Month: December 2020

Statement of Affairs

A statement of affairs is a document that shows the overall financial health of a business. It lists the assets, liabilities and capital of a business. A statement of affairs is prepared at the beginning and end of the financial year so business owners can get a sense of their opening or closing capital i.e. the money a business has to fund its day-to-day operation.

There are two sections in a statement of affairs: the left section is for current liabilities and the right section is for current assets. Opening or closing capital (also called “net assets”) is calculated by subtracting total liabilities from total assets.

Statements of affairs are usually prepared by small businesses that use a single-entry system and only use cash and credit accounts. This means they can’t produce a balance sheet, which is similar to a statement of affairs but used in double-entry bookkeeping. Assets and liabilities must balance (match) on a balance sheet for it to be accurate, which is why it’s considered a more reliable document than a statement of affairs.

The conversion method involves converting your accounting from a single-entry system to a double-entry system. Small businesses usually start out by using single-entry bookkeeping. This method is a simpler way to track their income and expenses.

That said, double-entry bookkeeping is a more reliable system that growing small businesses need to adopt. This system allows business owners to produce a document called a trial balance that will let you check if your entries are correct.

The conversion method requires making a statement of affairs, posting transactions in accounting software as both a debit and credit and checking your work via a trial balance and income statement. Two separate bank accounts also need to be opened for expenses and income.

The conversion method is the process of converting a business’s accounting from single-entry to double-entry.

New small businesses often use single-entry bookkeeping as a quick and simple way to record their income and expenses. Single-entry bookkeeping only uses three accounts: bank, cash and personal. Reports like a balance sheet, Trial Balance or Income Statements can’t be produced from single-entry transactions.

Small businesses can use the conversion method to take advantage of the double-entry system’s advanced reporting capabilities.

Double-entry bookkeeping is also considered more reliable. Because double entry bookkeeping records each transaction as both a debit and credit, a Trial Balance can be produced that lets a business owner check if the transactions are correct and make sure total income and expenditure balance (match).

Steps to Convert Single-Entry to Double-Entry Bookkeeping

Using the conversion method to take your accounts from single-entry to double-entry bookkeeping can be performed by a small business owner alone. That said, an accountant should look over your work to make sure it’s accurate and any mistakes won’t be compounded over time.

Prepare an Opening Statement of Affairs

A statement of affairs is a document that shows the assets and liabilities of a business within a certain accounting period (for example, year to date). Subtracting total liabilities from total assets determines working capital i.e., the business’ overall financial health.

Prepare your statement of affairs by making a table with two columns: current liabilities on the left and current assets on the right. Then list each.

Liabilities can include:

• Accounts payable (your unpaid invoices)
• Taxes payable
• Loans payable
• Credit cards payable

Assets can include:

• Cash on hand
• Accounts receivable (outstanding invoices)
• Equipment value
• Reimbursable expenses

Post All Transactions in A Double-Entry Journal System

Now it’s time to enter your transactions in a double-entry journal system, so go ahead and download or upgrade your accounting software.

First, enter an opening journal entry of your total assets, liabilities and resulting working capital using information from your statement of affairs.

Then, enter all your expenses and sales in your Cash Account.

We’ll also need to prepare the following accounts:

• Total Debtors Account
• Total Creditors Account
• Bills Receivable Account
• Bills Payable Account.

Nominal accounts for expenses and revenue need to be created too using information from the Cash Account. Nominal accounts are temporary accounts that are closed at year end and are restarted at the beginning of a new financial year with zero value.

Divide Your Expenses and Income Bank Accounts

Open two new bank accounts: one for expenses and one for income. This will help keep your accounts straight. Each account will have corresponding credit and debit entries in your accounting system both in the ledgers and journal.

Run A Trial Balance

Running a trial balance of your journal and ledger lets you check if your entries are right. A trial balance shows the total of all credits and debits in your business’s accounts. The sum of the credits and debits for each account should match, otherwise you need to go back and check your entries for errors.

A single-entry system records each accounting transaction with a single entry to the accounting records, rather than the more common double entry system. The single-entry system is centered on the results of a business that are reported in the income statement. The core information tracked in a single-entry system is cash disbursements and cash receipts. Asset and liability records are usually not tracked in a single-entry system; these items must be tracked separately. The primary form of record keeping in a single-entry system is the cash book, which is essentially an expanded form of a check register, with columns in which to record the particular sources and uses of cash, and room at the top and bottom of each page in which to show beginning and ending balances. An example of a cash book is:

Examples of Double Entry

1. Purchase of machine by cash

2. Payment of utility bills

3. Interest received on bank deposit account

4. Receipt of bank loan principal

5. Issue of ordinary shares for cash

Joint Venture Account:

This account represents the results of the business, that is, profit or loss. It is like a Trading/Profit & Loss Account of a trading concern. This account is debited by the cost of goods, expenses; goods supplied by the venturers etc. and are credited by sale proceeds, unsold stock, stock taken by venturers etc.

