Accounting Cycle
Active Learning Tutorial with Omnis Mus
Download the Videos
Tutorial_Part1.wmv Transactions 1 to 11
Tutorial_Part2.wmv Adjusting Entries and Financial Reports
The accounting cycle is a periodic process by which a firm's financial position - as expressed in the accounting records - is formally updated to summarize transactions that have been recorded during the accounting period.
Much of the fundamental terminology of accounting is related to the accounting cycle. Basic accounting terms related to the accounting cycle include:
- journal
- ledger
- debit
- credit
- normal balance
- posting
- temporary account
- permanent account
- contra-account
- adjusting entry
- book value
- trial balance
- pre-closing trial balance
- closing entry
- post-closing trial balance
- reversing entry
These terms will be illustrated in this tutorial. The tutorial will use Omnis Mus to perform and illustrate the steps in the accounting cycle.
We will begin by entering eleven transactions for the first month of operation of a corporation named Molly Company. These transactions will involve asset, liability, equity, revenue, and expense accounts. We will then prepare adjusting entries to measure income in accordance with the principles of accrual accounting. After preparation of adjusting entries, we will instruct Omnis Mus to prepare closing entries and financial statements. Subsequent to our review and study of the closing entries and financial statements, we will instruct Omnis Mus to 'close the books' - that is, to post the closing entries - in order to prepare for the next accounting period. We will conclude with a brief discussion and illustration of reversing entries.
Start Omnis Mus
Select JRBASE00.MDB
Click Options on the Forms Menu, then Click General Journal Format. Transactions Analysis (+/-) is checked, which means that it is selected. Debit Credit format can be selected if you wish, whenever you wish. You can change formats at any time and as many times as you wish. General Journal Format is saved as a preference in the database. A format remains in effect until it is changed. The tutorial will show each transaction in both formats.
Open the General Ledger.
Note that all accounts have zero balances.
The general ledger contains all of the accounts that will be used to record transactions. The balances of these accounts will change as transactions are entered and accepted for processing.
Accounting Cycle: Stages
The accounting cycle involves two stages:
Stage 1 Transaction Processing
Transactions which describe business events are recorded and posted during the period. Each transaction affects the company's financial position.
Stage 2 Period Processing
Period processing is performed periodically to summarize transactions that have been recorded during the accounting period. Period processing updates the accounting records and prepares financial statements that reflect net income for the period and financial position at the end of the period. This processing 'closes the books' for the period.
Period Processing involves several steps:
- Prepare a Trial Balance
- Record and Post Adjusting Entries
- Prepare Adjusted Trial Balance
- Prepare and Post Closing Entries
- Prepare Financial Statements
- Prepare Post-Closing Trial Balance
- Prepare Reversing entries (optional step)
We begin by entering transactions for the first month of operation of a corporation named Molly Company.
Transaction Processing
Transactions are recorded in journals to provide a permanent and chronological record of business events. Journals are posted to ledgers to summarize transactions.
Omnis Mus records transactions in two interchangeable formats:
- Transaction Analysis, and
- Debits and Credits.
You can use either format you wish and you may switch formats whenever (if ever) you wish.
>Transaction Analysis format records changes in account balances using positive and negative numbers.
Basic Rule of Transaction Analysis Format | Financial position is in balance after recording a transaction, that is, assets = liabilities + owner's equity. |
Owner's Equity is increased by revenue and decreased by expense.
Debit Credit format records changes in account balances using debits and credits.
Basic Rule of Debit Credit Format | For each transaction, total debits equal total credits. |
Debits and credits increase (+) or decrease (-) accounts as follows:
Debits | Credits | |
Assets | Increase | Decrease |
Liabilities | Decrease | Increase |
Equity | Decrease | Increase |
Revenue | Decrease | Increase |
Expense | Increase | Decrease |
Asset and Expense accounts are increased with debits and decreased with credits.
Liability, Equity, and Revenue accounts are increased with credits and decreased with debits.
The normal balance of an account is said to be a debit or a credit, depending on which increases the account balance. Thus, the normal balance of an asset account is a debit, while the normal balance of a liability account is a credit.
Transaction 1
June 1
Owner's Investment
Molly Company began business as a corporation by issuing 6,000 shares of $10 par value common stock for cash of $10 per share. Molly Company is an accounting entity. A transaction must be journalized and posted to record the initial investment by the shareholders.
