101 Bank and Insurance which accepts the deposit for the purpose of lending or investment from the public, repayable on demand through cheques, drafts or otherwise and also performs a number of agency services to its clients on instruction. The central bank of a country issues the paper notes as its basic function. Key Point A bank is a financial institution, which accepts money as deposit from individuals and organisations and lends it to those who need it against their security deposit. 2. Importance of Bank A bank is important for all the parties i.e. general public, business organization and the government. It is rather important for the business organizations. A bank provides finance, which is the foundation of every business activity. It is thus, regarded as an indispensable tool of the wheel of commerce. It acts as a middleman or agent between the savers and borrowers of money. The importance of a bank is highlighted in terms of the following points: i. The central bank of a country issues coins and paper notes, which facilitate in the transfer of properties. ii. Commercial banks collect capital in terms of the deposit of the general public and organizations and mobilize to the productive fields to activate the entire economic sectors. iii. Banks provide security to the deposits of the general public and organizations, on one hand and pay interest on such deposits on the other and encourage saving. iv. Commercial banks issue various credit instruments like cheque, bank draft, traveller’s cheque, credit cards, letter of credit etc. that assure fast and safe remittance of money and personal expenses in a reliable manner. v. Banks provide a number of agency services to their clients/customers, like receipt of income and payment of expenses, etc. vi. Banks provide financial, technical and administrative assistance to the persons and institutions for the development of agricultural, industrial and commercial sectors. vii. Banks take responsibilities for underwriting i.e. buying and selling the shares, debentures and other securities issued by the government or public limited companies. viii. Banks provide necessary data, statistics and other economic information to the government on monetary and fiscal matters for the formulation of a sound monetary and fiscal policy. ix. Directly and indirectly bank provides employment opportunities in a country. x. The bank issues coins, paper notes and credit card which help for exchanging goods and services which makes easier for measuring the value of goods and services.
102 Aakar’s Office Practice and Accountancy - 8 3. Types of Banks in Nepal The banks may be categorised into various types according to their functional area, rights and authorities. In Nepal, the banks are generally divided into the following category: a. Central Bank b. Commercial Bank c. Development Bank a. Central Bank Central bank is the bank of a country which occupies central position in the monetary and banking sectors of a country. It is fully owned and managed by government. So, the central bank is known as the government’s bank. The central bank formulates the monetary and fiscal policy and solely regulates the entire banking sector by issuing notes and determining their values with the foreign currencies, managing cash and credit policy to strengthen national economy. Thus, the central bank may be defined as that bank, which holds the topmost position in the banking sectors and solely exercises the rights of issuing notes, managing cash and credit system, controlling foreign exchange and formulating banking policy for the development of banking sectors in the interest and welfare of the public. It is always aimed towards strengthening the national economy by making economic infrastructure in the country. There is just a single central bank in a country. Nepal Rastra Bank is the central bank of Nepal. It was established in 2013 B.S. under Nepal Rastra Bank Act, 2012 with one crore of authorised capital. According to Dr. D. Kock, “Bank which constitutes the apex of the monetary and banking structure of its country is called a central bank.” Same as dictionary of Banking and Finance, “Main government controlled bank in a country which controls the financial affairs of the country by fixing main interest rates, issuing currencies, supervising the commercial bank and controlling the foreign exchange rate.” The distinguished characteristics of the central bank are that, it is fully owned and managed by government and there is only one central bank in a country. ‘Reek bank of Sweden’ is the first central bank in the world which was established in 1656 AD. ‘Bank of England’ (1694 A.D) is the central bank of England, ‘Reserve Bank of India’ is the central bank of India. Key Point Central bank refers to the government bank which holds top most position in the monetary and banking sectors of a country. Nepal Rastra Bank
103 Bank and Insurance b. Commercial Bank Generally, the word bank refers to the commercial bank. The concept of bank was evolved from the development of commercial activities. A commercial bank refers to that bank which accepts deposits of the public and organizations, grants loan to them against securities providing financial and technical assistance to the traders and commercial parties and rendering agency services to the clients/customers as requested. Nepal Bank Ltd. was established as the first commercial bank and the first bank of Nepal in 1994. B.S. Then Rastriya Banijya Bank was established in 2022B.S. under Rastriya Banijya Bank Act, 2021. Again Agriculture Development Bank, which was established in 2024, has also been allowed to serve commercial functions from 2041 B.S. Other commercial banks established in Nepal are Himalayan Bank Ltd., Nabil Bank Ltd., Megha Bank Ltd., Standard Chartered Bank Ltd., etc. According to the dictionary of Banking and Finance, “Bank which offers banking service to public is commercial bank”. According to M.L. Seth, “A bank is an institution which deals in money and credit.” According to the Commercial Bank Act 2031, “Commercial banks are those banks which are established under this Act to perform commercial functions except those which are established for specific purposes like development bank, cooperatives or other.” In conclusion, commercial bank accepts the deposits from the customers, grants loan and provides other banking services to the ordinary people for earning profit or profit motive. It is established for the development of trade industry and commerce. Commercial bank grants loans to the individuals and corporations and charges interest. Key Point Commercial bank refers to the bank which accepts deposits of the public and organisations and grants loan to them against securities and provides financial services such as agency service, transfer of money, exchanging foreign currency, issuing capital, etc. c. Development Bank A development bank is the one, which is established under a special Act for the upliftment of a certain economic sector by providing special financial, technical and administrative assistance under simple and easy terms and condition. Such a bank is established as the important aspect of national economy, mostly in industrial and agricultural sectors. In Nepal, development banks are established under the provision of Development Bank Act, 2052 A.D. Rastriya Banijya Bank Nepal Gramin Bikas Bank
104 Aakar’s Office Practice and Accountancy - 8 Nepal Industrial Development Corporation (NIDC), Agricultural Development Bank and other private development banks have already been established in Nepal under this act. Development bank provides short term, mid term and long term loan to the industries and it provides capital, technical assistance, managerial and administrative suggestions to the development of industrial, agricultural, rural and other specific sectors of the country. It also creates proper environment in the country for the development of concerned sectors. The first development bank of world was ‘Societe Generale de Beljique’, Belgium 1822 A.D. Key Point A development bank is the bank which provides capital and technical assistance for the development of certain sectors such as industrial, agricultural, rural sectors of the country. Insurance 4. Introduction Human beings are exposed to different types of risks such as loss of property by fire, theft, accident, untimely death of the earning persons, professional or business failure, etc. Such risks may cause a large-scale financial losses. It is not possible to eliminate such risks but can be reduced and/or recovered. It is insurance which bears the risks and assures the recovery of the financial losses so caused. Insurance is a means for compensating the probable losses caused by any uncertain events in consideration to the payment of a certain fees called premium. According to Hall, “A contract in writing whereby one party, called the insurer, agrees in consideration of either a single or a periodical payment called the premium, to indemnify another party called the insured, against loss of damage resulting to him on the happening of certain events or to pay him a sum on the happening of a specified event or events.” According to Professor R.S. Sharma, “Insurance is a co-operating device to spread loss caused by a particular risk over a number of persons who are exposed to it, who agree to insure themselves against the risk.” Insurance Act 2049 B.S., “Insurance business means life insurance business and non life insurance business which also refers to the reinsurance too.” From the study of the above meaning and definition, insurance may be considered to be a better means of shifting and dividing the business risks. Hence, insurance may be defined as a contract between the insured and insurer by which the later undertakes to compensate the former with a fixed sum of money as the recovery of the pre decided financial loss in consideration to a certain premium.
105 Bank and Insurance Nowadays, insurance has become a business and it is initiated by insurance companies. In Nepal, the insurance business is carried out by public as well as private sectors. Rastriya Beema Sansthan, Everest Insurance Co., National Life and General Insurance Co., etc. are some examples of insurance companies. In Nepal, insurance companies are established according to the Insurance Act 2049. Key Point The way of transferring own risk to a large number of persons for compensating the probable loses caused by any uncertain events in consideration to the payment of a certain premium. In order to understand the concept of insurance, one should be familiar with the following terms: i. Insured The person or party who seeks protection against a particular risk and pays a certain amount in consideration to the recovery of the financial loss is known as insured. ii. Insurer The party i.e. insurance company which undertakes to protect the insured from the specified risks and the loss so caused in consideration to a certain premium received from the insured is known as insurer. iii. Premium It is the fees paid by the insured to the insurer as the consideration of the insurance contract for the assurance of the recovery of financial loss so caused. It is payable monthly, quarterly, half yearly or yearly depending upon the agreement. iv. Insured Amount It is the agreed financial value of the future loss caused by certain events. Insurance is made for the recovery of this value. v. Insurance Policy It is the contract between the insured and the insurer containing the details of the terms and conditions of a certain insurance. 5. Functions of Insurance The functions of insurance may vary on the basis of its nature and types. It means the functions of fire or marine insurance may differ from that of life insurance, etc. The common functions of insurance may be studied in terms of the following points. i. Providing Assurance for Compensation Insurance provides assurance for the compensation of pre-decided and accidental financial losses against the premium paid by the insured.
