'Business Transaction' Definition:

Business transactions refer to activities and events that affect the financial position of a business and are capable of being assigned monetary values. Business transactions are recorded in the books of the business and summarized in financial reports.

  1. Definition of business transaction
  2. Characteristics
  3. Examples
  4. Two-fold effect on accounting elements
  5. Business transactions and the accounting equation

Characteristics of Business Transactions

A business transaction must have the following characteristics:

  • It must be for a sum certain in money (i.e., of a financial value)
  • It must be supported by a source document (e.g. sales invoice, official receipt, disbursement voucher, remittance advice, etc.)
  • It must have a two-fold effect in the elements of accounting

A business transaction can either be an exchange transaction (involves physical exchange of values such as sale, purchase, payment, etc.) or a non-exchange transaction (does not involve physical exchange (e.g. loss from flood, fire loss, internal production, depreciation, etc.)

Examples of Business Transactions

  1. Investment of cash or other assets by the owners
  2. Withdrawal of cash or other assets by the owners, and distribution of dividends
  3. Borrowing of cash from other entities for business use
  4. Payment of borrowings
  5. Sale of goods or services (either for cash or on credit/account)
  6. Collection of receivables from customers and other entities
  7. Acquisition of assets or services (either for cash or on credit/account)
  8. Payment of payables to suppliers or other entities
  9. Consumption or expiration of assets (such as use of office supplies and expiration of insurance, expiration of rent, depreciation of equipment, etc.)

Two-Fold Effect on the Elements of Accounting

Every business transaction has a two-fold effect in the elements of accounting. The elements of accounting are assets, liabilities, and capital. The two fold-effect means that for every value received, there is an equal value given.

Business Transactions and the Accounting Equation

The two-fold effect of business transactions keeps the accounting equation in balance. Assets should always be equal to liabilities plus capital. To illustrate, here are some examples.

Transactions Assets = Liabilities + Capital
1. Cash investment of owner + Cash = N/A + + Owner's Capital
2. Borrowed cash from bank + Cash = + Payable + N/A
3. Purchased equipment for cash + Equipment
- Cash
= N/A + N/A
4. Paid business licenses - Cash = N/A + - (Expenses)
5. Paid water and electricity used - Cash = N/A + - (Expenses)
6. Purchased tables, 50% cash and 50% on account + Furniture
- Cash (50%)
= + Payable (50%) + N/A
7. Received cash for services rendered + Cash = N/A + + Revenue
8. Rendered services on account + Receivable   N/A + + Revenue
9. Collected customer accounts + Cash
- Receivable
= N/A + N/A
10. Owner withdrew cash from the business - Cash = N/A + - (Drawings)

In each of the transactions above, the accounting equation stays in balance. Expenses and withdrawals made by owners decrease capital, hence they are shown as deductions from capital. Investments of owners and revenues, on the other hand, increase capital.

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