An accounting procedure refers to a standardized, step-by-step process that organizations use to record, classify, and summarize financial transactions in their accounting records. Accounting procedures are essential for maintaining accurate and consistent financial records, ensuring compliance with applicable accounting standards and regulations, and providing reliable financial information for decision-making.
Accounting procedures cover a wide range of activities, including:
- Recording transactions: Organizations use well-defined procedures to record financial transactions in their accounting records, typically using a double-entry bookkeeping system. These procedures involve recording journal entries to capture the debits and credits associated with each transaction and posting them to the appropriate general ledger accounts.
- Reconciling accounts: Accounting procedures include regular reconciliations of various accounts, such as bank accounts, accounts receivable, and accounts payable. Reconciliation involves comparing the balances in the accounting records with external records or supporting documents to identify discrepancies, errors, or omissions and make the necessary adjustments.
- Adjusting entries: At the end of each accounting period, organizations follow specific procedures to record adjusting entries that update account balances to reflect the correct amounts at the end of the period. These entries typically involve recognizing accrued revenues and expenses, adjusting for prepaid expenses and unearned revenues, and recording depreciation or amortization.
- Closing entries: After financial statements have been prepared, organizations use closing procedures to close temporary accounts, such as revenue, expense, and dividend accounts, by transferring their balances to the retained earnings account. This process resets the temporary accounts to zero, ready for the next accounting period.
- Preparing financial statements: Accounting procedures dictate the preparation of financial statements, such as the income statement, balance sheet, and cash flow statement, in a specific sequence and format. These statements must be prepared in accordance with applicable accounting standards, such as Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS).
- Internal controls: Organizations implement internal control procedures to ensure the accuracy, reliability, and integrity of their financial records and safeguard their assets. These procedures may include segregation of duties, authorization and approval processes, and periodic independent reviews of accounting records and financial statements.
By following well-established accounting procedures, organizations can maintain accurate and reliable financial records, facilitate financial reporting and analysis, and ensure compliance with applicable laws, regulations, and accounting standards.
Example of an Accounting Procedure
Let’s consider a small retail business, “ABC Retail Store,” to illustrate an example of an accounting procedure related to recording sales transactions.
- Sales transaction recording: When a customer purchases an item from ABC Retail Store, a sales invoice is generated at the point of sale (POS) system, indicating the item’s description, quantity, selling price, and total amount due. This invoice serves as the source document for recording the sales transaction.
- Journal entry: At the end of the day, the store’s accountant reviews the sales invoices and prepares a journal entry to record the sales transactions. The double-entry bookkeeping system requires that the accountant records both a debit and a credit for each transaction. In this case, the accountant debits the cash account (or accounts receivable, if the sale is on credit) and credits the sales revenue account for the total amount of sales for the day. If any sales tax is collected, the accountant also credits a sales tax payable account.
For example, if ABC Retail Store has total sales of $5,000 and collected $250 in sales tax for the day, the journal entry would be:
Debit: Cash – $5,250 Credit: Sales Revenue – $5,000 Credit: Sales Tax Payable – $250
- Posting to general ledger: After recording the journal entry, the accountant posts the entry to the appropriate general ledger accounts, updating the account balances accordingly. This process ensures that the financial records accurately reflect the store’s financial activities.
- Reconciliation: At the end of the month, the store’s accountant reconciles the cash account by comparing the cash balance recorded in the accounting system with the bank statement, making any necessary adjustments for outstanding checks, deposits in transit, or bank fees.
- Financial statement preparation: Using the general ledger account balances, the accountant prepares the store’s financial statements, including the income statement, balance sheet, and cash flow statement, in accordance with applicable accounting standards.
By following this accounting procedure, ABC Retail Store ensures that its sales transactions are accurately recorded, classified, and summarized in its financial records, facilitating financial reporting, analysis, and decision-making. This example demonstrates the importance of having well-defined accounting procedures to maintain accurate and reliable financial records and ensure compliance with applicable laws, regulations, and accounting standards.