Table of Contents
Short Answer Type Question:
Q.1Why is it necessary to record the adjusting entries in the preparation of final accounts?
ANSWER: It is extremely important to record the adjusting entries in the preparation of final accounts.
1. This is done in order to assess the true net profit or net loss of the business organisation.
2. It helps us record those adjustments which were left or omitted and were not recorded in the accounts.
3. It assists us to separate all the financial transactions into a year-wise category. The financial statements include only those entries which belong to the current year. It rules out the previous and forthcoming years’ entries which are the basis for accrual basis of accounting.
4. Further, it provides us the room for making various provisions which are made at the end of the year, after assessing the entire year’s performance.
Q.2 What is meant by closing stock? Show its treatment in final accounts.
ANSWER: Closing stock implies the value of unsold goods at the end of an accounting period. The valuation of closing stock is done on the basis of its cost price or the realisable value, whichever of the two is lesser.
Example: If a good with the cost price of Rs 20,000 is purchased at the end of an accounting period and its realisable value is Rs 30,000, then the closing stock will be valued at Rs 20,000 not at Rs 30,000.
Treatment of closing stock
If closing stock is given in the adjustment, then there will be two postings.
| Trading Account | Balance Sheet | ||||||||||||
| Dr. | Cr. | ||||||||||||
| Particulars | Amount | Particulars | Amount | Liabilities | Amount | Assets | Amount | ||||||
| Closing Stock | |||||||||||||
If closing stock is given in the trial balance, then it needs to be shown only in the assets side of the Balance Sheet.
Q.3 State the meaning of:
(a) Outstanding expenses
(b) Prepaid expenses
(c) Income received in advance
(d) Accrued income
ANSWER: (a) Outstanding Expenses: These refer to those expenses which belong to and are incurred in the current accounting period but are left unpaid. In other words, we can say that the services in exchange of these payments have been realised but the payments are not made. For example, if Rs 1000 wages are outstanding, then this means that labour worth Rs 1,000 has been used but has not been paid for till the end of the year.
(b) Prepaid Expenses: These refer to those expenses for which the benefits have not been realised but the payments have already been made in advance. These are basically the advance payments for the next year, which are made in the current accounting period.
Example: Prepaid insurance premium of Rs 1,000 means that the payment of Rs 1,000 is made in advance for the next accounting period.
(c) Income Received in Advance: This refers to the income received whose actual realisation of benefits will occur in the next accounting period. These are also called unearned incomes.
Example: Commission of Rs 1,200 for the year 2011-12 is received in 2010-11. This commission does not belong to the current year as it is related with the work to be done in the next accounting year i.e., 2011-12.
(d) Accrued Income: This refers to those incomes which have been earned during an accounting period but have not been actually realised in the current period. These are also called earned incomes.
Q.4 Why is it necessary to create a provision for doubtful-debts at the time of preparation of final accounts?
ANSWER: The provision for doubtful-debts is created with the motive of minimising the effect of actual loss caused by the bad-debts. The actual figure of the current year’s bad-debts will be known in the next year with the realisation of debtors. At that point of time, it will be known as to how many of the debtors have become bad. Thus, instead of waiting for the realisation of debtors, we create a provision for doubtful-debts in order to cover the expected future loss associated with the debtors becoming bad.
Q.5 What is meant by provision for discount on debtors?
ANSWER: The discount is allowed to those debtors who are ready to pay a huge amount in one shot. It is given in order to encourage them to repay the debt. The provision for discount on debtors is created on good debtors. The amount of good debtors is calculated by deducting the amount of Bad Debts, further Bad Debts and new provision for Doubtful Debts. The required percentage of the good debtors is calculated and the provision for discount on debtors is deducted from the Debtors’ amount in the Assets side of a Balance Sheet. As it is a loss for the business, it is shown in the Debit side of the Profit and Loss Account.
Long Answer type Question:
Q.1 What are adjusting entries? Why are they necessary for preparing the final accounts?
