CIMA CO2 Official Learning System - Fundamentals of Financial Accounting
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STUDY MATERIAL C2
50
THE ACCOUNTING SYSTEM IN ACTION
Solution
Bank
20X1 $ 20X1 $
1 Feb. Capital 500 1 Feb. Purchases 150
10 Feb. Sales 290 5 Feb. Rent 50
27 Feb. Sales 240 22 Feb. Advertising 25
26 Feb. Drawings 100
Capital
20X1 $
1 Feb. Bank 500
Purchases
20X1 $
1 Feb. Bank 150
Rent
20X1 $
5 Feb. Bank 50
Advertising
20X1 $
22 Feb. Bank 25
Drawings
20X1 $
26 Feb. Bank 100
Sales
20X1 $
10 Feb. Bank 290
27 Feb. Bank 240
3.4.2 Nominal ledger accounts
At this stage in your studies, all your ledger accounts are kept in a single ‘ book ’ . In later
chapters you will see how the ledger accounts can be divided into several books. The main
book used is called the nominal ledger .
3.5 Balancing the accounts
From time to time it is necessary to determine the end result of the transactions recorded
in each ledger account. For example, the cash account will contain a number of debit and
credit entries, but no clear indication of how much cash is remaining. The same applies to
other accounts. Receivables and payables accounts will have a number of debit and credit
entries, but no indication of what is currently owed as a result of these entries.
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FUNDAMENTALS OF FINANCIAL ACCOUNTING
THE ACCOUNTING SYSTEM IN ACTION
3.5.1 Calculating the balance on the account
To determine the position on each account, each side is totalled: the difference between
the two sides is called the balance . If the debit side is greater, the account has a ‘ debit bal-
ance ’ , and vice versa .
As an example, look at the cash account that was produced in Example 3.B.
Cash
$ $
1 May Capital 20,000 2 May Bank 15,000
12 May Sales 210 7 May Wages 60
25 May Sales 430 19 May Purchases 3,900
28 May Sales 890 24 May Fittings 600
25 May Wages 110
30 May Cash 100
The debit side totals $21,530 (meaning that that amount has been received) and the credit
side totals $19,770 (meaning that that amount has been paid out). The balance, therefore,
is $1,760 debit, which means there is still that amount held in cash.
The purpose of this section is to introduce you to what is meant by the balance on an
account – it is simply the difference between the totals of the two sides of the account; a
debit balance means that there is more on the debit side, a credit balance means that there
is more on the credit side. In the next chapter you will see how these balances are shown in
the ledger accounts.
Exercise 3.4
Work out the balances on the other accounts in Example 3.B.
Solution
Capital $20,000 credit
Bank $13,725 debit
Purchases $8,900 debit
JM $2,000 credit
ERD $3,000 credit
Wages $170 debit
Rent $80 debit
Sales $10,200 credit
Furniture $1,500 debit
SP $250 debit
Fittings $600 debit
Advertising $25 debit
KM $8,090 debit
Drawings $100 debit
STUDY MATERIAL C2
52
THE ACCOUNTING SYSTEM IN ACTION
Exercise 3.5
Work out the balances on the accounts from Exercise 3.3.
Solution
Bank $705 debit
Capital $500 credit
Purchases $150 debit
Rent $50 debit
Advertising $25 debit
Drawings $100 debit
Sales $530 credit
3.6 Summary
In this chapter you have:
●
seen how fi nancial transactions are recorded in ledger accounts, using double-entry
principles;
●
learned how to calculate the balance on an account at a point in time.
Double entry is the cornerstone of the entire accounting process. You will not get far in
your studies of this subject unless you have a thorough grasp of its principles. Make sure
you can follow the steps involved in the examples given in this chapter, and memorise the
table:
Debit Credit
Increases in assets Decreases in assets
Decreases in liabilities Increases in liabilities
Decreases in capital Increases in capital
Increases in expenses Decreases in expenses
Decreases in revenue Increases in revenue
It is important that you fully understand the double-entry system, as it will enable you to
understand how to record more complex transactions later on in your studies.
Try not to analyse the reason for the ‘ left and right ’ system for recording transactions. It
is simply a rule that, if everyone abides by it, leads to a common system. It can be likened
to the rule for driving a car. If the rule in a country is to drive on the left, then the system
works as long as everyone abides by the rule.
Practise the examples in the chapter several times until you feel competent in them.
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Question 1 Multiple choice
1.1 A credit balance of $917 brought down on Y Ltd’s account in the books of X Ltd
means that
(A) X Ltd owes Y Ltd $917.
(B) Y Ltd owes X Ltd $917.
(C) X Ltd has paid Y Ltd $917.
(D) X Ltd is owed $917 by Y Ltd.
1.2 Which one of the following statements is correct?
(A) Assets and liabilities normally have credit balances.
(B) Liabilities and revenues normally have debit balances.
(C) Assets and revenues normally have credit balances.
(D) Assets and expenses normally have debit balances.
1.3 On 1 January, a business had a customer, J King, who owed $400. During January,
J King bought goods for $700 and returned goods valued at $250. He also paid
$320 in cash towards the outstanding balance. The balance on J King’s account at
31 January is:
(A) $530 debit.
(B) $530 credit.
(C) $270 debit.
(D) $270 credit.
