Accounting Essentials: The Art of Accruals & Prepayments

1. Introduction to the Course!: Ever found yourself wondering, what on Earth are accruals and prepayments? And what's with all these confusing terms flying around? Are the payables, are the receivables, year end adjustments? Welcome to accounting essentials, the art of accruals and prepayments. You one stop guide to understanding one of the trickiest topics in accounting. I'm Danish Ormsha, the voice behind the course and your mentor throughout the journey. I'm proud to say my courses have reached enns across the globe. My reviews speak for itself. The key topics we'll cover adjusting entries. Accruals, repayments, real world scenarios, financial statements, and my secret tricks, the cherry on the cake to make this concept stick. This course is filled with real world examples like this. A tenant pays rent in advance. Should it be recorded this year or the next, by the end of the course, we'll master such scenarios. Whether you're a beginner, just starting your accounting journey, don't worry. I'll break down everything step by step. And if you are an advanced student, already know the basics, this course will reinforce your knowledge or practical applications. And if you're already working in the field, this course will boost your confidence in handling accruals, prepayments, and adjustments. Whether you're an entrepreneur or running a business, you'll learn how to interpret your financials correctly, managing cash flow Smarter. So let's join hands. 2. Why Accruals & Prepayments matter in Accounting?: Everyone. Today we'll discuss why accruals and prepayments matter in accounting. Let's see four reasons why. Let's begin. Number one, helps ensure accurate financial accounting reporting. Without accruals and prepayments, financial statements would not reflect the true financial position of a business. Let's see with an example. Uh, for instance, if a company receives services in December but pays for them in January, and accrued expense ensures that the expense would be recorded in December and not in February. Now, this is a true and fair view of the financial statements. If accruals and prepayments are not accounted for, the company might record the expense in February. Why? Because that's when they paid the cash. But no, we follow the accrual basis of accounting. Reason number two helps comply with the relevant accounting standards. When I talk about accounting standards, I talk about IFRS or GAAP, the international financial reporting standards or the generally acceptable accounting principles. Now, this example what I just gave you, this is in compliance with the matching principle or the matching concept. I made a video on that. You can have a look in the first section. Reason number three, better decision making. Accurate financial statements help companies, owners, investors, and managers make informed decisions. Now, let's have a look at another example. If expenses are not accrued, that could understate liabilities. And when liabilities are understated, it could incentivize the managers to overspend. That's not a good thing. Let's talk about revenue. Now, if revenue is not recorded when earned, that could understate profitability, and this could definitely affect investment decisions. So accruals and prepayments, they have real world effects as well. Lastly, tax and complication issues could be avoided because Accrual accruals and prepayments, if they're incorrectly recorded, it could overstate to understate profits, and this could definitely affect tax calculations. It could also misreport the financial results, which could lead to potential penalties or audit risks. And in worst cases, it could give a modified audit opinion as well. So, guys, these were reasons why accruals and prepayments matter. See you in the next video. Thank you very much. 3. Difference between Cash Basis & Accrual Basis Accounting: Hi, everyone. Welcome to another crucial video in which we will discuss the difference between accrual basis and cash basis accounting. Now, accrual basis accounting records transactions when they occur very important, regardless of when cash is exchanged. This ensures that financial statements provide a true and fair view of a company's financial performance and position. Now let's see in more detail the accrual basis accounting. Number one, revenues are recorded when earned. This is very important. We don't care, even if the payment is received later. Revenue is earned when a company provides goods or services. So if I provided the service to you, that means that now I've earned the revenue. I fulfilled the obligation, and that's when we record the revenue. Now let's have a look at example. Let's say a web development company completes a project for client on 20 March. However, the client makes the payment on 10 April. Now, my question is when should we record the revenue on 10 April or 20 March? Well, under accrual accounting, the company records revenue on 20 March, not in April, because that's the date when the service was delivered. And this would help ensure that the financial statements show revenue in the correct period. That reflects actual performance. Number two, expenses are recorded when incurred. We don't care even if it's paid later, right? So expenses are incurred when a company receives goods or services. So if I receive the service from you, if I receive the goods from you, that's when the expenses would be recorded. Okay? For example, if a company buys office supplies on 5 May, and that's when they receive it as well. However, the payment was made on 5 June. Now, when should I record the expense? When I paid on 5 June? No, we received the services on 5 May. So that's the date where the expense would be recorded. This prevents financial statements from showing misleading profits by ensuring that expenses are recorded in the right period, okay? Thirdly, it's in compliance with the matching principle. I made a detailed video on the matching principle. You can have a look at that in this section. Let's have a look at a scenario. A company pays rent for six months in advance. For example, I owned the company. I paid the rent in the month of January for six months at once. Now, should I record the entire amount in the expenses of January? No. If I do that, then in the month of January, my profit would reduce significantly because the entire expense for six months is recorded in the month of January. So it's very important to understand the company records this as a prepaid expense and recognizes rent gradually each month. Now, as the company incurs the expense, as it realizes the expense each month, that's where the expense would be recorded. I won't record the entire expense for a certain month. Now, this same concept applies in depreciation. I made a video on that as well. There's an entire course on depreciation. You can have a look at that. Next, it's in compliance with accounting standards. The accrual basis is required under IFRS and GAAP. Public companies, corporations, and large businesses must follow this method. So basically, it's a requirement for large companies, corporations, listed companies, et cetera. Who use the accrual basis of accounting? Well, it's used by medium to large businesses, public limited companies who are registered in the stock market and businesses that need external financing or investors. If a company requires external funding, they would only get that if they're following the accrual basis of accounting because that's the most genuine and accurate picture of the financial reports. Now on the contrary, let's see the cash basis of accounting. I won't go in so much detail. It's just the exact opposite of accrual basis. So over here, revenues are recorded only when cash is received, and expenses are recorded only when cash is paid. This does not follow the matching principle, and it's often used by small businesses or freelancers, if you want to record your own personal income. You could do that by following the cash basis of accounting. So, guys, that's it for today. See you in the next video. Thank you very much. 4. Real- World Relevance & Application: Hi, everyone. Today, let's have a look at the real world relevance and application of accruals and prepayments. A law firm provides legal services in December but sends out the invoice in the month of January. Now when should this income be recorded? Well, we don't follow the date of the cash flow. We follow the date when the revenue was incurred or earned. So under the accrual basis, the law firm should record the revenue in December, even though cash would be received later. Now, this ensures that the revenue is recognized in the period when the work was done. I told you in the first videos that once the obligation is fulfilled, once we provide the goods or services, that's when we earn the revenue. Even if we are paid the income three months later, it should be recorded when the work is done or earned. Next, a company pays rent for six months in advance. We saw this in the previous video. The company records this as a prepaid expense and recognizes the rent gradually each month instead of all at once. So this prevents overstating expenses in one period. So if I don't record a prepaid expense, then the month in which the rent is received six months at once, expenses of that month would be highly overstated, isn't it? Now, that could obviously lead to inaccurate financial reporting. Next, a software company sells a 12 month subscription of $1,200, and all payment is received at once. So for instance, in the month of January, I received $1,200 for 12 months, for the entire year, I received this payment in the month of January. My question to you is, should I record the entire income for the month of January? No, because I did not yet earn it. As the customer uses the subscription each month, that's when I realize the income each month. So what I would do is I would divide this by 12 and I would get $100 per month. So $100 would be recorded each month. The remaining amount would be treated as un earned revenue until the services are provided. We would see this in detail in the next section. A clothing manufacturer receives a bulk shipment of fabric in November but agrees to pay the supplier in January. Now, again, when should we recorded? Well, an accrued expense would be recorded in November, reflecting the cost of the fabric when received, even though the payment is deferred. In short, to sum everything up, we don't follow the date of cash flows. We follow the accrual basis of accounting. We do not follow cash flows. See