Accounting is an information and Regulators often have legal authority over

measurement system that identifies, certain activities of organizations. For example,

records, and communicates relevant, the Internal Revenue Service (IRS) and other tax
authorities require organizations to file
reliable, and comparable information about
accounting reports in computing taxes. Other
an organization’s business activities.
regulators include utility boards that use
Identifying business activities requires that accounting information to set utility rates and
we select relevant transactions and events. securities regulators that require reports for
Recording business activities requires that companies that sell their stock to the public.
we keep a chronological log of transactions
and events measured in dollars. Voters, legislators, and government officials
use accounting information to monitor and
Communicating business activities requires
evaluate government receipts and expenses.
that we prepare accounting reports such as
financial statements, which we analyze and Contributors to nonprofit organizations use
interpret. accounting information to evaluate the use and
impact of their donations.
Accounting is part of our everyday lives.
Recordkeeping, or bookkeeping, is the Suppliers use accounting information to judge
the soundness of a customer before making
recording of transactions and events, either
sales on credit.
manually or electronically. This is just one
part of accounting. Accounting also Customers use financial reports to assess the
identifies and communicates information on staying power of potential suppliers.
transactions and events, and it includes the
crucial processes of analysis and Internal users of accounting information
interpretation. are those directly involved in managing and
operating an organization such as the chief
Technology is a key part of modern executive officer (CEO), chief financial
business and plays a major role in officer (CFO), chief audit executive (CAE),
accounting. Technology reduces the time, treasurer, and other executive and
effort, and cost of recordkeeping while managerial-level employees. They use the
improving clerical accuracy. information to help improve the efficiency
and effectiveness of an organization.
Accounting is called the language of Internal reports are not subject to the
business because all organizations set up same rules as external reports and instead
an accounting information system to are designed with the special needs of
communicate data to help people make internal users in mind. (Management
better decisions. Accounting)
External Users of accounting information Research and development managers need
are not directly involved in running the information about projected costs and revenues
organization. (Financial Accounting) of any proposed changes in products and
services.
Directors are typically elected to a board of
directors to oversee their interests in an Purchasing managers need to know what,
organization. Since directors are responsible to when, and how much to purchase.
shareholders, their information needs are similar.
Human resource managers need information
External (independent) auditors examine about employees’ payroll, benefits, performance,
financial statements to verify that they are and compensation.
prepared according to generally accepted
accounting principles. Production managers depend on information to
monitor costs and ensure quality.
Nonexecutive employees and labor unions
use financial statements to judge the fairness of Distribution managers need reports for timely,
wages, assess job prospects, and bargain for accurate, and efficient delivery of products and
better wages. services.
Marketing managers use reports about sales The majority of opportunities are in private
and costs to target consumers, set prices, and accounting (60%/58%), which are employees
monitor consumer needs, tastes, and price working for businesses. Public accounting
concerns. (23%) offers the next largest number of
opportunities, which involve services such as
Service managers require information on the auditing and tax advice. Still other opportunities
costs and benefits of looking after products and exist in government and not-for-profit
services. agencies (19%), including business regulation
and investigation of law violations.
Accounting has four broad areas of
Accounting is guided by principles, standards,
opportunities: financial, managerial, concepts, and assumptions.
taxation, and accounting-related.
The goal of accounting is to provide useful
Financial Managerial information for decisions. For information to
be useful, it must be trusted. This demands
• Preparation • General Accounting
ethics in accounting. Ethics are beliefs that
• Analysis • Cost Accounting distinguish right from wrong. They are
accepted standards of good and bad
• Auditing • Budgeting behavior.
• Regulatory • Internal Auditing
Guidelines for making ethical decision
• Consulting • Consulting making

• Planning • Controller 1. Identify ethical concerns

- Use personal ethics to identify
• Criminal • Treasurer ethical concerns
Investigation • Strategy 2. Analyze options
- Consider all good and bad
Taxation consequences
3. Make ethical decision
• Preparation
- Choose best option after weighing
• Planning all consequences
• Regulatory Good ethics are good business.
• Investigations The fraud triangle is a model created by a
criminologist that asserts the following three
• Consulting
factors must exist for a person to commit
• Enforcement fraud: opportunity, pressure, and
rationalization.
• Legal services
Opportunity. A person must envision a way to
• Estate plans commit fraud with a low perceived risk of getting
caught. Employers can directly reduce this risk.
Accounting-related
An example of some control on opportunity is a
• Lenders • FBI investigators pre-employment background check.

