Financial Accounting वित्तीय लेखांकन

Quick summary

Accounting is the language of business. To make the accounts of every business easy to read and compare, accountants follow common rules called accounting concepts (assumptions), conventions (customs) and standards (official written rules). This topic explains what accounting is, its branches and objectives, the basic concepts and conventions, and why Accounting Standards (AS) and Ind AS exist.

Key points

• Book-keeping is recording transactions. Accounting (लेखांकन) is wider: recording, classifying, summarising, analysing and interpreting financial information.
• Objectives: keep a systematic record, find profit or loss, show the financial position, control assets, give information to users (owners, banks, government, investors).
• Branches: financial accounting, cost accounting, management accounting, tax accounting, social/human resource accounting.
• Accounting concepts are the basic assumptions on which accounts are prepared.
• Accounting conventions are customs that grew from practice and guide judgement.
• GAAP (Generally Accepted Accounting Principles) is the common name for these concepts and conventions.
• Accounting Standards in India are framed by the ICAI's Accounting Standards Board (ASB) and notified by the Central Government.
• Ind AS are converged with IFRS and apply to listed and large companies; other entities follow AS.
• Users of accounts: internal (owners, managers, employees) and external (creditors, banks, tax authorities, investors, public).

Important terms

• Business entity concept – the business is separate from its owner; capital is a liability of the business to the owner.
• Money measurement concept – only transactions measurable in money are recorded.
• Going concern concept – the business is assumed to continue for a long time; so fixed assets are shown at cost less depreciation.
• Accounting period concept – life of the business is divided into periods, usually one year (1 April to 31 March in India).
• Cost concept – assets are recorded at the price paid for them, not market value.
• Dual aspect concept – every transaction has two sides; Assets = Liabilities + Capital.
• Matching concept – expenses of a period are matched with the revenue of the same period.
• Accrual concept – income and expenses are recorded when earned or incurred, not when cash is received or paid.
• Realisation concept – revenue is recognised when goods are delivered or service is given.
• Conservatism (prudence) – "anticipate no profit, provide for all possible losses"; e.g. stock at cost or market price, whichever is lower.
• Consistency – the same method is used year after year.
• Full disclosure – all material facts are shown in the accounts or notes.
• Materiality – only items significant enough to affect a user's decision need separate treatment.

Key facts

5 important questions

Q1. What is the dual aspect concept? Give an example.

Every transaction affects two accounts in equal amount. Example: Ram starts business with cash ₹50,000. Cash (asset) increases by ₹50,000 and Capital increases by ₹50,000, so Assets = Liabilities + Capital still holds.

Q2. Distinguish between accounting concepts and accounting conventions.

Concepts are basic assumptions that form the foundation of accounting (e.g. entity, going concern). Conventions are customs or traditions developed by practice to guide accountants (e.g. conservatism, consistency). Concepts are more theoretical; conventions are practical and allow some judgement.

Q3. Explain any five accounting concepts with examples.

Outline: define concept → explain business entity (owner's drawings recorded separately), money measurement (staff skill not recorded), going concern (fixed assets at cost less depreciation), cost (land bought at ₹5 lakh stays ₹5 lakh), matching (December salary charged to December even if paid in January). Conclude: they give uniformity and reliability.

Q4. What are Accounting Standards? State their objectives and benefits.

Outline: meaning (written policy documents by ASB of ICAI, notified by government) → objectives: uniformity, comparability, reduce alternative methods, full disclosure → benefits: reliable statements, easy audit, protection of investors → mention AS 1, AS 2, AS 9, AS 10 → Ind AS and convergence with IFRS.

Q5. Explain the convention of conservatism. Is it still useful?

Outline: meaning and rule → examples: stock valued at lower of cost or market value, provision for doubtful debts, no provision for discount on creditors → advantages: protects creditors, avoids over-statement → criticism: creates secret reserves, may hide true profit → modern view: prudence is used with care and balanced against fair presentation.

