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Questions and Answers
Which accounting method records revenue when earned and expenses when incurred?
Which accounting method records revenue when earned and expenses when incurred?
- Modified cash basis accounting
- Tax basis accounting
- Accrual basis accounting (correct)
- Cash basis accounting
Under cash basis accounting, when are revenues and expenses recognized?
Under cash basis accounting, when are revenues and expenses recognized?
- Revenues are recognized when cash is received, and expenses are recognized when cash is paid. (correct)
- Revenues are recognized when billed, and expenses are recognized when approved.
- Revenues are recognized at the end of the accounting period; expenses are recognized at the beginning of the accounting period.
- Revenues are recognized when earned, and expenses are recognized when incurred.
Why is cash basis accounting not allowed under GAAP?
Why is cash basis accounting not allowed under GAAP?
- It can be easily manipulated by management.
- It is only suitable for very large corporations.
- It does not accurately reflect a company's financial performance. (correct)
- It is too complex to implement.
Smart Touch Learning paid $1,200 for insurance on May 1, covering the next six months. Under accrual basis accounting, what amount of insurance expense should be recorded on May 31?
Smart Touch Learning paid $1,200 for insurance on May 1, covering the next six months. Under accrual basis accounting, what amount of insurance expense should be recorded on May 31?
Smart Touch Learning received $600 on April 30 for services to be performed over the next six months. Under cash basis accounting, how much revenue is recorded on April 30?
Smart Touch Learning received $600 on April 30 for services to be performed over the next six months. Under cash basis accounting, how much revenue is recorded on April 30?
The Pink Peonies Law Firm paid $3,000 on January 1 for 10 months of advertising. Using accrual basis accounting, what amount of advertising expense should be recorded for the month of January?
The Pink Peonies Law Firm paid $3,000 on January 1 for 10 months of advertising. Using accrual basis accounting, what amount of advertising expense should be recorded for the month of January?
The Pink Peonies Law Firm paid $3,000 on January 1 for 10 months of advertising. Using cash basis accounting, what amount of advertising expense should be recorded for the two months ending February 28?
The Pink Peonies Law Firm paid $3,000 on January 1 for 10 months of advertising. Using cash basis accounting, what amount of advertising expense should be recorded for the two months ending February 28?
Which accounting principle states that companies should record revenue in the period when it has been earned?
Which accounting principle states that companies should record revenue in the period when it has been earned?
Which accounting principle requires that expenses be recorded in the same period as the revenues they helped to generate?
Which accounting principle requires that expenses be recorded in the same period as the revenues they helped to generate?
What is the primary purpose of the time period concept in accounting?
What is the primary purpose of the time period concept in accounting?
According to the five-step revenue recognition process, when should revenue be recognized?
According to the five-step revenue recognition process, when should revenue be recognized?
What is the second step in the five-step revenue recognition process?
What is the second step in the five-step revenue recognition process?
What is the purpose of adjusting entries?
What is the purpose of adjusting entries?
Which type of adjusting entry involves recognizing revenue that has not yet been earned?
Which type of adjusting entry involves recognizing revenue that has not yet been earned?
Which type of adjusting entry involves recognizing an expense that has not yet been paid?
Which type of adjusting entry involves recognizing an expense that has not yet been paid?
Which of the following is an example of a deferred expense?
Which of the following is an example of a deferred expense?
Smart Touch prepaid 3 months rent on December 1 for $3,000. What is the adjusting entry on December 31?
Smart Touch prepaid 3 months rent on December 1 for $3,000. What is the adjusting entry on December 31?
Smart Touch Learning purchased $500 of office supplies on account in November. As of December 31, only $100 of supplies remain. What is the adjusting entry to be made on December 31?
Smart Touch Learning purchased $500 of office supplies on account in November. As of December 31, only $100 of supplies remain. What is the adjusting entry to be made on December 31?
Carlisle Equipment had a beginning balance of $600 in its Office Supplies account on November 1. During November, Carlisle purchased $2,300 of office supplies. At November 30, Carlisle had $500 of office supplies on hand. What is the adjusting entry required on November 30?
Carlisle Equipment had a beginning balance of $600 in its Office Supplies account on November 1. During November, Carlisle purchased $2,300 of office supplies. At November 30, Carlisle had $500 of office supplies on hand. What is the adjusting entry required on November 30?
What is the purpose of preparing a trial balance?
What is the purpose of preparing a trial balance?
Which financial statement is directly impacted by adjusting entries related to accrued revenues?
Which financial statement is directly impacted by adjusting entries related to accrued revenues?
Which step in the accounting cycle immediately follows the preparation of the adjusted trial balance?
Which step in the accounting cycle immediately follows the preparation of the adjusted trial balance?
What is the primary purpose of a worksheet in the context of adjusting entries?
What is the primary purpose of a worksheet in the context of adjusting entries?
Why is it important to use a worksheet to prepare adjusting entries and adjusted trial balance?
Why is it important to use a worksheet to prepare adjusting entries and adjusted trial balance?
How do adjusting entries affect the financial statements?
How do adjusting entries affect the financial statements?
What is the ending balance in the Office Supplies account on November 30, assuming Carlisle Equipment started with $600, purchased $2,300, and the supplies expense adjusting entry was $2,400?
