11 Preparation of Trial Balance

Deepika Gautam

epgp books

 

 

LEARNING OBJECTIVES:

 

After studying this module, you will be able to know about the

 

–          The meaning, definitions, features and objectives of trial balance

–          Methods for preparing trial balance

–          Limitations of trial balance

–          Errors revealed and not revealed by the trial balance

–          Location of errors

–          Summary

INTRODUCTION:

 

Every transaction has two aspects; it is the basic principle of double entry system. One aspect is debited and another aspect is credited with an equal amount. Thus for series of transactions, there will be series of debits and credits with equal amounts. It follows that the sum total of credit amounts of the ledgers on any particular date. If the various accounts in the ledger are balanced then the total of debit balances and credit balances should be same if the accounts are arithmetically correct. The statement which is prepared with the total of debit and credit side of all the accounts of ledger or with the debit and credit balances of ledger accounts is called trial balance.

 

 

CONCEPT OF TRIAL BALANCE:

 

A trial balance can be defined as a statement of debit and credit totals or balances extracted from the various accounts in ledger to test the arithmetical accuracy of the basis of accounts on any particular date. Thus a trial balance can be prepared at the end of financial year when final accounts are to be prepared; It is prepared before preparing the final accounts i.e., Trading Accounts and Balance Sheet because if the total of debits disagree with the total of credits then, it shows that there are some errors which must be rectified otherwise the final accounts will not show the true and fair view of the business. Thus, it can be said that trial balance acts as bridge which connects ledger accounts and final accounts.

 

After having discussed the meaning of trial balance, now let’s discuss its salient features.

 

1.    Trial balance is a statement and not an account.

2.    It is prepared either from the total or balances of various accounts in the ledger.

3.  It is generally prepared t the end of accounting year when final accounts are to be prepared.

4.   It is a connecting link between the various accounts of ledger and final accounts.

5.  The total of debits and credits or the total of debit and credit balances of various accounts of ledger should agree otherwise some errors are there.

6.  Thus, it helps in locating certain errors but it cannot locate all types of errors which are discussed in the forthcoming text.

 

OBJECTIVES OF PREPARING TRIAL BALANCE:

 

By preparing Trial balance, we can have all the balances of various accounts of ledger at one place which will avoid the necessity of going through different pages of ledger to get the balances of various accounts for the preparation of final accounts. We can check the completion of double entry system with the help of Trial balance. If the total of debit and credit is equal, then we can believe that the double entry system is complete and arithmetically accurate. If the debit and credit side of all trial balance do not agree, it means some errors in recording or posting or balancing of accounts might have occurred which are to be rectified before the preparation of final accounts. As the basis objective of accounting is the preparation of final accounts which can be easily and accurately prepared after preparing the Trial balance.

 

METHODS OF PREPARATION OF TRIAL BALANCE:

A trial balance can be prepared either by total method or balance method, but, balance method is used in practice.

 

Total Method: Under this method, total of debits and credit of various accounts of ledger are taken and shown on the debit total and credit total of Trial balance. If the debit total and credit total are equal then it is believed that the accounts are reasonably correct otherwise not. This method is not used in practice.

 

Balance Method:

 

As you know about balancing of ledgers accounts, the two sides of ledger accounts are balanced by putting balancing figure in the side which is short in total. If the debit side is greater than the credit side, the balancing figure will be put on the credit side of that account and the balance is called debit balance. On the other hand, if credit balance is greater than the debit balance then the balancing figure will fall on the debit side and account is said to have shown credit balance. Under the balance method of preparing of Trial balance, the debit and credit balances of various accounts are shown in the trial balance and the total of debit and credit should be equal. This method is usually used in practice. This method will be clearer with the help of following examples:

 

Example: From the following information, draw up a Trial Balance in the books of Aashutosh Enterprises as on 31st March, 2015:

 

Transactions Rs. Transactions Rs.
Capital 1,50,000 Sales 1,05,400
Furniture 40,000 Sundry Creditor 5,000
Cash in Hand 7,000 Rent 2,000
Cash at Bank 8,500 Stationary 16,000
Electricity exp. 4,800 Outstanding expenses 10,000
Carriage Inward 500 Fixed Deposits 6,000
Office Equipment 2,400 Discount paid 1,050
Sundry Debtors 8,000 Opening Stock 3,200
Machinery 1,60,000 Discount Received 1,200
Salaries 11,400 Postage & Telegram 750

