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Difference Between Depreciation and Provision for Depreciation

Ahuja Sahil
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Depreciation Vs Provision for Depreciation

Depreciation is an accounting process of distributing the cost of an asset over its estimated useful life as per the matching concept. However, when such depreciation is accumulated in a separate account till the date of the concerned asset’s disposal or sale, it is called provision for depreciation.

In other words, provision for depreciation refers to the amount of depreciation accumulated over the useful life of an asset and is also known as accumulated depreciation.

Thus, we can say that the two terms are quite inter-linked but are not the same. Following are the key differences between the two;

Depreciation Provision for Depreciation
1) Gradual fall in the value of fixed tangible assets due to normal wear & tear or obsolescence over their expected useful life is called depreciation. 1) Provision for depreciation is a provision created against the depreciation accumulated on a fixed tangible asset over its expected useful life.
2) It is a nominal account. 2) It is a real account.
3) Being an expense, depreciation is reflected in the profit & loss account and not in the balance sheet. 3)Provision for depreciation is reflected in the balance sheet as it is a contra asset account.
4) The asset account is recorded in the books at written down value. It is the value that remains after charging depreciation for that year. 4) The asset is recorded in the books at the original cost. The balance of the “provision for depreciation account” is shown on the liability side of a balance sheet.
5) Depreciation is an expense. Hence, its balance is transferred to the profit and loss account. 5) Provision for depreciation is a contra asset. Thus, it will always have a credit balance.

Related Topic – Provision for depreciation in the trial balance

 

The most commonly used methods for charging depreciation are;

a) Straight Line Value Method – In this method, the depreciation is always charged on the original cost of the tangible asset. Thus, the amount of depreciation charged remains constant each year irrespective of asset usage. Hence, it is also called the fixed installment method of charging depreciation.

b) Written Down Value Method – In this method, the depreciation in the first year is charged on the historical cost of the asset but in the following years, it is charged on the respective asset’s written down value. Therefore, this method is also called the diminishing balance method.

Related Topic – Which contra account is used in recording depreciation?

 

Depreciation

Depreciation refers to the fall in the value of fixed tangible assets over its expected useful life. Various reasons behind the depreciation of fixed tangible assets can be wear & tear, obsolescence, consumption, and so on.

Example

Suppose Berkshire Hathaway Inc. depreciates its equipment having a useful life of 10 years, at @10% p.a. using the diminishing balance method. The opening balance of the equipment is 90,000.

Thus, the depreciation in the equipment account in the books of Berkshire Hathaway Inc. for a period of say 3 years will be as follows;

                                                  Equipment A/C                             
Particular Amount Particular Amount
 Balance b/d  90,000  Depreciation 9,000
     Balance c/d 81,000
Total 90,000 Total 90,000
 Balance b/d 81,000  Depreciation 8,100
 Balance c/d 72,900
Total 81,000 Total 81,000
 Balance b/d 72,900  Depreciation 7,290
 Balance c/d 65,610
Total 72,900 Total 72,900

 

Alternatively, if in the same example the depreciation was charged @10% p.a. using the Straight Line method or Fixed Installment Method, an amount of 9,000(90,000*10%) would be credited each year and the balance of the equipment account at the end of the third year would be 90,000 – 9,000*3 i.e. 63,000.

Related Topic – Is depreciation an operating expense?

 

Treatment of Depreciation in the Books

Firstly, credit the amount of depreciation to the respective tangible asset account because it will reduce the value of the asset.

Now, debit the depreciation account to the profit & loss account as depreciation is an indirect expense for the business.

Related Topic – Can depreciation be charged in the year of sale?

 

Provision for Depreciation

Provision for Depreciation refers to the total amount of depreciation charged on a fixed tangible asset till the date of its sale or disposal. Hence, it is a contra asset and is also called accumulated depreciation.

Example

Let’s assume that Toyota Group has an opening balance of machinery of 70,000 & it charges depreciation on its machinery at @5% p.a. using the straight-line method. Further, the firm maintains a provision for depreciation account for the same.

Therefore, the provision for depreciation account in the books of the Toyota Group for a period supposing 5 years will be as follows;

Depreciation = 5% * 70,000 = 3500 annually.

                                            Provision for Depreciation A/C                              
Particular Amount Particular Amount
 Balance c/d 3,500  Depreciation 3,500
Total 3,500 Total 3,500
   Balance b/d 3,500
 Balance c/d 7,000  Depreciation 3,500
Total 7,000 Total 7,000
 Balance b/d 7,000
 Balance c/d 10,500  Depreciation 3,500
Total 10,500 Total 10,500
 Balance b/d 10,500
 Balance c/d 14,000  Depreciation 3,500
Total 14,000 Total 14,000
 Balance b/d 14,000
 Balance c/d 17,500  Depreciation 3,500
Total 17,500 Total 17,500

Related Topic – Can assets have a credit balance?

 

Treatment of Provision for Depreciation in the Books

Depreciation is an indirect expense for an enterprise. Hence, debit the firm’s profit & loss account by the depreciation amount.

Now, transfer the amount of depreciation charged during a given financial year to the credit side of the provision for depreciation account as it will increase the amount of accumulated depreciation.

The accumulated depreciation in the provision account shall be transferred to the asset account at the time of its sale or disposal.

 

>Related Long Quiz for Practice Quiz 39 – Depreciation

>Read Difference between depreciation, amortization and depletion

 

Difference Between Bad Debts and Doubtful Debts

Ahuja Sahil
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Bad Debts Vs Doubtful Debts

Bad debts & doubtful debts are two terms that are often considered synonymous, but there is a fine line between the two. Bad debts refer to the amount of trade receivables that have become uncollectible i.e. they cannot be recovered from the debtors. On the contrary, doubtful debts refer to the amount of trade receivables that are likely to become uncollectible and might eventually become a part of bad debts at some point of time in the future.

bad debts vs doubtful debts
Difference between bad debts and doubtful debts

Related Topic – Reasons to create provision for doubtful debts

 

Broadly, there are two methods to account for bad debts & doubtful debts in the financial statements:

1) Direct Write-Off Method – in this method no provision is created for bad or doubtful debts & hence the bad debts when incurred by the firm are directly written off from that year’s profit & loss account.

2) Allowance Method – in this method a separate provision is created for bad & doubtful debts. Therefore, when bad or doubtful debts are incurred by the firm, these are written off from the provision maintained. However, the excess is to be written off from that particular year’s profit & loss account.

Most of the firms follow the allowance method only, majorly because it is more practical as well as in line with the principle of conservatism.

 

Bad Debts

It refers to the number of debtors & bills receivables, the amount against which has become uncollectible. The following are probable reasons behind bad debts;

  • Debtors are not willing to repay their debts,
  • Bankruptcy or insolvency of the debtor,
  • Other financial difficulties.

Bad debts are also referred to as non-performing assets in the case of banks and other financial institutions.

Sometimes, a portion of debts (already written off) in any of the previous accounting years may be recovered in a future accounting period and is called bad debts recovered.

Following is the journal entry for bad debts recovery;

Cash or Bank A/C            Dr. –
   To Bad Debt Recovered A/C –

(a portion of previously written off bad debt recovered)

 

Bad Debt Recovered A/C            Dr. –
    To Profit & Loss A/C –

(amount of bad debt recovered transferred to profit & loss account)

Logic – The recovery of previously written off bad debts will add to the firm’s revenue in the year of its recovery.

 

Example

Suppose Dell Ltd. sells 100 desktops worth 4,000 each to XYZ Ltd. on a credit of 1 month. But on the due date, Dell Ltd. recovers only 40% of the amount due as XYZ Ltd. got insolvent.

Therefore the amount of bad debts incurred by Dell Ltd. will be equal to 60% of the total credit sale of 4,00,000 made to XYZ Ltd.

Amount of Bad Debts = 60% of total amount receivable from XYZ Ltd.

= 60% x (100 x 4,000) = 60% x 400,000 = 240,000

or

      = Amount receivable from XYZ Ltd. – Amount actually recovered from XYZ Ltd.

                        = (100 x 4,000) – (40% x (100 x 4,000))

                        = 400,000 – (40% x 400,000) = 400,000 – 160,000 = 240,000

 

Formula to compute bad debts

Bad Debts = Amount Due – Amount recovered

or

Bad Debt = Amount due – (Amount due * % of the amount recovered)

or

Bad Debt = Amount due * (100 – % of amount recovered)

 

There is no universal or fixed formula to calculate bad debts & it can be derived using basic maths and logic. Although a generic % based formula has been mentioned above that can be used generally. 

Related Topic – How to calculate the provision for doubtful debts?

 

Treatment in Financial Statements

Bad debts will be reflected in the books of accounts as follows;

Case 1: When provision for bad debts account is maintained

If an enterprise maintains a provision for b/debts account then debit the amount of bad debts to that account, whereas any amount exceeding such provision will be debited to the firm’s profit & loss account.

Bad Debts Treatment in Financial Statements - Case 1

 

Case 2.  When no provision is maintained

Debit the entire amount of bad debts to the firm’s profit & loss account in case the firm does not maintain provision for bad debts.

Further, the bad debts will also reduce the amount of accounts receivables. Hence, credit it to the respective asset account.

Bad Debts Treatment in Financial Statements - Case 2

Related Topic – Are bad debts shown in the income statement?

 

Doubtful Debts

It refers to the amount against the number of debtors or bills receivables that might turn bad at some point of time in the future.  In other words, it directs to the amount of accounts receivables that are unlikely to be repaid by the firm’s debtors in the future.

Also, as doubtful debts have not yet become a part of bad debts & are just anticipated losses, thus these are not to be recorded in the books, instead, a provision is made for the same.

 

Example

Let’s assume that Amazon has total accounts receivables of 99,000. However, the firm expects 10% of its trade receivables to turn bad at some point of time in the future.

Therefore,

Amount of Doubtful Debts = 10% x 99,000 = 9,900

Related Topic – Treatment of provision for doubtful debts in the trial balance

 

Formula to compute doubtful debts

There is no fixed formula. In fact, the amount of such debts is based upon the firm’s evaluation & judgment.

However, the standard formula used is as follows;

Provision for Doubtful Debts = Given Rate x [Gross Amount of Accounts Receivables – Good Debts (including the amount of provision for discount on debtors) – Bad Debts – Further Bad Debts – Provision for Bad Debts (if any, already exists in the firm’s balance sheet)]

 

Treatment in Financial Statements

Doubtful debts are just anticipated losses that have not been actually incurred by the business entity. Hence, these will be shown in the books of accounts only if it becomes a part of bad debts.

However, the provision created to anticipate such d/debts will be shown in the books as follows;

To reflect the creation of provision for d/debts in the books of accounts, debit the profit & loss account by the amount of such provision.

Treatment of doubtful debts in financial statements

Also, the provision for doubtful debts is a contra asset account. Hence, show it as a deduction from the concerned trade receivables in the firm’s balance sheet.

Treatment of doubtful debts in the balance sheet

 

>Read How to show contra assets on the balance sheet?

 

How do I keep track of income when self-employed

Ahuja Sahil
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Keeping records of your income when self-employed can be difficult. It’s not just about the money you make either, but your business expenses and all of this needs to be monitored to help you keep the info you need for HM Revenue and Customs (HMRC) when it’s time to file your self-assessment tax return as a self-employed person by January 31st.

So, how do you keep track of your income whilst working in self-employment? Let’s find out below.

self employed woman

Deciding on your accounting method

Your accounting period is the same each year in the UK – from April 6th through to April 5th. The 2021-2022 tax year runs from April 6th 2021 to April 5th 2022, for example.

But that’s all that remains the same in accounting. How you choose to keep your business records for accounting is really up to you. So let’s look at the options.

 

Traditional accounting

Traditional accounting is simply where you record all income and expenses based on when you were given the invoices or bills. Regardless of whether you are yet to receive payments or pay the outstanding bill yourself.

For example, you might have an outstanding bill from a supplier that was given to you on March 18th 2022, but they don’t want payment until April 18th 2022. Of course, you won’t be paying them until the next tax year, but you would still include the payments in this tax year in traditional accounting because you’re concerned with when the bill was given, not when it’s due.

Cash basis accounting

Cash basis accounting is where you record all income and expenses only when the bill has been paid or the money has been received. This is typically used by self-employed individuals and most small businesses earning less than £150,000 per year, as it means you pay less tax in the accounting period as you won’t need to pay income tax on business income that hasn’t been received yet.

 

What records do I need to keep?

Regardless of your accounting method, you’ll still need to keep similar records. Some will be needed for your self-assessment tax return, and others simply if HMRC launches an investigation into your business income.

Keeping inadequate business records can lead to hefty fines of up to £3000, so it’s in your best interest to brush up on your record-keeping and know what exactly you need to keep. A spokesperson from the Darlington Office of Auditox Accountancy said that 80% of self-employed people who came to them after they had started their business rather than before required almost double the workload to get back on track and so ended up costing them more in the long run.

Here’s everything you’ll need to keep records of:

  • all sales and income
  • all business expenses
  • VAT records (if you’re VAT registered, not everybody is because not everybody needs to be)
  • personal income (recording where you’ve put your own personal funds into your business, too)
  • PAYE records (if you have employees)

If you’re using the traditional accounting method, you’ll also need:

  • Info about money owed but not received
  • Invoices received but not yet paid
  • Value of stock at the end of the accounting period
  • Year-end bank account balance
  • Personal investment
  • Business money used for personal use

 

Why is keeping records important?

Keeping accurate records is vital. It will help you fill in your self-assessment tax return but also helps HMRC work out how much income tax you will have to pay and the national insurance contributions you’ll have to make.

Without accurate records, you won’t be able to show every business expense and appropriate accounting records for HMRC to work out the taxable income you’ll pay tax on. You can read more here about bookkeeping.

Because you’re running your own business as a sole trader, you can claim business expenses, tax relief on pension contributions, and other benefits available to you that qualify you for some reduction in the amount of income tax you’ll pay that tax year. That’s because you haven’t taken home every penny of your income like you would do if you were employed by someone else, because some of your money has gone back into the business. HMRC needs to know about all of this.

By keeping accurate records and receipts of your business income and expenses, HMRC will be able to tell you how much tax you actually owe.

 

Business expenses

Below is a list of business expenses you’ll need to keep:

  • Travel and accommodation
  • Legal and financial costs
  • Marketing costs
  • Clothing expenses
  • Utilities
  • Subscriptions

Basically, if you have to spend money as part of your business, you should record that.

 

How long should I keep records?

As a small business or self-employed individual, you’ll need to keep all of your basic records for five years after the January 31st deadline.

