Accounting Notes - 1

What is accounting?
Some people think of accounting as a highly technical field, which is practiced and
understood only by professional accountants. Actually, nearly everyone practices
“accounting” in one form or another on almost a daily basis.
Accounting is the art of interpreting, measuring, and communicating the

results of economic activities.
Whether you are paying your phone bill, or you are balancing your checkbook, you
are working with accounting concepts and accounting information.
Purpose of accounting:
The basic purpose of accounting is to provide decision-makers with information
useful in making economic decisions. These decisions concern the allocation and
use of economic resources, such as money, land, and labor. The manner in which
we allocate these resources shapes the world’s economies. Resource allocation
decisions determine prices, wages, the goods and services we produce, the
adequacy of our food supplies, the quality of our transportation system, and which
countries will prosper or suffer economic decline.
Just as there are many different types of economic decisions, there are many types
of accounting information. These are:
1. Financial accounting:
This term refers to information describing the financial resources, obligations and
activities of an economic entity. It is designed primary to assist investors and
creditors in deciding where to place their investment resources.
2. Management accounting:
Management accounting involves the development and interpretation of
accounting information intended specifically to aid management in running the
business. Managers use this information in setting the company’s overall goals,
evaluating the performance of departments and individuals, deciding whether to
introduce a new line of products and in making virtually all types of managerial
decisions.
3. Tax accounting:
The preparation of income tax returns is a specialized field within accounting. To
a great extend, tax returns are based upon financial accounting information.
The most challenging aspect of tax accounting is not the preparation of an
income tax return but rather tax planning.
Tax planning means anticipating the “tax effects” of business transaction and
structuring these transactions in a manner that will minimize the income tax
burden
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Financial reporting process
All of the accounting information developed within a business is available to
management, however much of the company’s financial accounting information also
is used by decision-makers outside of the organization. These outsiders include
investors, financial analysts, investment advisors, creditors (lenders), labor unions,
government agencies, etc.
Supplying general-purpose financial information about a business to people outside
the organization is termed financial reporting.
Financial statements:
The principal means of reporting general-purpose financial information to persons
outside a business organization is a set of accounting reports called financial
statements. A complete set of financial statements includes:
1. Balance Sheet: It shows at a specific date the financial position of the company
by indicating the resources that it owns, the debts that it owes, and the amount
the owner’s equity in the business.
2. Income Statement: It indicates the profitability of the business over the
preceding year (or other time period).
3. Statement of Owners Equity: This explains certain changes in the amount of
the owner’s investment in the business.
4. Cash Flow Statement: This statement summarizes the cash receipts and cash
payments of the business over the same time period covered by the income
statement.
Internal control:
The decisions made by the management are based to a considerable extent upon
information developed by the accounting system. Therefore, management needs
assurance that all the accounting information it receives is accurate and reliable.
This assurance is provided by the company’s system of internal control. A simple
example of an internal control procedure is the use of serial numbers on checks
issued.
Audits of financial statements:

What assurance do outsiders have that the financial statements issued by
management provide a complete and reliable picture of the company’s financial
position and operating results? In large part, the assurance is provided by an audit of
the company’s financial statements, performed by a firm of certified public
accountants (CPAs). These auditors are expert in the field of financial reporting and
are independent of the company issuing the financial statements.
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The Use of Computers in Accounting Systems
Computers are tools widely used by accountants for recording, processing, and
storing accounting information. In addition the use of computers helps make
accounting information more useful to decision-makers.
First computers enable accountants to assemble information and deliver it to
decision-makers far more quickly than the manual system. Of even greater
importance, computers enable accountants to classify and summarize data in many
different ways.
Accounting VS Bookkeeping
Bookkeeping refers to the daily operation of an accounting system - that is,
recording, and classifying routine transactions. Bookkeeping is a skill that an
individual might acquire within a few weeks or months. Most bookkeeping functions
can be performed most efficiently through the use of computers.
A professional accountant must have a far broader range of knowledge and skills
than bookkeepers. For example, accountants need an understanding of financial
reporting requirements, income tax regulations, and the regulatory requirements
affecting specific industries. So to sum up we can say accounting is more than a
skill- it is a profession and to become a professional accountant requires a formal
education, experience, and a commitment to continually updating and expanding
one’s knowledge.
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Financial Statements:
The Balance Sheet:
The purpose of a balance sheet is to show the financial position of a given business
entity at a specific date. Every business prepares a balance sheet at the end of the
year, or at the end of each month. A balance sheet consists of a listing of the
assets, the liabilities, and the owner’s equity of a business.
ROBERTS REAL ESTATE COMPANY

Balance Sheet
September 1, 2002
Assets Liabilities & Owner’s Equity

Cash $ 22,500 Liabilities:
Notes receivable 10,000 Notes payable $ 41,000
Accounts receivable 60,500 Accounts payable 36,000
Supplies 2,000 Salaries payable 3,000
Land 100,000 Total liabilities $ 80,000
Building 90,000 Owner’s Equity:
Office equipment 15,000 Terry Crane, Capital 220,000
Total $300,000 Total $300,000
Now let us briefly describe several features of this balance sheet. First, the heading
sets forth three things: (1) the name of the business entity, (2) the name of the
financial statement, and (3) the balance sheet date. The body of the balance sheet
also consists of three distinct sections: assets, liabilities and owner’s equity.
Finally, notice that the amount of total assets ($300,000) is equal to the total amount
of liabilities and owner’s equity (also $300,000). This relationship always exists in
fact, the equality of these total is one reason that this financial statement is called a
balance sheet.
1. Assets:
Assets are economic resources, which are owned by a business and are
expected to benefit future operations. Assets may have definite physical form, as
do buildings, machinery, and an inventory. On the other hand, some assets exist
not in physical or tangible form but in a form of valuable legal claims or rights;
examples are amounts due from customers, investments in government bonds,
and patent rights.
In listing assets inside the balance sheet notice that cash is always listed first
among the assets, followed by notes receivable, accounts receivable, supplies,
and any other assets that will soon be converted into cash or consumed in
business operations. Following these relatively liquid assets are the more
permanent assets, such as land, building, and equipment.
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The Cost Principle
Assets such as land, building, merchandise, and equipment are typical of the many
economic resources that will be used in producing income for the business. The
prevailing accounting view is that such assets should be recorded at their cost.
For example, let us assume that a business buys a tract of land for use as a building
site, paying $100,000. If we assume a booming real estate market, a fair estimate of
the sales value of the land 10 years later might be $250,000. Although the market
price or economic values of the land has raised greatly, the accounting value as
shown in the accounting records and in the balance sheet would continue
unchanged at the cost of $100,000. The policy of accounting for assets at their cost
is often referred to as the cost principle of accounting.
One reason to why accountants do not change the recorded values of assets to
correspond with changing market prices for these properties is that the land and
building are being acquired for use and not for resale.
Another reason for using cost rather than current market values in accounting for
assets is the need for a definite, factual basis for valuation. For example, if a land
were shown on the balance sheet at cost, any CPA who performed an audit of the
business would be able to find objective evidence that the land was actually valued
at the cost of acquiring it.
2. Liabilities
Liabilities are debts. All business concerns have liabilities; even the largest and
most successful companies find it convenient to purchase merchandise and
supplies on credit rather than to pay cash at the time of each purchase.
The liabilities arising from the purchase of goods or services on credit is called an
account payable and the person or company to whom the account payable is
owed is called creditors.
The form of the liability when money is borrowed is usually a note payable, a
formal written promise or pay a certain amount of money, plus interest, at a
definite future time. An account payable, as contrasted with a note payable,
does not involve the issuance of a formal written promise to the creditor, and it
does not call for payment of interest. When a business has both notes payable
and accounts payable, the two types are shown separately in the balance sheet,
with notes payable usually listed first.
3. Owner’s equity
The owner’s equity in a business represents the resources invested by the owner
(or owners). If you are the owner of a business, you are entitled to whatever
remains after the claims of the creditors are fully satisfied. Thus, owner’s equity is
equal to the total assets minus the liabilities.
Increases in owner’s equity may be due to (1) investment by the owner or (2)
earnings from profitable operations of the business.
Decreases in the owner’s equity may be due to (1) withdrawals of cash or other
assets by the owner or (2) losses from unprofitable operation of the business.
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Effects of Business Transactions upon the Balance Sheet
Assume that James Roberts, a licensed real estate broker; decided to start a real
estate business of his own, to be know as Robert Real Estate Company.
The new business was begun on September 1, when Roberts deposited $180,000 in
a bank account n the name of the business, Robert Real Estate Company. The initial
balance sheet of the new business then appeared as follows:

Balance Sheet
September 1, 20__
Assets Owner’s Equity
Cash ………………………. $180,000 James Robert, capital $180,000
Observe that the equity of the owner in the assets is designated on the balance
sheet by the caption, James Robert, capital. The word capital is the traditional
accounting term used in describing the equity of the proprietor in the assets of the
business.
Purchase of an Asset for Cash:

