Financial Accounting 1A
Damelin ©
BACHELOR OF COMMERCE
GENERICS
FINANCIAL ACCOUNTING 1A
STUDY GUIDE
2024
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Financial Accounting 1A
Damelin ©
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Table of Contents
1.
2.
About Brand ....................................................................................................................................
7
Our Teaching and Learning Methodology ....................................................................................... 7
Icons .......................................................................................................................................... 9
3.
Introduction to the Module ........................................................................................................... 10
Module Information ................................................................................................................ 10
Module Purpose ...................................................................................................................... 10
Outcomes ................................................................................................................................ 10
Assessment ............................................................................................................................. 11
Planning Your Studies ............................................................................................................. 12
4.
Prescribed Reading .......................................................................................................................
12
Prescribed Book ...................................................................................................................... 12
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Recommended Articles ........................................................................................................... 12
Recommended Multimedia .................................................................................................... 12
Definitions ............................................................................................................................... 13
5.
Module Content ............................................................................................................................
25
An Introduction to Business, Bookkeeping & Accounting...................................................... 26
5.1.1
Introduction .................................................................................................................... 26
5.1.2
Double entry accounting ................................................................................................. 26
5.1.3
Users and uses of financial information......................................................................... 27
5.1.4
Internal vs. external reporting ........................................................................................ 28
5.1.5
Different business forms................................................................................................. 28
5.1.6
Different fields in accounting .......................................................................................... 29
5.1.7
The bookkeeping cycle and accounting cycle................................................................. 30
5.1.8
Summary ......................................................................................................................... 31
The Accounting Equation ........................................................................................................ 33
5.2.1
Introduction .................................................................................................................... 33
5.2.2
The accounting equation ................................................................................................ 33
5.2.3
Assets .............................................................................................................................. 35
5.2.4
Liabilities ......................................................................................................................... 37
5.2.5
Equity .............................................................................................................................. 38
5.2.6
The business entity rule .................................................................................................. 39
5.2.7
5.2.8
Proprietary accounts ....................................................................................................... 39
Capital ............................................................................................................................ 40
5.2.9
The general ledger – the system of bookkeeping.......................................................... 41
5.2.10
An introduction to inventory (stock) system................................................................. 42
5.2.11 Summary .......................................................................................................................... 43
Value-added-Tax (VAT) .......................................................................................................... 45
5.3.1
Introduction .................................................................................................................... 45
5.3.2
What is Value Added Tax?.............................................................................................. 45
5.3.3
How does the VAT system work?................................................................................... 46
5.3.4
VAT supply categories ..................................................................................................... 48
5.3.5
VAT calculations .............................................................................................................. 49
5.3.6
VAT returns ..................................................................................................................... 51
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5.3.7
Due date of payments ..................................................................................................... 51
5.3.8
Penalties and interest ..................................................................................................... 51
5.3.9
Submission to SARS ......................................................................................................... 52
5.3.10
Summary ......................................................................................................................... 53
Recording Financial Transactions............................................................................................ 55
5.4.1
Introduction .................................................................................................................... 56
5.4.2
Transactions, source documents and journals............................................................... 56
5.4.3
Posting to the general ledger .......................................................................................... 57
5.4.4
Listing of general ledger account balances on a trial...................................................... 57
5.4.5
Credit and sundry transactions ....................................................................................... 58
5.4.6
Subsidiary journals for credit and sundry transactions ................................................. 58
5.4.7
Summary ......................................................................................................................... 61
Inventory Systems .................................................................................................................. 62
5.5.1
Introduction .................................................................................................................... 62
5.5.2
Inventory (stock) defined ................................................................................................ 62
5.5.3
Initial measurement of inventory (stock)....................................................................... 63
5.5.4
Perpetual for some; periodic for others......................................................................... 63
5.5.5
Which system is best – perpetual or periodic? .............................................................. 64
5.5.6
Summary of the unit ....................................................................................................... 65
Bank Reconciliation ................................................................................................................. 67
5.6.1
Introduction .................................................................................................................... 67
5.6.2
The business and the bank .............................................................................................. 67
5.6.3
5.6.4
The bank statement ........................................................................................................ 67
The bank reconciliation procedure ................................................................................ 68
5.6.5
Alternative steps that may be followed......................................................................... 69
5.6.6
Summary ........................................................................................................................ 72
Accounts Receivable and Accounts Payable .......................................................................... 74
5.7.1
Introduction .................................................................................................................... 74
5.7.2
The need for individual accounts .................................................................................... 74
5.7.3
The structure of the subsidiary ledgers for debtors and creditors ................................ 75
5.7.4
The control account system ............................................................................................ 76
5.7.5
Summary of the unit ....................................................................................................... 77
Year-End Procedures ............................................................................................................... 79
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5.8.1
Introduction .................................................................................................................... 79
5.8.2
Year-end accounting entries ........................................................................................... 79
5.8.3
The purpose of running a year-end................................................................................ 79
5.8.4
Summary ......................................................................................................................... 81
5.8.5
DEPRECIABLE ASSETS ...................................................................................................... 81
5.8.6
Introduction .................................................................................................................... 82
5.8.7
Depreciation .................................................................................................................... 82
5.8.8
Methods of depreciation ................................................................................................ 82
5.8.9
The asset register ............................................................................................................ 83
5.8.10
The four steps of asset disposal ...................................................................................... 84
5.8.11
Disposals at the beginning of the financial year............................................................. 84
5.8.12
Disposals mid-way through the financial year................................................................ 85
5.8.13
Disclosure of depreciable assets ..................................................................................... 86
5.8.14
Summary ......................................................................................................................... 87
Financial Statements of The Sole Proprietorship.................................................................... 89
6.
5.9.1
Introduction .................................................................................................................... 89
5.9.2
Year-end adjustments ..................................................................................................... 89
5.9.3
The ‘what if?’ scenario .................................................................................................... 89
5.9.4
Depreciation .................................................................................................................... 90
5.9.5
The accrual concept ........................................................................................................ 90
5.9.6
The going concern assumption ....................................................................................... 90
5.9.7
Qualitative characteristics of financial statements........................................................ 90
5.9.8
Creating an allowance for credit losses.......................................................................... 91
5.9.9
5.9.10
Adjusting the existing allowance for credit losses.......................................................... 91
Inventory ........................................................................................................................ 92
5.9.11
Comprehensive financial statements – periodic inventory .......................................... 92
5.9.12
Summary ........................................................................................................................ 93
References ..................................................................................................................................... 96
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1. About Brand
Damelin knows that you have dreams and ambitions. You’re thinking about the future, and how the
next chapter of your life is going to play out. Living the career you’ve always dreamed of takes some
planning and a little bit of elbow grease, but the good news is that Damelin will be there with you
every step of the way.
We’ve been helping young people to turn their dreams into reality for over 70 years, so rest assured,
you have our support.
As South Africa’s premier education institution, we’re dedicated to giving you the education
experience you need and have proven our commitment in this regard with a legacy of academic
excellence that’s produced over 500 000 world – class graduates! Damelin alumni are redefining
industry in fields ranging from Media to Accounting and Business, from Community Service to Sound
Engineering. We invite you to join this storied legacy and write your own chapter in Damelin’s history
of excellence in achievement.
A Higher Education and Training (HET) qualification provides you with the necessary step in the right
direction towards excellence in education and professional development.
2. Our Teaching and Learning Methodology
Damelin strives to promote a learning-centred and knowledge-based teaching and learning
environment. Teaching and learning activities primarily take place within academic programmes and
guide students to attain specific outcomes.
•
A learning-centred approach is one in which not only lecturers and students, but all
sections and activities of the institution work together in establishing a learning
community that promotes a deepening of insight and a broadening of perspective with
regard to learning and the application thereof.
•
An outcomes-oriented approach implies that the following categories of outcomes are
embodied in the academic programmes:
•
Culminating outcomes that are generic with specific reference to the critical cross-field
outcomes including problem identification and problem-solving, co-operation,
selforganisation and self-management, research skills, communication skills,
entrepreneurship and the application of science and technology.
•
Empowering outcomes that are specific, i.e. the context specific competencies students
must master within specific learning areas and at specific levels before they exit or move
to a next level.
•
Discrete outcomes of community service learning to cultivate discipline-appropriate
competencies.
Damelin actively strives to promote a research culture within which a critical-analytical approach and
competencies can be developed in students at undergraduate level. Damelin accepts that students’
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learning is influenced by a number of factors, including their previous educational experience, their
cultural background, their perceptions of particular learning tasks and assessments, as well as
discipline contexts.
Students learn better when they are actively engaged in their learning rather than when they are
passive recipients of transmitted information and/or knowledge. A learning-oriented culture that
acknowledges individual student learning styles and diversity and focuses on active learning and
student engagement, with the objective of achieving deep learning outcomes and preparing students
for lifelong learning, is seen as the ideal. These principles are supported through the use of an engaged
learning approach that involves interactive, reflective, cooperative, experiential, creative or
constructive learning, as well as conceptual learning via online-based tools.
Effective teaching-learning approaches are supported by:
•
Well-designed and active learning tasks or opportunities to encourage a deep rather than
a surface approach to learning.
•
Content integration that entails the construction, contextualization and application of
knowledge, principles and theories rather than the memorisation and reproduction of
information.
•
Learning that involves students building knowledge by constructing meaning for
themselves.
•
The ability to apply what has been learnt in one context to another context or problem.
•
Knowledge acquisition at a higher level that requires self-insight, self-regulation and
selfevaluation during the learning process.
•
Collaborative learning in which students work together to reach a shared goal and
contribute to one another’s learning at a distance.
•
Community service learning that leads to collaborative and mutual acquisition of
competencies in order to ensure cross cultural interaction and societal development.
•
Provision of resources such as information technology and digital library facilities of a high
quality to support an engaged teaching-learning approach.
•
A commitment to give effect teaching-learning in innovative ways and the fostering of
digital literacy.
•
Establishing a culture of learning as an overarching and cohesive factor within institutional
diversity.
•
Teaching and learning that reflect the reality of diversity.
•
Taking multi culturality into account in a responsible manner that seeks to foster an
appreciation of diversity, build mutual respect and promote cross-cultural learning
experiences that encourage students to display insight into and appreciation of
differences.
Icons
The icons below act as markers, that will help you make your way through the study guide.
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Additional information
Find the recommended information listed.
Case study/Caselet
Apply what you have learnt to the case study presented.
Example
Examples of how to perform a calculation or activity with the solution / appropriate
response.
Practice
Practice the skills you have learned.
Reading
Read the section(s) of the prescribed text listed.
Revision questions
Complete the compulsory revision questions at the end of each unit.
Self-check activity
Check your progress by completing the self-check activity.
Study group / Online forum discussion
Discuss the topic in your study group or online forum.
Think point
Reflect, analyse and discuss, journal or blog about the idea(s).
Video / audio
Access and watch/listen to the video/audio clip listed.
Vocabulary
Learn and apply these terms.
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3. Introduction to the Module
Welcome to Financial Accounting. The objective of this course is to introduce students to introductory
concepts and practices in financial accounting. It is aimed both at students who intend to qualify as
professional accountants (such as Chartered Accountants) and students completing a Bachelor of
Commerce, including those who are not majoring in accounting.
No prior knowledge of accounting is necessary in order to successfully complete this course. Those
students who have studied accounting before may however have an advantage for the first few weeks.
Together with Financial Accounting 1B, this course provides a solid foundation in financial accounting
that will provide students with skills that are useful in all business careers. It also provides a necessary
introduction to a variety of topics in financial accounting that are dealt with in greater detail in second
and third-year financial accounting.
Although students are encouraged to use this guide, but it must be used in conjunction with other
prescribed and recommended textbooks.
Module Information
Qualification title
Bachelor of Commerce in Generic
Module Title
Financial Accounting 1A
NQF Level
6
Credits
10
Notional hours
200
Module Purpose
The objective of this course is to introduce students to introductory concepts and practices in financial
accounting. It is aimed both at students who intend to qualify as professional accountants (such as
Chartered Accountants) and students completing a Bachelor of Commerce, including those who are
not majoring in accounting.
No prior knowledge of accounting is necessary in order to successfully complete this course. Those
students who have studied accounting before may however have an advantage for the first few weeks.
Outcomes
At the end of this module, students should be able to:
•
•
describe and explain the basic concepts in financial accounting;
record a range of transactions and adjustments, using the double-entry bookkeeping system;
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•
prepare financial statements, including the Income statement, Balance sheet and Statement
of changes in equity;
•
apply selected controls in the accounting system, including the trial balance, the bank
reconciliation, and debtors’ and creditors’ control accounts.
Assessment
You will be required to complete both formative and summative assessment activities.
Formative assessment:
These are activities you will do as you make your way through the course. They are designed to help
you learn about the concepts, theories and models in this module. This could be through case studies,
practice activities, self-check activities, study group / online forum discussions and think points.
You may also be asked to blog / post your responses online.
Summative assessment:
You are required to do one test and one assignment. For online students, the tests are made up of the
revision questions at the end of each unit. A minimum of five revision questions will be selected to
contribute towards your test mark.
Mark allocation
The marks are derived as follows for this module:
Assignment 1
15%
Assignment 2
15%
MCQs
10%
Exam
60%
TOTAL
100%
Planning Your Studies
You will have registered for one or more modules in the qualification and it is important that you plan
your time. To do this look at the modules and credits and units in each module.
Create a time table / diagram that will allow you to get through the course content, complete the
activities, and prepare for your tests, assignments and exams. Use the information provided above
(How long will it take me?) to do this.
What equipment will I need?
• Access to a personal computer and internet.
•
Calculator
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4.
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Prescribed Reading
Prescribed Book
Introduction to Financial Accounting Maritz, C.J, Hibling, A.J, Freeman, A.J. 978-1-77586-831-6
Recommended Articles
http://catalogue.pearsoned.co.uk/assets/hip/gb/hip_gb_pearsonhighered/samplechapter/FADMC0
1.pdf Introduction to financial Accounting
Recommended Multimedia
Websites:
http://www.kelownacapnews.com/opinion/400542791.html[2016, December 01]
Video / Audio
Double entry principle
https://www.youtube.com/watch?v=ijPDIy6gXxc
https://www.youtube.com/watch?v=jpK7yNOGYZY
https://www.youtube.com/watch?v=BaBcqiLDW8g
Accounting equation
https://www.youtube.com/watch?v=eezXyx7ZANY
https://www.youtube.com/watch?v=_w-l_ExhJ5s please
search on youtube for more videos
Definitions
Term
Definition
Abridged
tax
invoice
A source document that is issued when a
VAT vendor makes a sale of goods or
services for less than R50.
