Professional Documents
Culture Documents
Final
Meaning
Occurring at or forming an end or termination
Conclusive in a process or progression
Synonyms
last, concluding, finishing, closing, ending
» Final Accounts/Accounting
In its simplest sense, final accounts/accounting should be understood as the accounting activity that is
carried on generally towards the end of a period called accounting period.
The place where the information relating to an element is collected/available is a Ledger. Each
accounting element has a specific identity in the ledger and is known as a ledger account.
Every Ledger posting should have a journal support i.e.
the information flows into the ledger from/through a
journal. There is no ledger without a journal.
Recording the accounting transactions into the journal
and posting them into the ledger form the core tasks
carried on regularly in relation to the accounting
process. However these are not the only tasks that exist
in relation to an accounting system/process.
Tasks Involved in the accounting process
f
Including the tasks of recording the transactions and i
n
posting them into the ledger, these are the tasks that a
l
we generally come across and assume to be the tasks ,
involved in accounting. a
c
c
• Creating a Proof of the Transaction o
Whenever a transaction takes place in an organisation, more so, in the case of transactions u
relevant to accounting, a proof is created in the form of either a voucher or a receipt or an n
invoice or any other document that gives the details relating to the transaction. t
s
Strictly speaking, this task is not a part of the ,
accounting process. It is only a task which would f
i
enable the accomplishment of the accounting process n
a
or tasks. n
• Actual Accounting Tasks c
i
» Recording a
The first accounting task is "Preparing the Journal based on the proof of the transaction". This is l
called Recording the transaction. ,
» Posting a
The second accounting task is "Preparing the Ledger based on the information in the Journal". c
This is called Posting the Journal Entry into the Ledger. c
o
» Preparing a Trial Balance u
Preparing a trial balance is one other task that we come across in accounting. A trial balance is a n
statement of ledger account balances as at a particular instance. It can be prepared at any t
instance as and when needed. It is a statement and not a ledger account. i
• Purpose!! n
A Trial Balance is prepared to check the mathematical/arithmetic accuracy of accounting. This is g
the main and most important purpose of preparation of the Trial Balance and nothing else. ,
t
However, since it is anyhow prepared for an important r
purpose, it is used for other purposes wherever a
d
possible. Just because it is being used for other i
n
purposes (like in the preparation of final accounts), we g
cannot say that the trial balance is prepared for those ,
p
other purposes. r
o
• Trial Balance » Not a part of the actual Accounting Process!! f
True, the trial balance enables the organisation to ensure the mathematical/arithmetic accuracy
i
of accounting. However, preparation of a Trial Balance is not a necessity, unlike the Journal and
t
the Ledger.
,
The Ledger gives the information that we need and we l
o
cannot prepare a ledger without a journal (No Journal s
No Ledger). But, we can think of the existence of the s
,
accounting system and process without the trial a
c
c
balance.
f
Apart from the information relating to the various elements (ledger accounts) that an i
organisation collects, there is other information that is needed by the organisation. In general, in n
accounting we can identify two important pieces of information that the organisation needs. a
l
,
The ledger accounts collect information relating to a
each element. All the elements (account heads) are c
c
classified into three types. Personal accounts (relating o
u
to persons and organisations), Real accounts (relating n
to tangible aspects) and Nominal accounts (relating to t
s
incomes/gains and expenses/losses). ,
f
• Profits made by the organisation i
As and when an element is effected by a transaction, the ledger account is posted to with the n
information. This keeps on happening continuously. The information thus collected in the form of a
ledger accounts does not say anything about the profits made by the organisation. n
The organisation periodically would be interested in c
i
knowing the amount of profit that it has made over the a
period. l
,
» Involvement of a Period a
When it comes to thinking about profits there is a period involved in the thought. We think of c
profits made over a period and not at a particular instance. c
o
For example, We think of Profits made u
From 1st April to 31st April or n
During April or t
During the 6 months ending 30th June i
For the year from 1st April, 2005 to 31st March 2006. n
• Position of the Organisation g
The ledger accounts are periodically balanced to obtain the balances in the accounts. ,
t
The act of balancing is done at such periods as is r
needed by the organisation. For example, where the a
d
organisation needs the information relating to cash i
n
balance daily, therefore Cash a/c is balanced daily. g
» Assets and Liabilities indicate a persons Position ,
What is it that comes to our mind when we think of a persons position? It is the value of his/her p
property and the liabilities he/she has. r
o
Even in accounting, in trying to ascertain the position f
of a business entity, this is what we think of. The i
t
position of a business is indicated by the value of its ,
l
assets and liabilities. o
s
The organisation at times would be interested in
knowing its position as at a particular point of time.
» Position at an instance
When it comes to thinking about the position there is an instance involved in the thought. We think
of the position as at a point of time and not a period.
For example, We think of the position
As on 24th June or
As at the end of a period i.e. on the last day of the period
• Assets
Real accounts and Personal accounts are capable of being called assets. Any element (account) that
is capable of being liquidated (that is capable of being converted to cash by giving it away)
indicates an asset. Machinery, Furniture, Cash, etc are real accounts that can be called assets.
» Debtors represent Assets
Debtors represent the persons and organisation who owe to the organisation. They would clear
their dues by paying out either in cash or in some other form. Thus Debtors get liquidated and as
such can be called assets.
• Liabilities
All elements representing liabilities are Personal accounts. An element that is capable of being
cleared by paying out indicates a liability.
» Creditors represent Liabilities
Creditors represent the persons and organisation to whom the organisation owes. The organisation
would clear its due by paying them either in cash or in some other form. Thus creditors are cleared
by paying out and as such can be called liabilities.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
The "Trading and Profit & Loss a/c" is a ledger account. Like all ledger accounts, the postings in this
ledger account also flow from the journal. "No Journal No Ledger".
• Transactions making up the Trading and Profit & Loss a/c
The transactions relating to the journal entries that would go into the "Trading and Profit & Loss
a/c" are not ones that are take place in the ordinary course of business. These are transactions that
are specifically meant to create this "Trading and Profit & Loss a/c".
Consider the above formula for ascertaining the profit or loss,
Profit = Sum of balances in Nominal accounts with a Credit Balance
− Sum of balances in Nominal accounts with a Debit Balance .
» For Ascertaining the sum of balances in Nominal Accounts with a
Debit Balance
This is done by transferring the balances in the nominal accounts with a debit balance, to an
account by name "Trading and Profit & Loss a/c".
Journal in the books of M/s __ for the period from ____ to _____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Journal in the books of M/s __ for the period from ____ to _____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
31/03/0
To Bal (Profit) – 2,56,000
6
Thus the "Trading and Profit & Loss a/c", is nothing but a consolidated account formed by
transferring the balances in the nominal accounts.
Any Ledger account prepared to ascertain the profits or losses out of a set of
transactions is a nominal account. Thus, "Trading and Profit & Loss a/c" is a
nominal account.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Accounting period is the period for which we wish to ascertain the profits or losses. The "Trading
and Profit & Loss a/c" is prepared at the end of the accounting period.
Say if the accounting period is a year from 1st April 2005 to 31st March 2006, the journal entry for
transferring the amounts to the "Trading and Profit & Loss a/c" is recorded at the end of the
accounting period i.e. on 31st March 2006.
To ascertain the profits, we transfer the balances in the Nominal accounts (with debit balances as
well as credit balances) to the "Trading and Profit & Loss a/c", thus creating that ledger account.
• Nil Balance
When the total balance in a nominal account is transferred to the "Trading and Profit & Loss a/c",
its balance becomes Nil.
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
01/04/0
5
To Cash a/c – 8,000
01/05/0
To Cash a/c – 8,000
5
.. – ..
..
.. – ..
..
To Cash a/c – 8,000
01/03/0
6
All the nominal accounts are closed at the end of the accounting period by
transfer to the "Trading and Profit and Loss Account.
All the nominal accounts are opened anew at the beginning of the accounting
period.
Illustration » Problem
To get an understanding and feel of the process of final accounting, let us go through an example of
an organisations accounting consisting of a few transactions during an accounting period.
Following are the transactions relating to M/s Trinity Foods, over an accounting period from 1st
June 2005 to 30th June 2006.
Started business with Capital Rs. 1,00,000
Paid into Bank Rs. 10,000
Bought Furniture and paid cash Rs. 25,000
Bought goods for cash Rs. 50,000
Bought goods from Ram on Credit Rs. 15,000
Sold a part of the goods for Rs. 75,000 and paid the proceeds into bank directly
Sold the remaining goods on credit for Rs. 50,000 to Rahim
Paid Salaries and Wages Rs. 5,000
Paid rent by cheque Rs. 8,000
Journal in the books of M/s Trinity Foods for the period from 1st June 2005
to 30th June 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Dr Cash a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
By Balance c/d
Dr Capital a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Bank a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Furniture a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Purchases a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Ram a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Rahim a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The trial balance is nothing but a statement of ledger account balances as on a particular instance.
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
— 50,
00
—0
5,0
— 00
8,0
00
2,4
Total 0,0 2,40,000
00
Journal in the books of M/s Trinity Foods for the period from 1st June 2005
to 30th June 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
30/06/0
To Bal (Profit) – 47,000
5
Since the credit side total is greater, the account has a credit balance. Since a credit balance in a
nominal account indicates a gain, we can say that there is a profit.
» Other Ledger Accounts Affected Hide/Show
Dr Purchases a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Sales a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The balance in these nominal accounts becomes zero after the balances are transferred to the
"Trading and Profit & Loss a/c". Thus, nominal accounts are closed at the end of the accounting
period by transfer to the "Trading and Profit & Loss a/c".
In the subsequent accounting period, if the same nominal account heads are used, they are opened
anew. Thus these accounts pertaining to the current accounting period are independent of the
nominal accounts with the same name in any other accounting period.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Trial Balance
Redrawn/Remade
The trial balance is a list of ledger account balances at an instance when it is drawn. If we consider
the instance after having prepared the "Trading and Profit & Loss a/c", we do not find a balance in
any nominal account. All the nominal accounts are closed by transfer to the "Trading and Profit &
Loss a/c", thereby leaving a nil balance in all of them.
The "Trading and Profit & Loss a/c" is also a nominal account and has a credit balance if there is a
profit and a debit balance if there is a loss. If we make a trial balance after having prepared the
"Trading and Profit & Loss a/c" we will find only real and personal accounts in it apart from the
nominal account "Trading and Profit & Loss a/c".
Trial Balance of M/s Trinity Foods" as on 30th June 2005
[After closing Nominal accounts]
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
1,6
Total 2,0 1,62,000
00
What is it that comes to our mind when we think of a person's position? It is the value of his/her
property and the liabilities he/she has.
Even in accounting, in trying to ascertain the position of a business entity, this is what we think of.
The position of an organisation is indicated by the value of the assets and liabilities held by the
organisation.
The information relating to the assets and liabilities of an organisation is available in the Real and
Personal Accounts.
» Real Accounts
Real accounts are related to tangible aspects. In general we can identify that all asset accounts are
real accounts.
» Personal Accounts
Personal accounts are related to persons and organisations. These are persons/organisation which
owe the organisation or to whom the organisation owes. In effect they either form creditors
(liabilities) or debtors (assets).
Since all the nominal accounts have been dealt with in deriving the information relating to profits
and we are left with only the real and personal accounts which represent either assets or liabilities
we can conclude that all the real and personal accounts together give us the information relating to
the position of the organisation.
• Where to obtain the information relating to assets and liabilities
The value of the assets and liabilities of an organisation is revealed by the balances in the real and
personal accounts.
Therefore, if we need the information relating to the assets and liabilities, we just need to collect
the ledger account balances relating to real and personal accounts in the books of accounts.
» Utility of Trial Balance
The Trial balance is a statement that gives the ledger account balances as at a particular point of
time. Therefore, we can find the balances in those accounts which are capable of being identified as
assets and liabilities from the trial balance.
Thus, if there is a Trial Balance, it would provide the information relating to the assets and liabilities
as on the date of the trial balance ready hand.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
The organisation may need this information at many points of time during the course of the conduct
of the business.
Theoretically, the information may be derived as and when needed by collecting the ledger account
balances relating to the real and personal accounts, but is conventionally derived at a point which
indicates the end of the accounting period (i.e. the period for which the profits are ascertained).
Say if the organisation ascertains the profits made for the period from 1st April 2005 to 31st March
2006, it would ascertain the position as on 31st March 2006.
The ending day for an accounting period would be the beginning day for the subsequent accounting
period and as such the information relating to the position of the organisation as on the last day of
a particular accounting period would be the information relating to its position as on the first day of
the subsequent accounting period. Thus we can say that the information relating to position is
derived in relation to the opening and closing days of the accounting periods.
Practically, in deriving the information relating to the correct position of the organisation, there are
a number of aspects to be taken care of. It is not as simple as collecting the ledger account balances
of the real and personal accounts as and when we intend to ascertain the position.
For example, the information relating to profits is also necessary to arrive at the position of an
organisation. We know that profits increase capital and loss decreases capital. Capital is a liability.
Therefore, the balance in capital account cannot be used to reflect the correct position of the
business unless the profits or losses (up to that point of time) are adjusted in the capital account.
And for this the profits till that point of time are to be ascertained.
This should explain the reason why the ascertainment of the position generally goes along with the
ascertainment of the profits of the business.
Balance Sheet » Statement for Presenting the
information relating to Position
The information relating to the position of an organisation is presented in the form of a statement
titled "Balance Sheet".
• Format of the Balance Sheet
The "Balance Sheet" is a statement and is made in a "T" format. It has two sides named the
"Assets" side and the "Liabilities" side put side by side. The Liabilities side is placed to the left and
the assets side to the right.
A
Amou m
Liabilities Assets
nt ou
nt
To
Total ta
l
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Consider the Trial Balance after having ascertained the profits (from the illustration relating to
ascertainment of profits)
Cash — 10,
Capital 00 1,00,000
Bank —0
Furniture
Ram — 77, 15,000
Rahim 00
Trading and Profit & Loss —0 47,000
25,
— 00
0
—
50,
— 00
0
1,6
Total 2,0 1,62,000
00
• Note
After getting accustomed to accounting we avoid using the word a/c in the Ledger accounts, Trial
Balance, Balance Sheet and other places where we do not find it essential, just to make the
statements and the ledger accounts look more appealing.
• Preparation of the Balance Sheet
The Balance sheet is obtained by arranging the figures in the trial balance (ledger accounts left
after having ascertained the profits) in an order. One simple rule of arrangement is "The accounts
with debit balances on the assets side and the accounts with credit balances on the liabilities side".
[As you move forward you will notice that we violate this rule at times to derive additional
information.]
The Balance Sheet drawn from the above Trial Balance would be:
A
Amou m
Liabilities Assets
nt ou
nt
1,
6
1,62, 2,
000 0
0
0
Be conscious of the fact that the Balance Sheet is just a statement and not a ledger account.
We are not transferring the balances in the real and personal accounts into the balance sheet. We
are only showing them here.
The "Trading and Profit & Loss a/c" is prepared by transferring the balances in all the nominal
accounts to it. This amounts to setting off all the debit balances and the credit balances to obtain
the profit/loss made. Thus the "Trading and Profit & Loss a/c" gives us the information relating to
the profits available after setting off all expenses/losses with all incomes/gains.
» Information obtained from the Trading and Profit and Loss a/c
The "Trading and Profit & Loss a/c" that is prepared to ascertain the profits or losses made by the
organisation gives us the information relating to the overall profit or loss made by the organisation.
» Illustrative Explanation
The following is the information relating to the Nominal accounts in an organisation for four
accounting periods (calendar year being its accounting period)
If we are making a single "Trading and Profit & Loss a/c" the profits/losses made by the
organisation would be:
Incomes:
Sales 3,00,000 3,60,000 4,87,500 6,00,000
Total 3,00,000 3,60,000 4,87,500 6,00,000
Expenses:
Purchases 2,00,000 2,40,000 3,25,000 4,00,000
Salaries 15,000 18,000 28,000 32,000
Rent 12,000 18,000 24,000 30,000
Interest 80,000 96,000 1,35,000 1,65,000
Total 3,07,000 3,72,000 5,12,000 6,27,000
Profit/Loss:
Income − Expenditure − 7,000 − 12,000 − 24,500 − 27,000
The profits ascertained through this method indicate a growing loss over the years. If, the
organisation should take a decision to whether to continue with the business or not, it has to opt for
moving out of the business.
» Combined Trading and Profit & Loss a/c
The same information pertaining to a particular year presented in the Trading and Profit and Loss
account would be
Dr Trading and Profit & Loss a/c (for the year 2003) Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
The combined Trading and Profit and Loss Account gives an overall comprehensive view of the
profits or losses.
