ADJUSTING ENTRIES

10.2 Introduction

ADJUSTING ENTRIES are made in the accounting books at the end of an accounting period. These are
made after a trial balance is prepared. The purpose of adjusting entries is to adjust revenues and
expenses to the accounting period in which they actually occurred. After adjusting entries are recorded
in the accounting journals, they posted the ledger in the same way as any other accounting journals
entries.
There are six types of adjusting entries:
1. Accrued revenues
2. Unearned revenues
3. Accrued expenses
4. Prepaid expenses
5. Depreciation
6. Allowance for uncollectible Accounts

Characteristics of Adjusting Entries:

1. Each entry is recorded at the end of an accounting
2. Each entry has at least one balance sheet account
and at least one income statement account.
3. Each entry has no cash account in either the debit
or the credit side.

10.3 Adjusting Entries

Adjusting entries, also called adjusting journal entries, are journal entries made at the end of a period to
correct accounts before the financial statements are prepared. This is the fourth step in the accounting
cycle. Adjusting entries are most commonly used in accordance with the matching principle to match
revenue and expenses in the period in which they occur.

Types of Adjusting Entries

There are three different types of adjusting journal entries as follows:
● Prepayments
● Accruals
● Non-cash expenses

Each one of these entries adjusts income or expenses to match the current period usage. This concept is
based on the time period principle which states that accounting records and activities can be divided
into separate time periods.
In other words, we are dividing income and expenses into the amounts that were used in the current
period and deferring the amounts that are going to be used in future periods.

What Does an Adjusting Journal Entry Record?

Here are the main financial transactions that adjusting journal entries are used to record at the end of a
period.

Prepaid expenses or unearned revenues – Prepaid expenses are goods or services that have been paid
for by a company but have not been consumed yet. Insurance is a good example of a prepaid expense.
Insurance is usually prepaid for at least six months. This means the company pays for the insurance but
doesn’t actually get the full benefit of the insurance contract until the end of the six-month period. This
transaction is recorded as a prepayment until the expenses are incurred. The same is true at the end of
an accounting period. Only expenses that are incurred are recorded, the rest are booked as prepaid
expenses.

Unearned revenues are also recorded because these consist of income received from customers, but no
goods or services have been provided to them. In this sense, the company owes the customers a good
or service and must record the liability in the current period until the goods or services are provided.

Accrued expenses and accrued revenues – Many times companies will incur expenses but won’t have to
pay for them until the next month. Utility bills are a good example. December’s electric bill is always due
in January. Since the expense was incurred in December, it must be recorded in December regardless of
whether it was paid or not. In this sense, the expense is accrued or shown as a liability in December until
it is paid.

Non-cash expenses – Adjusting journal entries are also used to record paper expenses like depreciation,
amortization, and depletion. These expenses are often recorded at the end of period because they are
usually calculated on a period basis. For example, depreciation is usually calculated on an annual basis.
Thus, it is recorded at the end of the year. This also relates to the matching principle where the assets
are used during the year and written off after they are used.

How to Record Adjusting Entries?

Recording AJEs is quite simple. Here are the three main steps to record an adjusting journal entry:

● Determine current account balance

● Determine what current balance should be
● Record adjusting entry
These adjustments are then made in journals and carried over to the account ledgers and accounting
worksheet in the next accounting cycle step.

What does understated mean?

When an accountant says that an amount is understated, it means two things:
The amount is not the correct amount, and
The amount is less than the true amount. In other words, the amount is too small.
To illustrate the term understated, let's assume that a company is reporting its accounts payable as
$21,000. Let's also assume that the correct or true amount of accounts payable is $23,000. An
accountant will say that the reported amount of $21,000 is understated by $2,000.

Because of double-entry bookkeeping or accounting there will also be a second general ledger account
with an error for the same amount

What does overstated mean?

Definition of Overstated
When an accountant uses the term overstated, it means two things:

The reported amount is incorrect, and

The reported amount is more than the true or correct amount.
As a result of double-entry accounting or bookkeeping, another item is likely to have a reporting error.

Example of Overstated
If a company reports that its prepaid insurance is $8,000, but the true or correct amount of prepaid
insurance is only $7,000, the accountant will say that the reported amount of prepaid insurance is
overstated by $1,000.

