Lecture-6

4th Step in the Accounting Cycle

Adjusting Entries

There are certain transactions which affect revenue and expenses for more
than one accounting periods. Therefore adjusting entries are needed at the
end of each accounting period to make certain that an appropriate amount
of revenue and expenses are reported in the company’s income statement.
The purpose of adjusting entries is to accurately assign revenues and
expenses to the accounting period in which they occurred. Whenever you
record your accounting journal transactions, they should be done in real
time.
We have to follow the matching principle. All the revenue and expenses
must be of the same period.
In the adjusting entry, NO CASH ENTRY IS RECORDED

1. Assets are converted into expenses

2. Liabilities are converted into revenues
3. Services provided but not recorded
4. Expenses incurred or services received but not recorded.

Types of adjusting entries:

1. Converting assets to expenses:

Prepayment initially recorded as an asset. The part of

prepayment (asset) used up during a period is converted in
expense. (from balance sheet to income statement) at the end
of the period (adjusting entry)
General transaction:
i. September1: Paid 6 months advance rent for $ 12,000
Prepayment Asset increased by 12,000 Debit
Cash paid Asset decreased Credit
General Journal: (Step 1)
September 1 Prepaid rent 12,000
Cash 12,000
(Six months advance rent paid)
 At the end of Sept. 30,

Whatever cost consumed, utilized or used up is the expense.

the company is required to convert one month’s rent from prepaid rent
to Rent expense, as it is utilized.
Prepayment (Asset) for September is consumed it becomes expense
Expense increased Debit
Prepayment (asset) decreased credit

Prepaid rent for one month is 12,000/6 = 2,000

As on September 30, 2000 will not be recovered, it is consumed, utilized
As the expense (Rent) increases, it is taken on the debit side,
As the asset (Prepaid rent) decreases, it is taken on the credit side
September 30.
The adjusting entry will be

Rent Expense 2,000

Prepaid rent 2,000
(One month rent is adjusted)
Asset converted into expense is taken into debit side
Asset (Prepaid Rent) reduced is taken into credit side

T-Accounts
General Journal Adjusting Entry
Prepaid Rent Rent Expense
___________________________ _____________________
Sept 1 12,000 Sept 30 adj 2,000 Sept 30 Adj 2,000
___________________________ _____________________
Sept 30 Bal 10,000 sept 30 bal 2,000
___________________________ _____________________
 Prepaid (asset) is decreased by 2,000, which is converted into expense.

July 1. Purchased insurance for 12 months @ $ 1,000 per month

General Journal

July 1. Prepaid Insurance 12,000

Cash 12,000

( To record the purchase of insurance for 12 months)

At July 31, one month insurance amount is expired that will be the expense.

Insurance expense will be increased by 1000 and

Prepaid insurance (asset) will be decreased by 1000

Adjusting entry

July 31 Insurance Expense 1,000

Prepaid Insurance 1,000

( To record the insurance expense for one month)

May 12 Paid $ 12,000 to an advertising agency for publishing 3 advertisement

in a local newspaper

General Journal:

May 12 Prepaid Advertising 12,000

Cash 12,000

( To record the advance payment to newspaper agency for 3 ads.)

Till May 31st., only one advertisement was published.

One advertisement amount is consumed, so it is converted into expense.

May 31 adjusting entry

Advertising Expense 4,000

Prepaid Advertising 4,000

June 20 Purchased office supplies for 10,000

General Journal:

June 20 Office Supplies (Asset) 10,000

Cash 10,000

June 31 Office supplies on hand amounted $ 4,000

That means, office supplies of $ 6,000 is consumed

Adjusting entry

June 31 Office supplies expense 6,000

Office supplies (Asset) 6,000

2. Liabilities converted into revenue.

May 9 Received $ 10,000 from different customers against the

services to be provided

General Journal

May 09 Cash 10,000

 Unearned service Revenue 10,000

(To record the cash received against services to be provided)

May 31 services for $ 7,000 have been provided.

May 31, Adjusting entry

Liability will be reduced by 7,000 and revenue will be increased by 7,000

Unearned Service Revenue 7,000

Service Revenue 7,000

3. Services Provided, but not recorded or billed

October 31: Company has provided the services for $ 25,000 and bills are not
given to customers.

