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three accounts – Cash, Accounts Receivable, and Accounts Payable – are part of the balance sheet, covered in Book II Chapter 4. Asset accounts on the balance sheet usually carry debit balances because they reflect assets (in this case, cash) owned by the business. Cash and Accounts Receivable are asset accounts. Liability and Equity accounts usually carry credit balances because Liability accounts show claims made by creditors (in other words, money owed by the company to financial institutions, vendors, or others), and Equity accounts show claims made by owners (in other words, how much money the owners have put into the business). Accounts Payable is a liability account.
Here’s how these accounts impact the balance of the company:
The Sales account (see Figure 3-8) isn’t a balance sheet account. Instead, it’s used in developing the income statement, which shows whether or not a company made money in the period being examined. (For the lowdown on income statements, see Book II Chapter 5.) Credits and debits are pretty straightforward when it comes to the Sales account: Credits increase the account, and debits decrease it. The Sales account usually carries a credit balance, which is a good thing because it means the company had income.
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Figure 3-8: Sales account in the General Ledger.
What’s that you say? The Sales account should carry a credit balance? That may sound strange, so let me explain the relationship between the Sales account and the balance sheet. The Sales account is one of the accounts that feeds the bottom line of the income statement, which shows whether your business made a profit or suffered a loss. A profit means that you earned more through sales than you paid out in costs or expenses. Expense and cost accounts usually carry a debit balance.
The income statement’s bottom line figure shows whether or not the company made a profit. If Sales account credits exceed expense and cost account debits, then the company made a profit. That profit would be in the form of a credit, which then gets added to the Equity account called Retained Earnings, which tracks how much of your company’s profits were reinvested into the company to grow it. If the company lost money, and the bottom line of the income statement showed that cost and expenses exceeded sales, then the number would be a debit. That debit would be subtracted from the balance in Retained Earnings to show the reduction to profits reinvested in the company.
If your company earns a profit at the end of the accounting period, the Retained Earnings account increases thanks to a credit from the Sales account. If you lose money, your Retained Earnings account decreases.
After you post all the Ledger entries, you need to record details about where you posted the transactions on the journal pages (see Book I Chapter 4 for more on journals).
Adjusting for Ledger Errors
Your entries in the General Ledger aren’t cast in stone. If necessary, you can always change or correct an entry with what’s called an adjusting entry. Four of the most common reasons for General Ledger adjustments are
✔ Depreciation: A business shows the aging of its assets through depreciation. Each year, a portion of the original cost of an asset is written off as an expense, and that change is noted as an adjusting entry. Determining how much should be written off is a complicated process that Book IV Chapter 1 explains in greater detail.
✔ Prepaid expenses: Expenses that are paid up front, such as a year’s worth of insurance, are allocated by the month using an adjusting entry. This type of adjusting entry is usually done as part of the closing process at the end of an accounting period. Book IV Chapter 6 shows you how to develop entries related to prepaid expenses.
✔ Adding an account: Accounts can be added by way of adjusting entries at any time during the year. If the new account is being created to track transactions separately that once appeared in another account, you must move all transactions already in the books to the new account. You do this transfer with an adjusting entry to reflect the change.
✔ Deleting an account: Accounts should only be deleted at the end of an accounting period. The next section shows you the type of entries you need to make in the General Ledger.
Book IV Chapter 6 talks more about adjusting entries and how you can use them.
Using Computerized Transactions to Post and Adjust in the General Ledger
If you keep your books using a computerized accounting system, posting to the General Ledger is actually done behind the scenes by your accounting software. You can view your transactions right on the screen. This section shows you how using two simple steps in QuickBooks Pro 2014, without ever having to make a General Ledger entry. Other computerized accounting programs let you view transactions on the screen too. QuickBooks is used for examples throughout the book because it’s the most popular system:
1. In My Shortcuts, scroll down to “Accnt” to pull up the Chart of Accounts (see Figure 3-9).
2. Click on the account for which you want more detail. In Figure 3-10, I look into Accounts Payable and see the transactions when bills were recorded or paid.
Figure 3-9: A Chart of Accounts as it appears in QuickBooks.
Figure 3-10: A peek inside the Accounts Payable account in QuickBooks.
If you need to make an adjustment to a payment that appears in your computerized system, highlight the transaction, click Edit Transaction in the line below the account name, and make the necessary changes.
Chapter 4
Keeping Journals
In This Chapter
▶ Starting things off with point of original entry
▶ Tracking cash, sales, and purchases
▶ Posting to the appropriate accounts
▶ Simplifying the journals process with computers
When it comes to doing your books, you must start somewhere. You could take a shortcut and just list every transaction in the affected accounts,