ACCT 1026- Financial Accounting and Reporting LIABILITIES- Liabilities are future sacrifices of economic benefits that an

Lesson 1: The Accounting Equation organization is presently obliged to make to other organizations or individuals as a
What is the Accounting Equation? result of past transactions or events.
An accounting transaction is a business activity or event that causes a measurable -reflect the size of the financing of an organization’s assets by third parties, banks,
change in the accounting equation. and private financial institutions. This is what the company owes.
The accounting equation is a basic principle of accounting and a fundamental
element of the balance sheet. EQUITY- represents the residual (what is left) once all fixed claims have been
The equation is as follows: Assets = Liabilities + Equity satisfied or simply “assets less/minus liabilities”.
-equity characterizes the value of investments made in this organization by its
owner/s

Example 1:

Juan dela Cruz started his Coffee Shop business by investing his Cash savings
amounting to P 500,000.00 and borrowed P250,000.00 from ABC Bank.
This equation sets the foundation of double-entry accounting and highlights the Assets= Cash P 500,000.00 (owned)
structure of the balance sheet. Liabilities= Loan P 250,000.00 (owed)
Double-entry accounting is a system where every transaction affects both sides of the Equity= Assets – Liabilities (P 250,000.00)
accounting equation.
Assets = Liabilities + Equity
For every change to an asset account, there must be an equal change to a related P 500,000.00 = P 250,000.00 + P 250,000.00
liability or equity account. It is important to keep the accounting equation in mind Assets - Liabilities= Equity
when performing journal entries. P 500,000.00 – P 250,000.00 = P 250,000.00
THE EXPANDED ACCOUNTING EQUATION
NOTE: If an entity keeps accurate records, the accounting equation will always be Assets – Equity = Liabilities
"in balance," meaning the left side should always equal the right side. The balance is P 500,000.00 – P 250,000.00 = P 250,000.00
maintained because every business transaction affects at least two of an entity's
accounts. For example, when an entity borrows money from a bank, the entity's
assets will increase and its liabilities will increase by the same amount. When an The expanded accounting equation provides more details for the owner's equity
entity purchases inventory for cash, one asset will increase and one asset will amount shown in the basic accounting equation. The expanded accounting equation
decrease. Because there are two or more accounts affected by every transaction, the for a sole proprietorship is: Assets = Liabilities + Equity (Owner's Capital) +
accounting system is referred to as double-entry accounting. Revenues – Expenses – Owner's Draws.

The balance sheet is broken down into three major sections and their various The expanded accounting equation allows you to see separately (1) the impact on
underlying items: Assets, Liabilities and Equity. equity from net income (increased by revenues, decreased by expenses), and (2) the
effect of transactions with owners (draws, dividends, sale or purchase of ownership
ASSETS- are future economic benefits controlled by an organization/entity as a interest).
result of past transactions or other past events.
-reflect the total value of the property that the business has, and which is in its
turnover. In other words, it is what it owns.
 ***The difference between revenue and expenses represents profit or loss.
• If revenue is greater than expenses, the difference is profit
• If revenue is less than expenses, the difference is loss
Example 2:
• Juan dela Cruz, on the first month of operating his Coffee Shop, earned a
Revenue (received cash) of P 50,000.00 and incurred total expenses (paid
cash) of in the amount of P 30,000.00 (Wages of crew/staff/cashier,
Supplies, Rent, Utility Expenses).
• Assets= P 500,000.00
• Liabilities= P 250,000.00
• Equity= P 250,000.00
Revenue= P 50,000.00
Expenses= P 30,000.00

EQUITY- is the residual interest in the assets of the entity after deducting all the
liabilities (IASB Framework).
- is what the owners of an entity have invested in an enterprise. It represents
what the business owes to its owners. It is also a reflection of the capital left
in the business after assets of the entity are used to pay off any outstanding
liabilities.