Exam tip

Learn concepts with one example each; examiners give 2–3 mark short questions directly on them. Always write the accounting equation when asked about dual aspect.

Quick summary

Every business transaction is first written in the journal (book of original entry), then posted to individual accounts in the ledger (main book), and finally the balances of all ledger accounts are listed in a trial balance to check arithmetic accuracy. This journal → ledger → trial balance chain is the base of the accounting cycle.

Key points

• Journal (रोजकीर्द) records transactions date-wise, with the account debited, the account credited and a short narration.
• Ledger (खातेवही) groups all transactions of one account in one place; it shows the final position of each account.
• Trial balance (तेरीज) is a statement of all ledger balances on a date; total debits must equal total credits.
• Accounting cycle: transaction → journal → ledger → trial balance → final accounts.
• Classification of accounts (traditional): Personal, Real, Nominal.
• Modern approach: assets, liabilities, capital, revenue and expenses.
• A trial balance that agrees does not prove the books are error-free (errors of omission, principle and compensating errors do not disturb it).
• Balancing an account: total both sides, put the difference on the smaller side as "By/To Balance c/d", bring it down as "Balance b/d".

Important terms

• Debit (Dr) – left side of an account.
• Credit (Cr) – right side of an account.
• Narration – short explanation below a journal entry.
• Posting – transferring entries from journal to ledger.
• LF (Ledger Folio) – page number of the ledger account; shows posting is done.
• Compound entry – one entry with more than one debit or credit.

Formats and formulas

Golden rules (traditional):

Modern rules: increase in assets and expenses → debit; increase in liabilities, capital and income → credit.

Worked problem. Ramesh's transactions (April):

1. Started business with cash ₹50,000.
2. Bought goods for cash ₹20,000.
3. Sold goods on credit to Suresh ₹15,000.
4. Paid rent ₹2,000.
5. Received ₹10,000 from Suresh.

Journal:

Cash A/c: Dr side 50,000 + 10,000 = 60,000; Cr side 20,000 + 2,000 = 22,000; debit balance ₹38,000. Suresh A/c: 15,000 − 10,000 = ₹5,000 debit balance.

Trial balance as on 30 April:

5 important questions

Q1. What is a trial balance? State two objectives.

A trial balance is a list of debit and credit balances of all ledger accounts on a particular date. Objectives: (1) to check the arithmetical accuracy of posting; (2) to provide a summary for preparing final accounts.

Q2. Distinguish between journal and ledger.

Journal is the book of original entry, records transactions date-wise and is the basis of posting. Ledger is the book of final entry, records transactions account-wise and shows the balance of each account. The trial balance is prepared from the ledger, not the journal.

Q3. Explain the golden rules of debit and credit with examples.

Outline: three types of accounts with definitions → rule for each with one entry (Paid salary: Salary A/c Dr To Cash A/c; Bought furniture: Furniture A/c Dr To Cash A/c; Goods sold to Ravi: Ravi A/c Dr To Sales A/c) → modern rules table.

Q4. Journalise, post and prepare a trial balance (numerical).

Steps: write each journal entry with narration → open ledger accounts and post with "To/By" → balance each account → list debit balances (assets, expenses, drawings, purchases) and credit balances (capital, liabilities, incomes, sales) → check totals agree (see the worked problem above).

Q5. Which errors are not disclosed by a trial balance?

Outline: errors of omission (transaction not recorded at all), errors of principle (capital item treated as revenue), compensating errors, wrong account but correct side, wrong amount in the journal itself → so an agreed trial balance is not conclusive proof of accuracy.

Exam tip

In trial balance problems, remember: Purchases, Sales returns, expenses and assets go to Dr; Sales, Purchase returns, incomes, capital and liabilities go to Cr. Write narrations — they carry marks.

Quick summary

In a big business, writing every transaction in one journal is slow. So the journal is divided into special books, called subsidiary books, each for one type of transaction. The cash book is the most important of them: it is both a book of original entry and a ledger account for cash (and bank).

