CHAPTER 2

THE ACCOUNTING PROCESS

(Part 1)
Ninia C. Pauig-Lumauan, MBA, CPA
2nd Semester 2021
Lyceum of Aparri

Intermediate Accounting Part 1

 DEFINITION
• Accounting is the “process of identifying,
measuring, and communicating economic
information to permit informed judgments
and decisions by users of information.
(American Association of Accountants)
• The accounting process of identifying,
measuring, and communicating economic
information is effected through an entity’s
accounting information system.
Intermediate Accounting Part 1
 DEFINITION
• Accounting information system is the system
of collecting and processing transaction data
and disseminating financial information to
interested parties. Accounting information
system is a subsystem of Management
Information systems (MIS).
• Management Information systems is a set of
data gathering, analyzing, and reporting
functions designed to provide management
with the information it needs to carry out its
functions. Intermediate Accounting Part 1
 MANAGEMENT INFORMATION SYSTEM
• The major components of an MIS include
the following:
1. Accounting Information System or
Financial Information System
2. Personnel Information System
3. Logistics Information System

Intermediate Accounting Part 1

 COMPONENTS OF ACCOUNTING
INFORMATION SYSTEM
1. Personnel
Are the persons directly involved in
accounting work.
2. Accounting Policies and Standards
Accounting policies are the specific
principles, bases, conventions, rules and
practices applied by an entity in preparing
and presenting financial statements.
Intermediate Accounting Part 1
 COMPONENTS OF ACCOUNTING INFORMATION
SYSTEM

• Not all the PFRS are applicable to an entity.

An entity adopts and applies only the PFRS
that are relevant to its operations.
Moreover, some PFRS provide a choice of
measurement or presentation methods.
The relevant PFRS and the methods chosen
are the entity’s accounting policies which
are disclosed in the notes to financial
statements.
Intermediate Accounting Part 1
 COMPONENTS OF ACCOUNTING
INFORMATION SYSTEM
3. Procedures or set of interrelated activities
involving the originating, processing and
reporting of financial and related
information.
4. Equipment and devices used in the system to
expedite work, to provide controls, and
prevent fraud and errors.
5. Records and reports necessary to gather,
process, store and transmit financial and
other information.
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 THE ACCOUNTING CYCLE
• The accounting cycle represents the steps or
procedures used in recording transactions
and preparing financial statements. The
accounting cycle implements the accounting
process.
STEPS IN THE ACCOUNTING CYCLE
1. Identifying and analyzing business documents or
transactions – The accountant gathers
information from source documents and
determines the effects of the transactions on the
accounts.
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 STEPS IN THE ACCOUNTING CYCLE
2. Journalizing – the identified accountable
events are recorded in the journals.
3. Posting – information from the journal are
transferred to the ledger.
4. Preparing the unadjusted trial balance–
the balances of the general ledger accounts
are proved as to the equality of debits and
credits. The unadjusted trial balance serves
as basis for adjusting entries.
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 STEPS IN THE ACCOUNTING CYCLE

5. Preparing the adjusting entries – the accounts

are updated as of the reporting date on an
accrual basis by recording accruals, expiration
of defferals, estimations and other events not
signaled by new source documents.
6. Preparing the adjusted trial balance (or
worksheet preparation)-the equality of debits
and credits are rechecked after adjustments
are made. The adjusted trial balance serves as
basis for the preparation of the financial
statements.
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 STEPS IN THE ACCOUNTING CYCLE
7. Preparing the financial statements –
information processed in the accounting
system is communicated to users mainly
through financial statements.
8. Closing the books – this involves
journalizing and posting of closing entries
and ruling the ledger. Temporary accounts
(or nominal accounts) are closed and the
resulting profit or loss is transferred to an
equity account.
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 STEPS IN THE ACCOUNTING CYCLE
9. Preparing the post closing trial balance -
the equality of debits and credits are
again re-checked after the closing
process.
10.Recording of reversing entries –
reversing entries are usually made at the
beginning of the next accounting period
to simplify the recording of certain
transactions in the next accounting
period. Intermediate Accounting Part 1
 STEPS IN THE ACCOUNTING CYCLE

• Steps (4), (6) (9) and (10) are optional,

meaning they are not required in the
preparation of financial statements.
However, for best internal control
purposes, trial balances should be
prepared.