The next transaction entered into by Robert Real Estate Company was the purchase
of land suitable as a site for an office. The price of the land was $141,000 and the
payment was made in cash on September 3. The effect of this transaction on the
balance sheet was twofold: first cash was decreased by the amount paid out; and
second, a new asset, Land, was acquired. After this the balance sheet appeared as
follows:

Balance Sheet
September 1, 20__
Cash ………………………. $ 39,000 James Robert, Capital $180,000
Land 141,000
Total $180,000 Total $180,000
Purchase of an Asset and Incurring of a Liability

On September 5 an opportunity arose to buy from Kent Company a complete office
building. The building price was $36,000. The term of the payment was an
immediate cash payment of $15,000 and payment of the balance of $21,000 within
90 days. Cash was decreased $15,000, but a new asset, Building, was recorded at
cost in the amount of $36,000. Total assets were thus increased by $21,000, but as
a result of $21,000 accounts payable, liabilities were also increased by the same
amount.
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After this transaction the balance sheet appeared as follows:

Balance Sheet
September 1, 20__
Cash ………………………. $ 24,000 Liabilities:
Land 141,000 Accounts payable $ 21,000
Building 36,000 Owner’s Equity:
James Robert, capital 180,000
Total $201,000 Total $201,000
Sale of an Asset
After the office building had been moved to the Roberts Company’s let, Robert
decided that the lot was larger that was needed. On its neighborhood was the
Carter’s Drugstore business, which wanted more room for a parking area. So on
September 10, Robert Company sold a small, unused corner of the lot to Carter’s
Drugstore for a price of $11,000. Since he had purchased on the same amount per
square there was neither a profit nor a loss involved.
No cash payment was done but it was agreed that the full price would be paid within
three months. Therefore, in this transaction a new asset, accounts receivable was
acquired but on the other hand asset land was decreased by the same amount.
Consequently there was no change on the total assets. After the above transaction
the balance sheet appeared as follows:

Balance Sheet
September 1, 20__
Account receivable 11,000 Accounts payable $ 21,000
Land 130,000 Owner’s Equity:
Building 36,000 James Robert, capital 180,000
Total $201,000 Total $201,000
Purchase of an Asset on Credit:

A complete set of office furniture and equipment was purchased on credit from
General Equipment, Inc., on September 14 for $5,400. As a result of this transaction
the business owned a new asset, office equipment, but it had also incurred a new
liability in the form of accounts payable. After this transaction the balance sheet
appeared as:
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Balance Sheet
September 1, 20__
Office equipments 5,400
Total $206,400 Total $206,400
Collection of an Account Receivable:

On September 20, cash in the amount of $1,500 was received as partial settlement
of the account receivable from Carter’s Drugstore. This transaction caused cash to
increase and the account receivable to decrease by an equal amount. Well we can
call this transaction was the exchange of one asset for another of equal value.
Consequently there was no change in the amount of total assets. After this
transaction, the balance sheet appeared as:
Balance Sheet
September 1, 20__
Total $206,400 Total $206,400
Payment of a Liability:
On September 30, Roberts Real Estate Company paid $3,000 in cash to General
Equipment, Inc. this payment caused a decrease in cash and an equal decrease in
liabilities. Therefore the balance sheet totals were still in balance. After this
transaction the balance sheet appeared as follows:
Balance Sheet
September 1, 20__
Total $203,400 Total $203,400
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PROBLEMS:
1: Listed below in random order are the items to be included in the balance sheet of
Pearl Beach Resort at December 31, 2001
Sailboats $ 15,200 Building $225,000

Land 210,000 Cash 14,600
A/C receivable 4,800 Furnishings 29,100
A/C payable 13,500 Notes payable 320,000
Equipment 9,200 Nancy Moore, Capital ?
Instructions: Prepare a balance sheet at December 31, 2001.
Solution:
PEARL BEACH RESORT
Balance Sheet
December 31, 2001
A/C receivable 4,800 Notes payable $ 320,000
Land 210,000 A/C payable 13,500
Buildings 225,000 Total liabilities 333,500
Furnishings 29,100 Owner’s Equity
Sail Boats 15,200 Nancy Moore, Capital 174,400
Equipment 9,200
Total $507,900 Total $507,900
2: The balance sheet items of The Original Malt Shop (arranged in alphabetical
order) were as follows at the close of business on September 30, 2001.
A/C Payable $ 8,500 Land $55,000

A/C receivable 1,250 Kay Martin, Capital 54,090
Building 45,500 Notes payable ?
Cash 7,400 Supplies 3,440
Furniture & Fixtures 20,000
Throughout October, the business will be closed for remodeling. The transactions
occurring during the first week of October were:
Oct. 3 Martine invested additional $30,000 cash in the business. The accounts
payable was paid in full.
Oct. 6 More furniture was purchased on account at a cost of $18,000, to be paid
within 30 days. Supplies were purchased for $1,000 cash from a restaurant supply
center with was going out of business.
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Instructions
a) Prepare a balance sheet at September 30, 2001.
b) Prepare a balance sheet at October 6, 2001.
Solutions:
THE ORIGINAL MALT SHOP
Balance Sheet
September 30, 2001
Cash $7,400 Liabilities:
Supplies 3,440 A/C payable 8,500
Land 55,000 Total liabilities 78,500
Building 45,500 Owner’s Equity
Furniture & fixtures 20,000 Melonie Austin, Capital 54,090
Total $132,590 Total $132,590
THE ORIGINAL MALT SHOP

Balance Sheet
September 30, 2001
Cash $27,900 Liabilities:
Supplies 4,440 A/C payable 18,000
Land 55,000 Total liabilities 88,000
Building 45,500 Owner’s Equity
Furniture & fixtures 38,000 Melonie Austin, Capital 84,090
Total $172,090 Total $172,090
3: The following balance sheet is arranged correctly but contains several errors.
OLD TOWN PLAYHOUSE
Balance Sheet
September 30, 2001
A/C receivable 156,200 A/C payable $ 4,600
Props and costumes 1,800 Salaries payable 28,200
Theater Building 13,500 Total liabilities 32,800
Lighting equipment 8,500 Owner’s Equity
Automobile 12,000 Melonie Austin, Capital 10,000
Total $210,600 Total $42,800
Instructions:
Prepare a corrected balance sheet at September 30, 2001 with the information given
below.
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In discussion with Austin and by reviewing the accounting records of Old Town
Playhouse, you discover the following facts:
1: The amount of cash, $18,600, includes $12,000 in the company’s bank account,
$2,100 on hand in the company’s safe, and $4,500 in Austin’s personal savings
account.
2: Accounts receivable include $6,200 owed to the business by Artistic Tours. The
remaining $150,000 is Austin’s estimate of future ticket sales from September 30
through the end of the year (DEC 31).
3: Austin explains that the props and costumes were purchased several days ago for
$14,800. The business paid $1,800 of this amount in cash and issued a note
payable to Actors’ Supply Company for the remainder of the purchase price
($13,000). As this note will not be paid until January of next year, it was not included
among the company’s liabilities.
4: Old Town Playhouse rents the theater building from Kievits International at a rate
of $1,500 per month. The $13,500 represents the rent paid through September 30 of
the current year. Kievits International acquired the building seven years ago at a cost
of $126,000.
5: The lighting equipment was purchased on September 26 at a cost of $8,500, but
the stage manager says that it isn’t worth a dime.
6: The automobile is Austin’s classic 1955 Porsche, which she purchased two years
ago for $9,600. She recently say a similar car advertised for sale at $12,000. She
does not use the car in the business, but it has a personalized license plate, which
reads “PLAHOUS.”
7:The accounts payable include business debts of $3,700 and the $900 balance of
Austin’s personal Visa card.
8: Salaries payable includes $25,000 offered to Mario Dane to play the lead role in a
new play opening next December and also $3,200 still owned to stage hands for
work done through September 30.
9: When Austin founded Old Town Playhouse four years ago, she invested $10,000
in the business. She has shown this amount as her owner’s equity in order to comply
with the cost principle. However, Live Theater, Inc., has offered to buy her business
for $30,000, and she believes that perhaps the owner’s equity should be changed to
this amount.
Solutions:
OLD TOWN PLAYHOUSE
Balance Sheet
September 30, 2001
A/C receivable 6,200 Notes payable $13,000
Props and costumes 14,800 A/C payable 3,700
Lighting equipment 8,500 Salaries payable 3,200
Total liabilities 19,900
Owner’s Equity:
Melonie Austin, Capital 23,700
Total $43,600 Total $43,600
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The Ledger
An accounting system includes a separate record for each item that appears in
the financial statements. For example, a separate record is kept for the asset
cash, showing all increases and decreases in cash resulting from the many
transactions in which cash is received or paid. A similar record is kept for every
other asset, for every liability, for every owner’s equity, and for every revenue
and expenses account appearing in the income statement.
The record used to keep track of the increases and decreases in financial
statement items is termed a ledger account or simply an “account”. The entire
group of accounts is kept together in an accounting record called a “Ledger”.
Debit and Credit:
Debit: An amount entered on the left-hand side of an account. A debit is used to

record an increase in an asset and a decrease in a liability or owner’s equity.
Credit: An amount entered on the right-hand side of an account. A credit is used

to record a decrease in an asset and an increase in a liability or owner’s equity.
RULES FOR DEBIT AND CREDIT

