Chapter 3, Problem 33BP

a.

To determine

Record the events and adjusting entries for Year 1 in general journal form.

Explanation of Solution

Journal entry:

Journal entry is a set of economic events which can be measured in monetary terms. These are recorded chronologically and systematically.

Accounting rules for Journal entries:

• To record increase balance of account: Debit assets, expenses, losses and credit liabilities, capital, revenue and gains.
• To record decrease balance of account: Credit assets, expenses, losses and debit liabilities, capital, revenue and gains.

Record the events in general journal format.

Event	Account title and Explanation	Post ref.	Debit  (in $)	Credit (in $)
1.	Cash		100,000
	Common Stock			100,000
	(To record the issue of the common stock)
2.	Prepaid rent		12,000
	Cash			12,000
	(To record the payment of rent)
3.	Cash		9,600
	Unearned revenue			9,600
	(To record the unearned service revenue)
4.	Accounts receivable		130,400
	Service revenue			130,400
	(To record the service revenue earned on account)
5.	Operating Expenses		63,000
	Accounts payable			63,000
	(To record operating expenses on account)
6.	Cash		113,800
	Accounts receivable			113,800
	(To record the cash collected from accounts receivable)
7.	Salaries Expense		44,000
	Cash			44,000
	(To record salaries expense)
8.	Accounts payable		56,000
	Cash			56,000
	(To record the payment made to creditors on account)
9.	Rent Expense (1)		11,000
	Prepaid Rent			11,000
	(To adjust the prepaid rent)
10.	Unearned revenue (2)		3,200
	Service revenue
	(To record the service revenue earned)			3,200
11.	Salaries Expense		4,200
	Salaries payable			4,200
	(To record salaries expense)

Table (1)

Working note:

Calculate the amount of prepaid rent expired during the year.

$\begin{array}{c}\text{Prepaid rent expired during the year =Prepaid rent paid}\times \\ \frac{\text{Number of months rent expired}}{\text{Total number of months rent prepaid}}\\ \text{= \$12,000}\times \frac{9\text{months}}{12\text{months}}\\ =\$9,000\end{array}$ (1)

Calculate the amount of unearned revenue earned during the year.

$\begin{array}{c}\text{Unearned revenue earned during the year =Unearned revenue received}\times \\ \frac{\text{Number of months revenue earned}}{\text{Total number of months revenue unearned}}\\ \text{= \$9,600}\times \frac{4\text{months}}{12\text{months}}\\ =\$3,200\end{array}$ (2)

b.

To determine

Post the Year 1 events to T-accounts.

Explanation of Solution

T-account:

T-account is the form of the ledger account, where the journal entries are posted to this account. It is referred to as the T-account, because the alignment of the components of the account resembles the capital letter ‘T’.

The components of the T-account are as follows:

a)      The title of the account

b)      The left or debit side

c)      The right or credit side

Post the events to T-accounts as follows:

Cash
1.	100,000	2.	12,000
3.	9,600	7.	44,000
6.	113,800	8.	56,000
Balance            111,400

Accounts Receivable
4.	130,400	6.	113,800
Balance              16,600

Prepaid Rent
2.	12,000	9.	11,000
Balance                1,000

Accounts Payable
8.	56,000	5.	63,000
		Balance           7,000

Salaries Payable
		11.	4,200
		Balance           4,200

Unearned Revenue
10.	3,200	3.	9,600
		Balance           6,400

Common Stock
		1.	100,000
		Balance       100,000

Service Revenue
		4.	130,400
		10.	3,200
		Balance       133,600

Operating Expenses
5.	63,000
Balance              63,000

Rent Expense
9.	11,000
Balance              11,000

Salaries Expense
7.	44,000
11.	4,200
Balance              48,200

c.

To determine

Prepare a trial balance for Year 1.