My Notes
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Accounting
cycle
The accounting cycle commences with a
transaction, which needs to be analysed in
journals. Journals are then summarised
and posted to the ledger, where after a
trial balance is drawn up. These three
steps are repeated for every subsequent
month in the financial year – until the final
month. In the final month of the financial
year (usually month 12), the trial balance
is followed by year-end adjustments, a
post-adjustment
trial
balance,
a
postclosing trial balance and the
preparation of financial statements.
Accounting
equation
The equation on which the main
framework of accounting is based. It is a
mathematical equation that must always
balance.
Accumulated
depreciation
account
A negative asset account that holds the
accumulated pool of depreciation that has
been written off on a specific asset or
group of assets since they were acquired.
Assets
Resources controlled by the firm, as a
result of past events, and from which
future economic benefits are likely to flow
to the business.
Asset register
Shows all the important details pertaining
to a particular asset, from the date of
purchase to the date of sale.
Balance sheet
A financial statement that reflects the
accounting equation (the financial
position of the business). The modern
term used for the balance sheet is the
‘statement of financial position’.
Term
Definition
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My Notes
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Balance sheet
section
The section of the general ledger and trial
balance that includes all the accounts that
will end up in the balance sheet, i.e. the
proprietary accounts (capital and
drawings), asset accounts and liability
accounts.
Balancing
The month-end process of totalling the
accounts.
Bank deposit
slip
Supporting document used as proof that
cash was banked.
Bank
statement
Statement drawn up by the bank that
shows all the transactions affecting the
business’s bank account.
Bank
reconciliation
statement
A statement drawn up by the business to
remind them of debits and credits that still
need to be passed in the bank account by
the bank.
Business ethics
The question of how managers decide
what is right or wrong in conducting the
business of their organisation and how
they aim to achieve the ‘right’ and to
‘avoid the wrong’.
Capital
account
Account used when the owner makes
contributions of cash or other assets to
the business.
Carrying value
The book value or depreciated value of a
non-current asset. The carrying value is
equal to the cost of the asset less its
accumulated depreciation.
Cash invoice
A document that indicates that the sale
has taken place and been paid for
immediately.
Cash receipt
Source document used to record the
receipt of cash in cases where no VAT
should be charged.
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Cash receipts
journal
The journal in which transactions that
increase the balance of the current bank
account are recorded.
Cash receipts
transaction
Any transaction that causes an increase in
the bank account balance.
Term
Definition
Cash
payments
journal
The journal in which transactions that
decrease the balance of the current bank
account are recorded.
Cash
payments
transaction
Any transaction that causes a decrease in
the bank account balance.
Cash slip
An abridged tax invoice that may be used
only for sales that do not exceed R3 000.
Cheque
counterfoil
‘Stub’ that remains in the cheque book
after issuance of a cheque; used as source
document for the recording of cheque
payments from the cheque book.
Code
conduct
of
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My Notes
Document outlining the common set of
values and morals for management and
employees within an organisation.
Contraaccount
The opposite account that is debited or
credited as the opposite double entry.
Credit column
The credit column in a debtor’s individual
account is used to enter the amount of the
transaction in cases where the particular
transaction decreases the amount owing
to our business by the debtor. The
converse applied for a creditor’s individual
account.
Credit invoice
A document that indicates that a sale has
taken place, but that money owed for the
transaction is still outstanding.
Credit note
Document that records the cancellation of
a sale or part thereof.
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Creditor
A person or entity our business owes
money to. The modern term for creditors
is ‘accounts payable’.
Creditors
allowances
journal
Journal used to record the returns/rebates
with regard to transactions previously
entered into the Creditors journal (CJ).
Creditors
control
account
A general ledger account used as a control
mechanism for accounts payable.
Creditors
ledger
A subsidiary ledger that includes all the
individual creditors’ accounts.
Term
Definition
Creditors list
A list of the individual balances in the
creditor’s ledger.
Current assets
Resources that are cash or likely to be
turned into cash within one year. Also,
referred to as short-term assets
Current
liabilities
Short-term debts
Debtor
A person or entity that owes our business
money. ‘Accounts receivable’ is a modern
term for debtors.
Debtors journal
Journal used to record credit sales.
Debtors
allowances
journal
Journal used to record the returns/rebates
with regard to transactions previously
entered into the Debtors journal (DJ).
Discounts
Discounts are reductions in selling prices
offered to customers/ clients. Discounts
usually take the form of either a trade
discount (a discount offered at the point of
sale) as well as a settlement discount (a
discount offered for early settlement of
account by a debtor).
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My Notes
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Financial Accounting 1A
Double entry
system
A system whereby the total value of the
debits in a transaction must equal the total
value of the credits.
Drawings
account
Account used when the owner withdraws
valuables from the business.
Electronic
Funds Transfer
Electronic transfer of money from one bank
account to another.
Ethics
Thinking about or pondering a certain kind
of behaviour.
EFT
confirmation
slip
Proof of Electronic Funds Transfer (EFT).
Exempt supplies
Non-taxable supplies.
Expense
accounts
Accounts used to record decreases in
equity.
Term
Definition
Final accounts
These are accounts used to facilitate the
year-end accounting procedures, where
income and expense accounts are closed
off and owner’s equity is updated at the
financial year-end. There are two final
accounts used in the books of a sole trader,
namely the trading account and the
profitand-loss account.
Financial
accounting
Discipline
involving
recording
of transactions that have happened
in the past.
Financial
management
A process involving the effective planning,
organising, co-ordinating and controlling of
the financial activities of a venture.
Financial
statements
These are reports set up by an accountant
outlining the financial position and
performance of the business for a specific
financial period.
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My Notes
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Financial year
12-month reporting period for a business.
Fixed costs
Expenses which do not vary with
production and are incurred irrespective of
the volume of production.
Full tax invoice
Required from a VAT vendor whenever a
supply total exceeds R3 000.
General journal
Journal used to record sundry transactions
that cannot be recorded in any of the above
seven journals.
General ledger
The general ledger summarises the
subsidiary journals, and accumulated
running balances that are listed on the trial
balance. The general ledger is also the
official records of account as it is the book
in which business transactions are
ultimately recorded.
General ledger
reconciliation
statement
A statement showing corrective debits and
credits to ensure the balancing of a trial
balance.
Gross profit
The difference between the selling price and
the cost price of a product.
Term
Definition
Imprest system
A system employed in petty cash
requires the restoring of a standard
float at regular intervals by replacing
that has been taken from the petty
box.
Income
accounts
Accounts used to record increases in
equity.
Income
statement
Statement of financial performance. The
modern term for an income statement is
the “statement of profit or loss and other
comprehensive income”.
My Notes
that
cash
cash
cash
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Financial Accounting 1A
Input VAT
VAT charged to a registered vendor on
purchases of goods or services from
another registered vendor.
Invoice
A document that records that a sale of
goods or services has taken place, either for
cash or on credit.
Invoice basis
The basis according to which VAT is
accounted for upon the issue and receipt of
invoices, regardless of whether they’ve
been paid.
Journal
A book of prime entry, in tabular form.
Journal voucher
Internal source document from which
transactions are recorded in the general
journal.
Language
business
Accounting is often referred to as the
language of business, an ‘international’
language that crosses many borders.
of
Legal persons
Companies, Close Corporations, trusts and
deceased estates.
Liabilities
The debts of the business.
Managerial
accounting
Discipline involving management and
strategic input, linked to operational
outputs. Reporting based on future
expectations and strategic decisionmaking.
Management
accounts
Accounting records that report on the
current trading status of the business.
Term
Definition
Mark-up
The amount added to the cost price of a
product to arrive at its selling price.
Net profit
The difference between the total income
and total expenses of a business.
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My Notes
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Financial Accounting 1A
Net
working
capital
The net difference between the current
assets and current liabilities of a business.
Nominal
accounts
section
The section of the general ledger and trial
balance that includes all the accounts that
will end up in the income statement, i.e. the
income and expense accounts.
Non-current
assets
Resources that are not expected to be
turned into cash within one year.
Non-current
liabilities
Long-term debts.
Normal time
Legislation governs the total number of
hours an employee may be required to
work during a period. This is known as
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normal time. It is also the point at which an
employer should start paying employees at
an overtime rate.
Original credit
invoices
Source documents used to record credit
purchases in the creditor’s journal.
Original credit
notes
Source documents used to record returns
to/ rebates on goods or services previously
recorded in the creditor’s journal.
Output VAT
VAT charged to customers by a VAT vendor.
Overtime
The number of hours worked and
remunerated over and above the set
number of hours for normal time as
governed by legislation.
Owner’s equity
Wealth of the owner in his or her business.
Assets less liabilities = Owner’s equity.
Payments
(cash) basis
The basis according to which VAT is
accounted for upon receipt of the actual
cash from customers, or when suppliers are
paid in cash.
Term
Definition
My Notes
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Financial Accounting 1A
Pension Fund
A group scheme formed for the employees
of a company, aimed at providing much
needed retirement savings, life cover and
disability cover.
Pension
fund
contributions
Contributions by the employer to the
pension fund for the benefit of employees
Perpetual
inventory
system
A system of inventory keeping whereby
stock levels are updated at the point of sale.
Perpetual inventory has two main benefits.
It improves record-keeping practices,
making it simple to calculate cost of goods
sold in a certain period. Secondly, it allows
businesses to see accurate inventory at a
given moment, making it easier to know
when to order more. This higher degree of
control can make companies more
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dynamic, and helps keep up with customer
demand. Its major disadvantage is the
upfront cost of implementation.
Petty
journal
cash
Journal to record purchases from the petty
cash box.
Petty
cash
transaction
Any transaction that causes a decrease in
the cash on hand in the petty cash box.
Petty
voucher
Internal source document used to record
payments out of the petty cash box.
cash
Post-closing
trial balance
Index of accounts in the general ledger that
outlines the financial position of the
business as at the last day of the financial
year. With closing entries, all nominal
accounts and drawings are closed off and
only balance sheet accounts remain open.
The post-closing trial balance is prepared
after closing entries and therefore only
consists of balance sheet accounts,
excluding drawings.
Profit
The amount by which the total income
exceeds the total expenses for a financial
period.
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Term
Definition
Profit and loss
account
A final account that is used in the manual
system of accounting to facilitate the
closing transfers needed to close off
additional income and expense accounts.
Pro-forma
invoice
Not the actual tax invoice, but rather an
additional document to confirm an order.
Projected
income
statement
A budgeted income statement showing
projected items of income and expenditure.
Rules of double
entry
The rules whereby assets, drawings and
expenses are debited when they are
increased; whereas liabilities, income and
capital are
they
My Notes
credited
when
are increased.
Source
documents
The
original records
of
transactions. Normally completed
in duplicate.
South African
Revenue
Service
Established by legislation to collect tax
revenue and to ensure that individuals and
businesses comply with tax laws.
Standard rate
The normal VAT rate charged on
standardrated goods and services (currently
15%).
Standard rated
supplies
Goods or services on which the vendor
charges VAT and on which the consumer
can claim the full VAT amount back if they
are a VAT vendor themselves.
Statement
of profit
or loss and
other
comprehensive
income
Modern term for ‘income statement’. This
is a statement of income and expenditure
and measures financial performance.
Statement
financial
position
Modern term for ‘balance sheet’. This is a
statement of equity, assets and liabilities
and measures financial position.
of
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Sundry
accounts
Used when there is no column available for
the contra-account in a journal.
Sundry columns
These columns are used when there is no
designated column for the contra-account
in a journal.
Term
Definition
T-account
A structure used for general ledger
accounts, clearly showing a left-hand side
(debit) and a right-hand side (credit)
Timing
differences
These differences occur when the bank is
not aware of a particular transaction
recorded by the business.
Trading account
A final account used in the manual system
of accounting to facilitate the closing
transfers of all accounts related to the
calculation of gross profit for the financial
year.
Trading stock
The traditional term used as a synonym for
trading inventory.
Trading
inventory
The merchandise sold by a trading business.
This is the modern term for ‘trading stock’.
Trial balance
List of the totals or balances on the
accounts in the general ledger (index of
accounts). The trial balance must be in
balance to prove that the rules of double
entry have been applied throughout.
Value
Added
Tax (VAT)
Indirect tax levied by vendors on the supply
of certain goods and services.
VAT
The amount excluding VAT, constituting the
true cost price (expense) of selling price
(income) of the product or service.
exclusiv
e amount
VAT
inclusiv
e amount
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My Notes
The amount including VAT, being the
amount which the client or customer pays
at the point of sale.
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VAT vendor
Person or business that is registered for
Value Added Tax.
Zero-rated
supplies
Goods and services on which a VAT rate of
0% is charged.
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Add any new words, terms or concepts to this glossary as you work through the module:
Term
Definition
My Notes
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5. Module Content
You are now ready to start your module! The following diagram indicates the topics that will be
covered. These topics will guide you in achieving the outcomes and the purpose of this module.
Please make sure you complete the assessments as they are specifically designed to build you in your
learning.
Unit 1: AN INTRODUCTION TO BUSINESS, BOOKKEEPING & ACCOUNTING
Unit 2: THE ACCOUNTING EQUATION AND DOUBLE ENTRY SYSTEM
Unit 3: VALUE ADDED TAX
Unit 4: RECORDING FINANCIAL TRANSACTIONS
Unit 5: INVENTORY SYSTEMS
Unit 6: BANK RECONCILIATION
Unit 7: ACCOUNTS RECEIVABLE AND ACCOUNTS PAYABLE
Unit 8: YEAR-END PROCEDURES
Unit 9: DEPRECIABLE ASSETS
Unit 10: FINANCIAL STATEMENTS OF THE SOLE PROPRIETORSHIP
An Introduction to Business, Bookkeeping & Accounting
Purpose
The purpose of this study unit is to introduce students to accounting. Overview
of accounting fields will be discussed. Basic rule to financial accounting will be
introduced to students.