ASSETS
• Increase in assets is recorded by debit.
• Decrease in assets is recorded by credit.
LIABILITIES
• Increase in liabilities is recorded by credit.
• Decrease in liabilities is recorded by debit.
OWNER’S EQUITY
• Increase in owner’s equity is recorded by credit.
• Decrease in owner’s equity is recorded by debit.
Debit balances in asset accounts:
All asset accounts normally have debit balances; in fact, the ownership of cash,
land, or any other asset indicates that the increases (debits) to that asset have
been greater than the decreases (credits). It is hard to imagine an account for an
asset such as land having a credit balance, as this would indicate that the
business had disposed of more land than it had acquired and had reached the
impossible position of having a negative amount of land.
The fact that assets are located on the left side of the balance sheet is a
convenient means of remembering the rule that an increase in an asset is
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recorded on the left (debit) side of the account, and also that an asset account
normally has a debit (left-hand) balance.
Any asset account
(DEBIT) (CREDIT)
Increase Decrease
Credit balances in liability and Owner’s Equity Accounts:
Increases in liability and owner’s equity account are recorded by credit entries
and decreases in these accounts are recorded by debits. The relationship
between entries in these accounts and their position on the balance sheet may
be summed up as follows: (1) liabilities and owner’s equity belong on the right
side of the balance sheet, (2) an increase in a liability or an owner’s equity
account is recorded on the right (credit) side of the account, and (3) liability and
owner’s equity accounts normally have credit (right-hand) balances.
Any liability or owner’s equity account
(DEBIT) (CREDIT)
Decrease Increase
Double-entry accounting:
A system of recording every business transaction with equal dollar amount of

both debit and credit entries. As a result of this system, the accounting equation
always remains in balance; in addition, the system makes possible the
measurement of net income and also the use of error-detecting devices such as
a trial balance.
Footing:
Footing is the total of amounts in a column.
Page # 13
Illustration: Recording Transactions in Ledger Accounts
Transaction (a) Robert invested $180,000 cash in the business on

September 1.
Analysis Rule Entry

The asset cash was Increases in assets are Debit: Cash, $180,000
increased recorded by debits
The owner’s equity was Increases in owner’s Credit: James Robert,
increased equity are recorded by Capital, $180,000
credits
Cash James Robert, Capital
9/1 (a) 180,000 9/1 (a) 180,000
Transaction (b) On September 3, Roberts Real Estate Company purchased

land for cash in the amount of $141,000.
Analysis Rule Entry

The asset land was Increases in assets are Debit: Land, $141,000
The asset cash was Decreases in assets are Credit: Cash, $141,000
decreased recorded by credits
Cash Land
9/1 180,000 9/3 (b) 141,000 9/3 (b) 141,000
Transaction (c) On September 5, Roberts Real Estate Co. purchased a

building from Kent Co. at a total price of $36,000. The terms
of the purchase required a cash payment of $15,000 with
remainder of $21,000 payable with in 90 days.
Analysis Rule Entry

The asset building was Increases in assets are Debit: Building, $36,000
decreased recorded as credits
A new liability, A/C Increases in liabilities are Credit: A/C payable,
payable was incurred recorded by credits $21,000
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Cash Accounts Payable
9/1 180,000 9/3 141,000 9/5 (c) 21,000

9/5 (c) 15,000
Building
9/5 (c) 36,000
Transaction (d) On September 10, Roberts Real Estate Company sold a

portion of land on credit to Carter’s Drugstore for a price of
$11,000.
Analysis Rule Entry

The asset A/C Increases in assets are Debit: A/C receivable,
receivable was acquired recorded by debits $11,000
The asset land was Decreases in assets are Credit: land, $11,000
A/C receivable Land
9/10 (d) 11,000 9/3 141,000 9/10 (d) 11,000
Transaction (e) On September 14, Roberts Real Estate Company purchased

office equipment on credit from General Equipment, Inc. in
the amount of $5,400.
Analysis Rule Entry

The asset office Increases in assets are Debit: Office equipment,
equipment, was recorded by debits $5,400
acquired
A new liability, A/C Increases in liabilities are Credit: A/C payable,
payable was incurred recorded by credits $5,400
Office equipment A/C payable
9/14 (e) 5,400 9/3 (b) 141,000 9/5 21,000

9/14 (e) 5,400
Transaction (f) On September 20, cash of $1,500 was received as partial

collection of the account receivable from Carter’s Drugstore.
Page # 15
Analysis Rule Entry
The asset cash was Increases in assets are Debit: Land, $1,500
The asset A/C Decreases in assets are Credit: Cash, $1,500
receivable was recorded by credits
decreased
Cash A/C receivable
9/1 180,000 9/3 141,000 9/10 11,000 9/20 (f) 1,500

9/20 (f) 1,500 9/5 15,000
Transaction (g) On September 30, a cash payment of $3,000 was made in

partial settlement of the amount owing to General
Equipment, Inc.
Analysis Rule Entry

The liability A/C payable Decreases in liabilities Debit: A/C payable,
was decreased are recorded by debits $3,000
Cash Accounts payable
9/1 180,000 9/3 141,000 9/30 (g) 3,000 9/5 21,000

9/20 1,500 9/5 15,000 9/14 5,400
9/30 (g) 3,000
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Journal
The journal is a chronological (day-by-day) record of transactions. The
information recorded about each transaction includes the date of the transaction,
the debit and credit changes in specific ledger accounts, and a brief explanation
of the transaction.
Why Use a Journal?
1. The journal shows all information about a transaction in one place and also
provides an explanation of the transaction.
2. The journal provides a chronological record of all the events in the life of a
business.
3. The use of a journal helps to prevent errors.
Transactions (To illustrate the use of journal):

Mar 1: James Roberts began the business by depositing $180,000 in a
company bank account.
Mar 2: Purchased land for $141,000 cash.
Mar 5: Purchased a prefabricated building for $36,000, paying $15,000

cash and incurring a liability of $21,000.
Mar 10: Sold a part of land at a price equal to cost of $11,000, collectible
within three months.
Mar 14: Purchased office equipment on credit for $5,400.
Mar 20: Received $1,500 cash as partial collection of the 11,000 account
receivable.
Mar 30: Paid $3,000 on account payable.
The account titles used by the Robert Real Estate Company:
Cash James Robert, Capital

Accounts Receivable Account Payable
Land Building
Office Equipment
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Instructions
Prepare journal entries
GENERAL JOURNAL Page 001
Date Explanation LP Debit Credit

2004
March 1 Cash 1 8 0 0 0 0
James Robert, Capital 1 8 0 0 0 0
James Roberts invested cash in business.
2 Land 1 4 1 0 0 0
Cash 1 4 1 0 0 0
Purchased land for cash
5 Building 3 6 0 0 0
Cash 1 5 0 0 0
Accounts Payable 2 1 0 0 0
Purchased building from ABC company
10 Accounts receivable 1 1 0 0 0
Land 1 1 0 0 0
Sold a part of land to XYZ company.
14 Office Equipment 5 4 0 0
Account Payable 5 4 0 0
Purchased on credit from STU Company
20 Cash 1 5 0 0
Account Receivable 1 5 0 0
Received as partial collection from XYZ.
30 Account Payable 3 0 0 0
Cash 3 0 0 0
Paid to ABC on partial payment.
Posting:
The process of transferring the debits and credits from the general journal to the
proper ledger accounts is called posting.
Each amount listed in the debit column of the journal is posted by entering it on
the debit side of an account in the ledger, and each amount listed in the credit
column of the journal is posted to the credit side of a ledger account.
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Running Balance Form of Accounts:
T accounts are widely used in the classrooms and in accounting textbooks,
because they provide a concise conceptual picture of the financial effects of a
business transaction. Where most businesses prefer to use the running balance
form of ledger account. This form of account has special columns for recording
additional information as, illustrated below with the cash account of Robert Real
Estate Company:
Cash Account No. /

Date Expalnation Ref Debit Credit Balance
2002
Sep 1 1 80 000 1 8 0 0 0 0
3 1 4 1 0 0 0 3 9 0 0 0
5 1 5 0 0 0 2 4 0 0 0
20 1500 2 5 5 0 0
30 3 0 0 0 2 2 5 0 0
The date column shows the date of the transaction, which is not necessarily, the
same as the date the entry is recorded in the account. The explanation column
is needed only for unusual items, and in many companies it is seldom used. The
Ref (Reference) column is used to list the page number of the journal in which
the transaction is recorded, thus making it possible to trace ledger entries back to
their source. In the balance column of the account, the new balance is entered
each time the account is debited or credited. Thus the current balance of the
account can always be observed at a glance.
Land Account No. /

