Exam code:4AC1
Summary of adjustments
What are adjustments to financial statements?
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A trial balance is prepared at the end of the financial period
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The trial balance is used to prepare the financial statements
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However, there may be additional notes after the trial balance has been prepared
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Common items contained in additional notes are:
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Valuation of the closing inventory
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Goods taken for own use
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Depreciation information for the year
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Accruals and prepayments of expenses
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Accruals and prepayments of income
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Irrecoverable debts
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Information about the provision for irrecoverable debts
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How do I make adjustments with the additional notes?
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Each additional note is used twice in the financial statements
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It can adjust a figure stated in the trial balance
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Or it can represent a new account that is not in the trial balance
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|
Income Statement |
Statement of Financial Position |
|
|---|---|---|
|
Closing inventory |
Subtract this value from the purchases |
Include under current assets |
|
Goods taken for own use |
Subtract this value from the purchases |
Add to the drawings balance |
|
Depreciation for the year |
Include the depreciation for the year as an expense |
Add the year’s depreciation to the accumulated depreciation which appears under non-current assets |
|
Accrued expense |
Add the amount to the relevant expense |
Include under current liabilities labelled as other payables |
|
Prepaid expense |
Subtract the amount from the relevant expense |
Include under current assets labelled as other receivables |
|
Accrued income |
Add the amount to the relevant income |
Include under current assets labelled as other receivables |
|
Prepaid income |
Subtract the amount from the relevant income |
Include under current liabilities labelled as other payables |
|
Irrecoverable debts written off |
Include as an expense labelled as irrecoverable debts |
Subtract from the trade receivables amount |
|
Recovery of debts written off |
Include as other income labelled as debts recovered |
Add to the bank or cash amount |
|
Increase in the provision for irrecoverable debts |
Include the increase as an expense labelled as provision for irrecoverable debts |
Subtract the total provision for irrecoverable debts from the trade receivables amount |
|
Decrease in the provision for irrecoverable debts |
Include the decrease as other income labelled as provision for irrecoverable debts |
Subtract the total provision for irrecoverable debts from the trade receivables amount |
Examiner Tips and Tricks
If you are given a trial balance then it can be helpful to annotate the trial balance with the adjustments before preparing the financial statements.
Worked Example
Junaid provides a trial balance of his accounts at 31 December 2023.
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Junaid Trial Balance at 31 December 2023 |
||
|
Debit $ |
Credit $ |
|
|
Revenue |
116 400 |
|
|
Purchases |
74 000 |
|
|
Equipment at cost |
30 000 |
|
|
Provision for depreciation of equipment |
10 800 |
|
|
Insurance |
2 500 |
|
|
Rent received |
5 800 |
|
|
Trade receivables |
25 000 |
|
|
Provision for irrecoverable debts |
1 500 |
|
|
Trade payables |
14 000 |
|
|
Bank |
12 000 |
|
|
Inventory at 1 January 2023 |
18 000 |
|
|
Drawings |
8 000 |
|
|
Capital at 1 January 2023 |
21 000 |
|
|
169 500 |
169 500 |
|
Additional information
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Inventory at 31 December 2023 was $14 000.
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Depreciation is to be charged on equipment at 20% per annum using the reducing balance method.
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Prepaid insurance at 31 December 2023 was $400.
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$300 rent was still owed to Junaid at 31 December 2023.
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Junaid had taken $500 goods for personal use. No entries were made in the ledger accounts.
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Junaid was unable to contact a credit customer, so their $1 000 was to be written off as irrecoverable debt.
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The provision for irrecoverable debts is to be maintained at 5% of trade receivables.
(a) Prepare the income statement for Junaid for the year ended 31 December 2023.
(b) Prepare the statement of financial position for Junaid at 31 December 2023.
Answer
Deal with each additional item.
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Item 1 – closing inventory
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Subtract the closing inventory from the purchases on the income statement
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List the closing inventory as a current asset on the statement of financial position
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Item 2 – depreciation
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Calculate the net book value before charging this year’s depreciation
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$30 000 – $10 800 = $19 200
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Calculate this year’s depreciation
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20% × $19 200 = $3 840
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List the year’s depreciation as an expense on the income statement
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Add the depreciation to the provision for depreciation
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Item 3 – prepaid expense
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Subtract the prepayment from the insurance and list as an expense on the income statement
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List the prepayment of an expense (other receivables) as a current asset on the statement of financial position
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Item 4 – accrued income
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Add the accrual to the rent received and list as other income on the income statement
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List the accrual of income (other receivables) as a current asset on the statement of financial position
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Item 5 – goods for own use
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Subtract these goods from the purchases on the income statement
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Add this amount to the drawing
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Item 6 – Irrecoverable debts
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Subtract the balance from the trade receivables
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List the irrecoverable debts as an expense on the income statement
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Item 7 – provision for irrecoverable debts
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Calculate the provision for irrecoverable debts at 31 December 2023
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Trade receivables is $25 000 – $1 000 = $24 000
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5% × $24 000 = $1 200
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Calculate the change from the previous year
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$1 500 – $1 200 = $300 decrease
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List the decrease an other income on the income statement
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Subtract the new provision from the trade receivables on the statement of financial position
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You can annotate the figures in the trial balance:
|
Debit $ |
Credit $ |
|
|
Revenue |
116 400 |
|
|
Purchases |
74 000 |
|
|
Closing inventory |
-14 000 |
|
|
Goods for own use |
-500 |
|
|
Equipment at cost |
30 000 |
|
|
Provision for depreciation of equipment |
10 800 + 3 840 = 14 640 |
|
|
Insurance |
2 500 – 400 = 2 100 |
|
|
Rent received |
5 800 + 300 = 6 100 |
|
|
Trade receivables |
25 000 – 1 000 = 24 000 |
|
|
Provision for irrecoverable debts |
1 500 – 300 = 1 200 |
|
|
Trade payables |
14 000 |
|
|
Bank |
12 000 |
|
|
Inventory at 1 January 2023 |
18 000 |
|
|
Drawings |
8 000 + 500 = 8 500 |
|
|
Capital at 1 January 2023 |
21 000 |
|
|
Closing inventory |
14 000 |
|
|
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