Category: Accounting

Computation of Interest 

Interest is usually calculated on the basis of number of days. Thus, computation of interest involves.

(1) Calculation of days.

(2) Calculation of the amount of interest..

(3) Calculation of days. Following points should be kept in mind while calculating the number of days.

(i) There are three methods for calculating the number of days:

(a) Forward method. The method is most common. The number of days are calculated from the du date of the transaction to the date of settlement. –

(b) Backward or epoque method. In case of this method the number of days are counted from the opening date (i.e., the date of commencement of the account current) of the account current to the due date of the transaction.

(c) Daily balance method. The method is used by banks. Days are calculated from the due date of a transaction to th due date of the next transaction.

(ii) The effective date of the transaction should be considered for calculating the number of days irrespective of the method followed. For example if as

Revenue Expenditure becoming Capital Expenditure

Following are some of the circumstances under which an expenditure which usually’ of a revenue nature may be taken as an expenditure of a capital nature:

I. Repairs. The amount spent on repairs of plant, furniture, building, etc., is taken as a revenue expenditure. However, when some second-hand plant, motor car, etc., is purchased, the expenditure incurred for immediate repairs of such plant, motor car, etc., to make it fit for use will be taken as a capital expenditure.

2. Wages. The amount spent as wages is usually taken as a revenue expenses. However, amount of wages paid for erection of a new plant or machinery or wages paid to workmen engaged in construction of a fixed asset are taken as expenditure of a capital nature.

3. Legal charges. Legal charges are usually taken as expenditure of a revenue nature, but legal charges incurred in connection with purchase of fixed assets should be taken as a part of the cost of the fixed asset.

4. Transport charges. Transport Charges are generally of a revenue nature, but transport charges incurred for a new plant and machinery are taken as expenditure of a capital nature and are added to the cost of the asset.

5. Interest on capital. Interest on Capital paid during the construction of works or buildings or plant may be capitalised and thus added to the cost of the asset concerned.

6. Raw materials and stores. They are usually taken as of a revenue nature, but raw materials and stores consumed in construction of the fixed assets should be treated as capital expenditure and be taken as a part of the cost of such fixed asset.

ACCOUNT CURRENT

In case there are several transactions between two parties, it will be necessary to take into account the question of interest besides ensuring the correctness of amount due by one party to the other. It will be appropriate in such a case that each party should send a statement of account to the other party instead of settling each transaction individualty. Such a statement when rendered in the form of an account by one party to another, duly setting out in chronological order the details of the transactions together with interest, is termed as an Account Current. The main heading of the account is preceded by the name of the party to whom it is rendered and is succeeded by the name of the party sending the statement. For example, if A sends an account current to B, the heading of the account current will be:

B in account  current with A In case the account current is being sent by B to A, the heading of the account current will be A in account current with B

Account current is sent by one person to another in case of following types of relationship:

(a) Principal and Agent, (b) Consignor and Consignee, (c) Supplier of goods and Customer, (d) Co-venturers.

WHEN ALL VENTURERS KEEP ACCQUNTS

There are two methods of keeping books:

(i) When each party informs the other party regarding transactions made by him on accou’ht of joint venture at regular intervals.

(ii) When such information is furnished at the completion of the venture. This is popularly known as ‘memorandum method’.

1. When each Venturer gets complete infonnation from other Venturer(s). In this case each party maintains the following accounts: 

(a) Joint Venture Account. It is similar to an ordinary P. & L. A/c. It is debited with total purchases and total expenses incuned and credited with the amount of sales and stock in hand. The balance of this account is either a profit or a loss.

(b) Personal Account or Accounts of the Co’venturers. This personal account is written as “Joint Venture with… Account” The words “Joint Venture with.. axe added before the name of the Venturer, only to distinguish it from other personal accounts of the main business. It is a record of transactions made by the co-venturer on account of joint venture. The account is closed by settling the balance. 

(i) The cash book should be completed and the balance as per bank column on a particular date should be found out  covering the period for which the statement has to be prepared.

(ii) The bank should be requested to complete and send to the firm the bank pass book up to the date mentioned.

