1. Accounting for Assets and Liabilities
Chapter 2
© Luby & O’Donoghue (2005)

2. The Accounting Equation
The resources in the business =
The resources supplied by the owner(s)

3. The Accounting Equation
The amount of the resources supplied by the owner is called capital.
The actual resources that are in the business are called assets.
Assets = Capital
Liabilities represent the amounts owing to people other than the owner(s) in relation to supply of the assets.
Assets = Capital + Liabilities

4. The Accounting Equation
Assets = Capital + Liabilities
or rearrange to have
Assets - Liabilities = Capital

5. Business Transactions
Day to day business involves many business transactions. A business transactions occurs when there is a transfer of assets/liabilities between the parties of a transaction. As each transaction is processed it has an effect on the accounting equation however, the accounting equation should always remain equal irrespective of the transaction that has occurred.

6. Example – Henry Spud
The following simplified examples are based upon Henry Spud who has started in business selling baked potatoes and other hot foods from a mobile vehicle. He mainly travels to concerts and festival around Ireland however he also caters for private parties. The eight transactions are typical accounting transactions that affect any type of business. The effect on the accounting equation of this business is shown in each.

7. Transaction 1 - Introduction of Capital
The owner (Henry Spud) commences business investing €50,000 which is lodged in a business bank account.
The Accounting Equation – After Transaction 1
Assets =
Capital + Liabilities
Cash at bank
€50,000
Capital

8. Transaction 2 - Purchase of an Asset Paying Immediately
The business purchases an asset (equipment) costing €10,000 paying for it by cheque.
The Accounting Equation – After Transaction 2
Assets =
Capital + Liabilities
Cash at bank
€40,000
Capital
€50,000
Equipment
€10,000

9. Transaction 3 - Purchase of an Asset on Credit
The business purchases another asset (a vehicle) on credit for €15,000.
The Accounting Equation – After Transaction 3
Assets =
Capital + Liabilities
Cash at bank
€40,000
Capital
€50,000
Equipment
€10,000
Liabilities: Creditors
€15,000
Vehicles
€65,000

10. Transaction 4 - Purchase of Stock on Credit
The business purchases the asset of stock on credit for €2,000.
The Accounting Equation – After Transaction 4
Assets =
Capital + Liabilities
Cash at bank
€40,000
Capital
€50,000
Equipment
€10,000
Liabilities: Creditors
€17,000
Vehicles
€15,000
Stock
€2,000
€67,000

11. Transaction 5 – Payment of a Liability
The business decides to pay amounts owing for the original purchase of the vehicle of €15,000 (transaction 3).
The Accounting Equation – After Transaction 5
Assets =
Capital + Liabilities
Cash at bank
€25,000
Capital
€50,000
Equipment
€10,000
Liabilities: Creditors
€2,000
Vehicles
€15,000
Stock
€52,000

12. Transaction 6 – Selling Stock for Cash
The business sells some stock for €500. Henry has decided that he will sell his produce at cost for the first few weeks thus foregoing a profit just to get a share of the market.
The Accounting Equation – After Transaction 6
Assets =
Capital + Liabilities
Cash at bank
€25,500
Capital
€50,000
Equipment
€10,000
Liabilities: Creditors
€2,000
Vehicles
€15,000
Stock
€1,500
€52,000

13. Transaction 7 – Selling Stock on Credit
In this transaction stock is sold at original cost (no profit) on credit amounting to €300 when Henry catered for a private party. It was agreed that the customer (a friend) could pay him later on in the month.
The Accounting Equation – After Transaction 7
Assets =
Capital + Liabilities
Cash at bank
€25,500
Capital
€50,000
Equipment
€10,000
Liabilities: Creditors
€2,000
Vehicles
€15,000
Stock
€1,200
Debtors
€300
€52,000

14. Transaction 8 – Payment by a Debtor
Debtors pay the cash owed by them to Henry by cheque.
The Accounting Equation – After Transaction 8
Assets =
Capital + Liabilities
Cash at bank
€25,800
Capital
€50,000
Equipment
€10,000
Liabilities: Creditors
€2,000
Vehicles
€15,000
Stock
€1,200
€52,000

15. The Balance Sheet
The accounting equation is expressed in a financial position statement called the Balance Sheet.
It is NOT the first accounting record to be made.
It is usually prepared at the end of a financial period.

16. Example - Henry Spud’s Balance Sheet
Opening Balance Sheet
Assets:
Cash
50,000
Capital
Closing Balance Sheet (after 8 transactions)
Assets:
Cash
25,800
Equipment
10,000
Vehicles
15,000
Stock
1,200
Liabilities:
Creditors
(2,000)
50,000
Capital

17. Example - Henry Spud’s Balance Sheet
Transaction
After 1 2 3 4 5 6 7 8
Assets:
Cash at bank
50,000
40,000
25,000
25,500
25,800
Equipment
10,000
Vehicles
15,000
Stock
2,000
1,500
1,200
Debtors
300
Liabilities:
Creditors
(15,000)
(17,000)
(2,000)

18. Points to Remember
1 Accounting is concerned with the recording and classifying and summarising of data, and then communicating what has been learned from it.
2 It may not only be the owner of a business who will need the accounting information; it may need to be shown to others, e.g. the bank or the Inspector of Taxes.
3 Accounting information can help the owner(s) of a business to plan for the future.
4 The accounting equation is: Assets = Capital + Liabilities.
5 The totals of each side of the balance sheet should always be equal to each other.
6 Every transaction affects two items in the balance sheet.

