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5 Deferrals and Accruals

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John Alfred Castino
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12 views13 pages

5 Deferrals and Accruals

Uploaded by

John Alfred Castino
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Adjusting the Accounts

Accrual Basis
• The financial statements, except for the cash flow statement, are
prepared on the accrual basis of accounting in order to meet their
objectives.
• Under the accrual basis, the effects of transactions and other events
are recognized when they occur and not as cash (or its equivalent) is
received or paid.
• This means that the accountant records revenues as they are earned
and expenses as they are incurred.
• In cash basis accounting, the accountant does not record a
transaction until cash is received or paid. Generally, cash receipts are
treated as revenues and cash payments as expenses. Cash basis
income is the difference between the operating cash receipts and
disbursements.
Periodicity Concept
• Dividing the economic life of a business into artificial time periods.
• To provide timely information
• The most basic accounting period is one year.
• Fiscal, calendar or natural year
• Fiscal year is a period of any 12 consecutive months
• Calendar year is an annual period ending on December 31
• Natural business year is a twelve-month period that ends when
business activities are at their lowest level of the annual cycle.
• A period of less that year is an interim period.
Revenue and Expense Recognition Principle
• Revenue is to be recognized in the accounting period when goods are
delivered or services are rendered or performed
• Expenses should be recognized in the accounting period in which
goods and services are used to produce revenue and not when the
entity pays for those goods and services.
Applications of Expense Recognition
Principle
• Expenses are recognized in the income statement on the basis of a
direct association between the costs incurred and the earning of
specific items of income.
• When economic benefits are expected to arise over several
accounting periods and the association of income can only be broadly
or indirectly determined, expenses are recognized in the income
statement on the basis of systematic and rational allocation.
• An expense is recognized immediately in the income statement when
an expenditure produces no future benefits.
Deferrals
• The postponement of the recognition of “an expense already paid but
not yet incurred” or of “a revenue already collected but not yet earned”.
• This adjustment deals with an amount already recorded in a balance
sheet account
• The entry, in effect, decreases the balance sheet accounts and increases
an income statement account
• Allocating assets to expenses to reflect expenses incurred during the
accounting period
• Allocating revenues received in advance to revenues to reflect revenues
earned during the accounting period
Accrual
• Recognition of “an expense already incurred but unpaid” or “a
revenue already earned but uncollected”
• This adjustment deals with an amount unrecorded in any account
• The entry, in effect, increases both a balance sheet and an income
statement account
• Accruing expenses to reflect expenses incurred during the accounting
period that are unpaid and unrecorded
• Accruing revenues to reflect revenues earned during the accounting
period that are uncollected and unrecorded.
Adjustments for Deferrals (Step 5)
• Allocating Assets to Expense
• Prepaid Rent
• Prepaid Insurance
• Supplies
• Depreciation of Property and Equipment
• Allocating Revenues Received in Advance to Revenues
• Unearned Revenue
Depreciation Expense on Property and
Equipment
• Depreciation Expense is the estimated amount allocated to any one
accounting period.
• Accountants estimate periodic depreciation.
• There are different methods for estimating depreciation like double
declining balance method, sum of years method, output method, etc.
• The simplest procedure is called the straight line method.
Factors to consider in computing depreciation
expense:
• 1. Asset cost is the amount entity paid to acquire the depreciable
asset.
• 2. Estimated salvage value is the amount that the asset can probably
sold for at the end of its estimated useful life.
• 3. Estimated useful life is the estimated number of periods that an
entity can make use of the asset.
Depreciation Expense
• Formula of straight line method is:
Asset cost xxx
Less: Estimated salvage value xxx
Depreciable cost xxx
Divided by: Estimated useful life xxx
Depreciation expense for each time period XXX
Adjustments for Accruals (Step 5)
• Accrued Expenses
• Accrued Salaries
• Accrued Interest

• Accrued Revenues
• Accounts Receivable

• Accrual for Uncollectible Accounts


• Allowance for uncollectible accounts

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