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Adjusting entries is one of the most important parts of accounting that is accrual based. To adjust business records one has to reflect the true balances accurately during a specified period of financial accounting. Adjusting entries are divided into two categories which are accruals and Deferrals. Accruals are the revenues and expenses that are recorded before a transaction has been recorded while deferrals are those recorded after a transaction has already been recorded (James, 2007).
Importance of Adjusting Entries
Adjusting entries play a very essential role in the accounting department of any business company. They are used to accurate records and also reflect all sorts of financial balances that were received in a business at a certain period. The adjustment entries are carried in two different categories which are accruals and prepayments and they are also very important to adjusting entries on a given business period (Curtis, 2007).
Accrued items are the ones whose revenues have been realized by a given firm or expenses that are made without having observed actual transactions that would be resulted in a journal entry. This can be used to calculate the salaries of employees who were paid at the end of their first month and the salaries that they earned in the previous month are recorded in the book of entry. In each day of the month a company ensures that it has recorded some liabilities in the form of the salaries that they are paid on the first day of a specified month. An adjustment entry is written at the end of the month so as to include the transactions that were made within the month. For example a small company that accrues $ 90,000 salaries in a month and this is how it can look like;
In the theory, Accrued salaries can be recorded everyday but this is expensive and end up serving very little purpose and this statement is mainly required when financial statements are prepared at the end of its period. Accrued items may include:
- Unbilled revenue
- Interest income
- Income tax expense
- Salaries and past-due expenses.
These are the ones recorded in a transaction by a firm as part of a journal entry even though it has not realized the expenses and revenues that are associated with the journal entry. These entries are only made at the end of an accounting period and some of the examples of these items are the prepaid insurance, prepaid rent, depreciation and Office Supplies. These entries are made at the end of the month in order to record all the transactions made throughout a given month.
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Types of adjusting entries
There are many types of adjusting entries. Accrued revenues- they are also known as accrued assets and these are the revenues earned but not yet recorded or paid.
Unearned Revenues- are also known as deferred revenues and they are the ones received in cash and put in the book of liabilities before they have been earned.
Accrued expenses- they are also referred to as accrued liabilities. Expenses that are incurred but they are not yet paid for or not yet recorded.
Prepaid expenses- These are the expenses that are paid in cash and recorded as assets before they have already been used. There are other entries that are included in the adjustment entries known as depreciation of fixed assets, inventory adjustments and allowances that are put for bad debts (James, 2007).
The accounting equation is the basic equation that is mainly associated with fulfilling the double entry rule of accounting. The formula represents the relationship that exists between the liabilities and assets in an adjusting entry and also the net worth. This equation is the most commonly used in a balance sheet and it is also used to teach the fundamentals of teaching proper utilization of the balance sheet and reading it. Some of the ethical issues that affect the adjusting entries of accounting are like the ethical behaviors of the accountants and the biases of the listeners (Curtis, 2007).
Ethical Issues in Accounting
Work done by auditors and accountants really requires to be done with high levels of ethics and the same applies to financial statements and adjusting entries. One of the ethical issues that arise if an adjusting entry has not been well prepared is frauds that could affect the decisions made in the investment plans of a given company. Another ethical issue is that the report made could be biased and the manner in which they apply the standards of accounting and adjusting entries will also be affected in many ways.
Finally, in order to prevent any omission of important entries in the adjusting entries it is always good to verify and compare the entries with that of the previous month. This helps a company to keep its records well updated and also helps in evaluating the performance of the company in the accounting department at large.