That means all receipts, records, invoices, expenses, etc, for the 2021-2022 tax year (which is due by January 31st, 2023) will need to be kept until January 31st, 2028. This is a legal requirement and is non-negotiable.

 

What evidence do I need to keep?

For those five years, you simply need to keep all evidence of your business income and expenses. Evidence would include:

  • receipts for goods and stocks
  • bank statements from your business bank account (showing all account payments and income)
  • cheque book stubs
  • sales invoices (including own invoices you’ve sent out)
  • physical receipts of cash payments
  • paying in slips etc.

All of this information should show the date and information about the services that your business has paid for or your business has been paid for.

 

How to store this evidence

Ideally, self-employed people will store all of their record-keeping electronically, as this makes it much easier to send over to HMRC should they require it. Keeping physical copies isn’t always practical, and can result in loss or damage, which could see you receiving a hefty fine.

As Making Tax Digital is due to take full effect in April 2023, sole traders must get used to using tax software to store all their info for filing their tax returns.

Certain tax software will allow you to take pictures of physical receipts instead too, which just streamlines your record-keeping and makes everything easier.

 

Final thoughts

So long as you record everything (electronically if possible), choose the accounting method that works for you, and keep accurate records of all expenses and income relating to your business for 5 years after the January 31st deadline of the tax year the records relate to, then recording your income whilst self-employed is easy enough.

Then simply use the information you’ve kept to tell HMRC via the self-assessment tax return, and you can be sure that you’re meeting all legal requirements! It really is as easy as that.

 

 

How to Make Money Using Free Apps

Ahuja Sahil
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Several apps can help you earn a side income. From banking to making purchases, we use smartphones for many chores. So why not use it to earn a little money as well? You won’t get rich, but this money may come in handy here and there.

We’ve listed a few of these apps below:

Worthy Bonds

Worthy Bonds lets you invest as little as $10 (or $1,000 if you feel like it) and gain 5% in fixed interest. The company creates and trades U.S. Securities and Exchange Commission-qualified bonds that help fuel small businesses while offering a 5% yield to you – with no fees and with access to your funds at any time. These bonds have a 36-month term.

Through the app, you can schedule how much and how often you want to purchase bonds, and the company can round up your everyday purchases to the next whole number and automatically invest this leftover change in a $10 bond. Bonds have a 36-month term but can be cashed out at any time without being penalized. The company has sold $150 million in bonds, and its 100,000 consumers have made $5.1 million in interest.

Users can also enjoy special deals from insurance to leisure and exclusive access to financial education resources.

 

Foap

If you’re a shutterbug constantly taking photos, you could leverage Foap to sell these pictures. Foap is a social media advertising platform that lets you upload your photo collection and sell it to well-known brands. Alternatively, you can also go on missions that require specific tasks and earn at least $50. One photo can be sold as often as you like, and every time you sell a photo on Foap, you get 50% of the commission. Foap also distributes your content through partners, such as Getty Images.

Foap lets you cash out your earnings through PayPal.

 

Gigwalk

Gigwalk pays you to perform small tasks based on where you are located. Download the app and find a gig near you. Each listing includes the payment, a short description of the gig and the location. Most of the gigs are typically from retail stores looking for brand audits or feedback on products and product displays, but online gigs like website testing and surveys are also listed.

Occasionally, a business may ask a screener question, and once you’re accepted, you’ll be notified and provided with instructions. Once you’ve completed the task, there may be follow-up questions for you to answer. The app is linked to PayPal for payments.

 

Field Agent

Audits, research, mystery shopping, and product trials are some of the jobs that can be found on Field Agent. Once you’ve reserved a job, complete it within the time frame and make sure to follow instructions carefully in order to be paid. Jobs generally pay in the range of $3 and $20. Before you graduate to paying jobs, you have to complete ticket jobs. Jobs posted are generally on a first-come-first-served basis, so it’s best to check the app often for any new jobs. The company said it had paid more than $20 million to its agents.

 

Inbox Dollars

Inbox Dollars pays you for taking surveys, reading emails, completing offers, playing games or shopping online. It has a simple, easy-to-navigate user interface, and the company is transparent about how much you can earn by completing tasks. However, you can only cash out once you have $30 in your Inbox Dollars account, and a $3 processing fee is deducted from your withdrawal amount. The company also offers a $5 sign-up bonus. If you do not use the app for 10 days, your account is automatically deactivated.

Since 2000, the company has paid more than $57 million in cash rewards to its members.

 

Neighbour

Have an unused space in your home like a shed or basement? You can rent it on Neighbor and earn passive income. As a host, you decide who stores, what they store, and how they access the space. Neighbour runs a verification check and provides a $2 million host guarantee as well as a $25,000 renter guarantee. The peer-to-peer platform claims that it saves renters 50% on average, compared to self-storage and is 14 times safer than storing at a self-storage facility. Hosts are protected from unfair liability, receive guaranteed payouts, and don’t pay to use the platform.

 

 

What is Reconstitution of Partnership?

Ahuja Sahil
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0

Meaning and Example

The term “reconstitution of partnership” refers to an alteration in the financial relationship between the existing partners of a partnership firm. As a result, the existing agreement ends and a new one is formed.

A reconstitution occurs whenever the terms of a partnership agreement are modified and the profit-sharing ratio is changed. Such an alteration may occur due to admission of a new partner, death of a partner, retirement of a partner, insolvency of a partner, etc.

Example: Two partners W & X operate a partnership firm and they decide to admit a third partner Y. In this case, Y will also have a share in the profits of the firm and this will lead to a change in the profit-sharing ratio leading to a new partnership agreement.

Reconstitution of a partnership infographic

Related Topic – Revaluation Account

 

Partnership Firms: Forms of Reconstitution

Following are the various forms of reconstitution of partnership firms that lead to an alteration in the terms of the existing agreement & result in a new partnership;

forms of reconstitution of a partnership

 

1. Mutual Change in Profit Sharing Ratio of the Existing Partners

Sometimes, the partners of a firm decide to change their profit-sharing ratio and adjust the increase and decrease of share among themselves.

As a result, some partners gain whereas others sacrifice, however, the total amount of gain will always be equal to the total amount of sacrifice.

Points to remember for its treatment

  • Computation of sacrificing Ratio & gaining ratio.
  • Accounting treatment of (existing) goodwill, reserves, accumulated profits & losses.
  • Revaluation of firm’s assets & liabilities.
  • Adjustment of partners’ capital accounts.

 

2. Admission of a Partner

The entry of new partner(s) can be done either as per the partnership deed or by the mutual consent of all the current partners, in case of absence of deed.

Also, the new partner has a right over the profits & assets of the firm. The share of the newly admitted partner(s) will be equal to the aggregate of the sacrifice made by the existing partners or the share given by the existing partner(s).

As a result, a change in the profit-sharing ratio amongst the partners will lead to the reconstitution of the partnership.

Points to remember for its treatment

  • Calculation of the new profit-sharing ratio & sacrificing ratio.
  • Valuation of goodwill under different scenarios & its adjustment.
  • Revaluation of firm’s assets & liabilities.
  • Adjustment of deferred revenue expenditure, reserves, accumulated profits & losses.
  • Adjustment of the partners’ capital accounts as per the agreement between the partners.

 

3) Retirement of an Existing Partner                                                                         

When a partner ceases to continue as a partner of a firm, either as per the agreement or by mutual consent of all the partners, it is termed as “retirement of an existent partner”.

Also, a partner can retire by giving a written notice stating his retirement to all the remaining partners, provided the partnership is at will.

A retiring partner is liable for the firm’s acts only up to the date of his/her retirement. However, such a partner will also be liable to others for the firm’s acts until public notice of retirement is delivered, irrespective of the actual date of retirement.

Lastly, the remaining partners (minimum 2) will continue to run the firm with the new-profit sharing ratio, which will result in the reconstitution of the firm.

Points to remember for its treatment

  • Calculation of the new profit-sharing ratio & gaining ratio.
  • Valuation & adjustment of firm’s goodwill.
  • Reassessment of firm’s assets & liabilities.
  • Settlement of reserves & undistributed profits or losses.
  • Estimation of retiring partner(s) interest & aggregate payment to be made to such a partner.
  • Adjustment of the partners’ capital accounts, if so agreed.

 

4) Death or Insolvency of an Existing Partner                                                    

Death or Insolvency of a partner leads to an end of the old partnership & the beginning of a new agreement provided the remaining partners (2 or more) continue to run the firm. Consequently, this will result in the reconstitution of partnership.

Further, as a bankrupt partner is incompetent to carry out the business, all the dues will be settled with such a partner. However, in the case of a deceased partner, all money is paid to the legal heir.

The treatment in case of the death of a partner is similar to the treatment done in the event of the retirement of a partner, except for the dues of the deceased partner, which are settled with the official executor of the deceased partner, as per the agreement between remaining partners and the executor.

 

5) Amalgamation of Two or More Partnership Firms                                                 

The term amalgamation refers to the merger of two or more business firms operating on similar lines of business to expand the market, benefit from the economies of scale, etc.

Thus, the amalgamation of two or more partnership firms will lead to the termination of the older separate business entities and the creation of a new firm, further leading to the alteration of the terms of the agreement of partnership. As a result, it will lead to the reconstitution of partnership.

Points to remember for its treatment

  • Calculation of the new profit-sharing ratio & gaining ratio.
  • Adjustment of goodwill for all the amalgamating firms.
  • Calculation of purchase considerations.
  • Settlement of reserves & undistributed profits or losses.
  • Adjustment of the partners’ capital accounts and calculation of new capital of the partners in the new firm.

Related Topic – Realisation Account

 

Why is it Necessary?

Any change or modification in the terms of an existing agreement of partnership should be accounted for and documented. Following are the points highlighting the need for reconstitution of a partnership firm,

  1. Reconstitution of two or more partnership firms by amalgamation can help in reducing the cost of business as well as in strengthening the capital position of such firms.
  2. Further, reconstitution resulting from the change in the profit-sharing ratios of the partners largely assists in incentivising the partners in accordance with their workload & capital contribution.
  3. Similarly, the admission of a new partner not only helps in raising more capital but also adds to the creditworthiness of the partnership firm.

However, such a change in the terms of the agreement might also be discouraging for the partners who are supposed to sacrifice or give their share of profits to the other partner(s).

Related Topic – Accounting Quiz with Answers

 

Difference Between Reconstitution and Dilution

The term “Reconstitution” refers to the restructuring of a business firm or organization as a result of alteration in the terms of its agreement. Whereas, the term “Dilution” directs towards the fall in the ownership of the existing stakeholders of a company because of the issue of additional shares.

Unlike, joint-stock companies a partnership firm can not be diluted because it can not issue shares. But, the reconstitution of a partnership firm can be simply done by altering the terms of its agreement.

Related Topic – Difference Between Revaluation and Realisation Account

 

Solved Question

Suppose Q, R & N are partners in a firm, having a profit-sharing ratio of 3: 2: 1. Assume that following is the balance sheet of the firm at the end of the accounting year.

        Balance Sheet as on – (End of financial year)         
Liabilities Amt Assets Amt
Sundry Creditors 6,000 Cash in Hand 6,000
General Reserve 60,000 Sundry Debtors 90,000
Capital A/Cs Stock in Hand 70,000
Q – 80,000 Machinery 60,000
R – 80,000 Building 80,000
N – 80,000 2,40,000
Total 3,06,000 Total 3,06,000

Partner N retires on the balance sheet date and they decide to adjust the value of assets as follows;

  1. Create provision for doubtful debts @5% on sundry debtors.
  2. Reduce stock by 5% & machinery by 10%.
  3. Building to be revalued at 91,000.
  4. The firm’s goodwill is valued at 1,50,000.

Partner Q & R decide to continue the business & share profits equally.

 

Solution:

Working Notes

1) The balance of N’s capital is to be transferred to his loan A/C assuming it is payable on a future date.

2) Gaining Ratio = New Ratio – Old Ratio

  • Q’s Gain = 1/2 – 3/6
    • 1/2 – 1/2 = 0
  • R’s Gain = 1/2 – 2/6
    • 1/2 – 1/3 = 1/6

Thus, R is the sole gaining partner who will compensate the retiring partner N.

3) N’s share in Goodwill = 1,50,000 x 1/6 = 25,000, which is contributed by the gaining partner R.

 

Revaluation account, prepared at the time of reconstitution so that the revaluation gain or loss can be distributed among the existing partners as per their old profit sharing ratio.

 

Partners’ capital account, prepared to determine the closing balances of all the partners after all profits and reserves are distributed, plus goodwill is adjusted.

 

Final balance sheet, on the date of partner N’s retirement.

 

>Read Overcapitalization and Undercapitalization

 

What is Sacrificing Ratio?

Ahuja Sahil
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Meaning and Explanation

Sacrificing ratio is the proportion in which old partners of a firm forego their share of profits in favour of new partner(s). The sacrificed portion is given to the new partner by the existing partner(s). On the other hand, the partner who gains the share calculates a gaining ratio at his/her end.

Such a ratio is calculated in two situations;

  1. When partners change their profit/loss sharing ratio.
  2. When a new partner is admitted.

Sacrificing ratio helps a partnership firm calculate the profit or loss that current partners have given up as a result of newly admitted partners. This ratio results in a decrease in the profit-sharing ratio of existing partners.

When existing partner(s) sacrifice their share of profit for a newly admitted partner, they are compensated in the form of goodwill by the new partner to the extent of their sacrifice.

Sacrificing Ratio Explained
Both Partners A & B sacrificed 1/6th of their share and gave it to Partner C

Related Topic – Can goodwill be Negative?

 

Formula

This ratio is important because the new partner will compensate the old partners accordingly for offering their share of profit. The sacrifice is set off against the gain in this way.

Sacrificing Ratio Formula

 

How to Calculate Sacrificing Ratio

Knowledge of the following two ratios is necessary to calculate the sacrificing ratio for each of the partners who are sacrificing a share in the partnership firm’s profits.

  1. Old Profit-Sharing Ratio – It is the ratio in which the existing partners have been sharing the profits & losses until the change in their profit sharing ratio/change in the terms of the partnership agreement.
  2. New Profit-Sharing Ratio – It is the ratio in which all the partners including the newly admitted partners will share the future profits & losses of the partnership firm.

 

Sacrificing ratio can be calculated in the following manner;

Case I: When the old and new ratios of partners are mentioned

Calculate the sacrificing ratio using the formula;

Sacrificing Ratio = Old profit sharing ratio – New profit sharing ratio

 

Case II: When the Profit Sharing Ratio of the incoming partner is mentioned and the new ratio of old partners is missing.