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Learning
Outcomes
Time
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By the end of this unit, you will be able to:
•
•
•
•
explain double entry accounting;
•
•
differentiate between the various fields in accounting; and
discuss various users and uses of financial information;
distinguish between internal and external reporting;
critically evaluate the various forms of business and choose the most
appropriate form under a given scenario;
illustrate the accounting cycle graphically.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.1.1 Introduction
Foundational knowledge in accounting is paramount for the successful running of a business. In this
study unit, we take a look at the origin and role of accounting in the business environment, identify
the main uses and users thereof, and explain how this ‘language of business’ is used by different types
of entities to make their business run more efficiently.
5.1.2 Double entry accounting
‘Double entry accounting’ is known to be the first modern form of accounting and is the base of our
accounting system that we still implement today in our society. This theory was developed by a
Franciscan friar, named Luca Pacioli.
Reading
Refer to Learning Unit 1, Section 1.1.1. Of the prescribed textbook for
a detailed explanation and application of double entry accounting.
5.1.3 Users and uses of financial information
Financial information prepared by bookkeepers and accountants is used by a variety of stakeholders
for different reasons.
Users of financial information
a) Investors
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Evaluating rate of return on their investments
b) Employees and labour unions
Assessing the stability and profitability of their employers
c) Lenders
To evaluate the credit worthiness of their clients
d) Suppliers and other trade creditors
Keen interest in information that enables them to determine whether amounts owing to them will be
when due.
e) Customers
Assessing the life span of the organization
Uses of financial information
Accounting plays an important and useful role by developing the information for providing answers to
many questions faced by the users of accounting information
a) To make decisions regarding the allocation of resources.
b) To evaluate the performance of the business and plan for the future.
c) To assess the viability of the business.
Reading
After studying Sections 1.1 and 1.2, you should now be able to attempt
the following question in the prescribed textbook:
1.
Question 1.1 – This activity will assist you in understanding the
advantages and disadvantages of using financial accounting
information.
2.
The solution to this question is found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
3.
Your lecturer will guide you through the solution.
5.1.4 Internal vs. external reporting
Internal reporting is concerned with the preparation and reporting of financial information for use by
management in making strategic decisions regarding the entity. These reports are referred to as
management accounts.
External reporting, on the other hand, is concerned with the preparation and reporting of financial
information, in accordance with the International Financial Accounting Standards (IFRSs), for use by
external stakeholders (customers, suppliers, government, etc.). These financial statements should
reflect a true and fair view of the business affairs of the organisation.
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Reading
Refer to Learning Unit 1, Section 1.3.1.2 of the prescribed textbook for a detailed
explanation of qualitative characteristics of financial statements prepared in
accordance with IFRS.
5.1.5 Different business forms
The business owner’s choice of business form will determine his or her exposure to risk, cost and
efficiency of start-up, access to capital investment, right to profits, level of management involvement
and the relevant income tax regime.
In South Africa there are four main forms of business:
1.
Sole proprietorships
Also known as one-man business, that is, the owner is responsible for all the decision making process.
There is no limited liability with a sole trader and it lacks continuity in the event the owner dies
2.
Partnerships
This is an agreement between 2-20 partners who share a common objective of obtaining a common
benefit. There are no legal formalities in establishing a partnership, however partners are bound by a
partnership agreement. It is in this agreement where issues such as the distribution of profits and
losses are stipulated. There are two main types of partners in a partnership agreement which are the
active partner and the dormant partner, the former being the one who is responsible for the day to
day running of the business and the latter being the one responsible for providing the capital.
3.
Companies
There are two types of companies:
•
•
Profit companies
Non-profit companies
Profit companies can further be subdivided into
•
•
4.
Private companies: not listed on the stock exchange, and
Public companies: listed on the stock exchange
Close Corporations (CCs)
Although, CCs cannot be incorporated anymore, but they still exist.
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Study group / Online forum discussion
The new Companies Act, 71 of 2008, has brought about changes
regarding Close Corporations. Question: What are these changes?
Reading
Refer to section 1.4 of the prescribed textbook for important factors to consider when
choosing a form of business.
5.1.6 Different fields in accounting
The purpose of accounting is to provide meaningful information to users through recording,
estimating, organising and summarising data. There are various disciplines that underpin the world of
accounting.
The two main branches are financial accounting and management accounting.
Financial Accounting
Provides
information
external stakeholders
Management Accounting
for
Provides information for internal stakeholders
Reports on the overall financial performance
and financial position of the organisation
Reports
at
a
more
detailed
level as
information is used for management decision
making
Requires that reporting be as accurate and as
complete as possible
Often uses estimates made by management;
information may also be manipulated in order
to facilitate management decision-making
(e.g. financial ratios)
Focuses on historical information that
indicates the past performance of the
organisation
Focuses on the future performance of the
organisation (budgets and forecasts)
Reporting must follow financial reporting
standards
Reporting is not required to comply with any
standards as it is used for internal purposes
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Reading
Now that you have worked through sections 1.1 to 1.5 of the prescribed textbook,
you should be able to attempt the following questions in the prescribed textbook:
1. Question 1.3 - This activity is intended to assess your knowledge of the
differences between financial and managerial accounting.
2. Question 1.4 - This activity is intended to assess your knowledge of the work
covered in sections 1.1 to 1.5.
3. The solutions to these questions are found in the Introduction to Financial
Accounting Question Bank and Solutions Guide provided with the prescribed
textbook.
4.
Your lecturer will guide you through the solutions.
5.1.7 The bookkeeping cycle and accounting cycle
The illustration that follows shows the basic bookkeeping and accounting cycle. The bookkeeping cycle
is a monthly cycle that ends with a trial balance. The accounting cycle includes the bookkeeping cycle,
but ends with the annual financial statements. The accounting cycle is therefore a yearly cycle.
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Reading
Refer to section 1.6 of the prescribed textbook in which the various
components of the accounting cycle are defined and explained.
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Now that you have worked through the accounting cycle in section 1.6
of the prescribed textbook, you should now be able to attempt the
following question in the prescribed textbook:
1. Question 1.6 – This activity will test your ability to research
information
2. The solution to this question is found in the Introduction to Financial
Accounting Question Bank and Solutions Guide provided with the
prescribed textbook.
3. Your lecturer will guide you through the solution.
Think point
According to Bloomberg, 8 out of 10 entrepreneurs who start businesses
fail within the first 18 months. A whopping 80% crash and
burn.
Study group / Online forum discussion
Group Activity
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a)
In groups, discuss the reasons why new businesses fail and the
actions entrepreneurs can take to ensure the success of their
businesses.
b)
What did the other groups come up with? Compare your
answers.
c)
This activity is designed to test your ability to think ‘out of the
box’ and work in groups.
5.1.8 Summary
In this study unit, we have discussed:
•
•
•
double entry accounting;
users and uses of financial information;
internal and external reporting;
•
forms of business ownership; •
accounting; and
the accounting cycle.
•
the
different
fields
in
Revision questions
Now that
you have worked through Learning Unit 1 of the prescribed textbook in
its entirety, with the help of this study unit, you should be
able to answer the following questions:
•
•
How would you explain double entry accounting?
Who are the users of, and what is their interest in, financial
information?
•
What is the difference between internal and external reporting?
•
What are the qualitative characteristics of financial statements
prepared in accordance with IFRS? Discuss.
•
•
What are the various forms of business? Describe them.
How would you discuss the factors to consider when choosing a
form of business?
•
How would you distinguish between the various fields in
accounting?
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The Accounting Equation
Purpose
The purpose of this study unit is to introduce students to accounting equation.
Students will be taught how to record transaction on accounting equation and
also to understand and apply the rules of double entry principle.
Learning
Outcomes
By the end of this unit, you will be able to:
Time
•
•
•
•
•
•
analyse transactions under the accounting equation;
•
explain and apply the rules of double entry.
define assets, non-current assets and current assets;
define liabilities, non-current liabilities and current liabilities;
explain what is meant by a ‘proprietary accounts’;
define income and expenses;
discuss the profit motive and demonstrate how gross profit and net
profit are derived; and
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.2.1 Introduction
In this study unit, we explore the intricacies of an equation that holds all financial information together
– the accounting equation.
5.2.2 The accounting equation
The accounting equation expresses the relationship between the sources (owner’s equity and
liabilities) and the employments (assets) of business funds. The equation is written as follows:
Assets = Owner’s equity + Liabilities
To make better sense of the accounting equation, a profound understating of the elements of financial
statements (assets, liabilities and owner’s equity) is required. A person or business’s Worth = Assets
(What you own) - Liabilities (What you owe)
Think point
Let’s say Ivirn Khoza owns 80% of Orlando pirates and the whole club
is worth R 1 million. Let’s say that the remaining 20% is a loan he got
from Nedbank.
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How much is Ivirn Khoza worth?
Worth = Assets (What Ivirn Khoza owns) - Liabilities (What Ivirn Khoza
owes)
Worth = Assets (Team @ R 1 000 000) - Liabilities (loan @ R 200 000)
Worth = R 1 000 000 - R 200 000
Worth = R 800 000.
The system for recording the financial transactions of a business is known as accounting and this
system is based on the accounting equation which is a simple fact of life that is:
The fact that the system for accounting for business financial transactions is based on an equation
means that for every transaction that is recorded the equation must always balance, because this is
the nature of an equation - it must always balance. The total on the left-hand side of the equation
should always be equal to the total on the right hand side of the equation.
For every business transaction, the accounting equation must balance because it is its nature for the
left-hand side of an equation to always equal the right hand side otherwise it is not ‘equal’.
Example
Example 2.2 (Capital contributions)
Let’s test and build our system of accounting for business financial
transactions: Transaction 1:
Amukelani starts a business and opens up a bank account as Girl Child
Network
(GCN) and transfers R 50 000 out of his personal bank account into the
business’s
bank account.
GCN thus has cash of R 50 000 and is thus worth R 50 000.
Cash coming into the business the business’s worth increases by R 50 000
Tr:
Assets
=
Owner’s equity
+
Liabilities
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+ R 50 000
R 50 000
+ R 50 000
=
The business has assets of R 50 000
R 50 000
+
R0
The business is now worth R 50 000
Now ask yourself the question: Does the accounting equation balance?
Well the left-hand side of the equation has increased by R 50 000 and the right hand side of the
equation has increased by R 50 000.
Yes, the accounting equation balances!
The worth of the business has increased from R 0 to R 50 000.
5.2.3 Assets
Assets are resources controlled by a business, as a result of past events, from which future economic
benefits are likely to flow to the business. For any item to be classified and recognized as an asset, it
has to meet the definition and recognition criteria of an asset.
The definition of an asset can be broken down into four requirements, namely:
•
•
•
•
resource;
control;
past event; and
future economic benefits.
The recognition criteria of an asset
Assets are
recognised
in
the
statement
of
financial
position
when it
is
probable (i.e. more likely than not) that the future economic benefits
inherent in the assets will flow to the entity and the cost or value of the assets can be measured
reliably.
The definition of assets also includes those assets that have a physical form (tangible assets) and those
that do not (intangible assets).
Assets are classified as long-term or non-current assets (will be owned/controlled for longer than one
financial year before it is disposed of) and short-term or current assets (could be owned/controlled
for less than one financial year).
Examples of non-current assets:
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Land and building (i.e. property controlled by the business);
• Plant and machinery (a collective name used for machinery and equipment, including movables
assets, used for a specific purpose such as for a long-term capital
Investment project);
• Equipment (this includes computer equipment and office equipment such as printers);
• Financial assets (these are investments such as a money market account or shares on a stock
exchange or unit trusts);
• Motor vehicles; or
• Intangible assets.
This is a term used to refer to long-term assets that are not physical in nature. They can neither be
seen nor touched. Examples of intangible assets include trademarks, copyrights, patents and goodwill
Examples of current assets:
Trading inventory on hand. ‘Trading inventory’ is a term used for the stock that a business buys and
sells. The trading inventory for a car dealership is the cars that it buys and sells. Other terms for trading
inventory (stock) are trading stock, trading goods or merchandise.
• Debtors.
This is the word or term used for customers that owe the business money. When a business sells
trading inventory (stock), it can sell it for cash or it can sell it on credit. A customer that owes the
business money is a debtor. The term ‘debtor’ is not to be confused with the term ‘debit’ or ‘debt’ more about these definitions later.
• Cash in the bank.
• Petty cash in the office (money used to purchase small items).
• Cash float (money in the cash register from which change is given to customers).
• Input VAT.
This is the VAT paid by the business to the suppliers, on goods and services purchased by the business.
As a registered VAT vendor, the business is allowed to claim this VAT back from SARS. It is, thus,
expected that cash will flow into the business when SARS pays the business back.
Reading
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Refer to Learning Unit 2, Section 2.1.1 of the prescribed textbook for a
detailed explanation and application of the definition and recognition
criteria, classification and examples of assets.
Self-check activity
Now that you have worked through sections 2.1.1 of the prescribed
textbook, you should be able to attempt the following questions in the
prescribed textbook:
1.
Question 2.1 – This question is designed to help you understand
the purpose and nature of account classification.
2.
Question 2.2 – This question is designed to assess your ability to
correctly identify accounts as assets.
3.
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
5.2.4 Liabilities
They represent business obligations which will result in future cash outflows from the business. For
any item to be classified and recognized as a liability, it must meet the definition and recognition
criteria of a liability.
The definition of a liability can be broken down into three requirements, namely:
1.
present obligation;
2.
past event; and
3.
future economic benefits.
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The recognition criteria of a liability:
Liabilities are recognised in the statement of financial position when it is probable that the settlement
of the present obligation will indeed result in the outflow of future economic benefits, and the amount
of the obligation can be reliably measured.
As with assets, liabilities are classified as non-current (long term) liabilities and current (short term)
liabilities. Non-current liabilities are those liabilities that will be settled over a period longer than one
financial year, while current liabilities are those liabilities that will be settled over a period shorter than
one financial year.
Examples of non-current liabilities
•
Mortgage loan (This is a bond on a property. A mortgage is raised when an entity buys a
property and takes out a loan form the bank to pay the property using the property as
collateral or security on the loan).
•
Bank loans with a maturity greater than one year (Typically bank loans which are not
secured by a property can be secured by another asset or can be unsecured).
Examples of current liabilities
•
Bank overdraft (What is a bank overdraft? This is when an entity’s current bank account
balance goes into negative. The bank gives it the facility to spend money it does not have.
•
Creditors (Who is a creditor? A creditor is a supplier of the business. The business owes a
supplier money for purchases made on credit).