• Consultants • Market researchers Pressure, or incentive. A person must have

some pressure to commit fraud. Examples are
• Analysts • Systems designers unpaid bills and addictions.

• Traders • Merger services Rationalization, or attitude. A person who

rationalizes fails to see the criminal nature of the
• Directors • Business valuation fraud or justifies the action.
• Underwriters • Forensic accounting It is important to recognize that all three factors
of the fraud triangle must usually exist for fraud
• Planners • Litigation support to occur. The absence of one or more factors
• Appraisers • Entrepreneurs suggests fraud is unlikely. The key to dealing
with fraud is to focus on prevention. Both internal
and external users rely on internal controls to Recognition and Measurement—to set criteria
reduce the likelihood of fraud. Internal controls that an item must meet for it to be recognized as
are procedures set up to protect company an element; and how to measure that element.
property and equipment, ensure reliable
accounting reports, promote efficiency, and Accounting principles (and assumptions) are of
encourage adherence to company policies. two types. General principles are the basic
assumptions, concepts, and guidelines for
Financial accounting is governed by concepts preparing financial statements. Specific
and rules known as generally accepted principles are detailed rules used in reporting
accounting principles (GAAP). business transactions and events. General
principles stem from long-used accounting
GAAP aims to make information relevant, practices. Specific principles arise more often
reliable, and comparable. Relevant information from the rulings of authoritative groups.
affects decisions of users. Reliable information
is trusted by users. Comparable information is Accounting Principles General principles
helpful in contrasting organizations. consist of at least four basic principles, four
assumptions, and two constraints.
In the United States, the Securities and
Exchange Commission (SEC), a government Measurement The measurement principle, also
agency, has the legal authority to set GAAP. called the cost principle, usually prescribes that
accounting information is based on actual cost
Financial Accounting Standards Board (with a potential for subsequent adjustments to
(FASB), is a private-sector group that sets both market). Cost is measured on a cash or equal-to-
broad and specific principles. The International cash basis. This means if cash is given for a
Accounting Standards Board (IASB), an service, its cost is measured as the amount of
independent group (consisting of individuals from cash paid.
many countries), issues International Financial
Reporting Standards (IFRS) that identify Revenue recognition Revenue (sales) is the
preferred accounting practices. amount received from selling products and
services. The revenue recognition principle
Differences between U.S. GAAP and IFRS are provides guidance on when a company must
decreasing as the FASB and IASB pursue a recognize revenue. To recognize means to
convergence process aimed to achieve a single record it. If revenue is recognized too early, a
set of accounting standards for global use. It is company would look more profitable than it is. If
often said that U.S. GAAP is more rules-based revenue is recognized too late, a company would
whereas IFRS is more principles-based. The look less profitable than it is. Three concepts are
main difference on the rules versus principles important to revenue recognition. (1) Revenue is
focus is with the approach in deciding how to recognized when earned. The earnings process
account for certain transactions. Under U.S. is normally complete when services are
GAAP, the approach is more focused on strictly performed or a seller transfers ownership of
following the accounting rules; under IFRS, the products to the buyer. (2) Proceeds from selling
approach is more focused on a review of the products and services need not be in cash. A
situation and how accounting can best reflect it. common noncash proceed received by a seller is
This difference typically impacts advanced topics a customer’s promise to pay at a future date,
beyond the introductory course. called credit sales. (3) Revenue is measured by
the cash received plus the cash value of any
The FASB and IASB are attempting to converge
other items received.
and enhance the conceptual framework that
guides standard setting. The FASB framework Expense recognition. The expense
consists broadly of the following: recognition principle, also called the matching
principle, prescribes that a company record the
Objectives—to provide information useful to
expenses it incurred to generate the revenue
investors, creditors, and others.
reported. The principles of matching and
Qualitative Characteristics—to require revenue recognition are key to modern
information that is relevant, reliable, and accounting.
comparable.
Full disclosure. The full disclosure principle
Elements—to define items that financial prescribes that a company report the details
statements can contain. behind financial statements that would impact
users’ decisions. Those disclosures are often in
footnotes to the statements.
Accounting Assumptions There are four the negligence of another partner, yet all
accounting assumptions: partners remain responsible for partnership
debts. A limited liability company (LLC) offers
Going concern. The going-concern the limited liability of a corporation and the tax
assumption means that accounting information treatment of a partnership (and proprietorship).
reflects a presumption that the business will Most proprietorships and partnerships are now
continue operating instead of being closed or organized as LLCs.
sold.
A corporation, also called a C corporation, is a
Monetary unit. The monetary unit assumption business legally separate from its owner or
means that we can express transactions and owners, meaning it is responsible for its own acts
events in monetary, or money, units. Money is and its own debts. Separate legal status means
the common denominator in business. that a corporation can conduct business with the
rights, duties, and responsibilities of a person.
Time period. The time period assumption
Separate legal status also means that its
presumes that the life of a company can be
owners, who are called shareholders (or
divided into time periods, such as months and
stockholders), are not personally liable for
years, and that useful reports can be prepared
corporate acts and debts. This limited liability is
for those periods.
its main advantage. A main disadvantage is
Business entity. The business entity what’s called double taxation—meaning that (1)
assumption means that a business is the corporation income is taxed and (2) any
accounted for separately from other business distribution of income to its owners through
entities, including its owner. dividends is taxed as part of the owners’
personal income, usually at the individual’s
A sole proprietorship, or simply proprietorship, income tax rate. An S corporation, a corporation
is a business owned by one person. The with special attributes, does not owe corporate
business is a separate entity for accounting income tax. Owners of S corporations report
purposes. However, the business is not a their share of corporate income with their
separate legal entity from its owner. personal income. Ownership of all corporations
is divided into units called shares or stock.
- Unlimited liability When a corporation issues only one class of
stock, we call it common stock (or capital
Attribute Present Proprietorship Partner Corp stock).
One owner allowed yes no yes Accounting Constraints There are two basic
Business taxed no no yes constraints on financial reporting.

