CHAPTER 4 (PART 1):

ACCRUAL ACCOUNTING
CONCEPTS
ACCT 1000
 LEARNING OBJECTIVES

Explain the accrual basis of accounting and the reasons

for adjusting entries.

Prepare adjusting entries for prepayments. (Step 5)

Prepare adjusting entries for accruals. (Step 5)

Prepare adjusted trial balance (Step 6) and Financial

Statements. (Steps 7)

Prepare closing entries (Step 8) and post closing trial

balance. (Step 9)
 STEPS IN THE ACCOUNTING
CYCLE

Analyze each transaction to determine its

STEP - 1 effect on accounts (if any)
- Evidence comes from a source document.

Record transaction as a journal entry in the

STEP - 2
general journal.

Transfer journal entries to appropriate accounts

STEP - 3
in the general ledger.
Ledger keeps all the information about changes
in specific account balances in one place.

Prepare a trial balance- list of general ledger

STEP - 4
accounts and their balances at a specific time.
3
 Source: Kimmel, Financial Accounting

4
 STEPS IN THE ACCOUNTING
CYCLE

Journalize and post adjusting entries:

STEP - 5 Prepayments/Accruals

STEP - 6 Prepare an adjusted trial balance

STEP - 7 Prepare financial statements

STEP - 8 Journalize and post closing entries

STEP - 9 Prepare a post-closing trial balance

5
 ACCRUAL BASIS ACCOUNTING

Transactions affecting a
company’s financial statements
are recorded in the period the
events occur, rather than when
cash is received or paid.
Revenue is recorded when
earned, rather than when cash
is received.
Expenses are recorded when
goods or services are consumed
or used, rather than when cash
is paid.
6
 CASH BASIS ACCOUNTING

Revenue is recorded only when

cash is received.

Expenses are recorded only when

cash is paid.

Can lead to misleading information

for decision-making:
 Timing differences between the
occurrence of the actual event
and its related cash flows.
 Revenue and expenses can be
7 manipulated by timing of the
receipt and payment of cash.
 ACCRUALS

Accruals have not been recognized at all until an

adjustment is made.
Revenues that have been earned, but not received in
cash (accrued revenues)
 Adjusting entry results in an increase to both an
asset and a revenue account
Expenses that have been incurred, but not yet paid or
recorded (accrued expenses)
 Adjusting entry results in an increase to both an
expense and a liability account

8
 ACCRUAL VS. CASH BASIS
ACCOUNTING

Accrual Basis Cash Basis

Revenues are Revenues are
recognized when recognized when
earned and expenses cash is received, and
are recognized when expenses recorded
incurred. when cash is paid.

Accounting

9
 ACCRUAL VS. CASH BASIS
ACCOUNTING-EXAMPLE

 Suppose that you own a painting company called Colours

Paint Barn and you paint a building complex during year
1.
 In year 1, you incur and pay total expenses of $40,000,
which includes the cost of the paint and your employees'
salaries.
 You bill your customer $60,000 at the end of year 1, but
you are not paid until year 2.

10
 ACCRUAL VS. CASH BASIS
ACCOUNTING-EXAMPLE

11
 TIMING ISSUES

Users require financial information on a regular basis

Accounting divides the economic life of a business into
time periods
 Month, quarter (three months), year
 One-year period is known as the fiscal year
 Shorter periods are known as interim periods

 Many transactions affect more than one time period.

12
 EXERCISE-TIMING
CONCEPTS
Match each of the concepts on the left-hand column with the most appropriate
description on the right-hand column. Each description is related to a single
column.
1. Accrual basis accounting a) Monthly and quarterly time periods

2. Adjusted Trial Balance b) Expenses are recorded in the period in they incurred to
generate revenue

3. Adjusting Entries c) Revenues are recorded when cash is received and

expenses when cash is paid

4. Cash basis accounting d) An accounting time period of one year.

5. Expense recognition e) Revenues are recorded when earned, (when performance

obligation is satisfied)

6. Fiscal Year f) A trial balance prepared before adjusting entries are

recorded and posted.