you in the next video, guys. Thank you very much. 5. Background of Matching Concept: Hello, my genius accountants. Welcome back to our next video. In this video, we would cover the most complicated accounting concept, which is called the matching concept. Now, students find this concept the most troublesome and the most difficult. So I will try to ease all complexity, so don't worry. Now, if I could summarize the matching concept in one sentence, so that would be that timing is everything. Timing is the most essential component of this concept. Let's dig right in. There are two crucial elements expenses and revenue. So expenses are the costs to run the business, for example, electricity, salaries, gas. Okay, those are old expenses to run the business. Revenues are the incomes earned from the business, from the co activity of the business. Now, there's a relation between both these elements. Expenses are incurred to earn revenue. The only purpose of paying expenses is to earn income. If you own a school, why do you pay your teachers? Because you love them? No, you pay your teachers so that students could come. You can earn school fees or earn income. So expenses are incurred to earn revenue and revenues are earned to pay expenses. All the expenses, how are they managed from the revenues from the income of the business? So expenses and revenues are interrelated. They are interlinked, okay? So it's very, very important to make sure that expenses are recorded in the same period as the revenues they help generate. Okay, that is very, very important. This is the matching concept. The timing of the expenses must match with the income it helps to generate. So let's have a look at some examples I prepared for you all. Number one, commissions, okay? So commissions are given to salespersons. When they generate a sale, they are given a bonus. So that is called a commission. So a company pays its sales staff a commission of 10% on sales. If a salesperson makes a sale worth $10,000 in December, and if the commission is paid in January, that would be recorded in December because the sale was generated in December, so the related expense must also be recorded in December. We don't care when we pay the expense. The expense must match with the income. Okay? This is the matching concept. Next, advertising. Now, a company launches a six month advertising campaign commencing from December 2023, costing $20,000. So December 23, January 24, March 24, April 24, May 24, up to June 2024. These are six months. This is a marketing campaign. Now, even though some of these expenses, they are paid from January, February, March, April. But these expenses would be recorded in December because that is the revenue period, okay? So we have to make sure that whatever expenses are paid, they must relate with the income period, okay, regardless of the fact that whenever the expenses are paid, we don't care about that. We don't mind. What is that when does the income cycle begin? That's where the expense must be recorded. Let's have a look at a more technical example, depreciation. We will study this later on, okay? We'll cover this in detail. So consider a company buys machinery for $100,000 expected to last ten years. So if I calculate the depreciation from the straight line method, we could divide 100,000 by ten. So the machinery will lose value by $10,000 every year. Okay. Now, what the business could do, they could record this entire depreciation expense of $100,000 10,000 times ten, the entire depreciation expense in the current year. But that's not what they're going to do. They will spread the cost over ten years because this machinery would generate revenue for ten years. So the depreciation should be recorded in each year separately. I can't write all of that together in the first year because the machinery will generate revenue in the consecutive years. This is the matching concept. Okay, next example, bad debt. Now, we'll cover this chapter in more detail in our successive chapters after this playlist. So suppose XYZ Limited sold goods on credit to Mark on 1 December 23 with an agreement to pay within 60 days. So the sale was done on first of December and XYZ Limited expected to receive payment on 1 February, okay? On 1 February. However, this person, Mark, he ran away. He fled the country, okay? Mark fled the country and failed to repay us. So this bad debt occurred on 1 February. Now, even though this expense incurred on 1 February, the bad debt would be recorded at the time of the sale, which is 2023. Okay? This is the matching concept that we don't care when expenses are paid. They must be recorded in that period where the income was generated. As I told you at the beginning of this video, that expenses and incomes are interrelated, right? So the closing remarks before I move to the closing remarks, there's one more example of rent. Let's have a look at this example. John paid the rent of December on 2 February. Now, even though he paid this rent on 2 February, this rental expense relates to the period of December 2023. So this rental expense would not be recorded on 2 February, rather, it would be recorded in December 2023, because that's when the income was supposed to be generated. This rent expense was of December, okay? John paid us in February, even though he was supposed to pay us in December. So this rent would be recorded for the month of December. Okay? Expenses and incomes are related. They must be recorded in the same period. Now, the closing remarks, expenses are recorded in the same period as the related revenues, regardless when the payment was actually made. We don't care when the payment was made. What we care about the revenue period. So that's the matching concept, see you in the next video. Thank you very much. 6. What are Accruals?: Hi, everyone. In this video, we would be discussing what are accruals. Let's get started right away. Accrual refers to expenses incurred that have not yet been paid. Now, how does a company incur expenses? Well, it's very simple. Expenses are incurred when a company receives goods or services, and they would have to pay the respective cost. Those are expenses, but this is accrual, remember? So goods and services received, but the company has not yet paid for them. These are known as accrued expenses. The other perspective could be in terms of revenue incomes. That's very simple. Revenues earned that have not yet been received. These are your accrued revenues or accrued incomes. Now, how does a company incur revenues? Very simple. When a company provides goods or services, that's how they earn revenue. So accrued revenue means goods or services provided, but not yet received the payment. There are different names of accrued. Let's have a look. There's unpaid owing and arrears. These are all the different names of accrued. So if you encounter all these names in the accrual and prepayments course, you must not get confused. They all refer to accrued. See you in the next video. Thank you very much. 7. Difference between Accrued Expenses & Accrued Incomes: Everyone in this video, we would be discussing the difference between accrued expenses and accrued incomes. So now I'm sure you all know what accruals, accruals are transactions in which receipt of cash or payment of cash has not yet been taken place, but the expenses and incomes have been incurred. They are essential to ensure financial statements reflect the true financial position of a company. Let's dig right in accrued expenses and accrued incomes. Accrued expenses are expenses that have been incurred but not yet paid by the company at the end of an accounting period. It means the company has received the goods or services, but they've not yet paid for them. They are recorded as liabilities. Now, why are they liabilities? Because now it's a financial obligation, a burden the company has to repay. Accrued incomes. They are revenues that have been earned but not yet received by the company at the end of an accounting period. In other words, the company provided GoTo services, but they are yet to receive the payment in exchange for those services. These are assets because the company has a right to receive the money in the future. Let's have a look at some examples of accrued expenses, accrued salaries and wages. So employees, for instance, they work in December, but their salaries are paid in January. So the company must record an accrued salary expense in December. Accrued rent. A business occupies office space in December, but will pay the rent in January. Now, the cash outflow is taking place in January, so the rent must be recorded in December as an accrued expense. Accrued interest on loans. A company takes a loan and owes interest, but the payment is due next month. So it's very important that the interest expense must be recorded in the period it accrues, not when it's paid. Let's have a look at examples of accrued incomes now, for example, accrued service revenue. Let's assume a consulting firm completes a project in December but invoices the client in January. So it means that the payment would be received in January. So it's very important that the company must decode accrued revenue in December, as the service was provided in that month, accrued interest income. So in this, we would assume that the company has given a loan to another entity, and they earn interest every month. So they earn interest every month, but the interest is not paid every month. The interest is paid quarterly. It basically means that the interest is paid every three months. January February March, that's the first quarter, April, May, June 2, July, August, September 3, and October, November, December the fourth quarter. So instead of being paid monthly, the interest is paid quarterly. Now, even if the interest is received later, it must be recorded as accrued income each month. We would see examples in detail about all this. Then this accrued rent income a landlord rents out office space in December, but the tenant pays rent in January. The rental income must still be recognized in the month of December. So we would book an accrued income in the month of December. So, guys, these were some basic examples of accrued expenses and accrued income. In the next videos, we would cover this in more detail. Thank you very much. 8. Adjusting Entries of Accruals Explained: Hi, everyone. Today we are discussing a crucial video, the journal entries of accruals. What is the accounting treatment of accruals? Let's get started. So just to remind you all, accrued expenses are recognized in the period when the company consumes goods or