FABM-1 - Module 6 - Adjusting Entries - Deferrals

Fundamentals of Accountancy, Business and
Governor Pack Road, Baguio City, Philippines 2600 Management 1

Tel. Nos.: (+6374) 442-3316, 442-8220; 444-2786;
442-2564; 442-8219; 442-8256; Fax No.: 442-6268 Grade Level/Section: Grade 11- ABM
Email: email@uc-bcf.edu.ph; Website: www.uc-bcf.edu.ph
MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos
ADJUSTING ENTRIES - DEFERRALS

Learning Objectives:
At the end of this module, learners must be able to:
a. Identify accounts to be adjusted;
b. properly record adjusted transactions;
Deferrals
There are often transactions where customers or the business pays something in advance,
these are called prepayments. Prepayments are treated as either assets or expense on the point of
view of the payer; income or liability on the point of view of the recipient of the payment. Deferrals in
accounting this means to defer or to delay recognizing certain revenues or expenses on the income
statement until a later, more appropriate time. Revenues are deferred to a balance sheet liability
account until they are earned in a later period. When the revenues are earned they will be moved
from the balance sheet account to revenues on the income statement.
Expenses are deferred to a balance sheet asset account until the expenses are used up,
expired, or matched with revenues. At that time they will be moved to an expense on the income
statement.
To summarize, adjusting entries needs to be recorded for transactions involving advance

payments.
How to Journalize
In recording for deferrals, you need to know that 2 entries will be needed on the first
accounting period the advance payment was done.
The first entry will be the initial entry, which will tell us what method will be used and will help us
determine the adjusting entry needed at the end of the accounting period. Initial entry is simply the
journal entry when the transaction happened.
The second entry will be the adjusting entry, which will tell us how much will be deferred or is
consumed of the advance payment.
Methods
As mentioned above, there will be an initial entry which will tell us what method is being used
by the company.
o When the company pays in advance

▪ Asset Method
▪ Expense Method
o When the company receives advance payments
▪ Income Method
▪ Liability Method
The kind of method will tell us how we should treat what the advance payment is and will be
adjusted at the end of the accounting period to reflect the proper amount of the asset, liability,
income, and expense.
For example, in the first scenario where the company paid in advance, it can either treat the
payment as an asset or expense (depending on company policy). At the end of the accounting
period, it will be adjusted to reflect the amount corresponding to the asset of expense account.
Fundamentals of Accountancy, Business & Management - 1 Page 1 of 7

Tel. Nos.: (+6374) 442-3316, 442-8220; 444-2786;
Format (Default Entries)

Below are the default entries to be followed for this type of adjusting entry.
1. When the Business pays in advance

a. Asset Method
INITIAL ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
Prepaid (Name) ###
Cash ###
To record advance payment by company
Simply replace the “(Name)” with the appropriate name. For example, if the advance
payment was for rent, then it would look like this:
INITIAL ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
Prepaid Rent ###
Cash ###
To record advance payment of rent
ADJUSTING ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
(Name) Expense ###
Prepaid (Name) ###
To record expense
At the end of the accounting period, the asset account must be reduced and an
expense account will be created because the asset was already used.
An adjusting is necessary to reflect the proper amount of asset and expense since the
entire amount of the advance payment is not utilized but only a portion of it must be
recognized as expense depending in the period that had passed.
Example:
On May 1, 2021, Naka Rinta Company paid P180,000 to Nagpa Rinta Company which is
equivalent to an annual rent.
Assuming that the company uses calendar year and annual accounting period, the following will be the entries.
INITIAL ENTRY
Debit Credit
Date Entry
(In PHP) (In PHP)
May 1, 2020 Prepaid Rent 180,000.00
Cash 180,000.00

ADJUSTING ENTRY
Dec 31, 2020 Rent Expense 120,000
Prepaid Rent 120,000
To record rent expense