7. Interim periods g) Prepaid expenses and unearned revenues

8. Prepayments h) A trial balance prepared after adjusting entries are

recorded and posted.

9. Revenue recognition i) Journal entries prepared at the end of the accounting

period to update accounts

10. Unadjusted Trial Balance j) Transactions recorded in period in which events occur.
13
 REVENUE RECOGNITION
(1)

Revenue: Increase in assets (or settlement of liabilities)

 Income that results from a company’s ordinary
activities

Revenue is recognized:
 In a merchandising company when merchandise is
sold and delivered (point of sale)
 In a service company when the service is performed

Under A S P E, revenue can be recognized when:

 Performance of an obligation is substantially complete
 Revenue can be reliably measured
 Collection is reasonably certain

14
 REVENUE RECOGNITION
(2)

Under I F R S, new revenue standard (effective January

1, 2018). Five-step process to measure and report
revenue:

1. Identify the contract with the client or customer

2. Identify the performance obligations in the contract
3. Determine the transaction price
4. Allocate the transaction price to the performance
obligations in the contract
5. Recognize revenue when (or as) the company
satisfies the performance obligation

15
 EXPENSE RECOGNITION

Expenses are recognized when:

 Due to ordinary activity, a decrease in future
economic benefits occurs
 A decrease in an asset or an increase in a liability
 Can be measured reliably
Tied to changes in assets and liabilities
Often coincides with revenue recognition
Recognized, whenever possible, in the period during
which effort is made to generate revenue
 Sometimes known as matching

16
 STEP 5- JOURNALIZE AND
POST ADJUSTING ENTRIES

 Entries that ensure proper revenue and expense

recognition.
 Adjusting entries make it possible to have up-to-
date, relevant financial information at the end of an
accounting period.

17
 WHY ADJUSTING ENTRIES?

Trial balance typically does not contain, complete and up

to date data because:
1. Some events aren’t recorded daily (e.g. salaries)
2. Some costs aren’t recorded because they expire with
the passage of time rather than as a result of
recurring daily transactions (e.g. rent, insurance,
depreciation).
3. Some items may be unrecorded (e.g. a bill that is not
received until after the current accounting period, but
is for services delivered in the current period such as
utilities).

18
 ADJUSTING ENTRIES ARE
TRICKY

 Really need to understand the business and interplay

of accounts in the business
 Adjustment data often not available until after the end
of the accounting period (e.g. telephone bill)
 Each trial balance account needs to be analyzed to
ensure it is complete and up to date

19
 TYPES OF ADJUSTING
ENTRIES

20
 PREPAYMENTS
PREPAID EXPENSES

Cash payments of expenses that will benefit more than

one accounting period recorded as assets
 When expenses are prepaid (insurance, rent), an
asset (prepaid expenses) is increased (debited) to
show the future service or benefit, and cash is
decreased (credited)
Expire with the passage of time (rent, insurance) or
through use (supplies)
 Not practical to record this expiration on a daily basis,
done when statements are prepared
Adjusting entry increases an expense account and
decreases the asset (prepaid) account.
If prepaid expenses are not adjusted – assets are overstated and expenses
are understated.
21
 ADJUSTING ENTRIES:
PREPAID EXPENSES

22
 ADJUSTING ENTRY
EXAMPLE: PREPAID
EXPENSES
On December 1, 2019, Scott Company paid $12,000 to
cover rent for December 2019 through May 2020. Let’s
look at the adjusting journal entry needed on
December 31, 2019.

GENERAL JOURNAL
Date Description PR Debit Credit
Dec. 31 Rent Expense 2,000
Prepaid Rent 2,000
to record monthl y rent

23
 ADJUSTING ENTRIES:
DEPRECIATION

Depreciation is the process of computing expense

from allocating the cost of plant and equipment over
its expected useful life.

