AdjustingEntriesExamples

Letsworkwithsomeexamples.Weareworkingwithaoneyearaccountingperiodthatendson
12/31/X2.
Letsuseathreestepprocess.Step1Analyzethetransaction.Step2Recordinthejournal.Step3
Posttotheledger.
Example1:On12/31/X2(beforetheadjustingprocess),Supplies,anasset,hasabalanceof$2,500.
Employeestakeaphysicalaccountofthesuppliesonhand.Thatphysicalcountrevealsthat$1,200of
suppliesremains.
Step1ThebalanceofSuppliesbeforetheadjustingentryis$2,500.Subtracttheamountdetermined
duringthephysicalcount($1,200).Theresult($1,300)representstheamountofsuppliesthathave
beenusedupSuppliesExpense.
AssetsSuppliesisdecreased.StockholdersEquitySuppliesExpenseisincreased.
Step2DebitSuppliesExpenseandcreditSuppliesfor$1,300(theamountthathasbeenusedupthe
expense).
Step3AfterpostingtheAEtotheSuppliesaccount,endingbalanceof$1,200iscorrect.Thisisan
assetontheBalanceSheet.
SuppliesExpensehasa$1,300endingbalance.ThisisanexpenseontheIncomeStatement.
Example2:On8/31/X2,$4,800waspaidforatwoyearinsurancepolicy.Thejournalentryonthatday
includedadebittoPrepaidInsuranceandacredittoCashfor$4,800.
Step1Thecostof$4,800isdividedbythe24monthsthatthepolicyiseffective.Thatresultsin$200
ofinsuranceexpenseeachmonth.On12/31/X2,anadjustmentisneededtorecordtheexpensethat
hasbeenincurred(useduporexpired)intheaccountingperiod(4monthsSept,Oct,Nov,andDec).
Wearesimplymatching$200eachmonththattheinsuranceisineffectforeachaccountingperiod.
Theamountofinsuranceexpenseis$800.
AssetsPrepaidInsuranceisdecreased.StockholdersEquityInsuranceExpenseisincreased.
Step2DebitInsuranceExpenseandcreditPrepaidInsurancefor$800.
Step3AfterpostingtheAEtothePrepaidInsuranceaccount,theendingbalanceof$4,000iscorrect.
ThisisanassetontheBalanceSheet.
InsuranceExpenseisincreasedwiththe$800debit.ThisisanexpenseontheIncomeStatement.

Example3:On4/1/X2,thecompanyacquired$240,000ofequipmentforcash.Theentryonthatdate
isadebittoEquipmentandacredittoCashfor$240,000.
Managementexpectstousetheequipmentfor8years,thustheestimatedusefullifeis8year.Atthe
endof8years,theequipmentwillhavenosalvagevalue.Straightlinedepreciationisused.Depreciable
cost(costlesssalvagevalue)isdividedbytheestimatedusefullife.Rememberthatdepreciationisthe
allocationofthecostoftheassetoveritsestimatedusefullife.
Thecomputationofdepreciationis:Cost$240,000dividedbyestimatedusefullifeof8yearsequals
$30,000depreciationexpenseeachyear.Theadjustmentfor12/31/X2requiresthe$30,000annual
depreciationexpensetobeproratedbasedonthemonthsofactualuse.Theequipmentwasusedfor9
months(AprilthroughDecember).Thus$30,000times9/12equals$22,500.
Nowthatweknowtheamountofdeprecationexpensefortheyear,wehavetodeterminewhich
accountstouse.ThecontraassetAccumulatedDepreciationEquipmentisincreasedandthe
StockholdersEquityaccountDepreciationExpenseisincreased.$22,500isdebitedtoDepreciation
Expense.Thecredit,however,doesnotgodirectlytotheassetaccount(Equipment).Acontraasset,
AccumulatedDepreciation,isused.Thisallowstheassettoreflectthepurchaseprice.Accumulated
Depreciationreflectsthetotalofalldeprecationthathasbeenrecordedfortheasset.
TheAEDebitDepreciationExpenseandCreditAccumulatedDepreciationfor$22,500.
OntheBalanceSheet,thebalanceofAccumulatedDepreciationissubtractedfromtheEquipment
account.Thebalancerepresentsthebookvalue(alsoreferredtoasthecarryingvalue)oftheasset.The
12/31/X2BalanceSheetreflects:
Assets
Property,Plantand
Equipment

