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1.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Chapter 4 THE ACCOUNTING CYCLE: Accruals and Deferrals
2.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin At the end of the period, we need to make adjusting entries to get the accounts up to date for the financial statements.
3.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Adjusting entries are needed whenever revenue or expenses affect more than one accounting period. Every adjusting entry involves a change in either a revenue or expense and an asset or liability. Adjusting EntriesAdjusting Entries
4.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Converting assets to expenses Converting assets to expenses Accruing unpaid expenses Accruing unpaid expenses Converting liabilities to revenue Converting liabilities to revenue Accruing uncollected revenues Accruing uncollected revenues Types of Adjusting EntriesTypes of Adjusting Entries
5.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Prior Periods Current Period Future Periods Transaction Paid future expenses in advance (creates an asset). Transaction Paid future expenses in advance (creates an asset). End of Current Period Adjusting Entry Recognize portion of asset consumed as expense, and Reduce balance of asset account. Adjusting Entry Recognize portion of asset consumed as expense, and Reduce balance of asset account. Converting Assets to ExpensesConverting Assets to Expenses
6.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Examples Include: Depreciation Supplies Expiring Insurance Policies Converting Assets to ExpensesConverting Assets to Expenses
7.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Jan. 1 Dec. 31 $2,400 Insurance Policy Coverage for 12 Months $200 Monthly Insurance Expense On January 1, Webb Co. purchased a one- year insurance policy for $2,400. On January 1, Webb Co. purchased a one- year insurance policy for $2,400. Converting Assets to ExpensesConverting Assets to Expenses
8.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit Jan. 1 Unexpired Insurance 2,400 Cash 2,400 Purchase a one-year insurance policy. Initially, costs that benefit more than one accounting period are recorded as assets. Initially, costs that benefit more than one accounting period are recorded as assets. Converting Assets to ExpensesConverting Assets to Expenses
9.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin The costs are expensed as they are used to generate revenue. The costs are expensed as they are used to generate revenue. GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit Monthly Adjusting Entry for Insurance Jan. 31 Insurance Expense 200 Unexpired Insurance 200 Insurance expense for January. Converting Assets to ExpensesConverting Assets to Expenses
10.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Insurance Expense 1/31 200 Unexpired Insurance 1/1 2,400 1/31 200 Bal. 2,200 Income Statement Cost of assets used this period to generate revenue. Income Statement Cost of assets used this period to generate revenue. Balance Sheet Cost of assets that benefit future periods. Balance Sheet Cost of assets that benefit future periods. Converting Assets to ExpensesConverting Assets to Expenses
11.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Depreciation is the systematic allocation of the cost of a depreciable asset to expense. Depreciation is the systematic allocation of the cost of a depreciable asset to expense. Depreciable assets are physical objects that retain their size and shape but lose their economic usefulness over time. Depreciable assets are physical objects that retain their size and shape but lose their economic usefulness over time. The Concept of DepreciationThe Concept of Depreciation
12.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin The portion of an asset’s utility that is used up must be expensed in the period used. The portion of an asset’s utility that is used up must be expensed in the period used. Cash (credit) Cash (credit) Fixed Asset (debit) Fixed Asset (debit) On date when initial payment is made . . . The asset’s usefulness is partially consumed during the period. At end of period . . . Accumulated Depreciation (credit) Accumulated Depreciation (credit) Depreciation Expense (debit) Depreciation Expense (debit) The Concept of DepreciationThe Concept of Depreciation
13.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin On May 2, 2003, JJ’s Lawn Care Service purchased a lawn mower with a useful life of 50 months for $2,500 cash. Using the straight-line method, calculate the monthly depreciation expense. $2,500 50 =$50$50 Depreciation expense (per period) = Cost of the asset Estimated useful life Depreciation Is Only an EstimateDepreciation Is Only an Estimate
14.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin JJ’s Lawn Care Service would make the following adjusting entry. JJ’s Lawn Care Service would make the following adjusting entry. GENERAL JOURNAL Date Account Titles and Explanation P RDebit Credit May 31 Depreciation Expense: Tools & Eq. 50 Accumulated Depreciation: Tools & Eq. 50 To record one month's depreciation. Contra-assetContra-asset Depreciation Is Only an EstimateDepreciation Is Only an Estimate
15.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin JJ’s $15,000 truck is depreciated over 60 months as follows: JJ’s $15,000 truck is depreciated over 60 months as follows: GENERAL JOURNAL Date Account Titles and Explanation P RDebit Credit May 31 Depreciation Expense: Truck 250 Accumulated Depreciation: Truck 250 To record one month's depreciation. $15,000 ÷ 60 months = $250 per month$15,000 ÷ 60 months = $250 per month Depreciation Is Only an EstimateDepreciation Is Only an Estimate
