Schmalenbach and the chart of accounts

Since the World War II, chart of accounts have played a vital role in the development of accounting in Poland.

A writer and professor at Cologne, named Eugen Schmalenbach (1873-1955), believed that chart of accounts are not mere carriers of balances but it contains significant information which can be prepared regularly and speedily to respond rapidly to the external and internal circumstances infleuncing the economic issues of an enterprise.

Schamalenbach used "price level accounting"  or "uniform chart of accounts".

Price considered as the basis of value, helped and assisted decentralize management to evaluate and compare the entity's performance and financial condition of similar companies within the same sector of the economy and industry.

Also, Price seemingly to be available as control and the corrective measure for investment assessments and decisions.

Schamalenbach also advocated that traditional accounting policies must be changed so to keep with relevant and reliable information which builds challenges, satisfaction and ingenuity of accountants.

The arrival of income taxation and the conflict with financial accounting

It was in AD 10 when the fist known income tax was instituted by Emperor Wang Mang (45 BC-AD of Xin Dynasty of China, where the income tax rate is 10% flat rate of profits.

While the first graduated income tax system from 8.33% to 10% was implemented in 1798 in Britain by William Pit (the Younger) in his budget to pay for weapons and equipment in preparation for the Napoleonic wars.

In the United States, the first income tax was imposed in July 1861 with a rate of 3% of all income over 600 dollars.

In our country, the Philippines, the first income tax law was created on March 31, 1913. Currently, our tax laws imposes a graduated tax rates from 5% to 32% for the Individual Tax Payers, while beginning 2009, a flat rate of 30% was implemented for the taxable income of non-sole proprietorship businesses (meaning, for partnerships and corporations).

With the arrival of income taxation laws, this became another major event in accounting history.

Income tax returns were treated as legal documents, being such, the lawyers initially thought of them as they are the ones who have the exclusive rights to prepare them.

However, Accountants disagreed to such view and argued that since the preparation of Income Tax Returns (ITRs) starts with accounting involvement and preparing the schedules and financial reports as basis of the contents of the ITRs are mostly accounting tasks, hence, it is more proper to classify the ITR preparation as an accounting work.

Because US law firms in the 1920s were slow to integrate income tax preparation into their skills and practices, Public Accountants saw that its a new profitable endeavor and leapt into doing tax works since they also have the expertise in readying the data for ITRs content.

By the time the lawyers contested the accountants for practicing law even without a license, the  income tax preparation had been so absolutely identified with the accountants, and subsequently the lawyers lost their case.

Tax Accounting was born as a specialized field of accounting with this development where CPAs are infused with taxation works.  In tax accounting, accountants offered services regarding tax computations, tax planning, tax advisory to legally minimize taxes of clients.

Observe too that there are several conflicts with accounting and taxation. Remedies are done thru preparation of financial reports for tax purposes aside from the preparation of basic financial statements and the reconciliation of the two. 

The industrial revolution and the share-issuing company

The industrial revolution (late 18th and early 19th century) was the eras when there are major changes happened in the economy which has a profound effect on socio-economic and cultural conditions in Britain and throughout the world especially in the areas of agriculture, manufacturing, and transportation.

Also, during this period was the introduction of improved conditions where powered all-metal machines  and tools are used for mass production, the development of steam-powered ships, railways, and in the late of 19th century, the invention of the internal combustion engine and electrical power generation.

With these improvements, developments and enhancements in economy, consequently, practice of accounting was greatly affected.

New accounting practices were introduced during the period of industrial revolution, to wit:

• Depreciation, Allocation of Overhead, Inventory Accounting;
• Progression of accounting for business entities like sole proprietorship, partnership, share companies and stock exchange listed corporations;
• Intensified and improved business regulations on financial reporting and new tax accounting systems and procedures.   

  

Savary and the Napoleonic Commercial Code

Savary Commercial Code

Jacques Savary (1622 - 1690)

Savary belongs to a French family dedicated to trade and publication of works related to commercial matters.

He has broad involvement and experience in and out of royal service.

He was known as the chief architect of the Commercial Code of France in 1673 otherwise called Code of Savary.

Code of Savary generally uses historical cost as the basis of valuation.

Savary published his book, The Perfect Merchant, which contains thousands of pages describing accounting in Chapters 4 to 10 of Book Four.

Napoleonic Commercial Code

Napoleon Bonaparte's codification of France's Civil Law, namely the "Code of Napoleon" was imposed on March 21, 1804.

In 1807 (three years after the enforcement of the code), the "Code de Commerce" was passed to supplement the Code of Napoleon.

