June 2012 Business Entity Concept

In accounting we treat a business or an organization and its owners as two separately identifiable parties. This concept is called business entity concept. It means that personal transactions of owners are treated separately from those of the business. Businesses are organized either as a proprietorship, a partnership or a company. They differ on the level of control the ultimate owners exercise on the business, but in all forms the personal transactions of the owners are not mixed up with the transactions and accounts of the business.

ACCOUNTING IMPLICATIONS
Accounting must divide the continuous business process, and produce periodic reports. An annual reporting period may follow the calendar year by running from January 1 through December 31. Annual periods are usually further divided into quarterly periods containing activity for three months.

In the alternative, a fiscal year may be adopted, running from any point of beginning to one year later. Fiscal years often attempt to follow natural business year cycles, such as in the retail business where a fiscal year may end on January 31 (allowing all of the holiday rush, and corresponding returns, to cycle through). Note in the following illustration that the "20X8 Fiscal Year" is so named because it ends in 20X8:

Also consider that internal reports may be prepared on even more frequent monthly intervals. As a general rule, the more narrowly defined a reporting period, the more challenging it becomes to capture and measure business activity. This results because

continuous business activity must be divided and apportioned among periods; the more periods, the more likely that ongoing transactionsmust be allocated to more than one reporting period. Once a measurement period is adopted, the accountant's task is to apply the various rules and procedures of generally accepted accounting principles (GAAP) to assign revenues and expenses to the reporting period. This process is called accrualbasis accounting. Accrue means to come about as a natural growth or increase. Thus, accrual-basis accounting is reflective of measuring revenues as earned and expenses as incurred. Correctly assigning revenues and expenses to time periods is pivotal in the determination of income. It goes without saying that reported income is of great concern to investors and creditors, and its proper determination is crucial. Measurement issues can become complex. For example, if a software company sells a product for $25,000 (in year 20X1), and agrees to provide updates at no cost to the customer for 20X2 and 20X3, then how much revenue is "earned" in 20X1, 20X2, and 20X3? Such questions make accounting far more challenging than most realize. Suffice it to say that one would need more information about the software company to answer their specific question. But, there are basic rules about revenue and expense recognition that should be understood, and they will be introduced in following sections. Before moving away from the periodicity assumption, and its accounting implications, there is one important factor to note. If accounting did not require periodic measurement, and instead, took the view that one could report only at the end of a process, measurement would be easy. For example, if the software company were to report income for the three-year period 20X1 through 20X3, then revenue of $25,000 would be easy to measure. It is the periodicity assumption that muddies the water. Why not just wait? Two reasons: first, one might wait a long time for activities to close and become measurable with certainty, and second, investors cannot wait long periods of time before learning how a business is doing. Timeliness of data is critical to its relevance for decision making. Therefore, procedures and assumptions are needed to produce timely data, and that is why the periodicity assumption is put in play.

The functions of accounting are as follows: Recording:

that all business transactions of financial character are in fact recorded but also that they are recorded in an orderly manner. Recording is done in the book "Journal". Classifying: Classification is concerned with the systematic analysis of the recorded data, with a view to group transactions or entries of one nature at one place. The work of classification is done in the book termed as "Ledger". Summarizing: This involves presenting the classified data in a manner which is understandable and useful to the internal as well as external end-users of accounting statements. This process leads to the preparation of the following statements: (1) Trial Balance, (2) Income statement (3) Balance sheet. Analysis and Interprets:

This is the final function of accounting. The recorded financial data is analyzed and interpreted in a manner that the end-users can make a meaningful judgment about the financial condition and profitability of the business operations. The data is also used for preparing the future plan and framing of policies for executing such plans. Communicate: The accounting information after being meaningfully analyzed and interpreted has to be communicated in a proper form and manner to the proper person. This is done through preparation and distribution of accounting reports, which include besides the usual income statement and the balance sheet, additional information in the form of accounting ratios, graphs, diagrams, funds flow statements etc.

