UNIVERSITY OF SAINT LOUIS

Tuguegarao City

SCHOOL OF ACCOUNTANCY, BUSINESS and HOSPITALITY

First Semester
A.Y. 2020-2021

Lesson 8: Adjusting Entries (Continuation)

Topic: a. Deferral of Expenses

b. Deferral of Income
c. Adjusted trial balance
Learning Outcomes: At the end of this module, you are expected to :
1. Identify the types of adjustments and their purposes.
2. Prepare and Explain the adjusting entries
3. Interpret the effects of omission of adjusting entries in the Financial
Statements
4. Develop skills in preparing the adjusting journal entries.
5. Prepare a properly classified Adjusted Trial Balance

Let us start with a short prayer

Lord God our Heavenly Father, we thank you for the gift of life. We offer all our endeavors to you, our afflictions,
our hopes for a better tomorrow, we raise them all to you, O God. Bless us with your wisdom and grace that we
may discern our purpose in this life. All for your honor and glory, thru Jesus Christ our Lord and thru the
intercession of the Blessed Virgin Mary, Amen.

Hi guys, here’s wishing you a great week ahead!

Here’s another ”Laughter is the Best Medicine” for your story bank.

Ten men and one woman are hanging on a rope that extends down from a helicopter. The weight of eleven
(11) people is too much for the rope, so the group decides one person has to jump off.

No one decide who should go, until finally the woman volunteers. She gives a touching speech, saying she will
sacrifice her life to save them, because women are used to giving up things for their husbands and children.

When she finishes speaking, . . . . all the men start clapping.

Source: RD: Laughter is the Best Medicine
Let’s recap our study of the accounting cycle.
Steps in the Accounting Cycle:
1. Identifying and Analyzing – finished
2. Journalizing - finished
3. Posting – finished
4. Preparing the Unadjusted
Trial Balance – finished
5. Preparing the adjusting Entries - wrapping up
6. Preparing the Adjusted Trial Balance – coming up next
To continue with adjusting entries:

ACCT 1026- Financial Accounting and Reporting | 1

DEFERRAL – is the postponement of the recognition of an expense already paid but not yet incurred or of a
revenue/income already collected but not yet earned. This adjustment deals with an amount already recorded
as of balance sheet date.
1. Prepaid Expense are assets of the current period but expenses of the future. It may include unused
supplies and services which have already been paid for but the benefits apply to future periods.

There are two (2) acceptable methods of accounting for Prepaid Expenses:
 Asset Method debits (DR) an asset account upon the payment of cash
 Expense Method debits (DR) an expense upon the payment of cash

Adjustments related to Prepaid Expenses depend on whether the Asset or Expense method was used
in its original entry.

https://www.slideserve.com/long/adjusting-entries-prepayments

Illustration 1: Prepaid Rent

On December 01 2019, the business paid rent for three (3) month in advance amounting to P60,000 to
cover six month rent commencing in December.

EXPENSE METHOD ASSET METHOD

Journal Entry Journal Entry
ACCOUNT
DATE TITLES DR CR DATE ACCOUNT TITLES DR CR
12/1/2019 Rent Expense 60,000 12/1/2019 Prepaid Rent 60,000
Cash 60,000 Cash 60,000

To record the payment of Rent To record the payment of Rent

On Dec. 31, 2019, the end of the calendar year, the composition of the Rent paid is as follows:

Expense portion: rent for December P10,000

Asset portion : prepaid rent Jan-May 50,000

There is now a need to split the asset and expense portion to present correct amount Prepaid Rent and
Rent Expense in the financial statements. Farther to the example above, if we are to prepare the AJE at the
end of the calendar year:

EXPENSE METHOD ASSET METHOD

Journal Entry Journal Entry
DATE ACCOUNT TITLES DR CR DATE ACCOUNT TITLES DR CR
12/1/2019 Rent Expense 60,000 12/1/2019 Prepaid Rent 60,000

ACCT 1026- Financial Accounting and Reporting | 2

 Cash 60,000 Cash 60,000
To record the payment of Rent To record the payment of Rent

