Review of the Accounting Process

Review of the Accounting Process
Insert Book Cover Picture Review of the Accounting Process 2 Chapter 2: Review of the Accounting Process

Economic events cause changes in the financial position of a company.
The Basic Model Economic events cause changes in the financial position of a company. External events involve an exchange between the company and another entity. Internal events do not involve an exchange transaction but do affect the company’s financial position. The first objective of any accounting system is to identify the economic events that can be expressed in financial terms by the system. Economic events cause changes in the financial position of a company. External events involve an exchange between the company and another entity. Examples are purchasing merchandise inventory for cash and borrowing cash from a bank. Internal events do not involve an exchange transaction but do affect the company’s financial position. Examples are the depreciation of machinery and the use of supplies.

Learning Objectives LO1
Analyze routine economic events—transactions—and record their effects on a company’s financial position using the accounting equation format. LO1 Our first learning objective in Chapter 2 is to analyze routine economic events—transactions—and record their effects on a company’s financial position using the accounting equation format.

The Accounting Equation
A = L + OE - Owner Withdrawals + Owner Investments - Expenses - Losses + Revenue + Gains The accounting equation underlies the process used to capture the effects of economic events. Assets equal liabilities plus owners’ equity. Each event, or transaction, has a dual effect on the accounting equation.

Accounting Equation for a Corporation
A = L + SE + Retained Earnings + Paid-in Capital - Expenses - Losses + Revenues + Gains - Dividends Owners’ equity for a corporation, called shareholders’ equity, is classified by source as either paid-in capital or retained earnings. Retained earnings equals net income less distributions to shareholders (primarily dividends) since the inception of the corporation.

Account Relationships
Debits and credits affect the Balance Sheet Model as follows: A = L + PIC + RE Paid-in Capital Dr. - Cr. + Retained Earnings Dr. - Cr. + Assets Dr. + Cr. - Liabilities Dr. - Cr. + Part I The double-entry system is used to process transactions. In the double-entry system, debit means left side of an account and credit means right side of an account. Whether a debit or a credit represents an increase or decrease depends on the type of account. Accounts on the left side of the accounting equation (assets) are increased by debit entries and decreased by credit entries. Accounts on the right side of the equation(liabilities and shareholders’ equity) are increased by credit entries and decreased by debit entries. This arbitrary, but effective, procedure ensures that for each transaction the net impact on the left sides of the accounts always equals the net impact on the right sides of accounts. Part 2 Notice that increases and decreases in retained earnings are recorded indirectly in revenue, gain, expense, and loss accounts. For example, an expense represents a decrease in retained earnings, which requires a debit. That debit, however, is recorded in an appropriate expense account rather than in retained earnings itself. This allows the company to maintain a separate record of expenses incurred during an accounting period. The debit to retained earnings for the expense is recorded in a closing entry (reviewed later) at the end of the period, only after the expense total is reflected in the income statement. Similarly, an increase in retained earnings due to a revenue is recorded indirectly with a credit to a revenue account, which is later reflected as a credit to retained earnings. Revenues and Gains Dr. - Cr. + Expenses and Losses

Account Relationships
Debits and credits affect the Balance Sheet Model as follows: A = L + PIC + RE + R + G- E - L Permanent accounts represent the basic financial position elements of the accounting equation. Temporary accounts keep track of the changes in the retained earnings component of shareholders’ equity. Permanent accounts (assets, liabilities, paid-in capital and retained earnings) represent the basic financial position elements of the accounting equation. Temporary accounts (revenues, gains, expenses and losses) keep track of the changes in the retained earnings component of shareholders’ equity.

The Accounting Processing Cycle
Source documents Transaction Analysis Record in Journal Post to Ledger Financial Statements Adjusted Trial Balance Record & Post Adjusting Entries Unadjusted Trial Balance This slide presents the ten steps in the accounting processing cycle. Step one: Obtain information about transactions from source documents. Step two: Analyze the transaction. Step three: Record the transaction in a journal. Step four: Post from the journal to the general ledger. Step five: Prepare an unadjusted trial balance. Step six: Record adjusting entries and post to the general ledger accounts. Step seven: Prepare an adjusted trial balance. Step eight: Prepare the financial statements. Step nine: Close the temporary accounts to retained earnings (at year-end only). Step ten: Prepare a post-closing trial balance (at year-end only). The Accounting Processing Cycle Close Temporary Accounts Post-Closing Trial Balance

Record transactions using the general journal format.
Learning Objectives Record transactions using the general journal format. LO2 The second learning objective in Chapter 2 is to record transactions using the general journal format.