Analysis
Cash, an asset account, is increased (debited) for $60,000. Common Stock, an equity account, is increased (credited) for $60,000.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Cash 60,000 Common Stock 60,000 |
Debit Cash 60,000 Credit Common Stock 60,000 |
Omnis Mus Instructions
- Open the General Journal. Click the 'New Entry' button to begin entry of a transaction.
- Enter the Date and Description.
- Click the row with 'Cash' to select the Cash account. Click the Add Account button.
- Enter the amount. Note the Display above the account grid.
- --> If General Journal format preference is Transaction Analysis, the display balances Total Assets to Total liabilities + Total Equity.
- --> If General Journal format preference is Debits Credits, the display balances Total Debits to Total Credits.
- Click the row with 'Common Stock' to select the Common Stock account. Click the Add Account button. Enter the amount.
- Click the 'Accept Entry' button. Omnis Mus posts each transaction as it is accepted for entry.
- Open the General Ledger. Only the Cash and Common Stock accounts have balances. These balances have been 'posted' by Omnis Mus when you instructed it to Accept the Entry.
- Make a Mistake in the entry? If you do, error correction is EASY! Click Help, select Correcting General Journal Entries
Transaction 2
June 1
Prepaid Rent
Molly Company spends $6,000 cash to prepay two months rent for office space to be used for the business.
Analysis
Prepaid Rent, an asset account, is increased (debited) for $6,000. Cash is decreased (credited) for $6,000. Total assets are unchanged as a result of this transaction. Cash has been exchanged for another asset.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Prepaid Rent 6,000 Cash -6,000 |
Debit Prepaid Rent 6,000 Credit Cash 6,000 |
Journals vs. Ledgers
Open the General Ledger after entering this transaction and observe the balance of the Cash account. The Cash account should have a $54,000 balance after Transaction 2, which decreased Cash $6,000, has been entered and posted to the general ledger accounts. Ledgers summarize the results of posting transactions!
Transaction 3
June 1
Purchase of Equipment
Molly Company spends $18,000 cash to purchase equipment to be used in the business. The equipment has an expected useful life of three years and is expected to have no value at the end of its useful life.
Analysis
Equipment, an asset account, is increased (debited) for $18,000. Cash is decreased (credited) for $18,000. Total assets are unchanged as a result of this transaction. Cash has been exchanged for another asset.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Equipment 18,000 Cash -18,000 |
DebitEquipment 18,000 CreditCash 18,000 |
The Cash account has a $36,000 balance after Transaction 3 has been entered and posted to the general ledger accounts. Total assets still total $60,000.
Transaction 4
June 1
Purchase of Supplies on Account
Molly Company purchases $12,000 of supplies to be used in the business on account (i.e., a purchase on credit to be paid later).
Analysis
Supplies, an asset account, is increased (debited) for $12,000. Accounts Payable, a liability account, is increased (credited) for $12,000. Total assets increase as a result of this transaction. The increase is balanced by an increase in liabilities.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Supplies 12,000 Accounts Payable 12,000 |
DebitSupplies 12,000 CreditAccounts Payable 12,000 |
Transaction 5
June 12
Sales on Account
Molly Company billed customers for $30,000 of services it had performed for them on account. As Molly Company has already provided the services, the revenue has been earned. The services were sold to customers on credit. The obligations of these customers to pay Molly Company $30,000 is an account receivable to Molly Company.
Analysis
Accounts Receivable, an asset account, is increased (debited) for $30,000. Sales Revenue is increased (credited) for $30,000. Total assets increase as a result of this transaction. The increase is balanced by an increase in equity.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Accounts Receivable 30,000 Sales Revenue 30,000 |
DebitAccounts Receivable 30,000 CreditSales Revenue 30,000 |
Transaction 6
June 12
Wages Expense
Molly Company pays wages of $2,500 in cash to several persons hired for office help.
Analysis
Wages Expense is increased (debited) for $2,500. Cash is decreased (credited) for $2,500. Total assets decrease as a result of this transaction. The decrease is balanced by a decrease in equity.
Journal entry
Transaction Analysis (+/-) Format |
Debit Credit Format |
Wages Expense 2,500 Cash -2,500 |
DebitWages Expense 2,500 CreditCash 2,500 |
Transaction 7
June 19
Unearned Revenue
Molly Company received a prepayment of $3,000 cash from a customer for services to be provided at a later date.
