CHAPTER THREE:

MATCHING AND ADJUSTING PROCESS

LEARNING OBJECTIVES:
Careful study of this chapter should enable you to:
1. Explain the accrual basis of accounting.
2. Analyze and clarify why adjustments are necessary.
3. Make adjusting journal entries that will update the matching process.

CLASSIFICATION OF ACCOUNTS
“The accounts may be classified into real, nominal and mixed before the books of accounts are adjusted at the end of
the accounting period. Asset, liability and capital accounts are known as Real Accounts while expense and income
accounts are called nominal accounts. If the accounts contain both real and nominal elements, these are known as Mixed
Accounts. Mixed accounts are adjusted at the end of the period so that their balances become either purely nominal or
real accounts. It should be noted that only real and nominal accounts exist after the accounts have been adjusted while
the real and nominal elements in the mixed accounts have been recorded in separate accounts.”

ADJUSTING ENTRIES IN ACCRUAL BASIS OF ACCOUNTING

Adjusting entries are entries that are prepared in order to generate correct data at the end of the accounting period. These
are then recorded in the general journal and posted to the ledger accounts so that information in the accounts will then
be brought to correct balances. Adjusting entries are done to be able to depict sensible financial statements. Some of the
common adjusting entries that need to be done at the end of the accounting period are the following:
1.) Adjusting entry for prepaid expenses
2.) Adjusting entry for accrued expenses
3.) Adjusting entry for deferred revenue/unearned revenue
4.) Adjusting entry for accrued revenue
5.) Adjusting entry for bad debts expense/ doubtful accounts expense
6.) Adjusting entry for depreciation expense

1. ADJUSTING ENTRY FOR PREPAID EXPENSES

Prepaid Expense is an expense already paid for in advance but not yet incurred, thus their benefit will not be derived
in the relevant accounting period.

ASSET METHOD
Example of an Asset method assume Macky Drugstore issued a check on November 1, 2017 for P18,000 as payment of
store rent for six months.
 Date Particulars F Debit Credit

2017

November 1 Prepaid Rent (asset) 18,000

Cash 18,000

To record advance payment for

six moths

In the preparation of the Financial Statements for December 31, 2017, adjusting entry will be as follow:

2017

Dec. 31 Rent Expense (3,000*2mos) 6,000

Prepaid Rent 6,000

To adjust for two months expired

rent

EXPENSE METHOD
Example of an Expense Method. Assume Macky Drugstore issued a check on November 1, 2017 for P18,000 as
payment of store rent for six months.

Date Particulars F Debit Credit

2017

Nov. 1 Rent Expense (expense) 18,000

Cash 18,000
To record advance payment for
six months
In the preparation of the Financial Statements for December 31, 2017, adjusting entry will be as follow:

2017
Dec. 31 Prepaid Rent 12,000

Rent Expense 12,000

To adjust for four months

unexpired rent

2. ADJUSTING ENTRY FOR ACCRUED EXPENSES

Accrued Expense are expenses already incurred but not yet paid during an accounting period and thus, still to be
paid in the next accounting period.

Vera Cruz Manuel (2017, p169) illustrated another example of an accrued expense. Assume Healthway Clinic issued
a 60 day, 25% note for a P350,000 cash loan extended by RP Finance. The note is dated December 1, 2017 and since it
has run for 30 days. Interest charge should be recognized on December 31 as an expense (interest expense) and as a
liability (interest payable) since no payment was as yet made.

Date Particulars F Debit Credit

2017

December 31 Interest Expense (expense) 7,291.67

Interest Payable 7,291.67
To record accrued expenses for
30 days due to RP Finance

Computation: Determine the period that has transpired from the date of the note (December 1) to the end of the
accounting period (December 31) which is 30 days.

Principal x Interest Rate x Time = Interest

350,000 x .25 x 30/360 = P 7,291.67

3. ADJUSTING ENTRY FOR DEFERRED REVENUE/UNEARNED REVENUE

Deferred Revenue or Unearned Revenue refers to revenue already received but not yet earned, and thus represents
revenue of future periods.

