Question

a. for one cleaning contract, $10,900 cash was received in advance. the cash was credited to unearned service revenue upon receipt. at year end, $2,240 of the service revenue was still unearned.
b. for another cleaning contract, $8,200 cash was received in advance and credited to unearned service revenue upon receipt. at year end, $3,070 of the services had been provided.
required:

1. prepare the adjusting journal entries needed at december 31. if an amount box does not require an entry, leave it blank.

december 31 unearned service revenue 8,660
service revenue 8,660
december 31 unearned service revenue 3,070
service revenue 3,070

1. what is the effect on the financial statements if these adjusting entries are not made?

in both of these cases, a liability (unearned service revenue) was originally created when cash was received prior to the performance obligation being satisfied (prior to the revenue being earned). the adjusting entries recognize revenue and decrease the previously created liability by the amount of revenue earned during the period. if these adjusting entries were not made, revenue would be understated and liabilities (unearned revenue) would be overstated. in addition, the understatement of revenue would result in an understatement of net income. finally, because revenue is then closed to retained earnings, stockholders’ equity will also be understated.

1. what is the balance in unearned service revenue at december 31 related to the two cleaning contracts?

Explanation:

Step1: Calculate earned revenue for first contract

The cash received for the first contract is $10,900 and the unearned amount at year - end is $2,240. So the earned revenue is $10,900 - $2,240=$8,660. The adjusting entry is to debit Unearned Service Revenue for $8,660 and credit Service Revenue for $8,660.

Step2: Determine adjusting entry for second contract

For the second contract, $3,070 of services have been provided out of the amount received in advance. So we debit Unearned Service Revenue for $3,070 and credit Service Revenue for $3,070.

Step3: Calculate ending balance of Unearned Service Revenue

The unearned amount for the first contract at year - end is $2,240. For the second contract, the unearned amount is $8,200 - $3,070 = $5,130. The total unearned service revenue balance is $2,240 + $5,130=$7,370.

Answer:

1.
December 31
Debit: Unearned Service Revenue $8,660
Credit: Service Revenue $8,660
December 31
Debit: Unearned Service Revenue $3,070
Credit: Service Revenue $3,070

1. Revenue would be understated, liabilities (unearned revenue) would be overstated, net income would be understated, and stockholders' equity would be understated.
2. $7,370