» Profits influenced by Events not related to Operations
The expenses/losses that are to be borne by the organisation may not be directly related to its
operations.
For example, where the organisation has incurred a loss on account one of its vehicles getting
damaged because of an accident, it has to absorb this loss as it is related to the organisation. This
loss is also considered in ascertaining the overall profit or loss made by the organisation.
But, this loss is not directly related to the business operations of the organisation. This loss is not
on account of conducting the business in the normal course, but an abnormal one.
» Information used in Decision Making
Profits/Losses are figures based on which a number of business decisions are taken.
Since, the overall profit/loss is a figure that is influenced by a number of factors which may not be
directly related to the business operations, any decisions made based on that figure may be
detrimental to the organisation.
» Remedy : Segregating Trading and Profit & Loss accounts
To arrive at a profit/loss figure that would take into consideration only the basic business
operations, the nominal accounts that are considered in the process of preparation of the "Trading
and Profit &Loss a/c" are grouped into two.
The first set of accounts are related to a ledger account by name "Trading a/c" and the remaining
accounts are related to another ledger account by name "Profit and Loss a/c".
The basic purpose of accounting is derivation of information and the more the
information we need, the more the accounting heads we need to maintain.
Breaking the Combined Trading and Profit & Loss
account into two Accounts
The same information relating to profits is broken down into two and derived at two different
stages. At the first stage, the profit from the core operations relating to the business is derived and
in the next stage the overall profits are derived.
» Segregating the Information
The information in the above statement giving the overall profit, segregated into two
Direct Incomes:
Sales 3,00,000 3,60,000 4,87,500 6,00,000
Total 3,00,000 3,60,000 4,87,500 6,00,000
Direct Expenses:
Purchases 2,00,000 2,40,000 3,25,000 4,00,000
Total 2,00,000 2,40,000 3,25,000 4,00,000
Core Profit:
Direct Income − Direct 1,00,000 1,20,000 1,62,500 2,00,000
Exp.
Indirect Expenses: 18,000 18,000 28,000 32,000
Salaries 12,000 18,000 24,000 30,000
Rent 80,000 96,000 1,35,000 1,65,000
Interest 1,07,000 1,32,000 1,87,000 2,27,000
Total
Overall Profit: − 7,000 − 12,000 − 24,500 − 27,000
Core Profit − Indirect
Expenses.
If we look at the remade statement, we will be able to identify that the organisation is conducting a
business which is generating reasonably good amount of profits (50% on cost or around 33% on
sales). The turnover has been increasing, the core profit has been increasing, but the organisation
is ultimately making an overall loss.
The segregation of information also indicates that the business is good enough to be conducted, but
the indirect expenses are a reason for the loss being made by the organisation. This should make
the organisation think as to the real reason for the loss being made and take corrective steps or
actions if possible.
The organisation would be able to arrive at such conclusions only if the information is presented a
manner so as to reveal the basic/core profit and the overall profit figures separately.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Journal in the books of M/s ___ for the period from ____ to ____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,60,000 3,60,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
1,32,000 1,32,00
The Trading and Profit and Loss accounts are generally shown together to indicate the flow of
information from one to another.
Dr Trading and Profit and Loss a/c [For the year 2003] Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,60,000 3,60,000
1,32,000 1,32,00
• Note
Though the heading used here seems to indicate that it is a single account, it is in effect two
different accounts.
Trading Account : Gross Profit » Profit & Loss
Account : Net Profit
» Nominal Accounts
The "Trading a/c" and "Profit and Loss a/c" are ledger accounts derived by breaking up the
information in the "Trading and Profit & Loss a/c" i.e. these accounts together replace the "Trading
and Profit & Loss a/c". Since the "Trading and Profit & Loss a/c" is a nominal account, these two
accounts are also nominal accounts.
All the nominal accounts are closed at the end of the accounting period by
transfer to either the Trading a/c or the Profit and Loss a/c as the case may
be.
• Balance in Trading a/c
The "Trading a/c" is a nominal account. It is closed at the end of the accounting period by
transferring its balance (Gross profit/loss) to the "Profit and Loss a/c".
Thus the trading account can be placed on par with any other nominal account.
• Balance in Profit and Loss a/c
The Profit and Loss a/c is a nominal account. It is closed at the end of the accounting period by
transferring its balance to either the Capital a/c or the Profit and Loss Appropriation a/c (or
Retained Earnings a/c).
The "Trading a/c" and "Profit and Loss a/c" relating to a particular accounting period are
independent of similar accounts relating to any other accounting period.
At the time of starting the business, the owner invests certain amount as his capital contribution for
the business either in the form of cash or any other assets.
As time goes by, the organisation would be making profits or losses over the various accounting
periods that it passes through.
When profits or losses are transferred to the Capital account, the balance in that account increases
when there are profits and decreases when there are losses. Thus, the capital account balance is a
figure that gets altered by the amounts of profits and losses made over the years.
• Distinct Information
If the organisation intends to have the information relating to the contribution made by the owners
towards capital as well as the addition/shortage of capital that has accumulated in the business on
account of the profits/losses made by over the years (through its operations) separately, it would
transfer the profits or losses to a separate account by name "Profit and Loss appropriation a/c" or
"Retained Earnings a/c" instead of to the "Capital a/c".
The basic purpose of accounting is derivation of information and the more the
information we need, the more the accounting heads we need to maintain.
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
62,
90
0
1,7
6,0
00
6,2
Total 5,4 6,25,400
00
Trading a/c
Dr [of M/s Razmataz Chemicals for the period ending Cr
31st December 2005]
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,32,000 3,32,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
1,32,600 1,32,600
The P/L a/c shows a credit balance when there are profits.
Transferring a credit balance from one account to a second would result in the second account
being credited and the first account being debited.
» Journal
The journal entry for transfer of the net profit from P/L a/c to the Capital a/c would therefore be
Journal in the books of M/s Razmataz Chemicals for the period from __ to
31st December 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
» Ledger
Dr Capital a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
01/01/0
By Balance b/d – 2,73,100
6
» Trial Balance
The "Trial Balance" redrawn after closing the "Profit and Loss a/c"
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
3,8
Total 2,5 3,82,500
00
» Balance Sheet
Balance Sheet of M/s Razmataz Chemicals" as on 31-12-2005
A
Amou m
Liabilities Assets
nt ou
nt
3,
8
3,82, 2,
500 5
0
0
Journal in the books of M/s Trinity Foods for the period from 1st June 2005
to 30th June 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
» Ledger
Dr Profit and Loss Appropriation a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
30/06/0
By Balance b/d – 47,000
5
» Trial Balance
The "Trial Balance" redrawn after closing the "Profit and Loss a/c" in this case would be
De
L bit
Credit Amount
Particulars / A
(in Rs)
Fm
ou
nt
(in
Rs
)
3,8
Total 2,5 3,82,500
00
» Balance Sheet
Balance Sheet of M/s Razmataz Chemicals" as on 31-12-2005
A
Amou m
Liabilities Assets
nt ou
nt
3,
8
3,82, 2,
500 5
0
0
• Alternative
Balance Sheet of M/s Razmataz Chemicals" as on 31-12-2005
A
Amou Amo mo
Liabilities Assets Amount
nt unt un
t
3,82,
3,82,500
500
The basic purpose of accounting is derivation of information. Where the organisation feels that in
addition to having the information relating to the Capital a/c and the accumulated profits separately,
it also needs to know the total amount of capital available with it (including accumulations), the two
accounts are clubbed and shown in the Balance Sheet.
Since here both the accounts lie on the same side of the balance sheet, the two amounts are added
up.
58,
60
0
1,4
5,0
00
7,7
Total 3,7 7,73,750
50
Trading a/c
Dr [of M/s Razmataz Chemicals for the period ending Cr
31st December 2005]
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
To Opening Stock 50,000 By Sales 2,63,400
To Purchases 2,35,000 36,600
To Wages a/c 15,000 By Gross Loss
To Gross Profit
3,00,000 3,00,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
1,35,750 1,35,750
The P/L a/c shows a debit balance when there are losses.
Transferring a debit balance from one account to a second would result in the second account being
debited and the first account being credited.
» Journal
The journal entry for transfer of the net loss from P/L a/c to the Capital a/c would be
Journal in the books of M/s _____ for the period ending 32st December 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
» Ledger
Dr Capital a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
01/07/0
By Balance b/d – 1,14,250
5
» Trial Balance
The "Trial Balance" redrawn after closing the "Profit and Loss a/c"
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
3,7
Total 4,6 3,74,600
00
» Balance Sheet
Balance Sheet of M/s Razmataz Chemicals" as on 31-12-2005
A
Amou m
Liabilities Assets
nt ou
nt
3,
7
3,74, 4,
600 6
0
0
Journal in the books of M/s _____ for the period ending 32st December 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
» Ledger
Dr Profit and Loss Appropriation a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
30/06/0
To Balance b/d – 1,35,750
5
» Trial Balance
The "Trial Balance" redrawn after closing the "Profit and Loss a/c"
De
bit
L A
Credit Amount
Particulars / m
(in Rs)
F ou
nt
(in
Rs
)
1,3
5,7
50
5,1
Total 0,3 5,10,350
50
» Balance Sheet
Balance Sheet of M/s Razmataz Chemicals" as on 31-12-2005
A
Amou m
Liabilities Assets
nt ou
nt
5,
1
5,10, 0,
350 3
5
0
• Alternative
Balance Sheet of M/s Razmataz Chemicals" as on 31-12-2005
Am
Amou Amo
Liabilities Assets ou Amount
nt unt
nt
3,74,
3,74,600
600
The basic purpose of accounting is derivation of information. Where the organisation feels that in
addition to having the information relating to the Capital a/c and the accumulated profits separately,
it also needs to know the total amount of capital available with it (including accumulations), the two
accounts are clubbed and shown in the Balance Sheet.
Since here both the accounts lie on different sides of the balance sheet, the two amounts are set off.
Showing an item on a particular side and deducting the item from another item
on the opposite side of the balance sheet would give the same effect.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Journal in the books of M/s Razmataz Chemicals for the period from __ to
31st December 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Therefore, to give us the additional information relating to the reason and direction of transfer, we
create and use additional ledger accounts by name "Net Profit a/c" and "Net Loss a/c".
» To/By Net Profit
The Net Profit from the Profit and Loss a/c is transferred to the Net Profit a/c and from there to the
Capital a/c or the Profit and Loss Appropriation a/c.
By using this additional account we can ensure that the postings would read To Net Profit in the
Profit and Loss account and By Net Profit in the Capital or Appropriation accounts.
Journal/Ledger » Hide/Show
Journal in the books of M/s Razmataz Chemicals for the period from ___ to
31st December 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The Profit and Loss a/c would straight away reveal the information that there is Net Profit and has
been transferred. The Capital a/c or the Profit and Loss Appropriation a/c would reveal the
information that Net Profit has been received by transfer.
» To/By Net Loss
The Net Loss from the Profit and Loss a/c is transferred to the Net Loss a/c and from there to the
Capital a/c or the Profit and Loss Appropriation a/c.
By using this additional account we can ensure that the postings would read By Net Loss in the
Profit and Loss a/c and To Net Loss in the Capital or Profit and Loss Appropriation accounts.
Journal/Ledger » Hide/Show
Journal in the books of M/s Razmataz Chemicals for the period from ___ to
31st December 2005
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The Profit and Loss a/c would straight away reveal the information that there is Net Loss and has
been transferred. The Capital a/c or the Profit and Loss Appropriation a/c would reveal the
information that Net Loss has been received by transfer.
• Control Accounts
Accounts which are created and closed instantaneously and whose sole purpose is to enable the
derivation of greater information are called "Control Accounts".
Use of Controlling accounts is a procedure that we adopt frequently in accounting.
• Manual Accounting
In manual accounting, we just assume the presence of such accounts and use the useful phrases
wherever needed. We do not record the journal entries relating to these and carry on posting as if
we have recorded the journal.
• Computerised Accounting
If you intend to make use of such a facility in computerised accounting, care should be taken to
ensure that all the relevant controlling accounts are created and the required journal entries are
passed.
• A Nominal Account
If Profit & Loss Appropriation a/c is maintained, the Net profit or loss revealed by the Profit and
Loss a/c in every accounting period is transferred to that account. Thus the accumulated balance in
the Profit & Loss Appropriation a/c also indicates either a profit or loss which qualifies it to be
called a nominal account.
All the nominal accounts are closed at the end of the accounting period by
transfer to either the Trading a/c or the Profit and Loss a/c as the case may
be.
However, the Profit & Loss Appropriation a/c, though a nominal account is not closed. The balance
in that account is carried over to the subsequent accounting periods just like balances in the case of
Real or Personal accounts.
With regard to this characteristic, the Profit & Loss Appropriation a/c is a special account.
• Special Nominal Accounts
Nominal accounts which are not closed at the end of the accounting period and whose balances are
carried forward from one accounting period to another as "Special Nominal accounts". Balances of
these accounts, appear in the balance sheet along with the other Real and Personal account
balances.
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
– 1,1
9,0
– 00
2,1
0,0
00
2,0
8,0
f
00 i
5,6 n
9,0 a
00 l
,
a
47, c
68, c
Total 95
47,68,950 o
0 u
n
• Why is a Trial Balance prepared? t
s
The trial balance is prepared to check/ensure the arithmetical accuracy of accounting. Though
,
not a conclusive proof, the agreement of the trial balance is a prima facie evidence of the
f
absence of mathematical errors.
i
This is the most important purpose for which the trial balance is prepared.
n
» Isn't Trial Balance made for enabling preparation of Final a
Accounts? n
No, not at all. c
Preparation of Trial Balance is not an act that forms a part of the activities involved in the regular i
accounting cycle. Since Final Accounting can be completed without the preparation of the Trial a
Balance, we can say that enabling the preparation of final accounts is not the purpose of the trial l
balance. ,
a
c
• When is a Trial Balance prepared? c
The trial balance is generally prepared at a time when all the ledger accounts are balanced like at o
the end of the accounting period. u
Theoretically, the trial balance can be prepared as and when needed. n
The practical difficulty in preparing the trial balance as and when needed is the requirement of t
the balances of all the ledger accounts within the organisational accounting system. Different i
ledger accounts are balanced at different time intervals based on the information needs of the n
organisation. Say in a typical organisation Cash a/c is balanced daily, Expenses, Creditor and g
Debtor accounts are balanced on a monthly basis, Asset accounts are balanced annually etc. ,
The ledger account balances relating to all ledger accounts would not be available ready hand at t
any given instance. Year ending is one such instance when the balances are derived. r
a
» Computerised Accounting d
In mechanised (computerised) accounting systems, trial balance is a statement that can be
i
automatically derived as and when needed.
n
g
,
p
r
o
f
i
t
,
l
o
s
s
,
a
c
c
o
u
n
t
,
b
a
l
a
n
c
e
,
s
Accounting Cycle » Absence of Preparation of Trial
Balance
Preparation of a trial balance is not an act which forms a part of the activities involved in the
accounting cycle.
The Accounting Cycle (activities involved)
Begins with opening the books of accounts for an accounting period by recording the opening entry;
Journal in the books of M/s Amonaya Metals for the period from 1st January
2007 to ____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
–
[For bringing the balances in the
various ledger accounts at the
end of the previous accounting
period into books.]
This is the journal entry that supports the posting To Balance b/d and By Balance b/d in the various
ledger accounts.
Recording the various transactions all through out the accounting period;
Balancing the ledgers as and when needed and finally at the end of the accounting period;
Recording the transactions for making up the final accounts
Making the Trading a/c
Closing the Trading a/c by transferring the balance in it to Profit & Loss a/c
Making the Profit and Loss a/c
Closing the Profit and Loss a/c by transferring the balance in it to Capital a/c (or Profit and Loss
Appropriation a/c)
Preparing the Balance sheet (A statement of balances in all the ledger accounts that remain after
making up and closing the Trading and Profit & Loss a/c.)
The accounting cycle ends with recording the closing entry for closing the books of accounts.
Journal in the books of M/s Amonaya Metals for the period from 1st Jan to
31st Dec 2007
Debit
Amo
V/R L/ Credit Amount
Date Particulars unt
No. F (in Rs)
(in
Rs)
–
[For carrying the balances in
the various ledger accounts
at the end of the accounting
period to the subsequent
accounting period.]
This is the journal entry that supports the posting To Balance c/d and By Balance c/d in the various
ledger accounts.
Final Accounting deals with all the ledger account balances at the end of the accounting period in
one way or the other.
All the Nominal accounts that represent direct expenses and direct incomes are closed by transfer
to the Trading a/c.
For this at least two journal entries are recorded.
The Trading a/c is closed by transferring its balance to the Profit and Loss a/c.
For this a journal entry is recorded.
