ADJUSTING ENTRIES

ADJUSTING ENTRIES
Adjusting- this is the process of gathering and
putting together various data necessary to
update the balances of certain accounts in the
books of the company. Adjustments based on
compiled data are then recorded before the
financial statements are prepared.

Adjusting Entries- are entries made prior to

the preparation of financial statements to
update certain accounts so that they reflect
correct balances as of the designated time.
 IMPORTANCE

These adjustments are necessary so that

income and expenses will be reported in
the period they are earned and incurred,
respectively; hence, profit will not be
misstated.
 TYPES OF ADJUSTMENT

• ACCRUALS OF INCOMES AND EXPENSE

• DEFERRALS OF INCOME AND EXPENSE

 TYPES OF ADJUSTMENT

Accruals or Non-Cash Basis Accounting

In accounting, the term ‘”accrual” (or to
accrue) means to recognize an:
oIncome that is already earned but not yet
collected; or
oExpense that is already incurred but not yet
paid
 Accruals or Non-Cash Basis Accounting

Accrued Expense
this is an expense incurred but not yet paid as of the statement of financial
position (balance sheet) date, such as interest accrued on notes payable. Another
example is accrued salaries of employees. An accrued expense is unpaid as of the
statement of financial position date but is matched against income or earnings for
the current period.

Adjustment for accrued expense is recorded as follows:

Expense xxx
Payable xxx
Examples:

Problem 1- The ABC Company has an outstanding 90-day, 12% note payable dated
December 1, 2020 amounting to P100, 000. The interest is payable upon maturity of
the note. The company`s accounting period or financial year is the calendar year.

Note: Interest for thirty days has accrued on the note as of December 31, 2020 (that
is Dec 1 to Dec 31)

Adjusting Entry:
Interest Expense 1, 000
Interest Payable 1, 000
P100, 000 x 12% x 30/360 = P1, 000
Problem 2- ABC Company pays salaries every Friday, the end of a five-day work week.
The total salaries for the week ending January 3, 2020 are P50, 000.

Note: In this case, the P100, 000 salaries for the week ending January 13, 2020 is for
the services rendered by employees on December 30, December 31, January 1,
January 2, and January 3. Therefore, the company has accrued salaries for two (2)
days as of December 31, 2020.

Adjusting Entry:
Salaries Expense 20, 000
Salaries Payable 20, 000
P50, 000 x 2/5 = P20, 000
 Accruals or Non-Cash Basis Accounting

Accrued Income
This is income earned but not yet received or collected as of the statement
of financial position (balance sheet) date, such as accrued interest on notes
receivable. An accrued income is not yet collected but is matched with expenses
for the current period.

Adjustment for accrued income is recorded as follows:

Receivable xxx
Income xxx
Examples:

Problem 1- ABC Company received a 3-month, 12% note dated December 1, 2020
amounting of P100, 000. Interest is receivable upon maturity of the note.

Note: As of December 31, 2020, interest for one month (from December 1 to
December 31) is already earned but not yet collected.

Adjusting Entry:

Interest Receivable 1, 000

Interest Income 1, 000
P100, 000 x 12% x 1/12 = P1, 000
 DEFERRALS OF
INCOME
AND EXPENSE
DEFERRALS OF INCOME AND EXPENSE

In accounting, the term ‘”deferral” (or to deferred)

means to postpone an:
oIncome recognition of an advance collection. The
advance collection is treated as liability until earned; or
oExpense recognition of a prepayment. The prepayment
is treated as asset until incurred.
 DEFERRALS OF INCOME AND EXPENSE

PREPAID EXPENSE OR PREPAYMENTS

This is an expense paid or acquired in advance
such as insurance premium. Other examples are rent
paid in advance and office supplies purchased. The
adjustment relating to prepaid expense at the end of
the accounting period depends on the method used in
recording the initial payment or acquisition.
There are two (2) methods of recording prepayments
1.Asset Method- the payment or purchase is initially debited to an asset account.
At the end of the accounting period, the expired or used portion of the asset is
transferred to an expense account.

To record the initial payment of expense (Journalizing)

Prepaid Expense xxx
Cash xxx
To record adjustment at the end of the accounting period (Adjusting)
Expense xxx
Prepaid Expense xxx
Note: Amount recorded is the expired or used portion of the prepayment
2.Expense Method- the payment or purchase is initially debited to an expense
account. At the end of the accounting period, the unexpired or unused portion of
asset is transferred to an asset account.

