Chapter 3

ADJUSTING
THE ACCOUNTS
CHAPTER STUDY OBJECTIVES
After studying this chapter, you should be able to:
1. Explain the time period assumption.
2. Explain the accrual basis of accounting.
3. Explain the reasons for adjusting entries.
4. dentify the major types of adjusting entries.
!. "repare adjusting entries for deferrals.
#. "repare adjusting entries for accruals.
$. %escribe the nature and purpose of an adjusted trial balance.
&'. "repare adjusting entries for the alternati(e treatment of prepayments.
*Note: All asterise! )&* items relate to material contained in the Appendix to the chapter.
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PREVIE" O# CHAPTER 3
n +hapter 2 ,e examined the recording process through the preparation of the trial balance.
-efore ,e ,ill be ready to prepare financial statements from the trial balance, additional steps
need to be ta.en. -efore financial statements can be prepared, /uestions relating to the
recognition of re(enues and expenses must be ans,ered. 0ith the ans,ers in hand, the rele(ant
account balances can then be adjusted. 1he organi2ation and content of the chapter are as
follo,s:
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Scan Study Objectives
Read Preview
Read Chapter Review
Work Demonstration Problem
Answer True!alse Statements
Answer "ultipleChoice #uestions
"atch Terms and De$initions
Solve %&ercises
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CHAPTER REVIE"
Ti,e$Perio! Ass&,ptio'
1. )3.4. 1* 1he ti,e perio! -or perio!i.it(/ ass&,ptio' assumes that the economic life of a
business can be di(ided into artificial time periods.
2. Accounting time periods are generally a month, a /uarter, or a year. 1he accounting time
period of one year in length is usually .no,n as a )is.a0 (ear1
A..r&a0 Basis o) A..o&'ti'2
3. )3.4. 2* 1he re(enue recognition and matching principles are used under the a..r&a0 3asis
o) a..o&'ti'21 5nder .ash 3asis a..o&'ti'24 re(enue is recorded only ,hen cash is
recei(ed and expenses are recorded only ,hen paid.
4. 6enerally accepted accounting principles re/uire accrual basis accounting rather than cash
basis accounting because the cash basis of accounting often leads to misleading financial
statements.
Re5e'&e Re.o2'itio' Pri'.ip0e
!. 1he re5e'&e re.o2'itio' pri'.ip0e states that re(enue should be recogni2ed in the
accounting period in ,hich it is earned.
The 6at.hi'2 Pri'.ip0e
#. 1he ,at.hi'2 pri'.ip0e dictates that efforts )expenses* be matched ,ith accomplishments
)re(enues*.
A!7&sti'2 E'tries
$. )3.4. 3* Adjusting entries are made in order for:
a. 7e(enues to be recorded in the period in ,hich they are earned, and for expenses to be
recogni2ed in the period in ,hich they are incurred.
b. 1he re(enue recognition and matching principles to be follo,ed.
'. )3.4. 4* Adjusting entries are re/uired e(ery time financial statements are prepared.
Adjusting entries can be classified as )a* !e)erra0s )prepaid expenses or unearned re(enue*
or )b* a..r&a0s )accrued re(enues or accrued expenses*.
De)erra0s
8. )3.4. !* "repaid expenses are expenses paid in cash and recorded as assets before they
are used or consumed.
a. "repaid expenses expire ,ith the passage of time or through use and consumption.
b. An asset$e8pe'se a..o&'t re0atio'ship exists ,ith prepaid expenses.
c. "rior to adjustment, assets are o5erstate! and e8pe'ses are &'!erstate!1
d. 1he adjusting entry results in a debit to an expense account and a credit to an asset
account.
e. Examples of prepaid expenses include supplies, insurance, and depreciation.
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f. 1o illustrate a prepaid adjusting entry, assume on 4ctober 1, 9ubit2 +ompany pays
:2,4;; cash to 3andy nsurance +o. for a one<year insurance policy effecti(e 4ctober 1.
1he adjusting entry at 4ctober 31 is:
nsurance Expense ):2,4;; = 1>12*.......................... 2;;
"repaid nsurance.............................................. 2;;
1;. Depre.iatio' is the process of allocating the cost of an asset to expense o(er its useful life
in a rational and systematic manner.
a. 1he purchase of e/uipment or a building is (ie,ed as a long<term prepayment of
ser(ices and, therefore, is allocated in the same manner as other prepaid expenses.
b. %epreciation is an estimate rather than a factual measurement of the cost that has
expired.
c. n recording depreciation, %epreciation Expense is debited and a contra asset account,
Accumulated %epreciation, is credited.
d. n the balance sheet, Accumulated %epreciation is offset against the asset account. 1he
difference bet,een the cost of the asset and its related accumulated depreciation is
referred to as the 3oo 5a0&e of the asset.