Intermediate Accounting Part 1

 ACCOUNTING RECORDS OF A BUSINESS
ENTITY
1. Business or source documents – these
are the original source materials
evidencing a transaction. Examples:
sales invoices, official receipts, vouchers,
statements of account, etc.
2. Books of Accounts
a. General Journal
b. General Ledger
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 SYSTEMS OF RECORDING TRANSACTIONS

1. Double entry system – Under this system,

each transaction is recorded in two parts –
debit and credit. The double entry system
makes use of the following concepts:
a. Duality – this concept views each
transaction as having a two-fold effect on
values – a value received and a value
parted with, and each transaction is
recorded using at least two accounts.
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SYSTEMS OF RECORDING TRANSACTIONS
b. Equilibrium – this concept requires
each transaction to be recorded in terms
of equal debits and credits.
• The double-entry system of recording is
in line with the PFRSs because profit or
loss is determined through the
“transaction approach”. Under the
transaction approach, profit or loss is
computed as the difference between
income and expenses.
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 SYSTEMS OF RECORDING TRANSACTIONS

• The accounts recognized under the

double entry system are: Assets,
Liabilities, Equity, Income and
Expenses.
• The book of accounts used under the
double entry system are: Journal,
Special Journal, Ledger, Subsidiary
Ledger and other important books.

Intermediate Accounting Part 1

SYSTEMS OF RECORDING TRANSACTIONS
2. Single-entry system – Under this
system, each transaction is recorded
through simple narrative. Transactions
are not analyzed in terms of debits and
credits. Profit or loss for the period is
determined through the “capital
maintenance approach” or by
comparing the beginning and ending
balances of equity.
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 SYSTEMS OF RECORDING TRANSACTIONS
• The single entry system of recording is not
in line with the PFRSs because profit or
loss is not determined using the
transaction approach. Moreover, internal
control is not enhanced under this type of
recording because records are usually
inadequate.
• The accounts recognized under the single-
entry system include: Cash, Accounts
Receivable, Accounts Payable and Equity.
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 SYSTEMS OF RECORDING TRANSACTIONS
• The book of accounts used under the single
entry system include: Cash Books and
Subsidiary Ledgers (personal accounts).
• Journals are used only under the double-
entry system because only this system utilizes
debits and credits. However, subsidiary
ledgers are used under both systems.
• Accrual basis and cash basis of accounting
can be applied both the double entry and
single entry systems.
Intermediate Accounting Part 1
SYSTEMS OF RECORDING TRANSACTIONS
• Under accrual basis, income and expenses
are recognized when earned or incurred,
regardless of when cash is received or paid.
• Under cash basis, income and expenses are
recognized when received or paid,
regardless of when earned or incurred.
ITEMS CONCERNED ACCRUAL BASIS CASH BASIS
1. Revenue is recognized When earned When collected
2. Expense is recognized When incurred When paid
3. Accrued income, deferred income, Recognized Not recognized
accrued expense and prepaid expense

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 JOURNAL
• Journalizing is the process of recording
transactions in the journal by means of
journal entries.
• The journal (also called the book of
original entry) is a formal record where
transactions are initially recorded
chronologically through journal entries.

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 TYPES OF JOURNALS
1. General Journal – a book of original entry
used to record transactions other than those
recorded in the special journals. If special
journals are not utilized, all transactions are
recorded in the general journal.
2. Special Journal – a book of original entry used
to record transactions of a similar nature.
Transactions that cannot be recorded in the
special journals are recorded in the general
ledger, e.g. Purchases of inventory for notes
payable, adjusting entries, reversing entries
and the like. Intermediate Accounting Part 1
 TYPES OF JOURNALS
• Examples of Special Journals are:
a. Sales Journal – used to record sales on
account.
b. Purchases Journal – used to record
purchases of inventory on account.
c. Cash Receipts Journal – used to record all
transactions involving receipt of cash.
d. Cash Disbursement Journal – used to record
all transactions involving payment of cash.

