Accrued Revenues

Revenues for services performed but not yet recorded at the statement date are accrued
revenues. Accrued revenues may accumulate (accrue) with the passing of time, as in the case
of interest revenue. These are unrecorded because the earning of interest does not involve
daily transactions. Companies do not record interest revenue on a daily basis because it is
often impractical to do so. Accrued revenues also may result from services that have been
performed but not yet billed nor collected, as in the case of commissions and fees. These may
be unrecorded because only a portion of the total service has been performed and the clients
will not be billed until the service has been completed.
An adjusting entry records the receivable that exists at the balance sheet date and the
revenue for the services performed during the period. Prior to adjustment, both assets and
revenues are understated. Accordingly, an adjusting entry for accrued revenues results in a
debit (increase) to an asset account and a credit (increase) to a revenue account.
In October, Pioneer Advertising performed services worth $2,000 that were not billed
to clients on or before October 31. Because these services are not billed, they are not
recorded. The accrual of unrecorded service revenue increases an asset account, Accounts
Receivable. It also increases stockholders’ equity by increasing a revenue account, Service
Revenue, as shown in Illustration 3-28.

The asset Accounts Receivable shows that clients owe $74,000 at the balance sheet date. The
balance of $106,000 in Service Revenue represents the total revenue for services performed
by Pioneer during the month ($100,000 + $4,000 + $2,000). Without an adjusting entry,
assets and stockholders’ equity on the balance sheet, and revenues and net income on
the income statement, are understated.

Accrued Expenses
Expenses incurred but not yet paid or recorded at the statement date are called accrued
expenses. Interest, rent, taxes, and salaries are common examples. Accrued expenses result
from the same causes as accrued revenues. In fact, an accrued expense on the books of one
company is an accrued revenue to another company. For example, the $2,000 accrual of
service revenue by Pioneer Advertising is an accrued expense to the client that received the
service.
Adjustments for accrued expenses record the obligations that exist at the balance sheet
date and recognize the expenses that apply to the current accounting period. Prior to
adjustment, both liabilities and expenses are understated. Therefore, the adjusting entry for
accrued expenses results in a debit (increase) to an expense account and a credit (increase) to
a liability account.

Accrued Interest. Pioneer Advertising signed a three-month note payable in the amount of
$50,000 on October 1. The note requires interest at an annual rate of 12 percent. Three factors
determine the amount of the interest accumulation: (1) the face value of the note; (2) the
interest rate, which is always expressed as an annual rate; and (3) the length of time the note
is outstanding. For Pioneer, the total interest due on the $50,000 note at its maturity date three
months’ in the future is $1,500 ($50,000 × 12% × 3/12), or $500 for one month. Illustration
3-29 shows the formula for computing interest and its application to Pioneer. Note that the
formula expresses the time period as a fraction of a year.

As Illustration 3-30 shows, the accrual of interest at October 31 increases a liability

account, Interest Payable. It also decreases stockholders’ equity by increasing an expense
account, Interest Expense.

Interest Expense shows the interest charges for the month of October. Interest Payable
shows the amount of interest owed at the statement date. Pioneer will not pay this amount
until the note comes due at the end of three months. Why does Pioneer use the Interest
Payable account instead of crediting Notes Payable? By recording interest payable separately,
Pioneer discloses the two different types of obligations—interest and principal—in the
accounts and statements. Without this adjusting entry, liabilities and interest expense are
understated, and both net income and stockholders’ equity are overstated.

Accrued Salaries and Wages. Companies pay for some types of expenses, such as employee
salaries and wages, after the services have been performed. For example, Pioneer Advertising
last paid salaries and wages on October 26. It will not pay salaries and wages again until
November 23. However, as shown in the calendar below, three working days remain in
October (October 29–31).

At October 31, the salaries and wages for these days represent an accrued expense and
a related liability to Pioneer. The employees receive total salaries and wages of $10,000 for a
five-day work week, or $2,000 per day. Thus, accrued salaries and wages at October 31 are
$6,000 ($2,000 × 3). The analysis and adjustment process is summarized in Illustration 3-31.