e. 1o illustrate an adjusting entry for depreciation, assume 7esch +o. purchases a machine
for :#,;;; cash on ?anuary 1, 2;;'. Assuming that annual depreciation is :1,2;;, the
adjusting entry at %ecember 31, 2;;' is:
%epreciation Expense............................................... 1,2;;
Accumulated %epreciation@achinery............. 1,2;;
11. U'ear'e! re5e'&es are re(enues recei(ed and recorded as liabilities before they are
earned.
a. 5nearned re(enues are subse/uently earned by rendering ser(ice to a customer.
b. A 0ia3i0it($re5e'&e a..o&'t re0atio'ship exists ,ith unearned re(enues.
c. "rior to adjustment, 0ia3i0ities are o5erstate! and re5e'&es are &'!erstate!1
d. 1he adjusting entry results in a debit to a liability account and a credit to a re(enue
account.
e. Examples of unearned re(enues include rent, maga2ine subscriptions, and customer
deposits for future ser(ice.
f. 1o illustrate an unearned re(enue adjusting entry, assume on 4ctober 1, 3choen +o.
recei(es :3,;;; cash from a renter in payment of monthly rent for the period 4ctober
through %ecember. At 4ctober 31, the adjusting entry to record the rent earned in
4ctober is:
5nearned 7ent 7e(enue............................................ 1,;;;
7ent 7e(enue ):3,;;; = 1>3*............................ 1,;;;
A..r&a0s
12. )3.4. #* A..r&e! re5e'&es are re(enues earned but not yet recorded at the statement
date.
a. Accrued re(enues may accumulate ,ith the passing of time as in the case of interest and
rent, or through ser(ices performed but for ,hich payment has not been collected.
b. An asset$re5e'&e a..o&'t re0atio'ship exists ,ith accrued re(enues.
c. "rior to adjustment, 3oth assets a'! re5e'&es are &'!erstate!1
d. 1he adjusting entry results in an increase )a debit* to an asset account and an increase
)a credit* to a re(enue account.
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e. 1o illustrate an accrued re(enue adjusting entry, assume in 4ctober, @ayer, a dentist,
performs :';; of ser(ices for patients for ,hich payment has not been collected. 1he
adjusting entry at 4ctober 31 is:
Accounts 7ecei(able.................................................. ';;
%ental Aees Earned........................................... ';;
13. A..r&e! e8pe'ses are expenses incurred but not yet paid or recorded at the statement
date.
a. Accrued expenses result from the same causes as accrued re(enues and include
interest, rent, taxes, and salaries.
b. A 0ia3i0it($e8pe'se a..o&'t re0atio'ship exists ,ith accrued expenses.
c. "rior to adjustment, both 0ia3i0ities a'! e8pe'ses are &'!erstate!1
d. 1he adjusting entry results in an increase )a debit* to an expense account and an
increase )a credit* to a liability account.
e. 1o illustrate an accrued expense adjusting entry, assume 3ch,en. +ompany incurs
salaries of :4,;;; during the last ,ee. of 4ctober that ,ill be paid in Bo(ember. 1he
adjusting entry on 4ctober 31 is:
3alaries Expense........................................................ 4,;;;
3alaries "ayable................................................ 4,;;;
14. Each adjusting entry affects one balance sheet account and one income statement account.
A!7&ste! Tria0 Ba0a'.e
1!. )3.4. $* After all adjusting entries ha(e been journali2ed and posted an a!7&ste! tria0
3a0a'.e is prepared. 1his trial balance sho,s the balances of all accounts, including those
that ha(e been adjusted, at the end of the accounting period.
1#. 1he p&rpose of an adjusted trial balance is to pro(e the e/uality of the total debit balances
and the total credit balances in the ledger after all adjustments ha(e been made.
1$. 1he accounts in the adjusted trial balance contain all data that are needed for the
preparation of financial statements.
A0ter'ati5e Treat,e't
&1'. )3.4. '* 5nder the alternati(e treatment, at the time an expense is prepaid, an expense
account is debited, and ,hen unearned re(enues are recei(ed a re(enue account is
credited.
&18. 1he alternati(e treatment of prepaid expenses and unearned re(enues has the same effect
on the financial statements as the procedures described in the chapter.
&2;. 0hen a prepaid expense is initially debited to an expense account,
a. Bo adjusting entry ,ill be re/uired if the prepayment is fully expired or consumed before
the next financial statement date.
b. f the prepayment is not fully expired or consumed, an adjusting entry is re/uired.
c. "rior to adjustment an e8pe'se a..o&'t is o5erstate! and an asset a..o&'t is
&'!erstate!1
d. 1he adjusting entry results in a debit )increase* to an asset account and a credit
)decrease* to an expense account.
