UNIVERSITY OF TECHNOLOGY, JAMAICA

SCHOOL OF BUSINESS ADMINISTRATION

FUNDAMENTALS OF ACCOUNTING

RECORDING YEAR END ADJUSTMENTS

At the end of an accounting period, it is customary to close all the accounts, extract a trial balance, and then
prepare the set of final accounts: the statement of profit or loss and the statement of financial position.

However, there are a number of adjustments that may be required prior to the preparation of the final accounts.
These include: (a) adjustments for owing and prepayments; (b) adjustments for bad debts and provision for bad
debts; and (c) adjustments for depreciation.

(a) ADJUSTMENTS FOR OWINGS AND PREPAYMENTS

At the end of the accounting period, the revenue earned must be matched against the expenses incurred, in order
to derive the profit or loss for the period. In some cases, though, the actual revenue earned may not correspond
with the amount recorded in the books. Likewise, the expenses incurred may be different from the total cash
paid for them. A contractual amount may either be owing (called accrual), or paid in advance (called
prepayment), at the end of the period.

However, in keeping with certain accounting concept, revenue must be accounted for in the period when it was
earned, and not necessarily when it was received. The same principle applies to expense items. Thus, some
items of revenue and expenses may need to be adjusted when preparing the final accounts. These adjustments
are classified and treated as follows:

CLASSIFICATION TREATMENT IN THE TREATMENT IN THE

Expense owing
This is the portion of the
expense item that is unpaid
or owing at the end of the
period
STATEMENT OF PROFIT
OR LOSS
The amount owing must be
added to the amount already
paid.
STATEMENT OF
FINANCIAL POSITION
The unpaid portion, called
accrued expense, is treated as a
current liability.

Expense Prepaid The prepaid portion must be The prepaid portion must be
The portion of the expense deducted from the total amount included as a current asset
item that is paid in advance. paid.

Revenue Owing The outstanding portion must The outstanding portion called
This is the portion of the be added to the amount already accrued revenue must be listed
revenue item that is already received. as a current asset
earned but not yet received

Revenue Prepaid The prepaid portion must be The amount received in

This is the portion of the deducted from the total advance must be listed as a
revenue item that is received received. current liability.
in advance
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From the above, it can be seen that the general rule when dealing with amounts owed (accruals) and
prepayments is:

 Always Add Accruals (Note the alliteration A A A)

 Minus Prepayments

The amount for the adjustment would be shown as a footnote item to the given trial balance that will be used in
preparing the final accounts. When making the adjustment, the first column of the statement or profit or loss
would be used to show the calculation.

(b) ADJUSTMENTS FOR BAD DEBTS AND PROVISION FOR BAD DEBT

From the list of debtors, i.e. those who have purchased goods on credit, the firm may not be able to collect
payment for the goods or services rendered. The firm may therefore decide to write off these debts as being
irrecoverable. These are called bad debts.

Among the reasons for the occurrence of a bad debt are:

- The debtor may have died

- The debtor may be out of contact

- Time may have elapsed for an insignificant amount

- The debtor may have been declared bankrupt

- There may be duress in collecting the debt

ACCOUNTING ENTRIES FOR BAD DEBTS

The main step to be followed when accounting for bad debts is:

To cancel the debt as being bad

Dr Bad Debt Accounts

Cr Debtor’s Account

The Bad Debt account is treated as an expense, and is therefore listed among the expense items in section 4 of
the statement of profit or loss

BAD DEBTS RECOVERED

A debt that was written off as being bad in previous years may eventually become recoverable. This is called a
bad debt recovered. Accounting for this involves the following steps:

a) To re-instate the debtor in the firm’s books

Dr Debtor’s Account
Cr Bad Debt Recovered Account
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b) To record any amount paid by the debtor

Dr Cash or Bank Account

Cr Debtor’s Account

The Bad Debt Recovered account is treated as a new revenue and is therefore included in section 3 of the
statement of profit or loss

PROVISION FOR BAD DEBT

Of the remaining debtors at the end of the accounting period, it may become likely that some may become bad
in the future. This eventuality should be noted, in keeping with the full disclosure principle. The firm should
therefore make an adjustment of its debtors as well as of its current profits to show the effects of this likelihood,
in accordance with the prudence concept.

