L. ACCOUNTS CURRENT
=Definition.=—An account current in its broadest sense is an account of current transactions. In a technical sense, it is an open personal account, one with an outstanding balance. Frequently accounts are allowed to run on between two persons, recording transaction after transaction with partial or full settlement at times but with no intention of closing the account. A principal may have constant dealings with his agent or representative, making periodical payments on account or making remittances to be used as needed by the agent. The agent may make purchases for the account of his principal, paying the bill out of his own funds. He may use in his own transactions any surplus funds of the principal in his possession. An account showing transactions of these various kinds is an account current. The customers’ accounts in brokerage houses and the accounts between banks—banks and their correspondents—are other examples of accounts current.
=Interest on Balances.=—In handling accounts current between banks and in brokerage houses, it is the practice to charge the account with interest on the debit balances and to credit it with interest on the credit balances. It was formerly the practice in some lines of trade to charge interest on all overdue customers’ accounts. Frequently today invoices carry a statement to that effect, although the policy is not often enforced through fear of loss of patronage.
=Joint Venture Accounts.=—In the case of joint ventures discussed in Chapter XLIX, a condition analogous to this was mentioned where the joint account was charged and the contributing partners’ accounts were credited with interest, while the managing partner was charged and the joint account credited with interest on all joint funds retained in his possession.
=Partners’ Accounts and the Account Current.=—Occasionally, also, in partnership adjustments at the close of a fiscal period, the agreement may require the business, i.e., the partnership, to allow each partner credit for interest on his investments and charge him with interest on his withdrawals. Each partner’s account is treated very much as an account current of the business when such adjustments are prescribed.
=Illustration of Account Current.=—Thus, while the old account current as formerly understood and applied to the ordinary customer and creditor relationship is now very seldom encountered, the principle of it is met with frequently enough to demand explanation and illustration. No special form is necessary for the stating of an account current; the interest calculations on the various balances can be made outside the account and only the net result be embodied in the account. A form of account is shown in Form 45, however, which exhibits all necessary data on its face. Take the following account on which 5% interest is to be charged and allowed:
B. I. PERKINS, CURRENT ACCOUNT ==================================================================== 19— | 19— July 4 Cash 1,250.00 | June 4 Balance 600.00 Aug. 11 Note 60 da., no int. 1,500.00 | July 4 Mdse. n/30 1,400.00 Nov. 11 Cash 1,000.00 | Aug. 3 Mdse. n/30 1,000.00 Dec. 7 Cash 400.00 | Oct. 2 Mdse. 2,100.00 10 Rtd. Goods of | Dec. 4 Mdse. 800.00 Dec. 4 50.00 |
=Adjusting the Account Current.=—Adjustment of such accounts is usually made periodically. Referring to the illustration shown in Form 45, the interest calculation is made counting the exact number of days from each “date of value” to and including December 31. Interest is figured, for the sake of ease of calculation, on a 360-day basis. A 365-day basis would be more accurate and this is often done on current accounts between banks. The “date of value” is the date from which interest may be equitably charged or allowed. For example, in the above account, the credit for merchandise purchased on July 4, but with a credit allowance of 30 days, may not equitably be allowed till 30 days thereafter, or August 3. On the debit side, the note for $1,500 dated August 11, at 60 days with no interest, cannot be equitably counted until it comes due, i.e., on October 10. Similarly, the “date of value” on December 10, for the goods returned of the transaction of December 4, must be reckoned as of the same date as the original transaction, for only a portion of the full credit set up is allowed to remain.
In the above problem, the credit interest exceeds the debit by $35.80. This amount is therefore brought as an additional credit into the account. The account as now adjusted will be sent to B. I. Perkins for his verification. When formally approved, or if no objection is made to it after a reasonable length of time, the account is balanced and it becomes now what is termed an adjusted account. This periodic adjustment makes possible the localization of disagreements and their settlement while the facts are still fresh in mind. Its effect, however, is to produce a slight compounding of interest unless the balance is immediately settled.
Another method of making the interest calculation is on the basis of the balance of the account after each transaction and the length of time it remains unchanged, i.e., until the next transaction changes the balance. This method follows somewhat the method illustrated in Chapter XXXIII for division of partners’ profits on the basis of the amount of the investment and the length of time invested; but under this method it is not possible to make so condensed and apparent a statement of account as by the method illustrated in full above.
It sometimes happens that the “date of value” may fall beyond the settlement date, as where the term of credit throws the time of payment far enough ahead that payment cannot be demanded till after a periodic settlement time. The effect of such a condition is to reverse the interest charge for the period beyond the settlement date to an interest credit, or vice versa. The method of averaging accounts or equation of payments, as it is sometimes called, may be used to advantage here. Explanation and illustration of this method are given in Chapter LII.
=The Bank Account an Account Current.=—The bank’s account with a depositor is a good example of the account current. Except by special agreement, the allowance of interest is not customary. Periodically, the depositor’s pass-book is balanced or a statement of his account is rendered by the bank. When the balanced pass-book, with canceled checks, is returned to the depositor, or when the statement of account is rendered by the bank, the record kept by the depositor—as shown by his check book stubs or by the bank column in his cash book—will not usually show the same balance as that indicated by the bank’s statement, and adjustment or reconciliation is necessary to check the accuracy of the statement. In Chapter XLI, regarding the handling of cash, the policy was recommended of depositing all receipts and paying only by check. A cash book kept under that plan, making use of a net cash column on both sides, does not need an additional column for the bank record because everything shown in the net cash columns has either been deposited in the bank or paid out by check. The cash book balance, therefore, should be the same as the bank’s balance. If the record of the bank account is kept only on the check book stubs or interleaves, this balance should be the same as the bank’s. But however kept, there will almost invariably be a few outstanding checks which the depositor’s cash book or check book shows as having been issued, but which have not been presented to the bank for payment at the time the statement of account is rendered and which therefore are not included in the statement. This brings about a difference which must be reconciled.
=Reconciliation of Bank Balance.=—Two methods of reconciliation are used. The one brings the bank’s balance into agreement with that of the depositor; the other starts with the depositor’s balance and brings it into agreement with that of the bank. The first step in the reconciliation is to discover which of the checks issued by the depositor have not been paid by the bank. This is done by arranging the returned checks in numerical sequence and comparing these with the depositor’s record of checks issued. Usually the total of these few unpaid checks will be equal to the discrepancy between the two records, and so will reconcile them.
The following problem is given to illustrate the above discussion:
PROBLEM. On March 20, at the close of the day, the bank’s statement showed a balance of $1,525.14. The depositor’s record on the same date showed $604.19. The following checks were outstanding: No. 529B, $214.50; 542B, $379.60; 557B, $119.40; 581B, $75.20; and 992A, $132.25.
Reconciliation statement, as on March 20, 19—:
Bank balance as per bank’s statement $1,525.14 Outstanding checks: No. 992A $132.25 529B 214.50 542B 379.60 557B 119.40 581B 75.20 920.95 ------- --------- True balance as per cash (or check) book $ 604.19 ---------
Other method:
True balance as per cash book $ 604.19 Outstanding checks: No. 992A $132.25 529B 214.50 542B 379.60 557B 119.40 581B 75.20 920.95 ------- --------- Bank balance as per bank’s statement $1,525.14 ---------
=Other Reconciliation Factors.=—Oftentimes other items than those shown must be taken into consideration when reconciliation is made. Where several bank accounts are kept and a check register—in addition to the cash book—is used to keep record of the accounts with the various banks, it may happen that checks drawn on one bank are wrongly charged to another; that checks drawn, or deposits made one day, are not credited until the next; that certain drafts deposited with the bank for collection are not credited to the depositor’s account until collection is made, whereas the depositor debited the bank at the time of the deposit; again it may be that the item of bank’s charges for collection has not yet been recorded; or that interest on deposit balances has not been credited, etc. All such items must be considered when reconciliation is made. Where there are many of these adjustment items to be taken account of, it may be necessary to list them in formal schedules under such heads as:
1. Bank charges, we do not credit. 2. Bank credits, we do not charge. 3. We charge, bank does not credit. 4. We credit, bank does not charge.
Examples of transactions bringing about the above debits and credits are:
1. Protest fees charged against the depositor’s account, of which he has not been notified.
2. Interest on bank balance credited by bank before the depositor is notified.
3. Deposits made and charged to bank but not yet credited by bank or credited in error to some other depositor’s account.
4. Checks drawn but not yet presented to the bank for payment.
When the first method of reconciliation is used, items (1) and (3) must be added to the bank’s balance and items (2) and (4) must be subtracted from it in order to arrive at the cash book balance. The following problem will illustrate this:
PROBLEM. In the bank’s statement of July 1, 19—, with a balance of $675, are included protest fees in connection with the collection of checks amounting to $7.50, and interest allowed on our average bank balance of $16.67. Our deposits for June 30, 19—, totaling $250 in the morning and $100 in the afternoon, have not been credited by the bank. Outstanding checks amount to $180. Our cash book balance on July 1, 19— was $835.83.
Bank reconciliation statement as of July 1, 19—:
Bank balance as per bank’s statement $ 675.00 Add: Deposit not included in above balance $350.00 Bank charge not included in our balance—protest fees 7.50 357.50 ------- --------- $1,032.50 Deduct: Outstanding checks $180.00 Bank interest, not included in our balance 16.67 196.67 ------- --------- Balance as per cash book $ 835.83 =========
It will be seen that neither the cash book balance nor the bank balance is a correct statement of the cash available for checking. The depositor, in order to find this amount, will have to take account of the figures given by the bank for items he has not known about. His checking balance in the above problem is ascertained as follows:
Cash book balance $835.83 Less—Bank charges 7.50 (expenses to the depositor) ------- $828.33 Plus—Bank credits 16.67 (income to the depositor) ------- True balance available for checking $845.00 =======
There is not usually so much difficulty in reconciling the bank account; but where several bank accounts are maintained, it is easy to misplace debits and credits and a formal statement of reconciliation should always be made and kept as a part of the record. This reconciliation should be made every time a statement is received from the bank. The frequency of asking for a statement of account from the bank depends somewhat upon the volume of transactions handled through the bank, but it should be secured at least every month and particularly whenever formal statements of profit and loss and balance sheet of the depositor are made up.
=Reconciliation Statement a Permanent Record.=—The reconciliation statement should be made as a permanent record. A customary place of record is on the check stub of the same date. Where a check register is used, it should be made a part of the record there. Occasionally it is incorporated in the cash book. Wherever made it should be easily available for proof at a subsequent period. When reconciliation is to be made as of a past date, i.e., at a time subsequent to the date on which reconciliation is desired, the bank’s cancellation date on the returned checks must be used to determine what checks were outstanding on that date.
=Reconciling Other Accounts.=—Occasionally the dealings between two firms located at a distance from each other may be such that items are in transit one or both ways at the time when statement of account is rendered. If this is the case, the methods of reconciliation applied above to the bank account may have to be used before agreement or comparison of the two records can be effected.
LI. BALANCING METHODS
=The “Fool-Proof” Trial Balance.=—Double-entry bookkeeping is never satisfied with anything short of absolute proof of the mathematical accuracy of the work. Often such proof is very difficult to secure. There has not yet been devised—and in the nature of things, never will be—any so-called royal road to the trial balance. Yet one often sees claims put forth that there is no longer any need for trial balance troubles. The use of certain methods, which are disclosed only upon payment of fees in proportion to the advantages claimed for them, makes it possible, according to their devisers, to take a trial balance within an incredibly short time or to do away with trial balances altogether. As a matter of fact, satisfactory results can be obtained only by habits of accuracy and by proving the work done wherever possible. Some methods found useful in searching stubborn errors will be explained in this chapter.
=Ledger Analysis.=—By ledger analysis is meant an analysis of postings classified according to the books of original entry, i.e., on the basis of all journals whose record is transferred to the ledger. The process of making such an analysis is somewhat as follows: The ledger must be gone through carefully and for each account the last debit and credit figures which entered into the last correct trial balance must be marked distinctly so as not to be included in the analysis. If the analysis is for an interim period, the first debit and credit items belonging to the next period should be marked in a similar way, as shown in the illustration (Form 46). This must be done very carefully as the “date” is not always a safe guide. The use of subsidiary journals with one summary posting to offset many detailed contra postings and inaccurate dating of the summary posting, often make the “date” an uncertain guide. Care should therefore be exercised so that the points marked include a complete, i.e., a debit and credit, posting of every journal.
=Procedure of Analysis.=—The content of each account between the marked points is now analyzed according to the journals from which the postings have been made. Analysis paper, with debit and credit columns headed for each journal, may be used for this purpose. All debits in the account posted from the journal are entered in the debit journal column of the analysis sheet, all cash debits in the debit cash column, all sales journal debits in the debit sales journal column, etc. Similarly, the credit postings in the account are entered in the proper credit columns of the analysis sheet. Each item in the account should be checked or otherwise marked when transferred to the analysis sheet. Illustration of the analysis sheet is given in Form 47.
When the various accounts have thus been analyzed, there should remain no unchecked items in the period analyzed, unless there have been transfers between accounts made directly on the face of the ledger. If this has been the practice, an additional heading with debit and credit columns, entitled “Ledger Transfers,” should be set up on the analysis sheet. Every account in the ledger is analyzed in the same way.
=The Analysis Sheet.=—It will be noticed in Form 46 that only the period between the two diagonal marks \ and / is under analysis. Accounts which have been closed but are within the period under analysis must, of course, be included. When all accounts have been analyzed, the columns of the analysis sheet are footed. For each journal the footings of the debit and credit columns should be equal. A difference will indicate that there is an error in the postings from that particular journal. In this way the error is localized and only these postings need to be checked individually.
The cash book columns in the analysis sheet (Form 47) may need some explanation. If no Cash account is kept on the ledger, the balance of the cash book for the period will have to be entered on the analysis sheet before equality of the cash columns will be shown. With the exception of the items transferred to the analysis sheet from the Cash account—where a Cash account is carried in the ledger—all items in the cash debit column of the analysis sheet represent, in the cash book, credits to certain accounts, and those in its credit column represent debits to certain accounts. The entries to the cash analysis column from the ledger Cash account, showing on its debit cash receipts and on its credit cash disbursements, must bring about the equilibrium. The column total, however, will not represent cash receipts and cash disbursements respectively, but the total of each column will be the sum of both receipts and disbursements; whereas the totals of the other columns are equal to the totals of the corresponding journals for the period. This is brought about by the fact that the two cash columns on the analysis sheet really cover two independent journals, viz., the cash receipts and the cash disbursements journals.
Agreement between the debit and credit totals of corresponding columns is proof of equilibrium in the postings from that book; but unless these column totals also equal the total of the corresponding journal, there is evidence of the omission from the ledger, both on the debit and on the credit side, of items recorded in the journal. Thus the ledger analysis serves also as a check against omissions; but when used for that purpose, account must be taken of duplicate entries in the various journals, such as cash sales entered both in the cash and sales journals but posted only from one of them.
=Use of Ledger Analysis.=—All that is claimed for the ledger analysis is that it localizes the error, if it is an error in posting, and so makes the work of searching for it less haphazard and renders unnecessary a checking of all postings in the ledger. All the means previously explained should be exhausted before this method is used. If the previous trial balance, i.e., the one at the beginning of the analysis period, is correct and the ledger analysis shows no errors in posting, then certainly the trial balance for the end of the analysis period must balance. If not, the error is an error on the face of the ledger and its computations must be proved.
=The Slip or Reverse Posting System.=—As indicated before, it is better to post carefully and accurately in the first place than to hunt for errors afterwards. A method of proving daily postings known as the slip or reverse posting system is used with success in many places. Formal slips of any convenient width and length are provided, one for the debit and one for the credit of each book from which postings are made. The debit slips may be easily distinguished from the credit slips by the use of different colors. The debit slips are ruled only with money columns and each slip bears the title of its journal. Reverse posting is made on the slip from the items posted to the ledger. Thus, when posting the debits from the general journal, the general journal debit slip is carried conveniently on the right of the ledger and entry of each debit posting to the ledger is made from the ledger to the slip. When all journal debit postings have been made, the reverse posting slip is totaled and must agree with the total of the journal debit column for the items posted. Similarly, the journal credits are posted, reverse posted, and proved. The debit postings must equal the credit postings and thus proof is secured of the equilibrium of the ledger. Each journal is posted, reverse posted, and proved in a similar way. The bookkeeper is, in this way, sure of the correctness of his work day by day. Oftentimes monthly recapitulation of these reverse posting slips are made and preserved as part of the business records. It will be seen that this method is identical with the ledger analysis method explained above but applied at the time of making the posting instead of at the close of the period.