  1. Calculate the total share of profits left for all the old partners by deducting the share of the new partner from the total i.e., 1
  2. Calculate the new share of old partners by multiplying their old profit sharing ratio with the total share calculated in the previous step (1).
  3. Calculate the sacrificing ratio using the formula-Sacrificing Ratio = Old profit sharing ratio – New profit sharing ratio.

Related Topic – Interest on Capital Adjustment in Final Accounts

 

Example

Alpha and Beta are partners in a partnership firm sharing profits in the ratio 2:1. Gamma is the new partner admitted for a 25% share (1/4th) of the profits.

Alpha Beta Gamma
Old Profit Sharing Ratio 2/3 1/3 –
Share of Admitted partner – – 1/4

Let the total profit of the firm be = 1

Gamma’s share of profit = 1/4

Share of profit left for Alpha and Beta = 1 – 1/4 = 3/4

 

Post induction of the partner,

Alpha Beta Gamma
New Share Calculation*

(Old Ratio x Share of Profit Left for Partners)

 2/3 * 3/4 = 2/4 1/3 * 3/4 = 1/4 1/4
New Profit Sharing Ratio 1/2 1/4 1/4
Sacrificing Ratio = Old Profit Sharing Ratio – New Profit Sharing Ratio
= 2/3 – 1/2 = 1/6 1-3 – 1/4 = 1/12 No Sacrifice

Note: In a partnership firm, the old profit-sharing ratio and the sacrificing ratio will be the same if mentioned in the partnership deed, and mutually agreed upon by all partners.

Related Topic – Difference Between Revaluation Account and Realisation Account

 

Gaining Ratio Vs Sacrificing Ratio

The Gaining Ratio refers to the share of profit gained by a partner, from the other partners of a partnership firm.

Basis Sacrificing Ratio Gaining Ratio
Meaning It is the proportion in which old partners of a partnership firm forego their share of profits in favour of new partner/s It refers to the share of profit gained by a partner, from the other partners of a partnership firm
Purpose It helps in calculating the share of profit sacrificed by existing partners. It helps in calculating the share of profit gained by existing partners.
Event It is calculated while admission of a new partner or during the change in profit sharing ratio among existing partners. It is calculated while the retirement or death of an existing partner or during the change in profit sharing ratio among existing partners.
Formula Sacrificing Ratio = Old profit sharing ratio – New profit sharing ratio Gaining Ratio = New profit sharing ratio – Old profit sharing ratio
Outcome Compensation is received by the sacrificing partners for foregoing their share in profit. Compensation is paid by the gaining partners to the ones who are sacrificing.

 

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What is Gaining Ratio?

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Meaning and Explanation

The gaining ratio is the proportion in which one or more partners gain a share in the firm’s profit as a result of other partner(s) sacrifice. It is used to compute the amount of compensation paid by the gaining partners to the ones who are sacrificing their share of profit (known as sacrificing ratio). The compensation is paid in the form of goodwill.

Following are the various events wherein gaining ratio is usually calculated;

  • If the partners decide to change their profit sharing ratio to divide the profit more appropriately & motivate the partners to work more efficiently,
  • Retirement of an existing partner will result in a sacrifice of share of profit by such a partner, due to which  the remaining partners will gain a profit share,
  • Likewise, in the case of the death of a partner, the remaining partners will again gain a share in the firm’s profit, equal to the profit-sharing ratio of the deceased partner.

Thus, the total gain received by gaining partners is always equal to the total amount of sacrifice made by the sacrificing partners.

Gaining Ratio Explanation
1/3rd of Partner C’s share is spread equally among Partner A & Partner B

Related Topic – What is a Revaluation Account?

 

Gain Ratio Formula

Knowledge of the following two ratios is necessary to calculate the gaining ratio for each of the partners who are gaining a share in the partnership firm’s profits.

  1. Old Profit-Sharing Ratio – It is the ratio in which the existing partners have been sharing the profits & losses until the change in their profit sharing ratio/change in the terms of the partnership agreement.
  2. New Profit-Sharing Ratio – It is the ratio in which all the partners including the newly admitted partners will share the future profits & losses of the partnership firm.

 

Steps

  • Determine the new profit sharing ratio of the old partners – The new profit sharing ratio is either mentioned as per the agreement between the partners or is the same as the old ratio between them when nothing is mentioned.
  • Calculate the Gain Ratio – The gaining ratio is the difference between the new and old profit sharing of the remaining partners.

Hence, the Gaining Ratio refers to the ratio in which one or more partners acquire the share of profit from the sacrificing partners & is equal to the difference between the new & the old shares of the respective gaining partners.

Related Topic – Components of Financial Reporting

 

Formula

Gain ratio is equal to the difference between the new profit sharing ratio and the old profit sharing ratio of the gaining partner. It is computed separately for each gaining partner.

gaining ratio formula

Note – The aggregate amount of gain made by some partners is always equal to the aggregate amount of sacrifice made by others.

Therefore, Gaining Ratio (of all the gainers) = -Sacrificing Ratio (of all the sacrificers)

= -(Old profit sharing ratio – New profit sharing ratio)

= (New profit sharing ratio – Old profit sharing ratio)

 

Example

Suppose P, Q, R & S are four partners sharing profits in the ratio 4: 3: 2: 1. Partner P dies and as per the new agreement, the remaining partners decide to share profits equally.

Therefore, after P’s death;

New profit sharing ratio of Q, R & S = 1: 1: 1

 

Calculation of gaining ratio;

Q’s gaining ratio = New share – Old share = 1/3 – 3/10 = 1/30

similarly,

R’s gaining ratio = 1/3 – 2/10 = 4/30

S’s gaining ratio = 1/3 – 1/10 = 7/30

Total gain made by all the partners = 1/30 + 4/30 + 7/30 = 12/30 or 4/10

Sacrificing ratio for for partner P = 4/10

Gaining ratio of Q, R & S = 1: 4: 7

That is, Q, R & S will gain 1/12, 4/12 & 7/12 respectively because of the lost partner P.

Related Topic – 30 transactions of journal, ledger, trial balance, and financial statements

 

Gaining Ratio Vs Sacrificing Ratio

Basis Gaining Ratio Sacrificing Ratio
Meaning It is the proportion in which one or more partners gain a share in the profit of the firm. It is the proportion in which one or more partners forgo their share in the profit of the firm.
Purpose To find the amount of compensation (goodwill, etc.) to be paid by the gainers. To ascertain the amount of compensation to be received by the sacrificers.
Computation The old share is subtracted from the new share. The new share is subtracted from the old share.
Event Usually computed in the event of the admission of a new partner or change in profit sharing ratio of the existing partners upon mutual consent. Calculated at the time of death or retirement of an existing partner or change in profit sharing ratio of the existing partners.
Compensation Compensation is paid by the gaining partners to the ones who are sacrificing. Compensation is received by the sacrificing partners for foregoing their share in profit.

 

 

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What is Net Book Value?

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Meaning and Formula

Net Book Value represents the carrying value of an asset that is equal to the value after deducting depreciation, depletion, amortization and/or accumulated impairment, to date. It is the value at which an asset is recorded in the balance sheet of an enterprise.

Further, normal wear-tear, obsolescence, natural factors and other such factors lead to a fall in the value of an asset over the course of its expected useful life. Such a loss is termed as;

  • Depreciation – for tangible fixed assets
  • Depletion – for natural resources
  • Amortization – for intangible assets

However, impairment involves an unexpected and extraordinary drop in the value of an asset.

Net Book Value helps in reflecting the value of an unutilized asset as on a given date because of which, it is also termed as Net Asset Value or Carrying Value.

 

Formula to Compute Net Book Value / Net Asset Value

Net Book Value Formula

Note – When an asset reaches the end of its expected useful life, its net book value equals its salvage value.

Related Topic – Is accumulated depreciation an asset or liability?

 

How to Calculate Net Book Value

Steps to Calculate N.B.V of an Asset

Step 1 – Find the historical cost of the asset by computing its total cost of acquisition.

Step 2 – Calculate the total amount of depreciation to be charged on the asset to date.

Step 3 – Subtract accumulated depreciation from the historical cost of the asset.

 

Example 1 – Suppose a company purchases a pre-owned truck worth 80,000 & further, incurs a cost of 10,000 for its repairs before using it. Also, it decides to charge depreciation @ 10% as per the straight-line method.

Original cost of truck = cost of acquisition + cost of repairs

= 80,000 + 10,000 = 90,000

Depreciation after first year = 90,000 x 10% = 9,000

Net Asset Value of the truck will be as follows,

  • Year 1 = 90,000 – 9,000 = 81,000
  • Year 2 = 81,000 – 9,000 = 72,000
  • Year 3 = 72,000 – 9,000 = 63,000
  • Year 4 = 63,000 – 9,000 = 54,000

and so on.

 

Example 2 – With accumulated depreciation, impairment loss and salvage value.

Suppose VIP Ltd. purchased machinery worth 2,00,000, with a useful life of 10 years. Its salvage value at the end to 10 years was estimated to be 10,000. After 2 years, the company revalued the asset and its revised value at the end of the 2nd year turns out to be 1,40,000. Its remaining useful life was re-estimated at 5 years with nil salvage value. The company uses the straight-line method of depreciation.

We know, Depreciation = (Cost of asset – Salvage value) / Useful Life

Initial Depreciation per year = (2,00,000 – 10,000) / 10 = 1,90,000 / 10 = 19,000

At the end of 2nd year

Accumulated Depreciation = 19,000 X 2 = 38,000

Net book value = Cost of Asset – Accumulated depreciation

= 2,00,000 – 38,000 = 1,62,000

Calculation of Impairment Loss

Impairment loss = Revalued Value – Carrying value of the asset

= 1,40,000 – 1,62,000 = 22,000

Calculation of new Depreciation for machinery (for 3rd year onwards)

Depreciation per year = (Revised Value of asset – Revised Salvage value) / Revised Life

= (1,40,000 – 0) / 5 = 28,000

Note: Impairment loss of 22,000 will be debited to the profit and loss account. Machinery will be shown at its revised value, which is 1,40,000, at the end of 2nd year. This can also be verified with the formula as follows;

Net Book Value = Original Cost – Accumulated depreciation – Impairment loss

= 2,00,000 – 38,000 – 22,000 = 1,40,000

Related Topic – Are accounts receivable assets or revenue?

 

NBV in Financial Statements

The term Net Book Value (NBV) is related to the net value of a firm’s assets & hence, it is shown on the asset side of a balance sheet.

Net Book Value shown in the balance sheet

 

Net Book Value Vs. Book Value Vs. Market Value

Both Net Book Value & Book Value simply refer to the value of unused assets left with the organization. They are both equal to the difference between the historical cost of an asset and the amount of depreciation/impairment accumulated on that. Therefore, they are quite synonymous and may be used interchangeably.

Market Value is the amount that an asset will bring if it is sold in the market today. It is the price that people are willing to pay in an open market for an asset. Any asset’s market value and book value are usually never the same.

For example, a business that owns a laptop for 50,000 lasts for five years. The depreciation charged is at 20% every year. After the end of the 1st year, its net book value (or book value) will be 50,000 – 20%, i.e. 40,000.

However, if the business decides to sell the same laptop in an open market after 1 year it might only fetch 20,000. The maximum amount a buyer is willing to pay for the laptop after one year is its market value.

Related Topic – How is provision for depreciation shown in the trial balance?

 

Advantages and Disadvantages

Advantages

Recording Assets at their Net book value is of high importance because of the following reasons;

  1. It helps in maintaining more accurate accounting records because the value of assets is recorded after deducting any actual or anticipated loss as per prudence.
  2. It helps in estimating the real value of the assets which also helps in business valuation at the time of liquidation of the company.

 

Disadvantages

Using Net Book Value can be misleading because of the following two disadvantages;

  1. NBV is sometimes mistaken as market value however, as explained earlier, it is never equal to the market value of the asset. Market value is the amount that an asset will get if it is sold in the market. Many times, the market value of an asset is too less than its book value because of which, book value can show an inaccurate image of the position of a company.
  2. The estimates made by the management has an impact on the net book value of assets. For example, the rate of depreciation and the scrap values of an asset has a direct effect on its NBV.

 

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What is a Revaluation Account?

Ahuja Sahil
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Meaning, Example & Purpose

Revaluation means “reassessing the value of something”. In the event of a change to the original partnership of a business, such a reassessment is done. Only assets & liabilities of a firm are revalued and a “Revaluation Account” is opened to determine profit/loss resulting from the exercise.

Note: Revaluation is only done for assets & liabilities whereas income and expenses generated from the core business operations are excluded.

It is a nominal account that is prepared in the event of admission, retirement, or death of a partner and changes in profit sharing ratio. Alternatively, it can be said that it is prepared at the time of reconstitution of a partnership.

Example

Suppose R, M & S are partners in a firm, sharing profits & losses in the ratio of 5:3:2 However, after a mutual decision, they changed their profit-sharing ratio to 2:5:3

  • Workmen’s Compensation Reserve is 12,000 but, the workers claim 20,000.
  • Creditors worth 9,000 are unclaimed.
  • Investments of 38,000 is revalued at 40,000.
  • Unrecorded furniture worth 34,000 is there.
  • Stock worth 40,000 is to be reduced by 10%.

Revaluation Account

Particulars (Dr.) Amt Particulars (Cr.) Amt
Stock A/C 4,000 Creditors A/C 9,000
Workmen’s Compensation Claim A/C 8,000 Furniture (unrecorded) A/C 34,000
Profit on Revaluation transferred to:- Investments A/C 2,000
R’s Capital A/C – 16,500
M’s Capital A/C – 9,900
S’s Capital A/C – 6,600 33,000
Total 45,000 Total 45,000

Note – Profit on revaluation of the firm’s assets & liabilities above is to be distributed amongst the partners in their old profit sharing ratio i.e. 5: 3: 2.

 

Computing the Gaining & Sacrificing Ratios

Gaining Ratio = New Ratio – Old Ratio

M’s Gaining Ratio = 5/10 – 3/10 = 2/10

S’s Gaining Ratio = 3/10 – 2/10 = 1/10

 

Sacrificing Ratio = Old Ratio – New Ratio

R’s Sacrificing Ratio = 5/10  – 2/10 = 3/10

Related Topic – Can assets have a credit balance?

 

Type of Account and Format of Revaluation Account

Information regarding the type of account helps in recording the various transactions in the right way using the right accounting rules.

As per the golden rules of accounting

Type of Account Nominal Account
Rule Applied Debit all expenses & losses. Credit all incomes & gains.