If credit side of this account is greater than the debit side, the difference represents profit on joint venture and vice versa in the opposite case. The profit or loss so made is transferred to co-venturer’s account.

It is like an ordinary Cash Book or Bank Account. All incomes including the capital contribution by the ventures appear on the debit side of this account whereas all expenses of the venture appear on the credit side of this account. It is finally closed by payment to the co-venturers, leaving no balance either side.

Co-Venturer’s Account:

This is the capital account of the venturer relating to venture. This account is credited by the capital contributed by the venturers, goods supplied by them from their own stock, expenses made personally by them etc. whereas this account is debited for any withdraw­als or any asset taken from the venture.

The profit or loss so made on venture is transferred to this account in profit sharing ratio and this account is closed by cash payment from joint bank and vice versa in the opposite case.

Under this method, all co-venturers contribute their share of investment and deposit their shares in a Joint Bank account newly opened for the specific purpose of the Joint Venture. They may use this bank account to make any kind of payments and to deposit sale proceeds or any other kind of receipts.

In addition to Bank account, a Joint venture account is also opened in the books to keep records of all transactions routed through this account.

This category of accounts is a personal account of each co-venturer. Thus, following three accounts are opened:

• Joint Bank Account
• Joint Venture Account
• Personal account of co-venturers

When Separate Books of Accounts are not kept for the Joint Venture

It is of two types:

• When all venturers keep separate accounts
• Memorandum joint venture method

When all Venturers keep Separate Accounts:

• Separate Joint venture account and personal accounts of other co-venturers are opened under this method of accounting.
• Joint venture account is debited and bank account or creditor account is credited on the account of goods purchased or expensed.
• Joint venture account is credited and a bank account or debtor account is debited in case of either cash sale or credit sale.
• Each co-venturer debits joint venture account and credits personal accounts of other co-venturer on the account of either goods purchased or expensed by other co-venturers.
• Joint venture account is credited and personal account of others co-venturer account is debited in case of sale made by other co-venturers.
• Joint venture account is debited and commission account is credited if, commission is receivable, but if commission is receivable by other co-venturer, then the concerned co-venturer account will be credited instead of the commission account.
• If unsold stock is taken, then goods account will be debited by crediting Joint venture account. On the other hand, if unsold stock is taken by any other co-venturer, then personal account of the co-venturer will be debited.
• Balance in the joint venture accounts represents profit or loss and later that amount of profit or loss will be transferred to the personal accounts of co-venturers.

Note: Above transactions are possible only when all the co-venturers exchange information’s on regular basis.

Memorandum Joint Venture Method

Important features of memorandum method are given as hereunder:

• Only one personal account is opened by each co-venturer in his book named Joint Venture account with…………… (Name of other co-venturer). Same process will be followed by other co-venturer in his books of accounts.
• Only one personal account will be opened by each co-venturer irrespective of the fact, how many other co-venturers are exists. For example, there is a joint venture of 4 person A,B,C, & D; now, A in his books will open only one personal account named as Joint venture with B,C, & D account.
• Each party will record only those transactions in his book, which are done by him; the transactions done by other co-venturers will be ignored.
• In addition to above said personal account, a combined account named as “memorandum joint venture account” will also be opened.
• Memorandum account is merely a combined account of personal accounts opened by each co-venturer. Debit side of personal account will be transferred to the memorandum account and the credit side of personal account will be transferred to the credit side of memorandum account.
• Transactions done by co-venturers among themselves including cash received or paid by one co-venturer to other will be ignored at the time of preparation of a memorandum account.
• Balance of memorandum joint venture account will represent profit or loss of the particular business. Further, the profit or loss will be transferred to the individual co-venturer account in their profit sharing ratio.

The drawer is the person who draws or makes the bill and sends it to the drawee or the payer for the acceptance. Once accepted, the bill becomes Bills Receivable for the drawer and Bills Payable for the drawee or payee.

The drawer may endorse the bill to another person who becomes the holder of the bill. On the due date, the holder presents the bill to the drawee for payment.

The payee is the person who eventually pays for the bill. Drawee will be the payee as well most of the time but sometimes a third party will pay the bill on behalf of the drawee then the third party will become the payee.

Journal Entries in the books of Drawer

Journal Entry for Bills of Exchange

Drawer’s Books

Drawee’s or the Payer’s Books

Holder/endorsee’s Books

The drawer may feel that the drawee may dishonor the bill. In this case, he can give it to the Notary Public. Notary Public presents the bill to the Drawer for payment instead of the Drawer. If the bill is honored, they hand over the money to the Drawer.

