2.9.

Adjustments; Completion of the Worksheet

Basis of Accounting
They are accounting methods/approaches used for the determination of net
income. There are two basis of accounting:
1. Cash basis of accounting
2. Accrual basis of accounting
1. Cash Basis of Accounting
Under this basis of accounting revenue is recorded only when cash is received and
expenses are recorded when cash is actually paid. Thus, the determination of net income
rests on cash inflows and cash outflows related with operating activities; rather than the
realization of revenue and incurrence of expenses.
2. Accrual Basis of Accounting
Under this basis of accounting revenue is recorded when realized and expenses are
recorded when they are actually incurred, without regard to the time of cash collection
and disbursements.
GAAPs accepts the use of accrual basis of accounting. Because, the revenue
realization & mating principles are applicable under accrual basis of accounting; accrual
basis of accounting in turn requires the use of accrual- deferral system of accounting.
Hence, it requires yearend adjustments for proper determination of financial statement
items.
Matching principle: the accounting concept that support the reporting of revenues and
related expenses in the same accounting period.
Adjusting Entries
At the end of the accounting period, there are accounts which show incorrect (not
up-to-date) balances. For instance, pre payments and supplies are being used up, plant
assets with the exception of land are wearing out and functionally depreciating, and
employees are earning salaries though, have not yet been paid. Hence, such conditions
should be considered and recorded to bring the accounts up to date. Unless, financial
statements that will be prepared for the period; will be incorrect to the extent of the
amount required to be updated.
The entries that are required at the end of the accounting period to bring the
accounts up-to-date and to assure the proper matching of revenues and expenses of the
period are called adjusting entries.

Characteristics of Adjusting Entries

- It is Year End procedure
- It brings accounts up to date
- It affects both aspects of balance sheet and income statement
Purpose of Adjusting Entries
- To measure and report all assets and liabilities accurately
- To measure and report net income correctly under the accrual basis of
accounting

21
 When an adjustment is needed?
Adjustment is necessary under the following three major conditions/circumstances.
1. Deferrals
2. Accruals, and
3. Estimated items
1. Deferrals
They are expenses paid but their incurrence is postponed or revenues received
whose earning is postponed (deferred) to another period.
They can be classified in to two major types:
i. Deferred Expenses/ Prepaid Expenses, and
ii. Deferred Revenues/ Unearned Revenues

i. Deferred Expenses/ Prepaid Expenses

They are short term prepayments where cash is already paid awaiting for future
incurrence of expenses. Examples: Prepaid Rent, Prepaid Insurance, Prepaid
Advertising, Supplies etc.
There are two alternative approaches of accounting for prepaid expenses:-
A) Asset Approach ( Balance Sheet Approach)
B) Expense Approach ( Income Statement Approach)
A) Asset Approach ( Balance Sheet Approach)
Under this approach, prepaid expenses are debited to asset accounts up on their
accusation. Then, by year end they are adjusted to expense accounts. This approach is
preferable if prepaid expenses are not expected to be expired in the current accounting
period. Here, the adjustment should be made for the expired portion of the prepaid
expense.
B) Expense Approach ( Income Statement Approach)
Under this approach, prepaid expenses are debited to expense accounts when they
are acquired. Then, by year end, they are adjusted to an asset account if there is any
unexpired portion. This approach is preferable if prepaid expenses are expected to be
fully consumed in the current accounting period. Here, the adjustment should be made
for the unexpired portion of the prepaid expense.

ii. Deferred Revenues/ Unearned Revenues

When a business enterprise receives payments of goods and services before the
goods are delivered or services are performed, a liability exists until performance takes
place and such conditions are commonly referred to as unearned revenue/deferred
revenues. Examples: Unearned Subscriptions, Unearned Rent, Unearned Advertising
incomes, Unearned Construction Fees etc.
The amount received in advance can be recorded in to two approaches:
A) Liability approach( Balance Sheet Approach)
B) Revenue approach( Income Statement Approach)

22
 A) Liability approach( Balance Sheet Approach)
Under this approach, advance receipts are credited to liability accounts up on the
receipt. Here, adjustment is required to record the earned portion as revenue by
reducing the liability account.
B) Revenue approach( Income Statement Approach)
Here, advance receipts are credited to revenue account up on the receipt and
adjustment is required to record the unearned portion as a liability by reducing the
revenue account.