All the Nominal accounts that represent indirect expenses, losses and indirect Incomes are closed
by transfer to the Profit and Loss a/c.
For this at least two journal entries are recorded.
The Profit & Loss a/c is closed by transferring its balance to either the Capital a/c or Profit & Loss
Appropriation a/c.
For this a journal entry is recorded.
All the remaining accounts are listed out in the Balance Sheet.
A closing entry is recorded in relation to this, though it is not directly related to preparing the
balance sheet.
If the Final Accounting is to be done in a systematic manner, then all the journal entries mentioned
above are to be recorded and all the ledger accounts that are affected by those transactions are to
be posted to and updated. That would result in the making up of the Trading a/c and Profit and Loss
a/c. The balance sheet is prepared by drawing up a statement of ledger account balances carried
forward through the closing entry.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
In manual accounting, the Trading a/c, Profit & Loss a/c and the Balance Sheets can also be
prepared using the information in the Trial Balance avoiding the act of journalising the transactions
involved in final accounting.
This is done by showing each item in the ledger accounts (Trading, P/L a/c) or the statement
(Balance Sheet) where it would be ultimately appearing had the actual procedure been adopted.
This would have the same affect as recording the journal and posting into the ledger.
» Example
The balance in the Carriage Inwards a/c (direct expenditure) is transferred to the Trading a/c by
recording a Journal entry. By this, the Carriage Inwards a/c would get closed (its balance becomes
zero) and the Trading a/c would get debited with that balance. In preparing the Trading a/c the
balance in the Carriage Inwards a/c can be ascertained from the Trial Balance and shown on the
debit side of Trading a/c.
» Reduction of Work involved in Manual Accounting
Since not recording the related journal entries makes no difference as far as final accounting is
concerned, in almost all cases in manual accounting, the process of recording the journal entries
required for final accounting and updating the ledger is bypassed to reduce the burden of the work
involved.
In making up final accounts using the information in the Trial Balance, we should ensure that each
item of information (representing a ledger account balance) should be dealt with only once.
In final accounting each piece of information can appear either on the debit or credit sides of the
Trading a/c or "Profit & Loss a/c" or on the assets or liabilities side of the "Balance Sheet".
Each item from the Trial Balance should be dealt with only once in Final Accounting.
Ba
la
W
nc
Acco hi
Descriptio e Wh
Account unt ch Amount
n N ere
Type Si
at
de
ur
e
Trading and Profit & Loss a/c [For the year ending
Dr Cr
31/03/06]
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
36,86,000 36,86,000
8,63,150 8,63,150
1
5,
5
15,55
5,
,450
4
5
0
The balance in the "Profit & Loss Appropriation a/c" as shown in the Trial Balance represents the
balance carried forward from the previous accounting period (i.e. year ending 31st March 2005).
The Profit and Loss a/c relating to the current period is closed by transfer its balance to the "Profit
& Loss Appropriation a/c"
01/04/0
By Balance b/d – 11,25,450
6
Therefore, while showing the information (balance) relating to the Profit & Loss Appropriation a/c
in the Balance sheet, care should be taken to make appropriate adjustment to the balance on
account of the transfer of balance from the Profit and Loss a/c.
The balance that appears in the balance sheet is not the one that appears in the trial balance, but
the one that takes into consideration the adjustment on account of current periods profit or loss
also.
If the balance in Profit and Loss a/c is transferred to the Capital a/c, then such a care should be
taken with regard to the Capital a/c balance.
The Trial Balance is a statement of ledger account balances as on a particular date (instance).
Final Accounting is done towards the end of the accounting period.
The trial balance that we consider in the preparation of final accounts is the one that is prepared
towards the end of the accounting period i.e. on the last day of the accounting period.
There might be a number of accounting transactions which might not have been taken into
consideration by the time the Trial Balance has been prepared.
Some of the reasons for the presence of such transactions are
• Transactions which do not occur in the normal course of
business
There are a number of transactions relating to the business which do not occur in the normal course
of business. These transactions unless deliberately recorded do not get into the books of accounts.
Examples for such transactions
Stock taken away by the proprietor for personal use
Abnormal loss of stock
• Transactions which have to be recorded only towards the end
There are a number of transactions relating to the business which have to be recorded only at the
end of the accounting period. If the trial balance has been prepared before all such transactions into
consideration have been taken into consideration, then they stay unrecorded in the books of
accounts.
Depreciation on Assets
Expenses - Outstanding/Prepaid
Incomes - Outstanding/Pre-received
• Transactions relating to Error Rectifications
The agreement of a Trial Balance is not a conclusive proof of absence of errors in accounting. Even
in case where the trial balance agrees, there may still be errors existing in the books of accounts.
These errors if identified subsequent to the preparation of the Trial Balance, need to be rectified
which needs journal entries to be passed for rectification.
What are
Adjustments?
The transactions which have not yet been journalised, appended to the trial balance are what we
call adjustments.
Thus we can say that Adjustments are transactions relating to the business which have not been
journalised by the end of the accounting period.
• Illustration
Trial Balance of M/s Azaya Traders" as on 30th June 2006.
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
– 42,
78
– 0
2,5
6,0
00
4,8
0,0
00
23,
77,
Total 68
23,77,680
0
» Adjustments
The following additional information is available
A Machine purchased on credit from M/s Ramsay Machine Tools for Rs. 2,00,000 is not yet recorded
in the books.
Wages to the extent of Rs. 43,000 are incorrectly recorded as Salaries.
The additional information presented after the trial balance contains information relating to
accounting transactions, which are to be identified from the wordings.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Since adjustments are also transactions relating to the business, we need to bring them into the
accounting books by journalising them.
The trial balance is used for final accounting, so as to eliminate a lot of physical work (in manual
accounting) in the form of recording transactions for making up final accounts, posting them into
respective ledger accounts, balancing of ledger accounts effected by these transactions.
Therefore even for the purpose of bringing the transactions represented by the adjustments into
books a method has been designed which would not require us to record these transaction, post
them and balance the ledger accounts affected. This method incorporates the effect of the
transactions into the final accounts without having to go through the regular process of recording,
posting, balancing etc.
• Accounting for the Transactions
Recording the transactions represented by adjustments normally would result in the existing
balance in the affected ledger accounts to either increase or decrease.
» Transaction
Wages to the extent of Rs. 43,000 are incorrectly recorded as Salaries.
This represents an error of principle whereby an expenditure that was to be debited in a particular
account has been debited to another account.
To bring the effect of this transaction into books, the journal entry to rectify this error has to be
recorded.
» Journal/Ledger Hide/Show
Journal in the books of M/s Azaya Traders for the year ending 30th June
2006
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Dr Salaries a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,53,000 1,53,000
Dr Wages a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
43,000 43,000
Adjustments are transactions relating to business which have not yet been
journalised.
Therefore, to make the adjustments one should have an idea of the journal entry related to the
transaction indicated by the adjustment.
If we know the Journal entry, we can identify the effect of the same on the ledger accounts and
thus be able to identify the adjustments to be made.
The adjustments are made at the time of making up the final accounts within the three parts that
make up the final accounting, i.e. the "Trading a/c", "Profit & Loss a/c" and the "Balance Sheet".
Illustration »
Problem
Draw up the final accounts from the following trial balance and the additional information that
follows it.
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
– 42,
78
– 0
2,5
6,0
00
4,8
0,0
00
23,
77,
Total 68
23,77,680
0
Illustration » Working
Notes
An analysis of the various ledger accounts in the trial balance would enable us to decide what to be
done with each item in the trial balance.
Ba
Acc la W
oun nc ha
Wh
Account Description t e t Amount
ere
Typ Na Si
e tu de
re
Dr. Machinery a/c 1. (+) To Machinery a/c on the Assets side of the Balance Sheet
Cr. Ramsay Machine Tools 2. (+) To Ramsay Machine Tools a/c on the Liabilities side of the
a/c Balance Sheet
Detailed Explanation Hide/Show
» Transaction
A Machine purchased on credit from M/s Ramsay Machine Tools for Rs. 2,00,000 is not yet
recorded in the books.
This represents an error of omission whereby a transaction has been omitted from being
recorded in the books.
To bring the effect of this transaction into books, the relevant journal entry has to be
recorded.
» Journal/Ledger
Journal in the books of M/s Azaya Traders for the year ending 30th June
2006
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Dr Machinery a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
6,80,000 6,80,000
To Balance
01/07/06 – 6,80,000
b/d
2,00,000 2,00,000
By Balance
01/07/06 – 2,00,000
b/d
Dr. Wages a/c 1. (+) To Wages a/c on the Debit side of the Trading a/c
Cr. Salaries a/c 2. (−) From Salaries a/c on he Debit side of the Profit an Loss a/c
Detailed Explanation Above
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Illustration »
Solution
Making up the final accounts would involve nothing more than putting the items from the trial
balance in the right places i.e. in either the "Trading a/c" or "Profit and Loss a/c" or the "Balance
Sheet" and making subsequent adjustments.
Trading and Profit & Loss a/c of M/s Azaya Traders for the year
Dr Cr
ending 30/06/06
Amount Amount Amount Amount
Particulars Particulars
(in Rs) (in Rs) (in Rs) (in Rs)
15,48,700 15,48,700
4,17,100 4,17,100
A
Amou Amo mo
Liabilities Assets Amount
nt unt un
t
9,98,
9,98,500
500
The effect of the additional transactions (adjustments) are incorporated into the accounts by
mathematical adjustments wherever needed.
Each item from the adjustments should be dealt with at least twice in Final Accounting.
Where an item appears in the trial balance it is to be dealt with only once and where an adjustment
is being dealt with it is to be dealt with at two or more places depending on the number of elements
effected by the transaction.
» Adjusting more than two accounts
In most of the cases, the journal entry for recording the transaction given as adjustments is a
simple entry involving two accounts (one being debited and the other being credited). However, in
some cases, a complex entry involving more than two elements (accounts) is needed to record the
additional transactions. In such cases more than two accounts may have to be adjusted.
In relation to a trading business, the stock used for sale would be an asset.
The usable condition for that stock would be, it being
placed ready for sale in the showroom.
Therefore, the direct expenses in relation to this stock
would be all the expenses incurred before placing it in
the show room or any other relevant place ready for
sale.
Conventionally, expenses like Wages, Carriage Inwards
(carriage on purchases), Octroi, Excise, Duties etc.,
Stock purchased, etc. are treated as direct expenses
apart from the actual cost of the goods purchased which
is revealed by the "Purchases a/c".
It is not a rule that only these form direct expenses. Any
expenditure that would have been incurred in relation to
stock before it is made ready for sale would form direct
expenditure for the stock.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Cost of Goods
Sold
A
mo
Particulars Amount
un
t
5
4
,
0
0
0
3
6
,
0
0
0
1
4
,
0
0
0
(Sales + Closing Stock + Stock Unused for trading) − (Opening Stock + Purchases +
=
Direct Expenses)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
"Purchases a/c" is a nominal account with a debit balance and is a direct expenditure (for stock).
Since Purchases a/c is closed by transfer to the Trading
a/c, it appears on the debit side of Trading a/c.
Transferring a debit balance from one account to a second results in the
second account being debited and the first account being credited.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Ascertaining Cost of Goods Sold from
Trading a/c
Each ledger account serves one or more informational needs of the organisation. The Trading a/c
gives the information relating to the Gross Profit made by the organisation. It can also be used to
derive the information relating to the "Cost of Goods Sold".
» Ascertaining Cost of Goods Sold
Cost of Goods Sold = (Opening Stock + Purchases + Direct Expenses) − (Closing Stock + Stock
Unused for trading)
The "Trading a/c" with this information posted to it
would be
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,22,000 3,22,000
To Cost of Goods Sold 2,72,000 By Sales 3,80,000
b/d 1,08,000
To Gross Profit
3,80,000 3,80,000
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
4,30,000 4,30,000
=
Rs. 3,80,000 − Rs. 1,08,000
=
Rs. 2,72,000
The value of Cost of Goods Sold can also be obtained specifically, by maintaining a separate account
for the purpose. This may be named "Goods Consumed a/c" (any other indicative name may be
used).
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,22,000 3,22,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,80,000 3,80,000
The stock that is used within the organisation (stock drawn by the proprietor for own purposes,
stock used for building an asset, stock used for advertisement purposes, etc.,) have to be valued at
cost.
This is for the reason that if such usages are recorded at
a value which includes an element of profit, the
transaction when recorded would generate a profit,
which would amount to making a profit out of a
transaction with oneself.
Principle of Mutuality » One cannot make a profit out of a transaction with
oneself
» Illustrative Explanation
Consider the following data relating to an organisation which started its operations on 28th
December 2006:
Opening Stock :: Nil;
Purchases :: Rs. 1,20,000;
Direct Expenses :: Rs. 30,000
Sales :: Nil
Stock used by the organisation internally Rs. 20,000 (Valued at Cost).
Generally Sales are made by adding 25% profit to cost
Closing Stock :: ?
The accounting period ends on 31st December 2006.
=
Value of Closing Stock with the Organisation Total Value of Stock − Value of Stock used up internally
=
Purchases + Direct Expenses − Rs. 20,000
=
(Rs. 1,20,000 + Rs. 30,000) − Rs. 20,000
=
Rs. 1,30,000
=
Sales value of the stock used within the organisation Cost + 25% of Cost
=
Rs. 20,000 + 25% of Rs. 20,000
=
Rs. 20,000 + Rs. 5,000
=
Rs. 25,000
1,55,000 1,55,000
There is no commercial activity (no sales), there is no
scope for earning profits. But the Trading a/c reveals a
Gross Profit of Rs. 5,000 which is on account of the stock
used up internally being recorded at sales value.
Such profit generation is inappropriate for the reason
that in using up stock within the organisation, the
organisation is not conducting a transaction with an
outside party.
Thus to avoid profit generation in such cases, the stocks
so used are to be valued at cost.
• Stock used up internally recorded at Cost
Dr Trading a/c Cr
1,50,000 1,50,000
We may be able to ascertain what is left out if we know what has been sold. This logic may be
applied in finding the value of closing stock. However, to know this, we need to ascertain the value
of cost of goods sold.
Gross Profit = Sales − Cost of Goods Sold
Cost of Goods Sold = Opening Stock + Purchases + Direct Expenses − Closing Stock
Gross Profit = Sales − (Opening Stock + Purchases + Direct Expenses − Closing Stock) [From (i)
and (ii)]
= Sales − Opening Stock − Purchases − Direct Expenses + Closing Stock
Closing Stock = Opening Stock + Purchases + Direct Expenses + Gross Profit − Sales [From (iii)]
To use this relation to obtain the value of closing stock,
we need the information relating to Gross Profit. All
other information in this relation is readily available
from the accounting records.
Gross Profit
Ratio
• Ratio : Percentage
Ratio is a comparison between two numerical quantities of the same kind.
a
Ratio between two quantities is expressed in the form , where "a" and "b" do not have a common
a : b or factor.
b
Gross Profit
=
Gross Profit as a % of Sales × 100
Net Sales
=
(Or) Gross Profit Ratio (to Sales) × 100
Gross Profit
=
Gross Profit as a % of Cost of Goods Sold × 100
Cost of Goods Sold
=
(Or) Gross Profit Ratio (to Cost) × 100
=
x×y
=
xy
=
Cost of Goods Sold Sales − Gross Profit
=
x − xy
=
x (1 − y)
Gross Profit
=
Gross Profit Ratio (to Cost)
Cost of Goods Sold
xy
=
x (1 − y)
y
=
(1 − y)
» Example
Given » Gross Profit Ratio (to Sales) is 0.25 ⇒ y =
0.25
y
=
Therefore, Gross Profit Ratio (to Cost)
(1 − y)
=
0.25
(1 − 0.25)
0.25
=
0.75
1
=
3
=
0.33
=
Gross Profit (as a % to Cost) Gross Profit Ratio (to Cost) × 100
=
0.33 × 100
1
=
33 %
3
m
Let the data on 100 scale be represented by 'm'. ⇒ y =
100
100
=
× 100
m
(1 − )
100
100
=
× 100
100 − m
100
=m × 100 100
100 100 − m
m
=
× 100
100 − m
» Example
Given » Gross Profit is 25% of Sales ⇒ m =25
m
=
Therefore, Gross Profit as % of Cost × 100
100 − m
25
=
× 100
100 − 25
25
=
× 100
75
100
=
3
1
=
33
3
1⇒ 1
a
=
1
(1 − )
a
1
a
=
a−1
1 a
= ×
a a−1
1
=
a−1
» Example
1
=
Given » Gross Profit Ratio (to Sales) ⇒a=4
4
1
=
Gross Profit Ratio (to Cost)
a−1
1
=
4−1
1
=
3
=
Gross Profit (as a % to Cost) Gross Proft Ratio (to Cost) × 100
1
=
× 100
3
1
=
33 %
3
=
p×q
=
pq
= p + pq
= p (1 + q)
Gross Profit
=
Gross Profit Ratio (to Sales)
Net Sales
pq
=
p (1 + q)
q
=
(1 + q)
» Example
Given » Gross Profit Ratio (to Cost) is 0.2 ⇒ p = 0.2
q
=
Therefore, Gross Profit Ratio (to Sales)
(1 + q)
0.2
=
(1 + 0.2)
0.2
=
1.2
1
=
6
=
Gross Profit (as a % to Sales) Gross Profit Ratio (to Cost) × 100
1
=
× 100
6
2
=
16 %
3
n
Let the data on 100 scale be represented by 'n'. ⇒ q =
100
100
=
× 100
n
(1 + )
100
100
=
× 100
100 + n
100
=n × 100
× 100
100 100 + n
n
=
× 100
100 + n
» Example
Given » Gross Profit is 20% of Cost ⇒ n =20
n
=
Therefore, Gross Profit as a percentage of Saes × 100
100 + n
20
=
× 100
100 + 20
20
=
× 100
120
1
=
× 100
6
=
16 2/3%
1⇒ 1
b
=
1
(1 + )
b
1
b
=
b+1
1 b
= ×
b b+1
1
=
b+1
» Example
1
Given » Gross Profit Ratio (to Sales) is ⇒ b = 5
5
1
=
Gross Profit Ratio (to Sales)
b+1
1
=
5+1
1
=
6
=
Gross Profit Ratio (as a % to Sales) Ratio × 100
1
=
× 100
6
2
=
16 %
3
» Frequently used conversions
• Hundred Scale
1 2
2 5
As a % of Cost 20 33 66 100
5 0
3 3
2 1
2
As a % of Sales16 25 33 40 50
0
3 3
• One Scale
0
0.