The adjustment is called a provision for bad debts, or provision for doubtful debts. It is not a standard
amount, but instead, it is an estimate that may fluctuate each year according to:

- The prevailing state of the economic climate

- Knowledge of the debtors’ previous performance

- Current knowledge regarding the state of the debtors

Thus the balance in the provision for bad debt account may not increase every year. Instead, the previous year’s
amount is merely adjusted to reflect the current provision. This could either be an increase or a decrease.

ACCOUNTING ENTRIES FOR THE PROVISION FOR BAD DEBTS

1. To start the provision

Dr Increase in PFBD
Cr Provision for Bad Debts Account

2. To increase the provision in subsequent years

Dr Increase in PFBD (with the difference over last year’s amount)

Cr Provision for Bad Debt Account

3. To decrease the provision in subsequent years

Dr Provision for Bad Debt Account (with the difference over last year’s amount)
Cr Decrease in PFBD

The Increase in PFBD is recorded as an expense while the Decrease in PFBD is recorded as revenue
(other). The New PFBD is subtracted from the Debtors/Accounts Receivable on the Statement of financial
position.

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(C) ADJUSTMENTS FOR DEPRECIATION

Depreciation is the reduction in the value of a fixed asset over time. This may be as a result of various factors,
such as:

- Constant wear and tear

- Obsolescence
- Physical deterioration
- Technological advancements
- Inadequacy in size or capacity

RATE OF DEPRECIATION

The rate by which an asset is depreciated and the resultant amount charged against profit each year is subjected
to several factors, including the rate of usage of the asset, as well as management’s own decision. There are
several approaches that may be taken to reflect this rate. Among these are:

a) The Straight Line Approach

An equal amount is charged each year for depreciation. This amount represents a percentage of the cost of the
asset.

The amount is determined by the formula:

Cost of Non-current asset * Depreciation Rate = Depreciation Expense

b) The Reducing Balance Method

The amount to be charged each year declines with the depreciated value of the asset. This amount is a
percentage rate of the written down, or current book value, of the asset. The rate must therefore be
determined before the amount can be known.

This is derived from the following formula:

(Cost of Non-current asset – Provision for Depreciation) * Depreciation Rate = Depreciation Expense

The provision for depreciation in this formula is the depreciation estimated for the previous years that the asset
has been in use.

OTHER METHODS OF CALCULATING DEPRECIATION

While the straight line and the reducing balance are the two main methods of calculating depreciation, there are
other methods that may be used.
Among these are:

a. Sum of the Year Digits (SOYD): Summing the years 1, 2, 3, & 4, = 10. We then reverse the order of the
years as a fraction of the sum. Thus in year 1 we find 4/10 of the total depreciable amount (25,000-4,000). For
year 2, we find 3/10, etc.

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b. Units of Production: The total unit of output is estimated over the years that the asset will be in used. Each
year’s output is then expressed as a fraction of the total output, and this fraction multiplied by the total
depreciable amount.

ACCOUNTING ENTRIES FOR DEPRECIATION

The amount for depreciation each year is charged as an expense in the profit and loss account. Correspondingly,
the total amount charged over the years is reflected in the Provision for Depreciation Account.

The accounting entry each year is as follows

- To account for the annual depreciation

Dr Depreciation
Cr Provision for Depreciation of . . . (separate account used for each asset)

The depreciation account is closed off as an expense to the Statement of profit or loss, while the balance in the
Provision for Depreciation Account is deducted from the corresponding asset, in the statement of financial
position at the end of each year.

Where the asset is in use for only a part of the year, the amount for depreciation for the year may be pro-rated
according to the number of months of use of the asset.