2. Accruals
Literally, to accrue means to accumulate. Therefore, accruals indicate accumulated
revenues or expenses for which cash has not been received or paid. In other words,
accruals refer to revenues earned but not yet received or expenses incurred but not
paid.
Accruals can be classified in to two major types:
i. Accrued Expenses
ii. Accrued Revenues
i. Accrued Expenses
They are expenses that relate to (are used in) the current accounting period but has
not yet been paid and do not yet appear in the accounting records. Thus, to measure
expenses accurately for the period an adjustment is necessary to record the accrued
expense and the corresponding liability account. Examples: Accrued salaries, Accrued
Interest on Notes Payable, Accrued Payroll Taxes etc.
ii. Accrued Revenues
They are revenues that have been earned but not yet received and recorded.
Examples: Accrued Interest on Notes Receivable, Accrued Rents on property rented to
others etc.
3. Estimated items
i. Plant Assets _ Depreciation
All plant assets with the exception of land loss their capacity to provide useful
services. This decrease in usefulness is a business expense, which is called
depreciation. To report the depreciation of the period, the depreciation expense
account will be debited and the accumulated depreciation account would be credited.

i.e. Depreciation expense________________ xxx

Accumulated depreciation _________________xxx
Notes:
- Accumulated depreciation account is a contra asset accounts since, it is offset
against asset account.
- Accumulated depreciation is deducted from the cost of respective asset to
determine the book value of the asset.

23
Illustration _ 4:
Based on the informations those are previously given as well as the additional
informations presented below for Hiwot Beauty Salon & Training Center; prepare the
adjusting entries that should be made on January 31, 2012.
Additional informations:
The physical count made by the business at the end of the month shows that
supply on hand is Birr 4,000.
According to the computation that was made by the business, the depreciation
expense of the following plant assets is determined to be:
- Office equipment -------------------- Birr 315
- Furniture ------------------------------ 625
- Machinery ---------------------------- 500
Total -----------------------------Birr 1,440
Solutions:
1. Deferred expenses (prepaid expenses)
a) Supplies
Supplies available (balance of account) --------------- Birr 12,000
Less: Supplies on hand (balance on Jan 31, 2012) ----------- (4,000)
Supplies used up (consumed/expired) --------------- Birr 8,000
2012 Supplies expense------- Birr 8000
Jan. 31 Supplies-------------------------------- Birr 8000
b) The rent payment was for one year, but a one month rent has already been incurred
thus, 20,000 = 12 months
X = 1 month
X = 20,000
12
= Birr 1667
2012 Rent expense------- Birr 1667
Jan. 31 Prepaid rent-----------------------Birr 1667
c) The insurance premium payment was for six months, thus for one month
2400 = 6 months
X = 1 month
X = 2400
6
= Birr 400
2012 Insurance expense------- Br 400
Jan. 31 Prepaid insurance-----------------------Br 400
Activity: if the above adjustments of deferred expenses/prepaid expenses are not
recorded what effects will be seen on:
- The income statement.
- The statement of owners equity, and
- The balance sheet of Hiwot Beauty Salon & Training Center.

24
2. Deferred revenues
d) Birr 150,000 tuition fee received from trainees was treated as a liability of the
business. However, part of it becomes revenue as of January 31, 2012. Thus,
150,000 = 4 months
X = 1 month
X = 15,000 = Birr 37,500
4
2012 Unearned revenue------- Birr 37,500
Jan. 31 Fees earned-----------------------Birr 37,500

3. Accrued expenses
e) The salary paid at January 26, 2012 is a 26 day salary from January 1 up to January
26; the salary from January 26 up to January 31 is not paid and also recorded.
Therefore, the adjustment is needed for these 5 days
6500 = 26 days
X = 5 days
X= 32,500 = Birr 1250
26
2012 Salary expense ------- Br 1250
Jan. 31 Salary payable-----------------------Br 1250
f) At the start of the business Hiwot invested a birr 100,000 bank note @ 12 % interest
rate that will be due in 5 years with an equal yearly installment. Since, an interest
expense is accrued for a month adjustment is needed:
I = prt
I = 100,000 * 0.12 *(1/12) = Birr 1000
2012 Interest expense ------- Br 1000
Jan. 31 Interest payable-----------------------Br 1000
4. Accrued Revenues
They are revenues that have been earned but not yet received and recorded. However,
we have no such an item for Hiwot Beauty Salon & Training Center.
5. Estimated items:
g) Plant assets _ Depreciation
As it was clearly indicated in the additional information the plant assets of the
business presented below are depreciated with the following amounts.
- Office equipment -------------------- Birr 315
- Furniture ------------------------------ 625
- Machinery ---------------------------- 500
Total -----------------------------Birr 1,440
2012 Depreciation expense ------------------ Birr 1440
Jan. 31 Acc. Deprn -Equpt---------------------------- Birr 315
Acc. Deprn -Furniture------------------------- 625
Acc. Depr Machinery----------------------
n 500