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e. 1o illustrate the adjusting entry, assume 6on2ale2 +ompany purchases :1,2;; of
supplies and debits 4ffice 3upplies Expense. At the next financial statement date, :3;;
of supplies are on hand. 1he adjusting entry is:
4ffice 3upplies.......................................................... 3;;
4ffice 3upplies Expense.................................... 3;;
&21. 0hen an unearned re(enue is initially credited to a re(enue account, the procedures are
similar to those described abo(e for prepaid expenses. n this case, ho,e(er,
a. "rior to adjustment, a re5e'&e a..o&'t is o5erstate! and a 0ia3i0it( a..o&'t is
&'!erstate!1
b. 1he adjusting entry results in a debit to a re(enue account and a credit to a liability
account.
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DE6ONSTRATION PROB<E6 )3.4. ! and #*
At %ecember 31, 2;;', the unadjusted trial balance of 9ari 1hresher +ompany sho,s the
follo,ing balances for selected accounts:
3upplies.................................................................................... : ',!;;
"repaid nsurance..................................................................... 12,;;;
E/uipment................................................................................. 4;,;;;
Accumulated %epreciation........................................................ 1#,;;;
5nearned Aees......................................................................... 1!,;;;
Botes "ayable........................................................................... !;,;;;
Aees Earned.............................................................................. 4;,;;;
Analysis re(eals the follo,ing additional data pertaining to these accounts:
1. 3upplies on hand at %ecember 31, 2;;', :3,;;;.
2. nsurance began on ?uly 1, 2;;' for a one<year policy.
3. 1he e/uipment ,as purchased ?anuary 1, 2;;#. Annual depreciation is :',;;;.
4. :12,;;; of the unearned fees ha(e been earned.
!. 1he note is dated ?uly 1, 2;;', payable in 2;1; and bears interest at 1;C per year.
#. 3er(ices rendered other customers but for ,hich payment has not been collected at
%ecember 31, 2;;' totaled :3,!;;.
$. 3alaries of :2,!;; ,ere unpaid at %ecember 31, 2;;'.
I'str&.tio's
"repare the adjusting entries for the year ending %ecember 31, 2;;'.
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SO<UTION TO DE6ONSTRATION PROB<E6
Ge'era0 Jo&r'a0 J>
Date A..o&'t Tit0e De3it Cre!it
2;;'
%ec. 31 3upplies Expense !,!;;
3upplies !,!;;
):',!;; < :3,;;;*
31 nsurance Expense #,;;;
"repaid nsurance #,;;;
):12,;;; x #>12*
31 %epreciation Expense ',;;;
Accumulated %epreciation ',;;;
31 5nearned Aees 12,;;;
Aees Earned 12,;;;
31 nterest Expense 2,!;;
nterest "ayable 2,!;;
):!;,;;; x 1;C x #>12*
31 Accounts 7ecei(able 3,!;;
Aees Earned 3,!;;
31 3alaries Expense 2,!;;
3alaries "ayable 2,!;;
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REVIE" ?UESTIONS AND E@ERCISES
TRUE#A<SE
ndicate ,hether each of the follo,ing is true )1* or false )A* in the space pro(ided.
DDDDD 1. )3.4. 1* 1he time<period assumption assumes that the economic life of a business
can be di(ided into artificial time periods.
DDDDD 2. )3.4. 1* A calendar year and a fiscal year must be the same.
DDDDD 3. )3.4. 2* 1he re(enue recognition principle states that re(enue should be recogni2ed
in the accounting period cash is recei(ed.
DDDDD 4. )3.4. 2* 1he matching principle re/uires that expenses be matched ,ith re(enues.
DDDDD !. )3.4. 3* Adjusting entries are journali2ed throughout the accounting period.
DDDDD #. )3.4. 3* n general, adjusting entries are re/uired each time financial statements are
prepared.
DDDDD $. )3.4. 3* n general, adjusting entries are necessary e(en if the records are free of
errors.
DDDDD '. )3.4. 3* E(ery adjusting entry affects one balance sheet account and one income
statement account.
DDDDD 8. )3.4. 3* Adjusting entries are journali2ed but need not be posted.
DDDDD 1;. )3.4. !* "repaid expenses are expenses paid in cash and recorded in an asset
account before they are used or consumed.
DDDDD 11. )3.4. !* %epreciation is a process of (aluation.
DDDDD 12. )3.4. !* 1he Accumulated %epreciation account is a contra asset account that is
reported on the balance sheet.
DDDDD 13. )3.4. !* 1he difference bet,een the cost of an asset and its related accumulated
depreciation is referred to as the assetEs boo. (alue.
DDDDD 14. )3.4. !* 7e(enues recei(ed in ad(ance of the accounting period in ,hich they are
earned are liabilities.
DDDDD 1!. )3.4. #* Accrued re(enues are amounts recorded and recei(ed but not yet earned.
DDDDD 1#. )3.4. #* "rior to an adjustment for accrued re(enues, assets and re(enues are both
understated.
