FINANCIAL
ACCOUNTING 1
CHAPTER TWO
Accounting process: Preparation of
journal, Ledger and Trail balance
Lecturer: Abdirahman Awil
(MBA, BA in Finance & Accounting)
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2.4 MEANING AND FORMAT OF A JOURNAL
Journal is a historical record of business transactions or events. The word journal
comes from the French word "Jour" meaning "day". It is a book of original or prime
entry written up from the various source documents.
Journal is a primary book for recording the day to day transactions in a chronological
order i.e. in the order in which they occur. The journal is a form of diary for business
transactions. This is also called the book of first entry since every transaction is
recorded firstly in the journal.
The format of a journal is shown as follows:
Date
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Particulars
Debit
Credit
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Advantages of Journal
1.
2.
3.
4.
5.
6.
7.
8.
The transactions are recorded in journal as and when they
occur so the chances of error is minimized.
It help in preparation of ledger.
Any transfer from one account to another account is made
through Journal.
The entry recorded in journal are self-explanatory as it
includes narration also.
It can record any such transaction which cannot be entered in
any other books of account.
Every transaction is recorded in chronological order (date
wise) so the chances of manipulations are reduced.
Journal shows all information in respect of a transaction at
one place.
The closing balances of previous year of accounts related to
assets and liabilities can be brought forward to the next year
by passing journal entry in journal.
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Illustration 1
• State with reasons whether the following events are transactions or
not to Mr. Nikhil, Proprietor, Delhi Computers
1. Mr. Khalil started business with capital (brought in cash) $ 40,000.
2. Paid salaries to staff $ 5,000.
3. Purchased machinery for $ 20,000 in cash.
4. Placed an order with Sen & Co. for goods for $ 5,000.
5. Opened a Bank account by depositing $ 4,000.
6. Received pass book from bank.
7. Appointed Sahal as Manager on a salary of $ 4,000 per month.
8. Received interest from bank $ 500.
9. Received a price list from Asma.
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Example 1
Mr. Mohamed started a business to be known as “Mohamed Super market”.
He performed following transactions during the first month of operations:
1. Mr. Mohamed invested a capital of $15,000 into his business.
2. He purchased furniture for $1,500 cash for business use.
3. He purchased inventory for $3,000 cash.
4. He sold inventory for $1,000 cash
5. He purchased inventory for $2,000 on credit.
6. He sold inventory for $800 on credit
7. He paid $1,000 cash to his payables.
8. He collected $800 cash from his receivables.
9. Mr. Mohamed paid $150 cash for telephone bill.
10. He borrowed money amounting to $5,000 from City Bank for
business purpose.
Instruction
• Prepare accounting equation (show your computations)
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Example 2
Show that the accounting equation is satisfied after taking
into consideration each of the following transactions in the
books of Mr. Mohamed
1. Started business with capital 1,00,000
2. Bought furniture 25,000
3. Bought goods for cash 20,000
4. Bought goods on Credit 5,000
5. Sold goods for cash for 15,000
6. Sold goods on credit 8,000
7. Paid cash to creditor 4,000
8. Received cash from his receivables 5,000
9. Paid Cash into Bank 25,000
10. Withdrawn from bank 10,000
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Example 3
Following are the accounting transactions relating to Mr. Khadar
business. Use the accounting equation to show their effect on his
assets, liabilities and capital.
1. Commenced business with a Capital of 50,000
2. Bought Machinery for cash 10,000
3. Purchased goods for cash 15,000
4. Purchased goods on credit 5,000
5. Sold goods for cash 10,000
6. Paid to his creditor 2,000
7. Sold goods on credit 3,000
8. Paid into Bank 6,000
9. Paid to his payables by check1,000
10. Received from his receivables a check for 2,000
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Example 4
Mr. Yusuf has the following transactions in the month of June.
1.
Started business with a capital of 100,000
2.
Purchased goods on credit for 20,000
3.
Purchased Goods for Cash 15,000
4.
Sold goods worth 15,000 on credit
5.
Sold goods for cash 20,000
6.
Paid 1000 to a creditor
7.
Purchased supplies for cash 45,000
8.
Bought computer from Intel Computers for 25,000
9.
Purchased furniture for 10,000
10. Collected 19000 cash from debtors
11. Owner withdrew of worth $ 2,000 for personal use.
12. Paid Salaries Expense $ 2,000
Required
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• Prepare journal entries
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LEDGER
• Journal is a daily record of all business transactions.
• In the journal all transactions relating to persons, expenses,
assets, liabilities and incomes are recorded. Journal does
not give a complete picture of the fundamental elements of
book keeping i.e. properties,
• Relationship between Journal and Ledger
• Journal and Ledger are the most useful books kept by a
business entity. The points of distinction between the two
are given below :
1. The journal is a book of original entry where as the ledger
is the main book of account.
2. In the journal business transactions are recorded as and
when they occur i.e. date-wise. However posting from
the journal is done periodically, may be weekly,
11:06 PM fortnightly as per the convenience of the business.
