Chapter 22 - Simplified Records for Income Tax Controls

Purpose of this chapter | Flexibility and basic requirements of an accounting system | The journal | Posting to the ledger | Advantages of multi-column journals | Design of the multi-column journal | Test of accuracy | Installation of the multi-column journal | Analysis of format | Posting to the ledger | Explanation of some entries | Depreciation | Trial balance | Profit and loss statement | Balance sheet

This chapter is especially designed to aid the owner of a single unit food service operation doing less than $200,000 gross sales annually to install a simplified set of records for tax and control purposes.

Flexibility in Accounting Systems

Regarding the need for tax records, the rules and regulations of the Internal Revenue Service state that all business organizations must keep adequate records to reflect clearly taxable income. To comply with this ruling the records must show all the sales of the operation and all the expenses that were incurred to create taxable income. Note that nowhere in the internal revenue code nor in the expanded rules, regulations, or interpretations is mention made that taxpayer must keep a certain set, type, or number of books. The taxpayer is free to choose or design any record or set of records for income tax purposes. He is only limited to the end that the records selected accurately reflect income of the operation.

Consequently all that is needed for the food service operation is one or more journals to record chronologically all the transactions that affect the business, and one or more ledgers containing all the accounts of the business. In an average operation one journal and one ledger may be sufficient for income tax purposes.

THE JOURNAL

The journal in any operation as previously noted is used to provide a daily record of all the transactions affecting the business unit, to identify each transaction so that it can be later posted to the proper account in the ledger, and to indicate if the transaction created an in­crease or decrease in the account involved. In its most simple form, the journal is a book containing columns for the date, for explanation of the entry, for posting reference, for debit, and for credit.

Date		Explanation	Ref.	Debit		Credit
Oct	1 2	Cash receipts Food Sales	P P	600	–	600	–

This two column journal records that on October 1st $600 obtained from food sales were added to cash receipts. Since the source of the value was food sales this account is credited with $600 and the ac­count cash receipts showing what was done to the money received from sales is debited $600.

Posting to the Ledger

The cash-on-hand account below indicates how the posting is made to the accounts in the ledger. The reference J-l on the account shows that the posting originated from the first page of the journal and the check mark in the reference column of the journal shows that the com­plete transaction has been posted.

Cash on Hand
Debit	Date	Ref.	Explanation	Credit	Balance
	9/30				800.00
600.00	10/1	J-l	Sales Receipts		1400.00
	10/1	J-2	to Petty Cash	200.00	1200.00
	10/1	J-4	to First National	800.00	400.00

Advantages of Multi-Column Journals

The process of recording the transaction in the journal and posting of figures to the various accounts is very time consuming and laborious. With the traditional two column journal each debit and credit of every business transaction must be posted to the accounts in the ledger. To save time required in posting, to conserve space in the journal, to aid in analyzing and classifying the various debits and credits, the obsolete two column journal has been replaced by the multi-column and special journals.

Since the purpose of this chapter is to show how any food service operation with less than $200,000 annual sales can install a complete accounting system with only one journal and one ledger the use of special journals will not be discussed. The problem of installing an accurate accounting system with one multi-column journal revolves around two basic points: the construction or design of the journal with appropriate columnar headings and the record of underlying memo­randa such as waiters checks, register readings, deposit tickets, and petty cash vouchers.

Design of the Multi-Column Journal

The design of the journal is relatively simple if the business enter­prise has been in operation for some time. In this case all that is re­quired is to study the past transactions of the business and determine the frequency of entries in each account. Each column is then headed with the names of the accounts that are used the most. Entries to the remaining accounts are then recorded in one or more miscellaneous columns. If the operation is newly established and there are no past expenses to guide the selection of columnar headings, the owner selects the headings by anticipating the type of transactions that will occur most frequently.

In an average restaurant there are certain transactions that occur at least daily if not more frequently. Typical of these transactions are receipts from sales, sales tax liability, cash receipts and disbursements, purchases of food, paper, cleaning supplies, and other items. To illus­trate the construction of a multi-columnar journal see page 263.

The multi-columnar journal shows that on October 1st the follow­ing transactions took place:

1.  Food sales were $600.00, State Sales Tax collected $18.00, total cash receipts $618.00. Since the money came from food sales and sales tax $600.00 was credited to food sales and $18.00 to sales tax by entering this amount in their proper columns and $618.00—the total receipts were debited to the cash account in its respective column.