Straight-Line Asset Cost - Salvage Value

Depreciation =
Expense Useful Life

Calculating Carrying Amount: Example

Equipment $5000
Less accumulated depreciation-Equipment. 83
Carrying amount $4917
24
 ADJUSTING ENTRIES
EXAMPLE: DEPRECIATION

 On January 1, 2019, Monroe, Inc. purchased oil

pumping equipment for $62,000 cash.
 The equipment has an estimated useful life of 5
years and Monroe expects to sell the equipment at
the end of its life for $2,000 cash.
 Let’s compute depreciation expense for the year
ended December 31, 2019.

2018 $62,000 - 2,000

Depreciation = = $12,000
Expense 5

25
 ADJUSTING ENTRIES
EXAMPLE: DEPRECIATION

• On January 1, 2019, Monroe, Inc. purchased oil

pumping equipment for $62,000 cash.
• The equipment has an estimated useful life of 5 years
and Monroe expects to sell the equipment at the end
of its life for $2,000 cash.
• Let’s compute depreciation expense for the year
ended December 31, 2019.

GENERAL JOURNAL
Date Description PR Debit Credit
Dec. 31 Depreciation Exp. 12,000
Accum. Depreciation 12,000
To record annual depreciati on

26
 PREPAYMENTS:
UNEARNED REVENUE

• Cash received and recorded as liabilities before revenue

is earned (also called deferred revenue)
 When the cash is received, cash is increased (debited),
and a liability account (unearned revenue) is also
increased (credited)
• The opposite of prepaid expenses
• Adjusting entry for unearned revenue are made to
 Reflects amount of revenue earned in the period and
 Show the liability that remains at the end of the period.
If unearned revenue is not adjusted – liability is overstated, revenue is
understated (as well as profit and SE)

27
 ADJUSTING ENTRIES:
UNEARNED REVENUE

28
 ADJUSTING ENTRY
EXAMPLE: UNEARNED
REVENUE
On
OnOctober
October1, 1,2019,
2019,Ox
OxUniversity
Universitysold
sold1,000
1,000season
season
tickets
ticketsto
toits
its20
20home
homebasketball
basketballgames
gamesforfor$100
$100
each.
each.OxU
OxUmakes
makesthe
thefollowing
followingentry:
entry:

GENERAL JOURNAL
Date Description PR Debit Credit
Oct. 1 Cash 100,000
Unearned Basketball Revenue 100,000
Receipts for 1,000 season tickets

29
 ADJUSTING ENTRY
EXAMPLE: UNEARNED
REVENUE

On
OnDecember
December31,
31,OxU
OxUhas
hasplayed
played1010ofofits
itsregular
regular
home
homegames,
games,winning
winning22and
andlosing
losing8.
8.

GENERAL JOURNAL
Date Description PR Debit Credit
Dec. 31

Prepare
Preparethe
theappropriate
appropriateAdjusting
AdjustingEntry
Entryon
on
December
December31 31

30
 ADJUSTING ENTRY
EXAMPLE: UNEARNED
REVENUE

On
OnDecember
December 31,
31,OxU
OxUhas
hasplayed
played10
10of
ofits
itsregular
regular
home
homegames,
games,winning
winning22and
andlosing
losing8.
8.

GENERAL JOURNAL
Date Description PR Debit Credit
Dec. 31 Unearned Basketball Revenue 50,000
Basketball Revenue 50,000
to recognize basketbal l revenue

31
 ADJUSTING ENTRY
EXAMPLE: UNEARNED
REVENUE

After posting, the accounts involved will look

like this:

Unearned Basketball
Revenue Basketball Revenue
12/31 $50,000 10/1 $100,000 12/31 $50,000

32
 DISCUSSION QUESTIONS

1. Why are prepaid expenses a current asset?

2. Why are unearned revenues a current liability?

33
 ANSWER TO DISCUSSION
QUESTIONS

1. Current assets are assets that are expected to be

converted into cash or will be sold or used up within
one year of the company’s financial statement date. A
prepaid expense meets this definition as it involves an
expense that has been paid for in advance with the
anticipation that this prepaid amount will be used up
within one year.
2. Unearned revenues are considered a current liability to
recognize that the company has received cash in
advance and has an obligation to provide a service in
the future, or refund the cash typically in a time frame
not longer than one year.