 

Template of Revaluation Account

Revaluation account formatNote – Either profit or loss will be there, on account of revaluation of the firm’s assets & liabilities. However, sometimes it might even balance i.e. neither profit nor loss.

Further, when a revaluation account is prepared then assets & liabilities are shown at their revised value in the balance sheet.

Related Topic – Is debit balance positive and credit balance negative?

 

Steps to Prepare

Following are the various steps involved in the preparation of the Revaluation Account

  1. Debit the Revaluation Account with the decrease in the value of the firm’s assets & the increase in the value of its liabilities.
  2. Similarly, Credit the Revaluation Account with the decrease in the value of the firm’s liabilities & the increase in its assets.
  3. Same way, debit the unrecorded liabilities & expenses but, credit the unrecorded assets.
  4. If the total credit side of the revaluation account is greater than the total of its debit side then, there will be a profit on revaluation, which is to be credited to Partners’ Capital Accounts in their old profit sharing ratio.
  5. However, the Partners Capital Accounts are to be debited if there is a Loss on Revaluation in their old profit sharing ratio.

Related Topic – Where is Amortization Shown in Financial Statements?

 

Important Points to Remember

  • It helps in settling the profit or loss on revaluation of the assets & liabilities till the date of change in the terms of agreement of partnership amongst the existing partners in their old profit sharing ratio.
  • Free Reserves, Amount claimed out of Workmen’s Compensation Reserve, Credit balance of Profit & Loss Account, etc. should not be transferred to the Revaluation Account instead, should be Credited directly to the partners’ capital account.
  • A debit balance is regarded as “Loss on Revaluation”.
  • A credit balance is categorised as “Profit on Revaluation”.
  • Sometimes, the Revaluation Account can be also balanced which is when neither profit nor any loss is there on the reassessment of the firm’s assets & liabilities.
  • A revaluation account is different from a memorandum revaluation account. Memorandum Revaluation Account is prepared in the case when partners do not want to alter or revise the value of assets and liabilities, at the time of reconstitution of the partnership firm.

Related Topic – Is investment an asset?

 

Difference between Revaluation Account and Realisation Account

Basis Revaluation Account Realisation Account
1) Meaning Revaluation account records the effect of revaluation of the firm’s assets & liabilities. Realisation account records the effect of reassessment of a firm’s assets & settlement of liabilities.
2) Objectives By calculating the gain or loss on revaluation, it assists in making appropriate modifications to the value of assets and liabilities. By computing the gain or loss on realisation of assets & payment of the outsider liabilities, it helps in settling the various balances.
3) Time This account is prepared when a partner retires, dies, or when the profit-sharing ratio changes, etc. This account is prepared when the partnership firm dissolves.
4) List of Contents Contains only the amount of change in the value of the firm’s Assets and Liabilities. Contains all the Assets (except fictitious assets, cash/bank & loan to partners) & outsiders’ liabilities of the firm.
5) Effect on firm’s assets &  liabilities It only results in the reassessment of the assets & liabilities account and not their closure. It results in the closure of all the assets & liabilities accounts of the firm.
6) Recurrence of preparation It can be prepared more than once during the lifetime of a business. It is prepared only once, during the dissolution of the firm.

 

 

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Format of Balance Sheet

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Meaning and Basics

It is a financial statement prepared by all types of businesses (sole proprietors, partners, enterprise, etc.) at a given date. The balance sheet represents the financial position of a business at any given point in time. It shows the company’s assets along with how they are financed, which may be by debt, equity, or a combination of both.

Financial Statements can be presented in two ways; Vertical Representation or Horizontal Representation.

Few other names of a balance sheet are Statement of Financial Position, Statement of Financial Condition or Statement of Net Worth.

 

It is based on a fundamental accounting equation which is;

Assets = Liabilities + Equity

The above equation means that at any point in time, a business’s assets should be equal to its liabilities and equity. Usually, the balance sheet is prepared from a trial balance.

 

The three aspects of a balance sheet are:

  1. Assets: These are the resources owned by an entity, whether tangible or intangible.
  2. Liabilities: These are the financial obligations of an entity and includes everything which the entity owes to outsiders.
  3. Equity: This is the amount invested by the owners plus the retained earnings. In other words, it is the part of the assets left for the owners, after the payment of outsiders liability.

The Balance sheet presents an account of where a company has obtained its funds and where it has invested them. A business has primarily two sources of funds which are shareholders and lenders. These funds are then invested in assets which helps the business in generating revenue.

Related Topic – Can Assets have a Credit Balance?

 

Vertical Format of Balance Sheet

The vertical format is also known as the report format. This presentation starts with assets and after that, equity & liabilities are listed. The format is categorized into sections that are in descending order of liquidity, which means prioritizing items that are less liquid in nature. The data is presented from top to bottom in two columns i.e. assets and liabilities in one column and amounts in another.

The five major sections under the vertical format of the Balance sheet are;

  1. Non-Current Assets – These are long-term assets and are held for a longer period of time (usually more than 1 year).
  2. Current Assets – These are short-term assets that can be liquidated or converted into cash within a period of twelve months.
  3. Equity – This section represents share capital, share premium, any retained earnings, and revaluation surplus of an entity.
  4. Non-Current Liabilities – These are long-term debts and other long term obligations of an entity that are to be settled after a period of 12 months.
  5. Current Liabilities – These are the short-term debts and obligations, payable within a period of 12 months.

 

There are various advantages of a Vertical format balance sheet.

  • It helps in easier intra-firm comparison (comparison of a company’s balance sheet with that of previous years) and inter-firm comparison (comparison of a company’s balance sheet with that of other companies)
  • It makes it easier to understand the correlation between different line items on a balance sheet.

Vertical form of balance sheet

Related Topic – Can Depreciation be Charged in the Year of Sale?

 

Horizontal Format of Balance Sheet

Horizontal format lists all liabilities on the left-hand side and all assets on the right-hand side of the balance sheet. It is also called a T-shaped Balance sheet.

In a horizontal format, assets and liabilities are presented descriptively. The liabilities and assets are listed in the 1st and 3rd column of the balance sheet respectively whereas, the amounts associated with them are listed in the 2nd and 4th columns respectively.

This format is not ideal for both inter-firm and intra-firm comparisons because the information presented only relates to the current year. It is easier to compare the information in a vertical format balance sheet.

Horizontal format of balance sheet

Related Topic – Is Prepaid Expense a Fictitious Asset?

 

Importance of this Financial Statement

The balance sheet is the most important source of information about a company’s financial health. By analyzing the components of the balance sheet you can;

  • Understand the company’s financial health and measure its growth,
  • Understand how well a company generates returns by using ratios such as Return of Assets (ROA), Return on Capital Employed (ROCE),
  • Understand the company’s liquidity position by comparing its current assets to its current liabilities,
  • Understand how much financial risk the company is taking by looking at how a company is financed and how much leverage or debt it has,
  • Understand how efficiently a company uses its assets by using the income statement in connection with the balance sheet.

Related Topic – Grouping and Marshalling of Assets and Liabilities

 

Grouping and Marshalling

Grouping refers to putting similar items with similar qualities together and showing them under a common head inside financial statements. For example, all the debtors of an organisation are grouped together under just 1 head of sundry debtors in the balance sheet. Similarly, Inventory shows the net total of Raw Material, Work In Progress and Finished Stock.

Marshalling refers to the arrangement of assets and liabilities on the balance sheet in a particular order. The assets and liabilities are shown in a logical order for helping the stakeholders in understanding the financial statements easily.

There can be 3 ways of marshalling;

  1. In Order of Liquidity

Under this method, the assets & liabilities are shown in the order of their liquidity or urgency of payment i.e. assets & liabilities which are highly liquid, like Cash equivalents, Bank overdraft, etc. are shown first & permanent assets & liabilities like Land & Building, Capital, etc. are shown afterwards.

The following is a format of a balance sheet based on this order.

Balance Sheet – In order of Liquidity
Liabilities Amt Assets Amt
Creditors x Cash x
Loans x Bank x
Reserves & Surplus x Debtors x
Capital x Furniture x
Plant & Machinery x
  Building x
   

 

2. In Order of Permanence

Under this method, the assets & liabilities are shown in the order of their permanency or duration i.e. permanent assets & liabilities like Land & Building, Capital, etc. are shown first & the current assets & liabilities like Cash, Debtors, Creditors, etc. are shown afterwards.

The following is a format of a balance sheet based on this order.

Balance Sheet – In order of Permanence
Liabilities Amt Assets Amt
Capital x Building x
Reserves & Surplus x Plant & Machinery x
Loans x Furniture x
Creditors x Debtors x
Bank x
Cash x

 

3. Mixed Order

Under this method, the assets are arranged in the order of liquidity & the liabilities are arranged in the order of permanency.

The following is a format of a balance sheet based on this order.

Balance Sheet – Mixed order
Liabilities Amt Assets Amt
Capital x Cash x
Reserves & Surplus x Bank x
Loans x Debtors x
Creditors x Furniture x
Plant & Machinery x
Building x
 

 

Types of Balance Sheet Presentation PDF Download

Download 1 (PDF) – Horizontal Format of Balance Sheet

Download 2 (PDF) – Vertical Form of Balance Sheet

 

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How To Hire for Accountants in 2022

Ahuja Sahil
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Hiring is the most demanding part of any business. Yet, it is also the crucial one. Therefore, the hiring process should be designed to uncover the perfect fit for your company.

It’s important to understand that hiring the right person will enhance your workflow and create better results for you and your team.

In this article, we’ll share some tips on hiring accountants in 2022. From understanding what skills are needed to interviewing candidates, we have answered all of your questions here:

Conduct a thorough job analysis

Before you even start your search, you must know what you’re looking for. The job analysis is a vital part of the hiring process. It can help you find the perfect person more quickly by clearly outlining what skills, qualifications, and experience are needed for each position.

Job analysis is a process by which the recruiters first collect the information about a job and then analyze it. The goal is to know what you have to look for. At the end of the job analysis process, you get a job description and specification.

Some methods to effectively conduct job analysis are as under:

  • Observation: you observe individuals performing a similar/same job somewhere and note their duties and tasks.
  • Interview: you interview individuals performing a similar/same job somewhere and ask about their responsibilities.
  • Questionnaires: you roll out questionnaire forms including the questions about their responsibilities to individuals performing a similar/same job somewhere.

 

Once you have chosen the job analysis methods, you can follow the following steps to conduct it thoroughly.

Step 1: Plan the job analysis

At this stage, you set the objectives of your job analysis process. As an HR person, you also involve the top management to ensure everyone’s on the same page.

Step 2: Introduce the job analysis

At this stage, you set the methodology for the job analysis. First, you have to choose either to observe or interview. You can also have a blend of multiple methods. Then, you need to communicate the preferred method(s) with the people involved.

Step 3: conduct the job analysis

At this stage, you perform the methods mentioned earlier. First, you compile the gathered data and then review it.

Step 4: create job descriptions and specifications

By utilizing the collected data in the previous step, you draft the job specifications and descriptions. The involved persons and top management then review this initial draft. At last, you finalize a job description and specification to be rolled out for the hiring process.

Step 5: maintain and update job descriptions and specifications

Creating a job description and specification is not the end. In this age of disruptive technologies, you need to keep them up-to-date as per the new changes. Hence, you must revise the job description and specifications continuously.

Once done with the job analysis process, you will have its product at hand—job description and specification.

This job description would highlight the need for accounting skills as well as expertise in managing a team or providing financial assistance.

Knowing precisely what you want before you start interviewing candidates will save both time and money—and help you find the best candidate.

 

Start your recruiting process

For hire image

After a thorough job analysis, you know exactly what you are looking for. Hence, now is the time to start your hunt for the right candidate. How do you find them? There are three common ways:

Internet Recruiting

The age of the internet has made it easier for employers to reach potential candidates. With the help of the internet, you can use the following ways to attract potential hires for application.

  • E-recruiting: You use internet recruiting tools, such as blogs, websites, or Twitter, to post your job description and specification.
  • Online job boards: There are special online job boards that facilitate the interaction of employers and their potential employees. The websites such as Indeed, Monster, LinkedIn, etc., allow you to post your job description and specification.
  • Employer website: You can also have a ‘hiring’ page on your website dedicated to this purpose. A good website will lure not only active job seekers but also passive job seekers.

 

Internal Recruiting

Employers can also find potential hires from sources within their organization. Some of them are as under:

  • Employee-focused recruiting: you get suggestions from your current employees about the right accountant to hire.
  • Current-employee referrals: if the employees know the right accountant among their acquaintances, family, and friends, they refer it to the employer.
  • Re-recruiting former employees: if you had previously excluded a good accountant from their position, possibly because you were downsizing, you could now recall them for the vacant position.

 

External Recruiting

Another source to find potential hires is external recruiting. Some of its ways are as under:

  • Media: Media sources include newspapers, television, magazine, billboards, digital ads, videos, webinars, and more.
  • Employment Agencies: you can take the help of an employment agency within your region. They function to connect employers and employees.
  • Job Fairs: you can either organize a job fair yourself or participate in one. Oftentimes, organizations put their stalls at job fairs and conduct walk-in interviews of the potential candidates there.

 

Conduct an accounting test

After the potential hires have applied for the position, you must take them to the next significant step—testing their technical knowledge. The first condition of the right person is that they must have a thorough understanding of accounting.

To assess it, you must conduct a test. It can be online or on-site. If you go with the online testing option, we recommend TestGorilla’s accounting test. It is a predesigned test by accounting experts, so you don’t need to worry about creating a new one from scratch.

It assesses a candidate’s knowledge of the accounting process, terminologies, debit/credit calculations, the creation of financial statements, and more. Simply put, it would assess all of the necessary accounting skills of a candidate. 

Or, you can also go with the on-site testing option. However, it would be costly. You will have to set up an examination hall, purchase examination stationery, hire invigilators and checkers. 

Before all of it, you will have to design the test first. In a nutshell, the onsite testing option will cost you both money and time.

 

Design a perfect interview

The interview should be designed to get to know the candidate’s technical accounting knowledge, work ethic, communication skills, and other essential qualities.

It’s essential to ask specific questions about what they’ve done in the past that are relevant to your position. The questions you ask should relate to the job you’re hiring for. Make sure you pay attention to their body language as well as how they answer your questions.

Here are some examples of good questions:

  • What is your accounting background?
  • Which inventory valuation method should the businesses use: LIFO, FIFO, or weighted average?
  • What is the Operating Profit Ratio?
  • Describe one time when you could improve efficiency at a previous job.

