Iv. Lesson Proper WK 10

BESTLINK COLLEGE
OF THE PHILIPPINES
FINANCIAL ACCOUNTING REPORTING
Accrual Accounting and Adjustments
IV. LESSON PROPER
LET’S BEGIN
Based on the preliminary activities, what did you notice about it?
_______________________________________________________
CONGRATULATIONS!
You may now proceed to the lesson.
Source:
Lesson 1 – Accrual Basis of Accounting and its nature
2 methods of recording:
 Accrual Basis of accounting
 Cash Basis Accounting
Accrual Basis of Accounting is a method where revenue is recorded when earned regarded of
when received and recorded expenses when incurred regardless of when paid. In accrual basis
you have to make adjusting entries to update the mixed accounts. Example if you record an
advance payment of insurance for and record it as prepaid expense, at year end you have to adjust
the prepaid expense by removing the expired portion of the insurance.
Cash basis accounting is a method where revenue is recorded when received and recorded
expenses when paid. In cash basis you don’t have to adjust the accounts because in Income
statement you will recognize revenue when received and recognized expenses when paid.
Source: Cabrera Elenita; Ledesma, Ester; and Lupisan, Ma. Concepcion “FINANCIAL ACCOUNTING AND REPORTING” GIC Enterprises & Co., Inc. Copyright 2020
Valx, Conrado; Peralta Jose; Valix Christian Aries “FINANCIAL ACCOUNTING AND REPORTING” GIC Enterprises & Co., Inc. Copyright 2020
Kinds of accounts:
1. Real accounts or permanent accounts are accounts which you have to carry for one period to
another period and you can find them in the statement of financial position. Example is Cash,
Accounts Receivable, Capital, Accounts Payable, etc. You cash balance at year end wall
become cash balance beginning;
2. Nominal Accounts or temporary accounts are accounts that are needed to be closed at the end
of the accounting period and are found in the Income Statement. For example Sales and
Salaries expenses. Sales should be close at year end to income summary and salaries
expense and other expenses should also be close to income summary because these are
temporary accounts and you will only need them for this accounting period. On the next
accounting period you have to generate new sales and paid new expenses; and
3. Mixed accounts are accounts which have real and nominal portion. Example if Prepaid
Insurance, Unearned revenue. These accounts should be adjusted because you have to
separate the expired portion or the unexpired portion and recognized earned or unearned
portion.
Lesson 2 – The items that are needed for adjustments for Periodic Inventory method
What are the items that are needed to be adjusted?
1. To set up ending inventory of P100,000 based on physical counting:

The AJE is:
Debit: Merchandise Inventory, December 31
Credit: Income Summary
2. Recognition of provision for uncollectible accounts
The AJE is:
Debit: Doubtful accounts or Bad Debts or Uncollectible Accounts
Credit: Allowance for Doubtful Accounts or Allowance for Bad Debts or Estimated Uncollectible
Accts.
In business not all receivables are collectible. Some collectible becomes doubtful accounts
therefore at year of sale you have to provide for Allowance for Doubtful Accounts by making
adjusting journal entry. The Doubtful Accounts is a nominal account which should be shown in the
income statement as a part of expenses. While Allowance for Doubtful Accounts is a real account
and should be shown in the financial position as a deduction from Accounts Receivable.
3. Provision for Depreciation
The AJE is:

Debit: Depreciation _ Building
Credit: Accumulated Depreciation Building
Property, plant and equipment are depreciable assets therefore you have to adjust their
amount for depreciation. Depreciation Expense is a nominal account and should be
shown as expense in the income statement. Accumulated for Depreciation is a contra
asset accounts and should be shown as a deduction from asset account.
4. Prepayments- are an expense already paid but not yet incurred.
Two methods of recording prepayments:
Asset method : Journal entry upon advance payment for one year insurance:
October 1 – Prepaid Insurance 24,000
Cash 24,000
Payment of 12 months insurance
The AJE is:
December 31 – Insurance Expense 6,000
Prepaid Insurance 6,000
Record 3 months expired insurance.
Expense Method-
October 1 - Insurance Expense 24,000
Cash 24,000
12 months insurance
The AJE is:
December 31 – Prepaid Insurance P18, 000
Insurance Expense 18,000
Record unexpired portion
5. Advance Collection – is income already received but not yet earned.
Two methods of recording advance collection:
1. Revenue method Liability Method:
Example – On December 1 a three months advance of 60,000 rents was received from
a tenant.
The journal entry upon receipt:
Dec 1 – Cash 60,000 Dec 31 – Cash 60,000
Rent Income 60,000 Unearned Revenue 60,000
Three months advance collection.
The AJE: The AJE:
Dec 31 – Rent Revenue 20,000 Dec 31 - Unearned Revenue 40,000
Unearned Revenue 20,000 Rent Income 40,000
Record unearned portion Record earned portion.
6. Accrued Income – are income already earned but not yet received.
The adjusting journal entry for accrued income is:
Dec 31 - Accrued Interest Receivable 1,000
Interest Income 1,000
Interest earned not yet received.
7. Accrued Expenses – are expense that are already incurred but not yet paid.
The AJE is:
Dec 31 – Interest expense 500
Accrued Interest Payable 500
Lesson 3 - Adjustment for Inventory under the periodic inventory System
On alternative method of accounting for merchandise inventory is the periodic inventory

method. Under this method, the goods purchased are accounted as expense. The
account “Purchases” is debited and Cash or Accounts Payable is credited for the cost of
merchandise purchased. When the goods are sold, Cash or Accounts Receivable is
debited and Sales is Credited at selling price. The reduction in inventory resulting from
sale is not reflected in the books. The Purchases accounts accumulate the total cost of
goods purchased during the period. Its balance does not normally indicate whether the
goods purchased during the period were sold or not. Under these circumstances, it is
not possible to determine the gross profit at the time of sale since there is no ledger
record of the cost of goods sold.
Thus, a physical count of the goods on hand is necessary at the end of each accounting period to
determine the unsold merchandise which represents an asset referred to as Merchandise Inventory
This is recorded by a debit to Merchandise Inventory and a Credit to Income Summary. The amount
set up is then deducted from the goods available for sale to arrive at the cost of goods sold. The
goods available for sale are the sum of Merchandise Inventory. At the beginning of the accounting
period (which is the ending inventory of a preceding period), and the total cost of Purchases. It is
important to note that under the periodic inventory method, cost o goods sold and gross profit
cannot be determined without a physical count of unsold merchandise
There are two methods of recording adjustments related to inventories. Under the first method, two
entries are prepared. (1) To transfer the beginning inventory balance to the income Summary
account and (2) to establish ending inventory balance. To illustrate, consider the following data:
1. Merchandise at the beginning of the year is P 40,000
2. Total purchases during the year are P 150,000.
3. Merchandise Inventory at the end of the year determined by physical count is P 50,000
The adjusting entries are as follows:
(1) To transfer beginning inventory balance to Income Summary:
Income Summary 40,000
Merchandise Inventory 40,000
(2) To record ending inventory balance:

Merchandise Inventory, end 50,000
Income Summary 50,000
Under the second method a separate cost of goods sold account is set up and the entry to record
the adjustment is as follows:
Merchandise Inventory, end 50,000
Cost of goods sold 140,000
Merchandise Inventory. Beginning 40,000
Purchases 150,000
Merchandise Inventory of P 50,000 is shown in the balance sheet as current asset.
The cost of goods sold is computed as follows:
Merchandise Inventory, beginning P 40,000
Add: Purchases` 150,000
Goods Available for Sale P 190,000
Less: merchandise Inventory, end 50,000
Cost of Goods Sold P 140,000
We had just finished the discussion about accrual accounting
and adjustments. Let’s move on to the next higher level of
activity/ies or exercise/s that demonstrate your potential
skills/knowledge of what you have learned.
Source:

Iv. Lesson Proper WK 10

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Iv. Lesson Proper WK 10

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BESTLINK COLLEGE

1. To set up ending inventory of P100,000 based on physical counting:

The AJE is:

On alternative method of accounting for merchandise inventory is the periodic inventory

(2) To record ending inventory balance:

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