Lesson 2: Prepare a Statement of Financial Position using the

Report Form and the Account Form with Proper Classification of

Items as Current and Non-current

Objectives:

1. Prepare the Balance Sheet/ Statement of Financial Position using the Report
Form with Proper Classification of Items as Current and Non-current.

2. Present properly the Statement of Financial Position using the Account Form
with Proper Classification of Items as Current and Non-current.

3. Answer an accounting problem on journalizing of entries.

Activity:

Each student will be asked on how to write the Balance Sheet/ Statement of
Financial Position using the report form or account form.

Analysis:

Why is it important to familiarize the different forms of Balance Sheet/

Statement of Financial Position?
Abstraction:

Report Format Balance Sheet

 Account Format Balance Sheet

As you can see, the report format is a little bit easier to read and understand.
That is why most issued reports are presented in report form. Plus, this report
form fits better on a standard sized piece of paper.
How to Prepare a Balance Sheet (Statement of Financial Position)

The balance sheet or the statement of financial position is one of the major
components of financial statements, which include the income statement,
statement of cash flow, statement of changes in equity and the notes to financial
statements.

The balance sheet gives readers of financial statements the snapshot of an entity’s
financial condition. It presents the company’s assets, liabilities and equity, which
show the basic accounting equation (assets = liabilities + equity), where total assets
must always be balanced with the sum of the total liabilities and total equity.

If you own a business and you have an accountant, the accountant will be the one
who will prepare your balance sheet. But small business owners or even
professionals and freelancers who just want to make a simple balance sheet can try
to prepare this statement on their own.

Steps to be made before the preparation of balance sheet

In the accounting cycle, the balance sheet and other financial statements are
prepared after the adjusted trial balance is done.

Preparing the balance sheet without doing the previous steps of the accounting
cycle will give the preparer troubles in coming up a fair balance sheet statement.

Thus, if you want to learn how to prepare a balance sheet or statement of financial
position, you should first learn the following steps of the accounting cycle.

1. How to record journal entries

2. How to post entries to the general ledger or T-account

3. How to prepare a trial balance

4. How to make adjusting journal entries

5. How to prepare an adjusted trial balance

You may read and study the above articles up to the preparation of the adjusted
trial balance. In those articles, we have used the same examples of transactions
and events, from recording the journal entries up to the adjustment of the trial
balance. We will now then use the account titles and balances in the adjusted trial
balance in our preparation of the balance sheet. Here’s the adjusted trial balance
we have prepared from our previous article.

What is a Journal Entry?

Journal entries are the first step in the accounting cycle and are used to record all
business transactions and events in the accounting system. As business events
occur throughout the accounting period, journal entries are recorded in the general
journal to show how the event changed in the accounting equation.

For example, when the company spends cash to purchase a new vehicle, the cash
account is decreased or credited and the vehicle account is increased or debited.

1. How to Make a Journal Entry

Here are the steps to making an accounting journal entry.

1. Identify Transactions

There are generally three steps to making a journal entry. First, the business
transaction has to be identified. Obviously, if you don’t know a transaction
occurred, you can’t record one. Using our vehicle example above, you must identify
what transaction took place. In this case, the company purchased a vehicle. This
means a new asset must be added to the accounting equation.

Debit (Dr) – value received

Credit (Cr) – value parted

2. Analyze Transactions

After an event is identified to have an economic impact on the accounting equation,

the business event must be analyzed to see how the transaction changed the
accounting equation. When the company purchased the vehicle, it spent cash and
received a vehicle. Both of these accounts are asset accounts, so the overall
accounting equation didn’t change. Total assets increased and decreased by the
same amount, but an economic transaction still took place because the cash was
essentially transferred into a vehicle.
3. Journalizing Transactions

After the business event is identified and analyzed, it can be recorded. Journal
entries use debits and credits to record the changes of the accounting equation in
the general journal. Traditional journal entry format dictates that debited
accounts are listed before credited accounts. Each journal entry is also
accompanied by the transaction date, title, and description of the event. Here is an
example of how the vehicle purchase would be recorded.

Since there are so many different types of business transactions, accountants

usually categorize them and record them in separate journal to help keep track of
business events. For instance, cash was used to purchase this vehicle, so this
transaction would most likely be recorded in the cash disbursements journal. There
are numerous other journals like the sales journal, purchases journal, and accounts
receivable journal.

Common Journal Entry Questions

What is a manual Journal Entry?

