Today’s accounting lesson will help you to learn Definition, Types & Example of Adjusting Entries. Also at the bottom of this tutorial, you will find a Free Accounting Training Video on Adjusting Entries. Adjusting Entries can be defined as journal entries, prepared at the end of each accounting period to identify and spread total income and expenditure in their appropriate time of occurrence. It helps to allocate income and expenditure in proper accounting period.
At the end of accounting period adjusting entries are made by companies. Adjusting entries lead to existence of revenues and expenses within proper accounting period. Revenues and expenses are recorded in the financial statement based on the concept of revenue recognition and matching principle.
Whenever any Company prepares financial statement then the company also prepares the adjusting entries because it helps to analyze that each account in trial balance are complete and updated with no errors. In times of initial preparation of trial balance, there may be some lack of updated information which is covered through adjusting entries. There are some reasons behind it such as:
- It is quite impossible to record every transaction at daily basis-in fact it is not necessary also. For example: companies do not need not to record supplies or wages every day.
- Some costs are occurred with the passage of time not for daily basis. Insurance, rent, additional cost of using machinery items etc.
- Even if accountants want but they cannot record some charges during the accounting period. For example, utility bill. Most cases company gets it after current month.
Revenues and expenses affect the correct amount of balances for balance sheet and income statement of any business entities for a particular period of time.
Adjusting entries transferred revenues within correct period in which they are earned and expenses to the allocated period in which they are incurred including updated information of assets and liabilities.
Adjusting Entries are mainly categorized into 2 distinct groups:
1: Deferrals:
- Prepaid Expenses: Prepaid expenses are those expenses which are the advance payment of future expenses and are recorded as assets in the balance sheet when cash is paid. Prepaid expenses considered as expenses during normal business operations.
- Unearned Revenues: Unearned revenues are those revenues that are the advance receipt of future revenues and are recorded as liabilities in the balance sheet when cash is received. Unearned revenues considered as earned revenues over time of business operational cycle.
2: Accruals:
- Accrued Revenues: Accrued revenues means the revenues that are unrecorded but have been earned and cash has yet to be received.
- Accrued Expenses: Accrued expenses are the unrecorded expenses that have been incurred and cash has yet to be paid.
Example of Adjusting Entries:
Video-What is Adjusting Entries in Accounting:
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