REVENUE- is the income generated from normal business operations and includes
discounts and deductions for returned merchandise. It is the top line or gross income
figure from which costs are subtracted to determine net income.
-If the revenues earned are a main activity of the business, they are considered to be
operating revenues. If the revenues come from a secondary activity, they are ACCT 1026- Financial Accounting and Reporting
considered to be non-operating revenues.
-Normally increases ASSETS. Lesson 2: The Major Accounts, Books of Accounts
And Double-Entry Bookkeeping
EXPENSE- An expense is the cost of operations that a company incurs to generate
revenue. As the popular saying goes, “it costs money to make money.” Account is defined as a basic summary device in accounting. The account is
also defined as a record of increases and decreases in assets, liabilities,
-There are two main categories of business expenses in accounting: operating equity, income or revenues and expenses. Incidentally, these are also our five
expenses and non-operating expenses. major accounts and also called the elements of financial statements.
-Normally decreases ASSETS.
The account resembles the letter ‘T’ as it also being depicted as a T-account.

An account has three (3) parts:

1. Account Title
2. Debit
3. Credit
Stated differently, a T-account is an informal term for a set of financial
records that uses double-entry bookkeeping. ... The title of the account is
then entered just above the top horizontal line, while underneath debits are
listed on the left and credits are recorded on the right, separated by the
vertical line of the letter T.

For better appreciation, here is a sample of entries using the T-account

Classification of the Five (5) Major Accounts

The five (5) major accounts are further classified based on the financial
statement where they appear:

Statement of Financial Position Statement of Income

Accounts Accounts
1. ASSETS 1. INCOME
2. LIABILITIES 2. EXPENSES
3. EQUITY
The Statement of Financial Position is one of the components of a Notes on the Chart of Accounts:
complete set of financial statements. It shows the financial position of the
business as of a given period of time. 1. It follows a certain order of presentation, such that the Assets are
presented first followed by the other Statement of financial Position accounts
The Income Statement is a sub-component of the Statement of and then the income statement accounts;
Comprehensive Income, is also one of the major components of a complete
set of financial statements. It is also known as statement of Profit or Loss, 2. All the asset accounts are preceded by the number 1, liabilities by the
shows financial performance for a given period of time. number 2 and so on.

The Financial Statement is thoroughly discussed in Intermediate Accounting 3. The chart of accounts may be accompanied with a handbook
3. containing the account titles, their definition and uses, a sample is presented
below;
Chart of Accounts
4. You can design your own chart of accounts; and formulate the
A chart of accounts is a list of all accounts used by the business. account titles to be used.

Sample chart of accounts is presented below:

COMMON ACCOUNT TITLES USED

Statement of Financial Position - ASSETS

Includes money or equivalent that is unrestricted .

CASH example is cash on hand and cash in bank

ACCOUNTS
RECEIVALBE Oral or written promises to pay sums of money
 ALLOWANCE FOR Estimated losses on uncollectible accounts Income Statement
BAD DEBTS receivable Accounts - INCOME
NOTES SERVICE FEES Revenue earned after rendering services
RECEIVABLE Promises to pay supported by a promissory note
INVENTORY Goods held by the business intended for sale SALES Revenue earned from selling goods
PREPAID INTEREST
SUPPLIES Unused office and other supplies INCOME Arises from interest bearing receivables
PREPAID RENT Rent paid in advance Income earned from the sale of assets other than
PREPAID GAINS Inventory.
INSURANCE Insurance paid in advance
Structures owned by the business used in Income Statement Accounts - EXPENSES
BUILDING operations COST OF SALES or Value of inventories sold for a certain accounting
Total amount of depreciation expenses recognized COST OF period
ACCUMULATED since the fixed asset GOODS SOLD
DEPRECIATION was made available for use FREIGHT OUT or Seller’s expenses for delivering goods to customers
Consists of machineries, transportation equipment, DELIVERY
EXPENSE
EQUIPMENT office equipment like
SALARIES
table, chairs, cabinets, computer equipment like
EXPENSE Amounts paid to employees for services rendered
server, laptops, desktop
RENT EXPENSE Cost of rentals used during the accounting period
and furniture and fixtures
UTILITIES Cost of power and electricity, used during the
EXPENSE accounting period
Statement of Financial Position - LIABILITIES DEPRECIATION A portion of the cost of a depreciable fixed asset
ACCOUNTS EXPENSE for the accounting period
PAYABLE Obligations to pay sums of money oral or informal. BAD DEBTS Estimated business losses arising from uncollected
EXPENSE or accounts receivables
Obligations to pay sums of money supported by a DOUBTFUL
NOTES PAYABLE promissory note ACCOUNTS
INTEREST Interest already due but not yet paid. Most common EXPENSE
PAYABLE example is interest on bank TAXES AND Cost of local and business taxes required by the
loan LICENSES government for operating a
SALARIES Already earned by employees but not yet paid as of business. Examples are mayor’s permit, cedula,
PAYABLE balance sheet date DTI permit, percentage taxes
UTILITIES Electric, water, telephone, cable, internet already TRANSPORTATIO Transportation expense is within the locality like
PAYABLE used but not yet paid N and TRAVEL tricycle and taxi fares while
UNEARNED Income already collected but the related services Travel expenses are incurred by employees while
INCOME will be done in the future EXPENSES going outside of the place
of business like plane fares, bus fares, hotel
Statement of Financial Position - EQUITY accommodations and food
OWNER’S What is remaining after deducting liabilities from allowances while on business trip
CAPITAL capital (A-L = OE)
INTEREST Represents the cost of borrowing money. This is
Record temporary withdrawals by the owner and it EXPENSE the amount paid to the banks
OWNER’S
when availing of a loan.
DRAWING is closed to the
ADVERTISING Cost of promotional activities intended to increase
owner’s capital at the end of the accounting period EXPENSE product awareness of the
 public
Come from sale of assets other than inventory that
LOSSES is lesser than book value or
decreases in the value of assets due to damages due
to natural calamities or
other causes. An example of an ordinary loss is the
decrease in the market
value of foreign currencies.
MISCELLANEOUS Small expenditures that are not required to be
EXPENSE presented separately