(iii) Check the entries of the debit and credit sides of the bank columns of the cash book with corresponding entries on the credit and debit sides of the pass book relating to the same period.

(iv) The items not tallying should be classified into common groups according to their characteristics.

(v) The balance as shown by any one book (i.e. the cash book or the bank pass book) should be taken as the base. This is, as a matter of fact, the starting point for determining the balance as shown by the other book after making suitable  adjustments taking into account the causes of difference.

(vi) The effect of the particular cause of difference on the balance shown by the other book should be noted.

(vii) In case, the cause has resulted in an increase in the balance shown by the other book, the amount of such increase should be added to the balance as per the former book which has been taken as the base.

(viii) In case, the cause has resulted in a decrease in balance shown by the other book, the amount of such decrease should be deducted from the balance as per the former book which has been taken as the base.

ADMISSION OF PARTNER 

Section 31 of the Partnership Act deals with the statutory provision regarding admission of a new partner. These provisions are summarised below:

(a) A new partner cannot be admitted without the consent of all the partners unless otherwise agreed upon.

(b) A new partner admitted to an existing firm, is not liable to any debts of the firm incurred, before he conies in as a partner. The new partner cannot be held responsible for the acts of the old partners unless it is proved that

(i) the reconstituted firm has assumed the liability to pay the debt; and

(ii) that the creditor concerned has agreed to accept the reconstituted finn as his debtor and to discharge the old firm from liability.

However, a minor adMitted to the benefits of partnership, who, if he elects to become partner in the firm after attaining majority, shall become personally liable for all the acts of the finn done since he was admitted to the benefits of partnership.

A newly admitted partner shall be liable only for the debts incurred or transactions entered into by the fimi subsequent to his becoming a partner.

When the goodwill account is not appearing in the books. There can be several alternatives.

(i) The new partner may bring cash for his share of goodwill. The amount so brought in by the new partner will be credited to the old partners in the ratio in which they sacrifice on admission of the new partner.

Alternatively, the amount brought in cash for goodwill by the new partner be credited to the goodwill account. It may then be transferred to old partners’ capital accounts in the sacrificing ratio. However, thc method is not preferable to one discussed above.

Another alternative could be to credit the new partner’s capital account with the bash brought in by him for capital and goodwill. A goodwill account is raised in the books with full value and the amount is credited to the old partners in the old profit sharing ratio. The goodwill account is then written off to all partners in the new profit sharing ratio.

Provisions affecting accounting treatment

The partnership deed is usually very elaborate. It covers all matters affecting the partnership business. However, in the absence of any provision to the contrary in the partnership deed/agreement, the following provisions govern the accounting treatment of certain items:

1. Right to share profits: Partners are entitled to share equally in the profits earned and to contribute equally to losses incurred.

2. Interest on capital: No interest is payable on the capitals contributed by them. Similarly no interest is to be charged on drawings. However, where partnership agreement provides for payment of interest on capital, such interest is payable out of profits of the business unless otherwise provided.

3. Interest on advances: A partner who makes an advance of money to the firm beyond the amount of his capital for the purpose of business, is entitled to get interest thereon at the rate of 6% p.a.

4. Right to share subsequent profits after retirenent: Where any member of a firm has died or otherwise ceased to be a partner and the surviving or continuing partners carry on the business of the firm with the property of the firm without any final settlement of accounts as between them, the outgoing partner or his estate is entitled, at the option of himself or his representatives to such share of the profits made since he ceased to be a partner as may be attributable to the use of his share of the property of the firm or to interest at the rate of six per cent per annum on the amount of his share in the property of the firm.

5. No remuneration for firm’s work: A partner is required to attend diligently to his duties in conducting the business of the finn. He has no right to receive remuneration or salary for taking part in the conduct of the business.