Explanation of Solution

Trial balance:

A trial balance is the summary of all the ledger accounts. The trial balance is prepared to check the total balance of the debit column with the total of the balance of the credit column, which must be equal. The trial balance is usually prepared to check accuracy of ledger accounts balances before the preparation of financial statements.

Prepare a trial balance for Year 1 as follows:

Company AM
Trial Balance
December 31, Year 1
Particulars	Debit $	Credit $
Cash	111,400
Accounts receivable	16,600
Prepaid rent	1,000
Accounts payable		7,000
Salaries payable		4,200
Unearned revenue		6,400
Common stock		100,000
Service revenue		133,600
Operating expenses	63,000
Rent expenses	11,000
Salaries expenses	48,200
Total	$251,200	$251,200

Table (2)

d.

To determine

Prepare an income statement, statement of changes in stockholder’s equity, balance sheet, and statement of cash flows for Year 1.

Explanation of Solution

Financial Statements:

A financial statement is a complete record of the financial transactions that takes place in a company at a particular point of time. It provides important financial information like assets, liabilities, revenues and expenses of the company to its internal and external users. It helps them to know the exact financial position of the company.

Four general-purpose financial statements:

The four general-purpose financial statements that business enterprises use are:

1. Income statement:

Income statement is a financial statement that shows the net income or net loss by deducting the expenses from the revenues and vice versa.

2. Statement of changes in Stockholder’s equity:

This statement reports the beginning stockholders’ equity and all the changes, which led to ending stockholders’ equity. Additional capital, net income from income statement is added to and drawings are deducted from beginning stockholders’ equity to arrive at the result, ending stockholders’ equity.

3. Balance Sheet:

Balance Sheet summarizes the assets, the liabilities, and the Shareholder’s equity of a company at a given date. It is also known as the statement of financial status of the business.

4. Statement of cash flows:

Statement of cash flows reports all the cash transactions which are responsible for inflow and outflow of cash and result of these transactions is reported as ending balance of cash at the end of reported period.

Prepare the income statement, statement of changes in stockholder’s equity, balance sheet, and statement of cash flows for Year 1 as follows:

Company AM Financial Statements For the Year Ended December 31, Year 1
Income Statement
Details	Amount ($)	Amount ($)
Revenues:
Service revenue		133,600
Less: Expenses
Operating  Expense	63,000
Rent Expense	11,000
Salaries Expense	48,200
Total Expenses		(122,200)
Net Income		$11,400
Statement of changes in Stockholders’ Equity
Beginning common stock	0
Add: Stock issued	100,000
Ending common stock		100,000
Beginning retained earnings	0
Add: Net income	11,400
Ending retained earnings		11,400
Total Stockholders’ Equity		$111,400
Company AM
Balance Sheet
As of December 31, Year 1
Assets:
Cash	111,400
Accounts Receivable	16,600
Prepaid rent	1,000
Total Assets		129,000
Liabilities:
Accounts Payable	7,000
Salaries Payable	4,200
Unearned revenue	6,400
Total Liabilities		17,600
Stockholders’ Equity:
Common stock	100,000
Retained earnings	11,400
Total Stockholders’ Equity		111,400
Total Liabilities and Owners’ Equity		$129,000
Statement of Cash Flows
Particulars
Cash Flow From Operating Activities:
Received cash from customers	$123,400
Paid cash for expenses	($112,000)
Net Cash Flow from Operating Activities		$11,400
Net Cash Flow From Investing Activities		0
Net Cash Flow From Financing Activities:
Received cash from Stock Issue	100,000
Net Cash Flow from Financing Activities		100,000
Net Change in Cash		111,400
Add: Beginning Cash Balance		0
Ending Cash Balance		$111,400

Table (3)

e.

To determine

Record the entries to close the Year 1 temporary accounts to retained earnings in the general journal and post to the T-accounts.

Explanation of Solution

Closing entries:

Closing entries are recorded in order to close the temporary accounts such as incomes and expenses by transferring them to the permanent accounts. It is passed at the end of the accounting period, to transfer the final balance.