Date Explanation Ref Debit Credit Balance
2004
Mar 2 1 4 1 0 0 0 1 4 1 0 0 0
10 1 1 0 0 0 1 3 0 0 0 0
Building Account No. /

2004
Mar 5 3 6 0 0 0 3 6 0 0 0
Office Equipment Account No. /

2004
Mar 14 5 4 0 0 5 4 0 0
Page # 19
Account Receivable Account No. /
2004
Mar 10 1 1 0 0 0 1 1 0 0 0
20 1 5 0 0 9 5 0 0
Account Payable Account No. /

2004
Mar 5 2 1 0 0 0 2 1 0 0 0
14 5 4 0 0 2 6 4 0 0
30 3 0 0 0 2 3 4 0 0
James Roberts, Capital Account No. /

2004
Mar 1 1 8 0 0 0 0 1 8 0 0 0 0
THE TRIAL BALANCE

A trial balance is a two-column schedule listing the names and balances of all the
accounts in the order in which they appear in the ledger; the debit balances are
listed in the left-hand column and the credit balances in the right-hand column.
The totals of the tow columns should agree. A trial balance taken from the ledger
of Robert Real Estate Company follows.
ROBERT REAL ESTATE COMPANY

Trial Balance
March 30, 2004
Cash ………………………………………………………… $ 22,500
Accounts receivable ………………………………………... 9,500
Land ………………………………………………………… 130,000
Building …………………………………………………….. 36,000
Office equipment ………………………………………….... 5,400
Accounts payable …………………………………………… $ 23,400
James Robert, Capital ………………………………………. 180,000
$203,400 $203,400
Page # 20
THE ACCOUNTING CYCLE: AN INTRODUCTION
The sequence of accounting procedures used to record, classify, and summarize

accounting information is often termed the accounting cycle.
At this point, we have illustrated a complete accounting cycle as it relates to the
preparation of a balance sheet for a service-type business with a manual
accounting system. The accounting procedures discussed to this point may be
summarized as follows.
1. Record transaction in the journal. As each business transaction occurs, it

is entered in the journal, thus creating a chronological record of events. This
procedure completes the recording step in the accounting cycle.
2. Post to ledger accounts. The debit and credit changes in account balances
are posted from the journal to the ledger. This procedure classifies the effects
of the business transactions in terms of specific asset, liability, and owner’s
equity.
3. Prepare a trial balance. A trial balance proves the equality of the debit and
credit entries in the ledger. The purpose of this procedure is to verify the
accuracy of the posting process and the computation of ledger account
balances.
4. Prepare financial statements. At this point, we have discussed only one
financial statement – the balance sheet. This statement shows the financial
position of the business at a specific date.
The preparation of financial statements summarizes the effects of business
transaction occurring through the date of the statements and completes the
accounting cycle.
What is Net Income?
Net income is an increase in owner’s equity resulting from the profitable

operation of the business. The opposite of net income, is the decrease in owner’s
equity resulting from unprofitable operation of the business, and is called net
loss.
Notice that net income does not consist of cash or any other specific asset.
Rather, net income is a computation of the overall effects of many business
transactions upon owner’s equity. The increase in owner’s equity resulting from
profitable operations usually is accompanied by an increase in total assets,
though not necessarily an increase in cash. In some cases, however, an increase
in owner’s equity is accompanied by a decrease in total liabilities.
The Income Statement: A Preview
An income statement is a one page financial statement, which summarizes the

profitability of the business entity over a specified period of time. Net income is
determined by comparing for the time period: (1) the sales price of the goods
sold and services rendered by the business with (2) the cost to the business of
Page # 21
the goods and services used up in the business operations. The technical
accounting term for these components of net income are revenue and expenses.
Therefore, accountants say that net income is equal to revenue minus
expenses, as shown in the following income statement.
Roberts Real Estate Company

Income Statement
For the Month Ended Sep 31, 20__
Revenue:
Sales commissions earned ………………………………… $ 10,640
Expenses:
Advertising Expenses ……………………………..………… $ 630
Salary Expenses …………………………………………… 7,100
Telephone Expenses ………………………………………. 144
Depreciation Expenses: Building ………………………….. 150
Depreciation Expenses: Office Equipment ………………... 45 8,069
Net Income ………………………………………………………………. $ 2,571
Revenue:
Revenue is the price of goods sold and services rendered during a given
accounting period. Earning revenue causes owner’s equity to increase. Revenue
is recorded when it is earned, without regard s to when the cash is received.
Expenses:
Expenses are the costs of he goods and services used up in the process of
earning revenue. For example the cost of employees’ salaries, advertising, rent,
etc.
An expense always causes a decrease in owner’s equity.
When to record expenses:

Expenses are incurred for the purpose of producing revenue. In measuring net
income for a period revenue should be offset by all the expenses incurred in
producing that revenue. In deciding when to record expenses the question is “In
what period will this expenditure help to produce revenue?” not “ When will the
cash payment occur?”
Many expenditures made by a business benefit two or more accounting periods.

For example insurance policies usually cover a period of 12 months. If a
company prepares monthly income statements it should divide the expenditure of
insurance by 12 and deduct the amount each month.
Page # 22
Debit and Credit Rules for Revenue and Expenses:
Since revenue increases owner’s equity and expenses decreases owner’s equity,
therefore,
1. Revenue is recorded by a credit.
2. Expenses are recorded by debits.
Investments and Withdrawals by the Owner:
Investments of assets by the owner are recorded by debiting the asset accounts
and crediting the owner’s capital account. This transaction is not viewed as
revenue, because the business has not sold any merchandise or rendered any
service in exchange for the assets received. But these investments are called
Capital.
When the business is owned by one person (sole proprietorship), the owner does
not take any salary from the business, since he is the owner of the business. But
the owner usually makes withdrawals of cash from time to time for persona use.
These withdrawals decrease owner’s equity but are not expenses. These
withdrawals are called Drawings.
Some Revenue and Expenses Transactions of Roberts Real Estate Co.
Oct. 1 Paid $360 for publication of newspaper advertising.

Oct. 6 Earned & collected a commission of $2,250 by selling a residence.
Oct. 16 Newspaper advertising is purchased at a price of $270, payment to
be made within 30 days.
Oct. 20 A commission of $8,390 was earned by selling a client’s residence.
The amount was to be received in 60 days.
Oct. 25 Roberts withdrew $2,800 for personal use.
Oct. 30 Roberts found that he did not need all of the $2,800 withdrawn on
October 25 and he deposited $1,000 of this amount back in the
company’s account.
Oct. 31 Paid salaries of $7,100 to employees for services rendered during
October.
Oct. 31 A telephone bill for October amounting to $144 was received.
Payment was required by November 10.
Page # 23
The journal entries for the above transactions are:
General Journal Page 2
Date Account Titles and Explanation LP Debit Credit

20__
Oct 1 Advertising expense 70 360
Cash 1 360
Paid for newspaper advertising
6 Cash 1 2,250
Sales Commissions Earned 60 2,250
Collected commission by selling residence
16 Advertising expense 70 270

Account payable 32 270
Purchased newspaper advertising on credit.
20 Account receivable 4 8,390

Sales commissions earned 60 8,390
Earned commissions to be received in 60
days
25 James Robert, Drawing 51 2,800

Cash 1 2,800
Withdrawal of cash by the owner
30 Cash 1 1,000
James Robert, Capital 50 1,000
Additional investment by the owner
31 Salaries Expenses 72 7,100

Cash 1 7,100
Paid salaries for October
31 Telephone Expenses 74 144

Accounts payable 32 144
To record liability for October telephone
services
Page # 24
ADJUSTING ENTRIES:
Many transactions affect the revenue or expenses of two or more accounting
periods. For example, a business may purchase equipment that will last for many
years, insurance policies that cover 12 months. Each of these assets is gradually
used up – that is, becomes expense. How do accountants allocate the cost of
these assets to expense over a span of several accounting periods? The answer
is adjusting entries.
Types of Adjusting Entries:

Adjusting entries fall into one of four general categories:
1. Entries to apportion recorded costs:

When a business makes an expenditure that will benefit more than one
accounting period, the amount is usually debited to an asset account. At the
end of each period benefiting from this expenditure, an adjusting entry is
made to transfer an appropriate portion of the cost from the asset account to
an expense account. This adjusting entry reflects the fact that part of the
asset has been used up – that is, become expense - during the current
accounting period.
An adjusting entry to apportion a recorded cost consists of a debit to an
expense account and a credit to an asset account. Examples of these
adjustments include the entries to record depreciation expense, and the costs
of prepaid expenses.
¾ Prepaid expenses:
Payments in advance are often made for such items as insurance, rent,
and office supplies. If the advance payment will benefit more than just the
current accounting period, the cost represents an asset rather than an
expense. In short prepaid expenses are assets; they become expenses
only as the goods or services are used up.
⇒ Insurance:
To illustrate these concepts, assume that on November 1, Robert Real
Estate Company paid $600 for a one-year fire insurance policy
covering the building. This expenditure was debited to an asset
account by the following journal entry:
Unexpired Insurance …………………………………………… 600