Because of double-entry accounting, if the balance in the account Prepaid Insurance is overstated (too
much is being reported) it is likely that the account Insurance Expense will be understated (too little is
being reported).

https://www.accountingcoach.com/blog/what-does-understated-mean
https://www.myaccountingcourse.com/accounting-cycle/adjusting-entries
10.4.A Depreciation
DEPRECIATION
-It is applies to components of property, plant and equipment or PPE
-Expected to benefit more than one year or more than the accounting period
-It is done to allocate the cost less residual value over its useful life

DEPRECIATION=COST RESIDUAL VALUE/USEFUL LIFE

COST Amount recorded when the asset is purchased

USEFUL LIFE- This is the only estimated amount of recovery at the end of
the asset's useful life

SALVAGE VALUE Also called residual value or scrap value his is the
estimated amount of recovery at the end of the asset's life

DEPRECIATION FORMULA
STRAIGHT LINE METHOD
Annual Depreciation Expense- Cost of fixed asset- Salvage Value / Useful
Life

Annual meaning yearly.

PRO FORMA ENTRY OF DEPRECIATION
DEBIT- Depreciation Expense XXX
CREDIT- Accumulated Depreciation XXX

SAMPLE 1
On January 1, Company A bought an equipment for P160,000. The
equipment is estimated to have a useful life of 10 years and a salvage
value of P40.000. What is the accumulated depreciation at the end of
December 2012?

Annual Depreciation
160,000-40,000=12,000
10 years
Journal Entry
Depreciation Expense 12 000
 Accumulated Depreciation 12000
Explanation: Depreciation for the year

SAMPLE 2
A machine having a useful life of5 years was purchased on June 1, 2016. Cost of
the asset is P25,000 whereas its residual value is expected to be P1,000. Calculate
depreciation expenses for the year ending December 31, 2016
Journal Entry:
Depreciation
25,000-1,000 4,800 per year
5 years
4,800 per year/ 12 months= 400
400 per month x 7 months 2,800 7 mos.Depreciation

Journal Entry: December 31,2016

Depreciation Expense 2.800
Accumulated Depreciation 2,800
Explanation: Depreciation for 7 months

SAMPLE 3
A delivery truck was purchased for 250,000. It is estimated to 10
years after which it shall have a value of 50,000. Compute for the
depreciation.
Depreciation:
250,000-50,000=20,000 per year
10 years
Journal Entry:
Depreciation Expense 20,000
Accumulated Depreciation 20,000
Explanation: Depreciation for the year

10.4.B Assessment
1.On March 1, Company ABC bought an equipment for P200,000. The equipment is estimated to have a
useful life of 15 years and a salvage value of P50,000. What is the accumulated depreciation at the end
of November same year? 9 months
A. 90,000
B. 330,000
C. 7,500
Answer:

2. A machine having a useful life of 15 years was purchased on February 1, 2016. Cost of the asset is
P75,000 whereas its residual value is expected to be P5,000. Calculate depreciation expenses for the
year ending December 31, 2016.(11 months)
4,277.78
B. 6787.88
821,333,33

Answer:

3. A delivery truck was purchased for 500,000. It

is estimated to be 12 years after which it shall have a value of
75,000. Compute for the annual depreciation.
A. 33,333,33
B. 35,416.67
C. 425,000

Answer:
10.5 Bad Debts
BAD DEBTS
Provision for Bad Debts usually most business firms extend credit to attract more customers and to sell
more goods. However not all credit extended or collectibles are good a certain percentage of these
collectibles are not collected. For this reason, the business should provide for such losses for non-
collectible credit. This loss from an uncollectible account is called Bad Debts. Bad Beds is a nominal
account which must be shown in the income statement at the end of the accounting period.
PRO FORMA ENTRY for BAD DEBTS:
Bad Debts XXX
Allowance for Bad Debts XXX
Other name for Bad Debts
- Uncollectible Accounts
-Doubtful Accounts

SAMPLE TRANSACTION 1
For instance there is 1,000,000 accounts receivable at the end of the
year and it is determined that 5% of accounts receivable could not be collected.
Computation
1,000,000 x 5% 50,000 Hence the adjusting entries are:

Bad Debts Expense 50,000

Allowance for Bad Debts 5,000
SAMPLE TRANSACTION 2
The total sales of ABC Company is 100,000 and 25,000
represents cash sales.
The balance of accounts receivable is 30,000. About 5%
is proven uncollectible.
Computation:
30,000 x 5% = 1,500 Hence the adjusting entries are:

Bad Debts Expense 1,500

Allowance for Bad Debts 1,500

SAMPLE TRANSACTION 3
Supposed Company Y has an accounts receivable of 500,000
at the end of March and it was determined that 5% of these receivable may not be
collected.
Computation:
500,000 x 5% 25,000 Hence the adjusting entries are:

Bad Debts Expense 25,000

Allowance for Bad Debts 25,000

10.6 Prepaid Expense

Prepaid Expense
-Already paid in advance
-Gradually get used up during the accounting period.
-Also called deferred charges
-Already paid but not yet incurred or spent as at the end of the accounting period
COMMON SAMPLES OF PREPAYMENTS
1-Supplies- unused supplies at the end of the àccounting period.
2- Advance payment paid in cash to the lessor for building or office space.
3-Prepaid Insurance- paid at the beginning during an accounting period.

On adjusting Entries, we have 2 methods. They are

1- Asset Method
on this method, records the amount of money what has been consumed
The Pro forma Entries are

SAMPLE - INSURANCE
ASSET METHOD
Original Entry:This is the acquisition day
The Credit account depends if the Insurance is on cash or on account
Prepaid Insurance XXX
Cash or Accounts Payable XXX

Adjusting Entry» This is the monitoring the amount consumed

Just Simply reverse the entry of Debit- so Prepaid Insurance will become CREDIT
Then the contra account is always DEBIT Insurance Expense
Insurance Expense XXX
Prepaid Insurance XXX

SAMPLE - INSURANCE
EXPENSE METHOD
Original Entry:This is the acquisition day
The Credit account depends if the Insurance is on cash or on account
Insurance Expense Xxx
Cash or Accounts Payable XXX

Adjusting Entry: This is the monitoring the amount of money that has been left
Just Simply reverse the entry of Debit- so Insurance Expense will become CREDIT
Then the contra account is always DEBIT Prepaid Insurance
Prepaid Insurance xxx
Insurance Expense xxx
SAMPLE - RENT
ASSET METHOD
Original Entry:This is the acquisition day
The Credit account depends if the Rent is on cash or on account
Prepaid Rent xxx
Cash or Accounts Payable XXX

Adjusting Entry: This is the monitoring the amount consumed

Just Simply reverse the entry of Debit- so Prepaid Rent will become CREDIT

Then the contra account is always DEBIT Rent Expense

Prepaid Rent xxx
Rent Expense xxx

SAMPLE TRANSACTION 1- RENT

EXPENSE METHOD
Original Entry:This is the acquisition day.
The Credit account depends if the Rent is on cash or on account.
Insurance Expense Xxx
Cash or Accounts Payable xxx

Adjusting Entry: This is the monitoring the amount consumed

Just Simply reverse the entry of Debit- so Insurance Expense will become
CREDIT
Then the contra account is always DEBIT Prepaid Insurance
Prepaid Insurance XXX
Insurance Expense xxx

ASSET METHOD
SAMPLE - SUPPLIES
Original Entry:This is the acquisition day.
The Credit account depends if the supplies are on cash or on account
Supplies xxx
Cash or Accounts Payable xxx

Adjusting Entry: This is the monitoring the amount consumed

Just Simply reverse the entry of Debit- so Supplies will become CREDIT
Then the contra account is always DEBIT Supplies Expense
Supplies Expense xxx
Supplies xxx
SAMPLE TRANSACTIONS
SAMPLE TRANSACTION 1- INSURANCE
ASSET METHOD
Oct. 1, 2019, CalaguasopaRy acquired a 3 year insurance policy for
36,000 paid in advance.
Original Entry:This is the acquisition day.
Credit Cash because it was acquired on cash basis
Prepaid Insurance 36,000
Cash 36,000

Adjusting Entry:This is monitoring the amount consumed.

