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GLENCOE / McGraw-Hill
Accruals,
Deferrals,
and the
Worksheet
Calculating
and Recording
Adjustments
Section Objectives
1.
Determine the adjustment for merchandise inventory,
and enter the adjustment on the worksheet.
2.
Compute adjustments for accrued and prepaid expense
items, and enter the adjustments on the worksheet.
3.
Compute adjustments for accrued and deferred income
items, and enter the adjustments on the worksheet.
The Accrual Basis of Accounting
Page
430
QUESTION:
What is the accrual basis?
ANSWER:
The accrual basis is a system of
accounting by which all revenues and
expenses are matched and reported on
financial statements for the applicable
period.
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430
Financial statements usually are prepared
using the accrual basis of accounting
because it most nearly attains the goal of
matching expenses and revenue in an
accounting period.
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430

Revenue is recognized when earned, not
necessarily when the cash is received.

Revenue is recognized when the sale is complete.

A sale is complete when title to the goods passes
to the customer or when the service is provided.

For sales on account, revenue is recognized when
the sale occurs even though the cash is not
collected immediately.
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430

Expenses are recognized when incurred or
used, not necessarily when cash is paid.

Each expense is assigned to the accounting period
in which it helped to earn revenue for the business,
even if cash is not paid at that time.

This is often referred to as matching revenues and
expenses.
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430
Adjustment for Merchandise
Inventory
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431
Objective 1
Determine the adjustment for
merchandise inventory, and
enter the adjustment on
the worksheet.
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431

An asset account for merchandise inventory is
maintained in the general ledger.
Inventory

All purchases of merchandise are debited to the
Purchases account.
Purchases

All sales of merchandise are credited to the
revenue account Sales.
Sales
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431
Notice that no entries are made directly to the
Merchandise Inventory account during the
accounting period.
Consequently, when the trial balance is prepared at
the end of the period, the Merchandise Inventory
account still shows the beginning inventory for the
period.
Merchandise Inventory
Purchases
Sales
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431
Adjustment for Merchandise
Inventory

At the end of each period a business determines
the ending balance of the Merchandise Inventory
account.

The first step in determining the ending inventory
is to count the number of units of each type of
item on hand.

As the merchandise is counted, the quantity on
hand is entered on an inventory sheet.
Page
431
QUESTION:
What is an inventory sheet?
ANSWER:
An inventory sheet is a form used to
list the quantity and type of goods a
firm has in stock.
Page
431
Based on a count taken on December 31,
merchandise inventory for Modern Casuals
totaled $46,000.
Modern Casuals needs to adjust the Merchandise
Inventory account to reflect the balance at the
end of the year.
The adjustment is made in two steps.
Each step needs two general ledger accounts:

Merchandise Inventory
 Income Summary
Page
431
The first step is to remove beginning inventory from the books.
Modern Casuals began the year with $51,500 in inventory.
QUESTION:
What is the amount of the first
inventory adjustment?
Beginning
Inventory
ANSWER:
$51,500
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431
Adjustment for Beginning Inventory
Which account is debited?
For what amount?
Which account is credited?
For what amount?
Page
431
Adjustment for Beginning Inventory
Income Summary
51,500
Merchandise Inventory
Bal. 51,500
51,500
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431
The next step is to place ending inventory on the books.
Modern Casuals ended the year with $46,000 in inventory.
QUESTION:
What is the amount of the next
inventory adjustment?
Ending
Inventory
ANSWER:
$46,000
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431
Adjustment for Ending Inventory
Which account is debited?
For what amount?
Which account is credited?
For what amount?
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431
Adjustment for Ending Inventory
Merchandise Inventory
46,000
Income Summary
46,000
Page
431
Objective 2
Compute adjustments for
accrued and prepaid expense
items, and enter the adjustments
on the worksheet.
Page
433
Adjustment for Loss from
Uncollectible Accounts
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433
Credit sales are made with the expectation
that the customers will pay the amount due
later.
Sometimes the account receivable is never
collected.
Losses from uncollectible accounts are
classified as operating expenses.
Page
433

Under accrual accounting, the expense for
uncollectible accounts is recorded in the same
period as the related sale.

The expense is estimated because the actual
amount of uncollectible accounts is not known
until later periods.