Cash ………………………………………………………… 600
Purchased a one-year fire insurance policy.
Since this expenditure of $600 will protect the company against fire
loss for one year, the insurance expense applicable to each month’s
operation is 1/12 of the annual expense, or $50. So the November
accounting records for insurance expense is adjusted as follows:
Page # 25
Insurance Expense ……………………………………………… 50
Unexpired Insurance ……………………………………….. 50
To record insurance expense for November.
This adjusting entry serves two purposes: (1) it apportions the proper
amount of insurance expense to November operations, and (2) it
reduces the asset account to $550 so that the correct amount of
unexpired insurance will appear in the balance sheet at November 30.
⇒ Office supplies:
On November 2, Roberts Real Estate Company purchased enough
stationary and other office supplies to last for several months. The cost
of the supplies was $720, and this amount was debited to an asset
account by the following journal entry:
Office supplies ………………………………………………… 720

Cash ……………………………………………………….. 720
Purchased office supplies.
No entries were made during November to record the day-to-day

usage of office supplies, but on November 30 the office manager
estimated that supplies costing about $500 were still on hand. Thus,
supplies costing about $220 were used during November. Therefore,
an adjusting entry is made debiting an expense account $220 (the cost
of supplies consumed during November) and reducing the asset
account by $220. The adjusting entry is:
Office supplies expense ………………………………………… 220

Office supplies ……………………………………………… 220
To record consumption of office supplies in November.
After this entry is posted, the asset account Office Supplies will have a
balance of $500, representing the estimated cost of office supplies on
hand at November 30. This office supplies account will appear in the
balance sheet as an asset; the office supplies expense account will be
shown in the income statement.
¾ Depreciation expense: Building

The recording of depreciation expense at the end of an accounting period
provides another example of an adjusting entry, which apportions a
recorded cost. The journal entry for the adjusting entry is as follows:
Depreciation Expense: Building ……………………………………… 150

Accumulated Depreciation: Building ………………………… 150
To record depreciation for November.
Page # 26
This allocation of depreciation expense to November operations is based
on the following facts: the building cost $36,000 and is estimated to have a
useful life of 20 years (240 months).
2. Entries to apportion unearned revenue:

A business may collect in advance for services to be rendered to customers
in future accounting period. In the period in which services are rendered, an
adjusting entry is made to record the portion of the revenue earned during the
period.
For example a football team collects much of its revenues in advance through
the sale of the season.
For accounting purpose, amounts collected in advance do not represent
revenue since these amounts are not earned yet. Amounts collected from
customers are recorded by debiting the cash account and crediting an
unearned revenue account. Unearned revenue accounts are also called
deferred revenue.
When a company collects money in advance from its customers, it has an
obligation to render services in the future. Therefore, the balances of an
unearned revenue account are considered to be a liability. It appears in the
liability section of the balance sheet not in the income statement.
When a company is rendering a service for the money it has earned in
advance it should work to decrease this liability and change it to revenue.
Therefore, at the end of accounting period in which the revenue is earned, an
adjusting entry is made to transfer an appropriate amount from the unearned
revenue account to revenue account. A debit to unearned revenue account
and a credit to revenue account.
Assume that Roberts Real Estate Company agreed to act as manager of
some rental properties for a monthly fee of $300. The owner of these
properties was leaving the country for some unexpected trip and he has paid
the company for six months’ services in advance. The journal entry would be
like follows:
Cash ………………………………………………………………… 1,800

Unearned Management Fees … ……………………… 1,800
Collected advanced six months fee for management of properties.
Remember that Unearned Management Fees is a liability account, not a

revenue account. This management fee will be earned gradually over a
period of six months as Roberts Real Estate Company performs the required
services. At the end of each monthly accounting period, the company will
make an adjusting entry transferring 1/6 of management fee, or 300, from the
unearned revenue account to a revenue account. The first transfer will be
made on November 30 by the following adjusting entry:
Unearned Management Fees ………………………………………… 300

Management fees earned ……………………………………... 300
Fees earned by managing Frank Day property during November.
Page # 27
3. Entries to record unrecorded expenses:
This type of adjusting entry is for expenses that will be paid in future
transactions; thus, no cost has yet been recorded in the accounting records.
Salaries of employees and interest on borrowed money are common
examples of expenses which accumulate from day to day but which usually
are not recorded until they are paid. These expenses are called accrued
expenses. An adjusting entry should be made to record any expenses, which
are accrued and are not recorded yet. Since these expenses will be paid at a
future date, the adjusting entry consists of a debit to an expenses account
and a credit to a liability account.
⇒ Accrual of Interest:
On November 1, Robert Real Estate Company borrowed the sum of $3,000
from a bank for three months. The interest on this amount is 12%. So for each
month there will be an interest of $30 and total $90.
To record the borrowing amount in journal entry we:
Cash …………………………………………………………………… 3,000

Notes Payable …………………………………………….. 3,000
Obtained from bank three-month loan with interest at 12% a year.
Three months later, Robert Real Estate Company must pay the bank $3,090,
and one third of interest expense ($30) is incurred each month.
Interest Expense …………………………………………………… 30

Interest payable ……..…………………………………………... 30
To record interest expense accrued during November on note payable.
The debit balance in the Interest Expense account will appear in the
November income statement; the credit balances in the interest payable and
notes payables accounts will be shown in the balance sheet as liabilities.
These two liability accounts will remain in the records until the maturity date of
the loan. And then both the accounts will be wiped out.
⇒ Accrual of Salary:
On November 20 Robert Real Estate Company hires C. Nelson. The agreed
salary was $225 per week for five weeks, payable each Friday payment for
the first week was made on Friday, November 24.
Assume that the last day of the accounting period, November 30, fell on
Thursday, Nelson had worked four days since being paid on last Friday and
therefore, earned $180. Now to prepare the financial statements we must
adjust the following entries.
Salaries Expense …………………………………………………… 180

Salaries Payable ……………………………………………….. 180
To record salaries expense and related liability to Nelson.
Page # 28
The debit balance in the Salaries Expense account will appear as an expense
in the November income statement; the credit balance of $180 in the Salaries
Payable account is the amount owing to the Nelson for work performed during
the last four days of November and will appear among the liabilities in the
balance sheet at November 30.
The next regular payday for Nelson will be Friday, December. Which is the
first day of the new accounting period. Since the accounts were adjusted and
closed on November 30, all the revenue and expense accounts have zero
balances at the beginning of business on December 1. The payment of the
week’s salary to Nelson will be recorded by the following entry on Dec .1
Salaries Payable ……………………………………………………180

Salaries Expenses …………………………………………………. 45
Cash …………………………………………………………… 225
Paid weekly salary to Nelson.
4. Entries to record unrecorded revenues:
A business may earn revenue during the current accounting period but might not
bill the customer until the future accounting period. Any revenue, which has been
earned but not recorded during the current accounting period, should be
recorded at the end of the period by means of an adjusting entry. This adjusting
entry consists of a debit to an account receivable and a credit to the appropriate
revenue account. The term accrued revenue often is used to describe revenue
which has been earned during the period but which has not been recorded prior
to the making of adjusting entries.
To make clear this point lets assume that Robert Real Estate Company on
November 16th has signed a contract to do some service to Clayton Company.
Robert Real Estate Company will be paid at 15th of every month. Since the first
fee for the services are not received till the December 15th, on November 30 we
make the following adjusting entries:
Management fees receivable ………………………………………… 120

Management fees earned …………………………………….. 120
To record accrued revenue from services rendered to Clayton Company.
The debit balance in the management fees receivable account will be shown in
the balance sheet as an asset. The credit balance of the management fees
earned account will appear in the November income statement.
The collection of the first monthly fees from Clayton Company will occur in the
next accounting period. Of this $240 cash receipt half represents collection of the
asset account, management fees receivable created at November 30 by the
adjusting entry. The other half of the $240 cash receipt represents revenue
account for management fees earned. The entry on the December 15 is as
follows:
Page # 29
Cash …………………………………………………………………240
Management fees receivable ……………………………….. 120
Management fees earned …………………………………… 120
Collected management fee from Clayton for entire month.
Page # 30
ADJUSTING ENTRIES: PROBLEM 2
Alta sequoia Resort adjusts its accounts monthly and closes its accounts
annually. Most guests of the resort pay at the time they check out, and the
amounts collected are credited to Rental Revenue. A few quests pay in advance
for rooms, and these amounts are credited to Unearned Rental Revenue at the
time of receipt. The following information is available as a source for preparing
adjusting entries at Dec. 31:
a) Salaries earned by the employees but not yet recorded or paid to $ 7,900.
b) As of December 31, Alta sequoia has earned $ 11,075 rental revenue from
current quests who will not be billed until they are ready to check out.
c) On November 1, a suite of rooms was rented to a corporation for six months

at a monthly rental of $ 3,200. the entire six months rent of $ 19,200 was
collected in advance and credited to unearned Rental Revenue.
d) A limousine to carry quests to and from the airport had been rented beginning
December 19 from Transport Rentals, Inc, at a daily rate of $ 120. No rental
payment has yet been made.( the limousine has been rented for 13 days in
December)
e) A six month loan in the amount of $ 30,000 had been obtained on December
1. Interest is to be computed at a rate of 10% per year and is payable when
the loan is due. No interest has been paid and no interest expense has been
recorded.
f) Depreciation on the resort’s buildings is based on an estimated useful life of

