The Bumpy Road of Accounting: Navigating Common Challenges for Students
Accounting is often regarded as one of the more difficult subjects in academia, and for good reason. The precision, logical flow, and attention to detail required in accounting can sometimes feel overwhelming. Whether you’re a first-year student starting to learn about journal entries, or an advanced student grappling with complex financial statements, you’re likely to face several common challenges along the way. This tutorial explores those hurdles and provides practical examples to help you navigate them successfully.
Common Problems in Accounting
1. Understanding Journal Entries
For many accounting students, one of the first and most fundamental challenges is understanding journal entries. These are the building blocks of all accounting records and are used to document financial transactions. Journal entries must follow the “double-entry” accounting system, which means that every transaction affects at least two accounts—one is debited, and the other is credited. Understanding how to create accurate journal entries can be tricky, especially when dealing with complex transactions.
Example Problem:
Let’s say your company has purchased office supplies on credit for $500. This involves two accounts: “Office Supplies” and “Accounts Payable.”
The journal entry for this transaction would look like:
| Account | Debit | Credit |
|---|---|---|
| Office Supplies | $500 | |
| Accounts Payable | $500 |
Explanation:
- Office Supplies is an asset account, and when it increases, it is debited.
- Accounts Payable is a liability account, and when it increases, it is credited.
2. Accruals vs. Cash Basis Accounting
A common problem that students face is distinguishing between accrual basis and cash basis accounting. The main difference between the two is the timing of when revenues and expenses are recognized.
- Accrual accounting recognizes revenues and expenses when they are incurred, regardless of when the cash is actually received or paid.
- Cash basis accounting only recognizes revenues and expenses when the cash is actually exchanged.
Example Problem:
Imagine you have provided a service worth $1,000 in December, but the client will pay you in January. Under accrual accounting, you would record the revenue in December, the month you provided the service, even though the cash hasn’t been received yet.
| Account | Debit | Credit |
|---|---|---|
| Accounts Receivable | $1,000 | |
| Service Revenue | $1,000 |
Under cash basis accounting, you would wait until January to record the transaction, when the cash is actually received.
3. The Trial Balance Challenge
The trial balance is an important tool that helps you verify the accuracy of your journal entries. However, students often struggle to create and understand the trial balance, especially when there are errors in the journal entries. The trial balance lists all the accounts and their balances, ensuring that total debits equal total credits.
A common mistake is when debits and credits do not match, indicating that there was an error in recording transactions. Finding this mistake requires careful examination of each entry.
Example:
Let’s say your trial balance shows the following:
| Account | Debit | Credit |
|---|---|---|
| Cash | $5,000 | |
| Accounts Receivable | $3,000 | |
| Service Revenue | $8,000 | |
| Accounts Payable | $4,000 |
In this case, total debits amount to $8,000, and total credits also amount to $12,000, which indicates an imbalance. The discrepancy of $4,000 must be investigated by checking each journal entry to identify where the error occurred.
4. Depreciation Confusion
Another common problem that accounting students face is understanding depreciation, particularly how to calculate it and record the journal entries. Depreciation is the allocation of the cost of a fixed asset over its useful life.
The most common method of depreciation is straight-line depreciation, where the asset’s cost is divided evenly over its useful life.
Example Problem:
Let’s say you purchase a machine for $10,000, and its useful life is 5 years with no residual value. The annual depreciation would be: Annual Depreciation=10,0005=2,000\text{Annual Depreciation} = \frac{10,000}{5} = 2,000
The journal entry to record depreciation at the end of each year would be:
| Account | Debit | Credit |
|---|---|---|
| Depreciation Expense | $2,000 | |
| Accumulated Depreciation | $2,000 |
Explanation:
- Depreciation Expense is an income statement account and is debited to recognize the expense of using the machine.
- Accumulated Depreciation is a balance sheet account that reduces the carrying value of the asset.
5. Financial Statements and Closing Entries
One of the last major hurdles accounting students face is creating and understanding financial statements, including the income statement, balance sheet, and statement of cash flows. After journal entries have been made throughout the period, students must learn how to prepare these statements and the corresponding closing entries.
Example:
Let’s assume the following balances at the end of the period:
- Revenue: $10,000
- Expenses: $6,000
- Assets: $15,000
- Liabilities: $5,000
First, you would prepare an income statement to calculate the net income:
| Account | Amount |
|---|---|
| Revenue | $10,000 |
| Expenses | ($6,000) |
| Net Income | $4,000 |
Next, prepare the balance sheet:
| Account | Amount |
|---|---|
| Assets | $15,000 |
| Liabilities | $5,000 |
| Equity | $10,000 |
The closing entries would then zero out the temporary accounts (revenues and expenses) and transfer the net income to the equity account.
| Account | Debit | Credit |
|---|---|---|
| Revenue | $10,000 | |
| Retained Earnings | $10,000 | |
| Expenses | $6,000 | |
| Retained Earnings | $6,000 |
This ensures that the next period starts fresh with zero balances in the temporary accounts.
6. The Struggle with Financial Ratios
Many accounting students also struggle with interpreting financial ratios. Financial ratios provide important insights into a company’s performance and financial health, but understanding how to calculate and analyze them can be overwhelming.
Some common ratios include:
- Liquidity Ratios (like the Current Ratio)
- Profitability Ratios (like the Return on Assets)
- Solvency Ratios (like the Debt-to-Equity Ratio)
Example Problem:
Let’s say the following information is provided:
- Current Assets: $20,000
- Current Liabilities: $10,000
The current ratio is calculated as follows:
This means the company has $2 in assets for every $1 in liabilities, indicating a strong liquidity position.
Practice Questions
1. A company purchases equipment for $3,000 in cash. Prepare the journal entry.
2. A business provides consulting services worth $2,500, but the payment will be received in the next month. Prepare the journal entry under accrual accounting.
3. A company accrues $1,200 in wages to be paid next month. Prepare the journal entry for this transaction.
Answers:
1. Journal entry for purchasing equipment:
| Account | Debit | Credit |
|---|---|---|
| Equipment | $3,000 | |
| Cash | $3,000 |
2. Journal entry for providing consulting services:
| Account | Debit | Credit |
|---|---|---|
| Accounts Receivable | $2,500 | |
| Service Revenue | $2,500 |
3. Journal entry for accruing wages:
| Account | Debit | Credit |
|---|---|---|
| Wages Expense | $1,200 | |
| Wages Payable | $1,200 |
Conclusion
Accounting is a challenging field, but understanding and overcoming the common hurdles can make the learning process much smoother. By practicing journal entries, mastering accrual accounting, preparing financial statements, and interpreting financial ratios, you’ll become more confident in your ability to handle the complexities of accounting. Remember, the key is practice and persistence—keep working through examples, and you’ll soon see your skills and understanding improve!