The estimated expense is debited to an account
named Uncollectible Accounts Expense.
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433
Several methods exist for estimating the
expense for uncollectible accounts.
Modern Casuals uses the percentage of net
credit sales method.
The rate used is based on the company's past
experience with uncollectible accounts and
management's assessment of current business
conditions.
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433
Modern Casuals estimates that 0.75 percent of net
credit sales will be uncollectible.
Net credit sales for the year were $100,000.
The estimated expense for uncollectible accounts
is $750 ($100,000 x 0.0075).
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433
The entry to record the expense for uncollectible accounts
includes a credit to a contra asset account, Allowance for
Doubtful Accounts.
This account appears on the balance sheet as follows.
Accounts Receivable
Allowance for Doubtful Accounts
Net Accounts Receivable
$32,000
(750)
$31,250
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433
Adjustment for Uncollectible Accounts
Which account is debited?
For what amount?
Which account is credited?
For what amount?
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431
Adjustment for Uncollectible Accounts
Uncollectible Accounts Expense
750
Allowance for Doubtful Accounts
750
Page
431
QUESTION:
Why doesn’t Uncollectible
Accounts Expense increase
when a customer’s account is
written off?
ANSWER:
The expense was already recorded based on
the estimate.
Page
434
Adjustments for Depreciation
Page
434
QUESTION:
What is property, plant, and equipment?
ANSWER:
Property, plant, and equipment are
long-term assets that are used in the
operation of a business and that are
subject to depreciation.
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434
EXCEPTION: Land is not depreciated.
Page
434
Adjustments for Accrued Expenses
Page
435
QUESTION:
What are accrued expenses?
ANSWER:
Accrued expenses are expense items
that relate to the current period but have
not yet been paid and do not yet appear
in the accounting records.
Page
435
Modern Casuals makes adjustments for three
types of accrued expenses:
 Accrued
 Accrued
 Accrued
salaries
payroll taxes
interest on notes payable
Because accrued expenses involve amounts that
must be paid in the future, the adjustment for
each item is a debit to an expense account and a
credit to a liability account.
Page
435
Adjustment for Accrued Salaries
From December 28 to January 3, the firm hired
several part-time clerks for the year-end sale.
Through December 31, 2004, these employees
earned $1,500.
The part-time salaries expense has not been
recorded because the employees will not be paid
until January 3, 2005.
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435
Adjustment for Accrued Salaries
Which account is debited?
For what amount?
Which account is credited?
For what amount?
Page
435
Adjustment for Accrued Salaries
Salaries Expense – Sales
1,500
Salaries Payable
1,500
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436
Accrued Payroll Taxes

Payroll taxes are not legally owed until the salaries are
paid.

Businesses that want to match revenue and expenses
in the appropriate period make adjustments to accrue
the employer's payroll taxes even though the taxes are
technically not yet due.
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436
Accrued Payroll Taxes

None of the part-time clerks employed by Modern
Casuals have reached the social security wage base
limit.

The entire $1,500 of accrued salaries is subject to the
employer's share of social security and Medicare taxes.
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436
The accrued employer's payroll taxes are:
Social security tax
$1,500 x 0.0620 = $ 93.00
Medicare tax
Total accrued payroll taxes
1,500 x 0.0145 =
21.75
$114.75
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436
Adjustment for Accrued
Payroll Taxes
Which account is debited?
For what amount?
Which accounts are credited?
For what amounts?
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436
Adjustment for Accrued
Payroll Taxes
Payroll Taxes Expense
114.75
Social Security Tax Payable
93.00
Medicare Tax Payable
21.75
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436
The entire $1,500 is also subject to unemployment taxes.
The accrued unemployment taxes are:
Federal unemployment tax $1,500 x 0.008
State unemployment tax
Total accrued taxes
$1,500 x 0.054
= $ 12.00
=
81.00
$ 93.00
Page
436
Adjustment for Accrued
Payroll Taxes
Which account is debited?
For what amount?
Which accounts are credited?
For what amounts?
Page
436
Adjustment for Accrued
Payroll Taxes
Payroll Taxes Expense Federal Unemp. Tax Payable State Unemp. Tax Payable
93.00
12.00
81.00
Page
436
Accrued Interest on Notes Payable
On December 1, 2004, Modern Casuals issued a twomonth note for $2,000, with annual interest of 12
percent.
Modern Casuals will pay the interest when the note
matures on February 1, 2005.
However, the interest expense is incurred day by day
and should be allocated to each fiscal period
involved in order to obtain a complete and accurate
picture of expenses.
Page
437
The accrued interest expense amount is
determined by using the interest formula:
Principal
x
Rate
x
Time
$2,000
x
0.12
x
1/12
=
$20
The fraction 1/12 represents one month, which is
1/12 of a year.
Date of note: December 1, 2004
Expense for 2004 = 1 month (Dec.1 - 31)
Page
437
Adjustment for Accrued
Interest on Notes Payable
Which account is debited?
For what amount?
Which account is credited?
For what amount?
Page
437
Adjustment for Accrued
Interest on Notes Payable
Interest Expense
20
Interest Payable
20
Page
437
Adjustments for Prepaid Expenses
Page
437
QUESTION:
What are prepaid expenses?
ANSWER:
Prepaid expenses (also called deferred
expenses) are expenses that are paid
for and recorded before they are used,
such as rent or insurance.
Page
437
Modern Casuals makes adjustments for
three types of prepaid expenses:

Prepaid supplies

Prepaid insurance

Prepaid interest on notes payable
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437
Adjustment for Prepaid Interest on
Notes Payable
On November 1, 2004, Modern Casuals borrowed
$9,000 from its bank and signed a three-month
note at an annual interest rate of 10 percent. The
bank deducted the entire amount of interest in
advance.
Page
438
Adjustment for Prepaid Interest on
Notes Payable
QUESTION:
What is the amount of interest prepaid
for three months?
$9,000 x 0.10 x 3/12
Principal x Rate x Time
ANSWER:
=
$225
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438
The interest expense for 1 month is $75:
$225  3 months
= $75
OR
$9,000 x 10% x 1/12 = $75
QUESTION:
What is the interest expense
for 2004?
$ 75
X
2
2 months (November and December)
ANSWER:
$150
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437
Adjustment for Prepaid Interest on
Notes Payable
Which account is debited?
For what amount?
Which account is credited?
For what amount?
Page
438
Adjustment for Prepaid Interest on
Notes Payable
Interest Expense
150
Prepaid Insurance
Bal.
225
150
Page
438
Adjustments for Accrued Income
Page
439
Objective 3
Compute adjustments for
accrued and deferred income
items, and enter the adjustments
on the worksheet.
Page
439
QUESTION:
What is accrued income?
ANSWER:
Accrued income is income that has
been earned but not yet received
and recorded.
Page
439
On December 31, 2004, Modern Casuals had two
types of accrued income:

Accrued interest on notes receivable

Accrued commission on sales tax
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439
Accrued Interest on Notes
Receivable
On November 1, 2004, Modern Casuals accepted
from a customer a four-month, 12 percent note for
$1,200.
The interest income is recorded when it is received,
which is normally when the note matures.
However, interest income is earned day by day.
At the end of the period, an adjustment is made to
recognize interest income earned but not yet
received or recorded.
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440
The amount of earned interest income is
determined by using the interest formula:
Principal
x
Rate
x
Time
$1,200
x
0.12
x
2/12
=
$24
The fraction 1/12 represents one month, which
is 1/12 of a year.
Date of note: November 1, 2004
Income for 2004 = 2 months (Nov.1 – Dec. 31)
Page
440
Adjustment for Accrued Interest on
Notes Receivable
Which account is debited?
For what amount?
Which account is credited?
For what amount?
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440
Adjustment for Accrued Interest on
Notes Receivable
Interest Receivable
24
Interest Income
Bal.
136
24
Page
440
Adjustments for Unearned Income
Page
440
QUESTION:
What is unearned income?
ANSWER:
Unearned income (also called deferred
income) is income received before it is
earned.
Page
440
Under the accrual basis of accounting, only
income that has been earned appears on the
income statement.
Modern Casuals has no unearned income.
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440
Unearned Income Items include:

Subscription income

Management fees

Rental income

Legal fees

Architectural fees

Construction fees

Advertising income
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441
R
E
V
I
E
W
Complete the following sentences:
Financial statements are usually prepared using
accrual basis of accounting because it most
the ____________
nearly attains the goal of matching expenses
and revenue in an accounting period.
inventory sheet lists the quantity of each
An ______________
type of goods a firm has in stock.
The one item classified as property, plant,
and equipment that is not subject to
land
depreciation is ____.
R
E
V
I
E
W
Complete the following sentences:
Accrued expenses are expense items that relate
________________
to the current period but have not yet been paid
and do not yet appear in the accounting
records.
Accrued income is the income that has been
_______________
earned but not yet received.
Unearned income is the income received
________________
before it is earned.
Thank You
for using
College Accounting, Tenth Edition
Price • Haddock • Brock