 

The right interview environment

If you want to find a great accountant, the interview environment is the key. In order to have a successful interview, it’s essential to understand some of the qualities of a good accountant. One way to start would be by looking for an accountant with a positive attitude.

In addition, you should also look for someone who is dependable and reliable, as these skills will make them a better fit for your business.

The best way to assess these qualities is through an interview setting where both parties feel comfortable talking with each other.

If you’re hiring remotely over the phone or via video chat, make sure you speak up and articulate what you need from them.

When you’re looking for an accountant, it’s important to understand what skills and abilities are needed. For example, if you’re looking for someone who specializes in auditing your company’s records and tracking numbers, you’re going to need a candidate who is detail-oriented and detail-driven.

To find such a candidate, you’ll want to make sure they have the following skills:

  • They can work on their own with minimal supervision
  • They ask questions when they don’t know something
  • They can follow directions well
  • They stay calm under pressure
  • They have good multitasking skills

 

Wrapping up

As your company grows and your accounting needs change, you’ll have to be prepared to hire a new accountant. But new skills and technologies will create a whole new set of challenges as you look for new talent.

Fortunately, there are some steps you can take today that will help ensure that your search for the perfect accountant is successful.

In this article, we’ve covered the key steps to hiring an accountant in 2022, including conducting a thorough job analysis, conducting an accounting test, designing a perfect interview, and preparing questions before the interview. 

Now it’s time to put these steps into action and find the best accountant for your business.

 

 

Difference Between Revaluation Account and Realisation Account

Ahuja Sahil
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0

Revaluation Account Vs Realisation Account

Revaluation Account

It is a nominal account used to distribute profit or loss originating from re-assessment of the book value of a firm’s assets & liabilities. The balance of a Revaluation A/C is either profit or loss (on revaluation) which is then transferred to “Partners’ Capital A/C” in their old profit sharing ratio.

Major reasons why a partnership goes through reconstitution are;

  • Admission of a new partner
  • Retirement of an existing partner
  • Change in profit sharing ratio of the existing partners
  • Death of a partner

At the time of reconstitution due to any of the above events, the assets and liabilities of the firm are revalued so that any gain or loss up to the point of revaluation is shared among the old partners in the old profit sharing ratio. The newly reconstituted firm remain unaffected due to the past activities of the firm.

Format of Revaluation Accountformat of revaluation account

 

Realisation Account

Realisation Account is used to determine the profit or loss on realisation of the firm’s assets & the settlement of its liabilities. It is a nominal account that is created in the event of the dissolution of a partnership firm.

After a partnership is dissolved, its closing balance of assets and liabilities is transferred to the realisation account. Such profit or loss on realisation is calculated after recording the amount received or paid on sale/liquidation of assets and discharge of liabilities.

Consequently, this profit or loss on realisation is transferred to the Partners’ Capital A/C or Partners’ Current A/C in case of fluctuating & fixed capital, respectively.

Format of Realisation AccountFormat of Realisation Account

Note – Transactions that involve the settlement of a firm’s assets against its liabilities are not recorded in the Realisation Account, because the final effect of such a transaction is nil on the Realisation Account.

 

Difference Between Realisation and Revaluation Account – Table

Basis Revaluation Account Realisation Account
1) Definition Revaluation A/C records the effect of revaluation of the firm’s assets & liabilities. Realisation A/C records the effect of realisation of the firm’s assets & settlement of the firm’s liabilities.
2) Use / Objective It helps in making necessary adjustments in the value of assets & liabilities by determining the gain or loss on revaluation. It helps in computing the gain or loss on realisation of assets & payment of the external liabilities.
3) Time Period This account is created at the time of admission, retirement, death of a partner and, at the time of change in profit sharing ratio. This account is created only at the time of the dissolution of a partnership firm.
4) Contents Includes only the change in the value of the firm’s Assets and Liabilities. Includes all the Assets (except fictitious assets, cash/bank & loan to partners) & external liabilities of the firm.
5) Effect on assets &  liabilities It only leads to the reassessment of the assets & liabilities account and not their closure. It leads to the closure of all the assets & liabilities accounts of the firm.
6) Number of times the account is prepared It can be prepared multiple times during the lifetime of a business in the event of the reconstitution of the partnership. It is prepared only once i.e. at the time of winding up which is during the dissolution of a partnership.

 

Difference Table as an Image

We’ve provided an image of the above table to download. Simply right-click and save.

Difference Between Revaluation Account and Realization Account Table Format

 

>Read Interest on Capital Adjustment in Final Accounts

 

Journal Entry Examples

Ahuja Sahil
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0

The journal book must record every business transaction, which means entries need to be made. In accounting lingo, this is called a journal entry. We will provide you with 20 frequently asked journal entry examples on Google along with their logic.

When following double-entry bookkeeping there needs to be at least 1 debit & 1 credit. The below image is helpful to understand the format of a journal entry. Knowing which account to debit and which to credit is crucial.

Journal Entry Example Template

 

Examples of Journal Entries with a PDF

  1. Journal Entry for Business Started (in cash)
  2. Journal Entry for Sales (Credit)
  3. Journal Entry for Purchases (Credit)
  4. Journal Entry for Drawings (Cash)
  5. Journal Entry for Drawings (Goods)
  6. Journal Entry for Asset Purchase
  7. Journal Entry for Depreciation
  8. Journal Entry for Bad Debts
  9. Journal Entry for Free Samples/Charity
  10. Journal Entry for Discount Allowed
  11. Journal Entry for Discount Received
  12. Journal Entry for Outstanding Expenses
  13. Journal Entry for Prepaid Expenses
  14. Journal Entry for Income Received in Advance
  15. Journal Entry for Accrued Income
  16. Journal Entry for Amortization Expense
  17. Journal Entry for Interest on Capital
  18. Journal Entry for Interest on Drawings
  19. Journal Entry for Goods Returned
  20. Journal Entry for Manager’s Commission

Download our Free PDF at the End

 

1. Journal Entry for Business Started (in cash)

When a business commences and capital is introduced in form of cash.

Cash A/c Debit
 To Capital A/C Credit
  • Cash is an asset for the business hence debit the increase in assets.
  • Capital is an internal liability for the business hence credit the increase in liabilities.

 

Example – Max started a business with 10,000 in cash.

Cash A/c 10,000
 To Capital A/C 10,000

(Capital introduced by Max in cash for 10,000)

Related Topic – All Journal Entries on one Page

 

2. Journal Entry for Sales (Credit)

The sale of goods by a business on credit.

Debtors A/C Debit
 To Sales A/C Credit
  • Debtors are assets for the business, therefore debit the increase in assets.
  • Sales are income earned by the business, therefore credit the increase in income.

 

Example – Sold goods worth 4,000 to ABC & Co. on credit

ABC & Co. A/C 4,000
 To Sales A/C 4,000

(4,000 worth of goods sold to ABC & Co. on credit)

Related Topic – Try our Free Journal Entry Quiz for Practice

 

3. Journal Entry for Purchases (Credit)

When a business purchases goods from a supplier on credit.

Purchases A/C Debit
 To Creditors A/C Credit
  • Purchase is a direct expense for the business therefore debit the increase in expense.
  • Creditors are a liability for the business thus, credit the increase in liability.

 

Example – Purchased goods worth 3,000 from HM Ltd. on credit

Purchases A/C 3,000
 To HM Ltd. A/C 3,000

(Goods worth 3,000 purchased from HM Ltd. on credit)

Related Topic – Journal Entry for Cash Deposited in Bank

 

4. Journal Entry for Drawings (Cash)

Drawings are personal withdrawals made by the owner and act as a reduction in the owner’s capital.

Drawings A/C Debit
 To Cash A/C Credit
  • Drawings are a reduction in capital for the business therefore debit the decrease in capital.
  • Cash withdrawal from the business is a reduction in current assets as a result credit the decrease in assets.

 

Example – Max Withdrew 1,000 in cash for personal use from his business.

Drawings A/C 1,000
 To Cash A/C 1,000

(1,000 withdrawn for personal use by Max)

 

5. Journal Entry for Drawings (Goods)

In case an owner makes a personal withdrawal in form of goods.

Drawings A/c Debit
 To Stock A/c Credit
  • Drawings are a reduction in capital for the business therefore debit the decrease in capital.
  • Stock is an asset for the business hence credit the decrease in assets. Alternatively, the purchase account can be credited instead of the stock account.

 

Example – Max withdrew goods worth 2,000 for personal use.

Drawings A/c 2,000
 To Stock A/c 2,000

(Goods worth 2,000 withdrawn by max)

 

6. Journal Entry for Asset Purchase

When a business purchases an asset for cash.

Asset A/c Debit
 To Cash A/C Credit
  • A new purchase increases overall assets for the firm, therefore, debit the increase in assets.
  • When a business makes a payment in cash it reduces current assets therefore, credit the decrease in assets.

 

Example – Purchased Plant & Machinery worth 4,000 in cash.

Plant & Machinery A/c 4,000
 To Cash A/C 4,000

(Plant & Machinery bought in cash)

 

7. Journal Entry for Depreciation

The term ‘depreciation’ describes the reduction in the value of a tangible asset as a result of normal use, wear and tear, new technology, and/or unfavourable market conditions.

i) With Accumulated Depreciation

Depreciation A/C Debit
 To Accumulated Depreciation A/C Credit
  • Depreciation is an expense to the business therefore debit the increase in expense.
  • Accumulated Depreciation is a contra account therefore, credit the increase in accumulated depreciation.

 

Example – Provide 10% depreciation on Plant & Machinery worth 4,000.

Depreciation on Plant & Machinery A/C 400
 To Accumulated Depreciation A/C 400

(10% depreciation provided on plant & Machinery)

 

ii) Without Accumulated Depreciation

Depreciation A/C Debit
 To Asset A/C Credit
  • Depreciation is an expense to the business therefore debit the increase in expense.
  • Depreciation results in the reduction of the value of tangible fixed assets therefore credit the decrease in assets.

 

Example – Provide 10% depreciation on Plant & Machinery worth 4,000.

Depreciation on Plant & Machinery A/C 400
 To Plant & Machinery A/C 400

(10% depreciation provided on plant & Machinery)

Related Topic – Which Contra Account is used in Recording Depreciation?

 

8. Journal Entry for Bad Debts

When a customer fails to repay the amount owed it is known as a bad debt. It is an expense/loss for the business.

Bad Debts A/C Debit
 To Debtors A/C Credit
  • Bad Debt is an expense for the business thus debit the increases in expenses.
  • As the customer has defaulted and money is no longer receivable this is seen as a reduction in debtors, therefore, credit the decrease in assets.

 

Example – ABC & Co. became insolvent and the business is unable to recover 500.

Bad Debts A/C 500
 To ABC & Co. A/C 500

(Bad debts recorded for 4,000)

Related Topic – Are Bad Debts Liabilities?

 

9. Journal Entry for Free Samples/Charity

Free samples or donations made to charity are treated as an advertising expense by the business.

Advertisement A/C Debit
 To Purchases A/C Credit
  • Advertisement is an expense for the business hence debit the increase in expenses.
  • Free samples/Donations are reduced directly from the purchases. Free samples/Donations are adjusted directly from the purchases to show a reduction in inventory, therefore, credit the decrease in assets.

 

Example – Goods worth 500 distributed as free samples.

Advertisement A/C 500
 To Purchases A/C 500

(Goods worth 500 distributed as free samples)

Related Topic – Journal Entry for Free Samples and Charity (in Detail)

 

10. Journal Entry for Discount Allowed

The practice of allowing discounts to customers on goods purchased.

Cash A/C Debit
Discount Allowed A/C Debit
 To Debtor’s A/C Credit
  • Cash is received by the business, therefore, debit the increase in assets.
  • Discount allowed is an expense for the business hence debit the increase in expenses.
  • Debtors are an asset to the business and therefore credit the decrease in assets.

 

Example – Received 1,900 from XYZ in full settlement of their dues of 2,000.

Cash A/C 1,900
Discount Allowed A/C 100
 To XYZ & Co. A/C 2,000

(1,900 received from XYZ in cash with 100 as a discount)

Related Topic – Journal Entry for Discount Allowed (in detail)

 

11. Journal Entry for Discount Received

It may be possible to receive discounts from suppliers in certain situations for e.g. if a firm purchases in bulk or in case of early payment.

Creditor’s A/C Debit
 To Cash A/C Credit
 To Discount Received A/C Credit
  • Creditors are a liability for the business therefore debit the decrease in liability.
  • Cash paid results in a reduction of assets hence credit the decrease in assets.
  • Discount received is an income/gain for the business as a result credit the increase in income/gain.

 

Example – Paid 2,900 to HM Ltd. to settle their dues of 3,000.

HM Ltd. A/C 3,000
 To Cash A/C 2,900
 To Discount Received A/C 100

(2,900 paid in cash to HM Ltd. and received 100 as a discount)

 

12. Journal Entry for Outstanding Expenses

The term “outstanding expenses” refers to expenses that are unpaid after their due date.

Step 1 – At the time of recording expenses in the books.

Expenses A/C Debit
 To Outstanding Expenses A/C Credit
  • When an expense is recorded as outstanding it increases the overall expenses for the firm as it belongs to the current year, therefore, debit the increase in expenses.
  • Outstanding expenses are treated as a liability hence credit the increase in liabilities.

 

Step 2 – At the time of discharging liability.

Outstanding Expenses A/C Debit
 To Cash A/C Credit
  • Outstanding expense is a liability that is discharged, therefore, debit the decrease in liabilities.
  • Cash is paid therefore, credit the decrease in assets.

 

Example Step 1 – Electricity Expense of 1,000 is unpaid on the balance sheet date.

Electricity Expenses A/C 1,000
 To Outstanding Electricity Expenses A/C 1,000

(Outstanding electricity expense of 1,000 recorded)

Example Step 2 – Paid outstanding electricity expense of 1,000.

Outstanding Electricity Expenses A/C 1,000
 To Cash A/C 1,000

(Outstanding electricity bill of 1,000 paid in cash)

Related Topic – What are Accruals?

 

13. Journal Entry for Prepaid Expenses

The term “prepaid expenses” refers to expenses that are paid before the actual due date.

Step 1 – At the time of paying an expense before the due date in cash.

Prepaid Expense A/C Debit
 To Cash A/C Credit
  • Prepaid Expense is treated as an asset for the business therefore, debit the increase in assets.
  • The payment is made in cash therefore credit the decrease in assets.

 

Step 2 – Adjustment entry when the prepaid expense expires.

Expense A/C Debit
 To Prepaid Expense A/C Credit
  • At this point, the expense is recorded in the current period and it is no more “prepaid” therefore debit the increase in expenses.
  • A prepaid expense is removed which was being treated as an asset therefore credit the decrease in assets.

