Module 1 Notes

Definition of Accounting and Book keeping

Meaning of Accounting
Accounting is the process of identifying,measuring and communicating the economic
information of an organization to various users who need the information for decision
making.

This definition identifies various activities that make the accounting process. Thus,
accounting entails the following activities: identifying transactions and events, measuring,
recording, classifying, summarising, analyzing, interpreting and communicating.

Now, let us briefly look at each of these activities:

1. Identifying the transactions and events: Accounting identifies transactions and

events of a specific entity. A transaction is an exchange in which each participant
receives or scarifies value (for example sale of goods for cash or on credit). It
involves exchange of goods and services on cash or credit basis. An event is a
happening of consequence to an entity (eg. Use of raw material for production.)
2. Measuring the identified and events: It involves the measurement of transactions and
events in monetary terms.
3. Recording: It is concerned with recording of transactions and events in orderly
manner in books of original entry.
4. Classifying: It is concerned with grouping recorded transactions of similar type at one
place so as to be most useful to the business. This activity is performed by
maintaining the ledger in which different accounts are opened. All related
transactions are brought to one place by posting. For example, all sales of goods for
or on credit on different dates are brought to sales account.
5. Summarizing: It involves the periodic preparation of financial reports or statements
such as Income Statement and Statement of Financial Position popularly known as
Balance Sheet.
6. Analysing: This is concerned with establishment of relationship between the various
items or group of items taken from either Income Statement or Statement of
Financial Position or both. The purpose of analysis is to identify the financial
strengths and weaknesses of the business. It provides the basis for interpretation.
7. Interpreting: It is concerned with explaining the meaning and significance of the
results produced by the analysis of financial reports or statements.
8. Communicating: This is concerned with the transmission of summarized, analysed
and interpreted information to the users to enable them to make decisions. It is
about giving information to the owners of the business or others allowed to receive
this information.

Bookkeeping
Bookkeeping is a part of accounting which is concerned with the recording of business
transactions on a day to day basis or maintenance of books of accounts. The nature of a
bookkeeper's work is clerical and may be done using mechanical or electronic equipment. It
only covers the first four activities of the accounting process.
Comparison between Bookkeeping and
Accounting
Having seen the relationship between bookkeeping and accounting, let us now look at their
differences.

Bookkeeping and accounting differ in the following aspects:

(a) Scope: Bookkeeping covers the first four activities of the accounting process while
accounting, in addition to bookkeeping covers the last four activities of the process

(b) Stage: Bookkeeping is the primary stage whereas accounting is the secondary stage.
Accounting starts where bookkeeping ends.

(c) Basic objective:The basic objective of bookkeeping is to maintain systematic records of

financial transactions while the basic objective of accounting is to prepare financial reports
and statements based on the records as well as analysing and interpreting the reports.

(d) Nature of job: The job of a bookkeeper is usually routine and clerical in nature while the
job of an accountant is analytical in nature.

(e) Knowledge level: The bookkeeper is not required to have a higher level of training and
knowledge whereas the accountant is required to have a higher level of training and
knowledge than the bookkeeper

(f) Supervision and checking: The bookkeeper does not supervise and check the work of an
accountant while the accountant supervises and checks the work of a bookkeeper.

Brief History of Accounting

The most famous accounting event in history, though, was the publication of the work by
Father Luca Pacioli. Pacioli is considered by many, rightly or wrongly, to be the father of
modern accounting. If he's the father of anything, it's probably most fair to say that he is the
father of book keeping.

Users of Accounting Information

Accounting information may be classified in different ways such as on the basis of purpose
of information, on the basis of measurement criteria etc. The various types of accounting
information are as follows:

1. Accounting information relating to financial transactions and events. This includes

information about financial position, financial performance and information about the
changes in financial position which is primarily provided by statement of financial
position, income statement and statement of cash flows respectively.
2. Accounting information relating to cost of a product, operation or a function.
3. Accounting information relating to social effects of business decisions.
4. Accounting information relating to human resources
Accounting is often called as the language of business because it is the medium of
communication between a business firm and the various parties interested in its financial
activities. The users of accounting information include present and potential investors,
management, employees, lenders, suppliers, customers, and government and their
agencies.

