An Overview of Journal Entry
Journal entries are records of business transactions of a firm. These transactions are recorded in a book called a journal. These entries are the very first step in the accounting cycle. Journal entries follow double-entry bookkeeping, i.e., every transaction is recorded in at least two accounts.
Journal entries help in recording all accounting transactions in chronological order. This helps to prevent any further errors in the process. These entries are also helpful in the preparation of other financial statements.
Features of Journal Entries
Chronological - The journal entries are to be recorded date-wise and in a proper manner to prevent any errors.
Compound Entry Possible - In journal entries, transactions involving more than two accounts or related ones can be combined to form a single entry.
Assistant to Ledger - Journal entries serve as a base for all other books of account. The ledger is prepared from the journal entries.
Brief Explanation - Every journal entry has a brief explanation called narration to clarify in a better way.
Journal Entries Rules
Personal Account - A personal account is that of a person, company or an organisation. In this case, debit the receiver and credit the giver.
Real Account - Real account involves tangible and intangible items such as cash, bank, plant and machinery etc. In this case, debit what comes in and credit what goes out.
Nominal Account - This account is related to expenses, incomes, gains and losses. In this case, debit all expenses and losses and credit all incomes and gains.
Journal Entry Format
Basic Journal Entries
Journal Entry Examples
Pass the journal entries:
ABC traders started a business with a capital of Rs. 1,00,000 on April 10, 2021.
April 19, 2021 - Purchased furniture worth Rs. 75,000.
April 24, 2021 - Purchased goods on credit from XYZ traders worth Rs. 1,00,000.
April 30, 2021 - Rent paid Rs. 50,000.
May 2, 2021 - Goods sold for Rs.20,000 at 10% discount.
May 15, 2021 - Cash deposited Rs. 50,000 into the bank.
Journal Entries Problems
Though journal entries are an essential part of accounting, it has certain limitations.
Expensive - The recording of journal entries requires experienced staff, making it difficult for some business entities.
Bulky Records - When hundreds of transactions occur in the business, it is difficult to record every transaction.
Lacks Prompt Information - It becomes difficult for an accountant to locate a particular transaction immediately.
Repetitive Transactions - Though with different dates, many transactions involve debit and credit of the same accounts, making it a tedious task.
Conclusion
A business records its day-to-day financial transactions in a journal. All the transactions are recorded properly. In case proper rules are not followed in the preparation of a journal, the financial statements prepared will not represent a true and fair view of the business's financial position. Journal entries are useful to management, business entities, government, and tax authorities for making various decisions by timely providing necessary information. These entries can also be handled through specialised software to produce error-free financial statements.
FAQs on Journal Entries: Rules and Practical Examples
1. What is a journal entry in accounting?
A journal entry is the first step in the accounting cycle, where every business transaction is recorded in a chronological book of accounts called a 'Journal'. It serves as the primary record of financial activities before they are posted to the ledger. Each entry follows the double-entry system, meaning it affects at least two accounts with equal debits and credits.
2. What are the three golden rules of accounting for passing journal entries?
The three golden rules of accounting guide how transactions are recorded and are based on the type of account involved:
- Personal Account: This rule applies to individuals, firms, and companies. The rule is: Debit the receiver, Credit the giver.
- Real Account: This rule applies to all tangible and intangible assets of the business, like cash, machinery, or goodwill. The rule is: Debit what comes in, Credit what goes out.
- Nominal Account: This rule applies to all expenses, losses, incomes, and gains. The rule is: Debit all expenses and losses, Credit all incomes and gains.
3. What is the standard format of a journal entry?
The standard format of a journal entry consists of five distinct columns, ensuring a systematic record of each transaction:
- Date: Records the date on which the transaction occurred.
- Particulars: Contains the names of the accounts to be debited and credited, along with a brief explanation called narration.
- Ledger Folio (L.F.): Shows the page number in the ledger where the entry is posted for cross-referencing.
- Debit Amount (Dr.): The amount recorded for the account being debited.
- Credit Amount (Cr.): The amount recorded for the account being credited.
4. What is the purpose or importance of recording journal entries?
Recording journal entries is fundamental to accounting for several reasons. It provides a chronological and systematic record of all financial transactions, which reduces the possibility of errors and omissions. The journal acts as the primary source of data for preparing ledger accounts and subsequent financial statements like the Trial Balance and Profit & Loss Account. It also ensures adherence to the double-entry principle, maintaining the accuracy of the books.
5. Why is a narration considered an essential part of a journal entry?
A narration is a brief explanation written below a journal entry that clarifies the purpose of the transaction. It is essential because it provides context that the debit and credit amounts alone cannot convey. This clarity is crucial for future reference, internal reviews, and external audits. A good narration supports the verifiability principle of accounting by explaining the nature and reason for each recorded event.
6. How does the double-entry system apply to every journal entry?
The double-entry system is the core principle behind every journal entry. It dictates that every financial transaction has two equal and opposite effects. In a journal entry, this is represented by a debit and a credit. For every transaction, the total amount recorded in the debit column must equal the total amount in the credit column. This ensures that the fundamental accounting equation (Assets = Liabilities + Equity) always remains in balance.
7. What is the difference between a simple journal entry and a compound journal entry?
The main difference lies in the number of accounts affected:
- A simple journal entry is an entry that involves only two accounts—one account is debited, and one account is credited. For example, purchasing furniture for cash.
- A compound journal entry is an entry that involves more than two accounts. This can include multiple debits with one credit, one debit with multiple credits, or multiple debits and multiple credits. For example, paying salary and rent together via a single cheque.
8. In which order are transactions recorded in a journal, and why is this chronology important?
Transactions in a journal are always recorded in chronological order, meaning they are recorded based on the date they occur. This sequence is vital because it creates a complete and sequential historical record of all financial activities of a business. This date-wise recording helps in easily locating specific transactions, understanding the flow of business operations over time, and preventing errors that could arise from out-of-order entries.
