Simulation Quarter 4: Creditors & VAT
This level introduces creditors and shows how to process creditor related transactions including bills, bill payments and part-payment of bills.
Also introduced is VAT, and the VAT functionality will need to switched on in whatever software is in use so it can be accounted for.
Downloads required
Cash Receipts
Narrative
Because his business is growing, and having registered for VAT, starting from 1 July 2011 Alex now updates his stationery and adds VAT at20% to all his sales, and is entitled to recover the VAT charged to him.
Some of his customers are not happy with the extra charge and he finds he has to adjust one of the cash receipts (tx-169) and one of the invoices (tx-145) to 'absorb' the VAT.
He's agreed a contract with a local residents' home to charge a monthly fee for an agreed schedule of services, including mowing the grass of some very large grounds. This new contract entails some costs and he hires a ride-on mower and pays to dispose of the cuttings. He is then made an offer to buy the mower outright from the hire company. He agrees on condition he can put off payment for a while, but in the meantime the hirer has already given him a rental bill for the next session, so a credit note is given to him for this.
In order to carry out this new contract and the existing work he takes on an assistant. He agrees that he will pay him on a freelance (self-employed) basis, although he's been advised by his book-keeper he may need to make him an employee.
He's also trying to build up the items he can re-sell at a profit and agrees to provide some window boxes for Albert Daly Ltd. When he's paid for the first of two invoices (tx-152), this customer rounds the invoice down to £100, so Alex raises a credit for the difference. He then finds out that the second invoice (tx-156) is a bad debt so he has to write this off.
He hears he needs Public Liability insurance and he also wants to ensure his equipment is insured so he takes a combined policy out with an online insurer, Sardonic Insurance (tx-158).
He decides to take out a contract on his phone rather than use pay-as-you-go and the first bill for this comes through (tx-170). He's also given an old laptop and a local firm say they can recondition it for him (tx-160). However, before he pays them he finds out that it's very unreliable and so he pays them half and says he'll pay the balance when they have fixed the bugs.
Processing
Income
Enter the sales invoices and cash sales in the normal way, and then enter the bank receipts to match them against the sales invoices where appropriate. Enter the credit note (104) to write-off short payment of invoice 1015.
You also need to enter a second credit note for the bad debt (invoice 1016). This adjustment should debit a new expense account called 'Bad Debts' and should leave the customer with a zero balance. There is no simulated document for this adjustment.
Expenditure
Enter the cash and bank payments as before, although this time recover the VAT on the costs fromGardener's Grotto, Colin's Concrete and Jucko's Store. VAT has been charged on the entertaining expense at the Red Lion, but this is not recoverable. There is no VAT to recover on the travel and parking costs.
Create a new expense account called 'Freelance Labour' for the two payments for Gardening Assistance.
Create a new expense account for 'Insurance'. Note that the Insurance Premium Tax charged is not the same as VAT and not recoverable.
The bills should be entered, as well as the credit note against the mower hire. Make new accounts for 'Machinery Hire' and 'Waste Disposal'. Allocate the cost of fixing the laptop to a new account called 'Office Costs'.
The bill for the mobile phone is a mixture of personal and business costs and needs to be 'apportioned'. Alex has indicated that he thinks 50/50 is a fair split between his business and personal costs. The allocation of cost therefore needs to be split between 'Drawings' for the half that is personal, and 'Telephone/VAT' for the business half. Extract the VAT only from the business half.
Reconciliation & Assessment
There are now five control accounts in use: Cash, Bank, Accounts Receivable, Accounts Payable and VAT.
Reconcile the cash and bank account to the statements provided. One of the cheques that was previously outstanding has now been cashed.
Run the Trial Balance, Profit and Loss and Balance Sheet reports and check they match up.
Run the VAT function in the book-keeping software to calculate the VAT due or recoverable. It should agree to the value in the Trial Balance.
Review the outstanding debtors - are they what you expect? When there's no independent statement to check against, use logic and common sense instead.
Run an 'Aged Creditors Report'. There should be four suppliers owed various amounts of various ages.
Observations
- The VAT directly affects Alex's customers who are not registered for VAT, adding 20% to the cost for them. When Alex agrees to absorb the VAT he loses money by giving a part of his income to the tax man.
- At the end of the year, there is more money owed to creditors, including trade creditors and VAT, than there is in the bank. The bank goes overdrawn temporarily, even though Alex hasn't paid all his bills and is making a profit.
- The insurance bill includes an element that is 'prepaid'. The financial year of Alex's company ends on the 31 March 2012, but the policy continues for a considerable period afterwards. A prepayment adjustment will be made to correct this distortion as a part of the year-end in the next section.
- Conversely, the mobile phone contract shows that there is a period in the year that has not yet been billed - 23 March to 31 March. This and any other 'accruals' will need to be adjusted for in the year-end as well.
VAT
Now the processing for the quarter is complete the VAT needs to be declared. Before this though, there's some bad news from Alex and some adjustments to make for the year-end
Next steps: Year-end