Possible users of accounting information and their needs for information include:

1. Owners: as providers of risk capital they need information to judge prospects for their
investment and to decide whether they should hold,buy or sell their investment. They
are concerned with risk associated with and return to their investment.
2. Present and prospective lenders. They need information to assess future profitability
and liquidity of the firm and to decide whether to lend money and on what terms and
conditions. They are also interested in information to determine whether their loans
and interests attaching to them will be paid when they fall due.
3. Present and prospective suppliers. They need information to assess the
creditworthiness of the firm so as to to determine whether amount owing to them
will be paid when they are due.
4. Employees. Employees and their respective groups are interested in information the
stability of and profitability of the employers. They are also need information in order
to assess the ability of the business to pay remuneration, retirement benefits and to
provide employment opportunities.
5. Customers. Customers have an interest in information about the continuation of
business especially when they have established a long-term business relationship
with or dependent on the firm.
6. Government and their agencies. The government and its agencies have interest in
firm's accounting information regulate the activities of the firm, determine taxation
policies and as the basis of national income. It also wants to ensure that the firm
comply with laws on wage payments and employee benefits.
7. Management. Management need information to review the firm's short-term and
long-term solvency, profitability in relation to turnover, profitability in relation to
investments and to decide upon the course of action to be taken in future.

Accounting Concepts and their Application

The recording and reporting of business activities are based on certain fundamental
concepts. These concepts, principles and conventions have been developed over time to
provide general guides to recording financial transactions and preparing financial reports. In
this sub-lecture you will learn about these rules or norms that have been well accepted and
they govern the preparation and presentation of financial information.

Basic Assumptions of Accounting

The basic assumptions of accounting are like foundation pillars on which the structure of
accounting is based. The four basic assumptions are detailed below:

1. Business entity. According to this assumption, a business is treated as a separate

entity and distinct from its owners. Its books of account should records only those
transactions which belong only to the firm and should not include personal
transactions and activities of the owner. The personal resources of the proprietor(s)
will affect the accounting records of a business only when there is introduction of new
capital into the business or drawings are taken out it by them.
 2. Money measurement. Money is used as a unit of measure to record and report all
those transactions that can be measured in terms of money. In other words, the
information which can not be expressed in terms of money is not included in the
accounting records.
3. Going concern. According to this assumption the business firm is assumed to
continue in its operations for its foreseeable future unless there is evidence which
indicates otherwise. It is assumed that the firm has neither the intention nor the
necessity of liquidation or curtailing materially the scale of its operation. In this
aspect the business should continue to value all its resources at original cost.
4. Accounting period. The economic life of a business can be broken down into
periods of time, usually twelve months during which results can be measured. These
periodic intervals are usually known as accounting periods and at the end of which an
income statement and statement of financial position are prepared to show the
performance and financial position.

Basic Principles of Accounting

Basic principles of accounting are essentially the general decision rules which govern the
development of accounting techniques. These principles guide how transactions should be
recorded and reported. On the basis of the four basic assumptions of accounting, the
following basic principles of accounting have been developed: Duality principle, matching
principle, accrual, consistency principle, prudence, materiality and cost principle.

Let us look at each principle in detail:

i. Duality principle. Every transaction has two aspects and both aspects should be
recognised and recorded by the business firm that is one aspect is represented by the
assets of the business and the other by the claims against them. This duality is the basis of
double entry system (double entry system is covered in detail in lecture 2). As the name
implies, the entry made for each transaction or event is composed of two parts- one for
debit another for credit. In other words, every debit has equal amount of credit. So the total
of all debits must be equal to the total of all credits.

Let us look at this transaction to illustrate the principle of duality.

Mr Juma sold goods for cash Tshs 20,000 to Mr Jacob. In this case the two aspects of this
transaction for Mr Juma and Mr Jacob are as follows:

Dual (two) aspects for Mr Juma

1. Receipt of cash Tshs 20,000

2. Foregoing of goods of Tshs 20,000 Dual (two) aspects for Mr Jacob

1. Payment of cash Tshs 20,000

2. Receipt of goods of Tshs 20,000

ii. Matching principle. According to this principle, the expenses incurred in an accounting
period should be matched with the revenue recognised in that period. In other words, if
revenue is recognised on all goods sold during a period, cost of those goods sold should also
be charged to that period. It is wrong to recognise revenue on all sales , but charge
expenses only on such sales as are collected in cash till that period. This principle is related
to the accrual accrual principle.
iii.Accrual principle. This provides the basis of recording revenue and expenses. It say that
net profit is the difference between revenues and the expenses incurred in generating those
revenues.i. e revenues – expenses = Net profit. For a specific period it is necessary to
recognise all revenue/income earned during that period regardless of when money is
received. In the same way, all expenses incurred by the business should be included
regardless of when money is paid for them. Determining the expenses used up to obtain the
revenues is referred to as matching expenses against revenue.