Equipment $240,000
LessAccumulated
Depreciation
22,500
BookValue $217,500

DepreciationexpensegoesontheIncomeStatement.
Example4:On7/25/X2,alawfirmanditsclientsignacontractandtheclientpays$8,400cash.The
contractstatesthelawfirmwillprovidemonthlylegalservicesfor12months,beginningon8/1/X2.A
regularjournalentryisneededon7/25/X2debitCashandcreditUnearnedRevenuefor$8,400.
On12/31/X2,anadjustingjournalentryisneededtorecordtheamountofrevenuethathasbeen
earned.Theentryalsoresultsinthecorrectbalanceoftheliabilityaccountasof12/31/X2.
Computation:$8,400dividedby12monthsequals$700permonth.$700times5months(AugDec)
equals$3,500.$3,500hasnowbeenearned.Thiscomplieswiththerevenuerecognitionprinciple
recordrevenuewhenitisearned.Theliabilityisreducedbecausetheserviceshavebeenprovidedfor5
months.
LiabilitiesUnearnedRevenueisdecreased.StockholdersEquityLegalFeesEarnedisincreased.
ThejournalentryincludesadebittoUnearnedRevenueandacredittoLegalFeesEarnedfor$3,500
Whenthedebitof$3,500ispostedtoUnearnedRevenue,theendingbalancewillbecorrect($8,400
less$3,500).
LegalFeesEarnedgoestotheIncomeStatement.
Example5:On12/31/X2,theaccountantquestionsthemanagersanddiscoversthatrevenueof
$12,500hasbeenearned(theserviceshavebeenprovided)buttheclientshavenotyetbeenbilled.
Thisisanaccrualofrevenue.Revenuehasbeenearnedandmustberecordedtocomplywiththe
revenuerecognitionprinciple.Theclientbillingswilloccurlater.
AccountsaffectedAssetsFeesReceivableisincreasedandStockholdersEquityServiceRevenueis
increased.
TheAEDebitFeesReceivableandcreditServiceRevenuefor$12,500.
Step3AfterpostingthedebittoFeesReceivable,theaccounthasthecorrectendingbalanceof
$12,500.ThisisanassetontheBalanceSheet.
ServiceRevenuegoestotheIncomeStatement.
Example6:On10/1/X2,thecompanyprovidesservicesof$15,000toaclient.Theclientwillnotbe
abletopayfortheservicesuntil4/1/X3.Thus,theclientsignsapromissorynotefor6months.The
notebears6%annualinterest.
Theregularentryon10/1/X2isadebittoNotesReceivableandacredittoServiceRevenue.Interestis
notrecordeduntiltimehaspassedinteresthasbeenearned.
On12/31/X2,theclientnowowesinterest,butcashisnotdueuntilmaturitydate.Thecompanyhas
earnedinterestfor3months(Oct,Nov,andDec).ThecomputationisPrincipaltimesRatetimesTime
$15,000times6%(or.06)equals$900times3/12equals$225.
AssetsInterestReceivableisdecreased.StockholdersEquityInterestRevenueisincreased.
Step2DebitInterestReceivableandcreditInterestRevenuefor$225.
Step3AfterpostingtheAEtoInterestReceivable,theendingbalanceof$225iscorrect.Thisisan
assetontheBalanceSheet.
InterestRevenuegoestotheIncomeStatement.

Example7:12/31/X2isonTuesday.Thereare3employeeswhoareeachpaid$120perday(disregard
employmenttaxesthesewillbecoveredlater).TheworkweekisMondaythroughFridayandpayday
iseveryFriday.Thenextpaydayis1/3/X3.
On12/31/X2,theemployeeshaveworkedtwodays(MondayandTuesday).Theaccountingperiodhas
endedbutpaydayisonFriday(1/3/X3).Anadjustingentryisneededtorecordthesalariesexpensefor
12/30and12/31.Thismatchestheexpensetotheproperaccountingperiod.Italsorecognizesthe
liabilityon12/31(twodaysofsalariesthatwillbepaidon1/3/X3).Computation$120perdaytimes3
employeestimes2daysequals$720.
AccountsAffected:LiabilitiesSalariesPayableisincreased.StockholdersEquitySalariesExpenseis
increased.
The12/31/X2adjustingentryisadebittoSalariesExpenseandacredittoSalariesPayablefor$720
Step3Afterpostingthecredit,SalariesPayablehasthecorrectendingbalance.Thiswillappearasa
liabilityontheBalanceSheet.
SalariesExpensegoestotheIncomeStatement.
Theregularentryonpayday1/3/X3is:
SalariesExpense($120perdaytimes3employeestimes3days)$1,080
SalariesPayable720
Cash($120perdaytimes3employeestimes5days)1,800
Thisregularentrydecreasestheliabilitythatwascreatedon12/31/X2.Itrecordsthesalariesexpense
forthethreedaysinthenewaccountingperiod(Wed,Thurs,andFri).Italsorecordsthecashthatis
paidtotheemployeesfor5days(MonFri.
WehavehadanopportunitytoworkwithadjustingentriesPractice.
Wehaveworkedwiththethreestepprocessforadjustmentanalyzing,recording,andposting
ConfidenceBuilder
Accountantsmustanalyzeaccountbalancesandeventstodeterminewhichadjustmentsareneeded.
Thisresultsinacompliancewithboththematchingandrevenuerecognitionprinciples.Afterthe
adjustingentrieshavebeenpostedtotheledgeraccounts,correctfinancialstatementscanbeprepared.