Recording Transactions Flashcards

4.2: Explain how accounts, debits, and credits are used to record transactions.

1
Q

What is an account?

A

An individual accounting record of increases and decreases in a specific asset, liability, and/or shareholders’ equity (common shares, retained earnings, revenue, expense, and dividends declared) item.

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2
Q

What is a debit?

A

The left side of an account.

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3
Q

What is a credit?

A

The right side of an account.

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4
Q

What is a T account?

A

The basic form of an account, with a debit (left) side and a credit (right) side showing the effect of transactions on the account.

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5
Q

What are some examples of accounts in a company?

A

Cash, Accounts Receivable, Accounts Payable, Service Revenue, Salaries Expense.

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6
Q

What are the three parts of a T account?

A
  1. Title of the account
  2. Debit (left) side
  3. Credit (right) side
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7
Q

Do debits and credits indicate good or bad?

A

No, they are directional terms:
Debit (Dr.) means left
Credit (Cr.) means right

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8
Q

Why is it called a T account?

A

Because its layout resembles the letter “T”, making it easy to track transactions visually.

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9
Q

What is another term for T account?

A

General ledger account

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10
Q

What are the entire groups of accounts maintained by a company (whether called a T account or a general ledger account) called?

A

The ledger

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11
Q

Why is a date often included in T accounts?

A

To identify when a transaction occurred.

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12
Q

How does the actual account form used in practice differ from a T account?

A

It typically has six columns, including:
1. Date
2. Explanation
3. Reference (Ref.) (links to supporting documents)
4. Debit
5. Credit
6. Balance

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13
Q

What does the reference (Ref.) column indicate?

A

It refers to the document that serves as evidence of the transaction.

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14
Q

Why is the T account still used in learning?

A

Because of its simplicity, making it easier to visualize transactions.

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15
Q

What is normal balance?

A

The side of an account used to increase the account. Asset accounts have a normal debit balance. Liabilities and shareholders’ equity accounts have a normal credit balance. Individual components that make up shareholders’ equity have normal balances as follows: common shares, retained earnings, and revenue accounts have normal credit balances. Expense and dividends declared accounts have normal debit balances, as they reduce retained earnings.

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16
Q

What does “normal balance” mean?

A

The side of the T account where an account’s ending balance is normally found.

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17
Q

How does the normal balance relate to the accounting equation?

A

Assets (left side) → Normal Debit Balance
Liabilities & Shareholders’ Equity (right side) → Normal Credit Balance

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18
Q

How do debits and credits affect different accounts?

A

Debits (+): Increase assets & expenses, decrease liabilities & equity
Credits (+): Increase liabilities, equity & revenue, decrease assets & expenses

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19
Q

Accounts on the left side of the T normally have a ______balance, while accounts on the right side of the T normally have a ______ balance.

A

debit, credit

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20
Q

How do you increase an account balance?

A

Use the same type of entry as its normal balance (Debit or Credit).

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21
Q

How do you decrease an account balance?

A

Use the opposite type of entry from its normal balance.

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22
Q

What is the normal balance for an asset account?

A

Debit (Left side of the T account and accounting equation).

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23
Q

How do you increase or decrease an asset account?

A

Increase: Debit
Decrease: Credit

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24
Q

What happens when total debits exceed total credits in an asset account?

A

The account has a debit balance (which is normal).

25
Q

What happens if an asset account has a credit balance?

A

It may indicate an error unless it is a special case (e.g., bank overdraft or contra asset accounts) because this means it’s credit entries exceeded its debit

26
Q

What is a contra asset account?

A

An asset account with a normal credit balance, such as Accumulated Depreciation.

27
Q

What happens if a company has a bank overdraft?

A

The Cash account will have a credit balance and be classified as bank indebtedness (a current liability).

28
Q

How are increases and decreases recorded in the Cash T account?

A

Increases: Debit (Left side)
Decreases: Credit (Right side)

29
Q

What does a positive item in the Cash column represent?

A

A receipt of cash (increase).

30
Q

What does a negative item in the Cash column represent?

A

A payment of cash (decrease).

31
Q

How is the balance of the Cash account determined?

A

By netting the total debits and credits (subtracting total decreases from total increases).