Manual journal entries were used before modern, computerized accounting systems
were invented. The entries above would be manually written in a journal throughout
the year as business transactions occurred. These entries would then be totaled at
the end of the period and transferred to the ledger. Today, accounting systems do
this automatically with computer systems.

What is a general journal entry in accounting?

An accounting journal entry is the written record of a business transaction in a

double entry accounting system. Every entry contains an equal debit and credit
along with the names of the accounts, description of the transaction, and date of
the business event.

Double-entry bookkeeping, in accounting, is a system of bookkeeping so named

because every entry to an account requires a corresponding and opposite entry to a
different account. The double entry has two equal and corresponding sides known as
debit and credit. The left-hand side is debit and right-hand side is credit.
What is the purpose of a journal and ledger?

The purpose of an accounting journal is record business transactions and keep a

record of all the company’s financial events that take place during the year. An
accounting ledger, on the other hand, is a listing of all accounts in the accounting
system along with their balances.

What is the purpose of a journal entry?

A journal entry records financial transactions that a business engages in

throughout the accounting period. These entries are initially used to create
ledgers and trial balances. Eventually, they are used to create a full set of financial
statements of the company.

Example

We are following Paul around for the first year as he starts his guitar store called
Paul’s Guitar Shop, Inc. Here are the events that take place.

Entry #1 — Paul forms the corporation by purchasing 10,000 shares of

common stock of P100 par value.

Date Account Name Debit Credit

2020
January 1 Cash P 100,000
Common Stock P 100, 000

To record stock
issuance.

Par Value - Par value for a share refers to the stock value stated in the
corporate charter. Shares usually have no par value or very low par value, such as
one cent per share. Par value is also known as nominal value or face value.
A corporate charter is a contract between the state and the incorporators, and
their successors, granting the corporation its legal existence. The application for
the corporation's charter is called the articles of incorporation.

Entry #2 — Paul finds a nice retail storefront in the local mall and signs a
lease for P5,000 a month.

Date Account Name Debit Credit

2020
January 15 No journal entry.

Entry #3 — PGS takes out a bank loan to renovate the new store location for
P100,000 and agrees to pay P5,550 a month (with 10% of interest amount due
per month) to be paid in one year and a half. He spends all of the money on
improving and updating the store’s fixtures and looks.

Date Account Name Debit Credit

2020
January 1 Leasehold Improvements P 100,000
Long-term liabilities P 100,000

To record new loan and

improvements made on
storefront.
Entry #4 — PGS purchases P50,000 worth of inventory to sell to customers on
account with its vendors. He agrees to pay P1,000 a month.

Date Account Name Debit Credit

2020
February 15 Inventory P 50,000
Accounts Payable P 50,000

To record inventory
purchase.

Entry #5 — PGS’s first rent payment is due.

Date Account Name Debit Credit

2020
March 1 Rent Expense P 5,000
Cash P 5,000

To record rent
payment.

Entry #6 — PGS has a grand opening and makes it first sale. It sells a guitar
for P500 that cost P100.

Date Account Name Debit Credit

2020
March 15 Cash P 500
Cost of Goods Sold 100
Revenues (Sales) P 500
Inventory 100
To record sale
inventory.
COGS is deducted from revenues (sales) in order to calculate gross profit.

Cost of goods sold (COGS) is calculated by adding up the various direct costs
required to generate a company's revenues. Importantly, COGS is based only on
the costs that are directly utilized in producing that revenue, such as the
company's inventory or labor costs that can be attributed to specific sales. By
contrast, fixed costs such as managerial salaries, rent, and utilities are not
included in COGS. Inventory is a particularly important component of COGS, and
accounting rules permit several different approaches for how to include it in the
calculation.

Inventory - refers to all stock in the various production stages and is a current
asset. By keeping stock, both retailers and manufacturers can continue to sell or
build items. Inventory is a major asset for most companies.

Entry #7 — PGS sells another guitar to a customer on account for P300. The
cost of this guitar was P100.

Date Account Name Debit Credit

2020
April 1 Accounts Receivable P 300
Cost of Goods Sold 100
Revenues (Sales) P 300
Inventory 100
To record sale of
inventory on account.

Entry #8 — PGS pays electric bill for P2,000.

Date Account Name Debit Credit

2020
March 1 Utilities Expense P 2,000
Cash P 2,000

To record payment of
March Utility Bill.
Entry #9 — PGS purchases supplies to use around the store amounted to
P5,000.

Date Account Name Debit Credit

2020
March 1 Supplies Expense P 5,000
Cash P 5,000

To record purchases
of store supplies.

