Trial Balance & Financial Statements - self assessment 140 Flashcards
State the two main reasons for preparing a trial balance.
The two main reasons for preparing a trial balance are:
1) to periodically check the arithmetical accuracy of the double entry in the ledger
2) to provide the figures to prepare the financial statements
The trial balance has a debit and a credit column.
Explain why these two columns should total the same.
The trial balance contains the individual account balances.
Each time a transaction takes place a debit & credit entry is made of equal value.
Therefore, the balances from each account will produce
debit and credit column totals that are equal.
State 4 - 6 reasons why the trial balance might not agree.
The trial balance will only reveal arithmetical errors.
Examples are:
1) incomplete double entry - one DR no CR or no DR one CR
2) over/under casting of totals
3) incorrect balancing
4) failure to include a balance in the trial balance
5) balance on the wrong side of the trial balance
6) incorrect figure in one entry
Name the 7 types of errors that will not be revealed by the trial balance and
explain how they come about.
The errors that the trial balance will not reveal are:
1) error of commission
2) error of omission
3) error of principle
4) compensating errors
5) reversal of entries
6) error of original entry
7) error of duplication
Error of commission
How does it come about?
Error of commission arises when a double entry is correct arithmetically but the amount has been entered in the wrong account.
E.g. a sale of goods to customer T Smith has been DR incorrectly to the account of customer W Smith. The trial balance will agree because the amount of the debit entry is correct even though the entry is in the wrong account.
NB: The two account involved are of the same type or class i.e. two expense accounts, two receivables accounts. This error will have no effect on the financial statements produced.
Error of principle
How does it come about?
Error of principle arises when the double entry it arithmetically correct, but the amount has been entered in the wrong class of account e.g. when an expense has been entered in an asset account.
E.g. motor expenses have been entered in motor vehicles. The correct DR and CR entries have been made but in the wrong account so the trial balance is not affected. This type of error will distort the figures produced in the financial statement.
Error of omission
How does it come about?
Error of omission occurs when a transaction, such as a sales invoice, has not been entered in the accounts at all. No arithmetical error can arise because no entry has been made but the accounts are still factually incorrect because a transaction has not been included.
Error of original entry
How does it come about?
Error of original entry occurs when the wrong figure is taken from the source document, and then recorded in both ledger accounts.
E.g. a sales invoice for £250 is DR to the customers SL account & CR to the Sales Revenue account is £200. This will not affect the trial balance.
Complete reversal of entries
How does it come about?
Complete reversal of entries:
The correct figures have been posted to the wrong side of both ledger accounts.
E.g. a cheque received from a customer is wrongly CR to the bank account and DR to the customer’s account.
NB: to correct this error, the amount involved hs to be doubles;
to correct the error and then enter it appropriately.
Compensating error
How does it come about?
Compensating error occurs when
two or more errors of the same amount cancel each other out.
E.g. if the Sales revenue account has been overcast by £200 (credit), &
the purchases account has also been overcast by £200 (debit).
Overcasting is incorrectly adding up, so the result is higher than it should be; Undercasting incorrectly produced a lower number.
Duplication error
How does it come about?
Duplication error occurs when
a transaction is entered into the ledger accounts more than once.
E.g. a sale to a customer is entered into sales revenue account & the customer account
twice for exactly the same value.
This will not affect the trial balance.
What is a Suspense Account and why is it used?
The suspense account is a temporary account used
for holding the difference on the trial balance
pending the finding & correction of the errors that gave rise to the difference.
As the errors are identified, the suspense account will be used
to record one half of the double entry required to correct the error.
The other entry will be made in the account requiring the correction.
When all errors have been identified
the balance in the suspense account will be reduced to nil.
