The Fundamentals of Accounting
What you must understand
Accounting records transactions in money terms so that owners and other users can judge performance and position. Learn the accounting equation (Assets = Capital + Liabilities), the dual aspect idea that every transaction affects two items, and the classification of items into assets, liabilities, capital, income and expenses. Know the difference between capital expenditure (buying or improving a non-current asset) and revenue expenditure (day-to-day running costs), and between a trade receivable (debtor) and a trade payable (creditor). Understand the purpose of the trial balance, the ledger, and the books of prime entry.
Traps in questions
- Confusing drawings with expenses: drawings are a reduction of capital, not a business expense.
- Treating a bank loan received as income; it is a liability.
- Mixing up capital and revenue expenditure when asked to calculate profit - a delivery van purchase is not an expense.
- Forgetting that the accounting equation must balance after every transaction.
Worked example
A trader starts with capital of $10,000 cash. She buys equipment for $3,000 cash and takes a bank loan of $2,000. Assets = cash $7,000 + equipment $3,000 + bank $2,000 = $12,000. Capital $10,000 + liability $2,000 = $12,000. The equation balances. Rule of thumb: after any transaction, total assets must always equal capital plus liabilities; if not, an entry is missing or duplicated.