Adjusting Entries Tutorial PDF

## Adjusting Entries These are entries used to update the balance of accounts. These are not used to correct, but merely to update. Adjusting entries are prepared at the end of the accounting period. ### Sources of Adjusting Entries 1. Depreciation 2. Bad debt 3. Accrued Expenses 4. Accrued Inco...

## Adjusting Entries These are entries used to update the balance of accounts. These are not used to correct, but merely to update. Adjusting entries are prepared at the end of the accounting period. ### Sources of Adjusting Entries 1. Depreciation 2. Bad debt 3. Accrued Expenses 4. Accrued Income 5. Deferred Expenses 6. Deferred Income 7. Inventory ## Depreciation Depreciation is a systematic allocation of cost of an asset over its useful life. Land does not depreciate. *Allocation of cost = expense* **Depreciation Expense** **Accumulated Depreciation** Depreciation expense is the allocated cost of the asset over its useful life. **Formula: Acquisition cost - residual value/useful life** **Example** A motorcycle was purchased for 80,000 with a scrap value of 30,000 and an estimated useful life of 20 years. * 2,500 is the annual depreciation. * To get the monthly, divide by 12 months. * Accumulated Depreciation is the totality of all the depreciation expense recorded. * January: 2,500 * February: 2,500 * Accumulated - 5,000 * Accumulated Depreciation as an account is contra-asset pursuant to historical cost concept. ## Bad Debt Bad debts are based on the accounts receivable deemed uncollectible. * Bad Debt Expense * Allowance for Bad Debt Allowance for bad debt is a contra-asset account. **Example** Accounts Receivable = 300,000 10% of accounts receivable is deemed uncollectible. 300,000 x 10% = 30,000 ## Accruals Accrual accounting is based on the premise that expenses and revenue shall be recorded when they are incurred or earned, regardless of when payment is received or made. *Accrual = payment is late* ### Accrued Expense Expenses that are incurred but not yet paid. Since these are yet to be paid they are considered a liability. * Expense * Payable **Example** Meralmo's electric bill amounting to 4,000 for the month arrived which will be paid the following month. | Utilities Expense | 4,000 | |------------------|-------| | Utilities Payable | 4,000 | ### Accrued Income Income earned but not yet collected. These are receivables. * Accounts Receivable * Income **Example** Joseph Laundry rendered service on account, 4,500. | Accounts Receivable | 4,500 | |---------------------|-------| | Service Revenue | 4,500 | ## Deferrals Deferrals are expenses and revenues paid for or collected but not yet incurred nor earned. * Deferral = payment is advanced. ### Deferred Expense These are expenses paid for but not yet incurred. Also called prepaid expenses. A deferred expense could be recorded under two methods: 1. **Asset method** - The deferred expense is first recorded as an asset then adjusted against the expense. 2. **Expense method** - The deferred expense is first recorded as an expense then adjusted against the asset. #### Asset Method Trish Ltd paid rent for two months 10,000 with the monthly rent being 5,000. **Initial Entry** | Prepaid Rent | 10,000 | |-------------|--------| | Cash | 10,000 | **Adjusting Entry - Month end** | Rent Expense | 5,000 | |-------------|--------| | Prepaid Rent | 5,000 | #### Expense Method **Initial Entry** | Rent Expense | 10,000 | |-------------|--------| | Cash | 10,000 | **Adjusting entry - month end** | Prepaid Rent | 5,000 | |-------------|--------| | Rent Expense | 5,000 | ### Deferred Income Revenues collected in advance but not yet earned (i.e. the merchandise or service has not been delivered). Since the revenue is not yet earned, it is a liability. A deferred income could be recorded using two methods: 1. **Liability method** - The income is recorded as a liability under unearned income account. 2. **Income Method** - The income is recorded as income to be adjusted against the unearned income. #### Liability Method Trish received advanced payment of 30,000 for a three-month three-session, one per month, photography service. **Initial Entry** | Cash | 30,000 | |----------------------|--------| | Unearned Revenue | 30,000 | **Adjusting entry - month end** | Unearned Revenue | 10,000 | |----------------|--------| | Unearned Revenue | 10,000 | | Service Revenue | 10,000 | #### Income Method **Initial Entry** | Cash | 30,000 | |----------------------|--------| | Service Revenue | 30,000 | **Adjusting entry - month end** | Service Revenue | 20,000 | |----------------|--------| | Unearned Revenue | 20,000 | | Service Revenue | 20,000 | ## Inventory Adjusting entry for inventory is used oftentimes only in periodic system. It is used to eradicate the beginning balance and novate it with the ending inventory. **Example** The beginning balance of the merchandise inventory is 300,000 while the ending inventory is 40,000. **Closing Beginning Inventory** | Income Summary | 300,000 | |-----------------|--------| | Merchandise Inventory | 300,000 | **Replacing with the ending inventory** | Merchandise Inventory | 40,000 | |----------------------|--------| | Income Summary | 40,000 | **Inventory** | | Debit | Credit | Balance | |---|---|---|---| | | 300,000| | 300,000 | | | | 300,000 | 0 | | | 40,000 | | 40,000 | | | | 40,000 | 0 | **Merchandise Inventory** | | 300,000 | |---|--------| | | 40,000 |