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Asked Nov 23, 2019
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Define adjustment entries and how they are passed?

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Expert Answer

Step 1

Adjusting entries are those entries which are made at the end of the accounting period, to record the revenues in the period of which they have been earned and to record the expenses in the period of which have been incurred, as well as to update all the balances of assets and liabilities accounts on the balance sheet, and to ascertain accurate amount of net income (loss) on the income statement to maintain the records according to the accrual basis principle.

 

Accounting rules for journal entries:

 

  • To record increase balance of account: Debit assets, expenses, losses and credit liabilities, capital, revenue and gains.

 

  • To record decrease balance of account: Credit assets, expenses, losses and debit liabilities, capital, revenue and gains.

 

There are two basic categories of adjusting entries:

 

  1. Deferrals – Deferred/Prepaid expenses, and Deferred/unearned revenue.
  2. Accruals – Accrued revenues, and accrued expenses.
Step 2

Few examples of adjusting entries are provided as below:

1) Insurance was paid at the beginning of the year for Three year period amounting to $3600 and was debited to Prepaid Insurance.

In this case, we need to account for the Insurance expenses for the current year amounting to $3600/3=$1200. The prepaid Insurance balance should also be deducted by $1200 and the amount of $3600-$1200= $2400 should be carried to the as prepaid expense in the balance sheet.

 2) The Unearned Revenue balance contains Income which relates to current year amounting to $2000.

In this case, the Income should be recognized in the current year. Instead it is getting reflec...

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Financial Accounting

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