 

 

Solution:

 

Particulars Dr. Cr.
Capital 1,50,000
Furniture 40,000
Cash in Hand 7,000
Cash at Bank 8,500
Electricity exp. 4,800
Carriage Inward 500
Office Equipment 2,400
Sundry Debtors 8,000
Machinery 1,60,000
Salaries 11,400
Sales 1,05,400
Sundry Creditor 5,000
Rent 2,000
Stationary 16,000
Outstanding expenses 10,000
Fixed Deposits 6,000
Discount paid 1,050
Opening Stock 3,200
Discount Received 1,200
Postage & Telegram 750
Total 271,600 271,600

 

 

ERRORS REVEALED BY THE TRIAL BALANCE:

 

Any amount which is not posted from Journal to ledger is an error which will make difference in the total of debit and credit of trial balance. Similarly, balance of any accounts of ledgers not recorded in trial balance will be reveled at the time of preparing trial balance. Some other errors like wrong totaling or balancing of ledgers, wrong totaling of journal, wrong posting into ledger and posting of wrong amount in ledgers are revealed by the Trial balance when totals of debit and credit balances of trial balance do not agree.

 

(i)    An item omitted to be posted from a subsidiary book into the ledger: A purchase of Rs 2,000 from Ram omitted to be credited to his account. As result of this error, the figure of sundry creditors to be shown in the Trial Balance will reduce by Rs 2,000 and the total of the credit side of the trial balance will be Rs 2,000 less as compared to the debit side of the Trial balance.

(ii)    Posting of wrong amount to a ledger account: A credit sale of Rs 1,000 to Savior wrongly posting to her account as Rs 100. The effect of this error will be that the figure of sundry debtors will be reduced by Rs 900 and the total of debit side of the Trial balance will be Rs 900 less than the total of the credit side of the trial balance.

 

(iii)    Posting an amount to wrong side of the ledger account: Rs 70 discounts allowed to a customer wrongly posted to the credit instead of the debit side of the discount account. As a result of this error, the credit side of the Trial balance will exceed by Rs 70 (double the amount of the error)

 

(iv)   Wrong additions or balancing of ledger accounts: While balancing capital account at the end of the financial year, credit balance of Rs 49,000 wrongly taken as Rs 39,000. As a result of this error, the credit total of the trial balance will be 10,000 too short.

 

(v)     An item in the subsidiary book posted twice to a ledger account: A payment of Rs 3,000 to a creditor posted twice to his account.

(vi)    Omission of a balance of an account wrongly entered in the Trial balance

(vii)    Balance of some account wrongly entered in the Trial balance

(viii)   Balance of some account written to the wrong side of the trial balance

(ix)     An error in the totaling of the trial balance will bring the disagreement of the trial balance.

 

ERRORS DON’T REVEALED BY TRIAL BALANCE:

 

There are certain errors which are not revealed by trial balance. If a transaction is omitted to be recorded in the journal, it is called error of omission and trial is not affected by it. Wrong recording in the journal and posting to wrong account into correct amount and correct side will not affect the agreement of Trial balance. This is called error of commission. If one error compensates the effect of another error e.g. overstating of debit side of one account will be compensated by overstating of credit side of another account. These are the two errors. One error is compensating the effect of another error and will not affect the agreement of Trial balance. These errors are called compensating errors. There may be an error of accounting principle e.g. Revenue expenditure may be treated capital expenditure and vice-versa. Such errors do not affect trial balance and are not revealed by trial balance.

 

(i)     Omission of an entry in a subsidiary book: If an entry has not been recorded in a subsidiary book both the debit and credit of that transaction would be omitted and the agreement of the Trial balance will not be affected by any way.

 

(ii)    A wrong entry in a subsidiary book: If a credit purchase of Rs198 from Mohan is wrongly written as 189 in the purchase book, such an error will not be disclosed by the trial balance. As the posting on both the debit side of purchase account and credit side of Mohan account will be with the wrong amount of Rs 189, so the trial balance will agree.

 

(iii)     Posting an item to the correct side but in the wrong account: if a purchase of Rs 200 from Danni ram has been credited to Shanty ram instead of Danni ram, it will not affect the agreement of the Trial balance, so the trial balance will not detect such error.

(iv)      Compensating Error: Theses are errors which compensate themselves in the net result, i.e., over debits of various accounts being neutralized by the over-credits or under-credits of the same extent of some other accounts.

 

(v)     Error of Principle: These errors will not affect the agreement of the Trial balance as they arise from the debiting or crediting of wrong heads of accounts would be inconsistent with the fundamental principles of double entry accounting.

 

LOCATION OF ERRORS

 

Whenever trial balance disagrees, the following steps should be taken to locate the causes of the differences:

 

1.      Check the totals of the Trial balance and determine the exact amount of difference in the Trial balance.

2.      Divide the difference of the amount revealed in the Trial balance by two and find out if there is any balance of the same amount in the trial balance. It may be that such a balance might have been recorded on the wrong side of the Trial balance, thus causing differences of double the amount.

3.      If the mistake is not located by the above two steps, the difference in the trial balance should be divided by 9. If the difference is evenly divisible by 9, the error may be due to transposition or transplacement of figures. A transplacement takes place when the digits of the numbers are moved to the left or right.

4.      Re check that the balances of all the accounts including cash and bank balances have been included in the Trial balance.

5.      Re check that the opening balances have been correctly brought forward in the current year’s book

6.      If the difference is of large amount, then the trial balance of the current year is to be comparing with the previous year and see that the figures under similar head of account are very near the same as those of the previous year and whether their balances fall on the same side of the trial balance. If the difference between the previous year figures and the current year figures is large one, establish the causes of difference.

7.      If the above listed steps fail to detect the errors, check the work as follows:

 

(i)       Check the totals of the subsidiary books paying, particular attention to carry forward.

(ii)     Check the posting made from the Journal or subsidiary books in the ledger.

(iii)      Re-check the balances extracted from the ledger

(iv)             Recast the list of balances.

 

Example: A book-keeper, taking out a trial balance as on 31th June 2014, found that it did not agree. He proceeded to check the entries and discovered the following errors:

 

1.      A credit sale of Rs 1,000 to Anil had been correctly entered in the sales Book but Anil’s Account had been debited with Rs 100 only.

2.      The total of the Bills payable Book, Rs 5,000 had been posted to the credit of Bills Receivable Account.

3.      Rs 2,500 paid to Ram had been wrongly posted to Sham.

4.    Rs 100, owing by a customer had been omitted from the list of sundry debtors.

5.      The discount column of the cash book representing discount allowed to customers has been over-added by Rs10.

6.      Goods worth Rs 100 taken by the proprietor omitted to be recorded in the books.

7.      Depreciation on furniture, Rs 100, had not been posted to Depreciation account.

8.      The total of sales book had been added Rs 1000 short.

Which of the above errors caused the totals of the trial balance to disagree and by how much did the totals differ?

 

Solution: The effect of the above noted errors on the trial balance will be as follows:

 

1.      Anil’s account has been given less debit for Rs 900, so the debit side of the trial balance would be short by Rs 990

 

2.      This error will not affect the agreement of the trial balance because the posting of the bills payable book has been made to the correct side but in the wrong account. The credit given to bills receivable account instead of bills payable account does not affecting the agreement of the trial balance.

 

3.      This error will not affect the agreement of the trial balance because the amount paid has been posted to the right side through to a wrong account.

 

4.      Sundry debtors have been shown in the trial balance with a less amount of Rs 100, so debit side of the trial balance is short by Rs 100.

 

5.      Discount account has been given an excess debit of Rs 10 so debit side of the trial balance exceeds by Rs 10.

 

6.      The error will have no effect on the agreement of the Trial balance because the dual aspect of the entry has been omitted.

 

7.      Depreciation on furniture has not been debited to depreciation account, so debit side of the depreciation account will be short by 100 too short.

 

8.      Sales account has been given less credit for Rs 1,000, so credit side of the trial balance would be short by Rs 1,000

 

The combined effect of all the errors is that the credit side of the Trial balance would exceed the debit side by Rs 90.

 

SUSPENSE ACCOUNT:

 

If it is not possible to locate the errors in spite of the above steps, the difference of the trial balance is transferred to the suspense account and the trial balance is thus tallied. Later on, when the errors will be located, they can be rectified through the suspense account. The suspense account will be eliminated when all errors will be located.

 

LIMITATIONS:

 

Trial balance also suffers from certain limitations. It cannot be prepared without adopting double entry system of accounting which may be difficult for the small concerns. There are certain errors which are not be located by the Trial balance because such errors don’t make any difference in the total of debit and credit of trial balance. Thus wrong final accounts will be prepared which don’t reveal true and fair view of the state of affairs of the business. It leads the various interested people to take wrong decision by taking incorrect information from the final accounts. However these limitations cannot reduce the importance of Trial, balance if all the errors which affect and don’t affect the Trial balance are considered properly before the preparation of final accounts.

 

SUMMARY:

 

Trial balance is a statement of debit and credit total or balances extracted from the various accounts in ledger. The total of debit and credit of trial balance should be equal because for every transaction one account is given debit and another account is given credit with the equal amount. Thus, it enables us to test the arithmetical accuracy of the books of accounts. It acts as a connecting link between the ledger and final accounts. Final Accounts i.e. Trading A/c, P/L A/c and Balance Sheet are prepared with the help of Trial balance. Thus, it can be said that Trial balance is a statement and not an account. It is prepared from various accounts in ledger and it helps in the preparation of final accounts. It is helpful for locating certain errors which affect the Trial balance. Such errors include error of partial omission and error of commission, error of principles and compensating errors which are not revealed by the Trial balance. These errors do not make any difference in the total of debit and credit of trial balance. Thus, wrong final accounts will be prepared which will not reveal true and fair view of the state of affairs of the business. It can lead the various interested people to take wrong decision by using wrong information from the final accounts. Thus, agreement of Trial balance should be vigilant in this regard before preparing the final accounts. Trial balance can be prepared either by total method or by balance method. In total method, total of debit and credit of various accounts in ledger are recorded in the trial balance. This method is not usually adopted in practice. Under balance method, balances of various accounts of ledgers are extracted and recorded in the Trial balance. This method is used in practice.

you can view video on Preparation of Trial Balance

Few important suggested books to learn more about trial balance

  1. Juneja Mohan .C & Singh Baljindar (2008) “Accountancy- I” Kalyani Publishers, B-15, Sector 8 Noida
  2. Mukherjee A & Hanif M (2003) “Financial Accounting”. Tata Mc Graw Hill Education PrivateLimited NewDelhi.
  3. Singh Baljinder & Mahajan R.K (2014), “Accountancy-I”. New Delhi- 110 002: Kalyani Publishers.
  4. Siddiqui A.S”(2002) “Comprehensive Financial Accounting” Laxmi Publications Ltd, 22, GoldenHouse, Daryaganj, New Delhi.
  5. Tulsian . P.C (2014) “Financial Accounting”. Dorling Kindersley Pvt Ltd., licenses of PearsonEducation in South Asia.

 

Points to Ponder

 

  • Ø Trial balance is a statement of debit and credit total or balances extracted from the various accounts in ledger.
  • Ø The total of debit and credit of trial balance should be equal because for every transaction one account is given debit and another account is given credit with the equal amount.
  • Ø It enables us to test the arithmetical accuracy of the books of accounts. It acts as a connecting link between the ledger and final accounts.
  • Ø Trial balance is a statement and not an account.
  • Ø It is prepared from various accounts in ledger and it helps in the preparation of final accounts.
  • Ø It is helpful for locating certain errors which affect the trail balance.
  • Ø It can lead the various interested people to take wrong decision by using wrong information from the final accounts.
  • Ø Trial balance can be prepared either by total method or by balance method.
  • Ø In total method, total of debit and credit of various accounts in ledger are recorded in the trial balance. This method is not usually adopted in practice.
  • Ø Under balance method, balances of various accounts of ledgers are extracted and recorded in the trail balance. This method is used in practice.