106 Aakar’s Office Practice and Accountancy - 8 ii. Reducing Financial Losses Human beings are exposed to different kinds of risks in their personal as well as business life. Such risks may cause great financial loss. Insurance acts as a mechanism to reduce or eliminate the financial loss due to various risks by forecasting the chances of such happenings and suggesting for their controlling measures. iii. Mobilisation of Capital Insurance accumulates fund in terms of insurance premium from the parties willing to get secured from the financial losses. Compensation is made to the insured who have actually suffered from the pre-decided accidental losses. The other fund may be invested in different secured and productive sectors. Hence, insurance accumulates fund and mobilizes into different areas. iv. Maintaining Financial/Economical Stability Risks and uncertainties create instability in the financial sector. Insurance companies help to maintain financial stability by assuring for the compensation of the losses caused by various risks and thus promotes the performance efficiency, which leads to financial stability. v. Financial Security Insurance provides financial security to an insured. It guarantees protection against uncertain and large losses in return of small premium. There are different types of insurance to give economic protection in different sectors. Insurance provides certainty of compensation in case of accidental loss. Thus, it gives a feeling of financial security against the possible losses caused by the uncertain events. vi. Promotes other Business Business sectors are more risky. The chances of fire in the godown or production unit, loss by accident or theft, sea perils and the explosion in the aviation etc. are more frequent in the business sectors. Insurance takes away these risks and promotes and develops business sectors. Thus, it helps to expand business activities in and outside a country. vii. Reduction of Risk Insurance company does researches and investigations to forecast the future loss. It organizes different seminars and workshops to make their customers aware of different risks or events, which help to reduce loss. Points to Remember i. Providing assurance for compensation ii. Reducing financial losses iii. Mobilisation of capital iv. Maintaining financial/economical stability v. Financial security vi. Promotes other businesses vii. Reduction of risk
107 Bank and Insurance 6. Types of Insurance There are various types of insurance as the difference in the financial risks. The following are the common types of insurance: Life Insurance Non-life Insurance/General Insurance Marine Insurance Fire Insurance Miscellaneous Insurance Motor Aviation Employers’ Liability Fidelity Guarantee Types of Insurance a. Life Insurance Life insurance came into existence after the development of the marine insurance. The first life insurers were the marine insurers who started issuing life insurance policies on the life of the merchants, ship captains and the crew of the ship sailing along with the goods. Every human being wants the financial security of his/her life on one hand and the financial security of his dependent after his death on the other. So it is a contract to recover the financial uncertainty of human life to some extent from business valuation method. It is not a contract of indemnity like other insurance. Hence, life insurance may be defined as the insurance by which the insurer undertakes to pay the fixed sum of money on the happening of some events which may be death of the insured or the expiry of the term against the receipt of the premium. Thus, life insurance contains the elements of security as well as investment. Key Point Life insurance is a contract whereby the insurer agrees to pay a certain sum of money to the insurer on the maturity of the policy in consideration of premium paid by insured to him or to his nominee if the insured dies. Happy family
108 Aakar’s Office Practice and Accountancy - 8 b. Non life/ General Insurance Insurance other than life insurance is known as non-life insurance. Some types of general insurance are described below: i. Marine insurance Marine insurance is an agreement between the insurer and the insured by which the former undertakes to indemnify the latter, in the manner they have agreed, the financial loss caused by a certain sea perils in consideration to a certain premium paid periodically or in lumpsum. It is believed that it was the first developed form of insurance. In the ancient times, international trade used to be done mainly through sea routes and they were subject to various risks like collision of a ship with rocks or other ships, attack by sea pirates, etc. Such risks were attached both to the ship and the cargo. Hence, the marine insurance was felt necessary to be secured from the loss of ship, the cargo, etc. In course of time, other types of insurance were also developed gradually. Key Point Marine insurance provides security to the shipping company, passengers, and businessman due to marine risks against amount of premium. ii. Fire Insurance Fire insurance is a measure, which provides security against the risk of fire. It was initiated from England when London City was caught by fire devastation in 1666 AD. Fire insurance is a contract between the insurer and insured by which, the former undertakes to indemnify the latter the financial loss caused by fire in consideration to a certain premium paid periodically or in lumpsum. In this policy, the insured must prove that the loss is caused by fire and that must be unintentional accidental case. It is generally made by the owners of cinema house, godown, business premises, residential house, etc. Key Point Fire insurance is the contract in which the insurance company promises to compensate the loss of property due to fire risk against the amount of premium. Ship accident Building on Fire
109 Bank and Insurance iii. Miscellaneous insurance There are many other types of insurance policies for different financial risks. Some of them are introduced below: a. Motor Insurance The insurance which is made to compensate the loss of the vehicles by means of the pre-decided events which may be caused by accident or other causes is known as motor insurance. b. Aviation Insurance The insurance, which is made to compensate the financial loss caused by aviation risks and accidents is known as aviation insurance. c. Employers’ Liability Insurance There is risk of happening accident in the organization due to which the employee may be unable to generate income or even die. So to protect the dependent of the workers, employers’ liability insurance is done. To get the compensation in this policy, employer is liable to pay the premium regularly. This insurance helps to motivate the workers and increase their efficiency. d. Fidelity Guarantee Insurance Fidelity guarantee insurance is a process of compensating the loss which is incurred due to fraud, embezzlement, misuse and theft made by the staff. e. Others Besides, the above insurance types, other types of insurance are also in use in Nepal. They are Personal Accident Insurance, Theft Insurance, Cattle Insurance, Crops Insurance, Medical Aid Insurance, etc. 7. Importance/Advantages of Insurance The advantages of insurance can be studied in terms of the following points: i. Assures for Financial Compensation Insurance provides financial security to the insured. It gives guarantee of compensation against large financial losses in return of small premium. ii. Reduction of Risks Human beings are exposed to different kinds of financial risks, which may cause large financial losses. It is not possible to eliminate the risks but it can be forecasted Bus crash Aeroplane crash
110 Aakar’s Office Practice and Accountancy - 8 and reduced by applying some precautionary measures. Insurance helps in reducing risks by suggesting for precautionary measures on one side and by sharing the losses to a group of persons in terms of the company itself who has agreed to join the common pool. iii. Encouragement to Saving and Investment In the insurance agreement, the insured has to pay a certain regular or lumpsum premium to the insurer in return to the compensation of the probable future loss or compensation at the old age or compensation after his/her death. Insurance is thus, a method of collecting savings from the parties willing to get secured from financial risks. Hence, it encourages persons to make regular savings. iv. Basis of Credit An insured can easily get loan by pledging insurance policy as a security from the insurance company itself. Besides, financial institutions grant credit facilities on the pledge of the properties which are being insured. v. Maintains Economic Stability Financial risks and uncertainties push the entire economy into instability. It is a very bad sign to total business and social sectors. Insurance assures the compensation of the financial losses caused by the specified future events and considerably helps in maintaining economic stability. vi. Promotes Business Activities Business sector is more risky sector. The chances of fire in the godown, loss of stocks by theft, explosion in the ship, train or plane, etc. are more frequent in this sector. Insurance takes away these risks and promotes and develops business activities in consideration to a nominal charge, i.e. premium. vii. Provides Employment Opportunities As insurance has become business in the modern day business world. Hundreds of entrepreneurs and thousands of employees have been engaged in this line. Hence, by establishing and developing insurance companies, it has provided employment opportunities to thousands of people as per their qualification and skill. Points to Remember i. Assures for financial compensation ii. Reduction of risks iii. Encouragement to saving and investment iv. Basis of credit v. Maintains economic stability vi. Promotes business activities vii. Provides employment opportunities
111 Bank and Insurance 8. Disadvantages of Insurance Besides, a number of benefits, insurance has also some limitations. Some limitations of insurance are mentioned below. i. Insurance leads to negligence as the insured feels that he/she can be compensated for any loss or damage. ii. Insurance companies do not make the compensation promptly on maturity of the policy or for the financial losses as the expectation of the insured. iii. It may lead to the crimes in the society as the beneficiaries of the policy may encourage to commit crimes to receive the insured amount. iv. Although insurance encourages savings, it does not provide the whole return that are provided by a bank. Glossary Eliminate : reduce/remove Compensating : pay damages/pay compensation Indemnify : assure Risk : danger/threat Assurance : guarantee/promise Periodically : from time to time/occasionally Perils : dangers/risk Pirates : robbers/thief Accumulates : build up/collect Stability : constancy/firmness Precautionary : preventive Contract : agreement Liability : amount to be paid Policy period : duration of insurance contract Exercise A. Fill in the blanks: 1. ……………….. is the fees to be paid to insurance company. 2. …………....... are the types of insurance. 3. London city was devastated by fire in ………….......
112 Aakar’s Office Practice and Accountancy - 8 4 …………....... is the insurance of the goods loaded on the ship. 5. The contract between the insured and the insurer of a certain insurance is called …………....... B. Give very short answers to the following questions: 6. What is bank? 7. What is central bank? 8. Name the central bank of Nepal. 9. When was Nepal Rastra Bank established? 10. Which is the first commercial bank of Nepal? 11. What is insurance? 12. Define insurance premium. 13. What is employment liability insurance? 14. Define insured amount. 15. Define the term ‘insurance policy’. 16. State the parties involved in insurance. C. Give short answers to the following questions: 17. Write the importance of bank. 18. “Commercial Bank is the bank of trade.” Justify. 19. Describe the functions of insurance in brief. 20. Explain any five points of importance of insurance. 21. What is non-life insurance? Explain its types. D. Give long answers to the following questions: 22. Explain the types of bank. 23. What is insurance? Explain the types of insurance. 24. Explain the advantages and disadvantages of insurance in brief. Project Work a. Prepare a list of benefits of insurance by asking the person in your society who has done insurance. b. Visit an insurance company and prepare a list of services which are provided by the insurance company to the customers.