 

Example Step 1 – Paid 2,000 as advance rent in Dec for next month.

Prepaid Rent A/C 2,000
 To Cash A/C 2,000

(2,000 rent paid in advance for Jan)

Example Step 2 – Rent for 2,000 paid in the previous month to be adjusted this month. Entry on Jan 1,

Rent Expense A/C 2,000
 To Prepaid Rent A/C 2,000

(Rent expense adjusted from prepaid rent)

 

14. Journal Entry for Income Received in Advance

It is the income that is to be earned in the future accounting period but is already received in the current accounting period.

Step 1 – At the time of receiving income in cash.

Cash A/C Debit
 To Income Received in Advance A/C Credit
  • Cash is an asset for the business so debit the increase in assets.
  • Income received in advance is a liability for the business therefore credit the increase in liability.

 

Step 2 – Adjusting entry when the income is actually realized.

Income Received in Advance A/C Debit
 To Income A/C Credit
  • Income received in advance is adjusted so the liability is removed therefore debit the decrease in liabilities.
  • Income is being recognized therefore credit the increase in revenue.

 

Example Part 1 – Received 2,000 rent advance in Dec for next month.

Cash A/C 2,000
 To Rent Received in Advance A/C 2,000

(Advance rent received for Jan)

Example Part 2 – 2,000 rent received in the previous month to be adjusted this month.

Rent Received in Advance A/C 2,000
 To Rent Income A/C 2,000

(Advance rent adjusted and income recorded)

 

15. Journal Entry for Accrued Income

Income earned during a period of accounting but not received until the end of that period is called accrued income.

Step 1 – When Income is earned, but not received.

Accrued Income A/C Debit
 To Income A/C Credit
  • Accrued income is receivable for the business therefore debit the increase in assets.
  • Income is business earning therefore credit the increase in income. This is because as per the accrual concept, income should be recognised when it is earned and not when it is received.

 

Step 2 – When Accrued income is received in cash.

Cash A/C Debit
 To Accrued Income A/C Credit
  • Cash is received therefore debit the increase in assets.
  • Accrued Income is an asset that is to be reversed therefore credit the decrease in assets.

 

Example Part 1 – Interest income of 2,500 related to the current year is due on the balance sheet date.

Accrued Interest A/C 2,500
 To Interest Income A/C 2,500

(Accrued interest income recorded)

Example Part 2 – Received interest of 2,500 that belongs to the previous year.

Cash A/C 2,500
 To Accrued Interest A/C 2,500

(Interest received for the previous year)

 

16. Journal Entry for Amortization Expense

Amortization is the same as depreciation but is charged as an expense only on intangible assets.

i) With Accumulated Amortization

Amortization Expense A/C Debit
 To Accumulated Amortization A/C Credit
  • Amortization is an expense to the business thus debit the increase in expenses.
  • Accumulated amortization is a contra account therefore credit the increase in accumulated amortization.

 

Example – Patents worth 1,500 to be amortized.

Amortization Expense A/C 1,500
 To Accumulated Amortization A/C 1,500

(Patents worth 1,500 amortized)

Related Topic – List of Tangible and Intangible Assets

 

ii) Without Accumulated Amortization

Amortization Expense A/C Debit
 To Intangible Asset A/C Credit
  • Amortization is an expense to the business thus debit the increase in expenses.
  • Value of the related intangible asset is reduced thus credit the decrease in assets.

 

Example – Patents worth 1,500 to be amortized.

Amortization Expense A/C 1,500
 To Patents A/C 1,500

(Being patents worth 1,500 amortized)

Related Topic – Where is Amortization shown in financial statements?

 

17. Journal Entry for Interest on Capital

In return for the amount of capital employed by a partner in the business, he/she may seek a fixed rate of return.

Step 1 – At the time of providing interest to the partner via his/her capital account.

Interest on Capital A/C Debit
 To Partner’s Capital A/C Credit
  • Interest on Capital is an expense for the business therefore debit the increase in expenses.
  • Partner’s Capital is a capital account, therefore, credit the increase in capital.

 

Step 2 – At the time of transferring interest to the P&L appropriation account.

Profit & Loss Appropriation A/C Debit
 To Interest on Capital A/C Credit

Generally, interest on capital is an appropriation of profit, which means in case of loss, no interest is to be provided. Hence, debit the Profit and loss appropriation A/C and credit Interest on capital A/C at the time of transferring Interest on Capital.

 

Example – Provide Interest @5% on partner’s capital 10,000.

Interest on Capital A/C 500
 To Partner’s Capital A/C 500

(Interest on partner’s capital provided)

Profit & Loss Appropriation A/C 500
 To Interest on Capital A/C 500

(Interest on partner’s capital transferred to P&L appropriation)

Related Topic – Is capital an asset or liability?

 

18. Journal Entry for Interest on Drawings

Drawings are goods or cash withdrawn by a proprietor for their personal use from the business. In this case, the proprietor may be charged interest at a fixed rate.

Step 1 – At the time of charging interest on drawings from the proprietor.

Drawings A/C Debit
 To Interest on Drawings A/C Credit
  • Drawings are a reduction in capital for the business therefore debit the decrease in capital.
  • Interest on drawings is an income for the business hence credit the increase in income.

 

Step 2 – At the time of transferring interest to the P&L appropriation account.

Interest on Drawings A/C Debit
 To Profit & Loss Appropriation A/C Credit

Related Topic – Some Difficult Adjustments in Final Accounts

 

Example – Charge interest @ 10% on partner’s drawings for 3,000.

Drawings A/C 300
 To Interest on Drawings A/C 300

(Interest on partners’ drawings)

Interest on Drawings A/C 300
 To Profit & Loss Appropriation A/C 300

(Interest on drawings transferred to P&L appropriation)

 

19. Journal Entry for Goods Returned

Journal Entry for Sales Return

Sales returns are the goods returned by customers or debtors to the company.

Sales Returns A/C Debit
 To Debtor’s A/C Credit
  • Sales return is a decrease in income, therefore, debit the decrease in income. It is a contra-revenue account.
  • Debtors are an asset for the business and therefore credit the decrease in assets.

 

Example – Goods worth 200 sold on credit are returned by XYZ Ltd.

Sales Returns A/C 200
 To XYZ Ltd. A/C 200

(Goods returned by XYZ Ltd.)

 

Journal Entry for Purchase Return

Purchase Returns are the goods returned by the company to the seller or creditors.

Creditor’s A/C Debit
 To Purchase Returns A/C Credit
  • Creditors are a liability for the business therefore debit the decrease in liability.
  • Purchase Returns decrease the expense for a business and therefore credit the decrease in expense. It is a contra-expense account.

 

Example – Goods worth 100 purchased on credit from HM Ltd. returned by us.

HM Ltd. A/C 100
 To Purchase Returns A/C 100

(Goods returned to HM Ltd.)

 

20. Journal Entry for Manager’s Commission

Companies may offer managers a fixed percentage of their net profit as a commission in addition to salaries.

Manager’s Commission A/C Debit
 To Cash/Bank A/C Credit
  • Manager’s commission is an expense for the business therefore debit the increase in expense.
  • Money paid in cash or via bank is a decrease in assets therefore credit the decrease in assets.

 

Example – Paid manager commission @2% of the Net profit of the Current period after charging such commission. Net profit for the current period is 10,000

Manager’s Commission A/C 196
 To Cash/Bank A/C 196

(Manager commission @2% paid)

 

Download our Journal Entry Examples PDF

>Read Adjustments in Final Accounts

 

What is a Realisation Account?

Ahuja Sahil
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0

Meaning, Example & Uses 

“Realisation Account” is mostly used to determine the profit or loss on the realisation of assets and settlement of liabilities. It is prepared in the event of the dissolution of a partnership firm.

Example

Suppose 3 partners P, Q & R with a profit-sharing ratio of 1:1:1 decide to dissolve their partnership firm at will. Also, assuming that the firm’s balance sheet on the date of dissolution is as shown below;

Realisation account example

Further, P takes the investments at a value of 16,000.

Cash realized from the firm’s assets is as follows;

  • Freehold Property – 30,000
  • Sundry Debtors – 10,000
  • Stock – 2,000

Moreover, the firm settles the creditors at a discount of 20% and pays the realisation expenses worth 1,000.

Thus, the Realisation Account will be prepared as follows;

Realisation Account

Particulars (Dr.) Amt Particulars (Cr.) Amt
Sundry Assets (Transfer) Sundry Creditors A/C (Transfer) 10,000
Freehold Property A/C – 25,000 Bank A/C (Assets Realized)
Investments A/C – 20,000 Freehold Property A/C – 30,000
Sundry Debtors A/C – 15,000 Sundry Debtors A/C – 10,000
Stock A/C – 5,000 65,000 Stock A/C – 2,000 42,000
Bank A/C (Creditors Paid = 10,000 x 80%) 8,000 P’s Capital A/C (Investments at agreed value) 16,000
Bank A/C

(Realisation Expenses)

 1,000
Loss on realisation transferred to partner’s Capital A/C:- (1:1:1)
P’s Capital A/C – 2,000
Q’s Capital A/C – 2,000
R’s Capital A/C – 2,000 6,000
Total 74,000 Total 74,000

 

Points to be noted

  1. The credit balance of Profit & Loss A/C is not to be transferred to the Realisation A/C, instead, it will be credited directly to the partners’ Capital A/C in their profit sharing ratio.
  2. The amount of loan given to R that is 4,000, is to be debited to R’s Capital A/C and not Realisation A/C.

Related Topic – Accounts not closed at the end of an accounting period

 

Type of Account and Format of Realisation Account

Knowing the type of account is crucial for accounting because the application of accounting rules is based on it.

As per the golden rules of accounting

Type of Account Nominal Account
Rule Applied Debit all expenses & losses. Credit all incomes & gains.

 

Template of Realisation Account

Format of realisation account

Note – Transactions involving the settlement of the firm’s liabilities against its assets are not to be recorded in the Realisation Account, because the final effect of such a transaction would be nil on the Realisation Account.

Related Topic – Difference between receipt, payment, income and expenditure

 

Steps to Prepare

  1. Transfer all the assets of the firm except fictitious assets, loans to partners, and cash or bank account to the debit side of the Realisation Account to close these accounts.
  2. Likewise, transfer all the liabilities of the firm except partners’ loan account & partners’ capital account on the credit side to close these accounts as well.
  3. Now, credit the Realisation Account by the amount received from the sale of the firm’s assets.
  4. Similarly, debit the account by the amount paid to settle the liabilities of the firm.
  5. Record the expenses incurred by the firm on dissolution on the debit side of the realisation account.
  6. In case the firm’s liability is settled by the partner, debit the Realisation Account by the respective partner’s Capital A/C.
  7. Correspondingly, credit the account by that partner’s Capital A/C, who has taken over the firm’s one or more assets.
  8. The balance of this account would be either profit or loss, which is to be transferred to the Credit or Debit side respectively, of the partners’ Capital A/C in their profit sharing ratio.

 

Important Points to Remember

  • Amount realized on unrecorded Assets is credited and the amount paid for unrecorded Liabilities is debited in the Realisation Account.
  • All Provisions and reserves for which there is an asset in the balance sheet (ex. Provision for depreciation or doubtful debt) should be transferred to the credit of the Realisation Account.
  • Free Reserves and Capital Reserves should not be transferred to the realisation account instead, should be Credited directly to the partners capital account.
  • A loan given to a partner (asset) is transferred to the respective capital account whereas, a loan taken from a partner by the firm (liability) is transferred neither in the realisation account nor in the partners capital account. It is settled directly in cash after the payment of outsiders liability but before the payment towards the partners capital.
  • A loan related to any relative of a partner is credited in the realisation Account as it is an outsiders liability only.
  • A debit balance in the Realisation account is considered a “Loss on Realisation”.
  • A credit balance in the Realisation account is classified as “Profit on Realisation”.

Related Topic – Interest on Capital Adjustment in Final Accounts

 

Difference between Revaluation Account and Realisation Account

Basis Revaluation Account Realisation Account
1) Meaning Revaluation A/C records the effect of reassessment of assets & liabilities of the firm. Realisation A/C records the effect of realisation of the firm’s assets & settlement of the firm’s liabilities.
2) Purpose It helps in making necessary adjustments in the value of assets & liabilities. It helps in calculating the profit or loss on realisation of assets & payment of the outsider liabilities.
3) Time It is prepared at the time of admission, retirement, or death of a partner and, change in profit sharing ratio. It is prepared only at the time of dissolution of the partnership firm.
4) Contents Includes only those Assets and Liabilities which are Revalued. Includes all the Assets (except fictitious assets, cash/bank and loan to partners) and outsiders liabilities of the firm.
5) Effect on assets &  liabilities All the assets & liabilities accounts recorded in the Revaluation A/C are just revalued and not closed. All the assets & liabilities accounts recorded in Realisation A/C are closed.
6) Frequency of preparation of this account This account can be prepared multiple times during the life of a business. This account is prepared only once, during the dissolution of the firm.

 

 

Short Quiz for Self-Evaluation

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>Read Difference Between Revaluation Account and Realisation Account

 

Indirect Expenses List

Ahuja Sahil
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Meaning with Some Examples

An indirect expense is an expense incurred by a firm that is not directly related to the core business operations. To ensure the success of a business indirect expenses must be incurred, but they cannot be directly linked to the costs of its core product/service offering. In this article we try and provide a comprehensive indirect expenses list.

For example, the salary paid to sales and marketing employees by Toyota is an important expense for successful business operations, however, the cost of such expense may not directly relate to the cost of producing a car.

Indirect expenses are shown in the income statement (or) profit and loss account on the debit side.

Related Topic – Is Expense a Debit or Credit?

