FAC1503 Financial Accounting Principles For Law Practitioners SUMMARY STUDY NOTES 2021 (learning unit 2).

FAC1503 Financial Accounting Principles For Law Practitioners SUMMARY STUDY NOTES 2021 (learning unit 2). Contents Learning outcomes ................................................................................................................... 2 Key concepts ............................................................................................................................ 2 Acronyms ................................................................................................................................ 2 2. Introduction ...................................................................................................................... 3 2.1 The double-entry system ................................................................................................. 4 2.2 Summary of types of accounts and impact of transactions .............................................. 6 2.3 Descriptions of individual accounts .................................................................................. 7 2.4 The basic accounting equation ........................................................................................ 9 2.4.1 Right-hand side and left-hand-side of BAE ........................................................... 9 2.4.2 How to apply the basic accounting equation ....................................................... 10 2.4.3 4-STEPS to determine the result of a transaction ............................................... 11 2.4.4 Examples illustrating the application of the double-entry system ....................... 14 2.5 Recordkeeping ............................................................................................................... 22 2.5.1 What is the accounting cycle? ............................................................................. 22 2.5.2 Completion of source documents ........................................................................ 24 (a) Internal source documents.......................................................................... 24 (b) External source documents (also referred to as supporting documents) .... 25 2.5.3 Recording of source documents .......................................................................... 26 2.6 Overview of the recording of transactions ...................................................................... 40 2.7 Completion of books of first entry................................................................................... 40 2.8 Self-assessment exercises ............................................................................................ 41 2.9 Terminology and definitions – cheat sheet ..................................................................... 44 The key to success in accounting is practice, practice and more practice. The following concept cards are available for this learning unit: CONCEPT CARDS o Effect of transactions on specific types of accounts o The accounting cycle (x2) o Overview of the recording of transactions Learning unit 2/2021 2 Learning outcomes After working through this learning unit, you should be able to:  define cash transactions  define source documents  explain the difference between internal source documents and external business documents  explain the applicable source documents involved in different cash transactions  complete different business documents Key concepts  Double-entry system  Accounting equation  Assets  Liabilities  Owners’ equity  Recordkeeping  Accounting cycle  Cash transactions  Source documents  Internal source documents  External source documents  Purchase order  Sales order  Delivery note  Goods received note  Cash slips  Cash register rolls  cash invoices  receipts  delivery note  Petty cash voucher  credit card slip  deposit slip  internet banking: Notice of payment (EFT) Acronyms BAE Basic accounting equation LPA Legal Practice Act 28 of 2014 LPC Rules Legal Practice Council Rules Learning unit 2/2021 3 2. Introduction The financial records of an entity only deal with transactions that are measured in monetary terms. The duality of the financial accounting system better known as the double-entry system is a method whereby the transactions are recorded systematically to show the giving and receiving of value. The accounting cycle details the formal accounting process. The steps discussed in this learning unit are as follows (indicated by yellow shading): Transactions ― The accounting process starts once a transaction has taken place. Source documents ― Source documents provide the evidence for a transaction having taken place Books of prime entry ― The source document is prepared and the information is entered into the books of prime entry Ledger accounts ― The entries from the books of prime entry are posted to the general ledger, creditors’ ledger, and debtors’ ledger. Trial balance ― The trial balance is drawn up from the accounts in the general ledger Financial statements ― The financial statements are drawn up from the trial balance Please remember the following points at all times: RECAP  Total debits in the transaction must equal the total credits in that transaction!  