Axum poly technique college

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ACCOUNTS AND BUDGET SERVICE LEVEL IV

Learning Guide
Unit of Competence Establish and Maintain an Accrual Accounting
System

Module Title Establishing and Maintaining an Accrual Accounting

System

LG Code: BUF ACB4 14 0812

TTLM Code: BUF ACB4M 14 0812

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

INTRODUCTION

Welcome to the module “Establish and Maintain an Accrual Accounting

System”. This learner’s guide was prepared to help you achieve the required
competence in “Accounts and Budget Support Leve lIV ”. This will be the source of
information for you to acquire knowledge attitude and skills in this particular
occupation with minimum supervision or help from your trainer.

Summary of Learning Outcomes

After completing this learning guide, you should be able to:

Lo1:- . Manage the chart of accounts

Lo2:- . 2. Process invoices, adjustment notes and other general ledger
transactions
Lo3:- Manage contra entries
Lo4:- . Identify and process bad debts
Lo5:- Manage debt recovery
Lo6:- Prepare and produce reports and trial balance
How to Use this TTLM

o Read through the Learning Guide carefully. It is divided into sections

that cover all the knowledge, skills and attitude that you need.
o Read Information Sheets and complete the Self-Check at the end of
each section to check your progress
o Read and make sure to Practice the activities in the Operation Sheets.
Ask your trainer to show you the correct way to do things or talk to
more experienced person for guidance.
o When you are ready, ask your trainer for institutional assessment and
provide you with feedback from your performance.

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
 Axum poly technique college
Training, Teaching and Learning Materials

Lo1:- . Manage the chart of accounts

- Chart of accounts - is a listing of the account titles and account numbers being used by a
given business. In numbering accounts in the ledger it is preferable to use a flexible system of
indexing so that it permits a later insertion of new accounts in their proper sequence without
distributing the other account numbers.
A lit of account in the ledger is called chart of account.
Example - the chart of Account Nilexs computer center -
Chart of Accounts
Balance sheet
1. Asset 2. Liabilities
11 cash 21. A/P
12. A/R 23. Unearned Rent
14. Supplies 3. Owner’s Equity
15. prepaid insurance 31. Habte, capital
17. Land 32. Habte, Drawing
18 offices Equipment
Income statements Account
1. Revenue
41 fees earned
2. Expenses
5.1 Wages Expenses
52. Rent Expenses
54 utilities expenses
55 supplies epees
59 miscellaneous expenses
2.6. Recording transactions in a journal
1. Transaction.
- Transactions can be recorded directly in to the accounts. But this method makes it very
difficult to identity individual transactions or finds errors b/c the debit is recorded in one
account and the credit in another
-A transaction involves the transfer of something of value b/n the business and another party. It
resulted in a change in the economic resources (assets), obligations (liabilities) or residual
interest (owner's equity).
Transaction could be - External - purchase of equipment
- Internal - using equipment (according deprecation).

Business Business Entry recorded entry posted

Transaction document in to
Occurs prepared journal ledger
2. Source document
- The business documents (or source documents) retating to the transactions are used in the
accounting system as initial input information for the recording process.
Ex – sales invoices, checks, freight bills etc
TTLM Development Manual Date: October 12,2013
Compiled by: KH Acct department
 Axum poly technique college
Training, Teaching and Learning Materials

