Accounting: Adjusting Process

Accounting: Adjusting Process

The Adjusting Process

 

Adjusting the books: updating accounts at the end of a period

Adjusting journal entries: journal entries needed to adjust the books

 

Two ways to do accounting:

  • Accrual Accounting– records the effect of each transaction as it occurs
  • Cash-Basis Accounting– records upon actual payment

 

Liquidation: Process of going out of business

 

Revenue Recognition Principle:

  • When to Record- when to make a journal entry
  • Amount of revenue to record

 

Matching Principle: Guides accounting for expenses

  • Measures all the expenses incurred in a period
  • Matches expenses against revenues in same period

Matching principle allows net income to be calculated

Revenues – expenses = net income

 

Time Period Concept- requires that information is reported at least annually

 

Unadjusted Trial balance- before adjusting entries are added

 

Accounting: Adjusting Process

Accounting: Adjusting Process

 

 

Adjusting entries: assign revenues and expenses to the period they are earned or incurred

  • Net income on income statement
  • Assets and liabilities on balance sheet
  1. Adjusting Entries never involve cash account
  2. Adjusting entries increase revenue or increase expense
  3. Information is worded as “accrued”

 

Two Categories for Adjusting Entries:

  • Prepaids (deferrals)- recognition of revenue or expense is deferred to a date after cash is received
  • Accruals- records an expense before payment or records a revenue before cash is received

Five Types of Adjusting Entries

  • Prepaid expenses
  • Depreciation (prepaid)
  • Accrued Expenses
  • Accrued revenues
  • Unearned Revenues (prepaid)

Prepaid expenses are considered assets. Rent and insurance is an example

Asset that has expired is an expense

 

Depreciation:

Plat assets- long lived assets used in operation of a business, land, buildings…

Land does not depreciate

Have to have separate accounts for depreciation

Example: Furniture and accumulated depreciation-furniture

 

 

 

Accumulated Depreciation Account:

Accumulated Depreciation- sum of all depreciation recorded for an asset

  • Is a contra asset
  • Contra Account- paired with and follows related account
    • Has opposite balance of related account

Assets                                                                        Expenses

Normal Asset                                    Contra Asset

Furniture                           Accumulated Depreciation-Furniture       Depreciation Expense-furniture

Debit            credit                Debit                        Credit                       debit                Credit

May 1 10,000                                                                  May 31 300    May 31 300

Bal 10,000                                                                      Bal 300              Bal 300

 

Expenses have a debit-balance account

 

Book value: net amount of a plant asset

 

Accrued Expenses– expense incurred before paying for them

Prepaid expense is paid first and used later

Accrued expense is used then paid later

 

Accruing Interest Expense

Interest expense is debit

 

Accrued Revenue

 

 

Unearned Revenue: collecting cash before performing service

Liability account: Credit

As service is provided it moves to service revenue

 

Adjusted Trial Balance: used to make financial statement. Includes adjusting entries

Financial Statements:

  • Income statement- reports revenues and expenses
  • Retained Earnings- reports why earnings changed in period
  • Balance Sheet- reports assets, liabilities and equity

Relationships Among Financial Statements

  • Net income from the income statement increases retained earnings
  • Ending retained earnings from the statement of retained earnings goes to the balance sheet and makes total liabilities plus equity equal to assets

 

 

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