Accounting Processing Cycle
On January 1, 2007, $40,000 was borrowed from a bank and a note payable was signed. Two accounts are affected: Cash (an asset) increases by $40,000. Notes Payable (a liability) increases by $40,000. Part I On January 1, 2007, forty thousand dollars was borrowed from a bank and a note payable was signed. Two accounts are affected: Cash, an asset account, increases and Notes Payable, a liability account, increases. Let’s prepare the journal entry. Part II The journal entry to record this transaction is a debit to the Cash account and a credit to the Notes Payable account. Part III Account numbers are references for posting to the General Ledger. We will use this column when we learn about the posting process. Account numbers are references for posting to the General Ledger. Prepare the journal entry.

General Ledger The “T” account is a shorthand used by
The general ledger is a collection of accounts. Increases and decreases in each element of a company’s financial statements are recorded in these accounts. A separate account is maintained for individual assets, liabilities, retained earnings, paid-in capital, revenues, gains, expenses, and losses. An account includes the account title, an account number, and columns to record increases, decreases, the cumulative balance, and the date. For instructional purposes we use T-accounts instead of formal ledger accounts. The “T” account is a shorthand used by accountants to analyze transactions. It is not part of the bookkeeping system.

Learning Objectives LO3
Post the effects of journal entries to T-accounts and prepare an unadjusted trial balance. LO3 The third learning objective in Chapter 2 is to post the effects of journal entries to T-accounts and prepare an unadjusted trial balance.

Posting Journal Entries
On July 1, 2006, the owners invest $60,000 in a new business, Dress Right Clothing Corporation. On July 1, 2006, the owners invest sixty thousand dollars in a new business, Dress Right Clothing Corporation. We record this entry with a debit to Cash and a credit to Common Stock. Let’s post the debit portion of this entry to the Cash account. Post the debit portion of the entry to the Cash ledger account.

1 First, we find the Cash ledger account.

2 3 Second, we enter the date of the transaction in the ledger account. Third, we enter the debit amount of the journal entry in the Cash ledger account.

4 Fourth, we enter the page number of the General Ledger in the Posting Reference column of the ledger. Fifth, we determine the cumulative balance in the Cash account. 5

6 Sixth, we enter the Cash account number in the Posting Reference column of the General Leger.

Post the credit portion of the entry to the Common Stock ledger account. 1 We follow the same procedure to post the credit portion of the entry. First, find the Common Stock account.

2 3 Second, we enter the date of the transaction in the ledger account. Third, we enter the credit amount of the journal entry in the Common Stock ledger account.

4 Fourth, we enter the page number of the General Ledger in the Posting Reference column of the ledger. Fifth, we determine the cumulative balance in the Common Stock account. 5

6 Sixth, we enter the Common Stock account number in the Posting Reference column of the General Leger.

After recording all entries for the period, Dress Right’s Trial Balance would be as follows:
A Trial Balance is a listing of all accounts and their balances at a point in time. Here is the Unadjusted Trial Balance after recording all the entries for the period for Dress Right A Trial Balance is a listing of all accounts and their balances at a point in time. Its purpose is to check for completeness and to prove that the sum of the accounts with debit balances equals the sum of the accounts with credit balances. Debits = Credits

Additional Consideration
Perpetual Inventory System Periodic Inventory System Discussed in more depth in Chapters 8 & 9. Inventory account is continually updated to reflect purchases and sales. Cost of goods sold account is continually updated to reflect sales. Purchases account reflects purchases of inventory. Cost of goods sold and inventory are adjusted at period end. In a perpetual inventory system, the inventory account is continually updated to reflect purchases and sales, and the Cost of goods sold account is continually updated to reflect sales. In a periodic inventory system, the Purchases account reflects purchases of inventory, and the Cost of goods sold and inventory accounts are adjusted at period end. The differences in these two inventory systems will be discussed in more depth in Chapters eight and nine.