iv. Consistency. This principle says that when a business once chooses a method for the
accounting treatment of an item, it is important that the same method must be consistently
from one accounting period to another, as well as within one accounting period. If for some
unavoidable reason the method has to be changed, this should be clearly stated so that
users are aware of the reason for the change.

v. Prudence (or conservatism). The principle requires that the accountant should always
exercise caution when dealing with uncertainty while, at the same time, ensuring that the
financial statements are neutral-that gains and losses are neither overstated nor
understated. It is believed that an accountant, when is faced with a choice of figures that are
both acceptable to be used in the financial statements, tends to use the figure which will
produce a smaller profits. The business firm is, therefore, encouraged to take a
conservative approach in treatment of profits and losses. In applying the principle of
prudence, accountants are will normally make sure that revenues and income are recorded
only when realized, but losses are usually anticipated.

vi. Materiality principle. This principle requires that the items or events having
insignificant economic effect or not being relevant to the user's need not to be disclosed. In
other words, only significant items should be considered when preparing financial
statements. Significant (material) items are those items whose omission or non disclosure
will result in misleading the users of those financial statements.

vii.Historical cost principle. According to this principle an asset of a business must be

recorded in the accounting records at the price paid to acquire them at the time of its
acquisition i.e original cost.

Module Summary
In this lecture you defined accounting and bookkeeping and described the relationship
between the two terms. You looked at the history of accounting and various user groups of
accounting information and the reasons for need of such information . You also looked at
accounting concepts and their application in accounting. Accounting concepts are divided
into basic assumptions and principles. Basic accounting assumptions are like foundation
pillars on which the structure of accounting is based. They form the basis for the
development of accounting principles. Basic accounting principles are general decision rules
which govern the development of accounting techniques.They give guidance on recording
and reporting of

Module 2 Notes
Introduction
This lecture introduces you to the relationship that exists between accounting equation and
the double entry system of bookkeeping. The lecture begins with the discussion of the basic
elements of the accounting equation. It then shows that total assets are equal to total
liabilities plus owner's equity at all times. The lecture will also introduce you to the
application of double entry system and principles of debit and credit before concluding on
the discussion concerning the effects of transactions on accounting equation.

Objectives
At the end of this lecture you will be able to:

(i) Describe the fundamental accounting equation and extended accounting equation.
(ii) Explain the double entry system and the principles of debit and credit
(iii) Logically analyze the effect of each transaction on the accounting equation

The Accounting Equation

The whole financial accounting is basing upon the very simple idea called accounting
equation. It can be explained by saying that, if a firm is to be set up and start trading, then it
needs resources. Let us assume that in the first place it is the owner of the business who has
supplied all the resources. This can be shown as:

Resources in the business = Resources supplied by the

owner

In accounting, terms are used to describe things. The amount of resources supplied by the
owner is called capital. The actual resources that are then in the business are called assets.
This means that accounting equation above, when the owner supplied all of the resources,
can be shown as:

Assets = Capital

Usually, however, people other than the owner have supplied some of the assets. Liability is
the name given to the amounts owing to these people for these assets. The equation now
has changed to:

Assets = Capital + Liabilities

because we
It can be seen that the two sides of the equation will have the same totals. This is are
dealing with the same thing from two different points of view. It is:
Resources: what they are = Resources: who supplied them
(Assets) (Capital + Liabilities)

It is a fact that the totals of each side will always equal one another, and that this will always
be true no matter how many transactions there may be. The actual assets, capital and
liabilities may change but the total of the assets will always equal the total of capital +
liabilities
Thus, in its simplest form, the accounting equation states that total assets equal total
liabilities. Total liabilities consist of liabilities to third parties (liabilities) and liabilities to the
owner (capital). Capital is often called the owner’s equity or net worth. When business is
profitable and the owner keeps profit in the business, it adds to owner’s equity.

Assets consist of things of value the firm utilizes in conducting business, such as land,
building, machinery, motor vehicle and stocks. Also benefits such as debts owed by
customers and the amount of money in the bank or cash are included. Liabilities consist of
money owing for goods supplied to the firm and for expenses. Also taxes, overdrafts and
loan made to the firm are included.

