Lesson – 1 Fundamentals Of Accounting

LESSON - 1
FUNDAMENTALS OF ACCOUNTING
INTRODUCTION
Business is an economic activity undertaken with the motive of earning profits and to maximize the
wealth for the owners. Which could be in different forms such as sole proprietorship, partnership, body
corporate etc?
The business activities require resources (which are limited & have multiple uses) primarily in terms
of material, labour, machineries, factories and other services. The success of business depends on how
efficiently and effectively these resources are managed. Therefore, there is a need to ensure that the
businessman tracks the use of these resources.
The best way is to record all the business activities. Recording of business activities has to be done
in a scientific manner so that they reveal correct outcome. The science of book-keeping and accounting
provides an effective solution.

DEFENITIONS
(a) Book-keeping
(b) Financial Accounting
(c) Cost Accounting and
(d) Management Accounting

(a) Book-keeping
“Book-keeping is an art of recording business transactions in a set of books.” Only transactions
expressed in terms of money will find place in books of accounts. Book-keeping is a continuous activity, the
records being maintained as transactions are entered into. It is also referred to as a set of primary records.
These records form the basis for accounting.

(b) Financial Accounting

It is commonly termed as Accounting. The American Institute of Certified Public Accountants
defines Accounting as “an art of recoding, classifying and summarizing in a significant manner and in terms
of money, transactions and events which are in part at least of a financial character, and interpreting the
results thereof.”
The first step in the cycle of accounting is to identify transactions that will find place in books of
accounts. Transactions having financial impact only are to be recorded.
Secondly, the recording of the business transactions is done based on the Golden Rules of
accounting in a systematic manner.
Thirdly, as the transactions increase in number, it will be difficult to understand the combined effect
of the same by referring to individual records. Hence, the art of accounting also involves the step of
summarizing them.
Lastly, the accounting process provides the users with statements which will describe what has
happened to the business.

(c) Cost Accounting

It is a branch of accounting dealing with the classification, recording, allocation, summarization and
reporting of current and prospective costs and analyzing their behaviours.
It primarily involves relating the costs to the different products produced and sold or services
rendered by the business. While Financial Accounting deals with business transactions at a broader level,
Cost Accounting aims at further breaking it up to the last possible level to indentify costs with products and
services. This branch of accounting deals with the process of ascertainment of costs. Cost Accounting aims
at equipping management with information that can be used for control on business activities.

(d) Management Accounting

Management Accounting is concerned with the use of Financial and Cost Accounting information to
managers within organizations, to provide them with the basis in making informed business decisions that
would allow them to be better equipped in their management and control functions.

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 Lesson – 1 Fundamentals Of Accounting
According to the Chartered Institute of Management Accountants (CIMA), Management
Accounting is “the process of identification, measurement, accumulation, analysis, preparation,
interpretation and communication of information used by management to plan, evaluate and control within
an entity and to assure appropriate use of and accountability for its resources.
Basically, Management Accounting aims to facilitate management in formulating strategies,
planning and constructing business activities, making decisions, optimal use of resources, and safeguarding
assets of business.

Difference between Book-keeping and Accountancy

The Significant difference between Book-keeping and Accountancy are: -
Sl No. Points of difference Book Keeping Accountancy
Accountancy is considered as
1. Meaning Book-keeping is considered as end.
beginning.
The primary stage of accounting The overall accounting functions are
2. Functions
function is called Book-keeping. guided by accountancy.
Accountancy can complete its
Accountancy depends on Book-
3 Depends functions with the help of Book-
keeping for its complete functions.
keeping.
The necessary data about financial Accountancy can take its decisions;
4. Data performances and financial positions prepare reports and statements from
are taken from Book-keeping. the data taken from Book-keeping.
Financial transactions are recorded on Accountancy does not take any
Recording of
5. the basis of accounting principles, principles, concepts and conventions
Transactions
concepts and conventions. from Book-keeping.

Difference between Management Accounting and Financial Accounting

The significant difference between Management Accounting and Financial Accounting are :
Management Accounting Financial Accounting
1. Management Accounting is primarily based on the 2. Financial Accounting is based on the monetary
data available from Financial Accounting. transactions of the enterprise.

2. It provides necessary information to the 2. Its main focus is on recording and classifying
management to assist them in the process of monetary transactions in the books of accounts and
planning, controlling, performance evaluation and preparation of financial statements at the end of every
decision making. accounting period.

3. Reports prepared in Management Accounting are 3. Reports as per Financial Accounting are meant for the
meant for management and as per management management as well as for shareholders and creditors of
requirement. the concern.

4. Reports may contain both subjective and objective 4. Reports should always be supported by relevant
figures. figures and it emphasizes on the objectivity of data.

5. Reports are not subject to statutory audit. 5. Reports are always subject to statutory audit.

6. It evaluates the sectional as well as the entire 6. It ascertains, evaluates and exhibits the financial
performance of the business. strength of the whole business.

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Lesson – 1 Fundamentals Of Accounting
ACCOUNTING CYCLE

Steps/Phases of Accounting Cycle

The steps or phases of accounting cycle can be developed as under:

Recording of
Transaction

Financial Journa
Statement l

Closing Ledger
Entries

Adjusted Trial Trial

Balance Balanc
e

Adjustment
Entries
ACCOUNTING CYCLE

a) Recording of Transaction: - As soon as a transaction happens it is at first recorded in subsidiary book.

b) Journal: - The transactions are recorded in Journal chronologically.
c) Ledger: - All journals are posted into ledger chronologically and in a classified manner.
d) Trial Balance: - After taking all the ledger account’s closing balances, a Trial Balance is prepared at the
end of the period for the preparations of financial statements.
e) Adjustment Entries: - All the adjustments entries are to be recorded properly and adjusted accordingly
before preparing financial statements.
f) Adjusted Trial Balance:- An adjusted Trail Balance may also be prepared.
g) Closing Entries: - All the nominal accounts are to be closed by the transferring to Trading Account and
Profit and Loss Account.
h) Financial Statements: - Financial statement can now be easily prepared which will exhibit the true
financial position and operating results.

OBJECTIVES OF ACCOUNTING
The following objectives of accounting will explain the width of the application of this knowledge stream:
(a) To ascertain the amount of profit or loss made by the business i.e. to compare the income earned versus
the expenses incurred and the net result thereof.
(b) To know the financial position of the business i.e. to assess what the business owns and what it owes.
(c) To provide a record for compliance with statutes and laws applicable.
(d) To enable the readers to assess progress made by the business over a period of time.
(e) To disclose information needed by different stakeholders

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Lesson – 1 Fundamentals Of Accounting
QUALITATIVE CHARACTERISTICS OF ACCOUNTING INFORMATION

Qualitative Characteristics of Accounting Information can be segregated in the following categories

(i) Reliability - To be useful, information must also be reliable. Information has the quality of
reliability when it is free from material error and bias.
(ii) Relevance- To be useful, information must be relevant to the decision-making needs of users.
(iii) Materiality- The relevance of information is affected by its nature and materiality. Information
is material if its omission or mis-statement could influence the economic decisions of users
made on the basis of financial statements.
(iv) Understandability- The information provided in financial statements must be easily
understandable by users.
(v) Comparability- The financial statements of an enterprise should be comparable.

BASIC ACCOUNTING TERMS

(i) Transaction: It means an event or a business activity which involves exchange of money or
money’s worth between parties.
(ii) Goods/Services: These are tangible article or commodity in which a business deals.
(iii) Profit: The excess of Revenue Income over expense is called profit.
(iv) Loss: The excess of expense over income is called loss.
(v) Asset: Asset is a resource owned by the business with the purpose of using it for generating
future profits.
(vi) Liability: It is an obligation of financial nature to be settled at a future date.
(vii) Internal Liability: These represent proprietor’s equity, i.e. all those amount which are entitled
to the proprietor, e.g., Capital, Reserves, Undistributed Profits, etc.
(viii) Working Capital: In order to maintain flows of revenue from operation, every firm needs
certain amount of current assets.
(ix) Contingent Liability: It represents a potential obligation that could be created depending on the
outcome of an event.
(x) Capital: It is amount invested in the business by its owners. It may be in the form of cash,
goods, or any other asset which the proprietor or partners of business invest in the business
activity.
(xi) Drawings: It represents an amount of cash, goods or any other assets which the owner
withdraws from business for his or her personal use.
(xii) Net worth: It represents excess of total assets over total liabilities of the business.
(xiii) Non-current Investments: Non-current Investments are investments which are held beyond the
current period as to sale or disposal.
(xiv) Current Investments: Current investments are investments that are by their nature readily
realizable and are intended to be held for not more than one year from the date on which such
investment is made.
(xv) Debtor : The sum total or aggregate of the amounts which the customer owe to the business for
purchasing goods on credit or services rendered or in respect of other contractual obligations, is
known as Sundry Debtors or Trade Debtors, or Trade Receivable, or Book-Debts or Debtors.
(xvi) Creditor: A creditor is a person to whom the business owes money or money’s worth. e.g.
money payable to supplier of goods or provider of service. Creditors are generally classified as
Current Liabilities.
(xvii) Capital Expenditure: This represents expenditure incurred for the purpose of acquiring a fixed
asset.
(xviii) Revenue expenditure: This represents expenditure incurred to earn revenue of the current
period.
(xix) Balance Sheet: It is the statement of financial position of the business entity on a particular
date.
(xx) Profit and Loss Account or Income Statement: This account shows the revenue earned by the
business and the expenses incurred by the business to earn that revenue.
(xxi) Trade Discount: It is the discount usually allowed by the wholesaler to the retailer computed on
the list price or invoice price.
(xxii) Cash Discount: This is allowed to encourage prompt payment by the debtor. This has to be
recorded in the books of accounts.
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Lesson – 1 Fundamentals Of Accounting
Illustration 1
Fill in the blanks:
(a) The cash discount is allowed by……………………… to the …………………….
(b) Profit means excess of…………………….over……………..
(c) Debtor is a person who………………….to others.
(d) In a credit transaction, the buyer is given a……………………facility.
(e) The fixed asset is generally held for…………………..
(f) The current liabilities are obligations to be settled in……………………..period.
(g) The withdrawal of money by the owner of business is called…………………….
(h) The amount invested by owners into business is called………………………..
(i) Transaction means exchange of money or money's worth for………………………….
(j) The net result of an income statement is or………………………..
(k) The……………………shows financial position of the business as on a particular date.
(l) The……………………discount is never entered in the books of accounts.
(m)Vehicles represent…………..expenditure while repairs to vehicle would mean…………..expenditure.
(n) Net worth is excess of………………………………. Over………………………._.

Illustration 2
Give one word or a term used to describe the following:-
(a) An exchange of benefit for value
(b) A transaction without immediate cash settlement.
(c) Commodities in which a business deals.
(d) Excess of expenditure over income.
(e) Things of value owned by business to earn future profits.
(f) Amount owed by business to others.
(g) An obligation which may or may not materialise.
(h) An allowance by a creditor to debtor for prompt payment.
(i) Assets like brand value, copy rights, goodwill.

GENERALLY ACCEPTED ACCOUNTING PRINCIPLES

A widely accepted set of rules, conventions, standards, and procedures for reporting financial information, as
established by the Financial Accounting Standards Board are called Generally Accepted Accounting
principles (GAAP).
Theory Base of Accounting

Basic Assumptions Basic Principles Modifying Principles

(a) Business Entity concept (a) Revenue Realization Concept (a) Materiality concept
(b) Going Concern Concept (b) Matching Concept (b) Consistency Concept
(c) Money Measurement Concept (c) Full Disclosure Concept (c) Conservatism Concept
(d) Accounting Period Concept (d) Dual Aspect Concept (d) Timeliness Concepts
(e) Accrual Concept (e) Verifiable Objective Evidence (e) Industry Practice
Concept Concept
(f) Historical Cost Concept
(g) Balance Sheet Equation Concept

A. BASIC ASSUMPTIONS

(a) Business Entity Concept:

It is very important to note that for accounting purpose the business is treated as a unit or entity apart
from its owners, creditors and others. In other words, the proprietor of a enterprise is always considered to
be separate and distinct from the business which he controls. All the transactions of the business are
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recorded in the books of the business from the point of view of the business as an entity and even the
proprietor is treated as a creditor to the extent of his capital. Capital is thus a liability like any other liability.

(b) Going Concern Concept:

This concept assumes the enterprise will continue to exist in the foreseeable future. According to
A.S. -1 relating to disclosure of accounting policies, going concern concept is a fundamental accounting
assumption underlying the preparation of financial statements. Under this assumption, “the enterprise is
normally viewed as a going concern, that is, as continuing in operation for the foreseeable future. It is
assumed that the enterprise has neither the intention nor the necessity of liquidation or of curtailing
materially the scale of its operations”.

(c) Money Measurement Concept:

The money measurement concept underlines the fact that in accounting every worth recording event,
happening or transaction is recorded in terms of money. In other words, or a happening which cannot be
expressed in terms of money is not recorded in the accounting books.

(d) Accounting Period Concept:

Life of business is assumed to be indefinite (going concern concept), the measurement of income,
according to the above concept, is not possible for a very, very long period. Accountants choose some
shorter and convenient time for the measurement of income. Twelve-month period is normally adopted for
this purpose. This time interval is called accounting period.

(e) The Accrual Concept: Under this method revenue recognition depends on its realization and not actual
receipt. Likewise costs are recognized when they are incurred and not when paid. In relation to revenue, the
account should exclude amount relating to subsequent period and provide for revenue recognized but not
received in cash. Likewise, in relation to cost provide for costs incurred but not paid and exclude costs paid
for subsequent period.

B. BASIC PRINCIPLES

(a) The Revenue Realization Concept:

According to this concept, revenue is considered as earned on the date when it is realized. In other
word, revenue realized (either by sale of goods or by rendering services) during an accounting period should
only be taken in the income statement (Profit & Loss Account). For example, when goods are sold to
customers, they are legally liable to pay, i.e., as soon as the property of goods passes from the seller to the
buyer. In short, when an order is simply received from a customer, it does not mean that the revenue is
earned or realized.

(b) The Matching Concept:

This concept recognizes that the expenses which actually incurred during the specific activity
period, in order to earn the revenue for the said period must be matched against the revenue which are
realized for that period. For this purposes expenses which are specially incurred for earning the revenue of
the related period are to be considered. In short, all expenses incurred during the activity period must not be
taken. Only relevant cost should be deducted from the revenue of a period for periodic income statement,
i.e., the expenses that are related to the accounting period shall be considered for the purpose of matching.
This process of relating costs to revenue is called matching process.

(c) Full Disclosure Concept:

The convention of disclosure implies that account must be honestly prepared and all material
information must be disclosed therein. The terms Disclosure not imply that all information that anyone could
conceivably desire is to be included in accounting statements. The term only implies that there is to be a
sufficient disclosure of information which is of material interest to proprietors, present and potential
creditors and investors.
The concept of disclosure also applies to events occurring after the balance sheet date and the date
on which the financial statements are authorized for issue. Such events include bad debts, destruction of
plant and equipment due to natural calamities, major acquisition of an other enterprise and the like. Such
events are likely to have a substantial influence on the earnings and financial position of the enterprise. Their
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non-disclosure would affect the ability of the users of such statements to make proper evaluations and
decisions.

(d) Dual aspect Concept:

Financial accounting is transaction based. In each of the transactions there are two aspects to be
recorded from the point of view of entity. For example, if there is purchase of goods—it involves two
aspects: one aspect is the receipt of goods and the other aspects is the immediate payment of cash. The
recognition of two aspects to every transaction is known as dual aspect analysis. The term ‘double entry
book-keeping has come into vogue because of every transaction two entries are made. One entry consists of
debit to one or more accounts and another entry consists of credit to one or more accounts. However, the
total amount debited always equals the total amount credited.

(e) Verifiable and Objective Evidence Concept:

It expresses that accounting data are subject to verification by independent experts i.e. there must be
documentary evidences of transactions which are capable of verification. Otherwise the same will neither be
verifiable nor be realizable or dependable. In other words, accounting data must free from any basic.
Because, verifiability and objectivity imply reliability, trustworthiness, dependability which are very useful
for conveying the accounting data and information furnished in periodical accounting reports and statements.

(f) Historical Cost concept:

The underlying idea of cost concept is that:
(i) Asset is recorded at the price paid to acquire it, that is, at cost; and
(ii) This cost is the basis for all subsequent accounting for the asset.
When asset is recorded at cost price as said under point (i) above, the change in the real worth of an asset
(for variety of reasons) with the passage of time is not ordinarily recorded in the account book.