=Check Figures in Posting.=—The use of the check figures 9 and 11 in the verification of the arithmetic processes of addition, subtraction, multiplication, and division was referred to earlier. Other odd numbers, such as 13, 17, and 19, are less frequently employed. The number 11 gives perhaps the most satisfactory results from the standpoints of ease of application and accuracy of results. Its use in the verification of postings is somewhat as follows:
An additional column similar to the folio column should be provided in all the books for the check numbers. As an amount is posted to the ledger the bookkeeper should determine the check number from the item as it is written in the ledger—not from the journal item—and enter it in the check column in both ledger and journal. When postings from the journal are complete, the journal is totaled and the check figure for its sum found. If this agrees with the sum of the check figure column in the journal, posting is presumably correct. If the two items do not agree, the check number for each amount in the journal debit column should be proved. Inasmuch as the check number used was obtained from the ledger amount, a wrong check number for the journal amount would indicate a wrong posting which should now be turned to and corrected.
The check numbers in the ledger accounts are used only for verifying account totals and balances and may even be carried into the trial balance for proving it. Practice in the use of any check number soon develops accuracy and speed and makes the method easy of application and commendable wherever the work must be proved day by day as completed.
=Errors in Columnar Books and Controlling Accounts.=—These are frequent sources of trouble unless handled with care. In the chapter on columnar books, it was laid down as a basic principle that all items appearing in the general amount column should be entered in some analysis column, i.e., analysis columns should be provided for distribution of all items. This makes proof of distribution possible and establishes formal equilibrium of the book so that errors in posting are not so likely to occur.
Care must be exercised in posting the discount columns of the cash book to the proper sides of the respective accounts.
In the use of controlling accounts, where a special column is not provided, as for Accounts Receivable on the credit side of the cash book, posting of the item should be made both to the individual account and also to the controlling account.
=Trial Balance Adjustment Account.=—Where error creeps into the ledger and seems impossible of detection at a monthly trial balance period, the device of forcing a balance is sometimes used by setting up an account called “Trial Balance Adjustment,” “Error in Trial Balance,” or some other similar title. To this is charged or credited the amount of the difference in the trial balance. It is a temporary makeshift, a method of holding the item in suspense until the error is located. Needless to say, the inclusion of such an account does not improve the appearance of a trial balance, but may be countenanced as a temporary expedient.
LII. SOME APPLICATIONS OF INTEREST AND PROPORTION
=The Nature of Interest.=—Interest may be defined as the charge made for the use of money. Sprague defines it as the increase in principal due to the lapse of time. The ethics of the practice of charging interest was questioned by the ancient world and not fully conceded as right until modern times. Various economic theories have been evolved to explain the true character of interest. Whatever they may be, interest as a commercial phenomenon is thoroughly established and countenanced by the law, although in many states an exorbitant interest charge is declared to be usury.
=Commercial Interest.=—Commercial interest, so-called, usually contains an element in addition to the time-charge for the use of money. That element may be: (1) in the nature of a premium for insurance against the risk of losing the money loaned; or (2) where capital in some fixed form is loaned, in the nature of an allowance or additional charge to cover the shrinkage in the asset loaned due to wear and tear.
=Simple and Compound Interest.=—As to its method of calculation, interest may be simple or compound. Simple or single interest is figured on the single base known as the principal, the only other element being the length of time. Compound interest periodically adds the unpaid interest to the previous principal, and so secures interest not only on the original principal but on all unpaid interest as well.
In accounting both kinds of interest are recorded under the common title Interest. Some applications of the interest principle to certain special accounts will be discussed.
=Equation of Payments.=—The practice of averaging accounts is occasionally met with at the present time in American business. In proceedings in bankruptcy, all claims against the bankrupt on open or running account comprising several items, when filed with the trustee, must show the average due date of the items if interest is to be secured on the overdue amounts.
The problem involved may best be shown by an example. The following account appears on A’s books, showing charges against B:
B ============================================================= Jan. 5 Mdse. 2/10, n/30. 100.00 | Feb. 1 Mdse. 2/10, n/60. 350.00 | Apr. 10 Mdse. net 200.00 | June 2 Mdse. 2/10, n/60. 2,000.00 |
If B does not settle the various amounts as they come due, A is deprived of the use of his money longer than contemplated in the sale contract. In justice to him, interest on the overdue amounts ought to be allowed. If B should pay any of the amounts earlier than the terms of sale require, he should be allowed a discount, i.e., a rebate equal to the interest for the time of prepayment. Further, shortly after the last purchase on June 2 at 60 days, amounting to $2,000, B may desire to settle his entire account, taking his discount for prepayment on the $2,000 and allowing A interest on the overdue amounts. If the date of settlement is fixed, the amount necessary for an equitable settlement may be determined by the method used for the account current in the previous chapter.
=Average Due Date.=—But B may want to know the date on which he can settle equitably by paying the exact amount of the account without either paying interest on the overdue items or taking discount on the $2,000. The problem involved is that of averaging or equating accounts. The equated date, due date, or average date of payment are the terms variously applied to the date of equitable settlement. If the account has only debits or only credits, the equation is called a simple or single equation or average; if it has both debits and credits, the equation is called a compound or double equation.
In order to determine the equated date, an arbitrary one, called the focal date, is taken for the purpose of computing the interest charges and credits, and from that date the days of interest are counted backwards or forwards according to the result arrived at through use of the arbitrary date. Interest is calculated at an arbitrary rate, usually 6% (100% per day is used by another method of calculation), and in the case of compound equation the same rate must be used on both debits and credits.