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3. The journal does not disclose the complete position of
an account. On the other hand, the ledger indicates
the position of each account debit wise or credit wise,
as the case may be. In this way, the net position of
each account is known immediately.
4. The record of transactions in the journal is in the form
of journal entries whereas the record in the ledger is
in the form of an account.
Utility of a Ledger
The main utilities of a ledger are summarized as under :
a) It provides complete information about all accounts in
one book.
b) It enables the ascertainment of the main items of
revenues and expenses
c) It enables the ascertainment of the value of assets
and liabilities.
d) It facilitates the preparation of Final Accounts.
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• Format of a Ledger Account
• A ledger account can be prepared in any one of the
following two forms:
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Posting
• Posting refers to the process of transferring debit and
credit amounts from the Journal or subsidiary books
to the respective heads of accounts in the ledger.
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Trial Balance:
A Trial Balance is a statement of debit and credit
balances extracted from all the ledgers with a view to
ascertain arithmetical accuracy of posting of all
transactions into the respective ledgers
OBJECTIVES OF PREPARING TRIAL BALANCE
The following are the main objectives of preparing
the trial balance:
1. To check the arithmetical accuracy of books of
accounts
2. Helpful in preparing final accounts
3. To serve as an aid to the management
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Limitations of trial balance
• The following are the main limitations of the Trial
Balance:
1. Trial Balance can be prepared only in those concerns
where double entry system of accounting is adopted.
2. Though trial balance gives arithmetic accuracy of the
books of accounts but there are certain errors, which
are not disclosed by the trial balance. That is why it is
said that trial balance is not a conclusive proof of the
accuracy of the books of accounts.
3. If trial balance is not prepared correctly then the final
accounts prepared will not reflect the true and fair
view of the state of affairs of the business. Whatever
conclusions and decisions are made by the various
groups of persons will not be correct and will mislead
such persons.
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Methods of preparation of trial balance
• A trial balance can be prepared by the following
two methods:
1. Total method: In this method, the debit and
credit totals of each account are shown in the
two amount columns (one for the debit total and
the other for the credit total).
2. Balance Method: In this method, the difference
of each amount is extracted. If debit side of an
account is bigger in amount than the credit side,
the difference is put in the debit column of the
Trial Balance and if the credit side is bigger, the
difference is written in the credit column of the
Trial Balance.
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Trial balance format
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ACCOUNTING ERRORS
• If the two sides of a trial balance agree it is a prima facie
evidence of the arithmetical accuracy of the entries made
in the Ledger. But even if the trial balance agrees, it does
not necessarily mean that the accounting records are free
from all errors, because there are certain types of errors,
which are not revealed by a Trial Balance. Therefore a Trial
Balance should not be regarded as a conclusive proof of
accuracy of accounts.
• These errors can be classified as follows:
1. Clerical errors
2. Errors of Principle
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• A brief description of the above errors is given below:
1. Clerical errors
• Clerical errors are those errors, which are committed
by the clerical staff during the course of recording
business transactions in the books of accounts. These
errors are:
• 1. Errors of omission
• 2. Errors of commission
• 3. Compensating errors
• 4. Errors of duplication
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A. Errors of omission:
• When business transaction is either completely or partly
omitted to be recorded in the books of prime entry it is called
an ‘error of omission’.
• When a business transaction is omitted completely, it is called
a ‘complete error of omission”, and when a business
transaction is partly omitted, it is called a “partial error of
omission”.
B. Error of commission:
• Such errors are generally committed by the clerical staff due to
their negligence during the course of recording business
transactions in the books of accounts. Though, the rules of
debit and credit are followed properly yet some mistakes are
committed.
• These mistakes may be due to wrong posting of a business
transaction either to a wrong account or on the wrong side
of an account, or due to wrong casting (addition) i.e. overcasting or under-casting or due to wrong balancing of the
accounts in the ledger.
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C. Compensating errors:
• Compensating errors are those errors, which cancel or
compensate themselves. These errors arise when an error is
either compensated or counter-balanced by another error or
errors so that of the other on the debit or credit side
neutralizes the adverse effect of one on credit side or debit
side.
• For example, over posting on one side may be compensated by
under posting of an equal amount on the same side of the
same account or over posting of one side of an account may be
compensated by an equal overprinting on the opposite side of
some other account. But these errors do not affect the trial
balance.
D. Errors of duplication:
• When a business transaction is recorded twice in the prime
books and posted in the Ledger in the respective accounts
twice, the error is known as the ‘Error of Duplication’.
These errors do not affect the trial balance.
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2. Errors of principle
• When a business transaction is recorded in the books
of original entries by violating the basic/fundamental
principles of accountancy it is called an error of
principle. Some examples of these errors are:
I. When revenue expenditure is treated as capital
expenditure or vice-versa, e.g. building purchased is
debited to the purchase account instead of the
building account.
II. Revenue expenses debited to the personal account
instead of the expenses account, e.g. salary paid to
Mr. Ashok, a clerk, for the month of June, debited to
Ashok’s account instead of salary account. These
errors do not affect the Trial Balance.
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