After this adjustment, the balance in Salaries and Wages Expense of $46,000 (23 days
× $2,000) is the actual salaries and wages expense for October. The balance in Salaries and
Wages Payable of $6,000 is the amount of the liability for salaries and wages owed as of
October 31. Without the $6,000 adjustment for salaries, both Pioneer’s expenses and
liabilities are understated by $6,000.
Pioneer pays salaries and wages every four weeks. Consequently, the next payday is
November 23, when it will again pay total salaries and wages of $40,000. The payment
consists of $6,000 of salaries and wages payable at October 31 plus $34,000 of salaries and
wages expense for November (17 working days as shown in the November calendar ×
$2,000). Therefore, Pioneer makes the following entry on November 23.
 This entry eliminates the liability for Salaries and Wages Payable that Pioneer
recorded in the October 31 adjusting entry. This entry also records the proper amount of
Salaries and Wages Expense for the period between November 1 and November 23.

Bad Debts. Companies estimate uncollectible accounts at the end of each period. This
ensures that receivables are reported on the balance sheet at their net realizable value. As a
result, proper valuation of the receivable balance requires recognition of uncollectible
receivables and an adjusting entry for bad debt expense.
At the end of each period, a company such as General Mills estimates the amount of
receivables that will later prove to be uncollectible. General Mills bases the estimate on
various factors: the amount of bad debts it experienced in past years, general economic
conditions, how long the receivables are past due, and other factors that indicate the extent of
uncollectibility. To illustrate, assume that, based on past experience, Pioneer Advertising
reasonably estimates a bad debt expense for the month of $1,600. The analysis and
adjustment process for bad debts is summarized in Illustration 3-32 (page 104).

A company generally computes bad debts by adjusting Allowance for Doubtful

Accounts to a certain percentage of the trade accounts receivable and trade notes receivable at
the end of the period.

Adjusted Trial Balance

After journalizing and posting all adjusting entries, Pioneer Advertising prepares another trial
balance from its ledger accounts (shown in Illustration 3-33 on page 105). This trial balance
is called an adjusted trial balance. The purpose of an adjusted trial balance is to prove the
equality of the total debit balances and the total credit balances in the ledger after all
adjustments. Because the accounts contain all data needed for financial statements, the
adjusted trial balance is the primary basis for the preparation of financial statements.

PREPARING FINANCIAL STATEMENTS

As indicated above, Pioneer Advertising can prepare financial statements directly From
the adjusted trial balance. Illustrations 3-34 (page 105) and 3-35 (page 106) show the
interrelationships of data in the adjusted trial balance and the financial statements.
As Illustration 3-34 shows, Pioneer prepares the income statement from the revenue
and expense accounts. Next, it derives the retained earnings statement from the retained
earnings and dividends accounts and the net income (or net loss) shown in the income
statement.
 As Illustration 3-35 shows, Pioneer then prepares the balance sheet from the asset and
liability accounts, the common stock account, and the ending retained earnings balance as
reported in the retained earnings statement.
Closing
The closing process reduces the balance of nominal (temporary) accounts to zero in order to
prepare the accounts for the next period’s transactions. In the closing process, Pioneer
Advertising transfers all of the revenue and expense account balances (income statement
items) to a clearing or suspense account called Income Summary. The Income Summary
account matches revenues and expenses.
Pioneer uses this clearing account only at the end of each accounting period. The
account represents the net income or net loss for the period. It then transfers this amount (the
net income or net loss) to a stockholders’ equity account. (For a corporation, the
stockholders’ equity account is retained earnings; for proprietorships and partnerships, it is a
capital account.) Companies post all such closing entries to the appropriate general ledger
accounts.

Closing Entries
In practice, companies generally prepare closing entries only at the end of a company’s
annual accounting period. However, to illustrate the journalizing and posting of closing
entries, we will assume that Pioneer Advertising closes its books monthly. Illustration 3-36
shows the closing entries at October 31.

A couple of cautions about preparing closing entries. (1) Avoid unintentionally

doubling the revenue and expense balances rather than zeroing them. (2) Do not close
Dividends through the Income Summary account. Dividends are not expenses, and they are
not a factor in determining net income.

