advanced bookkeeping

Advanced BookkeepingLesson 4

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The 4 main topics of this lesson

Disposal of non-

current assets

Accounti ng for a part exchange

disposal

Adding adjustments to

the extended trial

balance

Extending an adjusted trial

balance

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At ti mes an organisati on will dispose of assets, usually at the end of their useful life. Someti mes, however, it will be because the organisati on’s prioriti es have changed, and occasionally because of theft or loss. As with the purchase of a non-current asset, approval by the relevant authority must be gained for disposal of an asset.

It is important that the right purchase and disposal decisions are made and for the correct reasons. At

ti mes, accountants are put under pressure to record items as belonging to an organisati on, when, in fact, they have been purchased for personal rather than business reasons by the owners or senior managers of the organisati on, or their relati ves. For example, the owner may want to buy a car for their partner.

Disposal of Assets

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At other ti mes there may be pressure to dispose of items for less than the market value by giving or selling assets for low prices to workers, managers or owners.

Let’s think again about our fundamental ethical principles of:

� Integrity� Objecti vity� Professional competence and due care

� Confi denti ality and � Professional behaviour

The threat here is to our Integrity, being straightf orward and honest in all professional and business relati onships, and to our Professional Behaviour which is to comply with relevant laws and regulati ons and avoid any acti on that brings our profession into disrepute.

The entries made in the accounts must be transparent and fair, and the accountant must not allow transacti ons to go through the accounts which do not relate to the organisati on.

Disposal of Assets (cont.)

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Another issue faced by accountants is that some business owners may try to fraudulently claim back VAT on some of their personal purchases through the organisati on’s accounts.

For example a business owner in the building trade may try to put the personal purchase of new bathroom fi tti ngs through the business. He might do this in order to claim back the VAT and to reduce the profi t of the business, meaning that less corporati on or income tax is paid.

An accountant must adhere to the fundamental ethical

principles which means that, at ti mes, they will have to inform clients and managers that what they are requesti ng cannot be done. Maintaining this objecti vity will someti mes be diffi cult. Let’s think again about the threats to our ethical principles.

Personal Purchases

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I’m sure you recognise that the potenti al problem here is an inti midati on threat from the business owner. This may occur when an accountant is deterred from acti ng objecti vely by threats from another person, whether actual or perceived.

If you cannot agree with the manager about something then you may worry that you may lose your job, even if the manager has not made this threat explicit. However, we can only put valid transacti ons into the accounts that are genuinely those of the organisati on. Otherwise we ourselves could risk being accused of fraud and could face prosecuti on, legal acti on or disciplinary acti on by the accountancy body of which we are a member.

Inti midati on Threats

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Now let’s think about how we will dispose of a properly authorised asset. We sell the asset to someone, for the market value, and gain some funds which we call proceeds. In the case of theft or loss the proceeds will be nil or, if there is an insurance payout, the amount received from the insurers.

Disposing of a Properly Authorised Asset

The proceeds of the

disposal will be debited to the bank, but where

shall we put the credit

for the disposal? Quite

simply, we will put the net amount into an account

called ‘Disposal’, posti ng any VAT to the VAT control account.

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Now let’s think about the rest of the accounts. We have been keeping records of the cost of the asset in the non-current asset at cost account and in the non-current asset register. Dealing with the non-current asset register is simple – we just record the disposal date and proceeds into the record.

Disposing of a Properly Authorised Asset (cont.)

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But we will also have to remove the original cost from the balance on the non-current

asset at cost account so that the Statement

of Financial Positi on gives a true and fair refl ecti on of the fi nancial positi on of the organisati on.

This means that we will credit the At Cost account to remove the fi gure.

The debit, like the proceeds, will be posted to the Disposal account.

Disposing of a Properly Authorised Asset (cont.)

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Finally the accumulated depreciati on must be removed from the accumulated depreciati on account. This account has a credit balance so we will debit the accumulated depreciati on account and credit the disposal account.

Now let’s balance off the disposal account.

The balancing fi gure on the disposal account will show a profi t or loss on disposal. This is not a real profi t or loss as depreciati on is not a cash transacti on – no cash has moved in terms of the annual depreciati on, an amount has simply been set against the profi t to spread the cost of the asset across its useful life.

Balancing off the Disposal Account

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The balancing fi gure on the disposal account should match the diff erence between the carrying amount shown on the non-current asset register and the proceeds.

Balancing off the Disposal Account (cont.)

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Disposing of non-current assets has tripped up many students in the past, however it is simply a matt er of practi ce. The journals are always the same for a disposal so can be memorised.

As we have learned it is a group of three sets of accounti ng entries:

The fi rst journal is to:

� Dr Bank� Cr VAT (if required)� Cr Disposal

The second journal is to:

� Dr Disposal

� Cr Non Current Asset at Cost

And the fi nal journal is to:

� Dr Accumulated Depreciati on� Cr Disposal

The Journals for Disposal of a Non-Current Asset

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These can be simplifi ed to:

� Dr Bank� Dr Accumulated Depreciati on� Cr Non Current Asset at Cost

� Cr VAT (if required)� And Dr/Cr the balancing fi gure to Disposal depending on whether you have made a loss on

disposal or a profi t.

Let’s look at two examples. First, an example of where the balancing fi gure is a credit, and second, where the disposal proceeds are less, so the balancing fi gure is a debit.

Note that a profi t is revenue so must be a credit, and a loss is an expense so must be a debit. The profi t or loss on disposal will be posted to the SoPL at the end of the period.

As the type of questi ons on this area can vary, it is important that you can do the journals in both formats, and that you understand what is happening and why, as well as learning the journals by heart.

The Journals for Disposal of a Non-Current Asset (cont.)

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Now that we have the informati on available, we need to be sure that we understand the cost of the new asset, separate from the items that should be posted to the expense accounts and separate from any VAT that must be posted to the VAT control account.

Accounti ng for a Part Exchange

There may be output VAT on the disposal of the old asset

as well as input VAT on the purchase of the new asset.

When accounti ng for a part exchange, we must combine what is eff ecti vely two transacti ons, the purchase of the new asset and the sale of the old one.

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Let’s remind ourselves of the journal for a cash purchase of a machine aft er the VAT and expenses have been split out:

� Dr Machine at cost

� Cr Bank

Now let’s combine that with the journals for a disposal which were:

� Dr Bank� Cr VAT (if required)� Cr Disposal

� Dr Disposal

� Cr Machine at cost

� Dr Machines Accumulated Depreciati on� Cr Disposal

Journals for a Part Exchange

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We will keep a journal line showing the cost of the new asset that we calculated from the invoice, but we will only make one bank entry for the amount being paid to the supplier. If we are paying by credit (in 30 days) simply substi tute Payables for Bank.

Journals for a Part Exchange (cont.)

The credit to disposal will be the part exchange allowance, less any VAT that we have already dealt with.

Then conti nue the disposal of the old asset as before, removing the old machine from the accounts.

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Depreciati on of non-current assets is usually done as part of the end of period adjustments to the accounts in preparati on for the calculati on of the profi t for the period.

While these adjustments go through the accounts in the normal way, accountants also use an extended trial balance to check the fi gures in the same way as we use a normal trial balance.

In the fi rst lesson, we showed you how to extend a trial balance to separate the SoPL fi gures from the SoFP fi gures and to calculate the profi t, and you have been practi cing this using spreadsheets and in the exercises.

Depreciati on of Non-Current Assets

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We are now going to add adjustment columns to our shortened extended

trial balance, to show a full extended trial balance. These adjustment

columns come immediately aft er the trial balance columns like this:

Depreciati on of Non-Current Assets (cont.)

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These columns can be used to make any necessary adjustments aft er a trial balance has been produced, including entering depreciati on or disposal fi gures, clearing a suspense, accounti ng for other omissions or errors and entering the adjustments that we will learn about such as accruals and allowances for doubtf ul debts.

Let’s look at an Extended Trial Balance (ETB) and make some adjustments.

This ETB has a suspense account balance which is a credit of £180 which you have been informed was caused by irrecoverable debts being omitt ed from the receivables account. All other entries were correct.

Your manager has informed you that closing inventory of £3,545 and owner’s drawings of £3,000 from the bank are to be entered, and your manager has requested that you calculate and enter the machinery depreciati on fi gures for the year to be calculated at 20% of cost.

Extended Trial Balance

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Let’s look at the journals for these entries. First the irrecoverable debt. We will credit receivables to remove the amount owing from the receivables account and debit suspense, which will clear the suspense account.

Then the closing inventory. Closing inventory is debited to the Statement of Financial Positi on as it is an asset at the ti me of the period end. It is also credited to the Statement of Profi t or Loss and used as part of the calculati on for the cost of goods sold.

It is usual to enter the closing inventory either into the trial balance or into the adjustment columns. In this case we will enter them into the adjustment columns, one debit and one credit in the same row ready to be extended into the statement columns.

Journals

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The owner’s drawings should credit the bank and debit a drawings account.

And fi nally the depreciati on for the machinery must be calculated and then debited to the depreciati on charge account and credited to the accumulated depreciati on account.

Now post the journals to the adjustment columns as you would for the T accounts. If the journal says debit, then you debit, and if the journal says credit then you credit.

Finally, and vitally, total the adjustment columns to make sure that they balance. If they don’t balance, or the trial balance has not been balanced properly, you will not be able to calculate matching profi t fi gures in the Statement of Profi t or Loss and Statement of Financial Positi on columns.

Journals (cont.)

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Now that we have adjusted our trial balance, let’s extend it to the SoPL

and SoFP columns.

In the shorter version that we looked at in lesson one we simply took the fi gure from the trial balance and entered it into the appropriate

columns.

Remember that expenses and

revenues go into the SoPL and assets and liabiliti es go into the SoFP.

Also remember that debits stay as debits when they move across, and that credits stay as credits.

SoPL and SoFP Columns

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Using the trial balance and adjustments that we have looked at previously, we will start by looking at the rows with no adjustments. We can simply move them across as before.

Now let’s look at the bank fi gure. We have a debit in the original trial balance and a credit in the adjustments column. This is because the owner took money out of his business as drawings.

When we take the fi gure across to the SoFP columns, we must deduct the credit of £3,000 from the debit fi gure in the original trial balance giving us £7,202.

Extending the Trial Balance Example

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Now, let’s look at the machinery accumulated depreciati on row. Both fi gures are credits and, as more depreciati on is being added to the previous period fi gure, it makes sense to add the two fi gures together to get a debit of £14,700.

Extending the Trial Balance Example (cont.)

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This is a general rule: if the trial balance and adjustment fi gures are both debits or both credits then we should add them together before extending, and if they are diff erent, then we deduct the adjustment from the trial balance fi gure.

Let’s do the next row with an adjustment, which is Receivables. Deduct £180 from £4,586 to get £4,406. The trial balance is a debit and so the fi gure remains a debit in the SoFP. The suspense fi gures cancel each other out so there is no fi gure to extend.


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If you remember, the Closing inventory needs to debit the SoFP and credit the SoPL.

Opening inventory will need to be transferred to the debit column of the statement of profi t or loss, and the last few fi gures simply extend from the adjustment columns to the appropriate statement columns.

Finally, total the last four columns and calculate the profi t as we have been doing in the abbreviated ETBs.


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If the profi t fi gures don’t match, but your trial balance and adjustment columns do balance, then you have made an error extending the trial balance.

This could be because you have added when you should have deducted or vice versa.

You could have entered something as a debit when it should have been a credit or vice versa.

Or you could simply have writt en a number incorrectly, an error that would be eliminated if you use spreadsheet formulas to extend your trial balance.

There is one error that is not detected by unbalanced profi t fi gures, and that is an entry that should be in the SoPL but that has been entered into the SoFP or vice versa. In this case, you will sti ll get the same profi t fi gure in each statement but it will be incorrect.

Be careful when you are extending the fi gures in a trial balance with or without adjustments: it is easy to make mistakes.

Errors in Extending the Trial Balance

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In this lesson, you have learned about:

� Disposal of non-current assets

� Accounti ng for a part exchange disposal

� Adding adjustments to the extended trial balance

� Extending an adjusted trial balance

Recap

advanced bookkeeping

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