34
 PRACTICE EXERCISE

On June 1, 2018, Bere Ltd. pays $6000 to Safety Insurance Corp. for
a one-year insurance policy. Both companies have fiscal year ending
December 31 and adjust their accounts annually.

a) Record the June 1 transaction on the books of (1) Bere and (2)
Safety.
b) Calculate the amount of insurance that expired during 2018 and
the unexpired cost at December 31.
c) Prepare the adjusting entry required on December 31 by (1) Bere
and (2) Safety.
d) Post the above entries and indicate the adjusted balance in each
account.

35
 SOLUTION PRACTICE
EXERCISE
(a)
(1) Bere Ltd.

June 1 Prepaid Insurance ....................................... 6,000

Cash ................................................... 6,000

(2) Safety Insurance Corp.

June 1 Cash ............................................................ 6,000

Unearned Revenue ............................ 6,000

(b) Expired in 2018 = $6,000 × 7/12 = $3,500

Unexpired at December 31, 2018 = $6,000 × 5/12 = $2,500

(c)
(1) Bere Ltd.

Dec. 31 Insurance Expense ....................................... 3,500

Prepaid Insurance ................................ 3,500

(2) Safety Insurance Corp.

Dec. 31 Unearned Revenue ..................................... 3,500

Insurance Revenue ............................ 3,500

36
 SOLUTION PRACTICE
EXERCISE
CONTINUED

d)
Bere Ltd.

Prepaid Insurance Insurance Expense

June 1 6,000 Dec. 31 Adj. 3,500
Dec. 31 Adj. 3,500
Dec. 31 Bal. 2,500

Safety Insurance Corp.

Unearned Revenue Insurance Revenue

June 1 6,000 Dec. 31 Adj. 3,500
Dec. 31 Adj. 3,500
Dec. 31 Bal. 2,500

37
 PRACTICE EXERCISE

Action Quest Games Inc. adjusts the accounts annually. The following
information is available for the year ended December 31, 2019:
1. Purchased a one-year insurance policy on June 1, for $1800 cash.
2. Paid $6,500 on August 31for five months rent in advance.
3. On September 4, received $3,600 cash in advance from a corporation to
sponsor a game each month for a total of nine months for the most
improved students at the local school.
4. Signed a contract for cleaning services starting December 1, for $1,000 per
month. Paid for the first two months on November 30. (Hint: use the
account prepaid services to record this prepayement)
5. On December 5, received $1,500 in advance from a gaming club.
Determined that on December 31, $475 of these games have not been
played yet.
Instructions:
a) For each of the above transactions, prepare a journal entry to record the
initial transaction.
b) For each of the above transaction, prepare the adjusting journal entry that
is required on December 31. (Hint: Use the account sponsorship revenue
for item 3 and repair and maintenance expense for item 4.)
c) Post the journal entries in parts a) and b) to T-accounts and determine
the final balance in each account balance.
38 (Note: Posting to the cash account is not required.)
 SOLUTION PRACTICE
EXERCISE
(a) 2018
June 1 Prepaid Insurance ................................. 1,800 a) For each of the above
Cash ............................................ 1,800 transactions, prepare a
Aug. 31 Prepaid Rent ......................................... 6,500 journal entry to record the
Cash ............................................ 6,500
initial transaction.
Sept. 4 Cash ..................................................... 3,600
Unearned Revenue ..................... 3,600
Nov. 30 Prepaid Services ................................... 2,000
Cash ............................................ 2,000
Dec. 5 Cash ...................................................... 1,500
Unearned Revenue ..................... 1,500
(b) 2018
Dec. 31 Insurance Expense ............................... 1,050
b) For each transaction, Prepaid Insurance ........................ 1,050
prepare the adjusting ($1,800 × 7/12 months = $1,050)

journal entry that is 31 Rent Expense........................................ 5,200

