5. Basic terms in Accounting

BASIC TERMS USED IN ACCOUNTING

Entity

• An entity means an economic unit which performs economic activities e.g., Bajaj Auto, Maruti, TISCO.

Account

• It is a summarized record of

• Relevant transactions at one place

• relating to a particular head. It records not only the amount of transactions.

• But also reflect the direction of the account.

Entry

• A transaction and event when recorded in the books of accounts is known as an Entry.

Transaction

• It is a financial happening entered into by two or more willing parties.

• It effects a change in the asset, liability, or net worth account.

• It is recorded first in journal and then posted into the ledger Examples of a transaction are sale of goods, purchases of goods, receipt from debtors, payment made to creditors, purchase or sale of fixed assets, payment of dividend, etc.

Proprietor

• is the person who makes the investment and bears all the risks and rewards of the business.

Debtor

• A person or firm or company who owes amount to the enterprise on account of credit sale of goods or services.

• The amount due from him is a debt.

• The amount due from a person as per the books of the account is called a book debt.

Drawings

• It is the amount of money or the value of goods which the proprietor or a partner takes for his domestic or personal use.

• Drawing reduces the investment (or capital) of the owners.

• It appears only in the accounts of sole proprietorship firms and partnership firms.

Purchases

• The term purchases are used only for purchases of goods.

• Goods are those items which are purchased for resale or

• for manufacture of products which are also to be sold.

• It includes both cash and credit purchases

Depreciation

• It is a fall in the value of an asset

• Because of usage

• With passage of time

• Obsolescence

• Accident

Purchases Return:

• Goods purchased may be returned due to any reason, say, they are not as per specifications or are defective.

• Goods returned are termed as Purchases Return or Returns Outward.

Sale

• This term is used for the sale of goods dealt by the enterprise.

• The term ‘Sales’ includes both Cash and Credit Sales.

• When goods are sold for cash, they are cash sales

• When goods are sold and payment is to be received at a later date, they are credit sales.

Sales Return or Returns Inwards

• It means Goods sold returned by the purchaser.

Discount

• A reduction in the price of goods is Discount.

Trade Discount

• It is a discount allowed to a customer on the basis of quantity of goods purchased.

Cash Discount

• It is a discount allowed to a customer for making prompt or timely payment.

Capital

• It means the amount (in terms of money or assets having money value)

• Which the proprietor has invested in the business

• can claim from it.

• It is a liability of the business towards the owner.

• It is so because of Business Entity Concept.

• Capital = Assets – Liabilities

Gain

• It is a profit that arises from transactions which are incidental to business such as

• sale of investments or fixed assets

• at more than their book values.

• Gain may be operating gain or non-operating gain.

Cost

• It is the amount of expenditure

• incurred on or

• Attributable to

• A specified article, product or activity.

Creditor

• A person or firm or company to whom the enterprise owes amount on account of Credit purchase of goods or services.

Assets:

• Assets are property or legal rights

• owned by an individual or business

• to which money value can be attached.

• In other words, anything which will enable the firm to get cash or a benefit in the future,

Bad Debt

• It is the amount that has become irrecoverable

• It is a business loss, and

• Thus, is debited to Profit and Loss Account.

Insolvent

• Insolvent is a person or an enterprise which is not in a position to pay its debts.

Liabilities

• Liabilities means the amount

• Which the business owes to outsiders,

• Excepting the proprietors.

• Liabilities can be classified in

(i) Long-Term Liabilities

(ii) Current Liabilities,

• This can be expressed as: Liabilities = Assets – Capital

Goods

• They refer to items forming part of the stock-in-trade of an enterprise,

• Which are purchased or manufactured with a purpose of selling.

• In other words, they refer to the products in which an enterprise is dealing.

Stock or Inventory

• Stock is the tangible property held by an enterprise

• For the purpose of sale in the ordinary course of business or

• For the purpose of using it in the production of goods

• meant for sale or services to be rendered.

• Stock may be opening stock or closing stock.

Profit

• Profit is the surplus of revenues of a business over its costs.

Profit is categorized into:

 (i) Gross Profit: Gross Profit is the difference between sales revenue or the proceeds of goods sold and/or services rendered over its direct cost.

 (ii) Net Profit: Net Profit is the profit made after allowing for all expenses. In case expenses are more than the revenue; it is Net Loss.

Loss

• Loss is excess of expenses over its related revenues which may arise from normal business activities.

• It decreases the owner’s equity.

• It also refers to money or money’s worth lost (or cost incurred) against which the enterprise receives no benefit, e.g., cash or goods lost in theft.

• It also arises from events of non-recurring nature, e.g., loss on sale of fixed assets.

Expense

• An expense is the amount spent in order to produce and sell the goods and services which produce the revenue.

• Expense is the cost of the use of things or services for the purpose of generating revenue.

• Expense is that part of the expenditure which has been consumed during the current accounting period.

• Examples of expense are payment of salaries, wages, rent, etc.

Expenditure:

• Expenditure is the amount spent or liability incurred for the value received

• Expenditure may be categorized into: (i) Capital Expenditure (ii) Revenue Expenditure

• Expenditure is a payment (or a money sacrifice) for a benefit received.

Capital Expenditure

• It is the amount spent in purchasing assets which will give benefit over more than one accounting period.

• It means expenditure incurred to acquire fixed assets or its improvement.

• Capital expenditure is debited to particular asset account.

• They appear at the assets side of the Balance Sheet.

Revenue Expenditure

• It is the amount spent to purchase goods and services that are consumed during the accounting period.

• It is shown in the debit side of the Profit and Loss Account.

Revenue

• It is the gross inflow of cash, receivables or other consideration.

• arising in the ordinary course of business activities.

• From the sale of goods, rendering of services.

• Use by others of enterprise resources yielding interest, royalties and dividends.

Income:

• Income is the profit earned during an accounting period.

• In other words, the difference between revenue and expense is called income.

• Income = Revenue – Expense