CHAPTER 4 Business transactions 125Chapter 4 preview
This chapter describes the typical characteristics of business transactions and illustrates the differences
between business transactions, personal transactions and business events. It provides examples of busi-
ness transactions and illustrates the concept of duality as applied to the accounting equation. The process
and benefits of recording business transactions in the accounting worksheet are then explained. Common
errors involved in recording transactions, such as transposition errors, are described with accompanying
illustrative examples. A short introduction to recording in journals and ledgers is also provided towards
the end of the chapter. The chapter concludes with an explanation and illustration of the trial balance.
4.1 Recognising business transactions
LEARNING OBJECTIVE 4.1 Describe the characteristics of business transactions.
Business transactions are occurrences — exchanges of resources between the entity and another entity or
individual — that affect the assets, liabilities and owners’ equity items in an entity. A business transaction is
recorded in the accounting information system when there has been an exchange of resources between one
business and another person or business, and where that exchange can be reliably measured in monetary
terms and occurs at arm’s length distance. An arm’s length distance transaction can be described as being:
where the parties are dealing from equal bargaining positions, neither party is subject to the other’s control or
dominant influence, and the transaction is treated with fairness, integrity and legality. If discovered by a taxing
authority, the absence of an arm’s length transaction may result in additional taxes incurred resulting from
transfer at less than fair market value. (Dictionary of Small Business, http://www.small-business-dictionary.org)Every type of entity — sole proprietor, partnership, company and trust — must keep records of its busi-
ness transactions separately from any personal transactions of the owner(s). This is known as the entity
concept, and it means that the owner of a business should not include any personal assets on the entity’s
balance sheet, as this statement must reflect the financial position of the business alone. For this reason,
the balance sheet is also known as the statement of financial position. The entity concept also applies to the
personal expenditures of the owner, which should not be included in the entity’s expenses in the statement
of profit or loss, as this statement must reflect the financial performance of the business alone. Personal
expenditures of the owner that involve the business entity’s funds are known as drawings.
For every business transaction that occurs, there must be evidence provided of that transaction, and the trans-
action must be measurable in monetary terms. The evidence can come from a number of source documents.
Source documents are the original documents verifying a business transaction. They include the following:
- sales invoices
- purchase orders
- ATM receipts.
Examples of business transactions
The frequency and type of daily business transactions will vary greatly among entities. Some entities will
have hundreds of transactions every day — small, large, cash and credit business transactions. Consider JB
Hi-Fi Ltd — every day, thousands of transactions would be recorded. Some transactions would involve very
small sums of money, while others would represent large purchases or sales. Some of JB Hi-Fi Ltd’s trans-
actions would involve the exchange of cash for goods or services — known as cash transactions — but
some would be classified as credit transactions, where an amount will be paid or received at a later date.
Typical transactions for entities include:
- contribution of capital by owner(s)
- payment of wages
- receipt of bank interest
- payment of GST