25
2.10. Worksheet for Financial Statements
Worksheet is a Multi Columnar sheet of paper used to gather and summarize data
needed for preparation of financial statements. It is a type of working paper frequently
used by accountants prior to preparation of financial statements. The worksheet is
identified by (1) the name of the business, (2) the nature of the form (worksheet), (3) the
period of time involved.

Uses of Work Sheet

- It reduces the possibility of overlooking the need for an adjustment
- It provides a convenient means of verifying arithmetical accuracy
- It provides for the arrangement of data in a logical form
- It provides the source data for the financial statements
The main headings in the worksheet except the account title are:
Trial Balance________________ Dr and Cr
Adjustment Column__________ Dr and Cr
Adjusted Trial Balance________ Dr and Cr
Income Statement____________ Dr and Cr
Balance Sheet________________ Dr and Cr
The basic form of a Ten Column worksheet and the procedure (Five steps) for preparing it;
Account titles Trial Adjustments Adjusted Income Balance
balance trial balance statement sheet
Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr.
--------------------
--------------------

Step 1: Prepare a
trial balance Step 3: Enter adjusted
balances

Step 4: Extend adjusted balance to

appropriate statement column
Step 2: Enter adjustment data
Step 5: Total the statement columns,
compute net income (net loss) and
complete the worksheet

Note: Each step must be performed in the prescribed sequence

Illustration _ 5: prepare a worksheet for Hiwot Beauty Salon & Training center.

26
Solution for the worksheet
Hiwot Beauty Salon & Training center
Worksheet
For the month ended January 31, 2012
Trial Balance Adjustments Adjusted Trial Balance Income Statement Balance Sheet
Account titles Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr. Dr. Cr.
Cash 142,300 142,300 142,300
A/Receivable 7,000 7,000 7,000
Supplies 12,000 (a) 8000 4000 4000
Prepaid Rent 20,000 (b) 1667 18333 18333
Prepaid Insurance 2,400 (c) 400 2000 2000
Office Equipment 25,000 25,000 25,000
Furniture 50,000 50,000 50,000
Machinery 35,000 35,000 35,000
Land 60,000 60,000 60,000
Account Payable 10,000 10,000 10,000
Notes Payable 100,000 100,000 100,000
Unearned Revenue 150,000 (d) 37500 112500 112500
Hiwot ,Capital 90,000 90,000 90,000
Hiwot, Drawing 5000 5000 5000
Fees Earned 17,000 (d) 37500 54500 54500
Salary Expenses 6,500 (e) 1250 7750 7750
Utility Expense 1,000 1,000 1,000
Miscellaneous Expense 800 800 800
Totals 367,000 367,000
Supplies expense (a) 8000 8000 8000
Rent expense (b) 1667 1667 1667
Insurance expense (c) 400 400 400
Salary payable (e)1250 1250 1250
Interest expense (f) 1000 1000 1000
Interest payable (f)1000 1000 1000
Depreciation expense (g)1440 1440 1440
Accumulated deprn- Equipment (g)315 315 315
Accumulated deprn- Furniture (g)625 625 625
Accumulated deprn- Machinery (g)500 500 500
Totals 51257 51257 370,690 370,690 22057 54500 348633 316190
Net Income 32443 32443
Balance 54500 54500 348633 348633