Entry #10 — Paul is getting so busy that he decided to hire an employee for
P2,500 a week. Pay makes his first payroll payment.

Date Account Name Debit Credit

2020
May 15 Salaries & Wages P 2,500
Expenses P 2,500
Cash

To record payroll
expense.

Entry #11 — PGS’s first vendor inventory payment is due of P1,000.

Date Account Name Debit Credit

2020
May 30 Accounts Payable P 1,000
Cash P 1,000

To record inventory
payment to vendor.
Entry #12 — Paul starts giving guitar lessons and receives P2,000 in lesson
income.

Date Account Name Debit Credit

2020
June 1 Cash P 2,000
Revenue-Guitar Lessons P 2,000

To record income received

from guitar lessons.

Entry #13 — PGS’s first bank loan payment is due.

Date Account Name Debit Credit

2020
June 30 Long-term Liabilities P 5,550
Interest Expense 555
Cash P 6,105

To record bank loan

payment and interest
expense.

Entry #14 — PGS has more cash sales of P25,000 with cost of goods of
P10, 000.00.
Date Account Name Debit Credit
2020
November 30 Cash P 25,000
Cost of Goods Sold 10,000
Revenues (Sales) P 25,000
Inventory 10,000

To record additional
merchandise sales.
Entry #15 — In lieu of paying himself, Paul decides to declare a P1,000
dividend for the year.

Date Account Name Debit Credit

2020
December 15 Dividends P 1,000
Cash P 1,000

To record dividends paid in

December.

Now that these transactions are recorded in their journals, they must be posted to
the T-accounts or ledger accounts in the next step of the accounting cycle.

Here is an additional list of the most common business transactions and the journal
entry examples to go with them.

• Sales Entry

Date Account Name Debit Credit

2020
January 1 Accounts Receivable P 1,000
Cost of Goods Sold 750
Sales P 1,000
Inventory 750

To record the sales of

inventory on credit.
So, a typical sales journal entry debits the accounts receivable account for the
sale price and credits revenue account for the sales price. Cost of goods sold is
debited for the price the company paid for the inventory and the inventory
account is credited for the same price.
• Depreciation Expense Entry

Date Account Name Debit Credit

December 31,2017 Depreciation Expense P 2, 000
Accumulated Depreciation P 2, 000

December 31,2018 Depreciation Expense P 2, 000

Accumulated Depreciation P 2, 000

December 31,2019 Depreciation Expense P 2, 000

Accumulated Depreciation P 2, 000

The basic journal entry for depreciation is to debit the Depreciation Expense
account (which appears in the income statement) and credit the Accumulated
Depreciation account (which appears in the balance sheet as a contra account that
reduces the amount of fixed assets).

Reasons why it’s need to depreciate fixed assets not included the land:
1. Wear and tear. Any asset will gradually break down over a certain usage
period, as parts wear out and need to be replaced. ...
2. Perishability. Some assets have an extremely short life span. ...
3. Usage rights. ...
4. Natural resource usage. ...
5. Inefficiency/obsolescence.

• Accumulated Depreciation Entry

December 31,2017 Depreciation Expense P 1,000

Accumulated Depreciation P 1,000

To record vehicle depreciation

expense.

An accumulated depreciation journal entry is an end of the year journal entry used
to add the current year depreciation expense to the existing accumulated
depreciation account. ... Each year as the accumulated depreciation increases, the
book value of the fixed asset decreases until the book value is zero.

• Accrued Expense Entry

Accrued expenses are expenses that have been incurred, but not yet paid for. ...
Every adjusting entry for accrued expenses debits an expense account, increasing
expenses on the income statement and reducing net income, and credits a payable
account, increasing liabilities on the balance sheet.

Incurred means a word used by accountants to communicate that an expense has

occurred and needs to be recognized on the income statement even though no
payment was made. The second part of the necessary entry will be a credit to a
liability account.

December 31,2017 Utilities Expense P 1,000

Accrued Liabilities-Utilities P 1,000

To record utilities expense as

of the month of December.

2. How to post entries to the general ledger

The line items are called ledger entries. Transfer the debit and credit amounts
from the journal to the ledger account. After posting entries to the general
ledger, calculate the balance of each account. Calculate the balance of an asset or
expense account by subtracting the total credits from the total debits.
Example:

3. How to prepare a trial balance

A trial balance, sometimes abbreviated to TB, is a list of all the account balances in
the accounting records on a particular date. The trial balance is useful for checking
the arithmetic accuracy and correctness of the bookkeeping entries. The TB does
not form part of double entry.