Prepaid Rent ................................ 5,200
required on December ($6,500 × 4/5 months = $5,200)
31. (Hint: Use the
31 Unearned Revenue ............................... 1,600
account sponsorship Sponsorship Revenue ................. 1,600
revenue for item 3 and ($3,600 × 4/9 games = $1,600)

repair and maintenance . 31 Repairs and Maintenance Expense ...... 1,000

Prepaid Services .......................... 1,000
expense for item 4.)
39 31 Unearned Revenue ............................... 1,025
Sponsorship Revenue ................. 1,025
($1,500 – $475 not played = $1,025 played)
 SOLUTION PRACTICE
EXERCISE
(c) Post the journal entries in parts a) and b) to T-accounts and determine the final
balance in each account balance.
Prepaid Insurance Insurance Expense
June 1 1,800 Dec. 31 Adj. 1,050
Dec. 31 Adj. 1,050
Dec. 31 Bal. 750

Prepaid Rent Rent Expense

Aug. 31 6,500 Dec. 31 Adj. 5,200
Dec. 31 Adj. 5,200
Dec. 31 Bal. 1,300

Unearned Revenue Sponsorship Revenue

Sept. 4 3,600 Dec. 31 Adj. 1,600
Dec. 5 1,500 Dec. 31 Adj. 1,025
Dec. 31 Adj. 1,600
Dec. 31 Adj. 1,025
Dec. 31 Bal. 2,475 Dec. 31 Bal. 2,625

Prepaid Services Repairs and Maintenance Expense

Nov . 30 2,000 Dec. 31 Adj. 1,000
Dec. 31 Adj. 1,000
Dec. 31 Bal. 1,000
40
 ADJUSTING ENTRIES:
ACCRUALS
ACCRUED EXPENSES

1- Accrued expenses
 Expenses incurred but not yet paid or recorded, e.g.
interest, rent, salaries, property tax, income tax
 Adjusting entries for accrued expenses are made to:
1. Record the obligations that exist at the end of the
period, and
2. Recognize the expenses that apply to the current
accounting period
If adjustment for accrued expenses isn’t made – both
liabilities and expenses are understated (therefore profit
and SE are overstated)

41
 JOURNALIZING ADJUSTING
ENTRIES FOR ACCRUED
EXPENSES

42
 ADJUSTING ENTRIES FOR
ACCRUED EXPENSES- EXAMPLE

Denton,
Denton,Inc.
Inc.pays
paysits
itsemployees
employeesevery
everyFriday.
Friday. Year-end,
Year-end,
12/31/19,
12/31/19,falls
fallson
onaaWednesday.
Wednesday.As Asof
of12/31/19,
12/31/19,thethe
employees
employeeshave
haveearned
earnedsalaries
salariesof
of$47,250
$47,250for
forMonday
Monday
through
throughWednesday
Wednesdayof ofthe
theweek
weekended
ended1/02/20.
1/02/20.

Last pay Next pay

date date
12/26/19 1/02/20

12/1/19 12/31/19 Record

Recordadjusting
adjusting
Year end journal
journalentry.
entry.

43
 ADJUSTING ENTRIES FOR
ACCRUED EXPENSES

Denton,
Denton,Inc.
Inc.pays
paysits
itsemployees
employeesevery
everyFriday.
Friday. Year-end,
Year-end,
12/31/19,
12/31/19,falls
fallson
onaaWednesday.
Wednesday.As Asof
of12/31/19,
12/31/19,thethe
employees
employeeshave
haveearned
earnedsalaries
salariesof
of$47,250
$47,250for
forMonday
Monday
through
throughWednesday
Wednesdayof ofthe
theweek
weekended
ended1/02/20.
1/02/20.

