Eg. Credit sale of Rs. 750 to N. Ram is posted to
M. Rams account. In such cases, N. Rams account will be less by Rs.
75 and M. Rams account will be more by Rs. 750. This can be rectified
by following entry:
N. Ram Dr 750
To M. Ram 750
(Wrong positing of sales to M. Ram
rectified by transferring to N. Ram)
70. Errors of principle
71. Compensating errors
Suspense Account
The suspense account is a temporary account opened to post the difference in trial
balance until it is closed when the errors are located and corrected. It is opened to
rectify those errors which affect the trial balance. So it shows the net effect of all one
sided errors. Amount in the suspense account is placed on the amount column of the
trial balance which is found to be shorter, to make the trial balance tally.
Subsequently, when the one sided errors are located, they are rectified by giving
corresponding debit or credit to the suspense account. When all the errors have
been located and corrected, the suspense account will be wiped off. But if some of
the errors could not be located, the suspense account will show a balance. Such
balance in suspense account will be shown on the Balance Sheet on the Asset side (if
the debit balance) or on the Liabilities` side (if credit balance)
Cash Book
Cash book is the most important subsidiary book of a business. It is used to record
all transactions relating to cash receipts and cash payments. A cash book is
maintained by all organizations irrespective of its size( big or small) and nature (profit
making or not profit making).
A cash book is a journal as well as a ledger. It is a journal because it is the book of
original entry in which cash transactions are first recorded. It is a ledger because it is
drawn in the form of an account and when a cash book is maintained no separate
cash account is prepared. A cash book always shows a debit balance or nil balance
because actual payment can be effected only when there is cash available. All
receipts(capital or revenue) are recorded on the debit side and all payments (capital
or revenue) are recorded on the credit side of the cash book.
Types of Cash Book
72. Single column or simple cash book
73. Double column cash book or cash book with cash and bank column
74. Three column cash book or cash book with cash, bank and discount
columns
75. Cash book with cash and discount columns
76. Cash book with bank and discount columns
77. Petty cash book
1. Single column cash book: A cash book which contains only one column for
amount on either side is called a single column cash book. Its form is similar
to a ledger account. All receipts, capital and revenue, is recorded on the debit
side of the cash book and all payments on the credit side.
Contra Entry
If the debit and credit aspect of a transaction is recorded in both sides of an account
or a statement, it is called a contra entry, or a contra item. In cash book with cash
and bank column, payment of cash and cheques into bank and withdrawal from bank
for office purpose are contra entries
Eg. Deposit of cash and cheques into the bank
Bank account Dr
To Cash account ( C )
Withdrawal of cash from bank for business use
Cash account Dr
To Bank ( C )
Petty cash book
`1n every business, many payments of small amounts are frequently made for
postage, traveling, carriage, stationery, etc. Inclusion of all these payments in main
cash book will make the cash book unwieldy and bulky. Hence, a petty cash book is
maintained to record day to day small expense. A petty cashier will be appointed to
handle such expenses. He will record all his payments in a cash book called petty
cash book
Mode of operation of petty cashier
78. At the beginning of a specified period, the main cashier advances certain
amount called imprest to the petty cashier
79. The petty cashier effects payments up to a prescribed limit and records the
same daily in the petty cash book
 80. At the end of the period he submits his account to the main cashier with
vouchers for petty payments and receives fresh advances. This process is called
recoupment of imprest.
The imprest system:
Under this system, a definite amount called imprest money will be advanced to the
cashier at the beginning of the period,. The petty cashier goes on making small
payments from the imprest money. At the end of the specified period, the petty
cashier submits his accounts to the main cashier with vouchers and gets
reimbursement of the amount he spent. The maximum amount which a petty cashier
is authorized to keep at any time for meeting small payment is called Imprest Money
or cash float.
Bank Reconciliation Statement.
Banks usually gives their customers a true copy of their accounts with them. The
copy of the accounts of a customer given by the bank showing the transaction with it
is known as the pass book. All receipts for the customers are credited in the pass
book and all payments for him are debited in it.
If bank columns of the cash book of a trader shows debit balance, his pass book show
credit balance. This is a case of deposit balance. If the bank column of the cash
book shows credit balance, his pass book should show a debit balance and it is a case
of bank overdraft.
If transactions recorded by the trader in the bank column of his cash book and those
appearing in his pass book are the same, both the books should show the same
amount of balance, but in practice, these two balances do not agree. Then it is
needed to prepare a reconciliation statement between them.
Reconciliation statement is a statement prepared by a customer of a bank, showing
the causes of disagreement of cash book and pass book as on a particular date. It is
prepared to bring the cash book balance in agreement with the balance as per pass
book.
Causes of difference between Cash book and pass book balance.
Balance as per cash book or overdraft as per pass book:
81. Cheques issued but not presented for payment
82. Cheques paid in for collection but not collected.
83. Direct payment by a customer to the bank
84. Interest on deposit credited by the bank
85. Interest, dividend, rent etc., collected by bank
86. Payments made on behalf of the customer
87. Bank charges as per pass book
88. Bills receivable discounted, but dishonoured
89. Interest on overdrafts debited in pass book
90. Bill of exchange, Promissory Notes and other credit instruments collected
by Bank
91. Errors at the time of recording
Contingent liabilities
A contingent liability is one which is not an actual liability on the date of balance
sheet. Though it is not an actual liability on the date of the balance sheet it may
