APPENDIX VII.ON THE MAIN PRINCIPLEOF BOOK-KEEPING.
A brief notice of the principle on which accounts are kept (when they areproperlykept) may perhaps be useful to students who are learning book-keeping, as the treatises on that subject frequently give too little in the way of explanation.
Any person who is engaged in business must desire to know accurately, whenever an investigation of the state of his affairs is made.
1, What he had at the commencement of the account, or immediately after the last investigation was made; 2, What he has gained and lost in the interval in all the several branches of his business; 3, What he is now worth. From the first two of these things he obviously knows the third. In the interval between two investigations, he may at any one time desire to know how any one account stands.
Anaccountis a recital of all that has happened, in reference to any class of dealings, since the last investigation. It can only consist of receipts and expenditures, and so it is said to have two sides, adebtorand acreditorside.
All accounts are kept inmoney. If goods be bought, they are estimated by the money paid for them. If a debtor give a bill of exchange, being a promise to pay a certain sum at a certain time, it is put down as worth that sum of money. All the tools, furniture, horses, &c. used in the business are rated at their value in money. All the actual coin, bank-notes, &c., which are in or come in, being the only money in the books which really is money, is calledcash.
The accounts are kept as if every different sort of account belonged to a separate person, and had an interest of its own, which every transaction either promotes or injures. If the student find that it helps him, he may imagine a clerk to every account: one to take charge of, and regulate, the actual cash; another for the bills which the house is to receive when due; another for those which it is to pay when due; another for the cloth (if the concern deal in cloth); another for the sugar (if it deal in sugar); one for every person who has an account with the house; one for the profits and losses; and so on.
All these clerks (or accounts) belonging to one merchant, must account to him in the end—must either produce all they have taken in charge, or relieve themselves by shewing to whom it went. For all that they have received, for every responsibility they have undertaken tothe concern itself, they are bound, or aredebtors; for everything which has passed out of charge, or about which they are relieved from answeringto the concern, they are unbound, or arecreditors. These words must be taken in a very wide sense by anyone to whom book-keeping is not to be a mystery. Thus, whenever any account assumes responsibility to any partiesout of the concern, it must be creditor in the books, and debtor whenever it discharges any other parties of their responsibility. But whenever an account removes responsibility from any other account in the same books it is debtor, and creditor whenever it imposes the same.
To whom are all these parties, or accounts, bound, and from whom are they released? Undoubtedly the merchant himself, or, more properly, thebalance-clerk, presently mentioned. But it is customary to say that the accounts are debtorstoeach other, and creditorsbyeach other. Thus, cashdebtorto bills receivable, means that the cash account (or the clerk who keeps it) is bound to answer for a sum which was paid on a bill of exchange due to the house. At full length it would be: “Mr. C (who keeps the cash-box) has received, and is answerable for, this sum which has been paid in by Mr. A, when he paid his bill of exchange.” On the other hand, the corresponding entry in the account of bills receivable runs—bills receivable,creditorby cash. At full length: “Mr. B (who keeps the bills receivable) is freed from all responsibility for Mr. A’s bill, which he once held, by handing over to Mr. C, the cash-clerk, the money with which Mr. A took it up.” Bills receivable creditorbycash is intelligible, but cash debtortobills receivable is a misnomer. The cash account is debtorto the merchant bythe sum received for the bill, and it should be cash debtorbybill receivable. The fiction of debts, not one of which is ever paid to the partytowhom it is said to be owing, though of no consequence in practice, is a stumbling-block to the learner; but he must keep the phrase, and remember its true meaning.
The account which is madedebtor, or bound, is said to bedebited; that which is madecreditor, or released, is said to becredited. All who receive must bedebited; all who give must becredited.
No cancel is ever made. If cash received be afterwards repaid, the sum paid is not struck off the receipts (or debtor-side of the cash account), but a discharge, or credit, is written on the expenditure (or credit) side.