Analysis
Molly Company has received $3,000 cash and in turn has an obligation to provide $3,000 worth of service to the customer. Cash is increased (debited) for $3,000. The obligation to provide service is a liability called Unearned Revenue. The liability account Unearned Revenue is increased (credited) for $3,000.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Cash 3,000 Unearned Revenue 3,000 |
DebitCash 3,000 CreditUnearned Revenue 3,000 |
Transaction 8
June 19
Collection of Receivables
Molly Company collected $12,000 cash from customers as payments on their accounts.
Analysis
Cash is increased (debited) for $12,000. Accounts Receivable is decreased (credited) for $12,000. Total assets are unchanged as a result of this transaction.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Cash 12,000 Accounts Receivable -12,000 |
DebitCash 12,000 CreditAccounts Receivable 12,000 |
Transaction 9
June 19
Utilities Expense
Molly Company paid a $500 bill for utilities expense in cash.
Analysis
Utilities Expense is increased (debited) for $500. Cash is decreased (credited) for $500. Total assets decrease as a result of this transaction.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Utilities Expense 500 Cash -500 |
Debit Utilities Expense 500 Credit Cash 500 |
Transaction 10
June 19
Payment on Account
Molly Company paid $8,000 cash on the firm's accounts payable.
Analysis
Accounts payable is decreased (debited) for $8,000. Cash is decreased (credited) for $8,000. Total assets decrease as a result of this transaction. The decrease is balanced by a decrease in liabilities.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Accounts Payable -8,000 Cash -8,000 |
DebitAccounts Payable 8,000 CreditCash 8,000 |
Transaction 11
June 24
Dividends Declared
Molly Company declares and pays cash dividends of $6,000 to its stockholders.
Analysis
Cash decreases and is thus credited for $6,000. Dividends decrease owner's equity, thus owner's equity also decreases by $6,000. This decrease is recorded in an account titled 'Dividends Declared'. The contra-equity account Dividends Declared is increased -$6,000 (debited).
Transaction Analysis (+/-) Format |
Debit Credit Format |
Dividends Declared -6,000 Cash -6,000 |
DebitDividends Declared 6,000 CreditCash 6,000 |
Trial Balance
A trial balance is a summary analysis of general ledger account balances. The trial balance is prepared to check ('to prove') that the general ledger is in balance.
The general ledger is in balance when
Total Assets = Total Liabilities + Total Equity.
When the general ledger is in balance, it is also true that
Total Debits = Total Credits.
A trial balance is always available in Omnis Mus.
Open the General Ledger
Click Total, then Trial Balance
If your General Journal Format preference is set to Transaction Analysis, the Trial Balance Message Box will read:
Total Assets $88,000.00
Total Liabilities + Equity $88,000
Ledger In Balance
If your General Journal Format preference is set to Debits Credits, the Trial Balance Message Box will read:
Total Debits $97,000.00
Total Credits $97,000.00
Debits = Credits
The trial balance is taken to ensure that recorded transactions have been properly prepared and posted in a purely mechanical sense. That the ledger is in balance does not ensure that all transactions have been entered, nor does it ensure that entered transactions have been recorded in the proper accounts.
A trial balance may be prepared as often as a firm wishes.
Adjusting Entries
Preparation and processing of adjusting entries is the most important step in the Period Processing stage of the accounting cycle. Adjusting entries are central to the accrual basis of accounting. Adjusting entries either accrue or defer revenues and expenses. In doing so, adjusting entries assign ('match') revenues and expenses to the accounting period(s) in which they are earned or incurred, and adjust related asset and liability accounts to appropriate balances. Financial statements are prepared from the adjusted account balances.
Each account in the general ledger should be analyzed to determine if an adjustment is required to properly state its balance. This process results in a set of adjusting entries that are recorded in the journal and posted. The adjusted general ledger that results from this processing is the basis for preparing the period financial statements.
We will process five adjusting entries for Molly Company:
- Supplies Expense
- Rent Expense
- Depreciation Expense
- Earning Unearned Revenue
- Accrued Wages Expense
Transaction 12
June 30 Period Processing
Adjusting Entry: Supplies Expense
In Transaction 4, supplies were recorded as an asset when they were purchased. Supplies expense is incurred to the extent that supplies are consumed during the period. A physical count and analysis shows that only $4,000 of supplies are on-hand at the end of the month. The unadjusted trial balance shows supplies as $12,000 (debit balance). Thus $8,000 of supplies have been used. The following adjusting entry is required to establish supplies expense and the correct balance in the supplies account.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Supplies Expense 8,000 Supplies -8,000 |
Debit Supplies Expense 8,000 Credit Supplies 8,000 |
Open the General Ledger after entering this transaction and observe the balance of the Supplies account. It should have a $4,000 balance.
