PART II

CLASSES OF ACCOUNTS =39.= In double entry bookkeeping, the accounts used may be divided into the two general classes of _personal_ and _impersonal_. For the purpose of more complete classification, the second class is further subdivided into _real_, _representative_, and _nominal_ accounts. =40. Personal Accounts.= A personal account is a record of transactions with a particular person or persons. _Examples_-- A record of transactions with persons who buy goods from us. A record of transactions with persons from whom we buy goods. [Illustration] =41. Real Account.= A real account is a record of transactions with respect to a particular property. Properties which we possess are termed _resources_ or _assets_; therefore all real accounts are also _asset accounts_. [Illustration] _Examples_-- Real estate (land and buildings), Machinery, Furniture, Merchandise, etc. =42. Representative Account.= A representative account is a summary of all debit or credit transactions of a particular class with respect to several personal accounts. The debit or credit to this account completes the double entry, and illustrates the rule that in double entry there must be a credit for every debit. _Example_-- We sell goods to a number of customers, and the amounts of these sales are debited to their several accounts. To complete the double entry, we credit the total amount of these sales to an account called _sales account_. The total credits to this account during any given period _represent_ the sales to all customers for the same period, and the sales account is a _representative_ account. The total debits to all customers' accounts for goods purchased in one month amount to $1,423.62. This amount is credited to the sales account. Likewise the purchases for the same period amount to $947.20, and the several amounts are credited to the personal accounts of those from whom the purchases were made, while a like amount is debited to a representative account known as a purchase account. [Illustration] =43. Nominal Account.= A nominal account is a record of transactions having to do with profit and loss; a record of a particular class of expenditures from which no direct returns are expected; any impersonal account which does not come under the classification of real or representative accounts. _Example_-- We buy coal to be used in heating our building. The coal is not to be resold, but its use is necessary; it is one of the expenses of conducting the business, and we charge the amount to an _expense_ account. Expense is a _nominal_ account kept for the purpose of showing the total expenses of the business. [Illustration] =44. Merchandise Account.= The merchandise account is a real account formerly much used, but discarded by modern accountants. When used, this account is debited with all purchases of merchandise and credited with all sales. The account is also charged with all goods returned by our customers, and credited with all goods which we return to those from whom we have purchased them. Goods returned by our customers are charged at the prices at which they were purchased by the customers; consequently the debit side of the merchandise account does not furnish a true exhibit of our purchases; neither is the credit side a true exhibit of our sales. Since the merchandise account furnished no valuable information, other accounts which exhibit more vital statistics have been substituted. =45.= _Purchase account_ is one of the accounts substituted for the merchandise account. This account is charged with all purchases as represented by the footings of the purchase book or purchase journal. This completes the double entry, the separate purchases having been credited to the personal accounts of those from whom the goods were purchased. All returns or other similar deductions allowed on purchase invoices are charged to those from whom the purchases were made and credited to purchase account. The balance of the purchase account then shows the total net purchases. =46.= _Sales account_ takes the place of the credit side of the merchandise account. All sales as shown by the footings of the sales book are credited to the sales account, completing the double entry. All returns and allowances are likewise charged to the sales account. The balance of the sales account shows total net sales. SAMPLE TRANSACTIONS =47.= The following transactions, properly recorded in journal sales book, purchase book, and ledger, demonstrate the uses of the merchandise, purchase, and sales accounts explained in the preceding paragraphs: --Sept. 20-- Bought from American Furniture Co., Grand Rapids 2 #four-drawer V F cabinets $11.00 $22.00 4 #35 card sections 4.20 16.80 1 #35 top 1.75 1 #35 base 1.25 $41.80 ------ --21-- Bought from Morgan Printing Co., Chicago 5,000 #1 plain ruled #35 cards .90 4.50 3,000 #1 ledger " #35 " 1.50 4.50 2,000 #1 " " #46 " 2.00 4.00 13.00 ------ --22-- Sold to Ackers & Co., 224 Randolph St. 4 #35 sections 5.50 22.00 1 #35 top 2.25 1 #35 base 1.75 26.00 ------ --23-- Sold to Thompson & Co., 94 Monroe St. 2,000 #1 plain ruled 35 cards 1.25 2.50 --24-- Received from Ackers & Co. 1 #35 section 5.50 (Damaged) --25-- Shipped to American Furniture Co. 1 #35 section 4.20 (Received in bad order) In the first demonstration, the footings of the sales and purchase books, as well as the returns entered in the journal, are posted to a merchandise account. It will be noted that the debit side of the merchandise account does not represent the actual purchases, and the credit side does not represent the sales. In the second demonstration, the purchase and sales accounts are used. Total sales are credited to sales account from purchase book, and returns credited from the journal. The balances of these accounts show actual net purchases and sales. [Illustration] [Illustration] [Illustration] CLASSES OF ASSETS =48.