LESSON 2- REVIEW OF THE ACCOUNTING PROCESS

Lesson 2

Accounting process refers to the procedures or series of steps undertaken to come up with
the information reported in the financial statements. The accounting process is also referred to as
the accounting cycle.

The accounting process is divided into two phases, namely: the recording phase and the
~!Ullll!il[iW!& phase .

.s:. Objecii,a

At the end of this lesson, you should be able to:

I. Identify and explain the steps in the accounting process.

2. Prepare adjusting entries and understand the rationale for their preparation;
3. Prepare closing entries and understand the rationale for their preparation;
4. Explain the advantages of preparing reversing entries and identify adjusting entries that
may be reversed.

Recall your lessons in the Accounting Tutorials provided by the JPIA. Fill in the boxes with the
appropriate steps in the accounting cycle. This activity will assess the depth of your
understanding on accounting cycle.

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 THE ACCOUNTING CYCLE

Business

D
Transaction

Documentation

/ \.
D D
r \
Preparation of
the Post-Closing
Trial Balance
E
\ I
D /
D
' Preparation of
the Adjusted
Trial Balance

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Provide the details below by answering each question and identifying what is being asked. Fill-
out your answers on the spaces provided.

Questions Answer

What is accounting and what is its

purpose? What is its role in decision-
making?

Who are the users of accounting

information and what is the relevance of
the information to the various types of
decisions that they make? Who are the
users of financial statements and what are
their information needs?

What are the steps in the accounting

process? What is the importance of each
step and how is it related to the other
steps in the process?

Why are journals called books of original

entry?

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Distinguish between (a} a general journal
and special journals and (b) a general
ledger and subsidiary ledger

Does the trial balance prove the accuracy

of accounting work done? Explain your
answer.

What are the common types of adjusting

data? Why do we prepare adjusting
entries?

Why do accountants prepare work sheet

even if its preparation is optional

Enumerate and discuss the components of

a complete set of financial statements.

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 If reversing entries are made, which
adjusting entries would be reversed?

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4 .. ,,odPoodu

Identify and explain the steps in the accounting process

The accounting process (also called the accounting cycle) is composed often (10)
steps, two of which are optional. These steps are grouped into two phases, namely: ( I)
the recoding phase, and (2) the ~rj;wig phases. The three steps under the recording
phase are the following: (I) preparing or receiving the appropriate documents
(documentation), (2) .lw!millwru. the transactions, and (3) posting the recorded
transaction to the accounts in the ledger. The seven (7) steps under the rnow.ciw,g
phase are as follows: (I) preparing the trial balance, (2) compiling the data for
adjustments, (3) preparing the work sheet (optional), (4) preparing the financial
statements, (5) adjusting and closing the books, (6) preparing a post-closing trial balance,
and (7) preparing reversing entries for certain adjusting entries (optional).

Preparing adjusting entries and understand the rationale for preparing them

Adjusting entries are prepared at the end of the accounting period to update, the
balances of the accounts in the general ledger prior to the preparation of the financial
statements. This will enable the preparers of the financial statements to present fairly the
financial position and the results of operations of an entity during a given period because
all transactions that have affected the elements of the financial statements are
during the period. Data that require adjustments include the following: (I) accrued
expense, (2) accrued income, (3) prepaid expense, (4) unearned income, (5) depreciation
and other cost allocation. (6) uncollectible accounts -receivable, and (7) inventory
recorded using the periodic inventory system.

Prepare closing entries and understand the rationale/or preparing them.

Closing entries are prepared for nominal accounts to reduce their balances to zero
at the end of the accounting period. Nominal accounts include the following: income
accounts, expense accounts, and temporary equity accounts, such as the drawing account
of the owner in a sole proprietorship form of business QW\.O~-

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 Explain the advantage of preparing the reversing entries and identify adjusting entries
that may be reversed

Reversing entries are prepared at the beginning of a new accounting period for the
following adjustments: (I) accrued expense, (2) accrued income, (3) prepaid expense
recorded under the expense method, and (4) unearned income recorded under the income
method. The preparation of reversing entries is optional but it facilitates the recording of
expense payment and revenue receipts during the new accounting period in the usual
manner.

d
-a See if you can do this!

THEORIES: (TRUE or FALSE)

- Accounting is a service activity whose function is to provide quantitative information

about economic entities.

- The records used for the initial recording of business transactions are journals.

- The rules for debit and credit and the normal balance of liabilities are the same as for
capital.

- Special journals are used to record usual and frequent transactions.

- The preparation of worksheet eliminates the need to journalize and post adjusting entries.

- The accounting process consists of the recording phase and the reporting phase.

- The purpose of trial balance is to reconcile subsidiary ledger balances with general ledger
balances.

- Accumulated depreciation is an example of an adjunct account.

- The general ledger includes all accounts appearing in the financial statements, while
subsidiary ledgers provide details in support of certain general ledger balances.

- Entering a debit balance in an account as a credit will cause the trial balance to be out of
balance by an amount that is divisible by two (2).

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 - Adjusting entries are made to correct errors made in the recording phase.

- The entry to record depreciation expense is an example of an adjustment that would be

reversed if reversing entries are made.

- It is sometimes correct for a compound entry' s debit totals and credit totals to be unequal.

- The trial balance is used to prepare the statement of comprehensive income while the
general ledger is used to prepare the statement of financial position.

- The recording of an accrued expense will always result to an increase in an expense

account and a liability account.

- The balances of all accounts in the general ledger must be closed at the end of the
accounting period.

- The asset and liability accounts are known as real accounts.

- The adjusted trial balance is prepared after the financial statements are prepared.

- Owner's equity is the excess of an entity's assets over its liabilities.

