Balance day adjustments and closing entry
In accrued base accounting, we recognize the revenue and
expense only when they incurred. Therefore, at the end of the recording period,
we should perform a balance day adjustment in order to maintain the accuracy of
the accounting report.
There are six major types of balance day adjustments. For
example, the prepaid expense, unearned revenue, expense payable, accrued
revenue, depreciation, and bad or doubtful debts are the adjusting entry we
need to record. The prepaid expense is the amount paid in advance such as rent
or insurance. In fact, we should not record them as expenses at the start of
each period, since they have not occurred yet. Hence we debit the prepaid
expense and credit the bank account first, and on the day we are doing the
adjustment entry, we must debit the expense and credit the prepaid account. It
can be treated as a subtraction from the provision account. In addition, the
unearned revenue is the revenue we received in advance. We should always refer
it as a liability because the service has not yet been provided by us.
Similarly, we subtract the revenue when it incurred, which is debit the
unearned revenue and credit the revenue. Furthermore, the accrued expense or
expense payable is the deferred payment of our expenses. This situation appears
commonly when the salary payment date is differed from the recording day.
Thereby we have to recognize any accrued wages by debiting wages expense and
credit wages payable. Moreover, the requirement to adjust the accrued revenue
is normally due to the recording error. Thus we may simply correct the entry.
The last two BDAs are a bit more complicated. The bad debt
is inevitable for every business make sales on credit. So the company will set
up an allowance for the impairment account which records the estimated bad debt
for the accounting period. The company will debit the bad/doubtful debt expense
and credit this account. After the bad debt is confirmed, we write off from
this allowance account and credit the accounts receivable. One of the biggest
advantages for adopting allowance method is the business will be aware for this
potential loss and make relevant decisions in regard to it. At last, the
depreciation is the accounting measurement of wear and tear on the non-current
assets. Consequently, accountants need to reduce the depreciated amount at the
end of recording period. The detailed process shoudle be: debit the
depreciation expense and credit the accumulated depreciation account.
The BDA is the fundamental element of accrued based accounting,
so we must profoundly comprehend this method.