Adjusting Entries At the end of the period, some transactions or events remain unrecorded. Because of this, several accounts in the ledger need adjustments before their balances appear in the financial statements. At the end of the period, some transactions or events remain unrecorded. Because of this, several accounts in the ledger need adjustments before their balances appear in the financial statements.

Learning Objectives LO4 LO5
Identify and describe the different types of adjusting journal entries. LO4 Determine the required adjustments, record adjusting journal entries in general journal format, and prepare an adjusted trial balance. LO5 The fourth and fifth learning objectives in Chapter 2 are to identify and describe the different types of adjusting journal entries and to determine the required adjustments, record adjusting journal entries in general journal format, and prepare an adjusted trial balance.

Transactions where cash is paid or received before a related expense or revenue is recognized.
Adjusting entries are necessary for three situations: Prepayments, Accruals, and Estimates. Prepayments are transactions where cash is paid or received before a related expense or revenue is recognized. Accruals are transactions where cash is paid or received after a related expense or revenue is recognized. Transactions where cash is paid or received after a related expense or revenue is recognized.

Items paid for in advance of receiving their benefits
Prepaid Expenses Asset Expense Unadjusted Balance Credit Adjustment Debit Adjustment Today, I will pay for my first 6 months’ rent. Prepaid expenses represent assets recorded when a cash disbursement creates benefits beyond the current reporting period. The adjusting entry required for a prepaid expense is a debit to an expense and a credit to an asset. Prepaid Expenses Items paid for in advance of receiving their benefits

Prepare the adjusting entry.
Prepaid Expenses Assume that on July 31, 2006, Dress Right determines that at the end of July $1,200 of supplies remains. Let’s look at the adjusting journal entry needed on July 31, 2006. Prepare the adjusting entry. Assume that on July 31, 2006, Dress Right determines that at the end of July one thousand two hundred dollars of supplies remains. Let’s look at the adjusting journal entry needed on July 31, 2006. Dress Right would debit Supplies Expense and credit Supplies. $2,000 - $1,200 = $800 supplies used

After posting, the accounts look like this:
Prepaid Expenses After posting, the accounts look like this: After this entry is posted to the ledger accounts, the Supplies account is reduced to a one thousand two hundred dollars debit balance, and the Supplies Expense account has an eight hundred dollar debit balance.

Asset Cost - Salvage Value
Depreciation Depreciation is the process of computing expense by allocating the cost of plant and equipment over their expected useful lives. Straight-Line Depreciation Expense = Asset Cost - Salvage Value Useful Life Depreciation is the process of computing expense by allocating the cost of plant and equipment over their expected useful lives. The adjusting entry for depreciation is a specific type of a prepayment adjusting entry. Straight-line depreciation is calculated as asset cost minus salvage value divided by the useful life.

Depreciation Recall the Furniture and Fixtures for $12,000 listed on Dress Right’s unadjusted trial balance. Assume the following: Let’s calculate the depreciation expense for the month ended July 31, 2006. Recall the Furniture and Fixtures for twelve thousand dollars that was listed on Dress Right’s unadjusted trial balance. Assume the following: the asset cost is twelve thousand dollars, no salvage value, and a useful life of sixty months. Let’s calculate the depreciation expense for the month ended July 31, 2006.

Now, prepare the adjusting entry for July 31, 2006.
Depreciation Recall the Furniture and Fixtures for $12,000 listed on Dress Right’s unadjusted trial balance. Assume the following: The depreciation expense for one month is two hundred dollars. It is calculated as twelve thousand dollars divided by sixty months. Now, prepare the adjusting entry for July 31, 2006. 2006 Depreciation Expense $12, $0 60 months = = $200 Now, prepare the adjusting entry for July 31, 2006.

Let’s see how the accounts would look after posting!
Depreciation Contra Asset Let’s see how the accounts would look after posting! The depreciation journal entry is a debit to Depreciation Expense and a credit to Accumulated Depreciation—Furniture and Fixtures for two hundred dollars. Accumulated Depreciation is a contra asset account to the asset account Furniture and Fixtures. The normal balance in a contra asset account will be a credit, that is, “contra,” or opposite, to the normal debit balance in an asset account. Let’s see how the accounts would look after posting.