•
SARS (Money owed to SARS for VAT and/or other taxes).
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Reading
Refer to Learning Unit 2, Section 2.1.2 of the prescribed textbook for a
detailed explanation and application of the definition and recognition
criteria, classification and examples of
liabilities.
Self-check activity
Now that you have worked through sections 2.1.2 of the prescribed
textbook, you should be able to attempt the following question in the
prescribed textbook:
1.
Question 2.3 – This question is designed to assess your ability to
correctly classify liabilities as either current or non-current.
2.
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
3.
Your lecturer will guide you through the solution.
5.2.5 Equity
Represents the claim the owners have over the assets of the business. Equity (also called net assets or
net asset value) represents the owner’s claim to the assets of the business after all the liabilities have
been paid.
It is the remaining assets of the business after all the liabilities have been settled, hence the terms net
assets or net asset value. Equity consists of capital contributions made by the owners of the business,
distributions to, or withdrawals by, the owners and profit (or loss) made by the business during a
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particular financial year. These components of equity will be discussed in detail in the section that
follows.
Reading
Refer to Learning Unit 2, Section 2.1.3 of the prescribed textbook for a
detailed explanation of equity and its constituents, accompanied by an
example.
5.2.6 The business entity rule
The business entity rule states that the affairs of the owner are recorded/kept separately from the
affairs of the business. Any goods or cash that the owner of the business takes for personal use is
referred to as drawings. Drawings have a negative relationship with owner’s equity, which is they
reduce the owner’s equity of the business
Reading
Refer to Learning Unit 2, Section 2.2 of the prescribed textbook for a
detailed explanation and application (by way of examples 2.2 to 2.6) of
the business entity rule.
Self-check activity
Now that you have worked through sections 2.1 and 2.2 of the prescribed
textbook, you should be able to attempt the following
questions in the prescribed textbook:
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1.
Question 2.4 – This question is designed to assess your ability to
correctly analyse the effect of transactions on the accounting
equation and to calculate owner’s equity.
2.
The solution to this question is found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
3.
Your lecturer will guide you through the solution.
5.2.7 Proprietary accounts
These are accounts used to record transactions that take place between the owner(s) and the
business.
Study group / Online forum discussion
Questions:
1.
Can you think of any transactions that usually take place
between the owner(s) and the business?
2.
Which accounts are usually affected by the transactions you
have identified above?
To understand the concept of profit, a profound understanding of income and expenses is required.
It is also important to know the different categories of profit and understand how each of them
contributes to the overall profitability of the business.
5.2.8 Capital
We have seen that if the owner contributes to the business, this increases the owner’s equity of the
business. These contributions by the sole proprietor are called capital contributions. The owner may
contribute cash or other valuables to the business. All contributions made by the owner are recorded
in the capital account, as well as in the contra-accounts that represent the resources that are being
contributed.
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Reading
Refer to Learning Unit 2,
Section 2.2.2 of the prescribed textbook for:
1. the definition of the terms ‘profit’, ‘income’ and ‘expenses’; 2. a
detailed explanation of the recognition criteria of income and
expenses;
3.
an explanation of the various categories of profit; and
Self-check activity
Now that you have worked through sections 2.1 and 2.2, you should now
be able to attempt the following question in the prescribed
textbook:
1.
Question 2.5 – This question is designed to assess your ability to
define, correctly identify, classify and calculate assets, liabilities,
equity, income and expenses.
2.
The solution to this question is found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
3.
Your lecturer will guide you through the solution.
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Practice Exercise 1
Roger Pierce commenced business as a sole trader on 1 August 2017.At
this point he only had R40 000 in the bank, R10 000 being from his
personal funds and R30 000 from the bank in the form of a loan. Roger
entered into the following transactions during the August 2017
Day Transactions
2
Sold goods on credit for R8 700
5
Paid the telephone bill for R2 300
7 cash sales of trading inventory R3 900
8 received rent income R 3 000
9 Purchased trading inventory on credit R
10 000
13
The owner took stock for personal use selling price 8700 and
markup on cost 23%
Required;
Record the transactions above on the accounting equation.
5.2.9 The general ledger – the system of bookkeeping
When financial transactions occur, they are recorded in the applicable source documents and journals
on a daily basis. At the end of each month, these transactions are posted to the general ledger (also
known as T-Accounts) to determine the balance of each account. In order accurately determine the
balance of each T-Account, when posting transactions form the journals to the general ledger the rule
of double entry must be correctly applied. The use of contra accounts (cross-referencing) is a big part
of the general ledger system. The double entry principle states that for every debit entry there has to
be corresponding credit entry.
The double-entry system specifies that accounts that represent sources of funds in- crease on the
credit side and accounts that represent applications of funds increase on the debit side such that for
every transaction the accounting must always balance AND the total debits must always equal the
total credits (in monetary value).
The following illustration outlines a useful mind-map for double entries using T-accounts:
Application Source Application Source Application Source
Dr
Cr
Dr
Cr
Dr
Cr
Dr
Cr
Dr
Cr
Dr
Cr
+
-
-
+
+
-
-
+
+
-
-
+
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Assets
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Drawings
Reading
Income Expenses
Liabilities
Refer to Learning Unit 2, Section 2.3 of the prescribed textbook for a
detailed explanation of the general ledger, the application of the double
entry rule and the demonstration of the correct use of contra accounts
accompanied by examples.
Self-check activity
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Now that you have worked through, you should now be able to attempt
the following questions in the prescribed textbook:
1.
Question 2.6 – This question assesses your ability to correctly
identify accounts.
2.
Question 2.7 - This question assesses your ability to calculate
owner’s equity and profit as well your ability to analyse the effect
of transactions in the accounting equation.
3.
Question 2.8 – This question assesses your general knowledge of
accounting terms.
4.
Question 2.9 - This question assesses your ability to calculate
owner’s equity, analyse the effect of transactions in the
accounting equation and record transactions in T-Accounts.
5.2.10 An introduction to inventory (stock) system
Inventory is recorded in the books of a business using either the perpetual inventory system or the
periodic inventory system. The system used will have a direct impact on the columns used to record
inventory transactions in journals, the accounts affected when analysing the effect of inventory
transactions on the accounting equation and, consequently, the accounts affected in the general
ledger.
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Reading
Refer to the table and learning example 2.13 in section 2.4 of the
prescribed textbook for a detailed explanation and application of the
two inventory systems.
Self-check activity
Now that you have worked through section 2.4 of the prescribed
textbook, you should be able to attempt the following questions in the
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prescribed textbook:
1.
Question 2.11 to 2.13 – This question is designed to assess your
ability to correctly analyse transactions involving inventory using
the accounting equation based on the recording system used. i.e.
Periodic and Perpetual.
2.
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
Think point
Employees of a company help the company operate and earn income just
like a machine helps in the production of inventory. To extent that
the machinery meets the asset definition and recognition criteria, it
would be recognized as an asset.
Study group
a) In groups, discuss whether the company can recognize the employees as assets in its
financial statements.
b) What did the other groups come up with? Compare your answers.
c) This activity is designed to test your ability to think ‘out of the box’
and work in groups.
d) No solution is provided for this activity. Discuss your answers with
your Lecturer.
5.2.11 Summary
1.
the accounting equation
2.
the elements of the accounting equation (assets, equity and liabilities);
3.
the business entity rule;
4.
the general ledger system and how to prepare T-accounts for different elements of the
accounting equation; and
5.
the inventory systems
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Revision questions
Now that
you have worked through Learning Unit 2 of the prescribed textbook in
its entirety, with the help of this study unit, you should be
able to answer the following questions:
a)
How would you analyse transactions under the accounting
equation?
b)
How would you define and classify assets?
c)
How would you define and classify liabilities?
d)
How would you explain proprietary accounts?
e)
How would you define income and expenses?
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Value-added-Tax (VAT)
Purpose
The purpose of this study unit is to introduce students to account for value
added tax in the books of the entity. Transactions will need to be recoded on
the books of the entity. VAT amount will need to be determined separately.
Amounts recoded in the statements must be of VAT exclusive. VAT input and
VAT output account must be introduced to show the records the VAT amounts
separately.
Learning
Outcomes
By the end of this unit, you will be able to:
Time
•
•
explain what Value Added Tax (VAT) is, and how the system works;
compare the VAT system to the traditional GST system;
•
identify standard rated, zero-rated and exempt supplies, as well as
non-allowable items;
•
compare the two bases according to which vendors may be registered
for VAT;
•
•
perform basic VAT calculations; and
complete VAT returns.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.3.1 Introduction
Knowledge of Value Added Tax (VAT) is important as VAT affects the amounts at which transactions
are recorded in the books of the business.
5.3.2 What is Value Added Tax?
Value Added Tax (VAT) was introduced in South Africa on 30 September 1991. The initial rate was set
at 10%, but since then it has been raised to 14%. The VAT system replaced the GST (General Sales Tax)
system. It is administered by the South African Revenue
Services (SARS). VAT is a tax levied on the consumption of goods and services. A person or a business
that is registered for VAT is called a VAT vendor. If an enterprise has (or is expected to have) an annual
turnover of taxable supplies of over R 1 million, it is compulsory to register as a VAT vendor. If the
annual turnover is between R 50 000 and R 1 million, registration is voluntary.
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Reading
Refer to Learning Unit 3, Section 3.1 of the prescribed textbook for a
detailed explanation of the history of VAT and the requirements for
registering as a VAT vendor.
5.3.3 How does the VAT system work?
Knowledge of the different stages and, thus, participants through which an item goes through before
it becomes a finished product is required to gain an understanding of how the VAT system works. At
this stage, it becomes imperative to distinguish between output VAT and input VAT. SARS allows the
business to claim back the VAT portion on invoices received. This is called input VAT and is an asset to
the business (in essence SARS becomes a temporary debtor of the business). VAT vendors must then
charge output VAT on their selling prices. Output VAT is due to SARS and is regarded as a liability by
the business.
A farmer produces wheat and sells it to a manufacturer, who makes flour. The flour is then sold to the
wholesaler, and re-sold to the retailer, who finally sells it to the consumer.
Assume that all participants are registered VAT vendors and that the product is a standard rated supply
at each stage of its development:
The farmer:
The farmer ensures that the land is tilled. Mother earth cannot provide the farmer with a VAT invoice,
so the farmer will not be able to claim input VAT on the wheat per se. However, SARS will allow the
farmer to claim on most of the inputs needed to till the land(seeds for planting grass, inoculations,
etc.)
Let’s assume that the average cost of the inputs needed to produce enough wheat to eventually make
the 2 kg container of flour, is R 5. The farmer’s VAT scenario can be set out as follows: The farmer
ensures collection of cream from the cows; total cost per container of wheat needed to produce 2 kg
of flour = R 5.00 Thus input VAT claimable (R 5.00 × 14%)
Farmer adds a mark-up of:
R 0.70
R 5.00
Sells product for VAT inclusive price of (R 5.00 + R 5.00) + (14% × R 10.00):R 11.40
Thus output VAT payable (R 11.40 - R 10.00):
amount payable to SARS (R 1.40 - R 0.70):
R 1.40 Net
R 0.70
The manufacturer:
The manufacturer buys the wheat needed to make one 2 kg container of flour at R 11.40 (including
VAT) from the farmer. Since the wheat is now the input the manufacturer needs to produce his/her
product, SARS will allow the manufacturer to claim back the R1.40 in VAT on this invoice received from
the farmer. Now, it must be mentioned from the outset that the manufacturer would have claimed
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Input VAT on the machinery purchased for use in the production process. This would have been done
when the machinery was ac-quired. We will now assume that the only additional input for the
manufacturer is wages for the factory workers. No VAT can be claimed on wages. There are several
reasons for this, but the easiest one to remember is that the factory worker does not provide the
employer with a VAT invoice when receiving his/her wages. VAT cannot be claimed if no tax invoice
has been received. The manufacturer’s scenario can now be set out as follows: The manufacturer buys
the cream from the farmer and produces butter,
total cost (R 11.40 ÷ 1.14) =
Thus input VAT claimable (R 11.40 - R 10.00):
R 10.00
R 1.40
Manufacturer adds a mark-up of:
R 5.00
Sells product for VAT inclusive price of (R 10.00 + R 5.00) + (14% × R 15.00)
R 17.10
Thus: output VAT payable (R 17.10 - R 15.00):
R 2.10 Net
amount payable to SARS (R 2.10 - R 1.40):
R 0.70
The wholesaler:
The wholesaler buys a large number of 2 kg containers of flour, which is then sold piecemeal to a
variety of retailers at a profit. If the wholesaler intends to make a profit of R 5 per unit sold, the
following would apply:
The wholesaler buys the butter from the manufacturer in bulk, total unit cost(R 17.10 ÷ 1.14) =
R 15.00
Thus input VAT claimable (R 17.10 - R 15.00):
R 2.10
Wholesaler adds a mark-up of:
R 5.00
Sells product for VAT inclusive price of (R 15.00 + R 5.00) + (14% × R 20.00):
R 22.80
Thus: output VAT payable (R 22.80 - R 20.00):
R 2.80
Net amount payable to SARS (R 2.80 - R 2.10):
R 0.70
The retailer:
The retailer purchases the flour from the wholesaler and may then claim back Input VAT on the
purchase. Let’s assume the retailer also adds R 5 in profit to his/her purchase price before selling it to
the final consumer.
The retailer buys the butter from the wholesaler in bulk, total unit cost(R 22.80 ÷ 1.14)
=R 20.00
Thus input VAT claimable (R 22.80 - R 20.00):
R 2.80
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Retailer adds a mark-up of:
R 5.00
Sells product for VAT inclusive price of (R 20.00 + R 5.00) + (14% × R 25.00):
R 28.50
Thu: output VAT payable (R 28.50 - R 25.00):
R 3.50
Net amount payable to SARS (R 3.50 - R 2.80):
R 0.70
The consumer:
The final consumer is often not registered as a VAT vendor and may therefore not claim back any of
the VAT that appears on the invoice received from the retailer. Certain products may be consumed by
a VAT vendor. If stationery is consumed by a particular VAT vendor, then (although the VAT vendor is
the final consumer of that particular product) they may claim that input VAT back from SARS because
it will be used in the production of their income.
Reading
Refer to Example 3.1 in section 3.2 of the prescribed textbook for a
detailed explanation and demonstration of how the VAT system
works.
