Double Entry System & Book Keeping
DEFINITION:
The system of recording transactions having two fundamental aspects - one
involving the receiving of a benefit and the other giving the benefit - in the
same set of books.
• Two fold of each transaction – receiving and giving.
• Recorded in terms of accounts
• Every debit must have corresponding credit and vice versa
• Eg: Bought machinery for Rs.30000- increase in machinery & decrease in
cash by Rs.30000
• Change in machinery - change in debit
• Change in Cash - change in credit
The system under which both the changes in a transaction are recorded
together, one change is debited, while the other change is credited with an
equal amount, is known as double entry system of book- keeping. Double
entry system is based on the principle that “Every debit has a credit and
every credit has a debit.”
Advantages:
i. Preparation financial statements;
ii. Systematic, Scientific and reliable information;
iii. Prevention of accounting frauds
iv. To know the business progression
Limitations:
v. Maintenance of too many records/books
vi. Hence costly
vii. No guarantee for the accuracy
Meaning & Classification of Accounts
Accounting System: Records, retains and reproduces financial information
relating to financial transaction flows and financial position.
• Primary groups- Capital, assets, liabilities, incomes and expenses & separate
record for each - known as “Account”
• Capital - Capital, Interest on Capital, Drawings, Interest on Capital
& Profit/loss
• Assets - Machinery, Land & Buildings, Plant, Motor Vehicles etc.
- Bank, Cash, Bills receivables, Inventory/Stock,
Debtors etc.
- Goodwill, Patents, Copyrights, Trademarks etc.
• Liabilities - Capital, Bonds, Debentures & Long term loan etc.
- Bills Payables, Creditors, Out standing expenses etc.
• Incomes - Sales, Interest received, Discount received, Dividend received
etc.
• Expenses - Purchases & payment towards any expenditure.
Classification of Accounts
Traditional Modern
Assets Accounts
Personal Accounts
Liabilities Accounts
Real Accounts
Capital Account
Nominal Accounts
Expenses Account
Incomes Accounts
Fundamental Rules
Increase in Assets Debit
Decrease in Assets Credit
Increase in liabilities Credit
Decrease in liabilities Debit
Increase in Capital Credit
Decrease in Capital Debit
Increase in expenses/losses Debit
Decrease in expenses/losses Credit
Increase in Revenues/Gains Credit
Decrease in Revenues/Gains Debit
CAPITAL AND REVENUE
EXPENDITURES AND RECEIPTS:
Expenditure is incurring a liability, disbursement of cash or transfer of property
for the purpose of obtaining assets, goods or services.
Expenditures are divided into three categories:
1. Capital expenditure
2. Revenue expenditure, and
3. Deferred revenue expenditure
Capital expenditure
According to Kohler the term capital expenditure is “generally restricted to
expenditures that add fixed asset units or that have the effect of increasing the
capacity, efficiency, life span, or economy of operation of an existing fixed
asset.”
Treatment of Capital Expenditure. Capital expenditure is capitalized. It is written
off over the estimated useful life of the asset.
Revenue Expenditure:
If an expenditure is made not for the purpose of bringing into existence any
capital asset or advantage of enduring nature but for running the business or
working it with a view to produce the profits is revenue expenditure. Such
expenditure benefits the current period only.
Deferred Revenue Expenditure:
Deferred revenue expenditure is a revenue expenditure by nature but it is not
treated as revenue expenditure on the ground that its benefit is not fully
exhausted in the accounting period in which it is incurred. The Guidance Note on
‘Terms used in Financial Statement’, issued by the Institute of Chartered
Accountant of India, states that “Deferred revenue expenditure is that
expenditure for which payment has been made or a liability incurred but which
is carried forward on the presumption that it will benefit over a subsequent
period or periods.”
Capital Receipts and Revenue
Receipts:
Capital receipts are not obtained in the course of normal business activities of
the enterprise whereas revenue receipts are obtained in the course of normal
business activities.
Capital receipts are usually obtained in case of a company from issue of shares,
debentures, borrowings and sale of fixed assets or investments. Revenue
receipts are usually obtained from sale of goods, rendering of services or use of
enterprise resources yielding interest, royalties and dividend.
Capital receipts are usually of non-recurring nature and revenue receipts are
usually of recurring nature. Capital receipts from financing activities such as
issue of shares, debentures and borrowings are shown on the liabilities side of
the balance sheet as these receipts create liabilities payable at a future date
whereas interest on borrowings is shown as a charge in the Profit and Loss
Account and dividends to shareholders are shown as appropriation of profit in
the appropriation section of Profit and Loss Account. Interest
accrued/outstanding will also be shown as a liability.
ACCOUNTING EQUATION:
The accounting equation represents the relationship between the assets,
liabilities and capital of a business and it is fundamental to the application of
double entry bookkeeping where every transaction has a dual effect on the
financial statements.
In its simplest form, the accounting equation can be shown as follows:
Capital = Assets – Liabilities
(or)
Assets = Capital + Liabilities
(or)
Assets = Capital introduced + (Income – Expenses) – Drawings + Liabilities
