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Jun 14, 2024

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CHAPTER 3 ADJUSTING THE ACCOUNTS

Test Bank for Financial Accounting, Fifth Edition CHAPTER STUDY OBJECTIVES 1. Explain the time period assumption. The time period assumption assumes that the economic life of a business can be divided into artificial time periods. 2. Explain the accrual basis of accounting. Accrual-basis accounting means that events that change a company's financial statements are recorded in the periods in which the events occur, rather than in the periods in which the company receives or pays cash. 3. Explain why adjusting entries are needed. Adjusting entries are made at the end of an accounting period. They ensure that revenues are recorded in the period in which they are earned and that expenses are recognized in the period in which they are incurred. 4. Identify the major types of adjusting entries. The major types of adjusting entries are prepaid expenses, unearned revenues, accrued revenues, and accrued expenses. 5. Prepare adjusting entries for prepayments. Prepayments are either prepaid expenses or unearned revenues. Adjusting entries for prepayments are required at the statement date to record the portion of the prepayment that represents the expense incurred or the revenue earned in the current accounting period. 6. Prepare adjusting entries for accruals. Accruals are either accrued revenues or accrued expenses. Adjusting entries for accruals are required to record revenues earned and expenses incurred in the current accounting period that have not been recognized through daily entries. 7. Describe the nature and purpose of an adjusted trial balance. An adjusted trial balance shows the balances of all accounts, including those that have been adjusted, at the end of an accounting period. Its purpose is to show the effects of all financial events that have occurred during the accounting period. a 8. Prepare adjusting entries for the alternative treatment of prepayments. Prepayments may be initially debited to an expense account. Unearned revenues may be credited to a revenue account. At the end of the period, these accounts may be overstated. The adjusting entries for prepaid expenses are a debit to an asset account and a credit to an expense account. Adjusting entries for unearned revenues are a debit to a revenue account and a credit to a liability account. 3 - 2

Adjusting the Accounts TRUE-FALSE STATEMENTS 1. Because accounting often requires estimates to be made to assess the effect of a transaction, the shorter the time period, the easier it becomes to determine the proper adjustments. F 2. The time period assumption states that the economic life of a business entity can be divided into artificial time periods. T 3. The time period assumption is often referred to as the matching principle. F 4. A company's calendar year and fiscal year are always the same. F 5. Accounting time periods that are one year in length are referred to as interim periods. F 6. Income will always be greater under the cash basis of accounting than under the accrual basis of accounting. F 7. The cash basis of accounting is not in accordance with generally accepted accounting principles. T 8. The matching principle requires that assets be matched with liabilities. F 9. Accrual basis accounting requires that expenses be recognized when incurred regardless of when paid. T 10. The revenue recognition principle dictates that revenue be recognized in the accounting period in which cash is received. F 11. Adjusting entries impact only revenue and expense accounts. F 12. An adjusting entry always involves two balance sheet accounts. F 13. Adjusting entries are often made because some business events are not recorded as they occur. T 14. Adjusting entries are recorded in the general journal but are not posted to the accounts in the general ledger. F 15. Revenue received before it is earned and expenses paid before being used or consumed are both initially recorded as liabilities. F 16. Accrued revenues are revenues which have been received but not yet earned. F 17. The book value of a depreciable asset is always equal to its market value because depreciation is a valuation technique. F 18. Accumulated Depreciation is a liability account and has a credit normal account balance. F 19. Uneaned Revenue is reported on the income statement. F 3 - 3

Test Bank for Financial Accounting, Fifth Edition 20. Accumulated Depreciation is deducted from a long-term asset account and reported on the balance sheet. T 21. Unearned revenue is a prepayment that requires an adjusting entry when services are performed. T 22. Prepaid expenses are recorded as assets initially and then charged to expense as they expire with the passage of time or are consumed in the course of business. T 23. A contra asset account is subtracted from a related account in the balance sheet. T a 24. If prepaid costs are initially recorded as expenses, no adjusting entries will be required in the future. F 25. The cost of a depreciable asset less accumulated depreciation reflects the book value of the asset. T 26. Accrued revenues are revenues that have been earned and received before financial statements have been prepared. F 27. Financial statements can be prepared from the information provided by an adjusted trial balance. T a 28. The adjusting entry at the end of the period to record an expired cost may be different depending on whether the cost was initially recorded as an asset or an expense. T a 29. Rent received in advance and credited to a rent revenue account which is still unearned at the end of the period, will require an adjusting entry crediting a liability account for the amount still unearned. T 30. An adjusting entry to record the expiration of insurance intially recorded as an asset requires a credit to Prepaid Insurance. T 31. The matching principle requires that expenses be matched with revenues. T 32. In general, adjusting entries are required each time financial statements are prepared. T 33. Every adjusting entry affects one balance sheet account and one income statement account. T 34. If depreciation expense is not recorded, both assets and expenses will be understated. F 35. If an unearned revenue account is not adjusted for revenues earned during the period, liabilities will be overstated and revenue will be understated. T 36. An adjusted trial balance should be prepared before the adjusting entries are made. F 37. If a prepaid expense account is not adjusted for the portion of the asset which has expired, both assets and expenses are overstated. F 3 - 4

Adjusting the Accounts Answers to True-False Statements Item Ans. Item Ans. Item Ans. Item Ans. Item Ans. Item Ans. Item Ans. 1. F 7. T 13. T 19. F 25. T 31. T a 37. F 2. T 8. F 14. F 20. T 26. F 32. T 3. F 9. T 15. F 21. T 27. T 33. T 4. F 10. F 16. F 22. T a 28. T 34. F 5. F 11. F 17. F 23. T a 29. T 35. T 6. F 12. F 18. F 24. F a 30. T 36. F MULTIPLE CHOICE QUESTIONS 38. Monthly and quarterly time periods are called a. calender periods. b. fiscal periods. c. interim periods. d. quarterly periods. 39. The time period assumption states that a. a transaction can only affect one period of time. b. estimates should not be made if a transaction affects more than one time period. c. adjustments to the enterprise's accounts can only be made in the time period when the business terminates its operations. d. the economic life of a business can be divided into artificial time periods. 40. An accounting time period that is one year in length, but does not begin on January 1, is referred to as a. a fiscal year. b. an interim period. c. the time period assumption. d. a reporting period. 41. Adjustments would not be necessary if financial statements were prepared to reflect net income from a. monthly operations. b. fiscal year operations. c. interim operations. d. lifetime operations. 42. Management usually desires ________ financial statements and the IRS requires all businesses to file _________ tax returns. a. annual, annual b. monthly, annual c. quarterly, monthly d. monthly, monthly 43. The time period assumption is also referred to as the a. calendar assumption. b. cyclicity assumption. c. periodicity assumption. d. fiscal assumption. 3 - 5

Test Bank for Financial Accounting, Fifth Edition 44. In general, the shorter the time period, the difficulty of making the proper adjustments to accounts a. is increased. b. is decreased. c. is unaffected. d. depends on if there is a profit or loss. 45. Which of the following is not a common time period chosen by businesses as their accounting period? a. Daily b. Monthly c. Quarterly d. Annually 46. Which of the following time periods would not be referred to as an interim period? a. Monthly b. Quarterly c. Semi-annually d. Annually 47. The fiscal year of a business is usually determined by a. the IRS. b. a lottery. c. the business. d. the SEC. 48. Which of the following are in accordance with generally accepted accounting principles? a. Accrual basis accounting b. Cash basis accounting c. Both accrual basis and cash basis accounting d. Neither accrual basis nor cash basis accounting 49. Horton Enterprises performed services on July 30, billed the customer on August 3, and received payment on September 7. The revenue should be recognized in a. December. b. July. c. August. d. September. 50. In a service-type business, revenue is considered earned a. at the end of the month. b. at the end of the year. c. when the service is performed. d. when cash is received. 51. The matching principle matches a. customers with businesses. b. expenses with revenues. c. assets with liabilities. d. creditors with businesses. 3 - 6

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