Adjusting the Accounts Part I

CHAPTER 3 Adjusting the Accounts ASSIGNMENT CLASSIFICATION TABLE Brief Exercises Learning Objectives Questions Do It! Exercises *1. Explain the accrual basis of accounting and the reasons for adjusting entries. 1, 2, 3, 4, 5, 6, 7, 8, 18 1, 2, 8 1 1, 2, 3, 4, 10, 11 *2. Prepare adjusting entries for deferrals. 8, 9, 10, 11, 12, 13, 18, 19, 20 2, 3, 4, 5, 6, 8 2 4, 5, 6, 7, 8, 9, 10, 11, 12, 13, 14, 15, 17, 19 1, 2, 3, 4, 5, 6 *3. Prepare adjusting entries for accruals. 8, 14, 15, 16, 17, 18, 19, 20 7, 8 3 4, 5, 6, 7, 8, 9, 10, 11, 12, 13, 14, 16, 17, 19 1, 2, 3, 4, 5, 6 *4. Describe the nature and purpose of an adjusted trial balance. 21 9, 10 4 6, 10, 11, 17, 18 1, 2, 3, 5, 6 *5. Prepare adjusting entries for the alternative treatment of deferrals. 22 11 20, 21 6 *6. Discuss financial reporting concepts. 23, 24, 25, 26, 27, 28 12, 13, 14, 15 22, 23, 24, 25, 26 Problems *Note: All asterisked Questions, Exercises, and Problems relate to material contained in the appendix to the chapter. ASSIGNMENT CHARACTERISTICS TABLE Problem Number Description Difficulty Level Time Allotted (min.) 1 Prepare adjusting entries, post to ledger accounts, and prepare an adjusted trial balance. Simple 40–50 2 Prepare adjusting entries, post, and prepare adjusted trial balance, and financial statements. Simple 50–60 3 Prepare adjusting entries and financial statements. Moderate 40–50 4 Prepare adjusting entries. Moderate 30–40 5 Journalize transactions and follow through accounting cycle to preparation of financial statements. Moderate 60–70 *6 Prepare adjusting entries, adjusted trial balance, and financial statements using appendix. Moderate 40–50 WEYGANDT FINANCIAL ACCOUNTING IFRS 4E CHAPTER 3 ADJUSTING THE ACCOUNTS Number LO BT Difficulty Time (min.) BE1 1 C Simple 4–6 BE2 1, 2 AN Moderate 6–8 BE3 2 AN Simple 3–5 BE4 2 AN Simple 3–5 BE5 2 AN Simple 2–4 BE6 2 AN Simple 2–4 BE7 3 AN Simple 4–6 BE8 1, 2, 3 AN Simple 5–7 BE9 4 AP Simple 4–6 BE10 4 AP Simple 2–4 BE11* 5 AN Moderate 3–5 BE12* 6 C Simple 3–5 BE13* 6 C Simple 2–4 BE14* 6 C Simple 2–4 BE15* 6 C Simple 1–2 DI1 1 K Simple 2–4 DI2 2 AN Simple 6–8 DI3 3 AN Simple 4–6 DI4 4 AN Moderate 20–30 EX1 1 C Simple 3–5 EX2 1 E Moderate 10–15 EX3 1 AP Simple 6–8 EX4 1, 2, 3 AN Simple 5–6 EX5 2, 3 AN Moderate 10–15 EX6 2, 3, 4 AN Moderate 10–12 EX7 2, 3 AN Moderate 8–10 EX8 2, 3 AN Moderate 8–10 EX9 2, 3 AN Simple 8–10 EX10 1–4 AN Moderate 8–10 EX11 1–4 AN Moderate 12–15 EX12 2, 3 AN Moderate 8–10 EX13 2, 3 AP Moderate 10–15 EX14 2, 3 AP Moderate 10–12 ADJUSTING THE ACCOUNTS (Continued) Number LO BT Difficulty Time (min.) EX15 2 AP Moderate 20–25 EX16 3 AP Moderate 15–20 EX17 2–4 AN Simple 8–10 EX18 4 AP Simple 12–15 EX19 2, 3 AN, S Moderate EX20* 5 AN Moderate 6–8 EX21* 5 AN Moderate 10–12 EX22* 6 C Simple 3–5 EX23* 6 C Simple 3–5 EX24* 6 C Simple 6–8 EX25* 6 AN Simple 10–20 EX26* 8–10 6 AN Simple 10–20 P1 2–4 AN Simple 40–50 P2 2–4 AN Simple 50–60 P3 2–4 AN Moderate 40–50 P4 2, 3 AN Moderate 30–40 P5 2–4 AN Moderate 60–70 P6 2–5 AN Moderate 40–50 CT1 2, 3, 4 AN Simple 10–15 CT2 — AN Simple 10–15 CT3 — AN Moderate 15–20 CT4 1–4 S Moderate 15–20 CT5 1–4 C Simple 10–15 Correlation Chart between Bloom’s Taxonomy, Learning Objectives and End-of-Chapter Exercises and Problems Learning Objective Knowledge Q3.8 Q3.9 Q3.10 Q3.11 Q3.12 Q3.13 Q3.19 Q3.20 E3.13 E3.15 Q3.18 BE3.2 BE3.3 BE3.4 BE3.5 BE3.6 BE3.8 DI3.2 E3.4 E3.5 E3.6 E3.7 E3.8 E3.9 E3.10 E3.11 E3.12 E3.14 E3.17 E3.19 P3.1 P3.2 P3.3 P3.4 P3.5 P3.6 E3.19 *3. Prepare adjusting entries for accruals. Q3.8 Q3.14 Q3.15 Q3.19 Q3.20 Q3.17 E3.13 E3.16 Q3.16 Q3.18 BE3.7 BE3.8 DI3.3 E3.4 E3.5 E3.6 E3.7 E3.8 E3.9 E3.10 E3.11 E3.12 E3.14 E3.17 E3.19 P3.1 P3.2 P3.3 P3.4 P3.5 P3.6 E3.19 *4. Describe the nature and purpose of an adjusted trial balance. Q3.21 BE3.9 BE3.10 E3.18 DI3.4 E3.6 E3.10 E3.11 E3.17 P3.1 P3.2 P3.3 P3.5 P3.6 *5. Prepare adjusting entries for the alternative treatment of deferrals. Q3.22 BE3.11 E3.20 E3.21 *6. Discuss financial reporting concepts E3.24 Q3. 24 Q3. 