= Asset accounts are accounts representing resources or assets of the business. Assets are classified as _Fixed_; _Active_ or _Floating_; _Passive_ or _Speculative_; _Fictitious_. _Fixed assets_ are those permanent forms of property which are a necessary part of the equipment used for conducting the business--such as real estate, buildings, machinery, etc. _Active_ or _floating assets_ are those forms of property of which the quantity in our possession varies from day to day--as merchandise, accounts, cash, etc. _Passive_ or _speculative assets_ are those (_a_) whose values are not readily determined, or (_b_) whose values are subject to market fluctuations--as, for example, (_a_) franchises, copyrights, patents; (_b_) stocks, bonds, or other speculative securities. _Fictitious assets_ are those which are not represented by tangible property, or which are of value to a going business but would have no market value if the business were closed out or liquidated. These assets are frequently represented by an expense account on the books. The initial advertising expense necessary to launch the business successfully is frequently carried on the books as an asset. The amount of such advertising expense is spread over a stated period, a certain proportion being charged into the regular expense accounts each year until the entire amount is used. =49. Examples of Fixed Assets.= The assets of an ordinary mercantile business are of the first two classes only--fixed and floating. The most common forms of fixed assets of such a business are: _Real Estate_--generally understood to include land and buildings owned and used in the business. _Furniture and Fixtures_--represented by office and store furniture, shelving, counters, stoves, furnaces or other heating appliances, lighting fixtures. _Horses and Wagons_ or _Trucks_--including all horses, wagons, trucks, harness, or motor-cars used for hauling goods. If the business is one in which these classes of property are dealt in, they become active assets. Land, for example, would be one of the _active_ assets of a business organized to buy and sell real estate. =50. Examples of Floating Assets.= The active or floating assets of a mercantile business are: _Merchandise_--meaning the stock in trade or goods dealt in. _Accounts_--the open accounts of customers who owe for goods purchased. _Notes_ or _Bills Receivable_--all outstanding notes payable to the firm. _Cash_--the amount of cash on hand and in the bank. =51. Examples of Passive Assets.= Passive or speculative assets are more frequently found on the books of a manufacturing business, a corporation, or a business a part or whole of which has been sold by the original owners. Examples of these assets are: _Patents_--A manufacturer owns a patent the value of which depends upon future profits resulting from the manufacture and sale of the article which it covers. It is customary to place a value on the patent, and to consider it an asset of the business. _Good-Will_--A man has established a business which has become extremely profitable, and in selling the business he places a certain value on the reputation or goodwill which he has built up. _Speculative_--A firm having a surplus not required in the business sometimes invests it outside of the business with the expectation of realizing a profit by selling at an advanced price. They buy grain or provisions, mining or railway stocks, etc. Or an investment may be made in the stock of some manufacturing business to be established in the town, because such an enterprise, if successful, will naturally result in an increase in their own business. =52. Examples of Fictitious Assets.= Fictitious assets are seldom found on the books of other than corporations where a large initial promotion expense is involved. A good example of a fictitious asset is: _Advertising_--A business house may decide on an average annual expenditure for advertising; but to be effective, the expenditures for the first two or three years may necessarily exceed this amount. The excess is considered as an investment since it is expected that as the business becomes firmly established the annual expenditure can be reduced to an amount even less than that estimated, gradually reducing the amount carried on the books as an asset. To illustrate: Annual advertising appropriation for ten years is $10,000.00. Expended first year $18,000.00 Deduct appropriation 10,000.00 ---------- To advertising inventory 8,000.00 Expended second year 15,000.00 Deduct appropriation 10,000.00 ---------- To advertising inventory 5,000.00 Expended third year 10,000.00 Deduct appropriation 10,000.00 ---------- To advertising inventory 000.00 Appropriation fourth year 10,000.00 Expended " " 8,000.00 ---------- To credit advertising inventory 2,000.00 Appropriation fifth year 10,000.00 Expended " " 9,000.00 ---------- To credit advertising inventory 1,000.00 Appropriation sixth year 10,000.00 Expended " " 10,000.00 ---------- To advertising inventory 000.00 Appropriation seventh year 10,000.00 Expended " " 9,000.00 ---------- To credit advertising inventory 1,000.00 Appropriation eighth year 10,000.00 Expended " " 8,000.00 ---------- To credit advertising inventory 2,000.00 Appropriation ninth year 10,000.00 Expended " " 7,000.00 ---------- To credit advertising inventory 3,000.00 Appropriation tenth year 10,000.00 Expended " " 6,000.00 ---------- To credit advertising inventory 4,000.00 ---------- ---------- $13,000.00 $13,000.00 REVENUE ACCOUNTS =53.= The term _revenue_ (synonymous with _income_) is used to designate those items which, when brought together in an account, exhibit the profit or loss of the business. _Revenue receipts_ are the receipts which originate exclusively from the sale or exchange of the commodities or things of value for the handling of which the business has been organized. _Revenue expenditures_ are those expenditures connected with the expense of operation or administration of a business, including such items of expense as postage, printing, salaries, rent, etc. _Revenue accounts_ is a term used to designate those accounts that represent revenue receipts or revenue expenditures. =54. Revenue Receipts.