1 – Overview of the accounting system
The purpose of accounting is to record and classify business transactions.
There are many transactions that a business may undertake – credit sales, credit purchases, cash sales, cash purchases, other expenses either paid from the bank or by cash, paying cash into the bank, withdrawing cash from the bank and owner’s drawings.
A business may enter into a large number of transactions on a daily basis. It is quite clear that keeping track of all these transactions can be a detailed process.
To ensure that a business does keep track of all sales earned, purchases and expenses incurred, the transactions are recorded in an accounting system.
Overview of the accounting system
2 – Business Documents – For a credit transaction
Various documents may be used when dealing with credit transactions. The flow diagram below shows the typical flow of a transaction including the documents involved.
Dependent on whether it is a credit sale or a credit purchase, we will be looking at it from the perspective of the business or customer.
Business Purchase Order
If the customer is happy with the price quoted, they will formally order the goods. They do so by issuing a purchase order.
A purchase order is a buyer generated document that authorises a purchase transaction.
All orders should be approved by an appropriate representative of the business – normally a member of management.
Business Sales Order
Delivery Note & Goods Received Note
After the sale has been agreed and the goods are ready to be sent to the customer, a delivery note is prepared.
A delivery note is a document accompanying goods despatched to a customer explaining what the delivery contains.
The delivered goods should be checked by the customer to ensure they are in good condition, they agree to the delivery note and that they agree to what was initially ordered.
The delivery note normally has three parts and serves a variety of purposes.
Part one – This is kept by the customer. It is their record of the goods received. They will compare this to the purchase order to ensure the goods delivered were what they ordered. They will also compare this to the sales invoice when they receive it to ensure they are only invoiced for the goods delivered.
Part two – This is signed and returned to the supplier of the goods as evidence they have been received by the customer in good condition.
Part three – This is signed and kept by the delivery organisation as evidence they have delivered the goods and that the customer has received them..
Business Invoice (Including review of VAT)
An invoice is a document that itemises a transaction between a buyer and a seller. A sales invoice can be simply defined as the request for payment by the purchaser for goods sold or services provided by the seller.
For each credit sale made by a business, an invoice is raised.
VAT (which is also known as sales tax or goods and services tax) is charged on the taxable supply of goods and services in the United Kingdom by a taxable person in the course of a business carried on by them.
Business Invoice (Including review of VAT):
(Click to enlarge)
The calculation of VAT is reviewed in detail in Chapters 5 & 6 – we will now review how to perform a basic VAT calculation.
Let’s review how the figures work with a VAT rate of 20%
How to manipulate VAT
% of what you want to know The amount known × –––––––––––––––––––––––
% of what you do know
VAT from Net
Say we want to find out the VAT (at 20%) from a net amount of £120,000.
Using the equation above, the amount we know is the net amount of £120,000, the percentage of what we want to know is 20% (i.e. the VAT), and the percentage of what we do know is the net percentage which is 100%.
Net 100% = £120,000
VAT 20% = £24,000
Gross 120% = £120,000 + £24,000 = £144,000
There is also a specific rounding rule to remember with VAT.
VAT should always be rounded down to the nearest penny e.g. VAT of
£21.5677 will be rounded down to £21.56
Business Credit Note
8. A credit note is a document issued by a supplier to a customer cancelling part or all of a sales invoice.
A business may issue a credit note for the following reasons.
When a customer returns goods, the return of goods will often be accompanied by a goods returned note.
A goods returned note is a document sent to the supplier by the customer detailing the goods returned and reason(s) for the return being made.
The contents of a goods returned note are similar to a goods received note but with the added detail of why a return is being made.
A trade discount is a definite amount that is deducted from the list price of the goods for the supplies to some customers, with the intention of encouraging and rewarding customer loyalty.
A bulk discount is similar to a trade discount in that it is deducted from the list price of the goods and disclosed on the invoice. However, a bulk discount is given by a supplier for sales orders above a certain quantity.
Prompt payment discounts (also known as settlement or cash discounts) are offered to customers in order to encourage early payment of invoices
VAT is calculated after trade and bulk discounts have been deducted from the original list price.
Prompt payment discounts are only offered on an invoice so it does not reduce the net or VAT amounts at the point of the invoice preparation.
If the customer goes on to take advantage of a prompt payment discount offered, the original net and VAT amounts are adjusted – this is looked at in more detail in chapter 5 of this text.