25 Q3. 26 Q3.27 Q3.28 Communication Q3.18 BE3.2 BE3.8 E3.4 E3.6 E3.10 Synthesis Prepare adjusting entries for deferrals. BE3.12 BE3.13 BE3.14 BE3.15 E3.22 E3.23 Q3.7 Q3.5 Q3.8 E3.3 BE3.1 E3.1 Analysis *2. Q3.23 Q3.1 Q3.2 Q3.3 Q3.4 Q3.6 Application Explain the accrual basis of accounting and the reasons for adjusting entries. Expand Your Critical Thinking DI3.1 Comprehension 1. E3.11 Evaluation E3.2 P3.6 E3.25 E3.26 Financial Reporting Comparative Analysis Decision Making Across the Organization Ethics Case ANSWERS TO QUESTIONS 1. (a) Under the time period assumption, an accountant is required to determine the relevance of each business transaction to specific accounting periods. (b) An accounting time period of one year in length is referred to as a fiscal year. A fiscal year that extends from January 1 to December 31 is referred to as a calendar year. Accounting periods of less than one year are called interim periods. 2. The two international financial reporting standards that relate to adjusting the accounts are: The revenue recognition principle, which states that revenue should be recognized in the accounting period in which the performance obligation is satisfied. The expense recognition principle, which states that efforts (expenses) be matched with accomplishments (revenues). 3. The law firm should recognize the revenue in April. The revenue recognition principle states that revenue should be recognized in the accounting period in which services are performed. 4. Information presented on an accrual basis is more useful than on a cash basis because it reveals relationships that are likely to be important in predicting future results. To illustrate, under accrual accounting, revenues are recognized when the performance obligation is satisfied so they can be related to the economic environment in which they occur. Trends in revenues are thus more meaningful. 5. Expenses of ₤4,500 should be deducted from the revenues in April. Under the expense recognition principle efforts (expenses) should be matched with accomplishments (revenues). 6. No, adjusting entries are required by the revenue recognition and expense recognition principles. 7. A trial balance may not contain up-to-date information for financial statements because: (1) Some events are not journalized daily because it is not efficient to do so. (2) The expiration of some costs occurs with the passage of time rather than as a result of daily transactions. (3) Some items may be unrecorded because the transaction data are not yet known. 8. The two categories of adjusting entries are deferrals and accruals. Deferrals consist of prepaid expenses and unearned revenues. Accruals consist of accrued revenues and accrued expenses. 9. In the adjusting entry for a prepaid expense, an expense is debited and an asset is credited. 10. No. Depreciation is the process of allocating the cost of an asset to expense over its useful life in a rational and systematic manner. Depreciation results in the presentation of the book value of the asset, not its fair value. 11. Depreciation expense is an expense account whose normal balance is a debit. This account shows the cost that has expired during the current accounting period. Accumulated depreciation is a contra asset account whose normal balance is a credit. The balance in this account is the depreciation that has been recognized from the date of acquisition to the statement of financial position date. 12. Equipment ............................................................................................... Rs18,000 Less: Accumulated Depreciation—Equipment ........................................ 