DDDDD 1$. )3.4. #* Accrued expenses are prepayments of expenses that ,ill benefit more than
one accounting period.
DDDDD 1'. )3.4. #* An adjusting entry for accrued expenses results in an increase )a debit* to
an expense account and an increase )a credit* to a liability account.
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DDDDD 18. )3.4. $* An adjusted trial balance should be prepared before the adjusting entries are
made.
DDDDD 2;. )3.4. $* 1he accounts in the adjusted trial balance contain all data that are needed
for the preparation of financial statements.
DDDDD &21. )3.4. '* 0hen a prepaid expense is initially debited to an expense account, ex<
penses and assets are both o(erstated prior to adjustment.
DDDDD &22. )3.4. '* 0hen an unearned re(enue is initially credited to a re(enue account, the
adjusting entry ,ill result in a debit to a re(enue account and a credit to a liability
account.
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6U<TIP<E CHOICE
+ircle the letter that best ans,ers each of the follo,ing statements.
1. )3.4. 2* 0hich of the follo,ing statements concerning the accrual basis of accounting is
i'.orre.tB
a. 1he accrual basis of accounting follo,s the re(enue recognition principle.
b. 1he accrual basis of accounting is the method re/uired by generally accepted
accounting principles.
c. 1he accrual basis of accounting recogni2es expenses ,hen they are paid.
d. 1he accrual basis of accounting follo,s the matching principle.
2. )3.4. 2* 1he re(enue recognition principle recogni2es that:
a. re(enue should be recogni2ed in the accounting period in ,hich it is earned.
b. the economic life of a business can be di(ided into artificial time periods.
c. expenses should be matched ,ith re(enues.
d. the fiscal year should correspond ,ith the calendar year.
3. )3.4. 2* 1he matching principle dictates that:
a. each debit be matched ,ith an e/ual credit.
b. re(enue should be recogni2ed in the accounting period in ,hich it is earned.
c. expenses should be matched ,ith re(enues.
d. the fiscal year should match the calendar year.
4. )3.4. !* Aor prepaid expense adjusting entries:
a. an expense<liability account relationship exists.
b. prior to adjustment, expenses are o(erstated and assets are understated.
c. the adjusting entry results in a debit to an expense account and a credit to an asset
account.
d. none of the abo(e.
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!. )3.4. !* 1he beginning balance of 3upplies for Fu nc. ,as :8;;. %uring the year
additional supplies ,ere purchased for :4!;. At the end of the year an in(entory count
indicates :$;; of supplies on hand. 1he adjusting entry at %ecember 31, is:
a. 3upplies....................................................................... #!;
3upplies Expense................................................... #!;
b. 3upplies....................................................................... 4!;
3upplies Expense................................................... 4!;
c. 3upplies Expense........................................................ 2!;
3upplies.................................................................. 2!;
d. 3upplies Expense........................................................ #!;
3upplies.................................................................. #!;
#. )3.4. !* %emaet +ruise Fines purchased a fi(e<year insurance policy for its ships on April
1, 2;;' for :1;;,;;;. Assuming that April 1 is the effecti(e date of the policy, the adjusting
entry on %ecember 31, 2;;' is:
a. "repaid nsurance........................................................ 1!,;;;
nsurance Expense................................................. 1!,;;;
b. nsurance Expense...................................................... 1!,;;;
"repaid nsurance.................................................. 1!,;;;
c. nsurance Expense...................................................... 2;,;;;
"repaid nsurance.................................................. 2;,;;;
d. nsurance Expense...................................................... !,;;;
"repaid nsurance.................................................. !,;;;
$. )3.4. !* +ost less accumulated depreciation for a plant asset is often called:
a. boo. (alue.
b. mar.et (alue.
c. original (alue.
d. none of the abo(e.
'. )3.4. !* Accumulated depreciation plus boo. (alue ,ill e/ual the assetEs:
a. cost.
b. mar.et (alue.
c. depreciable cost.
d. none of the abo(e.
8. )3.4. !* 1amara +ompany purchased a machine on ?anuary 1, 2;;'. Annual deprecia<
tion is :';;. At %ecember 31, 2;1;, the balance in the accumulated depreciation account,
after adjustment, should be:
a. :';;.
b. :1,#;;.
c. :2,4;;.
d. :3,2;;.
1;. )3.4. !* Aor unearned re(enue adjusting entries, the i'.orre.t statement is:
a. a liability<re(enue account relationship exists.
b. prior to adjustment, re(enues are o(erstated and liabilities are understated.
c. the adjusting entry results in a debit to a liability account and a credit to a re(enue
account.
d. if the adjustment is not made, re(enues ,ill be understated.