services. In other words, when the company receives goods or services, regardless of whenever the payment is made, we don't care whenever the payment is made, we record an expense, and this is in line with the relevant accounting standards and the matching principle. And this ensures that expenses are recorded in the same period as the revenue they help generate. Let's have a look at an example of employee salaries. So let's assume that employees work in December, but their salaries are paid in January. Even though cash is not paid in December, the expense must be recorded in the month of December when the employees actually worked. Now, let's assume that the salaries are $5,000. Let's see the journal entry. So first, let's see the journal entry when the expense is incurred. Now, my question to you all, pause the video, and tell me which month was the expense incurred? In the month of December or the month of January, pause the video and tell me the answer. Right, the expense was incurred in the month of December, okay? Because that's when the employees worked. In other words, that's when the employees gave the company their services, right? So in the month of December, what entry should we pass? Now, I prepared a very simple debit credit rule known as the Dead click rule. I uploaded the video in the first section of this course. You can watch that video. You would understand everything very smoothly what to debit and what to credit. And if you're still having problems, you can watch another course I made on the basics of accounting, the zero to hero beginners accounting and bookkeeping boot camp. That's in the same platform. You can watch that as well if you're still having problems with debit and credit. Right. General entry when the expense is incurred, very simple. We would debit salary expense with $5,000. Now, why am I debiting salary expense? Because the expense is increasing? Now, what should I credit? That's the most important thing. Should I credit cash? No, I can't credit cash because we did not pay any cash in the month of December. So what we would do, we would credit accrued salaries with $5,000. Now, crediting accrued salaries means that I booked a liability, right? I created a temporary liability known as accrued salaries, right? Because of unpaid expenses, the company did not yet pay the salaries to the workers, so that's a temporary liability. Now the second general entry is when the expense is finally paid. Now, when the expense is paid, it means that the liability is now over. Over. So we would debit accrued salaries with $5,000, ensuring that the liability is finished, and we would credit cash with $5,000. And this way, we eliminated the liability from the books. So this is the general entry of accrued expenses. Let's have a look at another example. Accrued rent. A business uses office space for December, but rent is paid in January. They consumed the services in the month of December, but they did not yet pay the rent. The expenses incurred in December and must be recorded in that period. So again, let's see the journal entry when the expense is incurred. Expenses are increasing. So we would debit rent expense. Let's assume it's $3,000. What should we credit now? Should I credit cash, bank, accounts payable? No, there's no payment made at all, right? So I would create a liability known as accrued rent. That's a temporary liability we created until we pay off the rent. This liability would continue to exist in my books. Now let's have a look at a journal entry when the expense is paid. Now, when I paid the expense, it means I paid my liability, right? So I would debit accrued rent with $3,000 and credit cash by $3,000, and I've officially eliminated the liability. So these were the general entries of accrued expenses. Now, let's have a look at accrued incomes. So revenue is recognized when goods are delivered or services provided, even if cash has not yet been received. Now, me, my company, we delivered goods or services in the month of January and were paid in the month of March, right? So we don't care that when you receive the cash, we will book an income. Okay? This ensures revenue is recorded in the correct period when you actually earned the revenue. I earn the revenue in the month of January because that's the month where I delivered the goods or services. Now, let's have a look at the service revenue. Now, service revenue is accrued income. A consulting firm completes a project in December but invoices the client in January. The revenue is earned in December, so it must be recorded in December. Now, let's have a an example. The general entry when the income is earned in the month of December right. Now, what should I debit? I did not receive any cash, so I can't debit cash, right? So I would create a temporary asset, known as accrued revenue, accrued service revenue. That's a temporary asset. Let's assume it's $5,000. And I would credit the actual revenue service revenue for $5,000. So I basically created a temporary asset. Until I don't get that amount. This asset would appear in my books. Now, let's see the genial entry when we actually receive the cash. Now we received cash. So my asset is increasing. So I would debit cash with $5,000. And remember, we created a temporary asset. It's time to remove that from the books. Why? Because now we actually received the cash. So now it's time to close the temporary asset. So I credited accrued revenue by $5,000, and now the asset is out from the books. Let's have a look at the final example, interest income. Very, very interesting. Let's have a look. For example, a company lends money and earns interest every month, but the interest is only paid quarterly. Even if cash is received in March, the company must record January and February interest as accrued income, and the total interest for the year was $6,000. Now let's assume the company lent or gave a loan to another entity. And whenever the lender provides a loan to someone, he earns interest, right? The interest is earned every month, but it's paid quarterly. Now, how many quotas are there in a year? There are four quarters. The first quarter is January, February, March. The second quarter is April May, June. The third quarter is July, August, September, the final quarter is October, November, December. So let's assume the total interest for the year is $6,000. So if I want the interest per month, I would divide $6,000 divided by 12, and I would get $500. So $500 is the interest every month. Now, let's have a look how to attempt this question. So first, let's recognize the interest earned in the month of January. Okay? So the interest earned in the month of January would be $500, $6,000 divided by 12. Did I receive any cash in the month of January? No. So what should I debit? I will create a temporary asset because I would receive this amount in the month of March. So I'll create a temporary asset with the name, accrued income. Right. Now let's have a look at interest income. Very, very interesting. A company lends money and earns interest every month, but the interest is only paid quarterly. Even if cash is received in March, the company must record January and February interest as accrued income. And the total interest for the year was $6,000. Now, let's assume your company lent or gave a loan to another entity. And whenever the lender gives a loan to someone, he would earn interest. That's his income. Now, interest is one of the most sophisticated income you will encounter in the accruals and prepayments course. So it says that the interest is paid quarterly. So how many quarters are they in a year? There are four quarters. January, February, March is one quarter, April May, June is the second quarter, July, August, September, the third quarter, and October, November, December is the final quarter. Okay? So interest is earned every month. So I would divide $6,000 by 12. I would get $500, right? But what's the catch? I earned 500 in January. I earned another 500 in February. I earned another 500 in March, then the sum of all three, I would get this in the month of March. I would not get 500 in January, 500 in March in February and 500 in March. I would get the sum of all three, $1,500 collectively together in the month of March. So let's do the accounting of this. So if the total interest is $6,000 divided by 12, we get $500. Let's pass the general entry, recognizing the interest earned in January. So did I receive cash in January? No, so I can't debit cash. I'll create a temporary asset in the month of January, as is interest income. I would get this in March. So until then I would create a temporary asset. Right. So I would debit accrued income by $500. Creating an asset, and I would create my income of $500. So basically, I recorded my true income right now, right? And created a temporary asset $500. Now, let's recognize the interest earned in February. Again, in the month of February, I earned another $500, but I did not receive it yet. So what would I do? I would create another temporary asset with the name accrued income. All right? So I debited accrued income by 500 and I created my income $500. So I credited interest income with $500. So basically, I'm recognizing my income. As we are incurring the income, as we are earning the income, I would be recording my income and booking a temporary asset until I get all my money back. Right now, let's look at the month of March. Again, I would debit accrued income by $500 again because I earned it in the month of March. So I created another temporary asset in the month of March, $500. Now comes the month of March. This is when I would actually receive $500. So 500 January plus 500 March. Plus 500 February. So I would get 1,500 now. I received cash, so I would debit cash, and I would finish my asset. I eliminated the asset from my books in the month of March, so I credited accrued income. So this is how you deal with accruals, accrued income and accrued expenses. See you in the next video. Thank you very much. 9. What is Accrued Interest Income?: Hi, everyone. I warmly welcome you to a critical video today, accrued interest income. Let's dig write in. Now, what is accrued interest income? Well, accrued interest income refers to interest that has been earned but not yet received in cash. It arises when a company either lends money or invests in bonds. But interest payments are not received immediately. They are scheduled for future dates. This is very common if you invest in banks, if you invest in investment companies. The company records interest as revenue in the period it's earned, even if cash will be received