CHAPTER 5: DOUBLE ENTRY BOOKKEEPING FOR A SERVICE PROVIDER

ACCOUNTING CYCLE
First four steps in an Accounting Cycle:

OFFICIAL RECEIPT
GENERAL JOURNAL GENERAL LEDGER TRIAL BALANCE
(record) (post) (prepare)
CHECK VOUCHER

1st: collecting data based on various documents

2nd: analyzing and recording these documents
3rd: classifying and posting from the journal to another book
4th: extracting balances of each of the accounts found in the ledger and prepare trial balance

BUSINESS PAPERS
Invoice – is issued when services or merchandise is given to a customer or client.
Official Receipt – is issued when cash is received by the entity.
Cash or Check Voucher – is a document used when cash is paid pr a check is issued.
Check – is a negotiable instrument used as a substitute for cash, the payment for which is drawn
against the entity's or individual's current account.
Promissory Note –is a written promise to pay a certain sum of money at a future date. The maker is
the debtor who makes the promise, addressing it to the payee or creditor.
A Statement of Account –is a bill presented to a customer for service rendered or merchandise given
for which payment is demandable.

THE CHART OF ACCOUNTS

Account – this is a device used to record the increases and decreases affecting each of the different
assets, liabilities, and owners' equity.
Chart of Accounts –is a listing of account titles which guides the bookkeeper in the recording of the
transactions. (The number and the nature of accounts depend on the type of business operation.)

THE T ACCOUNT
T account –is the simplest tool used to analyze the effects of the transactions on each account, hence
it has two sides: one side for recording increases and the other side for recording decreases.
⁃ its shape comes from the letter T, hence it is called a T account
⁃ used by accountants to analyze transactions and immediately determine balances of
accounts.
Debit side – the left part of the T account
Credit side –the right part of the T account

THE VENETIAN MODEL

Double Entry Bookkeeping System or Venetian Model
⁃ Was introduced by Luca Pacioli
⁃ The transactions must always affect two accounts and at least one or two accounting
elements.

Account balance –the difference between the debit total and the credit total
Debit balance –if the debit total is higher than the credit total
Credit balance –if the credit total is higher than the debit total

THE LEDGER
General ledger
–also called the book of final entry
– a formal book of accounts which is used in actual practice wherein a separate page is maintained
for each account. Each page is called a ledger.

Three Column General Ledger - there are three money columns involved
Two Column General Ledger - a ledger format where there are only two money columns, one for the
debit postings and another for the credit postings.
THE JOURNAL
The transactions are initially recorded in the journal which is also called the book of original entry

Two-column general journal - simplest form of journal

Journalization - the process of recording in this book
Journal entry - is called to every entry made
Simple journal entry - a journal entry with one debit and one credit
Compound journal entry - an entry has more than one debit or more than one credit

POSTING TO THE LEDGER

Posting - the process of transferring the debits and credits from the journal to the ledger
Cross reference - facilitates the tracing of an entry to and from the journal and ledger

TRIAL BALANCE
Trial balance - is a list of accounts with ledger balances

LOCATING ERRORS
If the difference is divisible by 9 or a multiple of 9, the error probably is in transposition. Or an error in
transplacement, that is the decimal point is misplaced.

SUBSIDIARY LEDGERS AND CONTROL ACCOUNTS

The accounts receivable and accounts payable in the general ledger are called control accounts.

An individual record is kept for each one of them called subsidiary ledger or customer's card and
creditor's card. This is where details of their accounts are entered.
 CHAPTER 6: PAYROLL ACCOUNTING AND OTHER SELECTED TRANSACTIONS
PAYROLL
Payroll - Represents compensation paid to employees and workers

Employees are paid salaries based on a monthly or semi-monthly rate

Workers are paid wages based on a daily, hourly or piece rate.

Payroll accounting - Involves maintaining records of its employees and workers where their personal
data and work experience, among others, are noted.

Bureau of Internal Revenue (BIR) - The government agency tasked to collect different taxes from all
the earners.