19. Double-entry Assets and Liabilities

20. Double-entry Principle
Every business transaction has a twofold aspect
Both sides must be recorded
The double-entry system has an account for every asset, every liability and capital.
DEBIT side
LEDGER ACCOUNT
CREDIT side
Date Details Amount Date Details Amount

21. Double-entry Rules
A debit (Dr) represents an asset and a credit (Cr) represents a liability or capital
If a transaction requires you to increase an asset account you debit the asset account with the amount of the increase; to decrease an asset account you credit the asset account.
If a transaction requires you to increase a liability or capital account you credit the account with the amount of the increase; to decrease a liability or capital account you debit the capital or liability account.
For every transaction a debit will have a corresponding credit and vice versa

22. Double-entry Rules Assets An increase Debit A decrease Credit
Accounts
To record
Entry in the account
Assets
An increase
Debit
A decrease
Credit
Liabilities
Capital

23. Double-entry Rules Increases + Decreases - Decreases - Increases +
ASSET ACCOUNTS
Increases +
Decreases -
LIABILITY ACCOUNTS
Decreases -
Increases +
CAPITAL ACCOUNTS
Decreases -
Increases +

24. A handy rule for remembering double-entry
Debit the Receiver
Credit the Giver

25. Example – Henry Spud
The following simplified examples are based upon Henry Spud who has started in business selling baked potatoes and other hot foods from a mobile vehicle. He mainly travels to concerts and festival around Ireland however he also caters for private parties. The eight transactions are typical accounting transactions that affect any type of business. The effect on the accounting equation of this business is shown in each.

26. Transaction 1 - Introduction of Capital
The owner put €50,000 into the business bank account on the 1st January.
DR Bank Account CR
1Jan
Capital a/c
50,000
DR Capital Account CR
Bank a/c

27. Transaction 2 - Purchase of an Asset Paying Immediately
The business purchases an asset (equipment) on the 2nd January, costing €10,000 paying for it by cheque.
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000
DR Equipment Account CR
Bank a/c

28. Transaction 3 - Purchase of an Asset on Credit
The business purchases another asset (motor vehicles) on credit from Bargain City Motors Ltd for €15,000 on the 3rd January.
DR Motor Vehicles Account CR
3Jan
Bargain City a/c
15,000
DR Creditors Account (Bargain City) CR
Vehicles a/c

29. Transaction 4 - Purchase of Stock on Credit
The business purchases the asset of stock on credit for €2,000 from Food Suppliers Ltd on the 4th January.
DR Stock Purchases Account CR
4Jan
Food suppliers a/c
2,000
DR Creditors Account (Food Suppliers) CR
Stock a/c

30. Transaction 5 – Payment of a Liability
On 5th January the business decides to pay amounts owing for the original purchase of motor vehicles of €15,000 (transaction 3).
DR Creditors Account (Bargain City) CR
5Jan
Bank a/c
15,000
3Jan
Vehicles a/c
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000

31. Transaction 6 – Selling Stock for Cash
On the 6th of January the business sells some stock for €500 receiving the money by cheque.
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000
6Jan
Stock sales a/c
500
5Jan
Vehicles a/c
15,000
DR Stock Sales Account CR
Bank a/c

32. Transaction 7 – Selling Stock on Credit
On the 7th January Henry catered for a private party and charged €300 to John Duncan. He performed this service at cost price as John is a friend. He also allowed John to pay him later on in the month.
DR Debtors Account (John Duncan) CR
7Jan
Stock sales a/c
300
DR Stock Sales Account CR
6Jan
Bank a/c
500
John Duncan a/c

33. Transaction 8 – Payment by a Debtor
J Duncan (debtor) pays the cash owed by him to the firm by cheque on the 8th January.
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000
6Jan
Stock sales a/c
500
5Jan
Vehicles a/c
15,000
8Jan
John Duncan a/c
300
DR Debtors Account (John Duncan) CR
7Jan
Bank a/c

34. Balancing Accounts
In order to find the figure for the Balance Sheet, an account must be totalled or balanced. This is usually done at the end of an accounting period. The Bank Account would be balanced as follows:
Credit side amounts to
25,000 i.e. 10, ,000
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000
6Jan
Stock sales a/c
500
5Jan
Vehicles a/c
15,000
8Jan
John Duncan
300
Balance c/d
25,800
50,800
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000
6Jan
Stock sales a/c
500
5Jan
Vehicles a/c
15,000
8Jan
John Duncan
300
50,800
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000
6Jan
Stock sales a/c
500
5Jan
Vehicles a/c
15,000
8Jan
John Duncan
300
Balance c/d
25,800
50,800
DR Bank Account CR
1Jan
Capital a/c
50,000
2Jan
Equipment a/c
10,000
6Jan
Stock sales a/c
500
5Jan
Vehicles a/c
15,000
8Jan
John Duncan
300
Debit total 50,800 – Credit total 25,000

35. Example - Henry Spud’s Balance Sheet
Opening Balance Sheet
Assets:
Cash
50,000
Capital
Closing Balance Sheet (after 8 transactions)
Assets:
Cash
25,800
Equipment
10,000
Vehicles
15,000
Stock
1,200
Liabilities:
Creditors
(2,000)
50,000
Capital

36. Accounting Concepts
Accounting concepts are broad basic assumptions, which form the basis of the financial accounts of a business. It is essential that all businesses follow these basic assumptions since they help to ensure that transactions and accounts are recorded and prepared in a uniform manner.

37. The Business Entity Concept
This concept states that the business is separate from the owner. Thus, the items recorded in a firm’s accounting records and books are limited to the transactions that affect the firm and will not concern themselves with the private transactions of the owner. The only transactions between the business and the owner that is recorded in the business records are
The owner investing resources (usually cash) in the business.
The owner taking out resources (usually cash or stock) from the business for his own use (termed drawings).

38. The Dual Aspect Concept
This concept states that there are two aspects to accounting. One, represented by the assets of the business, and the other by the claims against them (capital and liabilities). This concept states that these two aspects will always be equal.