Tel. Nos.: (+6374) 442-3316, 442-8220; 444-2786;
Computation:
180,000 / 12 = P 15,000
15,000 x 8 = P 120,000
Notice that the amount recorded in the adjusting entry for the rent expense is the
amount equivalent to 8 months. This is because only 8 months have passed since May, that
means, the expense that the company needs to recognize is only the amount equal to
that 8- month span. We also need to reduce the asset (Prepaid Rent) account by the
same amount because it was already used for a good 8 month.
b. Expense Method
INITIAL ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
(Name) Expense ###
Cash ###
To record advance payment by company
In this entry, instead of recording the item as an asset, we record it as expense

immediately.
ADJUSTING ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
Prepaid (Name) ###
(Name) Expense ###
To record expense
At the end of the accounting period, the expense account must be reduced because
the entire amount of the advance payment is not yet used and an asset account will be
created to reflect the remaining value of the advance payment.
Example:
On May 1, 2021, Naka Rinta Company paid P180,000 to Nagpa Rinta Company which is
equivalent to an annual rent.
INITIAL ENTRY
Debit Credit
Date Entry
(In PHP) (In PHP)
May 1, 2020 Rent Expense 180,000.00
Cash 180,000.00

ADJUSTING ENTRY
Dec 31, 2020 Prepaid Rent 60,000
Rent Expense 60,000
To record rent expense
In the adjusting entry under expense method we must reduce the expense by the
amount of the remaining amount, unlike in the asset method where the amount recorded
is the amount equivalent to the period that passed.

Tel. Nos.: (+6374) 442-3316, 442-8220; 444-2786;
2. When the Business was paid in advance

a. Income Method
INITIAL ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
Cash ###
(Name) Income ###
To record advance payment to company
We will recognize the account as an income initially but you need to remember that
this will violate the realization concept hence, we need to adjust our income and
recognize a liability at the end of the accounting period.
ADJUSTING ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
(Name) Income ###
Unearned (Name) Income ###
To record unearned income
Deferred (Name) Income may also be used.
A liability account must be recognized to reflect the amount of service not yet
rendered to client.
Example:
On May 1, 2021, Nagpa Rinta Company was paid P180,000 by Naka Rinta Company
which is equivalent to an annual rent.
INITIAL ENTRY
Debit Credit
Date Entry
(In PHP) (In PHP)
May 1, 2020 Cash 180,000.00
Rent Income 180,000.00
To record advance collection of rent

ADJUSTING ENTRY
Dec 31, 2020 Rent Income 60,000
Unearned Rent Income 60,000
To record liability for rent
Always remember that “Unearned (Name) Income” or “Deferred (Name) Income” is a

liability account and not an income account.
The amount to be recorded in the adjustment will be the amount equivalent to the
remaining period of the advance payment.

Tel. Nos.: (+6374) 442-3316, 442-8220; 444-2786;
b. Liability Method
INITIAL ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
Cash ###
To record advance payment to company
This time, we will recognize the advance payment as a liability. As the time passes or as
you render the service, the liability will be reduced, hence, an adjustment must be made
to reflect the income already earned by the company.
ADJUSTING ENTRY
Debit Credit
Entry
(In PHP) (In PHP)
(Name) Income ###
To record income earned
An income account must be recognized to reflect the amount of service already

rendered to client.
Example:
On May 1, 2021, Nagpa Rinta Company was paid P180,000 by Naka Rinta Company
which is equivalent to an annual rent.
INITIAL ENTRY
Debit Credit
Date Entry
(In PHP) (In PHP)
May 1, 2020 Cash 180,000.00
Unearned Rent Income 180,000.00
To record advance collection of rent

ADJUSTING ENTRY
Dec 31, 2020 Unearned Rent Income 120,000
Rent Income 120,000
To record earned income
The amount to be recorded in the adjustment will be the amount equivalent to the
period of rendering the service.