become an actual liability later on the happenings of an event which is not certain.
Such a liability may be due to past dealings or action which may or may not become
 a legal obligation. The uncertainty as to whether there will be any legal obligation
differentiates a contingent liability from an actual liability. Examples of contingent
liabilities are Bills receivable discounted with bankers but not matured, Guarantee
given on behalf o others liabilities against the firm not acknowledged as debt,
uncalled liability on partly paid up shares, arrears of fixed cumulative divided etc.
System of accounting
The following are the main systems of recording business transactions:
92. Cash System Under this system actual cash receipts and actual cash
payments are recorded. Credit transactions are not recorded at all until the
cash is actually received or paid. The receipts and payments account prepared
in the case of non-trading concerns can be cited as the best example of cash
system. The system being based on a record of actual cash receipts and
actual cash payment will not be able to disclose correct profit or loss for a
particular period and will not exhibit true financial position of the business on
a particular day,
93. Mercantile (Accrual) System: Under this system all transactions relating to a
period are recorded in the books of account ie. in addition to actual receipts and
payment of cash, income receivable and expenses payable are also recorded.
This system give a complete picture of the financial transactions of the business
as it makes a record of all transactions relating to a period. The system being
based on a complete record of the financial transaction discloses correct profit
or loss for a particular period and also exhibits true financial position of the
business on a particular day.
Distinction between Receipts and Payments account and income and
expenditure account
Receipts and Payments Account Income and Expenditure account
1. It is a real account It is a nominal account
2. It is prepared in non-tradingIt is prepared in non-trading concerns in lieu
concerns in lieu of cash book of Profit and Loss account
3. Its debit side show receipts andDebit side shows expenses and losses and
credit side shows payments credit side shows income and gains
4. It starts with opening balance ofThere is no opening balance and closing
cash in hand or cash at bank and ends balance. The difference between the two
with closing balance of cash or bank sides shows either surplus or deficit.
5. All items whether of capital or Only revenue items are taken into
revenue nature are recorded consideration
6. All receipts and payments whetherOnly current period
relating to the current period,
succeeding or preceding periods are
taken into consideration
7. It is not accompanied by a Balance It is accompanied by a Balance Sheet
Sheet
8. No adjustments are required to beIn order to find out the true income or
made at the end of the year expenditure of the current year, necessary
adjustments are made at the end of the
year
9. It is prepared on the basis of cashIt is prepared on the basis of mercantile
system of accounting system of accounting
Provision and reserves
Provision and reserves are used in different senses in accounting terminology. The
term Provision means any amount written off or retained by way of providing for
depreciation or retained by way of providing for a known liability, the amount of
which may not be determined with substantial accuracy. If the amount of such
liability can be ascertained it will be a liability and not a provision eg. Provision for
depreciation, provision for taxation, provision for bad debt and doubtful debts.
Any sum which is appropriated out of profit and is not meant to cover up liability,
contingency commitment or reduction in the value of an asset is a reserve. It is
provided for meeting prospective losses or liabilities, creation of reserve is to
increase the working capital in the business and strengthening its capital reserve and
revenue reserve.
a. Capital Reserve: Any reserve which is created out of capital profits as against
trading or revenue profit and is not readily available for distribution as dividend is
called capital reserve. Profits prior to incorporation, premium on the issue of shares
or debentures, profit on reissue of shares etc. are examples.
b. Revenue Reserve: Any reserve which is available for distribution as dividend to
the shareholders is called revenue reserve. General reserve dividend equalization
reserve, contingency reserve are examples.
Distinction between provision and reserve
The following are the main points of distinction between a provision and a reserve:
1. Provision is a charge in the profit and loss accounts where as reserve is an
appropriation of profit.
2. Provision is made because of legal necessity but creating a reserve is a
matter of financial prudence and save the concern from prospective losses and
liabilities
3. Provision is created for some specific object and must be utilized for the
object for which it is created. Reserve is created for probable losses and can be used
for any future liabilities ort loss.
4. Provisions cannot be distributed as profits or transferred to any general
reserve. Reserve can be distributed as profit if they remain unutilized for some
period.
5, Provision reduces the net profit. Reserves reduce divisible profit.
Secret Reserve
A secret reserve is a reserve the existence and or the amount of which cannot be
disclosed in the balance sheet. Secret reserves are created in those concerns where
public confidence is required for its working like banking companies, insurance
companies etc. Such reserves are created by showing the assets at a lower figure
and liabilities at a higher figure. Some of the ways of creating secret reserves are:
94. by charging excessive depreciation
95. by under valuing stock in trade and general works
96. by creating excessive or unnecessary provision for bad bets and other
contingencies
97. by charging capital expenditure to Profit and Loss Account
98. by suppressing sales
99. by showing contingent liabilities a real liability
General reserve and special reserve
General reserve are those reserves which are not created for any specific purpose
and are not available for any future contingency or expansion of the business. These
are created to provide additional working capital and strengthening the financial
position of the concern.
Specific reserves are those reserves which are created for a specific purpose and
can be utilized only for that purpose. Dividend equalization reserve, debenture
redemption reserve are examples.

