Chapter 3 Adjusting the Accounts 高立翰

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1 Chapter 3 Adjusting the Accounts 高立翰

2 Study Objectives 1. Explain the time period assumption. 2. Explain the accrual basis of accounting. ( 不考 ) 3. Explain the reasons for adjusting entries. 4. Identify the major types of adjusting entries. 5. Prepare adjusting entries for deferrals. 6. Prepare adjusting entries for accruals. 7. Describe the nature and purpose of an adjusted trial balance. 會計學 ( 一 ) 2

3 PREVIEW OF CHAPTER 3 會計學 ( 一 ) 3

4 Timing Issues Time Period Assumption ( 會計期間假設 ) Accountants divide the economic life of a business into artificial time periods..... Jan. Feb. Mar. Apr. Dec. Generally a month, a quarter, or a year Fiscal year ( 會計年度 ) vs. calendar year ( 曆年制 ) Also known as the Periodicity Assumption 會計學 ( 一 ) 4

5 Accrual vs. Cash-Basis Accounting Accrual-Basis Transactions recorded in the periods in which the events occur. Revenues are recognized when earned, rather than when cash is received. Expenses are recognized when incurred, rather than when paid. Cash-Basis Transactions recorded in the periods in which the events occur. Revenues are recognized when earned, rather than when cash is received. Expenses are recognized when incurred, rather than when paid. Cash-basis accounting is NOT in accordance with IFRS 會計學 ( 一 ) 5

6 Recognizing Revenues and Expenses (1/2) Revenue Recognition Principle ( 收入認列原則 ) Recognize revenue in the accounting period in which the performance obligation is satisfied. Companies recognize revenue in the accounting period in which it is earned. In a service enterprise, revenue is considered to be earned at the time the service is performed. 會計學 ( 一 ) 6

revenues in the period when the company makes efforts to generate

7 Recognizing Revenues and Expenses (2/2) Expense Recognition Principle / Matching Principle ( 配合原則 ) Match expenses with revenues in the period when the company makes efforts to generate those revenues. Let the expenses follow the revenues. 會計學 ( 一 ) 7

8 Recognitions in IFRS IFRS relationships in revenue and expense recognition Illustration 3-1 Q3 1. 會計學 ( 一 ) 8

9 The Basics of Adjusting Entries Adjusting entries Ensure that the revenue recognition and expense recognition principles are followed. Necessary because the trial balance may not contain upto-date and complete data. Required every time a company prepares financial statements. Will include one income statement account and one statement of financial position account. Revenues / Expenses vs. Adjusting entries Revenue: recorded in the period in which they are earned. Expenses: recognized in the period in which they are incurred. Adjusting entries: needed to ensure that the revenue recognition and expense recognition are followed. 會計學 ( 一 ) 9

10 Types of Adjusting Entries Illustration 3-2 Categories of adjusting entries Deferrals ( 遞延項 ) 1. Prepaid Expenses. Expenses paid in cash and recorded as assets before they are used or consumed. 2. Unearned Revenues. Revenues received in cash and recorded as liabilities before they are earned. Accruals ( 應計項 ) 1. Accrued Revenues. Revenues earned but not yet received in cash or recorded. 2. Accrued Expenses. Expenses incurred but not yet paid in cash or recorded. Q3 2. 會計學 ( 一 ) 10

11 Each account is analyzed to determine whether it is complete and up-to-date for financial statement purposes. 會計學 ( 一 ) 11

12 Adjusting Entries for Deferrals Deferrals are expenses or revenues that are recognized at a date later than the point when cash was originally exchanged. There are two types: Prepaid expenses ( 預付費用 / 預付款 ) and Unearned revenues ( 預收收入 ) 會計學 ( 一 ) 12

13 Adjusting Entries for Prepaid Expenses (1/4) Prepaid Expenses (Prepayments) ( 預付費用 / 預付款 ) Payments of expenses that will benefit more than one accounting period. Payment of cash that is recorded as an asset because service or benefit will be received in the future. Cash Payment BEFORE Expense Recorded Prepayments often occur in regard to: Insurance Supplies Advertising Rent Buildings and equipment 會計學 ( 一 ) 13

14 Adjusting Entries for Prepaid Expenses (2/4) Costs that expire either with the passage of time or through use. Adjusting entries Increases (debits) an expense account and Decreases (credits) an asset account 1. to record the expenses that apply to the current accounting period, and 2. to show the unexpired costs in the asset accounts. Illustrations: pp. 107 會計學 ( 一 ) 14

Illustration: Supplies (pp.106-107) Yazici Advertising Inc. purchased supplies costing 2,500 on October 5. Yazici recorded the purchase by increasing (debiting) the asset Supplies.

