Starting the Accounting Cycle for a Service Business

Starting the Accounting Cycle for a Service Business
Chapter 3 © Paradigm Publishing, Inc.

© Paradigm Publishing, Inc.
Learning Objectives Describe the standard form of a two- column journal. Record business transactions in a two- column journal. Prepare a chart of accounts. Describe the balance form of account. Learning objectives appear in the text margins at the start of the section where the corresponding content is taught. Also, the chapter summary is organized by learning objective to aid student mastery of these objectives. © Paradigm Publishing, Inc.

Learning Objectives Post from a two-column journal to ledger accounts. Prepare a trial balance from a ledger after posting. Describe the procedures for locating and correcting errors in the accounting process. Make entries to correct errors in the ledger. Learning objectives appear in the text margins at the start of the section where the corresponding content is taught. Also, the chapter summary is organized by learning objective to aid student mastery of these objectives. © Paradigm Publishing, Inc.

The Accounting Cycle Sequence of steps and procedures Used to record and summarize accounting data during an accounting period © Paradigm Publishing, Inc.

The Accounting Cycle Step 1 Analyze transactions from source documents. Step 2 Record transactions in a journal. Step 3 Post from the journal to the ledger. Step 4 Prepare a trial balance of the ledger. © Paradigm Publishing, Inc.

Source Documents Business documents or papers that prove business transactions The basis for journal entries Provide objective evidence to support the journal entries © Paradigm Publishing, Inc.

Describe the standard form of a two-column journal
Learning Objective 1 Describe the standard form of a two-column journal © Paradigm Publishing, Inc.

Journal A record in which business transactions are recorded in the order that they occur AKA book of original entry The journal records the transactions in chronological order. The journal is referred to as the book of original entry, because the journal is the first formal record of a transaction. © Paradigm Publishing, Inc.

Contents of a Journal Numbered pages, beginning with page 1 A Date column to record transaction date An Account Title column To record the accounts affected To record a brief explanation A posting reference (P.R.) column Two money (or amount) columns Labeled Debit and Credit, respectively Used to record the dollar amount © Paradigm Publishing, Inc.

Contents of a Journal Page number A Date column An Account Title column A Posting Reference (P.R.) column Debit and Credit columns © Paradigm Publishing, Inc.

Quick Check The sequence of steps and procedures used by a business to record and summarize accounting data is known as the accounting cycle. balance form of account. book of original entry. accounting period. principle of materiality. © Paradigm Publishing, Inc.

Record business transactions in a two-column journal
Learning Objective 2 Record business transactions in a two-column journal © Paradigm Publishing, Inc.

To Record a Transaction
Analyze into its debit and credit parts. For each transaction, you must decide: Which accounts are affected by the transaction Were the accounts increased or decreased How to increase or decrease (debit or credit the accounts affected © Paradigm Publishing, Inc.

To Record a Transaction
Provide a brief explanation for each journal entry. Notes telling someone not trained in accounting what occurred in a transaction. Writing them will reinforce your understanding of transactions. © Paradigm Publishing, Inc.

Debits First or Credits First
??? When making journal entries, which is listed first? Account being debited is always listed first Credit follows, indented © Paradigm Publishing, Inc.

Explanations for Journal Entries
No set format Should be brief and easy to understand Optional: may be omitted if purpose of entry is obvious There is no set format to follow when making explanation of a journal entry. The explanations should be brief and easy to understand. Some accountants will prefer to omit the explanation if the purpose of the entry is obvious. © Paradigm Publishing, Inc.

Example Alice Browning starts an accounting and tax business by investing $5,000 in the business on January 1, 20X1. Analyze the account to be debited and the account to be credited. Cash, an asset account, is increasing. Assets are increased with debits. Alice Browning, Capital, an equity account, is increasing. Equity accounts are increased with credits. © Paradigm Publishing, Inc.

