Recording Business Transactions Chapter 2 1 Copyright 2012

Learning Objectives Explain accounts, journals, and ledgers as they relate to recording transactions and describe common accounts Define debits, credits, and normal account balances and use double-entry accounting and T-accounts List the steps of the transaction recording process 2 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Learning Objectives Journalize and post sample transactions to the ledger Prepare the trial balance

1 Explain accounts, journals, and ledgers as they relate to recording transactions and describe

The Accounting Process Record transactions in the journal Copy (post) to the ledger Prepare

The Account Basic summary device Detailed record of all changes that have occurred in a particular asset, liability, or owner’s equity Covers a specific period of time Grouped in three broad categories Assets Liabilities Owner’s Equity 6 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

The Journal and The Ledger Journal Chronological record of transactions Organized by date Ledger The book holding all the accounts and their balances Organized by account 7 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Trial Balance Listing of all accounts and their balances 8 Copyright © 2012 Pearson

The Accounting Equation ASSETS Economic Resources 9 LIABILITIES EQUITY Claims to Economic Resources Copyright

Assets Economic resources that will benefit the business in the future: Cash Accounts receivable Notes receivable Prepaid expenses Land Building Equipment, Furniture, Fixtures 10 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Liabilities A debt (something owed): Accounts payable Notes payable Accrued liabilities 11 Copyright ©

Owner's Equity Owner’s claim to the assets: Capital Drawing Revenues Expenses 12 Copyright ©

Ledger Asset, Liability, and Owner’s Equity Accounts 13 Copyright © 2012 Pearson Education, Inc.

Chart of Accounts List of all accounts used by a company 14 Copyright ©

2 Define debits, credits, and normal account balances and use double-entry accounting and T-accounts

Double Entry System Record dual effects of each transaction Each transaction has a: Receiving side Giving side Examples: Company purchases supplies (receiving) with cash (giving) Company issues stock (giving) and receives cash (receiving) 16 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

T-Account Tool for analyzing and determining the balance in a given account Dr Debit

Increases and Decreases in Accounts Whether an account is increased by debit or a credit is determined by the account type Asset, liability, or equity Debits are not good or bad Neither are credits 18 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Rules of Debit and Credit The account category governs the increase side or decrease side Increases are recorded on one side Decreases are recorded on the opposite side Rules of debits and credits 19 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Illustrate Debits and Credits The first transaction involves receiving $30, 000 cash and issuing Capital The second transaction is a $20, 000 purchase of land for cash 20 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Match the accounting terms on the left with the corresponding definitions on the right. A. Using up assets in the course of 1. _____Posting G operating a business 2. _____ C Receivable B. Book of accounts 3. _____ E Debit C. An asset 4. _____ D Journal D. Record of transactions A Expense 5. _____ E. Left side of an account I 6. _____ Net Income F. Side of an account where F Normal Balance 7. _____ increases are recorded B Ledger 8. _____ G. Copying data from the journal to H Payable 9. _____ the ledger J H. Always a liability 10. _____ Equity I. Revenues – Expenses = J. Assets – Liabilities = 21 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Margaret Alves is tutoring Timothy Johnson, who is taking introductory accounting. Margaret explains to Timothy that debits are used to record increases in accounts and credits record decreases. Timothy is confused and seeks your advice. 1. When are debits increases? Debits are increases in the Assets, Drawing, and Expenses. When are debits decreases? Debits are decreases in the Liabilities, Owner’s Equity, and Revenues. 2. When are credits increases? Credits are increases in the Liabilities, Owner’s Equity, and Revenues. When are credits decreases? Credits are decreases in the Assets, Drawings, and Expenses. 22 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

3 List the steps of the transaction recording process 23 Copyright © 2012 Pearson

Steps in the Transaction Recording Process Identify each account affected and its type Determine if each account is increased or decreased Record transaction in the journal Use the rules of debit and credit 24 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Illustrating a Journal Entry Journalize the first transaction of Smart Touch— the receipt of $30, 000 cash and issuance of Capital. The accounts affected are Cash and Capital. Cash is an asset. Capital is equity. Both accounts increase by $30, 000. Assets increase with debits. Equity increases with credits. 25 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Illustrating a Journal Entry (continued) Four parts: a) b) c) d) 26 Date of transaction Title of account debited with dollar amount Title of account credited with dollar amount Brief explanation of transaction Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

