TABLE OF CONTENTS INTRODUTION.............................................................................................................................3 INFORMATION BOOKLET..........................................................................................................3 LO1..................................................................................................................................................3 Double entry book–keeping and trial balance and regulations....................................................3 Case Study 1................................................................................................................................4 Case Study 2................................................................................................................................4 Case Study 3................................................................................................................................5 Case Study 4................................................................................................................................5 Case Study 5................................................................................................................................8 Difference between the financial reports and financial statements............................................9 LO2................................................................................................................................................10 Explanation of the accounts for sole trader, partnership and limited company and their differences..................................................................................................................................10 Final accounts of sole trader, partnership and company............................................................11 LO3................................................................................................................................................14 Explanation of the reconciliation process and tools & techniques used for checking general ledger accounts. Explanation on variances and importance of the correctly entered figures....14 Bank Reconciliation Statement..................................................................................................15 LO4................................................................................................................................................16 Explanation of the control accounts and their use in financial accounting................................16 Description of process for reconciling control accounts and need to reconcile the accounts....17 Explanation on purpose of suspense accounts and their difference from the control accounts.18 Control Account.........................................................................................................................19 CONCLUSION.............................................................................................................................20 REFERENCES..............................................................................................................................21
INTRODUTION Financial accounting refers to process of preparing the financial statements which represents the financial position and performance of the company. These financial information is useful for both the internal management and stakeholders of the company such as creditors, investors, suppliers and customers. Financial accounting is different from managerial accounting that prepares financial records for the internal management of the company. Financial statements prepared by the company are income statement, balance sheet and cash flow statements. They are prepared by the company as per the applicable accounting standards. Present report will be revealing about the concepts and methods of financial accounting. It will provide explanation on double entry book keeping, financial reports and the financial statements. It will also provide about the sole traders, partnership and limited company form of doing business. Report will address the reconciliation process and techniques used for checking the balances of general ledger and the use of control accounts in financial accounting. The concepts will be explained with the help of examples and case studies. Study will enhance the understanding of financial accounting concepts and techniques. INFORMATION BOOKLET LO1 Double entry book–keeping and trial balance and regulations. Book keeping or double entry system means that every transaction of the business affects minimum two accounts. It is to be recorded in at least two accounts.. It was established for giving equal effects to the debit and credit side of the balances. Double entry requires the accounting equation to be in balance i.e. assets = owner’s equity + liabilities. This requires the balance in assets sideshouldbeequaltothebalancein liabilities and equity side. Trial balance is statement prepared in double entry system containing the debits andcreditbalancesofalltheledger accounts.Trialbalanceispreparedafter closing the ledger accounts for balancing the debits and credit side of all the accounts of business. Trial balance is prepared by the business for ensuring that entries recorded for the financial transactions in the ledger accounts and are balanced at the end. The debit and credit side of the trial balance should be equal. In a double entry system trial balance is used for the preparation of financial statements. Balance of the accounts intrialbalanceistransferredtothe 3