6,000 Rs12,000 Questions Chapter 3 (Continued) *13. In the adjusting entry for an unearned revenue, a liability is debited and a revenue is credited. *14. Asset and revenue. An asset would be debited and a revenue would be credited. *15. An expense is debited and a liability is credited in the adjusting entry. *16. Net income was understated NT$6,000 because prior to adjustment, revenues are understated by NT$27,000 and expenses are understated by NT$21,000. The difference in this case is NT$6,000 (NT$27,000 – NT$21,000). *17. The entry is: Jan. 9 Salaries and Wages Payable ....................................................... Salaries and Wages Expense ...................................................... Cash..................................................................................... 2,000 4,000 6,000 *18. (a) Accrued revenues. (b) Unearned revenues. (c) Accrued expenses. (d) Accrued expenses or prepaid expenses. (e) Prepaid expenses. (f) Accrued revenues or unearned revenues. *19. (a) Salaries and Wages Payable. (b) Accumulated Depreciation. (c) Interest Expense. *20. Disagree. An adjusting entry affects only one statement of financial position account and one income statement account. *21. Financial statements can be prepared from an adjusted trial balance because the balances of all accounts have been adjusted to show the effects of all financial events that have occurred during the accounting period. *22. For Supplies Expense (prepaid expense): expenses are overstated and assets are understated. The adjusting entry is: Assets (Supplies) ..................................................................................... XX Expenses (Supplies Expense)............................................................ XX For Rent Revenue (unearned revenues): revenues are overstated and liabilities are understated. The adjusting entry is: Revenues (Rent Revenue) ....................................................................... XX Liabilities (Unearned Rent Revenue) .................................................. XX (d) Supplies Expense. (e) Service Revenue. (f) Service Revenue. **23. (a) The primary objective of financial reporting is to provide financial information that is useful to investors and creditors for making decisions about providing capital. (b) The fundamental qualitative characteristics are relevance and faithful representation. The enhancing qualities are comparabiIity, consistency, verifiability, timeliness, and understandability. *24. Gross is correct. Consistency means using the same accounting principles and accounting methods from period to period within a company. Without consistency in the application of accounting principles, it is difficult to determine whether a company is better off, worse off, or the same from period to period. Questions Chapter 3 (Continued) *25. Comparability results when different companies use the same accounting principles. Consistency means using the same accounting principles and methods from year to year within the same company. *26. The constraint is the cost constraint. The cost constraint allows accounting standard setters to weigh the cost that companies will incur to provide information against the benefit that financial statement users will gain from having the information available. *27. Accounting relies primarily on two measurement principles. Fair value is sometimes used when market price information is readily available. However, in many situations reliable market price information is not available. In these instances, accounting relies on cost as its basis. *28. The economic entity assumption states that every economic entity can be separately identified and accounted for. This assumption requires that the activities of the entity be kept separate and distinct from (1) the activities of its owners (the shareholders) and (2) all other economic entities. A shareholder of a company charging personal living costs as expenses of the company is an example of a violation of the economic entity assumption. SOLUTIONS TO BRIEF EXERCISES BRIEF EXERCISE 3.1 (a) Prepaid Insurance—to recognize insurance expired during the period. (b) Depreciation Expense —to account for the depreciation that has occurred on the asset during the period. (c) Unearned Service Revenue—to record revenue earned for services performed. (d) Interest Payable—to recognize interest accrued but unpaid on notes payable. BRIEF EXERCISE 3.2 (a) Type of Adjustment (b) Account Balances before Adjustment 1. Prepaid Expenses Assets Overstated Expenses Understated 2. Accrued Revenues Assets Understated Revenues Understated 3. Accrued Expenses Expenses Understated Liabilities Understated 4. Unearned Revenues Liabilities Overstated Revenues Understated Item BRIEF EXERCISE 3.3 Dec. 31 Supplies Expense ................................................ 