Key points

• Subsidiary books (सहाय्यक पुस्तके): Purchase Book, Sales Book, Purchase Returns Book, Sales Returns Book, Bills Receivable Book, Bills Payable Book, Cash Book and Journal Proper.
• Purchase Book records only credit purchases of goods; Sales Book records only credit sales of goods.
• Cash purchases and cash sales go to the Cash Book, not to the Purchase/Sales Book.
• Purchase or sale of assets on credit goes to the Journal Proper.
• Journal Proper records opening entries, closing entries, adjustment entries, rectification entries and rare transactions.
• Cash Book (रोकड पुस्तक) types: simple (single column), double column (cash + bank, or cash + discount), three column (cash, bank, discount), and petty cash book.
• The cash column can never show a credit balance (you cannot pay more cash than you have). The bank column can show a credit balance (overdraft).
• Contra entry – a transaction affecting both cash and bank columns (cash deposited in bank, cash withdrawn from bank); marked "C" in the LF column.
• Petty cash book under the imprest system: the petty cashier gets a fixed amount and is reimbursed what he spends at the end of the period.

Important terms

• Trade discount – reduction in list price; not recorded in books.
• Cash discount – allowed for prompt payment; recorded in discount column.
• Discount allowed – given to customers (loss, debit side of cash book).
• Discount received – got from suppliers (gain, credit side).
• Invoice – document for a credit sale; debit note/credit note – documents for returns.

Formats and formulas

• Net purchases = Purchases − Purchase returns
• Net sales = Sales − Sales returns
• Imprest reimbursement = Amount spent by petty cashier in the period

Worked problem (double column cash book: cash and bank). Opening: cash ₹5,000, bank ₹20,000.
Jan 3 cash sales ₹3,000; Jan 5 deposited cash into bank ₹4,000; Jan 8 paid Mohan by cheque ₹6,000; Jan 10 cash purchases ₹1,500; Jan 15 received cheque from Shyam ₹5,000 and deposited it the same day.

Receipts (Dr) side:

Payments (Cr) side:

Closing balances: cash ₹2,500 and bank ₹23,000.

5 important questions

Q1. What is a contra entry?

An entry recorded on both sides of the cash book because it affects both the cash and bank columns, e.g. cash deposited into bank (Bank Dr, Cash Cr). "C" is written in the LF column and no ledger posting is needed.

Q2. Why is the cash book called both a journal and a ledger?

Cash transactions are recorded in it first, date-wise (journal function). It also works as the Cash Account and Bank Account, so no separate ledger account for cash is opened (ledger function).

Q3. Explain the different subsidiary books with their uses.

Outline: meaning and need → each book with what it records (credit purchases of goods, credit sales of goods, returns, bills, cash) → Journal Proper and its entries → advantages: division of work, saving time, easy reference, better control, fewer errors.

Q4. Prepare a three column cash book (numerical).

Steps: draw cash, bank and discount columns on both sides → record opening balances → contra entries on both sides → discount allowed on the Dr side next to the receipt, discount received on the Cr side → balance cash and bank (do not balance discount columns; total them and post to Discount A/c).

Q5. What is a petty cash book? Explain the imprest system.

Outline: meaning (small payments like postage, stationery, travelling) → analytical petty cash book with columns → imprest system with an example (imprest ₹2,000, spent ₹1,650, reimbursed ₹1,650 to restore ₹2,000) → advantages: control, saves the main cashier's time.

Exam tip

Before posting, decide the book: credit goods → Purchase/Sales Book; cash anything → Cash Book; assets on credit and adjustments → Journal Proper. This one step avoids most mistakes.

Quick summary

The bank balance shown in the business's cash book and the balance shown in the bank's pass book (bank statement) are often different on the same date. A Bank Reconciliation Statement (BRS) (बँक मेळ पत्रक) lists the reasons and proves that the difference is explained. It is prepared periodically, usually at the end of every month.

