CHAPTER # 3

Sample Problem And Solution:

Terry Thomas opens the Green Thumb Lawn Care Company on April 1. At April 30, the
trial balance shows the following balances for selected accounts.
Prepaid Insurance $ 3,600
Equipment 28,000
Notes Payable 20,000
Unearned Service Revenue 4,200
Service Revenue 1,800

Analysis reveals the following additional data.

1. Prepaid insurance is the cost of a 2-year insurance policy, effective April 1.
2. Depreciation on the equipment is $500 per month.
3. The note payable is dated April 1. It is a 6-month, 12% note.
4. Seven customers paid for the company’s 6 months’ lawn service package of
$600 beginning in April. The company performed services for these customers in
April.
5. Lawn services provided other customers but not recorded at April 30 totaled
$1,500.
Instructions
Prepare the adjusting entries for the month of April. Show computations.
Problem#1
1. Interest Expense............................................................... 400
Interest Payable............................................................ 400
($10,000 X 12% X 4/12)
2. Supplies Expense ......................................................... 1,550
Supplies ..................................................................... 1,550
($2,450 – $900)
3. Depreciation Expense.................................................... 1,000
Accumulated Depreciation—Equipment......... 1,000
4. Insurance Expense.......................................................... 1,225
Prepaid Insurance.................................................... 1,225
($2,100 X 7/12)
5. Unearned Consulting Revenue...................................... 7,500
Consulting Revenue................................................... 7,500
($30,000 X 1/4)
6. Accounts Receivable ...................................................... 4,200
Consulting Revenue................................................... 4,200
7. Salaries Expense............................................................. 5,400
Salaries Payable......................................................... 5,400
($9,000 X 3/5)
Problem 2:

Ellis Company accumulates the following adjustment data at December 31.

1. Revenue of $900 collected in advance has been earned.
2. Salaries of $600 are unpaid.
3. Prepaid rent totaling $450 has expired.
4. Supplies of $550 have been used.
5. Revenue earned but unbilled total $750.
6. Utility expenses of $200 are unpaid.
7. Interest of $250 has accrued on a note payable.
Instructions
(a) For each of the above items indicate:
1. The type of adjustment (prepaid expense, unearned revenue, accrued revenue, or
accrued expense).
2. The account relationship (asset/liability, liability/revenue, etc.).
3. The status of account balances before adjustment (understatement or overstatement).
4. The adjusting entry.
Prepare your answer in the tabular form presented below.

(b) Assume net income before the adjustments listed above was $14,500. What is the adjusted
net income?
(a) Account Balances
Before Adjustment Income Effect
Type of Account (Understatement Increase
Adjustment Relationship or Overstatement) Adjusting Entry (Decrease)
1. Unearned revenue. L/R Liab. O Unearned Revenue
Rev. U Service Revenue 900

2. Accrued expense. E/L Exp. U Salary Expense

Liab. U Salaries Payable (600)

3. Prepaid expense. E/A Exp. U Rent Expense

Asset O Prepaid Rent (450)

4. Prepaid expense. E/A Exp. U Supplies Expense

Asset O Supplies (550)

5. Accrued revenue. A/R Asset U Accounts Receivable

Rev. U Service Revenue 750

6. Accrued expense. E/L Exp. U Utilities Expense

Liab. U Accounts Payable (200)

7. Accrued expense. E/L Exp. U Interest Expense

Liab. U Interest Payable (250)

Codes: A = Asset R = Revenue

L = Liability O = Overstatement
E = Expense U = Understatement

(b) Net income before adjustments ............................................................. $14,500

Add: Unearned revenue (1) ............................................................... $900
Accrued revenue (5).................................................................. 750 1,650
16,150
Less: Accrued salaries (2) ................................................................... 600
Prepaid rent expired (3) ............................................................. 450
Supplies used (4) ....................................................................... 550
Accrued utilities (6) ................................................................... 200
Accrued interest (7) ................................................................... 250 2,050
Adjusted net income .............................................................................. $14,100
Problem#4
Jordan Insurance Agency prepares monthly financial statements. Presented below is an income
statement for the month of June that is correct on the basis of information considered.

