SUMMARY OF CHAPTER 3

Prepaid expenses: Assets paid for in advance of receiving their benefits. When these assets
are used, the advance payments become expenses.

Accumulated depreciation: A separate contra account. A contra account is an account

linked with another account. It has an opposite normal balance and is a subtraction from that
other account’s balance.

Unearned revenue: Cash received in advance of providing products and services. When cash
is accepted, the company has a liability to provide products or services.

Accrued expenses: Costs incurred in a period that are both unpaid and unrecorded. They are
reported on the income statement for the period when incurred.

Accrued revenues: Revenues earned in a period that are both unrecorded and not yet
received in cash.

REPORTING AND ANALYSIS

Unadjusted trial balance: A list of ledger accounts and balances before adjustments are
recorded.

Adjusted trial balance: A list of accounts and balances after adjusting entries have been
recorded and posted to the ledger.
Question 1:

The following information relates to Fanning’s Electronics on December 31.

a) The company’s weekly payroll is $8,750, paid each Friday for a five-day workweek.
Assume December 31 falls on a Monday, but the employees will not be paid their
wages until Friday, January 4 of next year.
b) At the beginning of the current year, the company purchased equipment that cost
$20,000. Its useful life is predicted to be five years, at which time the equipment is
expected to be worthless (zero salvage value).
c) On October 1, the company agreed to work on a new housing development. The
company is paid $120,000 on October 1 in advance of future installation of similar
alarm systems in 24 new homes. That amount was credited to the Unearned Revenue
account. Between October 1 and December 31, work on 20 homes was completed.
d) On September 1, the company purchased a 12-month insurance policy for $1,800. The
transaction was recorded with an $1,800 debit to Prepaid Insurance.
e) On December 29, the company completed $7,000 in services that have not been billed
or recorded as of December 31.

Required:
1. Prepare any necessary adjusting entries on December 31 of the current year related to
transactions and events a through e.
2. Prepare T-accounts for the accounts affected by adjusting entries and post the
adjusting entries. Determine the adjusted balances for the Prepaid Insurance,
Unearned Revenue, and Services Revenue accounts.

Solution:
Part 1:
(a) Dec. 31 Wages Expense 1,750
Wages Payable 1,750
Accrue wages ($8,750 × 1/5).

(b) Dec. 31 Depreciation Expense—Equipment 4,000

Accumulated Depreciation—Equipment 4,000
Record depreciation ($20,000/5 years = $4,000 per year).

(c) Dec. 31 Unearned Revenue 100,000

Services Revenue 100,000
Record revenue earned ($120,000 × 20/24).

(d) Dec. 31 Insurance Expense 600

Prepaid Insurance 600
Adjust for expired insurance ($1,800 × 4/12).

(e) Dec. 31 Accounts Receivable 7,000

Services Revenue 7,000
Record accrued revenue.
Part 2:
Account Receivable Prepaid Insurance
(e) 7000 Un-adj. Bal 1800
(d) 600
Adj. Bal 1200

Accumulated Depreciation—Equipment Wages Payable

(b) 4000 (a) 1750

Unearned Revenue Services Revenue

Un-adj. Bal. 120,000 (c) 100,000
(c) 100,000 (e) 7,000
Adj. Bal. 20,000 Adj. Bal. 107,000

Wages Expense Insurance Expense

(a) 1,750 (d) 600

Depreciation Expense—Equipment
(b) 4,000

Question 2:

Garcia Company had the following selected transactions during the year.

Jan. 1 The company paid $6,000 cash for 12 months of insurance coverage beginning
immediately.
Aug. 1 The company received $2,400 cash in advance for 6 months of contracted
services beginning on August 1 and ending on January 31.
Dec. 31 The company prepared any necessary year-end adjusting entries related to
insurance coverage and services performed.

Required:
a) Record journal entries for these transactions assuming Garcia follows the usual
practice of recording a prepayment of an expense in an asset account and recording a
prepayment of revenue received in a liability account.
b) Record journal entries for these transactions assuming Garcia follows the alternative
practice of recording a prepayment of an expense in an expense account and
recording a prepayment of revenue received in a revenue account.
Question 3:

For journal entries 1 through 6, identify the explanation that most closely describes it.
A. To record this period’s depreciation expense.
B. To record accrued salaries expense.
C. To record this period’s use of a prepaid expense.
D. To record accrued interest revenue.
E. To record accrued interest expense.
F. To record the earning of previously unearned income.