To record the initial payment of expense (Journalizing)

Expense xxx
Cash xxx
To record adjustment at the end of the accounting period (Adjusting)
Prepaid Expense xxx
Expense xxx
Note: Amount recorded is the unexpired or unused portion of the
prepayment
Example:
Problem1- On May 1, 2020, ABC Company paid insurance premium of P12, 000 covering a
period of one year beginning on this date.
ASSET METHOD
Date (2020)
Journalizing
May 1 Prepaid Insurance 12, 000
Cash 12, 000
Adjusting
Dec. 31 Insurance Expense 8, 000
Prepaid Insurance 8, 000
P12, 000 x 8/12 = P8, 000

Note: The expired portion of the insurance premium is for the period May 1 to December 31,
2020, or a period of eight (8) months.
 EXPENSE METHOD
Date (2020)
Journalizing
May 1 Insurance Expense 12, 000
Cash 12, 000

Adjusting
Dec. 31 Prepaid Insurance 4, 000
Insurance Expense 4, 000
P12, 000 x 4/12 = P4, 000

Note: The unexpired portion of the insurance premium is 4 months; that is, 12 months
less the expired portion of eight (8) months.
UNEARNED INCOME

This is income already collected but not yet rendered as of

the statement of financial position (balance sheet) date, such as
rental income collected in advance or subscriptions received in
advance. Unearned income is also known as deferred income.
Like prepaid expense, the adjustment for unearned income at
the end of the accounting period depends on how the initial
receipt of cash is recorded.
There are two (2) methods of recording unearned income
1.Liability Method- the collection is initially credited to a liability account; at the end
of the accounting period, the earned portion of the income is transferred to an
income account.

To record the initial payment of expense (Journalizing)

Cash xxx
Unearned income xxx
To record adjustment at the end of the accounting period (Adjusting)
Unearned income xxx
Income xxx
Note: Amount recorded is the earned portion of the prepayment
2.Income Method- the collection is initially credited to an income account; at the end of
the accounting period, the unearned portion of the income is transferred to a liability
account

To record the initial payment of expense (Journalizing)

Cash xxx
Income xxx
To record adjustment at the end of the accounting period (Adjusting)
Income xxx
Unearned Income xxx
Note: Amount recorded is the unearned potion of the prepayment
Example:
Problem 1- On September 1, 2020, ABC Company received P120, 000 representing rental
of an office space for one year beginning on this date.
LIABILITY METHOD
Date (2020)
Journalizing
Sept. 1 Cash 120, 000
Unearned Rent 120, 000
Adjusting
Dec. 31 Unearned Rent 40, 000
Rent Income 40, 000
P120, 000 x 4/12 = P40, 000

Note: The earned portion is the rent for the period September 1 to December 31 or four
(4) months
 INCOME METHOD
Date (2020)
Journalizing
Sept. 1 Cash 120, 000
Rent Income 120, 000

Adjusting
Dec. 31 Rent Income 80, 000
Unearned Rent 80, 000
P120, 000 x 8/12 = P80, 000

Note: The unearned portion is the rent for eight (8) months; that is, twelve (12) months
less the earned portion of four (4) months.
DEPRECIATION AND
ALLOWANCE FOR
DOUBFUL ACCOUNTS
DEPRECIATION OF PPE AND OTHER COST ALLOCATION
Depreciation is defined as the systematic allocation of the depreciable amount of an
item of property, plant and equipment over its useful life. Depreciable amount is the
cost of an asset, or other amounts substituted for cost, less its residual value.

Adjustment for depreciation is recorded as follows:

Depreciation Expense xxx
Accumulated Depreciation xxx

Note: The Accumulated Depreciation is a contra asset account; it is reported in the

statement of financial position as a deduction from the related property, plant and
equipment account.
The depreciation expense for the period is determined using any of the acceptable
method like straight-line method, diminishing balance method, and units of
production method. Straight-line method is the commonly used by the other
business.
Straight-line method formula:

Depreciation expense/ year = Cost – Residual Value

Estimated useful life

If the asset is used for less than a year, the proportionate expense should be
calculated, unless the company adopts a different policy such as providing half-year
depreciation in the year of acquisition of the asset
Example:
Problem 1- ABC Company acquired office equipment on July 1, 2020 for P220, 000. The
asset has an estimated useful life of 4 years and an estimated residual value of P20, 000.
Adjusting Entry
Date
2020
Dec. 31 Depreciation Expense 25, 000
Accumulated Depreciation 25, 000
(P220, 000- P20, 000)/4 x 6/12 = P25, 000
Note: Depreciation expense for 2020 is for 6 months; that is, July 1 to December 31, 2020
2021
Dec. 31 Depreciation Expense 50, 000
Accumulated Depreciation 50, 000
(P220, 000- P20, 000)/4 = P50, 000
Note: Depreciation expense for 2021 is for one year or twelve (12) months.
UNCOLLECTIBLE ACCOUNTS