1.4 Alice had the following assets and liabilities at 1 January:
$
Inventories 350
Payables 700
Receivables 400
Bank overdraft 125
Motor vehicles 880
Her capital at 1 January was: $...............
Revision Questions
3
THE ACCOUNTING SYSTEM IN ACTION
REVISION QUESTIONS C2
54
1.5 The correct entries needed to record the return of offi ce equipment that had been
bought on credit from P Young, and not yet paid for, are:
Debit Credit
A O f fi ce equipment Sales
B O f fi ce equipment P Young
C P Young Offi ce equipment
D Cash Offi ce equipment
1.6 Which one of the following statements regarding the balance on a ledger account is
not correct?
(A) A credit balance exists where the total of credit entries is more than the total of
debit entries.
(B) A debit balance exists where the total of debit entries is less than the total of
credit entries.
(C) A credit balance exists where the total of debit entries is less than the total of
credit entries.
(D) A debit balance exists where the total of debit entries is more than the total of
credit entries.
1.7 Which of the following is the correct entry to record the purchase on credit of inven-
tories intended for resale?
Debit Credit
A Inventories Receivable
B Inventories Payable
C Purchases Payable
D Payable Purchases
1.8 A receives goods from B on credit terms and A subsequently pays by cheque. A then
discovers that the goods are faulty and cancels the cheque before it is cashed by B.
How should A record the cancellation of the cheque in his books?
Debit Credit
A Payables Returns outwards
B Payables Bank
C Bank Payables
D Returns outwards Payables
Question 2
The table below shows a selection of fi nancial transactions. Complete the columns to
identify the accounts and the debit/credit entries to be made in the ledger to record each
of the transactions.
THE ACCOUNTING SYSTEM IN ACTION
55
FUNDAMENTALS OF FINANCIAL ACCOUNTING
Transaction description Account to be debited Account to be credited
1. Sold goods on credit to Bashir
2. Bought goods for sale on credit
from P Walker
3. Paid carriage on the goods
purchased, in cash
4. Returned goods to P Walker
5. Bought offi ce machinery on credit
from W Print
6. Returned offi ce machinery to
W Print
7. Received a cheque from P Wright
8. Received payment from T Wilkes
by cheque
9. Owner’s private car brought into
the business
10. Cheque received from P Wright
dishonoured
Question 3
S Smart commenced in business as a decorator on 1 January.
1 Jan. Commenced business by putting $1,000 of his own money into a business
bank account.
3 Jan. Bought a motor van on credit from AB Garages for $3,000.
4 Jan. Bought decorating tools and equipment on credit from B & P Ltd for $650.
8 Jan. Bought paint for $250, paying by cheque.
10 Jan. Received $400 cash from a customer for work done.
12 Jan. Bought paint for $150, paying in cash.
14 Jan. Issued an invoice to a customer, K Orme, for $750 for work done.
18 Jan. Returned some of the decorating tools, value $80, to B & P Ltd.
23 Jan. Took $50 of the cash to buy a birthday present for his son.
28 Jan. K Orme paid $250 by cheque towards his bill.
THE ACCOUNTING SYSTEM IN ACTION
REVISION QUESTIONS C2
56
Requirement
Calculate the balance on each account at 31 January, by completing the ledger accounts
provided below:
Date Description
Amount ($)
Date Description
Amount ($)
Capital
Bank
Motor van
AB Garages
Tools and Equipment
B and P Ltd
Purchases
Sales
Cash
K Orme
Drawings
THE ACCOUNTING SYSTEM IN ACTION
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FUNDAMENTALS OF FINANCIAL ACCOUNTING
The balances on the accounts are as follows:
$ Debit/credit
Capital
Bank
Motor van
AB Garages
Tools and equipment
B & P Ltd
Purchases
Sales
Cash
K Orme
Drawings
Question 4
B Baggins commenced in business as a market gardener on 1 March. Record the following
transactions in the ledger accounts:
1 Mar. Paid $70 rent for land for the month of March, from his own funds.
4 Mar. Bought equipment on credit for $400 from JK Ltd.
8 Mar. Bought plants for $2,000, paying from his own funds.
10 Mar. Received $100 cash for a talk to the local horticultural society.
12 Mar. Sold plants for $1,200, being paid by cheque. He opened a business bank
account with this amount.
15 Mar. Paid wages of $50 in cash.
18 Mar. Bought plants for $800 on credit from BH Horticultural Ltd.
20 Mar. Sold Plants for $500 on Credit to PB.
23 Mar. Paid $100 local business tax by cheque.
28 Mar. Paid wages of $20 in cash.
31 Mar. Sold plants for $240, being paid in cash.
THE ACCOUNTING SYSTEM IN ACTION
REVISION QUESTIONS C2
58
Calculate the balance on each account at 31 March by completing the ledger accounts
provided below:
Rent payable
$ $
Capital
$
JK Ltd
$
Equipment
$
Purchases
$
Sales
$
Cash
$ $
THE ACCOUNTING SYSTEM IN ACTION
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FUNDAMENTALS OF FINANCIAL ACCOUNTING
Bank
$ $
Wages
$
BH Horticultural Ltd
$
PB
$
Local business tax
$
The balances on the accounts are as follows:
$ Debit/credit
Rent payable
Capital
Equipment
JK Ltd
Purchases
Sales
Cash
Bank
Wages
BH Horticultural Ltd
PB
Local business tax