General Journal Transaction date Accounts affected Journal Description Date Apr 1 Cash Bright, capital Page 1 Debit Credit 30, 000 Owner investment. Explanation of transaction 27 Dollar amounts of debits and credits Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Ned Brown opened a medical practice in San Diego, California. 1. Record the preceding transactions in the journal of Ned Brown, M. D. , P. C. Include an explanation. Jan 1 The business received $29, 000 cash and issued common stock. 2 Purchased medical supplies on account, $14, 000. 2 Paid monthly office rent of $2, 600. 3 Recorded $8, 000 revenue for service rendered to patients on account. 28 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan. 1: The business received $29, 000 cash and issued common stock. Cash received indicates cash increases. Cash is an Asset, Assets increase with debits Issued common stock, indicates equity is increasing Increase equity with credits GENERAL JOURNAL DATE Jan DESCRIPTION 1 Cash Brown, capital Issued stock. 29 REF DEBIT CREDIT 29, 000 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan. 2: Purchased medical supplies on account, $14, 000. Medical Supplies, an asset, is increasing. Assets increase with debits On account, increases accounts payable, a liability Increase liabilities with credits GENERAL JOURNAL DATE Jan REF DESCRIPTION 1 Medical supplies CREDIT 14, 000 Accounts payable Purchased supplies on account. 30 DEBIT 14, 000 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan. 2: Paid monthly office rent of $2, 600. Paid rent, an expense, expense is increasing Expenses increase with debits Paid cash, cash is an asset. Increase assets with debits GENERAL JOURNAL DATE Jan DESCRIPTION 2 Rent Expense Cash Paid office rent. 31 REF DEBIT CREDIT 2, 600 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan. 3: Recorded $8, 000 revenue for service rendered to patients on account. On account indicates Accounts receivable increase. Accounts receivable is an Asset, Assets increase with debits Rendered services, services are revenues, indicates revenues are increasing Increase revenues with credits GENERAL JOURNAL DATE Jan REF DESCRIPTION 1 Accounts receivable CREDIT 8, 000 Service revenue Performed service on account. 32 DEBIT 8, 000 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Posting from the Journal to the Ledger Copying amounts from the journal to the

Expanding Debit/Credit Rules to include Revenues and Expenses 34 Copyright © 2012 Pearson Education,

Complete Rules of Debit and Credit 35 Copyright © 2012 Pearson Education, Inc. Publishing

Normal Balance of an Account 36 Copyright © 2012 Pearson Education, Inc. Publishing as

Flow of Accounting Data from the Journal to the Ledger 37 Copyright © 2012

Source Documents Origin of accounting transactions Examples: Bank deposit tickets Invoices Checks Stock certificates

4 Journalize and post sample transactions to the ledger 39 Copyright © 2012 Pearson

Practice Journalizing: Transaction 1 Capital Cash 30, 000 GENERAL JOURNAL DATE DESCRIPTION Cash Bright, capital RE F DEBIT CREDIT 30, 000 Issued capital. 40 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Practice Journalizing and Posting: Transaction 2 Land Cash 30, 000 20, 000 Capital 20, 000 30, 000 10, 000 GENERAL JOURNAL DATE DESCRIPTION Land Cash REF DEBIT CREDIT 20, 000 Bought land. 41 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Practice Journalizing and Posting: Transaction 3 Office supplies Cash 30, 000 20, 000 500 Accounts payable 500 10, 000 GENERAL JOURNAL DATE REF DESCRIPTION Office supplies Accounts payable DEBIT CREDIT 500 Purchased supplies. 42 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Practice Journalizing and Posting : Transaction 4 Cash 30, 000 20, 000 Service revenue 5, 500 GENERAL JOURNAL DATE REF DESCRIPTION Cash Service revenue DEBIT CREDIT 5, 500 Received payment on account. 43 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

