Business Entity Concept

In accounting, we treat business and the owners two different person. This is we called as Business Entity Concept. All the transactions which are relevant to the owner(s), are treated separately and are not mixed with accounting for business. This concept is also called Economic Entity concept.

Care should be taken in accounting for group of companies. Under such circumstances, parent or holding company’s accounts are consolidated. So, here there is no contradiction of Business Entity Concept. 

Example

1. A CA has acquired a three room office for $3,000 monthly rent. He use 02 rooms for its living while 01for office purpose. CA will record only 1,000 for his CA business over the business entity concept. Other $2,000 relates to his own personal use and should not be included in his business transactions.

2. The CA paid $300 electric bill for the 03room office. He paid the entire bill amount from the business bank account. In this case, $200 will be considered as the drawing from the business.

Question

Sigma Plc is engaged in developing solar panel for the local market as well as for international clients. Following information is available for Sigma Plc:

1. One of its owner Mr. John has given a loan of $1,000,000 to meet the cash flow problem of the company,
2. The current premise of the office is the property of who receives a rent of $12,000 annually.
3. The owner of the company paid telephone & internet bills of the company via his own credit card amounting to $500.

Required:How you will treat the above transactions in the books of accounts.

Solution

1. Under Business entity concept, owners are treated separate from the company and as a result, the money received from them should be recognized as loan from owners and disclosed as either current liability or long term liability depending upon the terms and conditions set out for the returning of the loan.

Journal entry

2. The rent paid toowner for using his premises should be recorded as rent expense and accrued rent should be recorded accordingly:

Journal entry

3. The telephone & internet bill paid by the owner is not a payment of the business. So, it should be treated as the capital invested into the business or a liability payable to the owner on account of paying bills for company.

Journal entry