Example Alice Browning starts an accounting and tax business by investing $5,000 in the business on January 1, 20X1. General Journal Date Account Title P.R. Debit Credit 20X1 1 Cash 5,000 Jan. Alice Browning, Capital 5,000 Invested cash in the business. © Paradigm Publishing, Inc.

Review Quiz 3-1 Record each transaction in a general journal. Omit the explanations. Mar. 1, Becky invested $7,000 cash in her business. General Journal Date Account Title P.R. Debit Credit 20XX Review Quiz 3-1 appears on page 93. 1 Cash 7,000 Mar. Becky McAfee, Capital 7,000 © Paradigm Publishing, Inc.

Review Quiz 3-1 Record each transaction in a general journal. Omit the explanations. Mar. 4, purchased supplies on credit, $750. General Journal Date Account Title P.R. Debit Credit 20XX Review Quiz 3-1 appears on page 93. 4 Supplies 750 Mar. Accounts Payable 750 © Paradigm Publishing, Inc.

Review Quiz 3-1 Record each transaction in a general journal. Omit the explanations. Mar. 6, purchased equipment for cash, $475. General Journal Date Account Title P.R. Debit Credit 20XX Review Quiz 3-1 appears on page 93. 6 Equipment 475 Mar. Cash 475 © Paradigm Publishing, Inc.

Review Quiz 3-1 Record each transaction in a general journal. Omit the explanations. Mar. 9, paid half of the amount owed for supplies, $375. General Journal Date Account Title P.R. Debit Credit 20XX Review Quiz 3-1 appears on page 93. 9 Accounts Payable 375 Mar. Cash 375 © Paradigm Publishing, Inc.

Compound Entry Entry requiring three or more accounts Total debits will equal the total credits regardless of the number of accounts involved in the journal entry © Paradigm Publishing, Inc.

Example On July 25, 20X1, Susan King purchases equipment for $10,000 by making a down payment of $3,500 with the balance on account. Analyze the account(s) to be debited and the account(s) to be credited. Equipment, an asset account, is increasing. Assets are increased with debits. Cash, an asset account, is decreasing. Assets are decreased with credits. Accounts Payable, a liability account, is increasing. Liabilities are increased with credits. © Paradigm Publishing, Inc.

Example On July 25, 20X1, Susan King purchases equipment for $10,000 by making a down payment of $3,500 with the balance on account. Analyze the account(s) to be debited and the account(s) to be credited. General Journal Date Account Title P.R. Debit Credit 20X1 25 Equipment 10,000 Jul. Cash 3,500 Accounts Payable 6,500 Purchased equipment with a down payment and the balance on account. © Paradigm Publishing, Inc.

Advantages of Using a Journal
Provides a chronological (by order of date) record of transactions Provides a place to make an explanation of an entry, if needed Use lessens the possibility of recording an error, because both the debit and credit parts are recorded together Easier to locate recording errors There are four major advantages of using a journal. For the last advantage, it is easier to locate recording errors when the debit and credit parts of an entry are recorded in one place. © Paradigm Publishing, Inc.

Quick Check The process of recording transactions in a journal is called dailying. transitioning. journalizing. footing. ledgering. © Paradigm Publishing, Inc.

Review Quiz 3-2 Record each transaction in a general journal. Omit Explanations. Jun. 12, paid utilities expense, $145. General Journal Date Review Quiz 3-2 appears on page 97. Account Title P.R. Debit Credit 20X1 Jun. 12 Utilities Expense 145 Cash 145 © Paradigm Publishing, Inc.

Review Quiz 3-2 John Dark’s business had the following transactions in June 20X1. Record each transaction in a general journal. Omit Explanations. Jun. 17, John withdrew cash for personal use, $175. General Journal Date Review Quiz 3-2 appears on page 97. Account Title P.R. Debit Credit 20X1 Jun. 17 John Dark, Drawing 175 Cash 175 © Paradigm Publishing, Inc.