Self-check activity
Now that you have worked through Sections 3.1 and 3.2 of the prescribed
textbook, you should be able to attempt the following
question in the prescribed textbook:
a) Question 3.1 – This activity is intended to improve your critical
thinking and reasoning skills.
b) The answer to this question is found in the Introduction to Financial
Accounting Question Bank and Solutions Guide provided with the
prescribed textbook.
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5.3.4 VAT supply categories
There are four supply categories for VAT purposes, namely:
Standard rated supplies
These are supplies which attract Vat and the purchaser can also claim Vat. That particular good should
constitute an essential input to our business to create outputs on which Vat output will be charged
Zero rated supplies;
Vat charged on these goods and services is at 0% and typical examples of those goods are petrol,
brown bread, and milk.
Exempt supplies
Vendors of exempt supplies may not register for Vat at all, so no Vat input may be claimed on their
purchases and typical examples are life assurance, interest paid or received
Non-allowable items.
Vat vendors may be charged vat output but they cannot claim back the vat and typical examples are
club fees and subscriptions, passenger vehicles
Reading
Refer to Learning Unit 3, Section 3.3 of the prescribed textbook for a
detailed explanation of each VAT supply category.
Self-check activity
Now that you have worked through Sections 3.3 of the prescribed
textbook, you should be able to attempt the following question in the
prescribed textbook:
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a) Question 3.2 – This question will assist you in understanding the
importance and implications of correctly identifying supplies as
exempt or zero-rated supplies.
b) The answer to this question is found in the Introduction to Financial
Accounting Question Bank and Solutions Guide provided with the
prescribed textbook.
c) Your lecturer will guide you through the solution.
5.3.5 VAT calculations
When a transaction attracts VAT, the VAT amount, VAT exclusive amount and VAT inclusive amount
must be calculated and recorded correctly. This section also looks at the determination of sales and
cost of sales figures using mark-ups and gross margins as well as how VAT affects these calculations.
VAT exclusive amount is calculated as
Exclusive amount × 1.15 = Inclusive amount VAT
inclusive amount is calculated as
Inclusive amount ÷ 1.15 = Exclusive amount
We have two methods of calculating the Vat amount
Method2: VAT exclusive amount × 15/100 = VAT amount
VAT inclusive amount × 15/115 = VAT amount
Practice
VAT exclusive price (R) VAT amount (R)
VAT inclusive price (R)
439.45
?a
?b
?c
?d
9 003.15
120.50
?e
?f
?g
?h
2 150.00
?i
21.00
?j
680.75
?k
?l
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?m
?n
14 222.69
?o
59.06
?p
300.00
?q
?r
Reading
Refer to Learning Unit 3 section 3.4 of the prescribed textbook for a
detailed explanation and formulas used to perform VAT, mark-up and
gross margin calculations.
Self-check activity
Now that you have worked through sections 3.1 to 3.4 of learning unit
Three (3) of the prescribed textbook, you should now be able to
attempt the following questions in the prescribed textbook:
a)
Questions 3.3 to 3.6 – These activities will test your understanding of, and
ability to perform, VAT, mark-up, gross margin, selling price and cost price
calculations.
b)
The solutions to these questions are found in the Introduction to Financial
Accounting Question Bank and Solutions Guide provided with the prescribed
textbook.
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5.3.6 VAT returns
Documentation required in respect of input VAT claims
Where a purchase is made for a consideration in excess of R 50, the vendor must be in possession of
a valid tax invoice in order to claim the input tax deduction.
For the Tax Invoice to be a valid it must contain certain information as requested by the VAT Act.
Reading
Refer to Learning Unit 3, Section 3.5.1 of the prescribed textbook to
familiarise yourself with the information required on a valid tax
invoice.
There are two different bases provided for in the Act for the calculation of VAT:
a) the payments basis; and
b) the invoice basis.
Reading
Refer to Learning Unit 3, Section 3.5.2 of the prescribed textbook for a
detailed explanation of the two bases of accounting for VAT.
A vendor will fall into one of the five VAT categories (A-E), depending on the nature of their business
operations, annual taxable supplies and annual turnover.
Reading
Refer to Learning Unit 3, Section 3.5.3 of the prescribed textbook for a
table detailing the length and criteria of each category.
5.3.7 Due date of payments
Registered VAT vendors are required by law to submit VAT returns accompanied by the payment of
VAT.
Reading
Refer to Learning Unit 3, Section 3.5.4 of the prescribed textbook for a
detailed explanation of the options available to VAT vendors for the
submission of VAT returns and the due date of VAT payments,
depending on the option chosen for submission the VAT returns.
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5.3.8 Penalties and interest
Should a VAT vendor miss the due date for the payment of VAT, a penalty and interest on the
outstanding amount will be levied by SARS.
Reading
Refer to Learning Unit 3, Section 3.5.5 of the prescribed textbook for a
detailed explanation of the penalties and interest relating to VAT.
S59 of the Act covers the offences and penalties applicable to VAT evasion.
Reading
Refer to Learning Unit 3, Section 3.5.6 of the prescribed textbook for a
detailed explanation of the difference between VAT avoidance and
evasion and the legal implications thereof.
5.3.9 Submission to SARS
SARS requires all registered VAT vendors to complete and submit a VAT 201 form in which all the VAT
output collected from customers is declared and all the VAT input paid to suppliers is indicated,
thereby determining the net VAT payable to, or net VAT refundable by, SARS.
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Reading
Refer to Learning Unit 3, Section 3.5.7 of the prescribed textbook for a
detailed example demonstrating how a VAT return (VAT201 form) is
completed.
Self-check activity
Now that you have worked through Learning Unit 3, Section 3.5 of the
prescribed textbook, you should now be able to attempt the following
questions in the prescribed textbook:
a)
Question 3.8 to 3.10 – These questions will test your ability to
complete a VAT201 form (VAT return) and correctly account for
VAT on a settlement discount granted.
b)
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
c)
Your lecturer will guide you through the solutions.
Think point
A company has two buildings that it owns. One building is rented out
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as a residential block and the other as a block of offices. The company
pays a painting company, a registered VAT vendor, R11 500 (including
VAT) for each building painted.
Study group / Online forum discussion
a)
In groups, discuss whether the company can claim the input
VAT on the R11 400 paid for each building?
b)
Should the company charge output VAT on the rent it charges its
tenants?
c)
What did the other groups come up with? Compare your
answers.
d)
This activity is designed to test your ability to think ‘out of the
box’ and work in groups.
e)
No solution is provided for this activity. Discuss your answers
with your lecturer.
5.3.10 Summary
a)
The history of VAT and requirements for registering as a VAT vendor;
b)
VAT calculations;
c)
the different VAT supply categories;
d)
calculations of mark-ups and gross margin where VAT is applicable;
e)
documentation required for there to be a valid tax invoice;
f)
the payment and invoice basis for accounting for VAT;
g)
the different VAT categories and their respective VAT periods;
h)
The due dates for VAT payments depending on the VAT period and whether the return is
submitted manually or via eFiling;
i)
penalties and interest on late payments of VAT;
j)
VAT avoidance and evasion; and
k)
the submission of VAT returns to SARS.
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Revision questions
Now that
you have worked through Learning Unit 3 of the prescribed textbook in
its entirety, with the help of this study unit, you should be
able to answer the following questions:
a)
How would you explain Value Added Tax (VAT) and how the
system works?
b)
How would you compare the VAT system to the traditional GST
system?
c)
How would you identify standard rated, zero-rated, exempt
supplies as well as non-allowable items?
d)
How would you compare the two bases according to which
vendors may be registered for VAT?
e)
How would you perform basic VAT calculations; and
f)
How is a VAT return completed?
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Recording Financial Transactions
Purpose
The purpose of this study unit is to introduce students on how to record
financial transactions in the books. Every transaction will need to be
summarised and be presented in the financial statements of the entity.
Learning
Outcomes
By the end of this unit, you will be able to:
Time
•
recognise and define the types of source documents and provide
related journal entries for basic cash transactions;
•
identify the different subsidiary cash journals and explain what they
are used for;
•
•
•
•
•
•
record source documents in appropriate subsidiary cash journals;
post the cash transactions to the general ledger;
prepare a simple trial balance;
explain why extending credit can benefit a business;
explain the risks associated with extending credit to customers;
record credit sales in the debtor’s journal from duplicate credit
invoices;
•
•
record duplicate credit notes in the debtor’s allowances journal;
record credit purchases in the creditors journal from original credit
invoices;
•
•
•
record original credit notes in the creditor’s allowances journal;
record sundry transactions in the general journal;
account for VAT in the journals by recording a variety of different
transactions that involve standard rated, zero-rated, exempt and
nonallowable items;
•
explain how the rules of double entry are adhered to when making a
journal entry;
•
•
post a completed set of subsidiary journals to the general ledger;
balance the ledger accounts and draft a trial balance.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.4.1 Introduction
Study unit 4 looks at how financial transactions are recorded in the books of the business.
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5.4.2 Transactions, source documents and journals
The table below summarizes the various types of transactions that occur in business, the source
documents in which the information relating to such transactions is recorded and the journals in which
the transactions are summarized.
Type of transaction
Source Document
Subsidiary Journal
Cash received by us
Duplicate receipt
Cash Receipts Journal
Cash Sales
Cash Register Roll/ Till Slip
Cash Receipts Journal
Credit Sales
Duplicate Credit Invoice
Debtors Journal
Credit Purchases
Original Credit Invoice
Creditors Journal
Petty Cash transactions Petty Cash Voucher
Petty Cash Journal
Cheques issued
Cheque counter foil
Cash Payments Journal
Goods returned by us
Duplicate Debit note/ Original credit note Creditors Allowances Journal
Good returned to us
Duplicate Credit note/ Original Debit note Debtors Allowances Journal
Sundry transactions
Journal Voucher
General Journal
Reading
Refer to Learning Unit 4, Sections 4.1, 4.2, 4.3 and 4.4 of the prescribed
textbook for a detailed explanation of:
a)
the various source documents, the transactions they are used for
and the information recorded therein (Section 4.1);
b)
importance of adequate, effective and efficient cash flow in a
business (Section 4.2); and
c)
the various cash journals used to summarise similar cash
transactions, the structure of each
Reading
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Now that you have worked through Learning Unit 4, Sections 4.1 to 4.4
of the prescribed textbook, you should now be able to attempt the
following questions in the prescribed textbook:
a)
Questions 4.1 to 4.8 – These questions will assess your
understanding of, and ability to apply the knowledge you gained
from, source documents and cash journals.
b)
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
c)
Your lecturer will guide you through the solutions.
5.4.3 Posting to the general ledger
Posting transactions from the journals to the general ledger (T-Accounts) was briefly mentioned in
study unit 2. In this study unit, we go a step further and look at the structure of the general ledger as
well as the rules for balancing the T-Accounts.
Reading
Refer to Learning Unit 4, Sections 4.5 of the prescribed textbook for a
detailed explanation and demonstration of the structure of the general
ledger (section 4.5.1) and the rules for balancing the general ledger
accounts (section 4.5.2) and work through example 4.2
5.4.4 Listing of general ledger account balances on a trial
After balancing the T-Accounts in the general ledger, the balance of each account is listed in the trial
balance.
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Reading
Refer to Learning Unit 4, Section 4.6 of the prescribed textbook for a
detailed explanation and demonstration of the trial balance and work
through example 4.3.
Self-check activity
Now that you have worked through Learning Unit 4, Sections 4.5 and
4.6 of the prescribed textbook, you should now be able to attempt the
following questions in the prescribed textbook:
a)
Questions 4.9 to 4.11 – These questions will assess your ability to
post transactions to the general ledger and list balances of TAccounts in the trial balance.
b)
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
c)
Your lecturer will guide you through the solutions.
5.4.5 Credit and sundry transactions
So far in this unit we have focused on how cash transactions are recorded in the books of the business.
However, not all businesses can afford to trade in cash only. We now turn to credit and sundry
transactions.
Reading
Refer to Learning Unit 4, Section 4.7 of the prescribed textbook for a
detailed explanation of the benefits of offering credit to customers.
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5.4.6 Subsidiary journals for credit and sundry transactions
Reading
Refer to Learning Unit 4,
Section 4.8 of the prescribed textbook for:
a)
a definition of credit transactions;
b)
a detailed explanation and demonstration of the structure of
the various credit and sundry journals as well the types of transactions
recorded in such journals;
Self-check activity
Now that you have worked through Learning Unit 4, Sections 4.7 and
4.8 of the prescribed textbook, you should now be able to attempt the
following questions in the prescribed textbook:
a)
Questions 4.12 to 4.16 – These questions will assess your ability
to apply all the knowledge you gained throughout this study unit.
b)
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
c)
Your lecturer will guide you through the solutions.
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Practice
Questions regarding the cash receipts journal:
1.
Why was no amount entered into the analysis of receipts column
on day 1?
2.
How was the cost of sales amount of R 8 187.13 according to CV3
on day 8 calculated?
3.
Why is there no VAT calculated for RC02 on day 11?
4.
How was the amount of R 10 755.90 entered into the debtors
control column on 20 April calculated? Explain.
5.
On day 30 there is reference to a credit for interest on the bank
statement (refer to the given information). Why would one then
enter the interest into the cash receipts journal - the CRJ
represents the debit side of the bank account?
Questions regarding the cash payments journal:
6.
How was the amount entered into the creditors control column
on day 14 calculated?
7.
Explain why no input VAT was claimed on cheque 11 issued on
day 18.
8.
Explain in detail how the bookkeeper recorded the purchase of
the slide projector on the 20th of April.
9.
Explain in detail how the transaction according to cheque no. 14
on day 27 was recorded.
Questions regarding the petty cash journal:
10.
With regards to PV10 on day 13: explain how the amounts shown
in each of the analysis columns for this transaction were
calculated.
11.
17.
Explain why no VAT was claimed on PV12 as recorded on day
12.
In which journal would one restore the petty cash imprest
amount? Explain how the whole petty cash system works with
regard to the imprest amount, purchases and security.
Questions regarding the creditors’ journal:
13.
The equipment account was debited on day 19 when invoice
E495 was recorded.
14.
Many people will regard a coffee table as furniture, though.
Would it have been acceptable to open a furniture account
instead of debiting the existing equipment account? What would
you recommend under such a scenario?
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15.
Why were there no entries made for the instalments mentioned
in the transaction on day 20?