______ 1. Interest Expense 2,208

Interest Payable 2,208
______ 2. Insurance Expense 3,180
Prepaid Insurance 3,180
______ 3. Unearned Revenue 19,250
Services Revenue 19,250
______ 4. Interest Receivable 3,300
Interest Revenue 3,300
______ 5. Depreciation Expense 38,217
Accumulated Depreciation 38,217
______ 6. Salaries Expense 13,280
Salaries Payable 13,280
Answer

1. E 4. D
2. C 5. A
3. F 6. B
Question 4:

Prepare adjusting journal entries for the year ended December 31 for each separate situation.
Entries can draw from the following partial chart of accounts: Cash; Accounts Receivable;
Supplies; Prepaid Insurance; Prepaid Rent; Equipment; Accumulated Depreciation—
Equipment; Wages Payable; Unearned Revenue; Services Revenue; Wages Expense;
Supplies Expense; Insurance Expense; Rent Expense; and Depreciation Expense—
Equipment.

a. Depreciation on the company’s equipment for the year is computed to be $18,000.

b. The Prepaid Insurance account had a $6,000 debit balance at December 31 before
adjusting for the costs of any expired coverage. An analysis of the company’s insurance
policies showed that $1,100 of unexpired insurance coverage remains.
c. The Supplies account had a $700 debit balance at the beginning of the year, and $3,480
of supplies were purchased during the year. The December 31 physical count showed
$300 of supplies available. Check (c) Dr. Supplies Expense, $3,880
d. Two-thirds of the work related to $15,000 of cash received in advance was performed
this period.
e. The Prepaid Rent account had a $6,800 debit balance at December 31 before adjusting
for the costs of expired prepaid rent. An analysis of the rental agreement showed that
$5,800 of prepaid rent had expired. (e) Dr. Rent Expense, $5,800
f. Wage expenses of $3,200 have been incurred but are not paid as of December 31.

Answer

a. Depreciation Expense—Equipment................................................... 18,000

Accumulated Depreciation—Equipment.................................. 18,000
Record depreciation expense for the year.

b. Insurance Expense............................................................................. 4,900

Prepaid Insurance*.................................................................... 4,900
Record insurance coverage that expired.
($6,000 - $1,100).

c. Supplies Expense............................................................................... 3,880

Supplies**................................................................................... 3,880
Record office supplies used ($700 + $3,480 - $300).

d. Unearned Revenue............................................................................. 10,000

Services Revenue...................................................................... 10,000
Record earned portion of fee received in advance.
($15,000 x 2/3).

e. Rent Expense..................................................................................... 5,800

Prepaid Rent.............................................................................. 5,800
 Record rental coverage that expired.
f. Wages Expense 3,200
Wages Payable 3,200
Record wages accrued but not yet paid.

Prepaid Insurance* Supplies**

Bal. Bal. 6,000 Beg. Bal. 700
Purch. 3,480
? Used ? Used
End. Bal. 1,100 End. Bal. 300

Question 5:

For each of the following separate cases, prepare adjusting entries required of financial
statements for the year ended December 31. Entries can draw from the following partial chart
of accounts: Cash; Interest Receivable; Supplies; Prepaid Insurance; Equipment;
Accumulated Depreciation—Equipment; Wages Payable; Interest Payable; Unearned
Revenue; Interest Revenue; Wages Expense; Supplies Expense; Insurance Expense; Interest
Expense; and Depreciation Expense—Equipment.

a. Wages of $8,000 are earned by workers but not paid as of December 31.
b. Depreciation on the company’s equipment for the year is $18,000.
c. The Supplies account had a $240 debit balance at the beginning of the year. During
the year, $5,200 of supplies are purchased. A physical count of supplies at December
31 shows $440 of supplies available.
d. The Prepaid Insurance account had a $4,000 balance at the beginning of the year. An
analysis of insurance policies shows that $1,200 of unexpired insurance benefits
remain on December 31.
Check (d) Dr. Insurance Expense, $2,800; (e) Cr. Interest Revenue, $1,050.
e. The company has earned (but not recorded) $1,050 of interest revenue for the year
ended December 31. The interest payment will be received 10 days after the year-end
on January 10.
f. The company has a bank loan and has incurred (but not recorded) interest expense of
$2,500 for the year ended December 31. The company will pay the interest five days
after the year-end on January 5.

Answer
a. Wages Expense................................................................................. 8,000
Wages Payable......................................................................... 8,000
Record wages accrued but not yet paid.

b. Depreciation Expense—Equipment............................................... 18,000

Accumulated Depreciation—Equipment.............................. 18,000
Record depreciation expense for the year.
c. Supplies Expense.............................................................................. 5,000
Supplies*................................................................................... 5,000
Record supplies used ($240 + $5,200 - $440).

d. Insurance Expense........................................................................... 2,800

Prepaid Insurance†.................................................................. 2,800
Record insurance coverage expired ($4,000 - $1,200).

e. Interest Receivable........................................................................... 1,050

Interest Revenue...................................................................... 1,050
Record interest earned but not yet received.

f. Interest Expense............................................................................... 2,500

Interest Payable....................................................................... 2,500
Record interest incurred but not yet paid.

Notes:

Prepaid Insurance† Supplies*

Beg. Bal. 4,000 Beg. Bal. 240
Purch. 5,200
? Expired ? Used
End. Bal. 1,200 End. Bal. 440