Limited liability no* no* yes Materiality The materiality constraint

prescribes that only information that would
Business entity yes yes yes influence the decisions of a reasonable person
need be disclosed. This constraint looks at both
Legal entity no no yes the importance and relative size of an amount.
Unlimited life no no yes Benefit exceeds cost. The cost-benefit
constraint prescribes that only information with
A partnership is a business owned by two or benefits of disclosure greater than the costs of
more people, called partners, which are jointly providing it need be disclosed.
liable for tax and other obligations. Like a
proprietorship, no special legal requirements Conservatism and industry practices are also
must be met in starting a partnership. A sometimes referred to as accounting constraints.
partnership, like a proprietorship, is not legally
separate from its owners. Congress passed the Sarbanes-Oxley Act, also
called SOX, to help curb financial abuses at
- Unlimited Liability companies that issue their stock to the public.
SOX requires that these public companies apply
However, at least three types of partnerships both accounting oversight and stringent internal
limit liability. A limited partnership (LP) includes controls. The desired results include more
a general partner(s) with unlimited liability and a transparency, accountability, and truthfulness in
limited partner(s) with liability restricted to the reporting transactions. Auditors also must verify
amount invested. A limited liability partnership the effectiveness of internal controls.
(LLP) restricts partners’ liabilities to their own
acts and the acts of individuals under their To reduce the risk of accounting fraud,
control. This protects an innocent partner from companies set up governance systems. A
company’s governance system includes its We organize financial statement analysis into
owners, managers, employees, board of four areas: (1) liquidity and efficiency, (2)
directors, and other important stakeholders, who solvency, (3) profitability, and (4) market
work together to reduce the risk of accounting prospects
fraud and increase confidence in accounting
reports. Ethics and investor confidence are key Return on assets (ROA) is useful in evaluating
to company success. management, analyzing and forecasting profits,
and planning activities.
Congress passed the Dodd-Frank Wall Street
Reform and Consumer Protection Act, or ROA= Net Income/Average of Total Assets