Review Quiz 3-2 John Dark’s business had the following transactions in June 20X1. Record each transaction in a general journal. Omit Explanations. Jun. 22, received cash for services performed, $950. General Journal Date Review Quiz 3-2 appears on page 97. Account Title P.R. Debit Credit 20X1 Jun. 22 Cash 950 Service Revenue 950 © Paradigm Publishing, Inc.

Review Quiz 3-2 John Dark’s business had the following transactions in June 20X1. Record each transaction in a general journal. Omit Explanations. Jun. 25, John made the following additional investments in his business: office supplies, $75; and a truck, $4,000. General Journal Date Review Quiz 3-2 appears on page 97. Account Title P.R. Debit Credit 20X1 Jun. 25 Office Supplies 75 Truck 4,000 John Dark, Capital 4,075 © Paradigm Publishing, Inc.

Prepare a Chart of Accounts
Learning Objective 3 Prepare a Chart of Accounts © Paradigm Publishing, Inc.

Chart of Accounts Account Category Account Number Account Title Assets ( ) 111 112 113 116 117 Cash Accounts Receivable Office Supplies Office Equipment Office Furniture Liabilities ( ) 211 Accounts Payable Owner’s Equity ( ) 311 312 Stanley Walker, Capital Stanley Walker, Drawing Revenue ( ) 411 Service Revenue Expenses ( ) 511 512 Rent Expense Repairs Expense A listing of all accounts and their account numbers A directory of accounts available for making journal entries Includes only account titles that may be used when recording transactions in the journal © Paradigm Publishing, Inc.

Quick Check A directory or listing of accounts available in the ledger is referred to as the book of final entry. book of original entry. source document. chart of accounts. balance form of account. © Paradigm Publishing, Inc.

Describe the balance form of account
Learning Objective 4 Describe the balance form of account © Paradigm Publishing, Inc.

An Account A record for each item in a business The balance form of an account includes a Debit column Credit column Debit Balance column Credit Balance column The four-column ledger account form shows a running balance of each account Ledger accounts not footed and balanced Balance form of account widely used © Paradigm Publishing, Inc.

The Balance Form of Account
© Paradigm Publishing, Inc.

Quick Check The ledger is often referred to as the book of final entry. numbers. balances. original entry. materiality. © Paradigm Publishing, Inc.

Post from a two-column journal to ledger accounts
Learning Objective 5 Post from a two-column journal to ledger accounts © Paradigm Publishing, Inc.

Posting the Debit Part of an Entry
The date of the journal entry is recorded in the Cash account. The Cash account is debited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Cash account. The account number is recorded in the journal. Since this is the first number posted to the Cash account, the balance is 10,000 and is recorded in the balance debit column. 1 The date of the journal entry is recorded in the Cash account. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the Cash account. The Cash account is debited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Cash account. The account number is recorded in the journal. Since this is the first number posted to the Cash account, the balance is 10,000 and is recorded in the balance debit column. 2 The Cash account is debited for 10,000. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the Cash account. The Cash account is debited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Cash account. The account number is recorded in the journal. Since this is the first number posted to the Cash account, the balance is 10,000 and is recorded in the balance debit column. 3 The page number of the journal entry is recorded in the P.R. column of the Cash account. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the Cash account. The Cash account is debited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Cash account. The account number is recorded in the journal. Since this is the first number posted to the Cash account, the balance is 10,000 and is recorded in the balance debit column. 4 The account number is recorded in the journal. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the Cash account. The Cash account is debited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Cash account. The account number is recorded in the journal. Since this is the first number posted to the Cash account, the balance is 10,000 and is recorded in the balance debit column. 5 Since this is the first number posted to the Cash account, the balance is 10,000 and is recorded in the balance debit column. © Paradigm Publishing, Inc.