4,600 Supplies (₤6,700 – ₤2,100) ........................... Supplies 6,700 12/31 12/31 Bal. 2,100 4,600 12/31 Supplies Expense 4,600 4,600 BRIEF EXERCISE 3.4 Dec. 31 12/31 Depreciation Expense.......................................... 3,750 Accumulated Depreciation— Equipment ................................................. Depreciation Expense 3,750 3,750 Accum. Depreciation—Equipment 12/31 3,750 Statement of Financial Position: Equipment ........................................................... Less: Accumulated Depreciation— Equipment ................................................ €30,000 3,750 €26,250 BRIEF EXERCISE 3.5 July 1 Dec. 31 Prepaid Insurance ........................................... 15,120 Cash ......................................................... 15,120 Insurance Expense [(₤15,120 ÷ 3) X 1/2] ........ Prepaid Insurance ................................... 2,520 Prepaid Insurance 7/1 15,120 12/31 12/31 Bal. 12,600 2,520 12/31 2,520 Insurance Expense 2,520 BRIEF EXERCISE 3.6 July 1 Cash ................................................................. Unearned Service Revenue .................... 15,120 Dec. 31 Unearned Service Revenue ............................ Service Revenue...................................... 2,520 Unearned Service Revenue 12/31 2,520 7/1 15,120 12/31 Bal. 12,600 15,120 Service Revenue 12/31 2,520 2,520 BRIEF EXERCISE 3.7 1. 2. 3. Dec. 31 31 31 Interest Expense .......................................... Interest Payable .................................... 400 Accounts Receivable ................................... Service Revenue ................................... 2,300 Salaries and Wages Expense ...................... Salaries and Wages Payable ................ 900 400 2,300 900 BRIEF EXERCISE 3.8 (a) Type of Adjustment Account Accounts Receivable Prepaid Insurance Accum. Depr.—Equipment Interest Payable Unearned Service Revenue Accrued Revenues Prepaid Expenses Prepaid Expenses Accrued Expenses Unearned Revenues (b) Related Account Service Revenue Insurance Expense Depreciation Expense Interest Expense Service Revenue BRIEF EXERCISE 3.9 KWUN PHOTOS Income Statement For the Year Ended December 31, 2020 (amounts in thousands) Revenues Service revenue .................................................... Expenses Salaries and wages expense ............................... ₩16,000 Rent expense ........................................................ 4,000 Insurance expense ............................................... 2,000 Supplies expense ................................................. 1,500 Depreciation expense........................................... 1,300 Total expenses .............................................. Net income.................................................................... ₩39,000 24,800 ₩14,200 BRIEF EXERCISE 3.10 KWUN PHOTOS Retained Earnings Statement For the Year Ended December 31, 2020 Retained earnings, January 1 ......................................................... Add: Net income............................................................................. ₩7,240 14,200 Less: Dividends .............................................................................. Retained earnings, December 31 ................................................... 7,000 ₩14,440 21,440 *BRIEF EXERCISE 3.11 (a) Apr. 30 (b) 30 Supplies ........................................................ Supplies Expense ................................. Service Revenue ........................................... 