Features of receipts and payments account

1. It is real account
2. It is classified summary of cash book generally uniting cash and bank items
3. All receipts are debited and all payments are credited
4. It usually begins with opening balance of cash in hand at bank and ends with
closing balances of cash/bank
5. It does not disclose the working results
6. It includes all receipts and payments of capital and revenue nature
7. It records all receipts and payments relating to previous, current and
subsequent years.
Goodwill
Goodwill is the value of the reputation of a firm in respect of profits expected in
future over and above the normal rate of profit, It is the present value of firms
anticipated excess earnings. It is the extra value attaching to prosperous business
beyond the intrinsic worth of the net assets. It is an intangible asset. It is not visible
but subject to fluctuation. It is shown in Balance Sheet
Reserve Capital
It is that part of uncalled capital which has been reserved by the company to be
called only in the event of its winding up. It is kept to instill confidence in the
creditors of the company.
Over Subscription
When shares are issued by well managed and financially sound companies, they
often receive more number of applications than that they offer through prospectus
and intend to allot. This is known as over subscription. In such case, it becomes
necessary to refuse allotment to some applicants. When there is over subscription, a
company can follow any of the following alternatives:
100. accepting the required number of applications for the shares in full and totally
rejecting the remaining applications
101. making allotment to all applicants on some basis which is known as pro-rata
allotment
102. Totally rejecting some applications and making pro-rata allotment to the
remaining applicants.
Pro rata allotment: In this case, no application is fully accepted or fully rejected.
Each applicant gets allotment for certain number of shares on the basis of number of
shares applied for, number of shares that the company intends to allot and the total
number of applications received. This method is also known as proportionate or
partial allotment.
Minimum subscription: The minimum subscription is the minimum amount which,
in the opinion of the directors must be raised in cash by issue of shares. The amount
 must be sufficient to provide for
103. the purchase price of any property to be acquired
104. any preliminary expenses; including commission, payable by the
company
105. the repayment of any money borrowed for the above expenditure, and
106. working capital
No allotment shall be made of any shares of a company offered to the public unless
minimum subscription stated in the prospectus has been received. If the minimum
subscription is not received within 120 days after the date of the first issue of
prospectus, then, within next 10 days all application money received must be
refunded without interest.

Issue of shares at a premium

If a company issues its shares at a price higher than its face value, it is called issue of
shares at premium. The premium on issue of shares may be collected with
application money, allotment money or call money. The amount of share premium
should be credited by the company to a separate account called share premium
account, which may be applied for the following purposes:
107. for the issue of fully paid bonus shares
108. for providing premium payable on the redemption of redeemable
preference shares, and
109. for writing off preliminary expenses, expenses or commission paid or
discount allowed for any issue of shares of debentures of the
company.
Trading and Profit and Loss Account of Mr. ..
for the yeqar ended 31st March xxxxx
Particulars Amount Particulars Amount
(Rs) ( Rs)
To Opening Stock xxxxx By Sales xxxxx
Less Sales Returns or Returns
To Purchases xxxxx Inwards xxxxx xxxxxx
Less: Purchase Returns or By Closing Stock xxxxxx
Return Outwards xxxxx By Goods Lost by
Less: Drawings (if goods are Fire/Insurance Companys
used for personal Account (with the cost of
purposes) xxxxx xxxxxx the goods destroyed. If the
Insurance Co. admits only
part claim, the difference
To Direct Expenses: will be debited to Profit and
Carriage inward Loss Account as Loss by Fire
)
Wages xxxxx
Fuel and Power xxxxx
Manufacturing expenses xxxxx
By Gross Loss c/d
Coal, Water and Gas xxxxx
Motive Power xxxxx
Octroi xxxxx
Import Duty xxxxx
Customs Duty xxxxx
Consumable Stores xxxxx
 Salary of Foreman/Works xxxxx
Manager
Royalty on Manufactured xxxxx
Goods

