1.0 INTRODUCTION
You will take about one hour to study this 4th note of this
course. In this note, you will study the double entry system of accounting, in
which the following points will be covered.
1. Double aspect of a business transaction
2. Double effect of a business transaction and
3. The essential rule of double entry system.
The above points will lead us to the treatment of the already
mentioned three types of ledger accounts, in note one i.e. Personal accounts,
Real accounts and Nominal accounts.
2.0 OBJECTIVES
At the end of this note, you should be able to:
• identify in a business transaction the double entries
• understand the double effect of a business transaction upon
the finances of any party to it
• apply the essential rule of double-entry system of
accounting in identifying the account to be credited in the two accounts
involved in a business transaction.
3.0 MAIN CONTENT
3.1 Double-Entry System of Accounting
Double-Entry system is the system in Accounting whereby every
transaction that has to be recorded gives rise to two entries, the first one a
debit entry and the other a credit entry. It is in this double entry system
that the Golden Rule of Double Entry System is used.
3.2 Double Aspect of Transaction
Every business transaction involves two persons, one who parts
with something and one who receives it. For example, in every sales, a seller
and buyer are involved. The seller parts with that which is sold, and the buyer
receives it.
Similarly, when money is paid one person parts with it and
another receives it. No matter what transaction is taken as an example it is
always found that there are two parties, one who parts with something and one
who receives it. For this reason it is said that every transaction has a double
aspect; the aspect of one party parting with something and the aspect of the
other receiving it.
3.3 Double Effect of a Transaction
Apart from the double aspect of a business transaction, what
is more important still is that we should understand that every transaction has
a double effect upon the finances of any single business which is a party to
it.
Thus, if money is loaned to a business, an asset of a
business, i.e. cash, is increased and the liabilities, i.e. the amounts owing
by the business, are also increased. When property for use in the business is
bought on credit, both an asset, e.g. buildings and the liabilities of the
business are increased. When the property is paid for an asset, i.e. cash, and
the liabilities of the business are both reduced. When goods or services are
bought on credit, the expenditure of the business and its liabilities are both
increased. When the goods and services are paid for, an asset of the business
i.e. cash, and its liabilities are both reduced. Also, when goods or services
are sold on credit, the income of the business Is increased and an asset, i.e.
debts owing by customers, is also increased.
When the customer pays for the goods or asset, i.e. debts
owing by customers, is reduced. Thus, in any business every transaction in
which the business is involved has a double effect upon its finances. You
should note that double-entry system of accounting is designed to record thus
double effect.
Now, you should consider the follow examples:
3.4 Golden Rules of Double-Entry
In a double-entry system of accounting one aspect or effect of
a transaction is always recorded by a debit posting to a ledger account, and
the other aspect or effect is always recorded by a credit posting to another
ledger account.
The essential rule of double-entry system of accounting known
as Golden Rule of Double-Entry System of Accounting is that every transaction
gives rise to both a debit and a credit entry, i.e. "for every debit
entry, there must be a corresponding credit entry, and vice-versa, for every
credit entry there must be a corresponding debit entry". Thus, the total
debits and the total credits should always agree. The 'receiving' aspect of
every transaction is always recorded by a debit entry in a ledger account and
the "imparting" aspect is always recorded by a credit entry.
Thus, when a person parts with anything which is received by
the business, the account for that person in..the books of the business must be
credited and some other account in the books of the business must be debited.
The account to be debited depends upon the nature of that which the business
receives. When a person receives anything, with which the business has parted,
the account of that person in the books of the business must be debited, and
some other account in the books of the business must be credited. Again, the
account to be credited depends upon the nature of that with which the business
parts.
There are separate rules of the double entry system in respect
of Personal Accounts, Real Accounts and Nominal Accounts which are discussed
below:
1. Personal Accounts
As discussed earlier, these accounts record a business's
dealing with persons or firms. The person receiving something is given debit
and the person giving something is given credit. For example, if John sells
goods to James on credit, James's Account will be debited (in John's book) as
he is the receiver of goods and John's account will be credited (in James's
book) as he is the giver of goods. When James makes the payment for these
goods, John's Account will be debited in James's book as he is the receiver of
the cash and James account will be credited in John's books as he is the giver
of cash.
2. Real Accounts
These are the accounts of Assets. Assets entering the business
is given debit and assets leaving the business is given credit. For example,
when goods are sold for cash, Cash Account will be debited as cash comes in and
Goods Accounts will be credited as goods goes out.
So, the rule is debit what comes in and credit what goes out.
3. Nominal Accounts
These accounts deal with expenses, incomes, profits and
losses. Account of expenses and losses are debited and accounts of incomes and
gains are credited. For examples, when rent is paid to the landlord, Rent
account will be debited as it is an expenses and cash account (real account)
will be credited as it goes out.
Similarly, when commission is received, cash account will be
debited as cash is received and commission account will be credited as it is an
income.
Thus, the rule is: debit all expenses and losses and credit
all incomes and gains.
For more explanation, the rules of double entry system of
accounting are shown in the following chart:
Rules of Double Entry
From the above chart, you will be able to identify accounts to
be debited and those to be credited without any problem.
4.0 CONCLUSION
In double entry system of accounting, two parties are involved
in a business transaction. No matter the type of business one has to part with
something and another person will receive it.
Similarly, we discussed the double effect of the transaction
on the assets of the two parties involves in it. In order to keep proper books
of accounts, the Golden Rule of Double Entry System of Accounting must be
obeyed.
5.0 SUMMARY
In this note, we have studied the double entry system of
accounting. Every financial transaction involves a two-fold aspect, the person
who parts with something and the person who received it. To have a complete
record of each financial transaction, there must be a double entry in the books
of accounts of the business. An entry being made in the receiving account and a
similar entry in the giving account. The receiving account is termed as
Debtor's Account and the giving account is called Creditor's Account. Thus,
every debit entry must have a corresponding credit entry vice versa.
In this Note, we also discussed the double effect of a
financial transaction. Every transaction has a double effect upon the finances
of each of the parties to it.
0 comments:
Post a Comment