LECTURE 10

YEAR END ADJUSTMENTS - ACCRUALS

& PREPAYMENTS

Woods, Chapter 28
Thomas, Chapter 13

Learning outcome
Distinguish between expenses paid & incurred,
revenues received & earned;
Explain the need for adjustments for expenses &
revenues on balance day;
Prepare the necessary journal & ledger entries for the
following balance day adjustment:
- accrued & prepaid expenses
- accrued revenues & revenue received in advance;
Ability to identify & conclude accrued expenses &
revenues received in advance are current liabilities &
prepaid expenses & accrued revenues are current
assets.

Balance Day Adjustments

Entries made in the books to adjust revenues and
expenses are called adjusting entries.
These entries are made on balance day or the last
day of the accounting period.
Balance day adjustments can be classified into :
Accrued expenses
Prepaid expenses
Accrued revenues
Revenues received in advance

Accrued Expenses
Expenses incurred, BUT not yet paid.
(i.e expenses still owing)

Accrued Expenses/Unpaid Expenses/Expenses Owing

Accrued expenses are expenses that have been incurred, i.e.
the amounts have not been paid.
Adjustments on balance day for accrued expenses are
necessary to ensure the following:

Expenses for the period are matched against the

revenues for the period.
A liability is recorded to represent the amount of
expenses owing.

Balance day adjustments:

Accrued Expenses
SOCI (For month of Dec 2009)
Revenues (Dec)
Rental per month = RM280
M/E:31 Dec 2009
Rental (Dec) = NOT paid
yet

$10,000

less: Expenses
Rental (Dec)

($280)

SOFP (as at 31 Dec 2009)

Current Liability:
Accrued Expenses

$280

Q: Has it incurred??

SOCI (for the month 31 Dec

09)
Revenue (Dec) 10,000
Less Expenses (Dec):
Operating exp (2,000)
Rental (Dec) (280)
Profit
7,720
More accurate
expense and profit

Revenue (Dec) 10,000

Less Expenses (Dec):
Operating exp (2,000)
Rental (Dec)
Profit
8,000
UNDERSTATE
expense,
OVERSTATE profit

Accrued Expenses/Unpaid Expenses/Expenses Owing - example

Accrued Expenses/Unpaid Expenses/Expenses

Owing - example
Example:
Total rent = RM4,000 paid for period Jan-Oct
2005. (Y/E: 31 Dec 2005)
Monthly rent = RM400 (4,000/10 months)
(payable at the end of every month)
Required: show the balance day adjustments for
rent
Timeline:
PAID for 10 months= RM4,000
Jan 05
RM400

Oct 05
RM400

Nov 05

Dec 05

RM400

RM400
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 Rent for Nov and Dec have not been paid.

Hence, Accrued Rent is = RM400 x 2 = RM800.
Rent for the accounting period = RM4,000 (exp paid) + RM800
(accrued) = RM4,800 (and not RM4,000 under cash basis)
1 Jan 05

31 Oct 05
RM4,000 paid

Current Liability

31 Dec 05

RM 800 accrued
Rent incurred
for the
period

Accounting treatments:
1. Amount paid: Dr Expense Cr Bank
2. Adjusting entry: Dr Rent RM800 Cr Accrued rent RM800
3. Closing entry to SOCI : Dr SOCI Cr Rent RM4800 Bank amount+
Accrued amount)
4. SOFP: Show accrued rent RM800 as Current Liability

10

(1) Paid rent

Rent paid = $4,000
Rent accrued = $800
Rent incurred = $4,000 (paid + $800 accrued)

Rent expense

31/10/05 Bank

4,000

(paid rent)

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(2) Accrued Expenses/Expenses

Dr. Rent Exp Cr. Accrued Rent
still owing
Rent paid = $4,000
2
Rent accrued = $800
Rent incurred = $4,000 (paid + $800 accrued)
Rent expense
31/10/05 Bank

31/12/05 Accrued Rent

4,000

800 2

Accrued Rent
31/12/05 Rent expense

800

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(3) Closing entry & (4) Balancing

account
Rent paid = $4,000
Rent accrued = $800
Rent incurred = $4,800
Rent expense

1
2

31/10/05 Bank

4,000

(paid rent)
31/12/05 Accrued Rent

31/12/05 SOCI

4,800

(Closing)
800

(Accrued)
Accrued Rent
Balance c/d

800

31/12/05 Rent expense

800

balance b/d

800

4
13

Alternative method/ NOT opening

accrued account
Rent paid = $4,000
Rent accrued = $800
Rent incurred = $4,800
Rent expense
31/10/05 Bank
31/12/05 Bal c/d

4,000

31/12/05 P&L

4,800

800
4800

4800
1/1/06 Bal b/d

800

Rent exp a/c itself will tell you it is an accrual (CL).

