Financial Accounting Notes Lecture 2

Revenues are an increase in SE

Epenses are a decrease in SE

When expenses exceed revenues, net loss occurs

Fiscal year a 12-month accounting period 

Interim periods accounting periods of less than a year

The matching rule

Matching rule to measure the net income adequately, revenues and expenses must be assigned to the accounting period in which they occur regardless of when the cash is received or paid

Revenues and expenses are recorded in the periods in which they occur rather than in the periods in which they are received or paid.

The revenue and expense are recognized now even though they will be paid later

1. Record revenues when earned
2. Record expense when incurred 
3. Adjust accounts

So step one and two when contract is signed

Step 3 when payment takes place 

This is important because of responsible spending?

Adjusting entries when transactions span more than one accounting period

Four situation s in which they must be made

Never affects cash account because with cash everything is set immediately

Always includes one balance sheet account and one income statement account

1. Allocating recorded costs

You have an asset because you prepaidit for 2 months

Prepaid rent, asset increases = debit

Cash decreases = credit

When the month of renting expires the value of prepaid rent decreases by one month so half of the money decreases: per period 

Rent expense on debit is money per period

Adjusting entry involves asset account and expense account

2. Recognizing unrecorded expenses

Don’t pay every month but at one point you will have to pay everything

On the date of payment wages payable is full money

Until there, per period you put in a part of the total amount

Adjusting entry involves expense account and liability account

3. Allocating recorded, unearned revenues between periods

Paid in advancefor whole year but company has not delivered service yet

So is unearned revenues

Begin of period you receive all cash: cash up on debit, unearned revenues credit

Every period unearned revenues will get debited and revenues credit

You slowly start to earn the money you already received, transfer from unearned to earned

Adjusting entry involves liability account and revenue account

4. Type 4 

Service provided first, payment after

So you earn it after every part of the service but receive money at end

After every service record on account receivable (asset) on debit and service revenues on credit 

The last wedding makes accounts receivable and revenues balanced

Adjusting entry involves asset account and revenue adccount

So to cancel accounts receivable at the end the total amount will be cash on dbit and accounts receivable on credit

Balance sheet

Type 1 and type 4 are on the asset side

Type 2 and type 3 on the liability side

Income statement

Type 1 and type 2 are expense

Type 3 and type 4 are revenue

Deferral is the postponement of the recognition of an expense (1) already paid or revenue received in advance (3). Payment recorded before adjusting entry

Accrual is the recognition of a revenue (2) or expense (4) that has arisen but not been recorded during the accounting period. Payment after adjusting entry 

Closing entries are journal entries made at the end of an accounting period to

• Set the stage for the next accounting period

Clear revenue and expense accounts and dividends accounts of their balances to start over with a zero balance in new period

• Summarize a period’s revenues and expenses

Income summary account is a temporary account that summarizes all revenues and expenses for the period. Never used in financial statements!! Its balance equals the net income or loss and is then transferred to Retained Earnings because it actually represents increases and decreases in SE àtemporary account, intermediate step

Permanent accounts are listed on the balance sheet and caary balance to next period

Temporary accounts are listed on income statement and reset after accounting period

Four steps in the closing process

1. Closing revenue accounts

Debiting all revenue accounts (balance 0)

Transfer balance to credit side of Income Summary

2. Closing expense accounts

Crediting all expense accounts (balance 0) 

Transfer balance to debit side of income summary

3. Closing the Income summary 

Transfer balance to Retained Earnings 

To credit or debit dependent on profit or loss

4. Closing the dividends accounts

Crediting dividends (balance is 0)

Debiting retained earnings

àDetermine ending balance of retained earnings and transfer to balance sheet