FA 4 - Adjusting Journal Entries

Question 1

Explicit and implicit transactions

Answer 1

Explicit -
triggered by a specific event, often an exchange of resources between two parties.

Implicit -
Do not have a specific trigger, but instead involve some degree of judgment in determining the timing and/or amount of the entry.

Question 2

Adjusting entries

Answer 2

Adjusting entries are made at the end of a given accounting period to record necessary adjustments and conform to the revenue recognition and matching principles.

At the end of a period, companies must ensure that appropriate accrual and deferral entries have been made.

Implicit transactions usually lead to adjusting entries

Question 3

Accruals

Answer 3

Transactions where cash changes hands after revenue or expense is recognized

Accrual related to revenue - perform service before receiving cash (sale for credit)

Accrual related to expense -
use resources before paying for them (buying on credit)

Question 4

Deferrals

Answer 4

Transactions where cash changes hands before revenue or expense is recorded.

Deferral related to revenue - receive cash before delivering service (advance payment)

Deferral related to expense - pay for resources before receiving benefit (advance insurance payment)

Question 5

Straight line depreciation

Answer 5

Recognizes expense for the asset in equal portions over the time period that the business expects to use the asset.

Land is an exception.

(Gross book value - Salvage value) / (Useful life)

Question 6

Accelarated depreciation

Answer 6

Recognizes more depreciation in the early years and less in the later years. Over the life of the asset, the same amount of depreciation will be recognized.
e.g. Double declining balance method

Double declining compared to straight line -
lower net income early years and higher in the later years.

Question 7

Contra account

Answer 7

Account whose balance is the opposite the normal account to which it relates

e.g. - sales revenue is a revenue account; sales discounts is a contra revenue account

Question 8

[ENTRY] Asset disposal

Answer 8

Accumulated depreciation (db)
PPE (cr)
Cash (db)
Gain/loss on sale of equipment

Loss - db, gain - cr.

Question 9

Impairment

Answer 9

Permanent reduction in value of asset due to market factors

Loss on impairment (db)
Accumulated depreciation (cr)

Question 10

Amortization

Answer 10

method of recognizing expense for long-lived intangibles

Question 11

Perpetual vs. periodic inventory

Answer 11

Perpetual - record the expense for inventory at the time it is sold

Periodic - periodically record cost of goods sold by physically counting the actual inventory

Question 12

LIFO, FIFO

Answer 12

Last In First Out
First In First Out
- inventory valuation, not necessarily actual flow of goods

Other methods -
Weighted Average
Specific Identification (for unique, expensive inventory like car showroom)

GAAP allows all, IFRS allows all except LIFO

Question 13

Product costs and Period costs

Answer 13

Product -
costs that a business incurs to buy, manufacture and deliver a good or service to a customer (raw materials, direct labour, etc.)

Period -
costs a company incurs while doing business (executive salaries, office rent)

This distinction matters for manufacturers

Question 14

Inventory for manufacturers

Answer 14

Manufacturers track their inventory in three stages -

raw materials, work in process (WIP), and finished goods.

Question 15

[ENTRY] Shifting inventory balance for manufacturer

Answer 15

Work in process (cr)
Finished goods (db)

OR

Finished goods (cr)
Cost of goods sold (db)

Question 16

Deferred taxes

Answer 16

Deferred tax assets and liabilities - arise because of temporary timing differences can cause the calculation of taxable income to differ from taxes for financial reporting.

Question 17

Deferred tax liability

Answer 17

Obligation to pay some amount of tax in the future related to income already reported in the income statement

i.e. amount due in the future related to income reported in the current period.

Question 18

Deferred tax asset

Answer 18

Prepayment of some amount of taxes for income not yet reported

Question 19

Tax expense, taxes payable

Answer 19

Tax expense = Income before taxes X Tax Rate
IbT = income after subtracting losses, expenses except taxes

Taxes payable = Taxable Income x Tax rate
Taxable income = amount on tax return after deductions

Question 20

DT asset/ liability occurence

Answer 20

DT asset =
Taxable income > Income before taxes

DT liability =
Taxable income < Income before taxes