Acca f3 Financial Accounting (int) Study Text

Part C  The use of double entry and accounting systems

  5:  Ledger accounts and double entry

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In the example above, we have 'matched' the revenue earned with the expenses incurred in earning it. So 

in part (iv), we included all the costs of the goods sold of $800, even though $50 had not yet been paid in 

cash. Also the interest of $5 was deducted from revenue, even though it had not yet been paid. This is 

known as the 

matching convention, or accruals convention.

Question 

The accounting equation 

How would each of these transactions affect the accounting equation? 

(a) 

Purchasing $800 worth of inventory on credit 

(b) 

Paying the telephone bill $25 

(c) 

Selling $450 worth of inventory for $650 

(d) 

Paying $800 to the supplier 

Answer

(a) 

Increase in liabilities (payables) 

$800

 

Increase in assets (inventory) 

$800

(b) 

Decrease in assets (cash) 

$25

 

Decrease in capital (profit) 

$25

(c) 

Decrease in assets (inventory) 

$450

 

Increase in assets (cash) 

$650

 

Increase in capital (profit) 

$200

(d) 

Decrease in liabilities (payables) 

$800

 

Decrease in assets (cash) 

$800

4 Double entry bookkeeping 

Double entry bookkeeping is based on the idea that each transaction has an equal but opposite effect. 

Every accounting event must be entered in ledger accounts both as a debit and as an equal but opposite 

credit.

4.1 Dual effect (duality concept) 

Double entry bookkeeping is the method used to transfer our weekly/monthly totals from our books of 

prime entry into the nominal ledger. 

Central to this process is the idea that every transaction has two effects, the 

dual effect. This feature is not 

something peculiar to businesses. If you were to purchase a car for $1,000 cash for instance, you would 

be affected in two ways. 

(a) 

You own a car worth $1,000. 

(b) 

You have $1,000 less cash. 

If instead you got a bank loan to make the purchase: 

(a) 

You own a car worth $1,000. 

(b) 

You owe the bank $1,000. 

A month later if you pay a garage $50 to have the exhaust replaced: 

(a) 

You have $50 less cash. 

(b) 

You have incurred a repairs expense of $50. 

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5: Ledger accounts and double entry   Part C  The use of double entry and accounting systems 

Ledger accounts, with their debit and credit sides, are kept in a way which allows the two-sided nature of 

every transaction to be recorded. This is known as the 

'double entry' system of bookkeeping, because 

every transaction is recorded twice in the accounts. 

4.2 The rules of double entry bookkeeping 

A debit entry will: 

 

increase an asset 

 

decrease a liability 

 

increase an expense 

A credit entry will: 

 

decrease an asset 

 

increase a liability 

 increase 

income 

The basic rule, which must always be observed, is that 

every financial transaction gives rise to two 

accounting entries, one a debit and the other a credit. The total value of debit entries in the nominal 

ledger is therefore always equal at any time to the total value of credit entries. Which account receives the 

credit entry and which receives the debit depends on the nature of the transaction.

 An 

increase in an expense (eg a purchase of stationery) or an increase in an asset (eg a purchase 

of office furniture) is a 

debit.

 An 

increase in revenue (eg a sale) or an increase in a liability (eg buying goods on credit) is a credit.

 A 

decrease in an asset (eg making a cash payment) is a credit.

 A 

decrease in a liability (eg paying a creditor) is a debit.

In terms of 'T' accounts: 

 ASSET 

LIABILITY 

CAPITAL 

DEBIT $ 

CREDIT 

$ 

 DEBIT $ 

CREDIT 

$ 

 DEBIT $ 

CREDIT 

$

Increase Decrease  

Decrease Increase  

Decrease Increase 

For income and expenses, think about profit. Profit retained in the business increases capital. Income 

increases profit and expenses decrease profit. 

 INCOME EXPENSE 

DEBIT $ 

CREDIT 

$ 

 DEBIT $ 

CREDIT 

$ 

Decrease Increase   

Increase  Decrease 

Have a go at the question below before you learn about this topic in detail. 

Question

Debits and credits 

Complete the following table relating to the transactions of a bookshop. (The first two are done for you.) 

(a) 

Purchase of books on credit 

 

(i) 

accounts payable increase 

CREDIT  accounts payable 

(increase in liability) 

 

(ii) 

purchases expense increases  DEBIT 

purchases 

(item of expense) 

(b) 

Purchase of cash register 

 

(i) 

own a cash register 

DEBIT 

cash register 

(increase in asset) 

 

(ii) 

cash at bank decreases 

CREDIT  cash at bank 

(decrease in asset) 

Key terms 

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