respectivefinancialstatementswhichare incomestatementandbalancesheet (Schroeder,ClarkandCathey,2019). Balanceofincomeandexpensesare transferred in the profit or loss statement for identifying the profitability and balances of assets, liabilities and capital accounts are transferredtothebalancesheetfor representingthefinancialpositionof company. Transactionsunderdoubleentry systemaregovernedbytheaccounting standards issued by the accounting bodies. Companies are required to comply with the accountingstandardsandframeworksfor thepreparationoffinancialstatements. Companies are required to comply with the reporting frameworks for representing the financial position and performance of firm Case Study 1 Bank£3,000 To Capital£3,000 a.)Bank account is debited increasing the bank balance and capital account is credited increasing the capital account in balance sheet. b)Asset = Liabilities + Capital 3000 = 0 + 3000 Case Study 2 a). Bank£40,000 To Capital£40,000 Van£600 To Bank£600 Inventory£2,000 To Cash£2,000 Drawings£600 To Cash£600 Purchases£500 4
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To Accounts Receivable£500 b) Assets = Liabilities + Capital 42500 =3100 + 39600 Case Study 3 DebitsCreditsAssetsLiability c600Van 3000Inventory 38400Bank d40000Assets e600600-600-600 f600Van 3000Inventory 39400Capital g394000Assets Case Study 4 Task 1 AccountDebitCredit Bank£30,000 To Capital A/c£30,000 Van£600 To Bank£600 Purchases£2,000 To Bank£2,000 Drawings£60 To Bank£60 Purchases£700 5
To Cash£700 Cash£2,500 To Sales£2,500 Rent£400 To Cash£400 Total£36,260£36,260 Task 2 Ledger accounts BankSales Capital30000Van600Cash2500 Inventory2000bal c/d2500 Rent400 25002500 bal c/d27000 3000030000 Van CashBank600 Sales2500Drawings60bal c/d600 Purchases700 600600 Bal c/d1740 25002500 Rent Bank400 Purchasesbal c/d Cash700 Bank2000bal c/d2700400400 27002700 Task 3 Trial Balance 6
DebitCredit Sales2500 Purchases2700 Rent400 Van600 Bank27000 Cash1740 Capital30000 Drawings60 Total3250032500 Task 4 Trial Balance DebitCredit Sales47140 Purchases26500 Receivables7640 Payables4320 Expenses9430 Loan5000 Plant and machinery7300 Van at cost2650 Drawings7500 Rent6450 Insurance1560 Overdraft2570 Capital10000 Total6903069030 Reason of extracting trial balance. Trial balance is extracted for ensuring that the entries made in the ledger account for balanced properly. It lists the closing balance of all the ledger accounts for the preparation of financial statements. 7
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Case Study 5 BankRent Capital30000Purchases3000Bank1000 Sales5000 Non Current Assets2400bal c/d1000 Sales2000Purchases5300 Sales3000Rent100010001000 Drawings1000 bal c/d9300Capital 2200022000Bank12000 bal c/d12000 Purchases12000 Bank3000 Bank5300bal c/d8300 Drawings 83008300Bank1000 bal c/d1000 Sales1000 Bank5000 Bank2000 Bank3000 Non Current Asset bal c/d10000Bank2400 bal c/d2400 1000010000 24002400 Trial Balance Trial Balance DebitCredit Bank9300 Sales10000 Purchases8300 Non Current Assets2400 Drawings1000 Rent1000 8
Capital12000 Total2200022000 Question : Purpose of book double entry ? Double entry system requires that every transaction of the business entered in debit should be equal to amounts entered in the credit. Difference between the financial reports and financial statements. Financialreportsandfinancial statementsaretermsoftenused interchangeablybutthereisdifference betweenthetwo.Itcouldbesaidthat financial statements are the financial reports where financial reports could not be said financial statements. Financial Reports Financialreportprovides information for the distribution to public. It is the report on monitory matters. In other words,financialreportcoversthe transactionhavingfinancialeffects.For running business financial reports provide important information relevant for decision makingtooutsideandinsideusers(No, 2018). These bank statements, report of aged debtors. Some of the financial reports are made only for the internal management for framing effective corporate strategiesand some are for external users. Financial Statements Financial statements on the other are thepartoffinancialreports.Financial statementshave more increased usage as compared with the other financial reports. Financial statements refer to complete set of generalpurposefinancialstatementsor specialpurposefinancialstatements. Financialstatementsincludeincome statement,balancesheetandcashflow statement.Incomestatementsprovidethe performance of company during the year, balance sheet reflects the position and the cash flowstatementprovide theflowof money inside and outside the entity. These financialstatementsaregovernedbythe accountingboardsthatrequirethe statements to be presented in the prescribed format. LO2 Explanation of the accounts for sole trader, partnership and limited company and their differences. 9