INCOME METHOD

Ricafrente (2017, p163) illustrated an example of a Deferred Revenue. Pinoy Komiz Enterprises is an E-commerce
magazine publication house with operations in Manila. On August 1, 2017, the business received advance subscription
fees worth Php 250,000. To recognize the receipt of advance payment, the journal entry on August 1 should be:

Date Particulars F Debit Credit

2017

August 1 Cash 250,000

Subscription Revenue 250,000
To record advance receipt of
revenue

“On August 31, 2017, the company’s accountant had to prepare financial statements. When an accountant reviews the
subscription income account, he noticed that only Php 150,000 were actually earned and thus, Php 100,000 (Php 250,000
– Php 150,000) is still unearned. To set up a liability account (with the title deferred revenue), the accountant then
prepared the following adjusting entries:

Date Particulars F Debit Credit

2017

August 31 Subscription Revenue 100,000

Deferred Subscription Revenue 100,000
(liability)
To record revenue unearned at the
end of the period
LIABILITY METHOD

2017

August 21 Cash 250,000

Deferred Subscription Revenue 250,000
To record advance receipt of
revenue

The Adjusting Entry on the above transaction will be:

2017

August 31 Deferred Subscription Revenue 150,000

Subscription Revenue 150,000
To record revenue earned at the
end of the period

4. ADJUSTING ENTRY FOR ACCRUED REVENUE

Accrued Revenue or Accrued Income arises when the business renders services or delivers goods to its clients but
collections have not yet been received.

Ricafrente (2017, p165-166) illustrated an example of an Accrued Revenue. Banco Gilas has a Credit Commission
Program. In this program, an agent simply offers credit cards to his prospects clients and a commission from Banco
Loco will be received after the clients confirmed to get such. Last June 5, 2017, Media Associates Enterprises, an agent
company, earned commission revenue of Php 184,000 but only received Php 135,000 from Banco Loco. To recognize
revenue and to set up an appropriate receivable account to the amount to be collected, the accountant of Media Associates
Enterprises prepared the following

Date Particulars F Debit Credit

2017

June 30 Commission Receivable 49,000

Commission Revenue 49,000
To record advance receipt of
revenue
5. ADJUSTING ENTRY FOR BAD DEBTS EXPENSE/ DOUBTFUL ACCOUNTS EXPENSE

The following accounting information is part of the trial balance of ACC Enterprise ending May 31, 2017

ACC ENTERPRISE
Trial Balance
May 31, 2017

Account Title Debit Credit

Accounts Receivable 24,000

Allowance for Bad Debts 500

Service Revenue 330,000

Using the percentage of revenue in provisioning the allowance for bad debts, we’ll assume that the expected
uncollectible account during the year would be equal to 2% of the Service Revenue account during the period.
Therefore, the following adjustment should be made:

Date Particulars F Debit Credit

2017

May 31 Bad Debts Expense 6,100

Allowance for Bad Debts 6,100
To record provision for doubtful
accounts

6. ADJUSTING ENTRY FOR DEPRECIATION EXPENSE

The simplest method in computing the depreciation is the straight line method:

(COST-SALVAGE VALUE/SCRAP VALUE)/USEFUL LIFE

Example: Assume HAPPINESS REPAIR SERVICE has the following selected trial balances as of June 30, 2017
 Debit Credit

Furniture and Fixtures 120,000

Building 350,000

Addition Information:

1. Furniture and Fixtures were acquired June 30, 2017 with an estimated life of 5 years with a scrap value of P
50,000

2017

Dec 31 Depreciation Expense 7,000

Accumulated Depreciation 7,000
To record provision for doubtful
accounts

*120,000 – 50,000 = 70,000/5*(6/12) = P 7,000

Example Problem 1:

NESTOR MARTEL LAW OFFICE

Trial Balance
December 31, 20CY
ACCOUNT TITLE DEBIT CREDIT
Cash P78,400.00
Accounts Receivable 8,900.00
Prepaid Insurance 6,000.00
Office Supplies 2,500.00
Furniture and Equipment 75,000.00
Accounts Payable P30,000.00
Loan Payable 60,000.00
Nestor Martel, Capital 60,000.00
Nestor Martel, Drawing 12,000.00
Fees Earned 44,400.00
Salary Expense 5,500.00
Advertising Expense 3,600.00
Utilities Expense 1,500.00
Miscellaneous Expense 1,000.00
Total P194,400.00 P194,400.00
The expanded chart of accounts listed below is will be used as reference:

Balance Sheet Accounts Income Statement Accounts

11 – Cash 41 – Fees Earned

12 – Accounts Receivable 51 – Salary Expense
14 – Prepaid Advertising 52 – Rent Expense
15 – Prepaid Insurance 53 – Advertising Expense
16 – Office Supplies 54 – Utilities Expense
18 – Furniture and Equipment 55 – Insurance Expense
19 – Accumulated Depreciation 56 – Supplies Expense
21 – Accounts Payable 57 – Depreciation Expense
22 – Unearned Fees 59 – Miscellaneous Expense
23 – Accrued Expenses (liability)
31 – Nestor Martel, Capital
32 – Nestor Martel, Drawing

Matching and Adjusting Process

Example Problem 1: Additional information

1. The one-year P6,000 insurance paid was effective December 1.

2. Office rental of P4,000 for the month of December was still unpaid.
3. Interest of 18% per annum on P60,000 bank loan granted on December 11, has accrued.
4. Advertising placement of P3,600 for three months was effective on December 1.
5. Fees of P5,000 collected in advance on December 30 will be for services to be rendered next year.
6. Office supplies unused at the end of the month amounted to P1,600.
7. Furniture and Equipment are estimated to have a useful life of ten years. It was decided to provide one-
month depreciation for December.
Solution to Example Problem 1a:
1. Insurance Expense 500
Prepaid Insurance 500
Computation: P6,000/12 = 500

2. Rent Expense 4,000

Accrued Expenses/Rent Payable 4,000

3. Interest Expense 600

Accrued Expenses/Interest Payable 600
Computation: P60,000 x 18% x 20/360 = 600

4. Prepaid Advertising 2,400

Advertising Expense 2,400
Computation P3,600 x 2/3 = 2,400

5. Fees Earned 5,000

Unearned Fees 5,000

6. Supplies Expense 900

 Office Supplies 900
Computation: P2,500 – 1,600 = 900

7. Depreciation Expense 625

Accumulated Depreciation 625
Computation: P75,000/10/*1/12

Analysis of the Adjusting Journal Entries made:

No. 1 – Since Prepaid Insurance appears in the trial balance, it is obvious that the Asset method of recording was
used. Under the Asset method, the adjustment is to debit the Expense item and credit the Prepaid item. The
accounting period is always equivalent to 12 months and since prepaid insurance is for one-year (or 12 months),
the expense for December is one-twelve (1/12) of P6,000 or P500.

No. 2 – December office rent of P4,000 has been incurred but not yet paid has to be accrued. Accrual of an expense
is debited to the Expense item and credited to Accrued expense or Accrued item.

No. 3 – Bank loan of P60,000 granted on December 11 bears 18% per annum. From December 11 to 31 covers
20 days for which interest expense has been incurred but not yet collected by the bank. This is also an accrual of
an expense but will require the computation of interest.

No. 4 – Since Advertising Expense and no Prepaid Advertising appears in the trial balance, it is obvious that the
Expense method of recording was used. Under the Expense method, the adjustment is to debit the Prepaid item
and credit the Expense item. Advertising covers a period of 3 months and only 1/3 is applicable to December,
therefore 2/3 of P3,600 would be applicable to January and February of the next accounting period.

No. 5 – Since Fees Earned and no Unearned Fees appears in the trial balance, it is obvious that the Income method
of recording was used. Under the Income method, the adjustment is to debit the Earned Income and credit the
Unearned Income. The P5,000 collected in advance for services to be rendered in the next accounting period is a
liability that will be represented by the term Unearned Fees.