The source documents normally contain information as to

-The monitory amount to be recorded
- The parties involved
- The terms of the transactions & other relevant information.
3. Journal
- A journal is a permanent doucement used for initial (first) or original recording of the day to
day business transactions. Knowing for each transaction the date, debit, credit and explanation (if
necessary).
- It is often called book of original entry or document of original entry. it classified as general
journal and special journal
 General journal – general purpose of journal listing transactions expressed in terms of debits
and credits to particular accounts. The simplest type of journal
* Special journal:-are special purposes of journal designed accumulating a single type of
transaction.
Ex – cash payment journal, sales journal, purchase journal cash receive journal
In general a journal consists of
 a date column
 a description a column to record the accounts
 a column to list the account numbers
 a debit & credit column for listing the amounts to be recorded as a debit or credit to
each account .
 The process of recording the transaction in the journal is called Journalizing
Procedures in recording transactions in a two column journal.
 Recording the date:- your, month & day of the first transaction
 Recording the debit account & amount. The debit account is written in the left margin
 Recording the credit account & amount. The credit account is written in the right
margin
 Writing explanation about the Nature of the transaction.
Note:- efficient use of a general journal requires two things:
1. ability to analyze the effect of a transaction upon assets, liability and owner’s equity ,
and
2. familiarly with the standard form & arrangement of journal entries
Illustration
Hiwot established a sole proprietorship, known as Hiwot beauty salon and training center. She
started the business on Sept 1 of 2004. The business provides training on beauty salon on fee
basis. It also renders decoration service to clients. The following transactions occurred for the
month of September at the start of the business.
Sept 1. Hiwot invested in the business the following assets & liabilities
Cash $ 140,000
Furniture 50,000
Note payable 100,000 (a bank note due in 5- years with an interest rate of 12 %)
1. Paid a one year rent of 20, 000
1. Purchased machinery at cost of 35,000 by paying $ 10,000 down payment and the
remaining amount will pay in the near future.
1. Paid a 6 month insurance premium $ 2,400
TTLM Development Manual Date: October 12,2013
Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

2. Purchased office equipment for $ 5,000

4. Paid $ 800 for television advertisement
7. Purchased supplies worth of $ 5,000
10. Purchased a land for $ 60,000 which will be used for future building site
15. Received a total of $ 150,000 advance payment from trainees for a 4 month tuition fee
starting from Sept 1
17. Received $ 5000 form clients for decorating services rendered
20. Paid $ 15,000 partial payment to creditors for the Sept 1 purchase of machinery
20. purchased additional supplies on account $ 7000
26. Send a bill to customers for the service rendered on account $ 12,000
26. Paid $ 6.500 salary to employees
28. paid $ 1000 unities expenses
28. paid to creditors on account for the Sept 20 purchase of supplies
30. Received cash from customer on account $ 5000
30. Withdraw a case of 5000 for personal use.
Requirement: - Journalize the above transaction in a general journal with the following chart
of account
Balance sheet Accounts.
1. Asset 2. Liabilities
Cash ---------------------111 Alp --------------------------- 211
A/R ----------------------112 N/p --------------------------- - 212
Supplies ---------------113 Unearned Revenue ------- 213
Prepaid Rent -----------114 Interest payable------------ 214
Prepaid insurance -----115 Salary payable -------------- 215
3. Owner’s equity
Hiwot capital ------------ 311
Hiwot Drawing ----------- 312
Income summary -------- 313
4. Revenue
Fees earned -------------- 411
5. Expenses.
Supplies expense ------------------- 511
Salary expense --------------------- 512
Rent exp expense ------------------- 513
Insurance expense ------------------ 514
Interest expense -----------------------515
Depreciation ------------------------516
Miscellaneous expense ---------------517

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

A deferral is a delay of the recognition of an expense already paid or of revenue already

received. Accrual is an expense or revenue that gradually increases with the passage of time.
Any unrecorded accruals must be recorded before financial statements are prepared.
The accounting for deferrals is discussed first, followed by the accounting for accruals.

Lo3:- Manage contra entries

Accruals
Deferred expenses expected to benefit a short period of time are listed on the balance sheet
among the current assets, where they are called prepaid expenses. Long-term prepayments that
can be charged to the operations of several years are presented on the balance sheet in a section
called deferred charges.

Deferred revenues may be listed on the balance sheet as a current liability, where they are called
unearned revenue or revenues received in advance. If a long period of time is involved, they
are presented on the balance sheet in a section called deferred credits.