(g) Balance Sheet Equation Concept:

The balance sheet equation concept conforms to an algebraic equation which may be written as
under:-
Expenses + Loss + Assets = Income + Gains + Liabilities
Or, Asset = Net Profit (-) Net Loss + Liabilities
Liabilities become due either to outsider or to the owner,
Assets = Net Profit or (-) Net Loss + External liabilities + Dues to Proprietors.
We know that proprietors due increases with the amount of net profit whereas decreases with the
amount of net loss. The same is known as equity in the business. So, the above the equations come down to:
Assets = Equity + External Liabilities
Again, from the proprietor’s point of view, the equation can also be re-written as under:
Proprietor’s fund or equity = Asset – Liabilities.

C. MODIFYING PRINCIPLES

(a) The Concept of Materiality

“An item should be regarded as material if there is reason to believe that knowledge of its would
influence the decision of informed investor”.
Some of the examples of material financial information to be disclosed are likely fall in the value of
stocks, loss of markets due to competition or government regulation, increase in wage bill under recently
concluded agreement, etc. It is now agreed that information known after the date of balance sheet must also
be disclosed.
It should be noted that an item material for one concern may be immaterial for another. And
similarly, an item material is one year may not be material in the next year.
As per, A.S. -1, Materiality should govern the selection and application of accounting policies.
According to the consideration of materiality financial statement should disclose all items which are material
enough to affect evaluation or decisions.

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Lesson – 1 Fundamentals Of Accounting
(b) The Concept of Consistency
According to A.S. -1 consistency is a fundamental assumption and it is assumed that accounting
policies are consistent from one period to another. Where this assumption is not followed, the fact should be
disclosed together with reasons.
The principle of consistency plays its role particularly when alternative accounting method is
equally acceptable. For example, in applying the principle that fixed assets is deprecated over its useful life a
company may adopt any of the several methods of depreciation, viz., written-down-value methods, straight-
line methods, sinking fund method, and annuity method, Sum-of-years- digit method, unit of production
method or any other method. But in keeping with the convention of consistency it is excepted that the
company would consistency follow the same method of depreciation which is chosen. Any change from one
method to another would result in inconsistency.

(c) The Convention Concept

This is the policy of ‘Playing safe’. It takes into consideration all prospective losses but leaves all
prospective profits. This accounting principle is given
Recognition in A.S.-1 which recommends the observance of prudence in the framing of accounting policies.
Following are the examples of the application of the convention of conservatism:
(a) Making the provision for doubtful debts and discount on debtors in anticipation of actual bad debts
and discount.
(b) Valuing the stock in trade at market price or cost price whichever is less.
(c) Creating provisions against fluctuation in the price of investments.
(d) Charging of small capital items, like crockery, to revenue,
(e) Adopting written-down-value method of depreciation as against straight-line method. The written-
down-value method of depreciation is more conservative in a approach.
(f) Amortization of intangible assets like goodwill which has indefinite life.

(d) Timeliness Concept

Under this principle, every transaction must be recorded in proper time. Normally, when the
transaction is made, the same must be recorded in the proper books of accounts. In short, transaction should
be recorded date-wise in the books. Delay in recording such transaction may lead to manipulation,
misplacement of vouchers, misappropriation etc. of cash and goods.

(e) Industry Practice

As that are different types of industries, each industry has its own characteristics and features. Every
industry follows the principles and assumption of accounting to perform their own activities. For example,
Electric supply companies, Insurance companies maintain their accounts in a specific manner. Insurance
companies prepare Revenue Account just to ascertain the profit/loss of the company and not Profit and Loss
Account. Similarly, non trading organizations prepare Income and Expenditure Account to find out Surplus
or Deficit.

ILLUSTRATION 3.
Recognise the accounting concept in the following:
(1) The business will run for an indefinite period.
(2) The business is distinct and separate from its owners.
(3) The transactions are recorded at their original cost.
(4) The transactions recorded are those that can be expressed in money terms.
(5) Revenues will be recognized only if there is reasonable certainty that it will be paid for.
(6) Accounting treatment once decided should be followed period after period.
(7) Every transaction has two effects to be recorded in books of accounts.
(8) Transactions are recorded even if an obligation is created and actual cash is not involved.
(9) Stock of goods is valued at lower of its cost and realizable value.
(10) Effects of an event must be recognized in the same accounting period.

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Lesson – 1 Fundamentals Of Accounting
EVENTS AND TRANSACTIONS
Transaction is exchange of an asset with consideration of money value while event is anything in
general purpose which occur at specific time and particular place. All transactions are events but all events
are not transactions. This is because in order events to be called transaction an event must involve exchange
of values.

VOUCHER
It is a written instrument that serves to confirm or witness (vouch) for some fact such as a
transaction. Commonly, a voucher is a document that shows goods have bought or services have been
rendered, authorizes payment, and indicates the ledger account(s) in which these transactions have to be
recorded.
Types of Voucher - Normally the following types of vouchers are used. i.e.:
(i) Receipt Voucher
(ii) Payment Voucher
(iii) Non-Cash or Transfer Voucher
(iv) Supporting Voucher

(i) Receipt Voucher

Receipt voucher is used to record cash or bank receipt. Receipt vouchers are of two types, i-e.
(a) Cash receipt voucher - it denotes receipt of cash
(b) Bank receipt voucher - it indicates receipt of cheque or demand draft
(ii) Payment Voucher
Payment voucher is used to record a payment of cash or cheque. Payment vouchers are of two types, i.e.
(a) Cash Payment voucher - it denotes payment of cash
(b) Bank Payment voucher - it indicates payment by cheque or demand draft.
(iii) Non Cash Or Transfer Voucher
These vouchers are used for non-cash transactions as documentary evidence, e.g., Goods sent on credit.
(iv) Supporting Vouchers
These vouchers are the documentary evidence of transactions that have happened.

DOUBLE ENTRY SYSTEM

Double Entry System
It was in 1494 that Luca Pacioli the Italian mathematician, first published his comprehensive treatise
on the principles of Double Entry System. The use of principles of double entry system made it possible to
Record not only cash but also all sorts of Mercantile transactions.
Features of Double Entry System
(i) Every transaction has two fold aspects, i.e., one party giving the benefit and the other receiving
(ii) Every transaction is divided into two aspects, Debit and Credit. One account is to be debited and
the other account is to be credited.
(iii) Every debit must have its corresponding and equal credit.
Advantages of Double Entry System
(i) Since personal and impersonal accounts are maintained under the double entry system, both the
effects of the transactions are recorded.
(ii) It ensures arithmetical accuracy of the books of accounts, for every debit, there is a
corresponding and equal credit. This is ascertained by preparing a trial balance periodically or at
the end of the financial year.
(iii) It prevents and minimizes frauds. Moreover frauds can be detected early.
(iv) Errors can be checked and rectified easily.
(v) The balances of receivables and payables are determined easily, since the personal accounts are
maintained.
(vi) The businessman can compare the financial position of the current year with that of the past
year/s.
(vii) The businessman can justify the standing of his business in comparison with the previous years
purchase, sales, and stocks, incomes and expenses with that of the current year figures.
(viii) Helps in decision making.

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Lesson – 1 Fundamentals Of Accounting
(ix) The net operating results can be calculated by preparing the Trading and Profit and Loss A/c for
the year ended and the financial position can be ascertained by the preparation of the Balance
Sheet.
(x) It becomes easy for the Government to decide the tax.
(xi) It helps the Government to decide sickness of business units and extend help accordingly.
(xii) The other stakeholders like suppliers, banks, etc take a proper decision regarding grant of credit
or loans.

Limitations of Double Entry System

(i) The system does not disclose all the errors committed in the books accounts.
(ii) The trial balance prepared under this system does not disclose certain types of errors.
(iii) It is costly as it involves maintenance of numbers of books of accounts.

THE CONCEPTS OF 'DEBIT' AND 'CREDIT'

(1) Personal Account: As the name suggests these are accounts related to persons.
(a) These persons could be natural persons like Suresh's A/c, Anil's a/c, Rani's A/c etc.
(b) The persons could also be artificial persons like companies, bodies corporate or association of
persons or partnerships etc. Accordingly, we could have Videocon Industries A/c, Infosys
Technologies A/c, Charitable Trust A/c, Ali and Sons trading A/c, ABC Bank A/c, etc.
(c) There could be representative personal accounts as well. Examples are rent payable, Insurance
prepaid, commission pre-received etc.

(2) Real Accounts: These are accounts related to assets or properties or possessions. Depending on their
physical existence or otherwise, they are further classiied as follows:-
(a) Tangible Real Account - Assets that have physical existence and can be seen, and touched. e.g.
Machinery A/c, Stock A/c, Cash A/c, Vehicle A/c, and the like.
(b) Intangible Real Account - These represent possession of properties that have no physical
existence but can be measured in terms of money and have value attached to them. e.g. Goodwill
A/c, Trade mark A/c, Patents & Copy Rights A/c, Intellectual Property Rights A/c and the like.

(3) Nominal Account: These accounts are related to expenses or losses and incomes or gains e.g. Salary and
Wages A/c, Rent of Rates A/c, Travelling Expenses A/c, Commission received A/c, Loss by fire A/c etc.
The concept of Debit and Credit
 In double entry book-keeping, debits and credits are abbreviated by Dr and Cr, respectively
 Debit is derived from the latin word "debitum", which means 'what we will receive'.
 Credit is derived from the latin word "credre" which means 'what we will have to pay'.
 Each transaction's debit entries must equal its credit entries.
 The difference between the total debits and total credits in a single account is the account's balance.
If debits exceed credits, the account has a debit balance; if credits exceed debits, the account has a
credit balance.

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Lesson – 1 Fundamentals Of Accounting
THE CONCEPTS OF ‘ACCOUNT’, ‘DEBIT’ AND ‘CREDIT’
An ‘Account’ is defined as a summarised record of transactions related to a person or a thing. an account is
expressed as a statement in form of English letter ‘T’. It has two sides. The left hand side is called as “Debit’
side and the right hand side is called as “Credit’ side. The debit is connoted as ‘Dr’ and the credit by ‘Cr’.

Dr. Cash Account Cr.

Debit side Credit side

TYPES OF ACCOUNTS
Natural Person

Personal Accounts Artificial Person

Representative Person
Accounts

Real Accounts
(Tangible and Intangible)
Impersonal Accounts

Nominal Accounts

THE ACCOUNITNG PROCESS

There are two approaches for deciding when to write on the debit side of an account and when to write on
the credit side of an account:
A. American Approach/ Modern Approach
B. British Approach/ Traditional Approach/Double Entry System

A. American approach: In order to understand the rules of debit and credit according to these approach
transactions are divided into the following five categories:
(i) Transactions relating to owner, e.g., Capital – These are personal accounts
(ii) Transactions relating to other liabilities, e.g., suppliers of goods – These are mostly personal accounts
(iii) Transactions relating to assets, e.g., land, building, cash, bank, stock-in-trade, bills receivable – These
are basically all real accounts
(iv) Transactions relating to expenses, e.g., rent, salary, commission, wages, cartage – These are nominal
accounts
(v) Transactions relating to revenues, e.g., interest received, dividend received, sale of goods – These are
nominal accounts

The rules of debit and credit in relation to these accounts are stated as under:
(i) For Capital Account:
Debit means decrease
Credit means increase

(ii) For any Liability Account:

Debit means decrease
Credit means increase

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(iii) For any Asset Account:
Debit means increase
Credit means decrease

(iv) For any Expense Account:

Debit means increase
Credit means decrease

(v) For any Revenue Account:

Debit means decrease
Credit means increase

To Sum Up
For Assets Increase in Assets Dr.
Decrease in Assets Cr.
For Liabilities Decrease in Liabilities Dr.
Increase in Liabilities Cr.
For Capital Decrease in Capital Dr.
Increase in Capital Cr.
For Incomes Decrease in Income Dr.
Increase in Income Cr.
For Expense Increase in Expense Dr.
Decrease in Expense Cr.

Illustration 4
Ascertain the debit and credit from the following particulars under Modern Approach.
(i) Started business with capital.
(ii) Bought goods for cash.
(iii) Sold goods for cash.
(iv) Paid salary.
(v) Received Interest on Investment.
(vi) Bought goods on credit from Mr. Y
(vii) Paid Rent out of Personal cash

B. British Approach or Double Entry System:

Personal Account Debit the Receiver or who owes to business

Credit the giver or to whom business owes

Real Account Debit what comes into business

Credit what goes out of business

Nominal Account Debit all expenses or losses

Credit all income or gains
Illustration 5
Ascertain the Debit Credit under British Approach or Double Entry System. Take Previous illustration

ACCOUNTING EQUATION
The whole Financial Accounting depends on Accounting Equation which is also known as Balance Sheet
Equation. The basic Accounting Equation is:
Assets = Liabilities + Owner's equity
or A = L + C
or C = A – L Where A = Assets, L = Liabilities, C = Capital or L = A - C
or L = A - C
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Illustration 6
Prepare an Accounting Equation from the following transactions in the books of Mr. X for January, 2013:
1 Invested Capital in the firm Rs. 20,000
2 Purchased goods on credit from Das & Co. for Rs. 2,000
4 Bought plant for cash Rs. 8,000
8 Purchased goods for cash Rs. 4,000
12 Sold goods for cash (cost Rs. 4,000 + Profit Rs. 2,000) Rs. 6,000.
18 Paid to Das & Co. in cash Rs. 1,000
22 Received from B. Banerjee Rs. 300 (being a debtor)
25 Paid salary Rs. 6,000
30 Received interest Rs. 5,000
31 Paid wages Rs. 3,000

ACCRUAL BASIS AND CASH BASIS OF ACCOUNTING

(i) Accrual Basis of Accounting

Accrual Basis of Accounting is a method of recording transactions by which revenue, costs, assets
and liabilities are reflected in the accounts for the period in which they accrue. This basis is also referred to
as mercantile basis of accounting.
(ii) Cash Basis of Accounting
Cash Basis of Accounting is a method of recording transactions by which revenues, costs, assets and
liabilities are reflected in the accounts for the period in which actual receipts or actual payments are made.

DISTINCTION BETWEEN ACCRUAL BASIS OF ACCOUNTING AND CASH BASIS OF

ACCOUNTING
Basis of Distinction Accrual Basis of Accounting Cash Basis of Accounting
1. Prepaid/Outstanding Under this, there may be prepaid/ Under this, there is no a
Expenses/ accrued/unaccrued outstanding expenses and prepaid/outstanding expense or
Income in Balance Sheet. accrued/unaccrued incomes in the accrued/ unaccrued incomes.
Balance Sheet.
2. Higher/lower Income in case of Income Statement will show a Income Statement will show
prepaid expenses and accrued relatively higher income lower income.
income
3. Higher/lower income incase of Income Statement will show a Income Statement will show
outstanding expenses and relatively lower income. higher income.
unaccrued income
4. Recognition under the This basis is recognized under the This basis is not recognized under
Companies Act. 1956. Companies Act, 1956. the Companies Act, 1956.
5. Availability of options to an Under this, an accountant has Under this an accountant has no
accountant to manipulate the options. option to make a choice as such.
accounts by way of choosing the
most suitable method out of
several alternative methods of
accounting e.g.
FIFO/LIFO/SLM/ WDV

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Hybrid or Mixed Basis
Under the hybrid system of accounting, incomes are recognised as in Cash Basis Accounting i.e.
when they are received in cash and expenses are recognised on accrual basis i.e. during the accounting
period in which they arise irrespective of when they are paid.

Illustration 7
Mr. Anil Roy, a junior lawyer, provides the following particulars for the year ended 31st December, 2012:
Fees received in cash in 2013 60,000
Salary paid to Staff in 2013 8,000
Rent of office in 2013 14,000
Magazine and Journal for 2013 1,000
Travelling and Conveyance paid in 2013 3,000
Membership Fees paid in 2013 1,600
Office Expenses paid in 2013 10,000
Additional Information:-
Fees include Rs. 3,000 in respect of 2012 and fees not yet received is Rs. 7,000. Office rent includes Rs.
4,000 for previous year and rent of Rs. 2,000 not yet paid. Membership fees is paid for 2 years.
Compute his net income for the year 2013, under - (a) Cash Basis, (b) Accrual Basis and (c) Mixed or
Hybrid Basis.

SOME EXAMPLES OF CAPITAL EXPENDITURE:

(i) Purchase of land, building, machinery or furniture; (ii) Cost of leasehold land and building; (iii) Cost of
purchased goodwill; (iv) Preliminary expenditures; (v) Cost of additions or extensions to existing assets; (vi)
Cost of overhauling second-hand machines; (vii) Expenditure on putting an asset into working condition;
and (viii) Cost incurred for increasing the earning capacity of a business.

SOME EXAMPLES OF REVENUE EXPENDITURE

(i) Salaries and wages paid to the employees; (ii) Rent and rates for the factory or office premises; (iii)
Depreciation on plant and machinery; (iv) Consumable stores; (v) Inventory of raw materials, work-in-
progress and finished goods; (vi) Insurance premium; (vii) Taxes and legal expenses; and (viii)
Miscellaneous expenses.

