ADJUSTING ENTRIES

LEARNING OBJECTIVES
´ Identify the summarizing and reporting process of the
accounting cycle.
´ Differentiate the accrual basis accounting and pure-cash basis
accounting.
´ Understand the concepts and principles used in income and
expense recognition.
´ Understand the importance of adjusting entries.
´ Analyze the various transactions that need adjustments.
´ Prepare adjusting entries for accruals.
´ Identify the different deferred items to be adjusted.
´ Prepare adjusting entries for deferred items.
 ACCRUAL CASH
recognized and reported in
recognized and reported in
the period when cash is
Definition the period when they
actually received or paid
occur.
out.
Recognition of:

Income When earned When received

Expenses When incurred When paid

 MATCHING CONCEPT
Attained only if there is proper
measurement, recognition, and
reporting of both the earned income
(revenues and gains) and the related
incurred expenses and losses.
 INCOME EXPENSE
RECOGNITION RECOGNITION

Income is recognized in the period • Direct association

when there is a measureable increase • Systematic and rational allocation
in future economic benefits. • Immediate Recognition
 ADJUSTING ENTRIES
Transactions that affect the future periods
RECOGNIZED UNRECOGNIZED

§ Unearned Income
§ Prepaid Expenses
§ Accrued Revenues
§ Depreciation
§ Accrued Expenses
§ Amortization
§ Doubtful Accounts
§ Ending Inventory
 PERIODICITY CONCEPT
Assumes that the operating life of the
business may be divided into time-
periods so that timely and regular
financial reports will be available for
decision making.
ITEMS TO BE ADJUSTED
Transactions that affect the future periods
RECOGNIZED UNRECOGNIZED

§ Unearned Income
§ Prepaid Expenses
§ Accrued Revenues
§ Depreciation
§ Accrued Expenses
§ Amortization
§ Doubtful Accounts
§ Ending Inventory
ACCRUED INCOME
A dentist renders professional services valued at P 4,500
to his patients from December 26 to 29, 2020. As of
December 31, 2020, he has not billed the patients.

Professional Fees Receivable 4, 500

Professional Fees 4,500
ACCRUED EXPENSE
Unpaid wages for factory workers for services they
rendered from Monday to Wednesday (December 29
to 31, 2020), amounted to P 7,500. Company policy is to
pay wages every Saturday.

Wages Expense 7,500

Wages Payable 7,500
 RECOGNIZED TRANSACTIONS
THAT AFFECT THE FUTURE
PERIODS

Receivables and
Income already Expenses already Long-term assets that
income that are Goods to be resold
collected but will be paid for but will be are expected to be
already recognized, that are already
earned over the incurred over the useful for several
but which may not purchased
succeeding periods future periods years
be realized
 RECOGNIZED
TRANSACTIONS THAT
AFFECT THE FUTURE
PERIODS

Unearned UNEARNED INCOME

Income Income Method Liability Method
• credited to an income • liability account is credited
account • upon adjustment, an income
• upon adjustment, a liability account is credited for the
account is credited for the earned portion
unearned portion • after the adjustment, the
• after the adjustment, the remaining balance is the
remaining balance is the unearned portion.
earned portion.
 RECOGNIZED
TRANSACTIONS THAT
AFFECT THE FUTURE
PERIODS
EXAMPLE
On December 1, 2020, Fame Realty
Unearned collected P 75,000 representing the rent
Income for 5 months, until April 30, 2021.

INCOME METHOD LIABILITY METHOD

Cash 75,000 Cash 75,000

COLLECTION
Rent Revenue 75,000 Unearned Rent Revenue 75,000

Rent Revenue 60,000 Unearned Rent Revenue 15,000

ADJUSTMENT
Unearned Rent Revenue 60,000 Rent Revenue 15,000
 RECOGNIZED
TRANSACTIONS THAT
AFFECT THE FUTURE
PERIODS

Prepaid PREPAID EXPENSES

Expenses Expense Method Asset Method
• debit to an expense • asset account is debited
account • upon adjustment, an
• upon adjustment, an asset expense account is debited
account is debited for for the used or expired
unused or unexpired portion portion
• after the adjustment, the • after the adjustment, the
remaining balance is the remaining balance is the
used portion. unused portion.
 RECOGNIZED
TRANSACTIONS THAT
AFFECT THE FUTURE
PERIODS
EXAMPLE
Paid insurance premium of P 3,600 on May
Prepaid 1, 2020. The premium paid is good for a
Expenses period of one year, until April 30, 2021.

EXPENSE METHOD ASSET METHOD

Insurance Expense 3,600 Unexpired insurance 3,600

PAYMENT
Cash 3,600 Cash 3,600

Unexpired Insurance 1,200 Insurance Expense 2,400

ADJUSTMENT
Insurance Expense 1,200 Unexpired Insurance 2,400
 RECOGNIZED
TRANSACTIONS
THAT AFFECT THE
FUTURE PERIODS

Depreciation or
Amortization of
Fixed Assets

DEPRECIATION OF FIXED ASSETS

FIXED ASSETS
ü They have relatively long life.
ü They are acquired for use in the normal
operations of the business, and
ü They are not primarily intended for sale.
COMPUTATION FOR DEPRECIATION
EXPENSE
Depreciation (straight-line method)
= Cost of the fixed asset – Residual Value
Estimated useful life of the asset
 RECOGNIZED
TRANSACTIONS
THAT AFFECT THE
FUTURE PERIODS
EXAMPLE
Depreciation or Enterprise B purchased a machine for use in its shop
Amortization of for P 48,000 on July 1, 2020. It is estimated that the
Fixed Assets machine will be useful for 4 years, after which it is
expected to be sold for P 8,000.
Depreciation = P 48,000 – P 8,000 = P 10,000
(annual) 4 years