Transaction 13
June 30 Period Processing
Adjusting Entry: Rent Expense
In Transaction 2, prepaid rent was recorded as an asset when Molly Company spent $6,000 cash to prepay two months rent. Rent expense is incurred to the extent that prepaid rent has expired (i.e., lost value) during the month. The unadjusted trial balance shows prepaid rent as $6,000 (a debit balance). As one month and thus one-half of the prepaid rental period has expired, the prepaid rent account must be adjusted accordingly. The following adjusting entry is required to establish rent expense and the correct balance in the prepaid rent account.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Rent Expense 3,000 Prepaid Rent -3,000 |
Debit Rent Expense 3,000 Credit Prepaid Rent 3,000 |
Open the General Ledger after entering this transaction and observe the balance of the Prepaid Rent account. It should have a $3,000 balance.
Transaction 14
June 30 Period Processing
Adjusting Entry: Depreciation Expense
In Transaction 3, Molly Company spent $18,000 cash to purchase equipment to be used in the business. The equipment has an expected useful life of three years and is expected to have no value at the end of its useful life. An adjusting entry must be prepared to record depreciation expense for this asset. Depreciation is the systematic process of allocating the cost of a long-lived asset to the accounting periods that benefit from the use of the asset. As the equipment is expected to have no value at the end of its useful life, the entire purchase cost of $18,000 should be systematically allocated to the three year period that is expected to benefit from the use of the equipment. There are several alternative methods of computing depreciation. We shall assume that Molly Company has decided to use the straight-line method of depreciation. The straight-line method allocates the cost of an asset evenly to the accounting periods in the asset's useful life. Our illustration has a one month accounting period. As there are 36 months in the three year useful life, monthly depreciation expense is calculated as ($18,000 / 36 months) = $500 per month. The following adjusting entry is required.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Depreciation Expense 500 Accumulated Depreciation -500 |
Debit Depreciation Expense 500 Credit Accumulated Depreciation 500 |
Book Value
While it would be possible to record the decrease (credit) in a depreciation journal entry as a decrease directly in the long-lived asset account (i.e., the equipment account in our illustration), it is recorded in a separate contra-asset account titled Accumulated Depreciation.
A contra-asset account has a normal negative number (i.e., credit) balance. Thus Accumulated Depreciation is increased by -$500 in Transaction Analysis (+/- number) format, which is the equivalent of being increased by a $500 credit in Debit Credit format.
The net balance of a long-lived asset account and its related Accumulated Depreciation account is called its book value. Carrying Amount and Carrying Value are synonyms for Book Value. Assets are shown at book value on the firm's financial statements. Equipment in our illustration would appear as follows:
Equipment $18,000
less Accumulated Depreciation 500
Book value after one month 17,500
The Accumulated Depreciation account maintains the cumulative sum of depreciation expense for its related asset account. When depreciation expense of $500 has been recorded for the equipment at the end of the second month of its use, the equipment's book value would be as follows:
Equipment $18,000
less Accumulated Depreciation 1,000
Book value after two months 17,000
Note that the balance of the Accumulated Depreciation account after the second month is $1,000, the cumulative sum of two months of depreciation expense at $500 per month. Allowance for Depreciation is a synonym account title for Accumulated Depreciation.
Transaction 15
June 30 Period Processing
Adjusting Entry: Earning Unearned Revenue
In transaction 7, Molly Company received a prepayment of $3,000 cash from a customer for services to be provided at a later date. The liability account Unearned Revenue was increased (credited) $3,000 to record this liability. At month's end, Molly Company has provided and thus earned $500 worth of the promised services to the customer. Thus the liability account should be reduced and revenue of $500 recorded.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Unearned Revenue -500 Sales Revenue 500 |
Debit Unearned Revenue 500 Credit Sales Revenue 500 |
Open the General Ledger after entering this transaction and observe the balance of the Unearned Revenue account. It should have a $2,500 balance.
Transaction 16
June 30 Period Processing
Adjusting Entry: Accrued Wage Expense
Firms frequently incur expenses before they pay cash for them. Wage (payroll) expense is a common example. Most firms pay employees at set periods such as every one or two weeks. But employees earn their pay each working day, and thus the firm incurs payroll expense each day. Payroll and similar expenses accrue each day, even though they are paid in cash periodically.
It is not normally necessary to record such expenses before payment. However, it is necessary to record such expenses during the Period Processing stage of the accounting cycle in order that financial statements correctly reflect expenses incurred during the period.