REPLACEMENT OF FIXED ASSETS

The above rules of capital and revenue expenditure do not hold good when an existing asset is replaced for
another. If an asset is replaced with a similar kind of asset, the expenditure incurred is treated as Revenue
Expenditure. For example, if a set of weighing machines in a shop becomes defective and is replaced with a
similar set, the cost of replacement should be treated as revenue expenditure and it should be charged to the
Profit and Loss Account. However, if an asset is replaced with an asset which is superior than the previous
one, the expense is partly capital and partly revenue. For example, if a manual typewriter costing ` 5,000 is
replaced with an electronic typewriter costing ` 15,000, then ` 5,000 will be revenue expenditure and the
excess value of the new typewriter over the old one, ` 10,000 will be capital expenditure.

DEFERRED REVENUE EXPENDITURES

Deferred revenue expenditures represent certain types of an asset whose usefulness does not expire in the
year of their occurrence but generally expires in the near future. These type of expenditures are carried
forward and are written off in future accounting periods

CAPITAL AND REVENUE RECEIPTS

A receipt of money may be of a capital or revenue nature.
A receipt of money is considered as capital receipt when a contribution is made by the proprietor
towards the capital of the business or a contribution of capital to the business by someone outside the
business. Capital receipts do not have any effect on the profits earned or losses incurred during the course of
a year.
Additional capital introduced by the proprietor; by partners, in case of partnership firm, by issuing fresh
shares, in case of a company; and, by selling assets, previously not intended for resale.
A receipt of money is considered as revenue receipt when it is received from customers for goods supplied
or fees received for services rendered in the ordinary course of business, which is a result of the firm’s
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activity in the current period. Receipts of money in the revenue nature increase the profits or decrease the
losses of a business and must be set against the revenue expenses in order to ascertain the profit for the
period.
The following are the points of difference between capital receipts and revenue receipts:
Sl. No. Revenue Receipt Sl. No. Capital Receipt
It has short-term effect. The benefit is It has long-term effect. The benefit is
1. enjoyed within one accounting period. 1.
enjoyed for many years in future.
It occurs repeatedly. It is recurring and It does not occur again and again. It is
2. 2.
regular. nonrecurring and irregular.
It is shown in profit and loss account on the It is shown in the Balance Sheet on the
3. 3.
credit side, as an income for the year liability side.
Capital receipt, when invested, produces
revenue receipt e.g. when capital is
4. It does not produce capital receipt. 4. invested by the owner, business gets
revenue receipt (i.e. sale proceeds of
goods etc.).
The capital receipt decreases the value of
This does not increase or decrease the value asset or increases the value of liability
5. 5.
of asset or liability. e.g. sale of a fixed asset, loan from bank
etc.
Sometimes, expenses of capital nature are to Sometimes expenses of revenue nature
be incurred for revenue receipt, e.g. purchase are to be incurred for such receipt e.g. on
6. of shares of a company is capital expenditure 6. obtaining loan (a capital receipt) interest
but dividend received on shares is a revenue is paid until its repayment.
receipt.

CAPITAL AND REVENUE PROFITS

If profit arises out of an ordinary nature, being the outcome of the ordinary function and object of the
business, it is termed as ‘revenue profit’. But, when a profit arises out of a casual and non-recurring
transaction, it is termed as capital profit. Revenue profit arises out of the sale of the merchandise that the
business deals in.
Capital Profit arises from:-
(a) Profit prior to incorporation;
(b) Premium received on issue of shares;
(c) Profit made on re-issue of forfeited shares;
(d) Redemption of Debenture at a discount;
(e) Profit made on sale or revaluation of a Fixed Asset.
Revenue profits are distributed to the owners of the business or transferred to General Reserve Account,
being shown in the balance sheet as a retained earning. Capital profits are generally capitalised-transferred to
a capital reserve account which can only be utilised for setting off capital losses in future.

CAPITAL AND REVENUE LOSSES

Revenue losses arise from the normal course of business by selling the merchantable at a price less
than its purchase price or cost of goods sold or where there is a declining in the current value of inventories.
Capital losses may result from the sale of assets, other than inventory for less than written down
value or the diminution or elimination of assets other than as the result of use or sale (flood, fire, etc.) or in
connection with raising capital of the business (issue of shares at a discount) or on the settlement of
liabilities for a consideration more than its book value (debenture issued at par but redeemed at a premium).
Treatment of capital losses are same as that of capital profits.
Capital losses arising out of sale of fixed assets generally appear in the Profit and Loss Account
(being deducted from the net profit). But other capital losses are adjusted against the capital profits. Where
the capital losses are substantial, the treatment is different. These losses are generally shown on the balance
sheet as fictitious assets and the common practice is to spread that over a number of accounting years as a
charge against revenue profits till the amount is fully exhausted.

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Illustration 8
State whether the following are capital, revenue or deferred revenue expenditure.
(i) Carriage of Rs. 7,500 spent on machinery purchased and installed.
(ii) Heavy advertising costs of Rs. 20,000 spent on the launching of a company's new product.
(iii) Rs. 200 paid for servicing the company vehicle, including Rs. 50 paid for changing the oil.
(iv) Construction of basement costing Rs. 1,95,000 at the factory premises.

Illustration 9
Classify the following items as capital or revenue expenditure:
(i) An extension of railway tracks in the factory area;
(ii) Wages paid to machine operators;
(iii) Installation costs of new production machine;
(iv) Materials for extension to foremen's offices in the factory;
(v) Rent paid for the factory;
(vi) Payment for computer time to operate a new stores control system,
(vii) Wages paid to own employees for building the foremen's offices. Give reasons for your
classification.

Illustration 10
State with reasons whether the following are Capital Expenditure or Revenue Expenditure:
(i) Expenses incurred in connection with obtaining a licence for starting the factory were Rs.
10,000.
(ii) Rs. 1,000 paid for removal of stock to a new site.
(iii) Rings and Pistons of an engine were changed at a cost of Rs. 5,000 to get full efficiency.
(iv) Rs. 2,000 spent as lawyer's fee to defend a suit claiming that the firm's factory site belonged to
the Plaintiff. The suit was not successful.
(v) Rs. 10,000 were spent on advertising the introduction of a new product in the market, the benefit
of which will be effective during four years.
(vi) A factory shed was constructed at a cost of Rs. 1,00,000. A sum of Rs. 5,000 had been incurred
for the construction of the temporary huts for storing building materials.

Illustration 11
State clearly how you would deal with the following in the books of a Company:
(i) The redecoration expenses Rs. 6,000.
(ii) The installation of a new Coffee-making Machine for Rs. 10,000.
(iii) The building of an extension of the club dressing room for Rs. 15,000.
(iv) The purchase of snacks & food stuff Rs. 2,000.
(v) The purchase of V.C.R. and T.V. for the use in the club lounge for Rs. 15,000.

DOUBLE ENTRY SYSTEM, BOOKS OF PRIME ENTRY, SUBSIDIARY BOOKS

A journal is often referred to as Book of Prime Entry or the book of original entry. In this book
transactions are recorded in their chronological order. The entry made in this book is called a 'journal entry'.
Functions of Journal
(i) Analytical Function: Each transaction is analysed into the debit aspect and the credit aspect.
This helps to find out how each transaction will financially affect the business.
(ii) Recording Function: Accountancy is a business language which helps to record the
transactions based on the principles. Each such recording entry is supported by a narration,
which explain, the transaction in simple language. Narration means to narrate - i.e. to explain. It
starts with the word - Being ...
(iii) Historical Function: It contains a chronological record of the transactions for future references.

Advantages of Journal
The following are the advantages of a journal:
(i) Chronological Record: It records transactions as and when it happens. So it is possible to get a
detailed day-to-day information.

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(ii) Minimising the possibility of errors: The nature of transaction and its effect on the financial
position of the business is determined by recording and analyzing into debit and credit aspect.
(iii) Narration: It means explanation of the recorded transactions.
(iv) Helps to finalise the accounts: Journal is the basis of ledger posting and the ultimate Trial
Balance. The Trial balance helps to prepare the final accounts.
The specimen of a journal book is shown below.
Voucher
Date Particulars Ledger folio Debit amount Credit amount
number
Name of A/c to be debited
Reference of page
Name of A/c to be credited
dd-mm-yy number of the A/c ------------ -------------
(narration describing the
in ledger
transaction)
Explanation of Journal
(i) Date Column: This column contains the date of the transaction.
(ii) Particulars: This column contains which account is to be debited and which account is to be
credited. It is also supported by an explanation called narration.
(iii) Voucher Number: This Column contains the number written on the voucher of the respective
transaction.
(iv) Ledger Folio (L.F.): This column contains the folio (i.e. page no.) of the ledger, where the
transaction is posted.
(v) Dr. Amount and Cr. Amount: This column shows the financial value of each transaction. The
amount is recorded in both the columns, since for every debit there is a corresponding and equal
credit.

Illustration 12
Let us illustrate the journal entries for the following transactions: 2012 April
1 Mr. Vikas and Mrs. Vaibhavi who are husband and wife start consulting business by bringing in
their personal cash of Rs. 5,00,000 and Rs. 2,50,000 respectively.
10 Bought office furniture of Rs. 25,000 for cash. Bill No. - 2013/F/3
11 Opened a current account with Punjab National Bank by depositing Rs. 1,00,000
15 Paid office rent of Rs. 15,000 for the month by cheque to M/s Realtors Properties. Voucher No. 3
20 Bought a motor car worth Rs. 4,50,000 from Millennium Motors by making a down payment of Rs.
50,000 by cheque and the balance by taking a loan from HDFC Bank. Voucher No. M/13/7
25 Vikas and Vaibhavi carried out a consulting assignment for Avon Pharmaceuticals and raised a bill
for Rs. 10,00,000 as consultancy fees. Bill No. B13/4/1 raised. Avon Pharmaceuticals have
immediately settled Rs. 2,50,000 by way of cheque and the balance will be paid after 30 days. The
cheque received is deposited into Bank.
30 Salary of one receptionist @ Rs. 5,000 per month and one officer @ Rs. 10,000 per month. The
salary for the current month is payable to them.

SUB DIVISION OF JOURNALS

Journal is divided into two types
(i) General Journal
(ii) Special Journal
Journal

General Special

Cash Book purchase day book Sales day book Return inw book Return out book Bills Rece Book
Bills Pay book

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SUBSIDIARY BOOKS
Transaction Subsidiary Book
All cash and bank transactions Cash Book - has columns for cash, bank and cash
discount
All credit purchase of goods Purchase Day Book or Purchase register
All credit sale of goods Sales Day Book or sales register
All purchase returns Purchase Return Book or Return Outward Book
All sales returns Sales Return Book or Return Inward Book
All bill receivables Bills Receivable Book
All bills payable Bills Payable Book
For all other transactions not covered in any of the Journal Proper
above categories

CASH BOOK
A Cash Book is a special journal which is used for recording all cash receipts and all cash payments.

TYPES OF CASH BOOK

(i) Single Column Cash Book- Single Column Cash Book has one amount column on each side.

(ii) Double Column Cash Book- Cash Book with Discount Column has two amount columns, one for cash
and other for Discount on each side.

(iii) Triple Column Cash Book- Triple Column Cash Book has three amount columns ,one for cash, one for
Bank and one for discount , on each side.

Specimen of Single Column Cash Book

Dr. Cr.
Receipts Payments
Date Particulars L.F. Cash Date Particulars L.F. Cash

Specimen of Double Column Cash Book

Dr. Cr.
Receipts Payments
Disc. Disc.
Date Particulars L.F. Cash Date Particulars L.F. Cash
Allowed Received

Specimen of Triple Column Cash Book

Dr. Cr.
Receipts Payments
Disco Disco
unt Particul Cas unt
Date Particulars L.F. Cash Bank Date L.F. Bank
Allow ars h Recei
ed ved

PURCHASE DAY BOOK

The purchase day book records the transactions related to credit purchase of goods only.
In the Books of .........
Purchase Day Book
Name of the Suppliers and details of Invoice
Date L. F. Amount Remarks
Goods purchased reference

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SALES DAY BOOK
The sales day book records transaction of credit sale of goods to customers
In the Books of .........
Sales Day Book
Date Particulars Invoice reference L. F. Amount Remarks

Return Inward Book- The transactions relating to goods which are returned by the customers for various
reasons,
Returns Inward Day Book
Outward
Date Particulars L.F. Details Totals Remarks
Invoice

Return Outward Book- This book contains the transactions relating to goods that are returned by us to our
creditors
Return Outward Day Book
Date Particulars Debit Note L.F. Details Totals Remarks

Bills Receivable Book- It is such a book where all bills received are recorded and therefrom posted directly
to the credit of the respective customer’s account.

Bills Receivable Day Book

Name Name Name
Date of How
No. of From of the of of Date of Due Amoun
Receip L.F. dispose
Bills whom Receiv Drawe Accept Bill Date t of Bill
t of Bill d off
er r or

Bills Payable Book- Here all the particulars relating to bills accepted are recorded and therefrom posted
directly to the debit of the respective creditor’s account.
Bills Payable Day Book
Date Name Wher
To Name Amou How
No. of of of e Date Due
whom of the Term L.F. nt of dispos
Bills Accep Draw Payab of Bill Date
given Payee Bill ed off
tance er le

Journal Proper - If any transaction is not recorded in the primary books the same is recorded in Journal
Proper.

Ledger Accounts - Ledger is the main book or principal book of account. The ledger book contain all
accounts viz. assets, liabilities, incomes or gains, expenses or losses, owner’s capital and owner’s equity.
There is a systematic way in which transactions are posted into a ledger account.
Ledger-Account
Dr. Cr.
Date Particulars J. F. Amount (`) Date Particulars J. F. Amount (`)

Ledger Posting - As and when the transaction takes place, it is recorded in the journal in the form of journal
entry. This entry is posted again in the respective ledger accounts under double entry principle from the
journal. This is called ledger posting.

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Typical Ledger Account Balances
Type of Account Type of balance
All asset accounts Debit balance
All liability accounts Credit balance
Capital & Owner’s equity account Credit balance
Expenses or loss accounts Debit balance
Incomes or gain accounts Credit balance

TRIAL BALANCE
Trial Balance is defined as “a list or abstract of the balances or of total debits and total credits of the
accounts in a ledger, the purpose being to determine the equality of posted debits and credits and to establish
a basic summary for financial statements”. As this is merely a listing of balances, this will always be as on a
particular date. When this list with tallied debit and credit balances is drawn up, the arithmetical accuracy of
basic entries, ledger posting and balancing is ensured.

FEATURE’S OF A TRIAL BALANCE

1. It is a list of debit and credit balances which are extracted from various ledger accounts.
2. It is a statement of debit and credit balances.
3. The purpose is to establish arithmetical accuracy of the transactions recorded in the Books of Accounts.
4. It does not prove arithmetical accuracy which can be determined by audit.
5. It is not an account. It is only a statement of account.
6. It is not a part of the final statements.
7. It is usually prepared at the end of the accounting year but it can also be prepared anytime as and when
required like weekly, monthly, quarterly or half-yearly.
8. It is a link between books of accounts and the Profit and Loss Account and Balance Sheet.

PURPOSE OF A TRIAL BALANCE

It serves the following purposes:
1. To check the arithmetical accuracy of the recorded transactions.
2. To ascertain the balance of any Ledger Account.
3. To serve as an evidence of fact that the double entry has been completed in respect of every transaction.
4. To facilitate the preparation of final accounts promptly.

METHOD OF PREPARATION
1. Total Method or Gross Trial Balance.
2. Balance Method or Net Trial Balance.
1. Total Method or Gross Trial Balance: Under this method, two sides of the accounts are totaled. The
total of the debit side is called the “debit total” and the total of the credit side is called the “credit total”.
Debit totals are entered on the debit side of the Trial Balance while the credit total is entered on the
credit side of the Trial Balance.
2. Balance Method or Net Trial Balance: Under this method, all the ledger accounts are balanced. The
balances may be either “debit-balance” or “credit balance”.

