Midterm 2 (9-17) Flashcards
Assets should end with a __ balance
DEBIT
- If it ends with credit it really changes accounts and becomes an account payable
- if cash has a credit balance at the end it is NOT an asset
Retained Earnings can have an ending debit balance
- RE = NI-Dividends
- NI = Rev - Exp
- if expenses cost more that revenues - in startup companies
- but would really be called a retained deficit or cumulative losses
Steps to Fin Systems
- Identify
- analyze
- record in journal
- post to general ledger
- prepare trial balance
- Journalize and post to ledger any necessary adjusting entries at end of period
- Prepare fin stmts
- Journalize and post Closing entries
Accrual basis accounting
Timing of revenues and expenses with 2 principles: Revenue recognition principle and matching principle
- required by GAAP bc statements are for creditors and investors
- don’t want to be able to manipulate timing of revenues and expenses
Revenue Recognition Principle (Accrual)
TIMING OF REVENUES
-Revenues are to be recognized/recorded in the period in which they are EARNED, not received
Matching principle
TIMING OF EXPENSES
- Expenses recognized in period in which those costs provide benefit to the business operations
- expenses matched against revenues they HELPED PRODUCE, not necessarily period in which cash is paid
Cash basis accounting
Used for personal income taxation
- allowed by IRS
- ability to pay concept
- there are opportunities for income manipulation
- —don’t have to pay income tax til next year bc didn’t receive income until the year after
Adjusting Entries required to comply with accrual basis accounting
- Prepaid expenses (matching)
- unearned revenue (revenue recognition)
- unpaid and unrecorded expenses (matching)
- uncollected and unrecorded revenues (recognition)
Prepaid expenses adjusting entry
Insurance purchased 12 months in advance on 10/1 (Asset)
-right to next 12 months of insurance
Entry at 10/1
Prepaid Insurance expense 1200
Cash 1200
Adjusting entry at year end (3 months)
Insurance expense 300
prepaid Ins. Exp 300
PREPAID INSURANCE EXPENSE (T chart) 10/1/X1 1200 300 12/31/X1 (Adjust) Balance 900 -(9 months future benefit of $900)
-MATCHING PRINCIPLE (prepaid ins exp, rent exp)
If don’t fix you:
-underestimate expenses
-overestimate assets, net income, retained earnings, and owners equity
-liabilities not affected
Unearned Revenue adjusting entries
Receives 3000 in advance on 12/1/X1 for consulting services for next 2 months (liability)
Entry at 12/1/X1
Cash 3000
Unearned fee rev. 3000
Adjusting entry 12/31/X1
Unearned fee rev 1000
fee revenues 1000
UNEARNED FEE REVENUES
3000 12/1/X1
12/31/XI (adjust) 1000
2000 (balance) 12/31/X1
-(2 months times 1000 - liability of 2000 for 2 more months)
REVENUE RECOGNITION PRINCIPLE If didn't adjust -overestimate liabilities -underestimate revenues, NI, RE, OE -no affect on assets
Unpaid and unrecorded expenses adjusting
Employees work Dec. but receive wage at 1/15/X2
-must adjust for 12/31/x1 but not previously recorded
Adjusting entry at 12/31/X1
Wage expense 10000
Wage payable 10000
1/15/X2
Wage payable 10000
Cash 10000
(Utility expense
utility payable)
MATCHING PRINCIPLE
If didn’t adjust
-overestimate NI, RE, OE
-Underestimate liabilities and expenses
Uncollected and unrecorded revenues adjust
Company earned 500 interest on a loan at end of year X1, even though expect to collect loan at end of next year
Adjusting entry 12/31/X1 Interest receivable 500 Interest income (rev) 500
(consulting receivable
consulting fee revenue)
REVENUE RECOGNITION
If didn’t fix
-underestimate revenue and net income
Real vs. Nominal accounts
REAL
- All accounts on the balance sheet (A, L, OE, CS, RE)
- Balance of account is a CUMULATIVE running balance
- reflecting all transactions since inception of the business
NOMINAL
- all INCOME statement accounts (rev/exp/dividends)
- do not maintain cumulative running balance since inception but accumulates period by period (yr by yr)