xxxxx
To Gross Profit c/d

xxxxx

To Gross Loss b/d

By Gross Profit b/d

To Selling and Distribution
By Interest Received
Expenses:
By Discount
Advertisement
By Commission
Travelers Salaries,
Expenses and By Rent from Tenants
Commission By Income from Investments
Bad Debts By Apprenticeship Premium
Godown Rent By Interest on Debentures
Export Expenses By Income from any other
Carriage Outwards Source
Bank Charges
Agents Commission By Net Loss transferred to
Capital Account
Upkeep of Motor Lorries
To Management Expenses:
Rent, Rates and Taxes
Heating and Lighting
Office Salaries
Printing and Stationery
Postage and Telegrams
Telephone Charges
Legal Charges
Audit Fees
Insurance
General Expenses
To Depreciation and
Maintenance:
Depreciation
Repairs and Maintenance
To Financial Expenses:
Discount Allowed
Interest on Capital
Interest on Loans
Discount on Bills
To Extraordinary Expenses:
Loss by fire(not covered by
Insurance)
Cash defalcations
To Net Profit transferred to
Capital A/C

xxxxxxxxx xxxxxxxx
 Balance Sheet of Mr. . As own 31 st March xxxxxxx

Liabilities Rs. Assets Rs.

Current Liabilities Liquid Assets:
Bills Payable Cash In hand
Sundry Creditors Cash at Bank
Bank Overdraft Floating Assets:
Outstanding expenses Sundry Debtors
Income received in Advance Investments
Long term Liabilities Bills Receivable
Loan from Bank Stock in Trade
Debentures Prepaid Expenses
Outstanding or Accrued
Income
Fixed Assets:
Machinery
Building
Furniture and Fixtures
Fixed Liabilities Motor Car
Capital: Fictitious Assets:
Opening xxxx Advertisement
Add Net Profit xxxx Miscellaneous Expenses
Add Interest on capital xxxx Profit and Loss Account
Less Drawings xxxx Intangible Assets
Less Interest on Drawingsxxxx xxxxxx Goodwill
Patents
Copyright