ERRORS WHICH ARE NOT DISCLOSED BY A TRIAL BALANCE

The following errors cannot be detected by a Trial Balance:
(a) Errors of Omission: When the transaction is not at all recorded in the books of accounts, i.e. neither in
the debit side nor in the credit side of the account – trial balance will agree.
(b) Errors of Commission: Where there is any variation in figure/amount, e.g. instead of Rs. 800 either Rs.
80 or Rs. 8,000 is recorded, in both sides of ledger accounts – trial balance will agree.
(c) Errors of Principal: When accounts are prepared not according to double entry principle e.g. Purchase
of a Plant wrongly debited to Purchase Account – Trial balance will agree.
(d) Errors of Misposting : When wrong posting is made to a wrong account instead of a correct one
although amount is correctly recorded, e.g., sold goods to B but wrongly debited to D’s Account – trial
balance will agree.
(e) Compensating Errors: When one error is compensated by another error e.g. Discount Allowed
Rs. 100 not debited to Discount Allowed Account, whereas interest received `100, but not credit to
Interest Account – trial balance will agree.
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Illustration 13
From the following ledger account balances, prepare a Trial Balance of Mr. Sen for the year ended 31st
March,2013.
Capital Rs. 80,000 ; Sales Rs.10,00,000; Adjusted Purchase Rs. 8,00,000; Current A/c(Cr) Rs. 10,000; Petty
Cash Rs. 10,000; Sales Ledger Balance Rs. 1,20,000; Purchase Ledger Balance Rs. 60,000; Salaries
Rs.24,000; Carriage Inwards Rs. 4,000; Carriage Outward Rs. 6,000; Discount Allowed Rs. 10,000;
Building Rs. 80,000; Outstanding Expenses Rs. 10,000; Prepaid Insurance Rs. 2,000 ; Depreciation Rs.
4,000 ; Cash at Bank Rs. 80,000 ; Loan A/c (Cr) Rs. 66,000; Profit & Loss A/c(Cr) Rs. 20,000; Bad Debts
Recovered Rs. 2,000 ; Stock at 31.03.2013 Rs. 1,20,000; Interest Received Rs. 10,000; Accrued Interest Rs.
4,000; Investment Rs. 20,000; Provision for Bad Debts (01.04.2012) Rs. 6,000 ; General Reserve Rs.
20,000.

MEASUREMENT, VALUATION AND ACCOUNTING ESTIMATES

At the end of the last section, it was stated that Trial Balance forms the basis for preparing financial
statements. Depending on the nature of business, the income statement is prepared in different forms like:
(a) In case of manufacturing concern, a manufacturing, trading and P & L A/c is prepared
(b) In case of a trading or service organization, a trading and P & L A/c is prepared
The manufacturing or trading accounts show Gross margins (or gross losses) and the P & L A/c shows Net
Profit or net loss. The Balance Sheet exhibits the list of assets (which indicate resources owned) and the
liabilities & owners' capital and equity (which shows how the resources are funded).

Illustration 14
Journalize the following transactions in the books of Gaurav, post them into ledger and prepare trial balance
for June 2013:
June 1: Gaurav started business with Rs. 10,00,000 of which 25% amount was borrowed from wife.
June 4: Purchased goods from Aniket worth Rs. 40,000 at 20% TD and 1/5th amount paid in cash.
June 7: Cash purchases Rs. 25,000.
June 10: Sold goods to Vishakha Rs. 30,000 at 30% TD and received 30% amount in cash.
June 12: Deposited cash into bank Rs. 20,000.
June 15: Uninsured goods destroyed by fire Rs. 5,500.
June 19: Received commission Rs. 3,500.
June 22: Paid to Aniket Rs. 25,500 in full settlement of A/c.
June 25: Cash stolen from cash box Rs. 1,000.
June 27: Received from Vishakha Rs. 14,500 and discount allowed Rs. 200.
June 30: Interest received Rs. 2,400 directly added in our bank account.

ACCOUNTING FOR DEPRECIATION

INTRODUCTION
Depreciation means gradual decrease in the value of an asset due to normal wear and tear,
obsolescence etc. In short, depreciation means the gradual diminution, loss or shrinkage in the utility value
of an asset due to wear and tear in use, effluxion of time or introduction of technology in the market.
“Depreciation accounting is a system of accounting which aims to distribute the cost or other basic
value of tangible capital assets, less salvage (if any), over the estimated useful life of the unit (which may be
a group of assets) in a systematic and rational manner.

CERTAIN USEFUL TERMS

Amortization - Intangible assets such as goodwill, trademarks and patents are written off over a number of
accounting periods covering their estimated useful lives. This periodic write off is known as
Amortization
Depletion - This method is specially suited to mines, oil wells, quarries, sandpits and similar assets of a
wasting character.
Obsolescence – The term ‘Obsolescence’ refers to loss of usefulness arising from such factors as
technological changes, improvement in production methods, change in market demand for the
product output of the asset or service or legal or medical or other restrictions.
Dilapidation - In one sentence Dilapidation means a state of deterioration due to old age or long use.

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NATURE OF DEPRECIATION
Depreciation is a term applicable in case of plant, building, equipment, machinery, furniture, fixtures,
vehicles, tools etc. These long-term or fixed assets have a limited useful life, i.e. they will provide
service to the entity (in the form of helping in the generation of revenue) over a limited number of
future accounting periods.

CAUSES OF DEPRECIATION

A. Internal Causes
(i) Wear and tear: Plant & machinery, furniture, motor vehicles etc. suffer from loss of utility due to
vibration, chemical reaction, negligent handling, rusting etc.
(ii) Depletion (or exhaustion) : The utility or resources of wasting assets (like mines etc.) decreases with
regular extractions.

B. External or Economic Causes

(i) Obsolescence: Innovation of better substitutes, change in market demand, and imposition of legal
restrictions may result into discarding an asset.
(ii) Inadequacy: Changes in the scale of production or volume of activities may lead to discarding an asset.

C. Time element: With the passage of time some intangible fixed assets like lease, patents. Copy-rights etc.,
lose their value or effectiveness, whether used or not. The word “amortization” is a better term to speak for
the gradual fall in their values.

D. Abnormal occurrences: An accident, fire or natural calamity can damage the service potential of an
asset partly or fully. As a result the effectiveness of the asset is affected and reduced.

OBJECTIVE OF AND NECESSITY FOR PROVIDING DEPRECIATION

(i) Correct calculation of cost of production: Depreciation is an allocated cost of a fixed asset. It
must be correctly included within the cost of production.
(ii) Correct calculation of profits
(iii) Correct disclosure of fixed assets at reasonable value
(iv) Provision of replacement cost
(v) Maintenance of capital

METHODS OF CHARGING DEPRECIATION

I. Fixed/Equal Installment OR Straight Line Method
(i) A fixed portion of the cost of a fixed asset is allocated and charged as periodic depreciation.
(ii) Such depreciation becomes an equal amount in each period.
II. Reducing / Diminishing Balance Method OR Written Down Value Method
(i) Depreciation is calculated at a fixed percentage on the original cost in the first year. But in
subsequent years it is calculated at the same percentage on the written down values gradually
reducing during the expected working life of the asset.
The rate of allocation is constant (usually a fixed percentage) but the amount allocated for every year
gradually decreases

Illustration: 15
Machine Cost of Expenses incurred at the time of Estimated Residual Expected Useful
No. Machine purchase to be capitalized Value Life in years
1 90,000 10,000 20,000 8
2 24,000 7,000 3,100 6
3 1,05,000 20,000 12,500 3
4 2,50,000 30,000 56,000 5

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Illustration 16
A machine is purchased for Rs. 7,00,000. Expenses incurred on its cartage and installation Rs. 3,00,000.
Calculate the amount of depreciation @ 20% p.a. according to Straight Line Method for the first year ending
on 31st March, 2014 if this machine is purchased on:
(a) 1st April, 2013
(b) 1st July, 2013
(c) 1st October, 2013
(d) 1st January, 2014

Illustration 17
On 1.1.2011 a machine was purchased for Rs. 1,00,000 and Rs. 50,000 was paid for installation. Assuming
that the rate of depreciation was 10% on Reducing Balance Method, calculate amount of depreciation upto
31.12.2013.

Illustration 18
On 1.1.11 machinery was purchased for Rs. 80,000. On 1.7.12 additions were made to the amount of Rs.
40,000. On 31.3.2013, machinery purchased on 1.7.2012, costing Rs. 12,000 was sold for Rs. 11,000 and on
30.06.2013 machinery purchased on 1.1.2014 costing Rs. 32,000 was sold for Rs. 26,700. On 1.10.2013,
additions were made to the amount of Rs. 20,000. Depreciation was provided at 10% p.a. on the Diminishing
Balance Method.
Show the Machinery Accounts for three years from 2011-2013. (year ended 31st December)

Illustration 19.
A machine is purchased for Rs.60,00,000, estimated life of which is 10 years residual value is Rs. 4,00,000.
Expected production of the machine is 2,00,000 during its useful life.
Production pattern is as follows:
Year Units
1-2 20,000 per year
3-6 15,000 per year
7-10 25,000 per year
Compute the amount of depreciation for each year applying Sum of the Units Method.

PROVISION FOR DEPRECIATION ACCOUNT

Provision of depreciation is the collected value of all depreciation. Provision of depreciation account
is the account of provision of depreciation. With making of this account we are not credited depreciation in
asset account, but transfer every year depreciation to provision of depreciation account. Every year we adopt
this procedure and when assets are sold we will transfer sold asset’s ‘total depreciation’ to credit side of
asset account, for calculating correct profit or loss on fixed asset. This provision uses with any method of
calculating depreciation.
The journal entries will be:
(i) For purchase of asset
Asset’s A/c Dr.
To Cash/Bank A/c

(ii) For providing depreciation at end of year

Depreciation A/c Dr.
To Provision for depreciation A/c

(iii) For sale of assets

Cash/Bank A/c Dr.
To Asset Sales A/c

(iv) Cost of assets sold transferred from Assets Account to Sale of Assets Account.
Assets Sales A/c Dr.
To Asset’s A/c.

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(v) Total depreciation on asset sold transferred from provision for depreciation account.
Provision for depreciation A/c Dr.
To Asset Sales A/c

(vi) Profit or loss on sale of assets will be transferred from asset sale account to Profit or Loss
Account.

DISPOSAL OF AN ASSET
When an asset is sold because of obsolescence or inadequacy or any other reason, the cost of the
asset is transferred to a separate account called “Asset Disposal Account”. The following entries are to be
made:
(i) When the cost of the asset is transferred:
Asset Disposal A/c Dr.
To, Asset A/c (original cost)

(ii) When depreciation provided on the asset is transferred:

Provision for Depreciation A/c Dr.
To, Asset Disposal A/c

(iii) For charging depreciation for the year of sale:

Depreciation A/c Dr.
To, Asset Disposal A/c

(iv) When cash received on sale of asset:

Bank/Cash A/c Dr.
To, Asset Disposal A/c

(v) When loss on disposal is transferred to Profit & Loss A/c:

Profit & Loss A/c Dr.
To, Asset Disposal A/c

(vi) When profit on disposal is transferred to Profit & Loss A/c:

Asset Disposal A/c Dr.
To, Profit & Loss A/c

PROFIT OR LOSS ON SALE OF ASSETS – METHOD OF DEPRECIATION CALCULATION

Accounting Treatment
a. Where no provision for depreciation account is maintained:
WDV of the amount sold will be transferred to ‘Assets Disposal Account’. The entries will be as
follows:

(i) WDV of asset has been transferred to Asset Disposal A/c

Asset Disposal A/c Dr.
To Asset A/c

(ii) In case of Sale of an Asset

Cash/Bank A/c Dr.
To Asset Disposal A/c

(iii) For depreciation (if any)

Depreciation (P & L A/c) Dr.
To Asset Disposal A/c

(iv) In case of Profit on Sale of Asset

Asset Disposal A/c Dr.
To Profit & Loss A/c
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(v) In case of Loss on Sale of Asset
Profit & Loss A/c Dr.
To Asset Disposal A/c

b. Alternative Approach
In this situation, all adjustments are to be prepared through the assets account. The entries are as follows:

(i) In case of Assets sold

Cash/Bank A/c Dr.
To Assets A/c
(ii) In case of Depreciation
Depreciation (Profit & Loss ) A/c Dr.
To Assets A/c

(iii) In case of Profit on Sale

Assets A/c Dr.
To Profit & Loss

(iv) In case of Loss on Sale

Profit & Loss A/c Dr.
To Assets A/c

Illustration 20
S & Co. purchased a machine for Rs. 1,00,000 on 1.1.2011. Another machine costing Rs. 1,50,000 was
purchased on 1.7.2012. On 31.12.2013, the machine purchased on 1.1.2011 was sold for Rs. 50,000. The
company provides depreciation at 15% on Straight Line Method. The company closes its accounts on 31 st
December every year. Prepare - (i) Machinery A/c, (ii) Machinery Disposal A/c and (iii) Provision for
Depreciation A/c.

Illustration 21
On 1st April, 2011, Som Ltd. purchased a machine for Rs. 66,000 and spent Rs. 5,000 on shipping and
forwarding charges, Rs. 7,000 as import duty, Rs. 1,000 for carriage and installation, Rs. 500 as brokerage
and Rs. 500 for an iron pad. It was estimated that the machine will have a scrap value of Rs. 5,000 at the end
of its useful life which is 15 years. On 1 st January, 2012 repairs and renewals of Rs. 3,000 were carried out.
On 1 st October, 2013 this machine was sold for Rs. 50,000. Prepare Machinery Account for the 3 years.

CHANGE OF METHOD - PROSPECTIVE AND RETROSPECTIVE

As per AS-6, the depreciation method selected should be applied consistently from period to period.
Change in depreciation method should be made only in the following situations:
(i) For compliance of statute.
(ii) For compliance of accounting standards.
(iii) For more appropriate presentation of the financial statement.
The change in method may be made possible in two ways:
(i) With prospective effect, and
(ii) With retrospective effect
(i) With prospective effect – Under this method, the change in method is to be taken into consideration for
the rest of the useful life of the asset commencing from the year in which such change is effected and not
from the beginning of the year.
(ii) With retrospective effect
Procedure to be followed in this case:
(i) Depreciation should be recalculated applying the new method from the date of its acquisition/
installation till the date of change of method.
(ii) Difference between the total depreciation under the new method and the accumulated
depreciation under previous method till the date of change may be surplus/ deficiency.
(iii) The said surplus is credited to Profit & Loss Account under the head “depreciation written
Back”.
(iv) Deficiency is charged to Profit & Loss Account.
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(v) The journal entries will be :
(a) If old value is less
Profit and Loss A/c. Dr.
To, Assets A/c.
(b) If old value is more
Asset A/c. Dr.
To, Profit and Loss A/c.
(vi) The above change of depreciation method should be treated as change in accounting policy and
its post effect should be disclosed and quantified.

Illustration 22
Ram Ltd. which depreciates its machinery at 10% p.a. on Diminishing Balance Method, had on 1st January,
2013 Rs. 9,72,000 on the debit side of Machinery Account.
During the year 2013 machinery purchased on 1st January, 2011 for Rs. 80,000 was sold for Rs.
45,000 on 1st July, 2013 and a new machinery at a cost of Rs. 1,50,000 was purchased and installed on the
same date, installation charges being Rs. 8,000.
The company wanted to change the method of depreciation from Diminishing Balance Method to
Straight Line Method with effect from 1st January, 2010. Difference of depreciation up to 31st December,
2013 to be adjusted. The rate of depreciation remains the same as before. Show Machinery Account.