Dodd-Frank, to (1) promote accountability and Net income is often linked to return. Return on
transparency in the financial system, (2) put an assets (ROA) is stated in ratio form as income
end to the notion of “too big to fail,” (3) protect divided by assets invested.
the taxpayer by ending bailouts, and (4) protect
Risk is the uncertainty about the return we will
consumers from abusive financial services. It
earn. All business investments involve risk, but
includes provisions whose impacts are unknown
some investments involve more risk than others.
until regulators set detailed rules. However, a
The lower the risk of an investment, the lower is
few proposals are notable, such as the following:
our expected return.
Exemption. Exemption from Section 404(b) of
There are three major types of business
SOX for smaller public entities from the
activities: financing, investing, and operating.
requirement to obtain an external audit on
Each of these requires planning. Planning
effectiveness of internal control over financial
involves defining an organization’s ideas, goals,
reporting.
and actions. Most public corporations use the
Independence for all members of the Management Discussion and Analysis section in
compensation committee (including additional their annual reports to communicate plans.
disclosures); in the event of an accounting However, planning is not cast in stone. This adds
restatement, an entity must set policies risk to both setting plans and analyzing them.
mandating recovery (“clawback”) of excess
Financing activities provide the means
incentive compensation.
organizations use to pay for resources such as
Whistleblower Requires the SEC, when land, buildings, and equipment to carry out
sanctions exceed $1 million, to pay plans. The two sources of financing are owner
whistleblowers between 10% and 30% of the and nonowner. Owner financing refers to
sanction. resources contributed by the owner along with
any income the owner leaves in the organization.
External transactions are exchanges of value Nonowner (or creditor) financing refers to
between two entities, which yield changes in the resources contributed by creditors (lenders).
accounting equation. Internal transactions are Financial management is the task of planning
exchanges within an entity, which may or may how to obtain these resources and to set the
not affect the accounting equation. Events refer right mix between owner and creditor financing.
to happenings that affect the accounting
equation and are reliably measured. They Investing activities are the acquiring and
include business events such as changes in the disposing of resources (assets) that an
market value of certain assets and liabilities and organization uses to acquire and sell its products
natural events such as floods and fires that or services. Determining the amount and type of
destroy assets and create losses. assets for operations is called asset
management. Invested amounts are referred to
The Sustainability Accounting Standards as assets. Financing is made up of creditor and
Board (SASB) is a nonprofit entity engaged in owner financing, which hold claims on assets.
creating and disseminating sustainability Creditors’ claims are called liabilities, and the
accounting standards for use by companies. owner’s claim is called equity.
Sustainability refers to environmental, social,
and governance (ESG) dimensions of a Operating activities involve using resources to
company. The SASB has a Conceptual research, develop, purchase, produce, distribute,
Framework to guide the development of and market products and services. Sales and
sustainability standards. It has also developed a revenues are the inflow of assets from selling
set of principles, which serve as a set of products and services. Costs and expenses are
minimum criteria. the outflow of assets to support operating
activities. Strategic management is the process
of determining the right mix of operating activities
for the type of organization, its plans, and its credits. It is different in including transaction date
market. and explanation columns. It also has a column
with the balance of the account after each entry
Source documents identify and describe is recorded. The heading of the Balance column
transactions and events entering the accounting does not show whether it is a debit or credit
process. They are the sources of accounting balance. Instead, an account is assumed to have
information and can be in either hard copy or a normal balance. Unusual events can
electronic form. sometimes temporarily give an account an
abnormal balance. An abnormal balance refers
An unclassified balance sheet broadly groups
to a balance on the side where decreases are
accounts into assets, liabilities, and equity.
recorded.
Accounts receivable are held by a seller and
Step 1 Identify the transaction and any source
refer to promises of payment from customers to
documents.
sellers. These transactions are often called
credit sales or sales on account (or on Step 2 Analyze the transaction using the
credit). accounting equation.
A note receivable, or promissory note, is a Step 3 Record the transaction in journal entry
written promise of another entity to pay a definite form applying double-entry accounting.
sum of money on a specified future date to the
holder of the note. Step 4 Post the entry (for simplicity, we use T-
accounts to represent ledger accounts).
Prepaid accounts (also called prepaid
expenses) are assets that represent A trial balance is a list of accounts and their
prepayments of future expenses (expenses balances at a point in time. Account balances are
expected to be incurred in one or more future reported in their appropriate debit or credit
accounting periods). columns of a trial balance. A trial balance can be
used to confirm this and to follow up on any
Liability abnormal or unusual balances.
Unearned revenue refers to a liability that is Preparing a trial balance involves three steps:
settled in the future when a company delivers its
products or services. When customers pay in 1. List each account title and its amount (from
advance for products or services (before ledger) in the trial balance. If an account has
revenue is earned), the revenue recognition
principle requires that the seller consider this a zero balance, list it with a zero in its normal
receipt as unearned revenue. balance column (or omit it entirely).

Accrued liabilities are amounts owed that are 2. Compute the total of debit balances and the
not yet paid. total of credit balances.

