Download Trial Balance CHAPTER 2 THE RECORDING

CHAPTER 2
THE RECORDING PROCESS
After studying this chapter, you should be able to:
1 Explain what an account is and how it helps
in the recording process.
2 Define debits and credits and explain how
they are used to record business
transactions.
3 Identify the basic steps in the recording
process.
4 Explain what a journal is and how it helps
in the recording process.
CHAPTER 2
THE RECORDING PROCESS
After studying this chapter, you should be able to:
5 Explain what a ledger is and how it helps in the
recording process.
6 Explain what posting is and how it helps in the
recording process.
7 Prepare a trial balance and explain its purpose.
Trial Balance
THE ACCOUNT
 An account is an individual accounting
record of increases and decreases in a
specific asset, liability, or stockholders’
equity item.
 A company will have separate accounts
for such items as cash, salaries
expense, accounts payable, and so on.
DEBITS AND CREDITS
 The terms debit and credit mean left and right,
respectively.
 The act of entering an amount on the left side of an
account is called debiting the account and making an
entry on the right side is crediting the account.
 When the debit amounts exceed the credits, an account
has a debit balance; when the reverse is true, the account
has a credit balance.
DEBITING AN ACCOUNT
Cash
Debits
15,000
Credits
Example: The owner (stockholder) invests
$15,000 cash to start the business.
Cash is debited and Common
Stock is credited for $15,000.
CREDITING AN ACCOUNT
Cash
Debits
Credits
7,000
Example: Monthly rent of $7,000 is paid.
Cash is credited as Rent Expense is
debited.
DEBITING AND
CREDITING AN ACCOUNT
Cash
Debits
15,000
8,000
Credits
7,000
Example: Cash is debited for $15,000 and
credited for $7,000, leaving a debit
balance of $8,000.
DOUBLE-ENTRY SYSTEM
 In a double-entry system, equal debits and
credits are made in the accounts for each
transaction.
 Total debits will always equal total credits
and the accounting equation will always
stay in balance.
Assets
Liabilities
Equity
ILLUSTRATION 2-3
DEBIT AND CREDIT EFFECTS - ASSETS AND LIABILITIES
Debits
Credits
Increase assets
Decrease liabilities
Decrease assets
Increase liabilities
NORMAL BALANCE
 Normal balance is the side where an
increase in the account is recorded.
 Every account has a normal balance,
whether it is a debit or credit.
 The opposite side entries should not
exceed the normal balance.
ILLUSTRATION 2-4
NORMAL BALANCES - ASSETS AND LIABILITIES
Assets
Liabilities
Increase
Decrease
Decrease
Increase
Debit
Credit
Debit
Credit
Normal
Balance
Normal
Balance
ILLUSTRATION 2-5
DEBIT AND CREDIT EFFECT - COMMON STOCK
Debits
Decrease common stock
Credits
Increase common stock
ILLUSTRATION 2-6
NORMAL BALANCE - COMMON STOCK
Common Stock
Decrease
Increase
Debit
Credit
Normal
Balance
ILLUSTRATION 2-7
DEBIT
AND CREDIT EFFECT AND NORMAL
BALANCE - RETAINED EARNINGS
Retained Earnings
Decrease
Increase
Debit
Credit
Normal
Balance
ILLUSTRATION 2-8
DEBIT
AND CREDIT EFFECT AND NORMAL
BALANCE - DIVIDENDS
Dividends
Increase
Decrease
Debit
Credit
Normal
Balance
ILLUSTRATION 2-9
DEBIT AND CREDIT EFFECTS - REVENUES AND EXPENSES
Debits
Decrease revenues
Increase expenses
Credits
Increase revenues
Decrease expenses
ILLUSTRATION 2-10
NORMAL BALANCES - REVENUES AND EXPENSES
Revenues
Decrease
Debit
Expenses
Increase
Credit
Increase
Debit
Normal
Balance
Normal
Balance
Decrease
Credit
ILLUSTRATION 2-11
STOCKHOLDERS’ EQUITY RELATIONSHIPS
Balance Sheet
Stockholders’ Equity
Common Stock
Retained Earnings
(Investments by stockholders)
(Net income retained in business)
Dividends
Net income or Net loss
(Revenues less expenses)
Income Statement
Retained Earnings Statement
ILLUSTRATION 2-12
EXPANDED BASIC EQUATION AND
DEBIT/CREDIT RULES AND EFFECTS
Basic Equation
Assets
Stockholders’ Equity
= Liabilities +
Expanded Basic Equation
Assets
Dr.