Payroll sheet - Is a tabular form prepared by the Accounting Department to determine take home pay
of employees and workers.

DEDUCTIONS FROM THE GROSS PAY

Income Tax
- Based on earnings made, every employee or worker is required to pay taxes to the government.
- The amount withheld from their salaries/wages is based on the taxable income computed using
a tax table and a list of exemptions provided by the BIR which was just recently amended by
the TAX REFORM FOR ACCELERATION AND INCLUSION OR TRAIN.
SSS
- It is required that an employee or worker be a member of the Social Security System and must
make monthly contribution to the agency.
PhilHealth
- Employees or workers are required to be members of the Philippine Health Insurance and enjoy
sickness and hospitalization benefits.
HDMF / Pag-Ibig
- (Pagtutulungan sa kinabukasan: Ikaw, Bangko, Industriya at Gobyerno)
- RA 9679 also known as HDMF Law 2009 requires mandatory coverage of all employees.

How are these agencies paid?

Union Dues
- An employee or worker may be a member of a labor union and as such is also required to make
contribution to the union.
Advances
- Employees or workers are sometimes allowed to draw a cash advance against their
compensation.

CASH ON HAND AND IN BANK

Current Account
- A current or checking account is used by a business when it pays using a bank check.
Imprest system
- An internal control procedure for cash transactions.
- Under this system, all cash received are deposited intact in a bank and all cash disbursement
are made by checks, except for petty cash expenses
Savings Account
- Another bank account where a business deposits all extra cash which earns interest.

The business then uses three account titles: Cash In Bank-Current and Cash In Bank-Savings for
deposits in the bank and Cash On Hand for money in the hands of the company’s officer.

INVESTMENT OF OWNER
The owner’s investment may be in the form of a) cash, b) property or c) an already existing business.
If the investment is in the form of property, it must be recorded at its current market value.

Market value
- Represents the amount for which the asset could be sold or bought in its present condition.
Exchange Price or Cost Concept
 - States that acquired assets should be recorded at the actual price established on acquisition
date which is measured in cash or its equivalent amount.

Investment In Property With An Attached Liability

- If the owner will invest a piece of property with an attached liability to be assumed by the
business, the liability will be recognized in the books of the business and the capital account will
be credited at the net amount.

Investment of An Already Existing Business

- The rule is practically the same if the owner buys an already existing business. The assets and
liabilities must also be recorded at the current market value of the old business.

DRAWINGS OF OWNER
If the withdrawal of the owner is in the form of property, it should be recorded at its original cost or at
book value (cost less accumulated depreciation).

Book value
- Represents the unexpired cost or remaining utility value of the asset.

ACQUISITION COST OF PROPERTIES

Acquired property, plant and equipment should be recorded at its cost ( the price established in an
exchange transaction and based on Cost or Exchange Price Principle.

Incidental expenses incurred in transporting the asset to the place of the buyer such as taxes, import
duties, storage, insurance while in transit and freight. These costs form part of the asset cost as the
acquisition of the asset would not be possible without these incidental expenses. These cash outlays
ate called capital expenditures.
Rebate – Is a discount granted for paying an account promptly.

Allowance – is a reduction on the price given to the buyer to cover up for defects or spoilage on the
asset purchased without returning the asset.

SALE OF PROPERTIES
Obsolescence - Occurs when a better model is invented or produced than what was originally
acquired.
Inadequacy - Results when the asset can no longer meet the demands of the business.

PROMISSORY NOTES
- Is a written promise made by the maker or debtor promising to pay the payee or creditor a sum
certain in money due at a fixed or determinable future in time.

INTEREST BEARING NOTE

- Is one where the maturity value is higher than its face value or principal because of the interest
charge.
CHAP 7: COMPLETING THE ACCOUNTING CYCLE FOR A SERVICE PROVIDER
TIME PERIOD ASSUMPTION
Calendar Accounting Period
– is a twelve-month period ending in December 31.
Fiscal Accounting Period
– a twelve-month period that ends on any month other that December 31.

