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0. 3. The Adjusting Process. 0. After studying this chapter, you should be able to:. Describe the nature of the adjusting process. Journalize entries for accounts requiring adjustment. Summarize the adjustment process. Prepare an adjusted trial balance. 0. 3-1. Objective 1.

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0

3

The Adjusting Process


0

After studying this chapter, you should be able to:

  • Describe the nature of the adjusting process.

  • Journalize entries for accounts requiring adjustment.

  • Summarize the adjustment process.

  • Prepare an adjusted trial balance.


0

3-1

Objective 1

Describe the nature of the adjusting process.

3


0

3-1

Under the accrual basis ofaccounting, revenues are reported in the income statement in the period in which they are earned.


0

3-1

The accounting concept that supports this approachtoreporting of revenues is called therevenue recognition concept.


0

3-1

The accounting concept that supports reporting revenues and related expenses in the same period is called the matching concept, or matching principle.


0

3-1

Under the cash basis ofaccounting, revenues and expenses are reported in the income statement in the period in which cash is received or paid.


0

3-1

The analysis and updating of accounts at the end of the period before the financial statements are prepared is called the adjusting process.


0

3-1

The journal entries that bring the accounts up to date at the end of the accounting period are called adjusting entries.


Example Exercise 3-1

Follow My Example 3-1

0

3-1

Indicate with a Yes or No whether or not each of the following accounts normally requires an adjusting entry.

  • Cash c. Wages Expense e. Accounts Receivable

  • Prepaid Rent d. Office Equipment f. Unearned Rent

  • No c. Yes e. Yes

  • Yes d. No f. Yes

For Practice: PE 3-1A, PE 3-1B

10


0

3-1

Items That Need Adjusting

Prepaid expenses, sometimes referred to as deferred expenses, are items that have been initially recorded as assets but are expected to become expenses over time or through the normal operations of the business.


0

3-1

Items That Need Adjusting

Unearned revenues, sometimes referred to as deferred revenues, are items that have been initially recorded as liabilities but are expected to become revenues over time or through the normal operations of the business.


0

3-1

Insert Exhibit 1

13


0

3-1

Items That Need Adjusting

Accrued revenues, sometimes referred to as accrued assets (accrued means unpaid), are revenues that have been earned but have not been recorded in the accounts.


0

3-1

Items That Need Adjusting

Accrued expenses, sometimes referred to as accrued liabilities, are expenses that have been incurred but have not been recorded in the accounts.


0

3-1

16


Example Exercise 3-2

Follow My Example 3-2

0

3-1

Classify the following items as (1) prepaid expense, (2) unearned revenue, (3) accrued expense, or (4) accrued revenue.

  • Wages owed but not c. Fees received but not yet yet paid. earned.

  • Supplies on hand. d. Fees earned but not yet received.

  • Accrued expense c. Unearned revenue

  • Prepaid expense d. Accrued revenue

17

For Practice: PE 3-2A, PE 3-2B


0

3-2

Objective 2

Journalize entries for accounts requiring adjustment.


0

3-2

19


0

3-2

Adjusting Process for Prepaid Expenses

NetSolutions’ Suppliesaccount has a balance of $2,000 in the unadjusted trial balance. Some of these supplies have been used. On December 31, a count reveals that $760 of supplies are on hand.


0

3-2

Supplies (balance on trial balance) $2,000

Supplies on hand, December 31 – 760

Supplies used $1,240


2007

Dec. 31 Supplies Expense 1 240 00

760

2,040

0

3-2

55

14

Supplies 1 240 00

Supplies used ($2,000 – $760)

Supplies Expense

Supplies

14

55

Bal. 2,000

Dec. 31 1,240

Bal. 800

Dec. 31 1,240

22


0

3-2

The debit balance of $2,400 in NetSolutions’ PrepaidInsuranceaccount represents the December 1 prepayment of insurance for 12 months.


2,200

0

3-2

56

31 Insurance Expense 200 00

Prepaid Insurance 200 00

15

Insurance expired ($2,400/12).

Prepaid Insurance

Insurance Expense

15

56

Dec. 31 200

Bal. 2,400

Dec. 31 200

24


Example Exercise 3-3

Follow My Example 3-3

0

3-2

The prepaid insurance account had a beginning balance of $6,400 and was debited for $3,600 of premiums paid during the year. Journalize the adjusting entry required at the end of the year assuming the amount of unexpired insurance related to future periods is $3,250.

Insurance Expense 6,750

Prepaid Insurance 6,750

Insurance expired ($6,400 +

$3,600 – $3,250).

25

For Practice: PE 3-3A, PE 3-3B


0

3-2

On December 1, the tenant prepaid three months’ rent for use of an office building owned by NetSolutions. As of December 31, only $120 has been earned.


240

Bal.

0

3-2

23

31 Unearned Rent 120 00

42

Rent Revenue 120 00

Rent earned ($360/3 months)

Unearned Rent

Rent Revenue

23

42

Dec. 31 120

Bal. 360

Dec. 31 120

27


Example Exercise 3-4

Follow My Example 3-4

0

3-2

The balance in the unearned fees account, before adjustment at the end of the year, is $44,900. Journalize the adjusting entry required if the amount of unearned fees at the end of the year is $22,300.

Unearned Fees 22,600

Fees Earned 22,600

Fees earned ($44,900 –

$22,300).

28

For Practice: PE 3-4A, PE 3-4B


0

3-2

NetSolutions provided $500 in services during December for which the customer has not been billed.


Bal.

Bal.