Sole Trader Sole traderisa formof business where the owner is self employed and runs the business as individual. In sole trader business owner is solely responsible for the debts and obligations of the business. Sole trader has an unlimited liability over the business.Soletraderisnotrequiredto prepareaccountsaspertherequired accounting standards. They are not required tocomplywiththeregulationsfor preparation of financial records. There is no prescribedformatforthesoletradeto prepare its accounts. Accounts of sole trader arepreparedaspertherequirementof owners.Sole trader enjoy the whole profits unlike the partnership and limited company. Partnership Partnershipreferstoformof business in which 2 or more people come togetherforcarryingoutthebusiness. Partners pool resources in partnership for starting the business. Partnership is formed on oral or written agreements on mutual agreements of the partners. Profit and losses are shared in the partnership firm in the ratio agreedbetweentheminagreements. Partnership firmsare requiredto prepare accounts as per the partnership act(Robson, YoungandPower,2017).Theyarenot required to prepare the financial statement as per the accounting standards for reporting to thepublic.Liabilityofthepartnersis unlimited in the unlimited partnership and limited in the limited partnership firm to the extent of their contribution in the business. In a partnership business tax is charged on the individual income of partners and not over the partnership firms. Limited Company Limited company is the organisation set up for running a business. Unlike the sole trader and partnership finance of the businessareseparatefromthepersonal finances.Acompanyisaseparatelegal entity different from its owners. Company is required to comply with all the regulations. Companies are required to prepare financial statements as per the accounting standards givenbytheaccountingbodies.For preparation of financial statements all the reportingframeworkandgoverning principles are followed by the management. Accountsofcompaniesareauditedfor ensuring that statements are free from errors and misstatements before they are issued to the public. Liabilities of company do not extend to personal assets of owners. Also the corporation tax is charged over the profits of companyandnotlikesoletraderand partnership business. 10
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Final accounts of sole trader, partnership and company Sole Trader Income Statement Sales47140 Cost of Goods sold26500 Gross profits20640 Expenses Rent6450 Insurance1560 Other Expenses9430 Net Profit3200 Balance Sheet Assets Plant and machinery7300 Van2650 Receivables7640 Total Assets17590 Liabilities Capital10000 less : Drawings7500 Add: Profit32005700 Loan5000 Overdraft2570 Payables4320 Total Liabilities17590 Partnership Income Statement Income Sales47140 Expenses 11
Cost of Goods sold26500 Rent6450 Insurance1560 Other Expenses9430 Net Profit3200 Balance Sheet Assets Plant and machinery Van2650 Receivables7640 Total Assets17590 Liabilities and Partners Capital Liabilities Loan5000 Overdraft2570 Payables4320 Total Liabilities11890 Partner's Capital x3420 Y22805700 Total Liabilities and Partner's Capital Change in partners capital xy Proportion32 Capital60004000 Drawings-4500-3000 Profits19201280 Partner's Capital34202280 Limited Company 12
Income Statement Revenues47140 Cost of Goods sold26500 Gross profits20640 Operating Expenses Rent6450 Insurance1560 Other Expenses9430 Operating Profit3200 Balance Sheet of XYZ Co. Assets Non Current Assets Plant and machinery Van2650 Total9950 Current Assets Receivables7640 Total7640 Total Assets17590 Equity & Liabilities Non Current Liabilities Loan5000 Total5000 Current liabilities Overdraft2570 Payables4320 Total6890 LO3 Explanation of the reconciliation process and tools & techniques used for checking general ledger accounts. Explanation on variances and importance of the correctly entered figures. Reconciliationisdescribedasthe process of matching the accounts that are recordedagainstthemonthlystatements fromtheexternalsourceslikebank statements for identifying the differences in records.Itotherwordsitistheprocess whichcompares2setsofrecordsfor identifying that the recorded figures are in 13
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agreementandcorrect(Pratt,2016). Accounts reconciliation is also performed for ensuring that balances in the general ledger are accurate, consistent and complete. Company is required to analyse the records of general ledgers to ensure that they ar correctly recorded and are free from material misstatements. Reconciliationprocessincludes reconciling the accounts of ledger with the bankstatementforensuringthatallthe entriesarecorrectlyrecorded.Thereare cases where the entries are recorded in cash ledger of company but are not recorded in the bank statement due to delay or errors. in thebankreconciliationstatemententries recorded in the bank ledger and not in bank statements are adjusted and vice versa. The reconciliation process allows teh company to identify the errors done on bank side and identifying the frauds if any committed by the employees of company. Trial balance is also prepared for identifying that the balance sin the ledger accounts are identified when the balance of debit side is not equal to the credit side. Reconciliationshouldbeperformedon regular basis for ensuring the integrity of the financial records. It helps to uncover the omission,theft,duplicationandthe fraudulent transactions. Documentreviewisthemethod involving review of the existing transactions and documents for making sure that amount recorded is actual amount spent. This review is generally carried out