44 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Oakland Floor Coverings reported the following summarized data at December 31, 2012. Accounts appear in no particular order. Revenues $34, 000 Other liabilities Equipment 45, 000 Cash Accounts payable 2, 000 Expenses Oakland, capital 22, 000 45 $18, 000 12, 000 19, 000 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Oakland Floor Coverings Trial Balance December 31, 2012 Cash Equipment Accounts payable Other liabilities Oakland, capital Revenues Expenses 46 $ 12, 000 45, 000 $ 2, 000 18, 000 22, 000 34, 000 19, 000 $76, 000 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Texas Sales Consultants completed the following transactions during the latter part of January: Jan 22 Performed service for customers on account, $8, 000. 30 Received cash on account from customers, $7, 000. 31 Received a utility bill, $180, which will be paid during February. 31 Paid monthly salary to salesman, $2, 000. 31 Paid advertising expense of $700. 47 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan 22: Performed service for customers on account, $8, 000 “On account” indicates Accounts receivable is an asset account Increase an asset with a debit GENERAL JOURNAL DATE DESCRIPTION Jan 22 Accounts receivable Service revenue 48 REF DEBIT CREDIT 8, 000 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan. 30: Cash is received Increase cash, an asset Assets are increased by debits The payment is “on account” Decrease Accounts receivable with a credit GENERAL JOURNAL DATE Jan 30 REF DESCRIPTION Cash DEBIT CREDIT 7, 000 Accounts receivable 7, 000 Received payment on account. 49 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan. 31: A utility bill is an expense Expenses are increased by debits The bill will be paid later–creating an account payable Liabilities are increased by credits GENERAL JOURNAL DATE Jan 31 DESCRIPTION Utilities expense Accounts payable REF DEBIT CREDIT 180 Received utility bill. 50 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Jan. 31: Salaries to employees are an expense Expenses are increased by debits The salary was paid in cash Cash, an asset, decreases, Assets are decreased by credits Rent Expense is an expense account. Increase an expense with a debit GENERAL JOURNAL DATE DESCRIPTION Mar 31 Salaries expense Cash REF DEBIT CREDIT 2, 000 Paid salaries. 51 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

March 31: Advertising is another expense Cash is paid GENERAL JOURNAL DATE DESCRIPTION Mar 31 Advertising expense Cash Paid advertising. 52 REF DEBIT CREDIT 700 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

5 Prepare the trial balance from the T-accounts 53 Copyright © 2012 Pearson Education,

Trial Balance Summary of the ledger Lists all accounts with their balances Accuracy check Debits should equal credits NOT a balance sheet 54 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Trial Balance 55 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Detecting Trial Balance Errors Search for missing account Divide the difference between total debits and total credits by two Is there a debit/credit balance for this amount posted in the wrong column? Divide out-of-balance amount by nine Slide–Adding or dropping a zero ($100 instead of $1, 000) Transposition–Reversing two digits ($2, 100 instead of $1, 200) 56 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

57 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Four-Column Account 58 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Chapter 2 Summary Think of the account, journal, ledger (T-account), and chart as matching tools. Businesses are just matching the business transaction to the account description that best captures the specific event that occurred. The accounting equation must always balance after each transaction is recorded. To achieve this balance, we record transactions using a double entry accounting system. In that system, debits are on the left and credits are on the right. Debits always equal credits. 59 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Chapter 2 Summary A transaction occurs and is recorded on a source document. Then, we identify the account names affected by the transaction and determine whether the accounts increased or decreased using the rules of debit and credit for the six main account types. Next, we record the transaction in the journal, listing the debits first. We then post all transactions to the ledger (T-account). 60 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Chapter 2 Summary Once the ledger (T-account) balances are calculated, the ending balance for each account is transferred to the trial balance. Recall that the trial balance is a listing of all accounts and their balances on a specific date. Total debits must always equal total credits on the trial balance. If they do not, then review the correcting trial balance errors section on Page 81 of the textbook. 61 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

62 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.

Copyright All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America. 63 Copyright © 2012 Pearson Education, Inc. Publishing as Prentice Hall.