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 TYPES OF JOURNAL ENTRIES
a. Simple journal entry – contains a single
debit and a single credit.
b. Compound journal entry – contains two
or more debits or credits.
c. Adjusting entries – entries made prior
to the preparation of financial
statements to update certain accounts
so that they reflect the correct
balances as at the designated time.
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 TYPES OF JOURNAL ENTRIES
d. Closing Entries – entries made at the end
of the accounting period after all
adjustments have been made to zero out
the balances of all nominal accounts and
to update the retained earnings account.
e. Reversing Entries – usually made on the
first day of the accounting period to
reverse certain adjusting entries in the
immediately preceding period.
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 TYPES OF JOURNAL ENTRIES
f. Correcting entries – entries made to
correct accounting errors.
g. Reclassification entries – entries made
to transfer an amount from one
account to another account that better
describes the nature of the transaction
being recorded.

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 LEDGER
• Posting is the process of transferring data
from the journal to the appropriate
accounts in the ledger. The purpose of
posting is to classify the effects of
transactions on specific asset, liability,
equity, income and expense accounts in
order to provide more meaningful
information.

Intermediate Accounting Part 1

 LEDGER
• The Ledger (also called the book of
secondary entries or book of final entries)
is a systematic compilation of a group of
accounts.
KINDS OF LEDGER
a. General Ledger – contains all the accounts
appearing in the trial balance.
b. Subsidiary Ledger – provides a breakdown
of the balances of controlling accounts.
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 CONTROLLING ACCOUNT
• A controlling account (or control account) – is
one that consists of a group of accounts with
similar nature. The balance of the controlling
account is shown in the general ledger while
the balances of the accounts that comprise
the controlling account are shown in the
subsidiary ledger. Not all accounts in the
general ledger though are controlling
account. Only those whose balances
necessarily need a breakdown are considered
controlling accounts.
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 CONTROLLING ACCOUNT
• For example, the “accounts receivable”
account is a controlling account appearing in
the general ledger. This account is supported
by various subsidiary accounts in the
subsidiary ledger, such as “Accounts
Receivable-Customer A, Accounts Receivable-
Customer B, etc. The sum of the subsidiary
accounts should be equal to the balance of
the related controlling account in the general
ledger.
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 ACCOUNT
• Account is the basic storage of information in
accounting, e.g. “cash”, “accounts receivable”,
“land”, etc.
• Accounts in the ledger follow the format of a T-
account, wherein the left side is called the debit
side and the right side is called the credit side.
The term debit simply means the left side of an
account while credit means the right side.
• Although not treated as a formal record, the T-
account is useful in making accounting analyses.
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 ACCOUNT
• Chart of Accounts is a list of all the
accounts used by the entity. To promote
comparability, account titles should
conform to PFRSs and industry practices.
Furthermore, regulated entities should
have chart of accounts that conform to
relevant regulations. (e.g. A bank’s chart of
accounts should conform to the chart of
accounts endorsed by the Bangko Sentral
ng Pilipinas.)
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 TYPES OF ACCOUNTS
1. Real (Permanent Accounts) – are
accounts that are not closed at the end
of the accounting period, but rather
carried over to the next accounting
period. These accounts are shown in the
statement of financial position and is
comprised of assets, liabilities and equity
accounts.

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 TYPES OF ACCOUNTS
2. Nominal (Temporary Accounts) – are
accounts that are closed at the end of the
accounting period. These accounts include
all income and expenses accounts,
drawings and dividends accounts, clearing
accounts (e.g. “Income Summary” account)
and suspense accounts (e.g. “Cash
shortage or overage account”.)