0. .
3 0.
As a % of Cost 0.2 2 6 1
3 5
5 6
3
6
0.
0. 0. 0
0.1 3
As a % of Sales 2 2 . 0.5
66 3
0 5 4
3
• Inverse
1 1 1 12 1
As a % of Cost
5 4 3 23 1
1 1 1 12 1
As a % of Sales
6 5 4 35 2
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
The gross profit earned by an organsation is in almost all cases not a figure that can be easily
derived (without the availability of the value of closing stock). Deriving the value of closing stock
would be far easier than deriving the value of gross profit made (based on sales).
• Variety of Products being Sold
The organisation may be selling a number of products with different selling prices and different
rates of gross profits.
In such cases, if the gross profit figure is to be
ascertained from the sales figure, sales records should
be maintained so as to give the sales details relating to
each product with a distinct Gross Profit %. This would
involve a lot of work and would be impractical, more so
where there are a large number of products being dealt
with.
• Variations in Sale Prices
The prices charged to customers are dependent on a number of factors like the market conditions,
the immediate competition existing in the market, the loyalty of the customers etc.
Depending on the market conditions, some times the
prices may be varied instantaneously.
Depending on the customer to whom the product is
being sold, the prices may be varied (a discount may be
given to loyal customers) etc.
In such a situations there would not be uniformity in the
Gross profit percentage and it would be near to
impossible to ascertain the gross profit made using the
sales figures.
Since using the figure of gross profit to ascertain the
value of closing stock available in the organisation is not
a feasible idea, we look at other methods for finding out
the value of closing stock.
• Physical Stock
Closing stock is the stock/goods unsold at the end of the accounting period.
The details relating to the physical stock would be
readily available with the organisation only if the
inventory records are being maintained by the
organisation. In other cases the physical stock would
have to be ascertained by stock taking.
• Stock Value
There is no specific ledger account in financial accounting that would give us the information
relating to the value of closing stock ready hand.
The value of closing stock is available ready hand only if
inventory records are being maintained that too from
the inventory records.
The value of Closing Stock is ascertained by Physical Verification of Stock on the
last day of the accounting period and its valuation at Cost or Market Price (Net
Realisable Value) whichever is lesser
This is the most common method for valuing the closing
stock.
The information relating to the value of closing stock is
not regularly required by the organisation. It is however
required at the end of the accounting period for the
purpose of evaluation of the Cost of Goods Sold.
Convention of
Conservatism
Following is the "Trading a/c" relating to an organisation, wherein the Closing Stock has been
recorded at cost.
Dr Trading a/c Cr
f
Amount Amount i
Particulars Particulars
(in Rs) (in Rs) n
a
l
To Opening Stock 20,000 By Sales 3,80,000 ,
To Purchases 2,48,000 By Closing Stock 36,000 a
To Direct Expenses 54,000 c
To Gross Profit 94,000 c
o
4,16,000 4,16,000 u
n
t
s
» Closing Stock details ,
The closing stock is made up of f
Batch N :: 600 units valued at Rs. 36/unit with a total value of Rs. 21,600 i
Batch M :: 600 units valued at Rs. 24/unit with a total value of Rs. 14,400 n
Total 1,200 units with a total value of Rs. 36,000 a
Value here implies cost + direct expenses n
c
The selling prices and the related expenses are i
Batch N :: Rs. 50/unit a
Batch M :: Rs. 50/unit [Regular price] l
Batch M :: Rs. 25/unit [Current price] ,
a
This stock represents an outdated model of the c
product and the present market conditions would c
o
enable the stock to be sold only at a price of Rs. 25 per u
n
unit. t
The sales of all stocks are made through a dealer who would charge a commission of 10% of the i
sale proceeds. n
» Cost and Net Realisable Values of Closing Stock g
From the available data, Closing stock can be valued at two different rates. Cost and Market Price ,
(Net Realisable Rate). t
r
600 units [Batch N] a
Cost = Rs. 36/unit. d
Market Price = Rs. 50/unit. i
Expenses directly relatable to sale = Rs. 5/unit n
(10% of selling price = Rs. 50/unit × 10%). g
Net Realisable Value = Rs. 45/unit ,
[Market Price (Rs. 50/unit) − Expenses relatable to sale (Rs. 5/unit)] p
600 units [Batch M] r
Cost = Rs. 24/unit. o
Market Price = Rs. 25/unit. f
Expenses directly relatable to sale = Rs. 2.50/unit i
(10% of selling price = Rs. 25/unit × 10%). t
Net Realisable Value = Rs. 22.50/unit ,
[Market Price (Rs. 25/unit) − Expenses relatable to sale (Rs. 2.50/unit)]. l
o
» Valuation of Closing Stock based on Convention of s
Conservatism s
600 units [Batch N] ,
a
Cost = Rs. 36/unit. Net Realisable Rate = Rs. 45/unit. c
c
Since Cost < Net Realisable Value, the goods are to be o
valued at cost. u
n
⇒ Value of 600 units is Rs. 21,600 (600 units × Rs. t
,
36/unit) b
a
600 units [Batch M]
Cost = Rs. 24/unit. Net Realisable Rate = Rs. 22.50/unit.
Since Net Realisable Value < Cost, the goods are to be
valued at the net realisable value.
⇒ Value of 600 units is Rs. 13,500 (600 units × Rs.
22.50/unit)
Value of Closing stock if valued at cost = Rs. 14,400 (600
units × Rs. 24/unit)
The Closing Stock should be valued therefore at Rs.
35,100 (Rs. 21,600 + 13,500).
» Trading a/c
If value of Closing Stock is taken based on the Convention of Conservatism, the Trading a/c would
be
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
4,15,100 4,15,100
The Gross profit has gone down by Rs. 900 since closing
stock is considered at a lesser value.
Role of Convention of
Conservatism
The convention of conservatism asks us to take into consideration all those expenses and losses
relating to the subsequent periods of which we are aware.
» Future Losses
Where the Net realisable value of stock is less than its cost, the organisation may incur a loss.
In the above case, the organisation may have to incur a
loss of Rs. 900 [Rs. 14,400 (cost) − Rs. 13,500 (net
realisable value)].
• When?
This loss would have to be borne by the organisation if it sells the stock at the net realisable rate.
Since it is the end of the accounting period, such a sale
at such a price, if at all it takes place, would be in the
subsequent accounting period.
Thus, the organisation may have to incur this loss in the
future.
• Is the loss for sure?
The loss may have to be incurred in the future only if the stock has to be sold at Rs. 25 per unit
(which gives a net realisation of Rs. 22.50).
We may consider such a loss a certainty in cases where
the stock is required to be sold at the lower price on
account of it becoming obsolete, losing demand etc.
Bu where the lower market rate is on account of normal
market fluctuation and if the rates go up in the
subsequent period and the product can be sold at a
higher price, this loss need not be incurred.
Based on the Convention of Conservatism, the loss though it may have to be incurred in the future
period, is absorbed in the current period itself, since its information is known.
This will be the case where the lower valuation is on
account of conditions which are certain (obsolete goods,
demand going down etc).
» Crediting a Nominal a/c implies gain
The value of closing stock is credited to the "Trading a/c". By the principle of credit in relation to
nominal accounts (Credit all Incomes and Gains), we can assume the value to indicate a gain.
Reducing the value of closing stock would therefore
amount to reducing the credit made to the Trading a/c,
which would be reducing the gain. Debiting an amount is
an equivalent of deducting the amount from the
opposite side i.e. the credit side. Therefore, reducing
the gain is the same as taking in additional loss.
Therefore, the loss is absorbed by considering the value
of closing stock at a lesser value i.e. the net realisable
value. [In the above example, by considering the closing
stock at the lower value, the estimated loss of Rs. 900
relating to the subsequent accounting periods has been
absorbed in the current period itself.]
Value of Closing Stock = Value of Opening Stock of the
Subsequent Period
The Closing Stock a/c relating to an accounting period and the Opening Stock a/c relating to the
subsequent accounting period represent the same account. Therefore, the value of the closing stock
at the end of the accounting period and the opening stock at the beginning of the subsequent
accounting period are the same.
• Closing Stock a/c
The "Closing Stock a/c" is a real account and is created at the last moment of the accounting
period.
It represents Stock as an asset. The balance in the
"Closing Stock a/c" is carried forward to the next
accounting periods.
• Opening Stock a/c
The account that we name "Closing Stock a/c" is renamed "Opening Stock a/c" at the beginning of
the next accounting period while bringing the values of assets and liabilities into the books of
accounts with the help of an "Opening Entry".
This "Opening Stock a/c" is treated as an equivalent of a
Nominal account.
Like other nominal accounts it is closed at the end of the
accounting period. It is closed by transfer to the
"Trading a/c" since it goes into the value of cost of
goods sold.
» Note
The value of Opening and Closing stocks relating to a particular accounting period do not mean the
same. They are two indicated by distinct ledger accounts - Opening stock by "Opening Stock a/c"
which is a nominal account and Closing stock by "Closing Stock a/c" which is a Real account.
They may or may not have the same values.
The valuation of closing stock and recording of the value of closing stock in the books are two
different aspects.
After ascertaining the value of the closing stock, it is to
be brought into the books of accounts.
The basic purpose of accounting is derivation of information and the more
information we need the more the accounting heads we need to maintain.
5
4
,
0
0
0
3
6
,
0
0
0
1
4
,
0
0
0
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,22,000 3,22,000
3,22,000 3,22,000
• Journal/Ledger
The Journal entry for recording the value of closing stock in such a case would be
Journal in the books of M/s ___ for the period from ____ to ____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
36,000 36,000
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
4,16,000 4,16,000
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
Where the organisation intends to specifically identify the cost of goods consumed, a separate
ledger account by name "Goods Consumed a/c" may be created and used for that purpose.
» Direct Expenses transferred to Goods Consumed a/c
At the end of the accounting period, the balances (amounts) in all the ledger accounts which
represent expenses which go into the value of goods/stock (direct expenses), are closed by
transfer to the "Goods Consumed a/c".
This would result in the "Goods Consumed a/c" being
debited with the total value of goods/stock. Show/Hide
Dr Goods Consumed a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,22,000 3,22,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,22,000 3,22,000
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,22,000 3,22,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,80,000 3,80,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
2,68,000 2,68,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,80,000 3,80,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,12,000 3,12,000
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,80,000 3,80,000
Where the following conditions exist, we can credit "Purchases a/c" with the value of closing stock.
Closing stock is physically relatable to the stock that has been purchased during the current period.
[This would be the case where FIFO method is adopted for physical usage of stock]
There are no direct expenses in relation to the stock purchased during the current period
(Or)
The value of closing stock does not include the direct expenses incurred during the current period
• Journal/Ledger
The Journal entry for recording the value of closing stock in the books would be
Journal in the books of M/s ___ for the period from ____ to ____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Dr Purchases a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
2,48,000 2,48,000
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
3,80,000 3,80,000
• Conventional use
Technically we can credit the value of closing stock to Purchases a/c only when the above
conditions are satisfied.
The use of "Trading a/c" or "Goods Consumed a/c" for
crediting the value of closing stock, is possible only if
the journal entry for brining the value of closing stock
into books is being recorded at the time of preparation
of final accounts.
Where we are recording the value of closing stock in the
accounting books before the preparation of final
accounts, it is a convention that we credit "Purchases
a/c" (on account of the absence of "Trading a/c" or
"Goods Consumed a/c" for use).
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
The "Closing Stock a/c" and the end of an accounting period and the "Opening Stock a/c" at the
beginning of the subsequent accounting period represent the same account.
• At the End of an Accounting Period
The closing balances in all the ledger accounts are carried forward to the subsequent accounting
periods.
Every ledger posting should have a journal support.
The journal entry that supports the carry forward of
balances in ledger accounts is called the "Closing Entry".
» Closing Entry
The journal entry for closing the books of accounts during an accounting period
Journal in the books of M/s ___ for the period from ____ to ____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
A
Amo m
Liabilities Assets
unt ou
nt
2,65, 2,
000 6
5,
0
0
0
A
Amo m
Liabilities Assets
unt ou
nt
2,
6
2,65, 5,
000 0
0
0
» Opening Entry
The opening entry is based on the opening balance sheet.
Journal in the books of M/s ___ for the period from ____ to ____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
31st Dec – Cash a/c D – 42,
Opening Stock a/c r 00
Debtors a/c D – 0
Furniture a/c r 36,
To Capital a/c D – 00 1,00,000
To Profit & Loss r 0 54,000
Appropriation a/c D – 1,2 63,000
To Bank Loan a/c r 6,0 48,000
To Creditors a/c – 00
61,
– 00
[For the opening balances in the 0
various ledger accounts brought –
forward into the books of
accounts from the previous –
accounting period.]
The value of closing stock is ascertained through physical verification of the stock and its valuation
at cost or market price whichever is lesser.
Thus recording the entries for brining in the value of
closing stock into books may not be complete by the
time trial balance is drawn up.
If the value of closing stock is not available (or is not
recorded) by the time of making up the trial balance at
the end of the accounting period, it would appear as a
part of the transactions appended to the trial balance
which are to be adjusted.
Adjustment is bringing in the effect of the transactions
through mathematical operations of addition and
subtraction. The adjustments to be made can be found
out by ascertained the net effect of the journal entries
to be recorded.
In adjusting the value of closing stock we consider the
entry for recording the same to be the one where the
Trading a/c or Purchases a/c is credited.
Where the closing stock is recorded by crediting its value to the Trading a/c
Entry Effect
Dr. Closing Stock a/c 1. (+) Show the Value of Closing Stock on the Assets side of the Balance
Sheet
Cr. Trading a/c 2. (+) Show the Value of Closing Stock on the Credit side of Trading a/c
Where the closing stock is recorded by crediting its value to Purchases a/c
Entry Effect
1. (+) Show the Value of Closing Stock on the Assets side of the Balance
Dr. Closing Stock a/c
Sheet
2. (−) Deduct the Value of Closing Stock from Purchases on th Debit side
Cr. Purchases a/c
of Trading a/c
Where the closing stock is recorded by crediting Goods Consumed a/c
Entry Effect
Dr. Closing Stock a/c 1. (+) Show the Value of Closing Stock on the Assets side of the
Balance Sheet
Cr. Goods Consumed 2. (+) Show the Value of Closing Stock on the Credit side Goods
a/c Consumed a/c
Where "Closing Stock a/c" is present in the Trial Balance, it is an indication of the Journal entry for
recording the value of closing stock has already been recorded.
• Dealing with Closing Stock a/c
The "Closing Stock a/c" represents an asset and is thus a Real account.
Since an item appearing in the "Trial Balance" has to be
dealt with only once based on its nature, the Closing
Stock a/c appearing in the trial balance is shown on the
assets side of the Balance Sheet.
The balance in all the real accounts is carried forward to
the subsequent accounting periods. All such accounts
whose balances are carried forward to the subsequent
accounting periods are listed in the Balance Sheet as at
the end of the accounting period. Thus all the real
account balances are shown on the assets side of the
balance sheet.