Accounts Receivable (Accrued Revenue) 25,000

Service Revenue 25,000

4. Services received but not recorded:

January 31. Fuel for $4,000 is consumed but not recorded and bills not
received.

Fuel Expense 4,000

Accounts Payable (Accrued fuel Expense) 4,000

 Employees have already provided the services of 25,000, but they have not
yet been paid or recorded

Salaries Expense 25,000

Salaries Payable (Accrued Salaries) 25,000

Non-current Assets: Building, Furniture, equipment, all those assets

which provide benefits for more than one accounting period.

Steps for the adjustment of non-current assets.

1. Firstly, we consider the life of assets (How long will we use this asset)

We divide the total cost by the life.

Whatever cost determines per period is taken as expense In case of current

asset, we use the term for the expense is depreciation exense.

May 1. Purchased office building at $ 96,000.

Estimated life of office building is 20 years

In case of non-current asset, we do not take direct expense with that asset like
building expense, vehicle expense, furniture expense, instead we consider the
cost by which that non-current asset depreciate. so here we debit the
depreciation expense with a credit of accumulated depreciation.
Depreciation/month = 96,000/(20*12) =400

Depreciation Expense 400

Accumulated depreciation-Building 400
Depreciation Expense Accumulated Depreciation

----------------------------------- ---------------------------------------

400 400
Balance Sheet

Showing in the balance sheet

Building 96,000

Accumulated Depreciation (400) 95,600 (book value)

The nature of Accumulated Depreciation is CONTRA-ASSET

Asset Any account which reduces the value of asset is contra asset

Liabilities

OE

Revenue

Expense

Building Expense 400

Building 400

This will violate the cost principle as total cost at which the asset purchased
will not appear in the books of accounts

---------------------------------------

96,000 400
95,600

Cost principle: Cost of non current asset all the time must appear in the
books of accounts

Example

September 1. Paid six months advance rent for $ 30,000

September 5. Purchased Office supplies for $ 15,000 on account

September 10. Received 10,000 cash from different customers against

the services to be provided
 September 10. Purchased office equipment for $24,000 on credit and
signed a note for the payment, with 12 % interest for six months. The
estimated life of 3 years.

September 12. Paid $5,000 for 5 commercials to be run on TV channel.

Required:

1. General Journal
2. Adjusting entries at September 30

General Journal:

1. Prepaid Rent 30,000

Cash 30,000

( to record the payment of advance rent for six months)

2. Office Supplies 15,000

Accounts Payable 15,000
3. Cash 10,000
Unearned Service Revenue 10,000
4. Office Equipment 24,000
Notes Payable 24,000
5. Prepaid Advertising 5,000

Cash 5,000

September 30

Additional Data.

1. One month rent is consumed.

2. Office supplies on hand amounted to 9,000
3. Services provided till September 30, is 7,000
4. One month interest amount is due.
5. Two advertisements are still pending.
 6. The life of office equipment is 3 years

Adjusting Entries

1 Rent for 6 months is $ 30,000.

Rent for one month = $30,000/6 = $ 5,000

Rent Expense 5,000

Prepaid Rent 5,000
( One month rent expense is adjusted)

‘2. Office supplies purchased 15,000

Office supplies on hand ( 9,000)

Office supplies consumed 6,000

Office Supplies Expense 6,000

Office Supplies 6,000

( to record the office supplies consumed)

‘3. Unearned Service 7,000

Service Revenue 7,000

( To record the service provided against unearned ( or advance received))

‘4 Interest on notes payable for one month = $ 24,000*12/100 *1/12 =$240

Interest expense 240

Interest Payable 240

‘5 Advertising Expense per advertisement = $5,000/5 = 1000

Two advertisements are still pending and three have been run.

Advertising Expense 3,000

 Prepaid Advertising 3,000

‘6 Depreciation expense of OE per month = 24,000/(3*12) = 666

Depreciation Expense OE 666

Accumulated Depreciation-OE 666

Problem 4-1A (page 173)

Adjust monthly.