Intermediate Accounting Part 1

 TYPES OF ACCOUNTS
3. Mixed Accounts – are accounts that have
both real and nominal account
components. These accounts are subject
to adjustment. Mixed accounts include
unadjusted prepayments and deferrals
having both expired and unexpired
components. The expired portion is the
nominal account component and the
unexpired portion is the real account
component.
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 TYPES OF ACCOUNTS
4. Contra Accounts – are accounts that are
deducted from a related account, e.g.
Accumulated depreciation.
5. Adjunct Accounts – are accounts that are
added to a related account, e.g. premium
on bonds payable.
• Conceptually, valuation accounts such as
contra and adjunct accounts are neither
assets nor liabilities.
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 TRIAL BALANCE
• A trial balance is a list of general ledger
accounts and their balances. It is prepared to
check the equality of total debits and total
credits in the ledger. The preparation of the
trial balance creates a starting point for the
preparation of the financial statements.
• The concept in the preparation of the
unadjusted trial balance as it relates to internal
control is that adjusting entries, and
consequently financial statements, cannot be
prepared unless the total debits and credits in
the unadjusted trial balance are equal.
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 TYPES OF TRIAL BALANCE
a. Unadjusted Trial Balance – this is
prepared before adjusting entries. It
contains real, nominal and mixed
accounts.
b. Adjusted Trial Balance – this is prepared
after adjusting entries. It contains real and
nominal accounts.
c. Post Closing Trial Balance – this is
prepared after the closing process. It
contains real accounts only.
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ERRORS REVEALED BY A TRIAL BALANCE
• The trial balance can reveal errors that caused
the total debits and total credits to be unequal.
Examples:
1. Journalizing or posting one-half of an entry, i.e. a
debit without a credit or vice versa.
2. Recording one part of an entry at a different
amount than the other part.
3. Transplacement error (slide error) on one side of
an entry.
4. Transposition error on one side of an entry.
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ERRORS REVEALED BY A TRIAL BALANCE
• Transplacement error is committed
when the number of digits in an amount
is incorrectly increased or decreased, e.g.
a P 1,000 amount is recorded are P 100
or P 10,000.
• Transposition error is committed when
digits in an amount are interchanged,
e.g. P 15,652 is recorded as P 15,625 or P
15,265.
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ERRORS NOT REVEALED BY A TRIAL BALANCE
• The trial balance cannot reveal errors that do
not cause the total debits and total credits to
be unequal. Examples:
1. Omitting entirely the entry for a transaction.
2. Journalizing or posting an entry twice.
3. Using a wrong account with the same normal
balance as the correct amount, e.g. debit to
transportation expense is erroneously
debited to supplies expense

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ERRORS NOT REVEALED BY A TRIAL BALANCE
4. Wrong computation with the same
erroneous amount posted to both the debit
and credit sides.
• The effect of an error on the trial balance
depends on the normal balance of the
account involved. For example, cash has a
normal debit balance, so any understatement
or overstatement of cash affects only the
debit side of the trial balance. It does not
affect the credit side of the trial balance.
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 EFFECT OF ERRORS REVEALED BY A TRIAL
BALANCE
• An erroneous debit to an account with a
normal debit balance will overstate that
account; an erroneous credit will understate
that account.
• An erroneous debit to an account with a
normal credit balance will understate that
account; an erroneous credit will overstate
that account.

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 EFFECT OF ERRORS REVEALED BY A TRIAL
BALANCE
• Overstatement is corrected by deduction
while understatement is corrected by
addition.
• Correction is made on a “per account” basis,
meaning if an error affects to accounts, two
separate corrections are made on those
accounts.
• In the correction of errors, the “should be
entry” is compared with the present entry to
arrive at the correcting entry.
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 NORMAL BALANCES
ACCOUNT NAME DEBIT CREDIT
ALL ASSETS XXXX
ALL LIABILITIES XXXX
EQUITY ACCOUNTS XXXX
ALL EXPENSE ACCOUNTS XXXX
ALL REVENUE OR INCOME
ACCOUNTS XXXX
CONTRA ACCOUNTS XXXX

Intermediate Accounting Part 1