Adjusting Revenue and Expenses

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After preparing the trial balance and reviewing the accounts, the balances of some accounts may need to be changed, by recording additional entries, known as adjusting entries.


Adjusting Entries

It is an accounting procedure intended for the preparation of entries to settle some accounts and adjust their balances at the end of the fiscal period, in order to know the result of the project, whether profit or loss, and the financial position in a correct way.


Adjusting revenue and expenses

Among the accounts that need to reviewing it, and which might need to get adjusting entries, are the revenue and expenses accounts. According to the accrual principle of accounting, the revenue and profits that relate to the current fiscal period are recorded, whether they were collected during the Period or not, as well as recording the expenses and losses that relate to the current fiscal period, whether paid during the current period or not, i.e. recognizing to the revenue and expenses that relate to the current fiscal period, and ignore the revenues and expenses that relate to the next accounting periods, to know the real result of financial stements.


Expenses Adjustment

Expenses can be defined as those sums paid to get the service. When the company pays the expense for the service, an account is opened in the name of the expense and is recorded on the debit side as follows:

Credit Debit Description
xxx the expense A/C
xxx To the bank or the cash A/C
The expense was paid in cash or by check drawn on the bank
Example:

On 01/01/2015, Al Salam Company paid the sum of $ 1,000 for health insurance expenses, and the required sum was paid in cash.

Required:

Recording the entry in the General Journal.

Answer:

Credit Debit Description
1000 the health insurance A/C
1000 To the cash A/C
Health insurance expenses paid in cash

At the end of the fiscal period, the expense account appears in the income statement subtracted from the revenue of the current period, to identify the result of the Entity' business whether profit or loss.

Prepaid Expenses:

After preparing the trial balance and reviewing the expense account, the company might be seen that there are expenses recorded in the current period, but they are related to the next fiscal period. Then, according to the accrual principle of accounting, the amount recorded for the next fiscal period is excluded, by opening an account known as prepaid expenses to be recorded in the debit side, while reducing the expense account by recording it on the credit side.

Adjusting entry for reducing the value of the expense by the sum of the prepaid expense
Credit Debit Description
xxx the prepaid expense A/C
xxx To the expense A/C
Recording the prepaid expenses

The prepaid expense account is considered an asset account. It appears at the end of the fiscal period in the Statement of Financial Position (balance sheet) on the asset side, and not in the Income Statement.

Example

On 01/08/2015, Al Salam Company paid $ 600 in cash for a one-year Internet subscription.

Required:

Recording the Journal Entries for the year 2015.

Answer:

There are two of methods for recording the paid expenses as follows:

The first method is to record the paid expenses as an expense from the beginning:

On 01/08/2015 The paid subscription value of $ 600 is recorded as an expense from the beginning 1
Credit Debit Description
600 the internet expense A/C
600 To the cash A/C
Internet subscription for one year paid in cash

On 31/12/2015, the expense paid for the next fiscal period, which is the period from 01/01//2016 to 31/07/2016, i.e. 7 months, will be excluded.

= 600 x 7 = 350 $
12
Entry for recording and adjusting the value of the prepaid expenses by reducing the expense value 2
Credit Debit Description
350 the prepaid expense A/C
350 To the internet expense A/C
Recording the prepaid expenses

The second method: It is to record one (compound) entry, in which the value of the expense that relates to the current period as well as the prepaid expense are recorded as follows:

Credit Debit Description
250 internet expense A/C
350 prepaid internet expense A/C
600 To the cash A/C
Notes on the answer:
Whether we use the first method or the second method, the balance of the Internet expense account will appear at the end of the period in the income statement with a value of $ 250 . The balance of the prepaid Internet expense account will appear at the end of the period in the Statement of Financial Position (balance sheet) on the asset side with a value of $ 350.

Accrued expenses:

After preparing the trial balance and auditing the expense account, the Entity might also note that there are expenses relating to the current period, but they were not record and did not appear in the expenses balance in the trial balance at the end of the period. According to the accrual principle, the current period must be charged with the expense by recording it in the debit side and opening an account to be known as the accrued expenses to be recorded on the credit side as follows:

Entry for recording and adjusting the accrued expense
Credit Debit Description
xxx the expense A/C
xxx To the accrued expense A/C
Recording the value of the accrued expense in the current period

The account of accrued expenses is considered a liabilities account . It appears at the end of the fiscal period in the statement of financial position (balance sheet) on the liabilities side.

Example

On 31/12/2015, the balance of the salaries and wages expenses account shown in the trial balance was $ 10,000, and upon auditing, it was found out that the value of salaries and monthly wages was $1,000.

Required:

Recording the adjusting entry on 31/12/2015

Answer:

The salaries and wages expense to be paid for the year 2015 is equal to $12,000 (1,000*12 = $12,000), and as shown in the example, the value that has been recognized in the books was only $10,000, so an entry that proves the value of the due amount of $ 2,000 would be recorded.

Entry for recording and adjusting the accrued expense
Credit Debit Description
2000 the salaries and wages expense A/C
2000 To the accrued salary expense A/C
The value of the accrued expenses for the year 2015

Revenue Adjustment

Revenue can be defined as the sums collected from others or due from others as a result of providing a service. When the Entity receives a sum of money in return for providing a particular service, an account is opened under the name revenues and is recorded on the credit side as follows:

Revenue Entry
Credit Debit Description
xxx the cash or receivables A/C
xxx To the revenue A/C
Revenue received in cash or on credit
Example

On 30/04/2016, Al-Salam Company earned revenue for providing services worth $ 3000, and the value was received in cash.

Required :

Recording the entry in the journal

Answer:

Entry for recording the revenues received in cash
Credit Debit Description
3000 the cash A/C
3000 To revenue A/C
Revenue received in cash

At the end of the fiscal period, the revenue account appears in the income statement to find out the result of the entity's business whether profit or loss, and its balance is closed by recording it on the debit column, until its balance becomes zero. The method of closing it will be explained in the account closing lesson.

Accrued Revenue:

After preparing the trial balance and auditing the revenue account, it may be clear to the Entity that there are revenues relating to the current period, but they were yet not received and did not appear in the revenue balance in the trial balance at the end of the period. According to the accrual principle, these revenues must be recorded in the current period by recording them on the credit side and opening an account known as accrued revenue and will be recorded on the debit side as follows:

Entry for recording and adjusting the value of the accrued revenue
Credit Debit Description
xxx the accrued revenue A/C
xxx To the revenue A/C
Recording the value of the accrued revenue

The accrued revenue account is considered an asset account, which appears at the end of the fiscal period in the statement of financial position (balance sheet) on the asset side, not in the income statement.

Example

In the year 2015, Al Salam Company signed a group of contracts with other companies for providing consultation services in the field of accounting and auditing. At the end of the fiscal year and upon auditing the accounts, it was turned out in the accounting books of Al Salam Company that there were accrued revenue of $ 500 and were not recorded in its books.

Required :

Recording the adjusting entry on 31/12/2015

Answer:

Entry for recording and adjusting the value of the accrued revenue
Credit Debit Description
500 the accrued revenue A/C
500 To the revenue A/C
Accrued Revenue

Deferred Revenue (Unearned Revenue):

After preparing the trial balance and auditing the revenue account, it may be turned out to the Entity that there are Revenue received in the current fiscal period, but is related to the next fiscal period. According to the accrual principle, this Revenue is excluded from the current period by opening an account in the name of Deferred Revenue to be recorded on the credit side, and reducing the revenue account by recording it on the debit side as follows:

Entry for recording and adjusting the value of the deferred (unearned) revenue by reducing the value of the revenue
Credit Debit Description
xxx the revenue A/C
xxx To deferred (unearned) revenue A/C
Recording the deferred (unearned) revenue

The deferred (unearned) revenue account is a liabilities account (debt). it appears at the end of the fiscal period in the statement of financial position (balance sheet) on the side of the liabilities not in the income statement.

Example

On 01/10/2015 Al-Amal Enterprise for Advertising has received from a customer the amount of USD 10,000 in return for providing its advertising services for a period of one year beginning on 01/10/2015 and ending on 01/10/2016.

Required:

Recording the journal entries in 2015

Answer:

There are two methods to record the revenue as follows:

The first method to record the received revenue as a revenue since the beginning:

on 01/10/2015 the amount of the received revenue, which equals to USD 10,000, is recorded as revenue from the beginning 1
Credit Debit Description
10000 the cash A/C
10000 To the revenue A/C
Revenue received for providing advertising services for a year

On 31/12/2015 the revenue received for the upcoming fiscal period, which is the period from 01/01/2016 to 01/10/2016 which is 9 months.

= 10,000 x 9 = 7500 $
12
Entry for recording and adjusting the value of the deferred (unearned) revenue by reducing the value of the revenue 2
Credit Debit Description
7500 the revenue A/C
7500 To the deferred (unearned) revenue A/C
recording the deferred (unearned) revenue

The second method It is to record one (compound) entry, in which the value of revenue that pertains to the current period and the value of the deferred (unearned) revenue for the subsequent fiscal period is recorded:

Credit Debit Description
10000 the cash A/C
2500 To revenue A/C
7500 To deferred (unearned) revenue A/C
Notes on the answer:
Whether we use the first method or the second method, the revenue account balance will appear at the end of the period with a value of USD 2,500 and closed in the profit and loss account (income summary) as it will be explained in the upcoming lessons. The balance of the deferred (unearned) revenue account will appear at the end of the period with a value of USD 7,500 it is recycled to the next fiscal period as a liability.

After completing the record of the adjusting entries for the revenues, expenses and other accounts and adjusting their balances, a trial balance, after preparing the adjustments (Adjusted Trial Balance) is prepared again as we previously explained, so that the balances of the accounts appear with their new values after the adjustment and to start preparing the financial statements.


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