later. This is what we learned. When you earn something, incomes or expenses, that's when you record them. No when cash is received or paid. Moving on. How to calculate interest? This is very important. It's actually very straightforward. For example, let's say the loan, a company lent a loan worth $120,000, and the interest rate is 8%. This means that 8% is the interest for the entire year. Annually. So what we would do is that we would multiply $120,000 into 8%. So you'll get $9,600. This is the entire interest expense, sorry, the interest income for the year you will receive. And if I ask you, what's the interest for the month, how would you calculate that? Well, it's very simple. You know, they are 12 months in a year. So $9,600 divided by 12, you would get $800. This is how interest is calculated. Now, let's see the accounting treatment of accrued interest. Where does accrued interest income go in the financial statements? First, we will talk about the statement of financial position. Well, accrued interest income is an asset. And that would be recorded in the current assets section if the income is expected within a year. Most commonly, it is expected within a year. If it's expected more than a year, then it would go under the non current assets section. And any cash received or amount received in your bank, that would also appear under the current assets. Now let's talk about the statement of profit and loss. The interest income for the year. I'm not talking about the cash received. The total interest income incurred, whether received or not, that would be reflected under other income or investment income in the statement of profit and loss. This would ultimately increase the profits. Now, let's have a look at a comprehensive example. Apple Incorporation invests $5 million in corporate bonds on first of January. So the first day of the year on New Year's Eve, they invested $5 million in corporate bonds. They would receive an interest of 5% per annum. So 5% is the total interest for the year. But the interest payments they would receive twice a year. After every six months, meaning in June and December, they would receive their duly interest. So let's calculate the interest very simple. I just showed you $5 million multiplied by 5%. So two $50,000 is the interest for the entire year. However, this would be split into multiple payments. Half of the interest would be received in June, and the other half would be received in the month of December. So I'm going to show three separate journal entries. The first journal entry would be created on 1 January where the interest income would be recorded. So let's record the interest income. Interest receivable would be debited by $50,000. That's the temporary asset. That's the accrued income. And the total income for the year interest income, two $50,000 on the credit side, this would appear in the statement of property loss. That's the total interest income for the entire year. Now, let's talk about June where cash was received. So now, cash would be debited, and the temporary asset would be reduced because now you receive the cash, so the temporary asset, the balance would fall with the cash amount. So if I ask you, how much balance is left in the temporary asset or how much balance is left in interessiable, post the video and think for a moment. Well, it's very simple. $250,000 was the balance of your asset in January. In June, it reduced by $125,000. So the balance that's pending is $125,000. Now, let's talk about December. You received cash, so we'll pass the same entry. Cash will be debited by $125,000. And the temporary asset, the interest receivable, the accrued income, that would reduce by $125,000. So this is how you deal with accrued interest income. See you in the next video. Thank you very much, everyone. 10. Accrued Expenses - Real World Scenarios: Hi, everyone. Welcome to the next video. Today, we'll discuss a case study on accrued expenses. Let's get started. Now recall the treatment of accrued expenses. We don't care when the expense was actually paid. What matters is when was the expense incurred. The first example is Tesla Incorporation. So Tesla Incorporation pays employees salaries on the fifth of each month for the previous month's work. So this means if the employees worked in December, their salaries would be paid on January 5. So I preparate an example. Let's assume the total salary expense for December is $50,000. The company must record the expense in December, even though payment happens in January. This is the accrual basis of accounting. So let's have a look at the accounting treatment. So salary expenses would be debited by $50,000, and we'll book a liability, a temporary liability until it's not paid off. This would appear in the books for $50,000. Now, at the time of payment on 5 January, the liability would be eliminated, so it would be debited, and cash, the outflow would be credited. That's $50,000. Mistakenly I wrote $10,000. Now, let's have a look at another example. Google. So let's say Google offers an annual performance bonus of $1,000,000 to employees based on yearly results. Now, employees earn the bonus in December, but payment is made in March after three months. The company must record the expense in December, even though cash is paid later. So let's record the accrued bonus. Now, see, we created the expense. This expense would be reflected in our books in Google's books, even though it's not actually paid because accounting is accrual basis, and the liability, accrued bonus would be credited. Now, at March, when it's paid, the liability would be finished, so it would be debited and the cash would be credited. Let's have a look at another example. Apple, I'm sure you all know Apple. So let's say Apple hires a law firm for a patent dispute in December, but the law firm bills Apple in February for $750,000. Now, even though the expense is incurred or generated in December, payment is made in February, that doesn't matter. The expense would be created in the month of December, legal fees would be debited, and accrued legal fees, the liability would be credited. No time to pay. The accrued legal fees, the liability would be finished because now it's actually paid, and the cash outflow would be recorded. So, these were some accrued expense case studies. I hope you understood it well. See you in the next video. Thank you very much. 11. Accrued Incomes - Real World Scenarios: Hi, everyone. Welcome to the next video. Today, we would be solving a case study on accrued incomes. Let's get started. I would be talking about a company Blackstone. Blackstone is a real estate company, and we would be focusing on accrued rental income. So Blackstone, a real estate company leases out a more space to Nike for $50,000 per month, starting on first January. So basically, Blackstone is the landlord and Nike is the tenant. The lease agreement states that rent is due every three months, but revenue is earned monthly. So it basically means, for example, if the rent is $50,000 per month. So instead of Nike wouldn't pay $50,000 every month, rather, Nike would pay $150,000.03 months upfront in the month of March. So the company must recognize, in other words, Blackstone must recognize January's rent, February's rent. March is rent, even though the payment happens in March. So let's see the accounting treatment. Well, let's talk about accruing rent revenue. On the end of January. Right. So we would debit rent receivable. So rent receivable is the accrued income, basically, $50,000, and rental income would be credited $50,000. So basically, we booked our income. We created the income, despite the fact that there's no inflow of cash. We still created the income by creating a temporary asset. Rent receivable or accrued income is a temporary asset. Until it's not received, it would appear in the books. Now let's fast forward to the month of March. I would pass the same entry above what I just prepared in the month of January, same entry for February, same entry for 1 March. However, at the end of March, we actually received the payment. So what we would do now is cash received. So cash would be debited $150,000 because that's the sum of three months, and we would eliminate the temporary asset from the books of account. Basically, I skipped the accruing rent revenue of February and the accruing rent revenue of 1 March. Let's have a look at another example. Amazon Prime. I'm sure you will use it. Amazon Prime offers a six month business subscription to a corporate client for $12,000, payable at the end of the subscription. What a generous and beautiful offer. The corporate client would use Amazon Prime for six months, and at the end of the six month, that's when he'll pay lump sum $12,000. There's a small catch. Amazon Prime earns revenue monthly, even though the client pays later. So this is probably a special offer to a client. However, they earn revenue monthly. So in the month of January, February, March, April, May, June, so $12,000 divide by six months, $2,000 per month, we would record income up till the end of the subscription. So let's record January 1, 31st of January. So the subscription receivable, the accrued income would be debited by $2,000, and the subscription income would be credited by $2,000. So this entry would be passed every month in January in February and March, in April, May, June. At the end of June, your asset would amount to $12,000 and your income would amount to $12,000. Now, time for the cash payment. They received cash of $12,000, and the asset has been eliminated from the books, which is why subscription receivable went on the credit side signifying the asset is no more in the books. Let's see. Another example about YouTube. YouTube runs a video ad campaign for a company in October, but the advertiser pays in December. The total ad campaign costed $80,000. Since ads ran in October, revenue must be recorded in October. So the entire campaign took place in October, okay? Now, even though there was no cash received, we would still record the income. So advertising receivable, this is the accrued income. The temporary asset of $80,000 would be created, and advertising revenue or advertising income would be credited by $80,000. All right? Now, come to December, the time for payment. The entire payment was received. So now cash would be debited and the temporary asset would be eliminated from the books. This is why advertising receivable is on the credit side by $80,000. So this is how you do the accounting for accrued income. See you in the next video. Thank you very much. 12. Purpose of Accrued