Club members pay annual dues in advance unearned membership Dues

Guests normally pay green fee before being allowed Green Fee Revenue

Certain guest are given bills at the end.

Adjusting Entries.

December 31

1. Salaries Expense 9,600

Salaries Payable 9,600
2. Accounts Receivable 1,800
Green fees Earned 1,800

3. In January, Florida received membership fee in advance

Cash XX
Unearned Membership fees XX

Membership dues earned in December is $ 106,000

Adjusting Entry
Unearned Membership Dues 106,000
Membership Dues Earned 106,000
4. Cost of carts $ 180,000
Estimated Life 15 years
 Depreciation Expense / month 180,000/(15* 12) = 1000
Depreciation Expense 1,000
Accumulated Depreciation 1,000
5. Interest Expense/month = 45,000 *8/100 *1/12 =300
Interest Expense 300
Interest Payable 300
6. One year (12 months) insurance policy was purchased on
March 1at 7,800
We have to create the insurance expense of one month
7,800/12=650
Insurance Expense 650
Prepaid Insurance 650
7. Agreement is made, the expected revenue will be 4,500

According to realization principle, NO transaction will be recorded

Verbal agreements are not recorded, even written agreements are

not recorded, unless advance(cash) is paid or received.

8. Unrecorded IT
Income Tax Expense 19,000
Income Tax Payable 19,000
Unrecorded means, transaction is realized but not recorded.
Try at home Problem 4-2 A, 4-1B, 4-2B
June-1 Paid 6 months advance rent for $ 6,000

General Journal

Prepaid rent 6,000

Cash 6,000
Un-adjusted Trial Balance
June 30,-----
Cash ?
Prepaid Rent 6,000
 June 30

One month rent is adjusted

Rent Expense 1,000

Prepaid Rent 1,000

Prepaid Rent

-----------------------------------------------

June 1 6,000 June 30 Adjustment 1,000

----------------------------------------------------------

June 30 5,000
Adjusted Trial Balance
June 30, ------
Cash
Prepaid Rent 5,000

Advance rent was paid on june 1 for six months

What was the original cash paid
After one month adjustment, the prepaid rent is 5,000, for 5
remaining months. That means that rent for the month was
$ 1,000. Hence the prepaid rent was--$ 6,000-on June 1

Adjusted Trial Balance

June 30
Prepaid airport rent 9,000

Other information part 3 .

6 months airport rent had been paid on May1.

How many adjustments

 Two May 31 and June 30
The figure appearing in adjusted trial balance is for 4 months
What is the monthly rent 9,000/4 =2,250
What was total amount paid for 6 months 2,250*6 =13,500

Lecture 6
Adjusting Entries:
1. Adjusted Prepayments (Assets) with Expenses.
2. Adjusted Advance received ( unearned recorded as Liability) with
Revenue.
3. Non-current assets are adjusted as Depreciation expense (debited)
and accumulated Depreciation(credited)
4. Revenue realized but not recorded, these are recorded as Accounts
Receivable(debit) and Revenue(credit)
 5. Expenses realized but not recorded, these are recorded as
(Expenses(debit) and Accrued Expenses(credit).

Steps in accounting cycle

 General Journal
 General Ledger ( T-accounts)
 Trial Balance ( unadjusted trial balance)
 Adjusting entries

Problem 5-5A (problem 230-231)

Adjustments are made on a monthly basis.

Accrued Revenue: Revenue realized but cash not collected (A/R)

Accrued Expense: Expense incurred, but cash not paid (payable)

Accrual is the term used both for receivable or payable

Accrual is asset if taken with revenue and it is liability if taken with expense

Adjusting entries:

1. Accounts Receivable 1,500

Consulting Service Revenue 1,500

( to record the service provided but not recorded)

2. Services provided against unearned means revenue recognized.

Since service provided so unearned reduced (debited) and revenue
realized (credited)

Unearned consulting service revenue 2,500

Consulting Service revenue 2,500

3. We have office supplies (asset) of 205, now at the end office supplies is
110
Office supplies used up (expense) = 205 – 110 = 95