Depreciation After posting, the accounts look like this: After posting the depreciation adjusting entry, the Depreciation Expense account has a two hundred dollar debit balance and the Accumulated Depreciation account has a two hundred dollar credit balance. Notice that the balance in the Furniture and Fixtures account is unchanged by the adjusting entry.

Unearned Revenues Revenue Liability “Go Big Blue”
Debit Adjustment Unadjusted Balance Credit Adjustment Buy your season tickets for all home basketball games NOW! Unearned revenues are created when a company receives cash from customers in one period for goods or services that are to be provided in a future period. Unearned revenues represent liabilities. The adjusting entry required when unearned revenues are earned is a debit to a liability and a credit to revenue. Unearned Revenue Cash received in advance of performing services “Go Big Blue”

First, let’s prepare the entry for July 16.
Unearned Revenues For Dress Right Corporation, the only unearned revenue in the trial balance is unearned rent revenue. On July 16 Dress Right received $1,000 in advance for the first two months’ rent. First, let’s prepare the entry for July 16. For Dress Right Corporation, the only unearned revenue in the trial balance is unearned rent revenue. On July 16 Dress Right received one thousand dollars in advance for the first two months’ rent. First, let’s prepare the entry for July 16 by recording a debit to Cash and a credit to Unearned Rent Revenue, a liability account. Liability Account

Now, let’s prepare the adjusting entry for July 31.
Unearned Revenues For Dress Right Corporation, the only unearned revenue in the trial balance is unearned rent revenue. On July 16 Dress Right received $1,000 in advance for the first two months’ rent. Now, let’s prepare the adjusting entry for July 31. Now, let’s prepare the adjusting entry for July 31. The adjusting entry is a debit to Unearned Rent Revenue and a credit to Rent Revenue for two hundred and fifty dollars to record the rent earned for approximately one-half of one month’s rent.

Unearned Revenues After posting, the accounts look like this: After posting this adjusting entry, the Unearned Rent Revenue account has a seven hundred fifty dollar balance and the Rent Revenue account has a two hundred fifty dollar balance.

Alternative Approach to Record Prepayments
Prepaid Expenses Record initial cash payments as follows: Expense $$$ Cash $$$ Adjusting Entry Record the amount for the prepaid expense as follows: Prepaid expense $$ Expense $$ Unearned Revenue Record initial cash receipts as follows: Cash $$$ Revenue $$$ Adjusting Entry Record the amount for the unearned liability as follows: Revenue $$ Unearned revenue $$ The same end result can be achieved for prepayments by recording the external transaction directly into an expense or revenue account. The adjusting entry then records the unexpired prepaid expense (asset) or unearned revenue (liability) as of the end of the period. Under either approach, the net effect of the transactions are the same.

Costs incurred in a period that are both unpaid and unrecorded
Accrued Liabilities Expense Liability Debit Adjustment Credit Adjustment I won’t pay you until the job is done! Accrued Liabilities Costs incurred in a period that are both unpaid and unrecorded Accrued liabilities represent liabilities recorded when an expense has been incurred prior to cash payment. The adjusting entry required to record an accrued liability is a debit to an expense and a credit to a liability.

On July 31, 2006, the employees have earned salaries of $5,500.
Accrued Liabilities Last pay date 7/20/06 Next pay date 8/2/06 7/1/06 7/31/06 Month end Record adjusting journal entry. On July 31, 2006, the employees have earned salaries of $5,500. Part I The last pay date for Dress Right was July 20 when they paid five thousand dollars to employees for the first half of the month. Salaries for the second half of July amount to five thousand five hundred dollars and will be paid on August 2. At July 31, the company has incurred an expense for services provided to it by its employees. Also, there exists an obligation at July 31 to pay the salaries earned by the employees. Part II The adjusting entry to record this is a debit to Salaries Expense and a credit to Salaries Payable.

