Question

As part of the month-end close process, the chapter assigned in this week’s reading covers many different closing entries to finalize month-end. Discuss two different month-end closing adjusting entries and why it is important to post each in the month before closing financials.

Answer 1

The two adjustment entries may be:

1) Prepaid insurance:

Insurance premiums are to be paid in advance, usually for a year.

When paid, the amount is debited to a current asset account called 'prepaid insurance'. However, for preparing monthly financial statements, it is necessary that one month's insurance expense is accounted for. For this the adjustment entry:

Debit Insurance expense

Credit Prepaid insurance

for an amount equal to the annual insurance prepayment divided by 12, is made.

If this is not done monthly, the monthly net income reported will be overstated as also the current assets in the monthly balance sheet.

2) Outstanding expenses:

Many expenses, like salaries and wages, utilities etc. are paid for only in the month following the month during which they are incurred. Hence, it is necessary to make adjusting entries to reflect the expense as well as the liability for the accrual while closing the accounts for each month.

For this the following entry is passed:

Debit Expense account (utilities, wages and salaries, etc;)

Creidt Payable account

If this is not done the monthly net income will be overstated and the current liabilities will be under stated in the monthly balance sheet.