Posting Closing Entries

Illustration 3-37 (page 108) shows the posting of closing entries and the underlining (ruling)
of accounts. All temporary accounts have zero balances after posting the closing entries. In
addition, note that the balance in Retained Earnings represents the accumulated undistributed
earnings of Pioneer Advertising at the end of the accounting period.
Pioneer reports the ending balance in retained earnings in the balance sheet. As noted above,
Pioneer uses the Income Summary account only in closing. It does not journalize and post
entries to this account during the year.
As part of the closing process, Pioneer totals, balances, and double-underlines the
temporary accounts—revenues, expenses, and dividends—as shown in T-account form in
Illustration 3-37. It does not close the permanent accounts—assets, liabilities, and
stockholders’ equity (Common Stock and Retained Earnings). Instead, Pioneer draws a single
underline beneath the current period entries for the permanent accounts. The account balance
is then entered below the single underline and is carried forward to the next period (see, for
example, Retained Earnings).
After the closing process, each income statement account and the dividend account
are balanced out to zero and are ready for use in the next accounting period.

Post-Closing Trial Balance

Recall that a trial balance is prepared after entering the regular transactions of the period, and
that a second trial balance (the adjusted trial balance) occurs after posting the adjusting
entries. A company may take a third trial balance after posting the closing entries. The trial
balance after closing is called the post-closing trial balance. The purpose of the post-closing
trial balance is to prove the equality of the permanent account balances that the
company carries forward into the next accounting period. Since all temporary accounts
will have zero balances, the post-closing trial balance will contain only permanent (real)
—balance sheet—accounts.
Illustration 3-38 shows the post-closing trial balance of Pioneer Advertising Inc.

A post-closing trial balance provides evidence that the company has properly
journalized and posted the closing entries. It also shows that the accounting equation is in
balance at the end of the accounting period. However, like the other trial balances, it does not
prove that Pioneer has recorded all transactions or that the ledger is correct. For example, the
post-closing trial balance will balance if a transaction is not journalized and posted, or if a
transaction is journalized and posted twice.

Reversing Entries—An Optional Step

Some accountants prefer to reverse the effects of certain adjusting entries by making a
reversing entry at the beginning of the next accounting period. A reversing entry is the exact
opposite of the adjusting entry made in the previous period. Use of reversing entries is an
optional bookkeeping procedure; it is not a required step in the accounting cycle.
Accordingly, we have chosen to cover this topic in Appendix 3B at the end of the chapter.

The Accounting Cycle Summarized

A summary of the steps in the accounting cycle shows a logical sequence of the accounting
procedures used during a fiscal period:
1. Enter the transactions of the period in appropriate journals.
2. Post from the journals to the ledger (or ledgers).
3. Take an unadjusted trial balance (trial balance).
4. Prepare adjusting journal entries and post to the ledger(s).
5. Take a trial balance after adjusting (adjusted trial balance).
6. Prepare the fi nancial statements from the second trial balance.
7. Prepare closing journal entries and post to the ledger(s).
8. Take a post-closing trial balance (optional).
9. Prepare reversing entries (optional) and post to the ledger(s).

A company normally completes all of these steps in every fiscal period.

FINANCIAL STATEMENTS FOR A MERCHANDISING
COMPANY
Pioneer Advertising Inc. is a service company. In this section, we show a detailed set of
financial statements for a merchandising company, Uptown Cabinet Corp. The financial
statements (see pages 111–112) are prepared from the adjusted trial balance (not shown).

Income Statement
The income statement for Uptown, shown in Illustration 3-39, is self-explanatory. The
income statement classifies amounts into such categories as gross profit on sales, income
from operations, income before taxes, and net income. Although earnings per share
information is required to be shown on the face of the income statement for a corporation, we
omit this item here as it will be discussed more fully later in the textbook. For homework
problems, do not present earnings per share information unless required to do so.