At the end of the month, Molly Company's employees are owed two weeks wages of $2,500, with payment to be made the following week (i.e., in the next accounting period). The following adjusting entry is made:
Transaction Analysis (+/-) Format |
Debit Credit Format |
Wages Expense 2,500 Accrued Wages Payable 2,500 |
Debit Wages Expense 2,500 Credit Accrued Wages Payable 2,500 |
An accrued expense payable is a liability account that represents an expense that has been incurred and recorded but not yet paid.
Adjusted Trial Balance
Adjusting entries are necessary to properly measure income for the period under the accrual basis of accounting. After adjusting entries have been journalized and posted, an adjusted trial balance is prepared.
An adjusted trial balance is a summary analysis of general ledger account balances taken to check that the general ledger is in balance after the processing of adjusting entries. The adjusted general ledger is the basis for the preparation of the period's financial statements.
Open the General Ledger
Click Total, then Trial Balance
Closing Entries
Closing entries transfer the balances in revenue, expenses, and Dividends Declared to the Retained Earnings account. This results in Retained Earnings being updated to its end-of-period balance.
Judgment and analysis are required to prepare adjusting entries at the end of an accounting period. Closing entries, however, are purely mechanical. They are easily automated and are performed automatically upon request in computerized accounting systems.
Omnis Mus will prepare closing entries and basic financial statements.
Open the General Ledger
Click Options, then Close Accounts / Prepare Financial Statements
First, we will review the closing entry.
Open the Report Form
Select Closing Entries
Omnis Mus prepares a single closing entry. The first three columns of the report show Account, Title, and Amount. This is the closing entry in Transaction Analysis format, i.e., as positive and negative numbers. Debit and credit amounts are shown in columns four and five. Thus, Account, Title, and the corresponding debit or credit amount show the closing entry in Debit Credit format.
Closing Entry
Transaction Analysis (+/-) Format |
Debit Credit Format |
Dividends Declared 6,000 Sales Revenue -30,500 Wages Expense -5,000 Utilities Expense -500 Rent Expense -3,000 Supplies Expense -8,000 Depreciation Expense -500.00 Retained Earnings 7,500 |
DebitRevenue 30,500 CreditDividends Declared 6,000 CreditWages Expense 5,000 Credit Utilities Expense 500 Credit Rent Expense 3,000 Credit Supplies Expense 8,000 Credit Depreciation Expense 500 Credit Retained Earnings 7,500 |
Net Income was $13,500 and the ending balance of Retained Earnings is increased by $7,500. This information is shown more clearly in the financial statements.
Financial Statements
Open the Report Form to view financial statements
Review the Income Statement and Balance Sheet.
Net Income was $13,500. Retained Earnings is $7,500 at month's end. As shown on the balance sheet, Retained Earnings was increased $13,500 by Net Income and reduced $6,000 by Dividends Declared. These numbers are found in the closing entry.
Omnis Mus does not post the closing entry until it is so instructed. Thus, the financial reports that result from the preparation of the closing entry may be reviewed for accuracy and completion and corrected as and if necessary before the general ledger is altered by the posting of closing entries. If it is necessary to make corrections, then the accounts must be closed again to have Omnis Mus prepare a new closing entry and statements.
Posting Closing Entries
The posting of closing entries 'closes the accounts.' Revenue, expense, and Dividends Declared are reset to zero balances by the posting of closing entries. Net income (or net loss) for the accounting period is transferred to the Retained Earnings account. Period results have thus been formally summarized in the accounting records. Revenue, expense, and Dividends Declared accounts are cleared to capture the results of the next accounting period.
Open the General Ledger.
Click Options, then Post the Closing Entry /Close Accounting Period
Open the General Ledger to note the effect of the posting of the closing entry.
All revenue and expense accounts have been 'closed', that is , they have a zero balance.
Dividends Declared also has a zero balance.
Retained earnings has the ending balance shown in the balance sheet.
Post-Closing Trial Balance
After the closing entries have been journalized and posted, a post-closing trial balance is prepared. The post-closing trial is a concluding check on the accuracy of the recording and posting of the adjusting and closing entries. The post-closing trial balance contains only balance sheet accounts. Revenue and expense accounts have been 'closed' - that is, reset to zero balances.
Balance sheet accounts - assets, liability and equity - are referred to as 'permanent' or 'real' accounts. Permanent accounts are continuing in nature, i.e., their balances are cumulative. Revenue, expense, and the Dividends Declared account are referred to as 'temporary' or 'nominal' accounts to emphasize that their balances exist only for a single accounting period.
