Adjusting entries are a type of journal which consolidates accounting records at the end of an accounting period using the accrual method. With this method, revenues and expenses are recognized when incurred, not when paid for. This consolidation is necessary due to deferred revenues and expenses which may arise. For example, if equipment is purchased which will not be completely paid for some time, monthly charges are made. Each month’s statement must reflect that charge, as opposed to the cumulative charge when the sum is paid in full. Adjusting entries are necessary because software often will not account for these adjustments, so a bookkeeper must manually review and adjust them.
When entries are adjusted, coordinating accounts must be identified, one of which being a balance sheet account and another being an income statement account. It must be determined how amounts are split between accounts and which accounts are debited or credited. The chosen accounts and the adjustments made must be listed in the general journal.
There are five types of adjusting entries. These include: accrued revenues, accrued expenses, deferred revenues, deferred expenses, and depreciation expenses.
Accrued revenues are earned revenues which have not been processed. These revenues must be reported during the corresponding accounting period, even if the revenues have not yet been collected. The accrued receivables account is updated to reflect this. Deferred revenues are revenues which are received before being earned. The amount is listed as a liability until earned.
Accrued expenses are incurred expenses which have not been paid. The corresponding expense account and payable account are adjusted. Deferred expenses are expenses which are paid before being received. The amount is listed as an asset until expired or used up. As the amount is paid, the respective expense account increases and the prepaid expense account decreases.
Depreciation expenses concern depreciation associated with asset degradation over time. This includes equipment, machinery, buildings, vehicles, and fixtures. Depreciation costs are allocated monthly from the asset to expenses in the corresponding accounting period.