Illustration 23
M/s. Hot and Cold commenced business on 01.07.2008. When they purchased a new machinery at a cost of
Rs. 8,00,000. On 01.01.2010 they purchased another machinery for Rs. 6,00,000 and again on 01.10.2012
machinery costing Rs. 15,00,000 was purchased. They adopted a method of charging depreciation @ 20%
p.a. on diminishing balance basis.
On 01.07.2012, they changed the method of providing depreciation and adopted the method of
writing off the Machinery Account at 15% p.a. under straight line method with retrospective effect from
01.07.2008, the adjustment being made in the accounts for the year ended 30.06.2013.
The depreciation has been charged on time basis. You are required to calculate the difference in depreciation
to be adjusted in the Machinery on 01.07.2012, and show the Machinery Account for the year ended
30.06.2013.
JOURNAL PROPER – OPENING ENTRIES, CLOSING ENTRIES, TRANSFER ENTRIES AND
RECTIFICATION ENTRIES
(i) Opening Entries: The purpose of passing this entry is to record the opening balances of the accounts
transferred from the previous year to the New Year. The accounts which are appearing on the assets side of
Balance Sheet are debited in the opening entry while which accounts are appearing in the liabilities side are
credited.
The entry can be given as:
All Asset A/cs Dr
To All Liabilities A/c
To Owners’ Capital A/cs

Illustration 24
Consider the following balances in the Balance Sheet as on 31st March 2013. Pass the opening entry on 1st
April 2013.
Subodh's Capital A/c 2,75,000
Loan from HDFC Bank 4,25,000
Plant and machinery 3,30,000
Cash in hand 20,000
Balance at Citi Bank 1,75,000
Trade Debtors 3,55,000
Closing Stock 1,35,000
Trade Payables 2,95,000
Outstanding Expenses 40,000
Prepaid Insurance 20,000

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(ii) Closing Entries: All the expenses and gains or income related nominal accounts must be closed at the
end of the year. In order to close them, they are transferred to either Trading A/c or Profit and Loss A/c.
Journal entries required for transferring them to such account is called a ‘closing entry’.
The Closing Entries are passed on the basis of trial balance for transferring the balances to Trading and
Profit and Loss A/c. These entries are mainly for:
a) For transferring purchases and direct expenses (goods related) to Trading A/c
Trading A/c Dr
To Opening stock A/c
To Purchases A/c
To Factory expenses A/c
To Freight & carriage inward A/c
b) For transferring sales and closing stocks
Sales A/c Dr
Closing Stock A/c Dr
To Trading A/c

c) For transferring gross profit or gross loss to P & L A/c

For Gross Profit
Trading A/c Dr
To P & L A/c
For Gross Loss
P & L A/c Dr
To Trading A/c

d) For transferring expenses

P & L A/c Dr
To Respective expense A/c

e) For transferring Incomes

Respective income A/cs Dr
To P & L A/c

f) For transferring Net profit or Net loss

For Net Profit
P & L A/c Dr
To Capital A/c
For Net Loss
Capital A/c Dr
To P & L A/c

(iii) Transfer Entries: When it is necessary for an amount or balance of one account to be transferred to
some other account, it is done by means of a transfer journal entry in the Journal Proper.
i.e. Transfer of Total Drawings A/c. to Capital A/c
Capital A/c Dr.
To, Drawings A/c
Illustration 25
Pass closing entries for the following particulars as on 31st March 2013 presented by X Ltd.
Particulars Amount
Opening stock 10,000
Purchases 50,000
Wages 5,000
Returns outward 5,000
Sales 1,00,000
Returns inward 10,000
Salaries 8,000
Insurance 1,000
Bad debts 3,000
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Interest received 3,000
Discount allowed 4,000
Discount received 3,000
Closing stock 15,000
(iv) Rectification Entries (Rectification of errors): These entries are passed when errors or mistakes are
discovered in accounting records. These entries are also known as Correction Entries. These entries are also
passed in Journal Proper. The types of errors and the ways to rectify them in the following table.
Type of error Rectification
a) Error of principle – entering revenue expense as A journal entry is passed to give correct effect.
capital expense or vice versa or entering revenue
receipt as capital receipt or vice versa.
b) Error of Omission – transaction forgotten to be Simply, the correct entry is passed.
entered in books of accounts.
c) Errors of commission – entering to wrong head of Debit or credit wrong A/c head and post it to correct
account. head.
d) Compensating errors – more than one error that Pass correcting entry
could compensate effect of each other.
e) Wrong totaling of subsidiary books As it affects T.B., pass through Suspense A/c
f) Posting on wrong side of an A/c Pass an entry with double effect – one to cancel
wrong side and other to give effect on correct side
g) Posting of wrong amount Pass entry with differential amount

Illustration 26
Rectify the following errors assuming that the errors were detected (a) Before the Preparation of Trial
Balance; (b) After the preparation of Trial Balance and (c) After the preparation of Final Accounts.
(i) Purchase Plant for Rs. 10,000 wrongly passed through Purchase Account.
(ii) Sales Day Book was cast short by Rs. 1,000.
(iii) Cash paid to Mr. X for Rs. 1,000 was posted to his account as Rs. 100.
(iv) Purchase goods from Mr. T for Rs. Rs. 3,500 was entered in the Purchase Day Book as Rs. 500.
(v) Paid salary for Rs. 3,000 wrongly passed through wages account.

Illustration 27
A merchant, while balancing his books of accounts notices that the T.B. did not tally. It showed excess credit
of Rs. 1,700. He placed the difference to Suspense A/c. Subsequently he noticed the following errors:
(a) Goods brought from Narayan for Rs. 5,000 were posted to the credit of Narayan's A/c as Rs. 5,500
(b) An item of Rs. 750 entered in Purchase Returns Book was posted to the credit of Pandey to whom the
goods had been returned.
(c) Sundry items of furniture sold for Rs. 26,000 were entered in the sales book.
(d) Discount of Rs. 300 from creditors had been duly entered in creditor's A/c but was not posted to discount
A/c. Pass necessary journal entries to rectify these errors. Also show the Suspense A/c.

Illustration 28
Pass necessary journal entries to rectify the following errors:
(a) An amount of Rs. 200 withdrawn by owner for personal use was debited to trade expenses.
(b) Purchase of goods of Rs. 300 from Nathan was wrongly entered in sales book.
(c) A credit sale of Rs. 100 to Santhanam was wrongly passed through purchase book.
(d) Rs. 150 received from Malhotra was credited to Mehrotra.
(e) Rs. 375 paid as salary to cashier Dhawan was debited to his personal A/c.
(f) A bill of Rs. 2,750 for extension of building was debited to building repairs A/c
(g) Goods of Rs. 500 returned by Akashdeep were taken into stock, but returns were not posted.
(h) Old furniture sold for Rs. 200 to Sethi was recorded in sales book.
(i) The period end total of sales book was under cast by Rs. 100.
(j) Amount of Rs. 80 received as interest was credited to commission.

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Illustration 29
Rectifying the following errors by way of journal entries and work out their effect on profit or loss of the
concern:
a. Return inward book was cast short by Rs. 500.
b. Rs. 300 received from Ram has been debited to Mr. Shyam.
c. Wages paid for the installation of a machine debited to wages account for Rs. 1,000.
d. A purchase made for Rs. 1,000 was posted to purchase account as Rs. 100.
e. Purchase of furniture amounting to Rs. 3,000 debited to purchase account.
f. Goods purchased for proprietor's use for Rs. 1,000 debited to purchase account.

Illustration 30
The books of M/s Shakti trading for the year ended 31st March 2013 were closed with a difference that was
posted to Suspense A/c. The following errors were found subsequently:
(a) Goods of Rs. 12,500 returned to Thick & Fast Corporation were recorded in Return Inward book as
Rs. 21,500 and from there it was posted to the debit of Thick & Fast Corporation.
(b) A credit sale of Rs. 7,600 was wrongly posted as Rs. 6,700 to customer's A/c in sales ledger.
(c) Closing stock was overstated by Rs. 5,000 being totaling error in the schedule of inventory.
(d) Rs. 8900 paid to Bala was posted to the debit of Sethu as Rs. 9,800.
(e) Goods purchased from Evan Traders for Rs. 3,250 was entered in sales book as Rs. 3,520.
(f) Rs. 1,500, being the total of discount column on the payment side of the cash book was not posted.
Rectify the errors and pass necessary entries giving effects to Suspense A/c and P & L Adjustment
A/c.

Illustration 31
You are presented with a trial balance of S Ltd as on 30.06.2013 showing the credit is in excess by Rs. 415
which was been carried to Suspense Account. On a close scrutiny of the books, the following errors were
revealed:
a. A cheque of Rs. 3,456 received from Sankar after allowing him a discount of Rs. 46 was endorsed to
Sharma in full settlement for Rs. 3,500. The cheque was finally dishonored but no entries are passed in the
books.
b. Goods of the value of Rs. 230 returned by Sen were entered in the Purchase Day Book and posted
therefrom to Das as Rs. 320.
c. Bad debts aggregating Rs. 505 written off during the year in the Sales Ledger but were not recorded in the
general ledger.
d. Bill for Rs. 750 received from Mukherjee for repairs to Machinery was entered in the Inward Invoice
Book as Rs. 650.
e. Goods worth Rs. 1,234 Purchased from Mr. Y on 28.6.2013 had been entered in Day Book and credited to
him but was not delivered till 5th June 2013. Stock being taken by the purchase on 30.06.2013. The title of
the goods was, however, passed on 28.06.2013.
f. Rs. 79 paid for freight on Machinery was debited to freight account as Rs. 97. You are required to pass the
necessary journal entries for correcting the books.

Illustration 32
The books of accounts of A Co. Ltd. for the year ending 31.3.2013 were closed with a difference of
Rs.21,510 in books carried forward. The following errors were detected subsequently:
(a) Return outward book was under cast by Rs. 100.
(b) Rs. 1,500 being the total of discount column on the credit side of the cash book was not posted.
(c) Rs. 6,000 being the cost of purchase of office furniture was debited to Purchase A/c.
(d) A credit sale of Rs. 760 was wrongly posted as Rs. 670 to the customers A/c. in the sales ledger.
(e) The Sales A/c was under casted by Rs. 10,000 being the carry over mistakes in the sales day book.
(f) Closing stock was over casted by Rs. 10,000 being casting error in the schedule or inventory. Pass
rectification entries in the next year.
Prepare suspense account and state effect of the errors in determination of net profit of last year.

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Illustration 33
The Trial Balance of a concern has agreed but the following mistakes were discovered after the preparation
of final Accounts.
(a) No adjustment entry was passed for an amount of Rs. 2,000 relating to outstanding rent.
(b) Purchase book was overcast by Rs. 1,000.
(c) Rs. 4,000 depreciation of Machinery has been omitted to be recorded in the book.
(d) Rs. 600 paid for purchase of stationary has been debited to Purchase A/c.
(e) Sales books was overcast by Rs. 1,000.
(f) Rs. 5,000 received in respect of Book Debt had been credited to Sales A/c. Show the effect of the above
errors in Profit and Loss Account & Balance Sheet.

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SOLUTIONS
Solution: 1
(a) Creditor, debtor
(b) Income, expenditure
(c) Owes
(d) Credit
(e) Longer period
(f) Short
(g) Drawings
(h) Capital
(i) Value
(j) Profit, loss
(k) Balance sheet
(l) Trade
(m) Capital, revenue
(n) Total assets, total liabilities

Solution: 2
(a) Transaction, (b) Credit transaction, (c) Goods, (d) Loss, (e) Assets, (f) Liability, (g) Contingent Liability,
(h) Cash Discount, (i) Intangible Asset.

Solution: 4
Effect of Transaction Account To be debited/Credited
(a) Increase in Cash Cash A/c Debit
Increase in Capital Capital A/c Credit
(b) Increase in Stock Purchase A/c Debit
Decrease in Cash Cash A/c Credit
(c) Increase in Cash Cash A/c Debit
Decrease in Stock Sale A/c Credit
(d) Increase in Expense Salary A/c Debit
Decrease in Cash Cash A/c Credit
(e) Increase in Cash Cash A/c Debit
Increase in Income Interest A/c Credit
(f) Increase in Stock Purchase A/c Debit
Increase in Liability Y A/c Credit
(g) Increase in Expense Rent A/c Debit
Increase in Capital Capital A/c Credit

Solution: 5
Step-I Step-II Step-III Step-IV
(a) Cash A/c Real Comes in Debit
Capital A/c Personal Giver Credit
(b) Purchase A/c Nominal Expenses Debit
Cash A/c Real Goes out Credit
(c) Cash A/c Real Comes in Debit
Sales A/c Nominal Incomes Credit
(d) Salary A/c Nominal Expenses Debit
Cash A/c Real Goes out Credit
(e) Cash A/c Real Comes in Debit
Interest A/c Nominal Incomes Credit
(f) Purchase A/c Nominal Personal Expenses Debit
Y' A/c Giver Credit
(g) Rent A/c Nominal Personal Expenses Debit
Capital A/c Giver Credit
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Solution: 6
Effect of transaction on Assets, Liabilities and Capital
Date Transaction Assets = Liabilities + Capital
January, 2013 1 Invested Capital in the firm, Rs. 20,000 20,000 - 20,000
2 Purchased goods on credit from Das & Co. Rs. +2,000 +2,000 -
2,000
Revised Equation 22,000 = 2,000 + 20,000
4 Bought Plant for cash Rs. 8,000 +8,000 - -
-8,000
Revised Equation 22,000 = 2,000 + 20,000
8 Purchased goods for cash Rs. 4,000 +4,000 - -
-4,000
Revised Equation 22,000 = 2,000 + 20,000
12 Sold Goods for cash (Cost Rs. 4,000 + Profit Rs. +6,000 +2,000
2,000) -4,000
Revised Equation 24,000 2,000 + 22,000
18 Paid to Das & Co. for Rs. 1,000 -1,000 -1,000
Revised Equation 23,000 = 1,000 + 22,000
22 Received from B.Banerjee for Rs. 300 +300 -300
Revised Equation 23,000 = 1,000 + 22,000
25 Paid salary for Rs. 6,000 - 6,000 -6,000
Revised Equation 17,000 = 1,000 + 16,000
30 Received Interest for Rs. 5,000 +5,000 +5,000
Revised Equation 22,000 = 1,000 + 21,000
31 Paid Wages for Rs.3,000 -3,000 -3,000
Revised Equation 19,000 = 1,000 + 18,000

Solution: 7
Statement of Income (Cash Basis)
For the year ended 31st December, 2013
Particulars Amount Amount
Fees received 60,000
Less :
Salary 8,000
Office Rent 14,000
Magazine & Journal 1,000
Travelling & Conveyance 3,000
Membership Fees 1,600
Office Expenses 10,000 37,600
Net Income 22,400

(ii) Mr. Anil Roy

Statement of Income (Accrual Basis)
For the year ended 31st December, 2013
Particulars Amount Amount
Fees received 60,000
Add: Accrued fees for 2012 7,000
67,000
Less: Fees for 2011 received in 2012 3,000 64,000
Less:
Salary 8,000
Office Rent 14,000
Add: Outstanding rent 2,000
16,000
Less: Rent for 2011 paid in 2012 4,000 12,000

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Magazine & Journal 1,000
Travelling & Conveyance 3,000
Membership Fees 1,600
Less: Advance fee paid for 2013 ( % x 1600) 800 800
Office Expenses 10,000 34,800
Net Income 29,200

Mr. nil Roy

Statement of Income (Mixed or Hybrid Basis)
For the year ended 31st December, 2013
Particulars Amount Amount Amount
Fees received 60,000
Less:
Salary 8,000
Office Rent 14,000
Add: Outstanding rent 2,000
16,000
Less: Fees for 2011 4,000 12,000
Magazine & Journal 1,000
Travelling & Conveyance 3,000
Membership Fees 1,600
Less: Advance 800 800
Office Expenses 10,000 34,800
Net Income 25,200

Solution: 8
(i) Carriage of Rs. 7,500 paid for machinery purchased and installed should be treated as a Capital
Expenditure.
(ii) Advertising expenses for launching a new product of the company should be treated as a
Revenue Expenditure. (As per AS-26)
(iii) Rs. 200 paid for servicing and oil change should be treated as a Revenue Expenditure.
(iv) Construction cost of basement should be treated as a Capital Expenditure.

Solution: 9
(i) Expenses incurred for extension of railway tracks in the factory area should be treated as a
Capital Expenditure because it will yield benefit for more than one accounting period.
(ii) Wages paid to machine operators should be treated as a Revenue Expenditure as it will yield
benefit for the current period only.
(iii) Installation costs of new production machine should be treated as a Capital Expenditure because
it will benefit the business for more than one accounting period.
(iv) Materials for extension to foremen's offices in the factory should be treated as a Capital
Expenditure because it will benefit the business for more than one accounting period.
(v) Rent paid for the factory should be treated as a Revenue Expenditure because it will benefit only
the current period.
(vi) Payment for computer time to operate a new stores control system should be treated as Revenue
Expenditure because it has been incurred to carry on the normal business.
(vii) Wages paid for building foremen's offices should be treated as a Capital Expenditure because it
will benefit the business for more than one accounting period.

Solution: 10
(i) Rs. 10,000 incurred in connection with obtaining a license for starting the factory is a Capital
Expenditure. It is incurred for acquiring a right to carry on business for a long period.
(ii) Rs. 1,000 incurred for removal of stock to a new site is treated as a Revenue Expenditure
because it is not enhancing the value of the asset and it is also required for starting the business
on the new site.

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Lesson – 1 Fundamentals Of Accounting
(iii) Rs. 5,000 incurred for changing Rings and Pistons of an engine is a Revenue Expenditure
because, the change of rings and piston will restore the efficiency of the engine only and it will
not add anything to the capacity of the engine.
(iv) Rs. 2,000 incurred for defending the title to the firm's assets is a Revenue Expenditure.
(v) Rs. 10,000 incurred on advertising is to be treated as a Revenue Expenditure. [As per As-26]
(vi) Cost of construction of Factory shed of Rs. 1,00,000 is a Capital Expenditure, similarly cost of
construction of small huts for storing building materials is also a Capital Expenditure.

Solution: 11
(i) The redecoration expenses of Rs. 6,000 shall be treated as a Revenue Expenditure.
(ii) The installation of a new Coffee - Making Machine is a Capital Expenditure because it is the
acquisition of an asset.
(iii) Rs 15,000 spent for the extension of club dressing room is a Capital Expenditure because it
creates an asset of a permanent nature.
(iv) The purchase of snacks & food stuff of Rs. 2,000 is a Revenue Expenditure.
(v) The purchase of V.C.R. and T.V. for Rs. 15,000 is a Capital Expenditure, because it is the
acquisition of assets.