with the help of software(Narayanaswamy,2017).For exampleforreviewingthereceiptsand identifying the discrepancies. It reconciles the accounts with the actual invoices of the transactionsandensuringthatallthe transactions have double effect. Analyticsreviewuseaccountsof previous levels or the historical activities for estimating amount that should have been recorded in accounts. It verifies the banks statements and cash account for identifying the irregularities, errors in balance sheet or any fraudulent activities gong in within the organization. Variances are the differences between the actual and budgeted costs or revenues of thebusinessincomeandexpense.It represents the amount of variation in the budgeted and actual figures for reviewing the steps or process adopted. On the basis management plans to make more efficient strategies. Figuresrepresentedinthefinancial statement are required to be correct and free from errors and mistakes. These financial statementsare used by various users for 14
decision making such as investments and ventures. As per the statutory compliance requirementsfinancialstatementsshould representtheactualperformanceand position of the company as stakeholders are interested in the operations of business. Bank Reconciliation Statement Example From the following particulars prepare a Bank Reconciliation Statement to find out the causes in two balances as on March 31st, 2017 for Abdullah Khan (Pvt.) Ltd: (i)The bank overdraft as per cash book on March 31st, 2017 was Rs. 6,000 (ii)Interest on overdraft for six months ending March 31st, 2017 Rs. 200 is debited in the Bank Statement. (iii)Bank charges for the above period also debited in the Bank Statement amounted to Rs. 50 (iv)Check issued, but not cashed, prior to 31.03.2017 amount to Rs. 1,500 (v)Check deposited into bank, but not cleared and credited before March 31stwere for Rs. 2,500 (vi)Interest on investment collected by the bankers and credited in the Bank Statement amounted to Rs. 1,800. Solution : Bank statement (Missing) Uncashed1500 Cash Book (Missing) Interest collection1800Balance6000 Interest on O/d200 Bank charges50 15
Bank Reconciliation Statement Bank Reconciliation Statement Bank o/d as per cash book (Cr.)6000 Add : Interest on o/d200 Bank Charges50 Uncredited25002750 8750 Less: Interest collected on investment1800 Uncashed cheque15003300 Balance as per bank statement (Dr)5450 LO4 Explanation of the control accounts and their use in financial accounting. Controlaccountisoftencalled controlling account. This is a general ledger account which summarises & combines all subsidiary accounts for the specific type. It is a summary account which equals sum of subsidiaryaccountthatisusedfor simplifyingandorganisingtheledger accounts.Generalledgercouldhave numbers of accounts from the assets and liabilities accounts to incomes and expenses (Hoggett and et.al., 2018). Every type of account could have hundred of the smaller accountsthatareknownassubsidiary accounts. Including every single account in general ledger would be large, difficult and unorganised to use. This is the reason why control accounts are used for summarising thedatafromlargenumberofrelated accounts. Useofcontrolaccountinfinancial accounting. General ledger accounts which sums subsidiaryaccountsareconsideredto controlbalanceswhicharereportedin ledger.Thisisessentialassubsidiary accounts are not reported directly in general ledger. Control accounts dictate what will appear in general ledger and the things to be reportedinfinancialstatements.For example,accountsreceivableofthe company could have hundreds of customers with the current account receivable balances. Thebalancesarerecordedseparatelyin accountsreceivablesubsidiaryaccounts 16
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(Atanasov and Black,2016). Total of the accountsarecarriedforwardinaccounts receivable control accounts that appears in financial statements and general ledger. In this manner ledger has only one accounts receivables account in place of hundreds. When any additional information is required subsidiaryaccounts&recordscouldbe reviewed. Control accounts clean up ledger drastically and make it easier for the book keepers and accountants to use the ledger accounts. Control accounts are used mainly for identifying the errors in subsidiary ledgers but also havevariousadvantagesdue to which it is used. It used for enabling the accountantsforextractingasingletrial balance from general ledger accounts. When thebalancesofthetrialbalancedonot match control accounts whose balance do not reconcile could be checked for errors andmistakes(Cascinoandet.al.,2019). They are used for keeping check against the frauds and helps in speeding up process for producingthefinancialinformationas balances of control accounts could be used instead of waiting for individual balance to be extracted and reconciled. It reduces the amount of detailed information in general ledger. Subsidiary ledgers are part of double entrysystemwherecontrolaccountsare only prepared for information as they are not part of system. Description of process for reconciling control accounts and need to reconcile the accounts. Reconciliationistheworkingto ensure that entries in purchases and sales ledger are agreeing with entries in control accounts. Totals in each should exactly be same, and if not it reflects the error either in control account or memorandum account. Discrepanciesshouldbecorrectedand investigated. For reconciliations balances of payable or receivables control accounts are reconciledwithbalancesasperlistof payable or receivable ledger. Steps for reconciling the control account balances with ledger balances are Step 1– Adjusting the errors of control accountspayableorreceivablecontrol accounts by recording credits or debits. Step2–Adjustingerrorsofpayable receivableledgerinlistofthepayable/ receivableledgerbalancebymakingthe additions or deductions as required. Aftertheaboveadjustmentsaremade balancesofpayable/receivablecontrol accounts should reconcile with sum of the list of payable / receivables ledger balances. NeedtoReconcilethefinancial statements. 17