Accrued Liabilities After posting, the accounts look like this: After posting this adjusting entry, the Salaries Expense account has a debit balance of ten thousand five hundred dollars and the Salaries Payable account has a credit balance of five thousand five hundred dollars.

in May for your April 15 tax return.
Accrued Receivables Asset Revenue Debit Adjustment Credit Adjustment Yes, you can pay me in May for your April 15 tax return. Accrued receivables involve situations when the revenue is earned in a period prior to the cash receipt. The adjusting entry required to record an accrued revenue is a debit to an asset, a receivable, and a credit to revenue. Accrued Receivables Revenues earned in a period that are both unrecorded and not yet received

P × R × T Accrued Receivables Interest = $200
Assume that Dress Right loaned another corporation $30,000 at the beginning of August. Terms of the note call for the payment of principal, $30,000, and interest at 8% in three months. First, let’s determine the amount of interest to accrue at August 31, 2006. P × R × T $30, /12 Assume that Dress Right loaned another corporation thirty thousand dollars at the beginning of August. Terms of the note call for the payment of principal, thirty thousand dollars, and interest at eight percent in three months. First, let’s determine the amount of interest to accrue at August 31, 2006. Interest is calculated as principal times rate times time. Here, we have thirty thousand dollars times eight percent times one twelfth. The solution is two hundred dollars of interest earned but not yet received. Interest = $200

Now, let’s prepare the adjusting entry for August 31, 2006.
Accrued Receivables Assume that Dress Right loaned another corporation $30,000 at the beginning of August. Terms of the note call for the payment of principal, $30,000, and interest at 8% in three months. Now, let’s prepare the adjusting entry for August 31, 2006. Now, let’s prepare the adjusting entry for August 31, The adjusting entry is a debit to Interest Receivable and a credit to Interest Revenue.

Accrued Receivables After posting, the accounts look like this: After posting this adjusting entry, the Interest Receivable account has a debit balance of two hundred dollars and the Interest Revenue account has a credit balance of two hundred dollars.

Estimates Uncollectible accounts and depreciation of fixed assets are estimated. An estimated item is a function of future events and developments. $ Accountants often must make estimates in order to comply with the accrual accounting model. Examples of estimates include the calculation of depreciation expense and the calculation of bad debt expense. We have already looked at adjusting entries for depreciation expense, so let’s look at the adjusting entry to record bad debt expense for uncollectible accounts receivable.

Estimates The estimate of bad debt expense at the end of the period is an example of an adjusting entry that requires an estimate. Assume that Dress Right’s management determines that of the $2,000 of accounts receivable recorded at July 31, 2006, only $1,500 will ultimately be collected. Prepare the adjusting entry for July 31, 2006. Part I Assume that Dress Right’s management determines that of the two thousand dollars of accounts receivable recorded at July 31, 2006, only one thousand five hundred dollars will ultimately be collected. Part II The adjusting entry for July 31, 2006, to record this information is a debit to Bad Debt Expense and a credit to Allowance for Uncollectible Accounts for five hundred dollars. The Allowance for Uncollectible Accounts is a contra asset account related to Accounts Receivable. In the balance sheet, Accounts Receivable is shown net of the allowance account.

This is the Adjusted Trial Balance for Dress Right after all adjusting entries have been recorded and posted. Dress Right will use these balances to prepare the financial statements. This is the Adjusted Trial Balance for Dress Right after all adjusting entries have been recorded and posted. Dress Right will use these balances to prepare the financial statements.

Describe the four basic financial statements.
Learning Objectives Describe the four basic financial statements. LO6 The sixth learning objective in Chapter 2 is to describe the four basic financial statements.

The income statement is a change statement that summarizes the profit-generating transactions that caused shareholders’ equity (retained earnings) to change during the period. The income statement summarizes the results of operating activities of the company.

The balance sheet is a position statement that presents an organized list of assets, liabilities, and equity at a particular point in time. Here is the asset section of Dress Right’s balance sheet. The balance sheet presents the financial position of the company on a particular date.

Here is the liabilities and shareholders’ equity section of Dress Right’s balance sheet. Notice that the basic accounting equation was in balance: assets equals liabilities plus equity. The balance sheet presents the financial position of the company on a particular date.