15 Illustration: Supplies (pp ) Yazici Advertising Inc. purchased supplies costing 2,500 on October 5. Yazici recorded the purchase by increasing (debiting) the asset Supplies. This account shows a balance of 2,500 in the October 31 trial balance. An inventory count at the close of business on October 31 reveals that 1,000 of supplies are still on hand. Oct. 31 Supplies Expense 1,500 Supplies 1,500 會計學 ( 一 ) 15

16 Illustration 3-5 Adjustment for supplies 會計學 ( 一 ) 16

Illustration: Insurance (pp.107-108) On October 4, Yazici Advertising Inc. paid 600 for a one-year fire insurance policy. Coverage began on October 1.

17 Illustration: Insurance (pp ) On October 4, Yazici Advertising Inc. paid 600 for a one-year fire insurance policy. Coverage began on October 1. Yazici recorded the payment by increasing (debiting) Prepaid Insurance. This account shows a balance of 600 in the October 31 trial balance. Insurance of 50 ( ) expires each month. Oct. 31 Insurance Expense 50 Prepaid Insurance 50 會計學 ( 一 ) 17

18 Illustration 3-6 Adjustment for insurance 會計學 ( 一 ) 18

19 Adjusting Entries for Prepaid Expenses (3/4) Depreciation Buildings, equipment, and motor vehicles (assets that provide service for many years) are recorded as assets, rather than an expense, on the date acquired. Depreciation is the process of allocating the cost of an asset to expense over its useful life. Companies report a portion of the cost of a long-lived asset as an expense (depreciation) during each period of the asset s useful life. Depreciation does not attempt to report the actual change in the value of the asset. 會計學 ( 一 ) 19

20 Illustration: Depreciation (pp ) For Yazici Advertising, assume that depreciation on the equipment is 480 a year, or 40 per month. Oct. 31 Depreciation Expense 40 Accumulated Depreciation 40 會計學 ( 一 ) 20

21 Illustration 3-7 Adjustment for depreciation 會計學 ( 一 ) 21

(Equipment) on the statement of financial position Book value is the difference between the

22 Adjusting Entries for Prepaid Expenses (4/4) In the Statement Presentation Accumulated Depreciation is a contra asset account ( 資產備抵帳戶 ) Appears just after the account it offsets (Equipment) on the statement of financial position Book value is the difference between the cost of any depreciable asset and its accumulated depreciation. Summary Q3 3. 會計學 ( 一 ) 22

23 Adjusting Entries for Unearned Revenues (1/3) Unearned Revenues Receipt of cash that is recorded as a liability because the revenue has not been earned. Cash Receipt BEFORE Revenue Recorded Unearned revenues often occur in regard to: Rent Airline tickets Magazine subscriptions Customer deposits 會計學 ( 一 ) 23

Adjusting Entries for Unearned Revenues (2/3) Adjusting entry is made to record the revenue for services performed during the period and to show the liability that remains at the end of the

24 Adjusting Entries for Unearned Revenues (2/3) Adjusting entry is made to record the revenue for services performed during the period and to show the liability that remains at the end of the accounting period. The adjusting entry for unearned revenues results in a decrease (a debit) to a liability account, and an increase (a credit) to a revenue account. 會計學 ( 一 ) 24

25 Illustration: Unearned Revenues (pp ) Yazici Advertising Inc. received 1,200 on October 2 from R. Knox for advertising services expected to be completed by December 31. Unearned Service Revenue shows a balance of 1,200 in the October 31 trial balance. Analysis reveals that the company performed 400 of services in October. Oct. 31 Unearned Service Revenue 400 Service Revenue 400 會計學 ( 一 ) 25

26 Illustration 3-11 Service revenue accounts after adjustment 會計學 ( 一 ) 26

27 Adjusting Entries for Unearned Revenues (3/3) Summary Q3 4. 會計學 ( 一 ) 27

28 Accruals ( 應計項目 ) Accruals are made to record: Revenues for services performed but not yet recorded at the statement date (accrued revenues). OR Expenses incurred but not yet paid or recorded at the statement date (accrued expenses). 會計學 ( 一 ) 28

29 Adjusting Entries for Accrued Revenues (1/3) Accrued Revenues Revenues earned but not yet received in cash or recorded. Revenue Recorded BEFORE Cash Receipt Accrued revenues often occur in regard to: Rent Interest Services performed 會計學 ( 一 ) 29