The Accounting Cycle

During the accounting period:
1. Gather the documents.
2. Analyze and record.
3. Post to the ledger.
4. Prepare a trail balance.
End of the accounting period:
5. Prepare a worksheet for adjustments and financial statements.
6. Journalize and post the adjusting entries.
7. Prepare an adjusted trial balance.
8. Prepare financial statements.
9. Journalize and post the closing entries.
10. Prepare a post closing trial balance.
11. Journalize and post the reversing entries.

TIMING ISSUES
Note: It cannot be helped that sometimes revenues and expenses transcend more than one accounting
period.

ADJUSTING ENTRIES
– are entries prepared at the end of the accounting period to update some accounts and ensure their
accuracy before preparing the financial statements.
– bring certain account balances up to date at the end of the accounting period.

Accounts to be adjusted:
1. Accrued income – income already earned but were not collected nor recorded.
Entry:
Dr Asset or Receivable Account
Cr Income Account
2. Accrued expenses – expenses already expired (used) but were not paid nor recorded.
Entry:
Dr Expense Account
Cr Liability or Payable Account
3. Unearned income – advance collection recorded as liability, but a portion of which has already
been earned.
Entry:
a. Income Method
– an alternative method is to record the advance collection immediately with a credit to
an income account.
– unearned
Entry:
Dr Income Account
Cr Liability or Unearned Income Account
b. Liability Method
– the advance collection is credited to a liability account called Unearned or Deferred
Revenue. It is a liability of the company to render service for cash that was advanced by
the client.
Entry:
Dr Liability or Unearned Income Account
Cr Income Account
4. Prepaid expense
– advance payment recorded as an asset but a portion of which has already expired.
a. Expense Method
 – an alternative method to record the advance payment is to immediately debit it to an expense
account.
– unexpired portion.
Entry:
Dr Asset or Prepaid Expense account
Cr Expense Account

b. Asset Method
–an advance payment is recorded as an asset Prepaid Expense.
– expired portion
Entry:
Dr Expense Account
Cr Asset or Prepaid Expense account

5. Bad Debts – client account that may not be collected anymore or are doubtful of collection.
Entry:
a. Allowance Method
– provides for bad debts or doubtful accounts during the period the sale of service is
recorded.
– estimated
Entry:
Dr Bad Debts Expense
Cr Allowance for Bad Debts

b. Direct Write-Off Method

– this method recognizes bad debts expense only when it is certain that the company will
not be able to collect the account anymore.
– they can no longer be collected.
Entry:
Dr Bad Debts Expense
Cr Accounts Receivable

Allowance for Doubtful Accounts – is a contra asset account which is deducted from
the principal amount.

Net Realizable Value – is the difference between the accounts receivable and the
allowance for doubtful accounts.

Differences in the adjusting entries prepared under both methods:

1. The direct write off method recognizes bad debts only when it is certain that the account will not
be collected anymore whereas the allowance method recognizes doubtful accounts every
accounting period based on an estimate of accounts not collected as experienced in the previous
years by the entity.
2. The direct write off method credits the accounts receivable to decrease it directly while the
allowance method credits the account receivable to decrease it indirectly by using a contra asset
account which is the allowance for doubtful accounts.
3. Under allowance method, there are some other ways of estimating bad debts such as:
a) Increase the allowance by a certain percentage of revenue.
b) Increase the allowance by a certain percentage of the outstanding accounts
receivable.

6. Depreciation Expense
– recognizing part of the asset as an expense because of its decreasing utility value.
– transfer of asset cost to expense based on its declining utility value.
Entry:
Dr Depreciation Expense
Cr Accumulated Depreciation

Asset Cost – Accumulated Depreciation = Net Book Value

 Cost – Scrap Value (if any)
-------------------------------------- = Depreciation
Estimated Useful life

Accumulated Depreciation – decrease in the cost of asset.

Book Value – the difference between the cost and the accumulated depreciation, represents
the unexpired cost or the net utility value of the asset.

