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Question
deferred revenue adjusting entries
olney cleaning company had the following items that require adjustment at year - end.
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:
- prepare the adjusting journal entries needed at december 31. if an amount box does not require an entry, leave it blank.
december 31
december 31
- 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 prior to the performance obligation being satisfied (prior to the revenue being earned). the adjusting entries the previously created liability by the amount of revenue earned during the period. if these adjusting entries were not made, revenue would be and liabilities (unearned revenue) would be. in addition, the of revenue would result in an of net income. finally, because revenue is then closed to retained earnings, stockholders’ equity will also be
Step1: Calculate earned revenue for first contract
The amount of cash received in advance 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 will debit Unearned Service Revenue (to reduce the liability) and credit Service Revenue (to recognize the revenue).
Step2: Calculate earned revenue for second contract
The amount of cash received in advance for the second contract is $8,200 and the amount of services provided (earned revenue) is $3,070. The adjusting entry will debit Unearned Service Revenue and credit Service Revenue for $3,070.
Step3: Analyze effect on financial statements
When cash is received in advance, a liability (unearned service revenue) is created. Adjusting entries reduce this liability by the amount of revenue earned. If not made, revenue will be understated, liabilities will be overstated. Since revenue is understated, net income will be understated and since revenue closes to Retained Earnings, stockholders' equity will also be understated.
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1.
| Date | Account Titles and Explanation | Debit | Credit |
|---|---|---|---|
| Service Revenue | $8,660 | ||
| December 31 | Unearned Service Revenue | $3,070 | |
| Service Revenue | $3,070 |
2.
- 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 reduce 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.