Under the double entry bookkeeping method for every debit there should be a
credit so a list of all the balances in the accounting records should balance.

Until a trial balance balances you cannot start the preparation of the Financial
Statements. It is important to realize that although a trial balance may in fact
balance, there may still be errors in the accounting records.
How do you prepare a Trial Balance?

The process of obtaining a TB is often referred to as extracting a trial balance.

There are two main methods of preparing the TB.

1. Trial Balance Using Account Totals

2. Trial Balance Using Account Balances

Trial Balance Using Account Totals

In this method the totals of the debit side of the account are entered in the debit
side of the trial balance, and the totals of the credit side of the account are
entered into the credit side of the trial balance.

Trial balance accounting - totals

Example TB at 31 December 2020 using totals

Account Debit Credit

Accounts receivable P14,000 P 10,000

Inventory 3,000 1,000

Cash 4,500 3,000

Accounts payable 1,000 3,000

Capital 500 3,500

Revenue 2,000 7,000

Purchases 3,500 1,000

Total P 28,500 P 28,500

========= =========

The trial balance extraction takes place at a particular date, usually at the end of
the accounting period. In the example above the TB extraction date is 31 st of
December.
The ‘Account’ refers to the name of the account in the general ledger. The total
debits on the account are under the debit column, and the total credits on the
account are under the credit column.

The debit and credit columns when totaled should be equal or there is an error in
the accounting records or the TB preparation. Any errors must be investigated
before proceeding to the next step in the accounting cycle.

Trial Balance Using Account Balances

The most common method of preparing the TB is for each individual account to be
balanced off to give a net debit or credit balance on the account, the balance is
then entered on the debit or credit side of the trial balance as appropriate.

Trial balance accounting - balances

Example TB at 31 December 2018 using balances

Account Debit Credit

Cash P 1,500 P

Accounts receivable 4,000

Inventory 2,000

Accounts payable 2,000

Capital 3,000

Revenue 5,000

Purchases 2,500 _____

Total P 10,000 P 10,000

======== ========
Again, the trial balance in the example above has been extracted at 31 December.

The ‘Account’ refers to the name of the account in the general ledger, and the
balance extracted is included under the debit or credit column as appropriate.

The debit and credit columns when totaled should be equal or it indicates an error
in the accounting records or the TB preparation. The error needs to be
investigated before proceeding to the next step in the accounting cycle.

Why do you need a TB?

The TB is not part of the accounting records, it is extracted from the records as
part of the accounting cycle to be used as the starting point for the production of
the Financial Statements. It is a basic check to ensure that your accounting
records balance, that the accounting equation has been satisfied, and that every
debit had a corresponding credit. If the TB does not balance, assuming it has been
prepared properly, it means there is an error in the accounting records.

The balancing of the TB does not however mean that the accounting records are
correct, it simply means that for every debit there was a corresponding credit. It
does not tell you that the debits and credits are correct or whether both sides of
an entry have been completely missed out of the accounting records.

3. How to make adjusting journal entries

How to prepare your adjusting entries

Step 1: Recording accrued revenue. ...
Step 2: Recording accrued expenses. ...
Step 3: Recording deferred revenue. ...
Step 4: Recording prepaid expenses. ...
Step 5: Recording depreciation expenses.
In order to create accurate financial statements, you must create adjusting
entries for your expense, revenue, and depreciation accounts.

Adjusting entries are made at the end of an accounting period to properly account
for income and expenses not yet recorded in your general ledger, and should be
completed prior to closing the accounting period.

Overview: What are adjusting entries?

Adjusting entries are Step 5 in the accounting cycle and an important part of
accrual accounting. Adjusting entries allow you to adjust income and expense totals
to more accurately reflect your financial position.

After you prepare your initial trial balance, you can prepare and post your
adjusting entries, later running an adjusted trial balance after the journal entries
have been posted to your general ledger. The purpose of adjusting entries is to
ensure that your financial statements will reflect accurate data.

If adjusting entries are not made, those statements, such as your balance sheet,
profit and loss statement, (income statement) and cash flow statement will not be
accurate.

Why are adjusting entries important for small business accounting?

1. Revenue will appear too low

If you earned revenue in the month that has not been accounted for yet, your
financial statement revenue totals will be artificially low. For instance, if Laura
provided services on January 31 to three clients, it’s likely that those clients will
not be billed for those services until February.

