Apply The Principles Of Accrual Accounting And Accounting Cy

apply The Principles Of Accrual Accounting And Accounting Cy

The Director of Accounting has expressed concerns regarding the month-end close procedures at County General Hospital to ensure that all revenues and expenses are accurately recorded within the appropriate accounting periods. Proper recognition of financial transactions is crucial, especially as the fiscal year-end approaches, to prevent audit adjustments and ensure financial statements reflect the true financial position of the hospital. This memo reviews specific transactions highlighted for potential adjustments, explaining the importance of applying accrual and deferral principles properly to uphold the integrity of financial reporting.

Understanding the distinction between an accrual and a deferral is fundamental to accurate financial reporting. An accrual involves recognizing revenue or expenses that have been incurred but not yet recorded through cash transactions, thus ensuring that income and expenses are matched to the period they relate to. In contrast, a deferral postpones the recognition of revenue or expense to a future period when the cash transaction occurs, such as prepayments. Correct classification and journal entries for these transactions are vital in maintaining compliance with accounting standards and presenting a fair view of the hospital’s financial health.

Analysis of Transactions and Adjusting Entry Requirements

1. Services Delivered in September, Payment Made in November ($10,000)

This transaction involves revenue earned in September but received in November. As the cash was not received in the period the service was rendered, an accrual is necessary to recognize the revenue in September.

Type: Accrual

Justification: Revenue recognition principles dictate that revenue should be recorded when earned, regardless of cash receipt.

Accounts Debited and Credited:

• Debit: Accounts Receivable
• Credit: Revenue

2. Unbilled 80% of a $50,000 Contract for Services

The company has provided services worth $40,000 (80% of $50,000) but has not billed the client yet. An adjustment is required to recognize revenue earned yet not billed.

Type: Accrual

Justification: Revenue should be recognized when earned, even if not invoiced, to comply with the revenue recognition principle.

Accounts Debited and Credited:

• Debit: Accounts Receivable
• Credit: Revenue

3. Purchasing Insurance on December 1st ($12,000 for One Year)

This prepayment covers a 12-month period, initially recorded as a prepaid expense. An adjusting entry is needed to allocate the appropriate expense portion by period.

Type: Deferred (Prepaid Expense)

Justification: Since the insurance coverage extends beyond December, expense recognition should be prorated monthly.

Accounts Debited and Credited:

• Debit: Insurance Expense
• Credit: Prepaid Insurance

4. Biweekly Payroll with End Date December 24th ($500,000 per pay period)

The payroll expense for the current pay period needs to be accrued, since the pay period ends after the fiscal year-end.

Type: Accrued Expense

Justification: Expenses incurred but not paid or recorded must be accrued to ensure expenses match the period incurred.

Accounts Debited and Credited:

• Debit: Payroll Expense
• Credit: Accrued Salaries Payable

5. Interest Payment on Bonds ($1,000,000 at 6%) Semiannual Payments on Jan 15 & Jul 15

This interest accrued during December needs to be recorded since the interest expense is incurred before the payment date.

Type: Accrual

Justification: Interest expense accrues over time and should be recognized in the period it is incurred, regardless of payment date.

Accounts Debited and Credited:

• Debit: Interest Expense
• Credit: Interest Payable

6. Monthly Electric Bill ($5,000/month), Bill Not Received Until Next Month

The electric expense for December has been incurred but not billed yet. An accrual is required to recognize the expense in December.

Type: Accrual

Justification: Expenses are recognized when incurred, not when billed or paid.

Accounts Debited and Credited:

• Debit: Utilities Expense
• Credit: Accounts Payable

7. Rent Payment Deferred until January 15th ($2,000/month)

The rent expense for December is payable in January, so a deferral is necessary to recognize the expense in December.

Type: Deferral

Justification: Since payment is deferred, the expense must be accrued in December and paid in January.

Accounts Debited and Credited:

• Debit: Rent Expense
• Credit: Rent Payable

Summary of Adjusting Entry Recommendations

All seven transactions analyzed require adjusting entries to accurately reflect the hospital's financial position in accordance with accrual accounting principles. The correct classification as either accruals or deferrals ensures that revenues and expenses are recognized in the proper accounting periods, thereby providing stakeholders with reliable financial information. Proper documentation and timely adjustments mitigate the risk of inaccuracies and potential audit issues as the fiscal year-end approaches.

It is essential that these adjustments are recorded before the final close of the accounting period to uphold compliance with generally accepted accounting principles (GAAP) and to present a truthful financial picture of County General Hospital.

References

• Burke, R., & Morgan, P. (2019). Accounting Principles. McGraw-Hill Education.
• FASB (Financial Accounting Standards Board). (2020). Accounting Standards Codification (ASC) Topic 606: Revenue from Contracts with Customers.
• Heitzman, S., & Weil, R. (2019). Financial & Managerial Accounting (3rd Edition). McGraw-Hill Education.
• Kieso, D. E., Weygandt, J. J., & Warfield, T. D. (2020). Intermediate Accounting. Wiley.
• Schroeder, R. G., Clark, M. W., & Cathey, J. M. (2018). Financial Accounting Theory and Analysis. Wiley.
• Sigma, J., & Reynolds, L. (2021). Principles of Accrual and Cash Basis Accounting. Journal of Accountancy, 232(4), 65-71.
• Hendriksen, E. S., & Van Breda, M. (2016). Accounting Theory. McGraw-Hill Education.
• Horngren, C. T., Sundem, G. L., & Elliott, J. A. (2018). Introduction to Financial Accounting. Pearson.
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• Weygandt, J. J., Kieso, D. E., & Kimmel, P. D. (2019). Financial Accounting. Wiley.