THE ACCOUNTING CYCLE
There are a series of steps to be completed during each accounting period to record, store and report the accounting information contained in the recorded transactions. These steps are referred to as the accounting cycle. The major steps include:
1) recording daily transactions in a journal
2) posting the journal entries to the accounts in the ledger
3) preparing and posting adjusting entries
4) preparing the financial statements
5) preparing and posting closing entries for the revenue, cost of
goods sold, expenses and dividend accounts
A journal is often called a “document of original entry” because a company’s financial transactions or business events are initially recorded here. Most journal entries are recorded in a single journal, called a general journal. The basic components of a journal entry consists of a date column, a column to list the accounts affected by each transaction, a column to list the account numbers, and a debit column, and a credit column for listing the amounts to be recorded as a debit or a credit to each account. A number of advantages results from the use of a general journal. First, use of this journal helps in preventing errors. The accounts and debit and credit amounts for each transaction are initially recorded on a single journal page rather than directly in the numerous accounts. This makes it easier to verify the equality of debits and credits. Secondly, all the transaction information is recorded in one place, thereby providing a complete “picture” of the transaction itself. This second advantage is especially useful during the auditing process or if an error is discovered later in the accounting cycle because reference can be made back to the general journal to determine the nature of the original transaction. Finally, since the transactions are recorded in chronological order, the journal also provides a chronological record of the business’s financial transactions on a day-to-day basis.
When we talk about different kinds of accounts we look at a chart of accounts. In the Farm Family Record Book, such a chart of accounts with their account numbers is supplied for us. The number of accounts maintained by a specific enterprise is affected by the nature of its operation, its volume of business, and the extent to which details are needed for taxing authorities, managerial decisions, credit purposes, etc. For example, one enterprise may have separate accounts for executive salaries, office salaries, and sales salaries, while another may find it satisfactory to record all types of salaries in a single salary expense account. This will generally be the manner in which ours are listed, more of a general listing. A listing of the accounts in the ledger is called a chart of accounts. In so far as possible, the order of the accounts in the chart of accounts should agree with the order of the items in the balance sheet and the income statement. The accounts are numbered to permit indexing and also for use as references. Although accounts in the ledger may be numbered consecutively as in the pages of a book, a flexible system of indexing is preferable. In the following chart of accounts which is found in the Farm Family Record Book, we see expense distribution codes on one side and income and expense distribution codes on the reverse side. The code number is given for the account itself and an explanation of the account is also given. See the chart on the next page for examples.