If Laura does not accrue the revenues earned on January 31, she will not be
abiding by the revenue recognition principle, which states that revenue must be
recognized when it is earned.
2. Expenses may be understated

As important as it is to recognize revenue properly, it’s equally important to

account for all of the expenses that you have incurred during the month. This is
particularly important when accruing payroll expenses as well as any expenses you
have incurred during the month that you have not yet been invoiced for.

For example, your computer crashes in late February. A computer repair technician
is able to save your data, but as of February 29 you have not yet received an
invoice for his services.

In order to account for that expense in the month in which it was incurred, you will
need to accrue it, and later reverse the journal entry when you receive the invoice
from the technician.

3. Financial statements will not be accurate

At the end of each month, you should run financial statements: a balance sheet,
profit and loss or income statement, and a cash flow statement. Used to make any
closing entries, it’s important that these statements reflect the true financial
position of your company.

Adjusting entries are vital:

In order to have an accurate picture of the financial health of your business, you
need to make adjusting entries. How can you convince a potential investor to invest
in your business if your financial statements are inaccurate?

How can you prepare financial projections for the coming months if you don’t have
an accurate picture of what your monthly revenue and operating expenses are?
Types of adjusting entries

There are five main types of adjusting entries that you or your bookkeeper will
need to make monthly. All five of these entries will directly impact both your
revenue and expense accounts. They are:

1. Accrued revenues

Accrued revenue is revenue that has been recognized by the business, but the
customer has not yet been billed. Accrued revenue is particularly common in
services related businesses, since services can be performed up to several months
prior to a customer being invoiced.

Accrued revenue is revenue that has been earned by providing a good or service,
but for which no cash has been received. Accrued revenues are recorded as
receivables on the balance sheet to reflect the amount of money that customers
owe the business for the goods or services they purchased.

Revenue must be accrued, otherwise revenue totals would be significantly

understated, particularly in comparison to expenses for the period. For example,
Justin owns a CPA firm. His firm does a great deal of business consulting, with
some consulting jobs taking months.

Accrual means the accumulation or increase of something over time, especially

payments or benefits.

Justin will want to accrue the revenue earned in those months before he is able to
bill his clients, otherwise his expenses will appear quite high on his income
statement, while his revenue will be artificially low.

Example:

Date Particulars Debit Credit

2020
April 19 Accrued revenue P 1, 500
Consulting revenue P 1, 500
To record accrued
revenue.
 Accrued expenses example:

Date Particulars Debit Credit

2020
June 19 Consulting revenue P 1, 500
Accrued revenue P 1, 500

To record payment of
consulting revenue.

Accounts receivable 9, 000

Consulting revenue 9, 000

To record accounts
receivable from
consulting revenue.

2. Accrued expenses

An accrued expense is an expense that has been incurred before it has been paid.
For example, Tim owns a small supermarket, and pays his employees bi-weekly. In
March, Tim’s pay dates for his employees were March 13 and March 27.

An accrued expense is an accounting term that refers to an expense that is

recognized in the books before it has been paid; the expense is recorded in the
accounting period in which it is incurred.

However, his employees will work two additional days in March that were not
included in the March 27 payroll. Tim will have to accrue that expense, since his
employees will not be paid for those two days until April. Payroll expenses are
usually entered as a reversing entry, so that the accrual can be reversed when the
actual expenses are paid.

Examples of accrued expenses:

1. Bonuses, salaries or wages payable.
2. Unused vacation or sick days.
3. Cost of future customer warranty payments, returns or repairs.
4. Unpaid, accrued interest payable.
5. Utilities expenses that won't be billed until the following month.
 6. Anything you've purchased but haven't received an invoice for yet.

Accrued expense entry:

Date Particulars Debit Credit
2020
March 31 Interest expense P 10, 000
Interest payable P 10, 000

To record interest
payable.

April 5 Interest payable 10, 000

Cash in Bank 10, 000

To record payment of
interest payable.

3. Deferred revenues

Deferred revenue is used when your company receives a payment in advance of

work that has not been completed. This can often be the case for professional
firms that work on a retainer, such as a law firm or CPA firm.

In many cases, a client may pay in advance for work that is to be done over a
specific period of time. When the revenue is later earned, the journal entry is
reversed.

Example:
 Date Particulars Debit Credit
2020
March 31 Cash in Bank P 120, 000
Rent Revenue P 30, 000
Deferred Rent 90, 000
Revenue

To record advanced rent

revenue.
April 5 30, 000
Deferred Rent Revenue 30, 000
Rent Revenue

To record deferred rent

revenue.