113 Tax Unit 9 Learning Objectives After studying this unit, students will be able to : write about the meaning of tax, write about the objectives and importances of tax, know the types of tax. Tax
114 Aakar’s Office Practice and Accountancy - 8 1. Introduction State is represented by the government. Government has responsibilities toward the people. Hence, the government of any country performs a number of activities in order to maintain law and order, peace and security, satisfying with the requirements of basic needs and public utilities, etc. It also initiates various development programmes and maintains diplomatic and friendly relation with other nations. In order to carry out all these activities and discharge its overall responsibilities toward the people, it needs sufficient revenue. Such a revenue is known as government revenue. It is also known as public revenue. Government revenue is collected through various sources according to the provisions of the financial acts, rules and regulations. Such sources of revenue are taxes, fees and charges, fines and penalties, foreign grants, etc. Among them, tax is the main source of collecting the government revenue. The concept of tax was initiated from Great Britain in 1799 AD to collect revenue for the government to manage for the war against France. It didn’t come into practice after that for a long time. Income tax system was practised regularly from 1840 AD onwards in different countries in the world. It was practised from 1840 AD in Switzerland, 1849 AD in Austria, 1860 AD in England and India, 1862 AD in the USA, 1864 AD in Italy and 1959 AD in Nepal as a regular source of government revenue. The concept of income tax in Nepal was initiated with the declaration of budget system in 1952 AD (2008 B.S.) and it was imposed only from 1959 AD i.e. 2016 B.S. on business profit and remuneration with the enactment of ‘Finance Act, 2016’. Taylor, “A tax is a compulsory payment to the government without expectation of direct benefit in return to the taxpayer.” Prof. Seligman, “A tax is a compulsory contribution from a person to the government to defray the expenses incurred in the common interest of all without reference to special benefit.” From the study of the above concept and definition, the term ‘tax’ may be defined as a compulsory contribution of a person, to the state to incur in the common interest of the general people without any expectation and benefit in return. It is payable only on income or profit exceeding a certain specified limit. Key Point Tax is compulsory contribution of a citizen, to the state without any expectation and direct benefits. Hence, a tax may involve the following characteristics: A tax is a compulsory contribution of a person or entity to the state as per the rules.
115 Tax The tax payer does not receive direct and special benefit in return. It is spent by the government for the common interest and benefit of the people. It is paid only by those persons and entities who earn income exceeding a certain specified limit. It is paid in the subject to punishment by law. It is lavied on persons as per the prevailing laws. 2. Objectives of Tax The concept of tax was initiated with a view to generate government revenue in its very beginning stage. In course of time it has been utilized for various purposes. The following are the important objectives of tax: i. To raise government revenue for development and welfare programmes in the country. ii. To maintain economic equalities by imposing tax on the income earners and improving the economic condition of the general people. iii. To encourage the production and distribution of the products of basic needs and discourage the production of harmful ones. iv. To discourage import trade and protect the national industries through import and custom duty. v. To increase the employment saving and investment in the country. vi. To boost up the economy vii. To minimize regional disparity, etc. Foreign Aid Income Government Expenditure Fee Tax Loan Service charge Fine and penalties Construction of road, school, hospital, etc. Provides services of water, telephone, electricity, etc. Salary to staff Maintain peace and security Expenses on government office
116 Aakar’s Office Practice and Accountancy - 8 3. Importance of Tax Tax is a major source of government revenue and it contributes for the overall development and prosperity of a country. Hence, the importance of tax may be studied in terms of the following points: i. Raising government revenue in terms of income tax, custom duty, excise duty, entertainment tax, VAT, land revenue tax, etc. from various sectors in order to initiate development and welfare programmes. ii. Maintaining economic stability by reducing economic inequalities by means of equitable distribution of wealth by way of imposing tax on the income earners and improving the economic condition of the general people. iii. Regulating the economic sectors into right direction by encouraging the production and distribution of useful goods and discouraging the liquor, tobacco and luxurious goods by imposing high tax rate on them. iv. Building and strengthening the national economy by encouraging and protecting national industries and promoting export trade. v. Reducing regional economic disparity by encouraging the entrepreneurs to establish industries in the remote and backward regions by giving tax exemptions, rebates and concessions, etc. vi. Increasing the employment opportunity, saving and investment in the country. 4. Types of Tax Taxes may be categorized into different types as their nature as direct taxes, indirect taxes, progressive taxes, regressive taxes, etc. Within the course of study at this grade, the following types of taxes are studied. i. Direct Tax A direct tax is the one, which is directly collected from the concerned person or organizations. It is collected from the persons or entities on the income they have earned exceeding a certain specified limit. Tax is generally calculated at a certain percentage on the income. Income tax, corporate tax, land revenue tax, salary tax, house rent tax, etc. are some examples of direct tax. ii. Indirect Tax An indirect tax is the one, which is imposed upon one person or entity but paid partly or fully by others. It is transferable to others. The tax is collected from customers by including it in the price of the goods or services they have purchased. The producers collect such a tax from wholesalers, the wholesalers from retailers and the retailers from the final consumers. Excise duty, custom duty, VAT, etc. are some of the examples of indirect tax.
117 Tax iii. Personal Income Tax Personal income tax refers to the tax imposed on individuals or families who earn income exceeding a certain specified limit subject to change as per the provisions made in financial rules and regulations. The individuals and families are taxable who earn income more than certain specified limit within tax bracket, i.e. tax paying class. It is levied on a progressive basis, i.e. high rate for high income and low rate for low income. Likewise, one percent (1%) of tax is paid from those who earn income as salary Rs. 3,50,000 as an individual and Rs. 4,00,000 for families and these amounts are ceiling of income tax as per the current provision. After tax exemption limit, they have to pay 15% after deducting the amount of exemption limit upto Rs. 1,00,000 and more than Rs. 1,00,000, it must pay 25% of tax on income. iv. Corporate Tax Corporate tax is the tax imposed on the net profit of a business entity. It occupies the most part of the government revenue collected from taxes. Corporate tax rates are generally applied in flat system with high rate for large undertakings and low rates for smaller ones. The small and large undertakings are categorised as per the size of the activities. Such business must pay 25% tax on taxable profit. v. Excise Duty Tax which is imposed on production of goods by the government is known as excise duty. Excise duty is the tax levied on liquor, tobacco and luxurious products. It is intended to discourage the consumption of such harmful products on one side and to collect government revenue to considerable extent on the other. vi. Custom Duty Custom duty is the tax charged on the goods dealt in the foreign trade especially on the imported goods to encourage and promote export and to protect national industries. Government simply gives exemption of this tax on export trade and imposes on import trade. Custom duty may be export duty or import duty as its nature and imposed on the trading goods. vii. Land Revenue Tax Land revenue tax is the one which is imposed upon the landlords on the revenue generated from land especially while selling or purchasing land. In Nepal, land revenue tax is also collected from the small farmers who have land under their ownership in the name of ‘Tiro’ as the grading of land. viii. Value Added Tax (VAT) Value added tax is the tax levied on value added on the price of the product at each stage of production, and/or distribution activities. Value added is the difference between sales value and purchase value or the conversion cost plus profit. Conversion cost means the expenses on rent, depreciation, maintenance, insurance, salary, etc. It
118 Aakar’s Office Practice and Accountancy - 8 is imposed on the goods at import (buying), production and selling stages. For example, when certain goods where VAT is applicable purchased by a wholesaler for Rs. 1,00,000 are sold to a retailer for Rs.1,25,000; the value added tax at wholeselling stage is imposed on the value added i.e. on Rs. 1,25,000 at a given rate. The current rate of VAT is 13%. It is implemented to simplify and systematize the sales tax and minimize the chance of cheating. Example: A factory produced a bicycle in Rs. 4000/- and sold by getting 20% profit. It is sold by the producer through wholesaler and retailer to the consumer. Calculation process of VAT is as follows: Stages of sales Cost price (Value) Profit added Selling Price without VAT VAT (13%) Selling price Producer 4000 800 4800 624 5424 Wholesaler 4800 960 5760 748.8 6503.8 Retailer 5760 1152 6912 898.56 7810.56 Consumer Rs. 7810.56 (Finally consumer should pay for a bicycle) ix. Sales tax Sales tax is collected by the government from the selling price of goods. Generally, a business organization requires to pay 5-10% of the total value of sales as sales tax. Nowadays, sales tax is replaced by the value added tax (VAT). x. Octori The Octori tax is collected by the local government/local authorities like District Development Committee, Village Development Committee and Municipality to use for local development. Amount of Octori remains nominal. Points to Remember i. Direct tax ii. Indirect tax iii. Personal income tax iv. Corporate tax v. Excise duty vi. Custom duty vii. Land revenue tax viii. Value added tax (VAT) ix. Sales tax x. Octori VAT Bill
119 Tax Glossary Revenue : income of government Budget : financial plan/estimated income and expenses Remuneration : salary/compensation Consumption : use Depreciation : decrease in the value of assets Wholesaler : trader/seller who sells big volume of goods Retailer : seller who sells small volume of goods Equitable : impartial/fair Landlord : land owner Ceiling : maximum limit Excise duty : tax imposed on production Exercise A. Fill in the blanks: 1. ……………… is the tax imposed on the net profit of a business. 2. The tax which is paid by the person to the government is called ……… 3. Tax paid for tobacco is known as ……………… 4. Full form of VAT is ……………… 5. ......................... is called if you earn more than limit amount. B. Give very short answers to the following questions: 6. Define tax. 7. Write the full form of VAT. 8. What is land revenue tax? 9. Who pays the corporate tax? 10. Write a difference between custom duty and excise duty.