Questions regarding the creditors allowances journal:
16.
How was the amount entered into the creditors control column
on 21 April 20.7 calculated?
17.
Regarding the transaction on day 22: Why was an amount of R 5
000 entered into the sundries columns, and not in the creditors
control column?
Questions regarding the debtors’ journal:
18.
How was the cost of sales amount of R 17 000 according to
document D2 on day calculated?
19.
When one divides the total of the cost of sales column into the
total of the sales column, one arrives at a factor of 1.44. Given a
constant mark-up of 50% applied by Letsema Furnishers, one
would expect this factor to be 1.5. Provide a good reason for this
discrepancy.
Questions regarding the debtors allowances journal:
(i) No entry was made in the cost of sales column on day 9 (invoice D1).
Explain why.
Questions regarding the general journal:
20.
With regards to the transaction on day 2: the interest on loan has
been recorded in the general journal, not in the cash payments
journal. Briefly explain why.
21.
The amount that has been debited to interest on loan is R 1
849.32. How do you think this amount was calculated? Show
your workings.
22.
How was the amount debited to the drawings account on day 11
calculated?
23.
How was the amount debited to creditors control on day 14
calculated?
24.
How was the amount credited to debtors control on day 20
calculated?
25.
Why was the amount of R 8 799.95 not used for the double entry
that was passed on day 29
Required
Record the above transactions in their respective journals.
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Think point
Reckless lending occurs when a credit provider enters into a credit
agreement with a customer without conducting an affordability
assessment on the customer or the customer does not understand the
risks, costs or obligations associated with the credit or if the customer
becomes over-indebted as a result of entering into the credit
agreement.
Questions
1.
What are the advantages and disadvantages of reckless lending,
if any?
2.
Does reckless lending have any effect on the short-term and/or
long-term profitability of a business? Describe.
3.
Does reckless lending in anyway affect the continued existence
of a business? Explain.
4.
Discuss the reasons why businesses engage in reckless lending.
5.
Using the internet, research any local and/or international
businesses that have benefited from, or suffered as a result of,
reckless lending. Discuss your findings.
6.
These questions are designed to test your ability to ‘think out of
the box’
5.4.7 Summary
In this study unit, we have discussed;
a)
cash transactions, source documents and journals;
b)
credit and sundry transactions, source documents and journals;
c)
the benefits of credit transactions
d)
posting transactions to the general ledger; and
e)
listing balances of the T-accounts in the trial balance
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Inventory Systems
Purpose
The purpose of this study unit is to introduce students on how to account for
inventory in the books. Two systems of inventory and two methods of
inventory will be introduced to students.
Learning
Outcomes
By the end of this unit, you will be able to:
Time
•
explain why some businesses choose not to use a perpetual inventory
system, but a periodic system instead;
•
calculate cost of sales at the end of the financial year when a business
uses the periodic inventory system;
•
demonstrate the working of the purchases and purchases returns
accounts under a periodic inventory system;
•
demonstrate the working of the carriage on purchases and similar
accounts that affect the calculation of cost of sales under a periodic
inventory system;
•
analyse inventory-related transactions under the accounting equation
when using a periodic inventory system;
•
record inventory-related transactions in the subsidiary journals when
using a periodic inventory system; and
•
explain which one of the two inventory systems is most desirable in the
world in which we live.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.5.1 Introduction
In this study unit, we will look at how a business should measure and record inventory in its books.
5.5.2 Inventory (stock) defined
One entity’s inventory can be another entity’s property, plant and equipment. Inventories can be
defined as assets...
•
•
•
held for sale in the ordinary course of business;
in the process of production for such sale; or
in the form of material or supplies to be consumed in the production process or in the
rendering of services.
An item of inventory (stock) is therefore an asset that the business intends to...
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•
sell in the normal course of business, if purchased ‘as is’ (for example a merchandise bought
and sold by a retailer); or if manufactured by the business (for example a product produced
and sold as a finished product by a manufacturer).
•
•
process and then sell in the normal course of business
if not yet processed, for example raw materials; or if partly processed, for example unfinished
goods (also called ‘work-in-progress’).
•
consume in the process of producing assets to be sold in the normal course of business (for
example nails and glue used in the production of furniture).
Reading
Refer to Learning Unit 5, Section 5.1 of the prescribed textbook for a
detailed definition of inventory and classification of inventory as an
asset.
5.5.3 Initial measurement of inventory (stock)
Not all costs incurred in relation to inventory can be included as part of its cost.
Reading
Refer to Learning Unit 5, Section 5.2 of the prescribed textbook for a
detailed explanation of the cost at which inventory is measured and
work through example 5.1.
Initial measurement vs. reporting requirements
Due to factors such as changes in demand for the product, changes in consumer preferences, and
damages to the inventory, the carrying amount of inventory might be different at the end of the
financial reporting date.
Reading
Refer to Learning Unit 5, Section 5.2.1 of the prescribed textbook for a
detailed explanation of how inventory will be valued at the financial
reporting date.
5.5.4 Perpetual for some; periodic for others
Inventory can be recorded in the books of the business using either the perpetual inventory system or
the periodic inventory system.
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Perpetual inventory system
Periodic inventory system.
•
continuous updating of balances for items •
of inventory
•
easy determine gross margins at all times •
•
•
cost of sales are calculated ona real time • basis
Stock is refered to as inventory
•
inventory is not updated on a real time
basis
gross margins are calculated at the end of
the year
Cost of sales is thus determined at the end
of the financial period/year
Stock is refered to as purchases
Think point
Some experts are of the opinion that the perpetual inventory (stock)
system offers more advantages to a business than the periodic system.
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Do you agree with these experts or not? Substantiate your claim.
Reading
•
Refer to Learning Unit 5, Section 5.3 of the prescribed textbook for:
a detailed explanation of the perpetual inventory system and the
periodic inventory system as well as the differences between the
two systems;
•
an example illustrating how inventory is recorded in the journals
and the general ledger under the two systems; and
•
the application of the formula used to calculate the cost of sales
figure when the periodic inventory system is in use.
5.5.5 Which system is best – perpetual or periodic?
The answer to this question depends entirely on the nature of the inventory sold by, and the size of,
the business.
Reading
Refer to Learning Unit 5, Section 5.4 of the prescribed textbook for a
detailed explanation of the pros and cons of each system.
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Practice
1.
Questions 5.1 - This question is designed to test your
researching skills.
2.
Questions 5.2 - This question is designed to test your ability
to identify the costs that should be included in the initial cost of the
inventory.
3.
Questions 5.3 - This question is designed to test your ability
to analyse the effect of inventory transactions in the accounting
equation.
4.
Questions 5.4 - This question is designed to test your ability
to record inventory transactions in the journals using the periodic
inventory system.
5.
Questions 5.5 – This question is designed to test your
knowledge of the advantages and disadvantages of the periodic and
perpetual inventory system.
6.
The solutions to these questions are found in the Introduction
to Financial Accounting Question Bank and Solutions Guide provided
with the prescribed textbook.
7.
Your lecturer will guide you through the solutions.
5.5.6 Summary of the unit
In this study unit, we have discussed:
1.
the definition of inventory;
2.
the two inventory recording systems; perpetual and periodic;
3.
cost of inventory;
4.
recording financial transactions using the two inventory recording systems; and
5.
the differences in the financial records of the business as a result of using one system instead
of the other.
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Revision questions
•
• How would you define inventory?
What are the two inventory recording systems that a business
can use?
•
•
Differentiate between the perpetual and periodic inventory
recording systems.
What goes into the cost of inventory?
•
How would you record inventory transactions in the journals and
general ledger for a company using?
•
Perpetual system; and
•
Which businesses are likely to use periodic and which ones are
likely to use perpetual?
•
Assume a company incurs the following costs in relation to
inventory:
•
•
Purchase price
Transportation costs:
-
R1 000
- from supplier to the business:
R2 000
from the business to its customers:
R3
000
- marketing and advertising costs:
R5
000
•
In groups, discuss which of the costs will be included in the cost
of inventory.
•
Discuss how the recording of the purchase will be recorded under
the two inventory recording systems (Perpetual and
Periodic).
•
What did the other groups come up with? Compare your
answers.
Bank Reconciliation
Purpose
The purpose of this study unit is to introduce students on how to reconcile
transactions recorded in the books of the business and the transactions
recorded in by the bank in the bank statement. Balance as per bank statement
will normally not be the same with the balance that is in the cash books.
Reconciliation will need to be made to account for the differences.
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Learning
Outcomes
Time
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By the end of this unit, you will be able to:
•
•
explain the purpose of bank reconciliation; and
prepare a bank reconciliation statement.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.6.1 Introduction
In this Study Unit, we look at the reconciliation of the business’s cash book with the bank’s records.
5.6.2 The business and the bank
A business will receive payments either in the form of cash, cheques or by credit card payments. After
a day’s trading, the business will have cash, cheques and manual credit card slips that need to be
banked.
Reading
Refer to Learning Unit 6, Section 6.1.1 of the prescribed textbook for a
detailed explanation of the banking process and how it links up to the
bank reconciliation process.
5.6.3 The bank statement
The bank statement is a document showing how much cash we have as indicated by the bank that the
business banks with. It will show the movements in the businesses bank account for a certain period.
Reading
Refer to Learning Unit 6, Section 6.1.2 of the prescribed textbook for a
detailed explanation of a bank statements and how the bank statement
is used in the bank reconciliation process.
5.6.4 The bank reconciliation procedure
The secret to accurately reconciling the bank balance as per the bank account with the bank balance
as per the bank statement, is to follow a meticulous procedure.
Step 1
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The credits on the bank statement are compared with the bank column of the cash receipts journal
and the differences are identified and investigated, as requiring amendment/addition in the cashbook,
or as outstanding items to be entered in the bank reconciliation statement.
Step 2
The debits on the bank statement are compared with the bank column of the cashbook payments and
the differences are identified as requiring amendment/addition in the cashbook, or as outstanding
items to be entered in the bank reconciliation statement.
Step 3
Differences identified as requiring amendment/addition in the cashbook are recorded and the
cashbook is totalled. The cashbook is then posted to the bank account in the general ledger.
Step 4
Compile the bank reconciliation statement. This statement is an internal document used to hold
outstanding/unresolved items to be corrected by the bank. Potentially these are items that are going
to require investigation and subsequent amendment by the bank and will be reflected on future bank
statements.
Step 5
The monthly reconciliation statement is now interpreted and any outstanding items are investigated
in order to highlight potential penalties or unresolved issues.
Reading
Refer to Learning Unit 6, Section 6.2 of the prescribed textbook for a
detailed step by step guide to performing a bank reconciliation,
including a detailed explanation of the causes of discrepancies
between the bank balance as per the bank account and the bank
balance as per the bank statement and work through example 6.1.
Practice
Now that you have worked through Section 6.2 of the prescribed
textbook, you should be able to attempt the following question in the
prescribed textbook:
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•
Question 6.1 – This activity will assess your ability to identify the
list of differences as either an adjusting or timing difference or an
error.
•
The solution to this question is found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
•
Your lecturer will guide you through the solution.
5.6.5 Alternative steps that may be followed
Reading
Refer to Learning Unit 6, Section 6.3 of the prescribed textbook for a
detailed explanation of an alternative way of performing the bank
reconciliation procedure.
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Practice
Now that you have worked through Sections 6.1 to 6.3 of the prescribed
textbook, you should be able to attempt the following
questions in the prescribed textbook:
•
Questions 6.2 to 6.4 – These activities are intended to assess your
ability to identify and record differences in the supplementary
journals, post the supplementary journals to the general ledger
and prepare a bank reconciliation statement.
•
Question 6.5 – This question is designed to test your
understanding of the reconciliation procedure.
•
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
•
Your lecturer will guide you through the solutions.
Practice
The following information has been taken from the books of Auxetics
Traders on 30 June 20.7:
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The following bank reconciliation statement was drawn up on 31 May
20.7:
Balance as per bank
Details
Amount
statement (unfavourable)
16 200
Outstanding deposit
2 400
Outstanding cheques
CC114
1 690
CC115
2 140
Correction of incorrect cheque
2 900
Balance as per bank account
?
2.
A comparison of the cashbook for June, the above bank
reconciliation statement and the bank statement for June showed the
following:
2.1
Provisional totals in the cashbook on 30 June 20.7 were as
follows:
•
Cash receipts journal
R 112 000
•
Cash payments journal R 99 60
2.2
The outstanding deposit at the end of May for R 2 400
appeared on the bank statement on 2 June 20.7.
2.3
Cheque no. CC114 still did not appear on the bank statement
for June 20.7.
This cheque was originally written out to Foodbank SA as a donation
on
24 December 20.6.
2.4 Cheque no CC154 appeared on the bank statement on 4 June 20.7
for R 2 740. An investigation revealed that the bank statement amount
was correct.
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2.5 The correction of incorrect cheque R 2 900 refers to a cheque that
was incorrectly debited twice by the bank. This error has still not been
corrected by the bank.
2.6 The cash receipts journal showed an amount of R 10 400 on 30 June
20.7 that did not appear on the bank statement.
2.7
The bank statement showed the following charges:
•
Bank charges
R 364
•
Interest on overdraft
•
A dishonoured cheque for R 1 120 originally received from B
Brown for R 1 180 in settlement of her debt.
•
A stop order to the insurance company for R 4 800.
R 840
2.8
An investigation revealed that the bank has paid the
insurance policy twice. They have promised to rectify the matter and
to refund the amount to the business.
2.9
The bookkeeper is in possession of two cheques that she has
not entered as she is not sure what to do:
•
Cheque no CC203 for R 1 700 issued to Helix Traders dated 12
July 20.7.
•
Cheque no CC104 received from M Cloete, a debtor, for R 2 500,
dated 26 July 20.7.
2.10 The following cheques appear on the cash payments journal but
not on the bank statement:
•
CC 197 for R 1 840 (dated 3 June 20.7)
•
CC199 for R 1 480 (dated 22 June 20.7)
2.11
The bank statement showed an electronic transfer into our
account from B Martch, a debtor, for R 3 000.
2.12
The bank statement received on 30 June showed an
unfavourable balance of R 15 344.
Required:
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(i)
Calculate the correct bank balance on 30 June 20.7.
(ii)
Complete the bank reconciliation statement on 30 June 20.7.