30 years. The original cost of the building s was $ 1,755,000. Alta Sequoia
uses the straight line method.
g) In December, Alta Sequoia Resort entered into an agreement to host the

annual symposium of ACE in April of next year. The resort expects to earn
rental revenue of at least $ 45,000.
h) A one-year fire insurance policy had been purchased on September 1. the

premium of $ 7,200 for the entire life of the policy had been paid on
September 1 and recorded as Unexpired Insurance.
INSTRUCTION
Pass the adjusting entries for the above transactions if required
and if not no entry is needed to be passed in the journal book.
Page # 31
SOLUTION
Page #
GENERAL JOURNAL
Date Explanation (adjusting entries) LP Debit Credit
20___ (a)
Dec 31 Salaries expense 7 9 0 0
Salaries payable 7 9 0 0
To record salaries owed to employees at year- End
(b)
31 Rent Receivable 1 1 0 7 5
Rental Revenue 1 1 0 7 5
To record revenue earned but not collected
(c)
31 Unearned Rental Revenue 3 2 0 0
Rental Revenue 3 2 0 0
To record earning of rent revenue for Dec. Which
had been received in advance
(d)
31 Limousine Rental Expense 1 5 6 0
Rent Payable 1 5 6 0
To accrue rent expense for Limousine for 13 days
@ $ 120
(e)
31 Interest Expense 2 5 0
Interest Payable 2 5 0
To accrue one month’s interest on bank loan ( $
30,000×10%×1/12 = $ 250)
(f)
31 Depreciation Expense: Buildings 4 8 7 5
Accumulated Depreciation: Buildings 4 8 7 5
To record depreciation on buildings for Dec. (
$1,755,000÷ 30 yrs×1/12 = $4,875)
(g)
No entry required
(h)
31 Insurance Expense 6 0 0
Unexpired Insurance 6 0 0
To record insurance expense for December ( $
7,200×1/12 = $600 )
Page # 32
CLOSING TEMPORARY ACCOUNTS:
Revenue, expense, and drawing accounts are called temporary accounts, or
nominal accounts, because they accumulate the transactions of only one
accounting period. At the end of this accounting period, the changes in owner’s
equity accumulated in these temporary accounts are transferred into the owner’s
capital account. This process serves two purposes. First, it updates the balance
of the owner’s capital account for changes in owner’s equity occurring during the
accounting period. Second, it returns the balances of the temporary accounts to
zero, so that they are ready for measuring the revenue, expenses, and drawings
of the next accounting period.
The owner’s equity account and other balance sheet items are called permanent
or real accounts, because their balances continue to exist beyond the current
accounting period. The process of transferring the balances of the temporary
accounts into the owner’s permanent capital account is called closing the
account. The journal entries made for the purpose of closing the temporary
accounts are called closing entries.
Closing Entries for Revenue Accounts:
Revenue accounts have credit balances. Closing a revenue account, therefore,

means transferring its credit balance to the income summary account. This is
accomplished by a journal entry debiting the revenue account in an amount equal
to its credit balance, with an offsetting credit to the income summary account.
The debit portion of this closing entry returns the balance of the revenue account
to zero.
Oct 31 Sales Commissions Earned

10,640
Income summary account 10,640
To close the sales commissions earned account.
Closing Entries for Expense Accounts:
Expense accounts have debit balances. Closing an expense account means

transferring its debit balance to the income summary account. The journal entry
to close an expense account, therefore, consist of a credit to the expense
account in an amount equal to its debit balance, with an offsetting debit to the
income summary account
To close expense accounts we can close each account separately by crediting it

against income summary account, also we can close all the accounts together
into an income summary account by compound journal entries.
Page # 33
Oct 31 income summary 8,069
Advertising expense 630
Salaries expense 7,100
Telephone expense 144
Depreciation Expense: Building 150
Depreciation Expense: Office equipment 45]
To close the expense accounts.
After this closing entry the income summary account has a credit balance of
2,571 and the expense accounts have zero balances.
Closing Income Summary Account:
Since in the above revenue account was closed in income summary account
leaving the income summary account with a credit balance of 2,571, which is the
net income for the year. The net income of $2,571 earned during October causes
the owner’s equity account to increase. There for the credit balance of the
income summary account is transferred to the owner’s capital account.
Oct 31 Income summary account 2,571

James Robert, Capital 2,571
To close income summary account
Closing the Owner’s Drawing Account:
Withdrawals of cash and other assets by the owner are not considered as an
expense of the business and, therefore, are not a factor in determining the net
income for the period. Since drawing is not an expense, the owner’s drawing
account is closed not into the Income Summary account by directly in the
owner’s capital account.
Oct 31 James Roberts, Capital 2,800

James Roberts, Drawing 2,800
To close owner’s drawing account.
After Closing Trial Balance:

After revenue and expense accounts have been closed, it is desirable to prepare
an after-closing trial balance. To ensure that there was no error in posting the
closing entries in debit and credit balances of the ledger accounts.
Page # 34
SEQUENCE OF PROCEDURES IN THE ACCOUNTING CYCLE
1. Journalize Transactions:
2. Post to Ledger Accounts:
3. Prepare a Trail Balance:
4. Make End-of-Period Adjustments:
a) Journalize Adjustments
b) Post to Ledger Accounts
5. Prepare an Adjusted Trial Balance:
6. Prepare Financial Statements:
a) Income Statement
b) Owner’s Equity Statement
c) Balance Sheet
7. Close Temporary Accounts:
a) Journalize Closing Entries
b) Post to Ledger Accounts
8. Prepare After-Closing Trial Balance:
Page # 35
COMPREHENSIVE PROBLEM
A SHORT PRACTICE SET. BASED UPON A SERVICCE BUSINESS
TONY’S RENTAL.
On Sept.1, 20__ Anthony Ferrara organized a business called “Tony’s Rental” for
he purpose of operating an equipment rental yard. The new business was able to
begin its operations immediately by purchasing the assets and taking over the
location of Rent-All, an equipment rental company that was going out of
business.
Tony’s Rental uses the following chart of accounts:
Cash 1 Anthony Ferrara, Capital 30

Accounts receivable 4 Anthony Ferrara, Drawing 35
Prepaid Rent 6 Income Summary 40
Office supplies 8 Rental Fees Earned 50
Rental Equipment 10 Salaries Expense 60
Accum. Dep. Rental 12 Maintenance Expense 61
Equipment
Notes Payable 20 Utilities Expense 62
Accounts Payable 22 Rent Expense 63
Interest Payable 25 Office Supplies Expense 64
Salaries Payable 26 Depreciation Expense 65
Unearned Rental Fees 29 Interest Expense 66
The company closes its accounts and prepares financial statements at the end of
each month. During June, the company entered into the following transactions:
Sept. 1 Anthony Ferrara deposited $100,000 cash in a bank account in the

name of the business, Tony’s Rental.
Sept. 1 Paid $9,000 to Shapiro Realty as three months advance rent on the
rental yard and office formerly occupied by Rent-It.
Sept. 1 Purchased for $180,000 all the equipment formerly owned by Rent-
It. Paid $70,000 cash and issued a one-year note payable for
$110,000, plus interest at the annual rate of 9%.
Sept. 4 Purchased office supplies on account from Modern Office Co. as
$1,630. Payment due in 30 days.(these supplies are expected to
last for several months; debit the Office Supplies asset account)
Sept. 8 Received $10,000 cash from McBryan Construction Co. as
advance payment on rental equipment.
Sept. 12 Paid salaried for the first two weeks in September, $3,600.
Sept. 15 Excluding the McBryan advance, equipment rental fees earned
during the first 15 days of September amounted to $6,100 of which
$5,300 was received in cash.
Sept. 17 Purchased on account from Earth Movers Inc., $340 in parts
needed to repair rental tractor. Payment is due in 10 days.
Page # 36
Sept. 23 Collected $210 of the accounts receivable recorded on September
15.
Sept. 25 Rented a backhoe to Mission Landscaping at a price of $100 per
day, to be paid when the backhoe is returned. Mission Landscaping
is expected to keep the backhoe for two or three weeks.
Sept. 26 Paid Biweekly salaries, $3,600.
Sept. 27 Paid the account payable to Earth Movers, Inc., $340.
Sept. 28 Anthony Ferrara withdrew $2,000 cash from the business to pay
the rent on his personal residence.
Sept. 29 Tony’s Rental (Anthony Ferrara) was named, along with Mission
Landscaping and Collier Construction, as a co-defendant in a
$25,000 lawsuit filed on behalf of Kevin Davenport. Mission
Landscape has left the rented backhoe in a fenced construction site
owned by Collier Construction. After working hours on September
26, Davenport had climbed the fence to play on parked construction
equipment. While playing on the backhoe, he fell and broke his
arm. The extent of legal and financial responsibility for this
accident, if any, cannot be determined at this time.
Sept. 29 Purchased a 12-month public-liability insurance policy for $2,700.
This policy protects the company against liability for injuries and
property damage caused by its equipment. However, the policy
goes into effect on October 1, and affords no coverage for the
injuries sustained by Kevin Davenport on September 26.
Sept. 30 Received a bill from Universal Utilities for the month of September,
$270. Payment is due in 30 days.
Sept. 30 Equipment rental fees earned during second half of September and
received in cash amounted to $8,450.
Other Data for adjusting entries