1.3. Task 2 Accounting For Deferred Expenses

Prepaid expenses are the costs of goods and services that have been purchased but not used at the
end of the accounting period. The portion of the asset that has been used during the period has
become an expense; the remainder will not become an expense until some time in the future.
Prepaid expenses include such items as prepaid insurance, prepaid rent, prepaid advertising,
prepaid interest, and various kinds of payments.

Insurance premiums or other services or supplies that are used may be debited to asset accounts
when purchased, even though all or part of them is expected to be consumed during the

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

accounting period. The amount actually used is then determined at the end of the period and the
accounts adjusted accordingly.

Example 1. On March 1, 2004, the following accounts are given:

Supplies-------------------------------------------------$1850.00
Prepaid rent----------------------------------------------2400.00
Prepaid insurance---------------------------------------4560.00

If supplies on hand inventory are $890.00 on March 31, the following adjusting entry is needed:
March 1. Supplies----------------------------------------1850.00
Cash---------------------------------- 1850.00

March 31. Supplies expense------------------------960.00 (1850-890)

Supplies------------------------- 960.00

If the rent is paid for three months:

March 1. Prepaid rent-------------------------------------2400.00
Cash-----------------------------------------------2400.00

March 31. Rent expense----------------------------------800.00

Prepaid rent----------------------------------------800.00
Note: Rent for a month = 2400 3= 800

If the amount of insurance unexpired at the end of the month is $2650, then the expired amount
of insurance will be $1910 ($4560-2650=1910). The following journal entry is needed:
March1: Prepaid insurance----------------------$4560.00
Cash--------------------------------------4560.00

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

March 31: Insurance expense--------------------$1910

Prepaid insurance------------------------$1910

A prepaid expense is an item paid and recorded in advance of its use or consumption in the

business, part of which properly represents expense of the current period and part of which

represents an asset on hand at the end of the period. If a three-year insurance premium is paid in

advance at the beginning of the current year, one third of the amount paid represents expense of

the current year and two-third is an asset at the end of the year, an mount properly to be deferred

to and expensed in future years.

Example: If insurance for three years is purchased for $1200 on January 2, 2004,
and the books are closed annually on December 31, the asset account appears as
follows on Dec 31, 2004, before the adjusting entry is made:
Prepaid Insurance
2004
Jan 2. $ 1200

Because one-third of the three-year period has now passed, one-third of the amount paid is
reported as an expense for 2004, and the asset account is reduced by the same amount. The
adjusting entry required on Dec. 31, 2004 is:
Insurance expense----------------------- 400
Prepaid insurance----------------- 400

The ledger now shows an insurance expense of $400 and an asset, prepaid insurance, of $ 800.

Prepaid insurance Insurance expense

Jan.2. 1200 Dec.31. 400
Dec 31. 400
TTLM Development Manual Date: October 12,2013
Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Note: In some cases, the adjusting entries vary depending on the accounting procedure followed
in recording the original transaction.

Example: Assume that office supplies are acquired during the accounting period at a cost of $
5000. At the end of the period, a physical inventory reveals that supplies on hand cost $550. At
the time the supplies were acquired, the $5000 may have been debited to an asset account or an
expense account.

*Prepayments Debited to Asset Account

The adjusting entry required is to transfer the expired portion of the cost to an expense account.
Office supplies expense---------------$4450
Office supplies-------------------------$4450

Office supplies Office supplies expense

Bal. Dec.31 $5000
Adjusting entry $ 4450 $4450

*Prepayments Debited to Expense Account

The adjusting entry required is to transfer the unexpired portion of the cost to an asset account.

Office supplies-------------------------$550
Office supplies expense------------------$550

Office supplies Office supplies expense

Bal. Dec.31 $ 5000

Adjusting entry $550 $550

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Under either approach, the final result is the same. There is an asset of $550 and an expense of
$4450. In both cases, the amount of the unexpired cost was determined and an adjusting entry
was necessary to make the ledger account balances agree with the information available.

