ILLUSTRATION 3-1
GUIDELINES TO REPORT REVENUE AND EXPENSES
Time Period Assumption
Economic life of business
can be divided into
artificial time periods
Revenue Recognition
Principle
Matching Principle
Expenses matched with
revenues in the period
when efforts are expended
to generate revenues
Revenue recognized in
the accounting period in
which it is earned
3-17
ILLUSTRATION 3-2
DEPRECIATION
PREPAYMENT
ASSET
EXPENSE
Cost of
Truck
$15,000
2001
1/1/01
2002
12/31/01
2003
12/31/02
12/31/03
ENTRY:
Truck
15,000
Cash
15,000
Depreciation
Expense 5,000
Accumulated
Depreciation 5,000
ASSET
Depreciation
Expense
5,000
EXPENSE
Accumulated
Depreciation
CONTRA ASSET
5,000
Depreciation
Expense 5,000
Accumulated
Depreciation 5,000
Statement Presentation:
Balance Sheet
Asset
Truck
$15,000
Contra Asset Less: Accum.
Depr.
5,000
Book Value
$10,000
3-18
$15,000
$15,000
10,000
$ 5,000
15,000
$ –0 –
ILLUSTRATION 3-3
PREPAYMENT RELATIONSHIPS
PREPAYMENTS
Benefits More Than One
Accounting Period
RECORD AS ASSET
RECORD AS LIABILITY
Prepaid Insurance 1,200
Cash
1,200
(Acquired one
year policy)
Initial
Entry
Insurance Expense 100
Prepaid Insurance
100
(One month
expired)
Adjusting
Entry
Cash
6,000
Unearned Rent
6,000
(Received one
year's rent)
Unearned Rent
Rent Revenue
(One month
elapsed)
500
500
Benefits Consumed
or Earned in
Current Period
Account Effects:
Balance Sheet
Prepaid Insurance
1,200
100
Bal. 1,100
Unearned Rent
500
6,000
Bal. 5,500
Income Statement
Insurance Expense
100
Rent Revenue
500
3-19
ILLUSTRATION 3-4
ACCRUAL RELATIONSHIPS
ACCRUALS
Expense or Revenue
Not Yet Recorded
RECORD EXPENSE
Salary Expense
500
Salaries Payable
500
(Accrued salary
owed)
Salaries Payable
Cash
(Paid salaries)
500
500
RECORD REVENUE
Adjusting
Entry
Accounts Receivable 1,000
Service Revenue
1,000
(Accrued revenue
for services provided)
Subsequent
Entry
Cash
1,000
Accounts Receivable 1,000
(Collected account
receivable)
3-20
1. Prepaid Expenses
Account Balances
Before Adjustment
(a) Prepaid expenses
originally recorded
in asset accounts
have been used.
Assets Overstated
Expenses Understated
3-21
2. Unearned Revenues (b) Unearned revenues
initially recorded in Liabilities Overstated
Revenues Understated
liability accounts
have been earned.
3. Accrued Revenues
4. Accrued Expenses
Adjusting Entry
Dr. Expenses
Cr. Assets
Dr. Liabilities
Cr. Revenues
(c) Revenues earned
but not yet
received in cash
or recorded.
Assets Understated
Revenues Understated
Dr. Assets
Cr. Revenues
(d) Expenses incurred
but not yet paid in
cash or recorded.
Expenses Understated
Liabilities Understated
Dr. Expenses
Cr. Liabilities
Each adjusting entry affects a balance sheet
account and an income statement account.
ILLUSTRATION 3-5
TYPES OF ADJUSTING ENTRIES
Type of Adjustment
Reason for
Adjustment
ILLUSTRATION 3-6
EXAMPLES OF ADJUSTING ENTRIES
Instructions: For each entry indicate the name of the account debited
and account credited.
Adjusting Entry
1. To record expired rent
which had been prepaid.
2. To record supplies used
during the period.
3. To record depreciation
on furniture.
4. To record unearned revenue
that has been earned.
5. To record salary owed
but not paid.
6. To record rent earned
but not recorded.
Account
Debited
Account
Credited
Answer:
Account
Debited
1. Rent Expense
2. Supplies Expense
3. Depreciation Expense
4. Unearned Revenue
5. Salary Expense
6. Rent Receivable
Account
Credited
Prepaid Rent
Supplies
Accumulated Depreciation
Revenue
Salary Payable
Rent Revenue
3-22
ILLUSTRATION 3-7
POSTING OF ADJUSTING ENTRIES
The following unadjusted accounts and related balances are provided
at September 30:
Accounts Receivable
$ 2,400
Supplies
1,200
Salary Payable
–0–
Unearned Revenue
500
Revenue
15,000
Salary Expense
2,100
Depreciation Expense
–0–
Accumulated Depreciation
3,000
Instructions: Open T-accounts and post the adjusting entries indicated
from the following data.
(a) Supplies on hand, $200.
(b) Revenue earned but not accrued, $900.
(c) Unearned revenue earned but not recorded, $400.
(d) Salary owed to employees, $700.
(e) Depreciation of $200 is recognized.
Answer:
Accounts Receivable
2,400
(b)
900
3,300
Unearned Revenue
(c)
400
500
100
Revenue
15,000
(b)
900
(c)
400
16,300
Supplies
1,200 (a) 1,000
Salary Payable
(d)
200
Supplies Expense
–0–
(a) 1,000
1,000
Depreciation Expense
–0–
(e)
200
200
3-23
–0–
700
700
Salary Expense
2,100
(d)
700
2,800
Accumulated
Depreciation
3,000
(e)
200
3,200
ILLUSTRATION 3-8
REVIEW CHAPTER CONCEPTS
Topic Applied
Results
Justification
1. Time Period
Assumption
Economic life of
business is divided
into time periods.
To provide information
to prepare financial
statements and tax
return.
2. Revenue
Recognition
Revenue is recorded
in period earned.
Requires adjusting
entries.
To record assets or
decreases in liabilities
and proper reporting
of revenue earned.
3. Matching
Prinicple
Record expenses in
the period they occur.
Requires adjusting
entries.
To record liabilities
or use of assets and
expenses incurred in
earning revenues.
4. Accrual Basis
Accounting
Applies revenue
recognition principle,
matching principle,
and time period
assumption.
To record revenue
when earned and
expenses when
incurred.
3-24
ILLUSTRATION 3-9
PREPAYMENT–ALTERNATIVE TREATMENT
PREPAYMENTS
Benefits More Than One
Accounting Period
RECORD AS EXPENSE
RECORD AS REVENUE
Insurance Expense 1,200
Cash
1,200
(Acquired one
year policy)
Initial
Entry
Cash
6,000
Rent Revenue
6,000
(Received one
year's rent)
Prepaid Insurance 1,100
Insurance Expense 1,100
(Eleven months
unexpired)
Adjusting
Entry
Rent Revenue
5,500
Unearned Rent
5,500
(Eleven months
unearned)
Account Effects:
Balance Sheet
Prepaid Insurance
1,100
Unearned Rent
5,500
Income Statement
Insurance Expense
1,100
1,200
Bal.
100
Rent Revenue
5,500
6,000
Bal.
500
3-25