a) The advance payment of rent on September 1 covered a period of three
months.
b) The accrued on the note payable to Rent-It amounted to $825 at
September 30.
c) The rental equipment is being depreciated over a period of 10 years.
d) Office supplies on hand at September 30 are estimated at $1,100.
e) During September, the company earned $4,840 of the rental fees paid in
advance by McBryan Construction Co. on September 8.
f) As of September 30, Tony’s Rental has earned five day’s rent on the
backhoe rented to Mission Landscaping on September 25.
g) Salaries earned by employees since the last payroll date (September 26)
amounted to $900 at month-end.
Page # 37
Instructions:
a) Journalize the above transactions.
b) Post to ledger accounts.
c) Prepare a trail balance.
d) Prepare adjusting entries. Journalize them and post in to ledger.
e) Prepare adjusted trial balance.
f) Prepare Financial Statements
g) Close temporary account.
h) Prepare after-closing trial balance.
i) Prepare a balance sheet at the end of the year.
Solution:
PREPARING JOURNAL ENTRIES

20___
Sept. 1. Cash 1 0 0 0 0 0
Anthony Ferrara, Capital 1 0 0 0 0 0
Owner invested in the business
1. Prepaid Rent 9 0 0 0
Cash 9 0 0 0
Paid three months advance rent to Shapiro
1. Rental Equipment 1 8 0 0 0 0
Cash 7 0 0 0 0
Notes Payable 1 1 0 0 0 0
Purchased equipment from Rent-It. Note Payable is
due in 1 year; interest at 9%
4. Office Supplies 1 6 3 0
Account Payable 1 6 3 0
Purchased supplies on account from Modern Office
Co.
8. Cash 1 0 0 0 0
Unearned Rental Fees 1 0 0 0 0
Received advance payment for equipment
Rental by McBryan Constructions Co.
12. Salaries Expense 3 6 0 0

Cash 3 6 0 0
Paid salaries for first two weeks in Sept.
Page # 38
15. Cash 5 3 0 0
Accounts Receivable 8 0 0
Rental fees earned 6 1 0 0
To record rental fees earned in first 15 day of Sept.
17. Maintenance Expense 3 4 0

Accounts Payable 3 4 0
To record the purchase of repair parts on Accounts
from Earth Movers, Inc; payment Due in 10 days.
23 Cash 2 1 0
Accounts Receivable 2 1 0
Collection of an account receivable
25 (no entry required to record rental of hoe)
26 Salaries Expense 3 6 0 0
Cash 3 6 0 0
Paid biweekly payroll.
27. Accounts Payable 3 4 0

Cash 3 4 0
Paid account payable to Earth Movers, Inc
28 Anthony Ferrara, Drawing 2 0 0 0

Cash 2 0 0 0
Owner withdrew cash from the business
29 (no journal entry required to record lawsuit)
29 Unexpired Insurance 2 7 0 0
Cash 2 7 0 0
Purchased 12-month liability policy, effective Oct 1.
30 Utilities Expense 2 7 0
Accounts Payable 2 7 0
Utilities for September; payment due in 30 days
30 Cash 8 4 5 0
Rental Fees Earned 8 4 5 0
Fees earned in last half of September
The general journal pages 3 and 4 are used for adjusting

and closing entries
Page # 39
POSTING TO LEDGER ACCOUNTS
CASH
Sept.
1 1 0 0 0 0 0 10 0 0 0 0
1 9 0 0 0 9 1 0 0 0
1 7 0 0 0 0 2 1 0 0 0
8 1 0 0 0 0 3 1 0 0 0
12 3 6 0 0 2 7 4 0 0
15 5 3 0 0 3 2 7 0 0
23 2 1 0 3 2 9 1 0
26 3 6 0 0 2 9 3 1 0
27 3 4 0 2 8 9 7 0
28 2 0 0 0 2 6 9 7 0
29 2 7 0 0 2 4 2 7 0
30 8 4 5 0 3 2 7 2 0
Accounts Receivable
Sept.
15 8 0 0 800
2 1 0 590
Prepaid Rent
Sept.
1 9 0 0 0 900 0
Unexpired Insurance
Sept.
29 2 7 0 0 270 0
Page # 40
Office Supplies
Sept.
4 1 6 3 0 163 0
Rental Equipment
Sept.
1 1 8 0 0 0 0 18000 0
Notes Payable
Sept.
1 1 1 0 0 0 0 11000 0
Accounts Payable
Sept.
4 1 6 3 0 1 6 3 0
17 3 4 0 1 9 7 0
27 3 4 0 1 6 3 0
30 2 7 0 1 9 0 0
Unearned Rental Fees

Sept.
8 1 0 0 0 0 10000
Anthony Ferrara, Capital

Sept.
1 1 0 0 0 0 0 10000 0
Page # 41
Anthony Ferrara, Drawings
Sept.
28 2 0 0 0 200 0
Rental Fees Earned

Sept.
15 6 1 0 0 610 0
30 8 4 5 0 1455 0
Salaries Expense
Sept.
12 3 6 0 0 360 0
26 3 6 0 0 720 0
Maintenance Expense
Sept.
17 3 4 0 34 0
Utilities Expense
Sept.
30 2 7 0 27 0
Page # 42
Making an Adjusted Trial Balance
TONY’S RENTAL
Trial Balance
SEPTEMBER 30, 20__
Assets
Cash $ 32,720
Account Receivable 590
Prepaid Rent 9,000
Unexpired Insurance 2,700
Office Supplies 1,630
Rental Equipment 180,000
Liabilities
Notes Payable 110,000
Accounts Payable 1,900
Unearned Rental Fees 10,000
Owner’s Equity
Anthony Ferrara, Capital 100,000
Anthony Ferrara, Drawing 2,000
Revenue
Rental Fees Earned 14,550
Expenses
Salaries Expense 7,200
Maintenance Expense 340
Utilities Expense 270
Total $ 236,450 $ 236,450
Page # 43
PREPARING ADJUSTING ENTRIES

(Adjusting Entries )
20__
Sept. 30 Rent Expense 3 0 0 0
Prepaid Rent 3 0 0 0
To recognize rent expense for September
30 Interest Expense 8 2 5
Interest Payable 8 2 5
To record interest accrued on note to Rent-It
30 Depreciation Expense 1 5 0 0
Acc. Dep: Rental Equipment 1 5 0 0
Depreciation for Sept.
($180,000÷10years×1/12=$1,500)
30 Office Supplies Expense 5 3 0

Office Supplies 5 3 0
To record office supplies used during the Month
($1,630 – $1,100= $530)
30 Unearned Rental Fees 4 8 4 0

Rental Fees Earned 4 8 4 0
To record portion of advance payment by McBryan
Construction Co. earned during September.
30 Accounts Receivable 5 0 0
Rental Fees Earned 5 0 0
To record fees earned from Mission Landscaping
on Hoe(5days×$100/day)
30 Salaries Expense 9 0 0
Salaries Payable 9 0 0
To record accrued salaries payable at Month-end.
Page # 44
CASH
Sept.
1 1 0 0 0 0 0 10 0 0 0 0
1 9 0 0 0 9 1 0 0 0
1 7 0 0 0 0 2 1 0 0 0
8 1 0 0 0 0 3 1 0 0 0
12 3 6 0 0 2 7 4 0 0
15 5 3 0 0 3 2 7 0 0
23 2 1 0 3 2 9 1 0
26 3 6 0 0 2 9 3 1 0
27 3 4 0 2 8 9 7 0
28 2 0 0 0 2 6 9 7 0
29 2 7 0 0 2 4 2 7 0
30 8 4 5 0 3 2 7 2 0
Accounts Receivable
Sept.
15 8 0 0 800
2 1 0 590
5 0 0 1090
Prepaid Rent
Sept. 9 0 0 0 900 0
1 3 0 0 0 600 0
30
Unexpired Insurance
Sept.
29 2 7 0 0 270
Page # 45
Office Supplies
Sept.
4 1 6 3 0 1630
30 5 3 0 1100
Rental Equipment
Sept.
1 1 8 0 0 0 0 18000 0
Accumulated Depreciation; Rental Equipment