27
2.11. Preparations of Financial Statements
Illustration _ 6: prepare the following financial statements for Hiwot Beauty Salon &
Training center.
a) Income statement
b) Statement of owners equity
c) Balance sheet
Solutions:

a) Income statement

Hiwot Beauty Salon & Training Centre

Income Statement
For The Month Ended January 31, 2012
Fees earned ------------------------------------------------------------------------------ Birr 54, 500
Less: Operating Expenses:
- Supplies Expenses --------------------------------------- 8,000
- Salary expenses ------------------------------------------- 7,750
- Rent expenses---------------------------------------------- 1,667
- Depreciation expense------------------------------------ 1,440
- Interest expense ------------------------------------------- 1,000
- Utility expense--------------------------------------------- 1,000
- Insurance expense ---------------------------------------- 400
- Miscellaneous expense----------------------------------- 800
Total operating expense----------------------------------------------------------------- (22,057)
Net income ----------------------------------------------------------------------- 32, 443

b) Statement of owners equity

Hiwot Beauty Salon & Training Centre

Statement of Owners Equity
For The Month Ended January 31, 2012
Hiwot, capital January 1, 2012 ------------------------------------------------------Birr 90,000
Add: Net income for the month -------------------------------------32,443
Less: withdrawal --------------------------------------------------------- (5000)
Increase in owners equity ---------------------------------------------------------------- 27,443
Hiwot, capital January 31, 2012----------------------------------------------------Birr 117, 443

28
 c) Balance sheet
Hiwot Beauty Salon & Training Centre
Balance Sheet
January 21, 2012
Assets:
Current Assets:
CashBirr 142,300
Accounts Receivable.. 7,000
Supplies 4,000
Prepaid rent ...18,333
Prepaid insurance2,000
Total current assetsBirr 173,633

Plant Asset (None-Current Assets):

Office equipmentBirr 25,000
Less: Acc. Deprn. Equipt... (315) 24,685
Furniture 50,000
Less: Acc. Deprn. Furniture... (625) 49,375
Machinery..35,000
Less: Acc. Deprn. Machinery... (500) 34,500
Land..60,000
Total plant assets 168,560
Total assetBirr 342,193

Liabilities:
Current liabilities:
Accounts payable..Birr 10,000
Unearned revenue. 112,500
Salary payable 1,250
Interest payable. 1,000
Total current liabilities.. Birr 124,750
Non-current liabilities:
Notes payable..100,000
Total liabilities..Birr 224,750

Owners equity
Hiwot, Capital 117443
Total liability and owners equityBirr 342,193

29
 2.12. Journalizing and Posting Adjusting Entries
At the end of the accounting period, the adjusting entries appearing in the
worksheet are recorded in the journal and posted to the ledger. This procedure brings
the ledger in to agreement with the data reported on the financial statements. Each
entry may be supported by an explanation; however, a suitable caption above the first
adjusting entry is sufficient.

Illustration _7: Journalize and post the adjusting entries of Hiwot Beauty Salon &
Training center.

Solutions:
1. Journalizing Adjusting Entries

Two Column General Journal Page 3

Date Description PR Debit Credit
Adjusting Entries
2012 Supplies Expense 511 8000 00
Jan. 31 Supplies 113 8000 00
Rent Expense 513 1667 00
31 Prepaid Rent 114 1667 00
Insurance Expense 514 400 00
31 Prepaid Insurance 115 400 00
Unearned Revenue 213 37500 00
31 Fees Earned 411 37500 00
Salary Expense 512 1250 00
31 Salary Payable 214 1250 00

Interest Expense 515 1000 00

31 Interest Payable 215 1000 00
Depreciation Expense 516 1440 00
31 Acc. Deprn. Equipment 125 315 00
Acc. Deprn. Furniture 126 625 00
Acc. Deprn. Machinery 127 500 00

30
2. Posting Adjusting Entries

Account: Supplies Account number 113

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 7 1 5,000 00 5,000 00
20 1 7,000 00 12,000 00
31 adjusting 3 8,000 00 4,000 00

Account: Supplies Expense Account number 511

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 8,000 8,000 00

Account: Prepaid Rent Account number114

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 1 1 20,000 00 20,000 00
31 adjusting 3 1,667 00 18,333 00

Account: Rent Expense Account number 513

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,667 00 1,667 00

Account: Prepaid Insurance Account number 115

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 1 1 2,400 00 2,400 00

31 adjusting 3 400 00 2,000 00

31
Account: Insurance Expense Account number 514
Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 400 00 400 00

Account: Unearned Revenue Account number 213

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 15 1 150,000 00 150,000 00

31 adjusting 3 37,500 00 112,500 00

Account: Fees Earned Account number 411

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 17 1 5,000 00 5000 00
26 2 12,000 00 17,000 00