2,720

16,840

0

3-2

12

31 Accounts Receivable 500 00

Fees Earned 500 00

41

Accrued fees (25 hrs. x $20)

Fees Earned

Accounts Receivable

12

41

Bal. 2,220

Bal. 16,340

Dec. 31 500

Dec. 31 500

30


Example Exercise 3-5

Follow My Example 3-5

0

3-2

At the end of the current year, $13,680 of fees have been earned but have not been billed to clients. Journalize the adjusting entry to record the accrued fees.

Accounts Receivable 13,680

Fees Earned 13,680

Accrued fees.

31

For Practice: PE 3-5A, PE 3-5B


0

3-2

At the end of December, accrued wages amounted to $250. Without this adjusting entry, Wages Expenseis understated.


Bal. 4,525

0

3-2

51

31 Wages Expense 250 00

Wages Payable 250 00

22

Accrued wages.

51

Wages Payable

Wages Expense

22

Dec. 31 250

Bal. 4,275

Dec. 31 250

33


Bal. 4,525

0

3-2

51

Wages Payable

22

Wages Expense

Dec. 31 250

Bal. 4,275

Dec. 31 250

Closing entries will be discussed in a later chapter. For now, just be aware that Wages Expense is closed after financial statements are prepare and its balance rolled back to zero.

34


0

3-2

The payment of January 10 wages totaling $1,275 is shown below.

Jan. 10 Wages Expense 1 025 00

Wages Payable 250 00

Cash 1 275 00

35


Wages Payable

22

Wages Expense

51

Dec. 31 250

Jan. 10 250

Bal. 4,275

Dec. 31 250

Jan. 10 1,025

Bal. 4,525

0

3-2

The liability is cancelled.

An expense for wages of $1,025 is recorded in the new fiscal year.

36


Example Exercise 3-6

Follow My Example 3-6

0

3-2

Sanregret Realty Co. pays weekly salaries of $12,500 on Friday for a five-day week ending on that day. Journalize the necessary adjusting entry at the end of the accounting period, assuming that the period ends on Thursday.

Salaries Expense 10,000

Salaries Payable 10,000

Accrued salaries ($12,500/5

x 4 days).

37

For Practice: PE 3-6A, PE 3-6B


0

3-2

Physical resources that are owned and used by a business and are permanent or have a long life are called fixed assets, orplant assets.


0

3-2

As time passes, a fixed asset loses its ability to provide useful services. This decrease in usefulness is called depreciation.


0

3-2

Normal titles for fixed asset accounts andtheir relatedcontra assetaccounts are asfollows:

Fixed Asset Contra Asset

Land None—Land is not depreciated

Buildings Accumulated Depreciation— Buildings

Store Equipment Accumulate Depreciation—Store

Equipment

Office Equipment Accumulated Depreciation—Office

Equipment


0

3-2

NetSolutions estimates the depreciation on its office equipment to be $50 for the month of December.


0

3-2

53

31 Depreciation Expense 50 00

Accum. Depreciation— Office Equipment 50 00

19

Depreciation of office equipment.

Depreciation Expense

Accum. Depr.—Office Equip.

19

53

Dec. 31 50

Dec. 31 50

42


0

3-2

NetSolutions’ balance sheet would show the office equipment at cost, less the accumulated depreciation.

Office equipment $1,800

Less accumulated

depreciation 50 $1,750

Book value


Example Exercise 3-7

Follow My Example 3-7

0

3-2

The estimated amount of depreciation on equipment for the current year is $4,250. Journalize the adjusting entry to record the depreciation.

Depreciation Expense 4,250

Accumulated Depreciation—

Equipment 4,250

Depreciation on equipment.

44

For Practice: PE 3-7A, PE 3-7B


0

3-3

Objective 3

Summarize the adjustment process


0

3-3

46


Ledger with Adjusting Entries—NetSolutions

0

3-3

47

(Continued)


Ledger with Adjusting Entries—NetSolutions

0

3-3

(Continued)

48


Ledger with Adjusting Entries—NetSolutions

0

3-3

(Continued)

49


Ledger with Adjusting Entries—NetSolutions

0

3-3

(Concluded)

50


Example Exercise 3-8

Follow My Example 3-8

0

3-3

For the year ending December 31, 2008, Mann Medical Co. mistakenly omitted adjusting entries for (1) $8,600 of unearned revenue that was earned, (2) earned revenue that was not billed of $12,500, and (3) accrued wages of $2,900. Indicate the combined effect of the errors on (a) revenues, (b) expenses, and (c) net income for 2008.

  • Revenues were understated by $21,100 ($8,600 + $12,500).

  • Expenses were understated by $2,900.

  • Net income was understated by $18,200 ($8,600 +12,500 – $2,900).

51

For Practice: PE 3-8A, PE 3-8B


0

3-4

Objective 4

Prepare an adjusted trial balance.


0

3-4

The purpose of the adjustedtrial balanceis to verify the equality of the total debit balances and total credit balances before the financial statements are prepared.


0

3-4

54


Example Exercise 3-9

0

3-4

For each of the following errors, considered individually, indicate whether the error would cause the adjusted trial balance totals to be unequal. If the error would cause the adjusted trial balance total to be unequal, indicate whether the debit or credit total is higher and by how much.

  • The adjustment for accrued fees of $5,340 was journalized as a debit to Accounts Payable for $5,340 and a credit to Fees Earned of $5,340.

  • The adjustment for depreciation of $3,260 was journalized as a debit to Depreciation Expense for $3,620 and a credit to Accumulated Depreciation for $3,260.

55


Follow My Example 3-9

0

3-4

  • The totals are equal even though the debit should have been to Accounts Receivable instead of Accounts Payable.

  • The totals are unequal. The debit total is higher by $360 ($3,620 – $3,260).

For Practice: PE 3-9A, PE 3-9B

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