4. Prepaid expenses

Prepaid expenses also need to be recorded as an adjusting entry. For instance, if

you decide to prepay your rent in January for the entire year, you will need to
record the expense each month for the next 12 months in order to account for the
rental payment properly.

If you don’t, your financial statements will reflect an abnormally high rental
expense in January, followed by no rental expenses at all for the following months.

Example:

Date Particulars Debit Credit

2020
 March 31 Rent Expense P 10, 000
Prepaid Rent Expense P 10, 000

To record adjusted rent

expense.

April 5 Insurance Expense 1, 000

Prepaid Insurance Expense 1, 000

To record adjusted insurance

expense.

5. Depreciation expenses

Depreciation expense and accumulated depreciation will need to be posted in order

to properly expense the useful life of any fixed asset.

Depreciation is always a fixed cost, and does not negatively affect your cash flow
statement, but your balance sheet would show accumulated depreciation as a
contra account under fixed assets.

How to prepare your adjusting entries:

Each adjusting entry will be prepared slightly differently. Here are examples on
how to record each type of adjusting entry.

Step 1: Recording accrued revenue

Any time that you perform a service and have not been able to invoice your
customer, you will need to record the amount of the revenue earned as accrued
revenue. For example, John owns a cleaning service. He bills his clients for a month
of services at the beginning of the following month.
His bill for January is P2, 000, but since he won’t be billing until February 1, he will
have to make an adjusting entry to accrue the P2, 000 in revenue he earned for the
month of January.

DATE ACCOUNT DEBIT CREDIT

1-31-2020 Accrued Revenue P 2,000

Revenue P 2,000

Once John bills his client in February, he will have to make the following entry:

DATE ACCOUNT DEBIT CREDIT

1-31-2020 Accounts Receivable P 2,000

Accrued Revenue P 2,000

The journal entry is completed this way to reverse the accrued revenue, while
revenue entry remains the same, since the revenue needs to be recognized in
January, the month that it was earned.

Tips for accruing revenue:

Accruing revenue is vital for service businesses that typically bill clients after
work has been performed and revenue earned.

Know when to use an accrual account and when to use an accounts receivable
account: If you’re using manual journals to record accruals, you can make a journal
entry directly to your accounts receivable account. However, if you use accounting
software, once you bill your client, the invoice balance will be posted automatically
to the accounts receivable balance, overstating the balance.

Don’t forget to reverse your accruals: If John didn’t reverse his original entry, his
revenue account would be overstated.
Step 2: Recording accrued expenses

Payroll is the most common expense that will need an adjusting entry at the end of
the month, particularly if you pay your employees bi-weekly.

Any hours worked in the current month that will not be paid until the following
month must be accrued as an expense. Here is the journal entry for recording
accrued payroll expenses:

DATE ACCOUNT DEBIT CREDIT

1-31-2020 Salaries & Wages Expense P 15,000

Salaries & Wages Payable P 15,000

DATE ACCOUNT DEBIT CREDIT

2-10-2020 Salaries & Wages Payable P 15,000

Salaries & Wages Expense P 15,000

Tips for accruing expenses:

Be aware that there are other expenses that may need to be accrued, such as any
product or service received without an invoice being provided.

Make sure that you include all expenses: While payroll is one of the easier
expenses to remember to accrue, it’s important that you remember to accrue any
expense that has occurred prior to receiving an invoice.

Remember to reverse accrued payroll expenses: You can set up your payroll accrual
to reverse automatically.

Step 3: Recording deferred revenue

If your business typically receives payments from customers in advance, you will
have to defer the revenue until it’s earned. For example, your business offers
security services. One of your customers pays you P P3, 000 in advance for six
months of services.

Since the revenue has not yet been earned, it has to be deferred. Here is the
journal entry for recording the initial payment:

DATE ACCOUNT DEBIT CREDIT

1-31-2020 Cash P 3,000

Deferred Revenue P 3,000

For the next six months, you will need to record 500 in revenue until the deferred
revenue balance is zero.

DATE ACCOUNT DEBIT CREDIT

2-10-2020 Deferred Revenue P 500

Service Revenue P 500

Tips for recording deferred revenue:

If you receive payment in advance for services that have not yet been performed,
the payment must be posted as deferred revenue, with a monthly journal entry
necessary until the prepaid revenue has been earned.