+
Cr.
-
= Liabilities + Common
Stock
Dr.
-
Cr.
+
Dr.
-
Cr.
+
+
Retained
Earnings
Dr.
-
Cr.
+
+ Revenues
Dr.
-
Cr.
+
- Dividends - Expenses
Dr.
+
Cr.
-
Dr.
+
Cr.
-
STEPS IN THE
RECORDING PROCESS
The basic steps in the recording process are:
1.
2.
3.
Analyze each transaction in terms of its effect on
the accounts.
Enter the transaction information in a journal
(book of original entry).
Transfer the journal information to the
appropriate accounts in the ledger (book of
accounts).
ILLUSTRATION 2-13
THE RECORDING PROCESS
JOURNAL
JOURNAL
LEDGER
1 Analyze each transaction
2 Enter transaction in a journal
3 Transfer journal information to ledger accounts
THE JOURNAL
 Transactions are initially recorded in chronological order
in a journal before being transferred to the accounts.
 Every company has a general journal which contains:
1 spaces for dates,
2 account titles and explanations,
3 references, and
4 two amount columns.
THE JOURNAL
The journal makes several significant contributions to the
recording process:
1 It discloses in one place the complete effect of a
transaction.
2 It provides a chronological record of transactions.
3 It helps to prevent or locate errors because the debit and
credit amounts for each entry can be readily compared.
JOURNALIZING
 Entering transaction data in the journal is
known as journalizing.
 Separate journal entries are made for each
transaction.
 A complete entry consists of:
1 the date of the transaction,
2 the accounts and amounts to be debited
and credited, and
3 a brief explanation of the transaction.
ILLUSTRATION 2-14
TECHNIQUE OF JOURNALIZING
The date of the transaction is entered in the date column.
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Cash
Common Stock
(Issued shares of stock for
cash)
1 Computer Equipment
Cash
(Purchased equipment for
cash)
Ref.
Debit
Credit
15,000
15,000
7,000
7,000
ILLUSTRATION 2-14
TECHNIQUE OF JOURNALIZING
The debit account title is entered at the extreme left
margin of the Account Titles and Explanation column.
The credit account title is indented on the next line.
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Cash
Common Stock
(Issued shares of stock for
cash)
1 Computer Equipment
Cash
(Purchased equipment for
cash)
Ref.
Debit
Credit
15,000
15,000
7,000
7,000
ILLUSTRATION 2-14
TECHNIQUE OF JOURNALIZING
The amounts for the debits are recorded in the Debit
column and the amounts for the credits are recorded in
the Credit column.
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Cash
Common Stock
(Issued shares of stock for
cash)
1 Computer Equipment
Cash
(Purchased equipment for
cash)
Ref.
Debit
Credit
15,000
15,000
7,000
7,000
ILLUSTRATION 2-14
TECHNIQUE OF JOURNALIZING
A brief explanation of the transaction is given.
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Cash
Common Stock
(Issued shares of stock for
cash)
1 Computer Equipment
Cash
(Purchased equipment for
cash)
Ref.
Debit
Credit
15,000
15,000
7,000
7,000
ILLUSTRATION 2-14
TECHNIQUE OF JOURNALIZING
A space is left between journal entries. The blank
space separates individual journal entries and makes
the entire journal easier to read.
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Ref.
Debit
Cash
Common Stock
(Issued shares of stock for
cash)
15,000
1 Computer Equipment
Cash
(Purchased equipment for
cash)
7,000
Credit
15,000
7,000
ILLUSTRATION 2-14
TECHNIQUE OF JOURNALIZING
The Ref. column is left blank at the time journal entry
is made and is used later when the journal entries are
transferred to the ledger accounts.
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Cash
Common Stock
(Issued shares of stock for
cash)
1 Computer Equipment
Cash
(Purchased equipment for
cash)
Ref.
Debit
Credit
15,000
15,000
7,000
7,000
THE LEDGER
 The entire group of accounts maintained by a company
is referred to as the ledger.
 A general ledger contains all the assets, liabilities, and
stockholder’s equity accounts.
GENERAL
LEDGER
ILLUSTRATION 2-16
THE GENERAL LEDGER
Individual
Assets
Equipment
Land
Supplies
Cash
Individual
Liabilities
Interest Payable
Salaries Payable
Accounts Payable
Notes Payable
Individual
Stockholders’
Equity
Salaries Expense
Service Revenue
Common Stock
Retained Earnings
ILLUSTRATION 2-18
POSTING A JOURNAL ENTRY
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Ref.