To illustrate the method of calculation for the simple equation and the interest principle involved, the account above cited will be equated. In order that the expired time between the focal date and each date of value may be easily computed, the last day of the previous year is taken as the focal date. Interest is at 6%.
Int. on Total Int. on Each Date of Date of Expired Amount for Amount for Entry Value Time Amount 1 Day Expired Time
1/5 2/4 35 da. $ 100 $ .58 2/1 4/2 92 ” 350 5.37 4/10 4/10 100 ” 200 3.33 6/2 8/1 213 ” 2,000 71.00 ------ ------- $2,650 .44⅙ )$80.28 ====== ------ 182 da.
This calculation shows that theoretically, had the various transactions been under contemplation on December 31, the focal date, payment of the total $2,650 could equitably have been made with a discount of $80.28. The interest (or discount) on $2,650 for 1 day is 44⅙ cents. A discount amounting to $80.28 can therefore be demanded on $2,650 only as the result of an offer to prepay 182 days (80.28 ÷ .44⅙ = 182) before the payments are equitably due. Hence, payment of $2,650 without discount would settle the account equitably 182 days after the focal date, or on July 1. That this is true can easily be proved by using July 1 as the settlement date and figuring as for a current account. It will be found that interest on the overdue items on that date amounts to $10.42, while the discount on the item not yet due amounts to $10.33; the difference .09 not being a large enough fraction (9 ÷ 44⅙) to justify payment one full day earlier.
=The 100% Method.=—A short method of calculation may be used, employing the 100% per day method. Any date may be taken as a focal date, and very frequently the date of the first or last transaction is used. In the illustration below, November 30 of the previous year is taken as the focal date so that the expired time on each item is immediately indicated by the number of the month and the day in the “date of value” column. The use of the 100% per day method makes the calculation of interest on each item a simple matter of multiplication by time and amount, i.e., it reduces each amount to a “day-dollars” figure, and on that basis one day’s interest on the account total is equal to that total, and therefore the divisor in the division made to determine the focal date is the amount of the account. This greatly simplifies all the operations. Sometimes the expired time is calculated by calendar months and days, converting fractions of a month on a 30-day basis. The method is used in the illustration below, where the problem shown above by the accurate interest method is solved by the 100% method.
The “month-dollars” column divided by the “amount” column gives 6, shown in the “equated date, months” column, with a remainder of 2,500. This is reduced, by multiplication by 30, to day-dollars and carried to that column, whose total, 80,100, is divided by 2,650, giving 30 as shown in the “equated date, days” column. The equated date is therefore June 30 (6/30). The one day’s difference between this and the other method is accounted for because each calendar month is counted as 30 days.
Time Month- Day- Equated Date Months Days Amount Dollars Dollars Months Days
2 4 $ 100 $ 200 $ 400 4 2 350 1,400 700 4 10 200 800 2,000 8 1 2,000 16,000 2,000 ----- -------- ------- $2,650 )$18,400 $ 5,100 6 30 ------ 15,900 -------- $ 2,500 30 75,000 6 30 ------- ------- $80,100 79,500 ------- $ 600
=Compound Equation.=—Where the account has both debits and credits, the estimate is made similarly. Calculation of the month- and day-dollars is made for each side separately. At this point the totals on both sides are combined to find the balance of the account and the balance of the discounts, and these two balances are used to find the equated date. If the balance of the account is on the same side as the balance of the discount, the equated date is forward from the focal date because, if settlement were made on that date, the man who owes the balance is entitled to the theoretical discount also. If the balance of the account and the balance of interest are on different sides, the count is backward from the focal date. The following account and solution will illustrate:
S. L. DAVIS ================================================================== 19— | 19— Mar. 8 Mdse. net 1,000.00 | Apr. 30 Note, 30 da., 6% 500.00 June 20 ” n/30 1,500.00 | Aug. 30 Cash 1,500.00 Sept. 5 ” n/60 2,000.00 | Sept. 10 Note, 60 da., no | interest 2,000.00
Debits: Expired Time Interest Months Days Amount Month-Dollars Day-Dollars 3 8 $1,000 $ 3,000 $ 8,000 7 20 1,500 10,500 30,000 11 4 2,000 22,000 8,000 ------ ------- ------- Totals $4,500 $35,500 $46,000
Credits: 4 30 $ 500 $ 2,000 $15,000 8 30 1,500 12,000 45,000 11 9 2,000 22,000 18,000 ------- ------- ------- Totals $4,000 $36,000 $78,000 ------ ------- ------- Balances: Amount Dr. $500 Interest Cr. $500 Cr. $32,000
Dividing we get 1 month, 64 days, i.e., 3 months, 4 days. The balances being on opposite sides, the equated date is 3 months, 4 days, backward from November 30 (11/30), i.e., 11/30-3/4 = 8/26 or August 26. Equitable settlement could therefore be made by interest-bearing note for $500, dated August 26, or by cash payment of $500 plus interest on $500 from August 26 until date of actual settlement, as would be the case had the account been handled as an account current with adjustment as of August 26.
=The Cash Balance.=—When an account has been equated, to determine the cash sum which will be required for equitable settlement on a given date subsequent to the equated date, the balance of the account plus interest on that balance from the equated date to the date of settlement will be the correct amount. This amount is technically called the cash balance of the account. It is exactly the same as the adjusted balance of an account current, and may be determined by such adjustment of the account instead of by the method of equation of payments just described.