Accounting for Deferred Revenue

Revenue received during a particular period may be only partly earned by the end of the period.
Items of revenue that are received in advance represent a liability that may be termed unearned
revenue. The portion of the liability that is discharged during the period through delivery of
goods or services has been earned; the remainder will be earned in the future. For example,
magazine publishers usually receive advance payment for subscriptions covering periods ranging
from a few months to a number of years. At the end of an accounting period, that portion of the
receipts which is related to future periods has not been earned and should therefore; appear in the
balance sheet as a liability.

Other examples of unearned revenue are rent received in advance on property rented, premiums
received in advance by an insurance company, tuition received in advance by a school, an annual
retainer fee received in advance by an attorney, and amounts received in advance by an
advertising firm for advertising services to be rendered in the future.

By accepting advance payment of a good or service, a business commits itself to furnish the
good or the service at some future time. At the end of the accounting period, if some portion of
the good or the service has been furnished, part of the revenue has been earned. The earned
portion appears in the income statement. The unearned portion represents a liability of the
business to furnish the good or the service in a future period and is reported in the balance sheet
as a liability.

Example: Assume that a business rented part of a building for a three-year period from January
3, 2004, for $ 60,000 to a tenant who paid the full three years’ rent in advance. The business
made the following entry to record rent received in advance.
Jan.2. Cash---------------------------------------$ 60,000

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Unearned rent------------------------------$ 60,000

At the end of 2004, one third of this amount is earned and therefore, an adjusting entry is made.
Dec. 31. Unearned rent------------------------$20,000
Rent revenue---------------------------$20,000

The entry also records $20,000 in the rent revenue account, which represents the amount of
revenue earned during the year. These two accounts now show the following balances after
adjustment.

Unearned rent Rent revenue

Jan. 2. $60,000
Dec.31, $ 20,000 $20,000

Note: If cash is received in advance, the original transaction may be recorded by a credit to
either a liability account or a revenue account.
Example: Assume that customers paid $ 500,000 for magazine subscriptions during the current
accounting period; however, $75,000 represented payments for magazines to be delivered in
subsequent periods.

Liability Account Credited in Receipt of Cash

The journal entry required at the receipt of cash is:
Cash………………………………………….500,000
Unearned Subscriptions……………… 500,000

The required adjusting entry to record the earned revenue at the end of the period is:
TTLM Development Manual Date: October 12,2013
Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Unearned subscriptions----------------------425,000
Subscriptions revenue------------------- 425,000

Unearned subscriptions Subscriptions revenue

500,000
425,000 425,000

Revenue Account Credited on Receipt of Cash

The journal entry required at the receipt of cash is:

Cash…………………………………………..$500,000
Subscriptions revenue……………………………$500,000

The required adjusting entry to transfer the unearned revenue to a liability account is shown
below:
Subscriptions revenue----------------------------$75,000
Unearned subscriptions------------------------------$75,000

Unearned subscriptions Subscriptions revenue

500,000
75,000 75,000

Under either approach, the adjusted amount of the liability is $75,000, and the adjusted amount
of the revenue is $ 425,000.

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Lo4:- . Identify and process bad debts

Classifications of Accruals

Accrued expenses may be described on the balance sheet as accrued liabilities, or reference to
the accrual may be omitted from the title, as in “wages payable”. The liabilities for accrued
expenses are ordinarily due with in a year and are listed as current liabilities.

Accrued revenues may be described on the balance sheet as accrued assets, or reference to the
accrual may be omitted form the title, as in “Interest receivable” and “Fees receivable”. The
amounts receivable for accrued revenues are usually due with in a short time and are classified as
current assets.

1.6. Task 5 Accounting For Accrued Expenses

Accrued expenses or accrued liabilities are items of expense that have been incurred during the
period, but have not yet been recorded or paid. As such, they represent liabilities at the end of
the period. The related debits for such items are included in the income statement as expenses.
Some common accrued liabilities are interest payable, wages and salaries payable, and property
taxes payable.