- nominal accounts are closed at end of account period and their amounts are transferred to RE, then start at 0 again for new period
Closing entries
- All rev, exp, and divined accounts must be reset to 0 to start next accounting period
- Retained earnings account must be updated to include the amount of net income (R-E) less dividends for the current year
SALES REVENUES
0 1/1/X4
550,000 X4 transactions
550,000 12/31/X4
Closing entry 550,000
0 1/1/X5
Closing entry at 12/31/X4
Sales revenues 550,000
retained earnings 550,000
Retained earnings
RETAINED EARNINGS 10000 1/1/X2 15,000 NI Dividends 5,000 20,000 12/31/X2 (balance)
- alternative to closing entries is stmt of retained earnings
- close all income stmt accounts to RE (cost of goods, expenses, revenues)
- less any dividends
DIVIDENDS entry
Retained earnings 5000
dividends 5000
Closing entries 2
DEBIT HAS TO EQUAL CREDIT
- sales revenue would close on debit side
- cost and expenses would close on credit side
- difference in the entry would be the retained earnings (whether a loss or gain)
Retained earnings 6,800 X1 net loss 2,200 dividends 500 4,100 (Balance X2)
Dividends
Can pay dividends in a net loss with retained earnings from last year
-can’t pay dividends unless you have retained earnings to do it
Inventory example
- inventory 1/1/X3 25,000
- inventory 12/31/x3 23,000
- cost of goods sold x3 - 100,000
INVENTORY Balance 1/1/X3 25,000 100,000 cost (FIND = 98,000) 12/31/X3 23,000
Inventory 98,000
Cash 98,000
Cost of goods 100,000
inventory 100,000
Problem with wages
Dec. 31 is Tues - wages paid Fri and weekly payroll (5 days) is $4000. What should adjust on 12/31/
12/31/X1 adjust
Wage expense 1,600
Wage payable 1,600
(been 2 days - owe two days of wages - bc next 3 are in new year)
Revenues
The amount of inflowing assets from the sale of goods/services to customers - ant usually reflected in the sales price charged to customers
timing - revenues are recognized when they are EARNED not when cash is received from customers
-typically earned when goods sold have been delivered to customer or services to be provided have been rendured
Complicating revenue transactions
- Providing of sales or cash discounts to credit customers to encourage early payment on account
- acceptance of merchandise returns from customers
- the uncollectibility of customer accounts receivable
- the acceptance of payment of credit cards
Sales (cash) discount adjust
Company sells merchandise costing $600 to a customer on account for $1,000 with terms of 2/10, N/30
2/10, N/30 means customer may take 2% discount of all or portion of price paid within 10 days of sale. Any portion of price not paid within the 10 day discount period is due within the next 20 days (30 days from date of sale) in full
- 2 = amount of discount (2%)
- 10 = how long discount period lasts
- N/30 = portion that has not been paid off must be paid by then
to encourage customer to pay A/R early
Entries of NOT paid within discount period
AT DATE OF SALE Accounts receivable 1000 sales revenue 1000 cost of goods sold 600 inventory 600
AT DATE OF COLLECTION
Cash 1000
A/R 1000
if a penalty or interest is charged to credit customer for payments received AFTER 30 days
Cash XXX
interest revenue XXX
Calculate discount in terms of 2/10, N/20
1000 X 2% = $20 discount available
calculate amount of interest
Interest rate X principle amount X time period = interest amt.
36% X $1,000 X 1 year = $360 annual interest
$360 annual interest = $1 interest per day
10th day - borrow $980 from bank (to pay off with discount)
- 10% X $980 X 20/360 = $5
- pay back bank $985 on 30th day
Entries if paid within discount period
AT DATE OF SALE Accounts receivable 1000 sales revenue 1000 cost of goods sold 600 inventory 600
AT DATE OF COLLECTION WITHIN 10 DAYS
Cash 980
Sales discounts 20
A/R 1000
Sales discounts is a contra-revenue account (reduction of revenue account) - nominal and must be closed to RE at end of period
Income statement sales revenues 1000 Less: sales discounts (20) Net sales revenues $980 -Net sales revenues is gross sales revenues less any contra-revenues