Week Three

Question 1

Describe the characteristics of business transactions.

Answer 1

A business transaction involves the exchange of resources between an entity and another entity or individual, and must be at an arm’s length distance.

Question 2

Differentiate between a business transaction, a personal transaction and a business event

Answer 2

For a business transaction to be recognised there must be an exchange of resources between an entity and another entity or individual (e.g. the purchase of office equipment for cash). Personal transactions do not involve an exchange of goods between the entity and another party. Similarly, no exchange of resources takes place when a business event occurs, such as when the contract of a new employee is being negotiated or when the entity is being advised that the loan interest rate will increase from 1 July in the current year. These two events will become business transactions at some later stage, when the exchange of resources takes place.

Question 3

Explain the accounting equation process of the double-entry system of recording

Answer 3

The accounting equation expresses the relationship between the assets controlled and owned by the entity, and the claims on those assets – whether it is by outside funds (known as liabilities) or through inside funds (known as the equity of the business). The expanded accounting equation includes the profit or loss of the entity, which is represented by the entity’s income less expenses.
Identify the impact of business transactions on the accounting equation.
Every business transaction will have a dual effect. As a result, the accounting equation remains in balance after each business transaction is recorded in the journals or ledgers of the entity. For the contribution of capital, the dual effect would be an increase in the cash account and an increase in the capital account. In the accounting equation, this would be illustrated by assets increasing and equity increasing, that is:

↑ Cash (assets) = ↑ Capital (equity)

Question 4

Prepare an accounting worksheet and a simplified income statement and balance sheet.

Answer 4

The accounting worksheet summarises the duality associated with each of the business transactions. The column totals provide the basis for the preparation of the financial statements. The information in the profit or loss column will be used to prepare the income statement, and the profit or loss will be transferred to the equity section of the balance sheet at the end of the reporting period. The information in the asset, liability and equity columns will form the basis of the balance sheet.

Question 5

Apply debit and credit rules, and record simple transactions in the journals and ledgers of the business.

Answer 5

A debit entry is used to increase assets and expenses; and to decrease liabilities, equity and revenue. A credit entry is used to increase liabilities, equity and income; and to decrease assets and expenses. Each journal or ledger entry will consist of a debit entry and a credit entry to at least two separate accounts.

Question 6

Explain the purpose of a trial balance.

Answer 6

A trial balance assists in the preparation of the financial statements, and checks the accuracy of the ledger or journal entries. If the trial balance does not balance, then the preparer needs to retrace the transactions to ensure that the double-entry rules were correctly followed and the correct amounts were entered.

Question 7

Detect errors in transaction analysis and investigate the origin of the errors.

Answer 7

The common recording errors are transposition errors, single-entry errors and incorrect entries. Transposition errors are easily identified if the difference between the total assets and total claims on those assets (liabilities plus equity) is divisible by 9.

Question 8

Business Transactions

Answer 8

occurrences that affect the assets. Liabilities and equity items in an entity and must be recognized (recorded)

Question 9

Arm’s length distance

Answer 9

parties deal from equal bargaining positions neither party is subject to the others control or dominant influence, and the transaction is treated with fairness, integrity and legality

Question 10

Entity concept

Answer 10

separation of business transactions from any personal transactions of the owner(s)

Question 11

Balance Sheet

Answer 11

statement that reports on the assets, liabilities and equity of an entity at a particular point in time

Question 12

Income statement

Answer 12

statement that reports on the income and expenses of an entity for a period and the resulting profit or loss

Question 13

Drawings

Answer 13

withdrawals of assets from the entity by the owners that are recorded as decreases in equity

Question 14

Source Documents

Answer 14

original documents verifying the business transaction

Question 15

Cash transactions

Answer 15

business transactions involving the exchange of cash for goods or services

Question 16

Credit transactions

Answer 16

business transactions of goods and services on the proviso that cash will be paid at a later date

Question 17

Personal transactions

Answer 17

transactions of the owner unrelated to the operations of the business

Question 18

Business events

Answer 18

events that will probably affect the entity without any immediate exchange of goods and services between the entity and another entity

Question 19

Accounting equation

Answer 19

expresses the relationship between the assets controlled by the entity and the claims on those assets

Question 20

Asset

Answer 20

a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity

Question 21

Liability

Answer 21

present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entities of resources embodying economic benefits

Question 22

Duality

Answer 22

describes how every business transaction has at least two effects on the accounting equation

Question 23

Income

Answer 23

increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity other than those relations to contributions from equity participants

Question 24

Expenses

Answer 24

decreases in economic benefit during the accounting period in the form of outflows or depletions of assets or incurrences of liabilities that result in decreases in equity, other than those relations to distributions to equity participants

Question 25

Accounting equation

Answer 25

assets = liabilities and equity

Question 26

Duality equation

Answer 26

assets = liabilities + opening equity + income – expenses

Question 27

Journal

Answer 27

an accounting record in which transactions are initially recorded in chronological order

Question 28

Ledger

Answer 28

an account that accumulates all of the info about changes in specific account balances

Question 29

Chart of accounts

Answer 29

a listing of the ledger account titles and their related numbers or alpha numbers

Question 30

Trial balance

Answer 30

a list of ledger account balances prepared at the end of the period

Question 31

Single entry error

Answer 31

an error created by entering only one part of a transaction

Question 32

Transposition error

Answer 32

an error created by transposing digits when recording transactions