I. Adjusting Process
I. Adjusting Process
I. Adjusting Process
I. Background Concepts
Companies naturally want to have regular reports as to the progress they have made. Thus,
accountants divide the economic life of a business into artificial time periods as a guide. This
assumption is known as the time period assumption.
Annual Periods
● Fiscal Year - The accounting time period of one year in length
● Calendar Year – Period of time equal in length to that of the year in the calendar conventionally
in use.
Interim periods
● Monthly time period
Cash-basis accounting is all about recording transaction when cash is received or given
away. Revenues are recognized when cash is received. Expenses are recognized when cash is paid.
II. Nature
A. The Adjusting Process – is when entries are adjusted prior to the preparation of financial
statements to update certain accounts so that they reflect correct balances as of the
designated time.
Some accounts require updating for the following reasons:
1. Some expenses are not recorded daily.
2. Some revenues and expenses are incurred as time passes rather than as separate
transactions.
3. Some revenues and expenses may be unrecorded.
- Accruals give rise to both income and receivable (or both expense and payable).
- In accruals, all adjusting entries involve at least one balance sheet account and
one income statement account.
- In accruals, all adjusting entries affect the profit or loss for the period.
● “Interest receivable” is debited because the interest is yet to be collected in the future (i.e. on
April 1, 20x2).
● In 20x1, interest income is recognized only for the expired period (time passed) of April 1 to
December 31, 20x1. Interest converting the remaining 33 months of January 1 to March 31,
20x2 will be recognized in the next accounting period. This is an application of the time
period concept.
In the next accounting period, the collection of the interest is recorded as follows:
April 1, Cash 12,000
20x2 Interest Income 3,000
Interest Receivable 9,000
Accrual Deferral
● To recognize income that is already ● To postpone the income recognition of an
earned but not yet collected. advance collection. The advance
collection is treated as liability until
earned.
● To recognize expense that is already ● To postpone the expense recognition of a
incurred but not yet paid. prepayment. The prepayment is treated
as asset until incurred.
Case #5 Depreciation
A building with an estimated useful life of 30 years finished construction on June 1, 20x1. The cost
of the building is 4.8 million pesos with an estimated salvage value of P300,000.
● In 20x1, depreciation expense is recognized only for the expired period (time passed) – June
1 to December 31, 20x1.
● The accumulated depreciation account is credited because it is a contra asset account. Thus, it
will be deducted from its related asset.
● The allowance for bad debts account is credited because it is a contra asset account. Thus, it
will be deducted from its related receivable.
b. Unearned Revenues
The December 31, 2014, unadjusted trial balance of Boston Inc. indicates a balance in the unearned
rent account of $510. This balance represents the receipt of three months’ rent on December 1 for
December, January and February. Show the adjusting entry at the end of December.
c. Accrued Revenues
Assume that EsurientZita. signed an agreement with Reteche Co. on December 15. The agreement
provides that EsurientZita will answer computer questions and render assistance to Reteche Co.’s
employees. The services will be billed to Reteche Co. on the fifteenth of each month at a rate of $20
per hour. As of December 31, EsurientZita had provided 25 hours of assistance to Reteche Co.
d. Accrued Expenses
GreatGatsby pays its employees biweekly. During December, GreatGatsby paid wages of $950 on
December 13 and $1,200 on December 27. As of December 31, GreatGatsby owes $250 of wages for
Monday and Tuesday, December 30 and 31.
December
Sun Mon Tue Wed Thu Fri Sat
1 2 3 4 5 6 7
8 9 10 11 12 13 14
15 16 17 18 19 20 21
22 23 24 25 26 27 28
29 30 31
e. Depreciation Expense
The estimated amount of depreciation on equipment for the current year is $120. Journalize.
● Depreciation is an allocation concept, not a valuation one. It allocates an asset’s cost to the
periods in which it is used. Depreciation does not attempt to report the actual change in the
value of the asset.
● Accumulated Depreciation is a contra asset account that keeps track of the total amount of
depreciation expense taken over the life of the asset
**Formulas :
Cost - Salvage Value_
Useful Life Depreciable cost – Accumulated Depreciation = Book Value
Asset Method
a. Prepaid Expenses
Expense xx
Asset xx
b. Unearned Revenues
Liability xx
Revenue xx
c. Accrued Revenues
Asset xx
Revenue xx
d. Accrued Expenses
Expense xx
Liability xx
e. Depreciation
Expense xx
Contra Asset xx
Expense Method
a. Prepaid Expenses
Asset xx
Expenses xx
b. Unearned Revenues
Revenue xx
Liability xx
**No expense methods for accruals as no entries occur before companies make these types of
adjusting entries
V. Adjusted Trial Balance - prepared after all adjusting entries have been journalized and posted.
It shows the balances of all accounts at the end of the accounting period and the effects of all
financial events that have occurred during the period. It proves the equality of the total debit and
credit balances in the ledger after all adjustments have been made. Financial statements can be
prepared directly from the adjusted trial balance.