Financial Accounting Chapter 06 – Finalisation Entries

Finalisation Entries

06.01. Opening Entries:

The opening entry is an item which is passed in the Journal proper or General Ledger.
The purpose of passing this entry is to record the opening balances of the accounts
transferred from the previous year to the new year. The accounts which are
appearing on the assets side of balance sheet are debited in the opening entry while
which accounts are appearing in the liabilities side are credited.

At the end of each accounting period, the books of accounts need to be closed for
preparation of final accounts. Also, in the beginning of the new accounting period,
new books of accounts are to be opened. For this purpose, opening and closing
entries need to be passed. These entries are passed in journal proper.

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06.02. Closing Entries

All the expenses and gains or income related nominal accounts must be closed at the
end of the year. In order to close them, they are transferred to either Trading A/c or
Profit and Loss A/c. Journal entries required for transferring them to such account is
called a ‘closing entry’.

The Closing Entries are passed on the basis of trial balance for transferring the
balances to Trading and profit and loss A/c. These entries are mainly for:

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Pass closing entries for the following particulars as on 31st March 2013 presented by
X Ltd.

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06.03. Transfer Entries:

When it is necessary for an amount or balance of one account to be transferred to

some other account, it is done by means of a transfer journal entry in the Journal
Proper.

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06.04. Rectification Entries:

These entries are passed when errors or mistakes are discovered in accounting
records. These entries are also known as Correction Entries. These entries are also
passed in Journal Proper.

Kinds of Errors
Keeping in view the nature of errors, all the errors committed in the accounting
process can be classified into two.
(i) Errors of Principle and
(ii) Clerical Errors

06.04.01 Errors of Principle

Transactions are recorded as per generally accepted accounting principles. If any of

these principles is violated or ignored, errors resulting from such violation are known
as errors of principle.
For example, Purchase of assets recorded in the purchases book. It is an error of
principle, because the purchases book is meant for recording credit purchases of
goods meant for resale and not fixed assets. A trial balance will not disclose errors of
principle.

06.04.02. Clerical Errors

These errors arise because of mistakes committed in the ordinary course of

accounting work. These can be further classified into three types as follows.

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06.04.02.(a) Errors of Omission - This error arises when a transaction is

completely or partially omitted to be recorded in the books of accounts. Errors of
omission may be classified as below.

i. Error of Complete Omission: This error arises when a transaction is totally omitted
to be recorded in the books of accounts. For example, Goods purchased from Ram
completely omitted to be recorded. This error does not affect the trial balance.

ii. Error of Partial Omission: This error arises when only one aspect of the
transaction either debit or credit is recorded. For example, a credit sale of goods to
Siva recorded in sales book but omitted to be posted in Siva’s account. This error
affects the trial balance.

06.04.02. (b) Errors of Commission - This error arises due to wrong recording,
wrong posting, wrong casting, wrong balancing, wrong carrying forward etc. Errors of
commission may be classified as follows:

i. Error of Recording: This error arises when a transaction is wrongly recorded in the
books of original entry. For example, Goods of Rs.5,000, purchased on credit from
Viji, is recorded in the book for Rs.5,500. This error does not affect the trial balance.

ii. Error of Posting: This error arises when information recorded in the books of
original entry are wrongly entered in the ledger. Error of posting may be
(1) Right amount in the right side of wrong account.
(2) Right amount in the wrong side of correct account
(3) Wrong amount in the right side of correct account
(4) Wrong amount in the wrong side of correct account
(5) Wrong amount in the wrong side of wrong account
(6) Wrong amount in the right side of wrong account, etc.
This error may or may not affect the trial balance.

iii. Error of Casting (Totalling): This error arises when a mistake is committed while
totalling the subsidiary book. For example, instead of Rs.12,000 it may be wrongly
totalled as Rs.13,000. This is called overcasting. If it is wrongly totalled as Rs.11,000,
it is called undercasting.

iv. Error of Carrying Forward: This error arises when a mistake is committed in
carrying forward a total of one page to the next page. For example, Total of purchase
book in page 282 of the ledger Rs.10,686, while carrying forward the balance to the
next page it was recorded as Rs.10,866.