Payment for more than one month must be deferred: If you receive a payment for
two months, the second month’s payment must be deferred.
Create a recurring journal entry: Create a recurring journal entry for advance
payments, so you don’t have to remember to process a journal entry each month.

Step 4: Recording prepaid expenses

Prepaid expenses are handled like deferred revenue. For instance, you decide to
prepay your rent for the year, writing a check for P12, 000 to your landlord that
covers rent for the entire year.

Since you don’t want to take a P12, 000 expense in January, you will place the
P 12, 000 in a prepaid rent account, and expense it each month for the next 12
months. Your initial journal entry would look like this:

DATE ACCOUNT DEBIT CREDIT

1-31-2020 Prepaid Rent P 12,000

Cash P 12,000

For the next 12 months, you will need to record $1,000 in rent expenses and
reduce your prepaid rent account accordingly.

DATE ACCOUNT DEBIT CREDIT

1-31-2020 Rent Expense P 1,000

Prepaid Rent P 1,000

Tips for recording prepaid expenses:

Common prepaid expenses include rent and professional service payments made to
accountants and attorneys, as well as service contracts.

Make it recurring: If you’re using accounting software, be sure and make the
journal entry recurring for the next 12 months.
Be sure to record all prepayments: Anytime you pay for more than one month of a
service, the expense should be divided up between the months that the payment
covers.

Step 5: Recording depreciation expenses

Any time you purchase a big tickets item, you should also be recording accumulated
depreciation and your monthly depreciation expense. Most small business owners
choose straight-line depreciation to depreciate fixed assets since it’s the easiest
method to track.

For instance, if you purchase an item for P 5, 000, with a useful life of five years
and a salvage value of P1, 000, you can depreciate the asset for five years. Based
on the number of years that asset will last, making your monthly depreciation total
66.67 per month for five years. To record depreciation, your journal entry would
be:

Salvage value is the estimated book value of an asset after depreciation is

complete, based on what a company expects to receive in exchange for the asset at
the end of its useful life. As such, an asset's estimated salvage value is an
important component in the calculation of a depreciation schedule.

Salvage value = P (l – i) ^y where P = original price, i = depreciation rate, y =

age in years, s = salvage value

Depreciation per Year formula = (Cost of Asset – Salvage value)

________________________
Useful Life of Asset

Depreciation per Month for = P 5,000 – P 1,000

5 years _______________ ÷ 12
5 years
= P 66.67 per month per 5 years
=======
DATE ACCOUNT DEBIT CREDIT

1-31-2020 Depreciation Expense P 66.67

Accumulated Depreciation P 66.67

This journal entry can be recurring, as your depreciation expense will not change
for the next 60 months, unless the asset is sold.

Tips for recording depreciation expense:

Here are a few ways to make recording depreciation expenses easier:

Make your journal entries recurring: If you’re using accounting software, you can
choose to make your depreciation expense journal entries recurring, eliminating the
need to enter them each month.

Create a spreadsheet: Unless you’re using high-end accounting software or your

software includes a fixed assets module, chances are that the application does not
calculate your depreciation expense for you. To make it easier to track expenses,
especially if using a depreciation method other than straight-line, create a
spreadsheet of upcoming depreciation expenses for the year.

5. How to prepare an adjusted trial balance

Adjusted Trial Balance. An adjusted trial balance is prepared after adjusting

entries are made and posted to the ledger. This is the second trial balance
prepared in the accounting cycle. Its purpose is to test the equality between
debits and credits after adjusting entries are entered into the books of the
company.

An adjusted trial balance is a listing of the ending balances in all accounts after
adjusting entries have been prepared. ... To be used to construct financial
statements (specifically, the income statement and balance sheet; construction of
the statement of cash flows requires additional information).
Adjusting entries are made at the end of an accounting period to adjust ledger
accounts so that they comply with rules of accrual accounting. Main purpose of
adjusting entries is to match incomes and expenses to appropriate accounting
periods.

There are five types of adjusting entries that are required to be made at the end
of the accounting period. Accrued revenues, accrued expenses, deferred revenues,
deferred expenses and depreciation expense require adjusting entries so as to
accurately reflect the accrual method of accounting.

There are two methods of preparing an adjusted trial balance.

First, you can post the adjusting entries into the ledger account and adjust the
ledger balances accordingly. Once posting is complete, you can take the adjusted
balances and list them on a trial balance. This method is similar to preparing an
unadjusted trial balance as you are simply taking the account balances from ledger
accounts and are listing them in a trial balance.

