JAIIB-AFB-MOD-B- Trial balance, Rectification of Errors and Adjusting & Closing Entries

Unit - 10 : Trial balance, Rectification of Errors and Adjusting & Closing Entries

Trial balance

A Trial Balance is a list of accounts and their current balances at a given date.  It is usually prepared on the last day of the accounting period and the list of account balances are arranged according to debit and credit balances.

Before preparing financial statements at the end of a period, the books must be balanced, i.e. to determine total debits equal total credits.  This is determined by preparing a trial balance.  

Debit balances are listed in one column and credit balances are listed in another.  The two column totals should be equal.  When this occurs, the ledger is said to be in balance.

Preparing a trial balance for a company serves to detect any mathematical errors that have occurred in the double-entry accounting system. Provided the total debts equal the total credits, the trial balance is considered to be balanced, and there should be no mathematical errors in the ledgers.

A trial balance is prepared for two reasons -

1. To check the arithmetic accuracy, i.e. The debit totals and the credit totals should be equal if the double- entry system of book-keeping is followed.

1. To write up the financial statements, i.e. Trading and Profit & Loss Accounts, and Balance Sheet.

Types of Errors

Keeping in view the nature of errors, all the errors can be classified into the following four categories:

1. Errors of Commission : These are the errors which are committed due to wrong posting of transactions, wrong totalling or wrong balancing of the accounts, wrong casting of the subsidiary books, or wrong recording of amount in the books of original entry, etc. For example: Raj Hans Traders paid Rs. 25,000 to Preetpal Traders (a supplier of goods). This transaction was correctly recorded in the cashbook. But while posting to the ledger, Preetpal’s account was debited with Rs. 2,500 only.
   
   
2. Errors of Omission : The errors of omission may be committed at the time of recording the transaction in the books of original entry or while posting to the ledger. These can be of two types: (i) error of complete omission (ii) error of partial omission When a transaction is completely omitted from recording in the books of original record, it is an error of complete omission. For example, credit sales to Mohan Rs. 10,000, not entered in the sales book. When the recording of transaction is partly omitted from the books, it is an error of partial omission. If in the above example, credit sales had been duly recorded in the sales book but the posting from sales book to Mohan’s account has not been made, it would be an error of partial omission.
   
   
3. Errors of Principle : Accounting entries are recorded as per the generally accepted accounting principles. If any of these principles are violated or ignored, errors resulting from such violation are known as errors of principle. For example, amount spent on additions to the buildings should be treated as capital expenditure and must be debited to the asset account. Instead, if this amount is debited to maintenance and repairs account, it has been treated as a revenue expense.
   
   
4. Compensating Errors : When two or more errors are committed in such a way that the net effect of these errors on the debits and credits of accounts is nil, such errors are called compensating errors. For example, if purchases book has been overcast by Rs. 10,000 resulting in excess debit of Rs. 10,000 in purchases account and sales returns book is undercast by Rs. 10,000 resulting in short debit to sales returns account is a case of two errors compensating each other’s effect.

 
Rectification of Errors

Errors can be classified into two categories for the purpose of rectification of errors-

Rectification of Errors which do not Affect the Trial Balance

The following errors do not affect the equality of the Trial Balance totals:

Errors of Omission: A transaction is omitted completely from the books so that there is no debit and credit entry of the transaction, e.g. Drawings of Rs. 5000 cash by the proprietor was not recorded.

Errors of Commission: An entry is posted to the correct side of the ledger but to the wrong account, i.e. items have been posted to the wrong account of the same class, e.g. Payment of Rs. 1000 cash by a customer A. John was wrongly posted to the account of another customer, B. Johan.

Errors of Principle: An entry is made in the wrong class of account, i.e. when an expense is treated as an asset and vice versa, e.g. Repairs to building Rs. 4000 was debited to the Building Account.

Complete Reversal of Entries: An account that should be debited is credited and vice versa, e.g. A cheque Rs. 2000 received from Sunita was debited to the account of Sunita and credited to the Bank Account.

Compensating Errors: Errors (or error) on one side of the ledger are compensated by an error (or errors), e.g. The Purchases Account and Sales Account were both overcast by Rs. 1500.