Key points

• Cash book (bank column) is kept by the business; the pass book is kept by the bank.
• A deposit is a debit in the cash book but a credit in the pass book; the two books are mirror images.
• Favourable balance: debit balance in cash book = credit balance in pass book.
• Overdraft: credit balance in cash book = debit balance in pass book.
• Main causes of difference: (1) timing differences, (2) entries made by the bank but not yet by the business, (3) errors by either side.
• BRS is a statement, not an account; it is not part of the double entry.
• After preparing BRS, the business should correct its own cash book for items like bank charges, interest and direct deposits.

Important terms

• Cheque issued but not presented – business has recorded the payment, the payee has not yet cashed it.
• Cheque deposited but not credited (not cleared) – recorded in cash book, bank has not yet collected it.
• Bank charges – deducted by the bank, often unknown to business until the pass book arrives.
• Interest allowed by bank – credited in pass book first.
• Direct deposit – a customer pays straight into the bank account.
• Dishonoured cheque – a deposited cheque that the bank could not collect.

Formats and formulas

Rule when starting from the cash book debit (favourable) balance:

Starting from an overdraft, reverse every sign. Starting from the pass book, reverse every sign.

Worked problem. On 31 March, cash book of Meena shows a debit (bank) balance of ₹25,000. Find the pass book balance:

1. Cheques issued ₹4,000 not yet presented.
2. Cheques deposited ₹3,000 not yet credited.
3. Bank charges ₹200 not entered in cash book.
4. Interest ₹500 credited by bank only in pass book.
5. A customer paid ₹1,200 directly into the bank.

BRS as on 31 March:

Check: 30,700 − 3,200 = 27,500.

5 important questions

Q1. What is a Bank Reconciliation Statement?

A statement prepared on a given date to reconcile (explain the difference between) the bank balance as per the cash book and the balance as per the pass book, by listing the items causing the difference.

Q2. Give any four causes of difference between cash book and pass book.

(1) Cheques issued but not presented for payment. (2) Cheques deposited but not yet collected. (3) Bank charges or interest recorded only by the bank. (4) Direct deposits or direct payments (insurance premium, EMI) by the bank on standing instructions. Errors in either book are another cause.

Q3. Explain the need and importance of a BRS.

Outline: detects errors and frauds in cash book or pass book → shows the true bank balance → brings delayed cheques to notice → acts as moral check on staff → helps update the cash book → useful for audit.

Q4. Prepare a BRS when the cash book shows an overdraft (numerical).

Steps: start with "Overdraft as per cash book" in the minus column (or as a negative) → cheques issued not presented: less (reduces overdraft) → cheques deposited not credited: add → bank charges/interest on overdraft: add → direct deposits: less → result = overdraft as per pass book. Show the final figure clearly labelled Dr.

Q5. What is an amended cash book? When is it prepared?

Outline: when many items are recorded only by the bank, the cash book is first corrected (bank charges, interest, direct deposits, dishonour, errors) → the corrected (amended) balance is then reconciled with the pass book using only timing items (unpresented and uncleared cheques).

Exam tip

Always write which balance you start from and whether it is Dr or Cr. Half the mistakes in BRS come from starting at the wrong side.

Quick summary

Errors creep into books while journalising, posting, totalling or balancing. Rectification of errors means correcting them by passing proper entries, not by cutting or erasing. Some errors disturb the trial balance and some do not. When the trial balance does not agree, the difference is put temporarily in a Suspense Account, which is closed once all errors are corrected.