Adjusting Entries: Hi, everyone. Welcome to the next video. In this video, we will be talking about the purpose of accrued adjusting entries. Let's get started. First, we would be talking about accrued expenses. Well, the first purpose is for accurate expense recognition. Adjusting entries for accrued expenses basically ensures that expenses are recognized in the period they're incurred, providing a true representation of profitability. So expense are recognized once they're incurred, not paid. Consider a company that reviews utility services for December but won't be billed until January. Now, we did such examples many, many times. Even though the cash outflow would happen in January, that doesn't matter. The expense was incurred in December, hence the adjusting entry would be recorded in December to accurately reflect the financial position. This is done by making an adjusting general entry where utility expense would be debited and utilities payable would be credited. Utilities payable basically is the accrued expense. It's a liability, and it's a temporary liability which would be reflected in the statement of financial position until it's paid off. Moving on, compliance with accounting principles. Now adjusting entries for accruals basically aligns the financial records with GAAPOIFRS which require revenues and expenses to be recorded in the periods they're earned or incurred. The cash flows are not being followed. In other words, cash basis of accounting is not in line with the accounting principles. So consider a company that borrows $6,000 at an annual interest rate of 12% on 1 August 2021. The loan and interest are due for payment after one year. Now, even though the interest is due after one year, the financial year ends on 31st of December. Even though there's no interest that has been paid, but the company has actually incurred the interest expense for five months, right? So to follow the matching principle, the company would record an adjusting entry for interest expense payable. Moving on, adjusting entries for accruals are also needed to correct errors and omissions. Basically, they rectify inaccuracies in the initial recording of financial transactions, which helps to maintain the integrity of financial records. Now, I prepared an example. For instance, if a utility expense incurred in March was mistakenly unrecorded, adjusting entry in April can correct this oversight by debiting the utility expense account and crediting accounts payable. This basically is an error of omission. Now, let's have a look at the accrued incomes. Why do adjusting entries happen for accrued incomes? What are the purposes? Well, for accurate revenue recognition. Now, adjusting entries ensure that revenues are recorded in the period where they actually earned regardless of when cash is received. For instance, a consulting firm completes a project in December but invoices the client in January. Despite the fact that the service and obligation was fulfilled in December, the invoice was received in January. That doesn't matter. The adjusting entry would be made in December to record the revenue that has been earned. This would ensure that the statement of profit and loss reflects the revenue in the correct period. Secondly, again, this is also in compliance with the accounting principles. It's in line with GAAP and IFRS, which requires the revenues and expenses to be recorded when they're actually earned or incurred. Now, I prepared another example for you. For instance, a software company offers a one year subscription for $200 paid upfront straightaway. Now, the company would not record the entire income first month, one $200 would not be recorded straightaway, rather, that would be divided by 12 months. And as the time goes by, as they provide the services, as the customer uses the software, that's when they earn the revenue, and they would record an adjusting entry to show the accrued income. And this is in line with the revenue recognition principle. Moving on, adjusting entries for accrued incomes are done to reflect the actual financial activity. So basically, accounts for transactions that have been occurred, but not yet recorded. They ensure financial statements reflect the company's true financial activity. So adjusting entries for accrued incomes, such as income earned but not yet billed, ensure that the financial statements reflect all the earned income, even if payment has not yet been received in a nutshell. The entire purpose of adjusting entries, accounting for accrued expenses, accounting for accrued incomes, the main primary core principle is to make sure that your financial statements present a true and fair view in all material respects. So, guys, that's it for today. See you in the next video. Thank you very much. 13. What are Prepayments?: Hi, everyone. In this video, we would be discussing what are prepayments. Let's get started. Prepayment refers to expenses paid for, but benefit yet to be received. These occur when a business pays for an expense upfront, but the benefit will be received over multiple future periods. So basically, you paid for services, you paid for goods, but now you are yet to receive those items or services. Now, let's have a look at the income perspective. Prepayment refers to revenue collected in advance, but benefit yet to be given. Now, this is also known as unearned revenue. It basically means that the company receives cash in advance for services or goods it has not yet delivered. And until the service is provided, the amount would be considered a liability. So if I give you an example of airline companies like, Emirates, Etihad, United Airlines, et cetera, they receive cash before the flight. And they are yet to provide the flight services to the passengers. That's known as unearned revenue. Other names of prepaid, very simple. There's advance and DFID. This is the revenue portion. It's also known as unearned revenue or DFRDRvenue. I made detailed videos, so see you there. Thank you very much. 14. Difference between Prepaid Expenses & Prepaid Incomes: Hi everyone. In this video, let's see the difference between prepaid expenses and prepaid incomes. Let's get started. Prepaid expenses are expenses that are paid in advance for goods or services it would receive in the future. Now the most important part, the amount is initially recorded as an asset and gradually expensed over time. So basically, when the company pays in advance for something, it would create a temporary asset until the benefit it receives in exchange of the prepayment would be completely realized. On the other hand, prepaid incomes are incomes that are received in advance for goods or services, it has not yet delivered. So the most important part, the amount is recorded as a liability and gradually recognized as revenue. When the service is performed, or product is delivered. So basically, the company creates a temporary liability until it provides the services or goods and services and gradually recognizes it as revenue. Let's see some examples for prepaid expenses. There's prepaid rent. A company pays six months of office rent in advance. There's prepaid insurance. A business pays for one year insurance policy upfront. There's prepaid advertising. A firm prepays for three month ad campaign but expenses it monthly, and there's prepaid software licenses, a company pays $1,200 for one year subscription and recognizes $100 per month. Let's have a look at examples of prepaid incomes. There's advanced subscription payments, a streaming service like Netflix collects a yearly subscription fee upfront, but recognizes revenue monthly. There's prepaid consulting fees, a law firm receives a $20,000 advance for six month project and recognizes revenue as work is completed. They are prepaid airline tickets where airlines collect money for flights before passengers travel and recognize revenue only when the flight occurs. So basically, the true revenue would happen when they deliver the service at the time of the flight. When they collect the money, they would create a temporary liability known as prepaid income or also unearned revenue. The prepaid gym memberships, a gym collects annual membership fees upfront, but records revenue monthly. So these were examples of prepaid expenses and prepaid incomes. See you in the next video. Thank you very much. 15. Prepaid Expenses - Adjusting Entries: Everyone in this video, we would be discussing the journal entries of prepaid expenses. So let's get started immediately. Prepaid expenses, they occur when a company pays for an expense in advance and recognize it gradually over time as the benefit is consumed. So the company pays first and receives benefits later. It's recorded as an asset on the balance sheet. So basically, a temporary asset would be created. And as the benefit is used, the asset would slowly, slowly be transferred to an expense. Let's have a look at the journal entries. Well, an example is of prepaid rent. The company pays $12,000 on 1 January for six months of office rent. The company will recognize $2,000 as rent expense each month. So let's have a look. At the time of payment on 1 January, the company paid $12,000. So there was an outflow of $12,000. So the company would credit cash with $12,000. That's pretty simple. But now the question is what to debit? This $12,000, this does not relate to January only. It relates to the entire six month period. So what we would do is that we would create a temporary asset because this benefit, the company has to receive over six months. So we'll create a temporary asset, and as the months go by January, February, March, April, May, June for six months, every month would slowly slowly transfer a small portion from the asset to the expense. So I would debit prepaid expense and asset by $12,000, and I would credit cash by $12,000. Now, let's see, at the end of the month, what's going to happen. At the end of the month, we would recognize $2,000. So basically, I would divide $12,000 by six. So now I will transfer the prepaid expense to the I would transfer the prepaid expense to the actual expense incurred, which is rent. So now let's do it. Now my rent expense would be incurred by $2,000. And I would finish the asset by $2,000. Now let's have a look at prepaid insurance. A business pays $6,000 on 1 January for one year insurance policy. The company will expense 500 per month over 12 months. So let's see. Now, at the time of payment, there was an outflow of cash. There was an outflow of cash by $6,000. So we'll create a temporary asset because the company would receive the benefit of insurance throughout