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We continue with the discussion.

The books of accounts is where we make a permanent record of our

business transactions. It is a requirement for tax audit purposes to keep a
permanent file of these books. 2.The Ledger – also known as the book of final entry is used to record all
transactions after the journalizing process is done. The process of
There are two types of books: transferring amounts from the journal to the ledger is called “Posting”

1. The Journal-is also known as the book of original entry. It is a record of The General Ledger (G/L) comes in two (2) different forms.
the day-to-day transaction called journal entries that follows a
a) General Ledger is a record of all accounts appearing in the trial
chronological order (by date). The act of recording in the journal is called
balance, a sample manual ledger is shown below:
“Journalizing”.
There are also different kinds of journals, depending on needs of business.

1. Special Journal which is used to record transactions of similar items come

in many forms:

 Sales Journal – is used to record sales on credit terms

 Purchases Journal – is used to record purchases on account
 Cash Receipts Journal – is used to record all transactions involving
receipts of cash
 Cash Disbursements Journal – is used to record all transactions
involving the payments of cash

2. The General Journal is the simplest form of the journal. It is a record of b) Subsidiary Ledger provides a breakdown of the balances of some
all transactions that cannot be recorded in all of the other transaction controlling accounts. Some of the most common subsidiary ledgers are
journals. In the absence of special journals, the General Journal is used to the Accounts Receivable, Accounts Payable, Fixed Assets and other S/Ls
record all journal entries. that maybe set up by the business according to its needs.

As you can see from the sample, the amount appearing on the General Ledger
is transferred to the Subsidiary ledger that with breakdown. The account and
amount in the G/L is the controlling account. In the S/L entries we come
to know that the amount of P4,000 has 2 accounts of P2,000 each.
The Double-Entry System – Let me explain the double entry system by
way of a diagram. A journal entry always has two sides, the DEBIT and the
CREDIT side. At all times, we maintain the equality of the debit and credit. In
layman’s terms, for every value that we give, we receive the same value in
return. The key is give and receive.
Stated in another way, a debit entry always has a corresponding
credit entry.
TIP: Hone your mastery of the rules of debit and credit. This is where your
strong basic foundation should start.
Ending Balance of an Account
Depending on the type of account, whether asset, liability or equity account,
the balance is always written on its normal balance side. It is computed as a
difference between total credits and total credits.
The diagram below analyzes normal balances of accounts based on its
position in the accounting equation. If you have observed, ASSETS are on the
left side of the accounting equation, so increases in assets are recorded on the
debit side and decreases on the debit side.

