Types of Accounts and Rules of Debit & Credit

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1 Types of s and Rules of Debit & Credit : A summarized record of transactions in a classified manner is known as. For example,, Machinery etc. In all transactions relating to cash are to be posted whereas in Machinery, all transactions relating to machinery are to be posted. The same classified procedure is to be applied for other s. Classification of s: There are two main approaches for discussing types of s. Traditional or British Approach Modern or American Approach Traditional Classification of s (British Approach) According to this approach, s are to be classified into four main categories. These are shown in a chart given below: ACCOUNT Personal Real Nominal Valuation Detail of these s is given below: i. Personal : All s relating to the name of individuals and firms are known as personal s like Anwar s and Ali & Son s etc. These s are maintained for knowing the balance due to or balance due from individual or organizations like investors, customers, sellers, banks or financial institutions etc. ii. Real : All s relating to asset or property are known as real s. These s are permanent in nature so balances of these s are to be transferred to next ing period. These s are used in the preparation of balance sheet for knowing the financial position of business. For example, Machinery and Furniture etc. iii. Nominal : All s relating to income or gain and expenses or losses are known as nominal s. These s are temporary in nature so balances of these s cannot be transferred to next ing period. So these s are used in the preparation of statement for knowing the performance of business. For example Sales, Purchases and Rent etc.

2 iv. Valuation : These are contra asset or contra liability s. These s reduce the balance of particular asset or liability to represent their true & fair value in balance sheet. Like, a. Accumulated depreciation of machinery (Deducted from machinery) b. Provision for doubtful debts (Deducted from Sundry Debtors/ s Receivable ) Modern Classification of (American Approach) According to this approach, s are to be classified into six main categories. These are shown in a chart given below: ACCOUNT s s Liabilities Capital Drawing Detail of these s is given below: i. s : Anything which is owned by a business is known as asset like cash, furniture, machinery etc. and ledger s of assets are known as assets. ii. /Revenue : It is the price of goods sold or services provided by a business to its customers/clients like Commission received, Sales revenue, Service revenue etc. and ledger of any income or revenue is called revenue. iii. s : s are the cost of goods and services used up during the process of generating revenue like selling expenses and administration expenses etc. and ledger of any expense is known as expense. iv. Liabilities : Liabilities are the payable or due amount of the business like loan taken from bank and sundry creditors etc. and the ledger of any liability is called liability v. Capital or Owners equity : Capital is the investment in business made by the owner and its ledger is called capital. vi. Drawings or Withdrawals : Amount or things withdrawn by the owner from business for his personal or household use is called drawing and its ledger is called drawing.

3 Introduction of Debit and Credit The most famous Italian mathematician Luca Pacioli generally known as The Father Of ing and Book Keeping describes the concept of double entry system i.e., every transaction has two aspects. He used the Latin words debitum or debere and creditum or credere to describe the two aspect of business transaction. Debere means to owe and credere means to trust or believe. When Luca Pacioli s work was translated in English then debere and credere were called as Debit and Credit respectively. Every transaction has twofold aspect so one is to be recorded in the left hand side of an called as Debit and other is to be recorded in the right hand side of an called as Credit. Debit is abbreviated with DR and Credit is abbreviated with CR. There are different theories regarding these abbreviations. One theory calls that these abbreviations are derived from debitum/debere and creditum/credere. Another theory argued that DR abbreviated from Debit Record and CR abbreviated from Credit Record. However, some believer states that DR is short for Debtor and CR is short for Creditor. For basic understanding, the concept is precisely described and presented below: Debit (Dr.) It is the left hand side of an Credit (Cr.) It is the right hand side of an

4 Rules for Debit and Credit Traditional/British Approach Personal Real Receiver Giver Comes In Goes Out Nominal Valuation -s s or Losses or Gains Decrease Increase Note: Valuation -Liabilities is the vice versa of Valuation -s Note: s or losses should be credited in case of reduction whereas income or gains should be debited in case of reduction.

5 Rules for Debit and Credit Modern/American Approach s s & Drawings A/c INCREASE DECREASE Liability & Capital A/c INCREASE DECREASE

6 Practice Question Date Transactions Rs Feb 01 Mr. Akram started his business with: Cash Furniture 500, , Purchased goods on cash 10 Goods bought on from Mr. Tayyab. 80, Furniture sold for cash (Cost price is Rs. 400,000) 500, Sold goods on to Mr. Hussain 1 20 Goods returned from customers 15, Goods returned to suppliers 20, Machinery purchased 300, Loan taken from Mr. Ali 28 Goods taken away from the business by the owner for his personal use 29 Paid rent for the month 10,000 Required: You are required to analyses the transactions given above and fill the appropriated boxes given below by following the classification of and rules of debit and credit with respect to: A. Traditional/British Approach B. Modern/American Approach Date involved Nature of Debit Credit Reason

7 Solution A. Traditional/British Approach: Date involved Nature of Debit Credit Reason 2016 Feb ,000 Comes in Furniture 900,000 Comes in Capital 1,400,000 Giver Feb 02 Purchases s Goes out Feb 10 Purchases 80,000 s payable - Mr. Tayyab. 80,000 Giver Feb ,000 Comes in Furniture 400,000 Goes out Gain on sale of fixed asset Gain Feb 18 s Receivable - 1 Receiver Mr.Hussain Sales 1 Feb 20 Returns Inwards 15,000 reduced s Receivable - Mr. Hussain 15,000 Giver

8 Date involved Nature of Debit Credit Reason 2016 Feb 21 s Payable - Mr. 20,000 Receiver Tayyab Returns Outward 20,000 s reduced Feb 25 Machinery 300,000 Comes in 300,000 Goes out Feb 27 Comes in Loan-Mr. Ali Giver Feb 28 Drawings Receiver Purchases s reduced Feb 29 Rent 10,000 10,000 Goes out

9 B. Modern/American Approach: Date involved Nature of Debit Credit Reason 2016 Feb ,000 Furniture 900,000 Capital Capital 1400,000 Increase in capital Feb 02 Purchases Increase in expense Decrease in asset Feb 10 Purchases 80,000 Increase in expense s payable - Mr. Tayyab Liability 80,000 Increase in liability Feb ,000 Furniture 400,000 Decrease in asset Gain on sale of fixed asset Increase in income Feb 18 s Receivable 1 - Mr.Hussain Sales 1 Increase in income Feb 20 Returns Inwards 15,000 Decrease in income s Receivable -Mr. Hussain 15,000 Decrease in asset

10 Date involved Nature of Debit Credit Reason 2016 Feb 21 s Payable - Liability 20,000 Decrease in liability Mr. Tayyab Returns Outward 20,000 Decrease in expense Feb 25 Machinery 300, ,000 Decrease in asset Feb 27 Loan-Mr. Ali Liability Increase in liability Feb 28 Drawings Drawings Increase drawings Purchases Decrease in expense Feb 29 Rent 10,000 Increase in expense 10,000 Decrease in asset Muhammad Shafiq Kaleem Lecturer ing & Finance Virtual University of Pakistan Note: Please consult recommended books mentioned in books Tab of VU-LMS for more practice.

Bad debts & Provision for doubtful debts

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