30,000 Unearned Service Revenue .................. *BRIEF EXERCISE 3.12 (a) (b) (c) (d) (e) (f) (g) (h) 4,000 Predictive value. Confirmatory value. Materiality. Complete. Free from error. Comparability. Verifiability. Timeliness. *BRIEF EXERCISE 3.13 (a) Relevant. (b) Faithful representation. (c) Consistency. 4,000 30,000 *BRIEF EXERCISE 3.14 (a) (b) (c) (d) 1. 2. 3. 4. Predictive value. Neutral. Verifiable. Timely. *BRIEF EXERCISE 3.15 (c) Financial statements should disclose all events and circumstances that would matter to users of financial statements. SOLUTIONS FOR DO IT! EXERCISES DO IT! 3.1 1. (d) 2. (e) 3. (h) 4. (c) DO IT! 3.2 1. 2. Insurance Expense....................................................... Prepaid Insurance ................................................. (To record insurance expired) 400 400 Supplies Expense (CHF2,500 – CHF1,600) ................. Supplies ................................................................. (To record supplies used) 900 3. Depreciation Expense .................................................. Accumulated Depreciation—Equipment.............. (To record monthly depreciation) 480 4. Unearned Service Revenue (CHF9,000 x 2/5) ............. Service Revenue .................................................... (To record revenue for services provided) 900 480 3,600 3,600 DO IT! 3.3 1. 2. 3. Salaries and Wages Expense ...................................... Salaries and Wages Payable................................. (To record accrued salaries) 1,300 1,300 Interest Expense (€20,000 x .06 x 1/12) ....................... Interest Payable ..................................................... (To record accrued interest) 100 Accounts Receivable ................................................... Service Revenue .................................................... (To record revenue for service provided) 2,400 100 2,400 DO IT! 3.4 (a) The net income is determined by adding revenues and subtracting expenses. The net income is computed as follows: Revenues Service revenue................................................ R$11,360 Rent revenue .................................................... 1,600 Total revenues .......................................... R$12,960 Expenses Salaries and wages expense ........................... 7,400 Rent expense.................................................... 1,200 Depreciation expense ...................................... 700 Utilities expense ............................................... 410 Supplies expense ............................................. 160 Interest expense ............................................... 40 Total expenses.......................................... 9,910 Net income ............................................................... R$ 3,050 (b) Total assets and liabilities are computed as follows: Assets Cash .................................................................. R$ 5,360 Accounts receivable ........................................ 580 Prepaid rent ...................................................... 1,120 Supplies ............................................................ 920 Equipment ........................................................ R$12,000 Less: Accumulated depreciation— Equipment .............................................. 700 11,300 Total assets............................................... R$19,280 Liabilities Notes payable................................................... Accounts payable ............................................ Unearned rent revenue .................................... Salaries and wages payable ............................ Interest payable ................................................ Total liabilities .......................................... R$ 4,000 790 400 300 40 R$ 5,530 DO IT! 3.4 (Continued) Retained earnings, April 1 ....................................... Add: Net income ...................................................... R$ –0– 3,050 Less: Dividends ....................................................... Retained earnings, June 30..................................... 500 R$2,550 3,050