The purpose of the statement of cash flows is to summarize the transactions that caused cash to change during the period. This statement classifies all transactions affecting cash into one of three categories: (1) Operating Activities, (2) Investing Activities, and (3) Financing Activities. We will discuss this statement more in Chapters 4 and 21. The statement of cash flows discloses the changes in cash during a period.

The statement of shareholders’ equity discloses the sources of changes in the permanent shareholders’ equity accounts. The statement of shareholders’ equity presents the changes in permanent shareholder accounts.

Explain the closing process.
Learning Objectives Explain the closing process. LO7 The seventh learning objective in Chapter 2 is to explain the closing process.

The Closing Process Resets revenue, expense and dividend account balances to zero at the end of the period. Helps summarize a period’s revenues and expenses in the Income Summary account. Identify accounts for closing. Record and post closing entries. Recall that step 9 of the accounting processing cycle is to close temporary accounts to retained earnings. The closing process serves a dual purpose. First, the temporary accounts are reduced to zero balances, ready to measure activity in the upcoming accounting period. Second, these temporary account balances are closed (transferred) to retained earnings to reflect the changes that have occurred in that account during the period. Prepare post-closing trial balance.

Temporary and Permanent Accounts
Temporary Accounts Revenues Income Summary Expenses Dividends Permanent Accounts Assets Liabilities Shareholders’ Equity The closing process applies only to temporary accounts. The closing process applies only to temporary accounts. Often, an intermediate step is to close revenues and expenses to income summary; then income summary is closed to retained earnings. The use of the income summary account is just a bookkeeping convenience that provides a check that all temporary accounts have been properly closed (that is, the balance in income summary equals net income or loss).

Let’s prepare the closing entries for Dress Right.
Close Revenue accounts to Income Summary. Close Expense accounts to Income Summary. Close Income Summary account to Retained Earnings. Here are the steps in the closing process: Close revenues to income summary. Close expenses to income summary; close income summary to retained earnings. A fourth closing step is need to close dividends to retained earnings if a dividends account exists. Let’s prepare the closing entries for Dress Right.

Close Revenue accounts to Income Summary.
Using the adjusted trial balance, we can locate the account balances needed for the closing entries. First, close revenues to income summary.

Close Revenue Accounts to Income Summary
The first closing entry transfers the revenue account balances to income summary. Because revenue accounts have credit balances, they are debited to bring them to zero. Now, let’s look at the ledger accounts after posting this closing entry. Now, let’s look at the ledger accounts after posting this closing entry.

Close Revenue Accounts to Income Summary
After this closing entry is posted, both revenue accounts have a zero balance.

Close Expense accounts to Income Summary.
Step two is to close expense accounts to income summary.

Close Expense Accounts to Income Summary
The second closing entry transfers the expense account balances to income summary. Because expense accounts have debit balances, they are credited to bring them to zero. Now, let’s look at the ledger accounts after posting this closing entry. Now, let’s look at the ledger accounts after posting this closing entry.

Close Expense Accounts to Income Summary
After this closing entry is posted, the expense accounts have a zero balance and the income summary account has a credit balance equal to net income for the period of two thousand four hundred seventeen dollars. Net Income

Close Income Summary to Retained Earnings.
The third step in the closing process is to close income summary to retained earnings.

Close Income Summary to Retained Earnings
The third closing entry transfers the income summary account balance to retained earnings. Because the income summary account has a credit balance, it is debited to bring it to zero. Now, let’s look at the ledger accounts after posting this closing entry. Now, let’s look at the ledger accounts after posting this closing entry.

Close Income Summary to Retained Earnings
After posting this closing entry, the temporary accounts have zero balances and retained earnings has increased by the amount of the net income.

Post-Closing Trial Balance
Lists permanent accounts and their balances. After the closing entries are posted to the ledger accounts, a post-closing trial balance is prepared. The purpose of this trial balance is to verify that the closing entries were prepared and posted correctly and that the accounts are now ready for next year’s transactions. Total debits equal total credits.

Convert from cash basis net income to accrual basis net income.
Learning Objectives Convert from cash basis net income to accrual basis net income. LO8 The eighth learning objective in Chapter 2 is to convert from cash basis net income to accrual basis net income.