=Interest on Partial Payments.=—Under the heads of accounts current and equation of payments, the question of partial payments on open account has been treated. There remains to be discussed a statement of the practices governing partial payments on notes. Two methods of calculating are in use, the legal or United States method and the so-called merchants’ method. The merchants’ method is used for short-time notes and on any other kind by agreement. The method is exactly similar to that of adjustment of current accounts. Interest is charged on the face of the note from its date of issue till its due date, and allowed on each partial payment from its date of payment till the due date of the note. The difference between the sum of the face of the note plus its interest and the partial payments plus their interest accruals is, of course, the balance due.
=United States Rule.=—The United States Supreme Court has ordered the application of the partial payments somewhat differently. The first partial payment must first be applied to the payment of the accrued interest on the principal up to the date of the first payment. Any excess shall be applied to a reduction of the principal. Each succeeding payment is similarly applied first to cancellation of accrued interest on each new principal and then to a reduction of the principal. In case any payment is insufficient to meet the accrued interest, the payment is held in reserve, the principal remaining unchanged until a payment or payments are made which added to the previously reserved payment or payments are sufficient to cancel all interest accrued to that date. Any excess is used to retire the principal.
=Interest on Daily and Savings Bank Balances.=—In the handling of balances between banks, interest on daily balances is usually figured in the settlement. Calculation is on a 365-day basis in the larger banks. Banks frequently allow large depositors a low rate of interest on daily balances maintained above a certain fixed minimum. Take the following account:
X. Z. & CO. ==================================================== Date Dr. Cr. Balance Interest Base Interest Jan. 2 1,500 500 3 300 500 1,700 700 4 800 100 1,000 5 400 600 1,200 200 6 500 400 1,100 100 7 700 1,100 1,500 500 .11 ----- 2,000
In the above account interest is allowed on all amounts above $1,000 at the rate of 2%. If settlement is periodical, interest may be calculated on the total of the “interest base” column for one day. Usually, however, if a monthly settlement basis is used, the total minimum balance for the month is subtracted from the total of the “balance” column, and the remainder is the interest base. In savings banks no interest is allowed on amounts which have been withdrawn during the interest period, regardless of how long the sum may have been on deposit previous to date of withdrawal. There is no uniform practice as to when deposits shall begin to draw interest, in some banks at the beginning of the month after deposit, unless deposit is made on the first day of the current month; in others, not until the beginning of the next interest period. Great care must be exercised, therefore, in handling deposit and withdrawal dates.
=Bank and True Discount.=—Bank discount has been defined as the prepaid or collected interest on a discounted note, calculation being on the basis of the amount to be collected on the note at its maturity.
True discount is the difference between the face of a debt and its present worth, meaning by present worth that sum of money which placed at interest now will equal or be worth the face of the debt at maturity.
=Proportion, Simple and Weighted.=—Proportion is defined as an equality of ratios. Thus, if the ratio of a to b is the same as the ratio of c to d, this relation may be expressed as follows:
a c ——— = ——— or a : b = c : d b d
the fractional form being preferred. In accounting it is often required to divide amounts in certain ratios, as when profits must be apportioned among partners, when insurance, taxes, and other expense charges must be distributed over departments, etc. This is usually entitled “apportioning.” It is not necessary to illustrate simple proportion, but a problem in “weighted proportion” will be given here.
Apportion an insurance charge of $1,000 over departments A, B, and C according to the property values in those departments, taking account of the fact that the rate on A is double that on B and C. The property values are: A $10,000; B $15,000; C $35,000.
The proper basis for distribution cannot be found, as in simple proportion, by an addition of the values in the departments. Before addition, the value in A must be weighted by 2, i.e., doubled. This gives a basis of $70,000 ($20,000 for A + $15,000 for B + $35,000 for C = $70,000). Of the $1,000 insurance cost, department A will have to bear ²⁰/₇₀; B ¹⁵/₇₀; and C ³⁵/₇₀. The charges will be therefore:
A, ²⁰/₇₀ of $1,000 or $ 285.71 B, ¹⁵/₇₀ ” 1,000 ” 214.29 C, ³⁵/₇₀ ” 1,000 ” 500.00 --------- $1,000.00
=Apportioning Freight Charges.=—In-freight and cartage are treated as additions to the cost of goods bought; consequently, at inventory time it is necessary to add the correct amount of in-freight to the cost of goods on hand. However, it is seldom possible to apply the freight costs directly to each unit of product on hand and yet theoretically this should be done. Usually the ratio of freight costs to the total amount of purchases during a given period is taken as the basis for adding freight to the inventory. Thus, if that ratio has been 5% for the period, a commodity costing $100 would be valued at $105 for the inventory. Thus the freight expense is deferred.
This usually is deemed sufficiently accurate for most purposes. Where departmental records are kept, or where accurate factory costs are required, a closer apportioning is sometimes necessary. The freight classifications are such that the rates are not proportionate to the values of the goods; but other factors such as weight, kind of goods, method of crating, etc., all enter into the freight rate. Of these, the only factor which is easily obtainable is the weight. A distribution of freight on the basis of value and weight has been suggested—a weighted proportion method of apportionment. This, of course, requires an involved calculation which is usually “shied” at by bookkeepers and is not necessary except where very accurate and detailed costs are required.
LIII. SINGLE OR SIMPLE ENTRY
=Different Systems of Bookkeeping.=—Except in small enterprises, the only satisfactory system of bookkeeping is double entry. The system—or rather lack of system—known as single entry antedates double entry and is met today occasionally, particularly in small retail stores. It seems necessary, therefore, to give the student an explanation of its main features.
An early writer defines bookkeeping as “the art of recording mercantile transactions in a regular and systematic manner.“ In further elucidation he says: “A merchant’s books should contain every particular which relates to the affairs of the owner. They should exhibit the state of all the branches of his business; the connection of the various parts; the amount and success of the whole. They should be so full and so well arranged as to afford a ready information in every point for which they may be consulted.“ Single entry hardly measures up to these requirements, but there are places and circumstances where it gives results satisfactory enough. Bookkeeping has had a development contemporaneous with industrial life. Only simple records are needed so long as industries are simple, but with the increasing complexity of industrial enterprise, previous methods become inadequate.