Open the General Ledger
Click Total, then Trial Balance
Reversing Entries
Erasing Posted Entries with Reversing Entries
A reversing entry is a journal entry that uses the exact same accounts but with the exact opposite amounts of another journal entry. Reversing entries may be used to 'erase' incorrect journal entries that have been posted. For example, suppose that the following journal entry had been posted.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Rent Expense 500 Prepaid Rent -500 |
Debit Rent Expense 500 Credit Prepaid Rent 500 |
One can erase the effect of the above entry by journalizing and posting the following reversing entry.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Rent Expense -500 Prepaid Rent 500 |
Debit Prepaid Rent 500 Credit Rent Expense 500 |
The net effect of the two entries - the original entry and the reversing entry - is zero. The increases and decreases, or debits and credits, to both rent expense and prepaid rent net to zero.
Erasing Adjusting Entries with Reversing Entries
Reversing entries may also be entered and posted immediately after the preparation of a post-closing trial balance to simplify journal entries pertaining to some of the accounts which were updated with end-of-period adjusting entries.
Reversing entries are considered to be an optional step in the accounting cycle as it is not absolutely necessary to process them. We illustrate how reversing entries work with an example.
Reversing Entry Example
Consider the adjusting entry which was made in transaction 16:
Transaction Analysis (+/-) Format |
Debit Credit Format |
Wages Expense 2,500 Accrued Wages Payable 2,500 |
Debit Wages Expense 2,500 Credit Accrued Wages Payable 2,500 |
This entry was processed to accrue wages expenses in the accounting period in which it had been incurred even though the cash for wages expense had not yet been paid. When the cash is subsequently paid for these wages in the next accounting period, the following entry must be processed to remove the liability account Accrued Wages Payable that was established by the adjusting entry:
Transaction Analysis (+/-) Format |
Debit Credit Format |
Accrued Wages Payable -2,500 Cash -2,500 |
Debit Accrued Wages Payable 2,500 Credit Cash 2,500 |
The problem which arises with this procedure is that every other cash wage payment is summarized by the following entry:
Transaction Analysis (+/-) Format |
Debit Credit Format |
Wages Expense 2,500 Cash -2,500 |
Debit Wages Expense 2,500 Credit Cash 2,500 |
Thus, because of the adjusting entry to accrue wages expense in the previous period, the first journal entry to record wages expense of the subsequent accounting period must differ from all the other entries to record wages expense which will be made during the period. This situation may be avoided by reversing the adjusting journal entry for Accrued Wages Payable immediately after preparation of the post-closing trial balance.
Transaction 17
July 1
Reversal of Accrued Wages Payable
You can make this entry manually, but Omnis Mus features 'One-Click' reversal of transactions to facilitate error correction.
Open the General Journal
Move to Transaction 16
Click Options, then Reverse Entry
Omnis Mus automatically enters and posts the reversing entry.
Transaction Analysis (+/-) Format |
Debit Credit Format |
Wages Expense -2,500 Accrued Wages Payable -2,500 |
Debit Accrued Wages Payable 2,500 Credit Wages Expense 2,500 |
Open the General Ledger
Posting the reversing entry reduces the accrued wages payable account to zero and places a negative (credit) balance of $2,500 in wages expense. Now the normal journal can be processed when the employees are paid $2,500 cash wages.
Transaction 18
July 7
Payment of Wages incurred in the previous accounting period
After the reversal of the accrued wages payable adjusting entry, the normal journal entry can be processed when the employees are paid $2,500 cash on July 7 for wages earned through June 30 (i.e., the wages expense that was accrued on June 30 - the last day of the previous accounting period).
Transaction Analysis (+/-) Format |
Debit Credit Format |
Wages Expense 2,500 Cash -2,500 |
Debit Wages Expense 2,500 Credit Cash 2,500 |
Open the General Ledger
Note that wages expense is $0, the correct amount. The wages expense was incurred in the previous accounting period (June). The liability was removed by the reversing entry in transaction 17.
The other four adjusting entries in our example should not be reversed. Reversing entries are generally appropriate for adjusting entries that establish accrued payable or accrued receivable accounts. Reversing entries are also appropriate for adjusting entries that pertain to items such as supplies when such items are initially recorded as an expense rather than as an asset, as was done in this tutorial.
This concludes the accounting cycle tutorial.
Test your knowledge with the online, interactive Accounting Cycle Tutorial Crossword Puzzle!