A Bank reconciliation is a process that explains the difference between the bank balance shown in an organization's bank statement, as supplied by the bank, and the corresponding amount shown in the organization's ownaccounting records at a particular point in time. Such differences may occur, for example, because a cheque or a list of cheques issued by the organization has not been presented to the bank, a banking transaction, such as a credit received, or a charge made by the bank, has not yet been recorded in the organization's books, or either the bank or the organisation itself has made an error. It may be easy to reconcile the difference by looking at very recent transactionsin either the bank statement or the organisation's own accounting records (cash book) and seeing if some combination of them tallies with the difference to be explained. Otherwise it may be necessary to go through and match every single transaction in both sets of records since the last reconciliation, and see what transactions remain unmatched. The necessary adjustments should then be made in the cash book, or any timing differences recorded to assist with future reconciliations. For this reason, and to minimise the amount of work involved, it is good practice to carry out such reconciliations at reasonably frequent intervals. Reconciliations are generally performed by specialised accounting software though the understanding of what occurs is important for a successful reconciliation.

Reasons of difference between cash book & pass book balance:

Cheque issued but not presented for payment: When cheque are issued then immediately make entry in the cash book. The cheque issued can be presented for payment to the bank within six month from the date of cheque as per banking law. The cheque are presented for payment after the expiry of the above period then payment is refused by the bank. This cheque is also known as stale cheque. It is posssible at the time when the balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Cheque paid into the bank but not yet cleared: As soon as the cheque are deposited into the bank, the immediately entry is passed in the cash book. This will make entry in pass book only when cheque are cleared. It is posssible at the time when the balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Interst allowed by the bank: Bank might have credited the account of the customer with the interest and may have made the entry in the pass book. It is possible that the entry of such interest may not have been made by the customer in the cash book, thus causing a disagreement b/w the two balances.

Interest and Bank charges debited by bank: Sometime bank charges interest from the customer then immediately entry in the pass book but not in cash book. so, in this case when check the balance b/w cash and bank book then disagreement b/w the two balances. So, it is the main reason to create difference b/w two books.

Interst, dividend collected by the bank: sometime interest on government security or dividend on share is collected by the bank and is credited to customer account. If the entry does not appear in the cash book then balance will differ.

Direct payment by bank: Sometimes, understanding instruction from the clients certain payment like insurance premium, club fees instalment etc. are made by the bank. then this entry is recorded only in the pass book. This entry is made in the cash book only when the necessary intimation to that effect is received from the bank by the client. The entries in the cash and pass book may be on different dates.

Direct payment into the bank by a customer: Sometimes, our customer deposit money direct into the account in the bank. It is only recorded in the pass book not in the cash book. It is posssible at the time when the balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Dishonour of bill discounted with the bank: Sometimes, customer get their bills discounted with the bank. If the bank is not able to get payment of these bills on the due date. it will debit the customer account with the amount of the bills together with the nothing charges if any.The customer will pass the entry in the cash book

only. when balance of the two books are being compared, thus more chances of causing a disagreement b/w the two balances.

Dishonour of cheque: When the received cheque are deposited into bank, these are immediately recorded in the cash book. As a result cash book balance is increased. but the deposited cheque is dishonoured due to lack of funds or due to other reasons. Bank doesnot credit the amount of the depositor. as a result disagreement b/w the two balances.

Error and ommissions: If any error is committed either by the bank or by a customer in the cash book While recording a transaction in their respective books, it causing a disagreement b/w the two balances. the error may be: 1. 2. 3. undercast/overcast of receipt side or payment side. bank charges omitted from the banks or recorded twice in the books. wrong carry forward of cash book balance.

Definition of DEPRECIATION ACCOUNTING

: a branch of accounting that deals with systematically distributing or allocating the cost or other basic value of a fixed asset over its estimated useful life by periodic charges to expense or against revenue

Main objectives of providing depreciation are to calculate proper profits, show the asset at its reasonable value. To maintain the original monetary investment of the asset intact and have some incidental advantages, provide for replacement of an asset and finally to have tax advantage. Depreciation may happen due to two reasons internal and external reasons. Internal may be wear and tear, lack of proper maintenance, change in production format, restriction of production, reduction to demand of the product produced by the asset, technical progress, depletion and unuse of the same. External Reason may be due to Obsolescence which is induced by new inventions, improvement, loss of demand due to change in fashion and effluxion of time. Steps in measurement of depreciation include reduction of total depreciation, spreading it over the economic life of the asset. Depreciation depends on following factors total cost of asset which includes the invoice cost, less any cash discount, plus all costs essential to bring the useable condition. Estimated useful service life or economic life and its estimate residual value. Residual value is an estimated sale value of the asset at the end of its life to the business. Estimated residual value should be estimated after deducting the disposal and removal cost. Depreciation accounting deals with cost allocation and not with its valuation.