2012 Wiley Cpa Review
Adjusting Entries
Step 5 of the accounting process involves the preparation of adjusting entries. Adjusting entries are made to update the accounts and bring them to their correct balances.
The preparation of adjusting entries is an application of the accrual concept of accounting and the matching principle. The accrual concept states that revenues (or income) are recognized when earned regardless of when collected and expenses are recognized when incurred regardless of when paid. The matching principle aims to align expenses with revenues; meaning, expenses should be reported when the revenue earned with it is reported.
Why Are Adjusting Entries Necessary
The purpose of adjusting entries is to update the accounts. At the end of the accounting period, some income and expenses may have not been recorded or taken up; hence, there is a need to update the accounts. If adjusting entries are not prepared, some income, expense, asset, and liability accounts might not reflect their correct values when reported in the financial statements. For this reason, adjusting entries are necessary.
Types of Adjusting Entries
Generally, there are 4 types of adjusting entries. Adjusting entries are prepared for the following: 1. Accrued Income – income earned but not yet received 2. Accrued Expense – expenses incurred but not yet paid 3. Deferred Income – income received but not yet earned 4. Prepaid Expense – expenses paid but not yet paid
Also, adjusting entries are made for: 5. Depreciation Expense, and 6. Doubtful Accounts Expense or Bad Debts Expense
Composition of an Adjusting Entry
Adjusting entries affect at least one nominal account and one real account.
A nominal account is an account whose balance is measured from period to period. Nominal accounts include all accounts in the Income Statement, plus owner's withdrawal. Therefore, they are also called temporary accounts and income statement accounts. Examples are Service Revenue, Salaries Expense, Rent
Step 5 of the accounting process involves the preparation of adjusting entries. Adjusting entries are made to update the accounts and bring them to their correct balances.
The preparation of adjusting entries is an application of the accrual concept of accounting and the matching principle. The accrual concept states that revenues (or income) are recognized when earned regardless of when collected and expenses are recognized when incurred regardless of when paid. The matching principle aims to align expenses with revenues; meaning, expenses should be reported when the revenue earned with it is reported.
Why Are Adjusting Entries Necessary
The purpose of adjusting entries is to update the accounts. At the end of the accounting period, some income and expenses may have not been recorded or taken up; hence, there is a need to update the accounts. If adjusting entries are not prepared, some income, expense, asset, and liability accounts might not reflect their correct values when reported in the financial statements. For this reason, adjusting entries are necessary.
Types of Adjusting Entries
Generally, there are 4 types of adjusting entries. Adjusting entries are prepared for the following: 1. Accrued Income – income earned but not yet received 2. Accrued Expense – expenses incurred but not yet paid 3. Deferred Income – income received but not yet earned 4. Prepaid Expense – expenses paid but not yet paid
Also, adjusting entries are made for: 5. Depreciation Expense, and 6. Doubtful Accounts Expense or Bad Debts Expense
Composition of an Adjusting Entry
Adjusting entries affect at least one nominal account and one real account.
A nominal account is an account whose balance is measured from period to period. Nominal accounts include all accounts in the Income Statement, plus owner's withdrawal. Therefore, they are also called temporary accounts and income statement accounts. Examples are Service Revenue, Salaries Expense, Rent