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Example 1
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sy2014

Expenses paid:

15
13

Rent (31 Dec 2005)

16
sy2014

Rent incurred (PL) = $9,600

Rent paid = $8,400
Hence, Accrued Rent = $9,600 8,400 = $1,200
Accounting treatment:
1.Opening balance in Rent $8,400
2.Adjusting entry:
Dr. Rent expense$1,200 Cr. Accrued Rent $1,200
3. Closing entry: Dr SOCI $9,600
Cr Accrued expense $9,600
4. SOFP: Accrued rent $1,200 as Current Liability
16

MV expenses (31 Dec 2005)

MV exp paid = $2,400
MV exp accrued = $200
Hence, MV exp incurred (PL) = $2,400 + 200 = $2,600

Accounting treatments:
1. Opening balance in MV expenses account $2,400 ( DR)
2. Adjusting entry: Dr. MV exp $200, Cr. Accrued MV exp
$200
3.Closing entry: Dr SOCI $2,600, Cr MV expenses (2400+200)
4.SOFP: Show Accrued MV expense 200 under Current
Liability
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Example 1
18
sy2014

3
2

Increase in rent exp

Balance c/d

1200

1
2

Increase in MV exp

Balance c/d

200c/d
4

2
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Example 1
19
sy2014

19

Prepaid Exp
Expenses not incurred
but you paid in advance

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Prepaid Expenses/Payments in Advance

i.e. You
paid in
advance.

Prepaid expenses are expenses that have not been

incurred but the amounts have been paid.
Adjustments on balance day for prepaid expenses
are necessary to ensure the following:
Only the expenses related to the current period are
matched against the revenues earned for the current
period.
Expense paid in advance are only to be treated as
expenses in the coming accounting year.
year
Expenses that are paid in advance are to be treated as
current assets on balance day.
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Balance day adjustments: Prepaid

expenses
SOCI (For month of Dec 2009)
Revenues (Dec)
Rental per month = RM280
M/E:31 Dec 2009

$10,000

less: Expenses
Rental (Jan10) ( - )

Rental (Jan 2010) = PAID

SOFP (as at 31 Dec 2009)
Current Assets:
Prepaid rent

$280

22

SOCI (for the month of Dec 09)

Revenue (Dec) 10,000
Less Expenses (Dec):
Operating exp (2,000)
Rental (Jan10) (-)
Profit
8,000
More accurate profit

Revenue (Dec) 10,000

Less Expenses (Dec):
Operating exp (2,000)
Rental (Jan10) (280)
Profit
7,720
UNDERSTATE profit

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E.g. Prepaid Expenses/Payments in Advance

Insurance premium paid = $600
Paid for the period 1 Apr. 2005 to 31 Mac 2006 (Y/E: 31 Dec
2005)
Y/E: 31 Dec. 2005

1 April 2005

$50 per month x 9 months

RM450 incurred

31 Mac 2006

$50 per month x 3 months

RM150 prepaid

RM600 paid

Insurance per month = $600/12 months = $50

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Accounting treatment
1. Expenses paid: Dr Expenses Cr Bank
2. Adjusting entries: Dr Prepaid expense Cr
Expense
3. Closing entries : Dr SOCI Cr Expense
( Bank amount prepaid amount)
4. SOFP: Show prepaid expense as
current asset

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(1)
EXPENSE Paid
Insurance paid = $600
Insurance prepaid = $150
Insurance expense incurred = $450
1

Insurance expense

31/12/05 Bank

600

26

(2) Prepaid expenses (3) Closing

entry (4) Balancing
Insurance paid = $600
Insurance prepaid = $150
Insurance exp incurred = $450
Insurance expense

31/12/05 Bank

600

31/12/05 Prepaid Insurance

31/12/05 SOCI

150
450

Prepaid Insurance (Current Assets)

31/12/05 Insurance expense

1/1/06 Balance b/d

150

31/12/05 Balance c/d

150

150 4
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Example 1

Exp Paid the year

Rent exp incurred for the year

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Insurance
1 May 05

Y/E: 31 Dec 05

$125 per month x 8 months = $1,000

Insurance incurred for the year

30 Apr. 06

$125 per month x 4 months = $500

Prepaid insurance

Insurance paid = $1,500

Insurance paid (TB) = $1,500 (from 1st May 05 to 30 Apr. 06)
Insurance per month = $1500/12 = $125

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Insurance
Insurance paid (TB) = RM1,500
Insurance incurred (p&l) = RM1,000
Prepaid = RM1,500 1,000 = 500
Insurance expense

31/12/05 Bank

1,500

31/12/05 Prepaid ins.