When employees for example, are paid on a monthly basis on the last day of the month, there are
no accrued wages and salaries at the end of the month or year because all employees will have
been paid all amounts due them for the month or the year. When they are paid on a weekly or

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

biweekly basis, however, it is usually necessary to make an adjusting entry for wages and
salaries earned but not paid at the end of the fiscal period

Example: Assume that a business pays its sales staff every Friday for a five-day week, that the
total weekly payroll is $8000, and that Dec.31 falls on Thursday. On Dec 31, the end of the
fiscal period, the employees has worked four-fifths of a week for which they have not been paid
and for which no entry has been made. The adjusting entry on Dec.31 is:
Dec. 31. Salaries Expense------------------------6400
Salaries payable ----------------- 6400

As a result of this entry, the Income statement for the year includes the salaries earned by the
sales staff during the last four days in December and the balance-sheet shows a liability, salaries
payable, of $ 6,400.00.

Accounting For Accrued Revenue

Items of revenue that have been earned during the period but that have not yet been collected are
called accrued assets, accrued revenues, or revenues receivable. Adjusting entries must be made
for these items to record the revenue that has been earned but not yet received and to record as an
asset the amount receivable. Some examples of accrued assets are rent receivable and interest
receivable.

Example:-Assume that office space is rented to a tenant at $ 1000 per month, that the tenant has
paid the rent for the first 11 months of the year, and that the tenant has paid no rent for
December, The adjusting entry on Dec, 31 is as follows:
Dec.31. Rent Receivable--------------------------1000
Rent Revenue ---------------------- 1000

As a result of this entry, an asset of $ 1000, Rent Receivable, appear on the balance sheet
disclosing the amount due from the tenant as of December 31.

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Reversing entries
Reversing entries are an optional procedure which may be carried out at years end to simplify the
recording of certain routine cash receipts and payments in the following period.

Not all adjusting entries should be reversed. Only these adjustments that create account revenue
or a short term liability should be reversed. These adjustments will be followed by cash receipts
or cash payments with in near future.

Similarly, if payments for insurance and supplies during a period are recorded in expense
accounts, or if revenue received in advance during a period is recorded in revenue accounts, the
adjusting entries would have to be reversed because asset and liability accounts normally not
used during the period would be affected by the adjusting entries.

If acquisitions of supplies and other short-term prepayments during a period are recorded in asset
accounts, or if revenue received in advance is recorded in liability accounts, the adjusting entries
would bring existing asset and liability balances up to date, and no reversing entry would be
required.

Example – Assume that on July 31, Year 1, Dawit Company borrowed $ 200,000 at 12% on a
long- term note with interest of 6000 payable every three months. The first payment of interest
was made on October 31, year1, the next interest payment is due on January 31, year 2. Dawit is
on a calendar year basis.
The adjusting entry on December 31, year 1 is
Interest expense ----------------------------------- 4000
Interest payable --------------------------- 4000

This adjusting entry should be reversed on January 1, year 2.

Interest payable ----------------------------------- 4000
Interest expense -------------------------- 4000

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Lo5:- Manage debt recovery

1. The balance in the prepaid insurance account, before adjustment at the end of the year is $
7225. Journalize the adjusting entry required under each of the following alternatives for
determining the amount of the adjustment.
A. the amount of insurance expired during the year is $4900
B. the amount of unexpired insurance applicable to future periods is $2325.

2. A business enterprise pays weekly salaries of $ 12000 on Friday for a five-day week ending
on that day. Journalize the necessary adjusting entry at the end of the fiscal period, assuming that
the fiscal period ends on
A. Monday
B. Wednesday

3. The balance of the supplies account, before adjustment at the end of the year, is $ 2750. The
inventory of supplies at the end of the year was determined to be $600. Journalize the adjusting
entry required at the end of the year to recognize supplies used during the year.