 

List of Indirect Expenses

Following is a list of some commonly seen indirect expenses;

  1. Salaries (Note – Wages are treated as a direct expense)
  2. Office Rent
  3. Office Electricity / Office Lighting
  4. Printing & Stationery
  5. Postage, Courier, Telephone & Telegram
  6. Freight on Sales / Freight Outward
  7. Carriage on Sales / Carriage Outward
  8. Delivery Vehicle Expenses
  9. Insurance Expenses / Insurance Premium (Note- Life Insurance Premium would be treated as drawings in case of a sole proprietary business)
  10. Interest on Loan
  11. Discount Allowed / Discount on Debtors
  12. Bad Debts / Further Bad Debts / Bad Debts written off
  13. Depreciation
  14. Loss of Goods by Fire / Theft / Damage
  15. Insurance
  16. Miscellaneous Expenses / General Expenses
  17. Conveyance
  18. Sundry Expenses
  19. Travelling Expenses
  20. Bank Charges
  21. Business Promotion Expenses
  22. Legal & Accounting Charges
  23. Rents, Rates & Taxes
  24. Repairs & Renewals
  25. Interest
  26. Telephone Expenses
  27. Advertisement & Marketing
  28. Salesmen Commission
  29. Trade Expenses
  30. Packing & Store Supply Expenses
  31. Audit Fees
  32. Amortization
  33. Commission to Agents
  34. Utility Expenses
  35. Business & Administration Expenses
  36. Sales & Marketing Expenses
  37. Staff Welfare (including goods distributed among staff members for their welfare)
  38. Boxes & Labels
  39. Brokerage
  40. Charity / Donation
  41. Distributive Expenses
  42. Establishment Expenses
  43. Export Duty
  44. Stable Expenses
  45. Keep car & Vans
  46. Maintenance Charges (provided these are not incurred on an asset at the time of its purchase)
  47. Entertainment Expenses
  48. Loss on Sale of an Asset
  49. Goods given as Free Samples
  50. Depletion Expense
  51. Freight & Carriage
  52. Provision for Bad Debts or Doubtful Debts or Discount on Debtors (at the time of creation, such provision is treated as an Indirect Expense)
  53. Remuneration
  54. Honorarium
  55. Fringe Benefits
  56. Quality & Testing Fee

We update the list periodically to reflect new indirect expenses used around the world.

Related Topic – Where are Trading Expenses shown in Final Accounts?

 

PDF for Download

The above list can be downloaded from here for free > View/Download PDF of the List

We have included the same indirect expenses list below for our users to download. Simply right-click and save.

Indirect Expenses List

 

Short Quiz for Self-Evaluation

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>Related Long Quiz for Practice Quiz 23 – Direct and Indirect Expenses

>Read Process of preparing an income statement from the trial balance

 

What are Sundry Creditors?

Ahuja Sahil
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Meaning

Creditors are individuals or companies to whom you owe money for goods or services purchased on credit. A group of such individuals or entities is called Sundry Creditors. They may also be referred to as accounts payable or trade payables.

Sundry means “various” or “several”. In the world of business, it refers to many similar items combined under one head.

Typically, sundry creditors arise from core business operations, such as the purchase of goods or services. The business treats them as a liability.

Sundry Creditors

Example: Microsoft purchases 500 laptops from HP on credit. Thus, HP will be shown as a creditor (current liability) in the books of Microsoft. Similarly, a collection of such creditors is viewed as sundry creditors from Microsoft’s point of view.

Related Topic – Journal Entry for Credit Purchase

 

Example

Suppose “Daniel Constructions” sold building material worth 90,000 to “Axis Housing” on credit and Daniel Constructions (seller) agrees to receive a delayed payment in the future accounting period for the related invoice.

In the above case, Daniel Constructions is a creditor for Axis Housing, and the same is recorded in their books for 90,000 due to the credit purchase. Many such creditors combined together are known as “Sundry Creditors”.

 

Sundry Creditors in Balance Sheet

In the books of Axis HousingSundry Creditors shown in the balance sheetNote: Debtors in the books of Daniel Constructions will also increase by 90,000 on account of credit sales done for 90K construction material.

 

Type of Account

In order to apply accurate accounting rules, it is essential to know what type of account are you dealing with.

As per the golden rules of accounting

Type of Account Personal Account
Rule Applied Debit the Receiver & Credit the Giver

 

Similarly as per the modern rules of accounting

Type of Account Liability account
Rule Applied Debit the decrease in liability and Credit the increase

 

Journal Entry

Trade Payables arise as a result of credit purchases which is expenditure in nature, however, when the money is due to be paid it becomes a liability for the organization. Following is the journal entry for sundry creditors that should be recorded to show credit purchase of goods/services;

 

In the Books of the Buyer

Purchases A/C Debit
 To Sundry Creditors A/C Credit

(Being goods or services purchased on credit)

Rules – Debit the increase in expense & Credit the increase in liability.

 

At the time when payment is made by the creditor below entry is recorded.

Sundry Creditors A/C Debit
 To Cash (or) Bank (or) B/P Credit

(Payment made in cash (or) by cheque (or) issue of a bill payable to the seller)

Rules – Debit the decrease in liability (Sundry Creditors) & Credit the decrease in assets (Cash/Bank) or Credit the increase in liability (Bills Payables).

 

Ledger Account

Creditors being a liability have a credit balance in Accounts. All credit purchases made during the year should be credited to the Creditors Account, showing an increase in the creditors’ balance. On the other hand, all transactions such as payment to a creditor, purchase returns, etc. that reduces the creditors’ balance should be debited.

PARTICULARS AMT PARTICULARS AMT
Cash/ Bank – Bal b/d –
Bill Payable – Credit Purchases –
Purchase Return –
Discount Received –
Bal c/d – –
TOTAL – TOTAL –

 

Sundry Creditors in Trial Balance

Treatment of Sundry Creditors in the Trial Balance

Case 1: In case of no provision for discount on creditors exist. It is simply shown as it is with a credit balance.

Sundry creditors in the trial balance in case of no provision for discount

 

Case 2: When Sundry Creditors are recorded at the gross value in the trial balance, that is before making adjustments for provision for discount on creditors.

Sundry creditors in the trial balance before making adjustments for provision for discount

 

Case 3: When Sundry Creditors are recorded at the net value in the trial balance, that is after making adjustments for provision for discount on creditors.

Net Sundry Creditors = Gross Sundry Creditors – Provision for Discount on Creditors

The Trial Balance will appear similar to as in case 1.

 

Note: Either the gross or net value of such creditors can be recorded in the Trial Balance.

Provision for Discount on Creditor is included for theoretical/conceptual purposes. However, it is not maintained in real-world practices generally. It is because it violates the principles of Prudence which says, do not anticipate profits but provide for all possible losses.

Related Topic – Difference Between Debtors and Creditors

 

Sundry Creditors & Sundry Debtors

Example demonstrating the relationship between the two terms

Suppose a furniture-making company, Wood Ltd. sells furniture worth 30,000 to QRT Ltd. on credit. Therefore, Wood Ltd. will become a creditor for QRT Ltd. Whereas, QRT Ltd. will become a debtor for Wood Ltd.

As a result, such transactions usually lead to the addition of a debtor & a creditor in the books of the seller and the buyer respectively. Hence, the two terms are complementary to each other.

 

Difference Between Sundry Creditors & Sundry Debtors

  • It refers to a group of people to whom the enterprise or individual owes an amount, but Sundry Debtors are those who owe an amount of money to the enterprise.
  • Unlike, Creditors who belong to the liabilities, Debtors are a part of assets.
  • As per the modern rules, an increase in Creditors  (liability) is to be credited, whereas an increase in Debtors (asset) is to be debited.
  • Similarly, debit a decrease in Creditors and credit a decrease in debtors.

 

Short Quiz for Self-Evaluation

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>Read Sundry Debtors

 

What are Sundry Debtors?

Ahuja Sahil
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What are Sundry Debtors?
  1. Meaning
    1. Example and Treatment in the Balance Sheet
  2. Type of Account
    1. Journal Entry
  3. Sundry Debtors in Trial Balance
  4. Sundry Debtors and Creditors
  5. Is Sundry Debtor an Asset or Liability?
  6. Quiz
  7. Conclusion

 

Meaning

The term ‘Debtor’ refers to a person or entity that owes money to your business for goods or services sold on credit. A group of such individuals or entities is called Sundry Debtors. They may also be referred to as accounts receivable or trade receivables.

Sundry means “various” or “several”. In the world of business, it refers to many similar items combined under one head.

Typically, sundry debtors arise from core business activities, such as sales of goods or services. The business treats them as an asset.

Sundry Debtors

Example: Satya purchases some daily items from a grocery store on credit. Thus, Satya will be recorded as a Debtor in the store’s books (current asset). Similarly, a collection of such debtors is viewed as sundry debtors from the point of view of the grocery store.

Related Topic – Journal Entry for Sale of Services on Credit

In Simple Terms – Sundry debtors is when a person or a business owes money to a company for things they have bought. Let’s say you run a small fruit shop in your neighbourhood and one of your neighbors buys a kilogram of apples from you but doesn’t pay you right away, the amount they owe you can be seen as a sundry debtor. In this case, the fruit shop is the company, and the neighbor who hasn’t yet paid for the apples is the sundry debtor.

 

Example & Treatment in the Balance Sheet

Suppose “Daniel Constructions” sold building material worth 60,000 to “Axis Housing” on credit, and Axis Housing (buyer) agrees to pay the related invoices in the future accounting period.

In the above case, Axis Housing is a debtor for Daniel Constructions and the same is recorded in the books of Daniel Constructions (seller) for 60,000 due to credit sales. Many such debtors combined together are known as “Sundry Debtors”.

Sundry Debtors in Balance Sheet

In the books of Daniel ConstructionsSundry debtors shown in the balance sheetNote: Creditors in the books of Axis Housing will also increase by 60,000 on account of credit purchases done for 60K construction material.

Related Topic – Sundry Expenses

 

Type of Account

When accounting for such receivables, it is vital to know what type of account it is because the accounting rule to be applied is based on it.

As per the golden rules of debit and credit

Type of Account Personal Account
Rule Applied Debit the Receiver & Credit the Giver

 

Similarly, the modern rules.

Type of Account Asset account
Rule Applied Debit the increase in assets and Credit the decrease

Related Topic – Difference Between Bad Debts and Doubtful Debts

 

Journal Entry

Such trade receivables arise as a result of credit sales which is revenue in nature. However, when the money is due to be received, it becomes an asset for the organization. Following is the journal entry for sundry debtors that should be recorded to show credit sale of goods/services;

In the Books of Seller

Sundry Debtors A/C Debit
 To Sales A/C Credit

(Being goods or services sold on credit)

Rules – Debit the increase in assets (S. Debtors) & Credit the increase in revenue (Sales).

 

Entry at the time when payment is received

At the time when payment is received from the debtor below entry is recorded.

Cash (or) Bank (or) B/R Debit
 To Sundry Debtors A/C Credit

(Payment made in cash (or) by cheque (or) issue of a bill receivable by the buyer)

Rules – Debit the increase in assets (Cash/Bank) & Credit the decrease in assets (S. Debtors).

Sundry Debtors Summary

Related Topic – Are Accounts Receivable Assets or Revenue?

 

Sundry Debtors in Trial Balance

Treatment of Sundry Debtors in the Trial Balance

Case 1: In case of no bad debts & no provision for bad/doubtful debts exist. It is simply shown as it is with a debit balance.

Sundry debtors shown in trial balance in case of no provision and no bad debts

 

Case 2: When Sundry Debtors are recorded at the gross value in the trial balance, that is, before making adjustments for bad debts and provision for bad/doubtful debts.

Sundry debtors shown in the trial balance before making adjustments for bad debts and provision

 

Case 3: When they are recorded at the net value in the trial balance, that is, after making adjustments for bad debts and provision for bad & doubtful debts.

Net Sundry Debtors = Gross Sundry Debtors – Bad Debts – Provision for Bad & Doubtful Debts

The trial balance will appear to be similar to in case 1.

 

Note: Debtors’ gross or net value may be recorded in the Trial Balance.

Related Topic – Provision for doubtful debts in the trial balance

 

Sundry Debtors and Creditors

Example demonstrating the relationship between the two terms

Suppose a furniture-making company, Wood Ltd. sells furniture worth 30,000 to QRT Ltd. on credit. Therefore, QRT Ltd. will become a debtor for Wood Ltd., whereas Wood Ltd. will become a creditor for QRT Ltd.

As a result, such transactions usually lead to the addition of a debtor & a creditor in the books of the seller and buyer, respectively.

 

Differences between Sundry Debtors & Sundry Creditors

  • It refers to a group of people who owe money to an enterprise, but Sundry Creditors are those to whom the enterprise owes money.
  • Unlike Debtors, who are assets, creditors are liabilities.
  • As per the modern rules, an increase in Debtors (asset) is to be debited, whereas an increase in Creditors (liability) is to be credited.
  • Similarly, credit a decrease in Debtors and debit a decrease in Creditors.

Related Topic – Accounts Receivable (Quiz-10)

 

Is Sundry Debtor an Asset or Liability?

As covered in the previous heading, sundry debtors are shown in the company’s balance sheet as “assets”; therefore, they are an asset for the business. These amounts are recorded as assets because they represent a future economic benefit that is expected to be received by the company.

It cannot be a liability because in order for it to be a liability, there must be a pending outflow of money that is supposed to happen in the future.

Note: Although a balance sheet records sundry debtors as assets, they are not risk-free, and there is always the possibility that some of the amounts owed may not be collected. If the collection of the full amount is doubtful, sundry debtors may be recorded on the balance sheet at a lower amount than the amount due in order to reflect the risk of doubtful debts.

Related Topic – Accounting FAQs

 

Short Quiz for Self-Evaluation

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Related Topic – Provision for Doubtful Debts in the Balance Sheet

 

Conclusion

  • The recording of sundry debtors helps a company manage its cash flow, forecast future revenues, and clearly present its financial position to investors and other stakeholders.
  • Sometimes, the amounts owed by sundry debtors may not be collected on the balance sheet, so they may be recorded at a lower amount than the actual amount due (if it is considered unlikely that the full amount will be paid).
  • In addition, recording sundry debtors is important for financial reporting purposes. The balance sheet is a financial statement that provides a snapshot of a company’s financial position at a particular point in time.
  • Managing and reporting sundry debtors is an important part of a company’s financial management.

Keeping track of debtors is essential for companies because if too many people or businesses fail to pay, the company may be unable to pay its bills on time.

Accurately recording such debtors allows a company to manage its cash flow more effectively, as it can use the amounts owed to it to pay for its own expenses or investments. It also helps the company forecast future revenues and better plan its operations.

 

>Read Sundry Creditors

 

Where to find equity in accounting?

Ahuja Sahil
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-This question was submitted by a user and answered by a volunteer of our choice.

Equity in accounting refers to the sum of money that is returned or paid to the owners/shareholders at the time of winding up of the company once all of the assets are liquidated and the liabilities are paid off.

It is generally referred to as Shareholder’s equity or Owner’s equity. It can also be calculated with the help of a formula derived from the accounting equation which is as follows:

EQUITY = TOTAL ASSETS – TOTAL LIABILITIES 

Treatment of equity in accounting

Equity is shown in the balance sheet under shareholder’s equity, which is a result of the difference between the total assets and total liabilities of the company. I would like to explain this concept further with the help of an example which is as follows;

Example

The following is the balance sheet of XYZ Ltd. which shows their Equity, Liability, and Assets during the current financial year.