Contra and Adjunct Accounts:
Contra accounts are deductions from the related account. Example:
Allowance for Doubtful Accounts is a contra account to Accounts Receivable.
Adjunct Accounts – are additions to the related account. Example:
Premium on Bonds Payable is an adjunct of Bonds Payable because it is
added to the carrying amount of the Bonds.
Lesson 3: Business Transaction and their Analysis
LEARNING CONTENT
At this point of time, we are done discussing the accounting equation, the major
accounts, books of accounts, normal balance of accounts and some specific
accounts. I do hope you have understood them by heart.
Let us now apply the learnings we had for the past two weeks. Our focus is on the
bookkeeping functions primarily transaction analysis and recording, account
classification and summarizing.
Are you ready to challenge your brains?
The life of Man goes through a cycle; from birth to death, there are stages in
between. From infancy, the toddler years, childhood, adolescence, adulthood,
middle age and senior years. So this is the human life cycle.
performed to accomplish the accounting process:
To put it simply:
The accounting cycle is a multi-step process designed to convert all
of your company’s raw financial information into financial
statements.
In diagram form, may I present the accounting cycle:
Some authors include number 9 and 10 as part of the accounting cycle and they
are:
2. Preparing the Post-closing Trial Balance
3. Recording the Reversing Entries
Note: Numbers 9-10 are optional, they are for internal control purposes only.
Meaningful Financial Statements (F/S) can still be prepared without these steps.
In short, the concept of an accounting cycle makes sure that all of
the money passing through your business is actually “accounted”
for.
Lesson 3 will only include steps 1 and 2; the rest of the accounting cycle will be
discussed in the coming weeks.
Let us study the accounting cycle step by step.
a. Identifying and analyzing business transactions and documents
For me, this is the most crucial part of the process, why? Identifying will
segregate accountable from non-accountable transactions and events.
1. Accountable Event – that will be recorded in the business books as
journal entries.
- will have an effect on the accounting equation: A = L + OE
- effect means an increase or decrease in the elements of the account
equation
2. Non-accountable Event – not recorded in the books of accounts
- does not affect our assets, liabilities and owner’s equity
- just passing by
Example:
1.The daughter of the company President is getting married.
2. The daughter of the company President is getting married and he employees
contributed P500 each to come up with a nice wedding gift.
3. The daughter of the company President is getting married; the VP Finance
approved P20,000
chargeable against Expense: Representation and Entertainment account to
purchase a wedding gift.
Just a mental exercise. Now, tell me, which one is an accountable
event and which one is not. Justify your answer/s.
SOURCE DOCUMENTS is an integral part of your accounting records and
files.
 Source document us a specially designed form which supplies details of a
business transaction.
 It contains information like the date, the nature and types of
transactions, the value of the transactions and the names of the buyers
and sellers involved.
 Source documents are important:
- As evidence of transactions
- For recording transactions
- For auditing purposes.
In short, source documents is the starting point of the accounting
process.
REMEMBER:
The source document is essential to the bookkeeping and accounting
process as it provides evidence that a financial transaction has occurred.
During an accounting or tax audit, source documents back up the
accounting journals and general ledger as an indisputable transaction
trail.
Below are the common types of source documents:
1. Sales Invoice is issued by a seller evidencing the sale of goods
and cash has been received in payment. It shows the date, amount of
transaction, description and quantity of the items sold, name
and signature of the buyer and some other particulars that are deemed
appropriate and needed. Some sellers may also include the phrase
“received in good order” beside the signature of the buyer.
2. Official Receipt is issued for services rendered. It gives details as
to date, amount, description of the
services rendered, signature of the party receiving cash and all other
information deemed important.
It is noted that a Sales Invoice and an Official Receipt are both Principal
evidence/proof of purchase. The difference lies on what is being
purchased — Sales Invoice is for the purchase of goods and
Official Receipt is for the purchase of services/lease of
properties.
3. Purchase Order (PO) – is issued by the buyer to a supplier indicating
among other information the types and description, quantities and agreed prices
of the goods being ordered
When small businesses are just starting, they may forego a purchase
order process in favor of a more informal approach of ordering goods.
But as they grow, and their purchases become more complex, a
purchasing system needs to be established that requires the issuance of a
purchase order. . The purchase order (PO) is used as internal control
measure.
Definition and meaning of Purchase Order
A purchase Order (PO) is a buyer generated document that authorized
the buying transaction. When the purchased is accepted by the seller, it
becomes a contract binding both parties.
The PO is legally bound when PO is accepted by the supplier. The
Purchase Order document contains unique PO number that identifies
the purchase order.
The Purchase Order Number is used to evaluate whether the ordered
products match the goods received. It is used to match the invoice with
the purchase order to ensure the charges as per the order.
4. Delivery Receipts – evidences the shipment and delivery and the receipt
of goods. A common example is that piece of paper that a courier will make you
sign when delivering your orders from online

