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TOPIC 3 RESERVES AND PROVISIONS – ACCOUNTANCY

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ACCOUNTANCY FULL NOTES FORM 5 AND 6 TOPIC 9 BRANCH ACCOUNTING - ACCOUNTANCY TOPIC 8 INVESTMENT ACCOUNT - ACCOUNTANCY TOPIC 7 FINANCIAL STATEMENTS ANALYSIS AND INTERPRETATION DEPRECIATION AND DISPOSAL OF FIXED ASSETS RESERVES AND PROVISIONS CORRECTION OF ACCOUNTING ERRORS NATURE AND CONTEXT OF ACCOUNTING

TOPIC 3 RESERVES AND PROVISIONS – ACCOUNTANCY

 INTRODUCTION

Any business firm must have an asset in conducting its activities.

Assets are the possessions of the business.

They are things of value that the firm utilizes in conducting business

They are the actual resources that are in the business.

Assets include land, building, machinery, stock of goods, and debtors cash.

Assets are financed by capital and liabilities or in technical terms are financed by equities.

DEFINITION OF RESERVE:

It is an amount set aside out of profits (i.e. from the profit and loss account or any surpluses for unidentified or Unspecified purposes.

KIND OF RESERVES:

Reserved can be classified into the following major categories.

1.  Revenue reserve
2.  Capital reserve

1. REVENUE RESERVE

Is a fund / amount created by voluntary transferring part of the profit kind normally becomes part of the name of that reserve.

TYPES OF REVENUE RESERVE

i. Specific reserves: These reserves created out of revenues profit for a specific purpose.

 ii. General reserve: These are reserves created out of revenue profit for
general purposes.

2. CAPITAL RESERVES.

These are reserves which are created out of the capital profits. These  reserves are not available for distribution among shareholders as dividend in the case of companies.

Examples or sources of capital reserve:

1. Profit on sale of fixed assets: it should be noted that capital profit is only excess of sale price over the cost of fixed asset.

2. Profit prior to incorporation.

3. Premium on issue of shares of debentures.

4. Profits on redemption of debentures

5. Profit on for feature of shares.

6. Surplus on revaluation of fixed assets

7. Amount transferred out of profits to capital.

PROVISION

Provision usually means any amount written off or retained by way of providing
depreciation, renewals or diminution in the value of asset or retained by way of
providing for any known liability of which the amount cannot be determined with substantial accuracy.

See also  NEWTON’S LAWS OF MOTION-COLLISION PHYSICS FORM 5
Difference between reserve and provision

1. A reserve is an appropriation of profit while a provision is a charge against profits .in other words true profits cannot be determined without making adjustment for the provisions required.

2. Creation of reserves increases proprietor’s funds while creation of provisions decreases his funds in the business.

3. Provisions are created to meet some known contingency, the amount of which cannot be precisely determined .Reserves are created to meet some financial position of the business, while creation of previsions help in maintaining the exiting financial position.

PROVISION FOR BAD AND DOUBTFUL DEBTS.
Bad debts:

1. Accounting entries on bad debts.

Dr; bad debts a/c

Cr; debtors a/c

Then at the end of accounting period.

Dr: P&L

Cr: bad debts

2. Discount allowed

Dr: P&L

CR: Provision for discount allowed.

3. Treatment on provision for B.D D

i.In the first year:

Dr: P&L

Cr: provision for B. D.D

ii. Decrease in provision for B.D.D

Dr .Provision for B.D.D Cr: P&L

iii. Increase in provision

Dr: P&L
CR: Provision for B.D.D

 EXAMPLE

List of debtors.

YEAR DEBTORS
20082009

2010

2012

100,000150,000

145,000

140,000

Rate of provision for B.D.D is 10% P.A

Draw Up:

1. provision for B.D.D A/C

2. balance sheet as at 31. 12. 2000 – 2011

2008: 100,000 x   10/100 = 10,000

2009: 150,000 x 10/100 =   15,000

2010: 145,000 x 10/100 = 14,500

2011: 140,000 x 10/100   = 14,000

DR   PROVISION FOR BAD AND DOUBTFUL DEBTS A/C CR

31.12.2008 Balance c/d 10,000 31.12.2008 P & L 10,000
31.12.2009 Balance c/d 15,000 1.1.2009 Balance b/d 10,000
31.12.2009 P & L 5,000
15,000 15,000
31.12.2010 P & L 500 1.1.2010 Balance b/d 15,000
31.12.2010 Balance c/d 14,500
15,000 15,000
31.12.2011 P & L 500 1.1.2011 Balance b/d 14,500
31.12.2011 Balance c/d 14,000
14,500 14,500
 1.1.2012  Balance b/d  14,000

