Chapter 4, Problem 4.15E

Recording Adjusting Entries and Preparing an Adjusted Trial Balance

North Star prepared the following unadjusted trial balance at the end of its second year of opera­tions ending December 31.

Account Titles	Debit	Credit
Cash	$12,000
Accounts Receivable	6,000
Prepaid Rent	2,400
Equipment	21.000
Accumulated Depreciation—Equipment		$ 1,000
Accounts Payable		1.000
Income Tax Pavable		0
Common Stock		24,800
Retained Earnings		2,100
Sales Revenue		50.000
Salaries and Wages Expense Utilities Expense	25,000 12.500
Rent Expense	0
Depreciation Expense Income Tax Expense	0 0
Totals	578,900	578,900

Other data not yet recorded at December 31:

1. a. Rent expired during the year, $1,200.
2. b. Depreciation expense for the year, $ 1,000.
3. c. Utilities owing, $9,000.
4. d. Income tax expense, $390.

Required:

1. 1. Using the format shown in the demonstration case, indicate the accounting equation effects o each required adjustment.
2. 2. Prepare the adjusting journal entries required at December 31.
3. 3. Summarize the adjusting journal entries in T-accounts. After entering the beginning balances and computing the adjusted ending balances, prepare an adjusted trial balance as o December 31.
4. 4. Compute the amount of net income using (a) the preliminary (unadjusted) numbers, and (b) the final (adjusted) numbers. Had the adjusting entries not been recorded, would net income have been overstated or understated, and by what amount?

To determine

The effects on accounting equation of the adjusting journal entries.

Answer to Problem 4.15E

Following are the effects of accounting equation on the adjusting journal entries.

Figure (1)

Note:

E represents expenses

xA represents contra asset

Explanation of Solution

Accounting equation:

Accounting equation is an accounting tool expressed in the form of equation, by creating a relationship between the resources or assets of a company, and claims on the resources by the creditors and the owners. Accounting equation is expressed as shown below:

$\boxed{\text{Assets = Liabilities + Stockholders' Equity}}$

a.

• Prepaid rent is an asset. There is a decrease in the asset. Hence, the asset will be decreased by $1,200.
• Prepaid rent is an asset. Hence, there is no effect on liability account.
• Rent expense is an expense account which is a component of stockholders’ equity. There is an increase in the expense account which decreases the stockholders’ equity. Hence, the stockholders’ equity will be decreased by $1,200.

b.

• Accumulated depreciation is a contra asset. There is a decrease in the asset. Hence, the asset account will be decreased by $1,000.
• Accumulated depreciation is a contra asset. Hence, there is no effect on liability account.
• Depreciation expense is an expense account which is a component of stockholders’ equity. There is an increase in the expense account which decreases the stockholders’ equity. Hence, the stockholders’ equity is decreased by $1,000.

c.

• Accounts payable is a liability. Hence, there is no effect on the asset account.
• Accounts payable is a liability. There is an increase in the liability. Hence, the liability account will be increased by $9,000.
• Utilities expense is an expense account which is a component of stockholders’ equity. There is an increase in the expense account which decreases the stockholders’ equity. Hence, the stockholders’ equity will be decreased by $9,000.

d.

• Income tax payable is a liability. Hence, there is no effect on the asset account.
• Income tax payable is a liability. There is an increase in liability. Hence, the liability account will be increased by $390.
• Income tax expense is an expense account which is a component of stockholders’ equity. There is an increase in the expense account which decreases the stockholders’ equity. Hence, the stockholders’ equity is decreased by $390.

To determine

To prepare: Adjusting journal entry required for each item at December 31.

Answer to Problem 4.15E

Prepare adjusted journal entries for each item at June 30:

Date	Account Title and Explanation		Debit ($)	Credit ($)
	Rent expense (+E, -SE) (1)		1,200
		Prepaid  rent (-A)		1,200
	(To record the adjusting entry for Rent expense)
	Depreciation expense (+E, -SE)		1,000
		Accumulated Depreciation-Equipment(+xA, -A)		1,000
	(To record adjusting entry for depreciation expense)
	Utilities expense (+E, -SE)		9,000
		Accounts payable(+L)		9,000
	(To record the adjusting entry for utilities expenses)
	Income tax expense(+E, -SE)		390
		Income tax payable(+L)		390
	(To record the adjusting entry for income tax expense)

a.

b.

c.

d.

Table (1)

Explanation of Solution

Adjusting entries:

Adjusting entries are the journal entries which are recorded at the end of the accounting period to correct or adjust the revenue and expense accounts, to concede with the accrual principle of accounting.

a.

• Prepaid rent is an asset and it increases. Hence, debit prepaid expenses account with $1,200.
• Cash is an asset and it decreases. Hence, credit cash account with $1,200.

b.

• Depreciation expense is an expense which is the component of stockholders’ equity. There is an increase in expense account which decreases the stockholders’ equity. Hence, debit Depreciation expense with $1,000.
• Accumulated depreciation is a contra asset. There is a decrease in the asset. Hence, credit the asset account by $1,000.

c.

• Utilities expense is an expense which is a component of stockholders’ equity. There is an increase in the expense account which decreases the stockholders’ equity. Hence, debit the utilities expense by $9,000.
• Accounts payable is a liability. There is an increase in the liability. Hence, credit  the accounts payable account by $9,000.

d.

• Income tax expense is an expense which is a component of stockholders’ equity. There is an increase in the expense account which decreases the stockholders’ equity. Hence, debit the income tax expense by $390.
• Income tax payable is a liability. There is an increase in liability. Hence, credit the income tax payable account by $390.

To determine

To Summarize: The adjusting journal entries in T-accounts after the beginning balances and computing the adjusted ending balances, and to prepare the adjusted trial balance as of December 31.

Explanation of Solution

T-account:

T-account refers to an individual account, where the increases or decreases in the value of specific asset, liability, stockholder’s equity, revenue, and expenditure items are recorded.

This account is referred to as the T-account, because the alignment of the components of the account resembles the capital letter ‘T’. An account consists of the three main components which are as follows:

(a)The title of the account

(b)The left or debit side

(c)The right or credit side

Post the adjusted entries in T-account:

Prepaid rent (A) account
Balance	2,400
		a	1,200
Ending balance	1,200
Rent expense (E) account
Balance	0
a	1,200
Ending balance	1,200

Accumulated DepreciationEquipment -(xA) account
		Balance	1,000
		b	1,000
		Ending balance	2,000
Depreciation expense (E) account
Balance	0
b	1,000
Ending balance	1,000
Accounts payable (L) account
		Balance	1,000
		c	9,000
		Ending balance	10,000
Utilities expense(E) account
Balance	12,500
c	9,000
Ending balance	21,500

Income tax payable (L) account
		Balance	0
		d	390
		Ending balance	390
Income tax expense(E) account
Balance	0
d	390
Ending balance	390

Prepare adjusted trial balance as of December 31:

Company NS
Adjusted Trial balance
As of December 31
Account Titles	Debit ($)	Credit ($)
Cash	12,000
Accounts Receivable	6,000
Prepaid Rent	1,200
Equipment	21,000
Accumulated Depreciation–Equipment		2,000
Accounts Payable		10,000
Income Taxes Payable		390
Common Stock		24,800
Retained Earnings		2,100
Sales Revenue		50,000
Salaries and Wages Expense	25,000
Utilities Expense	21,500
Rent Expense	1,200
Depreciation Expense	1,000
Income Tax Expense	390
Totals	$ 89,290	$ 89,290

Table (2)

To determine

To Compute: The amount of net income using (a) the preliminary (unadjusted) numbers, and (b) the final  (adjusted) numbers and to state without adjustments would net income have been overstated or understated and by what amount.

Explanation of Solution

1. (a) Calculation of preliminary net income:

$\begin{array}{c}\text{Preliminary net income =}\left[\begin{array}{l}\text{Sales revenue}-\\ \text{Salaries and wages expense}-\\ \text{Utilities expense}\end{array}\right]\\ \text{=\$50,000}-\$25,000-\$12,500\\ =\$12,500\end{array}$

1. (b) Calculation of adjusted net income:

$\begin{array}{c}\text{Adjusted net income =}\left[\begin{array}{l}\text{Sales revenue}-\\ \text{Salaries and wages expense}-\\ \text{Utilities expense}-\\ \text{Rent expense}-\\ \text{Depreciation expense}\end{array}\right]\\ =\left[\begin{array}{l}\$50,000-\$25,000-\$21,500\\ -\$1,200-\$1,000-\$390\end{array}\right]\\ =\$910\end{array}$

Calculation of overstated preliminary net income:

$\begin{array}{c}\text{Overstated preliminary net income=Preliminary net income}-\text{Adjusted net income}\\ =\$12,500-\$910\\ =\$11,590\end{array}$

Conclusion

Without adjustments, preliminary net income would have been overstated by $11,590.