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11. )3.4. !* 4n @ay 1, 2;;', @aricel Ad(ertising +ompany recei(ed :3,;;; from 9athy 3is.a
for ad(ertising ser(ices to be completed April 3;, 2;;8. At %ecember 31, 2;;', :2,;;; of
the fees ha(e been earned. 1he adjusting entry on %ecember 31, 2;;' by @aricel ,ill
include a:
a. :1,;;; credit to 5nearned Aees.
b. :1,;;; debit to Aees Earned.
c. :2,;;; credit to 5nearned Aees.
d. :2,;;; debit to 5nearned Aees.
12. )3.4. !* 1he account 5nearned 7e(enues is a)n*:
a. re(enue account.
b. contra re(enue account.
c. liability account.
d. asset account.
13. )3.4. #* Aor accrued re(enue adjusting entries,
a. an asset<re(enue account relationship exists.
b. prior to adjustment, assets and re(enues are both o(erstated.
c. the adjusting entry results in an increase )a debit* to a re(enue account and an
increase )a credit* to an asset account.
d. none of the abo(e.
14. )3.4. #* 4n ?une 3;, 0ian @ar.eting 3er(ices is preparing its financial statements. :#;;
of fees ,ere earned in ?une for ,hich payment had not been collected prior to ?une 3;.
1he adjusting entry at ?une 3; is:
a. 5nearned Aees............................................................ #;;
Aees Earned........................................................... #;;
b. Accounts 7ecei(able.................................................... #;;
Aees Earned........................................................... #;;
c. Aees Earned................................................................. #;;
Accounts 7ecei(able.............................................. #;;
d. Aees Earned................................................................. #;;
5nearned Aees....................................................... #;;
1!. )3.4. #* Aor accrued expense adjusting entries, the i'.orre.t statement is:
a. a liability<expense account relationship exists.
b. prior to adjustment, both expenses and liabilities are understated.
c. if the adjusting entry is not made, expenses ,ill be o(erstated in the income
statement.
d. the adjusting entry results in an increase )a debit* to an expense account and an
increase )a credit* to a liability account.
1#. )3.4. #* 6ardner +ompany purchased a truc. from 9utner +o. by issuing a #<month 1;C
note payable for :3;,;;; on Bo(ember 1. 4n %ecember 31, the accrued expense
adjusting entry is:
a. Bo entry is re/uired.
b. nterest Expense.......................................................... 3,;;;
nterest "ayable..................................................... 3,;;;
c. nterest Expense.......................................................... #,;;;
nterest "ayable..................................................... #,;;;
d. nterest Expense.......................................................... !;;
nterest "ayable..................................................... !;;
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1$. )3.4. #* +athy +line, an employee of the 0heeler +ompany, ,ill not recei(e her paychec.
until April 2. -ased on ser(ices performed from @arch 1! to @arch 3; her salary ,as
:';;. 1he adjusting entry for 0heeler +ompany on @arch 31 is:
a. 3alaries Expense......................................................... ';;
3alaries "ayable.................................................... ';;
b. Bo entry is re/uired.
c. 3alaries Expense......................................................... ';;
+ash....................................................................... ';;
d. 3alaries "ayable.......................................................... ';;
+ash....................................................................... ';;
1'. )3.4. $* Ainancial statements are prepared directly from the:
a. general journal.
b. ledger.
c. trial balance.
d. adjusted trial balance.
&18. )3.4. '* 4n ?anuary 2, Gan Alstyne Aood 3er(ices pays :3,;;; cash for office supplies.
4ffice 3upplies Expense is debited because the supplies are expected to be used before
financial statements are prepared on ?une 3;. At ?une 3;, there are :3;; of office
supplies on hand. 1he adjusting entry is:
a. 4ffice 3upplies............................................................. 3;;
4ffice 3upplies Expense........................................ 3;;
b. 4ffice 3upplies............................................................. 2,$;;
4ffice 3upplies Expense........................................ 2,$;;
c. 4ffice 3upplies Expense.............................................. 2,$;;
4ffice 3upplies....................................................... 2,$;;
d. 4ffice 3upplies Expense.............................................. 3;;
4ffice 3upplies....................................................... 3;;
&2;. )3.4. '* 4n @ay 1, 0alsh nc. credited Aees Earned ,hen :4,;;; cash ,as recei(ed for
future ser(ices. 4n ?une 3;, the next date financial statements are prepared, :#;; of the
ser(ices ha(e not been rendered. 1he ?une 3; adjusting entry ,ill include a:
a. credit to Aees Earned of :#;;.
b. debit to Aees Earned of :#;;.
c. debit to 5nearned Aees of :3,4;;.
d. credit to 5nearned Aees of :3,4;;.
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6ATCHING
@atch each term ,ith its definition by ,riting the appropriate letter in the space pro(ided.
Ter,s
DDDDDD 1. %epreciation.
DDDDDD 2. 1ime<period assumption.
DDDDDD 3. @atching principle.
DDDDDD 4. 7e(enue recognition principle.
DDDDDD !. Aiscal years.
DDDDDD #. +ontra asset account.
