Chapter 5
The Accounting Cycle: Adjustments
112
The $125 worth of interest will be recorded in interest expense and in a liability account called
interest payable.This account tracks all the interest owed.The adjusting entry is shown in Figure 5.7.
After the accrued interest for the loan has been recorded, the statements will be up-to-date and
accurate.When it comes time to pay back the loan and interest on October 1, there will not be any
interest expense to record.The payment will simply be a reduction of the bank loan and the interest
payable, as shown in Figure 5.8.
____________
FIGURE 5.8
unearned revenue
You will recall from earlier discussions that unearned revenue is a liability that arises when a
customer pays for services or products in advance. When a customer pays in advance for a service
or product, cash increases. Since the business now has an obligation to provide services or products
to the customer, this amount is recorded in unearned revenue, a liability account, until the product
or service is provided to the customer. The adjustment to unearned revenue is to account for the
earning of revenue for the services which were paid for in advance. An adjustment to recognize
unearned revenue as earned will always decrease unearned revenue and increase revenue.
To illustrate the concept of adjustments related to unearned revenue, consider Raina Property
Management (Raina). Raina recently bought a large office building which it rents out as separate
offices to tenants. The company has a policy of collecting the first three months’ rent in advance
when a new tenant moves in. For each office, Raina charges $2,200 per month for rent. On March
1, 2016, a new tenant moved in and paid $6,600 immediately to Raina to cover rent for March,
BALANCE SHEET
LIABILITIES
ACCOUNTS
PAYABLE
INTEREST
PAYABLE
BANK LOAN
INCOME STATEMENT
EXPENSES
SERVICE REVENUE
DEPRECIATION
INTEREST
SALARIES
RENT
Owner’s equity decreases by $125
ASSETS
CASH
OFFICE
SUPPLIES
ACCOUNTS
RECEIVABLE
+ $125 CR
+ $125 DR
journal
Page 1
date
2016
account title and explanation Pr debit credit
Sep 30 Interest Expense
125
Interest Payable
125
To accrue interest owing
____________
FIGURE 5.7
journal
Page 1
date
2016
account title and explanation Pr debit credit
Oct 1 Bank Loan
10,000
Interest Payable
125
Cash
10,125
To pay loan and interest
BALANCE SHEET
LIABILITIES
ACCOUNTS
PAYABLE
INTEREST
PAYABLE
BANK LOAN
INCOME STATEMENT
EXPENSES
SERVICE REVENUE
DEPRECIATION
INTEREST
SALARIES
RENT
No change in owner’s equity
ASSETS
CASH
OFFICE
SUPPLIES
ACCOUNTS
RECEIVABLE
- $125 DR
- $10,000 DR
- $10,125 CR