For every debit, there must be a credit!  Debits are on the left, credits are on the right!  The equation must balance! Learning unit 2/2021 4 2.1 The double-entry system The double-entry system implies that there are two sides or aspects to every business transaction and this translates to – LBL For every debit there must be a corresponding credit See Lessons Debit.Credit See the following example:  If you buy a pair of soccer boots for R250. – You receive the pair of boots (Side 1) – The store gives you the boots (Side 2)  If you pay R250 to the shop assistant. – The shop assistant receives the cash (Side 1) – You give the cash to the shop assistant (Side 2) LBL When an entity receives cash – the bank account is debited When an entity pays cash – the bank account is credited See Lessons Bank account This means that every transaction of the entity will result in an amount being recorded in at least TWO accounts. Luca Pacioli introduced the rules of the Double-Entry System in 1494. The double-entry principle provides a logical method of recording transactions. In using the double-entry system the monetary (money value) of each transaction must be entered on the debit side of one ledger account as well as on the credit side of another ledger account. The entry in one ledger account refers to the corresponding entry in the other ledger account. As the entries in the two ledger accounts have been entered on opposite sides, the use of the double-entry system allows for cross references. Each transaction is entered in two separate accounts on opposite sides, and it is therefore possible to check and control the arithmetical and accounting accuracy of the work. If each transaction is recorded so that the debit and credit entries are equal, the same sum of all the debits to the account must equal the sum of all the credits. This can be explained by way of the accounting equation. The rules will be applied as follows: – All asset and expense accounts must be increased on the left (debit) side of the account and decreased on the right (credit) side of the account. Dr ASSETS & EXPENSES Cr Cr + (increase) - (decrease) Learning unit 2/2021 5 – All liability and income accounts must be increased on the right (credit) side of the account and decreased on the left (debit) side of the account. Dr LIABILITIES & INCOME Cr - (decrease) + (increase) In short, a ledger is a book/record containing a set of individual accounts in which transactions of the same kind are grouped together. An account looks like a T-form with the left side called the debit side and the right side called the credit side. An example follows: Debit (abbreviated to Dr) Account name Credit (abbreviated to Cr) In this learning unit, we will be discussing the general ledger, which contains all the assets, liabilities, owners’ equity, income and expense accounts of the business. As part of your preparation for this learning unit you must know the following categories of items in the general ledger and what they are – LBLL What is an asset? Assets are resources owned by the business, which have economic value and a business uses to generate income. See Lessons Assets LBLL What is a liability? Liabilities are creditors’ interest or interests of parties other than the owner(s). Liabilities are therefore the debts of the business. See Lessons Liabilities LBLL What is an expense? An expense is a cost related to the day-to-day running of a business. An expense is a debit. See Lessons Expenses LBLL What is income? Income is the revenue a business receives from selling services and goods to clients or customers and returns on investments. See Lessons Income LBLL What is equity? Equity is the interest which the owner has in the business and which the entity therefore owes to him. See Lessons Equity The debit side of the account is the side that shows gains in value The credit side of the account is the side that shows value given 6 2.2 Summary of types of accounts and impact of transactions The following table summarises the effect of the transactions on the specific types of accounts: Assets = Liabilities + Owner's Equity + Income Normal balance Debit Credit Credit Credit Increase to account balance Debit Credit Credit Credit Left Column of Acc Right Column of Acc Right Column of Acc Right Column of Acc Decrease to account balance Credit Debit Debit Debit Right column of Acc Left Column of Acc Left Column of Acc Left Column of Acc RAccount example NON-CURRENT ASSETS Land and buildings Equipment Furniture Vehicles Computer equipment Investments Law library CURRENT ASSETS Inventory Accounts receivable (Debtors/Clients) Bank account (Positive) Cash on hand NON-CURRENT LIABILITIES Long-term loan Mortgage bond CURRENT LIABILITIES Short-term loan Bank overdraft (Negative) Accounts payable (Creditors) Trust creditors OWNER'S EQUITY Capital INCOME Commission received Fees Interest received Office rent received Sales Services rendered EAACIIFORRSSTWAcc = Account Learning unit 2/2021 7 2.3 Descriptions of individual accounts Accounts form the basis of the accounting system. The following are descriptions of generally used accounts in the books of legal practitioners.