The Extended Accounting Equation

Owner’s equity is increased by additional capital contributions and profits, that is, excess of
revenues over expenses. It is decreased by capital withdrawals and losses, which occur
when revenues are unable to cover expenses. The expanded accounting equation can be
shown in the following formula:

Assets = Liabilities + Owner’s equity + (Revenue –

Expenses)

Double Entry System

Nature of Transaction
Earlier in this lecture we saw how various events had changed two items in the balance
sheet. Events which do result in such changes are known as transactions. A transaction is
any activity that changes the value of a firm’s assets, liabilities, or owner’s equity. Each
transaction has a dual effect on the basic accounting elements. A transaction may affect
more than two accounts in a transaction. This is called a combined entry. Withdrawal
(Drawing) is the removal of business assets for personal use by the owner. This transaction
decreases the asset taken and the value of the business. Each transaction increases or
decreases (or both) the basic elements in the accounting equation. The effect of recording a
business transaction must always leave the two sides of the accounting equation in balance.

Double Entry System:Meaning

Double entry system of bookkeeping refers to a system of accounting under which both of
the aspects (i.e. debit and credit) of every transaction are recorded in the accounts involved.
For each transaction this means that a bookkeeping entry will have to be made to show an
increase or decrease of the other item. Every debit has equal amount of credit. So the total
of all debits must be equal to the total of all credits. Two fold aspect of a transaction is called
dual aspect or duality of transaction.

Example: Ms. Gracious sold goods for cash Tshs 1000 to Ms. Joan. In this case the dual
aspect of this transaction for Ms. Gracious and Ms. Joan are as follows:
Dual aspects for Ms. Gracious Dual aspects for Ms. Joan
1. Receipt of cash Tshs 1000 1. Payment of cash Tshs 1000
2. Foregone of goods of Tshs 1000 2. Receipt of goods of Tshs 1000
This duality is the root of double entry system. The basis of this system is that the
transaction which occurs is entered in a set of accounts. The individual record of a person or
thing or an item of income or an expense is called and account

The Accounts for double entry system

Each account should be shown on a separate page. The double entry system divides each
page into two halves. The left-hand side of each page is called debit side, while the right-
hand side is called the credit side. The title of each account is written across the top of the
account at the centre. The following is an example of a page of an accounts book.

Title of account written here

Left-hand side of the page Right-hand side

This is the ‘debit’ side This is the ‘credit’ side
When an amount is entered on the left side, the account is said to be debited, and when an
amount is entered on the right side the account is said to be credited. The difference
between the total debits and total credits is the balance of the account and may be either
debit balance if the debit side exceed credit side or credit balance if the credit side exceed
debit side. When the total debits equal total credits, the account is said to have nil or zero
balance.

The word “to debit” and “to credit” should not be confused with “to increase” or “to
decrease”. Certain accounts may increase when debited and other accounts may increase
when credited. In summary, the simple rules for recording transaction under double entry
system are as follows:

Accounts To record Entry in the account

Assets An increase Debit
A decrease Credit
Liabilities An increase Credit
A decrease Debit
Capital An increase Credit
A decrease Debit
The rule above shows that assets accounts are increased when debited and decreased when
credited.

For example, on 1st January the business firm has cash balance 300,000/=. On 7th July cash of
15,000/= were used to buy office furniture. Both cash and office furniture are asset
accounts. We can entre this transaction in their respective accounts as follows:

. Cash Account

Dr.
Cr.

1 January
st
Balance 300,0007 January
th
Office furniture 15,000
 Office Furniture Account
Dr. Cr.
1 January
st
Balance 15,000

The cash account shows the opening balance on January 1 st Tshs 300,000/= on debit side.
The Tshs 15,000 used to buy office furniture is decrease in cash and entered on the credit
side. After this transaction cash will have a remaining debit balance of Tshs 285,000/=On
the other hand, this transaction resulted in an increase of Tshs 15,000/= in the office
furniture account, which had a nil balance on 1 st January. This increase is shown on the debit
side of the office furniture account. Again the rule shows that liabilities accounts are
increased when credited and decreased when debited.

For example, on January 20th, goods costing.

The Effects of Transactions on Assets and

Liabilities
Assets, liabilities and owner's equity are the basic elements of the accounting equation. Any
business transaction has to affect at least one of these elements. The accounting equation is
expressed in a financial position statement called balance sheet. It is not the first accounting
record to be made, but it is a convenient place to start to consider accounting.

The Introduction of Capital

On 1st April, 2010, E. Kalula started in business and deposited Tshs 5000,000/= into a bank
account opened specially for the business. The balance sheet would appea

E. Kalula Balance Sheet as at 1st April, 2010

Assets Capital and liabilities

Cash at bank 5,000,000Capital 5,000,000

5,000,000 5,000,000

The Purchase of an Asset by Cheque

On 3rd April, 2010, E. Kalula buy a building for Tshs 3000,000/= paying by cheque. The effect
of this transaction is that the cash at the bank is decreased and a new asset i.e. buildings,
appears.