Total Total
Adjustments
110. Closing Stock :
Closing stock will appear on the asset side of the Balance Sheet and it will be
shown on the credit side of the Trading Account.
Sometimes opening and closing stocks are adjusted through purchases
account. In this case, there will be no opening stock in the Trial Balance. Adjusted
purchases and closing stock (debit balance) will be given in the Trial Balance.
Adjusted purchases will be taken on the debit side of the Trading Account and Closing
Stock will be shown on the assets side of the Balance Sheet.
111. Outstanding Expenses: Those expenses which have been incurred and are
due for payment. i.e. not paid as yet are called outstanding expenses.
Outstanding Expenses will be shown on the debit side of the trading or profit
and loss account by way of addition to the expanses and the same will be shown on
the liabilities side of the Balance Sheet
112. Unexpired or Prepaid Expenses
Those expenses which have been paid in advance ie. Whose benefit will be available
in future are called unexpired or prepaid expenses.
Prepaid expenses will be shown in the profit and loss account by way of deduction
from the expenses and these will be shown on the assets side of the Balance sheet as
prepaid expenses
113. Accrued Income: That income which has been earned but not received
during the accounting year is called accrued income
It will be shown on the credit side of the Profit and Loss account by way of
addition to the income and it will be shown on the assets side of the Balance Sheet as
Accrued Income
114. Income Received in Advance: Income received but not earned during the
accounting year is called as income received in advance.
It will be shown on the credit side of profit and loss account by way of deduction from
income and it is shown on the liabilities side of the Balance Sheet as income received
in advance.
115. Depreciation: It is a reduction in the value of the fixed asset due to its use,
wear and tear or obsolescence.
Depreciation is shown on the debit side of Profit and Loss Account and it is shown as
deduction from the value of concerned assets.
116. Bad Debts: Debts which cannot be recovered or become irrecoverable are
called bad debts. It is a loss for the business
Bad debts will be shown on the debit side of Profit and Loss Account and shown on
the assets side of the Balance Sheet by way of deduction from Sundry Debtors
117. Interest on Capital:
Interest on capital will be shown on the debit side of Profit and Loss Account and it
will be shown on the liabilities side of the Balance Sheet by way of addition to the
capital.
118. Interest on Drawings: If interest on capital is allowed it is natural that
interest on drawings should be charged from the proprietor, as drawings reduce
capital.
Interest on drawings will be shown on the credit side of Profit and Loss Account and
shown on the liabilities side of the Balance Sheet by way of addition to the drawings
which are ultimately deducted from the Capital.
119. Provision for Doubtful Debts
Further bad debts shown in the adjustments (if any) will be first deducted from
debtors and then a fixed percentage will be applied on the remaining debtors left
after deducting further bad debts. If the amount of old provision for doubtful debts is
greater than the amount of bad debts, the unabsorbed balance is deducted from the
amount to be debited to Profit and loss account on account of new provision for
doubtful debts. Sometimes a large provision may have been created but actual bad
debts in the next year may be very small and further a small provision for bad debts
may be required for future. In such cases, the excess standing to the credit of
Provision for Doubtful Debts will have to be taken back to the credit of Profit and Loss
account to reduce the provision to the required level
Required Provision
Add Bad Debts
Less Existing Provision
The net amount will be debited to Profit and Loss Account
Existing Provision
Less Bad Debts
Less Required Provision
The net amount will be credited to Profit and Loss Account.
120. Provision for Discount on Debtors
It is made on debtors after deduction of further bad debts and provision for doubtful
debts because discount is allowable to debtors who intend to make the payment.
Profit and Loss Account Dr
To Provision for Discount on Debtors
Such provision will be shown on the debit side of the Profit and Loss Account and it
will be shown by way of deduction from Sundry Debtors (after deduction of further
bad debts and provision for doubtful debts) on the assets side of the Balance Sheet.
121. Reserve for Discount on Creditors:
It is shown on the credit side of Profit and Loss Account and Shown on the liabilities
side of the Balance Sheet by way of deduction from Sundry Creditors
122. Deferred Revenue Expenditure:
The expenditure done in the initial stage but the benefit of which will also be
available in subsequent years is called deferred revenue expenditure.
It is shown on the debit side of Profit and Loss Account and is shown on the assets
side by way of deduction from capitalised expense.
123. Loss of Stock by Fire
124. Reserve Fund
Reserve Fund is only out of Profit and Loss Account and thus is an appropriation of
net profit for strengthening the financial position of the business.
Profit and Loss Account Dr
To Reserve Fund
It is shown on the debit side of the Profit and Loss Account along with net profit in the
inner column and is shown on the liabilities side of the Balance Sheet. If reserve fund
is already there, it will be shown by addition to the existing reserve fund on the
liabilities side of the Balance Sheet.
125. Goods Distributed as Free Samples
 Advertisement A/C Dr
To Trading or Purchases A/C
It is shown on the credit side of the Trading Account or deducted from the purchases
and is also shown on the debit side of the Profit and Loss Account as advertisement
expenses
126. Managers Commission
Profit and Loss Account Dr
To Commission Payable Account
If commission is payable to the manager on the net profit after charging such
commission
% of Commission
x ResidualProfit
Payable
Commission
100 Rateof Commision
Such commission will be shown on the debit side of the Profit and Loss Account and is
shown on the liabilities side of the Balance Sheet as commission payable.
127. Goods on Sale or approval Basis
It will be shown on the credit side of the trading account by way of deduction from
the sales at sale price and added to the closing stock at cost price, and is shown on
the Assets side of the Balance sheet as a deduction from sundry debtors (sales price)
and added to stock at cost on the Assets.
128. Hidden Adjustments:
There are certain items given in the trial balance and require adjustments though
specifically no adjustment is given relating to such items. Eg. In the Trial Balance,
the following balances are given
Dr Cr
6 % Loan on (1.4.2002) 10,000
Interest on Loan (paid during the year) 200
Actually Rs. 600 interest on loan should have been paid but only Rs. 200 have been
paid and the rest Rs. 400 is yet payable and outstanding., In order to bring this into
account, the following entry will be passed:
Interest on Loan A/C Dr 400
To Loan Account 400
The effect of this entry will be that outstanding interest on loan will be shown on the
debit side of the Profit and Loss Account by way of addition to the interest on loan
and is shown on the liabilities side of the B/S
Bills of Exchange
A bill of exchange has been defined by Section 5 of The Indian Negotiable
Instruments Act 1881 as an instrument in writing containing an unconditional order
signed by the maker directing a certain person to pay a certain sum of money only to
or to the order of a certain person or to the bearer of the instrument. Features of
bills of exchange are:
129. It is an instrument in writing
130. It contains an unconditional order
131. The order must be to pay money only
132. The sum payable must be specific
133. The money must be payable to a definite person or to his order
to the bearer
134. The amount must be paid within a stipulated date or on
demand
135. It must be signed by the maker or drawer
136. The name of the drawee must be clearly mentioned in the
document
137. It must be dated and stamped
Accommodation Bill
Usually a bill of exchange is drawn to settle a trade debt owing to the drawer by the
drawee because the last words in the body of a bill of exchange are for value
received Such types of bills are known as trade bills because these are drawn to
settle trade debts. But sometimes, a bill of exchange can be accepted without
consideration just to oblige friend who is temporarily in need of money. Such a bill is
discounted at the bank and cash is utilized by the friend in need of money for the
period of the bill and he will give the amount to the acceptor on the due date to
enable him to meet the bill on the due date. Such a bill is accommodation bill. An
accommodation bill is defined as as a bill which is drawn, accepted or endorsed
without consideration but simply to oblige and help to raise money by discounting or
negotiating it. Such bills are also known as kite bills.
Parties to a bill of exchange:
a. Drawer: A person who draws or makes a bill is called the drawer. He is the
person to whom the benefit of the bill if due ie. The seller or creditor.
b. Drawee: The person on whom the bill is drawn is the drawee. He is the
person who is liable to pay the amount in the bill. Drawees acceptance to
the draft bill converts it to a valid bill of exchange
c. Payee: The drawer himself or a third person who is to receive the amount of
the bill is called the payee.
Promissory Note: An instrument in writing containing an unconditional undertaking,
signed by the maker, to pay a certain sum of money only to, or to the order of a
certain person, or to the bearer of the instrument.
Difference between bill of exchange and promissory note
138. content: Bill of exchange contain an unconditional order where as a
promissory note contains an unconditional promise
139. Parties: There are three parties to a bill of exchange viz. drawer,
drawee and payee. But there are only two parties to a promissory note viz
maker and payee
140. Acceptance: Acceptance of the drawee is essential to convert a draft
 bill to a bill of exchange. But no separate acceptance is necessary in a
promissory note
141. Maker: A bill of exchange is made by the creditor on the debtor. But a
promissory note is prepared by the debtor in favour of his creditor.

