Chapter 6

1. When would you recognise a cash sale? 2. True/ False: When an entity sells goods- only 1 transaction occurs? 3. What is a fixed term deposit? 4. True/False: An EFT is not a form of cash 5. At what amount would the cost of sales be recognised at?

1. On the day that the increase in the asset item bank meets the definition and recognition criteria of an Asset and the income item (sales) meets the definition and recognition criteria of income. 2. False- 2 transactions- recognise the sale as well as the cost associated to such sale 3. The entity has extra cash available and nothing worth spending it on. Therefore invests the extra cash in a fixed term deposit- known as a financial asset. 4. False, it is 5. The cost of a sale is recognised at the historic cost of the inventory sold

 At the end of the reporting period- there are final procedures iro the F/S that take place, such as a review.  What is a review and why should it take place?  A thorough review in respect of each category (assets, liabilities, equity, income and expenses) general ledger accounts takes place as part of the financial procedures with regards to the end of the reporting period.  A review helps to identify any errors and omissions in the financial statements

 There are errors or omissions in my F/S, now what?  The accountant needs to process adjusting entries in order to correct or account for any errors or omissions identified during the review process

 What is the reporting date?  The last day of the entities financial year end.  What is the approval date?  The date on which the completed financial statements are approved by the owner for distribution to the entities stakeholders  Complete financial statements mean?  All errors and omissions have been identified and all necessary adjusting entries have been processed.  The financial statements are completed in the period between the reporting date and the approval date.

 Only transactions (errors or omissions) identified after the reporting date that satisfy the definitions and recognition criteria at year end may be recognised  Therefore only the transactions that exist on or before year end may be recognised. after  NB: transactions that satisfy the definition and recognition criteria after year end CAN’T be recognised.  What date should they be recognised at?  The last day of the entities year end.  Pg

 Example:  On 1 January 20.7, AC Entity commenced with operating activities. The entity’s reporting period ends every year on 31 December. On 31 December 20.7, the office supplies expense account reflects a debit balance of R A physical count of the office supplies together with the application of the average cost price for the items, indicate that on 31 December 20.7, office supplies to the amount of R are on hand. It is expected that the financial statements for the reporting period ended 31 December 20.7 will be approved on 31 January 20.8.

 “the account reflects a debit balance of ”- What does this mean?  The amount of has already been recorded.  What would the journals look like?  Dr office supplies (P/L) (WHY P/L???) CR Bank/ Payable (SFP)  Definition of an Asset:  “…expect an inflow of Future economic benefit…”  Future means?  After the end of the reporting period.  Therefore office supplies are intended to be used up in the current reporting period providing no future economic benefit.  The definition of an asset is not satisfied

 What does “office supplies to the amount of “R are on hand” mean?  These supplies haven’t been used by the entity.  The supplies on hand at year end will be used after year end… ie in the future  Do Supplies on hand now meet the definition of an Asset? on hand  Yes. Why? At year end the office supplies on hand will be used in the next reporting period providing a future economic benefit to the entity. Therefore the supplies on hand meet the definition of an asset and not an expense.

 Reclassifying the office supplies from an expense to an asset:  Date?  31 Dec 20.7  Journals?  Dr Office supplies (SFP) CR Office supplies (P/L)

 Journals for next year?  Dr Office supplies (P/L) Cr Office supplies (SFP) Why? No longer meets the definition of an asset. The supplies have been used and now no longer exist.

 “office supplies to the amount of “R are on hand” … why cant we just keep it as an expense at year end? temporary accounts.  Income and expense accounts are temporary accounts.  These temporary accounts must be closed off to P/L (retained earnings) at year end

Account (Ledger/GL) 14 Office supplies on hand Bank/payable (x7) Supplies on hand (x7) Profit or loss (x7)

 What does a prepaid expense mean?  The expense has been paid for before it has actually been incurred.

Prepaid rent expense 16 Rent expense amounts to R per month. At year end (31 Dec 20x1) the entity had paid a total of R , since one month rental had been paid in advance for the next financial year. Rent expense (P/L) How should we adjust?

Prepaid rent expense 17 Adjustment 31 Dec 20x1 Dr Prepaid rent (SFP) Cr Rent expense (P/L) Why?

 Is the prepaid rent expense an Asset?  An Asset is a resource:  It’s a resource to the entity as due to the payment they can make use of the premise in the future. Thus giving the entity access to economic benefits in the future  Controlled and past event:  Rent agreement signed and rent paid (past event).  Rental agreement is between the entity and the lessor only. (third party access restricted)  Future economic benefits:  The is an amount paid for a benefit that will only be consumed in the future. The meets the definition of an Asset

Prepaid rent expense 19 Balance as at 31 Dec Prepaid expense (SFP) What happens next year? The benefit of the premise will be consumed by the entity, therefore there will be no future economic benefits available- no longer satisfies the definition of an Asset.

 Expense definition:  “… decrease in an Asset or…”  Prepaid expense is no longer an asset and now must be derecognised.  Journals:  Dr Rent expense (P/L)  Cr Prepaid expense (SFP)

Accrued rent expense 21 Rent expense amounts to R per month. At year end (31 Dec 20x1) the entity had paid a total of R , since one month rental had not yet been paid. Rent expense (P/L) How should we adjust?

 Implication?  We haven’t paid for one month of the financial year.  We used the premise.  Ito the rental agreement we have to pay the rental amount for the premises we are renting.  Is there a liability?

 Definition of a liability?  Present obligation:  Contractual legal obligation to adhere to terms of rental agreement.  Past event:  Failure to pay rental amount due  Settlement entails an outflow of economic benefits as the amount will be settled by a payment of cash.

Accrued rent expense 24 Adjustment 31 Dec 20x1 Dr Rent expense (P/L) Cr Rent expense payable (SFP) Dec 20x1 adjusted balances: Rent expense (P/L) dr Rent expense payable(SFP) cr

Accrued rent expense Dec 20x1 Rent expense payable (SFP) cr What happens to the liability in 20x2? 1 Jan 20x2 Dr Rent expense payable (SFP) Cr Bank (SFP) Derecognise the asset – prepaid rent

Exam Technique: Expenses on credit 26 If the expense is incurred on a credit account like telephone or water & electricity we use the name of the creditor “Telkom” or “JHB municipality” otherwise we use “Rent payable” or “Rent paid in advance”

 Is Income receivable an asset or a liability?  Think of the definitions!!!  An Asset is a resource? There will be an inflow of economic benefits in the form of cash when the lessee pays the rent due.  Control as a result of a past event? The entity has a right to claim the rent ito the legal rental agreement. Failure on the part of the lessee to pay the rent due- past event.  Future economic benefits?  There will be an inflow of economic benefits in the form of cash when the lessee pays the rent due.  Therefore income receivable is an Asset

 Journals? Dr Rent income receivable (SFP)xxx CrRent income (P/L) xxx

 Is income received in advance an Asset or a Liability?  Think Definitions!!  A liability is a Present obligation?  The lessor has a present obligation ito the rental agreement to give the lessee the right to use the rental asset.  As a result of a past event?  Signing/entering into the rental agreement as well as the receipt of money  Settlement entails an outflow of economic benefits?  The settlement will take place when the lessee uses the rental asset.  Therefore the definition of a Liability is satisfied.

Dr Bank (SFP)xxx CrRent income received in advance(SFP) xxx Dr Rent income received in advance (SFP) xxx CrRent income (P/L) xxx