No. 6 – Since Office (Prepaid) Supplies appears in the trial balance, it is obvious that the Asset method of
recording was used. The unused portion of P1,600 is deducted from the total of P2,500 to arrived at the used
portion that is debited to Supplies Expense and credited to Office Supplies.

No. 7 – Furniture and Equipment that was used benefited the operations in December. The Furniture and
Equipment cost of P75,000 will have to be allocated over its useful life of 10 years. Since only December (one
month) is benefited during the period ending December 31, Depreciation expense debited is computed by dividing
P75,000 by 10 years then multiplied by 1/12 (December). The Accumulated Depreciation – Furniture and
Equipment (contra account) is credited.

Example Problem 2:

Mr. Jose Calves operates a realty office in its third year. His accountant prepared the following unadjusted trial
balance as of December 31 of the current year.
 Jose Calves Realty
Trial Balance
December 31, 20CY
ACCOUNT TITLE DEBIT CREDIT
Cash P30,250.00
Accounts Receivable 50,000.00
Note Receivable 20,000.00
Accrued Interest Income 0.00
Office Supplies 0.00
Prepaid Insurance 0.00
Office Equipment 91,600.00
Accumulated Depreciation P18,320.00
Accounts Payable 9,250.00
Accrued Expenses 0.00
Unearned Fees 12,500.00
Jose Calves, Capital 64,880.00
Jose Calves, Drawing 40,400.00
Fees Earned 439,500.00
Salary Expense 215,500.00
Rent Expense 55,000.00
Utilities Expense 16,500.00
Insurance Expense 7,200.00
Supplies Expense 5,400.00
Depreciation Expense 0.00
Miscellaneous Expense 12,600.00
Interest Income 0.00
Totals P544,450.00 P544,450.00

The data needed to determine the year-end adjustments are as follows

1. Office Supplies used during the year was P4,050.

2. One-year insurance premium was paid on April 1 of the current year.
3. Office equipment has a useful life of 10 years without salvage.
4. Equal monthly rental for December was due but not yet paid.
5. Accrued fees earned but not yet collected, P10,000
6. Unpaid Salaries and wages at December 31 was P4,400.
7. Unearned fees as at December 31 was P6,500.
8. The 60-day, 12% Note receivable was received on December 1.

Required: A. Prepare the necessary adjusting journal entries.

Solution to Example Problem 2a:

1. Office Supplies 1,350

Supplies Expense 1,350
Computation: P5,400 – 4,050 = 1,350

2. Prepaid Insurance 1,800

 Insurance Expense 1,800
Computation: P7,200/12*3 = 1,800

3. Depreciation Expense 9,160

Accumulated Depreciation 9,160
Computation P91,600/10

4. Rent Expense 5,000

Accrued Expenses 5,000
Computation: P55,00/11

5. Accounts Receivable 10,000

Fees Earned 10,000

6. Salary Expense 4,400

Accrued Expenses 4,400

7. Unearned Fees 6,000

Fees Earned 6,000
Computation: P12,500 – 6,500 = 6,000

8. Accrued Interest Income (Receivable account – asset account) 200

Interest Income 200
Computation: P20,000 x 12% x 30/360 = 200

Notes to Adjustments:

1. Office supplies in the unadjusted trial balance is zero, therefore the Expense method of recording was used.
2. Prepaid insurance amount is not shown in the trial balance; therefore, the Expense method of recording was
used. The unexpired insurance portion is three months.
3. Since the business is in its third of operation, depreciation for the current year is equivalent to one year.
4. January to November is 11 months that used to divide P55,000.
5. Fees earned but not yet collected is accrued income. Accrued income is also referred to as accounts
receivable.
6. Unpaid salaries and wages is an accrued expense.
7. Unearned fees amount is shown in the trial balance; therefore, the Liability method of recording was used.
8. Interest on notes receivable has accrued for 30 days (December 1 – 31).

Reference:

• College Accounting by Ricardo M. Harina

• Krist Mark Q. Macapugay, MBA, MICB, CTT, CB