JORDAN INSURANCE AGENCY

Income Statement
For the Month Ended June 30
______________________________________________________________________________
Revenues
Premium Commission Revenue ................................................. $40,000
Expenses
Salary expense ........................................................................ $6,000
Advertising expense ................................................................ 800
Rent expense .......................................................................... 4,200
Depreciation expense .............................................................. 2,800
Total expenses ........................................................................ 13,800
Net income ..................................................................................... $26,200
Additional Data: When the income statement was prepared, the company accountant neglected
to take into consideration the following information:
1. A utility bill for $2,000 was received on the last day of the month for electric and gas service
for the month of June.
2. A company insurance salesman sold a life insurance policy to a client for a premium of
$20,000. The agency billed the client for the policy and is entitled to a commission of 20%.
3. Supplies on hand at the beginning of the month were $3,000. The agency purchased
additional supplies during the month for $2,500 in cash and $1,000 of supplies were on
hand at June 30.
4. The agency purchased a new car at the beginning of the month for $19,200 cash. The car
will depreciate $3,600 per year.
5. Salaries owed to employees at the end of the month total $5,300. The salaries will be paid
on July 5.

Instructions
Prepare a correct income statement.
Solution
JORDAN INSURANCE AGENCY
Income Statement
For the Month Ended June 30
____________________________________________________________________________
Revenues
Premium Commission Revenue ($40,000 + $4,000)................................ $44,000
Expenses
Salary expense ($6,000 + $5,300) ........................................................... $11,300
Advertising expense ............................................................................... 800
Rent expense .......................................................................................... 4,200
Depreciation expense ($2,800 + $300) ................................................... 3,100
Utilities expense ($0 + $2,000) ............................................................... 2,000
Supplies expense ($0 + $4,500) .............................................................. 4,500
Total expenses .............................................................................. 25,900
Net income $18,100
Problem#5

Solution:

a. Supplies Expense ......................................................... 5,171

Supplies ..................................................................... 5,171
($2,350 + $4,218– $1,397=$5,171)

b. Insurance Expense.......................................................... 6,874

Prepaid Insurance.................................................... 6,874
[4,720+(4,200X5/12)+(7,272X2/36)= 6,874]

c. Depreciation Expense.................................................... 56,000

Accumulated Depreciation……………......... 56,000
Problem#6

1. Dec. 31 Insurance Expense .............................................. 4,890

Prepaid Insurance ....................................... 4,890
[($7,920 ÷ 3) = $2,640
[($4,500 ÷ 2) = 2,250
$4,890]
2. Dec. 31 Unearned Rent .................................... 84,000
Rent Revenue ............................................. 84,000
[[Nov. 5 X $5000 X 2 months = 50,000
[Dec. 4 X $8500 X 1month = 34,000
$84,000]
3. Dec. 31 Interest Expense................................................... 1,800
Interest Payable ........................................... 1,800
($120,000 X 9% X 2/12)
4. Dec. 31 Salaries Expense.................................................. 2,000
Salaries Payable .......................................... 2,000
[5 X $700 X 2/5 = $1,400
[3 X $500 X 2/5 = 600
$2,000]
Problem#7

Kreutz Co. was organized on April 1, 2012. The company prepares quarterly financial
statements. The adjusted trial balance amounts at June 30 are shown below.

a) The net income is determined by adding revenues and subtracting

expenses. The net income is computed as follows:

Revenues
Commission revenue...............................................
$11,360
Rent revenue ..........................................................
1,100
Total revenues...................................................................
$12,460

Expenses
Salaries expense ....................................................... $7,400
Rent expense.............................................................. 1,200
Depreciation expense.............................................. 700
Utilities expense........................................................ 410
Supplies expense...................................................... 160
Interest expense........................................................ 40
Total expenses..................................................
9,910
Net income ...........................................................................
$ 2,550
(b) Total assets and liabilities are computed as follows:
Assets
Cash.............................................................................. $
5,360
Accounts receivable................................................
480
Prepaid rent ................................................................
720
Supplies.......................................................................
920
Equipment................................................................... $12,000
Less: Accumulated depreciation......................... 700
11,300
Total assets ....................................................... $18,780

Liabilities
Notes payable ............................................................ $
4,000
Accounts payable.....................................................
790
Salaries payable........................................................
300
Interest payable.........................................................
40
Unearned rent ............................................................
400
Total Liabilities ................................................. $
5,530

c) Kreutz Co., Capital at June 30, 2012, is as follows:

Kreutz Co., Capital, April 1 .......................................... $ –0–

Add: Investments .............................................................. $11,200
Net income................................................................ 2,550
13,750
Less: Drawings...................................................................
500
John Danks, Capital, June 30........................................
$13,250