Statement of Retained Earnings

A corporation may retain the net income earned in the business, or it may distribute it to
stockholders by payment of dividends. In Illustration 3-40, Uptown added the net income
earned during the year to the balance of retained earnings on January 1, thereby increasing
the balance of retained earnings. Deducting dividends of $2,000 results in the ending retained
earnings balance of $26,400 on December 31.
Balance Sheet
The balance sheet for Uptown, shown in Illustration 3-41 (page 112), is a classified balance
sheet. Interest receivable, inventory, prepaid insurance, and prepaid rent are included as
current assets. Uptown considers these assets current because they will be converted into cash
or used by the business within a relatively short period of time. Uptown deducts the amount
of Allowance for Doubtful Accounts from the total of accounts, notes, and interest receivable
because it estimates that only $54,800 of $57,800 will be collected in cash.

In the property, plant, and equipment section, Uptown deducts the Accumulated
Depreciation—Equipment from the cost of the equipment. The difference represents the book
or carrying value of the equipment.
The balance sheet shows property taxes payable as a current liability because it is an
obligation that is payable within a year. The balance sheet also shows other short-term
liabilities such as accounts payable.
The bonds payable, due in 2025, are long-term liabilities. As a result, the balance
sheet shows the account in a separate section. (The company paid interest on the bonds on
December 31.)
 Because Uptown is a corporation, the capital section of the balance sheet, called the
stockholders’ equity section in the illustration, differs somewhat from the capital section for a
proprietorship. Total stockholders’ equity consists of the common stock, which is the original
investment by stockholders, and the earnings retained in the business. For homework
purposes, unless instructed otherwise, prepare an unclassified balance sheet.

Closing Entries
Uptown makes closing entries in its general journal as shown below.

CASH-BASIS ACCOUNTING VERSUS ACCRUAL-BASIS

ACCOUNTING
Most companies use accrual-basis accounting: They recognize revenue when the
performance obligation is satisfied and expenses in the period incurred, without regard to the
time of receipt or payment of cash.
Some small companies and the average individual taxpayer, however, use a strict or
modified cash-basis approach. Under the strict cash basis, companies record revenue only
when they receive cash. They record expenses only when they disperse cash. Determining
income on the cash basis rests upon collecting revenue and paying expenses. The cash basis
ignores two principles: the revenue recognition principle and the expense recognition
principle. Consequently, cash-basis financial statements are not in conformity with GAAP.
An illustration will help clarify the differences between accrual-basis and cash-basis
accounting. Assume that Quality Contractor signs an agreement to construct a garage for
$22,000. In January, Quality begins construction, incurs costs of $18,000 on credit, and by
the end of January delivers a finished garage to the buyer. In February, Quality collects
$22,000 cash from the customer. In March, Quality pays the $18,000 due the creditors.
Illustrations 3A-1 and 3A-2 show the net incomes for each month under cashbasis accounting
and accrual-basis accounting, respectively.
 For the three months combined, total net income is the same under both cash-basis
accounting and accrual-basis accounting. The difference is in the timing of revenues and
expenses. The basis of accounting also affects the balance sheet. Illustrations 3A-3 and 3A-4
show Quality’s balance sheets at each month-end under the cash basis and the accrual basis,
respectively.

Analysis of Quality’s income statements and balance sheets shows the ways in which
cash-basis accounting is inconsistent with basic accounting theory:
1. The cash basis understates revenues and assets from the construction and delivery of
the garage in January. It ignores the $22,000 of accounts receivable, representing a
near-term future cash inflow.
2. The cash basis understates expenses incurred with the construction of the garage and
the liability outstanding at the end of January. It ignores the $18,000 of accounts
payable, representing a near-term future cash outflow.
 3. The cash basis understates owners’ equity in January by not recognizing the revenues
and the asset until February. It also overstates owners’ equity in February by not
recognizing the expenses and the liability until March.

In short, cash-basis accounting violates the accrual concept underlying financial

reporting.
The modified cash basis is a mixture of the cash basis and the accrual basis. It is
based on the strict cash basis but with modifications that have substantial support, such as
capitalizing and depreciating plant assets or recording inventory. This method is often
followed by professional services firms (doctors, lawyers, accountants, and consultants) and
by retail, real estate, and agricultural operations.