16.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Accumulated depreciation would appear on the balance sheet as follows: Accumulated depreciation would appear on the balance sheet as follows:
17.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Prior Periods Current Period Future Periods Transaction Collected from customers in advance (creates a liability). Transaction Collected from customers in advance (creates a liability). End of Current Period Adjusting Entry Recognize portion earned as revenue, and Reduce balance of liability account. Adjusting Entry Recognize portion earned as revenue, and Reduce balance of liability account. Converting Liabilities to RevenueConverting Liabilities to Revenue
18.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Examples Include: Airline Ticket Sales Sports Teams’ Sales of Season Tickets Converting Liabilities to RevenueConverting Liabilities to Revenue
19.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Jan. 1 Dec. 31 $6,000 Rental Contract Coverage for 12 Months $500 Monthly Rental Revenue On January 1, Webb Co. received $6,000 in advance for a one-year rental contract. On January 1, Webb Co. received $6,000 in advance for a one-year rental contract. Converting Liabilities to RevenueConverting Liabilities to Revenue
20.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit Jan. 1 Cash 6,000 Unearned Rental Revenue 6,000 Collected $6,000 in advance for rent. Initially, revenues that benefit more than one accounting period are recorded as liabilities. Initially, revenues that benefit more than one accounting period are recorded as liabilities. Converting Liabilities to RevenueConverting Liabilities to Revenue
21.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Over time, the revenue is recognized as it is earned. Over time, the revenue is recognized as it is earned. GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit Monthly Adjusting Entry for Rent Revenue Jan. 31 Unearned Rental Revenue 500 Rental Revenue 500 Rental revenue for January. Converting Liabilities to RevenueConverting Liabilities to Revenue
22.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Rental Revenue 1/31 500 Unearned Rental Revenue 1/31 500 1/1 6,000 Bal. 5,500 Income Statement Revenue earned this period. Income Statement Revenue earned this period. Balance Sheet Liability for future periods. Balance Sheet Liability for future periods. Converting Liabilities to RevenueConverting Liabilities to Revenue
23.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Prior Periods Current Period Future Periods Transaction Liability will be paid. Transaction Liability will be paid. End of Current Period Adjusting Entry Recognize expense incurred, and Record liability for future payment. Adjusting Entry Recognize expense incurred, and Record liability for future payment. Accruing Unpaid ExpensesAccruing Unpaid Expenses
24.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Examples Include: Interest Wages and Salaries Property Taxes Hey, when do we get paid? Accruing Unpaid ExpensesAccruing Unpaid Expenses
25.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Monday, May 29 Friday, June 2 $3,000 Wages Expense On May 31, Webb Co. owes wages of $3,000. Pay day is Friday, June 2. On May 31, Webb Co. owes wages of $3,000. Pay day is Friday, June 2. Wednesday, May 31 Accruing Unpaid ExpensesAccruing Unpaid Expenses
26.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit May 31 Wages Expense 3,000 Wages Payable 3,000 To accrue wages owed to employees. Initially, an expense and a liability are recorded. Initially, an expense and a liability are recorded. Accruing Unpaid ExpensesAccruing Unpaid Expenses
27.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Wages Expense 5/31 3,000 Wages Payable 5/31 3,000 Income Statement Cost incurred this period to generate revenue. Income Statement Cost incurred this period to generate revenue. Balance Sheet Liability to be paid in a future period. Balance Sheet Liability to be paid in a future period. Accruing Unpaid ExpensesAccruing Unpaid Expenses
28.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Monday, May 29 Friday, June 2 $5,000 Weekly Wages Let’s look at the entry for June 2.Let’s look at the entry for June 2. Wednesday, May 31 $2,000 Wages Expense $3,000 Wages Expense Accruing Unpaid ExpensesAccruing Unpaid Expenses
29.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin The liability is extinguished when the debt is paid. The liability is extinguished when the debt is paid. GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit June 2 Wages Expense (for June) 2,000 Wages Payable (accrued in May) 3,000 Cash 5,000 Weekly payroll for May 29-June 2. Accruing Unpaid ExpensesAccruing Unpaid Expenses
30.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Prior Periods Current Period Future Periods Transaction Receivable will be collected. Transaction Receivable will be collected. End of Current Period Adjusting Entry Recognize revenue earned but not yet recorded, and Record receivable. Adjusting Entry Recognize revenue earned but not yet recorded, and Record receivable. Accruing Uncollected RevenueAccruing Uncollected Revenue
31.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Examples Include: Interest Earned Work Completed But Not Yet Billed to Customer Accruing Uncollected RevenueAccruing Uncollected Revenue
32.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin Saturday, Jan. 15 Tuesday, Feb. 15 $170 Interest Revenue On Jan. 31, the bank owes Webb Co. interest of $170. Interest is paid on the 15th day of each month. On Jan. 31, the bank owes Webb Co. interest of $170. Interest is paid on the 15th day of each month. Monday, Jan. 31 Accruing Uncollected RevenueAccruing Uncollected Revenue
33.