Adjusting Journal Entry Adjusting Journal Entry

DATE ACCOUNT TITLES DR CR DATE ACCOUNT TITLES DR CR
12/31/2019 Prepaid Rent 50,000 12/31/2019 Rent Expense 10,000
Rent Expense 50,000 Prepaid Rent 10,000
To record adjusting entries for Rent To record adjusting entry for Rent
To make you understand better, let me help you analyze the above transaction by way of a T-account:

EXPENSE ASSET
METHOD METHOD
RENT EXPENSE PREPAID RENT
1-Dec 60,000 50,000 31-Dec 1-Dec 60,000 10,000 31-Dec

BAL BAL
12/31 10,000 12/31 50,000

Either the expense or the asset method is used, both options will give you the same result.

On Dec. 31, 2019, the end of the calendar year, the composition of the Rent paid is as follows:

Expense portion: rent for December P10,000

Asset portion : prepaid rent Jan-May 50,000

Notes on the Asset and Expense Method:

 The expense method debits (DR) an expense in the Original Entry

 The Asset method debits (DR) an asset account in the Original Entry
 The expense method credits(CR) or reverses the expense account in the AJE and debits an Asset
account
 The Asset Method credits (CR) or reverses the asset account in the AJE and debits an expense
account
 Regardless of the method used the results after adjustment are the same
 In all AJEs, no cash is involved and no supporting documents are required.

2. Unearned Revenue or Income – cash is received in the current accounting period and earned
in future accounting period. It is considered as a liability
because it represents obligation to render services for the
amount collected in advance.

ACCT 1026- Financial Accounting and Reporting | 3

https://learn.canvas.net/courses/37/pages/study-deferred-revenues-cash-is-received-before-revenue-is-recognized

There are 2 methods of accounting for Deferred Income

 Liability Method credits (CR) a liability account upon receipt of Cash in advance
 Income Method credits (CR) an income account upon receipt of Cash in advance

Illustration 2: Unearned Interest Income

On December 16, 2019, a business received a P1,000,000 60-day note, discounted at 6% from
Marvelous Industries to fund its incoming checks. Assume a calendar period.

How do you determine if the Interest is referring to a Note Payable or to a Note Receivable?

In analyzing these types of transactions:

 Be attentive to the technical terms being used
 Discounting is a technical term to indicate advance payment of interest
 You are analyzing the transaction from the point of view of the business, hence the term receive
means that the business are the Creditor
 Since business is Creditor, the interest received in advance is an Interest Income
 Unless specified on monthly basis, Interest rates are normally on a per annum , hence it is divided by
360 days (I = PRT)
Applying the two methods in accounting for Interest received in advance:

LIABILITY METHOD INCOME METHOD

Journal Entry Journal Entry
DATE ACCOUNT TITLES DR CR DATE ACCOUNT TITLES DR CR
12/16/2019 Notes Receivable 1,000,000 12/16/2019 Notes Receivable 1,000,000
Unearned Interest 10,000 Interest Income 10,000
Cash 990,000 Cash 990,000
To record the discounting of Notes Receivable To record the discounting of Notes Receivable

At the end of the accounting period, an adjusting entry is necessary to separate the liability from the earned
portion of Interest Income.

On Dec. 31, 2019, the end of the calendar year, the composition of the Interest Income is as follows:

Income portion: Interest for December 16-31 (15/60 x P10,000) P2,500

Liability portion: Interest for January to Feb 14 (45/60 x P10,000) 7,500
ACCT 1026- Financial Accounting and Reporting | 4
 (P7,500 will be earned next accounting period)
TOTAL P10,000

By way of T-account analysis, we will get the same result, viz:

LIABILITY METHOD INCOME METHOD

UNEARNED INTEREST INTEREST INCOME
10,000 16-Dec 10,000 16-Dec
31-Dec 2,500 12/31 7,500
BAL BAL
AJE 7,500 12/31 AJE . 2,500 12/31

Very Important Note:

If adjusting entries are to be prepared with the aid of a pre-adjusted trial balance, the adjustment of
DEFERRALS depends on the related account which appears on such trial balance.

