CHAPTER 2: THE DOUBLE ENTRY BOOK-KEEPING Part 2 Learning outcomes • To record the correct double entry for transactions involving sales, sales returns, purchases and purchases returns. What are the things that a business may trade ? Goods vs Services FOR RESALE Goods bought by the business for the purpose of reselling and making a profit. The goods form the main activity of the business and considered as sales and purchases. Examples THINGS HELP TO Goods bought for resale must be differentiated from things bought to help generate income for the business. Those things are not considered purchases but assets of the business. Examples Why sales, sales returns, purchases or purchases returns ? REASON 1 Normally when goods bought or sold, it will affect the inventory account, either increase (debit) or decrease (credit). However, sometimes an increase in an inventory account may include goods returned by the customers while a decrease maybe caused by goods returned to suppliers. Hence, the business needs to differentiate between goods bought from suppliers and goods returned by customers. Alternatively, the business needs to differentiate goods sold to customers and goods returned to suppliers as well. Why sales, sales returns, purchases or purchases returns ? Inventory account Dr (increase) Cr (decrease) Purchases Sales returns Sales Purchases returns REASON 2 Goods bought will also be sold at a higher price, which is the selling price. Therefore, the inventory account will not be shown at the cost price anymore if the account is credited with the selling price. Inventory account Dr (increase) Cr (decrease) Bought 100 units at $1 = $100 Sold 100 units at $2 = $200 Therefore, specific accounts need to be used: sales account - goods sold to customers. sales returns account (returns inwards) - goods returned by customers. purchases account - goods bought from suppliers. purchases returns account (returns outwards) goods returned to suppliers. Rule No 2 Expenses Income Debit Credit Purchases Revenue (sales) Sales returns Purchases returns (contra) (contra) Draw seven roosters Crooners poisoned the rat Contra – An account which is opposite to its’ Dr Sales Returns Cr Purchases Returns Example 1 The business bought goods, $1 000, on cash basis. Step 1: Identify the accounts affected The business bought goods, $1 000, on cash basis. Purchases Cash Step 2: Determine the classification of accounts Cash Purchases Step 3: Determine which side is (+) and which side is (-) in both accounts Now that we know the classification, we can identify increase and decrease sides. Purchases account Dr + Cr Cash account Dr + Cr The business bought goods, $1 000, on cash basis. Did purchases increase or decrease in this transaction? Increased Purchases account Dr + $1 000 Cr The business bought goods, $1 000, on cash basis. What about cash? Increase or decrease in this transaction? Decreased Cash account Dr + Cr $1 000 Step 4: Record the double entry Purchases account Dr Cr + $1 000 Cash account Dr Cr + $1 000 Example 2 The business sold goods and received a cheque, $3 000. Step 1: Identify the accounts affected The business sold goods and received a cheque, $3 000. Bank Sales Step 2: Determine the classification of accounts Sales Bank Step 3: Determine which side is (+) and which side is (-) in both accounts Now that we know the classification, we can identify increase and decrease sides. Bank account Dr + Cr Sales account Dr Cr + The business sold goods and received a cheque, $3 000. Did bank increase or decrease in this transaction? Increased Bank account Dr + $3 000 Cr The business sold goods and received a cheque, $3 000. Did sales increase or decrease in this transaction? Increased Sales account Dr Cr + $3 000 Step 4: Record the double entry Bank account Dr Cr + $3 000 Sales account Dr Cr + $3 000 Example 3 The business bought goods on credit, $4 500. Step 1: Identify the accounts affected The business bought goods on credit, $4 500. Trade payable Purchases Step 2: Determine the classification of accounts Trade payable Purchases Step 3: Determine which side is (+) and which side is (-) in both accounts Now that we know the classification, we can identify increase and decrease sides. Purchases account Dr + Cr Trade payable account Dr Cr + The business bought goods on credit, $4 500. Did purchases increase or decrease in this transaction? Increased Purchases account Dr + $4 500 Cr The business bought goods on credit, $4 500. What about trade payable? Increase or decrease in this transaction? Increased Trade payable account Dr Cr + $4 500 Step 4: Record the double entry Purchases account Dr Cr + $4 500 Trade payable account Dr Cr + $4 500 Example 4 The business sold goods on credit, $7 000. Step 1: Identify the accounts affected The business sold goods on credit, $7 000. Sales Trade receivable Step 2: Determine the classification of accounts Sales Trade receivable Step 3: Determine which side is (+) and which side is (-) in both accounts Now that we know the classification, we can identify increase and decrease sides. Trade receivable account Dr + Cr Sales account Dr Cr + The business sold goods on credit, $7 000. Did trade receivable increase or decrease in this transaction? Increased Trade receivable account Dr + $7 000 Cr The business sold goods on credit, $7 000. Did sales increase or decrease in this transaction? Increased Sales account Dr Cr + $7 000 Step 4: Record the double entry Trade receivable account Dr + $7 000 Cr Sales account Dr Cr + $7 000 Example 5 The business returned goods to a supplier, $1 500. Step 1: Identify the accounts affected The business returned goods to a supplier, $1 500. Purchases returns Trade payable Step 2: Determine the classification of accounts Purchases returns Trade payable Step 3: Determine which side is (+) and which side is (-) in both accounts Now that we know the classification, we can identify increase and decrease sides. Trade payable account Dr Cr + Purchases returns account Dr Cr + The business returned goods to a supplier, $1 500. Did trade payable increase or decrease in this transaction? Decreased Trade payable account Dr $1 500 Cr + The business returned goods to a supplier, $1 500. What about purchases returns? Increase or decrease in this transaction? Increased Purchases returns account Dr Cr + $1 500 Step 4: Record the double entry Purchases returns Trade payable account account Dr Cr Dr Cr + $1 500 + $1 500 Example 6 A customer returned goods to the business, $2 100. Step 1: Identify the accounts affected A customer returned goods to the business, $2 100. Sales returns Trade receivable Step 2: Determine the classification of accounts Trade receivable Sales returns Step 3: Determine which side is (+) and which side is (-) in both accounts Now that we know the classification, we can identify increase and decrease sides. Sales returns account Dr + Cr Trade receivable account Dr + Cr A customer returned goods to the business, $2 100. Did sales returns increase or decrease in this transaction? Increased Sales returns account Dr + $2 100 Cr A customer returned goods to the business, $2 100. What about trade receivable? Increase or decrease in this transaction? Decreased Trade receivable account Dr + Cr $2 100 Step 4: Record the double entry Sales returns account Dr Cr + $2 100 Trade receivable account Dr Cr + $2 100 Summary Transactions Debit (Dr) Credit (Cr) The business bought goods on cash basis. Purchases Cash Bank Sales Purchases Trade payable Trade receivable Sales The business returned goods to a supplier. Trade payable Purchases returns A customer returned goods to the business. Sales returns Trade receivable The business sold goods and received a cheque. The business bought goods on credit. The business sold goods on credit. Quiz Choose the appropriate answer in the bracket 1) An entry in the sales account should be on the _______ (debit or credit) side. 2) An entry in the sales returns account should be on the ___________(debit or credit) side. 3) An entry in the purchases account should be on the ___________(debit or credit) side. 4) An entry in the purchases returns account should be on the ___________(debit or credit) side. 5) A transaction involving goods bought on credit is represented by two accounts. One of the accounts is called the _________ (trade payable or trade receivable) account. 6) A transaction involving goods sold on credit is represented by two accounts. One of the accounts is called the _________ (trade payable or trade receivable) account. 7) A transaction involving goods bought is represented by two accounts. One of the accounts is called the _________ (inventory or purchases) account. 8) A transaction involving a goods sold is represented by two accounts. One of the accounts is called the _________ (sales or inventory) account.