On Dec. 31, 2019, 3months insurance has been consumed
Just Simply reverse the entry of Debit- so Prepaid Insurance will become CREDIT
Then the contra account is always DEBIT Insurance Expenśe
Insurance Expense 3,000
Prepaid Insurance 3,000

On T-Accounts we will get the same amount whatever method we want to use.
Prepaid Insurance

36,000

33,000

Insurance Expense

3,000

SAMPLE TRANSACTION 2-INSURANCE

EXPENSE METHOD
Oct. 1, 2019, Calaguas Company Acquires 3 year insurance policy for
36,000 paid in advance
Original Entry:This is the acquisition day
Credit Cash because it was acquired on a cash basis
Insurance Expense 36,000
 Cash 36,000

Adjusting Entry: This is the monitoring the amount of money has been left.
On Dec. 31, 2019, 3 months insurance has been consumed
Just Simply reverse the entry of Debit- so Prepaid Insurance will become CREDIT
Then the contra account is always DEBIT Insurance Expense
Insurance Expense 33,000
Prepaid Insurance 33,000

On T-Accounts we will get the same amount whatever method we want to use.
Prepaid Insurance

33,000

Insurance Expense

36,000 33,000

3,000

SAMPLE TRANSACTION2- RENT

ASSET METHOD
On January 2, Company B paid 30,000 as advance payment for 6 months
rent of office space from spacious realty
Original Entry:This is the acquisition day.
Credit Cash because it was acquired on a cash basis
Prepaid Rent 30,000
Cash 30,000

Adjusting Entry: This is the monitoring the amount consumed

On January 1. One month rent has been consumed.
Just Simply reverse the entry of Debit- so Prepaid Rent will become CREDIT
Then the contra account is always DEBIT Rent Expense
Rent Expense 5,000
Prepaid Iñsurance 5,000

On T-Accounts we will get the same amount whatever method we want to use.
Prepaid Rent
 30,000 5,000

25,000

Rent Expense

5,000

SAMPLE TRANSACTION 2-RENT

EXPENSE METHOD
On January 2, Company B paid 30,000 as advance payment for 6 months
rent of office space from spacious realty
Original Entry:This is the acquisition day.
Credit Cash because it was acquired on cash basis
Rent Expense 30,000
Cash 30,000

Adjusting Entry: This is the monitoring the amount of money has been left.
On January 1. One month rent has been consumed.
Just Simply reverse the entry of Debit- so Rent Expense will become CREDIT
Then the contra account is always DEBIT Prepaid Rent
Prepaid Rent 25,000
Rent Expense 25,000

On T-Accounts we will get the same amount whatever method we want to use.
Prepaid Rent

25,000

Rent Expense

30,000 25,000

5,000
SAMPLE TRANSACTION 3. SUPPLIES
ASSET METHOD
Malambing Trading bought Supplies for 9,900.
Original Entry:This is the acquisition day
Credit Cash because it was acquired on cash basis.
Supplies 9,900
Cash 9900

Adjusting Entry: This is monitoring the amount consumed.

At the end of the accounting périod supplies already used are 5,900.
Just Simply reverse the entry of Debit- so Supplies will become CREDIT
Then the contra account is always DEBIT Supplies Expense
Supplies Expense 5,900
Supplies 5,900

On T-Accounts we will get the same amount whatever method we want to use.
Supplies Expense

5,900

Supplies

9,900 5,900

4,000

SAMPLE TRANSACTION 3-SUPPLY

EXPENSE METHOD
Malambing Trading bought supplies for 9,900.
Original Entry:This is the acquisition day.
Credit Cash because it was acquired on cash basis.
Supplies Expense 9,900
Cash 9,900
Adjusting Entry: This is the monitoring the amount of money has been left.
At the end of the accounting period, supplies already used are 5,900.
Just Simply reverse the entry of Debit- so Rent Expense will become CREDIT
Then the contra account is always DEBIT Prepaid Rent.
Supplies 4,000
Supplies Expense 4,000

On T-Accounts we will get the same amount whatever method we want to use.
Supplies

4,000

Supplies Expense

9,900 4,000

5,900

10.7 Accrued Expense

Accrued Expense
These are expenses already incurred but not yet paid at the end of the
accounting period
These are recorded as adjusting entries at the end of the accounting
period by debiting an expense
account and crediting a liability account.
THE PR0-FORMA ENTRIES FOR ACCRUED EXPENSE

Expenses xxx
Accrued Expense Payable xxx

SAMPLE TRANSACTION 1
Assuming the salaries worth 15,000 due to the employees were not paid
at the end of March

An adjusting entry should be made as follows.

March 31
Salaries Expense 15,000
Salaries Payable 15,000

Note: Since salaries are not yet paid to the employees at the end of the
accounting period, it become payable

SAMPLE TRANSACTION 2
Assuming that utility bills worth 2,500 has not been paid at the end of
March

a similar adjusting entries should be made:

March 31
Utilities Expense 2,500
Utilities Payable 2,500
Note: Since utility bills are not yet paid to the employees at the end of
the accounting period, it becomes payable.

SAMPLE TRANSACTION3
On January 3, Company A made a bank loan of 100,000 from National Piggy Bank
covered a note payable that carries an annual interest rate of 12%. The agreement
with the bank is the principal amount plus interest will be paid in 6 months.

The Company prepares Financial Statements on a monthly basis. To calculate

accrued monthly interest:
Computation:
Accrued Monthly Interest 100,000x 12% /12 months
Adjusting Entries are:
Interest Expense 1,000
Interest Payable 1,000
10.8 Unearned Income/ Unearned Revenue
Also known as "Deferred Revenue", "Deferred Income", "Unearned Income"
Are Prepayments or advance payments for future services to be rendered or products that has yet to be
delivered.
Advance payment of cash by clients for services yet to be rendered.
Advance rental payments for the next accounting period, but already received in cash during the period.

Sample Transaction 1

INCOME METHOD LIABILITY METHOD

Record the amount what has been left
SAMPLE:
On January 10. Company A received 5,000 cash in
advance for services yet to be provided policy for
36,000 paid in advance.
Record the amount what has been consumed.
SAMPLE:
On January 10. Company A received 5,000 cash in
advance for services yet to be provided policy for
36,000 paid in advance.

Original Entry Liability Method

The Original Entries Income Method Cash 5,000
Cash 5,000 Unearned Income 5,000
Service Income 5,000
On January 31, Company A already provided
On January 31, Company A already provided 3,000 worth of services.
3,000 worth of services.
Adjusting Entries Liability Method
Adjusting Entries Income Method Unearned Income 3,000
Service Income 2,000 Service Income 3,000
 Unearned Income 2,000

Adjusting T-Accounts

The Original Entries Expense Method Service Income

Cash 5,000 3,000
Service Income 5,000
Unearned Income
Adjusting Entries Expense Method 3,000 5,000
Unearned Income 3,000 2,000
Service Income 3,000

Sample Transaction 2- Entries

INCOME METHOD LIABILITY METHOD

Record the amount what has been left Record the amount what has been consumed.

SAMPLE
Lianza Cleaners on Aug 1 received 360,000 from
Cebu Company for cleaning janitorial uniforms
over the next 3 years.
SAMPLE
Lianza Cleaners on Aug 1 received 360,000 from
Cebu Company for cleaning janitorial uniforms
over the next 3 years.

Original Entry Liability Method

The Original Entries Income Method
Cash 360,000
Service Income 360,000
10,000 of the amount has been given to CEBU
Cash 360,000
Unearned Income 360,000
10,000 of the amount has been given to CEBU
Company at the end of the accounting period.
 Company at the end of the accounting period.
Adjusting Entries Liability Method
Adjusting Entries Income Method
Unearned Income 100,000
Service lncome 260,000 Service Income 100,000
Unearned Income 260,000

Adjusting T-Accounts

The Original Entries Income Method Service Income

Cash 360,000 260,000 360,000
Service Income 360,000 100,000

Adjusting Entries Income Method

Service Income 260,000 Unearned Income
Unearned Income 260,000 260,000

10.9 Accrued Income

Accrued Revenue/Income
Accrued Income
It arises when goods have been delivered or services have been rendered
but no amount of payment has been collected. If there is payment, such
collection has not yet been recorded.
In order to avoid an understatement of income and asset, an adjusting entry
is needed at the end of the period.
The entry to adjust accrual of income is to debit the asset account and credit
the income account.