the year, throughout 12 months. So as time goes by, when they earned the benefit, that's when they would record the expense. So now a temporary asset again would be created prepaid insurance by $6,000, and cash would be credited by $6,000. Now, let's have a look at the end of the month. Now we will finish our asset by $500, basically, and the true expense of insurance would be recorded. So we would debit insurance expense by $500 because the expense is increasing, right? And we would reduce our asset by $500. So I would credit prepaid insurance by 500. So now if I ask you, one month is gone by. How much What is the balance of our asset? What is the balance of prepaid insurance? Well, the balance is $5,500. The company is yet to receive insurance benefits worth $5,500 now from February onwards up to December. See you in the next video in which we would discuss unearned revenue or prepaid income in detail. Thank you very much. 16. Unearned Revenues - Adjusting Entries: Hi, everyone. In this video, we will discuss a very critical concept, unearned or deferred revenue. Let's get started. Now, what is unearned Unearned revenue is money received by a company before delivering goods or services. In other words, they receive money in advance for services that they have to provide in the future. So since the company has not yet earned the revenue, it is recorded as a liability on the balance sheet until the service or product is provided. Now, let's have a look at the key features of unearned revenue. Number one, cash is received before the service or product is delivered. The company collects money upfront but still owes the customer a product or service. It's initially recorded as a liability. Since the company has an obligation to deliver something in the future, the amount is recorded as a liability. It's gradually recognized as revenue. So as the company delivers the goods or services over time, the liability decreases, and then the revenue is recognized in the statement of profit and loss as they go. Now, let's have a look at some practical examples. I'll talk about an airline company. Now, think about an airline you traveled before. Normally, what we do as passengers, we prebook our ticket, right? Six months ago, sometimes a year ago. Three months before, two months before we prebook our ticket. So the company collects money before giving us the service before taking our flight. So when a customer buys a ticket before the flight date, the airline records it as unearned revenue. Once the flight is taken, the revenue is recognized. So let's have a look at an example. 1 January, the airline company received cash of $1 million, and the flight date is on 1 April, right? So, about three or four months before the flight date, they collected the money. So on 1 January, what would the airline company do? They received cash but would that 1 million be the total revenue for this flight? No. Not yet because the company has not yet earned the revenue. They would earn the revenue when they deliver the product or service. Let's look at the general entries of recognizing unearned revenue. So the company would debit cash because they received cash and asset is increasing, so they would debit $1 million. But now the question is what to credit? Unearned revenue would be credited $1 million. This unearned revenue signifies a liability. This is a liability because the airline company has an obligation now to provide the flight on time to the passengers. Now let's go to the flight date. Now it's time to recognize the actual revenue because they have delivered the flight successfully. So now we would finish the liability straightaway. Unearned revenue would be debited. Now the Airline revenue would be credited. So Airline revenue is the true revenue of the Aline company. Moving on to a next example, I'm sure you know Microsoft. So Microsoft sells software subscriptions such as Microsoft 365 where customers pay upfront for one year of service. Now, let's have a look. A customer pays $1,200 for 12 months subscription on first January. So instead of recognizing all 1,200 in January, Microsoft records 100 per month as revenue. So 1200/12, you will get 100 per month. So on 1 January, they received cash, right? The actual service is not fully provided. They have an obligation now to provide the service every month. So again, cash would be debit and unearned revenue would be credited. Now, at the end of the month when one month is complete, now the time has come to transfer one month from the unearned revenue to the actual revenue. So unearned revenue would be debited by $100, and the subscription revenue would be credited by $100 a year. By mistake, I wrote ten, it's $100, right? So this is what you do. The unearned revenue that has been debited signifies the reduction in the liability, and the subscription revenue shows that now we earned our actual revenue. Moving on to another example, I'm sure you know what's Netflix. So Netflix offers monthly and yearly subscriptions. A customer subscribes to a one year plan for hundred $20 in January, but Netflix provides services each month. So again, they wouldn't recognize the entire $120 immediately, rather, they would spread the revenue over 12 months, which would be $10 per month. This would ensure the revenue is recognized in the period when services are actually delivered. So on 1 January, when payment is received, but service is not fully delivered. So again, we received cash. So cash would be debited, and unearned revenue would be credited. Now, come to the end of the month, they actually earned the revenue 120/12 months, you would get $10 per month. So we would reduce the liability, unearned revenue by debiting it, and the actual revenue would be credited. This is what they actually earned. So, guys, that's it for today. See you in the next video. Thank you very much. 17. Prepaid Expenses - Real World Scenarios: Hi, everyone. In this video, we will see a case study of prepaid expenses. Let's get started. McDonald's, I'm sure you all know what's McDonald's. McDonald's prepays $60,000 for six month stoles on 1 January. So basically they rented a space for six months, and they paid advance in 1 January. They paid $60,000 all at once, all at once on 1 January. So that's initially recorded as prepaid rent, which is an asset. And each month, $10,000 is moved to the rent expense. As it consumes the office space, the store space, it would transfer a portion of the asset to expense. So let's have a look. So initially on 1 January, a prepayment would be recorded so prepaid rent or prepaid lease or prepaid expense would be debited by $60,000, and cash would be credited $60,000. Now, at the end of the month, at the end of January, an adjusting entry would be passed. So now the actual expense, rent expense would be debited by $10,000. So $60,000 divided by six is $10,000. And now I would not credit cash. No, cash was paid. We are just transferring a portion of the asset to the expense. So now the asset has been reduced. So now prepaid expense would be credited signifying the reduction in the asset. Now let's have a look at another example, prepaid software licenses of Microsoft. A business prepays $12,000 for one year Microsoft 365 subscription. $100 per month is moved to software expense. Now, on 1 January, let's assume a company paid $12,000 for the entire year for Microsoft 365 subscription. So initially there was a cash outflow of $12,000, and an asset, a temporary asset would be booked known as prepaid expenses. Now, why do I say temporary asset? It's a temporary asset until the benefit is realized by the company, and the expense and the asset is converted to an expense over time up to one year. So now prepaid expense would be debited by $12,000 because that's the temporary asset, and cash would be credited by $12,000 signifying deduction in the cash flow. Now, at the end of each month, from January till December, you would pass an adjusting entry. So a small portion of the asset would be converted to expense each month. So $12,000 divided by 12 months is $1,000. So now the true expense software expense would be debited by $1,000, and the asset would be reduced by $1,000. So if I ask you at the end of January, what is the balance of the asset? Well, the answer is $11,000. $12,000 minus $1,000 is the balance. Another example prepaid advertising by Coca Cola. So let's say Coca Cola paid $500,000 upfront for 12 month digital marketing campaign. Now, upfront basically means on the spot. So, let's say on the first day of January, they paid $500,000 for the entire year for their marketing campaign. Now, initially on 1 January, a prepaid would be recorded, an asset would be booked as prepaid marketing expense by $500,000, and cash would be credited by $500,000. Now, at the end of each month, a small portion of the asset would be converted to the actual expense of the asset, sorry, of the company. So marketing expense would be debited by $41,667. Now, how did I get this amount? I divided $500,000 by 12 months. Now that the prepaid expense or the asset would be reduced, so that would be credited by $41,667. See you in the next video. Thank you very much. 18. Purpose of Prepaid Adjusting Entries: Hi, everyone. Welcome to the next video. Today, we will discuss the purpose of prepaid adjusting entries. Let's get started ASAP. First, we would be talking about prepaid expenses. Now, the first purpose for prepaid adjusting entries is to ensure that your expenses are recorded accurately. Adjusting entries ensure that expenses are recognized in the period they are incurred and relate to the prospective revenues they help generate. This is in line with the matching principle. For example, a company pays $12,000 on 1 January for one year insurance policy. Now, the company won't record the entire $12,000 as an expense. No, no, no. Initially, this amount is recorded as a prepaid expense. That's the adjusting entry. And as the company consumes the benefit, they would transfer $1,000 from the prepaid expense towards the expense for the year. That reflects the consumption of the service overtime. And this would ensure that the expenses is recorded accurately in the statement of profit and loss. Without an adjusting entry, the entire amount would straightaway be stuffed in the statement of profitan loss. Secondly, ensures accurate asset reporting. Well, adjusting entries rectify inaccuracies or omissions in the initial recording of financial transactions. So basically, adjusting entries update the balance of prepaid expense accounts to reflect the unexpired portion of the prepayment, ensuring that