31 adjusting 3 37,500 00 54,500 00

Account: Salary Expense Account number 512

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 26 2 6,500 00 6,500 00

31 adjusting 3 1,250 00 7,750 00

Account: Salary Payable Account number 214

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,250 00 1,250 00

32
Account: Interest Expense Account number 515
Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,000 00 1,000 00

Account: Interest Payable Account number 214

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,000 00 1,000 00

Account: Depreciation Expense Account number 516

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,440 00 1,440 00

Account: Acc. Deprn. -Equipment Account number 125

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 315 00 315 00

Account: Acc. Deprn. -Furniture Account number 126

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 625 00 625 00

Account: Acc. Deprn. -Machinery Account number 127

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 500 00 500 00

33
2.13. Closing Entries
The revenue, expense, and drawing/dividend accounts are temporary accounts
used to accumulate data related to a specific accounting period. At the end of each
accounting period, the balance of these temporary/nominal accounts are transferred or
closed, to owners capital/retained earnings account. The periodic closing (clearing
out) of the balance of temporary/nominal accounts is done by using closing entries.
Closing entries have two major purposes:
1. To transfer net income or loss to owners capital/retained earnings account.
2. To establish a zero balance in each of temporary accounts to start the next
accounting period.
An account titled income summary is used for summarizing the data in the
revenue and expense accounts. It is used only at the end of accounting period and is
both opened and closed during the closing process. The other name of income
summary account is revenue and expenses summary account, or Profit and loss
summary account.

Procedures to close the accounts

1. To close revenue account

Each revenue account is debited for the amount of its balance, and income
summary is credited for the total revenue.

2. To close expense account

Each expense account is credited for the amount of its balance, and income
summary is debited for the total expense.

3. To close income summary account

After closing the revenue and expense account to income summary, the balance of
income summary is equal to the net income or loss
a) If the result is net income, then debit income summary and credit owners
capital account.
b) If the result is net loss, then credit income summary and debit owners
capital account.
c) If the result is Zero (i.e. no profit /no loss), then no closing entry.

4. To close drawing account

The drawing account is credited for the amount of its balance, and the owners
capital account is debited for the same amount.

34
Illustration _8: Journalize and post the closing entries of Hiwot Beauty Salon & Training
center.
Solutions:
1. Journalizing Closing Entries

Two Column General Journal Page 4

Date Description PR Debit Credit
Closing entries
2012 Fees Earned 411 54,500 00
Jan. 31 Income Summary 313 54,500 00
Income Summary 313 22,057 00
Supplies Expense 511 8,000 00
Salary Expense 512 7,750 00
Rent Expense 513 1,667 00
31 Depreciation Expense 516 1,440 00
Interest Expense 515 1,000 00
Utility Expense 517 1,000 00
Insurance Expense 514 400 00
Miscellaneous Expense 518 800 00
Income Summary 313 32,443 00
31 Hiwot, Capital 311 32,443 00
Hiwot, Capital 311 5,000 00
31 Hiwot, Drawing 312 5,000 00

2. Posting Closing Entries

Account: Hiwot, Capital Account number 311

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 1 balance 90,000 00
31 closing 4 32,443 00 122,443 00
31 closing 4 5,000 00 117,443 00

Account: Fees Earned Account number 411

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 17 1 5,000 00 5000 00
26 2 12,000 00 17,000 00

31 adjusting 3 37,500 00 54,500 00

31 Closing 4 54,500 00 - -

35
Account: Income Summary Account number 313
Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 closing 4 54,500 00 54,500 00
31 closing 4 22,057 00 32,443 00
31 closing 4 32,443 00 - -

Account: Supplies Expense Account number 511

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 8,000 8,000 00
31 closing 4 8,000 00 - -

Account: Salary Expense Account number 512

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 26 2 6,500 00 6,500 00

31 adjusting 3 1,250 00 7,750 00

31 closing 4 7,750 00 - -

Account: Rent Expense Account number 513

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,667 00 1,667 00
31 closing 4 1,667 00 - -

Account: Depreciation Expense Account number 516

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,440 00 1,440 00
31 closing 4 1,440 00 - -

Account: Utilities Expense Account number 517

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 28 2 1,000 00 1,000 00
31 closing 4 1,000 00 - -

36
Account: Interest Expense Account number 515
Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 1,000 00 1,000 00
31 closing 4 1,000 00 - -

Account: Insurance Expense Account number 514

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 adjusting 3 400 00 400 00
31 closing 4 400 00 - -

Account: Misc. Expense Account number 518

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 4 1 800 00 800 00
31 closing 4 800 00 - -