Key points

• Errors (चुका) are classified as errors of omission, commission, principle and compensating errors.
• Errors of omission: a transaction is fully or partly left out (complete omission does not affect the trial balance; partial omission does).
• Errors of commission: wrong amount, wrong account, wrong side, wrong totalling or balancing.
• Errors of principle: violating accounting principles, e.g. treating capital expenditure as revenue (furniture bought debited to Purchases).
• Compensating errors: one error cancels the effect of another.
• One-sided errors affect only one account (undercasting of a book, posting to the wrong side, omission from posting); they affect the trial balance and are corrected through the Suspense Account.
• Two-sided errors affect two accounts (wrong account, error of principle, complete omission); they do not affect the trial balance and are corrected by a journal entry between the two accounts.
• Errors found before preparing the trial balance can be corrected directly in the accounts; after the trial balance, by journal entries.
• Errors in nominal accounts found after final accounts are corrected through Profit and Loss Adjustment Account.

Important terms

• Suspense Account (अनामत खाते) – temporary account opened for the difference in trial balance.
• Undercasting – totalling a book or account less than the correct figure; overcasting – more than correct.
• Rectifying entry – journal entry passed to correct an error.
• Clerical errors – errors of omission, commission and compensating errors (made by clerks).

Formats and formulas

Method: (1) Write the wrong entry made. (2) Write the correct entry. (3) The rectifying entry is the difference: cancel the wrong effect and give the correct effect. If only one account is wrong, the other side of the rectifying entry is Suspense A/c.

Worked problem. Trial balance did not agree; the difference was put in Suspense A/c. Errors found:

1. Sales Book undercast by ₹1,000.
2. Furniture bought for ₹5,000 was debited to Purchases A/c.
3. Credit sale of ₹2,000 to Ram was posted to Shyam's account.
4. Payment of ₹700 to Gopal was posted to the credit side of his account.

Rectifying entries:

Error 4: Gopal should have been debited ₹700 but was credited ₹700, so he must be debited twice the amount (₹1,400).

Suspense Account:

So the original difference was ₹400 on the debit side of Suspense (the trial balance's debit total was short by ₹400): error 1 made credits ₹1,000 short and error 4 made debits ₹1,400 short; net debit shortage = ₹400.

5 important questions

Q1. What is a suspense account?

A temporary account in which the difference of a disagreeing trial balance is placed so that final accounts can be prepared. It is closed when the one-sided errors causing the difference are rectified.

Q2. Give two examples of errors of principle.

(1) Repairs to a building debited to Building A/c instead of Repairs A/c. (2) Purchase of a machine debited to Purchases A/c. Both confuse capital and revenue items and do not affect the trial balance.

Q3. Explain the classification of errors with examples.

Outline: omission (complete, partial) → commission (wrong amount, account, side, casting) → principle → compensating → which of them affect the trial balance (table) → why an agreed trial balance is not proof of accuracy.

Q4. Pass rectifying entries and prepare the Suspense Account (numerical).

Steps: for each error, write wrong entry and correct entry → derive the rectifying entry → use Suspense A/c only for one-sided errors → post the suspense items → the balancing figure is the original difference (see the worked problem).

Q5. How are errors rectified after preparation of final accounts?

Outline: errors in nominal accounts would change last year's profit → so use Profit and Loss Adjustment A/c instead of the nominal account (e.g. Sales undercast: Suspense Dr To P&L Adjustment A/c) → close P&L Adjustment A/c to Capital A/c → real and personal accounts are corrected as usual.

Exam tip

For wrong-side posting, always double the amount. For wrong amount, rectify only the difference. These two rules settle most suspense problems.

Quick summary

Fixed assets like machines, vehicles and furniture lose value over time because of use, wear and tear and age. This permanent and gradual fall in the book value of a fixed asset is called depreciation (घसारा). Charging it every year gives the true profit and shows the asset at a fair value in the balance sheet. The two main methods are the Straight Line Method and the Written Down Value Method.