500

31/12/05 P&L

1,000

2
3

Prepaid Insurance

2 31/12/05 Insurance exp

1/1/2006 balance b/d

500
500

31/12/05

Balance c/d 500

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Example 2

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Example 2
Status appearing on financial statements

32

Accrued Revenues/
Outstanding Revenues
Revenues earned,
Money not received

33

Accrued Revenues/Outstanding Revenues

Accrued revenues are revenues earned in the current
accounting period for which the amounts have not
been received.
Adjustments on balance day for revenues are
necessary for the following reasons:
To ensure revenues earned for the accounting year include
those revenues earned but not yet received so that the correct
expenses are matched against the correct revenues when
determining the profit and loss for the accounting period.
To record the accrued revenues as assets of the business.

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Balance day adjustments:

SOCI (ForAccrued
month of Dec 2009)
Revenues (Dec)
$10,000
Revenue
Add: Other revenues
Rental (Dec)

$280

Rental per month = RM280

M/E:31 Dec 2009
Rental (Dec 09) = Havent received

SOFP (as at 31 Dec 2009)

Current Assets:
Accrued Rent Rev

$280

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P&L (for the month of Dec 09)

Revenue (Dec) 10,000
Add Other Rev (Dec):
Rental (Dec)
280
Profit
10,280

More accurate profit

Revenue (Dec) 10,000

Add Other Rev (Dec):
Rental (Dec)
-----Profit
10,000

UNDERSTATE profit

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Accounting treatments
1. To record revenue: Dr Bank Cr Revenue
2. Adjusting entry: Dr Accrued Revenue Cr
Revenue
3. Closing entry: Dr Revenue Cr PL ( Bank
amount + accrued amount)
4. Balance sheet: Show revenue owing
under the heading of current asset

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Accrued Revenues/Outstanding
Revenues (Example)
A trader rented out part of his building to a food stall
Rent received per month = $100 (w.e.f Jan 2005)
On 31 Dec 2005 = $900 received

Rent Received (Revenue)

31/12/05 Bank

900

(received rent)

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Rent Revenue

1 Jan 05

30 Sep. 05

Y/E: 31 Dec 05

$100/ month x 9 months = RM900 rec. $300 Accrued

Rent received

Accrued rent revenue

Rent earned = $1,200

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(1) Received

Rent received = $900

Rent earned = $1,200
Accrued rent revenue = $300 (other ppl still owing our
company)
Rent Revenue

31/12/05 Bank

900

(received rent)

Accrued Rent Revenue

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(2) Accrued Revenue, (3)closing

entry
and =(4)
Rent received
$900balancing
Dt. Accrued Rent
Accrued rent revenue = $300
Rent earned = $1,200

revenue (CA)
Ct. Rent Revenue
(Rev)

Rent Revenue
31/12/2005

SOCI

1200 31/12/05 Bank

900

3
31/12/05 Accrued Rent Revenue 300 2

Accrued Rent Revenue

31/12/05 Rent Revenue

300

1/1/06

300

Balance b/d

31/12/05 balance c/d

300
4
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Accrued Revenues/Outstanding Revenues

Example:

42

Accrued Revenues/Outstanding Revenues

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Accrued Revenues/Outstanding Revenues

sy2014

44
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Revenues Received in
Advance/Unearned Revenues
Money received in advance.
Revenue not earned.