2.  The owner purchased meat from Wilson Meat Co. for $80.00, gave them a check for $40.00 and obtained credit on the remaining amount of the bill. Accordingly, the food purchase column was debited $80.00, the bank account and the accounts payable columns credited with $40.00 each.

3.  The owner purchased a toaster from American Supply. He paid this in full by drawing a check for $110.00. This is an expense that will be capitalized—cannot be written off as a current operating expense. The $110.00 is entered in the general ledger column and the bank is credited for this same amount.

4.  $600.00 was taken from the cash register and deposited to the First National Bank. Consequently the source of the money is credited with $600.00—a credit to cash—and the transposition of the money to the bank indicated by debiting $600.00 to the bank deposit column.

Note how use of a multi-column journal aids in classifying the various debits and credits to each account. The principal advantage of this type record is the time saved in posting to the accounts. Instead of posting the numerous debit and credit entries to the respective accounts daily, the columnar totals can be posted once at the end of the month. The only transactions that should be posted daily are those that are not analyzed in the miscellaneous and general ledger columns.

Test of Accuracy

Before posting the columnar totals to the accounts a test should be made to see if the total of the debits is equal to the total of the credits. This is a "presumptive test" of accuracy. For example, in this journal, this is done as follows:

Debits		Credits
Cash	17,800	Cash	17,300
Cash Disb	17,300	Sales	17,000
Food Purchases	700	Sales Tax	510
Misc Expenses	175	Bank Disb	675
Gen Ledger	110	Accounts Payable	600
	36,085		36,085

Installation of Multi-Column Journal

To illustrate how an operator of a food service operation can logi­cally construct and install a single multi-column journal as a record of transactions and as an efficient device for posting to the accounts in the ledger, consider owner "A" and his operating plan.

"A" plans to operate a food service unit that will concern itself only with the sale of food. Depending on the purveyors involved, he expects to obtain 30 days credit for most of his food, paper, and cleaning sup­plies. The supplies not purchased with credit will be paid for by check if the amount is more than $2.00 and from petty cash fund if less than $2.00. He plans to purchase ice daily and for control purposes he desires that ice, and repairs and maintenance be accounted for separately. Payroll and employee and employer taxes will be accounted for on a weekly basis. All other expenses such as rent, power, water, fuel, telephone and telegraph are billed monthly. He wants a simplified ac­counting system installed with one journal and one ledger.

Since he plans to sell only food he will need only one column headed food sales. If other type sales were contemplated such as alcholic beverage, additional sales columns would be needed. Moreover, since cash will flow in through sales and out through minor cash disburse­ments and deposits to the bank, a column for cash receipts and dis­bursements and a column for petty cash will be needed. If the state in which he is operating levies a sales tax on food sales, a column will be needed to accumulate the daily tax receipts. In this case no state tax is levied, therefore no column is needed.

Regarding the food, paper, cleaning and other supplies which he plans to purchase both with credit and cash he will need a column for each classification: food, paper, and other supplies, and one column headed "accounts payable" to accumulate the various charges and credits pertaining to his current creditors. He wants to make a single summary entry to these accounts. Consequently at the end of each operating day he will separate his various purchase sources first by account category, classifying each invoice according to the purchase classifications of food, paper, and other supplies, and subsequently separate the paid from the unpaid invoices. The total of all the unpaid invoices will be recorded in the accounts payable column with one entry. The total of paid and unpaid bills in each classification will be recorded in their appropriate columns also with a single entry.

Expenses of operation that are billed monthly should have a separate column of their own headed "monthly expenses." In addition two columns will be needed: one headed miscellaneous expense: the other, general ledger. The format of the multi-column journal for this opera­tion is seen on pages 265 and 266.

At the end of the month the totals of the columns are checked to determine that the total of the debits equals the total of the credits and the various entries are posted to the accounts.

As always a left hand entry indicates a debit to the account and a right hand entry, a credit. After all entries have been posted, the balance of the account is determined by noting the difference between the two sides of each account. If the total of the debit side is greater than the total of the credit side of an account the amount credited is subtracted from the amount debited and the balance is entered on the debit side. Similarly, if the amount on the credit side is greater, the account will have a credit balance.

THE LEDGER

A ledger is a book, or a record containing a group of accounts. When a single ledger contains all the accounts needed for the prepara­tion of the profit and loss statement and the balance sheet, the ledger is called a general ledger. If a group of accounts such as accounts re­ceivable are removed from the general ledger, the record containing this classification of accounts is known as a subsidiary ledger.

The number of accounts needed in any restaurant is based on the number of different type business transactions that occur in operating the enterprise and the amount of detail information management will need to operate profitably. For example, if both food and alcoholic sales are contemplated and management wishes to compare the efficiency of the two sales departments, four accounts will be needed: an account each for food sales, alcoholic sales, food purchases and alcoholic pur­chases. In this manner, management can later determine the relative efficiency of his sales departments by sales and cost of sales of the food department with the sales and cost of sales of the beverage department.

On a different note, management may not wish to accumulate de­tails of cost associated with minor items such as the purchase of sta­tionery, napkins, paper cups, menus. In this case he will classify all such expenses in one account called paper supplies.

After the number of accounts needed for the enterprise is determined the accounts are placed in a logical sequence in the general ledger. The customary format of the ledger is that the balance sheet accounts are listed first and the profit and loss accounts are listed last. Generally the first section of the ledger containing the balance sheet accounts is opened with current assets such as cash in the bank, cash on hand, inventories, followed by fixed assets such as equipment, building, and land. These accounts are followed by current and fixed liabilities which are in turn followed by the proprietorship accounts.

The second section of the ledger containing the sales, various ex­penses, and income is designed to follow the same logical pattern of the profit and loss statement.

Using one multi-column journal and one ledger assume that the balance sheet dated June 30, 1960 on page 251 is the previous bal­ance sheet of restaurant "A."

1.  The individual accounts in the ledger on June 30th would have the following net balances. The only change made is the $500.00 taken from the bank and posted to the Cash on Hand account.

Cash on Hand			Cash in Bank			Food Inventory			Equipment
500			9,500			2,000			20,000

Air Conditioner			Building			Land			Accounts Payable
6,000			15,000			5,000				2,000

			Notes Payable			“A” Capital
				6,000			50,000

2.  The multi-column journal for July 31, on pages 265 and 266 shows that for the month of July the following accounts were added to the ledger and that the column totals of the special columns were posted to the accounts in the ledger as follows:

Cash on Hand				Cash in Bank				Petty Cash
J.30 bal	500			J.30 bal	9,500			40	38
	18,220	18,270			17,900	12,900		2
	18,720	18,270			27,400	12,900
	450				14,500

Food Inventory					Equipment			Food Purchases
J.30 bal	2,000				20,000			7,500	7,500	(1)
(1)	7,500
(2)	9,500	7,500	(4)
(3)	2,000		cost of goods sold

Air Conditioner			Building			Land			Accounts Payable
6,000			15,000			5,000			6,800	2,000 7,300	J.30 bal
									6,800	9,300
										2,500	(5)

Notes Payable			Capital			Sales			Paper Supplies
	6,000			50,000      J.30 bal (9)			18,200		68

Cleaning Supplies			Ice			Repairs & Maint.			Cash Wages Earned
47			85			70			(10) 7,480

F.O.A.B Tax Payable			Withholding Tax Payable			Fuel			Rent
	272   (8)			2,108  (9)		105			500

Tel. & Telg.			Water			Power			Misc. Expenses
28			32			176			37

Cost of Food Sold			Equipment Depreciation			Allowance for Depreciation
(4)  7,500			(6)  100				100   (7)

(a) Note that the food inventory account is debited $7,500.00, the value of food purchased during the month to obtain the cost of food sold during the month. The logic for following this procedure can be demonstrated as follows:

Beginning Inventory                                             $2,000.00
plus food purchased                                               7,500.00   (1)
equals total food available                                      9,500.00   (2)
less end of the month inventory                              2,000.00   (3)
equals cost of food sold                                          7,500.00   (4)

Check the food Inventory account on page 259 and see how this determination can be carried out through the use of debits and credits. The food purchases account is closed with a zero balance by a credit of $7,500.00 (1). The food inventory account is subsequently debited $7,500.00. (1). The total balance of $9,500.00, (2). is determined by adding $2,000.00 plus $7,500.00. After the ending physi­cal inventory shows that only $2,000.00 worth of food was left, the ending inventory of $2,000.00 is debited to the account, item (3) and the difference between total food available and ending inventory: $7,500.00 is credited to the food inventory accounted and debited to the cost of food sold account, item (4).

This procedure can be further simplified by eliminating a food purchase account and by posting all food purchased to the inventory account.

Theoretically all supplies such as paper, cleaning, and other inventories should be accounted for in a similar manner. For purpose of illustration only the food inventory account is shown. Where inventories have been omitted, their values may be considered negligible or minimal. In this instance the total purchases of $60.00 for paper sup­plies and $47.00 for cleaning supplies has been written off as current expenses.

(b) The treatment of accounts payable, item (5) on page 259, is an excellent example of the use of a control account. Ordinarily the general ledger includes all the accounts of the business including an account for each purveyor from whom purchases are made on credit. When a purchase is made on credit, the purchase column of the journal is debited, and the individual account payable is credited. Every purchase on credit involves a daily entry to the in­dividual "accounts payable." Because the determination of the trial balance is too long and unwieldy with numerous accounts in the accounts payable section of the ledger and because of the difficulty in locating errors, and the compli­cation of adding and eliminating accounts in alphabetical order as business, customers, or creditors change, all the individual accounts of the accounts payable section are re­moved from the ledger and one account is substituted called a control account.

The control account is simply an account in the ledger that summarizes all information pertaining to that classifi­cation that appears elsewhere. In the case of the accounts payable control, the account summarizes for the owner the current information pertaining to the total amount of money owed to creditors.

The details of the individual sums owed each purveyor usually appear in a subsidiary ledger called accounts pay­able ledger.

Owner "A" does not want to operate with more than one ledger, so the file of unpaid bills is his subsidiary ledger. Some time during the day, the total purchases are divided into purchases made on credit and cash purchases. An add­ing machine total is taken of the purchases made on credit and the amount is credited to the accounts payable control column. See the third entry of $180.00 entered in General Journal, pages 265 and 266.

The invoices are later filed alphabetically by creditor's name in a purchase file. When the creditors send their monthly statements, each statement is compared with the individual list of paid and unpaid invoices pertaining to the creditor in the purchase file.

(c)  Whenever a capital investment is made for an asset and the asset has a reasonably predictable life, the problem of accounting for the disappearance of capital investment arises.
This disappearance of value from the time an asset such as
a potato peeler is put into use until the time it is replaced or
physically deteriorated is called "depreciation."

A depreciation charge should be made during each ac­counting period reflecting as accurately as possible the dis­appearance of value for each tangible asset having a pre­dictable life. In this example tangible assets such as the building, or air conditioner should each have a depreciation account.

For purpose of simplification and illustration only the equipment account has been set up with a depreciation charge.

There are several methods of determining the proper charge to make for depreciation. In this instance, the pre­dictable life was determined to be approximately 200 months and the straight line method was used by dividing the cost of the equipment by the number of months of its expected life arriving at a monthly depreciation charge of $100.00.

The charge of $100.00 is shown on item 6, page 260. This charge will later appear on the profit and loss state­ment as depreciation expense for the period. To reflect the change in the value of the equipment a contra-asset ac­count allowance for depreciation is set up, item 7, which will later appear on the balance sheet modifying the book value of the equipment.

(d)  The fifth entry in the general journal illustrates one method of accounting for payroll. The total wages earned for the week were $1,800.00. From this payroll deduction of $76.00 for F.O.A.B. tax and $724.00 for withholding tax were made. This means that the employees received only $1,000.00 as cash wages. Consequently, the total payroll cost of $1,800.00 is debited to wages earned, $1,800.00 is credited as bank disbursement, $76.00 and $724.00 cred­ited to F.O.A.B. tax payable and withholding tax payable respectively.

At the end of the month or accounting period, the total of the column Wages Earned in the general journal is posted to the account wages earned in the ledger, item 10, page 260, subsequently appears on the profit and loss state­ment as the payroll expense for the period.

In a similar fashion, the columnar totals of F.O.A.B. tax and withholding tax payable are posted to their respective accounts in the ledger, items 8 and 9, page 260, and sub­sequently appear on the balance sheet as current liabilities.

3.  Before the Balance Sheet and the Profit and Loss Statement are made a total balance is taken to check the equality of debits and credits and to make any necessary adjusting entries for the period. After the adjustments are made the balance sheet and profit and loss statement are constructed. See page 264.

GENERAL JOURNAL

GENERAL JOURNAL

Are You Ready To Move Onto The Next Lesson? Click Here...