ACCRUAL PRINCIPLE
Cash basis – if the business rendered service to a client in 2017 but cash was collected only in 2018,
the service income will be recognized in 2018.

Accrual basis – income is recognized as earned at the time service is rendered and this is recorded
regarded of when is cash collected. Or the Matching Principle.

Market Value – is the realizable value if the asset is to be sold. Depreciation is not an adjustment for
market value.

WORKSHEET
– is needed to gather and “workout” the adjustments.
– is a columnar paper where the first two columns are provided for the trial balance, which is the starting
point of the preparation of the financial statements. The next two columns are for the adjustments from
which adjusted balances are determined. From the adjusted balances, the income statement and
statement of financial position are prepared.

Note: The Folio (F) column identifies the adjusting entries (AE) with reference numbers copied from
the worksheet.
CHAPTER 8: FINANCIAL STATEMENT PRESENTATION, CLOSIG THE BOOKS AND FINANCIAL
ANALYSIS
Income Statement – provides information regarding the financial performance of the business or its
profitability which is important as this will enhance the resources of the business.

Statement of Changes in Owner’s Equity – shows the changes in the interest of the owner(s) for a
sole-proprietor owned business, partners in a partnership and shareholders in a corporation.

Statement of Financial Position – lists down the economic resources being controlled by the firm,
and from which liquidity and solvency are determined.

Statement of Cash Flow – shows how cash was affected by the operating, investing and financing
activities of the business. It also helps to assess the ability of the business to generate or manage cash
of the entity and ensures adequacy of cash through proper timing between inflows and outflows of cash.

LIMITATIONS OF THE FINANCIAL STATEMENTS

1. The information contained herein are largely financial in nature.
2. They do not contain non-financial information such as competitiveness of the enterprise,
products, company’s leading market position, or that the head of the enterprise is a genius which
may be relevant and ma influence stakeholder’s decisions.

INTEGRITY OF THE FINANIAL STATEMENTS

Financial statements are prepared by a person who:
1. Has competence
2. Judgment
3. Ethical behavior

Certified Public Accountant – audited the reports and certifies the fairness of its presentation.

Fairness – means the financial statements are reliable, complete and in accordance with generally
accepted accounting principles.

INCOME STATEMENT
– also known as the result of operation of an entity.
– is a summary of income earned and expenses incurred for a certain period of time.
– is usually presented first to enable one to determine the profit which is needed to be able to prepare
the capital statement.

Income may be divided into two:

1. Regular or Operating Income
2. Other Income

Two presentation forms for cost and expenses:

1. Based on nature
2. Based on function

Nature of Expense – presents the expenses according to their nature: depreciation, advertising,
transportation, employee benefits. This is normally used for a simple business such as that of a service
provider.

Function of Expense – presents the expenses according to its function or use: cost of sales,
distribution cost, administrative cost and financial cost, to name a few.

 The International Accounting Standards states that as a minimum, the face of the income
statement should include only line items. It means that items that are more or less similar in
economic characteristics should be aggregated in the face of the report and disaggregated
in the supporting note to the financial statement.

STATEMENT OF CHANGES IN OWNER’S EQUITY – this statement lists in detail the assets and
liabilities of the business and shows the residual interest of the owner as of a specific date.
TWO FORMS:
1. Account Form
2. Report Form