Key points

• Causes: wear and tear by use, passage of time, depletion (mines, oil wells), obsolescence (new technology), accidents, expiry of legal rights (patents, leases).
• Need: to find true profit (matching concept), to show true financial position, to keep funds for replacement, for tax purposes, legal requirement for companies.
• Factors: cost of the asset (purchase price + installation + transport), estimated useful life, estimated scrap (residual) value.
• Straight Line Method (SLM) / fixed instalment / original cost method: equal depreciation every year.
• Written Down Value Method (WDV) / reducing balance / diminishing balance: fixed rate on the opening book value each year, so the amount falls every year.
• SLM is simple and suits assets like leases and patents; WDV suits machinery, where repairs rise as depreciation falls, keeping the total charge even.
• Under WDV the asset's value never becomes exactly zero.
• Other methods: annuity, sinking fund, insurance policy, depletion, machine hour and revaluation methods.
• In India, AS 10 (Property, Plant and Equipment) now covers depreciation (the old AS 6 was withdrawn). Companies follow the useful lives in Schedule II of the Companies Act, 2013; income tax uses the WDV block-of-assets system with rates set by the rules (check the current year's rates).
• If an asset is sold, depreciation is charged up to the date of sale and the profit or loss on sale is transferred to the Profit and Loss Account.

Important terms

• Book value – cost minus total depreciation charged so far.
• Scrap/residual value – estimated value at the end of the useful life.
• Obsolescence – loss of usefulness due to new inventions or changes in demand.
• Provision for depreciation (accumulated depreciation) A/c – a separate account where depreciation is collected while the asset stays at cost.

Formats and formulas

• SLM annual depreciation = (Cost − Scrap value) ÷ Useful life
• SLM rate = (Annual depreciation ÷ Cost) × 100
• WDV depreciation = Opening book value × Rate
• Journal entries: Depreciation A/c Dr To Asset A/c; then Profit and Loss A/c Dr To Depreciation A/c.

Worked example 1 (SLM). Machine bought for ₹1,00,000; installation ₹10,000; scrap value ₹10,000; life 10 years.
Total cost = ₹1,10,000. Depreciation = (1,10,000 − 10,000) ÷ 10 = ₹10,000 per year. Rate on cost = 10,000 ÷ 1,10,000 × 100 ≈ 9.09%.

Worked example 2 (WDV). Machine costs ₹1,00,000; rate 10% on WDV.

Compare SLM at 10% on cost for the same machine (no scrap): ₹10,000 every year; book value after 3 years = ₹70,000.

5 important questions

Q1. Define depreciation.

Depreciation is the permanent, continuous and gradual decrease in the book value of a fixed asset due to use, passage of time, obsolescence or other causes. It is a non-cash expense charged to the Profit and Loss Account.

Q2. Distinguish between SLM and WDV.

SLM charges depreciation on original cost, so the amount is equal every year. WDV charges a fixed rate on the reducing book value, so the amount falls every year. Under SLM the asset can be written down to zero (or scrap value); under WDV it never reaches zero.

Q3. Explain the causes and need for charging depreciation.

Outline: causes (wear and tear, time, depletion, obsolescence, accident, expiry of legal rights) → need (true profit, true position, replacement funds, legal and tax requirement, matching concept, avoid paying dividend out of capital).

Q4. Prepare Machinery Account for three years under the WDV method (numerical).

Steps: Year 1 – To Bank (cost + installation) → By Depreciation (rate × value, proportionate if bought mid-year) → By Balance c/d → repeat with opening balance each year → if part of the machine is sold, calculate its book value on the date of sale and transfer profit/loss to P&L.

Q5. What is the Provision for Depreciation Account method? Give its advantages.

Outline: asset kept at original cost, depreciation credited to Provision for Depreciation A/c each year → on sale, the accumulated depreciation of the asset sold is transferred to Asset Disposal A/c → advantages: original cost and total depreciation both visible, easy to compute profit on sale, required format in company balance sheets.

Exam tip

Note the purchase date in every question. If an asset is bought or sold during the year, charge depreciation only for the months it was used (unless told "charge full year").

Quick summary

Final accounts are prepared at the end of the accounting year from the trial balance and adjustments. For a sole trader they include the Trading Account (gross profit), the Profit and Loss Account (net profit) and the Balance Sheet (financial position). Adjustments such as closing stock, outstanding and prepaid expenses and depreciation make the accounts show the true profit.