BALANCE     SHEET     AS     AT       31.12.2008

2008 Debtors 100,000
less: Provision for B.B.D   10,000 90,000
2009 Debtors 150,000
less: Provision for B.B.D   15,000 135,000
2010 Debtors 145,000
less: Provision for B.B.D   14,500 130,500
2011 Debtors 140,000
less: Provision for B.B.D   14,000 126,000
BAD DEBTS RECOVERED.
  • when bad debts recorded

Dr: cash / bank

Cr: bad debt recoverable a/c

Then at the end of accounting period:

Dr: bad debts recoverable a/c

Cr: P & L

QUESTIONS:

1. A business makes a provision for bad debts and discount allowed at a rate of 6% and 3% of debtors respectively

The debtors balance as at 31st December were;

1995               85,000

1996               75,000

1997               90,000

You are required to show the necessary entries in the provision accounts, profit and loss account and balance sheets for those years.

1. A trader makes a provision for discounts received at the rate of 4% of creditors at the end of the year. The creditors balance as at 31st December were.

19 -2               12,000

19-3                15,000

19-4                10,000

19-5                13,000

You are required to show the necessary entries in the provision for discount received account, profit and loss account and balance sheet as at for these gears.

3. The following items appear in A white trial balance dated 31st December 19-7

DR    CR
Tsh Tsh
Bad debts 3,000
Discount allowed 1,420
Discount received 3,000
Trade debtors 70,000
Trade creditors 110,000

It is white’s policy to keep the provision for bad debts. Discount allowed and discount received at the rate of 5%, 2.5% and 6% on debtors.

You are required to show the entries in:-
1.The P & L account (extract) for the year ended 31 .12. 19-9
2. Balance sheet (extract) as at 31. 12. 19-9

CALCULATION (1)

Provision for bad debts at a rate of 6%

1995:   85,000 x 6/100 = 5,100

1996:   75,000 x 6/100 = 4500

1997:   90,000 x 6/100 = 5400

DR  PROVISION FOR BAD AND DOUBTFUL DEBTS   A/C   CR

31.12.1995 Balance c/d 5100 31.12.195 p&L 5100
31.12.1996 p&l 600 1.1.1996 balance b/d 5100
31.12.1996 Balance c/d 4500
5100 5100
1.1.1997 balance b/d 4500
31.12.1997 Balance c/d 5400 p&l 900
5400 5400
1.1.1998 balance b/d 5400

DR   PROFIT AND LOSS A/C    CR

31.12.1995 provision for B.D.Debts 5100 31.12.1996 provision for B.D.Debts 600
31.12.1997 provision for B.D.Debts 900

4. E.C Commenced business on 1st January 1997 and his account end to 31  December, every year. For the ended 31. 12. 1997, bad debts written off amounted to 1200/=, if was also found necessary to create the provision for doubt of 2,000/= in 1998, debts, amounting to 1600, proved bad and were w/o.

Mrs Lema, whose debts of 350 was w/o as bad in 1997 settled her account in full on 30.11.1998. As at 31.12.1998 total debts outstanding were 56,000 it was decided to bring  provision up to 5% on this figure of that date.

In 1999, 2,350 debts were w/o during the year, and another recovery of 150 was made in respect of debts w/o in 1997. As 31st .12.1999, total debts outstanding were 42,000; the provision for doubtful debt is to be maintained at 5% of this figure.

You are required to prepare:-

1. Bad debts a/c.
2. Provision for bad debts a/c.
3. Bad debts recovery a/c.

CALCULATION (4)

DR  BAD DEBTS A/C    CR

31.12.1997 Debtors 1200 31.12.1997 p&l 1200
31.12.1998 Debtors 1600 31.12.1998 p&l 1600
31.12.1999 Debtors 2350 31.12.1999 p&l 2350

DR     PROVISION FOR BAD AND DOUBTFUL DEBTS   A/C                                 CR

31.12.1997 Balance c/d 2,000 31.12.1997 p&l 2,000
31.12.1998 Balance c/d 2,800 1.1.1998 balance b/d 2,000
31.12.1998 p&l 800
2,800 2,800
31.12.1999 p&l 700 1.1.1999 balance b/d 2,800
31.12.2000 Balance c/d 2,100
2,800 2,800
 1.1.2000  balance b/d  2,100

Workings:

31.12.1998: 56000 X 5/100 = 2800

31.12.1999: 42000 X 5/100 = 2100

DR  BAD   BEBTS   RECOVERY   A/C   CR

31.12.1998 p&l 350 31.12.1998 cash/bank 350
31.12.1999 p&l 150 31.12.1999 cash/bank 150

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