The purpose of the debtors journal is to record all credit sales of the business. Credit sales occurs when the business sells goods now, but will only receive payment in the future. As money is owed to the business an asset debtors control is created. As more money is owed the asset debtors control increase and therefore have to be debited. The contra entry is sales. According to the double entry principle therefore sales have to be credited with debtors control as contra entry. As the sales column total is involved the posting occurs at month end.
The debtors journal also contains the cost of sales column to keep track of profit made on each item sold for credit. Before selling the trading stock it was the possession of the business and hence an asset. When the sale occurs therefore the asset trading stock decrease. As assets decrease trading stock have to be credited. The contra entry is cost of sales. According to double entry principle the cost of sales account should be debited with trading stock as contra entry. Since cost of sales is a column total the posting occurs at month end.
The purpose of this journal is to record all the transaction where cash moves out of the business bank account.
Bank is an asset as the money belongs to the business. Furthermore this asset decreases as money is paid. Assets decrease on the credit side. Thus bank account should be credited with the total amount of the bank column in the journal at the end of the month. Since the amount paid during the month is made up of various types of transactions such as trading stock, rent paid, interest paid, etc a collective name “total payments” is used rather than the usual practice of an account name as contra entry.
Many other accounts will be debited when the double entry principle is applied. All these accounts that are debited should ad up to the bank amount for the month. Some will be debited at month end namely column totals such as trading stock whereas others namely those in sundry accounts such as rent paid are debited on the day of transaction. The contra entry for all these accounts are bank.
Finally the non-cash column discount received should be considered:
Discount is received when paying creditors early. What the business pay the creditors are less than what is owed to creditors. The difference between what is paid and owed is called discount received. The discount received therefore do not form part of bank total. The business owes creditors less money. In fact the sum of what is paid as well as the discount received is by how much the debt reduces. If money is owed to creditors it is a liability. Liabilities decrease as creditors are owed less money after paying them. Creditors control need to be debited as liabilities decrease on the debit side. The contra entry is bank and discount received as there are two legs that together resulted in less debt. According to double entry principle discount received will be credited with creditors control as contra entry. Bank was already addressed at top. As column totals are involved the posting date is month end.
Lets get our hands dirty by revisiting our example where the business buys for cash equipment R5 000 and stationary R250.
After the transaction the business will have R5 250 less cash. Before the transaction the cash belonged to the business and hence was its asset. Therefore the asset Bank decrease by R5 250. Furthermore we visualise that assets decrease on the credit side and that bank should be credited by R5 250.
From the double entry principle we however know that we now need corresponding debits that adds up to R5 250. Equipment and stationary will therefore have to be debited each with R5 000 and R250 respectively for a combined amount of R5 250.
In return for the cash the business now receives equipment. The equipment is now the possession of the business and hence nothing other than its asset. Therefore the asset equipment increase by R5 000. Furthermore we visualise that assets increase on the debit side. This is the beauty of accounting. We just confirmed what we already know namely that a debit entry is required according to the double entry principle.
The business also received stationary. Stationary however will be consumed fairly quickly in usual business operations. Equipment on the other hand will be used for years with the purpose to generate income for the business. Assets have a long life time whereas expenses are consumed within a short period of time. The more expenses, all other things equal, the less will the profit be. Lower profit is negative for the owner. The result is that equity reduces due to the stationary expense that increase. We visualise that expenses that increase are debited and decrease equity. This again confirms what we knew all along from the double entry principle.
In accounting equation analysis form:
In accounting equation T-account form:
Accounting is a visual discipline. The Accounting equation could be expressed in T-account form as follows:
For every asset in the business a corresponding claim exist either by the owner(s) or third parties. In other words the assets of a business is financed either by the owner(s) or third parties such as creditors. This hence by implication means that:
Assets (A) = Owner’s Equity (O/E) + Liabilities (L)
As this is an equation the left hand side should always equal the right hand side.
Using basic mathematical operations the equation could be manipulated so that:
O/E = A – L
L = A – O/E
Expenses are linked to a decrease in assets or an increase in liabilities. When a business for example have to pay for stationary it could either pay it in cash which results in a decrease of the asset bank OR will have to pay in future resulting in the increase of a liability creditors.
Expenses have the effect of decreasing what the business owes the owner(s) and hence reduces equity. Examples include: stationary, cost of sales, rent paid, interest paid, advertising, telephone, etc.
Income is closely linked to increases in assets OR a decrease in liabilities. If a business sell goods or render services it will immediately receive cash or the future right to the cash i.e. debtors. Both cash and debtors are assets. When third parties i.e. creditors encourage the business to settle debt as soon as possible an income discount received will result which have the effect of reducing liabilities. Examples of income includes: Sales, Services Rendered, Rent Received, Interest Received, etc.
Income increases the equity of the owner(s). The more the income, the more the business owes the owner(s).
Capital is what the owner(s) contribute to the business and forms part of equity as the business owes this to the owner(s). The capital could be contributed in the form of cash or assets.
An asset is what a business own or have ownership rights over. It is the possessions of the business. It will be used primarily to earn an income for the business. Examples include: vehicles, equipment, bank, debtors, etc.