Tel. Nos.: (+6374) 442-3316, 442-8220; 444-2786;
ECQ Co. paid GCQ Inc. an amount of ₱60,000 on October 1, 2019 as payment for Office Rental
covering a 6-month period.
Analysis: The amount of ₱60,000

was already collected and
recorded on October 1, 2019.
However, Under the accrual basis
of accounting and realization
concept, a portion of the rent
income is not yet earned
representing the rental from
January 1 to March 31, 2020 that is
called “deferred income”. On the
part of the lessee, that portion is
referred to as “pre-paid expense”.
Under liability method, the adjusting entry to record deferral of pre-collection would be:
Dec. 31 Deferred Rent Income 30,000
Rent Income 30,000
To record deferred rent income
The lessor (GCQ Inc.) should adjust the liability account at the end of the accounting period.
The account title “Unearned rent income” can be used in lieu of Deferred rent income which is a
liability account.
Under income method, the adjusting entry to record deferral of pre-collection would be:
Dec. 31 Rent Income 30,000
Deferred Rent Income 30,000
To record deferred rent income
The lessor (GCQ Inc.) should adjust the income account at the end of the accounting period.
The account title “Unearned rent income” can be used in lieu of Deferred rent income which is a
liability account.
Under asset method, the adjusting entry to record deferral of pre-payment would be:
Dec. 31 Rent expense 30,000
Pre-paid rent 30,000
To record deferral of pre-payment
The lessee (ECQ Co.) should adjust the expense account at the end of the accounting period.
Under expense method, the adjusting entry to record deferral of pre-payment would be:
Dec. 31 Pre-paid rent 30,000
Rent expense 30,000
To record deferral of pre-payment
The lessee (ECQ Co.) should adjust the expense account at the end of the accounting period.

Tel. Nos.: (+6374) 442-3316, 442-8220; 444-2786;
References:
• Banggawan, R., Asuncion, D.(2017).Fundamentals of Accountancy, Business and
Management 1. Aurora Hill, Baguio City: Real Excellence Publishing.
• Ferrer, R., Millan, Z.(2017). Fundamentals of Accountancy, Business and Management 1.
Bakakeng Sur, Baguio City: Bandolin Enterprise.
• Ong, F.(2016). Fundamentals of Accountancy, Business and Management 1. South Triangle,
Quezon City: C & E Publishing.
• Baysa, G., Lupisan, M.(2011). Accounting for Partnership and Corporation. Mandaluyong City:
Millenium books,
• https://www.accountingcoach.com/terms/D/deferral

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Fundamentals of Accountancy, Business and

Governor Pack Road, Baguio City, Philippines 2600 Management 1

MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos

ADJUSTING ENTRIES - DEFERRALS

To summarize, adjusting entries needs to be recorded for transactions involving advance

o When the company pays in advance

Fundamentals of Accountancy, Business & Management - 1 Page 1 of 7

MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos

Format (Default Entries)

1. When the Business pays in advance

To record advance payment by company

To record advance payment of rent

To record advance payment of rent

To record rent expense

MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos

To record advance payment by company

In this entry, instead of recording the item as an asset, we record it as expense

To record advance payment of rent

To record rent expense

Fundamentals of Accountancy, Business & Management - 1 Page 3 of 7

MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos

2. When the Business was paid in advance

To record advance payment to company

To record unearned income

Deferred (Name) Income may also be used.

To record advance collection of rent

To record liability for rent

Always remember that “Unearned (Name) Income” or “Deferred (Name) Income” is a

Fundamentals of Accountancy, Business & Management - 1 Page 4 of 7

MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos

To record advance payment to company

To record income earned

An income account must be recognized to reflect the amount of service already

To record advance collection of rent

To record earned income

Fundamentals of Accountancy, Business & Management - 1 Page 5 of 7

MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos

Analysis: The amount of ₱60,000

Fundamentals of Accountancy, Business & Management - 1 Page 6 of 7

MODULE 6 – FABM 1 Subject Teacher: Kenny Jones A. Amlos

Fundamentals of Accountancy, Business & Management - 1 Page 7 of 7

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