Chapter 4, Problem 4.1.1P

To determine

Introduction: Each financial transaction or economic event will affect either assets, liabilities, or owners’ equity. Thus, the basis for recording the transaction in the accounting system depends on the accounting equation. The accounting equation is:

  $\text{Assets}\text{=}\text{Liabilities}\text{+}\text{Stockholder's}\text{Equity}$

Adjustments: Accrual basis accounting requires a number of adjustments at the end of the period. The adjustment is made for unearned revenue, accrued expenses, revenue received in advance and prepaid expenses.

To identify and analyze: The necessary adjustments for each of the given situation on March 31, 2017.

Explanation of Solution

a. Adjustment for Notes payable

Activity:Financing

Accounts:Interest payable. Increases

Interest expense. Increases

Statements:Balance sheet and Income Statement.

Balance sheet			Income Statement
Assets =	Liability +	Stockholders’ equity	Revenues -	Expenses =	Net income
	Interest payable $100	($100)		Interest expense $100	($100)

90 days note taken for $15,000 at 8 per cent on March 1, 2017. The interest expense should be recognized for one month. The interest expense is calculated as follows:

  $\begin{array}{c}\text{Interest}\text{expense}=\text{principal}\times \text{interest}\times \frac{\text{maturity}\text{days}}{\text{days}\text{in}\text{a}\text{year}}\times \frac{\text{no}\text{.}\text{of}\text{days}\text{in}\text{March}}{\text{days}\text{till}\text{maturity}}\end{array}$

          $\begin{array}{c}=\$15,000\times 8\%\times \frac{90}{360}\times \frac{30}{90}\end{array}$

          $\begin{array}{c}=\$100\end{array}$

It is assumed that the number of days in a year is 360 and the number of days in March is 30.

b. Adjustment for supplies used during the year

Activity:Operating

Accounts:Supply inventory. Decrease

Supplies expense. Increase

Statements:Balance sheet and Income statement

Balance sheet			Income Statement
Assets =	Liability +	Stockholders’ equity	Revenues -	Expenses =	Net income
Supply inventory ($660)		($660)		Supply expenses $660	($660)

Supplies consumed during the month:

Particular	Amount ($)
Supplies in hand on March 1, 2017	1,280
Add: Supplies purchased during the month	750
Less: Supplies in hand at the end of March 31, 2017	(1,370)
Supplies consumed	660

c. Adjustment for depreciation on the office equipment purchased last year

Activity: Operating

Accounts: Accumulated Depreciation − equipment. Increase

Depreciation expense − equipment. Increase

Equipment - Decrease

Statements:Balance sheet and Income statement.

Balance sheet			Income Statement
Assets =	Liability +	Stockholders’ equity	Revenues -	Expenses =	Net income
Equipment ($800)		($800)		Depreciation Expense − equipment $800	($800)

The depreciation for the year is calculated as follows:

  $\begin{array}{c}\text{Depreciation}\text{=}\frac{\text{Cost}\text{of}\text{Asset}\text{-}\text{Salvage}\text{value}}{\text{Useful}\text{life}}\end{array}$

         $\begin{array}{c}=\frac{\$62,600-\$5,000}{6}\end{array}$

         $\begin{array}{c}=\$9,600\end{array}$

Monthly depreciation expense is calculated as follows:

  $\begin{array}{c}\text{Monthly}\text{depreciation}\text{=}\frac{\text{annual}\text{depreciation}}{\text{Number}\text{of}\text{months}\text{in}\text{a}\text{year}}\end{array}$

            $\begin{array}{c}=\frac{\$9,600}{12}\end{array}$

            $\begin{array}{c}=\$800\end{array}$

d. Adjustment for wages payable

Activity:Operating

Accounts:Wages payable. Increases

Wages expense. Increases

Statements: Balance sheet and Income statement.

Balance sheet			Income Statement
Assets =	Liability +	Stockholders’ equity	Revenues -	Expenses =	Net income
	Wages payable $4,750	($4,750)		Wages expense $4,750	($4,750)

As wages are paid every Sunday and month-end is Friday, only five days from Monday to Friday require adjustment. The wages for five days are calculated as follows:

  $\begin{array}{c}\text{Wages}\text{expense}=\text{daily}\text{wage}\times \text{number}\text{of}\text{days}\\ =\$950\times 5\\ =\$4,750\end{array}$

e. Adjustments for rent collected in advance.

Activity:Operating

Accounts:Rent collected in advance. Decreases.

Revenue. Increase

Statements:Balance sheet and Income statement.

Balance sheet			Income Statement
Assets=	Liability +	Stockholders’ equity	Revenues -	Expenses =	Net income
	Rent collected in advance ($2,500)	$2,500	$2,500		$2,500

Rent is received on February 1, 2017, for six months. The number of months from March 1 to March 31 is one. Therefore, the rental income will be recorded for one month. The rent revenue is calculated as follows:

  $\begin{array}{c}\text{Rent}\text{revenue}=\text{rent}\text{per}\text{month}\times \text{number}\text{of}\text{months}\\ =\$2,500\times 1\\ =\$2,500\end{array}$

f. Adjustments for customer deposit received in advance.

Activity:Operating

Accounts:Customer deposit in advance. Decreases.

Revenue. Increase

Statements:Balance sheet and Income statement.

Balance sheet			Income Statement
Assets=	Liability +	Stockholders’ equity	Revenues -	Expenses =	Net income
	Customer deposit in advance ($1,200)	$1,200	$1,200		$1,200

Customer deposits for $4,800 received on March 1, 2017, to be used for four months.

As K Corporation, closes account every month therefore, deposits of one month from March 1 to March 31 can be used. The revenue for one month is calculated as follows:

  $\begin{array}{c}\text{Revenue}\text{recognized}=\text{total}\text{deposit}\times \frac{\text{months}\text{used}}{\text{total}\text{months}}\\ =\$4,800\times \frac{1}{4}\\ =\$1,200\end{array}$

g. Adjustment for federal income tax payable

Activity:Operating

Accounts:Income tax payable. Increases

Income tax expense. Increases

Statements:Balance sheet and Income Statement.

Balance sheet			Income Statement
Assets =	Liability +	Stockholders’ equity	Revenues -	Expenses =	Net income
	Income tax payable $3,900	($3,900)		Income tax expense $3,900	($3,900)

The amount of federal income tax expense during March is $3,900. It will be deducted in calculating the net income of the company. It will increase the liability.