Reconciliationofthecontrol accounts is essential for identifying that the balances of relevant ledger accounts match with the totals of their respective control account balances. This is carried to ensure that the control accounts prepared from the subsidiary ledger account balance are free fromerrorsandmisstatements.Financial statements prepared from the trial balances should represent true and actual financial figures. It should be free from any errors or material misstatements that could impact the decisions of users of the financial statements (Biddle,MaandSong,2019).On reconciliationerrorsareidentifiedif balancesdonotmatchithelpsin establishingreliabilityoftheinformation providedbythefinancialstatements. Reconciliationprocesshasmadethe accounting easier and reliable. Explanation on purpose of suspense accounts and their difference from the control accounts. Suspense account is general ledger accountwheretheamountsarerecorded temporarily. Suspense accounts are used by the accountants if appropriate ledger account for recording the transaction could not be determined at time of recording. When the appropriateaccountsareidentifiedthe amountsaretransferredfromsuspense account. Entry in the suspense account could be credit or debit. Using suspense account for recording transaction is more appropriate rather than not recording the transactions until there is sufficient information available for creating the entry in correct accounts. Thismaycauselargertransactionsas unrecorded till the end of reporting period that will result in the inaccurate financial results. On the other control accounts are prepared from the accounts that have already beenrecorded.Controlaccountsarenot prepared for recording any transaction as appropriateaccountwasnotidentifiable instead they are summarised account of all the subsidiary ledger accounts that already been correctly recorded by the companies. Control accountsaredifferentfrom each other(HanifandMukherjee,2018). Suspenseaccountispreparedfor temporarilyrecordingtheaccounting transaction where the control accounts are preparedforsimplifyingthecontrol accounts. Both control account and suspense account are essential to be created by the companyforaccuratelyrepresentingthe financial statements. Control Account Example : 1. Accounts Receivable Account7640 18
2. Receivables ledger control account 8540 3. Discount allowed not entered in control account but recorded in individual ledger account of 100 4. Bad debts of 350 not recorded in control account. 5. Sales day book under casted by 550 6. On listing debit balance is incorrectly treated as credit of 1250 8. Collection from supplier treated in control account but not in receivables individual account of 250. Solution : Receivables Control account Balance8540 Sales550 Discount allowed100 Bad Debts350 bal c/d 864 0 9090 909 0 Reconciliation of control account balance Balance as extracted7640 Debit balance incorrectly recorded1250 Cash collection-250 Net total agreeing with the control account8640 CONCLUSION From the above report it could be concluded that the financial accounting plays a critical role in the success of the organisation. it enables the company to appropriately record its financial transactions for preparing the financial statements of company. Financial statements of the company are required to be prepared in accordance with the applicable standards and complying with the financial reporting frameworks. 19
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REFERENCES Books and Journals Schroeder,R.G.,Clark,M.W.andCathey,J.M.,2019.Financialaccountingtheoryand analysis: text and cases. John Wiley & Sons. No, A.S., 2018. Conceptual framework for financial reporting.Norwalk, CT: FASB. Robson, K., Young, J. and Power, M., 2017. Themed section on financial accounting as social andorganizationalpractice:exploringtheworkoffinancialreporting.Accounting, Organizations and Society.56.pp.35-37. Pratt, J., 2016.Financial accounting in an economic context. John Wiley & Sons. Narayanaswamy, R., 2017.Financial accounting: a managerial perspective. PHI Learning Pvt. Ltd.. Hoggett, J. and et.al., 2018.Financial accounting. Wiley. Cascino, S. and et.al., 2019. The usefulness of financial accounting information: Evidence from the field.Available at SSRN 3008083. Biddle, G.C., Ma, M.L. and Song, F.M., 2019. Accounting conservatism and bankruptcy risk.Available at SSRN 1621272. Hanif, M. and Mukherjee, A., 2018.Financial Accounting-I. McGraw-Hill Education. Atanasov, V.A. and Black, B.S., 2016. Shock-based causal inference in corporate finance and accounting research.Critical Finance Review.5.pp.207-304. 20