- The general ledger account that summarizes the detailed information in a subsidiary
ledger is known as control account.

- The balance sheet shows the financial position of a company at a given date.

- The difference between the debit total and the credit total in the statement of financial
position section of the work sheet represents the profit or loss during the period.

- Recording the expiration of a prepaid asset results in the reduction of the asset account
and an increase in a related expense account.

- Reversing entries are prepared at the end of the accounting period.

- Since new and revenue accounts will be opened in the subsequent accounting period, it is
no longer necessary for an entity to post the closing entries to the accounts in the ledger.

EXERCISES:

Exercise I (Classifying Types of Adjustment.)

Classify the following items as (a) prepaid expense. (b) unearned revenue, (c) accrued revenue,
or ( d) accrued expense.

- Cash received for services not yet rendered.

- Supplies on hand.

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- Utilities owed to be paid the following month.
- Taxes owed but payable in the next period.
- A three-year premium paid on a fire insurance policy for the buildings.
- Cash received for use of land within the next six months.
- Fees earned to be received the following month.
- Rent expense owed but not yet paid.
- Subscriptions received in advance by a magazine publisher.
- Fees earned but
- Salaries owed but not yet paid.
- Rent revenue earned but not yet received.
- Insurance paid.
- Fees received but not yet earned.
- Unpaid wages.

Exercise 2 (Adjusting Entries)

Give the account/s to be credited to complete the adjusting entries below:

Debit Credit
I. Uncollectible Accounts Expense

2. Prepaid Rent

3. Office Supplies on Hand

4. Salary Expense

5. Insurance Expense

6. Interest Receivable

7. Interest Expense

8. Rent Income

9. Depreciation Expense

to. Inventory, end

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Exercise 3 (Adjusting and Reversing Entries - Prepaid Expenses and Unearned Revenues)
The following are selected transactions of the ABC Trading during the year 2020:

a. On December I, 2020, the company received P300,000 representing rental payments for
the period December I, 2020 to November 30, 2021.

b. On March I, 2020, an insurance premium of P90,000 was paid covering a period of one
year beginning on this date.

Instructions: Provide the necessary adjusting entries as of December 31, 2020 and appropriate
reversing entries as of January I, 2021 assuming:

1. Transactions were originally recorded in asset and liability accounts.

2. Transactions were originally recorded in expense and revenue accounts.

Exercise 4 (Adjusting and Reversing Entries)

DEF Merchandising follows the policy of recording prepayments in revenue and expense
accounts and reverses appropriate adjusting entries at the beginning of the new accounting
period. The records of the business show the following:
a. On September I, 2020, DEF borrowed P2,000,000 .cash from the Bank of the Philippines by
issuing a 6% note payable in one year. The interest is payable upon maturity of the note.

b. On February I, 2020, DEF paid insurance premium of P72,000 covering a period of three
years beginning on this date.

c. On December I, 2020, DEF paid P360,000 representing rental for one year starting on this
date.

d. DEF reports accounts receivable of Pl ,500,000 and allowance for uncollectible accounts of
PI0,000 (debit balance); P50,000 of the receivables are uncollectible.

e. DEF pays all employees every Friday. The total payroll for the five-day workweek ending
January 3, 2020 is P450,000.

f. DEF purchased office equipment on August 1, 2020 amounting to Pl20,000. On January 1,

2020, the office equipment account has a balance of P480,000. All equipment have estimated
useful life of 5 years with no residual value.

g. Office supplies on hand on January I, 2020 amounted to P5,000. During the year, office
supplies of P 12,500 were purchased. On December 31, 20 20, there are unused supplies of
P4,500.

h. DEF subleases part of its office space for P30.000 per month. On November I 2020, it
received rental payments for six months starting on this date.

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i. Merchandise inventory on January 1 and December 31 amounted to P 180,000 and P220,000,
respectively.

Instructions:

l. Prepare the necessary adjusting entries on December 31 , 2020.

2. Prepare appropriate reversing entries as of January 1, 2021.

Exercise 5 (Adjusting Entries/or Inventories and Closing Entries)

The following balances are found in the general ledger of GHI Sales after recording the
necessary adjusting entries, except for inventories, in the year 2020:

Purchases 2,100,000 Sales 5,000,000

Freight-in 10,000 Sales Returns 5,000
Purchase Returns 20,000 Sales Discounts 10,000
Inventory, beginning 50,000 Interest Revenue 25,000
Castro, Capital 2,000,000 Selling Expense 450,000
Castro, Drawing 500,000 Interest Expense 15,000
Administrative Expense 500,000 Accounts Payable 300,000
Accounts Receivable 1,500,000

The ending inventory based on physical count is P 140,000.

Instructions:

I. Prepare the required adjusting entries for inventory under the two approaches.
2. Prepare the required closing entries as of December 31 , 2014 using the approach in which
no separate cost of goods sold account is set up in adjusting the inventory balance.

Exercise 6 (Real Accounts)

The accountant of JKL Enterprises had just completed posting all the adjusting entries to the
appropriate ledger accounts and now wishes to close the ledger balances in preparation for the
next accounting period.

For each of the accounts listed below, indicate whether the following should be: (a) carried
forward to the next accounting period, (b) closed by crediting the account, or (c) closed by
debiting the account

- Accounts Payable - Cash

- Accounts Receivable - Freight-in
- Accumulated Depreciation - Income Summary

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 - Interest Payable - Prepaid Insurance
- Interest Revenue - Purchases Discounts
- ~ Capital - Purchases
- ~ Drawing - Salaries Payable
- Merchandise Inventory. beg. - Sales
- Merchandise Inventory, end - Sales Discounts
- Notes Receivable - Sales Returns and Allowances

Congratulations! You just finished lesson 2! Keep it up!

End of Lesson 2

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