Study group / Online forum discussion
•
In groups, discuss the reasons why it is important to
perform a bank reconciliation.
•
Discuss which qualitative factors of the financial statements
would be affected if the bank reconciliation was not done?
•
What did the other groups come up with? Compare your
answers.
•
This activity is designed to test your ability to think ‘out of the
box’ and work in groups.
•
No solution is provided for this activity. Discuss your answers
with your Lecturer.
5.6.6 Summary
In this study unit, we have discussed:
1.
the daily banking process;
2.
the bank statement;
3.
a step by step bank guide to performing a reconciliation;
4.
the various types of differences; and
5.
an alternative way of performing a reconciliation.
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Self-check activity
Now that you have worked through Learning Unit 6 of the prescribed
textbook in its entirety, with the help of this study unit, you should be
able to answer the following questions:
•
What are the differences that give rise to the need for a bank
reconciliation?
•
What steps would you follow to prepare a bank reconciliation
statement?
•
How do the differences identified during the bank reconciliation
procedure affect the journals?
•
How would you prepare the bank account and the bank
reconciliation statement, after doing the reconciliation
procedure?
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Accounts Receivable and Accounts Payable
Purpose
The purpose of this study unit is to introduce students on how to account for
accounts receivable and accounts payable. It is not all transaction that are
taking place on cash basis. Some transaction are on credit, i.e. business can sell
or buy on credit. Reconciliations on accounts payable and accounts receivable
will need to be made accordingly.
Learning
Outcomes
By the end of this unit, you will be able to:
Time
•
record financial transactions in a debtors Ledger and a creditors ledger;
•
make the necessary adjustments and corrections in the accounting
records concerning debtors and creditors in particular;
•
•
•
prepare a debtors control account and a creditors control account;
prepare debtors’ and a creditors’ reconciliations;
explain how the individual account of a debtor works, and why it is
important to have separate debtors’ accounts in a separate ledger;
•
explain why a trial balance will not include individual debtors’ or
creditors’ accounts; and
•
explain how the individual account of a creditor works, and why it is
important to have separate creditors’ accounts in a separate ledger.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.7.1 Introduction
Accurate records of every transaction pertaining to individual credit customers and credit supplier
must be kept so that the total amount owing is readily identifiable.
5.7.2 The need for individual accounts
Businesses transact with many different credit customers and suppliers. Consequently, it is vitally
important to keep a separate and accurate record of individual debtors and creditors accounts so as
to be able to determine:
1.
the balance of each credit customer’s and credit supplier’s account;
2.
how much is due from each customer, and to each supplier, at the end of each month:
3.
which accounts are in arrears and, thus, attract interest: and
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4.
which customer accounts have been outstanding for too long and, thus, must be written off
as irrecoverable?
Reading
Refer to Learning Unit 7, section 7.1 of the prescribed textbook for a
detailed explanation of the reasons and importance of maintaining
separate accounts for each credit customer and credit supplier.
5.7.3 The structure of the subsidiary ledgers for debtors and creditors
Individual debtors’ accounts
The debtors’ ledger consists of a series of individual debtors’ accounts with a completely different
structure to the accounts in the general ledger.
Reading
Refer to Learning Unit 7, Section 7.2.1 of the prescribed textbook for a
detailed explanation and demonstration of the structure of the
debtors’ ledger and an example illustrating how transactions relating
to debtors are posted in the debtors’ ledger.
Practice
Now that you have worked through Section 7.1 and 7.2 of the prescribed
textbook, you should be able to attempt the following
questions in the prescribed textbook:
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1. Questions 7.1 to 7.3 – These questions are designed to test your
ability to account for VAT on bad debts, prepare a debtor’s ledger and
account for bad debts recovered, respectively.
2. The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide provided with
the prescribed textbook.
3. Your lecturer will guide you through the solutions.
Individual creditors’ accounts
The creditors’ ledger consists of a series of individual creditors’ accounts with a completely different
structure to the accounts in the general ledger.
Reading
Refer to Learning Unit 7, Section 7.2.2 of the prescribed textbook for a
detailed explanation and demonstration of the structure of the
creditors’ ledger and an example illustrating how transactions relating
to creditors are posted in the creditors’ ledger.
Practice
Now that you have worked through Section 7.1 and 7.2 of the prescribed
textbook, you should be able to attempt the following
questions in the prescribed textbook:
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1.
Questions 7.4 - 7.6 – These questions are designed to test your
ability to prepare a creditor’s ledger, debtors’ list and creditors’
list.
2.
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
3.
Your lecturer will guide you through the solutions.
5.7.4 The control account system
The debtors control and creditors control accounts are used as a control mechanism for accounts
receivable and accounts payable.
Reading
Refer to Learning Unit 7, Section 7.3 of the prescribed textbook for a
detailed explanation of the control account system and an example
that will guide you through the entire process of compiling a
debtors/creditors ledger and, ultimately, the control accounts.
Practice
Now that you have worked through Section 7.3 of the prescribed
textbook, you should be able to attempt the following questions in the
prescribed textbook:
1.
Questions 7.7 to 7.13 - These questions are designed to help
you consolidate and apply the concepts covered in this unit and other
units.
2.
The solutions to these questions are found in the Introduction
to Financial Accounting Question Bank and Solutions Guide provided
with the prescribed textbook.
3.
Your lecturer will guide you through the solutions.
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5.7.5 Summary of the unit
In this study unit, we have discussed:
1.
the need for individual accounts;
2.
the recording of financial transactions in the debtors and creditors ledger;
3.
control accounts;
4.
the reconciliation of the debtors’ ledger to the debtors control account;
5.
the reconciliation of the creditors’ ledger to the creditors control account;
Revision questions
Now that
you have worked through Learning Unit 7 of the prescribed textbook in
its entirety,
with the help of this study unit, you should be able to answer the
following questions:
What are the differences that give rise to the need to reconcile the
debtors and creditors ledger to the debtors/creditors control
account?
The following information was taken from the books of Jaypeg Stores,
a registered VAT vendor:
Totals as at 1 March 20.7:
Debtors list: R 24 030
Creditors list: R 19 530
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Transactions for March 20.7 (all amounts include VAT where
applicable).
Total cash sales of merchandise
Total credit sales of merchandise
Total of the debtors column in the cash receipts journal
Total of the creditors column in the cash payments journal
Settlement discount granted to debtors in the general jour
Settlement discount received from creditors in the ge journal
Cheque dishonoured as recorded in the cash payments jou
Discount (previously granted to debtors) cancelled
Total of creditors column in the creditors journal
Cash purchases - merchandise
- packing materials
Total of creditors column in the creditors allowances journ
Total of the sales returns column in the debtors allow journal
(Note: all goods sold were standard-rated)
Debtor’s balance written off as irrecoverable
Cash recovered from a debtor previously written off as a loss
Interest received on overdue account
Interest paid on overdue account
Transfer of account balance in debtors ledger to accou creditors ledger
Transfer of account balance in creditors ledger to accou debtors ledger
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Year-End Procedures
Purpose
The purpose of this study unit is to introduce students on how process the year
end adjustment. In chapter one, we discussed the bookkeeping and accounting
cycle. Income and expenses will need to be closed off against profit and loss,
and the profit and loss will be closed off against the capital account. Only the
Balance sheet section accounts will be remained, which will need to be listed
in the post adjustment trial balance.
Learning
Outcomes
By the end of this unit, you will be able to:
Time
•
demonstrate how a “year-end” procedure is run in the books
of a business;
•
•
•
•
•
•
explain the purpose and working of a trading account;
explain the purpose and working of a profit and loss account;
journalise closing transfers;
explain the difference between “gross” and “net” profit;
prepare the final accounts for a small business; and
balance the capital account of a sole proprietorship to
determine the owner’s equity at the end of a financial period.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.8.1 Introduction
This Study Unit demonstrates how the bookkeeper makes use of the information accumulated in the
journals, ledgers, and trial balance to determine the financial performance and position of the
enterprise.
5.8.2 Year-end accounting entries
Bookkeepers will typically run the monthly bookkeeping cycle for twelve consecutive months. In every
month, source documents are summarised in the subsidiary journals, the journals are posted to the
general ledger, the accounts in the general ledger are balanced at month-end and a monthly trial
balance is drawn up. The same cycle will be repeated the next month, and the next until we reach the
twelfth month in the financial year. In this twelfth month, the normal monthly cycle is completed first,
ending with a trial balance as at the last day of the financial year. At this point in time, the bookkeeper
will run what is known in accounting jargon as a ‘year-end’. In this Study Unit, we demonstrate how a
‘year-end’ is run.
5.8.3 The purpose of running a year-end
The purpose of running a year-end is two-fold;
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1.
To determine the financial performance of the business for the past financial year. Financial
performance can be measured by looking at the profit made by the business for the period in question.
The profit of the business is sub-divided into two sections which are gross profit and net profit.
2.
To determine the financial position of the business as at the last day of the financial year. The
financial position is reflected by the state of the accounting equation. The statement of financial
position is a statement form of the accounting equation and is drawn up to disclose the financial
position of the business to all the stakeholders of the business. The statement of financial position will
thus show that all assets are equal to the owner’s equity plus all liabilities.
Think point
We have noticed that the totals/balances of all the nominal accounts
become zero after doing the closing transfers at year-end. Why do you
think it is necessary for these balances to become zero?
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Reading
Refer to Learning Unit 8, Section 8.1 of the prescribed textbook for:
1.
A detailed explanation of the purpose of performing year-end
accounting entries;
2.
A detailed demonstration of the procedure followed in
performing year-end accounting entries; and
3.
A comprehensive example illustrating how year-end closing
entries are recorded in the general journal, posted in the general
ledger and how they result in the post-closing trial balance.
Practice
Now that you have worked through Section 8.1 of the prescribed
textbook, you should be able to attempt the following questions in the
prescribed textbook:
1.
Questions 8.1 to 8.4 - These questions are designed to assess
your ability to calculate net profit using nominal accounts given
in the trial balance, journalise closing entries, post the closing
entries in the general ledger and prepare a post-closing trial
balance.
2.
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
3.
Your lecturer will guide you through the solutions.
5.8.4 Summary
In this study unit, we have discussed:
•
•
the purpose of closing entries;
the steps involved when running the ‘year-end’;
•
how the closing entries are journalised, posted in the general ledger and result in the
postclosing trial balance; and
•
the calculation of gross profit and net profit for the year.
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Think point
What are the tax implications of not properly recording year-end
entries in the South African tax system?
Study group / Online forum discussion
1. In groups, discuss the reasons why new businesses fail and the actions entrepreneurs
can take to ensure the success of their
businesses.
2.
What did the other groups come up with? Compare your
answers.
3.
This activity is designed to test your ability to think ‘out of the
box’ and work in groups.
4.
No solution is provided for this activity. Discuss your answers
with your Lecturer.
5.8.5 DEPRECIABLE ASSETS
Purpose
The purpose of this study unit is to introduce students on how account for
depreciable asset. Two method of depreciation will be introduced.
Measurement of depreciation will be discussed. Presentation and disclosure
will also be cover under this study unit,
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Learning
Outcomes
Time
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By the end of this unit, you will be able to:
•
calculate depreciation on assets according to the different methods;
•
calculate the profit or loss on scrapping, sale or trade-in of a
depreciable non-current asset;
•
record the entries for the scrapping, sale or trade-in of a depreciable
non-current asset;
•
prepare the general ledger accounts for depreciation and
accumulated depreciation;
•
•
prepare the disclosure for depreciable assets; and
know what an asset register is.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.8.6 Introduction
In this Study Unit, we explore the bookkeeping and accounting treatment of depreciable assets, with
special reference to the disposal of these assets and the calculation of resultant profits/losses on such
disposals.
5.8.7 Depreciation
Depreciation is the adjustment at the end of a financial year, where the accountant attempts to adjust
the value of the non-current assets to a value which is generally referred to as the net realisable value.
It can also be defined as the loss in value of a non-current asset, due to wear and tear. Depreciation is
classified as an expense account, since inducing depreciation decreases the value of the non-current
asset. If the asset is used for only a part of the financial period, the depreciation is calculated based
on the number of months for which the asset was used.
5.8.8 Methods of depreciation
The straight-line method (cost Method)
According to this method, depreciation is calculated on the depreciable amount (cost less residual
amount) of the asset using a pre-determined rate of depreciation. The depreciation rate could be given
as a certain percentage e.g. 10% per annum. If a non-current asset was bought for R 450 000 and its
depreciation rate was given as 10% p.a. the annual depreciation would be 10% of R 450 000, which is
R 45 000.
The diminishing balance method
According to this method, the annual depreciation is calculated as a percentage of the Net Book value
of the asset. The net book value is obtained by deducting the accumulated depreciation on the asset
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from the original cost of the asset. The depreciation rate is then applied to the carrying value to
calculate the depreciation amount for the year, e.g. rate of depreciation is 15%,cost price is R300 0000
and accumulated depreciation is R120 000;The annual depreciation will be 15% of (R300 000R120
000),which is R27 000.
Reading
Refer to Learning Unit 9, Section 9.1 of the prescribed textbook for a
detailed explanation of depreciation, the methods used to calculate
depreciation, how depreciation is recorded in the books of a business
as well as an example applying the methods and accounting entries for
depreciation.
Practice
Now that you have worked through Section 9.1 of the prescribed
textbook, you should be able to attempt the following questions in the
prescribed textbook:
•
Questions 9.1 to 9.3 – These questions are designed to test your
ability to prepare the depreciation and accumulated depreciation
accounts in the general ledger as well as to closeoff depreciation
at year-end.
•
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
•
Your lecturer will guide you through the solutions.
5.8.9 The asset register
The asset register shows all the important details pertaining to a particular asset, as from the date of
purchase until the date of sale.
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Reading
Refer to Learning Unit 9, Section 9.2 of the prescribed textbook for a
detailed explanation of the asset register and an example
demonstrating the information contained in an asset register.
Practice
Now that you have worked through Section 9.2 of the prescribed
textbook, you should be able to attempt the following questions in the
prescribed textbook:
•
Questions 9.4 and 9.5 - These questions are designed to test your
ability to calculate depreciation, accumulated depreciation and the
profit or loss made on sale of a noncurrent asset.
•
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide provided
with the prescribed textbook.
•
Your lecturer will guide you through the solutions.
