Week 2 – SS2 First Term Financial Accounting Notes

FINANCIAL ACCOUNTING

 
 
 
 
 WEEK TWO

1.0 ACCOUNTING ERRORS

1.1 ERRORS NOT AFFECTING THE TRIAL BALANCE.
This category of error does not prevent the trial balance to talk from balancing, meaning that inspite of their existence in the trial balance (if any), the trial balance totals will agree. The errors are as follows:

1. Error of omission
2. Error of commission
3. Error of original entry
4. Error of transposition
5. Error of reversal of entry
6. Error of principle
7. Compensating error

ERROR OF OMISSION: This error when there is a complete omission of a transaction from the ledger. It therefore, means that both the debit and the credit entries of a transaction were not recorded in the books. A common reason for this is the loss or misplacement of the source document for the transaction involved.
ERROR OF COMMISSION: This error occurs when a transaction is entered in the wrong account within the correct class of accounts. Put simply, the error occurs through the entry made in the correct class of account but affecting a person different from the person intended. An instance is when an amount received from X is wrongly credited to the personal account of Y instead that of X.
ERROR OF ORIGINAL ENTRY: this error occurs whenever the double entry of a transaction is correctly made, but the original account amount of the transaction is wrongly recorded. It means a wrong amount entirely different from the correct amount is debited and credited to the appropriate accounts. An example is when a credit sale is recorded in the sales day book at a wrong amount and the wrong amount debited to the buyers account and credited to the sales account.
ERROR OF TRANSPOSITION: This is the error committed whenever a mistake is made by changing the arrangement of a transaction. For example, if the amount #556 and posted wrongly taken as #565 and posted into the ledger as such.
ERROR OF REVERSAL OF ENTRY: This error occurs when entry for a transaction resulting in situation where an account that should have been debited is credited and another account that should have been credited is debited. For instance, if cash paid to creditor is debited in cash account and the same amount is credited to the creditor’s account.
COMPENSATING ERROR: This type of error occurs when an error of error occurs when an error in one account is cancelled out by another error in another account. It may occur in the form of overstatement or understatement of amounts in accounts. For example, if sales account is understated by #1000 and rent and rates account is also understated by #1000.

1.2 ERRORS THAT AFFECT THE TRIAL BALANCE

This is the category of errors that cause disagreement between the totals of the two sides of the trial balance. Some of these errors are as follows:

1. Arithmetic errors committed in balancing ledger accounts
2. One sided omission
3. Errors in transfers of totals of subsidiary book
4. Two entries on the same side
5. Under-casting or overcasting of balances
6. Mis-posting of figures to the account
7. Trial balance errors

1.3 CORRECTION OF ERRORS

There are two approaches available to correct errors in the accounts. The approach to use at any particular time depends on the effect of the error on the trial balance.
For those errors that do not affect the agreement of the total of the two sides of the trial balance, there will always be two affected accounts and on which the errors will be corrected and for those errors that affect the agreement of the two sides of the trial balance, only one ledger account will be affected thereby requiring another account for the correction of the error(s).
This other necessary account is called the suspense account. The suspense account is an account created for the correction of errors to be effected. It is used to record the net difference in trial balance totals pending the rotation and correction of the errors causing a difference in the trial balance. Errors are corrected through the use of journal.

LOCATION OF ERRORS

Generally, errors not affecting the agreement of the trial balance are usually detected through complaints from affected third parties such as customers, suppliers, while those that affect the trial balance totals are more easily discovered. However, the following steps should be taken to locate and correct either type of balance.

1. Re – compute the addition of the trial balance
2. Check for any omission in the trial balance
3. Ensure that the ledger balances are appearing on the correct side of the trial balance, that is assets, expenses, purchases and drawing should be on debit side, while income, capital, sales and liabilities should appear on the credit sale.
4. Check for any omission in the trial balance
5. Check the arithmetical calculation in the ledger
6. Check the double entries needed in the ledger
7. Carefully observe the entries in the ledger to see if a figure close to the difference in the trial balance can be found.

 Illustration I
The trial balance of IGI Nigeria Limited on 31^st Dec., 201x showed a difference of #3,090. A thorough review of the ledger revealed the following errors.

1. A debit note of #1,260 received from a customer had posted to the wrong side of his account
2. The sum of #360 in a creditor’s account was omitted from the balance of creditors
3. The payment side of the cash account had been undercast by #1,950
4. An item if asset purchased for #2,880 had been debited to repairs.
5. Mr. Munir, whose debt of #1,560 had been written off paid during the year. His personal account credited but no corresponding entry was made.
6. The total of the sales day book had been carried forward as #6,462, whereas the corrected amount was #7,542.

