Introduction to Financial Accounting
Financial accounting involves collecting, recording, analysing and presenting financial information to different users. Details or particulars of financial transactions are first collected in documents known as source documents, e.g. cheques, invoices, receipts, vouchers, deposit slips, debit notes and credit notes. Source documents provide evidence that financial transactions actually took place and enable auditors to trace transactions when verifying the correctness of accounting transactions. A typical source document would show the date of the transaction, the amount involved, a brief description and the signature of the approving official.
The pieces of information gathered through the source documents are subsequently recorded in the books of accounts namely, the subsidiary books and the ledger. The subsidiary books, also known as the books of original/prime entry, are where transactions are first recorded on a daily basis from source documents. Thereafter, they are transferred to the ledger. The ledger is a book that contains accounts that are periodically prepared by the business. It is the principal book of account. The periodic transfer to the ledger from the subsidiary books ensures that ledger accounts do not have too many entries.
The subsidiary books
Each subsidiary book records a particular type of transactions before being posted to the appropriate ledger account. The subsidiary books are called journals or day books. Sales Day Book (Sales Journal) records credit sales; Purchases Day Book (Purchases Journal) is for listing goods bought on credit; Returns Inwards Day Book (Returns Inwards Journal or Sales Returns Day Book) records goods returned by customers; Returns Outwards Day Book (Returns Outwards Journal or Purchases Returns Day Book) is for recording the return of goods to the suppliers of the business; the Cash Book (Cash Journal) is for recording receipts and payments made in cash; the Journal Proper (General Journal) is for other transactions that cannot be recorded in all the other journals.
The ledger is a book that comprises the accounts kept by a business. A single ledger may be inappropriate for a large organisation with voluminous transactions. The different types of ledger maintained by a business are: purchases ledger, sales ledger and general ledger. The purchases/creditors’ ledger contains the accounts of credit suppliers or trade creditors; the sales or debtors’ ledger contains accounts of credit customers or trade debtors. The general or nominal ledger contains other accounts apart from the accounts of trade creditors and trade debtors, i.e. impersonal accounts.
An account is a record of a particular type of transaction. An account is divided into two halves; the left-hand side is the debit (or receiving) side while the right-hand side is the credit (or giving) side. Each account has a name or title. And each half has columns for date, particulars and amount. There are two categories of accounts, namely personal and impersonal accounts.
Debit Name of account Credit
Personal accounts are accounts of persons, natural or corporate, that transact business with the organisation, e.g. debtors’ accounts, creditors’ accounts, owner’s capital account and bank account.
Impersonal accounts are for non-persons, e,g, assets, income, revenue and expenses. These are subdivided into real and nominal accounts. Real accounts are accounts for assets (what the business owns) e.g. machinery, motor vehicles. buildings, furniture and fittings, stocks, etc. Nominal accounts are accounts of revenue, expenses and income.