the balance sheet accurately represents the company's assets. Now I mentioned unexpired portion of the prepayment. Now, I always mention one thing whenever prepaid expenses are booked or created, they are temporary assets. They're not long term assets that will stay with the business. They are temporary, and until and unless they are not realized, they would continue to reflect in the statement of financial position. Unexpired portion basically means that whatever benefits are not yet taken, the remaining portion of the prepaid expenses would stay as current assets in the balance sheet. Now, this would ensure that the asset valuation in the form of prepaid expenses would actually be accurate. Secondly, they're in compliance with accounting principles. When payments are made in advance for expenses, adjusting entries actually allocate these costs over the periods they benefit, which is in line with the matching principle, the same example, that's in line with the matching principle. Now, let's have a look at prepaid incomes, which is also known as unearned revenues. Well, the first purpose of adjusting entries for prepaid incomes are to ensure that your revenue is recognized absolutely accurate. Adjusting entries ensure that revenue is recognized in the period they are earned, not when you actually receive the cash inflow. This prevents premature recording of income and provides a true representation of the company's earnings. For example, a magazine publisher receives a $20 payment in January for a yearly subscription. This $120 he received at the start of the month for the entire year, that's not the total income he would record in the statement of profit and loss. As he provides services for January, February, March, slowly, slowly, he would recognize $10 as earned revenue through an adjusting entry, which would help reflect the actual income he earns for that period. Moving on, another purpose is to ensure that your liabilities are reported correctly. Unearned revenue is a liability. They signify the company's obligation to deliver goods or services in the future, ensuring liabilities are not understated. Well, for instance, a software company receives advanced payments for one year service contract. Now until the service is provided, the payment shall be reflected as a current liability in the form un earned revenue, and adjusting entries are made periodically to decrease the liability. I always mentioned this in my course that prepaid expenses, prepaid income, accrued expenses, accrued assets, they're all temporary assets or liabilities. They would not stay in the balance sheet for a very long time until they realized or consumed, then they would be wiped off the financial records. Moving on, a very important reason to ensure compliance with accounting standards, GAAP and IFRS. For instance, an event management company sells tickets in advance for concert. Now, when they sell tickets in advance, whatever money they get, that's not going to be recorded as the actual ticket revenue in the statement of profit and loss. Rather, it would be recorded as unearned revenue or prepaid income. Once the concert happens, after they deliver their promise and obligations, that's when the adjusting entry would be converted to the actual revenue, and that's in line with GAAP and IFRS. So, guys, that's it for today. I hope you understood it. Seeing the next video. Thank you very much. Have a very good day. 19. Ledger - Expense: Hi, everyone. I warmly welcome you to the next section of our course in which we uncover a secret hack, how to make ledges of expenses and incomes. This can be very confusing and people struggle in remembering what balance goes on the debit side, what goes on the credit side. So I prepared a beautiful secret hack, which would always make you remember what to debit and what to credit. So let's have a look at the secret hack for expense accounts. Remember the word Papa. Papa, in some languages actually means father. So you'll always remember Papa. Now, let me show you how to apply the Papa trick in expenses. Well, on the debit side, I would write P. And on the credit side, I would write P. And on the right side, I would write A on the credit side and on the left side, I would write A. So it's a pattern, basically, it's a diagonal pattern. So on the debit side, there's prepaid brought down. On the credit side, there's prepaid car down. Obviously, if the prepaid brought down is on the debit side, so the prepaid carry down would be on the credit side. And on the right side, there's accrued brought down. So accrued carry down would be on the left side, on the debit side. Always remember one thing I'm going to teach you today. Always remember the cash payment, the cash payment either paid or received in income cases would always be below the prepaid brought down, always. Even in the income account, the cash would be below the prepaid brought down. So cash would be on the debit side because it will always be below the prepaid brought down. And opposite cash would be your income statement or statement of profit and loss. That's the figure, the balancing figure that would go in the statement of profit and loss. So this is how you prepare the expense account. Now, let's apply this in an example. The following information relates to rent expense for the year, opening balances, advance $2,000, owing $500, closing balances, advance $900 and owing $350 cash paid during the year, $1,000, calculate the rent expense charged for the year. In other words, the question is asking you to calculate the figure which would go in the statement of profit and loss, the balancing figure. So what we would do is simple, we would prepare a T account of rent expense. So, you know, P would be on the debit side, P on the credit side, A on the credit side, A on the debit side, very simple. Paid brought down is on the debit side, accrued brought down, accrued carry down. So prepaid brought down is $2,000. That's the advance. Prepaid carry down is $900. That's the closing balance of advance. Accrued brought down is $500. I told you in the beginning of this course, there are many names of accrued. Owing is one of them. So $350 would be the accrued carry down. Where would the cash paid go? Where would the cash paid go, post the video. I told you the cash would always be below the prepaid. So cash $1,000. Now let's total the account. We have 3,350 on the debit side, 3,350 on the red side, and the balance would go in income statement. This figure, 1,950, that's the rent expense charged for the year. This figure would go in the statement of profit and loss. See you in the next video in which we discuss a trick for incomes. Thank you very much. 20. Ledger - Income: Hi, everyone. Welcome to the next video. In the previous video, we saw a secret hack in preparing expense ledges. Today I'll share a secret hack in preparing income ledges. Let's get started right away. Now the secret hack for income is OPO. I'm sure you know what's OPO smartphone, right? It's a very famous smartphone. I'm sure you probably saw this in advertisements if you haven't used it. So OPO is the trick for incomes. Papa is the trick for expenses. So let's prepare the income account. Very simple. O on the debit side, O on the credit side. P on the credit side, P on the debit side. Owing brought down on the debit side, owing carry down on the credit side. I told you the other name for accrued is owing prepaid, brought down on the credit side, prepaid carry down on the debit side. I taught you a trick in the previous video. Cash would always be below prepaid, cash received or cash paid. That would always be below prepaid. And opposite cash on the other side, you'll find income statement. So here's the income statement figure. So this is how you prepare the income account using a patent. Now, let's apply this to an example I prepared for you. The following information relates to rental income for the year. Opening balances, advance $3,000, owing 1,500, closing balances, advance $1,000, owing $900. Cash received during the year, $1,500, calculate the rental income charged for the year. So we would prepare an income account using the OPO trick, O on the left side, debit side, O on the credit side. P on the credit side, P on the debit side. This is a patchtowing brought down, owing, carry down, prepaid brought down, prepaid carry down. Owing brought down is $1,500. Owing carry down is $900. Prepaid brought down is $1,000 and prepaid carry down. Sorry, prepaid brought down is $3,000, and prepaid carry down is $1,000. Cash would always be below the prepaid, I told you, 1,500. So now let's total the account. 2,900 is the value that would go in the income statement. So this figure, $2,900, that's the rental income for the entire year. This would appear in the other income section of the statement of profit and loss. See you all the next video. Thank you very much. 21. A Special Trick - Identifying dates swiftly: Okay, something very, very important now, very, very important. Dates. Dates are of crucial importance. You'll encounter dates very often. You would record incorrect treatment in the financial statements. So this is very, very important. And I prepared a trick for you, which would help you understand how to identify the 12 month cycle. Number one, step number one, you have to identify what's the ending month of the financial year. That's the first step. The second step is move to the next month after the ending month. So for example, if our year ends on 30 June. So step number two is what's after June, July, move to the next month. Step number three, set the starting day of the next month and go back one year. This will be your entire 12 month cycle. I know this sounds jibberish. Don't worry. Let's have a look at an example which would help you understand this concept better. So for example, if the financial year ends on 31st March 2023, what's the ending month? March. Okay? 31st March is the ending month. So the ending month is 31, March 2023. This is the ending month. Now it says, move to the next month, which is April. Okay? So now we'll move to April. Okay, that's the second step. The third step is set the starting date as April 1. Okay, we'll do that one April. And what's the last thing? Go back one year. So what's before 2023? 