Dec. 31, 2020 Depreciation - Machinery 5,000

Accumulated Depreciation - Machinery 5,000

Dec. 31, 2021 Depreciation - Machinery 10,000

Accumulated Depreciation - Machinery 10,000
 RECOGNIZED
TRANSACTIONS
THAT AFFECT THE
FUTURE PERIODS

Depreciation or
Amortization of The fixed asset, assuming it is a building, is presented in the
Fixed Assets balance sheet in the following manner:

Non-current assets:
Land P100,000
Building P980,800
Less: Accum. Depreciation 210,450 770,350
Total P870,350
 RECOGNIZED
TRANSACTIONS
THAT AFFECT THE Accounts become worthless if any or a
FUTURE PERIODS combination of the following conditions exists:

• The customer cannot be located.

Doubtful • The customer is declared dead, very ill
or bankrupt.
Accounts
• Legal efforts have been exerted, yet
the customer refuses to pay his balance.

% OF SALES METHOD % OF ACCOUNTS RECEIVABLE METHOD

Accounts Receivable, end x % of Loss

Credit Sales x % of Loss
= Allowance for Doubtful Accounts for
= Bad Debts Expense
the year
 RECOGNIZED
TRANSACTIONS
THAT AFFECT THE
FUTURE PERIODS

Recording and Reporting the Estimated Doubtful Account

Doubtful
Accounts Doubtful accounts/Bad Debts xx
Allowance for doubtful accounts/bad debts xx

WRITE-OFF OF WORTHLESS ACCOUNTS RECEIVABLE

Enterprise recognizes and adjusts the doubtful Enterprise does not estimate and adjust the
accounts regularly doubtful accounts regularly

Allowance for Doubtful Accounts xx Bad Debts Expense xx

Accounts Receivable xx Accounts Receivable xx
SUGGESTED STEPS IN
MAKING ADJUSTING ENTRIES
STEP 2: STEP 3:
STEP 1:
Determine the Prepare the pro-
Identify the type
method used, if forma adjusting
of adjustment.
any. entry.

STEP 4:
STEP 5:
Analyze the
Post the required
earned and
portion.
unearned portion.
ILLUSTRATIVE PROBLEM
Based on the unadjusted trial balance of
Excellence Consultancy as of June 30, 2020,
prepare the adjusting journal entries given
the additional information.
 EXCELLENCE CONSULTANCY
TRIAL BALANCE
June 30, 2020

ACCOUNT TITLES DR CR

Cash 85,000
Notes receivable 50,000
Accounts receivable 100,000
Office supplies 11,500
Transportation equipment 720,000
Office furniture and equipment 150,000
Accounts payable 73,000
Mortgage payable 200,000
A. Torres, capital 424,000
A. Torres, drawing 15,000
Service revenue 650,000
Miscellaneous income 15,000
Salaries expense 132,000
Rent expense 50,000
Fuel and oil 14,500
Transportation expense 6,300
Insurance expense 12,000
Taxes and licenses 8,200
Interest expense 7,500

1,362,000 1,362,000
The following are adjustment data for the semi-annual
period ended June 30, 2020:
• Physical count revealed that the office supplies on hand amounted to
P2,500.

• The transportation equipment and the office furniture and equipment

were estimated to have useful lives of 5 years with no residual value.
They were acquired when the business started on January 1, 2020.

• The business estimated that 90% of its accounts receivable will be

collectible.

• The business acquired a mortgaged loan payable in 3 years at 9% per

annum on January 1, 2020. Monthly interest is payable on the 1st day of
the succeeding month.
The following are adjustment data for the semi-annual
period ended June 30, 2020:

• Miscellaneous income represents a 5-month miscellaneous

service from a client which took effect on March 1, 2020.

• Monthly rent expense is paid on the 5th day of the succeeding

month.

• The business purchased an insurance policy for its transportation

equipment which took effect on March 1, 2020. The annual
insurance premium was paid on the same day.

• The note on hand is a 60-day 12% promissory note from a client

dated June 15, 2020.
ANSWERS: Adjusting Entries
2020
Jun-30 Office supplies expense 9,000
Office supplies 9,000
Supplies used during the period.

30 Depreciation expense 87,000

Accumulated depreciation - TE 72,000
Accumulated depreciation - OFE 15,000
Depreciation charges during the period.
ANSWERS: Adjusting Entries
30 Doubtful accounts expense 10,000
Allowance for doubtful accounts 10,000
Provision for uncollectible accounts.

30 Interest expense 1,500

Interest payable 1,500
Accrued interest for the month of June.

30 Miscellaneous income 3,000

Unearned miscellaneous income 3,000
Miscellaneous income unearned as of the June 30.
ANSWERS: Adjusting Entries
30 Rent expense 10,000
Rent payable 10,000
Rent for the month of June.

30 Prepaid insurance 8,000

Insurance expense 8,000
Unexpired portion of insurance premium.

30 Interest receivable 250

Interest income 250
Interest earned during the period.