Cash
Common Stock
( issued shares of stock for
cash)
Debit
101 15,000
311
Credit
15,000
GENERAL LEDGER
CASH
Date
2002
Sept. 1
Explanation
NO. 101
Ref.
J1
Debit
Credit
15,000
15,000
NO. 311
COMMON
STOCK
COMMON
STOCK
Date
2002
Sept. 1
Explanation
Balance
Ref.
J1
Debit
Credit
Balance
15,000
15,000
In the ledger, enter in the appropriate columns of the account (s)
debited the date, journal page, and debit amount shown in the journal.
ILLUSTRATION 2-18
POSTING A JOURNAL ENTRY
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Ref.
Cash
Common Stock
(issued shares of stock for
cash)
Debit
101 15,000
311
Credit
15,000
GENERAL LEDGER
CASH
Date
2002
Sept 11
Sept.
Explanation
NO. 101
Ref.
J1
Debit
Credit
15,000
15,000
NO. 311
COMMON
COMMONSTOCK
STOCK
Date
2001
2002 1
Sept.
Sept 1
Explanation
Balance
Ref.
J1
Debit
Credit
Balance
15,000
15,000
In the reference column of the journal, write the account
number to which the debit amount was posted.
ILLUSTRATION 2-18
POSTING A JOURNAL ENTRY
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Ref.
Cash
Common Stock
(issued shares of stock for
cash)
Debit
101 15,000
311
Credit
15,000
GENERAL LEDGER
CASH
Date
2002
Sept. 1
Explanation
NO. 101
Ref.
J1
Debit
Credit
15,000
15,000
NO. 311
COMMON STOCK
Date
2002
Sept. 1
Explanation
Balance
Ref.
J1
Debit
Credit
Balance
15,000
15,000
In the ledger, enter in the appropriate columns of the account(s) credited
the date, journal page, and credit amount shown in the journal.
ILLUSTRATION 2-18
POSTING A JOURNAL ENTRY
J1
GENERAL JOURNAL
Date
2002
Sept. 1
Account Titles and Explanation
Ref.
Cash
Common Stock
(issued shares of stock for
cash)
Debit
101 15,000
311
Credit
15,000
GENERAL LEDGER
CASH
Date
2002
Sept. 1
Explanation
NO. 101
Ref.
J1
Debit
Credit
15,000
15,000
NO. 311
COMMON STOCK
Date
2002
Sept. 1
Explanation
Balance
Ref.
J1
Debit
Credit
Balance
15,000
15,000
In the reference column of the journal, write the account
number to which the credit amount was posted.
ILLUSTRATION 2-19
CHART OF ACCOUNTS
Pioneer Advertising Agency
Assets
101
112
129
130
157
158
200
201
209
212
230
Cash
Accounts Receivable
Advertising Supplies
Prepaid Insurance
Office Equipment
Accumulated Depreciation — Office Equipment
Liabilities
Notes Payable
Accounts Payable
Unearned Revenue
Salaries Payable
Interest Payable
311
320
332
350
400
611
711
722
726
729
905
Stockholders' Equity
Common Stock
Retained Earnings
Dividends
Income Summary
Revenues
Service Revenue
Expenses
Advertising Supplies Expense
Depreciation Expense
Insurance Expense
Salary Expense
Rent Expense
Interest Expense
Most companies have a chart of accounts that lists the
accounts and the account numbers which identify their
location in the ledger.
ILLUSTRATION 2-20
INVESTMENT OF CASH BY STOCKHOLDERS
Transaction
Basic
Analysis
Debit -Credit
Analysis
October 1, stockholders invest $10,000 cash in an
advertising venture to be known as the Pioneer
Advertising Agency Inc.
The asset Cash is increased $10,000, and stockholders’
equity (specifically Common Stock) is increased
$10,000.
Debits increase assets: debit Cash $10,000.
Credits increase stockholders’ equity: credit
Common Stock $10,000.
ILLUSTRATION 2-20
INVESTMENT OF CASH BY STOCKHOLDERS
Journal
Entry
Date
Account Titles and Explanation
Oct. 1 Cash
Common Stock
(Issued shares of stock for
cash)
Cash
Posting
Oct. 1
10,000
101
Ref. Debit Credit
10, 000
101
311
Common Stock
Oct.
10,000
311
1
10,000
ILLUSTRATION 2-21
PURCHASE OF OFFICE EQUIPMENT
Transaction
Basic
Analysis
Debit -Credit
Analysis
October 1, office equipment costing $5,000 is
purchased by signing a 3-month, 12%, $5,000 note
payable.