E. Kalula Balance Sheet as at 3st April, 2010

Assets Capital and liabilities

Buildings 3,000,000Capital 5,000,000

Cash at bank 2,000, 000

5,000,000 5,000,000

The Purchase of an Asset and The Incurring

of a Liability
On 6th April, 2010, E. Kalula buys some goods for Tshs 500,000 from E. Shuma, and agrees to
pay them some time within next three. The effect of this is that a new asset, stock of goods,
is acquired, and a liability for the goods is created. A person to whom money is owed for
goods is known in accounting language as a creditor.

E. Kalula Balance Sheet as at 6th April, 2010

Assets Capital and liabilities

Buildings 3000,000Capital 5000,000

Stock of goods 500, 000Creditor 500,000

Cash at bank 2000, 000

5,500,000 5,500,000

Sale of an Asset on Credit

On 10th April, 2010 goods which had cost Tshs 100,000 were sold to H. Bandoma for the
same amount, the money to be paid later. The effect is a reduction in the stock of goods and
creation of a new asset. A person who owes the firm money is known in accounting
language as a debtor. The balance sheet now appears:

E. Kalula Balance Sheet as at 10th April, 2010

Assets Capital and liabilities

Buildings 3000,000Capital 5000,000

Stock of goods 400, 000Creditor 500,000

Debtor 100,000

Cash at bank 2000, 000

5,500,000 5,500,000

Sale of an Asset for Immediate Payment

On 13th April, 2010 goods which had cost Tshs 50,000/= were sold to M. Mwakatwila for the
same amount, Mwakatwila paying for them immediately by cheque. Here one asset, stock of
goods, is reduced, while another asset, bank is increased. The balance sheet now appears:

E. Kalula Balance Sheet as at 13th April, 2010

Assets Capital and liabilities

Buildings 3000,000Capital 5000,000

Stock of goods 350, 000Creditor 500,000

Debtor 100,000

Cash at bank 2,050, 000

5,500,000 5,500,000

Payment of Liability
On 15th April, 2010 E. Kalula pays a cheque for Tshs 200,000/= to E. Shuma in part payment
of the amount owing. The asset of bank is there fore reduced. And the liability of the creditor
is also reduced. The balance sheet now appears

E. Kalula Balance Sheet as at 15th April, 2010

Assets Capital and liabilities

Buildings 3000,000Capital 5000,000

Stock of goods 350, 000Creditor 300,000

Debtor 100,000

Cash at bank 1,850, 000

5,300,000 5,300,000

Collection of an Asset
H. Bandoma, who owed E. Kalula Tshs 100,000, makes a part payment of Tshs 75,000 by
cheque on 30th April, 2010. The effect is to reduce one asset, debtor, and to increase another
asset, bank. This results in a balance sheet as follows:

E. Kalula Balance Sheet as at 30th April, 2010

Assets Capital and liabilities

Buildings 3000,000Capital 5000,000

Stock of goods 350, 000Creditor 300,000

Debtor 25,000

Cash at bank 1,925, 000

5,300,000 5,300,000

Quality of the Accounting Equation

It can be seen that every transaction has affected two items. Sometimes it has changed two
assets by reducing one and increasing the other. Other times it has reacted differently. A
summary of the effect of transactions upon assets, liabilities and capital is shown below:

Example of transaction Effect

1.Buy goods on credit Increase assets Increase
liability
(Stock of goods) (Creditor)
2.Buy goods by cheque Increase assets Decrease assets
(Stock of goods) (Bank)
 3.Pay creditor by cheque Decrease assets Decrease liability
(Bank) (Creditor)
4.Owner pays more capital into the bank Increase assets Increase capital
(Bank)
5.Owner takes money out of the Decrease assets Decrease capital
business bank account for his own use (Stock of goods)

6.Owner pays creditor from private Decrease liability Increase capital

money outside the firm. (Creditor)

Each transaction has, therefore, maintained the same total for assets as that of capita plus
liabilities.

This can be shown:

No. of transaction Assets Capital and Effect on balance sheet totals

as above liabilities
1. + + Each side added to equally
2 + A plus and a minus both on the assets side
- cancelling out each other
3 - - Each side has equal deductions
4 + + Each side has equal additions
5 - - Each side has equal deductions
6 - A plus and a minus both on the liability
+ side cancelling out each other

Module 3 notes.