Conversion From Cash Basis to Accrual Basis
Adjusting entries, for the most part, are conversions from cash to accrual. Let’s look at an example. Accountants sometimes are called upon to convert cash basis financial statements to accrual basis financial statements, particularly for small businesses. Adjusting entries, for the most part, are conversions from cash to accrual. Let’s look at some more examples.

Jeter, Inc. paid $20,000 cash for insurance during the current period. On Jan. 1, Prepaid Insurance was $5,000, and on Dec. 31, the account balance was $3,000. Determine Insurance Expense for the period. Jeter, Inc. paid twenty thousand dollars cash for insurance during the current period. On Jan. 1, Prepaid Insurance was five thousand dollars, and on Dec. 31, the account balance was three thousand dollars. Determine Insurance Expense for the period.

Jeter, Inc. paid $20,000 cash for insurance during the current period. On Jan. 1, Prepaid Insurance was $5,000, and on Dec. 31, the account balance was $3,000. Using the format provided, you can see that insurance expense must be twenty two thousand dollars.

Use of a Worksheet Appendix 2A Appendix 2A: Use of a Worksheet

Let’s look at the completed worksheet for Dress Right.
Use of a Worksheet A worksheet can be used as a tool to facilitate the preparation of adjusting and closing entries and the financial statements. Steps to Follow for Worksheet Completion: Enter account titles in column 1 and the unadjusted trial balances in columns 2 and 3. Determine end-of-period adjusting entries and enter them in columns 4 and 5. Add or deduct the effects of the adjusting entries on the account balances and enter in columns 6 and 7. Transfer the temporary retained earnings account balances to columns 8 and 9. Transfer the balances in the permanent accounts to columns 10 and 11. A worksheet can be used as a tool to facilitate the preparation of adjusting and closing entries and the financial statements. It is an informal tool only and is not part of the accounting system. The worksheet is used after and instead of step 5 in the accounting processing cycle. Here are the steps to follow for worksheet completion: Step 1: Enter account titles in column 1 and the unadjusted trial balances in columns 2 and 3. Step 2: Determine end-of-period adjusting entries and enter them in columns and 5. Step 3: Add or deduct the effects of the adjusting entries on the account balances and enter in columns 6 and 7. Step 4: Transfer the temporary retained earnings account balances to columns and 9. Step 5: Transfer the balances in the permanent accounts to columns 10 and 11. Let’s look at the completed worksheet for Dress Right. Let’s look at the completed worksheet for Dress Right.

Here is the completed worksheet for Dress Right Clothing Corporation
Here is the completed worksheet for Dress Right Clothing Corporation. You may want to take a few minutes and go review the steps provided on the previous slide and work your way through the worksheet preparation.

Reversing Entries Appendix 2B Appendix 2B: Reversing Entries

Reversing Entries Reversing entries remove the effects of some of the adjusting entries made at the end of the previous reporting period for the sole purpose of simplifying journal entries made during the new period. Reversing entries are optional and are used most often with accruals. Let’s consider the following accrual adjusting entry made by Dress Right. Accountants sometimes use reversing entries at the beginning of a reporting period. Reversing entries remove the effects of some of the adjusting entries made at the end of the previous reporting period for the sole purpose of simplifying journal entries made during the new period. Reversing entries are optional and are used most often with accruals. Let’s consider the following accrual adjusting entry made by Dress Right: debit Salaries Expense and credit Salaries Payable.

Reversing Entries If reversing entries are not used, when salaries actually are paid in August, the accountant needs to remember to debit salaries payable and not salaries expense. If reversing entries are not used, when salaries actually are paid in August, the accountant needs to remember to debit salaries payable and not salaries expense.

Reversing Entries If reversing entries are used, the following reversing entry is made on August 1, This entry reduces the salaries payable account to zero and reduces the salaries expense account by $5,500. If reversing entries are used, the following reversing entry is made on August 1, 2006: debit Salaries Payable and credit Salaries Expense. This entry reduces the salaries payable account to zero and reduces the salaries expense account by $5,500.