Key points

• Trading Account shows gross profit: net sales minus cost of goods sold (opening stock, net purchases and direct expenses like wages, carriage inward, freight, factory power).
• Profit and Loss Account shows net profit: gross profit plus other incomes minus indirect expenses (office and administration, selling and distribution, financial expenses, depreciation).
• Balance Sheet (ताळेबंद) is a statement of assets and liabilities on a date; it is not an account.
• Every adjustment is recorded at two places (dual aspect).
• Closing stock: credited in Trading A/c and shown as an asset (if given outside the trial balance).
• Outstanding expense: added to the expense and shown as a liability. Prepaid expense: deducted from the expense and shown as an asset.
• Accrued income: added to the income and shown as an asset. Income received in advance: deducted from income and shown as a liability.
• Depreciation: charged to P&L and deducted from the asset.
• Bad debts and provision for doubtful debts: charged to P&L and deducted from debtors.
• Interest on capital: expense in P&L, added to capital. Drawings: deducted from capital.

Important terms

• Gross profit – excess of sales over cost of goods sold.
• Net profit – final profit after all expenses and losses.
• Direct expenses – expenses up to bringing goods to saleable condition.
• Marshalling – order of assets and liabilities in the balance sheet (liquidity or permanence).
• Outstanding expense – expense due but not yet paid.

Formats and formulas

• Cost of goods sold = Opening stock + Net purchases + Direct expenses − Closing stock
• Gross profit = Net sales − Cost of goods sold
• Net profit = Gross profit + Other incomes − Indirect expenses
• Closing capital = Opening capital + Net profit − Drawings

Worked problem. Trial balance of Anil as on 31 March:

Adjustments: closing stock ₹30,000; wages outstanding ₹1,000; rent prepaid ₹1,000; depreciation on machinery 10%.

Trading A/c: Dr = 20,000 + 80,000 + 11,000 (wages 10,000 + 1,000) + 2,000 = ₹1,13,000. Cr = 1,50,000 + 30,000 = ₹1,80,000. Gross profit = ₹67,000.

P&L A/c: expenses = salaries 15,000 + rent 5,000 (6,000 − 1,000) + depreciation 6,400 = ₹26,400. Net profit = 67,000 − 26,400 = ₹40,600.

Balance Sheet as on 31 March:

5 important questions

Q1. What is the difference between Trading Account and Profit and Loss Account?

Trading Account finds gross profit from buying and selling goods using direct expenses. Profit and Loss Account starts with gross profit, adds other incomes and deducts indirect expenses to find net profit.

Q2. How is outstanding salary treated in final accounts?

It is added to salaries in the Profit and Loss Account (debit side) and shown as a current liability in the Balance Sheet.

Q3. Explain the treatment of any five adjustments.

Outline: closing stock, outstanding expense, prepaid expense, accrued income, income received in advance, depreciation, bad debts and provision, interest on capital and drawings → for each, write the two places it appears.

Q4. Prepare Trading and P&L Account and Balance Sheet (numerical).

Steps: list direct items in Trading A/c → apply adjustments → find GP → transfer to P&L → indirect items with adjustments → NP → Balance Sheet with capital + NP − drawings → tick each trial balance item and adjustment as you use it; totals must agree (see the worked problem).

Q5. What is a Balance Sheet? State its features and the order of marshalling.

Outline: definition → features (statement, on a date, assets = liabilities, shows position) → order of liquidity (cash first) and order of permanence (fixed assets first, used by companies) → grouping into fixed and current assets, long-term and current liabilities.

Exam tip

Tick every item of the trial balance and each adjustment as you use it. If the Balance Sheet does not tally, look first for an adjustment you used only once.