120 Aakar’s Office Practice and Accountancy - 8 C. Give short answers to the following questions: 11. Distinguish between direct tax and indirect tax with examples. 12. Briefly describe the evolution of tax in the world. 13. Mention any four objectives of tax. D. Give long answers to the following questions: 14. What is tax? Describe any five types of tax in brief. 15. Why is tax important for a nation? Explain briefly. Project Work a. List out the taxes which are paid by your school to the government. b. Consult the local government body of your city or town. List out the taxes and tax rates which are taken by the local government body.
121 Book-keeping Unit 10 Learning Objectives After studying this unit, students will be able to : write about the meaning, importance and objectives of book-keeping, describe the meaning of financial transactions and their components, differences between double entry and single entry book-keeping system, describe about the book keeping systems, write the meaning of different terminologies of book-keeping. Book-keeping Summary of Financial Information 1. Cash received Rs. 11,000 Cash payment Rs. 7,350 Balance Rs. 3,650/- 2. Total expenses for the month Rs. 5,850/- 3. Credit purchase Rs. 3,000/- Cash payment Rs. 2,000/- Due Rs. 1,000/- 4. Income from house rent Rs. 1,500/- 5. Total expenditure for children Rs. 1,300/
122 Aakar’s Office Practice and Accountancy - 8 1. Introduction Organization performs the monetary transactions to achieve the goals. Investment of capital, taking loans, purchase of assets, materials or suppliers, payment of wage, salary, rent, interest, commission, sales of goods, etc. are some examples of business transactions. All these transactions cannot be recalled by a human memory whenever required and thus they are to be regularly and systematically recorded in a set of books for ascertaining profit or loss during a certain period and financial position till the date. The term ‘Book-Keeping’ is comprised of the two words ‘Book’ and ‘Keeping’. where ‘Book’ means the documents where to keep the records, i.e. journal, ledger, etc. and `Keeping’ means the systematic management of book for future reference. J.R. Batliboi, “Book-keeping is the art of recording business dealings in a set of books.” Dr. A.N. Agrawal, “Book-keeping is the science and art of recording transactions in money or money’s worth so accurately and systematically that the true state of a businessman’s affairs can be ascertained.” With the study of the above meaning and definitions, it may be defined as a science of collecting and recording the financial transactions of an entity regularly and systematically in a set of books so as to ascertain its operational result i.e. profit/loss during a certain period and the financial position up to the date. Key Point Book-keeping is the act of collecting and recording the financial transaction in a systematic and scientific way in a set of books. 2. Objectives of Book-keeping There are various objectives of book-keeping and accounting to different parties i.e the owners, managers, creditors, government, customers, etc. The common important objectives of book-keeping are shortly described below. i. Ascertainment of result of operation Book-keeping is intended to the ascertainment of the result of operation i.e. the profit/loss of a firm or company by recording all the revenue income and gains and expenses and losses of a certain period and by comparing them. It is ascertained by preparing the income statement or profit and loss account at the end of each fiscal year. ii. Ascertainment of the financial position It helps to ascertain the financial position of a firm or company by recording the appropriate values of different types of assets, specially in its net cost, and the
123 Book-keeping capital and liabilities up to the date. It is found by preparing the balance sheet at the close of the fiscal year. iii. Maintaining control over the assets and budget Book-keeping maintains control on the assets, income and expenses of all types by making their complete records. It helps one to see how efficiently the assets are utilized and the budget is disposed off. Thus, it establishes financial discipline by controlling frauds on budget and its expenditure. iv. Prediction of the volume of cash for future Book-keeping helps the future forecast of cash by verifying the receipt and payments of an organization and the proposed expansion programmes. Specially, it is important for those whose financial system is based upon cash budget. v. Assessment of tax liabilities Book-keeping keeps the complete records of all business transactions and get them audited. Book-keeping involves the income statement and balance sheet at the end of the fiscal year. It gives the details about the financial affairs of an organization, including the sales and net income on the basis of which tax liabilities i.e. sales tax, income tax, etc. can be easily assessed. Points to Remember i. Ascertainment of result of operation ii. Ascertainment of the financial position iii. Maintaining control over the assets and budget iv. Prediction of the volume of cash for future v. Assessment of tax liabilities 3. Importance and Advantages of Book-Keeping Book-keeping is important for all, who are engaged in any sort of occupation and is rather more important for the organizations for ascertaining the true state of the organization’s affairs. The importance of book-keeping can be studied with respect to the different sectors. i. Importance to the professional and the other individuals Book-keeping is important for the professionals like doctor, engineer, mechanics, lawyer, auditor, etc. for recording their incomes and expenses and profits and losses, etc. regularly and systematically for controlling expenses and gaining income. Similarly, it is important for the general people for making a proper balance of their income and expenses for their personal and household affairs.
124 Aakar’s Office Practice and Accountancy - 8 ii. Important for business organizations Book-keeping is essentially important for a business organization for keeping the complete records of the transactions. It is important, specially to determine the result of operation, financial position, controlling assets and other resources, establishing financial discipline, assessing tax liabilities, etc. iii. Important for the government Book-keeping is important for the government to evaluate the progress of the government projects, to collect necessary statements, data and information for the preparation of government budget, to control over the leakage, misuse and misappropriation of budget, etc. of the government property and resources. iv. Important for other parties Book-keeping is equally important for the financial analysts and other interested parties like investors, creditors, banks, customers, etc. to study and analyse the different financial statements of a certain firm or company. It is also important for the job seekers for better opportunity for getting employment. Points to Remember i. Importance to the professional and the other individuals ii. Importance to business organizations iii. Importance to the government iv. Importance to other parties 4. Financial Transactions The transactions which show at least a financial character i.e. the involvement of money of money’s worth, are known as the financial or business transactions. Purchase of goods, sales of goods, purchase of assets, raising of capital, borrowing loan, payment of expenses, receiving income are the examples of the financial transactions. The transaction may occur in terms of cash and credit. Cash paid and cash received are the examples of cash transactions, likewise credit sales and credit purchase of goods are some examples of credit transactions. Only financial transactions are recorded under book-keeping. Mainly, there are three components of financial transactions. They are: 4.1 Collection of Financial Information ` In an organization, number of financial transactions take place to achieve their organizational goals. Without financial activities, we can’t hope the organization. So all financial activities should, be recorded for future references. The first step of book keeping is collecting the financial information as per their date of occurrence. Thus, the process of noting down all the financial transactions daily on the basis
125 Book-keeping of proofs like voucher, cheque, receipt, bill, etc. is known as collection of financial information. It is necessary for the individual as well as organizations for preparing financial reports. An example of collection of financial information can be presented as follows: Mr. Nabin Marahatta collects financial information of his household activities for the month of Jestha, 2075 as follows: S. No. Date Particulars Rs. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 1st Jestha, 2075 6th Jestha, 2075 8th Jestha, 2075 9th Jestha, 2075 l0th Jestha, 2075 16th Jestha, 2075 19th Jestha, 2075 22th Jestha, 2075 24th Jestha, 2075 28th Jestha, 2075 29th Jestha, 2075 30th Jestha, 2075 Bought a pen for son Bought rice from ABC shop on credit Received house rent Paid to ABC Purchase vegetables Paid children’s school fees Loan given to Babu Ram Purchase snacks Paid doctor’s fees Bought school dress Received salary Received from Babu Ram Rs. 100/- Rs. 3000/- Rs. 1,500/- Rs. 2,000/- Rs. 250/- Rs. 200/- Rs. 2,500/- Rs. 800/- Rs. 500/- Rs. 1,000/- Rs. 8,000/- Rs. 1,500/- Mr. Nabin Marahatta has made the collection of financial transactions because he has noted down all the expenses and other information in a record book. This record helps to know the expenditure and income of his house which is useful in the days to come. 4.2 Classification of Financial Information The word ‘classification’ means division, allocation, and separation of activities into various groups as per their nature. In an organization, the financial transactions should be separated according to the requirement of the financial information. So classification of information refers to the act of separating the transactions into various groups as per their same nature. The financial transactions should be classified into various groups to get the actual and individual financial information. It helps to know the financial position of income, creditors, debtors, expenses, assets and liabilities of the organization. The classification of financial transactions as per their nature can be made by preparing ledger account or individual separate account. Mr. Marahatta wants to know his income, expenditure, and other individual financial information. For this, he classifies his previous collections of financial information as follows:
126 Aakar’s Office Practice and Accountancy - 8 Cash received in the Month of Jestha, 2075 8th Jestha, 2075 29th Jestha, 2075 30th Jestha, 2075 Received house rent Received salary Received from Babu Ram Rs. 1,500/- Rs. 8,000/- Rs. 1,500/- Total cash received Rs. 11,000/- Cash paid in the month of Jestha, 2075 1st Jestha, 2075 9th Jestha, 2075 10th Jestha, 2075 16th Jestha, 2075 19th Jestha, 2075 22th Jestha, 2075 24th Jestha, 2075 28th Jestha, 2075 Bought a pen for his son Paid to ABC Purchase vegetables Paid children’s school fees Give loan to Babu Ram Purchase snacks Paid doctor’s fees Bought school dress Rs. 100/- Rs. 2,000/- Rs. 250/- Rs. 200/- Rs. 2,500/- Rs. 800/- Rs. 500/- Rs. 1,000/- Total cash paid Rs. 7,350/- Record of household expenses for the month of Jestha, 2075 1st Jestha, 2075 6th Jestha, 2075 10th Jestha, 2075 16th Jestha, 2075 22th Jestha, 2075 24th Jestha, 2075 28th Jestha, 2075 Bought a pen for his son Bought rice from ABC shop on credit Purchase vegetables Paid children’s school fees Purchase snacks Paid doctor’s fees Bought school dress Rs. 100/ Rs. 3000/- Rs. 250/- Rs. 200/- Rs. 800/- Rs. 500/- Rs. 1,000/- Total household expenditure Rs. 5,850/- Record of credit purchase from ABC shop 6th Jestha, 2075 Bought rice from ABC shop on credit Rs. 3,000/- Total credit transactions Rs. 3,000/- Record of cash payment of ABC 9th Jestha, 2075 Paid to ABC Rs. 2,000/- Total Cash payment to ABC Rs. 2,000/- Income from house rent 8th Jestha, 2075 Received house rent Rs. 1,500/- Total income of house rent Rs. 1,500/-
127 Book-keeping Record of children expenses 1st Jestha, 2075 16th Jestha, 2075 28th Jestha, 2075 Bought a pen for his son Paid children’s school fees Bought school dress Rs. 100/- Rs. 200/- Rs. 1,000/- Total expenses of children during the month Rs. 1,300/- In the above transactions, Nabin Marahatta has performed the second act of classifying the financial information, grouping into the various natures of transactions, i.e. cash received, payment of cash, credit payments, etc. Mr. Marahatta can easily get the financial information of income, expenditure, etc. which helps to match and forecast the expenditure with income for the coming months. 4.3 Summary of Information Summarising is the act of preparing financial information in short and correct way which helps to know its result. After classification of financial information, we should summarize all the collected and classified financial information to find out the result in short. The summary of the above transactions is given below: 1. Cash received Rs. 11,000 Cash payment Rs. 7,350 Balance Rs. 3,650/- 2. Total expenses for the month Rs. 5,850/- 3. Credit purchase Rs. 3,000/- Cash payment Rs. 2,000/- Due Rs. 1,000/- 4. Income from house rent Rs. 1,500/- 5. Total expenditure for children Rs. 1,300/ The example given above represents the conclusion of his accounts for the month of Jestha and presents the results of his financial activities which are the functions of book-keeping. 5. Book-keeping Systems Book-keeping is being used by many individuals and organizations from the ancient times. The modern concept of book-keeping is the recent origin and before this, the traditional system of book-keeping was in use. Thus, book-keeping system is studied under two types, viz. (i) single entry book-keeping system and (ii) double entry book-keeping system.