if you performs service for a customer in one month, but don't bill the
customer until the next month, you would make an adjusting entry showing the
revenue in the month you performed the service

Sample Transaction 1
On January 3,National Piggy Bank lent 100,000 to Company A
that carries an annual interest rate of 12%. The loan is due
after 6 months in which the principal amount plus interest is
expense to be paid.

The original entries are:

Loan Receivable 100,00
Cash 100,000

Monthly Interest
100,000x 12%/12= 1,000

Adjusting Entry
Interest Receivable1,000
Interest Income 1,000
Note: Any Income that has been earned but not yet recorded during the
accounting period calls for adjusting entry.
10.10 Adjusted Trial Balance and Financial Statements
An adjusted trial balance is prepared after adjusting entries are made and posted to the ledger.

Adjusting entries are prepared at the end of the accounting period for: accrual of income, accrual of
expenses, deferrals, prepayments, depreciation, and allowances.

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.

To illustrate how it works, here is a sample unadjusted trial balance:

Gray Electronic Repair Services

Unadjusted Trial Balance

December 31, 2019

Account Title Debit Credit

Cash P7,480.00

Accounts
Receivable 3,400.00

Service Supplies 1,500.00

Furniture and
Fixtures 3,000.00

Service Equipment 16,000.00

Accounts Payable P9,000.00

Loans Payable 12,000.00

Mr. Gray, Capital 13,200.00

Mr. Gray, Drawing 7,000.00

Service Revenue 9,550.00

Rent Expense 1,500.00

Salaries Expense 3,500.00

Taxes and Licenses 370

TOTAL 43,750 43,750

At the end of the period, the following adjusting entries were made:

De 31 Accounts Receivable 300.00

c

Service Revenue 300.00

31 Utilities Expense 1,800.00

Utilities Payable 1,800.00

 31 Service Supplies Expense 900.00

Service Supplies 900.00

31 Depreciation Expense 720.00

Accumulated Depreciation 720.00

After posting the above entries, the values of some of the items in the unadjusted trial balance will
change. Take the first adjusting entry. Accounts Receivable is debited hence is increased by P300.
Service Revenue is credited for P300.

The balance of Accounts Receivable is increased to P3,700, i.e. P3,400 unadjusted balance plus P300
adjustment. Service Revenue will now be P9,850 from the unadjusted balance of P9,550.

Next entry. Utilities Expense and Utilities Payable did not have any balance in the unadjusted trial
balance. After posting the above entries, they will now appear in the adjusted trial balance.

Third. Service Supplies Expense is debited for P900. Service Supplies is credited for P900. The Service
Supplies account had a debit balance of P1,500. After incorporating the P900 credit adjustment, the
balance will now be P600 (debit).

And fourth. There was no Depreciation Expense and Accumulated Depreciation in the unadjusted trial
balance. Because of the adjusting entry, they will now have a balance of P720 in the adjusted trial
balance.
Adjusted Trial Balance Example
After incorporating the adjustments above, the adjusted trial balance would look like this. Just like in the
unadjusted trial balance, total debits and total credits should be equal.

Gray Electronic Repair Services

Unadjusted Trial Balance

December 31, 2019

Account Title Debit Credit

Cash P7,480.00

Accounts Receivable 3,700.00

Service Supplies 600.00

Furniture and Fixtures 3,000.00

Service Equipment 16,000.00

Accumulated
Depreciation P720.00

Accounts Payable P9,000.00

Utilities Payable 1,800.00

Loans Payable 12,000.00

Mr. Gray, Capital 13,200.00

Mr. Gray, Drawing 7,000.00

Service Revenue 9,850.00

Rent Expense 1,500.00

Salaries Expense 3,500.00

Taxes and Licenses 370

Utilities Expense 1,800

Service Supplies
Expense 900

Depreciation Expense 720

TOTAL 46,570 46,570