Quick summary

Non-profit organisations (NPOs) such as clubs, schools, hospitals, libraries and charitable trusts work for service, not for profit. They prepare a Receipts and Payments Account (a summary of cash), an Income and Expenditure Account (like a P&L Account, showing surplus or deficit) and a Balance Sheet. This topic explains these statements, their differences and the treatment of special items like subscriptions, donations and legacies.

Key points

• NPOs (ना-नफा संस्था) earn income from subscriptions, donations, grants, entrance fees, legacies, interest and events.
• Their capital is called Capital Fund or General Fund; profit is called surplus (excess of income over expenditure) and loss is deficit.
• Receipts and Payments Account: summary of the cash book; real account; starts with opening cash/bank balance, ends with closing balance; records all receipts and payments, capital or revenue, of any year.
• Income and Expenditure Account: nominal account; prepared on accrual basis; only revenue items of the current year; result is surplus or deficit.
• Balance Sheet: shows assets, liabilities and Capital Fund.
• Specific donations (for a building, prize fund) and legacies (amount received under a will, usually treated as capital) go to the Balance Sheet; general donations of small amounts are revenue income.
• Entrance (admission) fees: usually revenue income; capitalised if large or if the rules say so.
• Sale of old assets (newspapers are revenue; old furniture is capital, with profit/loss to I&E).
• Life membership fees are normally capitalised.
• Expenses out of a special fund are deducted from that fund in the Balance Sheet.

Important terms

• Subscription – regular membership fee paid by members.
• Legacy – amount left to the organisation by a person's will.
• Endowment fund – fund whose income is used for a specific purpose.
• Honorarium – payment to a non-employee for services (e.g. a visiting speaker).
• Opening Capital Fund – opening assets minus opening liabilities.

Formats and formulas

Subscriptions credited to Income and Expenditure A/c:

• Opening Capital Fund = Opening assets − Opening liabilities
• Surplus = Total income − Total expenditure (of the current year)

Worked example 1. Subscriptions received ₹50,000, including ₹3,000 for last year and ₹2,000 for next year; ₹4,000 is still due for the current year.
Income = 50,000 − 3,000 − 2,000 + 4,000 = ₹49,000.

Worked example 2 (Income and Expenditure A/c, Bhandara Sports Club). Salaries paid ₹18,000 (₹2,000 outstanding), rent ₹6,000, electricity ₹3,000, depreciation on equipment ₹2,500; subscriptions ₹49,000 (as above), general donations ₹5,000.

5 important questions

Q1. What is a Receipts and Payments Account?

It is a summary of all cash and bank receipts and payments of an NPO during the year, classified under heads. It begins with the opening cash/bank balance and ends with the closing balance. It is a real account and includes both capital and revenue items.

Q2. How are legacies and specific donations treated?

Both are capital receipts. A legacy is usually credited to Capital Fund (or shown as a liability) in the Balance Sheet. A specific donation is added to the related fund (e.g. Building Fund) on the liabilities side, not shown in the Income and Expenditure Account.

Q3. Distinguish between Receipts and Payments Account and Income and Expenditure Account.

Outline: nature (real vs nominal) → basis (cash vs accrual) → items (capital and revenue vs revenue only) → period (any year vs current year only) → opening balance (cash balance vs none) → closing (cash balance vs surplus/deficit) → non-cash items like depreciation (not included vs included).

Q4. Prepare Income and Expenditure Account and Balance Sheet from a Receipts and Payments Account (numerical).

Steps: find opening Capital Fund → separate capital and revenue items → adjust subscriptions and expenses for outstanding and prepaid amounts → charge depreciation → find surplus/deficit → prepare the Balance Sheet with Capital Fund + surplus, special funds, assets and liabilities.

Q5. Explain the treatment of any five special items in NPO accounts.

Outline: subscriptions (with adjustments), entrance fees, life membership fees, legacies, specific and general donations, sale of old assets, special funds and their expenses, honorarium → state where each appears.

Exam tip

Before preparing the I&E Account, work out the Capital Fund and the subscription figure separately as working notes. Working notes earn marks even if the final figure goes wrong.