DDDDDD $. Adjusted trial balance.
DDDDDD '. "repaid expenses.
DDDDDD 8. 5nearned re(enues.
DDDDD 1;. Adjusting entries.
DDDDD 11. Accrued re(enues.
DDDDD 12. Accrued expenses.
DDDDD 13. Accrual basis of accounting.
DDDDD 14. +ash basis of accounting.
De)i'itio's
a. An account that is offset against an asset
account in the balance sheet.
b. Expenses paid in cash and recorded in an
asset account before they are used or
consumed.
c. 7e(enues earned but not yet recei(ed at
the statement date.
d. Accounting periods that are one year in
length.
e. 1he principle that efforts )expenses* be
matched ,ith accomplishments )re(enues*.
f. An accounting basis in ,hich e(ents that
change a companyEs financial statements
are recorded in the periods in ,hich the
e(ents occur.
g. Expenses incurred but not yet paid or
recorded at the statement date.
h. A list of accounts and their balances after all
adjustments ha(e been made.
i. 1he assumption that the economic life of a
business can be di(ided into artificial time
periods.
j. 7e(enue is recorded only ,hen cash is
recei(ed and expense is recorded only
,hen cash is paid.
.. 1he process of allocating the cost of an
asset to expense o(er its useful life in a
rational and systematic manner.
l. 7e(enues recei(ed and recorded as
liabilities before they are earned.
m. Entries made at the end of the accounting
period to insure that the re(enue recognition
and matching principles are follo,ed.
n. 1he principle that re(enue be recogni2ed in
the accounting period in ,hich it is earned.
The
Navigator
3$>9 St&!e't St&!( G&i!e )or Accounting Principles, *th E!itio'
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
E@ERCISES
E@1 3$> )3.4. ! and #* @c%aniels "ainting +ompany is at the end of its fiscal year %ecember 31,
2;;' and needs to record its adjusting entries. Adjustment data are as follo,s:
a. Aour months ago, ?udy -ernstein made a :',;;; prepayment for the painting of her
house. @c%aniels recorded the original entry as 5nearned 7e(enue. At %ecember
31, one<fourth of the painting of the house remains to be done.
b. @c%aniels purchased a truc. from %onnelly Gehicles on ?anuary 1, 2;;$ at a cost of
:2;,;;;. Annual depreciation is :4,;;;. %epreciation ,as correctly recorded for
2;;$.
c. An employee, "am 1ra(is had earned ,ages of :!;; for the last ,ee. in %ecember.
3he ,ill not be paid until ?anuary !.
d. @c%aniels purchased a :24,;;;, four<year insurance policy from Heinsen nsurance
four months ago. 1he effecti(e date of the policy ,as 3eptember 1, 2;;'.
e. @c%aniels began painting "eggy 1hompsonEs clubhouse in Bo(ember at a price of
:32,;;;. @c%aniels determines that :2;,;;; of the re(enue has been earned at
%ecember 31. 1hompson has not made any payment to @c%aniels, and @c%aniels
has not billed 1hompson for ser(ices rendered.
I'str&.tio's
"repare the adjusting entries at %ecember 31, 2;;'.

Ge'era0 Jo&r'a0 J>
Date A..o&'t Tit0e De3it Cre!it
2;;'
A!7&sti'2 the A..o&'ts 3$>:
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
E@1 3$% )3.4. $* 1he adjusted trial balance of the 3usan %ey +ompany at Bo(ember 3;, 2;;', is
as follo,s:
SUSAN DEY CO6PANY
A!7&ste! Tria0 Ba0a'.e
No5e,3er 3C4 %CC*
De3it Cre!it
+ash................................................................................................ : $,2!;
Accounts 7ecei(able....................................................................... 1$,;;;
3upplies.......................................................................................... !;;
"repaid nsurance........................................................................... 2,!;;
Fand................................................................................................ 12,;;;
E/uipment....................................................................................... 4;,;;;
Accumulated %epreciation.............................................................. : 1#,;;;
Botes "ayable................................................................................. $,!;;
Accounts "ayable........................................................................... !,8!;
nterest "ayable.............................................................................. 3!;
5nearned Aees............................................................................... $,!;;
3alaries "ayable............................................................................. !,;;;
3. %ey, +apital................................................................................ 3',;;;
Aees Earned................................................................................... 18,$;;
3alaries Expense............................................................................ 11,!;;
3upplies Expense........................................................................... 4;;
7ent Expense................................................................................. 2,;;;
nsurance Expense......................................................................... 2,!;;
%epreciation Expense..................................................................... 4,;;;
nterest Expense............................................................................. 3!; DDD
:1;;,;;; :1;;,;;;
Ge'era0 Jo&r'a0 J>
Date A..o&'t Tit0e De3it Cre!it
3$>; St&!e't St&!( G&i!e )or Accounting Principles, *th E!itio'
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
I'str&.tio's
)a* "repare an income statement and an o,nerIs e/uity statement for the year ended Bo(ember
3;, 2;;'.