While companies can use various journals, every 3. Verify (prove) total debit balances equal total
company uses a general journal. It can be used credit balances.
to record any transaction and includes the
An efficient way to search for an error is to check
following information about each transaction: (a)
the journalizing, posting, and trial balance
date of transaction, (b) titles of affected
preparation in reverse order.
accounts, (c) dollar amount of each debit and
credit, and (d) explanation of the transaction. Transposition occurs when two digits are
switched, or transposed, within a number. If
A blank line is left between each journal entry for
transposition is the only error, it yields a
clarity. When a transaction is first recorded, the
difference between the two trial balance totals
posting reference (PR) column is left blank
that is evenly divisible by 9.
(in a manual system). Later, when posting
entries to the ledger, the identification numbers The one-year reporting period is known as the
of the individual ledger accounts are entered in accounting, or fiscal year. Businesses whose
the PR column. accounting year begins on January 1 and ends
on December 31 are known as calendar-year
T-accounts are simple and direct means to show
companies.
how the accounting process works. However,
actual accounting systems need more structure Owner investments and withdrawals are not
and therefore use balance column accounts. part of income.
The balance column account format is similar to
a T-account in having columns for debits and
The statement of owner’s equity reports Accrued revenues Dr. (inc) A Cr. (inc) R
information about how equity changes over the
reporting period. Prepaid expenses refer to items paid for in
advance of receiving their benefits. Prepaid
The balance sheet reports the financial position expenses are assets. When these assets are
of a company at a point in time, usually at the used, their costs become expenses.
end of a month, quarter, or year.
A special category of prepaid expenses is plant
An income statement reports the revenues assets, which refers to long-term tangible assets
earned less the expenses incurred by a business used to produce and sell products and services.
over a period of time. Plant assets are expected to provide benefits
for more than one period. The costs of these
(Recall that this presentation of the balance assets are deferred but are gradually reported as
sheet is called the account form: assets on expenses in the income statement over the
the left and liabilities and equity on the right. assets’ useful lives (benefit periods).
Another presentation is the report form: Depreciation is the process of allocating the
assets on top, followed by liabilities and then costs of these assets over their expected useful
equity. Either presentation is acceptable.) lives. Depreciation expense is recorded with an
adjusting entry similar to that for other prepaid
Reports covering a one-year period are known
expenses.
as annual financial statements. Many
organizations also prepare interim financial Accumulated depreciation is kept in a separate
statements covering one, three, or six months of contra account. A contra account is an account
activity. linked with another account, it has an opposite
normal balance, and it is reported as a
The annual reporting period is not always a
subtraction from that other account’s balance.
calendar year ending on December 31. An
organization can adopt a fiscal year The title of the contra account, Accumulated
consisting of any 12 consecutive months. It Depreciation, reveals that this account includes
is also acceptable to adopt an annual total depreciation expense for all prior periods for
reporting period of 52 weeks. which the asset was used.
Companies experiencing seasonal variations in To illustrate, the Equipment and the Accumulated
sales often choose a natural business year Depreciation accounts appear as in Exhibit 3.6 on
end, which is when sales activities are at their February 28, 2016, after three months of adjusting
lowest level for the year. entries. The $900 balance in the Accumulated
Depreciation account can be subtracted from its
The upper half of this exhibit shows prepaid related $26,000 asset cost. The difference ($25,100)
expenses (including depreciation) and unearned between these two balances is the cost of the asset
that has not yet been depreciated.
revenues, which reflect transactions when cash
is paid or received before a related expense or This difference is called the book value, or the net
revenue is recognized. They are also called amount, which equals the asset’s costs less its
deferrals because the recognition of an expense accumulated depreciation.
(or revenue) is deferred until after the related
cash is paid (or received). The lower half of this The term unearned revenues refer to cash
exhibit shows accrued expenses and accrued received in advance of providing products and
revenues, which reflect transactions when cash services. Unearned revenues, also called
is paid or received after a related expense or deferred revenues, are liabilities. When cash is
revenue is recognized. Adjusting entries are accepted, an obligation to provide products or
necessary for each of these so that revenues, services is accepted. As products or services are
expenses, assets, and liabilities are correctly provided, the liability decreases, and the
reported. Specifically, an adjusting entry is made unearned revenues become earned revenues.
at the end of an accounting period to reflect a Adjusting entries for unearned items decrease
transaction or event that is not yet recorded. the unearned (balance sheet) account, and