You are required to show the following:

1. Journal entries necessary to correct the errors
2. Suspense account duty balanced
   

   		DR	CR
   		#	#
   1	Suspense account dr. Cr. Debtor’s account Being correction of a debit note wrongly posted to the wrong side of a customer’s account	1,260	1,260
   2	Suspense account dr. Cr. Creditor’s account Being entry in respect of omitted creditor’s balance	360	360
   3	Suspense account dr. Cr. Cash account Being correction of the undercasting of cash book payment	1,950	1,950
   4	Asset account dr. Cr. Repair account Being correction of the purchase of assets wrongly debited to repair account	2880	2880
   5	Cash account dr. Cr. Suspense account Being entry of recovered debt omitted from cash account	1560	1560
   6	Suspense account dr. Cr. Sales account Being correction of wrong amount carried forward on page of sales day book	1.080	1,080

    

DR            SUSPENSE ACCOUNT                    CR
                        Trial balance differences         3090
Creditors         360            Cash                    1560
Cash             1950
Sales             1080
Debtors         1260

            4,650                                4,650

 
 CFAO Enterprises book-keeping extracted a trial balance on June 30, 2009.He discounted the total of the debit side balance to be more than the credit side by #756.25 and transferred this figure to a suspense account.
However, the cause of this disagreement of the two sides were discovered to be because of the following:

1. A credit note sent to JK Ogun for#206.25 had been entered in the returns inward book at #195 and posted to his account as #195.
2. Commission received account amounting to #1,136.80 had been omitted from trial balance even though it was duly recorded in the cash book and posted into the ledger
3. Equipment sold for #1,250 had been credited to the sales account
4. The purchases day book had been overcast by #250
5. Goods of about #250 sold to Omot had been credited to his account
6. Goods with the value of #130.63 returned by Desuola had been duly credited to his personal account but no entry was made in the returns inward account.

You are required to:

1. Prepare the journal entries necessary to correct these errors
2. Prepare the suspense account

 
 Solution

 DR            SUSPENSE ACCOUNT                    CR
Commission received         1136.68    Bal b/f                     756.25
purchases             250        Omot                    500
                        Returns Inward            130.63
                1,386.88

                                            1,386.88

 
 EFFECT OF ERRORS ON PROFIT AND LOSS ACCOUNT AND BALANCE SHEET
When errors are discounted after the final account have been prepared a statement of corrected profit and revised balance sheet must be prepared to show the adjusted profit.

 
 
 Format of statement of profit
                            N            N    
Profit per account                                 x
Add: Sales undercast                     x
Returns inwards overcast                x
Returns outwards undercast                x
Purchases overcast                     x
Expenses overcast                    x
Income undercast                    x
                                        xx
                                        xx
Less: purchases undercast                x
Expenses undercast                     x
Income overcast                    x
Sales overcast                        x            xx
Corrected net profit                                xx

 Illustration 3
An inexperienced book-keeper has produced the following balance sheet at 31^st Dec., 2000 for a Retailer, Ojola Enterprises.
DR                                                CR
                        Fixed assets                 108,312
Capital                75,336        Current assets
12% loan: Bola            30,000        Stock            28,239
Creditors            39,423        Debtors        39.924
Bank overdraft         12,951        Drawings        12,390
Profit and loss            27,600        Suspense a/c        1,050        85,998
                194,310                        194,310

 Mr. Olojo is surprised at the balance sheet and asks you to revise it.
Your investigation show:

1. The suspense account balance represents the difference in trial balance

1. Stock sheets were overcast by N3000
2. Cash in hand should be N165
3. The purchase day book totals for November of N12,360 was posted to purchase account as N12,630        
4. Fixture and fittings account balance of N6,900 has been omitted from the balance sheet
5. An invoice for N750 had been included in stock and purchases but not posted to the personal account.
6. Interest for half a year on the loan account had not been paid and no provision made for it.
7. A sales return of N300 had been entered on the debit side of the account of Ade

You are required to:

1. Write the suspense accounts

ii. Drawing up a revised balance sheet as at 31^st Dec., 2000

 Solution
DR                                                CR
Bal b/f                4395        Furniture and fittings            6900
Purchase (12,630-12,360)    270
Cash (1,050 – 165)        885
Creditor            750
Ade (300 x 2)            600
                6,900                            6,900

             Statement of Profit
Net profit                                 27,600
Purchase overcast (12630 – 12360)                    270
                                    27,870
Less: Interest due            1,800
Stock overcast                3,000                4,800
Corrected Net profit                            23,070

 Workings: Interest = 12% x 30,000 x ½ ( ½ yrs)
    Interest paid = N1,800
    Interest owing = N1,800( ½ yearly)

 
 
 
 DR        Balance sheet as at 31^st Dec. 2000                        CR
                        Fixed asset (wk 1)            115,212
Capital             75,336        Current asset
Net profit            23,070        Stock (wk2)                25,239
                98,406        Debtors                39,324
Less: Drawings            12,390        Cash (wk4)                165
                86,016
Current liabilities
Creditor (wk3)            40,173
Bank overdraft        12,951
Account interest         1,800
Loan                 30,000
                179,940                        179,940

 Workings:

1. Fixed asset            108,321

   Add furniture             6,900
                   115,212

    

2. Stock:            N28,239 – N3000 = 25,239
3. Creditors:         N39, 423 + N750 = N40,173
4. Debtors:        N39,924 – N600 = N39,324

   ASSIGNMENT
   PAGE 159 question 4