Review Questions - Chapter 2 Recording Business Transactions Revie...

© 2018 Pearson Education, Inc. 2-1 Chapter 2 Recording Business Transactions

Review Questions

• Identify the three categories of the accounting equation, and list at least four accounts associated

with each category.

The three categories of the accounting equation are assets, liabilities, and equity. Assets include Cash, Accounts Receivable, Notes Receivable, Prepaid Expenses, Land, Building, Equipment, Furniture, and Fixtures. Liabilities include Accounts Payable, Notes Payable, Accrued Liability, and Unearned Revenue. Equity includes Owner, Capital, Owner, Withdrawals, Revenue, and Expenses.

• What is the purpose of the chart of accounts? Explain the numbering typically associated with the

accounts.

Companies need a way to organize their accounts so they use a chart of accounts. Accounts starting with 1 are usually Assets, 2 – Liabilities, 3 – Equity, 4 – Revenues, and 5 – Expenses. The second and third digits in account numbers indicate where the account fits within the category.

• What does a ledger show? What’s the difference between a ledger and the chart of accounts?

A chart of accounts and a ledger are similar in that they both list the account names and account numbers of the business. A ledger, though, provides more detail. It includes the increases and decreases of each account for a specific period and the balance of each account at a specific point in time.

• Accounting uses a double-entry system. Explain what this sentence means.

With a double-entry you need to record the dual effects of each transaction. Every transaction affects at least two accounts.

• What is a T-account? On which side is the debit? On which side is the credit? Where does the

account name go on a T-account?

A T-account is a shortened form of each account in the ledger. The debit is on the left side, credit on the right side, and the account name is shown on top.

• When are debits increases? When are debits decreases?

Debits are increases for assets, withdrawals, and expenses. Debits are decreases for liabilities, capital, and revenue.

• When are credits increases? When are credits decreases?

Credits are increases for liabilities, capital, and revenue. Credits are decreases for assets, withdrawals, and expenses.

Horngrens Accounting 12th Edition Nobles Solutions Manual Visit TestBankDeal.com to get complete for all chapters

© 2018 Pearson Education, Inc. 2-2

• Identify which types of accounts have a normal debit balance and which types of accounts have a

normal credit balance.

Assets, withdrawals, and expenses have a normal debit balance. Liabilities, capital, and revenue have a normal credit balance.

• What are source documents? Provide examples of source documents that a business might use.

Source documents provide the evidence and data for accounting transactions. Examples of source documents a business would have are: bank deposit slips, purchase invoices, bank checks, and sales invoices

• Where are transactions initially recorded?

Transactions are first recorded in a journal, which is the record of transactions in date order.

• Explain the five steps in journalizing and posting transactions.

Step 1: Identify the accounts and the account type. You need this information before you can complete the next step. Step 2: Decide if each account increases or decreases, then apply the rules of debits and credits. Reviewing the rules of debits and credits, we use the accounting equation to help determine debits and credits for each account. Step 3: Record transactions in the journal using journal entries. Step 4: Post the journal entry to the ledger. When journal entries are posted from the journal to the ledger, the dollar amount is transferred from the debit and credit columns to the specific accounts in the ledger. The date on the journal entry should also be transferred to the accounts in the ledger. Step 5: Determine whether the accounting equation is in balance. After each entry the accounting equation should always be in balance.

• What are the four parts of a journal entry?

Part 1: Date of the transaction. Part 2: Debit account name and dollar amount. Part 3: Credit account name and dollar amount. The credit account name is indented. Part 4: Brief explanation.

• What is involved in the posting process?

When transactions are posted from the journal to the ledger, the dollar amount is transferred from the debit and credit columns to the specific accounts in the ledger. The date of the journal entry is also transferred to the accounts in the ledger. The posting reference columns in the journal and ledger are also completed. In a computerized system, this step is completed automatically when the transaction is recorded in the journal.

• What is the purpose of the trial balance?

The trial balance is used to prove the equality of total debits and total credits of all accounts in the ledger; it is also used to prepare the financial statements.

© 2018 Pearson Education, Inc. 2-3

• What is the difference between the trial balance and the balance sheet?

A trial balance verifies the equality of total debits and total credits of all accounts on the trial balance and is an internal document used only by employees of the company. The balance sheet, on the other hand, presents the business’s accounting equation and is a financial statement that can be used by both internal and external users.

• If total debits equal total credits on the trial balance, is the trial balance error-free? Explain your

answer.

If total debits equal total credits on the trial balance, it does not mean that the trial balance is error- free. An incorrect amount could have been used, an entry could have been completely missed, or the wrong account title could have been debited or credited.

• What is the calculation for the debt ratio? Explain what the debt ratio evaluates.

The debt ratio is calculated by dividing total liabilities by total assets and shows the proportion of assets financed with debt. It can be used to evaluate a business’s ability to pay its debts.

© 2018 Pearson Education, Inc. 2-4 Short Exercises

S2-1 Identifying accounts

Learning Objective 1

Consider the following accounts and identify each account as an asset (A), liability (L), or equity (E).

• Notes Receivable
• Nunez, Capital
• Prepaid Insurance
• Notes Payable
• Rent Revenue
• Taxes Payable
• Rent Expense
• Furniture
• Nunez, Withdrawals
• Unearned Revenue

SOLUTION

• Notes Receivable (A) f. Taxes Payable (L)
• Nunez, Capital (E) g. Rent Expense (E)
• Prepaid Insurance (A) h. Furniture (A)
• Notes Payable (L) i. Nunez, Withdrawals (E)
• Rent Revenue (E) j. Unearned Revenue (L)

S2-2 Identifying increases and decreases in accounts

Learning Objective 2

For each account, identify whether the changes would be recorded as a debit (DR) or credit (CR).

• Increase to Accounts Receivable
• Decrease to Unearned Revenue
• Decrease to Cash
• Increase to Interest Expense
• Increase to Salaries Payable
• Decrease to Prepaid Rent
• Increase to Proudfoot, Capital
• Increase to Notes Receivable
• Decrease to Accounts Payable
• Increase to Interest Revenue

SOLUTION

• Increase to Accounts Receivable (DR) f. Decrease to Prepaid Rent (CR)
• Decrease to Unearned Revenue (DR) g. Increase to Proudfoot, Capital (CR)
• Decrease to Cash (CR) h. Increase to Notes Receivable (DR)
• Increase to Interest Expense (DR) i. Decrease to Accounts Payable (DR)
• Increase to Salaries Payable (CR) j. Increase to Interest Revenue (CR)