Introduction
Objectives

At the end of this lecture you will be able to

1. Define the accounting cycle and identify the steps involved in the accounting cycle

2. Identify source documents and the books of original entry

3. Explain the purpose and uses of journals

4. Prepare journal entries of different transactions

The Accounting cycle

Meaning of Accounting Cycle

Accounting cycle consists of an art of recording, classifying, and summarizing accounting

information. Recording refers to all transactions that should be recorded in the journal or books
of original entry known as subsidiary books as and when they take place. The act of posting all
entries in the journal of books of original entry to the appropriate ledger accounts so as to find
out at a glance the total effect of all such transactions in a particular account is known as
classifying. The last stage is to prepare the trial balance and final accounts with a view to
ascertaining the profit or loss made during a trading period and the financial position of the
business of a particular date. This is what we call summarizing.

Thus, accounting cycle refers to a complete sequence of accounting procedures which are
required to be repeated in the same order during each accounting period. An accounting period is
a segment in time in which financial statements are prepared in order to know the performance of
the business firm during that period. The length of each accounting period depends on the nature
of the business. It may be monthly, quarterly, semi-annually or annually. It may be a calendar or
a fiscal year.

Steps in the Accounting Cycle

There are several steps which usually followed in the accounting process within an accounting
period. The successive steps which consist one accounting cycle are as follows:

Journalising

The act of recording transactions in journal is called journalising. The original information to be
recorded is to be found in source documents. Source documents include sales and purchases
invoices, debit and credit notes for returns, bank paying-in slips and cheque counterfoils, receipt
for cash paid out and received and correspondence containing other financial information. One
common characteristic with these documents is that; they originated from outside parties, and
constitute evidence of transactions with outsiders.

From source documents the ‘dual effect’ of each transaction is analysed and recorded in
chronological order in the books of prime entry or journals. Entries in the journals are prepared
on the basis of information available from the supporting documents; for example a sales invoice
supports an entry in the sales journal.

Posting

This is the process of transferring the debit and credit entries from the journals to respective
accounts in the ledger. The journals include sales and purchases journals, returns inwards and
outwards journals, general journal and the cashbooks.

Preparing a Trial Balance

In this step an arithmetical accuracy of double entry accounts is checking. A list of the balances
of all accounts in the ledger are prepared at a particular date in order to check the equality of
debit and credit balances and to provide a summary of the data from the ledger. Furthermore, at
the end of period adjustments are journalized and posted to update accounts, and an adjusted trial
balance is prepared afterwards.

Preparing Financial Statements

Usually, an income statement to determine profit or loss; and the balance sheet to ascertain
financial position; are prepared from the adjusted trial balance. The use of work sheet facilitates
the preparation of the financial statements.

Closing Entries

Entries to close the revenue and expense accounts are journalized and posted. These entries close
the balance of these accounts. The whole cycle can be seen in the diagram as follows:

Transactions, Source Documents and Books of Original Entry

Transactions

A transaction is an event that causes a change in the assets, liabilities or owner’s equity of a
business or organization. That event may be somebody buying goods, selling land, paying rent or
processing materials so as to increase their value. There are two broad categories of transactions;
namely external transactions and internal transactions. External transactions are those between
the business entity and another entity while internal transactions are those occurring within the
business entity, such as the finishing goods in manufacturing factory or transfer of costs within
the organization.

Source Documents and Books of Original Entry

Though the principle of journalising all transactions of bookkeeping is quite perfect in small
business but in a large business it is found inconvenient to journalise every transaction and
sometime it becomes rather impossible for one man to journalise numerous transactions on a
business in one journal. Therefore, the journal is sub-divided into different journals known as the
subsidiary books or books of prime entry or books of original entry. These are the books in
which are recorded the details of transactions as they take place from day to day, in a classified
manner.

In every trading concern, the transactions, however numerous they may be, can be grouped into
small number of classes. They consist essentially of receipts and payments of cash, purchases
and sales of goods, returns of goods purchased and sold bills receivable and bills payable. The
journal is divided in such a way that a separate book is used for each class of transactions.

The important subsidiary books used in modern business world are the following:-

Cash Book: It is used to record all cheques and cash receipts and payments.

Purchases Book: It is used to record all credit purchases. This book is also known as Purchases
Journal

Sales Book: It is used to record all credit sales. This book is also known as Sales Journal

Purchases returns book: It is used to record all goods returned by us to our suppliers. This
book is also known as Return outwards journal

Sales Returns Book: It is used to record all goods returned to us by our customers. This book
is also known as Return inwards journal

General Journal: It is used for recording those transactions for which there is no separate
book. This journal is also known as Journal Proper

All these subsidiary books are called books of original entry, as transactions in their original
form are entered therein. The advantages of having several books of original entry in place of
one journal may be stated to as follows:

Journal shows the complete story of a transaction in one entry.