Account: Hiwot, Drawing Account number 312

Balance
Date Item P.R Debit Credit Debit Credit
2012
Jan. 31 2 5,000 00 5,000 00
31 closing 4 5,000 00 - -

37
 2.14. Post Closing Trial Balance
The last procedure of the accounting cycle is the preparation of trial balance
after all temporary / nominal accounts have been closed. The purpose of the post
closing (after closing) trial balance is to make sure that the ledger is in balance at the
beginning of the new accounting period. It is prepared to retest the equality of the
account balances b/c errors may have been introduced in the process of adjusting and
closing entries. It will show only balance for the permanent accounts (or real accounts).

Illustration _8: Prepare a post closing trial balance for Hiwot Beauty Salon & Training
center.
Solution:
Hiwot Beauty Salon and Training Center
Post Closing Trial balance
January 31, 2012
Cash 142,300 00
A/Receivable 7,000 00
Supplies 4,000 00
Prepaid Rent 18,333 00
Prepaid Insurance 2,000 00
Office Equipment 25,000 00
Accumulated depr -Equipment
n. 315 00
Furniture 50,000 00
Accumulated depr - Furniture
n. 625 00
Machinery 35,000 00
Accumulated deprn.- Machinery 500 00
Land 60,000 00
Account Payable 10,000 00
Unearned Revenue 112,500 00
Salary Payable 1,250 00
Interest Payable 1,000 00
Notes Payable 100,000 00
Hiwot ,Capital 117,443 00
Total 343,633 00 343,633 00

38
2.15. Reversing Entry
It is an optional procedure in the accounting cycle used to reverse certain adjusting
entries to facilitate the recording process in the subsequent accounting period.
Generally reversing entry is necessary for:-
Deferred costs initially recorded as an expense.
Deferred revenues initially recorded as revenue.
Accrued expenses
Accrued revenues
Examples:
a) Deferred costs /Pre paid expenses initially recorded as an expense.

Adjustment Supplies..xx
Supplies expense..xx

Reversing entry Supplies expensexx

Supplies..xx

b) Deferred revenues/ Unearned Revenues initially recorded as revenue.

Adjustment Rent revenue..xx

Unearned rent..xx

Reversing entryUnearned rent..xx

Rent revenue..xx
c) Accrued expenses

Adjustment Salary expense..xx

Salary payable..xx

Reversing entrySalary payable..xx

Salary expense..xx
d) Accrued revenues

Adjustment Interest receivable..xx

Interest income..xx

Reversing entry Interest income..xx

Interest receivable..xx

39
Exercises:

Q_1: Assume that Z Company acquired a supply at the cost of br.5, 000 on January
1, 2004. But at the end of 2004, the cost of supplies used was determined to be
Br.4450.Record all the necessary journal entries, adjusting entries, and reversing
entries; using both balance sheet and income statement approaches.

Q_2: XYZ Company received Br. 300,000 on cash for its building as a rent from its
customers in advance during year 1. However, Br. 50,000 represents payment for
which a house rent service to be delivered in the subsequent period. Record all the
necessary journal entries, adjusting entries, and reversing entries; using both balance
sheet and income statement approaches.

Q_3: Suppose the following facts for an enterprise that pays salaries weekly and ends
its fiscal year on Dec 31 of each year. Salaries are paid on Friday for the 5 (five) day
week ending on Friday. The balance in salary expense as of Friday Dec 27 is Br. 62,500.
Salaries accrued for Monday and Tuesday Dec 30 and Dec 31, total Br.500. Salaries paid
on Friday, Jan 3 of the following year total Br.1, 250.
Instructions
a. Journalize adjusting entry on Dec 31.
b. What will be the balance of salary expense and salary payable after the adjusting
entries has been posted?
c. Record reversing entry for accrued salaries.
d. Record payment of salary on Friday (Jan 3 of the following year) , assume no
reversing entry was made(no transaction c)
e. Record payment of salary on Friday (Jan 3 of the following year), assuming
reversing entry was made (transaction c was recorded and posted).

Q_4: Assume that an enterprise has a note receivable on which Br. 6,000 of interest is
due every six months. If Br. 4,000 of interest income has been earned (accrued) on
Dec31, the end the year.
Required:
a. Record adjusting entries
b. Record receipt of cash without reversing entry.
c. Record reversing entry.
d. Record receipt of cash with reversing entry.

40