Office supplies expense 95

Office supplies 95
(To record the office supplies used )
4. Depreciation expense per month = Total Cost/Estimated Life
= 54,000/72 moths =750
Depreciation expense 750
Accumulated Depreciation 750
(To record the depreciation per month)
5. 6 month rent was paid on October 1.
How many months have been adjusted?
Two months (October and November) rent has been adjusted i.e
October 31 and November 30
Prepaid rent given in the unadjusted trial balance is for how many
months are left over ----4 months
4 months prepaid rent given in un adjusted trial balance is 1,200
Rent for the month = 1,200/ 4 = 300
Rent expense 300
Prepaid rent 300
6. 12 months insurance policy was purchased on March 1
Months adjusted are March,
April,May,June,July,August,September,October,November
9 moths have been adjusted and three months are remaining
The remaining amount for three months given is 270
Insurance per month = 270/3 = 90
Insurance expense 90
Unexpired insurance 90
7. Salary expense 1,900
Salary Payable 1,900
 8. We have to record the interest of each month.
Interest rate given all the time is per year
Interest per month = Note payable amount * interest per year /100 *
months/year
Interest expense = 9,000 * 8/100 * 1/12 = 60
Interest expense 60
Interest Payable 60

9. Income tax for the 12 months period = 7,500

Income Tax for 11 month = 6,900

Income tax for the month of December =600

Income Tax expense 600

Income Tax Payable 600

Accounts Receivable

------------------------------------------------------

Dec 31 2,000

1. Adj 1,500

---------------------------------------------------
Dec 31 3,500

Office supplies 205 Debit

2. Adj entry 95 credit

Adjusted amount 110 debit

Prepaid rent 1200 debit

Adjustment 300 credit

Adjusted amount 900 debit

Unexpired Insurance 270 Debit

Adjusted entry 90 credit

Adjusted amount 180 debit

Accumulated Depreciation 35,250 credit

Adjusted entry 750 credit

Adjusted entry 36,000 credit

Interest payable 360 credit

Adjustment amount 60 credit

Adjusted amount 420 credit

IT Payable 1,750 credit

Adjustment 600 credit

2,350 credit

Unearned CSR 3,500 credit

Adjustment 2,500 debit

Adjusted 1,000 credit

Consulting SR 60,000 credit

Adjustment 1,500 credit

Adjustment 2,500 credit

Total 64,000 credit

OS EXP 605 debit + 95 debit = 700 debit

Depreciation exp 8,250 debit+750 debit = 9,000 debit

Rent expense 3,525 debit + 300 debit = 3,825 debit

Insurance Exp 1,010 Debit + 90 debit = 1,100 debit

Salaries Exp 27,100 debit + 1,900 debit = 29,000 debit

Interest expense 360 debit + 60 debit = 420 debit

IT exp 6,900 debit + 600 debit = 7,500 debit

5th Step in accounting cycle
Adjusted Trial Balance
Silver Lining Inc.
Adjusted Trial Balance
December 31, 2015

Cash 42,835
Accounts Receivable 3,500
Office Supplies 110
Prepaid Rent 900
Unexpired Insurance 180
Office equipment 54,000
Accumulated depreciation 36,000
Accounts Payable 1,400
Interest Payable 420
Income Tax Payable 2,350
Notes Payable 9,000
Unearned Consulting Service Revenue 1,000
Capital Stock 30,000
Retained earnings 8,000
Dividends 1,000
Consulting Service Revenue 64,000
Office Supplies Expense 700
Depreciation Exp=OE 9,000
Rent Exp 3,825
Insurance Exp 1,100
Salaries Expense 29,000
Interest Expense 420
IT expense 7,500
154,070 152,170

Silver Lining Inc.

Income Statement
For the year 2015

Consulting Service Revenue 64,000

Office Supplies Expense 700
Depreciation Exp=OE 9,000
 Rent Exp 3,825
Insurance Exp 1,100
Salaries Expense 29,000
Interest Expense 420
IT expense 7,500 51,545
Net Inconr 12,455

Silverlining Inc
Statement of Retained Earnings
As on December 31, 2015

RE at the beginning 8,000

Net Income for the year 12,455
Sutotal 20,455

Less Dividend (1,000)

RE as on December 31 19,455.

Balance

Assets Liabities

SHE