CONVERSION FROM CASH BASIS TO ACCRUAL BASIS

Not infrequently, companies want to convert a cash basis or a modified cash basis set of
financial statements to the accrual basis for presentation to investors and creditors. To
illustrate this conversion, assume that Dr. Diane Windsor, like many small business owners,
keeps her accounting records on a cash basis. In the year 2017, Dr. Windsor received
$300,000 from her patients and paid $170,000 for operating expenses, resulting in an excess
of cash receipts over disbursements of $130,000 ($300,000 − $170,000). At January 1 and
December 31, 2017, she has accounts receivable, unearned service revenue, accrued
liabilities, and prepaid expenses as shown in Illustration 3A-5.

Service Revenue Computation

To convert the amount of cash received from patients to service revenue on an accrual basis,
we must consider changes in accounts receivable and unearned service revenue during the
year. Accounts receivable at the beginning of the year represents revenues recognized last
year that are collected this year. Ending accounts receivable indicates revenues recognized
this year that are not yet collected. Therefore, to compute revenue on an accrual basis, we
subtract beginning accounts receivable and add ending accounts receivable, as the formula in
Illustration 3A-6 shows.

Similarly, beginning unearned service revenue represents cash received last year for
revenues recognized this year. Ending unearned service revenue results from collections this
year that will be recognized as revenue next year. Therefore, to compute revenue on an
accrual basis, we add beginning unearned service revenue and subtract ending unearned
service revenue, as the formula in Illustration 3A-7 shows.
 Therefore, for Dr. Windsor’s dental practice, to convert cash collected from customers
to service revenue on an accrual basis, we would make the computations shown in Illustration
3A-8.

Operating Expense Computation

To convert cash paid for operating expenses during the year to operating expenses on an
accrual basis, we must consider changes in prepaid expenses and accrued liabilities. First, we
need to recognize as this year’s expenses the amount of beginning prepaid expenses. (The
cash payment for these occurred last year.) Therefore, to arrive at operating expense on an
accrual basis, we add the beginning prepaid expenses balance to cash paid for operating
expenses.
Conversely, ending prepaid expenses result from cash payments made this year for
expenses to be reported next year. (Under the accrual basis, Dr. Windsor would have deferred
recognizing these payments as expenses until a future period.) To convert these cash
payments to operating expenses on an accrual basis, we deduct ending prepaid expenses from
cash paid for expenses, as the formula in Illustration 3A-9 shows.

Similarly, beginning accrued liabilities result from expenses recognized last year that
require cash payments this year. Ending accrued liabilities relate to expenses recognized
this year that have not been paid. To arrive at expenses on an accrual basis, we deduct
beginning accrued liabilities and add ending accrued liabilities to cash paid for expenses, as
the formula in Illustration 3A-10 shows.

Therefore, for Dr. Windsor’s dental practice, to convert cash paid for operating
expenses to operating expenses on an accrual basis, we would make the computations shown
in Illustration 3A-11.
 This entire conversion can be completed in worksheet form, as shown in Illustration
3A-12 (page 118).

Using this approach, we adjust collections and disbursements on a cash basis to

revenue and expense on an accrual basis, to arrive at accrual net income. In any conversion
from the cash basis to the accrual basis, depreciation or amortization is an additional expense
in arriving at net income on an accrual basis.

