Fixed assets adjustments – accrual & prepayment
WELCOME BACK, students. I trust you had a productive week and your studying is moving ahead as you had planned. Our focus will be on accrual and prepayment this week. Pay keen attention, especially to the dates, while you grasp the basic principles.
An accrued expense is an expense that the business has used up but not yet paid for.
A prepaid expense is an expense that the business has paid for but not yet used.
Whenever these happen, adjustments have to be made, so the expenses and income shown in the final account are equal to the expense incurred for the period, and also the revenue accrued.
The balances made by the adjustments will be entered on the balance sheet at the end of the account period.
Private expenses will not be charged as an expense in the profit and loss account, but should be charged to drawings account.
ADJUSTMENTS NEEDED
Below is an example of two firms that pay $4,800 each for rent of their buildings per 12 month period:
Firm 1: Pays $4,000 in the year. At the end of the year, he owes $800 for rent:
Rent expense used up = $4,800
Rent paid = $4,000
Therefore, rent accrued is $800
Firm 2: Pays $5,200 in the year. This figure includes $400 in advance, which will be applied to the following year.
Rent expense used up $4,800
Rent paid for $5,200
Therefore, rent prepaid is $400
The profit and loss account for 12 months needs 12 months’ rent expense (12 x $400) =$4,800.
The double-entry accounts will have to be adjusted for both Firm 1, and Firm 2.
Firm 1 has rent accrued for $800.
Firm 2 has rent prepaid $400.
WORKED EXAMPLE QUESTION
a. A company paid annual insurance premiums as below:
July 1, 2012 $9,600 July 1 2013 $12,000
What amount is transferred from the insurance account to the profit & loss account for year ended December 31, 2023?
b. A trader provides the following information relating to insurance.
Prepayment brought forward January 1, 2013 $2,400 Cheques paid for insurance in the year 2013 $28,800 Insurance prepaid at December 31, 2013 $3,800
What amount is transferred from the insurance account to the profit & loss account for 2013?
c. A sole trader’s rent account showed a debit balance of $8,000 on January 1, 2013.
Rent paid during the year ended December 31, 2013, was $48,000.
Rent prepaid at December 31, 2013, amounted to $12,000.
d. On January 1, 2013, there was a credit balance on the wages account of $8,000.
Wages paid during the year amounted to $192,000.
On December 31, 2013, wages totalled $14,000 was unpaid.
How much should be transferred from the wages account to the profit & loss account for the year ended December 31, 2013?
SOLUTION
a.
The mount transferred from the wages account to the profit & loss account for the year ended December 31, 2013, is $198,000.
Visit again next week, when the presentation will be on bad debts and provision for bad debts.
This is all we have time for now, but always bear in mind that you must get up each morning with renewed determination if you want to go to bed with full satisfaction. Never let what you cannot do stand in the way of what you can.