Record the entries to close the Year 1 temporary accounts to retained earnings in the general journal and post to the T-accounts as follows:

Date	Accounts title and Explanation	Post Ref.	Debit ($)	Credit ($)
December 31, Year 1	Service revenue		133,600
	Retained earnings			133,600
	(To close the balance of revenue account)
December 31, Year 1	Retained earnings		122,200
	Operating expense			63,000
	Rent Expense			11,000
	Salaries Expense			48,200
	(To close the balances of expense accounts)

Table (4)

• Fees earned are the revenue account. Since the amount of revenue is closed, and transferred to retained earnings account, they are debited.
• Operating Expense, Rent Expense, Salaries Expense, and Supplies expense are the expense accounts. Since the amounts of expenses are closed to retained earnings account, they are credited.

Post the closing entries to T-accounts as follows:

Cash
Balance            111,400

Accounts Receivable
Balance              16,600

Prepaid Rent
Balance                1,000

Accounts Payable
	Balance           7,000

Salaries Payable
	Balance           4,200

Unearned Revenue
	Balance           6,400

Common Stock
	Balance       100,000

Retained earnings
Closing	122,200	Closing	133,600
		Balance         11,400

Service Revenue
Closing	133,600	Balance	133,600
		Balance                  0

Operating Expenses
Balance	63,000	Closing	63,000
Balance                       0

Rent Expense
Balance	11,000	Closing	11,000
Balance                       0

Salaries Expense
Balance	48,200	Closing	48,200
Balance                       0

f.

To determine

Prepare a post-closing trial balance for December 31, Year 1.

Explanation of Solution

Post-Closing Trial Balance:

After passing all the journal entries and the closing entries of the permanent accounts and then further posting them to each of the respective accounts, a post-closing trial balance is prepared which consists of a list of all the permanent accounts. A post-closing trial balance serves as an evidence to prove that the balance of the permanent accounts is equal.

Prepare a trial balance for Year 1 as follows:

Company AM
Post – Closing Trial Balance
December 31, Year 1
Particulars	Debit ($)	Credit ($)
Cash	111,400
Accounts Receivable	16,600
Prepaid Rent	1,000
Accounts Payable		7,000
Salaries Payable		4,200
Unearned revenue		6,400
Common Stock		100,000
Retained Earnings		11,400
Total	$129,000	$129,000

Table (5)

g.

To determine

Repeat the requirements a through f for Year 2.

Explanation of Solution

Record the events in general journal format.

Event	Account title and Explanation	Post ref.	Debit  (in $)	Credit (in $)
1.	Salaries payable		4,200
	Cash			4,200
	(To record the cash paid for the accrued salaries)
2.	Cash		81,000
	Service revenue			81,000
	(To record the service revenue earned)
3.	Land		50,000
	Cash			50,000
	(To record the purchase of land)
4.	Prepaid rent		10,800
	Cash			10,800
	(To record the payment of rent)
5.	Accounts receivable		164,000
	Service revenue			164,000
	(To record the service revenue earned on account)
6.	Operating Expenses		98,200
	Accounts payable			98,200
	(To record operating expenses on account)
.
7.	Cash		152,600
	Accounts receivable			152,600
	(To record the cash collected from accounts receivable)
8.	Accounts payable		96,000
	Cash			96,000
	(To record the payment made to creditors on account)
9.	Salaries Expense		82,000
	Cash			82,000
	(To record salaries expense)
10.	Dividends		10,000
	Cash			10,000
	(To record the dividends paid)
11.	Unearned revenue (2)		6,400
	Service revenue			6,400
	(To record the service revenue earned)
12.	Rent Expense (3)		10,900
	Prepaid Rent			10,900
	(To adjust the prepaid rent)
13.	Salaries Expense		7,000
	Salaries payable			7,000
	(To record salaries expense)

Table (6)

Working notes:

Calculate the amount of unearned revenue earned during the year.