Reversing Entries When salaries actually are paid in August, the debit is to salaries expense, thus increasing the account by $5,500. We can see that the ending balances in the accounts are identical whether or not reversing entries are used. When salaries actually are paid in August, the debit is to salaries expense, thus increasing the account by five thousand five hundred dollars. We can see that the ending balances in the accounts are identical whether or not reversing entries are used.

Subsidiary Ledgers and Special Journals
Appendix 2C Appendix 2C: Subsidiary Ledgers and Special Journals

Subsidiary Ledgers Subsidiary ledgers contain a group of subsidiary accounts associated with particular general ledger control accounts. Subsidiary ledgers are commonly used for accounts receivable, accounts payable, plant and equipment, and investments. For example, there will be a subsidiary ledger for accounts receivable that keeps track of the increases and decreases in the accounts receivable balance for each of the company’s customers purchasing goods and services on credit. Accounting systems employ a subsidiary ledger which contains a group of subsidiary accounts associated with particular general ledger control accounts. Subsidiary ledgers are commonly used for accounts receivable, accounts payable, plant and equipment, and investments. For example, there will be a subsidiary ledger for accounts receivable that keeps track of the increases and decreases in the accounts receivable balance for each of the company’s customers purchasing goods and services on credit. After all of the postings are made from the appropriate journals, the balance in the accounts receivable control account should equal the sum of the balances in the accounts receivable subsidiary ledger accounts.

Let’s look at some special journals.
Special journals are used to capture the dual effect of repetitive types of transactions in debit/credit form. Special journals simplify the recording process in the following ways: Journalizing the effects of a particular transaction is made more efficient through the use of specifically designed formats. Individual transactions are not posted to the general ledger accounts but are accumulated in the special journals and a summary posting is made on a periodic basis. The responsibility for recording journal entries for the repetitive types of transactions is placed on individuals who have specialized training in handling them. For most external transactions, special journals are used to capture the dual effect of the transaction in debit/credit form. Examples of common special journals are cash receipts journals, cash disbursements journals, sales journals, and purchases journal. Special journals simplify the recording process in the following ways: Journalizing the effects of a particular transaction is made more efficient through the use of specifically designed formats. Individual transactions are not posted to the general ledger accounts but are accumulated in the special journals and a summary posting is made on a periodic basis. The responsibility for recording journal entries for the repetitive types of transactions is placed on individuals who have specialized training in handling them. Let’s look at some special journals. Let’s look at some special journals.

Sales Journal Sales journals record all credit sales. Every entry in the sales journal has the same effect on the accounts; the sales revenue account is credited and the accounts receivable control account is debited. Other columns capture information needed for updating the accounts receivable subsidiary ledger. Sales journals record all credit sales. Every entry in the sales journal has the same effect on the accounts; the sales revenue account is credited and the accounts receivable control account is debited. Other columns capture information needed for updating the accounts receivable subsidiary ledger.

Accounts Receivable Subsidiary Ledger
Sales Journal The total of all the transactions in the sales journal is posted to the Accounts Receivable control account and to the Sales Revenue account. Each individual transaction is also posted to the Accounts Receivable subsidiary ledger for each customer. Accounts Receivable Subsidiary Ledger

Cash Receipts Journal Cash receipts journals record all cash receipts, regardless of the source. Every entry in the cash receipts journal produces a debit to the cash account with the credit to various other accounts. Cash receipts journals record all cash receipts, regardless of the source. Every entry in the cash receipts journal produces a debit to the cash account with the credit to various other accounts.

Accounts Receivable Subsidiary Ledger
Cash Receipts Journal Because every transaction in the cash receipts journal results in a debit to cash, a column is provided for that account. At the end of August, an eleven thousand seven hundred fifty dollar debit is posted to the general ledger cash account. Similar postings occur for the accounts receivable and the sales revenue column totals. Each individual transaction that affects accounts receivable is also posted to the Accounts Receivable subsidiary ledger for each customer. The last two columns of this journal provide information needed to post individual transactions to uncommon accounts that may be affected by a cash receipt. Accounts Receivable Subsidiary Ledger

End of Chapter 2 End of Chapter 2.

Review of the Accounting Process

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Review of the Accounting Process

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