GENERAL JOURNAL
Date Description PR Debit Credit
Dec. 31 Salaries Expense 47,250
Salaries Payable 47,250
to record sal ary a ccrual

44
 ADJUSTING ENTRIES FOR
ACCRUED EXPENSES

After posting, the accounts involved will look like this:

Salaries Expense Salaries Payable

12/31 $47,250 12/31 $47,250

45
 ADJUSTING ENTRIES FOR
ACCRUED REVENUES
2- Accrued Revenues
 Revenues that have been earned but not yet received in
cash or recorded
 They may accumulate with the passage of time, e.g.
interest,
 They may result from services that have been performed
but not yet billed/collected, e.g. fees – a portion of the
service may have been provided, but client won’t be billed
until the service has been completed.
 Adjusting entries are required to:
 Show the receivable that exists at the end of the period,
 Record the revenue that has been earned during the
period
If adjusting entry for accrued revenues is not made, both
assets and revenues are understated
46
 ADJUSTING ENTRIES:
ACCRUALS

47
 ADJUSTING FOR ACCRUED
REVENUES
Yes, you can pay me
Revenues earned in a for your tax return
period that are both when I finish the work.
unrecorded and not
yet received.

Asset Revenue
Debit Credit
Adjustment Adjustment

48
 ADJUSTING FOR ACCRUED
REVENUES

Smith
Smith&&Jones,
Jones,CPAs,
CPAs,had
had$31,200
$31,200of
ofwork
workcompleted
completedbutbut
not
notyet
yetbilled
billedto toclients.
clients. Let’s
Let’smake
makethe
theadjusting
adjustingentry
entry
necessary
necessaryon onDecember
December31, 31,2019,
2019,the
theend
endofofthe
the
company’s
company’sfiscal
fiscalyear.
year.
GENERAL JOURNAL
Date Description PR Debit Credit
Dec. 31 Accounts Receivable 31,200
Service Revenues 31,200
Revenues ea rned but not recei ved

49
 ADJUSTING FOR ACCRUED
REVENUES

Accounts Receivable Service Revenue

12/31 $31,200 12/31 $31,200

50
 ADJUSTING FOR ACCRUED
REVENUES

Examples Original Reason for Accounts Adjusting

Transaction Adjustment before Entry
Adjustment
Interest and None To record an Revenues and Dr. Receivable
services asset related Net Income Cr. Revenue
performed but to revenues understated;
not yet billed that have been assets and
and no cash earned but shareholder’s
has been not yet equity
received recorded, and understated.
for which no A = L + SE
cash has been U = NE + U
received

51
 ACCRUED REVENUES-
ACCOUNTS RECEIVABLES:
EXAMPLE
Adjustment October 31: $200 of advertising service revenue has been earned during the
month but not billed yet.
Basic Analysis The asset account Accounts Receivable is increased by $200 for the revenue
earned. The revenue account Service Revenue is increased by the same
amount, which increased SHE by $200.

Equation Analysis Assets = Liabilities + Shareholder’s Equity

Account Receivables Retained Earnings
$200 Service Revenue
$200

Debit-Credit Analysis Debits increase assets: Debit Accounts Receivable $200

Credit increase revenue: Credit Service Revenue $200
Adjusting Journal Oct.31. Accounts Receivable $200
Entry Service Revenue $200
(To accrue revenue earned but
not billed or collected)

Posting Accounts Receivable Service Revenue

Oct.15 20,000 Oct. 30 9000 Oct.15. 20,000
31 adj. 200 Oct. 31 adj. 200
Oct. 31 11,200 Oct. 31 20,200
52
 PRACTICE EXERCISE
On March 31, 2018, Easy Rental Agency Inc.’s trial balance included the following selected
unadjusted account balances. The company’s year end is December 31and it adjusts its
accounts quarterly.

