Adjusting entries 08022013


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Adjusting entries 08022013

  1. 1. 2 August 2013
  2. 2. Time Period Assumption Revenue Recognition Principle Expense Recognition Principle Economic life of a business can be divided into artificial time periods. Revenue recognised in the accounting period in which it is earned. Expense recognised in the accounting period when incurred.
  3. 3.  In order for revenues to be recorded in the period in which it is earned, and for expenses to be recognised in the period in which they are incurred, adjusting entries are made at the end of the accounting period.
  4. 4.  Adjusting entries make it possible to report on the statement of financial position the appropriate assets, liabilities and owner’s equity at the reporting date and to report on the income statement the profit (or loss) for the period.
  5. 5.  Accrued Expense – expense already incurred but NOT yet paid. ◦ Adjusting Entry: Expense XXX Liability (Accrued Expense) XXX  Accrued Income – revenue already earned but NOT yet collected. ◦ Adjusting Entry: Asset (Accrued Income) XXX Income XXX
  6. 6.  Prepaid Expense – expense already paid but NOT yet incurred. Initial Recognition: Asset XXX Expense XXX Cash XXX Cash XXX Adjusting Entry: Expense XXX Asset XXX Asset XXX Expense XXX ASSET METHOD EXPENSE METHOD
  7. 7.  Unearned Income – revenue already collected but NOT yet earned. Initial Recognition: Cash XXX Cash XXX Liability XXX Income XXX Adjusting Entry: Liability XXX Income XXX Income XXX Liability XXX LIABILITY METHOD INCOME METHOD
  8. 8. Depreciation  the systematic allocation of the cost of fixed asset over its estimated useful life  Three factors to consider: ◦ Cost of the asset ◦ Residual value, or the estimated amount the asset can be sold for at the end of its useful life ◦ Estimated useful life
  9. 9.  Straight Line Method ◦ The simplest and most used method in estimating depreciation ◦ Results in equal periodic charges for depreciation  The formula for computing depreciation is: Cost- Residual Value EstimatedUseful Life (inyears) =Annual Depreciation
  10. 10.  Journal Entry: Depreciation Expense XXX Accumulated Depreciation XXX  The use of the contra account “Accumulated Depreciation” allows the disclosure of the original cost of the asset.  To determine the book value of the asset, the contra account is deducted from the asset.
  11. 11. Doubtful Accounts/Bad Debts  an expense that arises by selling on credit  accounts on credit which an entity is unlikely to be able to collect  Two methods to account for uncollectible accounts: ◦ Direct write-off method ◦ Allowance method
  12. 12.  This method provides for the direct transfer of the uncollectible amount from the asset account to an expense account. Journal Entry: Doubtful Accounts Expense xxx Accounts Receivable xxx
  13. 13.  The Allowance Method, on the other hand, provides an estimate of the amount that will eventually prove uncollectible even before some accounts are determined to be definitely uncollectible. Journal Entry: Doubtful Accounts Expense xxx Allowance for Doubtful Accounts xxx
  14. 14.  Two methods of estimating bad debts: ◦ Percentage of Sales Method or Income Statement Approach ◦ Percentage of Accounts Receivable or Balance Sheet Approach  Single rate applied to outstanding accounts receivable  Aging of accounts receivable where multiple rates are applied to accounts broken down according to age
  15. 15.  BEAR TRADING, a company which operates on a calendar year, estimates its doubtful accounts to be at 10% of its outstanding accounts receivable at period end. Accounts Receivable Balance at December 31, 2012 is P180,000.
  16. 16.  Assume that Allowance for Doubtful Accounts has zero balance before adjustment.  Assume that Allowance for Doubtful Accounts has a credit balance of P10,000 before adjustment.  Assume that Allowance for Doubtful Accounts has a debit balance of P5,000 before adjustment.
  17. 17.  Under the allowance method, when specific accounts are written off against the Allowance for Bad Debts account. Journal Entry: Allowance for Bad Debts xxx Accounts Receivable xxx  While the write-off removes the uncollectible account receivable from the ledgers, it does not affect the net realizable value of Accounts Receivable.
  18. 18.  To help restore credit standing, a customer sometimes chooses to voluntarily pay all or part of the amount owed. Journal Entry: Cash xxx Miscellaneous Income xxx
  19. 19.  To determine the cost of inventory on hand, it is necessary to take a physical inventory. A physical inventory should be taken at or near the balance sheet date. Taking a physical inventory involves: ◦ Counting the units on hand for each item on inventory ◦ Applying unit costs to the total units on hand for each item of inventory ◦ Segregating the costs of each item of inventory to determine the total cost of goods on hand