ANSWER: Adjusting entries are the entries of those adjustments which are given outside the trial balance and which help us reflect the true
financial position i.e., profit or loss of an organisation. According to the double-entry system, all the adjustments given outside the
Trial Balance are posted at two places. The adjusting entries are necessary they enable us to post and take into account those
items which are omitted or entered with the wrong amount and/or recorded under wrong heads.
The treatment of adjusting entries is necessary.
(i) It helps us assess the true financial position of an organisation based on accrual basis of accounting.
(ii) It helps us know the actual figure of profit or loss.
(iii) It records the omitted entries and rectifies the errors made.
(iv) It helps in providing depreciation and making different provisions, such as Bad Debts and depreciation.
Q.2 What is meant by provision for doubtful-debts? How are the relevant accounts prepared and what journal entries are
recorded in the final accounts? How is the amount for provision for doubtful-debts calculated?
ANSWER: The provision for doubtful-debts is provided after deducting the amount of bad-debts from the
debtors. The provision for doubtful-debts is provided because of the rationale that the actual
amount of bad-debts will only be known in the next year, when the amount of debtors will get
realised. Thus, it will only then be known as to how many of the debtors have become bad. Thus,
in order to bridge-up the expected future loss, we create a provision for doubtful-debts.
For the provision for doubtful-debts, we prepare debtors account and provision for doubtfuldebts account. For recording bad-debts, the following journal entry is passed.
Profit and Loss A/c Dr.
To Provision for Bad and Doubtful Debts A/c
Example: An extract from a Trial Balance as on December 31, 2010.
Debtors 10,500
Provision for Doubtful Debts as on January 01, 2010 1,000
Bad Debts Account 1,500
Adjustment:
(i) Further bad-debts amount to Rs 500.
(ii) Create a provision for doubtful-debts at 5% on debtors.
Explanation
The provision for Doubtful Debt as on January 01, 2010 was Rs 1,000 and the Bad Debts during
the year were Rs 1,500. In addition to this, there was a further Bad Debt of Rs 500 which was
known at the end of the year i.e., December 31, 2010. Now we need to create a provision for
Doubtful Debts at 5% on debtors.
Profit and Loss A/c
Dr. Cr.
Particulars AmountParticularsAmount
Bad Debts 1,500
Add: Further Bad Debts 500
Add: New Provision for Doubtful Debts 500
Less: Old Provision (given in Trial Balance) 1,000 1,500
Balance Sheet
Liabilities Amount Assets Amount
Debtors 10,500
Less: Further Bad Debts 500
10,000
Less: New Provision for Doubtful Debts 500 9,500
The amount of provision for Doubtful Debts is calculated by debiting the amount of further Bad
Debts from debtors and calculating the given percentage of provision on remaining debtors. This
provision is added to the Bad Debts amount in the profit and loss account and deducted from
debtors in the assets side of a Balance Sheet.
Q.3 Show the treatment of prepaid expenses, depreciation and closing stock at the time of preparation of final accounts when
they are given
(a) inside the Trial Balance
(b) outside the Trial Balance
ANSWER: (i) Prepaid expenses
(a) When given inside the Trial Balance: It will be posted only in the Assets side of the Balance Sheet.
Balance Sheet
Assets Amount
Prepaid Expenses
(b) When given outside the Trial Balance:
Dr. Cr.
Particulars Amoun
t
Particular
s
Amoun
t
Liabilitie
s
Amoun
t
Assets Amoun
t
Concerned
Expenses
Prepaid
Expenses
Less: Prepaid
Expenses
(ii) Depreciation
(a) If depreciation is given inside the Trial Balance, then it can be shown in the Debit side of the Profit and Loss A/c. It means that
this depreciation amount has already been deducted from the concerned assets in the Balance Sheet.
Profit and Loss Account
Dr. Cr.
Particulars Amount Particulars Amount
Depreciation
(b) If depreciation is given outside the Trial Balance, i.e. in the adjustments, then it is shown in the debit side of the Profit and Loss
Account and deducted from the concerned assets in the Assets side of Balance Sheet
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