5. Bank deposit slip – with machine validation, is an evidence that a
deposit has been made with the bank stating the amount and date, breakdown of
the deposit, name and Signature of the teller receiving the deposit. I have to
emphasize “with machine validation” because without this, it should not be
accepted as an evidence of deposit.
Sample of a duly Validated Deposit Slip is shown below:
6. Bank Statement – is a detailed report of deposit and withdrawal
transactions with the bank for a certain period of time issued by the bank
indicating also the account’s accumulated balance. Some banks also include a
total of debits and total of credits and their average daily balance or ADB which is
useful in determining the performance of a certain account. The bank statement
is being used for reconcilement purposes.
7. Statement of Account – or a notice of billing. Common example is your
utilities bills. Another one is your school’s assessment for unpaid tuition fees.
Simply stated, this is a document evidencing the existence of unpaid account that
needs to be paid or settled.
8. Credit Memorandum (CM) – issued by the seller to acknowledge the
return of goods by the buyer, The CM reduces the amount that the buyer will pay
the seller at the due date.
9. Promissory Note (PN) – is a written promise to pay by the maker to pay
a sum of money to the payee at a certain future date. It may also indicate the
interest rate if it is an interest-bearing note. This is PN is received by the business
from its buyers and issued by the business to its suppliers.
There are other source documents in the books. The ones mentioned
above are the common documents in a merchandising business. The
bottom line is a source document supports a journal entry.
Along with the other company records, the source docume
nts are required to be kept by the business for a certain period of time for
audit purposes by the regulatory agencies. For instance, the Anti -Money
laundering Council (AMLC) requires that certain documents be kept for
five (5) years in active files and another five (5) years in archive.
Very important note:
Do not record a transaction unless it is supported by a valid
supporting document.
Why valid documents?
Because some sellers issue provisional receipts, or any sheet of paper not
prescribed and not approved by the BIR. These are not valid receipts.
As a guide in the analysis of transactions, it may be useful to follow the
four simple steps:
• Identify the transaction from the source documents. First, determine
what kind of transaction it may be. ...
• Indicate the accounts, either assets, liabilities and/or owner’s equity,
income or expense affected ...
• Identify the proper account titles to be used and determine whether
increase or decrease, debit or credit. ...
• Using the rules of debit and credit, record the transaction.
2. Recording of Accounting Transaction (Journalizing) – is the
recording phase of accounting in the book called the journal. I hope you
still remember the different types and forms of the Journal. The simplest
form is the general journal.
Important Note: The journal along with the other books of
accounts of the business should be stamped by the Bureau of
Internal Revenue at every start of the year.
A sample journal follows:
Notes on the following:

1. Journal Entries are recorded chronologically (arranged by date)

2. Amounts and account titles to be debited and credited follow the double
entry system
3. The credit entries are indented a little to the right
4. Every entry is accompanied by a short description of the transaction
5. In some instances, a folio column is added to write the reference
number. The
Explaining the purpose of the General Ledger is perhaps a difficult task. One
posting reference facilitates referencing between the journal and the ledger. It reason is because in this age of computers and information technology, the
is used in the posting process General Ledger does not any longer have an easily identifiable physical form.
Most large companies have their own system that will post transactions daily to
Simple vs. Compound entry: the Journal then to the General Ledger and from the Ledger to the Subsidiary
Ledgers. And all the Accountant has to do is print a daily report, perform
As the name suggests, a compound entry has two or more debits or credits. A reconciliation of balances between the General Ledger and Subsidiary Accounts
simple entry has only one debit and only one credit entry. and maintain a permanent file of these reports.