• What was the Journal Entry used?
The Journal entry used for recording the value can be identified/assumed depending on what ledger
accounts are present in the Trial Balance
» Trading a/c appears in the Trial Balance
Trial Balance of M/s ___ " as on 30th June 2005
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
xx
Total x
xxx
Where Closing Stock a/c and Trading a/c appear in Trial Balance
» Trading a/c does not appear, but Purchases a/c appears in the
Trial Balance
Trial Balance of M/s ___ " as on 30th June 2005
xx
Total x
xxx
Where Closing Stock a/c and Purchases a/c appear in Trial Balance
» Both Trading a/c and "Purchases a/c" do not appear in the Trial
Balance
Trial Balance of M/s ___ " as on 30th June 2005
De
bit
A
L m
Credit Amount
Particulars / ou
(in Rs)
F nt
(in
Rs
)
—
Goods Consumed 2,3
– — 2,0
Closing Stock a/c 00
– —
– 36,
– — 00
– 0
—
—
—
xx
Total x
xxx
Each ledger account provides one or more pieces of information. To enable derivation of additional
information relating to returns of goods/stock, we record the transactions relating to purchase
returns as well as sales returns using Purchase Returns a/c and Sales Returns a/c respectively.
• Purchases Returns a/c
Purchase Returns a/c is a nominal account. It provides the information relating to the value of
goods/stock returned to the seller from whom the stock has been purchased.
Being a nominal account, this account is closed at the
end of the accounting period.
• Sales Returns a/c
Sales Returns a/c is a nominal account. It provides the information relating to the value of
goods/stock returned by the buyers to whom the stock has been sold.
Being a nominal account, this account is closed at the
end of the accounting period.
• Gross Purchases and Gross Sales
The Purchase Returns a/c and the Sales Returns a/c provide information relating to returns only.
Since returns are recorded separately using these
accounts, the Purchases a/c and Sales a/c give the
information relating to the Gross Purchases and Gross
Sales.
• Need for information relating to Net Values
Along with the information relating to the returns and the gross values, the organisation needs the
information relating to the net values i.e. the net purchases and net sales made by it.
There are two methods adopted for deriving the
information relating to Net Purchases and Net Sales.
By Setting off related Ledger account balances.
By Transferring the balance in the returns accounts to Trading a/c and making adjustments
thereon.
This information is generally derived at the end of the
accounting period. However, it can be derived as and
when needed, by deducting the balance in the returns
account from the balance in the main account.
final,accounts,financial,accounting,trading,profit,loss,account,balance,sheet,trial,balance,work,sheet,a
djustments
SET OFF » Setting off of ledger accounts is clubbing two accounts with opposite
balances. In setting off ledger account balances, we close the account with the
lower balance by transferring it to the account with a higher balance.
Transfer of a credit balance from one account to a second would result in the
second account being credited and the first account being debited.
Journal in the books of M/s __ for the period from ____ to _____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
By – –
To Purchases a/c 80,000 By – –
80,000 80,000
Dr Purchases a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
5,80,000 5,80,000
Transfer of a debit balance from one account to a second would result in the
second account being debited and the first account being credited.
Journal in the books of M/s __ for the period from ____ to _____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
To – –
To – – By Sales a/c 72,500
72,500 72,500
Dr Sales a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
8,24,000 8,24,000
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
8,27,500 8,27,500
Journal in the books of M/s __ for the period from ____ to _____
Debit
Amou
V/R L/ Credit Amount
Date Particulars nt
No. F (in Rs)
(in
Rs)
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
9,80,000 9,80,000
Since the information relating to Net Purchases and Net Sales is not revealed by just transferring
the balances in the returns accounts to the Trading a/c we need to make adjustments to derive that
information.
• Net Purchases
Posting (showing) an amount on the credit side of an account is an equivalent of
deducting the amount from an item on the debit side.
8,27,500 8,27,500
f
Such an adjustment would not affect the figure of gross i
profit. n
a
l
,
Revenue a
Income, turnover, revenue are terms used synonymously to mean the amount of money that an c
organisation receives from its activities like sale of products, providing services to customers etc. c
Depending on the nature of the organisation and the type of activity it is involved in the revenue o
streams are varied u
Sale or Products, Providing Services are the activities most common to business organisations. n
Taxes, Duties, Fees etc are the major sources of revenue for Governments. Donations, Grants, t
Subscriptions, etc are some of the sources of revenue for non-profit organisations. s
The terms Revenue and Sales or Turnover are interchangeably used. This makes sense only when ,
sales are expressed in terms of value and not in terms of quantity. f
Gross Revenue and Net Revenue are terms which are indicative of Gross Sales and Net Sales after i
setting off sales returns n
Revenue would be meaningful only when it is expressed in relation to a period. Say the revenue is a
Rs. 5 crores is would not make much sense unless we express the period involved. n
c
Saying the revenue for the last month is Rs. 5 Crores does sound meaningful. i
a
Top Line and Bottom Line l
Revenue is often referred to as top line since it is the first item that we consider in preparing the ,
income statements or accounts. On the Credit Side of the Trading account we find sales generally a
towards the top as the first or second item. c
Similarly Net Profit (revenue left after deducting all expenses) is termed "Bottom Line". In the Profit c
and Loss account, Net Profit/Loss is the last item that appears towards the end. o
Even in an income statement (which is nothing but the Trading and Profit & Loss a/c prepared in a u
form suitable for financial analysis) we start by considering the gross sales (i.e. gross revenue) and n
end with arriving at the net profit. t
Revenue Recognition i
Revenues are n
realized when goods and services are exchanged for cash or receivables (debtors). g
realizable when assets received in exchange for goods and services are readily convertible to cash ,
or receivables (debtors). t
earned when the duties to be entitled to compensation are performed. r
Recognising revenue implies the act that would make the organisation consider that they have a
earned the revenue involved in the transaction. Based on when the d
revenue is recognised there are two types of accounting systems (1) i
Cash Basis of Accounting and (2) Accrual Basis or Mercantile System final,accounts,financial,acco n
of Accounting unting,trading,profit,loss,ac g
count,balance,sheet,trial,ba ,
lance,work,sheet,adjustme p
nts r
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Cash Basis Accounting
Under cash basis accounting revenues are recognized and earned only when cash is received
irrespective of when and how the services were performed or goods delivered.
To put it in different terms, the cash basis of accounting asks you to take into consideration all those
incomes/gains that have been received in cash or other assets and expenses/losses that have been
paid out in cash or other assets during the accounting period in consideration.
Accrual or Mercantile Basis Accounting
Under accrual or mercantile basis accounting, revenues are recognized and earned when they are
realized or realizable irrespective of when the cash is received.
To put it in different terms, the accrual basis of accounting asks you to take into consideration all those
incomes/gains and expenses/losses pertaining to the accounting period for which you are trying to
ascertain the profits and losses irrespective of whether the incomes are received in cash or not and the
expenses are paid out in cash or not.
Hybrid System of Accounting
This is not a system of accounting on its own. It is a combination of the Cash Basis Accounting and
Accrual Basis Accounting. This system is based on the concept of conservatism.
Under the hybrid system of accounting, incomes are recognised as in Cash Basis Accounting i.e. when
they are received in cash and expenses are recognised on accrual basis i.e. during the accounting
period in which they arise irrespective of when they are paid.
What Basis/system to follow?
The basis of accounting to be followed is dependent on the attitude and outlook of the organisation. If
organisations have a conservative attitude, they may adopt the hybrid system of accounting.
The traditional accounting systems used to adopt the cash basis of accounting. Organisations which are
to abide by the various regulations imposed by the various acts under which they are regulated are
mostly required to adopt the Mercantile System of Accounting which is supposed to reveal the
information relating to the organisation in a more appropriate manner than the cash basis of
accounting.
Conversion from One System to Another
In practice we consider only the Cash and Accrual bases as the systems of accounting. As such,
conversion implies converting from cash basis of accounting to the mercantile basis of accounting and
vice versa.
For the purpose of deriving each piece of information, a ledger account is created. The more the
information we need, the more the accounting heads we need to maintain.
Conversion
From Cash Basis to Accrual/Mercantile Basis would require the following
information to be brought into the books of accounts.
From Mercantile/Accrual Basis to Mercantile Basis would require the final,accounts,financial,acco
following information to be written off from the books of accounts. unting,trading,profit,loss,ac
count,balance,sheet,trial,ba
lance,work,sheet,adjustme
nts
Expenses Outstanding [≡ Creditors]
The amount of expenses that have been incurred but have not yet been paid out.
Separate ledger accounts may be used for each distinct expenditure (like outstanding salaries a/c,
Rent payable a/c, Interest unpaid a/c etc.) or a single account may be used in place of all these (like
outstanding expenses a/c or creditors for expenses a/c).
Creditors !!! (for expenses)
When an expenditure is outstanding it amounts to a liability for the organisation. It may have to be
paid to a person or an organisation. Any person or organisation to whom we owe money is called a
creditor. As such, the "outstanding expenditure a/c" is a personal account in the nature of a creditor.
Since it is indicative of a creditor, it carries a credit balance and has to be shown on the liabilities side
of the balance sheet.
The creditors for expenses are cleared in the subsequent periods by paying them out.
Expenses Prepaid [≡ Debtors]
The amount of expenses that have not yet been incurred but have been paid out in advance.
Separate ledger accounts may be used for each distinct expenditure (like Advance salaries a/c, Rent
prepaid a/c, Interest paid in advance a/c etc.) or a single account may be used in place of all these
(like Prepaid expenses a/c or expenses paid in advance a/c).
Incomes Receivable [≡ Debtors]
The amount of incomes (revenue) that have arisen and have not yet been received.
Separate ledger accounts may be used for each such income (like Interest Receivable a/c, Commission
Due a/c, etc.) or a single account may be used in place of all these (like Incomes Still Receivable a/c).
Incomes Pre-received [≡ Creditors]
Incomes that have not yet arisen but have been received in advance.
Separate ledger accounts may be used for each such income (like Interest received in advance a/c,
Commission Pre received a/c, etc.) or a single account may be used in place of all these (like Pre-
received Incomes a/c or Incomes received in advance a/c).
Journal in the books of M/s _____ for the period from _____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
26,000 26,000
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
11,100 11,100
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
5,200 5,200
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
37,100 37,100
The overall gain or loss revealed by the "P/L Adjustment a/c" is written off to the "P/L
f
Appropriation a/c" or the "Capital a/c", depending on where the accumulated profits of the previous
i
periods have been transferred.
n
These would bring in all the adjustments needed for the various accruals, outstandings and prepaids
a
that have not been taken into consideration in the previous periods on account of not having
l
received the cash relating to the same.
,
Conversion from Accrual Basis to Cash Basis a
c
c
To convert the accounting system from accrual/mercantile basis to cash basis from a particular
o
point of time, one needs to identify the accounts of the nature as described above and write them off
u
from the books of accounts, which would take care of the adjustments to be made in the books for
n
the incomes/expenses relating to the past periods. From thereon, the incomes and expenses have to
t
be recorded on cash basis.
s
The ledger accounts to be written off from the books of accounts are personal accounts and are an
,
equivalent of either debtors or creditors. Writing off the ledger accounts equivalent to debtors would
f
amount to writing off an existing asset in the books, which would result in a loss. Writing off the
i
ledger accounts equivalent to creditors would amount to writing off an existing liability in the books,
n
which would result in a gain. A ledger account by name "Profit and Loss Adjustment a/c" is used to
a
record these losses or gains.
n
Journal Entries » Hide/Show c
i
a
Journal in the books of M/s _____ for the period from _____ to _____ l
,
Credit a
V/R Debit Amount c
Date Particulars L/F Amount
No. (in Rs) c
(in Rs)
o
u
31/12/05 – Expenses Outstanding a/c Dr – 31,650 n
To Profit & Loss Adjustment a/c – 31,650 t
i
n
[For writing off the expenses outstanding
g
to be paid, recorded as a liability, from the
,
books of accounts.]
t
r
31/12/05 – Profit & Loss Adjustment a/c Dr – 18,700 a
To Expenses Prepaid a/c – 18,700 d
i
n
[For writing off the expenses paid in g
advance, recorded as an asset, from the ,
books of accounts.] p
r
o
31/12/05 – Incomes Pre-received a/c Dr – 13,650
f
To Profit & Loss Adjustment a/c – 13,650
i
t
[For writing off the amount of incomes ,
received in advance, recorded as a liability, l
from books of accounts.] o
s
s
31/12/05 – Profit & Loss Adjustment a/c Dr – 8,750 ,
To Incomes Receivable a/c – 8,750 a
c
c
[For writing off the incomes receivable,
o
recorded as an asset, from the books of
u
accounts.]
n
t
,
b
a
Ledger Accounts » Hide/Show
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
31,650 31,650
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
18,700 18,700
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
13,650 13,650
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
8,750 8,750
Dr Profit & Loss Adjustment a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
45,300 45,300
The overall gain or loss revealed by the "P/L Adjustment a/c" is written off to the "P/L Appropriation
a/c" or the "Capital a/c", depending on where the accumulated profits of the previous periods have
been transferred.
These would bring in all the adjustments needed for the various accruals, outstandings and prepaids
that have been taken into consideration in the previous periods on account of not having received the
cash relating to the same.
Income/Profits
The profits relating to a particular accounting period are revealed by the "Profit & Loss a/c" relating to
that period. The profits are derived by transferring the ledger account balances in the nominal accounts
to the "Trading a/" or "Profit & Loss a/c" as the case may be.
The basis of accounting followed i.e. cash basis or mercantile basis would decide the amount of
incomes/expenses in relation to the accounting period. Since the figure of profit is dependent on the
incomes/expenses, we can say that the figure of profit would vary depending on the method of
accounting being followed by the organisation.
Finding Income under a System given Income under the
other
Many a times, in problem solving, we would be required to identify the income under the Mercantile
basis accounting from the income under cash basis account.
We know that the information relating to outstanding expenses, expenses paid in advance, pre-
received incomes, outstanding incomes receivable is to be dealt with in changing the accounting
system from Cash to Mercantile or vice versa from a particular point of time. The same accounts are to
be dealt with in finding the income under one system given the income under the other system of
accounting. Moreover, we should understand that these accounts are to be dealt along with the
respective income/expenses accounts and not in isolation.
Adjusting Expenditure
Consider an expenditure like Salary. Within an accounting period, salary is expended as well as paid.
The amount of salary paid can be identified from the amount of cash paid or cheques issued towards
salaries. The amount of salary expended i.e. the expenditure on account of salary relating to the
current accounting period can be identified by making appropriate adjustments for outstanding and
prepaid salaries both at the beginning and ending of the accounting period.
Opening Expenses Outstanding
This represents the amount of expenditure that has been outstanding at the beginning of the
accounting period.
This would have to be cleared by paying out the amount in the current period. Therefore, the cash paid
in the current period towards the expenditure is assumed to include this outstanding amount also
(unless there is an indication to the contrary).
Thus to find the expenditure relating to the current period only, this amount has to be deducted from
the Cash Paid for the expense during the current period.
Opening Expenses Prepaid
This represents the amount of expenditure that has been paid in advance during the previous period.
The prepaid expenses account shows a debit balance at the end of the previous accounting period. It is
an equivalent of a debtor and is treated as an asset. During the current accounting period, this account
is closed by transferring the balance to the expenditure account.
Thus to find the expenditure relating to the current period only, this amount has to be added to the
Cash Paid for the expense during the current period.
Closing Expenses Outstanding
This represents the amount of expenditure relating to the current accounting period that has not yet
been paid.
Thus to find the expenditure relating to the current period only, this amount has to be added to the
Cash Paid for the expense during the current period.
Closing Expenses Prepaid
This represents the amount of expenditure relating to the subsequent accounting periods that has been
paid in advance during the current accounting period.
Thus to find the expenditure relating to the current period only, this amount has to be deducted from
the Cash Paid for the expense during the current period.
The information relating to the cash paid and the expenditure incurred can also be obtained
using a ledger account instead of a statement. For this the relevant expenditure account is used.
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
39,175 39,175
The balance in the "Expenditure Prepaid a/c" at the beginning of the accounting period is
transferred to the "Expenditure a/c". At the end of the accounting period, a new asset equal to
the amount of expenditure that is paid in advance is created by transferring the debit from the
"Expenditure a/c"
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
63,500 63,500
The balance in the "Expenditure Outstanding a/c" at the beginning of the accounting period is
transferred to the "Expenditure a/c". At the end of the accounting period, a new liability equal to
the amount of expenditure that is outstanding to be paid is created by transferring the credit
from the "Expenditure a/c"
Dr Expenditure a/c Cr
3,08,725 3,08,725
The details relating to the opening and closing outstanding and prepaid expenditures being
known, the cash paid or the expenditure relatable to the current period (under mercantile
system) can be identified as the balancing figure when the data relating to the other is available.