Sept.
30 1 5 0 0 1500
Notes Payable
Sept.
1 1 1 0 0 0 0 11000 0
Accounts Payable
Sept.
4 1 6 3 0 1 6 3 0
17 3 4 0 1 9 7 0
27 3 4 0 1 6 3 0
30 2 7 0 1 9 0 0
Interest Payable
Sept.
30 8 2 5 825
Page # 46
Salaries Payable
Sept.
30 9 0 0 900
Unearned Rental Fees

Sept.
8 1 0 0 0 0 1000 0
30 4 8 4 0 516 0

Sept.
1 1 0 0 0 0 0 10000 0

Sept.
28 2 0 0 0 200 0
Rental Fees Earned

Sept.
15 6 1 0 0 610 0
30 8 4 5 0 1455 0
30 4 8 4 0 1939 0
30 5 0 0 1989 0
Maintenance Expense
Sept.
17 3 4 0 34 0
Page # 47
Salaries Expense
Sept.
12 3 6 0 0 360 0
26 3 6 0 0 720 0
30 9 0 0 810 0
Utilities Expense
Sept.
30 2 7 0 270
Rent Expense
Sept.
30 3 0 0 0 3000
Office Supplies Expense

Sept.
30 5 3 0 530
Depreciation Expense
Sept.
30 1 5 0 0 1500
Interest Expense
Sept.
30 8 2 5 825
Page # 48
Making an Adjusted Trial Balance
TONY’S RENTAL
Adjusted Trial Balance
SEPTEMBER 30, 20__
Assets
Cash $ 32,720
Account Receivable 1,090
Prepaid Rent 6,000
Acc. Depreciation: Rental Equipment $1,500
Liabilities
Notes Payable 110,000
Salaries Payable 900
Interest Payable 825
Owner’s Equity
Anthony Ferrara, Drawing 2,000
Revenue
Rental Fees Earned 19,890
Expenses
Rent Expense 3,000
Interest Expense 825
Office supply Expense 530
Depreciation Expense 1,500
Total $ 240,175 $ 240,175
Page # 49
PREPARING INCOME STATEMENT
TONY’S RENTAL
Income Statement
For the month Ended September 30, 20__
Revenue:
Rental fees earned 19,890
Expense:
Rent Expense 3,000
Office Supplies expense 530
Depreciation Expense 1,500
Interest Expense 825
Total Expenses 14,565
Net Income 5,325
PREPARING STATEMENT OF OWNER’S EQUITY
TONY’S RENTAL
Statement Of The Owner’s Equity
Anthony Ferrara, capital $ 100,000

Add: Net Income 5,325
Subtotal $ 105,325
Less: Withdrawals 2,000
Net Anthony Ferrara, capital $ 103,325
Page # 50
PREPARING BALANCE SHEET
TONY’S RENTAL
Balance Sheet
Asset
Cash $ 32,720
Prepaid Rent 6,000
Acc. depreciation: Rental equipment 1,500
Total Assets $ 222,110
Liabilities & Owner’s Equity

Liabilities:
Notes Payable $ 110,000
Interest Payable 825
Total liabilities $118,785
Owner’s Equity:
Total $222,110 $222,110
Page # 51
PREPARING CLOSING JOURNAL ENTRIES

(Closing Entries)
20__
30 Rental Fees Earned 1 9 8 9 0
Income Summary 1 9 8 9 0
To close the revenue account.
30 Income Summary 1 4 5 6 5
Salaries Expense 8 1 0 0
Maintenance Expense 3 4 0
Utilities Expense 2 7 0
Rent Expense 3 0 0 0
Interest Expense 8 2 5
Depreciation Expense 1 5 0 0
Office Supplies Expense 5 3 0
To close the expenses accounts.
30 Income Summary Account 5 3 2 5

Anthony Ferrara, Capital 5 3 2 5
To close the Income Summary account.
30 Anthony Ferrara, Capital 2 0 0 0

Anthony Ferrara, Drawing 2 0 0 0
To close the owner’s drawing account.
Page # 52
POSTING CLOSING ENTRIES TO LEDGER ACCOUNTS
* Other Ledger Accounts (assets and Liabilities) will remain unchanged.

Sept.
1 1 0 0 0 0 0 10000 0
30 Closing Income Sum 5 3 2 5 10532 5
30 Closing Drawing 2 0 0 0 10332 5

Sept.
28 2 0 0 0 2000
30 To close 2 0 0 0 - 0 -
Income Summary
Sept
30 To close revenue a/c 1 9 8 9 0 19890
30 To close expense a/c 1 4 5 6 5 5325
30 To close income sum. 5 3 2 5 - 0 -
Rental Fees Earned

Sept.
15 6 1 0 0 6 6 1 0 0
30 8 4 5 0 8 14 5 5 0
30 4 8 4 0 4 19 3 9 0
30 4 0 0 19 8 9 0
30 To close 1 9 8 9 0 - 0 -
Page # 53
Salaries Expense
Sept.
12 3 6 0 0 3600
26 3 6 0 0 7200
30 9 0 0 8100
30 To close 8 1 0 0 - 0 -
Maintenance Expense
Sept.
17 3 4 0 340
30 To close 3 4 0 - 0 -
Utilities Expense
Sept.
30 2 7 0 270
30 To close 2 7 0 - 0 -
Rent Expense
Sept.
30 3 0 0 0 3000
30 To close 3 0 0 0 - 0 -
Office Supplies Expense

Sept.
30 5 3 0 530
30 To close 5 3 0 - 0 -
Page # 54
Depreciation Expense
Sept.
30 1 5 0 0 1500
30 To close 1 5 0 0 - 0 -
Interest Expense
Sept.
30 8 2 5 825
30 To close 8 2 5 - 0 -
PREPARING AFTER-CLOSING TRIAL BALANCE
TONY’S RENTALS
After-Closing Trial Balance
September 30,20___
Assets
Cash $ 32,720
Prepaid Rent 6,000
Accumulated depreciation: Rental equipment $ 1,500
Book Value Rental Equipment 178,500
Liability
Notes Payable
Interest Payable 1,900
Unearned Rental Fees 900
5,160
Owner Equity
103,325
$ 222,110 $ 222,110
Page # 55

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What is accounting?

Accounting is the art of interpreting, measuring, and communicating the

Audits of financial statements:

ROBERTS REAL ESTATE COMPANY

Assets Liabilities & Owner’s Equity

ROBERTS REAL ESTATE COMPANY

Purchase of an Asset for Cash:

ROBERTS REAL ESTATE COMPANY

Purchase of an Asset and Incurring of a Liability

ROBERTS REAL ESTATE COMPANY

ROBERTS REAL ESTATE COMPANY

Purchase of an Asset on Credit:

Collection of an Account Receivable:

Sailboats $ 15,200 Building $225,000

Instructions: Prepare a balance sheet at December 31, 2001.

A/C Payable $ 8,500 Land $55,000

THE ORIGINAL MALT SHOP

Debit and Credit:

Debit: An amount entered on the left-hand side of an account. A debit is used to

Credit: An amount entered on the right-hand side of an account. A credit is used

RULES FOR DEBIT AND CREDIT

Debit balances in asset accounts:

Any asset account

Credit balances in liability and Owner’s Equity Accounts:

Any liability or owner’s equity account

A system of recording every business transaction with equal dollar amount of

Transaction (a) Robert invested $180,000 cash in the business on

Analysis Rule Entry

Cash James Robert, Capital

9/1 (a) 180,000 9/1 (a) 180,000

Transaction (b) On September 3, Roberts Real Estate Company purchased

Analysis Rule Entry

9/1 180,000 9/3 (b) 141,000 9/3 (b) 141,000

Transaction (c) On September 5, Roberts Real Estate Co. purchased a

Analysis Rule Entry

9/1 180,000 9/3 141,000 9/5 (c) 21,000

9/5 (c) 36,000

Transaction (d) On September 10, Roberts Real Estate Company sold a

Analysis Rule Entry

A/C receivable Land

9/10 (d) 11,000 9/3 141,000 9/10 (d) 11,000

Transaction (e) On September 14, Roberts Real Estate Company purchased

Analysis Rule Entry

Office equipment A/C payable

9/14 (e) 5,400 9/3 (b) 141,000 9/5 21,000

Transaction (f) On September 20, cash of $1,500 was received as partial

Cash A/C receivable

9/1 180,000 9/3 141,000 9/10 11,000 9/20 (f) 1,500

Transaction (g) On September 30, a cash payment of $3,000 was made in

Analysis Rule Entry

Cash Accounts payable

9/1 180,000 9/3 141,000 9/30 (g) 3,000 9/5 21,000

Why Use a Journal?

Transactions (To illustrate the use of journal):

Mar 2: Purchased land for $141,000 cash.

Mar 5: Purchased a prefabricated building for $36,000, paying $15,000

Mar 14: Purchased office equipment on credit for $5,400.

Mar 30: Paid $3,000 on account payable.

The account titles used by the Robert Real Estate Company: