Big picture
After posting all transactions to the ledger, we check the arithmetic accuracy of the books by preparing a trial balance: a list of all ledger balances. Because every debit has an equal credit, total debit balances should equal total credit balances.
But a trial balance that agrees doesn't mean the books are error-free: some errors don't disturb the totals. This chapter explains the types of errors, which ones the trial balance catches, and how to correct (rectify) them, including the use of a suspense account.
Learning goals
Explain the meaning, objectives and limitations of a trial balance, and prepare one.
Explain errors of commission, omission, principle and compensating errors.
Identify errors that affect the trial balance and those that don't.
Rectify one-sided and two-sided errors before and after preparing the trial balance.
Prepare a suspense account.
Work out the effect of errors on net profit.
Core ideas
1. Trial balance
A trial balance is a statement of the debit and credit balances of all ledger accounts (including cash and bank) on a particular date.
Objectives: to check the arithmetical accuracy of posting and balancing; to help locate errors; and to provide a summary of balances for preparing financial statements.
Methods: the balance method (lists only the balance of each account; most common) and the totals method (lists the total of each side of every account).
Rule for placing balances: assets, expenses, losses, drawings and debtors have debit balances; liabilities, capital, incomes, gains and creditors have credit balances.
Example. Prepare a trial balance from these balances on 31 March.
Account | Debit ₹ | Credit ₹ |
|---|---|---|
Capital | 60,000 | |
Drawings | 10,000 | |
Opening stock | 20,000 | |
Purchases | 60,000 | |
Sales | 90,000 | |
Returns inward | 2,000 | |
Returns outward | 2,000 | |
Debtors | 30,000 | |
Creditors | 20,000 | |
Cash | 15,000 | |
Furniture | 40,000 | |
Salaries | 12,000 | |
Rent | 8,000 | |
Bank loan | 25,000 | |
Total | 1,97,000 | 1,97,000 |
Returns inward (sales returns) have a debit balance and returns outward (purchases returns) a credit balance. Closing stock does not usually appear in the trial balance, because it is found at the end of the period.
2. Types of errors
Type | Meaning | Example | Affects the trial balance? |
|---|---|---|---|
Error of commission | Wrong recording, posting, totalling or balancing | Posting ₹2,500 as ₹5,200; posting to the wrong side; undercasting the sales book | Usually yes; but posting to the wrong account on the correct side does not |
Error of omission: complete | A transaction is not recorded at all in the books of original entry | A credit purchase is not entered in the purchases book | No |
Error of omission: partial | A transaction is recorded but one side is not posted | A credit sale to Rita is entered in the sales book but not posted to Rita's account | Yes |
Error of principle | A transaction is recorded against the fundamental principles of accounting, such as treating capital expenditure as revenue | Purchase of furniture debited to Purchases Account | No |
Compensating error | Two or more errors cancel each other out | Rita's account is debited ₹500 short and Mohan's account is credited ₹500 short | No |
Errors not disclosed by the trial balance: complete omission, errors of principle, compensating errors, and posting to the wrong account on the correct side. So an agreed trial balance is not conclusive proof of accuracy.
3. Rectification of errors
Before the trial balance is prepared
One-sided errors (affect only one account) are corrected by a note or entry in that account, without a journal entry. Example: the sales book is undercast by ₹1,000; credit the Sales Account with "By undercasting of sales book ₹1,000".
Two-sided errors (affect two or more accounts) are corrected by a journal entry.
After the trial balance is prepared (but before final accounts)
Two-sided errors are corrected by a journal entry, as before.
One-sided errors are now corrected through the suspense account. If a trial balance doesn't agree, the difference is placed in a suspense account so that work can continue; as each one-sided error is found, it is corrected with the suspense account as the other side of the entry.
4. Rectification entries: worked examples
No. | Error | Rectification entry | Type |
|---|---|---|---|
1 | Sales book undercast by ₹1,000 | Suspense A/c Dr 1,000, To Sales A/c 1,000 | One-sided |
2 | Credit purchase from Ram ₹5,000 entered in the sales book | Purchases A/c Dr 5,000, Sales A/c Dr 5,000, To Ram 10,000 | Two-sided |
3 | Furniture bought for ₹8,000 debited to Purchases A/c | Furniture A/c Dr 8,000, To Purchases A/c 8,000 | Error of principle |
4 | Payment of ₹2,000 to Mohan posted to Sohan's account | Mohan Dr 2,000, To Sohan 2,000 | Wrong account, right side |
5 | Wages of ₹3,000 paid for installing new machinery debited to Wages A/c | Machinery A/c Dr 3,000, To Wages A/c 3,000 | Error of principle |
6 | Discount allowed of ₹200 to Rita correctly posted to Rita's account but not to Discount Allowed A/c | Discount Allowed A/c Dr 200, To Suspense A/c 200 | Partial omission, one-sided |
7 | Credit sale to Arun ₹4,500 posted to his account as ₹5,400 | Suspense A/c Dr 900, To Arun 900 | One-sided |
Why entry 2 has ₹10,000 credited to Ram: the wrong entry debited Ram ₹5,000 (as if he were a customer) and credited Sales; the correct entry should have credited Ram ₹5,000 and debited Purchases. So Ram must be credited ₹10,000 (₹5,000 to cancel the wrong debit, ₹5,000 for the correct credit), Sales debited ₹5,000 to cancel the wrong sale, and Purchases debited ₹5,000.
5. Suspense account
Using errors 1, 6 and 7 above (the one-sided errors): sales undercast left the credit side short by ₹1,000; the omitted discount left the debit side short by ₹200; and Arun's overposting made the debit side ₹900 too high. Net effect on the trial balance: credits short by 1,000 + 900 − 200 = ₹1,700. So the trial balance difference of ₹1,700 was placed on the credit side of the suspense account.
Suspense Account
Dr Particulars | ₹ | Cr Particulars | ₹ |
|---|---|---|---|
Sales A/c (error 1) | 1,000 | Difference in trial balance | 1,700 |
Arun (error 7) | 900 | Discount Allowed A/c (error 6) | 200 |
Total | 1,900 | Total | 1,900 |
Once all one-sided errors are corrected, the suspense account closes with no balance.
6. Effect of errors on profit
Errors in nominal accounts (incomes and expenses) and in Trading Account items (purchases, sales, returns) affect profit. Errors only in personal or real accounts (assets, liabilities) don't.
Error | Effect of rectification on net profit |
|---|---|
1. Sales undercast ₹1,000 | Sales increase: profit up ₹1,000 |
2. Credit purchase entered in sales book ₹5,000 | Purchases up ₹5,000 and sales down ₹5,000: profit down ₹10,000 |
3. Furniture debited to Purchases ₹8,000 | Purchases decrease: profit up ₹8,000 |
4. Payment posted to the wrong person | No effect (personal accounts) |
5. Installation wages debited to Wages ₹3,000 | Wages (expense) decrease: profit up ₹3,000 |
6. Discount allowed not posted ₹200 | Expense increases: profit down ₹200 |
7. Arun overposted ₹900 | No effect (personal account) |
Net effect on profit = +1,000 − 10,000 + 8,000 + 3,000 − 200 = +₹1,800. Profit after rectification is ₹1,800 higher than before.
When errors are rectified in the next accounting period, nominal account items are corrected through a Profit and Loss Adjustment Account instead of the original nominal account.
A reliable problem-solving routine
Write down what was done (the wrong entry) and what should have been done (the correct entry).
Compare them account by account; the rectification entry cancels the wrong part and records the correct part.
If only one account is affected and the trial balance has been prepared, use the suspense account for the other side.
For the suspense account, record the trial balance difference first, then each one-sided correction; it must close at nil.
For the effect on profit, consider only nominal accounts and trading items.
Connections that matter
Special purpose books and ledger are where most errors occur (undercasting, wrong posting).
Bank reconciliation can reveal errors in the cash book.
Financial statements must be prepared only after errors are rectified.
Common mistakes
Assuming an agreed trial balance means no errors.
Using the suspense account for two-sided errors such as errors of principle.
Rectifying "credit purchase recorded as sale" with only ₹5,000 to the supplier. The supplier must be credited double.
Treating errors in personal accounts as affecting profit.
Including closing stock in a trial balance when it has not been adjusted through purchases.
Revision checklist
I can prepare a trial balance and state its objectives and limitations.
I can identify the four types of errors and say whether each affects the trial balance.
I can rectify one-sided and two-sided errors before and after the trial balance.
I can prepare a suspense account that closes at nil.
I can calculate the effect of errors on net profit.