Solution: 12
The entries for these transactions in a journal will look like:
In the Books of Vikash & Vaibhavi
Journal Entries
Journal Folio-1
Voucher Amount Amount
Date Particulars L.F
number (Rs.) (Rs.)
01-04-2013 Cash A/c Dr. 1 7,50,000
To Vikas's Capital A/c 2 5,00,000
To Vaibhavi's Capital A/c 3 2,50,000
(Being capital brought in by the partners)
10-04-2013 Furniture A/c Dr. 2013/F/3 4 25,000
To Cash A/c 1 25,000
(Being furniture purchased in cash)
11-04-2013 Punjab National Bank A/c Dr. 5 1,00,000
To Cash A/c 1 1,00,000
(Being current account opened with Punjab National
Bank by depositing cash)
15-04-2013 Rent A/c Dr. 3 6 15,000 15,000
To Punjab National Bank A/c 5
(being rent paid to Realtors Properties for the
month)
20-04-2013 Motor Car A/c Dr. M/13/7 7 4,50,000
To Punjab National Bank A/c 5 50,000
To Loan from HDFC Bank A/c 8 4,00,000
(Being car purchased from Millennium
Motors by paying down payment and loan
arrangement)
25-04-2013 Punjab National Bank A/c Dr. B13/4/1 5 2,50,000
Avon Pharmaceuticals A/c Dr. 9 7,50,000
To Consultancy Fees A/c 10 10,00,000
(Being amount received and revenue recognized for
fees charged)
30-04-2013 Salary A/c Dr. 11 15,000
To Salary payable A/c 12 15,000
(Being the entry to record salary obligation for the
month)

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Lesson – 1 Fundamentals Of Accounting
Solution: 13
Trial Balance of Mr. Sen
as on 31st March, 2013
Heads of Accounts Amount (Rs.) Heads of Accounts Amount (Rs.)
Adjusted Purchase 8,00,000 Capital 80,000
Petty Cash 10,000 Sales 10,00,000
Sales Ledger Balance 1,20,000 Current A/c 10,000
Salaries 24,000 Purchase Ledger Balance 60,000
Carriage Inward 4,000 Outstanding Expenses 10,000
Discount Allowed 10,000 Loan A/c 66,000
Building 80,000 Profit & Loss A/c(cr) 20,000
Prepaid Insurance 2,000 Bad Debts Recovered 2,000
Depreciation 4,000 Interest Received 10,000
Cash at Bank 80,000 Provision for Bad debts 6,000
Stock (31.03.2013) 1,20,000 General Reserve 20,000
Accrued Interest 4,000
Investment 20,000
Carriage outward 6,000
12,84,000 12,84,000
Note: Closing Stock will appear in Trial Balance since there is adjusted purchase.
Adjusted purchase = Opening Stock + Purchase - Closing Stock.
It may be noted that if only adjusted purchase is considered then the matching concept is affected. Hence, to
satisfy the matching concept, closing stock is also considered in Trial Balance.

Solution: 14
In the books of Gourav Journal Entries
Amount Amount
Date Particulars
(Rs.) (Rs.)
2013 1-Jun Cash A/c Dr. 10,00,000
To Capital A/c 7,50,000
To Loan from Wife A/c 2,50,000
(Being capital brought into business)
4-Jun Purchases A/c Dr. 32,000
To Cash A/c 6,400
To Aniket's A/c 25,600
(Being goods purchased at 20% TD & 1/5th amount paid in
cash)
7-Jun Purchases A/c Dr. 25,000
To Cash A/c 25,000
(Being cash purchases)
10-Jun Cash A/c Dr. 6,300
Vishakha's A/c Dr. 14,700
To Sales A/c 21,000
(Being goods sold at 30% TD & 30% amount received in cash)
12-Jun Bank A/c Dr. 20,000
To Cash A/c 20,000
(Being cash deposited in bank)
15-Jun Loss by Fire A/c Dr. 5,500
To Purchases A/c 5,500
(Being uninsured goods lost by fire)
19-Jun Cash A/c Dr. 3,500
To Commission A/c 3,500
(Being commission received)
22-Jun Aniket's A/c Dr. 25,600
To Cash A/c 25,500
To Discount A/c 100
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Lesson – 1 Fundamentals Of Accounting
(Being paid to Aniket in full settlement & discount received)
25-Jun Loss by Theft A/c Dr. 1,000
To Cash A/c 1,000
(Being cash stolen)
27-Jun Cash A/c Dr. 14,500
Discount A/c 200
To Vishakha's A/c 14,700
(Being amount received from Vishakha & discount allowed)
30-Jun Bank A/c 2,400
To Interest A/c 2,400
(Being interest received directly added into bank account)
1,150,700 1,150,700

Cash Account
Date Particulars Amount Date Particulars Amont
1/6/13 To Capital A/c 7,50,000 4/6/13 By PurchasesA/c 6,400
1/6/13 To Loan from Wife A/c 2,50,000 7/6/13 By Purchases A/c 25,000
10/6/13 To Sales A/c 6,300 12/6/13 By Bank A/c 20,000
19/6/13 To Commission A/c 3,500 22/6/13 By Aniket's A/c 25,500
27/6/13 To Vishakha's A/c 14,500 25/6/13 By Loss by Theft A/c 1,000
30/6/13 By Balance c/d 9,46,400
1/7/13 To Balance b/d 10,24,300 10,24,300
9,46,400

Capital Account
Date Particulars Amt. Date Particulars Amt.
30/6/13 To Balance c/d 7,50,000 1/6/13 By Cash A/c 7,50,000
7,50,000 7,50,000
1/7/13 By Balance b/d 7,50,000

Loan from Wife Account

Date Particulars Amount Date Particulars Amt.
30/6/13 To Balance c/d 2,50,000 1/6/13 By Cash A/c 2,50,000
2,50,000 2,50,000
1/7/13 By Balance b/d 2,50,000

Purchases Account
Date Particulars Amt. Date Particulars Amt.
4/6/13 To Cash A/c 6,400 15/6/13 By Loss by fire 5,500
4/6/13 To Aniket's A/c 25,600 30/6/13 By Balance c/d 51,500
7/6/13 To Cash A/c 25,000
1/7/13 To Balance b/d 57,000 57,000
51,500

Aniket's Account
Date Particulars Amt. Date Particulars Amt.
22/6/13 To Cash A/c 25,500 4/6/13 By Purchases A/c 25,600
22/6/13 To Discount A/c 100
25,600 25,600

Vishakha's Account
Date Particulars Amt. Date Particulars Amt.
10/6/13 To Sales A/c 14,700 27/6/13 By Cash A/c 14,500
27/6/13 By Discount A/c 200
14,700 14,700

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Lesson – 1 Fundamentals Of Accounting
Sales Account
Date Particulars Amt. Date Particulars Amt.
30/6/13 To Balance c/d 21,000 10/6/13 By Cash A/c 6,300
10/6/13 By Vishakha's A/c 14,700
21,000 21,000
1/7/13 By Balance b/d 21,000

Bank Account
Date Particulars Amt. Date Particulars Amt.
12/6/13 To Cash A/c 20,000 30/6/13 By Balance c/d 22,400
30/6/13 To Interest A/c 2,400
22,400 22,400
1/7/13 To Balance b/d 22,400

Loss by Fire Account

Date Particulars Amt. Date Particulars Amt.
15/6/13 To Purchases A/c 5,500 30/6/13 By Balance c/d 5,500
5,500 5,500
1/7/13 To Balance b/d 5,500

Commission Account
Date Particulars Amt. Date Particulars Amt.
30/6/13 To Balance c/d 3,500 19/6/13 By Cash A/c 3,500
3,500 3,500
1/7/13 By Balance b/d 3,500

Discount Account
Date Particulars Amt. Date Particulars Amt.
27/6/13 To Vishakha's A/c 200 22/6/13 By Aniket's A/c 100
30/6/13 By Balance c/d 100
200 200

Loss by Theft Account

Date Particulars Amt. Date Particulars Amt.
25/6/13 To Cash A/c 1,000 30/6/13 By Balance c/d 1,000
1,000 1,000
1/7/13 To Balance b/d 1,000

Interest Account
Date Particulars Amt. Date Particulars Amt.
30/6/13 To Balance c/d 2,400 30/6/13 By Bank A/c 2,400
2,400 2,400
1/7/13 By Balance b/d 2,400

Trial Balance as on 30.6.13

Name of Account (Rs.) (Rs.)
Cash A/c 9,46,400
Capital A/c 7,50,000
Loan from Wife A/c 2,50,000
Purchases A/c 51,500
Aniket's A/c
Vishakha's A/c
Sales A/c 21000
Bank A/c 22,400
Loss by Fire A/c 5,500

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Lesson – 1 Fundamentals Of Accounting
Commission A/c 3500
Discount A/c 100
Loss by Theft A/c 1,000
Interest A/c 2,400
Total 10,26,900 10,26,900

Solution: 15
Expenses incurred Total
Estimated Expected Rate of
Cost of at the time of Cost of Depreciation
Machine Residual Useful Depreciation
Machine purchase to be Asset = = (d-e)/f
No Value Life in under SLM
(Rs.) capitalize (b+c) (Rs.)
(Rs.) years = (g/d)x100
(Rs.) (Rs.)
a b c d e f g h
1 90,000 10,000 1,00,000 20,000 8 10,000 10%
2 24,000 7,000 31,000 3,100 6 4,650 15%
3 1,05,000 20,000 1,25,000 12,500 5 22,500 18%
4 2,50,000 30,000 2,80,000 56,000 10 22,400 8%

Solution: 16
Here, Total Cost of Asset = Purchased Price + Cost of Cartage and Installation
= Rs. 7,00,000 + Rs. 3,00,000 = Rs. 10,00,000
Amount of Depreciation:
= Total Cost of Asset x Rate of Depreciation x
(a) The machine was purchased on 1st April, 2013:
Amount of Depreciation = Rs. 10,00,000 x 20% x = Rs. 2,00,000
(b) 1st July, 2013
Amount of Depreciation = Rs. 10,00,000 x 20% x = Rs. 1,50,000
(c) 1st October, 2013
Amount of Depreciation = Rs. 10,00,000 x 20% x = Rs. 1,00,000
(d) 1st January, 2014
Amount of Depreciation = Rs. 10,00,000 x 20% x = Rs. 50,000

Solution: 17
Year Opening Book Value (Rs.) Rate Depreciation (Rs.) Closing Book Value (Rs.)
2011 1,50,000 10% 15,000 1,35,000
2012 1,35,000 10% 13,500 1,21,500
2013 1,21,500 10% 12,150 1,09,350
Note: Cost of the machine (i.e. Opening Book Value for the year 2011)
= Cost of Purchase + Cost of Installation
= Rs. 1,00,000 + Rs. 50,000 = Rs. 1,50,000

Solution: 18
Statement of Depreciation
Machines - III
Machines - I Cost Machines - II Cost Total
Date Particulars Cost = Rs.
= Rs. 80,000 = Rs. 40,000 Depreciation
20,000
Rs. Rs. Rs. Rs. Rs. Rs.
01.01.2011 Book Value 48,000 32,000
31.12.2011 Depreciation 4,800 3,200 8,000
01.01.2012 W.D.V. 43,200 28,800
01.07.2012 Purchase 28,000 12,000
31.12.2012 Depreciation 4,320 2,880 1,400 600 9,200
01.01.2013 W.D.V. 38,880 25,920 26,600 11,400

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Lesson – 1 Fundamentals Of Accounting
31.03.2013 Depreciation 285 285
W.D.V. 11,115
Sold For 11,000
Loss on sale 115
30.06.2013 Depreciation 1,296 1,296
W.D.V. 24,624
Sold For 26,700
Profit on Sale 2,076
01.10.2013 Purchase 20,000
31.12.2013 Depreciation 3,888 2,660 500 7,048
01.01.2014 W.D.V. 34,992 23,940 19,500

Machinery Account
Date Particulars Amount Date Particulars Amount
01.01.11 To, Bank A/c 80,000 31.12.11 By, Depreciation A/c 8,000
By Balance c/d 72,000
80,000 80,000
01.01.12 To, Balance b/d 72,000 31.12.12 By, Depreciation A/c 9,200
01.07.12 To Bank A/c 40,000 By Balance c/d 1,02,800
1,12,000 1,12,000
01.01.13 To, Balance b/d 1,02,800 31.3.13 By, Bank (Sale) A/c 11,000
30.06.13 To P & L A/c (Profit on Sale) 2,076 By Depreciation A/c 285
To Bank A/c 20,000 30.6.13 By P & L A/c (Loss on Sale) 115
By Bank A/c (Sale) 26,700
31.12.13 By Depreciation A/c 1,296
By Depreciation A/c 7,048
By Balance c/d 78,432
1,24,876 1,24,876

Solution: 19
Year Computation Depreciation (Rs.)
1-2 20,000 x (60,00,000-4,00,000) = 2,00,000 5,60,000
3-6 15,000 x (60,00,000-4,00,000) 2,00,000 4,20,000
7-10 25,000 x (60,00,000-4,00,000) 2,00,000 7,00,000

Solution: 20
S & Co.
Machinery Account
Date Particulars Amount Date Particulars Amount
1.1.2011 To, Bank A/c 1,00,000 31.12.2011 By, Balance c/d 1,00,000
1,00,000 1,00,000
1.1.2012 To, Balance b/d 1,00,000 31.12.2012 By, Balance c/d 2,50,000
1.7.2012 To, Bank A/c 1,50,000
2,50,000 2,50,000
1.1.2013 To, Balance b/d 2,50,000 31.12.2013 By, Machinery Disposal A/c 1,00,000
31.12.2013 By, Balance c/d 1,50,000
2,50,000 2,50,000
1.1.2014 To, Balance b/d 1,50,000

Provision for Depreciation Account

Date Particulars Amount Date Particulars Amount
31.12.2011 To, Balance c/d 15,000 31.12.2011 By, Depreciation A/c 15,000
15,000 15,000
31.12.2012 To, Balance c/d 41,250 1.1.2012 By, Balance b/d 15,000
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Lesson – 1 Fundamentals Of Accounting
31.12.2012 By, Depreciation A/c 26,250
(Rs. 15,000 + Rs. 11,250)
41,250 41,250
31.12.2013 To, Machinery Disposal 30,000 1.1.2013 By, Balance b/d 41,250
31.12.2013 A/c To, Balance c/d 33,750 31.12.2013 By, Depreciation A/c 22,500
63,750 63,750
1.1.2014 By, Balance b/d 33,750

Machinery Disposal Account

Date Particulars Amount Date Particulars Amount
31.12.2013 To, Machinery A/c 1,00,000 31.12.2013 By, Provision for Depreciation A/c 30,000
By, Depreciation A/c 15,000
By, Bank A/c 50,000
By, Profit & Loss A/c(Loss on Sale) 5,000
1,00,000 1,00,000

Solution: 21
In the books of Som Ltd.
Machinery Account
Date Particulars Amount Date Particulars Amount
01.04.2011 To, Bank A/c 66,000 31.03.2012 By, Depreciation A/c 5,000
To, Bank A/c 14,000 By, Balance c/d 75,000
80,000 80,000
01.04.2012 To, Balance b/d 75,000 31.03.2013 By, Depreciation A/c 5,000
By, Balance c/d 70,000
75,000 75,000
01.04.2013 To, Balance b/d 70,000 01.10.2013 By, Depreciation A/c 2,500
By, Bank A/c (sale) 50,000
By, Profit & Loss A/c (Loss) 17,500
70,000 70,000
Working Note:
1. Total Cost = Rs. 66,000 + Rs. 5,000 + Rs. 7,000 + Rs. 1,000 + Rs. 500 + Rs. 500 = Rs. 80,000

Depreciation = = = Rs. 5,000

st
The amount spent on repairs and renewals on 1 January, 2012 is of revenue nature and hence, does not
form part of the cost of asset.

Solution: 22
In the books of Ram Ltd.
Machinery Account
Date Particulars Amount Date Particulars Amount
01.01.13 To, Balance b/d 9,72,000 01.07.13 By, Depreciation A/c [W.N.3] 3,240
(9,07,200+64,800) 31.12.13 By, Bank A/c - Sale 45,000
01.07.13 To, Bank A/c 1,58,000 By, Loss on sale of Machine A/c [W.N.4] 16,560
(1,50,000 + 8,000) By, Depreciation A/c:
- For the year 2012 1,12,000
- For % year [1,58,000x10%x'/2] 7,900
By, Profit & Loss A/c :
Adjustment 11,200
By, Balance c/d :
- M1 (9,07,200 - 1,12,000 - 11,200) 7,84,000
- M2 Nil
- M3 (1,58,000 - 7,900) 1,50,100
11,30,000 11,30,000

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Lesson – 1 Fundamentals Of Accounting
Working Notes:
(1) At 10% depreciation on Diminishing Balance Method:
Rs.
If balance of machinery in the beginning of the year is 10
Depreciation for the year is 1
Balance of Machinery at the end of the year 2

By using the formula, balance of asset on 1 st January 2010 will be calculated as follows:
Rs.
st
Balance as on 1 January, 2013 9,72,000
Balance as on 1st January, 2012 is 9,72,000 x 10/9 = 10,80,000
Balance as on 1st January, 2011 is 10,80,000 x 10/9 = 12,00,000

This balance, Rs. 12,00,000 is composed of 2 machines, one of Rs. 11,20,000 and another of Rs. 80,000.
Rs.
Depreciation at 10% p.a. on Straight Line Method on Rs. 11,20,000 1,12,000
Total Depreciation for 2011 and 2012 (Rs. 1,12,000 x 2) 2,24,000
Total Depreciation charged for 2011 and 2012 on Diminishing Balance Method (1,12,000 + 2,12,800
1,00,800)
Balance to be charged in 2013 to change from Diminishing Balance Method to Straight Line 11,200
Method
(2) Machine purchased on 1st January, 2011 for Rs. 80,000 shows the balance of Rs. 64,800 on 1st January
2013 as follows:
Rs.
Purchase price 80,000
Less : Depreciation for 2011 8,000
72,000
Less : Depreciation for 2012 7,200
Balance as on Jan. 1, 2013 64,800
(3) On second machine (original purchase price Rs. 80,000), depreciation at 10% p.a. on Rs. 64,800 for 6
months, viz., Rs. 3,240 has been charged to the machine on July 1 2013 i.e., on date of sale.
(4) Loss on sale of (ii) machine has been computed as under:
Rs.
Balance of the machine as on 1.1.2013 64,800
Less : Depreciation for 6 months up to date of sale 3,240
Balance on date of sale 61,560
Less : Sale proceeds 45,000
Loss on sale 16,560

Solution: 23
In the books of M/s Hot and Cold
Machinery Account
Date Particulars Amount Date Particulars Amount
01.07.12 To, Balance b/d 6,73,280 30.6.13 By Depreciation A/c 3,78,750
01.10.12 To, Profit and Loss A/c 21,720 By Balance c/d 18,16,250
(Depreciation Overcharged)
To, Bank A/c (Purchase) 15,00,000
21,95,000 21,95,000
Workings:
1. Statement of Depreciation:
Date Particulars Machine - I Machine - II Total Depreciation
01.07.2008 Book Value 8,00,000
30.06.2009 Depreciation @ 20% 1,60,000 1,60,000
01.07.2009 W.D.V. 6,40,000
01.01.2010 Bank (Purchase) 6,00,000

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30.06.2010 Depreciation @ 20% 1,28,000 60,000 1,88,000
01.07.2010 W.D.V. 5,12,000 5,40,000
30.06.2011 Depreciation @ 20% 1,02,400 1,08,000 2,10,400
01.07.2011 W.D.V. 4,09,600 4,32,000
30.06.2012 Depreciation @ 20% 81,920 86,400 1,68,320
01.07.2012 W.D.V. 3,27,680 3,45,600
6,73,280 7,26,720

2. Depreciation Overcharged:
Now depreciation under Straight Line Method
On Rs. 8,00,000 @ 15% = Rs. 1,20,000 x 4 years (from 01.07.2008 to 30.06.2012) Rs. 4,80,000
On Rs. 6,00,000 @ 15% = Rs. 90,000 x 2.5 years (from 01.01.2010 to 30.06.2012) Rs. 2,25,000
Rs. 7,05,000

Depreciation overcharged = Reducing Balance Basis - Straight Line Basis

= Rs. (7,26,720 - 7,05,000)
= Rs. 21,720

3. Depreciation for the year:

On Rs. 14,00,000 @ 15% for the year Rs. 2,10,000
On Rs. 15,00,000 @ 15% for the 9 months Rs. 1,68,750
Rs. 3,78,750

Solution: 24
The opening entry will be as follows:
Plant and machinery A/c Dr. 3,30,000
Cash in hand A/c Dr. 20,000
Balance at Citi Bank A/c Dr. 1,75,000
Trade Debtors A/c Dr. 3,55,000
Closing Stock A/c Dr. 1,35,000
Prepaid Insurance Dr. 20,000
To Subodh's Capital A/c 2,75,000
To Loan from HDFC Bank A/c 4,25,000
To Trade Payables A/c 2,95,000
To Outstanding Expenses A/c 40,000

Solution: 25
In the Books of X Ltd.
Journal
Dr. Cr.
Date Particulars Amount Amount
2013 Trading A/c Dr. 75,000
31st To, Opening Stock A/c 10,000
March To, Purchases A/c 50,000
To, Wages A/c 5,000
To, Returns inward A/c 10,000
(Transfer to balances for closing the latter accounts)
Sales A/c Dr. 1,00,000
Returns outward A/c Dr. 5,000
Closing Stock A/c Dr. 15,000
To, Trading A/c 1,20,000
(Transfer of balances for closing the former accounts)
Trading A/c Dr. 45,000
To, Profit and Loss A/c 45,000
(Gross profit transferred)

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 Lesson – 1 Fundamentals Of Accounting
Profit and Loss A/c Dr. 16,000
To, Salaries A/c 8,000
To, Insurance A/c 1,000
To, Bad Debts A/c 3,000
To, Discount allowed A/c 4,000
(Transfer of balances for closing the latter accounts)
Interest received A/c Dr. 3,000
Discount received A/c Dr. 3,000
To, Profit and Loss A/c 6,000
(Transfer of balances for closing the former accounts)
Profit and Loss A/c Dr. 35,000
To, Capital A/c 35,000
(Net profit transferred to Capital A/c)

Solution: 26
In the Books of.........................
Journal (without narration)
Before preparation of Trial After preparation of Trial After preparation of Final
Date
Balance Balance Accounts
(i) Plant A/c Dr. 10,000 Plant A/c Dr. 10,000 Plant A/c Dr. 10,000
To Purchase A/c 10,000 To Purchase A/c. 10,000 To P&L Adjustment A/c 10,000
(ii) Sales account will be credited Suspense A/c Dr. 1,000 Suspense A/c Dr. 1,000
with Rs. 1,000 To Sales A/c 1,000 To P&L Adjustment A/c 1,000
(iii) X Account will be debited when X A/c Dr. 900 X A/c Dr. 900
Rs. 900 To Suspense A/c 900 To Suspense A/c 900
(iv) Purchase A/c Dr. 3,000 Purchase A/c Dr. 3,000 P&L Adjustment A/c Dr. 3,000
To T A/c 3,000 To T A/c 3,000 To T's A/c. 3,000
(v) Salary A/c Dr. 3,000 Salary A/c Dr. 3,000 P&L Adjustment A/c. Dr. 3,000
To Wages A/c 3,000 To wages A/c 3,000 To P&L Adjustment A/c 3,000

Solution: 27
(a) Goods bought from Narayan are posted to credit of his A/c as Rs. 5,500 instead of Rs. 5,000. Here, it is
correct to credit Narayan's A/c. But the mistake is extra credit of Rs. 500. This is one sided error, as posting
to purchases A/c is correctly made. So the rectification entry will affect the suspense A/c. This needs to be
reversed by the rectification entry:
Narayan's A/c Dr. 500
To Suspense A/c 500
(b) Goods bought from Pandey were returned back to him. It should have appeared on the debit side of his
A/c. For rectifying we will need to debit his A/c with double the amount i.e. Rs. 1500 (Rs. 750 to cancel the
wrong credit and another Rs. 750 to give effect for correct debit) and the effect will go to Suspense A/c. The
correction entry is:
Pandey A/c Dr. 1,500
To Suspense A/c 1,500
(c) Sale of furniture was recorded in sales book. What's wrong here?. Remember that sales book records sale
of goods only and nothing else. Sale of furniture will appear in either cash book (if sold for cash) or journal
proper (if sold on credit). Hence, wrong credit to Sales A/c must be removed and credit should be given to
Furniture A/c. It's important to note that this rectification entry will not affect the Suspense A/c. The
correction entry is:
Sales A/c Dr 26,000
To Furniture A/c 26,000
(d) The discount received from creditor is not entered in discount A/c but was correctly recorded in creditors'
A/c. This is one sided error and will therefore be routed through suspense for correction. A discount is
received; it must be credited being an income.
Suspense A/c Dr 300
To Discount received A/c 300
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Let us now see how suspense A/c will Look like. Excess credit of X 1,700 in Trial Balance will be shown on
the debit side of suspense A/c. This will bring in total debit equal to total credit.
Suspense Account
Date Particulars Amount Date Particulars Amount
To Balance b/d 1,700 By Narayan 500
To Discount received 300 By Pandey 1,500
2,000 2,000
Please observe that after correcting passing all rectification entries, the Suspense A/c tallies automatically.

Solution: 28
Sl No. Particulars Debit Credit
(a) Wrong Entry Trade Expenses Dr 200
To Cash 200
Correct entry Drawings Dr 200
To cash 200
Rectification entry Drawings Dr 200
To Trade Expenses 200
(b) Wrong Entry Nathan Dr 300
To Sales 300
Correct entry Purchases Dr 300
To Nathan 300
Rectification entry Purchases Dr 300
Sales Dr 300
To Nathan 600
(c) Wrong Entry Purchases Dr 100 100
To Santhanam
Correct entry Santhanam Dr 100 100
To Sales
Rectification entry Santhanam Dr 200
To Sales 100
To Purchases 100
(d) Wrong Entry Cash Dr 150
To Mehrotra 150
Correct entry Cash Dr 150
To Malhotra 150
Rectification entry Mehrotra Dr 150
To Malhotra 150
(e) Wrong Entry Dhawan Dr 375
To cash 375
Correct entry Salary Dr 375
To cash 375
Rectification entry Salary Dr 375
To Dhawan 375
(f) Wrong Entry Building Repairs Dr 2,750
To Cash 2,750
Correct entry Buildings Dr 2,750
To Cash 2,750
Rectification entry Buildings Dr 2,750
To Building Repairs 2,750
(g) Wrong Entry No entry passed
Correct entry Sales Returns Dr 500
To Akashdeep 500
Rectification entry Sales Returns Dr 500
To Asashdeep 500
(h) Wrong Entry Sethi Dr 200
To Sales 200
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Correct entry Sethi Dr 200
To Furniture 200
Rectification entry Sales Dr 200
To Furniture 200
(i) Wrong Entry No entry passed
Correct entry Suspense Dr 100
To Sales 100
Rectification entry Suspense Dr 100
To Sales 100
(j) Wrong Entry Cash Dr 80
To Commission 80
Correct entry Cash Dr 80
To Interest 80
Rectification entry Commission Dr 80
To Interest 80

Solution: 29
In the Books of............
Journal
Date Particulars Amount Amount
(a) Return Inward A/c Dr. 500
To,Suspense A/c 500
(Return Inward Book was cast short, now rectified.)
(b) Suspense A/c Dr. 600
To, Ram A/c 300
To Shyam A/c 300
(Received from Mr. Ram has been debited to Mr. Shyam A/c, now
rectified.)
(c) Machinery A/c Dr. 1,000
To, Wages/c 1,000
(Wages paid for maintenance of machinery debited to Wages A/c, now
rectified.)
(d) Purchase A/c Dr. 900
To,Suspense A/c 900
(Purchase account was short by Rs. 900, now rectified.)
(e) Furniture A/c Dr. 3,000
To, Purchase A/c 3,000
(Furniture purchased wrongly debited to purchase account, now
rectified)
(f) Drawings A/c Dr. 1,000
To, Purchase A/c 1,000
(Goods purchased for proprietor's use, debited to purchase account, now
rectified.)

Effect on Profit
Items Particulars Increase Decrease
(a) Decrease in Profit 500
(b) No Effect in Profit - -
(c) Increase in Profit 1,000 -
(d) Decrease in Profit 900
(e) Increase in Profit 3,000 -
(f) Increase in Profit 1,000 -
Total 5,000 1,400
Increase in Profit - 3,600
5,000 5,000

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Solution: 30
(a) There are 2 errors: one - return outward is wrongly recorded as return inward and two - amount is also
recorded wrongly. First, we need to remove extra debit to Thick & Fast corporation i.e. Rs. 9,000 (21,500-
12,500) by crediting it. Also we need to remove wrong credit of Rs. 21,500 in sales return by debiting it and
credit Rs. 12,500 to Purchase returns A/c.
The rectification entry will be:
Suspense A/c Dr. 21,500
To Thick & Fast Corp 9,000
To P & L Adjustment A/c 12,500
(b) In this case, error has occurred only in customer's A/c. hence, profit or loss won't be affected and the P &
L Adjustment A/c will not be in picture. As customer's A/c is debited for Rs. 6,700 instead of Rs. 7,600, it
needs to be corrected.
The rectification entry will be:
Sundry Debtors A/c Dr. 900
To Suspense A/c 900

(c) Over casting of closing stock had affected profit which must be reduced through P & L Adjustment A/c.
The rectification entry is:
P & L Adjustment A/c Dr. 5,000
To Suspense A/c 5,000

(d) As only personal accounts are affected, there won't be an effect on Profits. So rectification will be done
through Suspense A/c only. The rectification entry is:
Bala A/c Dr. 8,900
Suspense A/c Dr. 900
To Sethu A/c 9,800
(e) This transaction involves correction of purchase as well as sales, and hence will affect profit. As the
purchases were booked as sales, we will need to cancel sales by debiting and freshly debit purchase. So
overall effect on profit will be 3,250 + 3,520 i.e. 6,770. The rectification entry will be:
P & L Adjustment A/c Dr. 6,770
To Evan Traders 6,770

(f) If discount is appearing on payment side of cash book, it indicates discount received while making
payment and is an item of income. Hence, it will affect profit. The accounting entry will be:
Suspense A/c Dr. 1,500
To P & L Adjustment A/c 1,500

Solution: 31
In the books of S Ltd. Journal
Date Particulars Amount Amount
(a) Sankar A/c Dr. 3,502
Discount Received A/c Dr. 44
To, Sharma A/c 3500
To Discount Allowed A/c 46
(Cheque received from Sankar was endorsed to Sharma after allowing
discount Rs.46 , it was dishonored, now rectified)
(b) Return Inward A/c Dr. 230
Das A/c Dr. 320
To, Purchase A/c 230
To, Sen A/c 230
To Suspense A/c 90
(Goods returned by sen for Rs. 230 wrongly recorded in Purchase Day
Book as an credit to Das as Rs. 320, now rectified.)
(c) Bad debts A/c Dr. 505
To Suspense A/c 505
(Bad debts written off but not recorded, now rectified)

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(d) Repairs A/c Dr. 750
To, Purchase A/c 650
To, Mukherjee A/c 100
(Repairs of machinery for Rs. 750, wrongly recorded as Rs. 650 on
Purchase A/c, now rectified.)
(e) Goods- in- Transit A/c Dr. 1,234
To Trading A/c 1,234
(Goods were in Transit which were not considered, now rectified)
(f) Machinery A/c Dr 79
Suspense A/c 18
To Freight A/c 97
(amount paid for freight on machinery was wrongly debited to freight
account, now rectified)

Solution: 32
In the Books of A Co. Ltd.
Journal
Dr. Cr.
Date Particulars Amount Amount
(a) 2013 Suspense A/c Dr. 100
April 1 To Profit & Loss Adjustment A/c
(Returns outward book was under cast now rectified). 100
(b) Suspense A/c Dr. 1,500
To Profit & Loss Adjustment A/c 1,500
(Discount received was not recorded, now rectified).
(c) Office Furniture A/c Dr. 6,000
To Profit & Loss Adjustment A/c 6,000
(Office furniture purchased wrongly debited to Purchase A/c, now
rectified.)
(d) Debtors' A/c Dr. 90
To Suspense A/c 90
(Debtors account was posted Rs. 670 in place of Rs. 760, now
rectified.)
(e) Suspense A/c Dr. 10,000
To Profit & Loss Adjustment A/c 10,000
(Sales account was under casted, now rectified)
(f) Profit & Loss Adjustment A/c Dr. 10,000
To Closing Stock A/c 10,000
(Closing Stock was overcastted, now rectified.)

Suspense Account
Amount Amount
Date Particulars Date Particulars
(Rs.) (Rs.)
2013 To Profit & Loss Adjustment A/c 100 2013 By Difference in Trial Balance 21,510
April To Profit & Loss Adjustment A/c 1,500 April By Debtors A/c. 90
1 To Profit & Loss Adjustment A/c 10,000 1
To Profit & Loss Adjustment A/c 10,000
21,600 21,600

Effect on Profit
Increase Decrease
(+) (-)
Item (a)...................................... - 100
(b)...................................... - 1,500
(c)...................................... - 6,000

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Lesson – 1 Fundamentals Of Accounting
(d) No effect - -
e)...................................... - 10,000
(f)...................................... 10,000 -
10,000 17,600
Profit will be decreased by 7,600 -
17,600 17,600

Solution: 33
Effects of the errors in profit and loss A/c and Balance Sheet
Profit & Loss A/c. Balance Sheet
(a) Profit was overstated by Rs. 2,000 (a) Capital was also overstated by Rs. 2,000 &
outstanding Liability was understated by 2,000.
(b) Gross profit was under stated by Rs. 1,000 & also (b) Capital was understated by Rs. 1,000.
the Net Profit.
(c) Net Profit was overstated by Rs. 4,000. (c) Machinery was overstated by Rs. 4,000 & so the
Capital A/c was also overstated by Rs. 4,000.
(d) No effect on Net Profit. (d) No effect in Balance Sheet.
(e) Gross Profit and Net Profit were overstated by (e) Capital was overstated by Rs. 1,000.
Rs. 1,000.
(f) Gross Profit & Net Profit were overstated by Rs. (f) Capital & Sundry Debtors were overstated by Rs.
5,000. 5,000.
Adjusting Entry
Adjusting Entries are passed in the journal to bring into the books of accounts certain unrecorded items like
closing stock, depreciation on fixed assets, etc. These are needed at the time of preparing the final accounts.
E.g. Depreciation A/c Dr.
To, Fixed Assets A/c

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SELF EXAMINATION QUESTIONS

1. The following account has a credit balance
(A) Plant and Equipment A/c (B) Purchase Returns A/c
(C) Purchase A/c (D) None of the above
2. The concept that business is assumed to exist for an indefinite period and is not established with the
objective of closing down is referred to as
(A) Money Measurement concept (B) Going Concern concept
(C) Full Disclosure concept (D) Dual Aspect concept
3. The outflow of funds to acquire an asset that will benefit the business for more than one accounting period
is referred to as
(A) Miscellaneous Expenditure (B) Revenue Expenditure
(C) Capital Expenditure (D) Deferred Revenue Expenditure
4. Which of the following purpose is served from the preparation of Trial Balance?
(A) To check the arithmetical accuracy of the recorded transactions
(B) To ascertain the balance of any ledger account
(C) To facilitate the preparation of final accounts promptly
(D) All of the above.
5. An amount spent for replacement of worn out part of machine is
(A) Capital Expenditure (B) Revenue Expenditure
(C) Deferred revenue (D) Capital Loss
6. Sukku Limited purchased a machine on 1st July, 2013 for Rs. 8,90,000 and freight and transit insurance
premium paid Rs. 25,000 and Rs. 15,000 respectively. Installation expenses were Rs. 40,000 and salvage
value after 5 year will be Rs. 50,000. Under straight line method for the year ended 31st March, 2014 the
amount of depreciation will be
(A) Rs. 1,35,750 (B) Rs. 1,81,000
(C) Rs. 1,84,000 (D) Rs. 1,38,000
7. Purchase Cost of machinery Rs. 7,20,000; Carriage inwards Rs. 15,000; Transit insurance Rs. 8,000;
Establishment Charges Rs. 25,000; Workshop Rent Rs. 25,000; Salvage value Rs. 50,000 and estimated
working life 8 years. On the basis of straight line method the amount of depreciation for third year will be
(A) Rs. 96,000 (B) Rs. 89,750
(C) Rs. 88,750 (D) Rs. 91,875

(8) The cost of a Fixed Assets of a business has to be written off over its
(A) Natural Life (B) Accounting Life
(C) Physical Life (D) Estimated Economic Life
Answer:

1 (B) 2. (B) 3. (C) 4. (D) 5. (B) 6. (D) 7. (B) 8. (D)

State whether the following statement is True (or) False:

1. Original cost minus scrap value is the depreciable value of asset.
2. Compensation paid to employees who are retrenched is Revenue expenditure.
3. The useful life of a depreciable asset is the period over which the asset is expected to be used by the
enterprise, which is generally greater than the physical life.
4. After the transactions are posted to various ledger accounts (either from journal or from subsidiary books),
they are balanced while preparing Trial Balance for an enterprise. (added,)
5. Depreciation is charge against profit.
6. One of the objectives achieved by providing depreciation is saving cash resources for future replacement
of assets.
7. As per concept of conservatism, the Accountant should provide for all possible losses but should not
anticipate profit.
8. Wages incurred by departmental workers of a factory in installing a new machinery is a revenue
expenditure.
9. As per the going concern concept, the enterprise should continue to exist in the foreseeable future.
10. Trial balance would not disclose error of omission.

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11. Purchase of a technical know-how is revenue expenditure
12. Inauguration expenses on opening of a new Branch of an existing business will be revenue expenditure.
13. Every debit must have its corresponding and equal................(benefit, credit)

QUESTIONS:
1. State whether the following items are in the nature of Capital, Revenue and/or Deferred Revenue
Expenditure.
(i) Expenditure on special advertising campaign Rs 66,000; suppose the advantage will be received
for six years.
(ii) An amount of Rs 8,000 spent as legal charges for abuse of Trade Mark.
(iii) Legal charges of Rs 15,000 incurred for raising loan.
(iv) Share issue expenses Rs 5,000.
(v) Freight charges on a new machine Rs 1,500 and erection charges Rs 1,800 for that machine.
Answer:
(i) Revenue expenditure Rs 66,000.
(ii) Revenue expenditure Rs 8,000.
(iii) Capital expenditure Rs 15,000.
(iv) Capital expenditure Rs 5,000.
(v) Capital expenditure = Rs 1,500 + Rs 1,800 = Rs 3,300.

2. Classify the following Accounts into Personal, Real and Nominal Accounts. Also state whether it is
recorded as asset, liability, expenses/loss or revenue:
(i) Returns Inward Account
(ii) Bad Debt Recovered Account
(iii) Interest On Investment Account
(iv) Outstanding Rent Account and
(v) Capital Work-in-Progress Account

Answer:
(i) Nominal, Revenue
(ii) Nominal, Revenue
(iii) Nominal, Revenue
(iv) Personal, Liability
(v) Real, Asset

3. Classify the following under personal, real and nominal accounts.

(i) Patent Rights (vi) Advertisement
(ii) Outstanding Rent (vii) Export duty
(iii) Drawings (viii) Securities and Shares
(iv) Live Stock (ix) Suspense
(v) Bank Overdraft (x) Work-in-progress
Answer:
Personal Account (ii) Outstanding Rent
(iii) Drawings
(v) Bank Overdraft
Real Account (i) Patent Rights
(iv) Live Stock
(viii) Securities and Shares
(x) Work-in-progress
Nominal Account (vi) Advertisement
(vii) Export duty
(ix) Suspense

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Lesson – 1 Fundamentals Of Accounting
4. Mr. X is owner of a Cinema Hall. He spent a heavy amount for complete renovations of the hall, for
installation of air-condition machines and for sitting arrangement with cushion seats. As a result the
revenue has been doubled. He also spent for few more doors for emergency exit. State your opinion
amount the treatment of the entire expenditure.
Answer:
The size of the expenditure is not the criteria to decide whether subsequent expenditure should be
capitalized. The important question is whether the expenditure increases the future benefits from the asset
beyond its pre-assessed standard of performance as per AS-10. Only then it should capitalized.
In the instant case, the first part f expenditure i.e., Renovation etc., Renovation etc. should be capitalized
because it has enhanced the revenue earning capacity of the hall. The second part of expenditure for making
more emergency exists does not enhance the revenue of the asset. So it should be charged to revenue.

5. Mr. Agarwal could not agree the Trial Balance. He transferred to the Suspense Account of Rs 296,
being excess of the debit side total. The following errors were subsequently discovered.
(i) Sales Day Book was overcast by Rs 300
(ii) An amount of Rs 55, received from Mr. Y was posted to his account as Rs 550
(iii) Purchases Return Book total on a folio was carried forward as Rs 221, instead of Rs 112
(v) A car sale of Rs 1,235 duly entered in the Cash Book but posted to Sales A/c as Rs 235
(vi) Rest of the difference was due to wrong total in Salaries A/c. Show the Journal entries to rectify
the above errors.
Answer:
Amount Amount
Date Particulars
(Rs) (Rs)
(i) Sales A/c Dr. 300
To, Suspense A/c 300
(Being Sales Book overcast by now rectified)
(ii) Y A/c Dr. 495
To Suspense a/c 495
(Being amount received from Mr. Agarwal for Rs 55 wrongly recorded as
Rs 550 now rectified.
(iii) Returns Outward A/c Dr. 109
To,Suspense A/c 109
(Being the total of purchases returns book was carried forward as Rs 221,
instead of Rs 112 now rectified)
(iv) Suspense A/c Dr. 1,000
Sales A/c Dr. 235
To, Car A/c / Sale of Asset A/c 1,235
(Being cash sales being Rs 1,235 recorded only Rs 235 as Sales A/c now
rectified)
(v) Suspense A/c Dr. 200
To, Salaries A/c 200
(Being Salary A/c was overcast by Rs 200 now rectified)

6. Shyama Limited purchased a second-hand plant for Rs 7,50,000 on 1st July, 2011 and immediately
spent Rs 2,50,000 in overhauling. On 1st January, 2012 an additional machinery at a cost of Rs
6,50,000 was purchased. On 1st October, 2013 the plant purchased on 1st July, 2011 became obsolete
and it was sold for Rs 2,50,000. On that date a new machinery was purchased at a cost of Rs 15,00,000.
Depreciation was provided @ 15% per annum on diminishing balance method. Books are closed on
31st March in every year.
You are required to prepared Plant and Machinery Account upto 31st March, 2014.

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Answer:
Books of Shyama Limited
Plant & Machinery Account
Date Particulars Rs Date Particulars Rs
1.7.11 To Bank A/c (7,50,000 + 10,00,000 31.3.12 By Depreciation A/c 1,36,875
2,50,000)
1.1.12 To Bank A/c 6,50,000 31.3.12 By Balance c/d 15,13,125
16,50,000 16,50,000
1.4.12 To Balance b/d 15,13,125 31.3.13 By Depreciation @ 15% on Rs 2,26,969
15,13,125
By Balance c/d 12,86,156
15,13,125 15,13,125
1.4.13 To Balance b/d 12,86,156 By Bank A/c (Sale) 2,50,000
1.10.13 To Bank A/c 15,00,000 By P&L A/c (Loss on Sale) 4,47,797
By Depreciation A/c 2,48,845
By Balance c/d 18,39,514
27,86,156 27,86,156
Working Notes:
Written down value of Machinery which is purchased on 01.07.2011.
Particulars Rs.
On 01.07.2011 10,00,000
Less: Depreciation for 2011 - 12 of 9 months (10,00,000 x 15% x 9/12) 1,12,500
W.D.V. for 2012-13 8,87,500
Less: Depreciation for 2012-13 1,33,125
W.D.V. for 2013-14 7,54,375
Less: Depreciation for 6 months on (7,54,375 x 15% x 6/i2) 56,578
W.D.V. 6,97,797
Less: Selling Price 2,50,000
Less: On Sale of Machinery 4,47,797
Total Depreciation
(a) Machinery Purchased on 01.01.2012
Particulars Rs.
On 01.01.2012 6,50,000
Less: Depreciation for 3 months of 2011 - 12 24,375
W.D.V. 6,25,625
Less: Depreciation for 2012-13 (6,25,625 x 15%) 93,844
W.D.V. 5,31,781
Less: Depreciation for 2013-14 79,767
W.D.V. 4,52,014
(b)
Particulars Rs.
Machinery Purchased on 01.01.2013 15,00,000
Less: Depreciation for 6 months (15,00,000 x 15% x 6/12) 1,12,500
13,87,500
.-. Total Depreciation Rs. (1,12,500 + 79,767 + 56,578) = Rs. 2,48,845.

7. On 31st December, 2011 two machines which were purchased on 1.10.2008 costing Rs. 50,000 and
Rs. 20,000 respectively had to be discarded and replaced by two new machines costing Rs. 50,000 and
Rs. 25,000 respectively.
One of the discarded machine was sold for Rs. 20,000 and other for Rs. 10,000. The balance of
Machinery Account on April 1, 2011 was Rs. 3,00,000 against which the depreciation provision stood
at Rs. 1,50,000. Depreciation was provided @ 10% on Reducing Balance Method.
Prepare the Machinery Account, Provision for Depreciation Account and Machinery Disposal
Account.

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Lesson – 1 Fundamentals Of Accounting
Answer:
Machinery Account
Date Particulars Rs. Date Particulars Rs.
1.4.11 To Balance b/d 3,00,000 31.12.11 By Machine Disposal A/c 70,000
To Bank A/c 75,000 31-3.12 By Balance c/d 3,25,000
3,75,000 3,75,000

Provision for Depreciation Account

Date Particulars Rs. Date Particulars Rs.
1.4.11 To Machine Disposal A/c (16,135 + 4,040) 20,175 1.4.11 By Balance b/d 1,50,000
31.3.12 To Balance c/d 1,41,314 31.3.12 By P/L A/c 11,489
1,61,489 1,61,489

Machine Disposal Account

Date Particulars Rs. Date Particulars Rs.
1.4.11 To Machine A/c 70,000 31.12.11 By Provision for Depreciation A/c 16,135
By Provision for Depreciation (on two machine for 9 4,040
months)
By Bank A/c 30,000
By P/L A/c (Balancing Figure) 19,825
70,000 70,000

Working Note: 1. Calculation of Depreciation of Two Discarded machine till 1.4.2012

Particulars M-1 M-2 Total
Value of Machine as on 1-10-2008 50,000 20,000 70,000
Less: Depreciation for 2008-09 @ 10% (from 1.10.08 to 31.3.09) 2,500 1,000 3,500
47,500 19,000 66,500
Less: Depreciation for 2009-10 @ 10% 4,275 1,900 6,650
42,750 17,100 59,850
Less: Depreciation for 2009-10 @ 10% 4,275 1,710 5,985
38,475 15,390 53,865
Hence, Provision for Depreciation on Machine Disposal = 3,500 + 6,650 + 5,985 = 16,135.
Working Note: 2. Depreciation on Discarded Machine:
Particulars Rs.
Book Value of machine as on 01.04.2011 53,865
Less: Depreciation @ 10% for 9 months (till 31.12.2011)(53,865 x 10% x 9/j 4,040
Value of Discarded Machine as on selling date 49,825

Working Note: 3. Depreciation of Machine in use:

Particulars Rs. Rs.
Value of Machine on 1.4.11 3,00,000
Less: Cost of Discarded Machine 70,000
2,30,000
Less: Provision for Depreciation on 1.4.11 1,50,000
Less: Depreciation on Discarded Machine 1.4.11 16,135 1,33,865
96,135
Depreciation @ 10% on Rs. 96,135 9,614
Add: Depreciation for 3 months on 75,000 @ 10% 1,875
Total Depreciation 11,489

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Lesson – 1 Fundamentals Of Accounting
EXERCISE:
1. Classify the following Accounts into Personal, Real and Nominal Accounts:
(i) Patent Rights A/c
(ii) Drawings A/c
(iii) Purchase Return A/c
(iv) South Sports Club A/c
(vi) Prepaid Insurance A/c
(vii) Bank Overdraft A/c
(viii) Free samples A/c
Answer:
Real A/c (i)
Personal A/c (ii), (iv), (v), (vii)
Nominal A/c (iii), (vi), (vii)

2. State which of the following items are (i) Capital Expenditure; (ii) Revenue expenditure; (iii)
Deferred Revenue expenditure:
(i) Legal charges of Rs. 15,000 incurred for raising loan.
(ii) An amount of Rs. 7,500 spent as legal charges for abuse of Trade-Mark.
(iii) Carriage paid on a new machine purchased for Rs. 18,000.
(iv) Rs. 25,000 spent on construction of animal-huts.
Answer:
Capital Expenditure (i), (iii), (iv)
Revenue Expenditure (ii)

3. The total of debit side of the Trial Balance of Lotus Stores as at 31.03.2016 is Rs. 3,65,000 and that
of the credit side is Rs. 2,26,000.
After checking, the following mistakes were discovered:
Items of account Correct figures (as it should be) Figures as it appears in the Trial Balance
Opening Stock 15,000 10,000
Rent and Rates 36,000 63,000
Sundry Creditors 81,000 18,000
Sundry Debtors 1,04,000 1,58,000
Ascertain the correct total of the Trial Balance.
Answer:
The correct total is — Rs. 2,89,000
4. On 1st April, 2010, M/s. N. R. Sons & Co. purchased four machines for Rs. 2,60,000 each. On 1st
April, 2011, one machine was sold for Rs. 2,05,000. On 1st July, 2012, the second machine was
destroyed by fire and insurance claim received Rs. 1,75,000 on 15th July, 2012. A new machine costing
Rs. 4,50,000 was purchased on 1st October, 2012. Books are closed on 31st March every year and
depreciation has been charged @ 15% per annum on diminishing balance method. You are required
to prepare machinery account for 4 years still 31st March, 2014. (Calculations to be shown in nearest
rupee).
Answer:
Machinery A/c Balance as on 01.04.2014 (Dr.) Rs. 6,25,256.
Depreciation as on 31.03.2014 — Rs. 1,10,339.

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