Illustration 3 – Adjusting Entries with the aid of an Unadjusted trial Balance

Problem: The following item appears on the unadjusted T/B on Dec. 31:
Credit
Rent Income P90,000

Required: Prepare the adjusting journal entry if rentals were received on Dec. 01 for three (3) months in
advance.

On Dec. 31, the composition of the total amount received of P90,000 ia as follows:

Income portion : Rental for December (90,000/3) P30,000

Liability portion : Rental for Jan and Feb (90,000 x2/3) 60,000

The liability portion of P60,000 should be transferred from the Rent Income to the Unearned Rent account.

Adjusting Journal Entry:

Dec. 31 Rent Income P90,000

Unearned Rent P90.000

To record unearned rentals for January and February

What is the method used? Income Method. How did I know? The Rent Income account says it all!

Below is a summary of the pro-forma adjusting entries that you have just learned. I hope this will come
handy:
1. Unpaid or Accrued expenses (expenses already incurred but not yet paid)

Dr. _________ expense Pxxx

Cr. (Expense) Payable Pxxx
ACCT 1026- Financial Accounting and Reporting | 5
2. Prepaid Expenses (expenses already paid but not yet incurred)

a) Expense Method:
Dr. Prepaid (Expense) >> for the asset portion at the end of the period
Cr. _________ Expense

b) Asset Method:
Dr. _________ Expense >>>to record the expense portion at the end of the period
Cr. Prepaid (Expense)

3. Uncollected or Accrued Income (income already earned but not yet collected)

Dr. (Income) Receivable Pxxx

Cr. ________ Income Pxxx

4. Unearned or Deferred Income (income already received but not yet earned)

a) Income Method:
Dr. _________ Income >>> for the unearned portion at the end of period
Cr. Unearned (Income)

b) Liability Method:
Dr. Unearned (Income) >>> for income earned during present period
Cr. __________ Income

5. Depreciation of Non-Cash or Fixed Assets

Dr. Depreciation Expense Pxxx

Cr. Accumulated Depreciation – (Fixed Asset) Pxxx

6. Estimated Loss on Uncollectible accounts or bad debts

Dr. Bad Debts Expense Pxxx

Cr. Allowance for Bad Debts Pxxx

Posting the Adjusting Entries:

After the adjusting journal entries are recorded in the General Journal, they must be necessarily [posted in the
General Ledger so that the general ledger account balances will be adjusted accordingly. An adjusted trial
balance may then be prepared to prove posting accuracy of the adjusting entries.

END OF LESSON 8

Proceed to the Drills/ Activities Part to Test your Skills

REFERENCES

Textbooks
ACCT 1026- Financial Accounting and Reporting | 6
 1. Ballada, W. (2019). Basic Financial Accounting and Reporting. Manila: DomDane Publishers.
2. Cabrera, E.(2017) Fundamentals of Accounting Volume I, GIC Enterprises & Co., Inc., Manila
3. Millan, Z. V. (2020). Financial Accounting and Reporting (Fundamentals). Baguio City: Bandolin
Enterprise.
4. Valencia, E. and Roxas, G. (2017), Basic Accounting, Valencia Educational Supply
5. Valix, C. and Peralta, J. (2018). Financial Accounting Volume I GIC Enterprises & Co., Inc., Manila

Online Reference

1. Introduction to accounting, https://courses.lumenlearning.com/sac-finaccounting/chapter/chapter-1/

2. Accounting Basic https://www.accountingcoach.com/accounting-basics/explanation
3. Basic Accounting. https://www.bizfilings.com/toolkit/research-topics/finance/basic-accounting/the-
accounting-system-and-accounting-basics
4. Basic accounting and bookkeeping lessons, http://www.moneyinstructor.com/accounting.asp
5. Financial Accounting. https://www.accountingcoach.com/financial-accounting/explanation
6. Accounting Tutorials for Beginners. https://www.guru99.com/accounting.html

ACCT 1026- Financial Accounting and Reporting | 7