Adjusting entries are necessary to accrue revenue and expense transactions that

Question

Adjusting entries are necessary to accrue revenue and expense transactions that have been incurred to comply with GAAP using the accrual method of accounting, versus recording transactions strictly based on cash receipts or cash payments, per the cash method of accounting (which do not comply with GAAP).

Consider the following business scenario:

A company earned and billed for services $10,000 to a customer in February.

The company incurred $6,000 in service related expenses and paid $4,000 in February.

The customer previously made a cash down-payment of $2,000 in January.

In February, the company also incurred other operating expenses of $2,500 for February of which $500 was paid in February and another $1,000 of January operating expenses were paid in February.

Question: What is the net income of the company under:

The cash method of accounting.

The accrual method of accounting.

Use T-Account analysis to aid in your analysis.

Explanation / Answer

Net income under a) Cash method of accounting Fee received (10000-2000) 8000 (Reduce cash down payment) Less: operating expense paid 4000 Other expenses paid (500+1000) 1500 5500 Net income 2500 b) Accrual method of accounting Fess revenue 10000 Less: operating expense 6000 Other expenses 2500 8500 Net income 1500

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