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Revenues Received in Advance/Unearned

Revenues

Revenues received in advance or unearned

revenues are revenues not earned but the amounts
have been received in the current accounting year.
Adjustments on the balance day for revenues
received in advance are necessary for the following
reasons:
The amounts received in advance are excluded from the
revenues earned in the current accounting period. Hence,
the profit can be determined more accurately.
A liability is recorded to represent the amount of revenues
received in advance.
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Balance day adjustments: Rev

Received in Advance
SOCI (For month of Dec 2009)
Revenues (Dec)
Rental per month = RM280
M/E: 31 Dec 2009

$10,000

Add: Other revenues

Rental (Jan10) ($ - )

Rental (Jan10) = RECEIVED

SOFP (as at 31 Dec 2009)
Current Liability:
Rev rec in advance

$280

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SOCI (for the month 31 Dec

Revenue (Dec) 10,000
Revenue (Dec) 10,000
09)
Add: Other Rev (Dec):
Rental (Jan10) (------)
Profit
10,000

More accurate profit

Add: Other Rev (Dec):

Rental (Jan10) 280
Profit
10,280

OVERSTATE profit

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Accounting treatment
1. Recording revenue: Dr Bank Cr Revenue
2. Adjusting entries: Dr Revenue Cr Prepaid
revenue
3. Closing entries: Dr Revenue Cr PL ( Bank
amount- prepaid amount)
4. Balance sheet: Show prepaid revenue as
Current liability
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Revenues Received in
Advance/Unearned Revenues (example)
Marvin rented out premises, starting 1 May 2005
Annual Rent agreed = $2,400
For 1 May to 31 Jul rent
Y/E = 31 Dec 2005
Cheque received: $600
1 Aug to 31 Oct rent
1 Nov to 31 Jan rent

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Timeline: Revenue received

31 Jan 06
1 May 05

31 Jul/1 Aug 05

RM600

31 Oct/1 Nov 05

RM600

RM400

31 Dec 05 (Y/E)

RM200
Received but
NOT EARNED
yet

Earned &
Received =
RM1,600

Rev received
in advance
(CL)

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(1) Received
Rent received = $600 + 600 + 600 = $1,800
Rev. received in advance = $200
Rent earned = $1,600
Rent Revenue

1/5/05 Bank

600

1/8/05 Bank

600

1/11/05 Bank

600

(receive rent)

52

(2) Rev received in advance (3)

Closing entries (4) Balancing
Rent received = $600 + 600 + 600 = $1,800
Rev. received in advance = $200
Rent earned = $1,600

Dt. Rent
Revenue
(Rev)
Ct. Rev
received in
advance
(CL)

Rent Revenue

200

1/5/05 Bank

600

1600

1/8/05 Bank

600

1/11/05 Bank

600

31/12/05 Rev rec. in adv

SOCI

(receive rent)
Unearned Revenue/ Rev Received in Advance (CL)
31/12/05 Balance c/d

200 4

31/12/05 Rent Revenue

200

1/1/06

200

Balance b/d

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Example 3
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sy2014

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B Black
Started trading: 1 Jul 2004
Rented a premise = $18,000 per year
Payable by quarterly installments (every 3 months pay once) (i.e.
paid 4 times in 1 year)
Paid at the end of the 3 months
On 1 Feb 2005:
Sub-let part premises for $7,200 per year
Chq rec (from rent)
1 Feb 05 = 1,800
1 Jun 05 = 1,800
31 Mac 05 = 4,500

Payments (for rent)

3 Oct 04 = 4,500
28 Dec 04 = 4,500

Prepare:
Rent payable & Rent Received a/c
Y/E: 30 June 2005
55

Rent paid (per year) = $18,000

Quarterly payments = $18,000/4 =$4,500 paid at the end of every 3 months
3 Oct. 04

$4,500 for Jul Sept.

28 Dec. 04

$4,500 for Oct.- Dec.

31 Mac 05

$4,500 for Jan-Mac

Y/E 30 Jun 05

$4,500 NOT paid for Apr-Jun

Accrued Rent exp: Rent exp still owing

Rent received (per year) = $7,200

Rent received (per month) = $7,200/12 = $600

1 Feb. 05

Mac

$600 for Feb

Apr

$600 for Mac

May

$600 for Apr

1 Jun 05

$600 for May

Y/E 30 Jun 05

$600 for Jun

$600 for Jul

Rent received in advance

Received $1,800 on 1 Feb 05

for Feb, Mac & Apr rental

Received $1,800 on 1 Jun 05

for May, Jun & July rental

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Example 3
57
sy2014

From 1 Feb 2005 30 Jun 2005

Dr. Bank; Cr. Rent receivable a/c1

3
2
4
For the month of July

From Jul 2004 to Jun 2005

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THE END

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