The Accounting adjusting process of recording accounting transactions is done through the double entry accounting system. The accounting equation normally takes the form Asset = Liabilities + Equity. In an organization with a well structured finance department, the Financial Accounting process begins from transactions recording in the journals. Thereafter, the account balances are transferred to the ledger, unadjusted and adjusted trial balance in that order. The essence of the adjusting process is to ensure that the ultimate financial statements exhibit high levels of accuracy and correctness. This approach is derived on the basis of the fact that accounts are normally prepared in adherence to the accrual basis of accounting.
The Accrual Basis of Accounting and the Matching Principle
Under the accrual basis of accounting, the recording of revenues takes place in the period within which a service is offered or product delivered irrespective of whether cash has been received or not. On the other hand, expenses incurred in generating revenues are also recorded in the period in which they are incurred regardless of whether they have been paid for or not. This concept is referred to as the matching principle. The matching principle ensures that proper net loss or profit figures are reported in the income statements. Normally, revenues and expenses are properly matched by adjusting the accounting entries.
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Accounting Adjusting Entries
This process starts at the end of an accounting period where an unadjusted trial balance is prepared to verify the equality of the debit and credit account balances. Thereafter, the majority of the account balances are transferred to the financial statements as they are. However, some accounts in the unadjusted trial balance must be adjusted because of the following reasons:
- Some expenses are not normally recorded on a daily basis either because they are too minute and numerous or they are not required for daily decision making.
- Some revenues and expenses are also continuously incurred over time including after the closure of an accounting period.
- Some revenues and expenses may have been unrecorded at the end of an accounting period.
All these accounts must be analyzed and updated at the end of an accounting period to facilitate financial statements preparations. This is called the adjusting process. The process requires that a business’s or organization’s accounts are brought up to date during this period by making adjusting journal entries. It is important to note that these entries must at least affect one income statement and one balance sheet. This is because an adjusting entry will always involve a revenue or expense account and/or an asset or a liability account.
Types of Accounts that Require Adjustment
There are two major types of accounts in this category:
These accounts result when revenues and expenses are incurred but not recorded. The adjusting process, in this case, involves making adjusting entries for accrued revenues and expenses.
When cash relating to future revenues or expenses are initially recorded as liability or assets, then deferral accounts occur. Here, the adjusting process is performed on accounting items such as unearned revenues and prepaid expenses including supplies and insurance among many others.
It is important to also note that the adjusting process is also normally performed on depreciation accounts. The adjusting process is highly detailed, tedious and complex. However, there are numerous help with adjusting entries websites that offer detailed explanations regarding the topic, which include illustrations using practical accounting examples from real financial data and accounts.