)b* "repare a balance sheet at Bo(ember 3;, 2;;'.
)a* SUSAN DEY CO6PANY
I'.o,e State,e't
#or the Year E'!e! No5e,3er 3C4 %CC*
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
SUSAN DEY CO6PANY
OD'erEs EF&it( State,e't
#or the Year E'!e! No5e,3er 3C4 %CC*
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
A!7&sti'2 the A..o&'ts 3$>=
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
)b* SUSAN DEY
Ba0a'.e Sheet
No5e,3er 3C4 %CC*
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
DDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDDD
The
Navigator
3$>* St&!e't St&!( G&i!e )or Accounting Principles, *th E!itio'
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
SO<UTIONS TO REVIE" ?UESTIONS AND E@ERCISES
TRUE$#A<SE
1. )1*
2. )A* 1he calendar year begins ?anuary 1 and ends %ecember 31. Aiscal years usually
begin ,ith the first day of any month and end on the last day of a month, t,el(e
months later. 4f course, the fiscal year could coincide ,ith the calendar year.
3. )A* 1he re(enue recognition principle states that re(enue should be recogni2ed in the
accounting period in ,hich it is earned. 3ometimes the receipt of cash does not
coincide ,ith the period in ,hich the ser(ice is rendered.
4. )1*
!. )A* Adjusting entries are only prepared at the end of an accounting period.
#. )1*
$. )1*
'. )1*
8. )A* Adjusting entries must be both journali2ed and posted.
1;. )1*
11. )A* %epreciation is the process of allocating the cost of an asset to expense o(er its
useful life in a rational and systematic manner.
12. )1*
13. )1*
14. )1*
1!. )A* Accrued re(enues are re(enues earned but not yet recei(ed in cash.
1#. )1*
1$. )A* Accrued expenses are expenses incurred but not yet paid or recorded.
1'. )1*
18. )A* 1he adjusted trial balance can only be prepared after the adjusting entries are
made.
2;. )1*
&21. )A* "rior to adjustment, expenses are o(erstated and assets are understated.
&22. )1*
6U<TIP<E CHOICE
1. )c* 1he accrual basis of accounting recogni2es expenses ,hen they are incurred.
+hoices )a*, )b*, and )d* are all correct statements concerning the accrual basis of
accounting.
2. )a* +hoice )b* is the time<period assumption. +hoice )c* is the matching principle.
Ans,er )d* pertains to the time<period assumption. Also, the fiscal year does not
ha(e to correspond ,ith the calendar year.
3. )c* +hoice )a* is the dual effect of the double<entry system discussed in +hapter 2.
+hoice )b* is the re(enue recognition principle. +hoice )d* is an incorrect statement
because the fiscal year does not necessarily ha(e to be the calendar year.
4. )c* Ans,er )a* is incorrect because an asset<expense account relationship exists.
Ans,er )b* is incorrect because prior to adjustment, assets are o(erstated and
expenses are understated.
A!7&sti'2 the A..o&'ts 3$>A
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
!. )d* 1he total cost of supplies is :1,3!; ):8;; J :4!;*. 3ince the ending in(entory is
:$;;, the supplies expense for the period is :#!; ):1,3!; < :$;;*.
#. )b* -ecause the effecti(e date of the policy is April 1, only 3>4 of one year is expensed
):1;;,;;; = 1>! = 3>4 K :1!,;;;*. nsurance Expense is debited and "repaid
nsurance is credited because the :1;;,;;; payment ,as debited to "repaid
nsurance.
$. )a* 1he mar.et (alue )b* is the current exchange (alue of the asset. 1he original (alue
)c* ,ould refer to the cost.
'. )a* +ost less the related accumulated depreciation is e/ual to boo. (alueL therefore,
changing the e/uation, accumulated depreciation plus boo. (alue e/uals the cost
of the asset.
8. )c* 1he balance should be the accumulated depreciation for three years ,hich is
:2,4;; ):';; = 3*.
1;. )b* "rior to adjustment liabilities are o(erstated and re(enues are understated. 1he
other ans,er choices are correct.
11. )d* 1he account balances should be 5nearned Aees :1,;;; credit, and Aees Earned
:2,;;; credit. 1hus, the adjusting entry is:
5nearned Aees...................................................... 2,;;;
Aees Earned................................................... 2,;;;
12. )c* 5nearned 7e(enue is the receipt of cash before the ser(ice has been performed.
1he obligation to perform this ser(ice is indicated in the records by crediting a
liability account.
13. )a* Ans,er )b* is incorrect because prior to adjustment both assets and re(enues are
understated. Ans,er )c* is incorrect because an asset account is increased )a
debit* and a re(enue account is increased )a credit*.
