All adjusting entries (other than error corrections) will always involve at least one account on the balance sheet and at least one account on the income statement.
I. Deferral Adjustments
A deferral involves a past exchange of cash that has initially been recorded on the balance sheet rather than on the income statement. The name deferral comes about because the recording on the income statement is deferred (postponed) to a later time.A. Deferred Expenses
A deferred expense is initially recorded on the balance sheet as an asset than being immediately expensed. An adjusting entry becomes necessary as the asset is consumed and becomes an expense. 1. Illustration for a short-term asset
> Past exchange of cash
Asset XXX
Cash XXX
> Adjusting entry necessary as the asset is consumed
Expense XXX (Income statement)
Asset XXX (Balance sheet)
Example:
The supplies account currently shows a $300 balance. A count of the
supplies determines that only $250 remains.
Supplies Expense 50
Supplies 50
2. Illustration for a long-term asset
The adjusting entry for long-term assets differs in that instead of
reducing the asset directly, a contra account is used that is
subtracted from the asset on the balance sheet.
> Past exchange of cash
Asset XXX
Cash XXX
> Adjusting entry necessary as the asset is consumed
Depreciation Expense XXX (Income statement)
Accumulated Depreciation XXX (Balance sheet)
Example:
Current year depreciation is $2,500.
Depreciation Expense 2,500
Accumulated Depreciation 2,500
Note: Accumulated depreciation is a contra account that is
subtracted from the asset on the balance sheet. It
has a normal credit balance.
B. Deferred Revenues
A revenue cannot be recorded until the income has been earned. Cash received in advance of income realization should be initially recorded in a liability account such as "Unearned Revenue". An adjusting entry later becomes necessary as the revenue is earned. The liability should be reduced and the revenue recorded. > Past exchange of cash
Cash XXX
Unearned Revenue XXX
> Adjusting entry necessary as revenue is earned
Unearned Revenue XXX (Balance sheet)
Revenue XXX (Income statement)
Example: Adams CPA previously received $500 for bookkeeping services
in advance of providing the services. Adams has now earned
$300 of the money.
Unearned Revenue 300
Revenue 300
II. Accrual Adjustments
An accrual involves a future exchange of cash that must be recorded on the income statement before cash is exchanged.A. Accrued Expenses
> Adjusting entry
Expense XXX (Income statement)
Liability XXX (Balance sheet)
> Future exchange of cash
Liability XXX
Cash XXX
Example:
Interest accrued on a loan at the end of the month is $550.
Interest Expense 550
Interest Payable 550
B. Accrued Revenues
> Adjusting entry
Receivable XXX (Balance sheet)
Revenue XXX (Income statement)
> Future exchange of cash
Cash XXX
Receivable XXX
Example:
Performed $400 of services for a customer on account.
Accounts Receivable 400
Revenue 400
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