Basic Accounting Concepts | Best Information on Principles Of Basic Accounting

Basic accounting concepts

We all know that business is full of activities and various transactions are done day after day so one thing we know that “Basic Accounting Concepts” is used everywhere.

“Transactions is something that involves an exchange between two parties”.

Moving forward do you guys know the real meaning of accounts? Do you want to learn Basic Accounting Concepts? let’s go

First of all, Why accounting is necessary for most of the people especially businessmen?

Is accounting really helpful to maintain daily transactions?

Well, various questions must be arriving in your mind and there would be a lot of confusion too, right?

because every individual has it’s own meaning of accounting in his/ her own terms.

In this blog, I will clear all misconceptions, and queries regarding Basic Accounting Concepts / Terms & Principles.

Definition of Accounting

AICPA (American Institute of Certified Public Accountants) defines,

“ Accounting is the art of recording, classifying and summarising, in terms of money, financial transactions and events, and interpreting the results, therefore”.

Accordingly, accounting terminologies are Debit (DR.), credit (CR.), journal, ledger, depreciation, receivable, payable, etc.

These are the basic Concepts of accounting and it is really very easy to know.

Cash and Credit transactions in Accounting

Business transactions involves exchange of goods and services for cash.

This is known as a cash transaction when the payment is made immediately.

  • When payment is done immediately it is known as cash transactions.
  • when the payment is made after a specific period of time, is known as credit transactions.

A credit transaction is mostly preferred by buyers, as a result, is less favorable for the sellers.

Types of accounts

Accounts is basically classified into three types :

  1. Personal Account
  2. Real Account and
  3. Nominal Account

These different types of accounts are use to maintain the record of different types of transactions. 

1. Personal Account

Personal account records the transactions of various persons say it may be a natural person, an artificial person, or a group of persons.

It records various sources of fund and financing activities of the business.

For e.g Mr. Ram’s A/c, Shilpa Co-operative Society Limited A/c, Sundry Debtors A/c, etc.

2. Real Account

Real account include those properties that belong to the business,

like current assets, ( includes cash, stock of goods, etc.),

fixed assets ( includes building, machinery, etc. ), intangible assets( includes goodwill, patents, etc.)

and even various investments as well.

Separate account also there for each property like cash a/c, parents a/c etc.

NOTE: Cash A/c is a real account while Bank A/c is a personal account.  

3. Nominal Account

A nominal Account includes all those transactions which are related to incomes, gains, profits & losses, it also called a fictitious account.

It exists only in a name of such (person or asset) that actually exists. 

3 Golden Rules of Accounting

Apparently, based on the above three accounts, accounting has 3 golden rules outlined below:

Personal Account:

“Debit the Receiver, Credit  the giver”

Real Account:

“Debit what comes in, Credit what goes out”

Nominal Account

“Debit all expenses & losses, Credit all Incomes & Gains”

Basic Accounting Concepts / Terms

Journal in Basic Accounting

Journal in basic accounting concepts

First, only some specific business transactions are identified and selected for recording which is financial in nature.

These transactions are then recorded in journal (a daily book) .

It is also called as the book of first, original and prime entry.

Ledger in Basic Accounting

ledger in basic accounting concepts

All the entries from journal are then transferred to ledger.

Ledger is a book that helps to create the account wise record of all the business transactions.

Ledger also contains a separate account of every person say it may be a debtor, creditor, and even for the item of asset, income, expenses, etc.

Also, the list of all the accounts that make the ledger is called Chart of accounts.

They are also organized into some primary sections like:

  • Asset
  • Liability
  • Capital
  • Income
  • Expenses 

These are the things that are common in every business transaction as you may earn a profit or say sometimes you also have to face the losses.

The asset in Basic Accounting

A manufacturer needs to have assets (machinery, factory buildings), etc. in order to produce goods.

Asset means any kind of property which is owned by the businessman.

Liability in Basic Accounting

Amount that is payable in future is called liabilities.

A businessman borrows money from the bank (loan) and he has to pay back the amount in the future.

Capital in Basic Accounting

Money that is put into the business by the owner is called Capital,

It also includes all goods or property brought by the owner.

Capital = Asset – Liabilities

It is the basic equation of accounting.  

Income in Basic Accounting

Income means the money earned by the business from the sale of goods, interest received for the loans given, etc.

A businessman earns profit when expenses less than income.

Profit = Income – Expenses 

Expenses in Basic Accounting

Expenses means the money paid by the business for goods or services, travel expenses, salary to employees, etc.

However, a businessman suffers a loss when his expenses exceed his income.

Loss = Expenses – Income

There is also a very small concept into this called drawings. 

When the owner withdraws money from the business for his personal/own use then such withdrawals are known as “ Drawings”.

Drawings also deducts the amount of capital of the owner.  

Accordingly, there are various accounting principles that are followed by accountants while they are recording the business transactions.

Moreover, those accounts which are based on the standard principles also help to clarify the correct amount of profits, losses, assets, liabilities, etc.  

Debit and Credit

With the help of the above rules, you can understand easily what should be debited and what should be credited.

If you are unable to find the accounts that is to be debited or credited,

I will make it simple for you.

The account that is receiving the benefit is debited, whereas the account giving the benefit is credited.

In order to allow both the  aspects to be recorded at one place,

An account is vertically divided into two equal sides, like Right-hand side ( Credit side CR.) and the left-hand side ( Debit side DR.)  

Double-entry system

The double entry system is a complete system that is accepted accordingly all over the world.

Each transactions of it has twofold effect  i.e. Debit and Credit.

The account from where the benefit comes in is debited whereas, the account from where the benefit goes out is credited.

It is based on the aspect that every debit must have a corresponding credit of the same amount as well. 

Business Transactions in Accounting

Business transactions consist of two types –

  1. Revenue expenditure/ receipts
  2. Capital expenditure/ receipts 

Revenue expenditure/receipts

Revenue expenditure is an expenditure from which no future benefit is expected.

This expenditure has short term benefits say for ( less than 1 year).

Revenue receipts mean the receipts available from the customers for the sale of goods, for the services given, etc.   

Capital expenditure/ receipts

Capital expenditure is an expenditure that is probably carrying future benefits.

The benefits can be enjoyed for the number of years.

Capital receipts are an amount that is received at the time of the financing activity i.e. receiving money as capital.  

Income statement

The income statement is the difference between the income and expenses which shows the profit or loss for the year. 

Profit/ Loss = Income – Expenses 

Debtors and Creditors

Debtor is a person who owes money to the business.

Debtor can be a entity, company or a person who owes money to someone else (supplier).

Similarly if a debtor is not in a condition to repay the debt it is known as doubtful debt (Bad debt).

Basically, creditor is a person to whom we owe money.

Loan creditor is someone from whom money is taken as loan.

Moreover, you can say that the debtor-creditor relationship is as same as the customer-supplier relationship.

The person from whom the money is taken as a loan is known as loan creditor.

The person from whom goods & services are taken is called as trade creditor.  

Bills Receivable and Bills Payable

When a company provides goods or services to anyone (on a credit basis),

then they draw a bill of the same amount and it is payable by the debtor in the future is known as bills receivable. 

Whereas,  bills payable is drawn when the amount that is owed for the goods & services is received on credit (after a specific period).

Bills payable is also known as the unpaid vendor invoice.

Bills receivable is represented on the asset side of the balance sheet and on the other handbills payable is shown on the liability side of the balance sheet respectively.  

Depreciation in Basic Accounting

Depreciation means the loss in the value of fixed asset.

The value decreases over a longer period of time.

However, it can be said that to depreciate means to become less valuable.

Even if the particular asset is not used then to its value fall after a period of time.

However, once the value of an asset decreases then it will never rise in future.

It can also cause due to damage an asset, due to the obsolete of an asset, new inventions, etc.

Depreciation also depends upon the three basic factors- Cost of asset, Scarp value, It’s useful life. 

  • Cost of asset:- It means the purchase price plus the additional expenses like the freight, installation expenses, wages, etc. until it is used. 
  • Scrap value:- When the machine becomes useless and it is sold as scrap, This scrap value is then deducted from the total cost. 
  • Useful life:- When the machine purchased is expected to become useless due to wear and tear then the depreciation will be charged at the total cost. 

Also there are two methods of calculating depreciation Straight Line Method (Calculated at original cost) , Written Down Value Method (Calculated at written down value).  

Discount in Basic Concepts of Accounting

The discount means a concession that is given by the seller to the buyer at the present time of the sale of goods.

Here, discount is distinguished into two types:-

  1. Trade discount
  2. Cash Discount

Trade Discount

Trade discount is that specific amount which is deducted by the seller at the time of sales.

It is that rebate which is given by one businessman to other businessman.  

Cash Discount

Cash discount is amount deducted by the receiver of the cash from the specific due amount.

This discount is given either when the cash is received or after certain time period (credit sale).

BRS ( Bank Reconciliation Statement)

Bank Reconciliation Statement is prepared when the balances of both the cash book and pass book do not agree.

It is also drawn to reconcile the balances and explains the reason for the difference between them.

It is neither a part of books of accounts, nor it a part of journal or ledger. 

NOTE: Bank reconciliation statement does not change the balances it rather reconciles the balances.  

Trail Balance in Basic Accounting Concepts

trial balance in basic accounting concepts

Trail balance is a table which shows all debit and credit ledger balances.

It is prepared at the end of the year and it also shows the closing  balances of all the accounts ( Expenses, incomes, capital, etc.)

Mostly it acts as a link between ledger and final accounts.  

Balance sheet in Basic Accounting Concepts

The balance sheet is a statement of all the assets and liabilities of the business at the end of the accounting year.

It also contains the list of personal and real accounts as on that particular day.

In balance sheet all the real and personal accounts are classified into the assets and liabilities.

The balances are then carried ahead to the next year as their opening balances.

The balance sheet is divided into two sides: Right-hand side ( shows assets – Debtors, Stock, Bank, etc.)  and left-hand side ( shows liabilities- Creditors, Capital, Reserves, etc.)

Balance sheet should not be balanced, it has to tally.

All the total assets must be equal to all the total liabilities. 

Note – Balance sheet is a statement, not an account.  

It is impossible for a businessman to remember the number of transactions that take place every day.

The businessman wants to know the profit or loss of his business, so his accountant prepares final accounts to know the exact position of the business.

Whereas, the accounting year is a period of 12 months from 1st April to 31st March.

Also, it can begun from 1st January to 31st December.

It is also prepared so as to improve the performance in future.    

This is all about Basic Accounting Concepts

I hope you like Basic Accounting Concepts Blog and you got the information which you looking for.

Did we miss any point to cover? or every point covered in this blog, just tell me in the comment.

if you have any queries or suggestion then Contact us, and share this blog with your friends.

THANK YOU,

MR. INDRA NISHAD

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