128 Aakar’s Office Practice and Accountancy - 8 5.1 Single Entry Book-keeping System It is the traditional system of keeping books of account. Every business transaction has its double aspects, i.e. debit and credit, for both the parties involved, but it does not recognize the two side effects of the transactions. It considers only the personal i.e. the debtors and creditors and some sort of cash summaries in the books of account. Other real and nominal accounts are completely ignored by this system. Since the transactions are posted in personal and cash accounts but not in other impersonal accounts, it is called single entry system of book-keeping. As such, single entry system of book-keeping may be defined as the system of keeping books of account, which does not recognize the two fold aspects of every transaction. Since it does not record the transactions other than the personal account and a cash summary, it is an incomplete system. According to R.N. Carter, “ Single entry is a method employed for recording transactions, which ignores the two-fold aspects and consequently, fails to provide the businessman with the information necessary for him to be able to ascertain the position.” Merits of single entry system i. It is simple to use because only the personal accounts and a cash summary are prepared under this system. ii. It is less costly in the sense that only a limited number of books are maintained by a few number of persons. iii. It is useful for every small and sole proprietorship type of firms. iv. It saves time to maintain the record. Demerits of single entry system i. It is incomplete, unsystematic and unscientific system and thus necessary information cannot be supplied. ii. It cannot check the errors and the books of account may lead to the wrong result. iii. It cannot ascertain the true state of affairs of a firm or company. iv. It cannot control different types of frauds, leakage, misuse and misappropriation of assets as well as other resources. v. It cannot make a factual evaluation of projects, neither can assess the tax liabilities in true sense. 5.2 Double Entry Book-keeping System It is already mentioned that every financial transaction shows its double effect, one in the debit side of one account and the another in the credit side of another account. This double effect, in every business transaction, cannot be recognized by the single entry book-keeping system. Thus, it was felt necessary to develop the double entry book-keeping system to satisfy the needs of organizations in course of time.
129 Book-keeping It is completely systematic and scientific and thus keeps the records of the transactions by considering both the aspects. So the double entry book-keeping system may be defined as the system of keeping books of account which recognizes the two fold aspects of every transaction. It is based on the double entry principles that for every debit there is corresponding credit, i.e. one aspect is debited with a certain value and the other is credited with the same value. Double Entry Book-keeping system was propounded by an Italian businessman Luca De Bourga Pacioli in 1494 AD. He published his book named ‘Summa De Arithmetica’ mentioning the recording system of transactions. The double entry system is illustrated here in respect to the following transactions. 1. Furniture purchased for Rs. 10, 000. in cash. This transaction shows the two side effects, i.e. on the furniture and cash. Furniture A/c is debited with Rs. 10, 000 and the cash A/c is credited with the same amount. The entry is: Furniture A/c Dr 10,000. To Cash A/c 10, 000. (Being furniture purchased) While posting the above entries in the concerned accounts. It is made as: i) Furniture A/c To Cash A/c 10,000. ii) Cash A/c By Furniture A/c 10,000 2. Sold goods for cash Rs. 20,000. Journal Entry: Cash A/c Dr. 20,000 To Sales A/c 20,000 (Being goods sold on cash) Ledger Posting: (i) Cash A/c ii) Sales A/c To Sales A/c 20,000 By Cash A/c 20,000 Note: The term book-keeping generally refers to the double entry book-keeping system. Luca De Bourga Pacioli
130 Aakar’s Office Practice and Accountancy - 8 5.3 Objectives and importance of double entry book-keeping system Double entry book-keeping system is the systematic and scientific system and is completely based on the double entry principles. It is introduced to overcome the limitations of the traditional system of book-keeping, i.e. the single entry system. There are some important objectives of the double entry book-keeping system, which are mentioned below: i. To ascertain the profit or loss resulted from the business operation. ii. To measure the financial position of a concern by making the appropriate valuation of the assets, capital and liabilities. iii. To know the exact amount of the debtors and creditors of a firm for a certain duration. iv. To see the capital structures and the management of assets for analyzing the economic soundness of a firm or company, i.e. short term liquidity and long term solvency, etc. v. To determine the tax liability i.e. sales tax, VAT, income tax, etc. by ascertaining the total sales and net income of the year. vi. To establish an efficient financial administration for the control of all types of resources from leakage, misuse, misappropriation, etc. by keeping complete records of all the transactions. vii. To facilitate the auditing of the books of account. viii. To submit, as evidence, in the courts, if necessary, because the audited financial statements are the authentic and legal financial documents. 5.4 Differences between double entry and single entry book: keeping system. Basis of difference Single entry system Double entry system i. Duality principle It does not recognize the two-fold aspect of every transaction. It recognizes the two: fold aspect of every transaction. ii. Scope It has a very limited scope for small scale business organizations and enters only the personal and cash transactions. It has a large and wider scope for all the organizational sectors for all types of business transactions. iii. Trial balance A trial balance cannot be prepared and thus the arithmetical accuracy cannot be checked. A trial balance is prepared under this system to check the arithmetical accuracy of the books of account. iv. Net profits/loss Because of an incomplete information, the true net profit/loss cannot be ascertained. The true net profit or loss can be ascertained by preparing the income statement or profit and loss account.