In case of dishonor, they note the reasons for dishonor and give the bill back to the drawer. They charge fees for this known as Noting charges. In case of dishonor, the person who is responsible for the dishonor bears the noting charges.

A Bill of Exchange is a written document which is duly stamped and signed by the drawer carrying an unconditional order which directs (not commands) a person to pay a specific amount to a particular person or to the order of the particular person or the holder of the instrument.

A bill of exchange is a written agreement between two parties the buyer and the seller used primarily in international trade. It is documentation that a purchasing party has agreed to pay a selling party a set sum at a predetermined time for delivered goods. The buyer or seller typically employs a bank to issue the bill of exchange due to the risks involved with international transactions. For this reason, bills of exchange are sometimes also referred to as bank drafts.

Bills of exchange can be transferred by endorsement, much like a check. They can also require the buyer to pay a third party a bank in the event that the buyer fails to make good on his agreement with the seller. With such a stipulation, the buyer’s bank will pay the seller’s bank, thereby completing the bill of exchange, then pursue its customer for repayment.

The following conditions need to be fulfilled:

• The bill should be properly dated.
• It must contain an order, i.e., the drawer of the instrument directs the drawee to pay a certain sum to the payee.
• Must be signed by the maker of the bill.
• The drawee must accept Bill.
• Order to pay money only as well as the amount should be definite.
• Delivering the bill to the payee is a must.

Promissory Note

A promissory note is a negotiable instrument, containing a written unconditional promise, duly stamped and signed by the drawer, to pay a specified sum of money to a particular person or the order of the particular person. It is made by the debtor to borrow money from the creditor.

Promissory notes are similar to bills of exchange in that they, too, are a financial instrument that is a written promise by one party to pay another party. They are debt notes that provide financing for either a company or an individual from a source other than a traditional lender, most commonly one of the parties in a sales transaction.

The features of a promissory note are as under:

• The note must be in writing carrying written promise to pay money to the creditor.
• Signature of the promisor i.e. drawer of the note must be there.
• The date on which the note is payable should be fixed.
• Both the promisor and promisee needs to be certain.
• The sum of money must be definite.
• The country’s legal currency should be used to discharge the debt.

Honor of Bill

An acceptor for honor binds himself to all parties subsequent to the party for whose honor he accepts to pay the amount of the bill if the drawee does not; and such party and all prior parties are liable in their respective capacities to compensate the acceptor for honor for all loss or damage sustained by him in consequence of such acceptance.

But an acceptor for honor is not liable to the holder of the bill unless it is presented, or (in case the address given by such acceptor on the bills is a place other than the place where the bill is made payable) forwarded for presentment, not later than the day next after the day of its maturity.

When the drawee (a person who is liable to pay) is not able to make the payment on the date of maturity of a bill, a bill is said to be dishonoured. In this situation liability of drawee is restored. Dishonour of a bill can be either by non-acceptance or non-payment. A dishonoured bill is equivalent to the bounced cheque.

Bill of exchange requires acceptance by the drawee when it is presented, however, if on presenting the bill of exchange, it gets non-acceptance, it will amount to dishonour.

Dishonour by Non-Payment

When the drawee of the bill of exchange commit default in making the payment of the bill on maturity to the drawer, it is said to be dishonoured of a bill of exchange by non-payment.

Possible reasons why the bill is dishonoured by non-payment?

• Due to insufficient funds in the drawee’s a/c.
• The drawee is unable to pay because of insolvency, or
• The drawee simply does not want to pay

When the bill gets dishonoured, entries that were made at the time of receipt of a bill are reversed.

A Bills of Exchange is an instrument in writing, containing an unconditional order, signed by the maker, directing a certain person to pay a certain sum of money only to, all the order of the certain person or to the bearer of the instrument. Let us see about the renewal of bills of exchange.

When a person sells some good to a party, then he /she wants to take some written assurance that payment will be received within a specified period. Various type of negotiable instrument admit for this purpose, but the most commonly used instruments are bills of exchange.

Renewal of Bills of Exchange

Bills of exchange have some specified time period. Drawee/acceptor has to make payments within that specified time period to Drawer/maker. But sometimes when they are not able to pay for the bill on the due date then he/she may ask the drawer to extend the period of credit.

If the drawer agrees then the drawer may cancel the old bill and draw a fresh bill for the extended period which the acceptor accepts. Cancelling the old bill and drawing of a fresh bill for an extended period is called Renewal of Bill. For the extended period, drawee is asked to pay interest which can be paid in cash or added to the amount of a new bill.

