Q.N.7. Explain the different methods
of ascertaining profits when the books of accounts are maintained under single
entry system. Explain them briefly.
Ans: Profit under single entry system can be
ascertained by two methods:
of Affairs Method or Net Worth Method
Statement of Affairs or Net Worth Method:
When books of accounts are maintained under single entry system, it is not
possible to prepare trading and profit and loss account because no record is
maintained for nominal accounts. However in order to determine profit or loss,
Statement of affairs method based on fundamental balance sheet equation is
followed. Under this method, two balance sheets (Statement of affairs) are
prepared. One at the beginning of the period for finding out the opening
capital and the other at the end of the period for finding out the closing
capital. But necessary adjustments is required to be made for Drawings made by
the proprietor, additional capital introduced during the year, interest on
drawings and on capital for ascertaining the true operating profit.
Steps for ascertaining Profit under Statement of affairs Method:
A Statement of Affairs at the beginning of the year is prepared to
determine the amount of capital of the proprietor at the beginning of the year.
Similarly, A Statement
of Affairs at the end of the year is prepared to determine the amount of
capital at the end of the year.
Drawings made by the proprietor during the year should be added to
the amount of Capital at the end of the year for the reason that the capital at
the end would have been more if there is no such withdrawal by the proprietor.
Similarly, Capital introduced during the year should be deducted
from the Capital at the end of the year for the reason that the capital at the
end would have been less if there is no such addition by the proprietor.
Capital at the beginning of the year should be deducted from the
closing capital as adjusted in step (c) and (d) above and the difference will
be either a trading profit or loss. If the adjusted capital exceeds the opening
capital, the excess will be profit for the year. But if the adjusted capital is
less than the capital at the beginning of the year, the difference will be loss
for the year.
Interest on capital and interest on drawings (if any) are to be
adjusted in profit or loss as derived in step (e) to arrive at the net profit
or loss for the year.
2. Conversion from
Single Entry System to Double Entry System:
following Steps should be followed if it is desired to change the system of
accounting from Single entry to double entry:
A statement of affairs should be prepared at the beginning of the
accounting period to determine the opening capital of the business.
The Cash Book should be gone through and entries relating to
impersonal accounts should be posted to their respective accounts as impersonal
accounts are not maintained under single entry system. This would complete the
double entry of the cash book. If no cash account is maintained, pass book
should be carefully examined and all cash transactions relating to business to
be identified and with the help of it cash book should be prepared.
If a Petty cash book is maintained, the monthly analysis should be
posted to the debit of the various accounts for expenses and the total credited
to Petty cash account.
Prepare Total Debtors account, Total Creditors account, Bills
receivable and Bills payable account, Total Sales and Total Purchases account.
This helps in finding out different missing figure relating to these accounts.
Now, the personal accounts and Cash book, which have already been
kept under single entry system, should be scrutinized in order to find out the
nominal items. Such items should be posted to their respective impersonal
accounts so that the two-fold effect of such transactions should be completed.
After completing the double entry of all the transactions, a Trial
balance should be prepared to test the arithmetical accuracy of the books.
From the Trial balance, Trading and Profit and Loss account and
Balance sheet can be prepared after taking into consideration the necessary
adjustments like outstanding expenses and incomes, depreciation, provision for
bad debts and discounts etc.