MEANING OF PARTNERSHIP

Partnership form of business organisation came into existence on account of limitations of sole proprietary concerns. The major limitations of sole proprietary concerns are those of shortage of funds, uncertainty about existence, unlimited personal liability etc. In case of a partnership business two or more persons join hands together to do a business. Thus, the risk, funds, responsibility all are shared. The Indian Partnership Act, 1932 is applicable to contracts of Partnership. According to Section 4 of the said Act partnership is “the relation between persons who have agreed to share the profits of a business carried on by all or any ofthcmacting for all”. Persons who have entered into partnership with one another are called individually ‘partncrs’ and collectively a ‘firm’ and the name undcr which the business is carried on is called the ‘firm’s name’.

The term ‘firm’ is merely a commercial notion. Law does not invest the firm with legal personality apart from its partners except for the purposes of assessment of income-tax. A ‘firm’ cannot become a member of another partnership firm though its partners can join any other firm as partners.

Highest in First Out Method (HIFO)

According to this method, the inventory of materials or goods should be valued at the lowest possible prices. Materials or goods purchased at the highest prices are treated as being first issued/sold irrespective of the date of purchase. This method is very suitable when the market is constantly fluctuating because cost of heavily priced materials or goods is recovered from the production or sales at the earliest However, the method involves too many calculations as is the case of FIFO or LIFO method. The method has therefore, not been adopted widely.

Base Stock Method

The method is based on the contention that each enterprise maintains at all times a minimum quantity of materials or finished goods in its stock. This quantity is termed as base stock. The base stock is deemed to have been created out of the first lot purchased and, therefore, it is always valued at this price and is carried forward as a fixed asset. Any quantity over and above the base stock is valued in accordance with any other appropriate method. As this method aims at matching current costs to current sales, the LIFO method will be most suitable for valuing stock of materials or finished goods other than the base stock. The base stock method has the advantage of charging out materials/goods at actual cost Its other merits or demerits will depend on the method which is used for valuing materials other than the base stock.

Next if First out Method (NIFO)

The method attempts to value materials issues or goods sold at an actual price which is as near as possible to the market price. Under this method the issues are made or cost of goods sold is taken ai the next price, i.e., the price of materials or goods which has been ordered but not yet received. In other words, issues of goods for further processing or sale are at the latest price at which the company has been committed even though materi.als’goods have not yet been physically received. This method is bettetthan marked price method under which every time when materials or goods are issued or sold, their market price will have to be ascertained. In case of this method materials or goods will. be issued at the price at which anew order has been placed and this price will hold good for all future issues till a next order is placed. For example, 100 units of material A purchased @ Re I per unit are lying in the store and an order for another 100 units @ Rs 1.25 has already been placed. If a requisition of 50 units from a department is made, they will be issued to the department at Rs 1.25 per unit (i.e., the price at which the materials are yet to be received).

The value of inventory on a particular date is ascertained by deducting the cost of materials issued or goods sold from the total value of materials or goods purchased. Calculations of issue prices are complicated in this method and therefore the method is not widely used.

Weighted Average Price Method

This method is based on the presumption that once the materials are put into a common bin, they lose their separate identity. Hence, the inventory consists of no specific batch of goods. The inventory is thus priced on the basis of average prices paid for the goods, weighted according to the quantity purchased at each price.

Weighted Average Price Method is very popular on account of its being based on the total quantity and value of malcrials purchased besides reducing number of calculations. As a matter of fact the new average price is to be calculated only when a fresh purchase of materials is made in place of calculating it every now and then as is the case with the FIFO, L!FQ, NIFO or HIFO methods. However, in case of this method different prices of materials are charged from production particularly when the frequency of purchases and issues/sales is quite large and the concern is following perpetual inventory system.

The following arc the points of distinction between a transaction of sale and a consignment transaction:

(i) Meaning: A contract of sale is a contract where the seller transfers or agrees to transfer the ownership of goods to the buyer for a consideration termed as “Price”. While consignment is despatbh of goods from one person to another at different place for the purpose of warehousing and ultimate selling.

(ii) Transfer of ownership: In case of sale, the ownership and risk ofthe goods passes to the buyerwliile in case of consignment, the ownership and theriskofgoodscontinues with the consignor till the consignee sells the goods to some other person.

(iii) Relationship: In case of sale, the relationship between the two parties is that of the seller and the buyer while in case of consignment, the relationship between the consignor and consignee is that of a principal and an agent.