14. )b* 1he amount o,ed by the clients is a recei(able that is debited to an asset account.
1he ser(ices concerning this recei(able ha(e been performed and thus, earnedL
therefore, a re(enue account is credited.
1!. )c* n an accrued expense adjusting entry, expenses are understated prior to
adjustment )b*. 1herefore, if the adjusting entry is not made, expenses ,ill be
understated.
1#. )d* 1he accrued interest is :!;; ):3;,;;; = 1;C = 2>12*.
1$. )a* 1he accrued expense is recogni2ed by debiting 3alaries Expense and crediting
3alaries "ayable.
3$%C St&!e't St&!( G&i!e )or Accounting Principles, *th E!itio'
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
1'. )d* 1he adjusted trial balance is prepared after all adjusting entries ha(e been posted.
Accordingly, the financial statements can be prepared directly from it.
&18. )a* At ?une 3;, :3;; of office supplies is on hand, ,hich is the balance that should be
in the asset account, 4ffice 3upplies. 3ince the unadjusted balance in this account
is 2ero, 4ffice 3upplies must be debited for :3;;. 6i(en the in(entory on hand,
office supplies expense for the period is :2,$;; ):3,;;; < :3;;*. 1he unadjusted
balance in 4ffice 3upplies Expense is :3,;;;. 1herefore, this account must be
credited for :3;;.
&2;. )b* At ?une 3;, :#;; of the :4,;;; of future ser(ices ha(e not been rendered and
:3,4;; has been earned ):4,;;; < :#;;*. "rior to adjustment, the balances are
5nearned Aees :; and Aees Earned :4,;;;. 1hus, the adjusting entry is a debit to
Aees Earned :#;; and a credit to 5nearned Aees :#;;.
6ATCHING
1. . !. d 8. l 13. f
2. i #. a 1;. m 14. j
3. e $. h 11. c
4. n '. b 12. g
A!7&sti'2 the A..o&'ts 3$%>
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
E@1 3$>
Ge'era0 Jo&r'a0 J>
Date A..o&'t Tit0e De3it Cre!it
2;;'
A!7&sti'2 E'tries
a.
%ec. 31 5nearned 7e(enue #,;;;
"ainting 7e(enue #,;;;
)1o record re(enue earned, :',;;; x 3>4*
b.
31 %epreciation Expense 4,;;;
Accumulated %epreciation 4,;;;
)1o record annual depreciation*
c.
31 0ages Expense !;;
0ages "ayable !;;
)1o record accrued ,ages*
d.
31 nsurance Expense 2,;;;
"repaid nsurance 2,;;;
)1o record insurance expiredL :24,;;; x 4>4'*

e.
31 Accounts 7ecei(able 2;,;;;
"ainting 7e(enue 2;,;;;
)1o accrued re(enue earned*
3$%% St&!e't St&!( G&i!e )or Accounting Principles, *th E!itio'
+++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
E@1 3$%
)a* SUSAN DEY CO6PANY
I'.o,e State,e't
#or the Year E'!e! No5e,3er 3C4 %CC*
7e(enues
Aees earned..................................................................... :18,$;;
Expenses
3alaries expense.............................................................. :11,!;;
%epreciation expense....................................................... 4,;;;
nsurance expense........................................................... 2,!;;
7ent expense................................................................... 2,;;;
3upplies expense............................................................. 4;;
nterest expense............................................................... 3!;
1otal expense........................................................... 2;,$!;
Bet loss ................................................................................. : 1,;!;
SUSAN DEY CO6PANY
OD'erEs EF&it( State,e't
#or the Year E'!e! No5e,3er 3C4 %CC*
3. %ey, +apital, %ecember 1, 2;;$.......................................... :3',;;;
Fess: Bet loss......................................................................... 1,;!;
3. %ey, +apital, Bo(ember 3;, 2;;'........................................ :3#,8!;
)b* SUSAN DEY CO6PANY
Ba0a'.e Sheet
No5e,3er 3C4 %CC*
Assets
+ash .................................................................................. : $,2!;
Accounts recei(able................................................................. 1$,;;;
3upplies .................................................................................. !;;
"repaid insurance.................................................................... 2,!;;
Fand .................................................................................. 12,;;;
E/uipment................................................................................ :4;,;;;
Fess: Accumulated depreciation............................................. 1#,;;; 24,;;;
1otal assets............................................................... :#3,2!;
Fiabilities and 4,nersE E/uity
Fiabilities
Botes payable................................................................... : $,!;;
Accounts payable............................................................. !,8!;
nterest payable................................................................ 3!;
5nearned fees.................................................................. $,!;;
3alaries payable............................................................... !,;;;
1otal liabilities............................................................ 2#,3;;
4,nerIs E/uity
3. %ey, +apital.................................................................. 3#,8!;
1otal liabilities and o,nersE e/uity............................. :#3,2!;