131 Book-keeping v. Financial position It cannot provide accurate and complete information for the preparation of balance sheet. Thus, the financial position cannot be ascertained under this system. True financial position of a business can be easily ascertained by preparing the balance sheet. vi. Authenticity The books of account are neither complete nor can be audited systematically under this system. So it is not authentic. Since the books of account are audited by the recognized auditor, these are duly authentic. vii. Reliability It is incomplete and unscientific and thus not trusted by creditors, bankers, tax authority and other financial analysts for the reliability of the financial statements. It is completely scientific and systematic system of keeping books of account, Thus, it is trusted by tax authority, creditors, banker and other financial analysts for the reliability of the results. 6. Terminologies of Book-keeping There are many terms frequently used in book-keeping and accounting. Some of them are briefly discussed below: i Financial/business transactions The transactions, which show, at least, a financial character, i.e. the involvement of money of money’s worth, are known as the financial or business transactions. Purchase of goods, sales of goods, purchase of assets, raising of capital, borrowing loan, payment of expenses, receiving income are the examples of the financial transaction. The transaction may occur in terms of cash and credit. Cash paid and cash received are the examples of cash transactions likewise credit sales and credit purchase of goods are some examples of credit transactions. ii. Assets Any physical objects (tangible) or rights (intangible) owned by an organization or firm having an economic value are termed as assets. The followings are the examples of assets. Assets = Liabilities + Capital - Cash - Bills receivable - Good will - Accrued income - Bank - Land and building - Debtors - Plant and machinery - Stock - Furniture and fixtures - Vehicles and equipment
132 Aakar’s Office Practice and Accountancy - 8 iii. Capital The investment of cash, goods, assets in the business by the proprietor/owner is known as capital. The following are the examples of capital. It is a kind of permanent liability to the business enterprise. Capital = Assets - Liabilities iv. Liability The claim or series of claims against the firm or company are liabilities. Liabilities are the obligations of a firm and are of short term as well as long term nature. The following are the examples of liability: Liabilities = Assets - Capital - Creditors - Advance receipts - Bank overdraft - Bills payable - Outstanding expenses - Loan v. Accountant The person who performs accounting job is known as an accountant. vi. Accounting Accounting is the act of recording, classification and summarizing the business transactions. vii. Account An account is the financial detail or statement of certain subject, such as cash account, goods account, furniture account, etc. It is denoted as A/c in short form. viii. Accountancy The profession of accounting is called accountancy. It is also a branch of knowledge which deals with accounting activities. ix. Drawing The withdrawal of cash or goods from the business by the proprietor or owner for his household purpose is known as drawing. It reduces the capital in extent of the withdrawn amount and thus is deductible from capital in the balance sheet or treated as asset. x. Revenue/Income Revenue is the inflow of assets by selling goods or services to others. Revenues
133 Book-keeping are the incomes of the business. The following are the examples of income or revenue of an organization. - Sales proceeds - Commission received - Interest received - Dividend received - Discount received - Bad debt recovered, etc. xi. Expenses An expense is the cost of providing goods or services to others. It is the money spent on earning revenues. There are various types of expenses. The following are some of the examples of expenses. - Purchase - Carriage on purchases - Purchasing expenses - Shipping, or railway freight xii. Purchase Purchase refers to the acquiring of raw materials, semi-raw materials and finished products for regular production and sales activities. For example, if a furniture centre buys some pieces of furniture items, this is termed as purchase; otherwise if the same is bought by a school or college, it is known as furniture asset. A purchase may be made in cash or credit. xiii. Sales Sales refer to the transfer of the goods or services along with their ownership to them who demand the goods or services and pay or agree to pay, a certain value or price. The sales of any asset do not mean sales. It is also made in cash or credit. xiv. Stock Stock is the unused or unsold quantity of raw materials, semi-raw materials or finished goods. There are generally two types of such stocks, viz. opening stock and closing stock. The stock which is determined at the close of the fiscal year is known as closing stock and the same for the beginning of the coming year is known as opening stock. xv. Cash It refers to a certain amount of money remained in hand, at any time. It is the most liquid asset. xvi. Bank It refers to the amount of money with a bank. It may be kept in current A/c, saving bank A/c and fixed deposit A/c. It is also a liquid asset because it can be
134 Aakar’s Office Practice and Accountancy - 8 immediately changed into cash within a short period. As the institution, bank is a financial institution, which deals with the monetary transactions. xvii Bank overdraft It is the act of withdrawing amount from the bank by its client in excess of his/ her deposit. It is thus, a short-term liability of the firm or company in the sense that it should be re-paid to the bankers within a short period of time, i.e. with in 90 days. xviii.Cheque Cheque is an instrument, which is used in withdrawing cash from the bank. It is an order made by the account holder called drawer or depositor to his/her banker (drawee) to pay a certain sum of money on demand. xix. Depreciation A fixed asset is purchased by a firm or company comparatively in higher prices and for longer period. The firm or company makes the scientific estimation of the economic life of such an asset and its value is written-off during its life period. The value of such fixed assets declines gradually by wear and tear, continuous use and by other reasons. As such, depreciation is a gradual reduction in the original value/ price of a fixed asset due to wear and tear, effluxtion of time, continuous use, obsolescence, etc. It is a non-cash expense for an organization. It is charged in Dr. side of profit and loss A/c, as expense. xx. Debtors and creditors The person or firm who owes something to the firm or company in monetary value is called a debtor. In a debtor or book, debt is a short-term asset. Similarly, the firm or company to whom the firm owes something to pay in monetary value is called a creditor. A creditor is a short-term liability. For example, if Ram purchased goods of Rs.15000 from Shyam on credit, Ram becomes Shyam’s debtor and Shyam becomes Ram’s creditor until the debt is paid/received. xxi. Loan and interest The sum borrowed from a bank or other persons under some terms and conditions is a loan. Loan is also termed as borrowed capital to a firm or company. Similarly, interest is a certain charge payable to the loan giver, mostly on annual basis until the loan is repaid. The loan is liability and the interest is an expense. Cheque slip
135 Book-keeping xxii. Profit and loss The income and expenses are completely recorded in the books of account during a certain period. The excess of income over expenses is net profit and the excess of expenses over income is loss. Profit = Income - Expenses, if +ve Loss = Income - Expenses, if -ve xxiii.Commission and Discount A commission is a kind of reward offered by the business to his agent or by a consignor to his consignee for performing his works. A discount is a kind of rebate offered by a seller to the buyer on the sales of goods or a creditor to his debtor on the payment of cash before the due date. Both the commission and discount may be incomes or expenses as the nature of the transactions or they may be gains or losses. xxiv. Insolvent A firm/company, which is not financially capable of meeting its debt from its own business resources are considered as insolvent. Only, the court can declare a firm or company as insolvent. An insolvent businessman cannot conduct a business in his name. Glossary Retention : preservation Transaction : financial activities Ascertainment : find out Prediction : forecast Occur : take place Auditor : examiner/ who checks the book of accounts Outstanding expenses : payable expenses Dividend : amount of profit given to shareholders Exercise A. Fill in the blanks: 1. Book-keeping is the act of ………………………… . 2. The double effect of every transaction cannot be recognized by the …… 3. The double entry book-keeping system was propounded by an ………… in 1494 AD.
136 Aakar’s Office Practice and Accountancy - 8 4. Financial information is ………………………….. . 5. The amount which we have to pay other is called ………………… . 6. A debtor is a ………………….. asset. 7. The excess of income over expenses is …………………… and the excess of expenses over income is ………………………. . B. Give very short answers to the following questions. 8. Define financial transactions. 9. What is single entry book-keeping system? 10. Define drawing. 11. What is bank overdraft? 12 Write the formula of capital. 13. How are profit and loss calculated? 14. Write any two differences between debtors and creditors. C. Give short answers to the following questions. 15. What is book-keeping? Explain its objectives. 16. Describe the importance of book-keeping. 17. Define double entry system of book-keeping. Illustrate with examples. 18. Write any two differences between purchase and sales. D. Give long answers to the following questions. 19. Explain the objectives of double entry book-keeping system. 20. Write any five differences between single entry and double entry bookkeeping system. 21. Write the objectives of book-keeping. 22. Make a list of collections of financial information, maintaining at least five transactions of your own house. 23. Write any two differences between classification of financial information and collection of financial information. 24. Write any two differences between classification of financial information and summarizing of financial information. Project Work a. Make a list of fixed assets of your school. b. Observe the accounting system which are applied by your school.
137 Debit and Credit Unit 11 Learning Objectives After studying this unit, students will be able to : write the meaning and principles of rules of debit and credit, solve same numerical transactions of debit and credit. Debit and Credit Debit: The Receiver Credit: The Giver Personal Account Debit: What comes in Credit: What goes out Real Account Debit: Expenses or Loss Credit: Incomes or Gain Nominal Account
138 Aakar’s Office Practice and Accountancy - 8 1. Introduction An organization, regardless of its nature and type, deals with thousands of transactions. These transactions may relate to generation of income, incurring expenses, raising capital, purchasing assets, etc. For this, all the financial transactions are to be regularly and systematically collected, recorded and retained in a set of books. When transactions occur, they are, first of all, verified with the original bills, vouchers and/or the related source documents and then originally recorded in the journal. While maintaining account, one aspect of a transaction is recorded in debit and another aspect of the same is in credit. Generally, debit refers to the left hand side of an account and credit refers to the right hand side of an account. In accountancy, Dr. refers to ‘debit’ and Cr. refers to ‘credit’. 2. Rules of Debit and Credit Every business transaction is debited with its total value in one place and credited with the same value in other place. There are certain rules/ principles for debit and credit entry of the transactions. These rules/principles may be studied under the two approaches, viz. (i) accounts classification approach and (ii) accounting equation approach. Both these approaches are discussed below. i. Accounts classification approach Under this approach, the accounts affected by the transactions are classified into three different accounts, viz. (a) personal account, (b) real account and (c) nominal account. The meaning, examples and the rules of all the three accounts are discussed below. a. Personal Account: Personal account is related with an individual, firm and institution. When the credit transaction takes place, the rule of personal account should be used. The rules for debit and credit are; Debit - the receiver and Credit - the giver e.g. Goods purchased from Lalpratap, Chitwan Rs. 15,000. Purchase A/c Dr. 15000 To Lalpratap’s A/c 15000 (Being goods purchased from Lalpratap) The two effects of this transaction are; purchase/goods and Lalpratap. Goods consist the real account and Lalpratap consists the personal account. According to the rules of personal account, Dr. is receiver and Cr. is giver. Here, Lalpratap is credited as he is the giver of the goods. Likewise, the purchase account is debited as the goods have come into the business.