There is a minimal chance of any transaction to be omitted from the books of account since each
transaction is recorded as soon as it takes place.
It may be impossible to record each transaction into the ledger as it occurs. Subsidiary books
record the details of the transactions and therefore, help the ledger to become tidy and brief.

As similar transactions are recorded together in the same book, future reference to any of them
becomes easy.

Any mistake in the ledger can be easily detected with the help of journal.

The chance of fraudulent alteration in an account is reduced as the book of original entry keeps
records of the transactions in a chronological order.

The work of posting can be entrusted to several clerks at the same time and thus the ledger of a
large business can be written up much more quickly.

As each journal contains separately transactions of similar nature any desired analysis can be
made conveniently.

Jornals and their main uses

The word "journal" has been derived from the French word "jour". Jour means day. So journal
means daily. Transactions are recorded daily in journal and hence it has been named so. It is a
book of original entry to record chronologically (i.e. in order of date) and in detail the various
transactions of business firm. It is also known ‘day book’ because it contains the account of
every day's transactions. Journal has the following features:

Journal is the first successful step of the double entry system. A transaction is recorded first of all
in the journal. So the journal is called the book of original entry.

A transaction is recorded on the same day it takes place. So, journal is called Day Book.

Transactions are recorded chronologically, So, journal is called chronological book

For each transaction the names of the two concerned accounts indicating which is debited and
which is credited, are clearly written in two consecutive lines. This makes ledger-posting easy.
That is why journal is called "Assistant to Ledger" or "subsidiary book"

Narration is written below each entry.

The amount is written in the last two columns - debit amount in debit column and credit amount
in credit column.

Format and Entries of Journal

The primary function of journals is to serve as a formal connecting link between the source
document of a transaction and appropriate ledger accounts. While recording transactions in
journal the following two objects must be aimed at:

That each entry in the journal should be so clear that at any future time we may, without the aid
of memory, perceive the exact nature of the transactions.

That each transaction should be so classified that we may easily obtain the aggregate effect of
such transactions at the end of a certain period.

The process of recording transaction in a journal is called journalizing. An entry made in the
journal is called a journal entry. A general journal/journal proper is the simplest form of journal
which uses two column format. In small business organizations a general journal may serve the
purpose of recording all accounting transactions. The format of a journal is shown as follows

Date Particulars L.F.

Dr. Amount Cr. Amount

(1) (2) (3)

Column (1) is meant for writing the date of the transaction. The year and month is written once,
till they change.

Column (2) is used for recording the names of the two accounts affected by transactions. Under
this column, first the names of the accounts to be debited, then the names of accounts to be
credited and lastly the narration are entered. Narration of an entry is the details (brief explanation
of the transaction) lay out in the form of a remark at the end of each journal entry.

Column (3) is meant for noting the number of the page of the ledger on which the particular
account appears in that book. This column is left blank at the time of journalizing and is filled in
only when the posting is done from the journal to the ledger.

Column (4) shows the amount to be debited to the account named

Column (5) shows the amount to be credited to the account stated

Steps in Journaling
The act of recording transactions in journal is called journalizing. The various steps to be
followed in journalizing business transactions are given below:

Step 1: Ascertain what accounts are are involved?

Step 2: Ascertain what is the nature of the accounts involved?

Step 3: Ascertain which rule of debit and credit is applicable for each of the accounts
involved?

Step 4: Ascertain which account is to be debited and which is to be credited?

Step 5: Record the date of transaction in the date ‘column’.

Step 6: Write the name of the account to be debited very close to the left hand side (i.e.
the line demarcating the ‘Date column’ and the ‘Particulars column’) along with the abbreviation
‘Dr’ on the same line against the name of the account in the ‘Particulars column’ and the amount
to be debited in the ‘Debit amount column’ against the name of the account.

Step 7: Write the name of the account to be credited in the next line preceded by the
word ‘To’ at few spaces towards right in the ‘Particulars column’ and the amount to be credited
in the ‘Credit amount column’ against the name of the account.

Step 8: Write ‘Narration’ within brackets in the next line in the ‘Particulars Column’.

Step 9: Draw a line across the entire ‘Particulars column’ to separate one journal entry
from the other.

