DOUBLE
ENTRY FOR BEGINNERS - PART 2
SALES
SCENARIOS- PART 2
Financial
Accounts are built on the double entry principle which states that:
FOR EVERY DEBIT ENTRY, THERE MUST BE A
CORRESPONDING CREDIT ENTRY;
So, in posting
any transaction into your accounts, you always need to identify which account
needs to be debited and which account needs to be credited.
A common
acronym used to learn the double entry is DEAD/ CLIC
DEAD CLIC
Debit: Expenses, Assets, Drawings Credit: Liabilities, Income, Capital
DEBIT TRANSACTIONS CREDIT
TRANSACTIONS
If any of these are
increasing, If
any of these are increasing,
you will need to debit the
account you will need
to credit the account
and vice versa, if it is
decreasing and vice
versa, if it is decreasing
Let’s
introduce VAT to the previous scenarios:
VAT is tax on
commodities and the VAT on sales is a liability to companies, because it is
collected from customers and paid to the government and VAT on purchases is an asset because it can be claimed
back by VAT registered businesses. This means that a VAT registered business
must charge VAT on its sales and this is payable to the
government and it can
reduce this liability by any VAT it may have paid, i.e. VAT on purchases. VAT
is currently charged at 20% standardly. (Please
note that this statement has been kept to the simple basics).
1. If a customer buys
products worth £230 net from you and doesn’t pay immediately, i.e. credit sale.
In such situation, a sale has taken place, you will have to pay VAT on the sale
and a debtor has been established since the customer owes you the full amount.
Invariably, sales have increased, as you have sold products; VAT liability has
increased, as you owe the
government;
and debtors (asset) has also increased.
Net
amount £230.00
VAT
amount (20% x £230) £46.00
Gross
amount (total amount owed) £276.00
Accounts
affected
Sales
VAT Debtors
Double
entry posting will then be:
Dr-
Debtors (asset) £276
Cr-
VAT (liability) £46
Cr-
Sales (income) £230
In this case, you have sold products worth £230, and you will charge
20% for VAT, which amounts to £46. The customer doesn’t have a choice but to
pay the full amount of £276 and then you have to pay the government the £46 of
VAT, so, £230 will be your income and not £276. Hence, the VAT on sales is a
liability which is payable to the government if the business is VAT registered.
VAT is always accounted for in the Balance Sheet as an asset or a liability and
not in the Profit & Loss account.
2. If a customer buys
products worth £230 net from you and pays immediately, i.e. cash sale. In such
situation, a sale has taken place, you will have to pay VAT on the sale and
cash has increased since the customer has paid you money. Invariably, sales
have increased, as you have sold products; VAT liability has increased, as you
owe HMRC; and cash (asset) has also increased.
Accounts
affected
Sales
VAT Cash
Double
entry posting will then be:
Dr-
Cash (asset) £276
Cr-
VAT (liability) £46
Cr-
Sales (income) £230
In every business,
there are always financial transactions which lead to financial documents which
need to be posted into the accounts.
When a sale is
generated, there should always be the question as to what type of income was
generated and was this paid immediately or not. The sales should be credited
with the net amount, the VAT should be credited with the VAT amount and the
debtors should be debited if payment hasn’t been made or the cash/ bank will be
debited if payment has been made immediately.
For credit
sales, when payment is later made, the double entry posting will be;
Dr- Cash/ Bank
Cr- Debtors
In this case, debtors
account (which is an asset under DEAD) is reducing, so it is credited and cash
(which is also an asset under DEAD) is increasing, so it is debited.