139 Debit and Credit b. Real Account: Real account is related to assets and properties or things, the rule of real account should be used. The rules for debit and credit are; Debit - what comes in and Credit - what goes out Machinery purchased in cash Rs. 20,000. Machinery A/c Dr. 20,000 (debit what comes in) To Cash A/c 20,000 (credit what goes out) (Being machinery purchased) In this example, the two effects are machinery A/c and cash A/c. Machinery is debited as the machinery has come into the business and cash is credited as the cash has gone out from the business. c. Nominal Account: Nominal account is related to income, expenses, profit and loss, and thus, the rule of nominal account should be used. The rules for debit and credit are; Debit - expenses or losses and Credit - incomes and gains Paid salary Rs. 20,000 Salary A/c Dr. 20,000 (debit the expenses) To Cash A/c 20,000 (credit what goes out) (Being salary paid) In this example, the two effects are salary and cash A/c. Salary is debited as the expenses of the firm and cash is credited as the cash has gone out from the business. Types of Account Examples Rules/Principle of debit and Credit a) Personal A/c (related to person, firm, organization when credit transaction occurred) Ram, Sita, Harihar, ABC Co., XYZ Institute, PQR Academy, Megha Bank Ltd., Ganesh Gyan Joyti School, etc. Dr. the receiver Cr. the giver b) Real A/c (related to assets and properties or things) Cash, furniture, land and building, computer, machinery, etc. Dr. What comes in Cr. What goes out c) Nominal A/c (Income, exp., profit, loss) Salary, rent, allowance, budget release, revolving fund release, commission, discount, wages, etc. Dr. Expenses & Losses Cr. Incomes & gains
140 Aakar’s Office Practice and Accountancy - 8 The following transactions show the application of the above mentioned principles. Illustration : 1 Journalise the following transactions with the detailed analysis of the classified accounts: 2075-5-1 Hari Bahadur started business with Rs. 1,00,000. 2075-5-3 He deposited into bank Rs. 70,000. 2075-5-3 Purchased goods of Rs. 10,000. 2075-5-6 Purchased from Narayan Rs. 50,000. 2075-5-10 Paid for stationery Rs. 5,000. 2075-5-12 Sold goods for Rs. 75,000. 2075-5-15 Sold to Basanta Stores for Rs. 60,000. 2075-5-22 Paid to Narayan on account. 2075-5-27 Furniture purchased for Rs 8,000. 2075-5-28 Salary and rent paid by cheques Rs. 20,000 and Rs.7,000 respectively. 2075-5-30 Withdrew for personal use from bank Rs. 3,000 and for office use Rs. 10,000. Solution: Journal Entries of Hari Bahadur Date Headings affected Types of account Rules or principles Journal entry 2075-5-1 Cash Capital Real Personal Dr. what comes in Cr. the giver Cash A/c Dr. To Capital A/c 2075-5-3 Bank Cash Personal / Real Dr. the receiver Cr. what goes out Bank A/c Dr. To Cash A/c 2075-5-3 Purchase (goods) Cash Real Real Dr. what comes in Cr. what goes out Purchase A/c Dr. To Cash A/c 2075-5-6 Purchase (goods) Narayan Real Personal Dr. what comes in Cr. the giver Purchase A/c Dr. To Narayan’s A/c 2075-5-10 Stationery Cash Real Real Dr. what comes in Cr. what goes out Stationery A/c Dr. To Cash A/c 2075-5-12 Cash Sales (goods) Real Nominal/Real Dr. what comes in Cr. income & gain Cash A/c Dr. To Sales A/c
141 Debit and Credit 2075-5-15 Basanta Stores Sales (goods) Personal Nominal/Real Dr. the receiver Cr. income & gain Basanta Stores’s A/c Dr. To Sales A/c 2075-5-22 Narayan Cash Personal Real Dr. the receiver Cr. what goes out Narayan’s A/c Dr. To Cash A/c 2075-5-27 Furniture Cash Real Real Dr. what comes in Cr. what goes out Furniture A/c Dr. To Cash A/c 2075-5-28 Salary Rent Bank Nominal Nominal Personal Dr. expenses & losses Dr. expenses & losses Cr. the giver Salary A/c Dr. Rent A/c Dr To Bank A/c 2075-5-30 Drawing Cash Bank Personal Real Personal Dr. the receiver Dr. what comes in Cr. the giver Drawing A/c Dr. Cash A/c Dr. To Bank A/c Note: Purchase of goods and sales of goods are commonly termed as purchase and sales respectively or they can also be treated as goods. When they are regarded as goods, under the real account principle: ‘Dr. what comes in and Cr. what goes out’ should be applied. And when they are taken as purchase and sales, nominal account principle: ‘Dr. expenses and losses and Cr. incomes and gains’ should be applied, purchase as expense and sales as income. If in a question, the name of person or organization is given, the transaction is considered as a credit transaction. But in a question, if the name of person or organization and cash is given, it is considered as cash transaction. ii. Accounting Equation Approach This is the modern approach of debiting and crediting the accounts of the financial transactions. In the equation of assets and liabilities, the rule of debit and credit is made. It is also known as second rule of debit and credit. The following is the accounting equation and its principle for debit and credit. Accounting equation: Assets + Expenses = Capital + Revenue + Liabilities Particulars Debit Credit 1. Assets, expenses and losses increase decrease 2. Capital, liabilities, revenue & gain decrease increase or Dr. = Increase in assets, expenses, losses and decrease in capital, income and liabilities. Cr. = Decrease in assets, expenses, losses and increase in capital and income and liabilities.
142 Aakar’s Office Practice and Accountancy - 8 Illustration : 2 Solution of illustration 1. on the basis of accounting equation. Journal Entries of Hari Bahadur Date Headings affected Types of heading Rule/principle Journal entry 2075-5-1 Cash Capital Asset Capital Increase in asset Dr. Increase in capital Cr. Cash A/c Dr. To Capital A/c 2075-5-3 Cash Bank Assets Assets Decrease in asset Cr. Increase in asset Dr. Bank A/c Dr. To Cash A/c 2075-5-3 Purchase (goods) Cash Expenses Asset Increase in expense Dr. Decrease in asset Cr. Purchase A/c Dr. To Cash A/c 2075-5-6 Purchase (goods) Narayan Expenses Liability Increase of expense Dr. Increase in liability Cr. Purchase A/c Dr. To Narayan’s A/c 2075-5-10 Stationery Cash Expenses Asset Increase in asset/exp. Dr. Decrease in Asset Cr. Stationery A/c Dr. To Cash A/c 2075-5-12 Sales (goods) Cash Income Asset Increase in income Cr. Increase in asset Dr. Cash A/c Dr To Sales A/c 2075-5-15 Sales (goods) Basanta Stores Income Asset Increase in income Cr. Increase in asset Dr. Basanta Stores’s A/c Dr. To Sales A/c 2075-5-22 Cash Narayan Asset Liability Decrease in asset Cr. Decrease in liabilities Dr. Narayan’s A/c Dr. To Cash 2075-5-27 Furniture Cash Assets Assets Increase in assets Dr. Decrease in assets Cr. Furniture A/c Dr. To Cash 2075-5-28 Salary Rent Bank Expense Expense Assets Increase in expense Dr. Increase in expense Dr. Decrease in assets Cr. Salary A/c Dr Rent A/c Dr To Bank A/c 2075-5-30 Drawing Cash Bank Receivable Assets Assets Increase in assets Dr. Increase in assets Dr. Decrease in assets Cr. Drawing A/c Dr. Cash A/c Dr. To Bank A/c 2075/5/30 Drawing Cash Bank Personal Real Personal/Real Decrease in capital Dr. Income in assets Dr. Decrease in assets Cr. Drawing A/c Dr. Cash A/c Dr. To Bank Glossary Purchase : buying of goods for selling purpose Sales : selling of goods which is purchased for selling purpose Liabilities : any payable amount to others Debit : left part of an account Credit : right part of an account Drawing : money taken out from business or bank for personal use.
143 Debit and Credit Exercise 1. Which of the following payments are assets, expenses and losses? a. Payment of wages b. Purchase of machinery c. Payment of interest d. Sales of goods e. Paid salary to workers f. Payment of advertisement g. Compensation paid to staff. 2. Show which accounts are debited and credited. a. Commenced business with cash Rs. 20,000. In the account of cash .......................... In the account of capital .......................... b. Furniture purchased from ABC Furniture Rs. 1,500. In the account of furniture ........................... In the account of ABC Furniture .......................... c. Goods sold for cash Rs. 1700. .......................... account debit .......................... account credit d. Paid Krishna & Co. Rs. 950. .......................... account debit .......................... account credit e. Sold to Rajendra & Co. Rs. 2,500. In the account of Rajendra & Co. .......................... In the account of sales .......................... 3. Fill in the blanks. a. Increase in the assets is .......................... b. Decrease in capital and income is .......................... c. Increase in loss is .......................... d. Increase in liabilities is .......................... e. Decrease in expenses is .......................... f. Decrease in profit is .............................. g. Increase in profit is .............................. 4. What are debit and credit? 5. What is personal account? Write the rules of personal account. 6. What is nominal account? Write its rules.