Code de Commerce regulated commercial transactions, laws of business, bankruptcies, and the jurisdictions of the courts and procedures dealing with these subjects.

Though the Code of Commerce does not provide valuation rules, it gives in notes and example of inventory where it described that the assets must be carried at their market value on the day inventory and not on the basis of historical cost.

Overview of an accounting information system

DEFINITIONS of Accounting Information System 

• It consist all the functions and procedures for recognizing transactions and recording, processing, and reporting the data representing them. 

• It is the method a business uses to process its data through the accounting cycle. 

• It is the most significant aspect for providing and communicating financial accounting information.

• It is an orderly, efficient scheme for providing accurate financial information and controls.

KINDS

• Manual Accounting System  – The processing of data that are handwritten in journals, ledgers, and financial statements.

• Mechanical Accounting System  – The processing of data performed manually with the use of office machines and labor saving devices. 

• EDP Accounting System – The processing of data with the use of accounting program or software and electronic computers.

COMPONENTS

• Forms – are the source documents on which the data is recorded. Examples: invoices, checks, journals, etc.

• Equipment – are the devices, furnitures, fixtures and machines used in accounting.

• Procedures and Flowcharts – series of operations or steps that must be performed to complete tasks.

• People – the people who are involved in accounting.

SYSTEMS DESIGN 

When designing an accounting system, the following must be considered:

• Accounting Policies – the SME Financial Reporting Standards, policies and procedures adopted by the company.

• Chart Of Accounts – the systematic arrangement and codification of accounts.

• Source Documents – the forms in which the data originated.

• Books Of Accounts (Journals and Ledgers) – the books where the business transactions are recorded.

• Flowcharts – the diagram illustration of processes and work flows involved in accounting. 

• Financial Statements – the financial reports which are the finish or end-product of Financial Accounting and Reporting.

• Schedules – the supporting computations of a particular reporting requirement.

The Florentine vs the Venetian approach to reporting

The Florentine Approach is the introduction of double-entry bookkeeping system.

It was in the 14th century when Amanito Manucci, a partner of merchant partnership, created a recording system where there's at least one account debited and one account credited and where the total of debits equals the total of credits. Notice that this system of recording is the system of double-entry bookkeeping. Thus, Manucci was tagged as the inventor of double-entry bookkeeping. It was said that Amanito Manucci called Giovanni Farolfe & Company in Florence, introduced the Florentine Approach.

The records kept by Mannuci for the firm are the oldest evidence that demonstrated or reflected the use of double-entry bookkeeping system.  

In Venetian Approach of reporting, the merchants are described as they kept their records in bilateral form (alla veneziana), where the debits are recorded on the left side of the page across the credits.  This method is further described as an evolved system, using several books which are carefully cross-indexed and coordinated so that the contents are viewed in a coherent whole. Observed that this approach is the so-called ledger postings in our time. 

The Venetian Method was introduced in the books of the merchant Andrea Bargarigo (1418-1449).

Luca Pacioli (1445-1517), the father of modern accounting, published in 1494 the Venetian method in his book entitled Summa de Arithmetica. Pacioli explained the use of books (of accounts).  It was described that the each transaction was first noted in the memorandum book then listed the transaction in debit and credit form in the journal, and finally posted the entries in the ledger. 

Early Civilizations

Early Civilizations

Accounting history began around 3000BC and it is evidenced by the record-keeping wealth thru "clay tablets" of Mesopotamia. 

Even the Bible, demonstrate the practice of accounting, there are verses which mentions barter or business dealing system, when there are such events, there are exchanges of values.  Those can not be paid right away are collected later that's why some Bible verses mentions "settling of accounts."

History of Accounting

Early Civilizations

Accounting history began around 3000BC and it is evidenced by the record-keeping wealth thru "clay tablets" of Mesopotamia...read more 

In the CMO3 S2007, History of Accounting has the following outline for discussion:

1.6.1  Florentine Approach vs Venetian Approach to Reporting

The Florentine Approach is the introduction of double-entry bookkeeping system.

It was in the 14th century when Amanito Manucci, a partner of merchant partnership, created a recording system where there's at least one account debited and one account credited and where the total of debits equals the total of credits. Notice that this system of recording is the system of double-entry bookkeeping...read more

1.6.2  Savary and the Napoleonic Commercial Code

Savary Commercial Code

Jacques Savary (1622 - 1690)

Savary belongs to a French family dedicated to trade and publication of works related to commercial matters.

He has broad involvement and experience in and out of royal service...read more

1.6.3  The industrial revolution and the share-issuing company

The industrial revolution (late 18th and early 19th century) was the eras when there are major changes happened in the economy which has a profound effect on socio-economic and cultural conditions in Britain and throughout the world especially in the areas of agriculture, manufacturing, and transportation...read more

1.6.4  The arrival of income taxation and the conflict with financial accounting

It was in AD 10 when the fist known income tax was instituted by Emperor Wang Mang (45 BC-AD of Xin Dynasty of China, where the income tax rate is 10% flat rate of profits.

While the first graduated income tax system from 8.33% to 10% was implemented in 1798 in Britain by William Pit (the Younger) in his budget to pay for weapons and equipment in preparation for the Napoleonic wars...read more

1.6.5  Schmalenbach and the chart of accounts

Since the World War II, chart of accounts have played a vital role in the development of accounting in Poland.

A writer and professor at Cologne, named Eugen Schmalenbach (1873-1955), believed that chart of accounts are not mere carriers of balances but it contains significant information which can be prepared regularly and speedily to respond rapidly to the external and internal circumstances infleuncing the economic issues of an enterprise...read more

1.6.6  The rise of the group of companies and the need for consolidated accounts

Since the end of World War II, rapid growth of domestic and multinational corporations in various countries was observed.

Noticeably, with the global inclinations of business, organizations not just build new facilities and infrastructures but also most previously separate entities combine or group themselves together. Hence, there were several business combinations here and there...read more

1.6.7  Internalization of markets and reporting

Markets now are coming from all over the over the world because of globalization.

Exchange of transactions and business dealings are now done anywhere and everywhere ignoring global barriers and constraints.

Especially now that almost everything can be transacted online via world wide web or internet...read more


Note, click each topic to read its full discussion.

Scope of Accounting

Looking at a dictionary, scope means the space to function or operate in; the range of a subject or activity.

Applying to accounting, scope of accounting covers and touches a lot of subjects.

Accounting affects economy.  Accounting touches not just the economic activities of businesses but also those of government and personal finances.

Forms of business organizations such as sole proprietorship, partnership and corporation, keep financial records to obtain financial information about its business operations and in order to make economic decisions.

So do the government, for them to allocate funds to its instrumentalities, it needs accounting and financial records to gauge how they perform and operate.

Individuals alike need to do financial record keeping and budgeting of their personal finances so they can know if they are economically surviving and striving.  In fact, learning and acquiring the knowledge of accounting fundamentals, and the skill of bookkeeping are the gateway to financial freedom.

Thus, knowledge of accounting is essential to all whether in private businesses, in government, and individuals.

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Introduction to Record-Keeping or Bookkeeping

Regardless of forms of business entity an organization belongs, the entity must write financial entries and keep financial records on its own. One of the main reason is that in the Philippine settings businesses are required to file tax returns and  pay taxes dues aside from other government compliance requirements such as local taxes and municipality permits, sss premium contributions, phil-health premium contributions, pag-ibig or hdmf contributions, etc.  What the entity files or pays to the government agencies and bureaus are based on the financial records it writes and keeps.

Record keeping : Bookkeeping  

In businesses, financial transactions are recorded. The tool where the financial records of the business are written and kept are called Books Of Accounts.  The manner the entity records its financial transactions is called record keeping or bookkeeping.

Bookkeeping has two kinds, the Single-Entry Bookkeeping and Double-Entry Bookkeeping

Single-Entry System

Single-Entry refers to the incomplete recording of transactions. In its simplest form, only one record maybe kept where all the transactions are narratively entered or posted. Thus, it does not provide properly analyzed transactions and can not recognized the effects of transactions all the time. As a consequence, preparers of financial statements are faced with some problems reconstructing the accounts to properly prepare financial statements and determine the income or loss. 

Double-Entry System

Double-Entry refers to the dual-effect that each transaction has on the accounting equation.  Under this system, all the transactions are assumed to have a dual-effect or two-fold effect on the accounting values and at least affects two accounts.    

Accounting values: Value Received and Value Parted With  

Meaning, in the Double-Entry System, it's like a relationship, there's a give and take.  We give the value parted with, and we take the value received. 

What we must know in record-keeping or bookkeeping?
Click each topic to read the explanation/discussion

• Economic Events

• Business Transactions

• Source Documents

• Value Received and Value Parted With

• Monetary Equivalent of the value received and the value parted with

• Accounting Elements

• Accounts

• Accounting Equation

• Debit and Credit

• Normal Balances of Accounting Elements / Accounts

• Transaction Analysis

• Journal Entries and Journalizing 

• Books of Original Entry : General Journal and Special Journals

• Posting

• Books of Final Entry :  Ledgers

• Trial Balance

• Financial Statements

Researched by:

Expenses Elements

Expenses are the costs incurred or consumed in the process of producing revenues.

Examples of Expenses Elements

Direct Cost to produce revenue

• Cost of Sales – cost of Merchandising inventory sold. 
• Cost of Service - direct cost of service rendered
• Cost of Goods Manufactured and Sold – cost of sold manufactured goods.

Operating Expenses

1. Marketing and Selling Expenses - pertains to costs in doing marketing and selling activities of the entities

• Commissions 
• Advertising and Promotions 

2. General and Administrative Expenses - pertains to costs in operating and administering activities of the organization. 

• Salaries and Wages
• Travel, Transportation, Gas and Oil
• Taxes and Licenses
• Rent
• Insurance
• Supplies
• Utilities: Communications, Electricity and Water 
• Utility Services: Janitorial, Security Guards
• Depreciation

Other Expenses and Losses 

• Interest Expense
• Loss on disposal of equipment 
• Income tax expense

Researched by:

Revenue Elements

Revenues are the gross earnings of the business as a result of selling goods and rendering services.

Examples of Revenue Elements

• Sales - refers to the revenue from sale of goods of a trade or merchandising business whether cash sales or sales on account.

• Service Income - refers to the earnings from rendering services by a servicing company whether cash and on account services.

• Professional Fees - refers to the earnings in rendering of services of professionals or professional servicing firms to their clients which could in cash or collectibles.

• Interest Income - refers to the earnings from the interest which derived from the promissory notes received by the organization whether in cash or collectible in the future.

• Rent Income - refers to the earnings from letting others use the properties or facilities of the entity.

• Gain on sale of other assets - refers to the earnings derived from selling the assets of the organization.  Gain on sale is when the proceeds of sale exceeds the book value of the asset being sold.  

Normal Balance : Credit

Revenue accounts have a normal credit balances. 

Researched by:

Owner's Equity Elements

Equity is the residual claim against the assets of the business after the total liabilities are deducted.

Alternative terms of Equity:

• Owner's Capital - for sole proprietorship
• Partner's Capital - for partnership
• Owner's Equity or Shareholder's Equity - for corporation

The components of Equity are as follows:

• Capital contribution of owners (initial and additional)
• Withdrawal by owners
• Net Income or Loss
• Prior Period Adjustments

Normal Balance : Credit

Equity accounts have a normal credit balances.

Researched by :

Liabilities Elements

Classification of Liabilities

Generally, liabilities are classified as follows:

• Current
• Non-Current 

Liabilities are classified as Current Liabilities when any of the following criteria are met:

1. It is expected to be settled in the normal course of the organization's operating cycle.
2. It is due to be settled within the twelve months of the Statement of Financial Position date.

Operating cycle means the time between the acquisition of materials entering into a process and its realization in cash or an instrument that is readily convertible into cash.

Non-Current Liabilities are those liabilities which does not meet the criteria of current liabilities.

Generally, they comprise the portion payable beyond one-year of a long-term nature (usually, more than 12 months from SFP date).

Examples of Liabilities Elements

Current Liabilities Elements

• Accounts Payable
• Notes Payable
• Accrued Interest Payable
• SSS Premium Payable
• Withholding Tax Payable

Non-Current  Liabilities Elements

• Long Term Payable

Normal Balance : Credit

Liability accounts has normal credit balances.

Researched by:

Assets Elements

Classification of Asset

Generally, assets are classified as follows:

• Current
• Non-Current 

Assets are classified as Current Assets when any of the following criteria are met:

1. It is cash or cash equivalent which is not restricted for current use.
2. It is expected to be realized, or is held for sale or consumption in the normal course of the business' operating cycle.
3. It is held for trading purposes or for the short-term and expected to be realized within twelve months of the SFP date.

Operating cycle means the time between the acquisition of materials entering into a process and its realization in cash or an instrument that is readily convertible into cash.

Non-Current Assets are those assets which do not meet the criteria of current assets.

Generally, they include those tangible and intangible assets of a long-term nature (usually, more than 12 months from SFP date).

Examples of Assets Elements

Current Assets Elements

• Cash - 
• Accounts Receivable
• Notes Receivable
• Accrued Interest Receivable
• Inventories
• Prepaid Expenses

Non-Current Assets Elements

• Land
• Building
• Furniture and Fixture
• Equipment

Contra-Valuation Accounts

• Allowance for Doubtful Accounts
• Accumulated Depreciation

Normal Balance : Debit

Asset accounts has normal debit balances.

Researched by: