Chapter 12-Prepaid/Accrued Expenses Flashcards
Explain how the Going Concern and Period Assumption affect the calculation of profit?
Define [Going concern assumption]. Define [Period Assumption]. This leads to closing the ledger at the end of the Period so that profit can be calculated using only those revenues and expenses that relate the current period
Explain how profit is calculated under the Accrual Basis Assumption
Profit is calculated as revenue earned less expenses incurred in the current period
Explain why profit may be inaccurate if balance day adjustments are NOT recorded
If at balance day there is revenue that has been earned by not yet received, or expenses incurred but not yet paid, then these items may not appear in the revenue and expense accounts. Thus, the calculation of profit would be inaccurate.
Explain the purpose of balance day adjustments
The purpose of balance day adjustments is to ensure that profit can be calculated accurately, by comparing revenues earned against expenses incurred in the current period
Explain how balance day adjustments ensure Relevance in the Accounting Reports
The application of the Period principle leads to Relevance by ensuring that the IS (and BS) includes all information that is capable of making a difference to decision-making, while excluding information that is not. Information that would not be useful included revenues or expenses that were earned/incurred outside the current period.
What is a prepaid expense
A current asset that has been paid in advance in the current Period but yet to be incurred.
Explain why a prepaid expense is classified as a current asset
An expense that has yet to be paid in advance is a current asset because it increases assets: the economic benefit has not yet been consumed, but instead the future economic benefit will flow to the entity within the next 12 months
Explain how a balance day adjustment for a prepaid expense which has been incurred ensures Relevance in the report
As a consequence of the balance day adjustment expenses and assets are reported accurately, meaning Net Profit and the BS are also accurate, and include all Relevant information capable of effecting decision-making.
What is an Accrued Expense
A current liability that arises when an expense has been incurred in the current Period but not yet paid for
Explain why an accrued expense is classified as a current liability
An expense incurred but not yet paid for is considered to be a present obligation of the entity, as a result of past events, that is reasonably expected to be settled (when the accrued expense is paid) sometime in the next 12 months.
Why is the payment in subsequent periods for an accrued expense split in the general journal
When a payment of an accrued expense is made in a subsequent period, some of the payment is used to reduce the liability for accrued expense (expense incurred in the last period), and some of the payment is used for the expense incurred in the current period.
