Chapter 4

The
Accounting
Cycle:
Accruals and
Deferrals

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Categories of Adjusting Entries
Most adjusting entries fall into one of four general
categories:
1. Converting assets to expenses.
2. Converting liabilities to revenue.
3. Accruing unpaid expenses.
4. Accruing uncollected revenue.

4-2
Adjusting Entries

Adjusting Every
entries are adjusting
needed whenever entry involves a
revenue or expenses change in either a
affect more than one revenue or expense
accounting and an asset
period. or liability.

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Converting Assets to Expenses
End of Current Period

Prior Periods Current Period Future Periods

Transaction Adjusting Entry

Pay cash in  Recognizes portion of
advance of asset consumed as
incurring expenses, and
expense  Reduces balance of
(creates an asset account
asset)

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Example: Insurance Policy

$18,000 Insurance Policy

Coverage for 12 Months

$1,500 Monthly Insurance Expense

Mar. 1 Feb.28

On March 1, Overnight Auto Service

purchased a one-year insurance policy
for $18,000.
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Insurance Policy: Initial Entry

Initially, costs that benefit more than one

accounting period are recorded as assets.

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Insurance: Adjusting Entry

The costs are expensed as they are

used to generate revenue.

GENERAL JOURNAL
P
Date Account Titles and Explanation R Debit Credit
Monthly Adjusting Entry for Insurance
Mar. 31 Insurance Expense 1,500
Unexpired Insurance 1,500
Adjusting entry to record insurance expense for March.
4-7
Insurance: Financial Statement Impact

Balance Sheet Income Statement

Cost of assets Cost of assets
that benefit used this period to
future periods. generate revenue.

Unexpired Insurance Insurance Expense

3/1 18,000 3/31 1,500 3/31 1,500
Bal. 16,500

4-8
 The Concept of Depreciation
Depreciation is the systematic allocation of
the cost of a depreciable asset to expense.

The asset’s
Fixed Depreciation
Asset usefulness is
partially Expense
(debit) (debit)
consumed
during the
On date At the end of
period.
when initial the period . . .
payment is
made . . . Accumulated
Cash Depreciation
(credit) (credit)
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Depreciation Is Only an Estimate
On Jan. 22, 2018, Overnight Auto Service
purchased a building with a useful life of
240 months for $36,000.
Using the straight-line method, calculate the
monthly depreciation expense.
Depreciation
Cost of the asset
expense (per =
Estimated useful life
period)

$150/month = $36,000
240
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 Example: Depreciation Expense

Overnight Auto Service would make the

following adjusting entry.

Contra-asset
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Example 2: Depreciation Expense
Overnight depreciates its $12,000 of tools
and equipment over 60 months. Calculate
monthly depreciation and make the journal
entry.

$12,00060 months = $200 per month

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Computing Book Value for Assets
We will assume that Overnight did not record any
depreciation expense in January because it
operated for only a small part of the month.

December 31, 2018 Balance Sheet Presentation

Building $ 36,000
Less: Accum. depr. 1,650 34,350
Tool and Equipment $ 18,000
Less: Accum. depr. 2,200 15,800

Cost − Accumulated Depreciation = Book Value

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Converting Liabilities to Revenue
End of Current Period

Prior Periods Current Period Future Periods

Transaction Adjusting Entry

Collect cash in  Recognizes portion
advance of earned as revenue, and
earning revenue  Reduces balance of
(creates a liability account
liability)

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 Example: Rental Revenue

$3,000 Rental Contract

Coverage for 3 Months

$1,000 Monthly Rental Revenue

Dec. 1 Feb. 28

On December 1, Overnight received $3,000

in advance for a three-month rental contract.
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 Rental Revenue: Initial Entry

Initially, revenues that benefit more than one

accounting period are recorded as liabilities.

GENERAL JOURNAL
P
Date Account Titles and Explanation R Debit Credit
Dec. 1 Cash 3,000
Unearned Rent Revenue 3,000
Collected $3,000 in advance for rent.

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Rental Revenue: Adjusting Entry

Over time, the revenue is recognized

as it is earned.

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Rental Revenue: Financial Statement
Impact

Balance Sheet Income Statement

Liability for Revenue earned
future periods. this period.

Unearned Rental Revenue Rental Revenue

12/31 1,000 12/1 3,000 12/31 1,000
Bal. 2,000

4-18
Accruing Unpaid Expenses
End of Current Period

Prior Periods Current Period Future Periods

Adjusting Entry Transaction

 Recognizes expenses Pay cash in
incurred, and settlement of
 Records liability for liability.
future payment

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Example: Wages Owed
Friday,
$1,950 Wages Jan. 3
Expense

Monday, Tuesday,
Dec. 30 Dec. 31

On Dec. 31, Overnight owes wages of

$1,950. Payday is Friday, Jan. 3.

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Wages Owed: Initial Entry

Initially, an expense and a liability are

recorded.

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Wages Owed: Financial Statement
Impact

Balance Sheet Income Statement

Liability to be Cost incurred this
paid in a future period to generate
period. revenue.

Wages Payable Wages Expense

12/31 3,000 12/31 1,950

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Accruing Uncollected Revenue
End of Current Period

Prior Periods Current Period Future Periods

Adjusting Entry Transaction

 Recognizes revenue Collect cash in
earned but not yet settlement of
recorded, and receivable
 Records receivable

4-23
Example: Service Revenue
$750 Repair
Service
Revenue

Dec. 15 Dec. 31 Jan. 15

On Dec. 31, Airport Shuttle Service owes

Overnight half of its maintenance agreement.
The one-month fee of $1,500 is to be paid on
the 15th day of January.
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Accrued Service Revenue Entry

Initially, the revenue is recognized and

a receivable is created.

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Accrued Revenue: Financial Statement
Impact

Balance Sheet
Income Statement
Receivable to
Revenue earned
be collected in a
this period.
future period.

Accounts Receivable Repair Service Revenue

12/31 750 12/31 750

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Overnight’s Adjusted Trial Balance
 After these
adjustments are
posted to the
ledger,
Overnight’s ledger
accounts will be
up-to-date (except
for the balance in
the Retained
Earnings account).

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End of Chapter 4

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