Types of bills of exchange:

142. Inland bills: Bills drawn and payable within the geographical territory of
India as well as bills drawn upon a person residing in India are called Inland
Bills

143. Foreign Bills: A foreign bill is one which is drawn and made payable in a
foreign country or drawn on a person who is residing in a foreign country., A
foreign bill is usually drawn in sets of three., each of which is called a via
when one of them is honoured the others become treated as cancelled.

144. Accommodation Bills: An accommodation bill is not a genuine bill. It is

drawn and accepted for the purpose of providing funds by discounting the
bill., Such bills are also called fictitious bills or kite

145. Documentary and clean bills: If documentary evidence of the amount

in the bill is attached with the bill it is called documentary bill. Documents
such as bill of lading, railway receipt, invoice etc., are necessary to take
delivery of the goods. A bill which does not carry any documentary evidence
on the amount in the bill is called a clean bill

146. Demand bills: These are bills payable on demand, ie. On presentation
of the bill to the drawee. Such bills are drawn payable on demand or at
sight

147. Time bills: Time bills are drawn payable on the expiry of a specified
period, say three months.

The date on which a bills falls due for payment or the date on which the term of the
bill expires is called maturity date or due date of the bill. In calculating the due
date of a time bill, it is customary to add three days to the stated time of the bill.
These additional three day s are called days of grace

Retiring of a bill under rebate: In certain cases the acceptor of the bill may have
sufficient funds to pay the amount of the bill before its maturity date. In such cases
the acceptor with the consent of the holder makes payment of the bill, usually at a
rebate. Such premature discharge of bill is called retiring of a bill Rebate on bill is
an income to the drawee and expense to the holder.

Noting and protesting: When a bill is dishonoured, the holder can get it noted buy the
Notary Public who is a person appointed by the court. The Notary Public, on receipt
of the dishonoured bill, presents it again to the acceptor to confirm the dishonour. He
makes an official entry of dishonour in the bill and in his register. It is called noting.
A formal certificate of dishonour issued by the Notary Public to the holder is called
protest. Fees charged by the Notary Public fort his service is called Noting
Charges. Noting is compulsory in the case of foreign bills but is optional for Inland
bills.
 A balance sheet is defined as a statement summarizing the financial position of a
business on a given date.
Arrangement of assets:
Liquidity Permanence
Cash in Hand Goodwill
Cash at bank Patents
Government securities Machinery
Sundry Debtors Furniture
Stock of finished goods prepaid expenses
Stock of raw materials Stock of partly finished goods
Stock of partly finished goods Stock of raw materials
Prepaid expenses Stock of finished goods
Furniture Sundry Debtors
Machinery Government securities
Patents Cash at Bank
Goodwill Cash in hand