THE ORETICAL WEAKNESSES OF THE CASH BASIS

The cash basis reports exactly when cash is received and when cash is disbursed. To many
people, that information represents something concrete. Isn’t cash what it is all about? Does it
make sense to invent something, design it, produce it, market and sell it, if you aren’t going
to get cash for it in the end? Many frequently say, “Cash is the real bottom line,” and also,
“Cash is the oil that lubricates the economy.” If so, then what is the merit of accrual
accounting?
Today’s economy is considerably more lubricated by credit than by cash. The accrual
basis, not the cash basis, recognizes all aspects of the credit phenomenon. Investors, creditors,
and other decision-makers seek timely information about a company’s future cash flows.
Accrual-basis accounting provides this information by reporting the cash inflows and
outflows associated with earnings activities as soon as these companies can estimate these
cash flows with an acceptable degree of certainty. Receivables and payables are forecasters of
future cash inflows and outflows. In other words, accrual-basis accounting aids in predicting
future cash flows by reporting transactions and other events with cash consequences at the
time the transactions and events occur, rather than when the cash is received and paid.
USING REVERSING ENTRIES
ILLUSTRATION OF REVERSING ENTRIES—ACCRUALS
A company most often uses reversing entries to reverse two types of adjusting entries:
accrued revenues and accrued expenses. To illustrate the optional use of reversing entries for
accrued expenses, we use the following transaction and adjustment data.
1. October 24 (initial salaries and wages entry): Paid $4,000 of salaries and wages
incurred between October 10 and October 24.
2. October 31 (adjusting entry): Incurred salaries and wages between October 25 and
October 31 of $1,200, to be paid in the November 8 payroll.
3. November 8 (subsequent salaries and wages entry): Paid salaries and wages of
$2,500. Of this amount, $1,200 applied to accrued salaries and wages payable at
October 31 and $1,300 to salaries and wages payable for November 1 through
November 8.

Illustration 3B-1 shows the comparative entries.

The comparative entries show that the first three entries are the same whether or not
the company uses reversing entries. The last two entries differ. The November 1 reversing
entry eliminates the $1,200 balance in Salaries and Wages Payable, created by the October 31
adjusting entry. The reversing entry also creates a $1,200 credit balance in the Salaries and
Wages Expense account. As you know, it is unusual for an expense account to have a credit
balance. However, the balance is correct in this instance. Why? Because the company will
debit the entire amount of the first salaries and wages payment in the new accounting period
to Salaries and Wages Expense. This debit eliminates the credit balance. The resulting debit
balance in the expense account will equal the salaries and wages expense incurred in the new
accounting period ($1,300 in this example).
When a company makes reversing entries, it debits all cash payments of expenses
to the related expense account. This means that on November 8 (and every payday), the
company debits Salaries and Wages Expense for the amount paid without regard to the
existence of any accrued salaries and wages payable. Repeating the same entry simplifies the
recording process in an accounting system.
ILLUSTRATION OF REVERSINGENTRIES—DEFERRALS
Up to this point, we assumed the recording of all deferrals as prepaid expense or unearned
revenue. In some cases, though, a company records deferrals directly in expense or revenue
accounts. When this occurs, a company may also reverse deferrals.
To illustrate the use of reversing entries for prepaid expenses, we use the following
transaction and adjustment data.
1. December 10 (initial entry): Purchased $20,000 of offi ce supplies with cash.
2. December 31 (adjusting entry): Determined that $5,000 of offi ce supplies are on
hand.

Illustration 3B-2 shows the comparative entries.

After the adjusting entry on December 31 (regardless of whether using reversing

entries), the asset account Supplies shows a balance of $5,000, and Supplies Expense shows a
balance of $15,000. If the company initially debits Supplies Expense when it purchases the
supplies, it then makes a reversing entry to return to the expense account the cost of
unconsumed supplies. The company then continues to debit Supplies Expense for additional
purchases of supplies during the next period.
Deferrals are generally entered in real accounts (assets and liabilities), thus making
reversing entries unnecessary. This approach is used because it is advantageous for items that
a company needs to apportion over several periods (e.g., supplies and parts inventories).
However, for other items that do not follow this regular pattern and that may or may not
involve two or more periods, a company ordinarily enters them initially in revenue or
expense accounts. The revenue and expense accounts may not require adjusting, and the
company thus systematically closes them to Income Summary.
Using the nominal accounts adds consistency to the accounting system. It also makes
the recording more efficient, particularly when a large number of such transactions occur
during the year. For example, the bookkeeper knows to expense invoice items (except for
capital asset acquisitions). He or she need not worry whether an item will result in a prepaid
expense at the end of the period because the company will make adjustments at the end of the
period.

SUMMARY OF REVERSING ENTRIES

We summarize guidelines for reversing entries as follows.
1. All accruals should be reversed.
 2. All deferrals for which a company debited or credited the original cash transaction to
an expense or revenue account should be reversed.
3. Adjusting entries for depreciation and bad debts are not reversed.
Recognize that reversing entries do not have to be used. Therefore, some accountants avoid
them entirely.