Deriving the Information using only the Expenditure
a/c
The information relating to outstandings and prepaids is some times maintained using the
nominal account itself. In the above "Expenditure a/c", we can notice that the amount of
outstanding expenditure is to be debited and the prepaid expenditures is to be credited at the
end of the account period to derive the actual expenditure that is relatable to the current period.
Dr Expenditure a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
3,08,725 3,08,725
This effect is brought about by carrying forward the amounts as balances to the subsequent
accounting periods within the same ledger accounts.
Outstanding Expenditure
The "Expenditure Outstanding a/c", if at all it is maintained would have a credit balance.
Therefore, instead of creating a separate account the same effect is brought about by carrying
forward a credit balance in the nominal account itself.
Dr Expenditure a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
3,08,725 3,08,725
01/01/06 By Bal b/d – 45,300
Closing
The posting relevant to creating the closing outstanding balance would read "To Bal c/d"
towards the end of the ledger account. This indicates a credit balance being carried forward to
the subsequent accounting period.
Opening
Since a credit balance is brought forward from the previous accounting period, the posting
relevant to bringing in the opening outstanding balance would read "By Bal b/d" at the
beginning of the ledger account.
Expenditure Prepaid
The "Expenditure Prepaid a/c", if at all it is maintained would have a debit balance. Therefore,
instead of debiting a separate account the same effect is brought about by carrying forward a
debit balance in the nominal account itself.
Dr Expenditure a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
3,08,725 3,08,725
Closing
The posting relevant to creating the closing prepaid balance would read "By Bal c/d" towards
the end of the ledger account. This indicates a debit balance being carried forward to the
subsequent accounting period.
Opening
Since a debit balance is brought forward from the previous accounting period, the posting
relevant to bringing in the opening prepaid balance would read "To Bal b/d" at the beginning of
the ledger account.
Opening » Outstanding vs Prepaid
The "Expenditure Outstanding a/c" is a personal account with a credit balance and is an equivalent of a
creditor (a liability). Creditors are cleared by paying out the amount due. Thus the oustandings of the
previous periods may be paid out in full or in part during the subsequent periods.
The "Expenditure Prepaid a/c" is a personal account with a debit balance and is an equivalent of a
debtor (an asset). Debtors are normally liquidated by paying realising the amounts due from them. But,
the prepaid expenditure is not an asset that is liquidated by realising it in cash. It is liquidated by
absorbing (writing off) the asset as an expenditure during the subsequent periods.
Adjusting Incomes
Consider an income like Interest. Within an accounting period, interest is earned as well as received in
cash. The amount of interest received can be identified from the amount of cash/cheques received
towards interest. The amount of interest earned i.e. the income on account of salary relating to the
current accounting period can be identified by making appropriate adjustments for outstanding and
pre-received interest both at the beginning and ending of the accounting period.
Opening Income Receivable
This represents the amount of income that has been outstanding and still receivable at the beginning of
the accounting period.
This would be cleared by realising the amount in the current period. Therefore, the cash received in the
current period towards the income is assumed to include this outstanding amount also (unless there is
an indication to the contrary).
Thus to find the income relating to the current period only, this amount has to be deducted from the
Cash received towards the income during the current period.
Opening Income Pre-received
This represents the amount of income that has been received in advance during the previous period.
The pre-received income account shows a credit balance at the end of the previous accounting period.
It is an equivalent of a creditor and is treated as a liability. During the current accounting period, this
account is closed by transferring the balance to the income account.
Thus to find the income relating to the current period only, this amount has to be added to the Cash
received for the income during the current period.
Closing Income Receivable
This represents the amount of income relating to the current accounting period that has not yet been
received.
Thus to find the income relating to the current period only, this amount has to be added to the Cash
received towards the income during the current period.
Closing Income Pre-received
This represents the amount of income relating to the subsequent accounting periods that has been
received in advance during the current accounting period.
Thus to find the income relating to the current period only, this amount has to be deducted from the
Cash received towards the income during the current period.
The information relating to the cash received and the income accrued can also be obtained using
a ledger account instead of a statement. For this the relevant income account is used.
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
11,875 11,875
The balance in the "Income Pre-received a/c" at the beginning of the accounting period is
transferred to the "Income a/c". At the end of the accounting period, a new liability equal to the
amount of income that is received in advance is created by transferring the credit from the
"Income a/c"
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
12,095 12,095
The balance in the "Income Receivable a/c" at the beginning of the accounting period is
transferred to the "Income a/c". At the end of the accounting period, a new asset equal to the
amount of income that is still to be received is created by transferring the debit from the
"Income a/c"
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The details relating to the opening and closing receivable and pre-received income being known,
the cash received or the income relatable to the current period (under mercantile system) can
be identified as the balancing figure when the data relating to the other is available.
Deriving the Information using only the Income a/c
The information relating to receivable and pre-received incomes is some times maintained using
the nominal account itself. In the above "Income a/c", we can notice that the amount of income
receivable is to be credited and the pre-received income is to be debited at the end of the
account period to derive the actual income that is relatable to the current period.
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,45,870 1,45,870
This effect is brought about by carrying forward the amounts as balances to the subsequent
accounting periods within the same ledger accounts.
Income Receivable a/c
The "Income Receivable a/c", if at all it is maintained would have a debit balance. Therefore,
instead of creating a separate account the same effect is brought about by carrying forward a
debit balance in the nominal account itself.
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Closing
The posting relevant to creating the closing balance receivable would read "By Bal c/d" towards
the end of the ledger account. This indicates a debit balance being carried forward to the
subsequent accounting period.
Opening
Since a debit balance is brought forward from the previous accounting period, the posting
relevant to bringing in the opening outstanding balance would read "To Bal b/d" at the
beginning of the ledger account.
Pre-received Incomes
The "Income Pre-received a/c", if at all it is maintained would have a credit balance. Therefore,
instead of debiting a separate account the same effect is brought about by carrying forward a
credit balance in the nominal account itself.
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Closing
The posting relevant to creating the closing pre-received balance would read "To Bal c/d"
towards the end of the ledger account. This indicates a debit balance being carried forward to
the subsequent accounting period.
Opening
Since a credit balance is brought forward from the previous accounting period, the posting
relevant to bringing in the opening prepaid balance would read "By Bal b/d" at the beginning of
the ledger account.
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Expenditure a/c –
–
Expenditure Outstanding a/c 13,500
Total
The "Expenditure a/c" being a nominal account is created anew in every accounting period. Thus it has
no balance on the opening day of the accounting period.
Cash paid towards the expenditure
» Rs. 4,500/month for 13 months (includes payment for 2 months outstanding dues)
For the Current Period Rs. 49,500 (Rs. 4,500/month × 11 months) and
For the previous period Rs. 9,000 (Rs. 4,500/month × 2 months).
Outstanding : (?) Rest of the Period
Since the accounting period consists of 12 months, the amount of expenditure outstanding would be for 1
month.
[Total payment for 13 months − Payment made for previous dues 2 months = Payment made for 11
months]
Method I :: "Expenditure Outstanding a/c" exists all
throughout
"Expenditure Outstanding a/c" is treated as a separate liability and the amount paid towards the
previous period dues are recorded through this account.
Journal in the books of M/s ____ for the period from 1st July 2005 to 30th
June 2005
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Expenditure a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
49,500 49,500
Expenses Prepaid f
At the end of the accounting period, there may be expenses which have been paid in advance. These i
are expenses which are paid in advance and would be adjusted in the relevant expenditure during n
the subsequent accounting periods. a
Advances paid are treated in a different manner from expenses prepaid, the difference l
,
a
being that the advances are recoverable whereas expenditure prepaid are realised by adjusted them
c
in the amounts to be paid in the future towards the expenditure.
c
Credit » Expenditure a/c o
"Expenditure a/c" is a nominal account with a debit balance. The balance in the "Expenditure a/c" u
generally indicates the total amount paid on account of the expenditure during the current n
accounting period. t
On the assumption that the payments towards the expenditure include the expenditure prepaid, the s
expenditure has to be adjusted (reduced) to ascertain the actual expenditure chargeable for the ,
current period. f
"Expenditure a/c" shows a debit balance and as such to reduce it, the "Expenditure a/c" has to be i
credited. n
[Expenditure a/c – Nominal a/c – Credit all Incomes& Gains.] a
n
Debit » Expenses Prepaid a/c c
The prepaid expenditure is indicative of an amount that is owed to the organisation by the person or i
organisation to whom it has been prepaid. The persons who owe to the organisation are its debtors. a
Thus amount of expenditure prepaid is debited to the "Expenses Prepaid a/c". l
[Expenditure Prepaid a/c – Personal a/c – Debit the benefit receiver.] ,
a
Journal in the books of M/s ____ for the period from 1st July 2005 to 30th c
June 2006 c
o
u
Credit n
V/R Debit Amount
Date Particulars L/F Amount t
No. (in Rs)
(in Rs) i
n
1st to 30th – Expenditure Prepaid a/c Dr – xxx g
To Expenditure a/c – xxx ,
t
r
[For the amount expenditure relating to a
the subsequent periods paid in advance d
being adjusted from the current period i
expenditure.] n
g
,
p
r
o
f
i
t
,
l
o
s
s
,
a
c
c
o
u
n
t
,
b
a
Adjustment
The amount of expenditure prepaid is to be
Deducted from the relevant expenditure on the debit side of the "Trading a/" or "Profit & Loss a/c".
Shown as an asset on the assets side of the balance sheet.
Explanation/Illustration » Hide/Show
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Expenditure a/c –
–
Expenditure Prepaid a/c 8,000
Total
The "Expenditure a/c" being a nominal account is created anew in every accounting period. Thus it has
no balance on the opening day of the accounting period.
Cash paid towards the expenditure
» Rs. 86,000 (includes Rs. 6,000 pre paid)
Method I :: "Expenditure Prepaid a/c" exists all through out
This method of treating prepaid expenditure is not possible since the prepaid expenditure is not realised
in cash and is adjusted to the relevant expenditure only.
Method II :: "Expenditure Prepaid a/c" is raised and written
off
The "Expenditure Prepaid a/c" is created at the end of the accounting period and is written off by
transfer to the "Expenditure a/c" at the beginning of the accounting period.
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Expenditure a/c –
Total
The balance in the "Expenditure Prepaid a/c" at the beginning of the accounting period represents the
expenditure prepaid at the end of the previous period brought forward. This balance is transferred to the
"Expenditure a/c" at the beginning of the accounting period.
8,000 8,000
The amount that is paid during the current period, whether towards the current period dues or for the
subsequent period is recorded through the "Expenditure a/c".
Journal in the books of M/s ____ for the period from 1st Jan 2005 to 31st Dec
2005
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Expenditure a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
94,000 94,000
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Journal in the books of M/s ____ for the period from 1st Jan 2005 to 31st Dec
2005
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Expenditure a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
94,000 94,000
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
6,000 6,000
Expenditure 88,000
Balance Sheet of M/s ______ as on 31st Dec 2005
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Total
The "Expenditure a/c" is a personal account for the purpose of preparation of the opening balance sheet
and is treated a nominal account all throughout the accounting period.
Thus, the debit balance shown in the account on the opening day is indicative of a prepaid expenditure at
the end of the previous period.
Dr Expenditure a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
94,000 94,000
The closing debit balance in the "Expenditure a/c" indicates the total expenditure pre-paid at the end of
the accounting period. Even in this case, the total amount paid during the current period is to be treated
as paid for the expenditure (without segregating between payment for the current period and payment
for the subsequent periods.)
The postings in the "Trading a/c" or "Profit and Loss a/c" would be the same as above with the only
difference being in the name of the account head that is shown in the balance sheet. "Expenditure a/c"
would appear in the balance sheet instead of the "Expenditure Prepaid a/c".
Adjustment during Final Accounting
Adjustment is bringing in the effect of the transactions through mathematical operations of addition and
subtraction. The adjustments to be made can be found out by ascertained the net effect of the journal
entries to be recorded.
Adjustments are generally required for transactions which are not yet recorded at the time of making up
the final accounts i.e. towards the end of the accounting period.
For the prepaid expenditure to be recorded at the end of the accounting period.
The net effect would give an understanding on where the amounts are to be adjusted.
The amount of expenditure prepaid at the end of the accounting period is to be
deducted from the relevant expenditure on the debit side of the "Trading a/" or "Profit & Loss a/c".
Shown as an asset on the assets side of the balance sheet.
Expenditure 94,000
(−) Pre paid (cl). 6,000
Total Exp 88,000
Journal in the books of M/s ____ for the period from 1st April 2005 to 31st
March 2006
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Income a/c –
Total
The "Income a/c" being a nominal account is created anew in every accounting period. Thus it has no
balance on the opening day of the accounting period.
Cash received towards the income
» Rs. 1,02,000 (includes past dues Rs. 5,200)
Income is to be received @ Rs. 9,000/month
Income Receivable relating to the current period = Rs. 11,200 {(Rs. 9,000 × 12) − (Rs. 1,02,000 −
5,200)}
Method I :: "Income Receivable a/c" exists all throughout
"Income Receivable a/c" is treated as a separate asset and the amount received towards the past dues
are recorded through this account.
Journal in the books of M/s ____ for the period from 1st July 2005 to 30th
June 2005
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
6,800 6,800
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Total
Journal in the books of M/s ____ for the period from 1st April 2005 to 31st
March 2006
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Income a/c Cr
1,08,000 1,08,000
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
12,800 12,800
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Income a/c – –
Total
The balance in the "Income Receivable a/c" at the beginning of the accounting period represents the
income receivable at the end of the previous period brought forward. The balance in the "Income
Receivable a/c" at the beginning of the accounting period is transfered to the "Income a/c".
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
6,800 6,800
The amount that is received during the current period, whether towards the current period dues or the
previous period dues is recorded through the "Income a/c", as that is the only account that is available.
Journal in the books of M/s ____ for the period from 1st Arpil 2005 to 31st
March 2006
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,02,000 1,02,000
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Total
The "Income Receivable a/c" does not carry any balance till the receivables is recorded at the end of the
accounting period.
Journal in the books of M/s ____ for the period from 1st April 2005 to 31st
March 2006
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Note
The total amount of income receivable at the end of the accounting period has to be brought into books
through the above entry and not just the income receivable relating to the current period.
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,08,000 1,08,000
Dr Income Receivable a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
12,800 12,800
Income 1,08,000
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Total
The "Income a/c" is a personal account for the purpose of preparation of the opening balance sheet and
is treated a nominal account.
Thus, the balance shown in the account on the opening day is indicative of an income receivable relating
ot the previous periods.
Dr Income a/c Cr
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,14,800 1,14,800
The closing balance in the "Income a/c" indicates the total income receivable at the end of the
accounting period. Even in this case, the total amount received during the current period is to be treated
as being received for the income (without seggregating between receipt for the current period and
receipt for the previous period dues)
The postings in the "Trading a/c" or "Profit and Loss a/c" would be the same as above with the only
difference being in the name of the account head that is shown in the balance sheet. "Income a/c" would
appear in the balance sheet instead of the "Income Receivable a/c".
Adjustment during Final Accounting
Adjustment is bringing in the effect of the transactions through mathematical operations of addition and
subtraction. The adjustments to be made can be found out by ascertained the net effect of the journal
entries to be recorded.
Adjustments are generally required for transactions which are not yet recorded at the time of making up
the final accounts i.e. towards the end of the accounting period.
For the income receivable to be recorded at the end of the accounting period.
The net effect would give an understanding on where the amounts are to be adjusted.
The amount of income receivable at the end of the accounting period is to be
Added to the relevant income on the credit side of the "Trading a/" or "Profit & Loss a/c".
Shown as an asset on the assets side of the balance sheet.
Method I
Dr Trading and Profit & Loss a/c Cr
Income 96,800
(+) Cur. Per. Out. 11,200
Total Inc 1,08,000
Balance Sheet of M/s ______ as on 30th June 2006
Method II
Dr Trading and Profit & Loss a/c Cr
Income 95,200
(+) Total Out. 12,800
Total Inc 1,08,000
Journal in the books of M/s ____ for the period from 1st April 2005 to 31st
March 2006
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Adjustment
The amount of income prereceived is to be
Deducted from the relevant income on the credit side of the "Trading a/" or "Profit & Loss a/c".
Shown as a liability on the liabilities side of the balance sheet.
Explanation/Illustration » Hide/Show
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Income a/c –
–
Income Prereceived a/c 4,300
Total
The "Income a/c" being a nominal account is created anew in every accounting period. Thus it has no
balance on the opening day of the accounting period.
