A transaction is any event that has a financial impact on the business and can be measured reliably.
An organization that bought a computer system and paid N50,000 cash is an example of a transaction as it can be measured and impacted the company’s finances.
Transactions provide objective information about the financial impact on a company.
Transaction analysis is built on the accounting Equation frameworks
Transaction analysis, therefore, refers to how transactions are recorded /recognized and how they impact the accounting equation.
For each item on the accounting equation (Asset = Liability + Owner’s Equity), we use a record called “account”.
An account is the record of all the changes in a particular asset, liability, or owner’s equity during a period. It can also be referred to as the basic summary device of accounting.
Some examples of accounts are listed below:
• Account receivable
• Plant & Equipment
• Account payable
• Loan payable
• Common stock
• Retained earnings
Every transaction has two sides: giving and receiving. Both sides of a transaction are always recorded. Accounting is based on a double-entry system, which records the dual effects on the entity.
Each transaction affects at least two accounts. For example, the purchase of a computer system costing N50,000 accounting records would be incomplete if both the increase and decrease in the two accounts involved are not recognized.
The net impact on the left side must be equal to the net impact on the right side of the accounting equation for each transaction.
THE T -ACCOUNT
An account can be represented by the letter T. We call them T-accounts. The vertical
line in the letter divides the account into two sides: left and right. The account title appears at the top of the T.
The left side of each account is called “Debit” (Dr) and the right side is called “Credit” (Cr)
Increases and Decreases in the Accounts: The Rules of Debit and Credit
Every account falls under one of the following five categories:
• Revenue (or income)
The type of account determines how we record increases and decreases.
By convention, when an asset increases, you debit the account and credit the account when it reduces.
When liability increases the account is credited, when liability reduces, the account will be credited.
When the owner’s equity increases the account is credited, when the owner’s equity reduces, the account will be credited.
3 steps to follow in recording a transaction:
- Specify each account affected by the transaction and classify each account by
type (asset, liability, stockholders’ equity, revenue, or expense).
- Determine whether each account is increased or decreased by the transaction.
Use the rules of debit and credit to increase or decrease each account.
- Record the transaction including a brief explanation. The debit
side is entered on the left margin, and the credit side is indented to the right.
Using the example of the illustration of the purchase of a computer system.
The two accounts affected are the Computer Equipment account and Cash accounts.
The computer equipment increased, and cash decreased.
Therefore, Computer equipment will be debited, and the cash account credited as shown below;
In summary, the knowledge of transaction analysis which is the basis for accounting entries is very crucial for a success driven manager.
Thank you for reading.