These represent customers` accounts that may no longer be

collected or that may possibly become bad debts. According to
PAS No.39 trade accounts receivable should be reported in the
statement of financial position at amortized cost. Amortized cost
is defined as the amount at which the receivable is measured at
the time it was first recognized minus any payments and minus
any reduction for uncollectible.
Adjustment for Uncollectible Account is recorded as follows:
Uncollectible Accounts Expense xxx
Allowance for Uncollectible Accounts xxx

Note: The account “Allowance for Uncollectible Accounts” is a contra asset account; it
is reported on the statement of financial position as a deduction from Accounts
Receivable.

PAS No. 39 requires a careful assessment of the collectability of the receivables.

Several considerations have to be taken into account, which will be discussed
thoroughly in higher accounting subject.
 The amount of uncollectible accounts expense that will be reported in the
income statement is computed as follows:

Required allowance balance P xxx

Allowance balance before adjustment
(+ debit balance or – credit balance) xxx
Uncollectible accounts expense for the period P xxx
Example:

Problem 1- ABC Company`s trial balance dated December 31, 2020, contains the
following information:
Accounts Receivable P 150, 000 debit
Allowance for uncollectible accounts 3, 000 credit
Sales 1, 000, 000 credit

Estimated uncollectible accounts amounted to P 5, 000

Adjusting Entry

Uncollectible Accounts Expense 2, 000

Allowance for Uncollectible Accounts 2, 000

Required allowance balance P 5,000

Allowance balance before adjustment - credit (3,000)
Uncollectible accounts expense for the period P 2, 000
INVENTORIES(PERIODIC INVENTORY SYSTEM)

Inventory
Adjustment for inventory is necessary if the periodic inventory
system is used. Under the periodic inventory system, the company does
not record the physical movement of goods. Purchases of goods are
recorded in the nominal account “Purchases”. The reduction in inventory
resulting from sale is not reflected in the books. Thus, the balance of the
inventory at the beginning of the period.
Two methods in recording adjustment related to inventories.

a. First method
oTwo entries are prepared: (1) to transfer the beginning inventory balance to the
Income Summary account and (2) to establish ending inventory balance

Adjusting Entries

1. To transfer beginning inventory balance to Income Summary

Income Summary xxx
Inventory (Merchandising Inventory) xxx
2. To record ending inventory balance
Inventory (Merchandising Inventory) xxx
Income Summary xxx
b. Second method
oUnder the second approach, a separate cost of goods sold account is set up and the
entry to record the adjustment is as follows:

Adjusting Entry
Inventory (or Merchandising Inventory), end xxx
Purchase Returns and Allowances xxx
Purchases Discount xxx
Cost of Goods Sold xxx
Inventory (or Merchandising Inventory), beg xxx
Purchases xxx
Freight-In xxx
Note: The balance of the Cost of Goods Sold account is closed to Income Summary as
part of the nominal closing entries
Example:
Problem 1- ABC Company purchase of merchandise inventory on account amounted to
P300, 000 in December 1, 2020. In December 31, 2020 a count of merchandise inventory
amounted to P270, 000.
Date (2020)
Journalizing
Dec. 1 Inventory (Merchandising Inventory) 300, 000
Accounts Payable 300, 000
Adjusting
Dec. 31 Income Summary 300, 000
Inventory (Merchandising Inventory) beg 300, 000

Inventory (Merchandising Inventory) end 270, 000

Income Summary 270, 000
Problem 2- ABC Company provided the following account balances on December 31,
2020

Purchases P100, 000

Purchase Returns and Allowances 20, 000
Purchases Discount 10, 000
Inventory (or Merchandising Inventory), beg 50, 000
Freight-In 10, 000
In December 31, 2020 a count of merchandise inventory amounted to P80, 000.
Adjusting
Dec. 31 Inventory (or Merchandising Inventory), end 80, 000
Purchase Returns and Allowances 20, 000
Purchases Discount 10, 000
Cost of Goods Sold 50, 000
Inventory (or Merchandising Inventory), beg 50, 000
Purchases 100, 000
Freight-In 10, 000

P100, 000 + P50, 000 + P10, 000 – P80, 000 –P 20, 000 – P10, 000 = P50, 000