Cash received towards the income
» Rs. 58,000 (includes Rs. 2,800 pre received)
Method I :: "Income Prereceived a/c" exists all throughout
This method of treating prereceived incomes is not possible since the prereceived income is not paid
out in cash and is adjusted to the relevant income only.
Method II :: "Income Prereceived a/c" is raised and written
off
The "Income Prereceived a/c" is created at the end of the accounting period and is written off by
transfer to the "Income a/c" at the beginning of the accounting period.
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Income a/c –
Total
The balance in the "Income Prereceived a/c" at the beginning of the accounting period represents the
prereceived income at the end of the previous period brought forward. This balance is transfered to the
"Income a/c" at the beginning of the accounting period.
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
4,300 4,300
The amount that is received during the current period, whether towards the current period dues or for
the subsequent period is recorded through the "Income a/c".
Journal in the books of M/s ____ for the period from 1st April 2005 to 31st
March 2006
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Income a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
62,300 62,300
31/03/0
By bal b/d – 62,300
6
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
Total
The "Income Prereceived a/c" does not carry any balance till the entry for recording the total income
prereceived is recorded at the end of the accounting period.
Journal in the books of M/s ____ for the period from 1st April 2005 to 31st
March 2006
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Dr Income a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
31/03/0 To Inc. Pre recd. – 2,800 31/03/0 By Bal b/d – 62,300
6 a/c 59,500 6 –
31/03/0 To P/L a/c
6
62,300 62,300
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
2,800 2,800
31/03/0
By Bal b/d – 2,800
6
Income 59,500
Total
The "Income a/c" is a personal account for the purpose of preparation of the opening balance sheet
and is treated a nominal account all througout the accounting period.
Thus, the credit balance shown in the account on the opening day is indicative of a prereceived income
at the end of the previous period.
Dr Income a/c Cr
J/ Amount J/ Amount
Date Particulars Date Particulars
F (in Rs) F (in Rs)
62,300 62,300
01/04/0
By bal b/d – 2,800
6
The closing debit balance in the "Income a/c" indicates the total income prereceived at the end of the
accounting period. Even in this case, the total amount received during the current period is to be
treated as having been received for the income (without seggregating between receipt for the current
period and receipt for the subsequent periods.)
The postings in the "Trading a/c" or "Profit and Loss a/c" would be the same as above with the only
difference being in the name of the account head that is shown in the balance sheet. "Income a/c"
would appear in the balance sheet instead of the "Income Prereceived a/c".
Adjustment during Final Accounting
Adjustment is bringing in the effect of the transactions through mathematical operations of addition
and subtraction. The adjustments to be made can be found out by ascertained the net effect of the
journal entries to be recorded.
Adjustments are generally required for transactions which are not yet recorded at the time of making
up the final accounts i.e. towards the end of the accounting period.
For the prereceived income to be recorded at the end of the accounting period.
1) Income a/c Dr
To Income Prereceived a/c Trading a/c (Or) Profit & Loss a/c
2) Trading a/c (Or) Profit & Loss a/c Dr
Dr To Income Prereceived a/c
To Income a/c
The net effect would give an understanding on where the amounts are to be adjusted.
The amount of income prereceived at the end of the accounting period is to be
deducted from the relevant income on the credit side of the "Trading a/" or "Profit & Loss a/c".
Shown as a liability on the liabilities side of the balance sheet.
Income 62,300
(−) Pre Recd (cl). 2,800
Total Income 59,500
Financial Management
The more permanent needs (fixed assets and the fixed element of working capital) should
be financed from fairly permanent sources (e.g. equity and loan stocks); the fluctuating
element should be financed from a short-term source (e.g. a bank overdraft), which can be
drawn on and repaid easily and at short notice.
The upper portion of the diagram above shows in a simplified form the chain of
events in a manufacturing firm. Each of the boxes in the upper part of the
diagram can be seen as a tank through which funds flow. These tanks, which are
concerned with day-to-day activities, have funds constantly flowing into and out
of them.
• The chain starts with the firm buying raw materials on credit.
• In due course this stock will be used in production, work will be carried out on
the stock, and it will become part of the firm’s work in progress (WIP)
• Work will continue on the WIP until it eventually emerges as the finished
product
• As production progresses, labour costs and overheads will need to be met
• Of course at some stage trade creditors will need to be paid
• When the finished goods are sold on credit, debtors are increased
• They will eventually pay, so that cash will be injected into the firm
Each of the areas – stocks (raw materials, work in progress and finished goods),
trade debtors, cash (positive or negative) and trade creditors – can be viewed as
tanks into and from which funds flow.
Working capital is clearly not the only aspect of a business that affects the
amount of cash:
• The business will have to make payments to government for taxation
• Fixed assets will be purchased and sold
• Lessors of fixed assets will be paid their rent
• Shareholders (existing or new) may provide new funds in the form of cash
• Some shares may be redeemed for cash
• Dividends may be paid
• Long-term loan creditors (existing or new) may provide loan finance, loans will
need to be repaid from time to time, and
• Interest obligations will have to be met by the business.
Unlike movements in the working capital items, most of these ‘non-working
capital’ cash transactions are not everyday events. Some of them are annual
events (e.g. tax payments, lease payments, dividends, interest and, possibly,
fixed asset purchases and sales). Others (e.g. new equity and loan finance and
redemption of old equity and loan finance) would typically be rarer events.
Note
The data in the rate column should always be obtained as the quotient of Value ÷ Quantity.
The following conclusions can be derived from the above:
Net Realisable (Market) Value of Normal Loss:
The normal loss units can be sold at Rs. 1 per unit. This rate of Rs. 1 is also called its net realisable
value or net marketable rate or market price.
[Net Realisable Value = Sale Price − Expenses directly relatable to sales like sale commission etc.]
Here we do not have the expenses as such we consider sale price as the net realisable value]
Value of Normal Loss:
We were able to derive the Net cost of purchase i.e. Rs. 99,900 or Rs. 111.00 per unit by deducting Rs.
100 from the cost and 100 units from the units purchased. This implies that we have valued normal
loss at Rs. 1 per unit its market price (net realisable value).
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Trading a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
Purchases a/c
Where the following conditions exist, we can credit "Purchases a/c" with the value of abnormal loss
stock.
The stock lost on account of abnormal reasons is physically relatable to the stock that has been
purchased during the current period.
There are no direct expenses in relation to the stock purchased during the current period
(Or)
The value of abnormal loss stock does not include the direct expenses incurred during the current
period
Journal/Ledger » Hide/Show
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Purchases a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
Stock Losses (Abnormal)
Where such transactions occur frequently, the organisation may create a controlling account by name
"Stock Lost a/c". This is a nominal account that gives the information relating to the total value of
stock that has been lost on account of abnormal reasons during the accounting period.
Journal/Ledger » Hide/Show
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
The "Stock Losses (Abnormal) a/c" would be closed at the end of the accounting period
by transfer to either the "Trading a/c" or "Goods Consumed a/c" or "Purchases a/c"
depending on where the value related to the stock drawn is included.
Disposing Abnormal Loss Stock
We will come across the following additional transactions relating to disposal of abnormal loss stock
Expenses Incurred » Journal/Ledger :: Hide/Show
The salvaged stock may be in a saleable condition or completely useless. There may be instances when
the salvaged stock can be brought into saleable condition by bearing certain expenditure.
This expenditure may be paid in cash or by cheques or may have been incurred and not yet been
paid.
Debit » Abnormal Loss Stock a/c
Since the amount spent is for the purpose of bringing the abnormal loss stock into saleable
condition would amount to brining the asset by name "Abnormal Loss Stock" into usable
condition, the expenditure should go into the value of the asset.
Thus the "Abnormal Loss Stock a/c" is debited with the amount of expenditure incurred.
Credit »
The expenditure incurred may be credited to
Cash a/c
If the expenses are paid out in cash
[Cash a/c – Real a/c – Credit what goes out.]
Bank a/c
If the expenses are paid by cheques
[Bank a/c – Personal a/c – Credit the benefit giver.]
Expenses Payable a/c (Or) Party/Creditors a/c
If the expenses are still to be paid
[Expenses Payable a/c (Or) Creditor/Party a/c – Personal a/c – Credit the benefit giver.]
Note:
Any nominal account prefixed/suffixed by the terms outstanding, prepaid, still receivable, still
payable etc., is a personal account and not a nominal account
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The sale proceeds may be received in cash or by a cheques or may be still receivable
Credit » Abnormal Loss Stock a/c
Since the asset represented by the "Abnormal Loss Stock a/c" is being disposed off, it amounts
to the asset moving out of the organisation.
Thus the "Abnormal Loss Stock a/c" is credited with the amount of sale realisation
Debit »
The sale proceeds may be debited to
Cash a/c
If the proceeds are received in cash
[Cash a/c – Real a/c – Debit what comes in.]
Bank a/c
If the proceeds are received by cheques
[Bank a/c – Personal a/c – Debit the benefit receiver.]
Proceeds Receivable a/c (Or) Party/Debtors a/c
If the proceeds are still to be received
[Proceeds Receivable a/c (Or) Debtor/Party a/c – Personal a/c – Debit the benefit receiver.]
Note:
Any nominal account prefixed/suffixed by the terms outstanding, prepaid, still receivable, still
payable etc., is a personal account and not a nominal account
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The insurance amount may be recorded directly after it has been received or immediately on the
insurance company accepting the claim.
Credit » Abnormal Loss Stock a/c
Since the asset represented by the "Abnormal Loss Stock a/c" is being realised (though not
physically given away) or disposed off, it amounts to the asset moving out of the organisation.
Thus the "Abnormal Loss Stock a/c" is credited with the amount of sale realisation
Debit »
The insurance amount may be debited to
Bank a/c
Where the insurance amount has been received from the insurance company and where no entry
has been recorded for the amount the insurance company has accepted to pay.
[Bank a/c – Personal a/c – Debit the benefit receiver.]
Insurance Receivable (or Insurance Company) a/c
Where the insurance company has accepted to pay and the amount has not yet been received,
the amount may be shown as an asset (as a debtor).
This may be shown in the name of "Insurance Receivable a/c" or the "Insurance Company a/c"
[Insurance Receivable (or Insurance Company) a/c – Personal a/c – Debit the benefit receiver.]
Note:
Any nominal account prefixed/suffixed by the terms outstanding, prepaid, still receivable, still
payable etc., is a personal account and not a nominal account
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
29,000 29,000
When there is a gain
Credit » Profit & Loss a/c
"Profit & Loss a/c" being a nominal account, any profit should be credited to it.
[Profit & Loss a/c – Nominal a/c – Credit all incomes and gains.]
Debit » Abnormal Loss Stock a/c
The "Abnormal Loss Stock a/c" has a credit balance and has to be closed by transferring the
balance to the "Profit & Loss a/c".
Thus the "Abnormal Loss Stock a/c" has to be debited.
The "Abnormal Loss Stock a/c" carries a credit balance when there is a profit. Transfer of a
credit balance from one account to a second results in the second account being credited and the
first account being debited.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
31,800 31,800
Assume that the insurance realisation is Rs. 20,000 in place of Rs. 5,000 for understanding this.
Note
Since adjustment is needed at the end of the accounting period, we assume that the proceeds are
receivable, expenses are payable and insurance amount is receivable where the information relating to
them is to be incorporated into the accounts.
The net effect would give an understanding on where the amounts are to be adjusted. Since the journal
entry representing the net effect is a compound entry, the number of accounts affected, thereby the
number of adjustments to be made , can be identified by the number of accounts involved in the
compound entry.
The value of stock used in the building up of the asset is to be
The value of stock lost should be credited to the "Trading a/c"
The net profit or loss on disposing the abnormal loss stock should be transferred to the "Profit & Loss
a/c"
Where there is no realisation either in the form of sale proceeds of salvaged stock or insurance
realisation, the total value of stock lost (value of stock + expenses incurred) would be a loss.
Where there is sale or insurance realisation or both the total value realised is reduced by the total
amount of realisation giving us the net amount of loss.
Where there is sale or insurance realisation or both, if the total value realised is more than the total
value of the stock there would be a gain. [This is a very rare occurrence.]
Abnormal Loss Stock » Statement to ascertain Loss/Gain
Hide/Show
Amou
Particulars Amount
nt
Incomes/Realisations:
Sale Realisation
Cash 4,000
Bank 2,400
Receivable 2,900 9,300
Insurance
Received 5,000
Receivable 2,500 7,500
Expenses/Costs:
Value of Stock 24,000
Expenses Incurred
Paid in Cash 1,000
Paid by Cheque 2,800
Outstanding 1,200 5,000
Commission on Sale – –
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
–
–
Expenses on Abnormal Loss Stock – 2,500
–
–
Total
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
2,500 2,500
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The temporary account is assumed to have got exhausted and the expenditure is added to the
value of stock for the purpose of incorporating the same information as adjustment.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
–
–
Sale of Abnormal Loss Stock – 8,000
–
–
Total
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
8,000 8,000
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
31/12/05 To Trading a/c – 24,000
31/12/05 By Sale of Ab. – 8,000
ls. St
For the purpose of incorporating the same information as adjustment, the temporary account is
assumed to have got exhausted and the proceeds are considered for ascertaining the profit or
loss on abnormal loss stock.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
–
–
Insurance Received – 5,000
–
–
Total
Journal in the books of M/s __ for the period from ____ to _____
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
5,000 5,000
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
For the purpose of incorporating the same information as adjustment, the temporary account is
assumed to have got exhausted and the proceeds are considered for ascertaining the profit or
loss on abnormal loss stock.
xxxx xxx
Journal in the books of M/s __ for the period from ____ to _____
Debit Credit
V/R
Date Particulars L/F Amount Amount
No.
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
Purchases a/c
Where the following conditions exist, we can credit "Purchases a/c" with the value of normal loss
stock.
The normal loss stock is physically relatable to the stock that has been purchased during the current
period.
There are no direct expenses in relation to the stock purchased during the current period
(Or)
The value of normal loss stock does not include the direct expenses incurred during the current period
Journal/Ledger » Hide/Show
Journal in the books of M/s __ for the period from ____ to _____
Debit Credit
V/R
Date Particulars L/F Amount Amount
No.
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Purchases a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
Stock Adjustment (Normal Loss)
Where such transactions occur frequently, the organisation may create a controlling account by name
"Stock Adjustment (Normal) a/c". This is a nominal account that gives the information relating to the
total value of stock that has been lost on account of normal reasons during the accounting period.
Journal/Ledger » Hide/Show
Journal in the books of M/s __ for the period from ____ to _____
Debit Credit
V/R
Date Particulars L/F Amount Amount
No.
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
The "Stock Adjustment (Normal) a/c" would be closed at the end of the accounting
period by transfer to either the "Trading a/c" or "Goods Consumed a/c" or "Purchases
a/c" depending on where the value related to the normal loss stock is included.
Disposing Normal Loss Stock
We will come across the following additional transactions relating to disposal of normal loss stock
Expenses Incurred » Journal/Ledger :: Hide/Show
The normal loss stock may be in a realisable state or a completely useless. There may be instances
when some expenditure may have to be incurred on the normal loss stock to be able to bring it into
realisable state.
This expenditure may be paid in cash or by cheques or may have been incurred and not yet been
paid.
Debit » Normal Loss a/c
Since the amount spent is for the purpose of bringing the normal loss stock into saleable
condition would amount to brining the asset by name "Normal Loss" into usable condition, the
expenditure should go into the value of the asset.
Thus the "Normal Loss a/c" is debited with the amount of expenditure incurred.
Credit »
The expenditure incurred may be credited to
Cash a/c
If the expenses are paid out in cash
[Cash a/c – Real a/c – Credit what goes out.]
Bank a/c
If the expenses are paid by cheques
[Bank a/c – Personal a/c – Credit the benefit giver.]
Expenses Payable a/c (Or) Party/Creditors a/c
If the expenses are still to be paid
[Expenses Payable a/c (Or) Creditor/Party a/c – Personal a/c – Credit the benefit giver.]
Note:
Any nominal account prefixed/suffixed by the terms outstanding, prepaid, still receivable, still
payable etc., is a personal account and not a nominal account
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The sale proceeds may be received in cash or by a cheques or may be still receivable
Credit » Normal Loss a/c
Since the asset represented by the "Normal Loss a/c" is being disposed off, it amounts to the
asset moving out of the organisation.
Thus the "Normal Loss a/c" is credited with the amount of sale realisation
Debit »
The sale proceeds may be debited to
Cash a/c
If the proceeds are received in cash
[Cash a/c – Real a/c – Debit what comes in.]
Bank a/c
If the proceeds are received by cheque
[Bank a/c – Personal a/c – Debit the benefit receiver.]