=Single Entry.=—Single entry may be defined as that method of keeping records which sorts out and classifies debits and credits only as they apply to persons, the proprietor included, and usually also to cash. To justify the strict application of the term, a system must needs keep record of all transactions. Methods—not systems—of single-entry account-keeping are sometimes met with which do not make full record. The point of view of single entry is personal. All features of the business not connected with persons are looked upon as being under the direct hand of the owner and subject to his control. But uncompleted transactions with persons, whether customers or creditors, are not capable of such oversight without the aid of individual, classified records. The necessity of safeguarding the cash and keeping its flow under review makes the classified cash record an almost universal feature of single entry. As a usual thing, therefore, single entry is characterized by: (1) a record of all transactions; (2) a debit and credit analysis applied only to persons and to cash; and (3) a classified and grouped record, i.e., ledger record, only as to persons and cash. It does not analyze every transaction in its relation to the business as a whole. It has a single point of view, i.e., it considers only persons and cash and makes entries accordingly. Hence, its name.
=Books Required and Methods of Record—The Journal.=—In a single-entry system three books of account are necessary—the journal, the cash book, and the ledger. The cash book records all cash transactions, receipts and payments, classified as to persons but otherwise in narrative form. The journal records all other transactions following the same method. The ledger makes secondary record only under the heads of customers, creditors, and proprietor. The journal is the standard two-column journal, the first column being used as an “items“ column, and the second for totals. A three-column journal is advantageous, the first column being used for items and for all unposted amounts, the second for debit postings, and the third for credit postings. This aids in proving the ledger postings, as will later be seen. Transactions affecting persons are recorded under those persons’ names followed by “Dr.” or “Cr.,” according to the analysis of the transaction. This is necessary since position does not show it, the method of left and right position for debit and credit not being used in the single-entry journal. All other transactions are recorded in narrative form, merely a memorandum being made of them.
=Cash Book.=—The cash book is the same as for double entry, receipts on the left and disbursements on the right-hand page or column, according as a double- or single-page cash book is used. Where the double page is used, one of the two columns on either side is sometimes used for the exclusive extension of the amounts to be posted to personal accounts. This facilitates posting, since these are the only amounts which are to be transferred to the ledger.
=Ledger.=—The single-entry ledger is the same as the double-entry and uses the debit and credit principle of double entry. As stated above, accounts are kept only with persons, including the proprietor. It is seen, therefore, that single-entry books make a record of all transactions but fail to analyze all those transactions in their relations to one another and in their effects upon the business.
=Single Entry as Adapted to Modern Needs.=—Recognizing the value of the analysis secured by double entry but overestimating the work required to make the record, some concerns have developed single-entry systems through use of subsidiary records and columnar books, from which they derive very full information for management purposes. A sales journal gives volume of sales, a purchase journal shows the amount of goods purchased, and analytic columns in the cash book show the main sources of receipts and their amounts, and the main classes of expenditures and their amounts. A bill book is used for recording notes receivable and payable, and inventory books for scheduling all kinds of property, assets and liabilities. All of these make a system approaching the double entry in completeness of detailed information, but one which lacks the fundamental principle on which the double entry rests, viz., an equality of debits and credits brought about by a classified analysis of every transaction into its debit and credit elements at the time of first entry on the books. It does not tie together the whole into a mathematically provable system.
Since the advent of double entry there have always been strong adherents to the single-entry method. An early writer, William Perry, presented in 1777 a treatise on bookkeeping by either method. Most small enterprises, even if they keep their records by the single-entry method in the beginning, usually adopt the double-entry system as their business increases, realizing that the latter furnishes better accounting control than is obtainable under simple entry.
=Debits and Credits.=—To one who knows the double-entry method, single-entry bookkeeping presents few difficulties. Debit and credit as applied to personal accounts are usually of easy determination and are exactly the same as in double entry. The debits and credits for cash are based on the same principles in both systems. The method of writing them in the books of original entry was sufficiently indicated where those books were explained. Posting is done just as in double entry. With regard to all work upon single-entry books, there is always a temptation to do slovenly, inaccurate work because the system does not provide internal proof as the double-entry system does. Thus, where rebates have been allowed, only the net amount received may be shown in the cash book with explanation that the payment is in full of account. After this amount is posted to the customer’s account, the item does not fully offset the original debit and it is necessary to make a note in the ledger to the effect that the item is fully settled. The same thing holds true for creditors’ accounts. Of course, this is not good bookkeeping whether practiced in single or double entry.
=The Proprietor’s Account.=—The handling of the proprietor’s account under single entry is very similar to that under double entry. The proprietor’s capital account shows the original investment on the credit side; his personal account, if kept separately, is debited with his withdrawals, whether in merchandise or cash. Inasmuch as the single-entry ledger does not show the profit or loss, the manner of handling the proprietor’s account at closing is somewhat different. The profit, as determined by the method shown a little later, may be brought directly and without journal entry from the statement of profit and loss into the proprietor’s capital account so that this account will show the true net worth of the business as at that time. The personal account is simply ruled off after its figures have been used in determining profit.