Debit Credit
Prepaid Insurance $14,400
Supplies 2,800
Equipment 21,600
Accumulated Depreciation-Equipment $5,400
Unearned Revenue 9,600
Loan Payable (Due 2020) 20,000
Rent Revenue 30,000
Salaries Expense 14,000

An analysis of the account shows the following:

1. The equipment which was purchased on January 1, 2017 has estimated useful life
of 4 years. The company uses straight line depreciation.
2. One third of the unearned revenue related to rent is still unearned at the end of
the quarter.
3. The loan payable has an interest rate of 6%. Interest is paid on the first day of each
following month and was last paid March 1, 2018.
4. Supplies on hand total $850 at March 31.
5. The one-year insurance policy was purchased for $14,400 on January 1.
53Income tax is estimated to be $3,200 for the quarter.
6.
Prepare the quarterly adjusting entries required at March 31.
 SOLUTION PRACTICE
EXERCISE
Prepare the quarterly adjusting entries required at March 31.

54
 SUMMARY OF BASIC
RELATIONSHIP
Type of Adjustment Transaction Journal Entry Accounts before Adjustment Adjusting Entry
during Period
Prepayments Blank Blank Blank
Prepaid expenses Dr. Prepaid Expenses Expenses understand and net income Dr. Expenses
Cr. Cash (or Accounts Payable) overstated; assets and shareholder’s equity Cr. Prepaid Expenses
overstated
A = L + SE
O = NE + O
Unearned revenue Dr. Cash Revenues and net income understated; liabilities Dr. Unearned Revenue
Cr. Unearned Revenue overstated and shareholder’s equity Cr. Revenue
understated
A = L + SE
NE = O + U
Accruals Blank Blank Blank
Accrued expenses None Expenses understated and net income Dr. Expense
overstated; liabilities understated and Cr. Payable
shareholder’s equity overstated
A = L + SE
NE = U + O

Accrued revenues None Revenue and net income understated; assets Dr. Receivable
and shareholder’s equity understated Cr. Revenue
A = L + SE
U = NE + U

55
 Exh.
3.4

ADJUSTING ACCOUNTS

An adjusting entry is recorded to bring an asset or

liability account balance to its proper amount.

Fram ew ork for Adjustm ents

Adjustm ents

P repaid Depreciation Unearned Accrued Accrued

E xpenses & Revenues E xpenses Revenues
S upplies

Transactions
Transactionswhere
wherecash
cashisispaid
paidor
or Transactions
Transactionswhere
wherecash
cashisispaid
paidor
or
received
receivedbefore
beforeaarelated
relatedexpense
expense received
receivedafter
afteraarelated
relatedexpense
expense
56
or
orrevenue
revenueisisrecognized.
recognized. or
orrevenue
revenueisisrecognized.
recognized.
 PRACTICE EXERCISE

Spot Out Cleaning Services Ltd. was incorporated July 1, 2018. At July 31, the trial balance shows the
following balances for selected accounts:
Prepaid insurance $ 4,500
Supplies 1,500
Equipment 36,000
Income tax payable -0-
Bank loan payable 20,000
Unearned revenue 4,500
Service revenue 1,600

Additional information is as follows:

1. The company purchased a one-year insurance policy for $4,500, effective July 1.
2. The Supplies account shows a balance of $1,500 but a physical count shows only $300 of
supplies remaining.
3. The equipment costing $36,000 is estimated to have a 10-year useful life.
4. The bank loan payable was signed July 1. It is a six-month, 6% loan. Interest is payable on the
first of each month.
5. Spot Out had performed services for a client totalling $500 but has not yet billed the client or
recorded the transaction.
6. Nine customers paid for the company’s six-month dry cleaning package of $500 beginning in
July. These customers received dry cleaning services in July.
7. Income tax expense for July is estimated to be $150.