Errors of Original Entry: The original figure may be incorrectly entered although the correct double-entry principle has been observed using this incorrect figure, e.g. Credit sales of Rs. 9650 to Ranjit was recorded in the Sales Account and Ranjit's account as Rs. 6950.

Rectification of Errors which Affect the Trial Balance

Errors which are revealed by the Trial Balance are those errors which cause the Trial Balance totals to be in disagreement.

Errors in Calculation: If there is any miscalculation of the Trial Balance totals or the net account balances, the Trial Balance will not balance, e.g. There was an error in the calculation of the cash balance, causing the Trial Balance totals not to balance too.

Errors in Omission of One Entry: Omission of either the debit or credit entry of a transaction will cause the totals of the Trial Balance not to agree, e.g. A cheque Rs. 5000 received for commission was debited to the Bank Account only.

Posting to the Wrong Side of An Account: Entry into the wrong side of an account will cause one side of the ledger to be more than the other, e.g. A cheque of Rs. 8000 paid to creditor, K. Raj was credited instead of debited to his account.

Errors in Amount: If the debit entry of a transaction differs in amount with the credit entry, the Trial Balance will not balance, e.g. Cash Rs. 9650 received from Anand was debited to the Cash Account as Rs. 9650 and credited to the account of Anand as Rs. 6950.

Summary

1. An account has a debit balance when its debit total exceeds its credit total.
2. An account has a credit balance when its credit total exceeds its debit total.
3. Asset, expenses and drawings accounts have debit balances.
4. Liability, capital and revenue accounts have credit balances.
5. A Trial Balance is a list of debit and credit balances extracted from the accounts in the ledger at a particular date.
6. The Trial Balance is prepared for the purpose of checking the arithmetical accuracy of the entries made in the ledger.
7. The total debit balances will equal the total credit balances in the Trial Balance if the double-entry principles of recording have been strictly adhered to.
8. Errors that effect the agreement of the Trial Balance totals are wrong calculation of balances, omission of either a debit or credit entry of a transaction, entry on the wrong side of an account, and errors in amount.
9. Errors that do not affect the agreement of the Trial Balance totals are complete omission of entries of a transaction, errors of commission, errors in principle, compensating errors, and errors in original entry.
10. Asset and liability accounts are balanced and their balances brought down to the next accounting period.
11. Personal accounts record transactions with persons who have dealings with the business, e.g. debtors and creditors accounts.

Adjusting Entries

Some common adjustments are:

1. Closing Stock
2. Expenses due but not paid (Outstanding expenses)
3. Expenses paid in advance (Prepaid expenses)
4. Incomes due but not received (Accrued incomes)
5. Incomes not due but received (Unearned incomes)
6. Depreciation on assets
7. Interest on Capital
8. Interest on Drawings
9. Interest on Loan
10. Bad debts to be written off
11. Provision for bad debts
12. Provision for discount on Debtors
13. Provision for discount on creditors
14. Losses on account of accidents
15. Commission payable on profit
16. Goods used by the proprietor
17. Goods distributed as Free Samples

Closing Entries

Closing consolidated journal entries are normally passed for

1. Transfer of all manufacturing and purchase expense to the debit side of  trading a/c
2. Transfer of Purchases and Sales return to the debit side of Trading a/c
3. Transfer of Sales and Purchases return to the credit side of Trading a/c
4. Transfer of closing stock to the credit of trading account by an adjustment entry
5. Transfer of Gross profit to the credit side of Profit & Loss a/c
6. Transfer of Gross loss to the debit side of Profit & Loss a/c
7. Transfer of all administrative, selling and financial expenses to the debit of P & L A/c
8. Transfer of all operational and non-operational incomes to the credit of P & L A/c
9. Transfer of Net profit to the credit of Capital a/c
10. Transfer of net loss to the debit of Capital a/c

For complete notes, visit - http://www.jaiibcaiibmocktest.com/material.php

Add maximum of our banking friends to our groups https://www.facebook.com/groups/226943377506645/ https://www.facebook.com/groups/JAIIB.CAIIB.STUDY.MATERIALS/ for mutual benefit.

……………………………………………………………………………………………………………………………………………