Proceeds Receivable a/c (Or) Party/Debtors a/c
If the proceeds are still to be received
[Proceeds Receivable a/c (Or) Debtor/Party a/c – Personal a/c – Debit the benefit receiver.]
Note:
Any nominal account prefixed/suffixed by the terms outstanding, prepaid, still receivable, still
payable etc., is a personal account and not a nominal account
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Insurance Realisation
Insurance companies do no provide insurance against normal loss.
Commission on Sale
Where there is a commission being paid or payable on the sale of normal loss stock it may be
Deducted from the sale proceeds received/receivable and only the net proceeds may be brought into
account
Recorded just like any other expenditure that goes into the value of the Normal Loss Stock
Profit/Loss on Disposal » Journal/Ledger :: Hide/Show
Normal Loss is initially valued at a certain price which is indicative of its net realisable value. Where
there is a surplus or shortage on account of the actual realisation being greater or lesser than the
estimate, it is treated as abnormal and is transferred to the "Profit & Loss a/c" thereby closing the
"Normal Loss Stock a/c".
The "Normal Loss a/c" may carry a balance after recording all the realisations and expenses.
If there is a debit balance it represents the amount of asset value that is unrealisable and as such a
loss.
If there is a credit balance it indicates that the asset has realised at a value greater than the actual
asset value, thereby resulting in a profit. This is a very rare occurrence though.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,650 1,650
Assume that the amount of sale proceeds received by cheques is Rs. 250 instead of Rs. 600
When there is a gain
Credit » Profit & Loss a/c
"Profit & Loss a/c" being a nominal account, any profit should be credited to it.
[Profit & Loss a/c – Nominal a/c – Credit all incomes and gains.]
Debit » Abnormal Loss Stock a/c
The "Normal Loss a/c" has a credit balance and has to be closed by transferring the balance to
the "Profit & Loss a/c".
Thus the "Normal Loss a/c" has to be debited.
The "Normal Loss a/c" carries a credit balance when there is a profit. Transfer of a credit
balance from one account to a second results in the second account being credited and the first
account being debited.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,900 1,900
Amou Amou
Particulars
nt nt
Incomes/Realisations:
Sale Realisation
Cash 400
Bank 600
Receivable 900 1,900
Expenses/Costs:
Value of Stock 1,200
Expenses Incurred
Paid in Cash 100
Paid by Cheques 200
Outstanding 150 450
Commission on Sale – –
The amount of expense payable outstanding if any relating to the normal loss stock has to be shown as
a liability on the liabilities side of the balance sheet.
The amount of sale proceeds receivable if any relating to the normal loss stock has to be shown as an
asset on the assets side of the balance sheet.
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
–
–
Expenses on Normal Loss – 125
–
–
Total
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
125 125
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
31/12/05 To Trading a/c – 1,200 –
31/12/05 To Exp. Nor. Loss – 125
The temporary account is assumed to have got exhausted and the expenditure is added to the
value of stock for the purpose of incorporating the same information as adjustment.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
–
–
Sale of Normal Loss Stock – 150
–
–
Total
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
150 150
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
For the purpose of incorporating the same information as adjustment, the temporary account is
assumed to have got exhausted and the proceeds are considered for ascertaining the profit or
loss on abnormal loss stock.
Simplest Treatment
Going by the basic understanding that the more the information that is needed, the more the
accounting heads that have to be maintained, the simplest form of accounting for normal loss stocks
would need none of the above procedure to be adopted.
To understand this, let us consider the net effect of recording the transactions at the end of the
accounting period.
The "Trading a/c" is left unaffected by the transactions relating to normal loss and only the "Profit &
Loss a/c" is affected that too when the expenses incurred on and the sale proceeds from the normal
loss stock are not equal.
To give effect to this condition, we just ignore the presence of normal loss and credit the profit and loss
account with the sale realisation (as if it is miscellaneous income) and debit the profit and loss account
with the expenses (as it it is miscellaneous expenses).
Net Realisable Value = Net Proceeds Receivable
Net Proceeds Receivable = Proceeds Receivable − Expenses Payable
Where the net proceeds receivable is equal to the value of normal loss stock, there would be neither
profit nor loss.
[Proceeds = Exp + Value ⇒ Proceeds − Exp = Value ⇒ Net Proceeds = Value]
In such a case there is nothing to be credited/debited to the "Profit & Loss a/c". The net effect after
eliminating the "Profit & Loss a/c" would therefore be
Net Effect
No Profit/Loss
To give effect to this condition, we assume that the normal loss stock is being valued at a value equal
to the Net Proceeds receivable. Thus the amount of net proceeds is credited to the "Trading a/c" to
complete recording the transactions relating to normal loss.
Though theoretically, the expenses can be debited and gross proceeds can be credited to the "Trading
a/c", it is seldom resorted to avoid unnecessary complication.
Stocks that the organisation deals with may be lost on account of normal reasons. Normal loss stocks
are to be valued at their net realisable price and not at cost.
Recording » Journal Entry
We know that ledgers provide the information we need in accounting and anything that gets into the
ledger should be through the journal. Even this forms a transaction that should be recorded through
the journal.
Debit » Asset a/c
The value of normal loss stock represents a temporary asset. The organisation would make efforts to
f
realise this asset by selling it, if at all it has a realisable value.
i
Thus a temporary asset account by name "Normal Loss a/c" is created and used for this purpose.
n
[Normal Loss a/c – Real a/c – Debit what comes in.]
a
Many a times we consider the "Normal Loss a/c" to be a nominal account which is also an accepted
l
practice. We assume it to be a real account to enable an easier understanding of the transactions
,
involving normal loss.
a
Where there are two or more types of normal losses, to differentiate the accounts the reason for the
c
loss may be included with the account name. "Normal Loss (Wastage) a/c" , "Normal Loss (Weight
c
Loss) a/c". Whatever may be the name we give it and the nature we attribute to the account, it is a
o
temporary account.
u
Credit » n
The value of normal loss stock represents the value of goods/stock that has not been used for t
trading purposes. To reveal the cost of goods sold, the value of stock unused for trading activity is to s
be deducted from the total value of goods. ,
For this the following ledger account would be credited depending on the time of recording the f
transaction, what comprises the value of stock drawn and the account in which the related value i
exists at the time of recording the entry. n
a
Trading a/c n
Generally, at the end of the accounting period, the balances (amounts) in all the ledger accounts c
which go into the value of goods/stock, are closed by transfer to the "Trading a/c". This amounts to i
debiting the "Trading a/c" with the total value of goods/stock. a
Thus the value of normal loss stock has to be credited to the "Trading a/c" in which the total value l
of goods/stock is existing as a debit balance. ,
Journal/Ledger » Hide/Show a
c
c
Journal in the books of M/s __ for the period from ____ to _____ o
u
n
Credit t
V/R Debit Amount
Date Particulars L/F Amount i
No. (in Rs)
(in Rs) n
g
Dec – Normal Loss a/c Dr – 1,200 ,
31st To Trading a/c – 1,200 t
r
a
[For the value of normal loss.] d
i
n
g
Dr Normal Loss a/c Cr ,
p
r
Amount Amount o
Date Particulars J/F Date Particulars J/F f
(in Rs) (in Rs)
i
t
31/12/05 To Trading – 1,200 31/12/05 – xxx ,
a/c l
o
s
s
,
a
c
c
Dr Trading a/c Cr o
u
n
t
Amount Amount ,
Particulars Particulars
(in Rs) (in Rs) b
a
To Opening Stock xx By Sales xxx
To Purchases xx By Normal Loss 1,200
To Direct Expenses xx By Closing Stock xxx
To Gross Profit xx
xxxx xxx
Journal in the books of M/s __ for the period from ____ to _____
Debit Credit
V/R
Date Particulars L/F Amount Amount
No.
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
Purchases a/c
Where the following conditions exist, we can credit "Purchases a/c" with the value of normal loss
stock.
The normal loss stock is physically relatable to the stock that has been purchased during the current
period.
There are no direct expenses in relation to the stock purchased during the current period
(Or)
The value of normal loss stock does not include the direct expenses incurred during the current period
Journal/Ledger » Hide/Show
Journal in the books of M/s __ for the period from ____ to _____
Debit Credit
V/R
Date Particulars L/F Amount Amount
No.
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Dr Purchases a/c Cr
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
Stock Adjustment (Normal Loss)
Where such transactions occur frequently, the organisation may create a controlling account by name
"Stock Adjustment (Normal) a/c". This is a nominal account that gives the information relating to the
total value of stock that has been lost on account of normal reasons during the accounting period.
Journal/Ledger » Hide/Show
Journal in the books of M/s __ for the period from ____ to _____
Debit Credit
V/R
Date Particulars L/F Amount Amount
No.
(in Rs) (in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Amount Amount
Particulars Particulars
(in Rs) (in Rs)
xxxx xxx
The "Stock Adjustment (Normal) a/c" would be closed at the end of the accounting
period by transfer to either the "Trading a/c" or "Goods Consumed a/c" or "Purchases
a/c" depending on where the value related to the normal loss stock is included.
Disposing Normal Loss Stock
We will come across the following additional transactions relating to disposal of normal loss stock
Expenses Incurred » Journal/Ledger :: Hide/Show
The normal loss stock may be in a realisable state or a completely useless. There may be instances
when some expenditure may have to be incurred on the normal loss stock to be able to bring it into
realisable state.
This expenditure may be paid in cash or by cheques or may have been incurred and not yet been
paid.
Debit » Normal Loss a/c
Since the amount spent is for the purpose of bringing the normal loss stock into saleable
condition would amount to brining the asset by name "Normal Loss" into usable condition, the
expenditure should go into the value of the asset.
Thus the "Normal Loss a/c" is debited with the amount of expenditure incurred.
Credit »
The expenditure incurred may be credited to
Cash a/c
If the expenses are paid out in cash
[Cash a/c – Real a/c – Credit what goes out.]
Bank a/c
If the expenses are paid by cheques
[Bank a/c – Personal a/c – Credit the benefit giver.]
Expenses Payable a/c (Or) Party/Creditors a/c
If the expenses are still to be paid
[Expenses Payable a/c (Or) Creditor/Party a/c – Personal a/c – Credit the benefit giver.]
Note:
Any nominal account prefixed/suffixed by the terms outstanding, prepaid, still receivable, still
payable etc., is a personal account and not a nominal account
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
The sale proceeds may be received in cash or by a cheques or may be still receivable
Credit » Normal Loss a/c
Since the asset represented by the "Normal Loss a/c" is being disposed off, it amounts to the
asset moving out of the organisation.
Thus the "Normal Loss a/c" is credited with the amount of sale realisation
Debit »
The sale proceeds may be debited to
Cash a/c
If the proceeds are received in cash
[Cash a/c – Real a/c – Debit what comes in.]
Bank a/c
If the proceeds are received by cheque
[Bank a/c – Personal a/c – Debit the benefit receiver.]
Proceeds Receivable a/c (Or) Party/Debtors a/c
If the proceeds are still to be received
[Proceeds Receivable a/c (Or) Debtor/Party a/c – Personal a/c – Debit the benefit receiver.]
Note:
Any nominal account prefixed/suffixed by the terms outstanding, prepaid, still receivable, still
payable etc., is a personal account and not a nominal account
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
Insurance Realisation
Insurance companies do no provide insurance against normal loss.
Commission on Sale
Where there is a commission being paid or payable on the sale of normal loss stock it may be
Deducted from the sale proceeds received/receivable and only the net proceeds may be brought into
account
Recorded just like any other expenditure that goes into the value of the Normal Loss Stock
Profit/Loss on Disposal » Journal/Ledger :: Hide/Show
Normal Loss is initially valued at a certain price which is indicative of its net realisable value. Where
there is a surplus or shortage on account of the actual realisation being greater or lesser than the
estimate, it is treated as abnormal and is transferred to the "Profit & Loss a/c" thereby closing the
"Normal Loss Stock a/c".
The "Normal Loss a/c" may carry a balance after recording all the realisations and expenses.
If there is a debit balance it represents the amount of asset value that is unrealisable and as such a
loss.
If there is a credit balance it indicates that the asset has realised at a value greater than the actual
asset value, thereby resulting in a profit. This is a very rare occurrence though.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,650 1,650
Assume that the amount of sale proceeds received by cheques is Rs. 250 instead of Rs. 600
When there is a gain
Credit » Profit & Loss a/c
"Profit & Loss a/c" being a nominal account, any profit should be credited to it.
[Profit & Loss a/c – Nominal a/c – Credit all incomes and gains.]
Debit » Abnormal Loss Stock a/c
The "Normal Loss a/c" has a credit balance and has to be closed by transferring the balance to
the "Profit & Loss a/c".
Thus the "Normal Loss a/c" has to be debited.
The "Normal Loss a/c" carries a credit balance when there is a profit. Transfer of a credit
balance from one account to a second results in the second account being credited and the first
account being debited.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
1,900 1,900
Amou Amou
Particulars
nt nt
Incomes/Realisations:
Sale Realisation
Cash 400
Bank 600
Receivable 900 1,900
Expenses/Costs:
Value of Stock 1,200
Expenses Incurred
Paid in Cash 100
Paid by Cheques 200
Outstanding 150 450
Commission on Sale – –
The amount of expense payable outstanding if any relating to the normal loss stock has to be shown as
a liability on the liabilities side of the balance sheet.
The amount of sale proceeds receivable if any relating to the normal loss stock has to be shown as an
asset on the assets side of the balance sheet.
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
–
–
Expenses on Normal Loss – 125
–
–
Total
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
125 125
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
31/12/05 To Trading a/c – 1,200 –
31/12/05 To Exp. Nor. Loss – 125
The temporary account is assumed to have got exhausted and the expenditure is added to the
value of stock for the purpose of incorporating the same information as adjustment.
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Debit Credit
L/
Particulars Amount Amount
F
(in Rs) (in Rs)
–
–
Sale of Normal Loss Stock – 150
–
–
Total
Journal in the books of M/s __ for the period from ____ to _____
Credit
V/R Debit Amount
Date Particulars L/F Amount
No. (in Rs)
(in Rs)
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
150 150
Amount Amount
Date Particulars J/F Date Particulars J/F
(in Rs) (in Rs)
For the purpose of incorporating the same information as adjustment, the temporary account is
assumed to have got exhausted and the proceeds are considered for ascertaining the profit or
loss on abnormal loss stock.
Simplest Treatment
Going by the basic understanding that the more the information that is needed, the more the
accounting heads that have to be maintained, the simplest form of accounting for normal loss stocks
would need none of the above procedure to be adopted.
To understand this, let us consider the net effect of recording the transactions at the end of the
accounting period.
The "Trading a/c" is left unaffected by the transactions relating to normal loss and only the "Profit &
Loss a/c" is affected that too when the expenses incurred on and the sale proceeds from the normal
loss stock are not equal.
To give effect to this condition, we just ignore the presence of normal loss and credit the profit and loss
account with the sale realisation (as if it is miscellaneous income) and debit the profit and loss account
with the expenses (as it it is miscellaneous expenses).
Net Realisable Value = Net Proceeds Receivable
Net Proceeds Receivable = Proceeds Receivable − Expenses Payable
Where the net proceeds receivable is equal to the value of normal loss stock, there would be neither
profit nor loss.
[Proceeds = Exp + Value ⇒ Proceeds − Exp = Value ⇒ Net Proceeds = Value]
In such a case there is nothing to be credited/debited to the "Profit & Loss a/c". The net effect after
eliminating the "Profit & Loss a/c" would therefore be
Net Effect
No Profit/Loss
To give effect to this condition, we assume that the normal loss stock is being valued at a value equal
to the Net Proceeds receivable. Thus the amount of net proceeds is credited to the "Trading a/c" to
complete recording the transactions relating to normal loss.
Though theoretically, the expenses can be debited and gross proceeds can be credited to the "Trading
a/c", it is seldom resorted to avoid unnecessary complication.
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balance sheet - straight line depreciation: worked example
Introduction
In our introduction to the methods available to calculate depreciation, we
suggested that there are two main methods that can be used:
- Straight- line depreciation
- Reducing balance method
We emphasised the point that these two methods simply provide an alternative
way of allocating the total depreciation charge over several accounting periods.
The total depreciation charge using either method will be the same over the total
useful economic life of the asset.
To illustrate the reducing balance depreciation method, we have calculated the
depreciation charge for the following asset:
Data
A business purchases a new machine for £75,000 on 1 January 2003. It is
estimated that the machine will have a residual value of £10,000 and a useful
economic life of five years. The business decides to calculate annual depreciation
at the rate of 40% of the written-down value. The business has an accounting
year end of 31 December.
Reducing balance depreciation method
Using the straight line depreciation method, the calculation of the annual
depreciation charge is as follows:
31 December £
Original machine cost 75,000