For companies that are still using the manual system, the standard format of the
Lesson 4: Posting of Transactions and Preparation of Trial Balance general ledger for Cash is shown below:

Steps in the Accounting Cycle:

1. Identifying and Analyzing – finished

2. Recording or Journalizing – finished
3. Posting to the Ledger –It is done by transferring the data in the
Journal to the General Ledger for classification.
4. Preparing the Unadjusted Trial Balance –It aims to periodically
test the equality of the total debits and total credits in the general ledger.
Normally, this is done at the end of each month.

Posting to the General Ledger

General Ledger (GL) is the book of final entry while the Journal is the book There are three columns for recording money - Debit, Credit and Balance. There
of original entry. is one page in the General Ledger for each Account, and typically the number
of Accounts will be many, depending on the Chart of Accounts.
The best way to explain the purpose of the general ledger is through a diagram:
The manual process of posting involves transferring the date, debit and credit
totals of accounts from the General Journal to the G/L. A recorded journal entry
is copied to its specific account in the GL.
CASH P. PENDUCO, CAPITAL
Purpose: To classify the effects of business transactions according to the five (5) Dr. Cr. Dr. Cr.
elements of financial 2-Jan10,000.00 10,000.00
Ending
statements: Assets, Liabilities, Owner’s Equity, Income and Expense. This will 10,000.00
greatly help the accountant to prepare the financial statements in an orderly and (ending
timely manner. Bal. 10,000.00 balance)

For classroom discussion, we will be using the informal form of the G/L which is
the T-account.
The Trial Balance
1. A trial balance is a list of accounts and their balances at a given time.
2. The primary purpose of trial balance to prove (check) that the debits
equal the credits after posting.
3. If the debits and credits do not agree, the trial balance can be used to
uncover error in journalizing and posting
4. The procedures for preparing trial balance consist of:
a. List the account titles and their balances.
b. Total the debit and credit columns.
c. Prove equality of the two columns.

Some Important Notes:

 Correct results of posting depend to a great extent on the correctness of

the entries in the general journal
 Errors in journalizing should be avoided as much as possible because
any error in the journal entries such as wrong amounts or wrong
accounts debited and credited will lead to wrong results of posting
Example:
On January 02, 2020, Pedro Penduco started his locksmith business investing Trial Balance out of balance if the total debits and total credits are not equal.
cash of P10,000. This is a positive proof of the existence of one or more errors.

Journal Entry: The chief causes of errors are:

1. Posting an item to the wrong side of the account
DATE ACCOUNT TITLE DEBIT CREDIT 2. A mistake in copying when transferring a balance from the ledger
Jan 02, 2020 Cash P10,000 account to the trial balance.
P. Penduco, Capital P10,000 3. Omission of the posting of either a debit or credit entry in the journal.
4. Posting the same item twice
5. Wrong addition or subtraction in finding the balance of an account.

Location of Errors
GENERAL Ledger
The following guides may help in the prompt location of errors:
 a. A difference of P0.01, P0.10, P1, P100, etc. suggests that an error has
been made in addition or subtraction
b. A difference of 9 or a multiple of 9 indicates transposition, that is, the
order of the figures is reversed. For example, 25 is written as 52 or 38 is
written as 83.
c. A difference divisible by 2 indicates an error in posting to the wrong side
of the account or entering the account balance in the wrong column of
the trial balance.
d. A difference divisible by 9 or 99 indicates a slide or misplacement of a
decimal point. For example, P50 is written as P5.00.

Tip: If the trial balance is out of balance, a good plan to locate the
error/s is to check the work from the trial balance to the journal
entries rather than from the journal entries to the trial balance.

LESSON 5

Adjusting Entry is a mandatory procedure for businesses

using the accrual basis of accounting. It is
prepared at the end of the year just before the
financial statements are finalized to: 
Take up unrecorded income and Regrouping the items for adjusting journal entries in another way is:
expenses for the accounting period and 
• Accruals – accrued expense and accrued income
Split mixed accounts into real and
• Deferrals – prepaid expenses and unearned income
nominal accounts.
• Estimates – depreciation and bad debts fall under this category

Definition of Some Terms

Real Accounts – are the accounts appearing in the Statement of Financial

Position (SFP). They are also referred to as permanent
accounts. Real accounts are retained and rolls forwards
its ending balance at the end of the year to become the
beginning balances in the next period.

I hope you still remember the topic on cash basis and accrual basis of
accounting? If not, go over your Journal of Learning for a refresher.
This diagram says everything about adjusting entries. Pay close
attention.