CURRENT AND NON-CURRENT CLASSIFICATION

Current Assets – includes cash and cash equivalents which are not restricted in use, as well as other
assets expected to be realized into cash, or sold or consumed within the normal operating cycle of the
business or one year, whichever is longer.
a. Cash – includes currencies or coins negotiable instruments such as a bank check or a postal
money order used as a medium of exchange.
1. Cash on Hand – for cash items in the custody of the officer-in-charge or the owner.
2. Cash in Bank – for cash deposited in the bank under a current or savings account.
3. Cash Equivalents – are short term, highly liquid investments such as a three-month time
deposit or a three-month government treasury bill.
b. Marketable Securities – these are highly traded securities such as the stocks and bonds
purchased by the enterprise that are to held for a short tem duration.
c. Receivables – these are collectibles from customers, clients and other persons for the
goods, services or money given by the business.
d. Other Receivable are:
1. Interest Receivable – when interest is collectible on promissory notes received from
clients and customers.
2. Rent Receivable – from rent collectible from tenants.
3. Dividends Receivable – is a dividend collectible by a shareholder from a corporation.
e. Merchandise Inventory – is an account title used to represent the stock of goods available
for sale by the business. This is applicable only for a merchandising business.
f. Prepaid Expenses – these represent advance payments made for benefits or services to be
received by the business in the future.
g. CONTRA ASSET ACCOUNTS:
1. Allowance for Bad Debts – represents the customers’ accounts doubtful of collection.

Non-current Assets – are those assets not included as currents assets such as the long term
investments, property, plant and equipment and intangibles.
a. Land – lot or real estate owned and used by the business on which a building could be
constructed.
b. Building – structure used to house the office, store or factory.
c. Equipment – typewriter, air conditioner, calculator, filing cabinet. Computer, electric fan,
trucks, cars used in the business.
d. Furniture and Fixtures – tables, chairs, curtains, lighting fixtures and wall décors.
e. Leasehold or Lease Right – for a fee, lessee is given the right to use the property of a lessor
over a long period of time.
f. Accumulated Depreciation – contra asset or off-set account representing expired cost of
the plant, property or equipment as a result of usage and passage of time.

Current Liabilities – are those debts or obligations reasonably expected to be liquidated in the normal
course of the enterprise’s operating cycle or paid within a period of one year by the use of current
assets or the creation of other current liabilities.
a. Accounts Payable – to trade creditors for purchase of goods or services on credit supported
by the oral or implied promise of the business.
b. Loan Payable – is a liability to pay a bank or a financing institution for amount of money
borrowed by the business.
c. Utilities Payable – is a liability to pay utility companies from the services received from them.
d. Other Payables:
1. Interest Payable – represents additional charge and obligation to pay for interest-bearing
promissory notes issued by the business.
2. Salaries Payable – represents obligation to pay employees for services received from
them.
3. Taxes Payable – obligations due to the government.

Non-current Liabilities
a. Note Payable – which is issued to the creditor and evidenced by a promissory note.
b. Mortgage Payable – is an obligation secured by the real property of the business.
 c. Bond Payable – is a long term promise usually from five to ten or twenty years supported by
a formal contract containing the face value of the bond, the interest rate, the interest payment
date and maturity date.

ADEQUATE DISCLOSURES – this principle requires inclusion of significant information that will help
enhance the firm’s financial statements. It also means that the users are informed of additional facts
that will aid them in properly interpreting the financial statements.

STATEMENT OF CASH FLOWS

– How was cash obtained by the business?
– How was cash spent?
– What caused the increase and decrease in cash?
a. It will enlighten you on how cash is being managed.
b. Cash flows are vital to the financial health of the business.
c. Some business fail because of its inability to maintain a proper balance between receipts
and disbursements.

CLOSING ENTRIES
Closing the books means bringing the temporary or nominal accounts to zero balance by
transferring them to the capital account or owner’s equity.

Income Summary – is an account used to close the nominal values and bring them to the capital
account.

POST CLOSING TRIAL BALANCE

– is prepared after closing the books and contains only real accounts with balances.

OPENING ENTRY – to bring forward the accounts with balances to the next accounting period an
opening entry should be prepared based on the post closing trial balance.

REVERSING ENTRIES – these are the opposite of adjusting entries and are prepared on the first day
of the succeeding reporting period.

COMPARATIVE FINANCIAL STATEMENTS

Intracomparability – presenting side by side the data made between two companies.
Intercomparabiltiy – the comparison may also be made between two companies.

LIQUIDITY – is the ability of the business to pay for its short-term obligations.

SOLVENCY – is a long term liquidity and is measured based on ability of the business to pay for long
term obligations.