Capital and Drawings
Assets = Liabilities + Capital
Liabilities
A liability is an amount the firm owes to outsiders — unpaid wages, creditors, bank loans, GST payable. Liabilities are classified in two ways:
| Type | Meaning | Example |
|---|---|---|
| Internal | What the business owes to the proprietor | Capital invested by owner |
| External | What the business owes to outsiders | Bank loan, supplier credit, GST payable |
| Non-current | Payable after more than one year | 10-year bank loan |
| Current | Payable within one year | Trade creditor with 2-month credit |
- Internal liability: ₹10,000 (his own investment)
- External liability: ₹25,000 + ₹2,000 = ₹27,000
- Non-current liability: ₹25,000 (the 10-year loan)
- Current liability: ₹2,000 (the 2-month supplier credit)
Assets and their Classification
Assets are valuable resources owned by the business that were acquired at a measurable money cost — cash, land, building, furniture, stock, debtors. Assets fall into three categories:
1. Non-Current Assets
Held for continued use in the business to produce goods or services — not meant for resale. Two subtypes:
- Tangible — has a physical existence. Examples: land, building, machinery, furniture, computer.
- Intangible — no physical existence but has measurable value. Examples: goodwill, patents, trademarks, copyrights.
2. Current Assets (Floating / Circulating Assets)
Either already in cash form or expected to convert to cash within one year. Examples: debtors, stock, bills receivable, prepaid expenses.
3. Fictitious / Nominal Assets
Not actually tangible or intangible — these are losses or expenses still to be written off against future profits. Examples: debit balance of P&L, deferred revenue expenditure.
Capital Expenditure vs Revenue Expenditure
This distinction matters because it changes where the amount appears in your accounts:
| Capital Expenditure | Revenue Expenditure |
|---|---|
| Buys or improves a permanent asset not for resale | Routine expense in the normal course of business |
| Non-recurring outlay | Recurring outlay |
| Increases earning capacity | Maintains earning capacity |
| Appears on the Balance Sheet | Appears in Trading & P&L Account |
| Benefit lasts many years; depreciation is charged each year | Benefit consumed in one accounting year |
Expense, Income, Profit, Gain, Loss
- Expense — a value that has expired during the accounting period (e.g. rent for this month). Charged to P&L.
- Prepaid expense — paid in advance, benefit will arrive in a future period.
- Outstanding expense — benefit already used but not yet paid for.
- Income — Revenue minus Expense over a period.
- Profit — excess of revenue over costs.
- Gain — profit of an irregular or non-recurring nature (e.g. ₹3,000 profit from selling old machinery).
- Loss — excess of expenses over related revenues; decreases owner's equity.
| Transaction | Term |
|---|---|
| Sold goods worth ₹50,000 to Mr X | Sales |
| Theft of cash from office | Loss |
| Earned ₹2,000 by selling goods worth ₹10,000 for ₹12,000 | Revenue (profit ₹2,000) |
| Machinery costing ₹25,000 sold for ₹28,000 | Gain ₹3,000 |
Terms Related to Trade
| Transaction | Accounting Term |
|---|---|
| Buying goods in which the business deals | Purchases |
| Returning purchased goods to suppliers | Purchase Return / Returns Outward |
| Transferring ownership of goods to customers for a price | Sales |
| Customers returning sold goods | Sales Return / Returns Inward |
Stock vs Inventory
Stock is the value of goods purchased for reselling that are lying unsold at the end of the period. Inventory is a wider term covering stock plus raw materials, semi-finished goods and finished goods.
Debtors, Creditors, Bad Debts and Insolvent
- Debtors — people who owe the business money for goods or services taken on credit.
- Creditors — people the business owes money to.
- Bills Receivable — bills of exchange drawn on debtors; amount receivable at a future date.
- Bills Payable — bills of exchange accepted in favour of creditors; amount payable at a future date.
- Bad debts — amount that has become irrecoverable from a debtor. Debited to P&L as an expense.
- Insolvent — a person or business not in a position to pay its debts.
Trade Discount vs Cash Discount
| Trade Discount | Cash Discount |
|---|---|
| Fixed % off the list price (bulk discount) | Allowed for prompt payment |
| Not recorded in the books — deducted on the invoice itself | Always recorded in the books |
| Reduces the gross invoice value | Charged to "Discount Allowed" (seller) or "Discount Received" (buyer) |
Trade discount fields and cash discount tracking are built into every sales and purchase invoice. The software automatically computes the gross-to-net pricing and posts the discount entries correctly.
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