Nominal Accounts – are accounts appearing in the Income Statement, also
referred to as temporary accounts. These accounts
are closed at the end of the accounting period.
https://www.wallstreetmojo.com/nominal-account/
Mixed accounts – have both the components of real and nominal accounts.
The application of the accrual basis of accounting will necessitate the
adjusting entries for the following:
ACCRUAL – is recognition of an expense already incurred but unpaid and
recognition of a revenue already earned but not yet collected.
1. Accrued Expense - are expenses a company accounts for when
they happen, as opposed to when they are actually invoiced or paid for.
An accrual method allows a company’s financial statements, such as the
balance sheet and income statement, to be more accurate.
Accrued expenses, looking at another angle, are expenses a company knows
it must pay, but cannot do so because it has not yet been billed for
them. Under accrual accounting, the company accounts for these
costs anyway so that the management has a better indication of what
its total liabilities really are.
Here are some common examples of expenses that can be
accrued:
Interest on loan(s) Goods received
Services received Wages for employees
Taxes Commissions
Utilities Rent
Illustration 1. Interest on Notes Payable
Assume that Dec. 31 is the end of the accounting period. And no
interest has been paid for a 60day, 6% note for P3,000,000 issued on Nov.
11, 2020.
Take note that interest on notes payable is recorded when it is paid in cash
when it matures on January 10, 2021. Following accrual system of
accounting, the business should pass an adjusting entry on December 31,
2020 as follows:

*** Interest Expense is an Income Statement account while Accrued Interest

Payable is a Balance Sheet account

2. Accrued Revenue – or Accrued Income refers to income that
has been earned or is not yet due for collection. Under accrual
accounting, income is considered as earned or realized in the
period when the service is rendered.
Illustration 3. Accrued Interest on Notes Receivable
Assume that June 30, 2021 is the end of the accounting period. And no
interest has been paid for a 120day, 12% note for P5,000,000 issued on April
16, 2021.

Illustration 2. Accrued Rent Income

The business subleases a portion of the store to a Sweepstakes ticket vendor

for P3,000 a month. The end of the fiscal period is March 31, 2021. No
payment has been made for the last three (3) months and no entry has been
made to record this income.

DATE ACCOUNT TITLES DR CR

3/31/2021 Rent Receivable 9,000 Rent *** Interest Income is an Income Statement account while Interest
Income 9,000 Receivable is a Balance Sheet account.
accrual of rent from Jan-March, 2020
3. Depreciation of Fixed Assets
(P3,000 x 3 months)

*** Rent Income is an Income Statement account while Rent Receivable is a Fixed assets also referred to as Plant, Property and Equipment and Non-
Statement of Financial Position account Current Assets are those lon glived and permanent in nature. They are
acquired by the business used by the business in its operation and are not
intended for sale. Common examples are:
 The following factors are considered in the computation of depreciation:

Original Cost – refers to the invoice price less discounts plus

incidental costs such as installation and freight.
Estimated Useful Life – the length of time expressed in years during
which a depreciable fixed asset is expected to
contribute to operations.
Estimated Scrap or Salvage Value – refers to the estimated amount to
be realized when the asset sold after its serviceable
life.
Although durable and permanent in nature, with the exception of Land, these
properties decrease in value due to

Illustration 4 – Depreciation of Fixed Assets

The gradual decrease in the value of a fixed asset attributable to reasons
stated above is called depreciation.
Problem: The following items appear on the pre-adjusted trial balance on
June 30, 2021:

The Delivery Equipment was bought on May 04, 2021 estimated to last for 5
years with estimated scrap value of P120,000. As a matter of company
policy, May 4 to 31 is considered a month.

There are several methods of computing depreciation but the Straight Line
Method will be used in our discussion. Other methods of computation will
be introduced in higher accounting subjects.