How to make entry of Renewal of Bills of Exchange

As when a new bill of exchange is issued, it affects both parties. Entry for renewal is passed in the books of the drawer as well as acceptor. If the drawer has discounted or dishonoured bill, the same entries are made as for dishonour.

Thereafter second entry is passed for interest. Interest may be paid in cash by cheque. If interest is paid in cash, then drawer debits the cash a/c and credits the interest a/c. If interest is paid by cheque then drawer debits the bank a/c and credits interest a/c.

On the other hand, acceptor debits the interest and credits the cash or bank a/c. For drawer, interest is the income and for acceptor, interest is an expense. Cash or cheque is received by the drawer and is paid by the acceptor.

If the acceptor does not pay interest on cash but agreed to pay later then instead of debiting cash/bank, drawer debits the amount of the acceptor. Whereas acceptor credits the amount of drawer instead of cash/bank.

Because of the amount of interest drawer becomes the creditor and acceptor becomes the debtor. Interest is debited and credited in the same way whether paid in cash or not. A third entry is for renewal of the bill. Is dentist has been paid in the case then the bill of an amount of the new bill will be same as that of the old bill. If interest is not paid in cash then a new bill will include the old bill amount and interest.

Renewal in case of Partial Payment

If acceptor is unable to pay for the bill in full, he/she can also pay partially. In this case, a new bill will be for the remaining amount. Interest will then be charged on the remaining amount for the extended period of credit. The amount of the new bill will include unpaid amount, interest and nothing charges if any.

First main entry is made to cancel the old bill. A second entry is made for partial payment. The third entry is made for interest. And the fourth entry is for drawing and accepting the new bill.

Renewal in case of Dishonour of a Bill

Sometimes bill can be renewed by the drawer even after dishonour of bill. In this case, the acceptor is the debtor of the drawer for the amount of bill, noting charges and interest. If interest and noting charges or paid in cash by the acceptor, the drawer debits cash/bank and credits the interest and noting charges a/c.

On the other hand, acceptor debits the noting charges and interest a/c and credits the cash/ bank a/c. If these amounts are paid in cash, a fresh bill is drawn by the total of old bill amount, interest and noting charges.

Following entries are passed in this case:

In the book of Drawer

1] Entry for Cancellation of the Bill:

Acceptor’s Personal A/c………………. Dr

To Bills Receivable A/c

2] Entry for Receipt of Cash:

Cash A/c ……………………………………….Dr

To Acceptor’s Personal A/c

3] Entry for Interest Received:

Cash A/c  ……………………………………….Dr

To Interest A/c

4] Entry for Interest not yet received but due:

Acceptor’s personal A/c ……………………Dr

To Interest A/c

5] Entry for New Acceptance:

Bills Receivable A/c ………………………….Dr

To Acceptor’s Personal A/c

In the books of Acceptor

1] Entry for Cancellation of Bill:

Bills Payable A/c …………………………….. Dr

To Drawer Personal A/c

2] Entry for part payment in cash:

Drawer’s Personal A/c………………………………… Dr

To Cash A/c

3] Entry for Interest Paid:

Interest A/c …………………………………………. Dr

To Cash A/c

4] Interest not paid:

Interest A/c …………………………………………. Dr

To Drawer’s Personal A/c

5] Entry for Accepting New Bill:

Drawer’s Personal A/c ……………………………. Dr

To Bills Payable A/c

The act of drawee to withdrew the bill from circulation by making the payment of the bill before its maturity is called retiring a bill of exchange.

Sometimes the acceptor of a bill of exchange desires to meet the bill before its maturity if he has sufficient funds at his disposal. He may ask the holder of the bill to accept the payment before the due date. If the holder agrees to his proposal (obviously he welcomes it), he will withdraw the bill. Such a withdrawal is called “retirement of a bill of exchange”. The holder generally allows the acceptor a rebate or discount for the unexpired period of the bill. This rebate is discount is an expense for the holder and a revenue for the acceptor of the bill. The accounting treatment is similar to cash discount.

Rebate

It is concession or discount allowed by holder of the bill to the drawee for making payment of the bill before maturity. It is an expense for the holder and revenue for the drawee. Rebate is considered “Discount Allowed” from holder’s point of view and “Discount Received” from drawee’s point of view.

Journal Entries:

When a bill of exchange is retired by an acceptor, the following entry is made in books of the holder:

Cash A/C……………….Dr.    (with actual amount of cash received)
Rebate A/C…………….Dr.    (amount of rebate allowed)
     Bill receivable A/C          (full amount of bill)

In the books of acceptor, the following entry is passed:

Bill payable A/C………..Dr.    (with full amount)
     Cash A/C                      (amount actually paid) 
     Rebate A/C                   (rebate earned)