What is the ending balance in the Office Supplies account on November 30, assuming Carlisle Equipment started with $600, purchased $2,300, and the supplies expense adjusting entry was $2,400?
Carlisle Equipment had a beginning balance of $600 in its Office Supplies account on November 1. During November, Carlisle purchased $2,300 of office supplies. At November 30, Carlisle had $500 of office supplies on hand. What is the balance for Supplies Expense at November 30?
Carlisle Equipment had a beginning balance of $600 in its Office Supplies account on November 1. During November, Carlisle purchased $2,300 of office supplies. At November 30, Carlisle had $500 of office supplies on hand. What is the balance for Supplies Expense at November 30?
What is the first step in the five-step revenue recognition process?
What is the first step in the five-step revenue recognition process?
Flashcards
Cash basis accounting
Cash basis accounting
Records revenues when cash is received and expenses when cash is paid.
Accrual basis accounting
Accrual basis accounting
Records revenues when earned and expenses when incurred, regardless of cash flow.
Time period concept
Time period concept
Business activities are sliced into specific time segments for reporting.
Revenue recognition principle
Revenue recognition principle
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Matching principle
Matching principle
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Adjusting entries
Adjusting entries
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Deferred expenses
Deferred expenses
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Adjusting entry for deferred expense
Adjusting entry for deferred expense
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Depreciation
Depreciation
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Supplies expense
Supplies expense
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Study Notes
Chapter 3: The Adjusting Process
- Learning objectives include differentiating between cash and accrual basis accounting, defining and applying the time period concept, revenue recognition, and matching principles
- Further objectives are to explain the purpose of, journalize and post adjusting entries, prepare an adjusted trial balance, and identify the impact of adjusting entries on financial statements
- Explaining the purpose of a worksheet and using it to prepare adjusting entries and the adjusted trial balance is another learning objective
Cash Basis vs. Accrual Basis Accounting
- Cash basis accounting records revenue when cash is received and expenses when cash is paid
- Accrual basis accounting records revenue when earned and expenses when incurred
- Cash basis accounting is not allowed under GAAP (Generally Accepted Accounting Principles), while accrual basis is used by most businesses
- Example: Smart Touch Learning paid $1,200 for insurance on May 1 for the next six months ($200 per month). Under cash basis, $1,200 is recorded as an expense on May 1. Under accrual basis, $200 is recorded as an expense at the end of each month for six months, totaling $1,200
- Another example: Smart Touch Learning received $600 on April 30 for services to be performed over the next six months. Under cash basis, $600 is recorded as revenue on April 30. Under accrual basis, $100 is recorded as revenue at the end of each month for six months, totaling $600
- Pink Peonies Law Firm example: pays $3,000 on January 1 for 10 months of advertising
- On a cash basis, the law firm shows $3,000 advertising expense during January
- On an accrual basis, the firm records $600 in advertising expenses at the end of February
Concepts Related to Accrual Accounting
- Time period concept: Business activities are divided into specific time segments
- Revenue recognition principle: Companies record revenue when it has been earned
- Matching principle: Expenses are recorded when incurred and matched against the revenue of the period
Revenue Recognition: Five-Step Process for Contracts with Customers
- Step 1: Identify the contract (agreement that creates enforceable rights and obligations)
- Step 2: Identify performance obligations (promises to transfer distinct goods or services)
- Step 3: Determine transaction price
- Step 4: Allocate transaction price to performance obligations
- Step 5: Recognize revenue when each performance obligation is satisfied, which occurs when the customer gains control of the good or service
Adjusting Entries
- Adjusting entries are needed so that revenues are recorded in the period earned and expenses are recorded in the period incurred
- Deferrals:
- Deferred expenses (prepaid expenses).
- Deferred revenues (unearned revenues)
- Accruals:
- Accrued expenses.
- Accrued revenues
Deferred Expenses
- Deferred Expenses are advance payments of future expenses that are treated as assets until used. Recognized as an expense by an adjusting journal entry when the prepayment is used
- Types of deferred expenses include prepaid rent, office supplies, and depreciation
- Smart Touch prepaid 3 months rent on December 1 ($3,000 gives the right to use the property for 3 months). The original entry would be a debit of $3,000 to prepaid rent and a credit of $3,000 cash
- By December 31, the company has used the space for one month, so reducing the prepaid rent account by 1/3 and recording rent expense requires an adjusting entry. The adjusting entry is a debit to rent expense of $1,000 and credit prepaid rent of $1,000
- Smart Touch Learning purchased $500 in office supplies on account on November 3
- As of December 31, only $100 of supplies remain on hand
- The adjusting entry includes debiting supplies expense of $400 and crediting office supplies of $400
- Carlisle Equipment had a beginning balance in the Office Supplies account of $600 on November 1
- During the month, Carlisle purchased $2,300 of office supplies
- Carlisle Equipment had $500 of office supplies on hand as of November 30.
- To record the adjusting entry required at November 30: debit Supplies Expense $2,400; credit Office Supplies $2,400
- Post the adjusting entry to the two accounts involved, and show their balances at November 30:
- Office supplies (Nov. 1 = 600; 2,300 on debit side), and credit $2400 on Nov 30
- Supplies Expense $2,400 (Nov 30, debit)
- Balance = Office Supplies $500; Supplies Expense $2,400
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