Adjusting entries are made in your accounting journals at the end of an accounting period after a trial balance is prepared.
After adjusted entries are made in your accounting journals, they are posted to the general ledger in the same way as any other accounting journal entry. There are several types of adjusting entries that can be made, with each being dependent on the type of financial activities that define your business.
This article will also discuss:
- What is an adjusting entry?
- 5 Types of Adjusting Entries
- What Accounts Are Affected by an Adjusting Entry?
What is an adjusting entry?
Adjusting entries are changes to journal entries you’ve already recorded. Specifically, they make sure that the numbers you have recorded match up to the correct accounting periods.
Journal entries track how money moves—how it enters your business, leaves it, and moves between different accounts.
Here’s an example of an adjusting entry: In August, you bill a customer $5,000 for services you performed. They pay you in September.
In August, you record that money in accounts receivable—as income you’re expecting to receive. Then, in September, you record the money as cash deposited in your bank account.
To make an adjusting entry, you don’t literally go back and change a journal entry—there’s no eraser or delete key involved. Instead, you make a new entry amending the old one.
For example, going back to the example above, say your customer called after getting the bill and asked for a 5% discount. If you granted the discount, you could post an adjusting journal entry to reduce accounts receivable and revenue by $250 (5% of $5,000).
Making adjusting entries is a way to stick to the matching principle—a principle in accounting that says expenses should be recorded in the same accounting period as revenue related to that expense.
In the accounting cycle, adjusting entries are made prior to preparing a trial balance and generating financial statements.
5 Types of Adjusting Entries
Each month, accountants make adjusting entries before publishing the final version of the monthly financial statements. The five following entries are the most common, although companies might have other adjusting entries such as allowances for doubtful accounts, for example.
If you perform a service for a customer in one month but don’t bill the customer until the next month, you would make an adjusting entry showing the revenue in the month you performed the service. You would debit accounts receivable and credit service revenue.
A good example of accrued expenses is wages paid to employees. When a business firm owes wages to employees at the end of an accounting period, they make an adjusting entry by debiting wage expenses and crediting wages payable.
Unearned revenues refer to payments for goods to be delivered in the future or services to be performed. If you place an order from an online retailer in February and the item does not arrive (and you don’t pay for it) until March, the company from which you placed the order would record the cost of that item as unearned revenue. During the month which you made the purchase, the company would make an adjusting entry debiting unearned revenue and crediting revenue.
Prepaid expenses are assets that are paid for and then gradually used during the accounting period, such as office supplies. A company buys and pays for office supplies, and as they are depleted, they become an expense. During the month when the office supplies are used, an adjusting entry is made to debit office supply expense and credit prepaid office supplies.
Depreciation is the process of allocating the cost of an asset, such as a building or a piece of equipment, over the serviceable or economic life of the asset. Adjusting entries are a little different for depreciation. Business owners have to take accumulated depreciation into account. Accumulated depreciation is the accumulated depreciation of a company’s assets over the life of the company.
The accumulated depreciation account on the balance sheet is called a contra-asset account, and it’s used to record depreciation expenses. When an asset is purchased, it depreciates by some amount every month. For that month, an adjusting entry is made to debit depreciation expense and credit accumulated depreciation by the same amount.
What Accounts Are Affected by an Adjusting Entry?
Adjusting journal entries are accounting journal entries that update the accounts at the end of an accounting period. Each entry impacts at least one income statement account (a revenue or expense account) and one balance sheet account (an asset-liability account) but never impacts cash.
Adjustments entries fall under five categories: accrued revenues, accrued expenses, unearned revenues, prepaid expenses, and depreciation.