= The account representing revenue receipts in all lines of business (though it may sometimes be known by another name) is the _sales account_--a representative account showing net sales. Net sales, less cost of goods sold, represent gross profits. Gross profits, less cost of conducting the business (revenue expenditures) represent net profits. =55. Expense.= The broad term _expense account_ represents all revenue expenditures; but in modern bookkeeping the amounts of the different classes of expense are kept separate as far as possible. Some of the most commonly used divisions of expense are: Rent; Insurance; Taxes, Interest and Discount; Out Freight and Express; Heat and Lights; Labor; Salaries, etc. It is customary to open one account in the name of _General Expense_, to care for expenditures not included in special accounts. =56.= _Insurance_--A nominal account to which is charged all sums paid to insurance companies (called _premiums_), in consideration of which our property is insured against loss by fire, cyclones, or other disaster. =57.= _Rent_--A nominal account to which is charged all sums paid for use of property which we rent or lease from others for the benefit of our business--usually the buildings in which our business is transacted or in which our goods are stored. =58.= _Taxes_--A nominal account to which are charged all taxes and license fees paid on account of property owned or business transacted. =59.= _Interest_--This is a nominal account which should include only interest charges paid or interest earned on account of capital. When we borrow money or discount a note, we do it because we need cash capital, and the interest paid is a capital expense or a direct source of loss. Exchange charged for the collection of notes and drafts belongs in the same class. All interest paid for the use of money, and exchange paid for the collection of notes, drafts, and checks, should be debited to interest account. When we save the discount by prepayment of bills, the discount is earned by the use of capital. All such earnings are a direct source of profit and should be credited to interest account. Discount paid on notes is interest paid in advance, and should not be confused with discounts allowed to customers for the prompt payment of bills; the latter is a reduction in the price received for our goods, and reduces trading profits. This question is discussed under the head of _Cash Discounts_. =60.= _Out Freight and Express_--A nominal account which is debited with all transportation charges paid on goods that we ship, whether sales are made at delivered prices or freight is paid as an accommodation to the customer. When goods are sold at f. o. b. prices, and the freight is paid by us as an accommodation to the customer, out freight should be credited and the customer debited. This should not be confused with _in freight_, or freight paid on goods received, as such charges add to the cost of the goods and should be charged to the account representing that particular class of goods. =61.= _Heat and Light_--This account is debited with all sums paid for fuel, heating bills, lighting bills, and lighting supplies. =62.= _Labor_--A nominal account which is debited with all sums paid as wages to mechanics or laborers employed by the business. =63.= _Salaries_--A nominal account which is debited with all salaries paid to managers, salesmen, clerks, and others employed in the administration of the business. RULES FOR JOURNALIZING =64.= Journalizing is one of the most important operations in bookkeeping, since journalizing a transaction involves the selection of the proper accounts to be debited and credited completing the double entry. With the use of separate sales and purchase records, the journal itself is used principally for those entries involving a transfer of values from one account to another. These are frequently referred to as _cross entries_. The number of possible entries of this class is practically unlimited, and they require careful study on the part of the bookkeeper. Rules for journalizing are frequently referred to in bookkeeping textbooks; but, since the custom of journalizing every transaction is now obsolete, the term is no longer sufficiently descriptive. A better term to use would be _rules for debit and credit_, for it is the rules of debit and credit that must be followed when a journal entry is to be made. [Illustration] =65. Three-Column Journal.= A three-column journal suitable for a small business is shown above. The third column is used for sales only, while the first two columns are used for regular journal entries. The use of the column for sales answers the same purpose as a sales book, and total sales are posted to the credit of sales account at the end of the month. SAMPLE TRANSACTIONS =66.= For the purpose of demonstrating the principles of debit and credit as exemplified in the journal, the following transactions except those involving cash are _journalized_ in a three-column journal. The third column is used for sales, and it is to be understood that a cash account is kept in a separate cash book. --April 2-- Sold to Hiram Watson on account 10# gran. sugar 5½c. $.55 3 bars soap .25 2# starch 5 .10 2 cans corn .25 $1.15 ---- --2-- Paid electric light bill--cash 4.75 --2-- Sold for cash sundry merchandise 8.60 --3-- Bought from Eureka Milling Co. on account 5 bbls. XXX flour 3.75 18.75 --4-- Sold to J. L. Jarvis on account ¼ bbl. flour 1.25 2# butter .32 .64 1# coffee .30 10# lard .11 1.10 3.29 ---- --4-- Bought from J. L. Jarvis on account Fire Insurance on stock and fixtures, $3,000.00 for one year from date 18.00 --5-- Paid Eureka Milling Co. cash 18.75 --6-- Sold to J. L. Jarvis on account 1# cheese .16 1 doz. eggs .22 1# baking powder .50 3 bu. potatoes .65 1.95 2.83 ---- --6-- Bought from Atlas Safe Co. on account 1 office safe 50.00 Paid cash for repairs to door lock .40 Sold for cash sundry merchandise 16.70 [Illustration] [Illustration] EXAMPLES FOR PRACTICE