Aligning revenues and expenses to the right accounting period Show
Adjusting Entries – Why Do We Need Adjusting Journal Entries?Adjusting entries are required at the end of each fiscal period to align the revenues and expenses to the “right” period, in accord with the matching principle in accounting. In general, there are two types of adjusting journal entries: accruals and deferrals. Adjusting entries are booked before financial statements are released. The two main categories where adjustments arise are:
An example of adjusting entriesImagine there is a company called XYZ Company that took out a loan from a bank on December 1, 2017. The first interest payment is to be made on June 30, 2018, and the company is preparing its financial statements for the year ending December 31, 2017. Even though the interest payment is to be made on June 30 in the following year, to properly report the company’s financial status, the company must accrue the interest expense for the month of December and include that value even though the expense was not actually paid (i.e., an exchange in cash). This is an accounting system called the accrual basis of accounting. The accrual basis of accounting states that expenses are matched with related revenues and are reported when the expense is incurred, not when cash changes hand. Therefore, adjusting entries are required because of the matching principle in accounting.  Four Types of Adjusting Journal EntriesThere are four specific types of adjustments:
These adjusting entries are depicted in the following tables with specific examples and journal entries. Deferred and accrued revenue
To learn more, start our accounting courses now! Deferred and Accrued Expenses
Additional ResourcesHopefully this has been a helpful guide to adjusting entries, and in particular, the journal entries that are required. To keep learning and developing your career we recommend the additional CFI resources below:
Does accrued expense increase liabilities?Employee commissions, wages, and bonuses are accrued in the period they occur although the actual payment is made in the following period. When a company accrues (accumulates) expenses, its portion of unpaid bills also accumulates. This increases both its expenses and liabilities.
What is the effect of recording an accrued expense?Accrual accounting requires revenues and expenses to be recorded in the accounting period that they are incurred. Since accrued expenses are expenses incurred before they are paid, they become a company's liabilities for cash payments in the future.
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How do adjusting entries for accrued expenses affect liabilities and expenses?
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