USING A WORKSHEET: THE ACCOUNTING CYCLE

REVISITED
In this appendix, we provide an additional illustration of the end-of-period steps in the
accounting cycle and illustrate the use of a worksheet (usually in an electronic spreadsheet) in
this process. Using a worksheet (spreadsheet) often facilitates the end-ofperiod (monthly,
quarterly, or annually) accounting and reporting process. Use of a worksheet helps a
company prepare the financial statements on a more timely basis. How? With a worksheet; a
company need not wait until it journalizes and posts the adjusting and closing entries.
A company prepares a worksheet either on columnar paper or within a computer
spreadsheet. In either form, a company uses the worksheet to adjust account balances and to
prepare financial statements.
The worksheet does not replace the financial statements. Instead, it is an informal
device for accumulating and sorting information needed for the financial statements.
Completing the worksheet provides considerable assurance that a company properly handled
all of the details related to the end-of-period accounting and statement preparation. The 10-
column worksheet in Illustration 3C-1 (on page 122) provides columns for the first trial
balance, adjustments, adjusted trial balance, income statement, and balance sheet.

WORKSHEET COLUMNS
Trial Balance Columns
Uptown Cabinet Corp., shown in Illustration 3C-1 (page 122), obtains data for the trial
balance from its ledger balances at December 31. The amount for Inventory, $40,000, is the
year-end inventory amount, which results from the application of a perpetual inventory
system.

Adjustments Columns
After Uptown enters all adjustment data on the worksheet, it establishes the equality of the
adjustment columns. It then extends the balances in all accounts to the adjusted trial balance
columns
ADJUSTMENTS ENTERED ON THE WORKSHEET
Items (a) through (g) below serve as the basis for the adjusting entries made in the worksheet
for Uptown shown in Illustration 3C-1.
a) Depreciation of equipment at the rate of 10 percent per year based on original cost of
$67,000.
b) Estimated bad debts of $1,000, based on an aging of Accounts Receivable.
c) Insurance expired during the year $360.
d) Interest accrued on notes receivable as of December 31, $800.
e) The Rent Expense account contains $500 rent paid in advance, which is applicable to
next year.
f) Property taxes accrued December 31, $2,000.
g) Income taxes payable estimated $3,440.

The adjusting entries shown on the December 31, 2017, worksheet are as follows.
 Uptown Cabinet transfers the adjusting entries to the Adjustments columns of the
worksheet, often designating each by letter. The trial balance lists any new accounts resulting
from the adjusting entries, as illustrated on the worksheet. (For example, see the accounts
listed in rows 32 through 40 in Illustration 3C-1.) Uptown then totals and balances the
Adjustments columns.

Adjusted Trial Balance

The adjusted trial balance shows the balance of all accounts after adjustment at the end of the
accounting period. For example, Uptown adds the $2,000 shown opposite the Allowance for
Doubtful Accounts in the Trial Balance Cr. column to the $1,000 in the Adjustments Cr.
column. The company then extends the $3,000 total to the Adjusted Trial Balance Cr.
column. Similarly, Uptown reduces the $900 debit opposite Prepaid Insurance by the $360
credit in the Adjustments column. The result, $540, is shown in the Adjusted Trial Balance
Dr. column.

Income Statement and Balance Sheet Columns

Uptown extends all the debit items in the Adjusted Trial Balance columns into the Income
Statement or Balance Sheet columns to the right. It similarly extends all the credit items.
The next step is to total the Income Statement columns. Uptown needs the amount of
net income or loss for the period to balance the debit and credit columns. The net income of
$12,200 is shown in the Income Statement Dr. column because revenues exceeded expenses
by that amount.
Uptown then balances the Income Statement columns. The company also enters the
net income of $12,200 in the Balance Sheet Cr. column as an increase in retained earnings.

PREPARING FINANCIAL STATEMENTS FROM A

WORKSHEET
The worksheet provides the information needed for preparation of the financial statements
without reference to the ledger or other records. In addition, the worksheet sorts that data into
appropriate columns, which facilitates the preparation of the statements. The financial
statements of Uptown Cabinet are shown in Chapter 3 (pages 111–112).