Posting the Credit Part of an Entry
1 The date of the journal entry is recorded in the Owner’s Capital account. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the owner’s capital account. Stanley Walker, Capital is credited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Stanley Walker, Capital account. The account number is recorded in the journal. Since this is the first number posted to the Stanley Walkr, Capital account, the balance is 10,000 and is recorded in the balance credit column. 2 Stanley Walker, Capital is credited for 10,000. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the owner’s capital account. Stanley Walker, Capital is credited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Stanley Walker, Capital account. The account number is recorded in the journal. Since this is the first number posted to the Stanley Walker, Capital account, the balance is 10,000 and is recorded in the balance credit column. 3 The page number of the journal entry is recorded in the P.R. column of the Stanley Walker, Capital account. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the owner’s capital account. Stanley Walker, Capital is credited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Stanley Walker, Capital account. The account number is recorded in the journal. Since this is the first number posted to the Stanley Walker, Capital account, the balance is 10,000 and is recorded in the balance credit column. 4 The account number is recorded in the journal. © Paradigm Publishing, Inc.

The date of the journal entry is recorded in the owner’s capital account. Stanley Walker, Capital is credited for 10,000. The page number of the journal entry is recorded in the P.R. column of the Stanley Walker, Capital account. The account number is recorded in the journal. Since this is the first number posted to the Stanley Walker, Capital account, the balance is 10,000 and is recorded in the balance credit column. 5 Since this is the first number posted to the Stanley Walker, Capital account, the balance is 10,000 and is recorded in the Balance Credit column. © Paradigm Publishing, Inc.

Quick Check Which of the following represents the correct order of the first four steps of the account cycle? Analyze transactions, journalize, post to ledger, prepare trial balance Journalize, analyze transactions, post to ledger, prepare trial balance Analyze transactions, post to ledger, journalize, prepare trial balance Journalize, post to ledger, analyze transactions, prepare trial balance Journalize, post to ledger, prepare trial balance, analyze transactions © Paradigm Publishing, Inc.

Prepare a Trial Balance from a Ledger after Posting
Learning Objective 6 Prepare a Trial Balance from a Ledger after Posting © Paradigm Publishing, Inc.

Trial Balance Not a formal financial statement A test of the equality of debits and credits in the ledger The order of accounts is consistent with the order on the financial statements and the chart of accounts © Paradigm Publishing, Inc.

Trial Balance The purpose of the trial balance is to prove the equality of the debits and credits. Walker and Associates Trial Balance November 30, 20X1 Account Title Debit Credit Cash 9,525 Accounts Receivable 300 Office Supplies 125 Office Equipment 3,000 Office Furniture 2,000 Accounts Payable 4,000 Stanley Walker, Capital 10,000 © Paradigm Publishing, Inc.

Trial Balance The purpose of the trial balance is to prove the equality of the debits and credits. Walker and Associates Trial Balance November 30, 20X1 Account Title Debit Credit Stanley Walker, Drawing 8,000 Service Revenue 2,200 Rent Expense 400 Repairs Expense 50 Totals 16,200 16,200 © Paradigm Publishing, Inc.

Quick Check The four-column account form contains each of the following columns except the Debit Balance column Credit Balance column Credit column Debit column Difference column © Paradigm Publishing, Inc.

Review Quiz 3-3 Prepare a trial balance for the following accounts. Account Balance Accounts Payable $ 7,210 Cash 1,400 Equipment 16,400 LeAnn Lovering, Capital 14,600 LeAnn Lovering, Drawing 700 Rent Expense 3,000 Repairs Expense 450 Revenue from Services 16,380 Salaries Expense 2,510 Supplies 3,860 Truck 9,400 Utilities Expense 470 Review Quiz 3-3 appears on page 103. © Paradigm Publishing, Inc.

Trial Balance December 31, 20XX
Review Quiz 3-3 Answer: LeAnn’s TV Repair Shop Trial Balance December 31, 20XX Account Title Debit Credit Cash 1,400 Supplies 3,860 Equipment 16,400 Truck 9,400 Accounts Payable 7,210 LeAnn Lovering, Capital 14,600 LeAnn Lovering, Drawing 700 Revenue from Services 16,380 Rent Expense 3,000 Salaries Expense 2,510 Utilities Expense 470 Repairs Expense 450 Totals 16,200 Review Quiz 3-3 appears on page 103. © Paradigm Publishing, Inc.