Another approach is to charge a full year’s depreciation in the year of acquisition of the asset, irrespective of the
month, and none in the year when the asset is disposed of.

DISPOSAL OF A FIXED ASSET

After some years of use, a fixed asset may be sold. This is not recorded in the Sales Account, but involves the
use of the Disposal of Fixed Asset Account. The accounting entries are as follows:

a) Transfer the asset at cost price to the Disposal Account

Dr Disposal Account
Cr Asset Account

b) Transfer the total amount charged for depreciation on the asset

Dr Provision for Depreciation
Cr Disposal Account

c) Record the amount received from the sale of the asset

Dr Bank / Cash Account
Cr Disposal Account

d) The balance in the Disposal Account is transferred to the statement of profit or loss as new revenue or a gain
on disposal or as an expense or a loss on disposal.

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Lecture Question
The following Trial Balance was extracted from the books of Kaseka Bailey on June 30, 2015.
Particulars DR ($) CR($)
Building 240,000
Equipment 155,000
Purchases 165,000
Wages 45,500
Bad debts 1,700
Donations to charity 3,000
Provision for depreciation – Building 16,000
Provision for depreciation - Equipment 7,500
Capital 250,000
Loan 80,000
Commission received 20,000
Bank 24,500
Rent received from Gareth Simms 35,000
Discounts 4,150 7,500
Returns 2,500 3,500
Carriage inwards 5,250
Carriage outwards 3,200
Provision for bad debts 8,000
Creditors 27,200
Drawings 27,000
Stock at July 1, 2014 35,200
Cash 7,500
Debtors 45,000
Sales 270,800
Insurance 10,000
750,000 750,000
Notes
a) Insurance prepaid was $2,500
b) The provision for bad debt is to be adjusted to 20% of debtors
c) Stock at the yearend was valued at $40,700; however it appears that an additional amount for $13,000
was found in a store room. The amount was deemed material and should be accounted for in the
financial statements.
d) Wages were to be paid at $4,000 per month for the year.
e) Depreciate building at 9% using the straight line method and equipment 12% based on the reducing
balance method.
f) Commission received owing amounted to $5,500
g) Kaseka rented Gareth office space for nine (9) nine months of the year, charging him $3,600 per month

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Required:

a) Prepare Kaseka Bailey’s Statement of Profit or Loss for the year ended June 30, 2015
b) Prepare Kaseka Bailey’s Statement of Financial Position as at June 30, 2015
SOLUTION LECTURE QUESTION

Kaseka Bailey Statement of profit or loss

for year ended June 30, 2015      
  $ $ $
Sales   270,800  
less return inwards   (2,500)  
less discount allowed (4,150)
Net Sales     264,150
Cost of Sales      
Opening Stock   35,200  
Purchases 165,000    
Carriage inwards 5,250    
Return Outwards (3,500)    
Discount received (7,500)
Net Purchases   159,250  
COGAFS   194,450  
Closing Stock   (53,700)  (140,750)
GROSS PROFIT     123,400
Other Income      
Commission received 20,000
Commission received owing 5,500 25,500
Rent received 35,000
Rent received prepaid (2,600) 32,400
Total other income     57,900
Total Income     181,300
Less Expenses      
Carriage Outwards   3,200  
Wages 45,500    
Wages accrual 2,500   48,000  
Insurance 10,000    
Insurance prepaid (2,500) 7,500  
Donations to charity   3,000  
Bad debts 1,700
Increase in provision for bad debts 1,000
Depreciation      
Building   21,600  
Equipment   17,700  
(103,700)
NET PROFIT     77,600

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 Kaseka Bailey Statement of Financial Position as at June 30, 2015

Non-Current Assets      
Accumulated
  Cost Depreciation Net Book Value
Building 240,000 (37,600) 202,400
Equipment 155,000 (25,200) 129,800
  395,000 (62,800) 332,200
       