32
Q

What does a debit balance in the Cash account indicate?

A

The company has more cash inflows than outflows during the period.

33
Q

How does using a T account reduce recording errors?

A

It separates increases and decreases into different sides, making it easier to track balances.

34
Q

How are increases recorded in a liability T account?

A

On the credit (right) side.

35
Q

How are decreases recorded in a liability T account?

A

On the debit (left) side.

36
Q

Why do liability accounts normally have credit balances?

A

Because credits (increases) usually exceed debits (decreases) in liability accounts.

37
Q

How do liability T accounts compare to asset T accounts?

A

They are opposite:
Assets: Increase with debits, decrease with credits.
Liabilities: Increase with credits, decrease with debits.

38
Q

What does a credit balance in a liability account indicate?

A

The company owes money (has outstanding obligations).

39
Q

What side of the accounting equation are liabilities on?

A

The right side, opposite assets.

40
Q

What are the main components of shareholders’ equity?

A
  • Common shares and retained earnings.
  • Retained earnings include revenues, expenses (which make up net income), and dividends declared.
41
Q

How do the components of retained earnings add to or deduct from it?

A

These components are then added to (in the case of revenues) or deducted from (in the case of expenses and dividends declared) retained earnings

42
Q

How do revenues affect shareholders’ equity?

A

Revenues increase retained earnings, so they also increase shareholders’ equity.

43
Q

How do expenses and dividends affect shareholders’ equity?

A

Expenses and dividends decrease retained earnings, reducing shareholders’ equity.

44
Q

What is the normal balance for common shares, retained earnings, and revenue accounts?

A

A credit balance (because they increase with credits, decrease with debits)

45
Q

How are increases and decreases recorded in common shares, retained earnings, and revenue accounts?

A

By credits and these accounts have normal credit balances.

46
Q

What reduces shareholders’ equity?

A

Expenses and dividends declared reduce retained earnings, which in turn reduces shareholders’ equity.

47
Q

How do expenses affect retained earnings and shareholders’ equity?

A

Expenses reduce net income, which reduces retained earnings, thus decreasing shareholders’ equity.

48
Q

How are expense accounts recorded?

A

Increases: Recorded with debits (left side of T account)
Decreases: Recorded with credits (right side of T account)
Normal balance: Debit balance

49
Q

How are dividends declared recorded?

A

Increases: Recorded with debits
Decreases: Recorded with credits
Normal balance: Debit balance

50
Q

How do revenues and expenses relate to net income?

A

Revenues increase net income, while expenses decrease net income, affecting retained earnings.

51
Q

What is the double-entry accounting system?

A

A system that records the dual effect of each transaction in appropriate accounts.

52
Q

How does the double-entry accounting system provide a logical method for recording transactions and ensuring amounts are recorded accurately?

A

If every transaction is recorded with equal debits and credits, then the sum of all the debits to the accounts must equal the sum of all the credits.

53
Q

What is the rule for the accounting equation?

A

The accounting equation must always balance:
Total Debits = Total Credits

54
Q

Where are revenues and expenses reported?

A

Revenues and expenses are reported in the Statement of Income.
They combine to determine net income (or loss).

55
Q

What is the generally chosen convention for listing revenues and expenses on the statement of income?

A

List these items from largest to smallest. The exception is income tax expense, which is reported separately near the end of the statement

56
Q

What does the Statement of Changes in Equity show?

A
  • It reports changes in shareholders’ equity items, including common shares and retained earnings.
  • The statement starts with opening balances (ending balances from the previous period) and shows changes during the period.
  • It includes net income (or loss) and dividends declared.
57
Q

What is included in the Statement of Financial Position?

A
  • It reports the balances of assets, liabilities, and shareholders’ equity at the end of the period.
  • Assets = Liabilities + Shareholders’ equity
  • Common shares and retained earnings, from the Statement of
    Changes in Equity, are reported under shareholders’ equity in this statement.
58
Q

How are assets and liabilities classified in the Statement of Financial Position?

A
  • Assets and liabilities are classified as current or non-current.
  • Current items are listed in order of liquidity; non-current items in order of permanency.
  • Other ordering options are possible.