=Proof of Posting.=—The only proof of work possible under single entry is a checking of the secondary record against the original. A trial balance of the ledger cannot be taken. A schedule or list of account balances may be prepared and debit and credit totals of the list made. This compared with a similar list prepared at the close of the last period will show the changes that have taken place during the current period. A list of the debits and credits to personal accounts in books of original entry for this period must check against the net change shown by the above comparison. Virtually this amounts to a second posting of the items, and if the two postings agree, the presumption is that the ledger is correct. The use of the “personal” posting column for the cash book as explained above, and of similar columns in sales and purchase journals, makes possible a much easier debit and credit summary of the books of original entry if some proof of posting is desired.
=Profit and Loss.=—Inasmuch as many of the factors affecting the net worth have not been analyzed in making the original entry, no detailed showing of profit and loss, as understood under double entry, can be made. It is, of course, possible to go back over the books and make such an analysis, but this would result practically in rewriting the books on a double-entry basis. Single entry, therefore, has recourse to another method which is characterized by a complete inventory-taking and appraisal. It is sometimes called the “asset and liability method” as explained in the following sections.
=Inventory and Appraisal.=—A physical inventory or count of all assets, fixed, current, and deferred, is made. The books furnish only the accounts receivable and the cash. All other assets are usually made up by physical count and reappraisal. It is consequently very easy to lose sight of some assets, particularly in the case of additions and betterments to existing assets. For the deferred items, the inventory of supplies on hand supplemented by the proprietor’s memory is the customary source.
=Liabilities.=—Liabilities are more difficult of correct determination. The accounts payable are shown on the ledger, the notes payable should be shown in the bill book or by stubs in the bound blank book of notes. Any unpaid bills may be found in the current file of unpaid invoices if one is maintained. For all other liabilities, including deferred income, the memory must serve. The haphazard manner in which this statement must be made up is therefore apparent.
=Accrued and Deferred Items.=—There is usually little or no notice taken of accruals and deferred items on account of the difficulty in securing trustworthy and full information. The theory of averages, viz., that these items at one period will offset, in the long run, those at another, is the theory by which the failure to include accruals and deferred data is excused. A comparison of this method with the double-entry method for handling similar items throws into strong relief the inaccuracies of the single-entry method.
=The Balance Sheet and the Determination of Profit.=—The balance sheet, listing all assets and all liabilities, makes a determination of proprietorship or net worth possible. Under the inventory and appraisal method it must be taken periodically. A comparison of the net worths as shown by successive statements develops the gain or loss for the period, provided no other elements affecting net worth have become involved. The additional element to be taken into consideration is the relation of the proprietor to the funds of the business. He may have withdrawn some of the assets or he may have made additional investments, so that the condition of the assets as shown at the end of the period is not entirely the result of business activities and transactions.
Profits determination by this method, therefore, must take cognizance of the two factors: (1) comparative net worths, and (2) proprietor’s interim drawings and investments. A withdrawal of cash during the period equal in amount to the profits for that period would result in the same net worth at the close as at the opening of the period. Drawings in excess of profits would cause a net worth less at the end than at the beginning; and withdrawals less than profits would cause an increased net worth. But under none of the three cases stated would a comparison of the two net worths show the actual profits.
Similarly, additional investments have an opposite effect, bringing about an increase in closing net worth in the exact amount of the additional investment and so obscuring the true amount of profit or loss for the period. Accordingly, the increase or decrease of net worth as shown by the comparative statements of financial condition must be adjusted in accordance with the proprietor’s withdrawals and additional investments to make a correct determination of profits. To determine the profits for the year, to the change in net worth—treated algebraically, i.e., positive if an increase and negative if a decrease—must be added the withdrawals, and from this sum the additional investments must be subtracted.
=Single and Double Entry Compared.=—From the foregoing discussion and from the illustrations in the next chapter it will be seen that single entry can be worked through to a conclusion as to profit and loss. It tells nothing, however, of the sources of that profit or loss, nor does it give any control over expenses. It is true that a comparative statement of assets and liabilities as shown in Chapter IV, presenting increases and decreases of the various assets and liabilities, will give additional information, but even that does not show the reasons for the change and so affords no basis for control. For such purposes the statistical totals of the sales and purchase records, and of the cash book, where analytical columns are used, furnish the only information available under single entry. Its only advantage, then, is brevity, the saving of labor in making the record. No difficult analysis is met with in the original record and posting is a less heavy task than in double entry. But brevity and labor-saving are secured at the expense of the very information which the business man needs.
The advantages of double entry may be summarized as follows:
1. The ledger shows a classified record of every transaction.
2. Expenditures for capital purposes, i.e., for new assets or additions and betterments to existing assets, are recorded as such, so that there is no danger of losing sight of them.
3. A gross profit figure is obtainable and percentages of profits and expenses, making possible an estimate of merchandise inventory at any time. This is particularly valuable in case of fire loss.
4. The double-entry method provides a proof of the mathematical accuracy of the ledger.
5. A full statement of sources of profits and causes of expenses can be obtained in double entry.
Where the above advantages and information are not desired nor necessary, as in a very simple business under the immediate supervision of the proprietor, or in simple executorship transactions, etc., single entry may suffice.
=Change from Single to Double Entry.=—If it is desired to change from single to double entry, all that is necessary is a complete inventory and appraisal, to be used as the basis for an opening journal entry, debit and credit, as for any opening entry. If the former single-entry ledger is to be used, only the items not already posted, i.e., the impersonal items, will be posted from this opening entry. The proprietor’s account should first be adjusted to its correct figure by a determination of profits by the single-entry method. If this is done, no posting to his account is needed from the opening entry for the double-entry books. This opening entry posted will bring the ledger into equilibrium, which will be maintained under the double-entry method. If a new ledger is to be used, the opening entry above referred to will be posted completely—personal and impersonal items—which will of course bring about the equilibrium desired. Thereafter all transactions will be analyzed and entered according to the double-entry system.