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13 10 2007

Dual Aspect:Understand The Accounting Equation

Posted by: slang in b. Double Entry Systems, i. Accounting Equation

One of the basic fundamental accounting principle is the Dual Aspect Concept which MUST be understood by all.

This dual aspect concept is

  1. also called Double Entry Methodology
  2. The key points are All transactions have two(2) dimensions and
  3. this follows from the basic accounting equation which is:

ASSETS(a)=LIABILITIES(b) + OWNERS’ EQUITY(c)

(a) Assets are the resources owned by a business;

(b) Liabilities are the rights of the creditors, which represent debts of the business

(c) Owners Equity represents the rights of the owner

UNDERSTANDING THE MECHANISM OF THE DUAL ASPECT CONCEPT
To be able to understand clearly this dual purpose or double entry, let’s go through the below step-by-step illustration:Its start with an Individual called Y, who puts in money for shares in a newly formed company called ABC. ABC starts its business activities by the initial purchase of land and inventory. Subsequently, it also receives incomes for services rendered and pay expenses and ultimately leading to the paying of dividend to the shareholder Y

SIMPLE ILLUSTRATIONS:(1) Y deposits $25,000 in a bank account in the name of Company ABC in return for shares of stock in the company.

ASSETS OWNERS EQUITY
Bank Account Paid Up Share Capital re: investment by stockholder
C/f + $25,000 +$25,000

Notes:The Accounting Equation: Assets= Liabilities + Owners Equity balances when Y an individual pays in the bank for shares in the company. Both Bank account and the corresponding entry-Paid Up Capital Account has increased by $25,000

(2) The Company paid $20,000 for purchase of a piece of land.

ASSETSBank ASSETS Land OWNERS EQUITYPaid Up Share Capital
B/f $25,000 $25,000
C/f $5,000 $20,000 $25,000

Notes:In this case, in the Assets Category, bank account has being reduced by $20,000 which is equally represented by the company possessing a land that costs $20,000. What’s important is that the accounting equation balances.

(3) During the month, the company purchased supplies for $1,500 and agreed to pay the supplier in the near future (on account).

ASSET Bank ASSETS Land ASSETS Stocks LIABILITIES Accounts Payable OWNERS EQUITYPaid Up Share Capital
B/f $5,000 $20,000 $25,000
C/f $5,000 $20,000 $1,500 $1,500 $25,000

Notes:Here, the purchases of supplies has increased the company’s stock by $1,500 with a corresponding increase in accounts Payable

(4) The company provided services to customers, earning fees of $8,000 and received the amount in cash

ASSET Bank ASSETS Land ASSETS Stocks LIABILITIES Accounts Payable OWNERS EQUITYPaid Up Share Capital OWNERS EQUITYRetained Earnings
B/f $5,000 $20,000 $1,500 $1,500 $25,000
+$8,000 +$8,000
C/f $13,000 $20,000 $1,500 $1,500 $25,000 $8,000

Notes:Due to the receipt of money from customer, bank account increased by $8,000 with a corresponding increase in Income (owners’ equity) hence the accounting equation still balances

(5) The Company paid the following expenses: wages, $2,000; rent, $1000; utilities, $500; and miscellaneous, $300.

ASSETBank ASSETS Land ASSETS Stocks LIABILITIES Accounts Payable OWNERS EQUITYPaid Up Share Capital OWNERS EQUITYRetained Earnings
B/f $13,000 $20,000 $1,500 $1,500 $25,000 $8,000
-$2,000-$1,000-$500-$300 -$2,000-$1,000-$500-$300
C/f $9,200 $20,000 $1,500 $1,500 $25,000 $4,200

Notes:Here, the company is paying off the expenses of $3,800 ($2,000+$1,000+$500+$300) Which reduces the bank account by $3,800 with a corresponding figure in the Retained Earnings Assets($30,700) =Liabilities($1,500) + Owners Equity ($29,200)

(6) The Company paid $1,500 to creditors during the month.

ASSET Bank ASSETS Land ASSETS Stocks LIABILITIES Accounts Payable OWNERS EQUITYPaid Up Share Capital OWNERS EQUITYRetained Earnings
B/f $9,200 $20,000 $1,500 $1,500 $25,000 $4,200
-$1,500 -$1,500
C/f $7,700 $20,000 $1,500 $0 $25,000 $4,200

Notes:The company pays off the amount due to its account payable. This therefore Reduces the bank account by $1,000 with a corresponding reduction in liabilities Assets($29,200) =Liabilities($0) + Owners Equity ($29,200)

(7) At the end of the month, the cost of supplies on hand is $500, so $1,000 of supplies were used.

ASSET Bank ASSETS Land ASSETS Stocks LIABILITIES Accounts Payable OWNERS EQUITYPaid Up Share Capital OWNERS EQUITYRetained Earnings
B/f $7,700 $20,000 $1,500 $0 $25,000 $4,200
-$1,000 -$1,000
C/f $7,700 $20,000 $500 $0 $25,000 $3,200

Notes:From the stock account, $1,000 have been consumed to generate the earlier

Mentioned income of $8,000 so this has to be charged out. Hence, the stock Account is

reduced by $1,000 and the corresponding consumption of stocks is charged to

owners equity side.Assets($28,200) =Liabilities($0) + Owners Equity ($28,200)

(8) At the end of the month, the Company pays $2,000 to stockholders

ASSET Bank ASSETS Land ASSETS Stocks LIABILITIES Accounts Payable OWNERS EQUITYPaid Up Share Capital OWNERS EQUITYRetained Earnings
B/f $7,700 $20,000 $500 $0 $25,000 $3,200
-$2,000 -$2,000
C/f $5,700 $20,000 $500 $0 $25,000 $1,200
Notes:Similarly, bank account is used up by $2,000 to be paid to the stockholders which results in a corresponding decrease in Owners’ equity.However, the accounting equation always balance: In this case:Assets ($26,200)= Liabilities ($0) + Owners Equity ($26,200)

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