Basic Accounting Concepts Ppt

A tutorial to help you understand the bookkeeping/accounting concepts of Debits and CreditsFollow onMost people don’t find the math of Accounting as difficult as understanding the concepts of accounting, and for many there is no more difficult concept to grasp than that of Debits and Credits. Now the concept of Debits and Credits is actually more than 500 years old, being used extensively by the Venetian merchants of Italy in the 15th century Renaissance period. The concepts were first documented in Latin in the 1400’s and were later translated into English in the 16th century. Is it any wonder then, with the passage 500 years, that we may have become a little confused about the original meaning and concepts, particularly with the English language adopting new legal and everyday meanings for these age old words. So it may be beneficial then, as we try to understand the concept of Debits and Credits, to go back to where it all begun but first some background. Well the answer is one that is fundamental to the accounting system.

Each firm records financial transactions from their own perspective. So, think about the bank’s perspective for a moment  how do they view the money you have just deposited? Whose money is it?

That’s right it is yours! So your deposit is treated, from the bank’s perspective, as a liability (money owed by the bank to others). When you deposit money into your account, THEIR liability increases which is why (using Table 1) they credit your account.

In more primitive trading times, bookkeeping was not such a big issue because the person who manufactured or produced the goods was usually the person selling or trading the goods in the market place. However, the saw a huge increase in both trade and banking systems brought about by the Roman-built transport systems and the growth of more sophisticated societies like those in Italy (particularly Venice). So, the merchants of in the 1400’s, developed an accounting system to accurately record these more complex financial dealings that were prevalent of the time. Using his native Latin, Luca named the act of entrusting – ‘ Credre’ (which means ‘to entrust’) and the corresponding obligation on the firm – ‘Debere’ (which means ‘to owe’). So, from the point of view of the firm, he could see that this principle of duality held true for every financial transaction entered into by the firm. For him, it was not just a formula but an aspect of existence where one side could not exist without the other. In a closed system, every ‘ Debere’ must have a corresponding ‘Credre’ and vice versa.

In other words, ‘Debere’ and ‘Credre’ were two sides of the same coin. (In finance – when someone ‘entrusts’ money then someone else ends up ‘owing’ it’). In simple terms, the legal system defines an entity as a person or non-person that is capable of suing or being sued under the laws of the land. In most countries of the world, companies are given this ‘non-person’ entity status and are given the same rights and obligations of individual persons. Accounting takes this concept a step further by stating that every firm (including sole traders and partnerships), creates its own ‘accounting entity’ and that the income and net worth of each entity must be calculated based on its own financial transactions. A firm, while it has ‘legal’ control over items of value, it is not the ultimate owner of those things.

Basic Accounting Concepts Ppt

In other words, if the firm sold everything it had, it would be obliged to distribute all those monies to meet the claims made by other people or entities. The firms first obligation is to pay the claims made by external people (i.e.

Loans and creditors) with the balance being given to meet the claims made by the owner(s). The business would then return to how it all began, as a blank sheet without obligations or the control of any items of value. While this a not a strict accounting concept, it is an important one to understand when getting the right perspective on financial transactions. Just like one person can be a parent, sibling, cousin or an offspring, so too a person can be an investor in a firm, a creditor/debtor of a firm, the manager of a firm or a director of a company that controls the operations of a firm.

The important thing to remember is, that in accounting the financial transactions are always analysed and recorded from the firm’s point of view with you as the manager (not owner). As understood from Concept 2, the firm does not really own anything, from an accounting perspective. It may have legal rights of ‘ownership’ or control, but fundamentally in accounting terms it is an accounting entity set up by the owners to manage their affairs.

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So, when a firm makes a profit it does so for the owner’s benefit, not for the firm’s. Remember, if everything was sold off the firm would be left with nothing because everything of value would be used to first pay off liabilities with the remainder going to the owners.

Luca realized that the firm had been involved in its second financial transaction and again noted the following from the firm’s point of view:. One source of economic resources was the bank who the firm now owed $20,000 in the form of a loan – Credit (Cr) Bank loanand. Another source of economic resources was the $30,000 from the owner Antonio who the firm treated as a separated entity to itself – Credit (Cr) Capitaland. The destination of the economic resources sourced from the bank and the owner was a ship that was purchased for $50,000 – Debit (Dr) Ship. Fifa 14 game for pc windows 7. Antonio was soon back in town after successfully completing his ‘sales trip’.

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Antonio explained that he (as manager) had sold all the olives for $200,000 and the trip had only cost $30,000 including the $1,000 interest he paid to the bank. He explained that he had paid these amounts out of the sale proceeds and that he had visited the Olive provider to repay his account. He also said that he had used $10,000 of the sales proceeds to buy furniture for his house in celebration of a successful trip. In Part 5, we explore the idea that all financial transactions could be interpreted from the point of view of the source and destination of economic resources. Having just two main questions, we are able to apply a different and more meaningful approach to determining a Debit entry into the firm’s books, or a Credit one. We have attempted to link this approach to the likely meaning that Luca Pacioli had for the terms Debits and Credits. So, apart from learning and applying the logic of the Table 1 approach to your debits and credits, you could also apply this alternative view developed from the first principles of Luca Pacioli’s work using concept that the source of economic resources in any transfer is credited and the destination of those economic resources is debited.

