E3-14 When are cash and accrual basis measures different? Whenare they the same?
ID: 2458232 • Letter: E
Question
E3-14
When are cash and accrual basis measures different? Whenare they the same?
Each of the following independent situations relates toinformation available on the last day of the year. Eachinvolves an adjustment that must be made to the accounting systembefore financial statements can be prepared. Show the effectsof each adjusting entry on the accounting system.
A. A 15,000 note payable, incurring 8% interest, has beenoutstanding the entire year. The note payable was properlyrecorded when it arose.
B. A 3,000 check was received 2 months ago from a tenantthat subleases part of a building. The amount was for 6 monthsrent beginning the day the check was received. When received,the entire amount of the check was recorded in a liability accounttitled Unearned Rent.
C. Exactly halfway through the year just ended, the companypurchased a 2-year fire insurance policy for 8,000. When thepolicy was purchased, the entire amount was recorded in PrepaidInsurance account.
D. Wear and tear on the buildings and machinery for theyear is estimated to be 35,000.
Explanation / Answer
The difference between thetwo types of accounting is when revenues and expenses are recorded. In cash basis accounting,revenues are recorded when cash is actually received and expenses are recorded when theyare actually paid (no matter when they were actuallyinvoiced). Accrual basis accounting records thefinancial effects of a business activity in the period the effectoccurs. Revenue is recognized (recorded) whenearned (the goods were legally transferred or the serviceperformed). Expenses are recognized when theirbenefit is received. ADJUSTINGENTRIES: a. Interest expense $1,200 Interest payable $1,200 ($15000 X 8%) b. Unearned Rent revenue $1,000 Rentrevenue $1,000 ($3000 *2/6) c. Insurance expense $2,000 PrepaidInsurance account $2,000 ($8000/2 *6/12) d Depreciation $35,000 AccumulatedDepreciation $35,000 - building& machinery
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