The book in which the accounts are kept is called aledger. It has double columns, or else the debtor-side is on one page, and the creditor side on the opposite, of each account. The debtor-side is always the left. Other books are used, but they are only to help in keeping the ledger correct. Thus there may be awaste-book, in which all transactions are entered as they occur, in common language; ajournal, in which the transactions described in the waste-book are entered at stated periods, in the language of the ledger. The items entered in the journal have references to the pages of the ledger to which they are carried, and the items in the ledger have also references to the pages of the journal from which they come; and by this mode of reference it is easy to make a great deal of abbreviation in the ledger. Thus, when it happens, in making up the journal to a certain date, that several different sums were paid or received at or near the same time, the totals may be entered in the ledger, and the cash account may be made debtor to, or creditor by, sundry accounts, or sundries; the sundry accounts being severally credited or debited for their shares of the whole. The only book that need be explained is the ledger. All the other books, and the manner in which they are kept, important as they may be, have nothing to do with the main principle of the method. Let us, then, suppose that all the items are entered at once in the ledger as they arise. It has appeared that every item is entered twice. If A pay on account of B, there is an entry, “A, creditor by B;” and another, “B, debtor to A.” This is what is calleddouble-entry; and the consequence of it is, that the sum of all the debtor items in the whole book is equal to the sum of all the creditor items. For what is the first set but the second with the items in a different order? If it were convenient, one entry of each sum might be made a double-entry. The multiplication table is called a table ofdouble-entry, because 42, for instance, though it occurs only once, appears in two different aspects, namely, as 6 times 7 and as 7 times 6. Suppose, for example, that there are five accounts, A, B, C, D, E, and that each account has one transaction of its own with every other account; and let the debits be in thecolumns, the credits in therows, as follows:
Here the 16 is supposed to appear in D’s account as D creditor by C, and in C’s account as C debtor to D. And to say that the sum of debtor items is the same as that of creditor items, is merely to say that the preceding numbers give the same sum, whether the rows or the columns be first added up.
If it be desired to close the ledger when it stands as above, the following is the way the accounts will stand: the lines in italics will presently be explained.
In all the part of the above which is printed in Roman letters we see nothing but the preceding table repeated. But when all the accounts have been completed, and no more entries are left to be made, there remains the last process, which is termedbalancing the ledger. To get an idea of this, suppose a new clerk, who goes round all the accounts, collecting debts and credits, and taking them all upon himself, that he alone may be entitled to claim the debts and to be responsible for the assets of the concern. To this new clerk, whom I will call thebalance-clerk, every account gives up what it has, whether the same be debt or credit. The cash-clerk gives up all the cash; the clerks of the two kinds of bills give up all their documents, whether bills receivable or entries of bills payable (remember that any entry against which there is money set down in the books counts as money when given up, that is, as money due or money owing); the clerks of the several accounts of goods give up all their unsold remainders at cost prices; the clerks of the several personal accounts give up vouchers for the sums owing to or from the several parties; and so on. But where more has been paid out than received, the balance-clerkadjusts these accounts by giving instead of receiving; in fact, he so acts as to make the debtor and creditor sides of the accounts he visits equal in amount. For instance, the A account is indebted to the concern 55, while payments or discharges to the amount of 78 have been made by it. The balance-clerk accordingly hands over 23 to that account, for which it becomes debtor, while the balance enters itself as creditor to the same amount. But in the B account there is 96 of receipt, and only 59 of payment or discharge. The balance-clerk then receives 37 from this account, which is therefore credited by balance, while the balance acknowledges as much of debt. The balance account must, of course, exactly balance itself, if the accounts be all right; for of all the equal and opposite entries of which the ledger consists, so far as they do not balance one another, one goes into one side of the balance account, and the other into the other. Thus the balance account becomes a test of the accuracy of one part of the work: if its two sides do not give the same sums, either there have been entries which have not had their corresponding balancing entries correctly made, or else there has been error in the additions.
But since the balance account must thus always give thesame sumon both sides, and sincebalance debtorimplies what is favourable to the concern, andbalance creditorwhat is unfavourable, does it not appear as if this system could only be applied to cases in which there is neither loss nor gain? This brings us to the two accounts in which are entered all that the concernbegan with, and all that itgains or loses—thestock account, and theprofit-and-loss account. In order to make all that there was to begin with a matter of double entry, the opening of the ledger supposes the merchant himself to put his several clerks in charge of their several departments. In the stock account,stock, which here stands for the owner of the books, is made creditor by all the property, and debtor by all the liabilities; while the several accounts are made debtors for all they take from the stock, and creditors by all the responsibilities they undertake. Suppose, for instance, there are £500 in cash at the commencement of the ledger. There will then appear that the merchant has handed over to the cash-box £500, and in the stock account will appear, “Stock creditor bycash, £500;” while in the cash account will appear, “Cash debtor to stock, £500.” Suppose that at the beginning there is a debt outstanding of £50 to Smith and Co., then there will appear in the stock account, “Stock debtor to Smith and Co. £50,” and in Smith and Co.’s account will appear “Smith and Co. creditors by stock, £50.” Thus there is double entry for all that the concern begins with by this contrivance of the stock account.
The account to which everything is placed for which an actual equivalent is not seen in the books is theprofit-and-lossaccount. This profit-and-loss account, or the clerk who keeps it, is made answerable for every loss, and the supposed cause of every gain. This account, then, becomes debtor for every loss, and creditor by every gain. If goods be damaged to the amount of £20 by accident, and a loss to that amount occur in their sale, say they cost £80 and sell for £60 cash, it is clear that there is an entry “Cash debtor to goods £60,” and “Goods creditor by cash £60.” Now, there is an entry of £80 somewhere to the debit of the goods for cash laid out, or bills given, for the whole of the goods. It would affect the accuracy of the accounts to take no notice of this; for when the balance-clerk comes to adjust this account, he would find he receives £20 less than he might have reckoned upon, without any explanation of the reason; and there would be a failure of the principle of double-entry. Since it is convenient that the balance account of the goods should merely represent the stock in hand at the close, the account of goods therefore lays the responsibility of £20 upon the profit-and-loss account, or there is the entry “Goods creditor by profit-and-loss, £20,” and also “Profit-and-loss debtor to goods, £20.” Again, in all payments which are not to bring in a specific return, such as house and trade expenses, wages, &c. these several accounts are supposed to adjust matters with the profit-and-loss account before the balance begins. Thus, suppose the outgoings from the mere premises occupied exceed anything those premises yield by £200, or the debits of the house account exceed its credits by £200, the account should be balanced by transferring the responsibility to the profit-and-lossaccount, under the entries “House expenses creditor by profit-and-loss, £200”, “Profit-and-loss debtor to house expenses, £200.” In this way the profit-and-loss account steps in from time to time before the balance account commences its operations, in order that that same balance account may consist ofnothing but the necessary matters of account for the next year’s ledger.
Thistransference of accounts, or transfusion of one account into another, requires attentive consideration. The receiving account becomes creditor for the credits, and debtor for the debits, of the transmitting account. The rule, therefore, is: Make the transmitting account balance itself, and, on whichever side it is necessary to enter a balancing sum, make the account debtor or creditor, as the case may be, to the receiving account, and the latter creditor or debtor to the former. Thus, suppose account A is to be transferred to account B, and the latter is to arrange with the balance account. If the two stand as in Roman letters, the processes in Italic letters will occur before the final close.
And the entry in the balance account will be, “Creditor by B, £200,” shewing that, on these two accounts, the credits exceed the debits by £200.
Still, before the balance account is made up, it is desirable that the profit-and-loss account should be transferred to the stock account; for the profit and loss of this year is of no moment as a part of next year’s ledger, except in so far as it affects the stock at the commencement of the latter. Let this be done, and the balance account may then be made in the form required.
The stock account and the profit-and-loss account, the latter being the only direct channel of alteration for the former, differ in a peculiar manner[60]from the other preliminary accounts, and the balance accountis a species of umpire. They represent the merchant: their interests are his interests; he is solvent upon the excess of their credits over their debits, insolvent upon the excess of their debits over their credits. It is exactly the reverse in all the other accounts. If a malicious person were to get at the ledger, and put on a cipher to the pounds in various items, with a view of making the concern appear worse than it really is, he would make his alterations on thedebtorsides of the stock and profit-and-loss accounts, and on thecreditorsides of all the others. Accordingly, in the balance account, the net stock, after the incorporation of the profit-and-loss account, appears on thecreditorside (if not, it should be called amount ofinsolvency, notstock), and the debts of the concern appear on the same side. But on the debit side of the balance account appear all the assets of the concern (for which the balance-clerk is debtor to the clerks from whom he has taken them).
The young student must endeavour to get the enlarged view of the words debtor and creditor which is requisite, and must then learn by practice (for nothing else will give it) facility in allotting the actual entries in the waste-book to the proper sides of the proper accounts. I do not here pretend to give more than such a view of the subject as may assist him in studying a treatise on book-keeping, which he will probably find to contain little more than examples.