Peter Baskerville is a lecturer, educational resource developer and entrepreneur. He has authored courses in post graduate education in entrepreneurship for the Queensland Education Department and developed teaching resources for the Commonwealth Government’s vocational skill authority. He has lectured at Southbank Institute of Technology, private RTO’s and been a guest lecturer with indigenous organisations as well as mentoring Brisbane City Council multi-cultural scholarship winners. He hold interests in businesses operating in the hospitality and educational resource development sectors.

Hello Peter,Thank you very much for this very interesting article. I can apply the rule Source of Value = Credit and Desitination of Value = Debit to most of the financial transactions I am confronted to. However I struggle with the following case.If my company receives a sales order, ultimately, the accountant in my company credits the stock and debits the cost of goods sold. It makes sense to me that the stock is credited (because it is the source of the value). But cost of goods sold doesn’t sound to me like the “destination of the value”.

Could you kindly explain how you would apply your rule in this case (to determine that it’s cost of goods sold that has to be debited)? If I apply the rule you gave I would have thought cash or bank account would be debited (they sound more like a destination to me).Your help on this would be much appreciated.Thanks in advance,Mic. Yeah Mic the concept that all financial transactions have a source and destination of economic value explains the first principles of the debit and credit system in accounting. While it is very easy to identify this concept taking place in most financial transactions, others are less clear like the one you describe. But economic value is still being transferred from (credit) the asset account – stock on hand to (debit) the expense account – cost of good sold.

When the customer purchases the goods, economic value is transferred from (credit) the customer by way of sales to (debit) the bank account in the form of cash. Did this help? The Inventory Stock (asset–store of value) is relieved/CR, and the reason for that relief is debited, on the other side. The right side of the equation interprets DR as “reasons for spending or consuming or using” wealth/assets.That “right-reason” side interprets DR as a current benefit when it is sold (not a stored benefit); the current benefit is to allow the revenue sale in the first place. All expenses can be viewed as “current” or consumed benefits. Whereas DR on the other-LEFT side are stored or future benefits.So the CR to stock inventory is the source of the benefit that is given up to the customer.

The customer receives that value (he bought the goods!). He effectively bought the wealth DR.

But of course will be expected to give up a higher value to the entity for that privilege of the company assembling & packaging that wealth for him/her. And so, there are parallel, balanced entries reflecting the NEW value (DR) coming into the entity, giving appropriate CR to the Equity interest of the entity (sales revenue account). Is this helpful? How about this Mic.There are two economic values in play when a customer purchases goods (stock) from a business. One is the customer’s cash and the other is the business’ stock.

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Accounting concept with example

Your example only looks at one aspect of the transaction (2), being the movement in the economic value of the stock when a customer places an order to purchase that stock. At some time in the future, a second aspect (1) will take place to complete the transaction.

Cash is an Asset (an item of economic value that provides future benefit for the firm). Under the rules of double-entry bookkeeping, if an asset increases you debit the account and if it decreases you credit the account.In the original Latin (where double-entry bookkeeping was first practiced), Credit meant ‘to entrust’ and debit meant ‘to owe’. So the value of the assets is owed to the funders who entrusted money to the firm. This is represented in the Accounting equation, (Assets = Liabilities + Equity), where assets represent the use of the funds provided by the external funders (Liabilities) and the internal funders (Equity). This could be simplified to: The amount of money owed by the firm = the amount of the money entrusted by the funders or Debits = Credits.So when an asset like cash decreases, then the amount of money owed to the funders also decreases, because the accounting equation must stay in balance at all times. The way we decrease an asset in the double-entry bookkeeping system is to credit the account.

I’m guessing that you are comparing this response with what happens with a bank statement where the reverse is true (credit = cash increasing) and (debit = cash decreasing). Well the reality is that each entity (the business and the bank) records financial transactions from their own point of view. So when a business banks money into an account at the bank, the business will record the transaction as a debit in their books and the bank will record the same transaction as a credit in theirs.

This is because the transaction represents an increase in Assets for the business and therefore Debit but the money deposited represents an increase in liability for the bank (credit) because the bank views the deposit as ‘money owning back to the business’.At a macro level, these are simply the rules you need to keep the accounting formula in balance. Assets = Liabilities + Owners EquityBecause cash is an Asset you need to debit increases and credit decreases. The accounts on the other side of the equation then need to be recorded in the opposite way if the formula is to remain in balance. For liability and equity accounts you will need to credit increases and debit decreases.