Current Assets      
Stock   53,700  
Debtors 45,000    
less PFBD (9,000) 36,000  
Cash 7,500  
Prepaid insurance   2,500  
Commission received owing 5,500
      105,200
      437,400
       
Current Liabilities      
Creditors   27,200  
Bank overdraft   24,500  
Wages owing   2,500  
Rent received prepaid 2,600
      56,800
       
Non-Current Liabilities      
Loan     80,000
       
Equity      
Opening capital   250,000  
Net profit   77,600  
Drawings (27,000)  
      300,600
      437,400

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TUTORIAL QUESTIONS
1. Discuss some of the reasons for the occurrence of a bad debt in a business organization

2. What are some of the factors that give rise to the issue of depreciation?

3. The following Trial Balance was extracted from the books of Jiminy Cricket, a retail salesman, on May
31, 2014.
Particulars DR ($) CR($)
Building 180,000
Equipment 155,000
Purchases 160,000
Wages 55,500
Bad debts 1,700
Loan interest 5,000
Provision for depreciation – Building 16,000
Provision for depreciation - Equipment 15,000
Capital 265,000
Loan 80,000
Commission received 10,000
Bank 34,500
Rent received from Pinocchio 25,000
Discounts 4,150 7,500
Returns 2,500 3,500
Carriage inwards 5,250
Carriage outwards 3,200
Provision for bad debts 8,000
Electricity 7,500
Creditors 47,200
Drawings 17,000
Stock at June 1, 2013 55,200
Cash 7,500
Debtors 45,000
Sales 207,800
Insurance 15,000
719,500 719,500

Notes
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 a) Jiminy took goods worth $6,000, each month beginning March 1, 2014 until the end of the accounting
year that was not previously recorded
b) Insurance owing was $5,600, wages is prepaid by $1,000
c) The provision for bad debt is to be adjusted to 10% of debtors
d) Stock at the yearend was valued at $51,500; however it appears that an additional amount for $20,000
was found in a store room. The amount was deemed material and should be accounted for.
e) Depreciate building at 10% using the straight line method and equipment 15% based on the reducing
balance method.
f) Commission received owing amounted to $2,500
g) Jiminy rented Pinocchio office space for the entire year, however, Pinocchio overpaid Mr. Cricket
$15,000 for the accounting year.

Required:
a) Prepare Jiminy Cricket’s Statement of Profit and Loss for the year ended May 31, 2014
b) Prepare Jiminy cricket’s Statement of Financial Position as at May 31, 2014

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4. Prepare Trina Haldane’s Statement of Profit or Loss for the period ended 31 December 2014 and
Statement of Financial Position as at that date.

Trina Haldane’s unadjusted Trial Balance as at 31 December 2014

Particulars Dr Cr

Capital 200,000

Drawings 12,000

Bank balance 5,500

Cash in hand 7,000

Accounts receivables 40,000

Accounts payable 55,000

Inventory: Opening 18,000

Premises 150,000

Motor Vehicle 90,000

Fixtures and Fittings 65,000

Sales 255,600

Purchases 130,000

Returns inwards 7,500

Carriage outwards 4,500

Carriage inwards 6,500

Returns outwards 11,500

Motor expenses 10,400

Rent Received 20,000

Telephone charges 12,000

Wages and salaries 34,000

Insurance 10,600

Commission Received 14,800

Bad Debt 2,500

Provision for depreciation: Motor Vehicle 20,000

Provision for depreciation: Fixtures and Fittings 25,000

Provision for doubtful debt 3,600

Total 605,500 605,500

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Additional information
a) Closing Inventory $25,000
b) Wages and Salaries prepaid $2,500
c) Commission Received owing $2,000
d) Trina Haldane took $6,000 worth of goods for her personal use.
e) Trina Haldane’s insurance premium incurred is $1,000 per month commencing 1st March 2014.
f) Provision for doubtful debt is to be adjusted to 5% of Accounts Receivable
g) Depreciation is to be charged on Fixtures and Fittings at 10% using the Reducing Balance Method and
on Motor Vehicle at 10% using the Straight Line Method

5. Rupert McDonald is a sole trader who operates a haberdashery in St Elizabeth. Mr. McDonald opened
on April 1, 2013 in Bethlehem Plaza where his monthly rental is $20,000. This rent expense will remain
at this rate for the next four (4) years. He rents a small section of the shop to Jim Bone, since January 1,
2015 for $12,000 per month. The following trial balance was as at March 31, 2015.