Gross profit= Sales Cost of goods sold

Cost of goods sold = Sales Gross profit
Or
Opening stock + Purchases + Direct expenses closing stock= Cost of goods
sold
Sales = Cost of goods sold + Gross profit

Assets Liabilities = Capital

Methods of providing depreciation

1. Fixed Installment or fixed percentage on original cost or straight line

method.
Under this method a fixed percentage of the original value of the asset is written off
every year so as to reduce the asset account to nil or to the scrap value of at the end
of the estimated life of the asset. The amount of depreciation charged during the life
of asset is constant. This method is useful for assets of lesser value such as
furniture, short lease, patents etc.
OriginalCost- EstimatedScrapValue
on
Depreciati
Estimated life of the Asset
2. Diminishing balance or reducing installment or written down value
method:

Under this method, depreciation is calculated at a certain percentage each year on

the balance of the asset which is brought forward from the previous year. The
amount of depreciation charged in each period is not fixed but it goes on decreasing
year after year. This method is useful to the assets with more value and longer life
such as building, machinery etc.
3. Annunity method
Under this method the purchase of an asset is regarded as an interest bearing
investment. Every year interest at a specified rate is added to the book value of the
assets. Interest is calculated to the opening balance of the asset. The amount to be
written off as depreciation is calculated from the annuity table and credited to the
asset account. The amount of depreciation will be constant.
4. Depreciation fund method
Under this method, the amount written off as depreciation should be kept aside and
invested in readily saleable securities. The securities accumulates and when the life
of the asset expires, the securities are sold and with the sale proceeds a new asset is
purchased. The amount to be invested every year depends on the rate of interest
which is easily calculated from sinking fund tables. Under this method the asset
account is kept in the books at its original cost throughout at its life.
5. Depletion method:
This method is used in case of mines, quarries etc from which certain quantity of
output is expected to be obtained. The value of the mines depends only upon
quantity of minerals that can be obtained when the whole quantity is taken, the
mines losses its value. The rate of depreciation, is obtained by dividing the cost of
the mines by the total quantity of minerals expected to be available.
6. Insurance policy method
This method is similar to depreciation fund method but instead of making
investment, arrangements are made with an insurance company which will receive
premium annually and pay at the end of the fixed period the required amount.
Premiums have to be paid at the beginning of each year.
Other methods of providing depreciation are (a) revaluation method (b) Depletion
method (c) Machine hour rate method (d) Sums of years digits methods.
Minimum subscription : The minimum subscription is the minimum amount which,
in the opinion of the directors of the company must be raised in cash by issue of
shares. The amount must be sufficient to provide for (i) the purchase price of any
property to be acquired (ii) any preliminary expenses, including commission, payable
 by the company. (iii) the repayment of any money borrowed for the above
expenditure and (iv) working capital. No allotment shall be made of any shares of a
company offered to the public unless the minimum subscription stated in the
prospectus has been received. If the minimum subscription is not received within
120 days after the date of the first issue of prospectus, then, within next 10 days all
application money received must be refunded without interest.
Issue of shares at a premium: If a company issues its shares at a price higher
than its face value, it is called issue of shares at premium. The premium on issue of
shares may be collected with application money, allotment money or call money .
The amount of share premium should be credited by the company to a separate
account called share premium account, which may be applied for the following
purposes:
148. for the issue of fully paid bonus shares.
149. for providing premium payable on the redemption of preference shares
or debentures
150. for writing off preliminary expenses, or commission paid or discount
allowed on issue of shares or debentures of the company.
Forfeiture of shares: Forfeiture of shares means cancellation of shares. If a
shareholder failed to pay the allotment or call money, the directors have the power to
forfeit the shares issued to the shareholder. The shareholder whose shares are
forfeited ceases to be a member of the company. The amount already paid by him
lapses and becomes the property of the company.
Difference between cost accounting and financial accounting.

The following are the important points of differences between cost accounting and
financial accounting.
Sl No
Financial accounting Cost accounting
1. Covers the accounts of the whole business Covers only the transactions relating to
relating to all commercial transactions manufacturing and sale of products and services.
2. Aims at ascertaining profitability of the Aims at guiding the management for proper
undertaking, safeguards the interest of planning, control and decision making.
proprietors and provides information to the
external users.
3. Records transactions according to the Records transactions according to the purpose for
nature of expenditure which they are incurred.
4. Costs are not classified as controllable and Costs are classified as controllable and non
non-controllable or fixed and variable. controllable, fixed and variable, direct and indirect
etc.
5. Fails to guide the management in framing Provides cost details for fixing prices to the
price policy products and services
6. Stock is valued at cost price or market Stock is valued at cost.
price whichever is lower
7. Financial accounting is quite independent Cost accounting is not independent. It depends on
of cost accounting financial accounting