Journal Entry Illustration

Example 1:

On first January, 2010 Dangalila started business with capital of Tshs 20,000,000 and his
transactions of the month were as follows:

Jan.2 Purchased building for cash 8,000,000

Jan.8 Purchased goods from C 1,000,000

Jan.15 Sold goods for cash 500,000

Jan.20 Goods returned to C 100,000

Jan.22 Sold goods to R 400,000

Jan.25 R returned goods 25,000

Jan.31 Salaries paid for the month 200,000

Jan.31 Rent paid for the month 150,000

Record these transactions in the journal

Solution:

General Journal of Dangalila

Date Particulars Debit

Credit

Jan. 1 Cash Account 20,000,000

To Capital
Account
20,000,000

(Capital introduced)

Jan 2. Building Account 8,000,0000

To cash Account
8,000,000

(Purchase of a building for cash)

Jan 8 Purchases Account 1,000,000

Cash
Account
1,000,000

(Goods purchased for cash)

Jan. 15 Cash Account 500,000

Sales Account
500,000
 (Goods sold for cash)

Jan 20 C's Account 100,000

Purchases Return Account

100,000

(Goods returned to C)

Jan 22 R's Account 400,000

Sales
Account
400,000

(Sale of Goods to R)

Jan 25 Sales returns Account 25,000

R's
Account
25,000

(Return of goods by R)

Jan 31 Salaries Account

200,000

Cash
Account
200,000

(Salaries paid)

Jan 31 Rent Account

150,000

Cash Account
150,000

(Rent paid in cash)

On first April 2019 Mang'ana started business with a capital of Tshs. 15,000 and her transactions
of the month were as follows:
April 2 Purchased machinery for Tshs 7,000.

April 3 Bought furniture from S Tshs 300.

April 7 Purchased goods for cash Tshs 2,500

April 8 Sold goods to R & Sons Tshs 1,500

April 10 Bought goods from B, Tshs 1,000 and from C Tshs 2,000

April 12 Received cash from R & Sons Tshs 1,450, allowed him discount of Tshs 50.

April 15 Paid B cash Tshs 975, discount received Tshs 25.

April 16 Returned goods to C Tshs 500

April 17 Sold goods to H.Mateka Tshs 800

April 20 Goods returned by H.Mateka Tshs. 200

April 21 Purchased from Kulwa goods of the list price of Tshs 600 subject to a 10 percent trade
discount.

April 22 Paid C cash Tshs 1,500

April 25 Gave away a charity cash Tshs 50 and goods worth Tshs 30.

April 27 Distributed goods worth Tshs 200 as free samples and goods taken away by the
proprietor for personal use Tshs 100

April 28 Amount withdrawn by the proprietor for private use Tshs 200

April 31 Salaries paid for the month Tshs 500

Record these transactions in the journal

Solution:

General Journal of Mang'ana

Date Particulars L.F Debit Credit

April 1 Cash Account ...Dr. 15,000

 To Capital Account 15,000

(Capital introduced)

DR.

April 2 Machinery Account 7,000

CR.

To Cash Account 7,000

(Machinery purchased)

April 3 Purchase Account 2,500

To Cash Account 2,500

(Goods purchased for cash C)

April 7 Purchases Account 3,000

To Cash Account 3,000

(Goods purchased for cash)

DR.

April 8 R & Sons 1,500

CR.

To Sales Account 1,500

(Goods sold on credit)

DR.

April 10 Purchases Account 3,000

CR.

To B 1,000
 CR

To C 2,00

(Goods purchased on credit)

DR.

Cash Account 1,450

April 12
DR.

Discount 50

DR.

To R & Sons 1,500

(Cash received and discount allowed)

April 15 B 1,000

To Cash Account 975

To Discount account 25

(Salaries paid)

DR.

April 16 C 500

CR.

To Purchases Return Account 500

(Goods returned to C)

April 17 H. Mateka DR.

 800

CR.

To Sales Account 800

(Goods sold on credit)

DR.

April 20 Sales Returns Account 200

CR.

To H.Mateka 200

(Goods returned by him)

DR.

April 21 Purchases Account 540

CR.

To Kulwa 540

(Goods purchased on credit)

DR.

April 22 C 1,500

CR.

To Cash Account 1,500

(Cash paid to C)

DR.

April 25 Charity Account 80

CR.

To Cash Account 50

To Purchases Account CR.

 30

(Cash and goods given in charity)

DR.

April 27 Free samples Account 200

DR.

Drawings Account 100

CR.

To Purchases Account 300

(Goods distributed free and taken by the proprietor

for private use)

DR.

April 28 Drawings Account 200

CR.

To Cash 200

(Cash drawn by the proprietor)

DR.

April 31 Salaries Account 500

CR.

To Cash Account 500

(Salaries paid in cash)