Particulars DR ($) CR($)

Motor Van 3,000,000
Provision for depreciation – Motor Van 480,000
Capital 2,840,000
Purchases and Sales 640,000 3,034,000
Inventory at April 1, 2014 61,200
Motor Expenses 36,300
Bad debts 6,500
Provision for depreciation – Equipment and Furniture 90,000
Salaries and wages 334,000
Electricity 100,000
Loan 731,000
Commission received 20,000
Bank 154,400
Rent received from Jim Bone 50,000
Discounts 7,500 8,000
Returns 22,000 40,000
Carriage inwards 17,500
Carriage outwards 38,500
Provision for bad debts 16,000
Accounts receivable and payable 240,000 353,900
Drawings 342,000
Equipment and Furniture 2,500,000
Cash 23,000
Rent paid 140,000
7,662,900 7,662,900
Notes
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a) Electricity has been prepaid $25,000
b) The provision for bad debt is to be adjusted to 15% of accounts receivables
c) Stock at the yearend was valued at $197,000; however it appears that an additional amount for $33,000
was found in a store room. The amount was deemed material and should be accounted for in the
financial statements.
d) Depreciate motor van at 8% using the straight line method and equipment and furniture 5% based on the
reducing balance method.
e) Commission received owing amounted to $10,500

Required:
a) Prepare Rupert McDonald’s Statement of Profit or Loss for the year ended March 31, 2015
b) Prepare Rupert McDonald’s Statement of Financial Position as at March 31, 2015

6. The following balances were extracted from the books of Michelle O’Connor as at December 31, 2015.
She is a sole trader who operates a clothing wholesale in May Pen. Michelle rented Cecil Bryan a very
small section of the wholesale for $6,000 per month.
PARTICULARS DR CR
Sales 180,000
Capital 104,000
Stock at January 1, 2015 9,700
Purchases 58,200
Returns 10,180 8,730
Wages 88,520
Utilities 17,900
Insurance 40,000
Discounts 3,400 2,200
Motor Vehicle 40,000
Provision for Depreciation - Motor Vehicle 10,840
Drawings 12,000
Loan 105,000
Building 70,000
Provision for Depreciation - Building 33,600
Debtors 13,300
Sundry Expenses 6,400
Provision for bad debts 1,190
Commission Received
Land 160,000
Carriage Outwards 1,800
Bad debts 9,600
Carriage Inwards 2,200
Rental Income (from Cecil Bryan) 65,000
Creditors 15,500
Bank 21,300
Cash 4,160
547,360 547,360
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Year-end notes:

a) Buildings are to be depreciated using the straight line method at a rate of 8% per annum; and the
reducing balance method is to be used to depreciate motor vehicles at a rate of 10% per annum.
b) Wages are owing at the yearend amounted to $11,480
c) The insurance paid represents fixed monthly premiums for the period January 1, 2015 to March 31, 2016
d) Stock at December 31, 2015 $8,300, however it appears that an additional amount, $1,700 was found in
a store room. The amount was deemed material and should be accounted for.
e) On October 1, 2015, the owner took goods amounting to $1,000 from the warehouse and continued to do
so at the beginning of every month up to February 20116.
f) The provision for bad debts is to be revised to 5% of debtors at the end of the financial year of the
business
Required:
1. Prepare the Statement of Profit or Loss for Michelle O’Connor.
2. Prepare a Statement of Financial Position.

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