Instructions
Prepare the adjusting journal entries for the month of July. Show your calculations.
57
 SOLUTION-PRACTICE
EXERCISE
SPOT OUT CLEANING SERVICES LTD.
General Journal
2018 Account Titles and Explanations Debit Credit
July 31 Insurance Expense 375
Prepaid Insurance 375
(To record insurance expired: $4,500 x 1/12 = $375 per month)

31 Supplies Expense 1,200

Supplies 1,200
(To record supplies used: $1,500 - $300 = $1,200)
31 Depreciation Expense 300
Accumulated Depreciation - Equipment 300
(To record monthly depreciation: $36,000 ÷ 10 years x 1/12)
31 Interest Expense 100
Interest Payable 100
(To accrue interest on bank loan payable: $20,000 x 6% x 1/12 = $100)

31 Accounts Receivable 500

Service Revenue 500
(To accrue revenue earned but not yet billed or collected)

31 Unearned Revenue 750

Service Revenue 750
(To record revenue earned: $500 ÷ 6 mos. X 9 customers = $750)

31 Income Tax Expense 150

Income Tax Payable 150
58 (To accrue income tax payable)
 STEP-6: ADJUSTED TRIAL
BALANCE

Prepared after all adjusting entries have been recorded

and posted.
Shows the balances of all accounts at the end of the
accounting period, including those accounts that have been
adjusted.
Proves total debit balances and total credit balances are
equal after the adjusting entries have been made.
The main source for preparation of financial statements.

59
60
 COMPARING IFRS AND ASPE

Key Standard International Financial Accounting

Differences Reporting Standards (I F R S) Standards for
Private
Enterprises (A S P
E)
Revenue The following process is used to Revenue is
recognition measure and reporting (pending recognized when
standard effective Jan 1,2018): 1. performance is
1. Identify the contract with the substantially
client or customer. complete,
2. Identify the performance 2. revenue amount
obligations in the contract. is able to be
3. Determine the transaction reliably
price. measured, an
4. Allocate the transaction price 3. collection
to the performance reasonably
obligations in the contract. certain.
5. Recognize revenue when (or
as) the company satisfies the
performance obligation.
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 PRACTICE EXERCISE
Fraser Valley Services Ltd. reports the following adjusted account balances,
shown in alphabetical order, at the end of its fiscal year, August 31, 2018.

Accounts Payable $2,800 Interest Expense $1,500

Accounts Receivable 18,225 Interest Payable 1,500
Accumulated Dep. Equipment 5,905 Prepaid Insurance 3,450
Bank Loan Payable (Due 25,000 Rent Expense 15,000
2021)
Cash 11,430 Rent Payable 1,250
Common Shares 5,000 Retained Earnings 5,400
Depreciation Expense 2,275 Salaries Expense 19,200
Dividends Declared 600 Salaries Payable 2,200
Equipment 25,600 Service Revenue 54,275
Income Tax Expense 2,000 Supplies 3,400
Income Tax Payable 1,500 Supplies Expense 1,750
Insurance Expense 1,100 Unearned Revenue 700
Prepare an adjusted trial balance.

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 SOLUTION PRACTICE
EXERCISE
FRASER VALLEY SERVICES LTD.
Adjusted Trial Balance
August 31, 2018

Debit Credit
Cash .................................................................................................
$ 11,430
Accounts receivable .......................................................................... 18,225
Supplies ............................................................................................
3,400
Prepaid insurance ............................................................................. 3,450
Equipment .........................................................................................
25,600
Accumulated depreciation—equipment ............................................ $ 5,905
Accounts payable.............................................................................. 2,800
Salaries payable ............................................................................... 2,200
Interest payable ................................................................................ 1,500
Rent payable ..................................................................................... 1,250
Income tax payable ........................................................................... 1,500
Unearned revenue ............................................................................ 700
Bank loan payable, due 2021 ........................................................... 25,000
Common shares ............................................................................... 5,000
Retained earnings ............................................................................. 5,400
Dividends declared ...........................................................................600
Service revenue ................................................................................ 54,275
Salaries expense .............................................................................. 19,200
Rent expense ....................................................................................
15,000
Depreciation expense ....................................................................... 2,275
Supplies expense ............................................................................. 1,750
Interest expense ............................................................................... 1,500
Insurance expense............................................................................ 1,100
Income tax expense .......................................................................... 2,000 000 0000
Totals...................................................................... $105,530 $105,530
63