Balance sheet as of 31st March, YYYY

PARTICULARS NOTE NO. AMOUNT
EQUITY AND LIABILITIES
Shareholder’s Fund
Share capital 1,00,000
Reserves & Surplus 40,000
Non-Current Liabilities
Long-Term Borrowings 14,000
Current Liabilities
Short term borrowings 3,000
Trade Payables 6,000
Short Term provision 3,000
Total 1,66,000
ASSETS
Non-Current Assets
Fixed assets 1,10,000
Current assets
Inventories 20,000
Trade Receivables 30,000
Cash and bank balance 6,000
Total 1,66,000

NOTE: As mentioned earlier, equity represents the difference between the total assets and total liabilities which can be easily recognized in the balance sheet given above.

 

Total Assets = 1,66,000

Total Liabilities = 26,000

Equity = Total assets – Total liabilities

= 1,66,000 – 26,000

= 1,40,000

 

 

Where are preliminary expenses shown in the financial statements?

Ahuja Sahil
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In simple words, all the expenses that are incidental to the incorporation or commencement of a business are known as preliminary expenses. For example, statutory fees, stamp duty, registration fees, etc.

Treatment in Financial Statements

In case the value of preliminary expenses is less we write off the same at once however, they are shown as an intangible asset in the balance sheet and written off at regular intervals over a fiscal period when the value of the expenses is high. I would like to explain this concept further with the help of an example.

 

Example

ABC Ltd. incurs an expense of 4,00,00 before the commencement of its business. They decide to write off the preliminary expense of 4,00,000 within the next 4 financial years. The journal entries in the books of ABC Ltd. are as follows:

Preliminary expenses a/c Debit 4,00,000 Debit the increase in asset
To Bank a/c Credit 4,00,000 Credit the decrease in asset

(being expenses paid)

 

Preliminary expenses are written off a/c Debit 1,00,000 Debit the increase in expenses
To Preliminary expenses a/c Credit 1,00,000 Credit the decrease in asset

(being expenses written off)

 

Note: As the company has decided to write off the preliminary expenses within the next 4 financial years, therefore only 1/4th of the amount (4,00,000 x 1/4 = 1,00,000) will be recorded in the current year’s income statement and the remaining balance of (3,00,000) shall be recorded in the balance sheet of the same financial period.

Profit and Loss a/c Debit 1,00,000 Debit the increase in expenses
To Preliminary expenses a/c Credit 1,00,000 Credit the decrease in expenses

(being expenses transferred to p&l a/c)

 

>Related Long Quiz for Practice Quiz 29 – Preliminary Expenses

 

Is Inventory a current asset?

Ahuja Sahil
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-This question was submitted by a user and answered by a volunteer of our choice.

Yes, inventory is a current asset. Before moving to the main part of the question. I would like to familiarise you with a few terms such as the meaning of inventory and current asset. I hope this answer will clear all your doubts related to this concept.

Meaning of Inventory

In simple terms, Inventory (stock) is a tangible asset that refers to the stock of goods that is either available for sale in the form of finished products or raw material used in the production of goods meant for sale in some future period held by an enterprise.

For example – A furniture dealer purchases wood, fibreglass, moulded plastic, wrought iron etc., for 1,00,000 from Amazon for manufacturing wooden chairs, sofa sets, dining tables, beds etc., then wood, fibreglass, moulded plastic, wrought iron would be considered as inventory.

 

Meaning of Current Asset

Current asset refers to all the assets of an organization that are expected to be used, consumed or easily sold through business operations within one accounting period (within a year). In simple terms, current assets represent all the assets that can be encashed with one accounting period. Current assets are also known as short-term assets.

For example – ABC and Co. purchases office tools and furniture from E bay on credit for 30 days then it will be considered as a bill receivable in the books of E bay. Hence bills receivable is treated as a current asset.

 

Inventory is a current asset

Inventory is treated as a current asset because the organization intends to sell them within one accounting period or 12 months from the date it is recorded in the balance sheet. All the current assets including inventory have high liquidity and convertibility.

Inventory is a primary source of revenue, especially for wholesale and retail businesses. More than 50% of the working capital revenue is generated from inventory within a year. Therefore, it is recorded under the head – Current Asset.

In terms of liquidity and convertibility inventory is placed somewhere in the middle of the scale of current assets. It is highly liquid as compared to the non-current asset (say land & building, plant & machinery).

 

Placement in the Balance Sheet

Inventory - Current Asset

 

>Related Long Quiz for Practice Quiz 20 – Current Assets

>Related Long Quiz for Practice Quiz 21 – Inventory

 

How to calculate provision for discount on debtors?

Ahuja Sahil
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-This question was submitted by a user and answered by a volunteer of our choice.

Provision for Discount on Debtors

The entity in order to encourage its customers to make a prompt payment allows a discount to its customers purchasing goods on credit. Thus, when the sales are made in the current reporting period on a credit basis the then the discount needs to be allowed in the next reporting period if such customer makes the payment promptly.

The discount allowed reduces the revenue of an entity and hence, it can be said that provision for a discount is an expected loss for an organization and so it needs to be given effect in the current accounting period.

 

Calculation of Provision for Discount on Debtors

Particulars Amount
Debtors Amt
Less: Bad Debts (Amt)
Amt
Less: Provision for Bad and Doubtful Debts (Amt)
Good Debts Amt
Less: Provision for discount on debtors (Estimated % of Good Debts.) (Amt)
Debtors (Amount to be Shown in the Balance Sheet) Amt

 

This can also be explained with the help of an example.

Illustrative Example

Calculate Debtors Balance to be shown in the Balance Sheet

  • An Entity has debtors worth 50,000
  • Bad debts throughout the year worth an amount of 4000
  • It has created a reserve for bad and doubtful debts at the end of the year worth 1000
  • The provision for discount on debtors is estimated to be 10%.

 

Solution:

Particulars Amount
Debtors 50,000
Less: Bad Debts (4,000)
46,000
Less: Provision for Bad and Doubtful Debts (1,000)
Good Debts 45,000
Less: Provision for discount on debtors (45,000 X 10/100) (4,500)
Debtors (Amount to be Shown in the Balance Sheet) 40,500

 

 

How to calculate days sales outstanding, any example?

Ahuja Sahil
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-This question was submitted by a user and answered by a volunteer of our choice.

Meaning of days sales outstanding

Days sales outstanding (DSO) refers to the average number of days the receivables from credit sales remain outstanding in the books of accounts before they are converted to cash.

A high DSO portrays that the time interval between credit sales and cash receivables is very long and might lead to problems in the cash flow of the company while on the other hand, a low DSO shows that the company is able to collect the amount in fewer days.

It is important to note here that the formula for DSO is applicable only in relation to the credit sales of the company.

 

The formula to calculate days sales outstanding is as follows;

formula

DSO can be calculated on a monthly, quarterly, or yearly basis depending on the terms of the company.

 

Example

XYZ Ltd. made credit sales amounting to 7,00,000 in October, out of which 4,00,000 are yet to be received. As there are 31 days in October, the DSO for XYZ Ltd. shall be calculated as follows:

DSO = Accounts receivables/ Total credit sales x No. of days

= 4,00,000/7,00,000 x 31

= 17.7 days

In my opinion, 17.7 days is a low average turnaround for a company to collect cash from accounts receivables in a month and hence portrays a good DSO however, it varies from company to company what they consider to be a high or low DSO.

 

 

Can you give me a list of all liabilities in accounting?

Ahuja Sahil
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-This question was submitted by a user and answered by a volunteer of our choice.

Short-Term Liabilities

Meaning

The term short-term liabilities refers to the short-term financial obligations of companies, firms or enterprises to make the payments to these loans within one accounting period(i.e., within a year). These loans are generally taken to meet day to day working capital requirements of an organization such as the purchase of raw materials. Short-term liabilities are also known as current liabilities.

Exclusive List of Items

  1. Bills payable/Trade payable
  2. Sundry creditors
  3. Accrued liabilities
  4. Term debt
  5. Advances and deposits received
  6. Short-term obligations
  7. Unearned revenue
  8. Salaries and wages payables
  9. Sales tax payable
  10. Bank loan
  11. Outstanding expenses
  12. Merchandise accounts payable
  13. Deferred revenue
  14. Commercial paper
  15. Credit-card debt
  16. Bank overdraft
  17. Dividends payable
  18. Customer deposits
  19. Current portion of long-term debt
  20. Short-term provisions and reserves
  21. Accrued payroll
  22. Notes payable to banks
  23. Short-term loans and advances
  24. Rent payable
  25. Other short-term debts

 

Long-Term Liabilities

Meaning

The term long-term liabilities refers to the long-term financial obligations of the firms, companies or enterprise which remains due for more than one accounting period. Generally, such loans are either taken to acquire fixed assets or to make payment to a long-term debt such as payments to debenture holders. Long-term liabilities are also known as long-term debt or non-current liabilities.

Exclusive List of Items

  1. Long-term borrowings/debts
  2. Specific loans for purchasing fixed assets
  3. Deferred tax liabilities
  4. Derivative liabilities
  5. Pension obligations
  6. Capital leasing
  7. Car payments
  8. Convertible debt
  9. Long-term provisions and contingencies
  10. Bonds payable
  11. Pension liabilities
  12. Debentures
  13. Mortgages payable
  14. Public deposits
  15. Long-term warrants
  16. Long-term notes payable
  17. Loans from shareholders
  18. Lease contracts
  19. Post-retirement benefits reserve
  20. Deferred long-term liability charges
  21. Deferred compensation
  22. Other non-current liabilities

 

 

Can you show 30 transactions of journal, ledger, trial balance, and financial statements?

Ahuja Sahil
-
0

-This question was submitted by a user and answered by a volunteer of our choice.

Yes.

Let’s take a set of transactions and prepare all the requisite information asked.

Following are the transactions for the period April 20×1 to March 20×2 in the books of Michael Traders

1-Apr Michael started a business with cash 600,000, cash at Bank of America 700,000, furniture 200,000.
1-Apr Purchased Plant & Machinery worth 250,000 by cheque.
25-Apr Purchased goods from ABC Ltd worth 800,000 @10% trade discount.
5-May Cash Sales 1,000,000 @5% trade discount to XYZ Traders
15-May Deposited cash with Bank of America 500,000.
5-Jun Paid ABC Ltd 300,000 in cash.
10-Jun Received commission 75,000 by cheque.
25-Jun Cash Purchases 250,000.
5-Jul Sold goods to XYZ Traders 475,000.
15-Jul Received 275,000 by cheque from XYZ Traders.
5-Aug Loan taken from Bank of America 200,000
25-Aug Purchased goods from ABC Ltd 50,000.
27-Aug Withdrew cash from bank 10,000.
5-Sep Received commission 55,000 in cash.
10-Sep Paid ABC Ltd 70,000 by cheque.
20-Sep Received 90,000 in cash from XYZ Traders.
1-Oct Bank loan repaid 50,000.
25-Oct Cash Purchases 25,000.
5-Nov Sold goods to XYZ Traders 47,000.
15-Nov Withdrew cash from bank 15,000.
5-Dec Received interest from bank 5,000.
25-Dec Purchased goods from ABC Ltd 75,000.
5-Jan Cash Sales 100,000.
15-Jan Deposited cash with Bank of America 35,000.
25-Feb Cash Purchases 450,000.
28-Feb Office was taken on rent in the month of Feb. Office rent paid in cash 50,000.
28-Feb Employees were hired in the month of Feb. Paid salary by cheque 30,000 & cash 30,000 for the month of Feb 20×2.
5-Mar Sold goods to XYZ Traders 675,000.
31-Mar Paid office rent by cheque 50,000.
31-Mar Paid salary in cash 30,000 for the month of March 20×2.

 

You are required to;
(i) Journalize the above transactions and post them in Ledgers and prepare a Trial Balance.

(ii) Prepare Trading A/c, Profit & Loss A/c and Balance Sheet taking into consideration:

1. Closing Stock as of 31st March 20×2 is 200,000.
2. Salary outstanding for the month of March 20×2 is 30,000.
3. Depreciation@10% to be charged on Furniture & Fixtures and @15% on Plant & Machinery.

 

1. Journal Entries

April & May Journal

June-Aug Journal

Sep-Nov Journal

Dec-Jan Journal

Feb-March Journal

 

2. Ledgers

Ledger-Micheal Capital A/c

Ledger-Purchases & Sales A/c

Ledger-Furniture A/c & Plant & Machinery A/c

Ledger-Creditor & Debtor A/c

Ledger-Bank Loan A/c

Ledger-Salary & Office Rent A/c

Ledger-Interest & Commission received A/c

Ledger-Cash A/c

Ledger-Bank of America A/c

 

3. Trial Balance

Trial Balance

 

4. Trading A/c & Profit and Loss A/c

Trading A/c and Profit & Loss A/c

 

5. Balance Sheet

Balance Sheet

An Excel sheet of the entire transactions along with the requisite information asked has been attached for your reference.

30-transactions-of-Journal-Ledger-Trial-Balance-Financial-Statements

 

>Read Try our Accounting Quiz on the Topic “Accounting Cycle”

 

What is the Journal Entry for Cash Deposit in Bank?

Ahuja Sahil
-
0

-This question was submitted by a user and answered by a volunteer of our choice.

Every entity deposits its idle cash in its bank account. Depositing cash in the bank account will fetch interest to the entity and also ensure the safety of the money. Cash deposit in the bank is one of the most recurring transactions in every entity’s day-to-day business activity. So, it is important to know the journal entry for the same.

Journal Entry for Cash Deposit in Bank

I will present the journal entry using both the golden rule and the modern rule of accounting.

1. According to the “Golden rules” of accounting

Bank A/c Debit Personal account Debit the receiver
 To Cash A/c Credit Real account Credit what goes out

(Being cash deposited in the bank)

 

2. According to the “Modern rules” of accounting

Bank A/c Debit Asset Debit the increase in asset
 To Cash A/c Credit Asset Credit the decrease in asset

(Being cash deposited in the bank)

 

Example

Sugar Ltd has idle cash of 500,000. The finance manager deposited the idle amount in the company’s Bank of America A/c.

Journal entry in the books of Sugar Ltd will be as follows;

Bank of America A/c Debit 500,000 Debit the increase in asset
 To Cash A/c Credit  500,000 Credit the decrease in asset

(Being Cash deposited in Bank of America A/c)

 

 

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