Financial Accounting – NOTES CHAP 3 : double-entry bookkeeping
INTRODUCTION
Working def : a way of systematically recording the financial transactions of a company so that each
transaction is recorded twice
Formal def : most commonly used system of bookkeeping based on the principle that every financial
transaction involves the simultaneous receiving and giving of a value, and is therefore recorded twice.
Double-entry bookkeeping is a key element to understand accounting
= A way of systematically recording accounting transactions into an orga’s accounting books.
-it’s a business diary where all the financial transactions are recorded;
-it’s systematic recording of income, expenses, assets, liabilities and equity.
THE ACCOUNTING EQUATION
-Each transaction is recorded twice because it’s a method of checking that the entries have been made
correctly
-At the heart of the double-entry system is the accounting equation
Step 1 :
Assets=Liabilities
For every asset, there is a liability
Step 2 : equity is a type of liabilities because it is owed to the owner of a business
If we expand our accounting equation to formally distinguish btw claims which owners have over a
business (equity) and claims which others have over the business (third-party liabilities), we now
have:
Assets=Liabilities+Equity
Step 3 :
Assets=Liabilites+Equity+Profit
When orga earns a profit, its assets increase. Profit is on the same side as liabilities because profit
is owed to the owner. Thus, profit also increases the owner’s share in the business. If a loss is
made, assets decrease, but the principle of equality still holds
Step 4 :
Asssets=Liabilities+Equity (+Income−Expenses)
All we have done is broken down profit into its constituent parts. The basic equality is maintained
Step 5 :
Assets+Expenses=Liabilites+Equity +Income
We have now rearranged the accounting equation by adding expenses to assets. We have still
preserved the accounting equation
Step 6 : In accounting terms, assets and expenses are recorded using debit entries and income, liabilities
and equity are recorded using credit entries. Each page of each book of account has a debit side
(left) and a credit side (right)
‘T’ Account (ledger account)
Assets and expenses
on the left-hand side
DEBIT
Incomes, liabilities and capital
On the right-hand side
CREDIT
Rule of double-entry bookkeeping:
-For every transact°, there must be a debit and credit entry
- these debit and credit entries are equal and opposite
-in the cash book all accounts paid in are recorded on the debit side, whereas all amounts paid out are
recorded on the credit side
Summary of some of the major types of assets, liabilities and equity, income and expenses