144 Aakar’s Office Practice and Accountancy - 8 7. Write the rules of debit and credit on the basis of equation. 8. What is account? Explain the types of account. PRACTICAL PROBLEMS 9. Journalise the following transactions according to the accounts classification approach and equation approach. 075, Baisakh: l, Commenced business with cash Rs. 20,000. 2, Deposited into bank Rs. 15,000. 3, Bought goods for cash Rs. 1,000. 4, Furniture purchased from ABC Furniture Rs. 1,500. 6, Purchased goods from Kailash & Co. Rs. 2,000. 8, Goods sold for cash Rs. 1700. 10, Sold to Rajendra & Co. Rs. 2,500. 17, Purchased machinery of Rs. 1,300. 28, Salary paid by cheque Rs. 2,500. 29, Rent paid by cheque for the month of Baisakh Rs. 1,500. 10. Journalise the following transactions. 1-1-2075, Commenced business with Rs. 100,000. 3-1-2075, Deposited into bank Rs. 80,000. 5-1-2075, Machinery purchased and paid by cheque Rs. 30,000. 7-1-2075, Paid for stationery Rs. 2,000. Project Work a. Make a report after observe the records of journal entries of your school and present it in your classroom.
145 The Journal Unit 12 Learning Objectives After studying this unit, students will be able to : write the meaning of journal, explain the important and objectives of journal, journalize the different types of business transactions. The Journal Journal entries of .... Date Particulars L.F. Dr. Amt. (Rs.) Cr. Amt. (Rs.) 2075/6/1 Cash A/c Dr. To Ram’s Capital A/c To Shyam’s Capital A/c (Being business commenced in partnership by Ram and Shyam) 2,50,000 1,00,000 1,50,000 2075/6/2 Purchase A/c Dr. To Cash A/c To Sundar Stores’s A/c (Being purchased from Sundar Stores and partial payment has been made) 200,000 1,50,000 50,000 2075/6/3 Cash A/c Dr. Discount A/c Dr. To Krishna’s A/c (Being cash received from a previous debtor for full settlement) 49,500 500 50,000 2075/6/4 Cash A/c Dr. To Interest A/c To Dividend A/c (Being amount received as interest and dividend) 7,000 2,000 5,000 Specimen of a Journal Journal Entries of ... Date Particulars L.F. Dr. Amt. (Rs) Cr. Amt. (Rs) (1) (2) (3) (4) (5)
146 Aakar’s Office Practice and Accountancy - 8 1. Introduction When transactions occur, they should be, first of all, recorded in the primary books. The primary books are termed as original books. The entry made on the original books is known as journal entry. It shows the double effect of each transaction with the same values in both the sides, i.e. in debit and credit sides. The word ‘Journal’ is derived from French word ‘Jour’ which means a daily, long book or day book. Journal entries are made in a certain format by showing the debit and credit headings with their respective amounts in order of dates. As such, a journal may be defined as a chronological record of the business transactions showing the accounts to be debited and credited along with the amounts in the respective columns. The journal book is also called the memory book or memorandum book because it recalls the transactions in the future when required. The book in which the entries are made is called a journal book and the act of entering the transactions in the journal book is called journalising. Accounting to L.C. Cropper, “A journal is a book employed to classify or sort out transactions in a form convenient for their subsequent entry in the ledger.” In conclusion, journal is the original/initial/primary entry of all financial transactions in chronological order which are recorded systematically under double entry book keeping concept. It is the way of identifying the debit and credit account heads. Key Point Journal is the primary record of the business transaction in chronological order showing the accounts to be debited and credited along with their amounts. 2. Importance and Advantages of Journal Even though a journal is just a memory book of the business transactions, it has a number of advantages and importance. The common importance and advantages of journal are mentioned below. i. All the transactions are entered in the journal book; thus, it acts as the proof of the occurrence of the transactions. ii. The date of the transactions can be easily identified. iii. Easy identification of the accounts debited and credited along with their amounts which facilitates the checking of arithmetical accuracy. iv. Base for preparing the ledger accounts. v. Journal avoids the chance of omitting the record of transactions. vi. It is prepared with the help of supporting documents to provide legal evidence of all transactions.
147 The Journal 3. Objectives of a Journal The objectives of journal are mentioned below. i. To identify the transactions date. ii. To support for making ledger. iii. To support the transaction by the narration. iv. To give information about posting of transactions. v. To solve the disputes and misunderstanding. 4. Specimen of a Journal Journal Entries of ... Date Particulars L.F. Dr. Amt. (Rs) Cr. Amt. (Rs) (1) (2) (3) (4) (5) All the transactions are recorded in this format chronologically. The Five columns of journal are explained below: i. The first column is provided to record the date of the transactions. ii. The second for mentioning the accounts to be debited and credited along with a brief explanation of the entries so made is called narration. iii. The ledger folio (page) number is mentioned in the third column, if any. iv. The fourth and fifth columns are provided for the respective debit and credit amounts of the accounts, so debited and credited. 5. Steps / Methods of Journalizing The act of recording transactions in Journal is called ‘Journalizing’ and the record of a transaction in journal is called ‘Journal entry’. Before journalizing a transaction, following steps must be followed. a. Read the transaction b. Identify the accounts involved c. Identify the nature or type of accounts affected like Personal Account, Real Account, Nominal Account. d. Determine the rules of debit and credit e. Apply the rules and pass the journal entry in chronological order. f. Don’t forget to write narration for the journal and account in concerned columns. Underline the narration at last. g. Write the L.F. (Ledger Folio) and amount in debit and credit side.
148 Aakar’s Office Practice and Accountancy - 8 6. Types of a Journal Entry The systematically recorded of financial transactions in journal book is called journal entry. Every organization performs a number of financial transactions to achieve the organizational goals in a day. According to the nature of transactions there are two types of journal entry. They are: i. Simple Journal Entries Some transactions give effect to just two accounts where there’s a single account in each side, i.e. one account is debited with a certain monetary value and another is credited with the same value, such an entry is known as simple journal entry. The following illustration may help to understand the simple entries. Illustration : 1 Journalise the following transactions: On 2075/6/1, business commenced with Rs 1,00,000. On 2075/6/2, machinery purchased of Rs. 60,000. On 2075/6/3, cash purchase of goods worth Rs. 25,000. On 2075/6/4, sold goods to Hari of Rs 75,000. On 2075/6/5, stationery purchased for Rs. 10,000. On 2075/6/8, cash sales made for Rs. 20,000. On 2075/6/9, commission received Rs. 5,200. On 2075/6/10, loan taken from Megha Bank Ltd. Rs. 200,000. On 2075/6/11, commission paid Rs. 1,500 Journal entries of .... Date Particulars L.F. Dr. Amt. (Rs. Cr. Amt. (Rs.) 2075/6/1 Cash A/c Dr. To Capital A/c (Being business started) 1,00,000 1,00,000 2075/6/2 Machinery A/c Dr. To Cash A/c (Being machinery purchased for business) 60,000 60,000 2075/6/3 Purchase A/c Dr. To Cash A/c (Being goods purchased) 25,000 25,000
149 The Journal 2075/6/4 Hari’s A/c Dr To Sales A/c (Being goods sold on credit) 75,000 75,000 2075/6/5 Stationery A/c Dr To Cash A/c (Being stationery purchased) 10,000 10,000 2075/6/8 Cash A/c Dr To Sales A/c (Being goods sold for cash) 20,000 20,000 2075/6/9 Cash A/c Dr To Commission received A/c (Being commission received) 2,500 2,500 2075/6/10 Cash A/c Dr. To Megha Bank Ltd. A/c (Being loan taken from Megha Bank Ltd.) 2,00,000 2,00,000 2075/6/11 Commission A/c Dr. To Cash A/c (Being commission paid) 1500 1500 Total 494000 494000 ii. Compound Journal Entries Some transactions give effect to more than two accounts i.e. headings. In such a case, there may be more than one heading in debit side or in credit side or in both the sides for the equal effect in total of debit and credit each. Such entries are known as compound entries. For example: Ram commenced business with cash Rs. 50,000 and furniture of Rs. 20,000. The effect is on cash, furniture and capital account. Date Particulars L.F. Dr. Amt, Cr. Amt. (Rs) Cash A/c Dr Furniture A/c Dr. To Capital A/c (Being business commenced with cash and furniture) 50,000 20,000 70,000 The following are the other examples of compound entries:
150 Aakar’s Office Practice and Accountancy - 8 Illustration : 2 On 2075/6/1, Ram and Shyam commenced business in partnership with cash Rs. 1,00,000 and 1,50,000 respectively. On 2075/6/2, purchased goods of Rs 2,00,000 from Sundar Stores and partial payment of Rs, 1,50,000 is made. On 2075/6/3, received Rs. 49,500 from Krishna, a previous debtor, in the full settlement of his owing of Rs. 50,000. On 2075/6/4, interest and dividend received Rs. 2,000 and Rs. 5,000 respectively. On 2075/6/5, paid to Sunder Stores Rs 48,000 for their full settlement. Solution Journal entries of .... Date Particulars L.F. Dr. Amt. (Rs.) Cr. Amt. (Rs.) 2075/6/1 Cash A/c Dr. To Ram’s Capital A/c To Shyam’s Capital A/c (Being business commenced in partnership by Ram and Shyam) 2,50,000 1,00,000 1,50,000 2075/6/2 Purchase A/c Dr. To Cash A/c To Sundar Stores’s A/c (Being purchased from Sundar Stores and partial payment has been made) 200,000 1,50,000 50,000 2075/6/3 Cash A/c Dr. Discount A/c Dr. To Krishna’s A/c (Being cash received from a previous debtor for full settlement) 49,500 500 50,000 2075/6/4 Cash A/c Dr. To Interest A/c To Dividend A/c (Being amount received as interest and dividend) 7,000 2,000 5,000 2075/6/5 Sundar Stores’s A/c Dr. To Discount A/c To Cash A/c (Being payment made to Sunder Stores for their full settlement) 50,000 2,000 48,000