Locating and Correcting Errors
Accounting errors can include Math errors Recording errors Posting errors Errors cause the trial balance to be out of balance Accounting errors can include math errors, a recording error, or a posting error. If the trial balance is out of balance, there is an error somewhere in the records. © Paradigm Publishing, Inc.

Learning Objective 7 Describe the procedure for locating and correcting errors in the accounting process © Paradigm Publishing, Inc.

Posting Error An amount correctly entered in the journal but posted incorrectly to the ledger Corrected by Drawing a line through the error Writing the correct figure above it © Paradigm Publishing, Inc.

Recording Error A mistake made in a journal entry Posting error An incorrect transfer from the journal to an account or from the ledger to the trial balance © Paradigm Publishing, Inc.

Transposition Error A type of posting error Caused by the reversal of digits Example: entering 240 for 420 © Paradigm Publishing, Inc.

Slide Error A type of posting error Caused by an incorrectly placed decimal point Examples: entering 100 for 1,000 or for 245 © Paradigm Publishing, Inc.

Quick Check Each of the following errors will not cause the trial balance to be out of balance except Posting a transaction twice Failing to record a transaction Transposing digits in a posting Failing to post an entry to the ledger Recording a transaction twice © Paradigm Publishing, Inc.

Make entries to correct errors in the ledger
Learning Objective 8 Make entries to correct errors in the ledger © Paradigm Publishing, Inc.

Summary of Correction Procedures
Type of Error Method of Correction Math error made in pencil Erasure Math error made in pen Line out the incorrect figure, initial, and enter the correct figure Recording error discovered before posting Line out incorrect information, initial, and enter correct information Recording error that has been posted Correcting entry An incorrect amount posted to the correct account Line out, initial, and enter the correct amount A correct amount posted to the incorrect account © Paradigm Publishing, Inc.

Quick Check This type of error occurs in the process of transferring figures from the journal to the ledger. Math error Recording error Posting error Omission error Standard error © Paradigm Publishing, Inc.

Review Quiz 3-4 Indicate how the following error should be corrected. A cash purchase of equipment was recorded as a cash purchase of supplies. The entry has not been posted to the ledger. Answer: Line out the title Supplies in the journal and write the title Equipment above it. Review Quiz 3-4 appears on page 108. © Paradigm Publishing, Inc.

Review Quiz 3-4 Indicate how the following error should be corrected. A journal entry for $470 was posted as $47 in one of the accounts involved. Answer: Line out $47 in the ledger account and write $470 above it. Review Quiz 3-4 appears on page 108. © Paradigm Publishing, Inc.

Review Quiz 3-4 Indicate how the following error should be corrected. A cash payment of $50 for Repairs Expense was journalized as a debit to Rent Expense and a credit to Cash. The entry was then posted. Answer: Review Quiz 3-4 appears on page 108. © Paradigm Publishing, Inc.

Review Quiz 3-4 Indicate how the following error should be corrected. In a company with over $6,000,000 in annual sales, it was discovered that the purchase of a $6.40 book of stamps was debited to Advertising Expense, instead of Postage Expense. Answer: Review Quiz 3-4 appears on page 108. © Paradigm Publishing, Inc.

Focus on Ethics Refer to the Focus on Ethics box on page 109 in your text. Why do you believe the plastic surgeon kept his job at the clinic even though he admitted that he had stolen several hundred thousands of dollars? © Paradigm Publishing, Inc.

The First Four Steps in the Accounting Cycle
Joining the Pieces The First Four Steps in the Accounting Cycle © Paradigm Publishing, Inc.

Starting the Accounting Cycle for a Service Business

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