Each adjusting entry affects one or more income increase the revenue (income statement)
statement accounts and one or more balance account.
sheet accounts (but never the Cash account).
Accrued expenses refer to costs that are
Adjustment Type B/S Effect I/S Effect incurred in a period but are both unpaid and
unrecorded. Accrued expenses must be reported
Prepaid expenses Cr. (dec) A Dr. (inc) E on the income statement for the period when
Unearned revenues Dr. (dec) L Cr. (inc) R incurred. Adjusting entries for recording accrued
Accrued expenses Cr. (inc) L Dr. (inc) E expenses increase the expense (income
statement) account, and increase a liability correct amount. It also updates a related
(balance sheet) account. expense or revenue account. These adjustments
are necessary for transactions and events that
Companies commonly have accrued interest extend over more than one period. (Adjusting
expense on notes payable and other long-term entries are posted like any other entry.)
liabilities at the end of a period. Interest expense
is incurred with the passage of time. Unless An unadjusted trial balance is a list of accounts
interest is paid on the last day of an accounting and balances prepared before adjustments are
period, we need to adjust for interest expense recorded. An adjusted trial balance is a list of
incurred but not yet paid. This means we must accounts and balances prepared after adjusting
accrue interest cost from the most recent entries have been recorded and posted to the
payment date up to the end of the period. The ledger.
formula for computing accrued interest is:
We can prepare financial statements directly
Principal amount owed x Annual interest rate from information in the adjusted trial balance. An
x Fraction of year since last payment date. adjusted trial balance includes all accounts and
balances appearing in financial statements, and
To illustrate, if a company has a $6,000 loan from a is easier to work from than the entire ledger
bank at 6% annual interest, then 30 days’ accrued
when preparing financial statements.
interest expense is $30—computed as $6,000 3 0.06 3
30y360. The adjusting entry would be to debit Interest
We prepare financial statements in the following
Expense for $30 and credit Interest Payable for $30.
order: income statement, statement of owner’s
The term accrued revenues refers to revenues equity, and balance sheet. This order makes
earned in a period that are both unrecorded and sense because the balance sheet uses
not yet received in cash (or other assets). An information from the statement of owner’s equity,
example is a technician who bills customers only which in turn uses information from the income
when the job is done. If one-third of a job is statement. The statement of cash flows is
complete by the end of a period, then the usually the final statement prepared.
technician must record one-third of the expected
U.S. GAAP balance sheets report current items
billing as revenue in that period—even though
first. Assets are listed from most liquid to least
there is no billing or collection. The adjusting
liquid, where liquid refers to the ease of
entries for accrued revenues increase a revenue
converting an asset to cash. Liabilities are listed
(income statement) account, and increase an
from nearest to maturity to furthest from maturity,
asset (balance sheet) account. Accrued
where maturity refers to the nearness of paying
revenues commonly arise from services,
off the liability. IFRS balance sheets normally
products, interest, and rent. We use service fees
present noncurrent items first (and equity before
and interest to show how to adjust for accrued
liabilities), but this is not a requirement.
revenues.
A useful measure of a company’s operating
Accrued revenues are not recorded until
results is the ratio of its net income to net sales.
adjusting entries are made at the end of the
This ratio is called profit margin, or return on
accounting period. These accrued revenues are
sales. Profit Margin= Net Income/Net Sales
earned but unrecorded because either the buyer
has not yet paid for them or the seller has not yet RECORDING PREPAYMENT OF REVENUES
billed the buyer. Accrued revenues at the end IN REVENUE ACCOUNTS
of one accounting period result in cash receipts
in a future period(s). An alternative method is to record all prepaid
expenses with debits to expense accounts. If any
In addition to the accrued interest expense, we prepaids remain unused or unexpired at the end
described earlier, interest can yield an accrued of an accounting period, then adjusting entries
revenue when a debtor owes money (or other must transfer the cost of the unused portions
assets) to a company. If a company is holding from expense accounts to prepaid expense
notes or accounts receivable that produce (asset) accounts. This alternative method is
interest revenue, we must adjust the accounts to acceptable. The financial statements are
record any earned and yet uncollected interest identical under either method, but the adjusting
revenue. The adjusting entry is similar to the one entries are different.
for accruing services revenue. Specifically, we
debit Interest Receivable (asset) and credit As with prepaid expenses, an alternative method
Interest Revenue. is to record all unearned revenues with credits to
revenue accounts. If any revenues are unearned
The process of adjusting accounts is intended to at the end of an accounting period, then
bring an asset or liability account balance to its adjusting entries must transfer the unearned
portions from revenue accounts to unearned
revenue (liability) accounts. This alternative
method is acceptable. The adjusting entries are
different for these two alternatives, but the
financial statements are identical.