$\begin{array}{c}\text{Unearned revenue earned during the year =Unearned revenue received}\times \\ \frac{\text{Number of months revenue earned}}{\text{Total number of months revenue unearned}}\\ \text{= \$9,600}\times \frac{8\text{months }\left(\text{January to August}\right)}{12\text{months}}\\ =\$6,400\end{array}$ (2)

Calculate the amount of prepaid rent expired during the year.

$\begin{array}{c}\text{Prepaid rent expired during the year =}\left\{\begin{array}{c}\text{Prepaid rent paid in Year 1}\times \\ \frac{\text{Number of months rent expired}}{\text{Total number of months rent prepaid}}\end{array}\right\}+\\ \left\{\begin{array}{c}\text{Prepaid rent paid in Year 2}\times \\ \frac{\text{Number of months rent expired}}{\text{Total number of months rent prepaid}}\end{array}\right\}\\ \text{= }\left\{\text{\$12,000}\times \frac{1\text{months }\left(\text{January}\right)}{12\text{months}}\right\}+\\ \left\{\text{\$10,800}\times \frac{11\text{months }\left(\begin{array}{l}\text{March, Year 2 to }\\ \text{February, Year 3}\end{array}\right)}{12\text{months}}\right\}\\ =\$1,000+\$9,900\\ =\$10,900\end{array}$ (3)

Post the events to T-accounts as follows:

Cash
Balance	111,400
2.	81,000	1.	4,200
7.	152,600	3.	50,000
		4.	10,800
		8.	96,000
		9.	82,000
		10.	10,000
Balance              92,000

Accounts Receivable
Balance	16,600
5.	164,000	7.	152,600
Balance              28,000

Prepaid Rent
Balance	1,000
4.	10,800	12.	10,900
Balance                   900

Land
3.	50,000
Balance              50,000

Accounts Payable
		Balance	7,000
8.	96,000	6.	98,200
		Balance           9,200

Salaries Payable
		Balance	4,200
1.	4,200	13.	7,000
		Balance           7,000

Unearned Revenue
		Balance	6,400
11.	6,400
		Balance                  0

Common Stock
	Balance       100,000

Retained Earnings
	Balance         11,400

Dividends
10.	10,000
Balance              10,000

Service Revenue
		2.	81,000
		5.	164,000
		11.	6,400
		Balance       251,400

Operating Expenses
6.	98,200
Balance              98,200

Rent Expense
12.	10,900
Balance              10,900

Salaries Expense
9.	82,000
13.	7,000
Balance              89,000

Prepare a trial balance for Year 2 as follows:

Company AM
Trial Balance
December 31, Year 2
Particulars	Debit $	Credit $
Cash	92,000
Accounts receivable	28,000
Prepaid rent	900
Land	50,000
Accounts payable		9,200
Salaries payable		7,000
Common stock		100,000
Retained earnings		11,400
Dividends	10,000
Service revenue		251,400
Operating expenses	98,200
Rent expenses	10,900
Salaries expenses	89,000
Total	$379,000	$379,000

Table (7)

Prepare the income statement, statement of changes in stockholder’s equity, balance sheet, and statement of cash flows for Year 2 as follows:

Company AM Financial Statements For the Year Ended December 31, Year 2
Income Statement
Details	Amount ($)	Amount ($)
Revenues:
Service revenue		251,400
Less: Expenses
Operating  Expense	98,200
Salaries Expense	89,000
Rent Expense	10,900
Total Expenses		(198,100)
Net Income		$53,300
Statement of changes in Stockholders’ Equity
Beginning common stock	100,000
Add: Stock issued	0
Ending common stock		100,000
Beginning retained earnings	11,400
Add: Net income	53,300
Less: Dividends	(10,000)
Ending retained earnings		54,700
Total Stockholders’ Equity		$154,700
Company AM
Balance Sheet
As of December 31, Year 2
Assets:
Cash	92,000
Accounts Receivable	28,000
Prepaid rent	900
Land	50,000
Total Assets		$170,900
Liabilities:
Accounts Payable	9,200
Salaries Payable	7,000
Total Liabilities		$16,200
Stockholders’ Equity:
Common stock	100,000
Retained earnings	54,700
Total Stockholders’ Equity		154,700
Total Liabilities and Owners’ Equity		$170,900
Statement of Cash Flows
Particulars
Cash Flow From Operating Activities:
Received cash from customers	233,600
Paid cash for expenses	(193,000)
Net Cash Flow from Operating Activities		40,600
Cash Flow From Investing Activities
Paid cash for purchased of land	$(50,000)
Net Cash Flow from Investing Activities		(50,000)
Cash Flow From Financing Activities:
Paid cash for dividends	$(10,000)
Net Cash Flow from Financing Activities		(10,000)
Net Change in Cash		(19,400)
Add: Beginning Cash Balance		111,400
Ending Cash Balance		$92,000

Table (8)

Working Notes:

Calculate the cash received from customers.

$\begin{array}{c}\text{Cash received from customers=Service revenue received+Accounts receivable collected}\\ =\$81,000+\$152,600\\ =\$233,600\end{array}$

Calculate the cash paid for expenses.

$\begin{array}{c}\text{Cash paid for expenses=}\left(\begin{array}{l}\text{Accrued salaries paid+Rent}\text{expense+Accounts}\\ \text{payable paid+Salaries expense}\end{array}\right)\\ =\$4,200+\$10,800+\$96,000+\$82,000\\ =\$193,000\end{array}$

Record the entries to close the Year 2 temporary accounts to retained earnings in the general journal and post to the T-accounts as follows:

Date	Accounts title and Explanation	Post Ref.	Debit ($)	Credit ($)
December 31, Year 2	Service revenue		251,400
	Retained earnings			251,400
	(To close the balance of revenue account)
December 31, Year 2	Retained earnings		198,100
	Operating expense			98,200
	Rent Expense			10,900
	Salaries Expense			89,000
	(To close the balances of expense accounts)
December 31, Year 2	Retained earnings		10,000
	Dividends			10,000
	(To close the dividend account to retained earnings account)

Table (9)

• Fees earned are the revenue account. Since the amount of revenue is closed, and transferred to retained earnings account, they are debited.
• Operating Expense, Rent Expense, Salaries Expense, and Supplies expense are the expense accounts. Since the amounts of expenses are closed to retained earnings account, they are credited.
• Closing entries are also passed in order to close the excess of expenses over the revenues, and the dividend account.

Post the closing entries to T-accounts as follows:

Cash
Balance              92,000

Accounts Receivable
Balance              28,000

Prepaid Rent
Balance                   900

Land
Balance              50,000

Accounts Payable
	Balance           9,200

Salaries Payable
	Balance           7,000

Common Stock
	Balance       100,000

Retained earnings
Closing	198,100	Balance	11,400
Closing	10,000	Closing	251,400
		Balance         54,700

Dividends
Balance	10,000	Closing	10,000
Balance                       0

Service Revenue
Closing	251,400	Balance	251,400
		Balance                  0

Operating Expenses
Balance	98,200	Closing	98,200
Balance                       0

Rent Expense
Balance	10,900	Closing	10,900
Balance                       0

Salaries Expense
Balance	89,000	Closing	89,000
Balance                       0

Prepare a trial balance for Year 2 as follows:

Company AM
Post – Closing Trial Balance
December 31, Year 2
Particulars	Debit ($)	Credit ($)
Cash	92,000
Accounts Receivable	28,000
Prepaid Rent	900
Land	50,000
Accounts Payable		9,200
Salaries Payable		7,000
Common Stock		100,000
Retained Earnings		54,700
Total	$170,900	$170,900

Table (10)