The asset Office Equipment is increased $5,000, and
the liability Notes Payable is increased $5,000.
Debits increase assets: debit Office Equipment
$5,000. Credits increase liabilities: credit Notes
Payable $5,000.
ILLUSTRATION 2-21
PURCHASE OF OFFICE EQUIPMENT
Date
Oct. 1
Journal
Entry
Posting
Account Titles and Explanation
Office Equipment
Notes Payable
(Issued 3-month, 12% note
for office equipment)
Office Equipment 157
Oct.
1
5,000
Ref. Debit
157 5,000
200
Credit
5,000
Notes Payable 200
Oct. 1 5,000
ILLUSTRATION 2-22
RECEIPT OF CASH FOR FUTURE SERVICE
Transaction
October 2, a $1,200 cash advance is received from R.
Knox, a client, for advertising services that are
expected to be completed by December 31.
Basic
Analysis
The asset Cash is increased $1,200; the liability
Unearned Revenue is increased $1,200 because the
service has not been rendered yet. Note that although
many liabilities have the word “payable” in their title,
unearned revenues are considered a liability even
though the word payable is not used.
Debit -Credit
Analysis
Debits increase assets: debit Cash $1,200. Credits
increase liabilities: credit Unearned Revenues
$1,200.
ILLUSTRATION 2-22
RECEIPT OF CASH FOR FUTURE SERVICE
Journal
Entry
Posting
Date
Account Titles and Explanation
Oct. 2 Cash
Unearned Revenues
(Received advance from R.
Knox for future services)
Oct. 1
2
Cash
10,000
1,200
101
Ref. Debit Credit
101 1,200
209
1,200
Unearned Rev 209
Oct. 2 1,200
ILLUSTRATION 2-23
PAYMENT OF MONTHLY RENT
Transaction
October 3, office rent for October is paid in cash, $900.
Basic
Analysis
The expense Rent is increased $900 because the
payment pertains only to the current month; the asset
Cash is decreased $900.
Debit-Credit
Analysis
Debits increase expenses: debit Rent Expense $900.
Credits decrease assets: credit Cash $900.
ILLUSTRATION 2-23
PAYMENT OF MONTHLY RENT
Journal
Entry
Posting
Date
Account Titles and Explanation
Oct. 3 Rent Expense
Cash
(Paid October rent)
Cash
101
Oct. 1 10,000 Oct. 3
2
1,200
900
Ref. Debit
729 900
101
Credit
900
Rent Expense
Oct. 3 900
729
ILLUSTRATION 2-24
PAYMENT FOR INSURANCE
Transaction
October 4, $600 is paid for a one-year insurance
policy that will expire next year on September 30.
Basic
Analysis
The asset Prepaid Insurance is increased $600
because the payment extends to more than the
current month; the asset Cash is decreased $600.
Note that payments of expenses that will benefit more
than one accounting period are identified as prepaid
expenses or prepayments. When a payment is made,
an asset account is debited in order to show the
service or benefit that will be received in the future.
Debit -Credit
Analysis
Debits increase assets: debit Prepaid Insurance $600.
Credits decrease assets: credit Cash $600.
ILLUSTRATION 2-24
PAYMENT FOR INSURANCE
Journal
Entry
Posting
Date
Oct. 4
Account Titles and Explanation
Prepaid Insurance
Cash
(Paid one-year policy;
effective date October 1)
Cash
Oct. 1 10,000 Oct. 3
2 1,200
4
101
900
600
Ref. Debit Credit
130
600
101
600
Prepaid Insurance 130
Oct. 4
600
ILLUSTRATION 2-25
PURCHASE OF SUPPLIES ON CREDIT
Transaction
October 5, an estimated 3-month supply of
advertising materials is purchased on account from
Aero Supply for $2,500.
Basic
Analysis
The asset Advertising Supplies is increased $2,500;
the liability Accounts Payable is increased $2,500.
Debit -Credit
Analysis
Debits increase assets: debit Advertising Supplies
$2,500. Credits increase liabilities: credit Accounts
Payable $2,500.
ILLUSTRATION 2-25
PURCHASE OF SUPPLIES ON CREDIT
Date
Oct. 5
Journal
Entry
Posting
Account Titles and Explanation
Advertising Supplies
Accounts Payable
(Purchased supplies on
account from Aero Supply)
Adv. Supplies
Oct. 5
2,500
129
Ref. Debit
129
2,500
201
Credit
2,500
Accounts Payable 201
Oct. 5
2,500
ILLUSTRATION 2-26
HIRING OF EMPLOYEES
Transaction
Basic
Analysis
Debit -Credit
Analysis
October 9, hire four employees to begin work on
October 15. Each employee is to receive a weekly salary
of $500 for a 5-day work week, payable every 2 weeks - first payment made on October 26.
