Adjustments To Draft Financial Statements (Copy)

Accruals and Prepayments:
- Accruals: Income or expenses that have been incurred but not yet received or paid.
- Prepayments: Income or expenses received or paid in advance but not yet earned or incurred.

Type	Definition	Example
Accrued Income	Income earned but not yet received.	Interest earned but not yet received.
Accrued Expense	Expenses incurred but not yet paid.	Wages owed but not yet paid by period-end.
Prepaid Income	Income received in advance but not yet earned.	Rent received in advance for a future period.
Prepaid Expense	Expenses paid in advance but not yet incurred.	Insurance paid in advance for the upcoming year.

Irrecoverable Debts & Allowance for Irrecoverable Debts:
- Irrecoverable Debts: Debts deemed uncollectible and written off.
- Allowance for Irrecoverable Debts: A provision made for debts that may become uncollectible.

Type	Definition	Example
Irrecoverable Debt	Debts that are deemed uncollectible and written off.	A customer owes $200, but the debt is deemed uncollectible.
Debt Recovered	A debt previously written off is later collected.	A previously written-off debt of $50 is recovered.
Allowance for Irrecoverable Debts	An estimate of debts that may become uncollectible.	A provision for 5% of the total receivables amounting to $500.

Depreciation:

Straight-Line Method: Allocates an equal depreciation expense every year.

Formula:

Annual Depreciation = (Cost of Asset - Residual Value) / Useful Life

Example:

Annual Depreciation = (10,000 - 1,000) / 5 = 1,800 per year

Reducing Balance Method: Allocates higher depreciation in earlier years.

Formula:

Depreciation Expense = Book Value at Start of Year * Depreciation Rate

Example:

Year 1 Depreciation = 10,000 * 20% = 2,000

Inventory Valuation:
- FIFO (First In, First Out): Assumes the first items purchased are the first sold.
- Weighted Average Cost: Uses the average cost of all units available for sale during the period.

Method	Formula	Example
FIFO	The first units purchased are the first ones sold.	If the first batch of inventory cost $10 each, and the second batch cost $12 each, under FIFO, the $10 items are sold first.
Weighted Average	Average cost per unit = Total Cost of Goods Available for Sale / Total Units Available for Sale	If 100 units were purchased at $10 each and 200 units at $12 each, the average cost is: $(100\times10)+(200\times12)]/(100+200)=11.33(100 \times 10) + (200 \times 12)] / (100 + 200) = 11.33$ .

Correction of Errors:
- Types of Errors:
  - Omission: A transaction not recorded at all.
  - Commission: A transaction recorded in the wrong account.
  - Original Entry: Incorrect amount recorded.
  - Reversal: The debit and credit sides of a transaction are reversed.
  - Compensating: Errors that cancel each other out.

Error Type	Definition	Effect on Trial Balance	Example
Error of Omission	A transaction is completely omitted from the ledger.	Trial balance is out of balance.	A sale of $500 is omitted entirely from the records.
Error of Commission	A transaction is recorded in the wrong account, but with the correct amount.	Trial balance remains balanced but incorrect accounts.	A payment made to a supplier is recorded in the accounts receivable instead of accounts payable.
Error of Principle	A transaction is recorded in the wrong class of account (e.g., expense recorded as an asset).	Trial balance remains balanced but financial statements are misstated.	Purchase of equipment classified as an expense instead of an asset.
Error of Original Entry	A transaction is recorded incorrectly, either by the wrong amount or in the wrong account.	Trial balance remains balanced but the amount in the accounts is wrong.	A payment of $400 recorded as $40, leading to incorrect balances.
Error of Reversal	The debit and credit sides of a transaction are reversed.	Trial balance remains balanced but entries are incorrect.	A sale of $1,000 recorded as a debit to sales and a credit to cash.
Compensating Errors	Two or more errors cancel each other out.	Trial balance remains balanced but accounts are incorrect.	An overstatement of sales by $100 is balanced by an overstatement of expenses by $100.

Accruals and Prepayments: Adjust for income or expenses that need to be recognized in the current period, even if cash hasn’t been received or paid.
Irrecoverable Debts: Adjust for debts that are unlikely to be collected and recognize them as an expense.
Depreciation: Allocate the cost of tangible assets over their useful life using methods like straight-line or reducing balance.
Inventory Valuation: Use methods like FIFO or weighted average to determine the value of inventory.
Error Correction: Adjust for mistakes in the initial transaction recording to ensure accurate financial statements.

These adjustments help ensure that the financial statements reflect an accurate and fair view of the company’s financial position and performance.

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