Computation of Annual Depreciation

Original Cost 1,200,000 There are several methods being used in the computation of estimated
Less: Estimated Salvage Value 120,000 uncollectible accounts. Please refer to the diagram below:

Depreciable Cost 1,080,000

Divided by: Estimated Useful
Life 5
Depreciation Expense per year 216,000

Adjusting Journal Entry:

6/30/2020 Depreciation Expense (216,000 x 2/12) 36,000

Accumulated Depreciation, Delivery Equipment depreciation 36,000
expense from May 04 to June 30

Illustration 5 – Estimated uncollectible accounts or bad debts

How much is the Net Book Value of the Delivery Equipment as of
June 30, 2021?
a) Assume that Accounts Receivable has a balance of P240,000. It is
estimated that 5% of this will be uncollectible.
Original Cost 1,200,000
Less: Accumulated Depreciation 252,000
Adjusting Entry:
Net Book Value/Carrying Amount 948,000
Bad Debts Expense (P240,000 x 5%) P12,000
Accumulated depreciation is the sum of all recorded depreciation on Allowance for Bad Debts
an asset to a specific date. Accumulated depreciation is presented on the P12,000
balance sheet just below the related capital asset line. It is also called a contra
asset account. b) Experience shows that 7% of accounts receivable will be
uncollectible. The balance of accounts receivable is P190,000 and the
balance of the allowance for doubtful accounts is P5,800.
4. Bad Debts or Estimated Uncollectible Accounts
Adjusting Entry:
Bad debts or Uncollectible accounts is an inevitable risk of doing business on
credit terms. Not all customers availing credit will be able to pay for varied
reasons. Some of the reasons for the failure of collection are bankruptcy of Doubtful Accounts Expense P7,500
the debtor, unwillingness to pay due to unsettled disputes. Regardless of the Allowance for Doubtful Accounts P7,500
reason, accounting practitioners must be able to reflect the estimated
uncollectible account in the current period.
Computation:
Estimated doubtful accounts (190,000 x 7%) P13,300
 Less: Amount already setup for allowance 5,800
Doubtful Accounts Expense P 7,500

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 On Dec. 31, 2020, the end of the calendar year, the composition
sheet date. of the Rent paid is as follows:

5. Prepaid Expense are assets of the current period but expenses of Expense portion: rent for December P10,000
the future. It may include unused supplies and services which have Asset portion prepaid rent Jan-May 50,000
already been paid for but the benefits apply to future periods.

There are two (2) acceptable methods of accounting for Prepaid There is now a need to split the asset and expense portion to present
Expenses: correct amount Prepaid Rent and Rent Expense in the financial statements.
• Asset Method debits (DR) an asset account upon the Farther to the example above, if we are to prepare the AJE at the end of the
payment of cash calendar year:
• 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.

To make you understand better, let me help you analyze the above
transaction by way of a T-account:
Illustration 1: Prepaid Rent

On December 01 2020, the business paid rent for three (3) month in
advance amounting to P60,000 to cover six month rent commencing
in December.
Either the expense or the asset method is used, both options will give you the
same result.
On Dec. 31, 2020, 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.
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, 2020, 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 is 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:
At the end of the accounting period, an adjusting entry is necessary to Required: Prepare the adjusting journal entry if rentals were received on
separate the liability from the earned portion of Interest Income. Dec. 01 for three (3) months in advance.

On Dec. 31, 2020, the end of the calendar year, the composition On Dec. 31, the composition of the total amount received of P90,000 is as
of the Interest Income is as follows: follows:

Income portion: Interest for December 16-31 (15/60 x P10,000) 2,500 Income portion : Rental for December (90,000/3) P30,000
P2,500 Liability portion : Rental for Jan and Feb (90,000 x2/3) 60,000
Liability portion: Interest for January to Feb 14 (45/60 x P10,000) 7,500
(P7,500 will be earned next accounting period) The liability portion of P60,000 should be transferred from the Rent Income
to the Unearned Rent account.
TOTAL P10,000
Adjusting Journal Entry:
By way of T-account analysis, we will get the same result, viz:
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:

Very Important Note: 1. Unpaid or Accrued expenses (expenses already incurred but not
yet paid)
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 Dr. _________ expense Pxxx
which appears on such trial balance. Cr. (Expense) Payable Pxxx

2. Prepaid Expenses (expenses already paid but not yet incurred)

Illustration 3 – Adjusting Entries with the aid of an Unadjusted Trial
Balance a) Expense Method:
Dr. Prepaid (Expense) >> for the asset portion at the end of the
period
Problem: The following item appears on the unadjusted Trial Balance Dec. Cr. _________ Expense
31:
Credit b) Asset Method:
Rent Income P90,000 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.