30 Adjusting Entries for Accrued Revenues (2/3) An adjusting entry serves two purposes: It shows the receivable that exists, and It records the revenues earned. Adjusting entry: Increases (debits) an asset account and Increases (credits) a revenue account. 會計學 ( 一 ) 30

Illustration: Accrued Revenues (pp.113-115) In October, Yazici Advertising Inc. performed services worth 200 that were not billed to clients in October. Oct. 31 Accounts Receivable 200 Service Revenue 200 On November 10, Yazici receives cash of 200 for the services performed.

31 Illustration: Accrued Revenues (pp ) In October, Yazici Advertising Inc. performed services worth 200 that were not billed to clients in October. Oct. 31 Accounts Receivable 200 Service Revenue 200 On November 10, Yazici receives cash of 200 for the services performed. Nov. 10 Cash 200 Accounts Receivable 200 會計學 ( 一 ) 31

32 Illustration 3-14 Adjustment for accrued revenue 會計學 ( 一 ) 32

33 Adjusting Entries for Accrued Revenues (3/3) Summary Q3 5. 會計學 ( 一 ) 33

34 Adjusting Entries for Accrued Expenses (1/3) Accrued Expenses Expenses incurred but not yet paid in cash or recorded. Expense Recorded BEFORE Cash Payment Accrued expenses often occur in regard to: Interest Taxes Salaries 會計學 ( 一 ) 34

35 Adjusting Entries for Accrued Expenses (2/3) An adjusting entry serves two purposes: It records the obligations, and It recognizes the expenses. Adjusting entry: Increases (debits) an expense account and Increases (credits) a liability account. 會計學 ( 一 ) 35

Illustration: Accrued Interest (pp.115-116) Yazici Advertising Inc. signed a three-month note payable in the amount of 5,000 on October 1.

36 Illustration: Accrued Interest (pp ) Yazici Advertising Inc. signed a three-month note payable in the amount of 5,000 on October 1. The note requires Yazici to pay interest at an annual rate of 12%. Oct. 31 Interest Expense 50 Interest Payable 50 會計學 ( 一 ) 36

37 Illustration 3-18 Adjustment for accrued interest 會計學 ( 一 ) 37

Illustration: Salaries & Wages (pp.116-117) Yazici paid salaries and wages on October 26; the next payment of salaries will not occur until November 9.

38 Illustration: Salaries & Wages (pp ) Yazici paid salaries and wages on October 26; the next payment of salaries will not occur until November 9. The employees receive total salaries of 2,000 for a five-day work week, or 400 per day. Thus, accrued salaries at October 31 are 1,200 ( 400 x 3 days). 會計學 ( 一 ) 38

39 Illustration 3-20 Adjustment for accrued salaries and wages 會計學 ( 一 ) 39

40 Adjusting Entries for Accrued Expenses (3/3) Summary 會計學 ( 一 ) 40

41 Summary of Basic Relationships Illustration 3-22 Summary of adjusting entries Journalizing and posting all transactions to the General Journal and Ledger (pp ) 會計學 ( 一 ) 41

42 The Adjusted Trial Balance After all adjusting entries are journalized and posted the company prepares another trial balance from the ledger accounts. Trial Balance Adjusting Entries + = Adjusted Trial Balance Its purpose is to prove the equality of debit balances and credit balances in the ledger. Is the primary basis for the preparation of financial statements. 會計學 ( 一 ) 42

43 Preparing Financial Statements (1/3) Financial Statements are prepared directly from the Adjusted Trial Balance. Statement of Financial Position Income Statement Retained Earnings Statement 會計學 ( 一 ) 43

44 Preparing Financial Statements (2/3) Illustration 3-26 Preparation of the income statement and retained earnings statement from the adjusted trial balance 會計學 ( 一 ) 44

45 Preparing Financial Statements (3/3) Illustration 3-27 Q3 6. 會計學 ( 一 ) 45

46 Appendix 3A: Alternative Treatments For Prepaid Expenses For Unearned Revenues 會計學 ( 一 ) 46

47 Appendix 3A: Summary Illustration 3A-7 會計學 ( 一 ) 47

Adjusting the Accounts

3-1 Chapter 3 Adjusting the Accounts Learning Objectives After studying this chapter, you should be able to: 1. Explain the time period assumption. 2. Explain the accrual basis of accounting. 3. Explain