CSEC Principles of Accounts - Complete Adjustments Notes
1. The Core Idea: The Matching Principle
The Matching Principle states that:
Expenses must be recorded in the same accounting period as the
revenues they helped to generate.
Revenues must be recorded in the period they are earned,
regardless of when cash is received.
Accruals and Prepayments are year-end adjustments made to ensure we
follow this principle.
2. Key Definitions
EXPENSE ADJUSTMENTS:
Accrued Expense: An expense that has been incurred
(used) during the current period but has NOT been paid.
o Example: Wages owed to employees for the last week of the
year.
o It is a LIABILITY.
Prepaid Expense: An expense that has been paid for in
advance but has NOT been used.
o Example: Paying next year's rent in December.
o It is an ASSET.
REVENUE ADJUSTMENTS:
Accrued Revenue: Revenue that has been earned during the
current period but has NOT been received.
o Example: Interest earned on savings but not yet paid by the
bank.
o It is an ASSET. (We are owed money).
Prepaid Revenue (Unearned Revenue): Revenue that has
been received in advance but has NOT been earned.
o Example: A magazine subscription paid for one year in
advance.
o It is a LIABILITY. (We owe a future service).
3. How to Calculate the Adjustments
EXPENSES:
Accrued Expense: Full amount incurred but not paid = Expense &
Liability
Prepaid Expense: Amount paid but not used = Asset (reduce
expense)
REVENUES:
Accrued Revenue: Full amount earned but not received = Asset
(increase revenue)
Prepaid Revenue: Amount received but not earned = Liability
(reduce revenue)
4. Recording the Adjustments in the Ledger
A. ACCRUED EXPENSE (e.g., Accrued Wages $500)
Dr. Wages Expense (I/S) $500
Cr. Accrued Wages (B/S Liability) $500
(Being wages incurred but not yet paid)
B. PREPAID EXPENSE (e.g., Prepaid Rent $800)
Dr. Prepaid Rent (B/S Asset) $800
Cr. Rent Expense (I/S) $800
(Being rent paid in advance)
C. ACCRUED REVENUE (e.g., Accrued Interest $300)
Dr. Accrued Interest (B/S Asset) $300
Cr. Interest Revenue (I/S) $300
(Being interest earned but not yet received)
D. PREPAID REVENUE (e.g., Unearned Subscription $1,200)
Dr. Subscription Revenue (I/S) $1,200
Cr. Prepaid Subscription (B/S Liability) $1,200
(Being subscription received in advance)
5. Impact on the Financial Statements
Example Scenario (Year-End December 31st):
Rent: Paid $1,200 on Dec 1st for 3 months (Dec, Jan, Feb)
Wages: $500 for December unpaid
Interest: $300 earned but not received
Subscriptions: Received $1,200 on Nov 1st for 12 months (Nov - Oct)
A. Income Statement (Extract) for the Year
REVENUE:
Interest Revenue $300
Subscription Revenue ($100 × 2) $200
EXPENSES:
Rent Expense ($1,200 - $800) $400
Wages Expense $500
B. Balance Sheet (Extract) as at Year-End
CURRENT ASSETS
Prepaid Rent $800
Accrued Interest $300
CURRENT LIABILITIES
Accrued Wages $500
Prepaid Subscription $1,000
6. Memory Aid - The Four Quadrants
EXPENSE REVENUE
PAID/RECEIVED IN PREPAID PREPAID
ADVANCE EXPENSE REVENUE
(Before it's used/earned) (Asset) (Liability)
NOT PAID/RECEIVED ACCRUED ACCRUED
YET EXPENSE REVENUE
(After it's used/earned) (Liability) (Asset)
Simple Rules:
"PRE-PAID = Paid BEFORE it's used/earned"
Expense: Asset | Revenue: Liability
"AC-CRUED = Owed AFTER it's used/earned"
Expense: Liability | Revenue: Asset