5.8.10 The four steps of asset disposal
At this point it must be clear that there are four definite steps (in the form of four individual double
entries) in the asset disposal procedure.
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Reading
Refer to Learning Unit 9, Section 9.3 of the prescribed textbook for a
step by step guide of the asset disposal procedure.
It is clear that there are four definite steps (in the form of four individual double entries) in the asset
disposal procedure:
Step 1: Take the initial cost price out of the books. Debit asset disposal and credit the asset
account.
Step 2: Take the accumulated depreciation out of the books. Credit asset disposal and
accumulated depreciation account.
debit the
Step 3: Record the selling price. Debit bank (cash sale), debtors’ control (credit sale) or creditor’s
control/HP Loan (trade-in) and credit the asset disposal account.
Step 4: Calculate the profit/ (loss) with disposal. Debit/ (credit) the asset disposal and credit/ (debit)
the profit/ (loss) on disposal account.
5.8.11 Disposals at the beginning of the financial year
Reading
Refer to Learning Unit 9, Section 9.3.1 of the prescribed textbook for a
detailed explanation of the accounting treatment of non-current asset
disposals made at the beginning of the financial year and an example
illustrating such treatment.
The entity may dispose of one of its many assets. In this case, the entity will still have to recognise
depreciation on all the assets that have not been sold as at the end of the financial year.
Reading
Refer to Learning Unit 9, Section 9.3.2 of the prescribed textbook for a
detailed explanation of the accounting treatment for the disposal of an
asset from a pool of other assets and an example illustrating such
treatment.
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5.8.12 Disposals mid-way through the financial year
This section looks at the accounting treatment of the disposal of a non-current asset mid-way through
the financial year.
Step 1: Take the initial cost price out of the books. Debit asset disposal and credit the asset account.
Step 2 (a): Write additional depreciation off on the asset being sold (covering the period from the
beginning of the financial year to the date the sale takes place).
Step 2 (b): This is the ‘old’ step 2 you are familiar with already. Take the accumulated depreciation out
of the books. Credit asset disposal and debit the accumulated depreciation account.
Step 3: Record the selling price. Debit bank (cash sale), debtors’ control (credit sale) or creditor’s
control/HP creditor account (trade-in) and credit the asset disposal.
Step 4: Calculate the profit/loss with disposal. Debit/ (credit) asset disposal and credit/ (debit) the
profit/ (loss) with asset disposal account.
Reading
Refer to Learning Unit 9, Section 9.3.3 of the prescribed textbook for a
detailed explanation of the accounting treatment of the disposal of a
non-current asset mid-way through the financial year as well as an
example illustrating such treatment.
Practice
Now that you have worked through Section 9.3 of the prescribed
textbook, you should be able to attempt the following question in the
prescribed textbook:
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•
Questions 9.6 to 9.10 – These questions are designed to test your
ability to perform calculations relating to the depreciation and
disposals of non-current assets and record these calculations in both
the general journal and general ledger.
•
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide provided
with the prescribed textbook.
•
Your lecturer will guide you through the solutions.
5.8.13 Disclosure of depreciable assets
A note detailing the movements in the carrying amounts of the depreciable assets is required by IFRS.
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Reading
Refer to Learning Unit 9, Section 9.4 of the prescribed textbook for an
illustration of the disclosure structure as recommended by IFRS as well
as an example illustrating such disclosure.
Practice
FOL DEBIT
Land and buildings
B3
400 000
Vehicles
B4
240 000
Equipment
B5
52 000
CREDIT
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Accumulated
Vehicles
depreciation: B6
70 400
Accumulated
Equipment
depreciation: B7
24 600
Additional information:
Depreciation is taken into account as follows:
•
On vehicles at 20% per annum on the diminishing balance. On 28
February 20.4, a vehicle with a cost price of R 80 000 and
accumulated depreciation of R 39 040 as at 1 March 20.3 was sold for
R 40 000 cash. No entries pertaining to this transaction have been
made as yet.
•
On equipment at 10% per annum on cost price. Take into account
that a new was purchased for R 24 000 on 1 March 20.3.
Required:
Complete the note to the financial statements relating to property, plant
and equipment for the year ended 28 February 20.4.
Practice
Now that you have worked through Section 9.4 of the prescribed
textbook, you should be able to attempt the following question in the
prescribed textbook:
• Questions 9.11 to 9.12 – These questions are designed to test your
ability to perform calculations relating to the depreciation and
disposals of non-current assets and disclose these calculations in the
notes to the financial statements.
• The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide provided
with the prescribed textbook.
• Your lecturer will guide you through the solutions.
5.8.14 Summary
In this study unit, we have discussed:
•
depreciation and the methods of calculating depreciation;
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•
•
the accounting entries for depreciation;
the asset register;
•
•
•
the calculation of the profit or loss on sale of a depreciable asset;
the four steps of asset disposal;
the accounting treatment of depreciation and disposal of non-current assets in the general
journal and general ledger; and
•
the disclosure of depreciable assets in the notes to the financial statements.
Think point
“One way we gave small businesses more money to invest was by
extending tax provisions on expensing. This allows businesses to
immediately write off things like equipment, without being burdened
by depreciation requirements." - Author: Dennis Hastert
Study group / Online forum discussion
Using the internet, do research on capital allowances (tax depreciation) and answer the
following questions:
•
How
•
What is the effect of capital allowances on the profitability of the business, if any?
•
Do
•
•
This activity
No solution
do
capital allowances
capital
is
is
differ
from
accounting depreciation?
allowances affect the cash flows of the business? Explain.
designed to test your researching skills.
provided for this activity. Discuss your answers with your Lecturer.
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Financial Statements of The Sole Proprietorship
Purpose
The purpose of this study unit is to introduce students on how to prepare the
financial statements of a sole proprietorship. Focuss will be on the statements
of financial position, statement of profit/loss, statement of changes in equity
together with the notes to the financial statements.
Learning
Outcomes
By the end of this unit, you will be able to:
Time
•
•
•
•
•
•
complete year-end adjustments (including depreciation);
prepare a post-adjustment trial balance;
close related accounts;
prepare a post-closing trial balance;
prepare a statement of financial position; and
prepare a statement of profit or loss and other comprehensive
income according to both inventory methods.
It will take you 10 hours to make your way through this unit.
Important terms Check Paragraph 4.4 of the study guide.
and definitions
5.9.1 Introduction
A sole proprietorship is one of the business forms that were discussed in Study Unit 1. In this Study
Unit, we look at the preparation and presentation of the financial statements of the sole
proprietorship.
5.9.2 Year-end adjustments
Reading
Refer to Learning Unit 10, Section 10.1 of the prescribed textbook for
a detailed explanation of year-end adjustments as they relate to a sole
proprietorship.
5.9.3 The ‘what if?’ scenario
The ‘what if?’ scenario is the most important question you need to ask in order to understand the yearend adjustments.
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Reading
Refer to Learning Unit 10, Section 10.1.1 of the prescribed textbook for
a detailed explanation application of the ‘What if?’ scenario.
5.9.4 Depreciation
Depreciation was discussed in detail in Study Unit 9.
5.9.5 The accrual concept
The accrual concept of accounting stipulates that all expenses and income must be assigned to the
financial period in which they were incurred or earned respectively.
Reading
Refer to Learning Unit 10, Section 10.1.3 of the prescribed textbook for
a detailed explanation of the accrual concept and the accounts that
could arise due to its application.
5.9.6 The going concern assumption
The going concern is one of the fundamental accounting concepts that form the basis for the
preparation of financial statements.
Reading
Refer to Learning Unit 10, Section 10.1.4 of the prescribed textbook for
a detailed explanation of the going concern assumption and when it is
appropriate to use it.
5.9.7 Qualitative characteristics of financial statements
The primary decision-specific qualities that make accounting information useful are relevance and
reliability. Both conditions need to be met for financial statements to be deemed useful. The
usefulness of financial information is enhanced if it is comparable and understandable. These are
enhancing qualities; less critical but still highly desirable. Financial information that is relevant and
faithfully represented may still be useful even if it does not have any of the enhancing qualitative
characteristics.
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Reading
Refer to Learning Unit 10, Section 10.1.5 of the prescribed textbook for
a detailed explanation of the qualitative characteristics of financial
statements.
5.9.8 Creating an allowance for credit losses
Another important adjustment that needs to be discussed is the allowance for credit losses. This
adjustment stems from the recognition that not all amounts owed by debtors are recoverable.
Allowance for credit losses are an expense
Reading
Refer to Learning Unit 10, Section 10.1, and Example 10.1 of the
prescribed textbook for a detailed application of the Accrual concept in
recording financial transaction,
and again,
Refer to Learning Unit 10, Section 10.1.6 of the prescribed textbook for
a detailed explanation of the recognition of credit losses and the
allowance thereof.
Example 10.2 of the prescribed textbook gives insight into the
application of the principle of creating an allowance for credit losses.
It also shows what general accounts will be recognized because of
creating an allowance for credit losses and how the general ledger
accounts are prepared.
5.9.9 Adjusting the existing allowance for credit losses
There is a difference between creating an allowance for credit losses and adjusting an existing
provision. In the subsequent years to follow, existing provision now only needs to be adjusted
(upwards or downwards) in relation with the remaining debtors control balance. This has the direct
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implication that the allowance for credit losses adjustment account can be either an expense account
(resulting from an upward adjustment in the negative asset account) or an income account (resulting
from a downward adjustment in the negative asset account).
Reading
•
Refer to Learning Unit 10, Section 10.1.7 of the prescribed
textbook for a detailed explanation on the accounting
treatment of an adjustment made to an existing allowance.
•
Example 10.3 and 10.4 deal with the adjustment of the allowance
for credit losses.
•
The examples show the effect the allowance for credit losses has
on the:
Accounts receive bale account;
statement of financial position;
statement of profit and loss and other
comprehensive income; and
notes to the annual financial
statements.
The examples also show how the adjustment would be recorded in the
general journal, general ledger and eventually posted to the trial
balance.
5.9.10 Inventory
Reading
Refer to Learning Unit 10, Section 10.2 and Example 10.5 of the
prescribed textbook for a demonstration of the preparation and
presentation of financial statements of a sole proprietorship, assuming
a perpetual inventory recording system is used.
5.9.11 Comprehensive financial statements – periodic inventory
When the periodic inventory system is in use, the year-end procedures and financial statements will
differ.
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Reading
Refer to Learning Unit 10, Section 10.3 and Example 10.6 of the
prescribed textbook for a demonstration of the preparation and
presentation of financial statements of a sole proprietorship, assuming
periodic inventory recording system is used.
Practice
Now that you have worked through Sections 10.1 to 10.3 of the
prescribed textbook, you should be able to attempt the following
questions in the prescribed textbook:
•
Questions 10.1 to 10.7 – These activities are designed to assess
your ability to prepare and present financial statements of a sole
proprietorship.
•
The solutions to these questions are found in the Introduction to
Financial Accounting Question Bank and Solutions Guide
provided with the prescribed textbook.
•
Your lecturer will guide you through the solutions.
5.9.12 Summary
In this study unit, we have discussed:
•
the year-end adjustments including depreciation and how they fit into the preparation of
financial statements for a sole proprietorship;
•
the accrual concept and going concern assumption in the context of preparation of financial
statements of a sole proprietorship;
•
the qualitative characteristics of financial statements;
•
•
•
credit losses and the allowances for credit losses;
adjusting of allowances for credit losses; and
the use of the perpetual and periodic inventory systems in preparing the financial statements
of the sole proprietorship.
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Practice
The following pre-adjustment trial balance appeared in the books of
Muskadel Traders at the end of their second financial year.
Pre-adjustment trial balance of Muskadel Traders on 31 August 20.7
Balance sheet section
Capital
B1
Drawings
B2
469 770
8 000
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Land and buildings
B3
550 000
Vehicles
B4
240 000
Accumulated depreciation: Vehicles B5
60 000
Fixed deposit: Munroe Investments B6
42 850
Trading inventory
B7
21 370
Petty cash
B8
1 000
Bank
B9
Debtors control
B10 13 910
Creditors control
B11
7 070
Mortgage loan: Norton Bank
B12
372 000
Sales
N1
618 000
Sales returns
N2
18 000
Cost of sales
N3
488 000
Rent income
N4
26 000
Interest on fixed deposit
N5
3 920
Telephone
N6
38 040
Interest on mortgage loan
N7
59 520
Wages and salaries
N8
21 660
Repairs and maintenance
N9
9 000
Postage and stationery
N10 4 750
Advertising
N11 40 000
Credit losses
N12 5 120
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4 460
Nominal accounts section
1 561 220
1 561220
Adjustments at year-end:
1. According to a physical stock-take the following was on hand on 31
August 20.7:
•
•
Trading inventory, R 21 000
Postage and stationery, R 750
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2.
Depreciation must be written off on vehicles at 25% per
annum according to the reducing balance method. No vehicles were
bought or sold during the financial year.
3.
The following adjustments must be made to enforce the
accrual concept:
•
Wages and salaries payable, R 8 000
•
Telephone prepaid for September 20.7, R 1 800
•
Rent received in advance, R 2 000
•
Accrued interest on fixed deposit, R 210
•
Create an allowance for credit losses to the amount of R
695.50.
Required:
(i)
Prepare the post-adjustment trial balance on 31 August 20.7.
(ii)
Draft the statement of financial position on 31 August 20.7
(iii)
Prepare the statement of profit or loss and other
comprehensive income for the year ended 31 August 20.7
(iv)
Prepare the statement of changes in equity for the year
ended 31 August 20.7
(v)
Prepare the notes to the financial statements. Note: Ignore
VAT
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Self-check activity
Now that you have worked through Learning Unit 10 of the prescribed
textbook in its entirety, with the help of this study unit, you should be
able to answer the following questions:
•
•
How would you process the year-end adjustments?
How would you prepare the post adjustment trial balance of a
sole proprietorship?
•
How would you prepare a post-closing trial balance of a sole
proprietorship?
•
How do financial statements prepared using the periodic
inventory system differ from those prepared using the perpetual
inventory system?
6. References
Badenhorst, W., Kotze, L. & Pretorius, D., 2019. Gaap Handbook. 1st ed. Durban: Lexisnesis.
Binnekade, C. S. et al., 2017. Group Statements Volume 1. 17th ed. Durban: LexisNexis
Service, C., 2019. Gripping GAAP. 20th ed. Durban: LexisNexis
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