A business transaction has not occurred. There is only
an agreement between the employer and the employees
to enter into a business transaction beginning on
October 15.
A debit-credit analysis is not needed because there is no
accounting entry.
ILLUSTRATION 2-27
DECLARATION AND PAYMENT OF
DIVIDEND BY CORPORATION
Transaction
October 20, the board of directors declares and pays a
$500 cash dividend to stockholders.
Basic
Analysis
The dividends account is increased $500; the asset Cash
is decreased $500.
Debit -Credit
Analysis
Debits increase dividends: debit Dividends $500.
Credits decrease assets: credit Cash $500.
ILLUSTRATION 2-27
DECLARATION AND PAYMENT OF
DIVIDEND BY CORPORATION
Date
Oct. 20
Journal
Entry
Posting
Account Titles and Explanation
Dividends
Cash
(Declared and paid a cash
dividend)
Oct. 1
2
Cash
101
10,000 Oct. 3
1,200
4
20
Ref. Debit Credit
332
500
101
500
Dividends
900
600
500
Oct. 20
500
332
ILLUSTRATION 2-28
PAYMENT OF SALARIES
Transaction
Basic
Analysis
Debit -Credit
Analysis
October 26, employee salaries of $4,000 are owed and
paid in cash. (See October 9 transaction.)
The expense account Salaries Expense is increased
$4,000; the asset Cash is decreased $4,000.
Debits increase expenses: debit Salaries Expense
$4,000. Credits decrease assets: credit Cash $4,000.
ILLUSTRATION 2-28
PAYMENT OF SALARIES
Journal
Entry
Posting
Date
Account Titles and Explanation
Oct. 26 Salaries Expense
Cash
(Paid salaries to date)
Cash
101
Oct. 1 10,000 Oct. 3
900
2 1,200
4
600
20
500
26 4,000
Ref. Debit Credit
726 4,000
101
4,000
Salaries Expense
Oct. 26
4,000
726
ILLUSTRATION 2-29
RECEIPT OF CASH FOR FEES EARNED
Transaction
October 31, received $10,000 in cash from Copa
Company for advertising services rendered in October.
Basic
Analysis
The asset Cash is increased $10,000; the revenue acct.
Service Revenue is increased $10,000.
Debit -Credit
Analysis
Debits increase assets: debit Cash $10,000. Credits
increase revenues: credit Service Revenue $10,000.
ILLUSTRATION 2-29
RECEIPT OF CASH FOR FEES EARNED
Date
Oct. 31
Journal
Entry
Posting
Account Titles and Explanation
Cash
Service Revenue
(Received cash for fees
earned)
Cash
101
Oct. 1 10,000 Oct. 3
900
2
1,200
4
600
3110.000
20
500
26
4,000
Ref. Debit Credit
101 10,000
400
10,000
Service Revenue
Oct. 31
400
10,000
THE TRIAL BALANCE
 A trial balance is a list of accounts and their balances at
a given time.
 The primary purpose of a trial balance is to prove the
mathematical equality of debits and credits after
posting.
 A trial balance also uncovers errors in journalizing and
posting.
 The steps for preparing a trial balance are:
1 List the account titles and their balances.
2 Total the debit and credit columns.
3 Prove the equality of the two columns.
ILLUSTRATION 2-32
A TRIAL BALANCE
PIONEER ADVERTISING AGENCY
Trial Balance
October 31, 2002
Cash
Advertising Supplies
Prepaid Insurance
Office Equipment
Notes Payable
Accounts Payable
Unearned Revenue
Common Stock
Dividends
Service Revenue
Salaries Expense
Rent Expense
The total debits
must equal the
total credits.
Debit
$ 15,200
2,500
600
5,000
Credit
$ 5,000
2,500
1,200
10,000
500
10,000
4,000
900
$ 28,700
$ 28,700
LIMITATIONS OF A
TRIAL BALANCE
 A trial balance does not prove that all transactions have been
recorded or that the ledger is correct.
 Numerous errors may exist even though the trial balance columns
agree.
 The trial balance may balance even when:
1 a transaction is not journalized,
2 a correct journal entry is not posted,
3 a journal entry is posted twice,
4 incorrect accounts are used in journalizing or posting,
5 offsetting errors are made in recording the amount of the
transaction.