Solution

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

1. A. Insurance Expense----------------------------------4900
Prepaid insurance --------------------------------4900

B. Insurance expense (7225-2325) -----------------4900

Prepaid insurance --------------------------------4900

2. Daily salary=12000 ÷5=2400

A. Since Monday is the first day of the week, the amount of salary is $ 2400. If we assume
Monday is the last day of the fiscal period, the following adjusting entry is need:
Salary Expense-----------------------------2400
Salary payable--------------------2400

B. Wednesday is the third day of the week. So the amount of salary to be paid as of this day is
2400x3= 7200. If we assume Wednesday is the last day of the fiscal period, the following
adjusting entry is needed.
Salary expense----------------------------7200
Salary payable-------------------7200

3. Supplies expense (2750-600) -------------- 2150

Supplies --------------------------------2150

1. What term is used to describe a delay of the recognition of an expense already paid or of
revenue already received?
2. What term is used to describe an expense that has not been paid or revenue that has not
been received?
3. Where would (a) accrued expenses and (b) accrued revenues, both due with in a year,
appear on the balance sheet?
4. Classify the following items as (a) prepaid expenses, (b) unearned revenue, (c) accrued
expense, or (d) accrued revenue
1. Utilities owed but not yet paid
2. Fees received but not yet earned
TTLM Development Manual Date: October 12,2013
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Axum poly technique college
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3. Salary owed but not yet due

4. Storage fees earned but not yet received
5. Fees earned but not yet received
6. Taxes owed but payable in the following period
7. Life insurance premiums received by an insurance company
8. Property taxes paid in advance
9. A two-year premium paid on a fire insurance policy
10. Tuition collected in advance by a university.

Solution
1. Deferral
2. Accrual
3. Current asset section
4. 1. Accrued expense
2. Unearned revenue
3. Accrued expense
4. Accrued revenue
5. Accrued revenue
6. Accrued expense
7. Unearned revenue
8. Prepaid expenses
9. Prepaid expenses
10. Unearned revenue

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department
Axum poly technique college
Training, Teaching and Learning Materials

Lo6:- Prepare and produce reports and trial balance

1. Prepare adjusting entries on January 31 for each item below

A. office supplies used $64,290. Acquisitions of office supplies were recorded in the
inventory of office supplies ledger account.
B. Rent Revenue received in advance, $ 16200. Advance rent received is credited to the
Rent Revenue ledger account.
C. Royalty revenue accrued from licensing a patent, $4,500.

2. On June 30, the end of its fiscal year, an enterprise owed salaries of $ 12,500 for an
incomplete payroll period. On the first payday on July, salaries of $ 20,900 are paid; (a)
Is the $ 12,500 a deferral or an accrual as of June 30?
(b) Which of the following types of accounts will be affected by the related adjusting entry:
(1) assets (2) liability, (3) revenue, (4) expense?

3. On January 2, an enterprise receives $ 24,000 from a tenant as rent for the current calendar
year. The fiscal year of the enterprise is from April 1 to March 31.
(a) Which of the following types of accounts will be affected by the adjusting entry as of
March 31: (1) assets (2) Liabilities, (3) revenue, (4) expense?

TTLM Development Manual Date: October 12,2013

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Axum poly technique college
Training, Teaching and Learning Materials

(b) How much of the $ 24,000 rent should be allocated to the current fiscal year ending
March 31?

Solution
1. A. Office Supplies Expense……………………………….64,290
Office Supplies…………………………………… 64,290

B. Unearned Rent…………………………………………16,200
Rent Revenue…………………………………….. 16,200

C. Royalty receivable……………………………………..4,500
Royalty revenue………………………………….. 4,500

2. A. Accrual
B. Liabilities and Expense

3. A. Liabilities and Revenue

B. $6,000

TTLM Development Manual Date: October 12,2013

Compiled by: KH Acct department