L-2-Basic Accounting Terms

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CHAPTER 2

Basic Accounting Terms

In this Chapter, we will learn some basic terms which are used in Accounting. These will be used very frequently in subsequent topics, so to understand the Accounting we need to be learn the meaning of these terms.

Entity

The entity of whom we are doing the accounting is called Entity. It is called Business Entity. It is also called Accounting entity. Business entity means a specifically identifiable business enterprise like Super Bazaar, Hire Jewellers, ITC Limited, etc. An accounting system is always devised for a specific business entity (also called accounting entity).

Transaction

An event involving some value between two or more entities. It can be a purchase of goods, receipt of money, payment to a creditor, incurring expenses, etc. It can be a cash transaction or a credit transaction.

Assets (Things Owned by Business, e.g., Furniture, stock, Building, Machinery)

Assets are economic resources of an enterprise that can be usefully expressed in monetary terms. Assets are items of value used by the business in its operations. For example, Super Bazar owns a fleet of trucks, which is used by it for delivering foodstuffs; the trucks, thus, provide economic benefit to the enterprise. This item will be shown on the asset side of the balance sheet of Super Bazaar. Assets can be broadly classified into two types: current and Non-current

Liabilities (Money owed by business, e.g., loan, creditors)

Liabilities are obligations or debts that an enterprise has to pay at some time in the future. They represent creditors’ claims on the firm’s assets. Both small and big businesses find it necessary to borrow money at one time or the other, and to purchase goods on credit. Super Bazar, for example, purchases goods for ` 10,000 on credit for a month from Fast Food Products on March 25, 2005. If the balance sheet of Super Bazaar is prepared as at March 31, 2005, Fast Food Products will be shown as creditors on the liabilities side of the balance sheet. If Super Bazaar takes a loan for a period of three years from Delhi State Co-operative Bank, this will also be shown as a liability in the balance sheet of Super Bazaar. Liabilities are classified as current and non-current

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Capital

Amount invested by the owner in the business is known as capital. E.g., Mr A invested RS 2 lacs in a business. Therefore, RS 2 Lacs is the capital of Mr A in that business.

Sales

Sales are total revenues from goods or services sold or provided to customers. Sales may be cash sales or credit sales.

Revenues

Sales plus other income like Interest from bank balance, profit on sale of fixed assets.

Expenses

Costs incurred by a business in the process of earning revenue are known as expenses. The usual items of expenses are: cost of goods sold, rent, wages, salaries, interest, cost of heater, light and water, telephone, etc.

Income

Revenue – Expense = Income

Expenditure

Spending money or incurring a liability for some benefit, service or property received is called expenditure. Purchase of goods, purchase of machinery, purchase of furniture, etc. are examples of expenditure. If the benefit of expenditure is exhausted within a year, it is treated as an expense (also called revenue expenditure). On the other hand, the benefit of an expenditure lasts for more than a year, it is treated as an asset (also called capital expenditure) such as purchase of machinery, furniture, etc.

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Profit

The excess of revenues of a period over its related expenses during an accounting year is profit. Profit increases the investment of the owners.

Gain

A profit that arises from events or transactions which are incidental to business such as sale of fixed assets, winning a court case, appreciation in the value of an asset.

Loss

The excess of expenses of a period over its related revenues its termed as loss

Discount

Discount is the deduction in the price of the goods sold. It is offered in two ways. Offering deduction of agreed percentage of list price at the time selling goods is one way of giving discount. Such discount is called ‘trade discount’. It is generally offered by manufactures to wholesalers and by wholesalers to retailers. After selling the goods on credit basis the debtors may be given certain deduction in amount due in case if they pay the amount within the stipulated period or earlier. This deduction is given at the time of payment on the amount payable. Hence, it is called as cash discount. Cash discount acts as an incentive that encourages prompt payment by the debtors.

Voucher

The documentary evidence in support of a transaction is known as voucher. For example, if we buy goods for cash, we get cash memo, if we buy on credit, we get an invoice; when we make a payment, we get a receipt and so on.

Goods (Maal- Jis mein business deal krti hai. E.g., Furniture shop k liye furniture Goods hain)

It refers to the products in which the business is dealing, i.e. in terms of which it is buying and selling. The items that are purchased for use in the business are not called goods. For example, for a furniture dealer purchase of chairs and tables is termed as goods, while for other it is furniture and is treated as an asset. Similarly, for a stationery merchant, stationery is goods, whereas for others it is an item of expense (not purchases).

Drawings (Business se jo paise owner ghar le jaata hai ya ghar k liye jo kharche business k paisun se krta hai usay drawing kehte hain )

Withdrawal of money and/or goods by the owner from the business for personal use is known as drawings. Drawings reduces the capital of the owner.

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Purchases (maal kharedna)

Purchases are total amount of goods procured by a business on credit and on cash, for use or sale.

Debtors ( Jis ne maal udhaar lia hai humse)

Debtors are persons and/or other entities who owe to an enterprise an amount for buying goods and services on credit.

Creditor ( Jis se humne maal udhaar lia hai)

Creditors are persons and/or other entities who have to be paid by an enterprise an amount for providing the enterprise goods and services on credit.

Test for Understanding

Mr. Sunrise started a business for buying and selling of stationery with ` 5,00,000 as an initial investment. Of which he paid `1,00,000 for furniture, ` 2,00,000 for buying stationery items. He employed a sales person and clerk. At the end of the month he paid ` 5,000 as their salaries. Out of the stationery bought he sold some stationery for `1,50,000 for cash and some other stationery for `1,00,000 on credit basis to Mr.Ravi. Subsequently, he bought stationery items of `1,50,000 from Mr. Peace. In the first week of next month there was a fire accident and he lost ` 30,000 worth of stationery. A part of the machinery, which cost ` 40,000, was sold for ` 45,000.

From the above, answer the following :

1. What is the amount of capital with which Mr. Sunrise started business.
2. What are the fixed assets he bought?
3. What is the value of the goods purchased?
4. Who is the creditor and state the amount payable to him?
5. What are the expenses?
6. What is the gain he earned?
7. What is the loss he incurred?
8. Who is the debtor? What is the amount receivable from him?
9. What is the total amount of expenses and losses incurred?

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10. Determine if the following are assets, liabilities, revenues, expenses or none of the these: sales, debtors, creditors, salary to manager, discount to debtors, drawings by the owner.

Answers

1. ` 5,00,000
2. ` 1,00,000,
3. ` 2,00,000
4. Mr. Reace, ` 1,50,000
5. ` 5,000
6. ` 5,000
7. ` 30,000
8. Mr. Ravi, ` 1,00,000
9. ` 35,000
10. Assets : debtors; Liabilities : creditors; drawings; Revenues : sales expenses, discount, salary

YouTube Link for Lecture: https://youtu.be/4rWUnjlyi60

Channel Name: Lateef’s Commerce Academy