Secondly, you can use the unadjusted trial balance and can only add the adjusting
entries to the accounts that are affected by the adjustments. This method is
simple and easy to implement, however, only small businesses with few adjusting
entries can use this method.

Example of an adjusted trial balance

These examples will show you how to adjust an unadjusted trial balance looks like.

ABC Company
Unadjusted Trial Balance
For the year ended December 31, 2019

Account Debit Credit

Property, plant & equipment P 152,000
Furniture & Fixtures 114,000
Inventory 6,400
Accounts receivables 12,200
Cash 18,000
Long term Loan P 74,000
Accounts Payable 6,400
Share capital 100,000
Retained earnings 88,000
Sales Revenue 114,600
Salaries expense 52,000
Marketing expenses 14,000
Interest expense 8,000
_________ _________
TOTAL P 383,000 P 383,000
=========== ============
ABC Company has P 12,000 in salaries that were unpaid as of the end of December,
as well as P 8,000 of earned but unbilled sales. We will use the unadjusted trial
balance of ABC Company and will pass the necessary adjusting entries in the trial
balance and will prepare an adjusted trial balance.

Adjustments from unadjusted trial balance

Account Debit Credit
Property, plant & equipment
Furniture & Fixtures
Inventory
Accounts receivables P 8,000
Cash
Long term Loan
Accrued Liabilities P 12,000
Accounts Payable
Share capital
Retained earnings
Sales Revenue 8,000
Salaries expense 12,000
Marketing expenses
Interest expense
________ _________
TOTAL P 20,000 P 20,000
=========== ============
Adjusted trial balance
Account Debit Credit
Property, plant & equipment P 152,000
Furniture & Fixtures 114,000
Inventory 6,400
Accounts receivables 20,200
Cash 24,400
Long term Loan P 74,000
Accrued Liabilities 12,000
Accounts Payable 6,400
Share capital 100,000
Retained earnings 88,000
Sales Revenue 122,600
Salaries expense 64,000
Marketing expenses 14,000
Interest expense 8,000
_________ _________
TOTAL P 403,000 P 403,000
=========== ============

With an adjusted trial balance, necessary adjusting journal entries are

incorporated in the trial balance. In the above example, unrecorded liability
related to unpaid salaries and unrecorded revenue amount has been included in the
adjusted trial balance. This trial balance is then used to prepare financial
statements.
Application:

Test I. True or False: Read the statement properly. Choose “T” if the statement is
true and “F” if it’s false.

Test II. Analyze the given problem: We are following Jose around for the first
year as he starts his tea store called Jose’s Tea Company. Here are the events
that take place in the year 2019.
January 1 — Jose forms the corporation by purchasing 10,000 shares of
P1, 000 par stock.

February 5 — Jose finds a nice retail storefront in the local mall and signs a lease
for P15, 000 a month.

February 10 — JTC takes out a bank loan to renovate the new store location for
P100, 000 and agrees to pay P10, 000 a month. He spends all of the money on
improving and updating the store’s fixtures and looks.

March 3 — JTC purchases P50, 000 worth of inventory to sell to customers on

account with its vendors. He agrees to pay P1, 000 a month.

March 5 — JTC’s first rent payment is due.

March 10 — JTC has a grand opening and makes it first sale. It sells a tea for P5,
000 that cost P1, 000.
April 1 — JTC sells another tea to a customer on account for P3, 000. The cost of
this tea was P1, 000.

April 5 — JTC pays internet bill for P2, 500.

April 18 — JTC purchases supplies to use around the store.

May 15 — Jose is getting so busy that he decides to hire an employee for

P1, 900 a week. Mar makes his first payroll payment.
May 30 — JTC’s first vendor inventory payment is due of P1, 000.

June 1 — Jose starts giving lessons on how to make a tea and receives
P2, 000 in lesson income.
June 30 — JTC’s first bank loan payment is due.

July 7 — JTC purchase additional computer to use for his operation worthP15, 000
and office supplies P1, 750.

August 22 — Jose decided to check for a machinery worth P25, 000 that can
produce a tea for 1, 000 packs a day.

November 30 — JTC has more cash sales of P25, 000 with cost of goods of
P10, 000.

December 15 — Instead of paying himself, Jose decides to declare a P1, 000

dividend for the year.

Requirements:

1. Make a journal entries for every transactions.

2. Make an entries to general ledger.
3. Prepare a trial balance
4. Make an adjusting journal entries.
5. Prepare an adjusted trial balance.
6. Present all the transactions in the Statement of Financial Position/ Balance
Sheet.