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06.04.02. (c) Compensating Errors:

The errors arising from excess debits or under debits of accounts being neutralised
by the excess credits or under credits to the same extent of some other account is
compensating error. Since the errors in one direction are compensated by errors in
another direction, arithmetical accuracy of the trial balance is not at all affected
inspite of such errors.
For example, If the purchases book and sales book are both overcast (excess
totalling) by Rs.10,000, the errors mutually compensate each other. This error will
not affect the agreement of trial balance.

Errors disclosed and not disclosed by trial balance

If the impact of the errors on trial balance is considered, errors may be classified into
two categories – Errors disclosed by trial balance, and Errors not disclosed by trial
balance.

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Errors classified based on agreement of trial balance

06.05. Rectification of Errors:

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06.05.A. Before Preparation of Trail Balance

If errors are detected before the preparation of Trail Balance, the effect of each error
should be known.
The errors are of two types: viz
(a) Double Sided Error; (b) Single Sided Error

(a) Double Sided Error:

The following principles should be followed for the purpose.
(i) What was the correct entry?
(ii) What entry had been done?
(iii) Rectifying entry.

(b) Single Sided Error

Under the circumstances, no separate entry is required but the affected account
should be rectified by appropriate posting.

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06.05.B. After Preparation of Trail Balance

If the errors are detected after the preparations of trial balance, the following
procedure should be followed:
(a) Double Sided Errors; and (b) Single Sided Errors.

(a) Double Sided Errors:

- Same as method (a) above i.e., before preparation of Trial Balance.

(b) Single Sided Errors:

- In case of Single side errors, relevant account to be rectified by applying Suspense
Account.

Suspense Account
If the Trial Balance does not agree we cannot prepare final accounts. In order to
prepare final account, the difference so appeared in trial balance is to be passed
through Suspense Account. When the errors will be located and rectified suspense
account will automatically be Nil or closed.
The suspense account will appear in the Balance Sheet. When it appears in the debit
side of trial balance, the same will appear in the assets side of the Balance Sheet and
vice-versa.

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06.05.C. After Preparation of Final Accounts

If the errors are detected after the preparation of final accounts the following steps
should carefully be followed.

(a) For Double Sided Errors

(i) Same as (A) before preparation of Trial Balance or (B) after preparation of Trail
Balance. But all the nominal accounts are to be replaced by Profit and Loss
Adjustment Account. And the rest one will be same as (A) or (B) stated earlier.
(ii) Suspense Account will be carried forward to the next year; and
(iii) Real and Personal Accounts are to be carried forward to the next year.

(b) for Single Sided Errors:

Same principle is to be followed like (B) after preparation of Trial Balance and all the
nominal account are to be preplaced by Profit and Loss Adjustment Account.

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Illustration 01. Rectify the following errors assuming that the errors were detected
(a) Before the Preparation of Trial Balance; (b) After the preparation of Trial Balance
and (c) After the preparation of Final Accounts.
(i) Purchase Plant for Rs.10,000 wrongly passed through Purchase Account.
(ii) Sales Day Book was cast short by Rs.1,000.
(iii) Cash paid to Mr. X for Rs.1,000 was posted to his account as Rs.100.
(iv) Purchase goods from Mr. T for Rs.3,500 was entered in the Purchase Day
Book as Rs.500.
(v) Paid salary for Rs.3,000 wrongly passed through wages account.

Illustration 02. The books of accounts of A Co. Ltd. for the year ending 31.3.2013
were closed with a difference in books carried forward. The following errors were
detected subsequently:
(a) Return outward book was under cast by Rs.100.
(b) Rs.1,500 being the total of discount column on the credit side of the cash book
was not posted.
(c) Rs.6,000 being the cost of purchase of office furniture was debited to
Purchase A/c.
(d) A credit sale of Rs.760 was wrongly posted as Rs.670 to the customers A/c. in
the sales ledger.
(e) The Sales A/c. was under casted by Rs.10,000 being the carry over mistakes in
the sales day book.
(f) Closing stock was over casted by Rs.10,000 being casting error in the schedule
or inventory.
Pass rectification entries in the next year. Prepare suspense account and state effect
of the errors in determination of net profit of last year.

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