© The McGraw-Hill
Companies, Inc., 2002McGraw-Hill/Irwin GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit Jan. 31 Interest Receivable 170 Interest Revenue 170 To recognize interest revenue. Initially, the revenue is recognized and a receivable is created. Initially, the revenue is recognized and a receivable is created. Accruing Uncollected RevenueAccruing Uncollected Revenue
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Companies, Inc., 2002McGraw-Hill/Irwin Interest Revenue 1/31 170 Interest Receivable 1/31 170 Income Statement Revenue earned this period. Income Statement Revenue earned this period. Balance Sheet Receivable to be collected in a future period. Balance Sheet Receivable to be collected in a future period. Accruing Uncollected RevenueAccruing Uncollected Revenue
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Companies, Inc., 2002McGraw-Hill/Irwin Saturday, Jan. 15 Tuesday, Feb. 15 $320 Monthly Interest $170 Interest Revenue Let’s look at the entry for February 15.Let’s look at the entry for February 15. Monday, Jan. 31 $150 Interest Revenue Accruing Uncollected RevenueAccruing Uncollected Revenue
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Companies, Inc., 2002McGraw-Hill/Irwin The receivable is collected in a future period.The receivable is collected in a future period. GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit Feb. 15 Cash 320 Interest Revenue (for February) 150 Interest Receivable (accrued Jan. 31) 170 To record interest received. Accruing Uncollected RevenueAccruing Uncollected Revenue
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Companies, Inc., 2002McGraw-Hill/Irwin As a corporation earns taxable income, it incurs income taxes expense, and also a liability to governmental tax authorities. As a corporation earns taxable income, it incurs income taxes expense, and also a liability to governmental tax authorities. GENERAL JOURNAL Date Account Titles and Explanation P R Debit Credit Dec. 31 Income Taxes Expense 780 Income Taxes Payable 780 Estimated income taxes applicable to taxable income earned in December. Accruing Income Taxes Expense: The Final Adjusting Entry Accruing Income Taxes Expense: The Final Adjusting Entry
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Companies, Inc., 2002McGraw-Hill/Irwin Costs are matched with revenue in two ways: Costs are matched with revenue in two ways: Direct association of costs with specific revenue transactions. Direct association of costs with specific revenue transactions. Systematic allocation of costs over the “useful life” of the expenditure. Systematic allocation of costs over the “useful life” of the expenditure. Adjusting Entries and Accounting Principles Adjusting Entries and Accounting Principles
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Companies, Inc., 2002McGraw-Hill/Irwin An item is “material” if knowledge of the item might reasonably influence the decisions of users of financial statements. An item is “material” if knowledge of the item might reasonably influence the decisions of users of financial statements. Supplies Lightbulbs Many companies immediately charge the cost of immaterial items to expense. The Concept of MaterialityThe Concept of Materiality
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Companies, Inc., 2002McGraw-Hill/Irwin Journalize transactions. Post entries to the ledger accounts. Prepare trial balance. Make end-of- year adjustments. Prepare adjusted trial balance. Recall from the accounting cycle discussed in Chapter 3, that after the adjusting entries are made, an adjusted trial balance is prepared. Recall from the accounting cycle discussed in Chapter 3, that after the adjusting entries are made, an adjusted trial balance is prepared. Effects of the Adjusting Entries
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Companies, Inc., 2002McGraw-Hill/Irwin End of Chapter 4End of Chapter 4
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