Fixed cost and variable cost:

Fixed costs are those costs which do not change with change in the volume or
level of activity within the limits of plant capacity. Fixed cost remains to be the
same in total irrespective of the level of activity. Fixed costs are also known as
period cost or stable cost. Egs of fixed costs: (I) rent of business premises (ii)
insurance charges (iii) salary of executives etc
 Variable cost is one which tends to vary directly with variation in the volume of
output. It varies in direct proportion to the volume of production. Variable cost
per unit remains the same at all level of activity. Eg cost of direct materials, direct
labour, other variable expenses.
Prime cost: It is the total cost of direct materials, direct labour and direct expenses.
It is the cost of resources that are basic for bringing out the final output. It is also
known as basic cost.
Marginal costing: The institute of Cost and management accountants, England, has
defined marginal costing as the ascertainment of marginal cost and of the effect on
profits of changes in volume or type of output by differentiating between fixed cost
and variable cost. In this technique of costing, only variable costs are charged to
operation, process or products , leaving all fixed costs to be written off against profits
in the period in which they arise.
Marginal cost: Marginal cost is the cost of producing one additional unit of output.
It is the amount by which total cost increases when one extra unit is produced or the
amount of cost which can be avoided by producing one unit less. Often marginal
cost, variable cost and product costs are used to mean the same.
Features of marginal costing.

It is only a technique of analysis and presentation of costs which help

management in taking decisions.
Elements of costs are divided on the basis of variability
Variable costs are charged to products
Fixed costs are treated as period costs and are charged to profit and loss account.
Prices are determined on the basis of marginal cost only by adding contributions
which is the excess of sales over marginal cost.
The selling price per unit remains unchanged at all level of activity.
Volume of production is the only factor which influences the cost.
Contribution : Contribution is the differences between sales and marginal cost of
sales. It is the total of fixed cost and profit Contribution is also known as
Contribution margin or Gross margin. In marginal costing contribution is the basis
of decision making.
Contribution =Sales Variable cost or
C= F+P (fixed cost + Profit),
Marginal cost equation is sales variable cost = Contribution or
Sales = Variable cost + contribution

Profit/Volume ratio (P/V ratio)

It is also known as contribution to sales ratio or marginal income ratio. Profit volume
ratio is the ratio of contribution to sales of a concern. It is usually expressed in
percentage. It is the basic ratio for managerial decision. A high P/V ratio represent
high profitability and a low P/V ratio shows low profitability.
C
P/V ratio = S
 C
x100
When expressed in percentage, P/V ratio = S
Break even point: The BEP may be defined as that point of sales volume at which
total revenue is equal to total cost. It is a point of no profit no loss. A business is said
to be break even when its total sales are equal to its total costs. At this point,
contribution equals the fixed cost and hence, this point is also called as Critical
point or Equilibrium point or balancing point or No profit no loss point. If sales is
increased beyond this level, there shall be profit and if it is decreased from this level,
there shall be loss to the organisation.
FixedCost
BEP (in units ) = Salesper unit - VariableCostper unit

FC x Salepriceper unit FC
Break even sales = Salespriceper unit VariableCostper unit or P/V ratio.

Margin of safety: Margin of safety is the excess of sales over break even sales. It is
the margin or range at which the concern is safe from the point of view of profit. The
higher the margin of safety, the more is the profitability of the concern. A low
margin indicates low profitability.
M/S= Sales-Break even sales

Profit
or P/V ratio.
Marginof Safety
Margin of safety ratio= Sales x 100 .

Managerial application of marginal costing

The technique of marginal costing is a very valuable aid to management in taking
many managerial decisions. Marginal costing helps management in decision making
in respect of the following crucial managerial problems.
1. Pricing decisions
2. Make or buy decisions
3. Selection of suitable sales mix.
4. Problem of key or limiting factor
5. Profit planning
6. Effect of change in sales price
7. Alternative methods of production
8. Determining optimum level of activity.

Machine Hour Rate (MHR)

MHR is computed for the recovery of factory overhead in those industries where
machines are employed for most of the manufacturing operations. The formulae for
computation of MHR is
Factoryoverhead
MHR = Machinehours .

Principle factors to be considered while calculating MHR

151. Identitfy the machine for which the MHR is to be calculated.
152. A base period must be decided for the machine identified for computing the
 rate.
153. Normal working hours for the base period for the machine is to be calculated.
While calculating the normal working hours, the hours required for maintenance,
annual repairs etc must be deducted.
154. All expenses must be divided into fixed charges and variable expenses. The
standing charges are rent and rates, lighting, and heating, supervision charges,
managers salary, insurance etc. Variable expenses are depreciation, repairs and
maintenance, steam, water, power, miscellaneous expenses.