2022. So this is my 12 month cycle. First, April 2022 to 31st March 2023. These are 12 months. You can count it yourself. April, May, June, July, August, September, October, November, December, January, February, March. This is the 12 month cycle. Remember, depreciation is charged for 12 months only. If you make a mistake, you would calculate the incorrect depreciation and lose marks for nothing. So I'm teaching you how to identify the 12 month cycle. What year are we dealing with? Let's have a look at some more examples for your understanding. Right. Example number one, the financial year of XYZ limited ends on 28, February 2022. So what's step number one? Step number one is identify the ending month. So let's do that. The ending month is 28, February 2022. 28 February is my ending month. What's step number two? Go one month after the ending month. What is the next month after the ending month? So what's after February? March. And we'll set that as first March. And what's the third step? Go back one year. So what's before 2022, 2021. So my financial year is first March 2021, till 28 February 2022. This is the year we'll be dealing with. So we'll know that we have to calculate depreciation in this 12 month cycle. Let's have a look at another example. The financial year of XYZ limited ends on 30 June 2025, identify the financial year. Pause the video and solve it for me. Right. Step number one, what is the ending month? So the ending month is 30th of June 2025. So 30th of June is the ending month. Step number two, go to the next month. Step number two. Yeah. Step number two, go to the next month after the ending month. So what's after June, July. And the first day of that month. So first July. Final step, go back one year. What's before 2025? 2024. So this is the year we are dealing with first July 2024, right till 30 June 2025. 22. Question 1: Hi, everyone. Welcome to the next video today's class. We would be solving a practice exercise in ODA to deepen your knowledge on accruals and prepayments. Let's get started. Chao Wang accounting information for the year ended, 31, July 2018, Chao Wang, a sole trader provided the following information for the year ended, 31st, July 2018. We have the opening and closing balances. Rates first August 2017. So first August is the opening year and 31st, July 2018 is the closing year. So for rates, it says 350 in advance. 200 in arrears for rent paid 215 in arrears, 180 in advance, rent received 150 in advance and 200 in advance. Transactions during the year. On the first August 2017. So basically, all these transactions they have incurred during the year. Rates paid first August 1008 hundred pounds, first, February 2018, 2000 pounds, then rent paid on first October 20 2017, 1,600 pounds and first April 2018, 2,200 pounds. Then rent received first September 2017, 850 pounds and first March 2018, 250 pounds. All receipts and payments were processed through the bank, it means there's no cash payment. Instead of cash, we would write Bank, very simple. Now, let's begin with the rent and rates account. Now, why do you say rent and rates? So basically, we are going to combine rates and rent paid, right? So this is an expense. I hope you remember the expense trick I taught you. It was Papa, right? Let's get started. So prepaid brought down would be over here. And if the prepaid brought down is over here, so obviously, the prepaid carry down would be over here. Accrued brought down would be over her. And obviously, if the accrued brought down is on the credit side, so accrued carry down would be on the debit side and a very important trick I told you where to write cash or bank below the prepaid balance. So here you would write bank payments. Now, let's fill in the pattern. Let's see any prepaid opening balances. Yes, I see a prepaid opening balance over her. That's the only opening balance I can see for rent and rates. So outright 350 pounds over year. Now, is there any accrued balance? Yes, I see 250 pounds in arrears. That's the opening balance of accrued. Let's look at the closing balance. Yes, we see 200 pounds in arrears. That's the accrued closing balance. So It 200 over year. And I see 80 pounds in advance. That's the prepaid carry down. So I would write 180 pounds over here. Now, let's have a look at the bank payments. Right. Rates paid on first August 2017, 1,800 pounds. So as it is, I would write 1,800 pounds. There was another bank payment on 1 February 2018. So I would write 2000 pounds there. Come to rent paid because this is a combination of rent and rates. First October 2017, that also falls in the year 1,600 pounds, another bank amount. And finally, first April 2018, that also falls in the year, right? So I would write another bank amount, 2,200 pounds. Now we are done. We have to just total the account and find the income statement or statement of profit and loss figure. So let's total the Tippit side. What do we get? Well, 350 plus 1,800 plus 2000 plus 1,600 plus 2,200 plus 200. 8,150 pounds. All right, 8,150 pounds. That's the total. So they're on the left, they're on the right. Now, let's calculate our balancing figure. So 8150 minus 180 minus 250, you'll get 7,720 pounds. This is the balancing figure, the expense for the year. Rent and rates for the year, this will go in the statement of profit and loss. So that's the answer of the rent and rates account. However, we have to also bring down the balances, all right? So, you know, the closing of one period becomes the opening of the next period. So outright, accrued brought down over year, 200 pounds and prepaid brought down over year 180 pounds. Right now we are done with the expense account. Now let's move on to the income account, rent received. So rent received is an income. And what was the trick I taught you? O Oppo smartphone. Oppo smartphone makes it easy to remember. So Owing brought down over year. And obviously, if Owing brought down is here, so the Owing carry down would be over year. Prepaid brought down would be over year. Obviously, if the prepaid brought down is year, so the prepaid carry down would be over her. And a very, very important trick I told you all, the bank or cash payment is always below the prepaid and the profit and loss figure on the opposite side of the bank. So here we would write bank. Right. Now, let's have a look at any opening balance in advance, definitely. That 150 pounds is rent received in advance. That's the brought down 150200 in advance, that's the closing balance. So that's the closing balance, the prepaid closing balance, so out 200 over. I don't see any accrued balances for rent received, so we'll leave this as zero. There's no opening or closing accrued balance of rent received. Now let's see the bank payments. We receive two payments, 850 pounds and 250 pounds. All of these fall within our year. So I would write bank 850 pounds and another bank payment of 250 pounds. We're done now. Now, let's total the credit side that's larger. So 150 plus 850 plus 250. So 1250 pounds, that's the total of our ledger. Subtract 200, you'll get the balancing figure, which will be 1050 pounds. This is the profit and loss figure that would be transferred to the statement of profit and loss, and the closing balance of the current period becomes the opening balance of the next period. So that's what I'm doing. And owing brought down is zero. There's no owing brought down. Right. So we prepared two accounts, the rent and rates account, we followed the Papa trick and the rent received account, we followed the OPO trick. See you in the next video. Thank you very much. 23. Question 2: Hi, everyone. Welcome to the next video. In this video, we would be doing another practice question to enhance your understanding. So let's begin. This question relates to rent received. So it's an income question. You are asked to prepare the income account. So it says, Alan sublets parts of a premises to several tenants. The following rent transactions occurred during the year. Opening balances first of January 2015, rent received in advance 800 pounds. Rent owed 200 pounds. Transactions during the year, the total rent received was 13,600 pounds, closing balances, rent received in advance, 700 pounds, rent owed 350 pounds. Very simple. You are asked to prepare the rent received account. Now, rent received is an income, so you are supposed to follow the OPO trick. Very, very simple OPO OPO smartphone. So owing brought down over a year, and obviously, then the owing brought down will be over year. Sorry, carry down will be over year. Prepaid brought down over year, so prepaid carry down over here. And I told you always below the prepaid, you'll find your bank or cash. And opposite bank would be the profit and loss figure, the balancing figure. This is the pattern of your account. Now, let's see, rent received in advance, that's prepaid brought down, so 800 pounds over year. Rent owed, that's owing brought down over year. Rent received in advance, that's the prepaid carry down 700 pounds. And rent owed by tenant at the end of the year, that's owing carry down 350 pounds. The bank figure is 13,600 now let's total everything up and calculate the balancing figure. So 13 600 plus 350 plus 800, 14750 pounds. You write this both places over her and her. Now subtract 500, you'll get 1,450. So 14,250 pounds, that's the rent received for the year. This figure would go in the statement of Probit and loss, the adjusted figure. Now, let's bring down the balances. Prepaid brought down over year, 700 pounds and owing brought down over year 350 pounds. That's it, guys. That's how you prepare an income account. See you in the next video. Thank you very much. 24. Question 3: Hi, everyone. I welcome you to the next video. In this video, we would be solving another question, a very interesting question in which we have to calculate the months on our own. How many months comes in the accrued brought down? How many months is our bank payment? How many months is our closing balances? So how to do that, I'll share some tips and tricks. Let's get started. In such questions, the first thing you have to do is to identify the 12 month cycle you're dealing with. I prepared a video on that. You will find that in this playlist, as well. So our year ends on 31 March. In order to calculate the 12 month cycle, step one says, go to the next month. So what's after March, April. The second step says, after that, set the first day of that month. So first of April, and the final step says, go back one year. So what's before 2019, 2018. So first, April 2018 to 31st, March 2019, this is the financial year we are dealing with. So if I make a small pattern, we are dealing with April, May, June, July, August, September, October, November, December, January, February and March. These are 12 months we are dealing with. Now some tips and tricks very, very important. An month that does not belong in this financial year, we are not going to record it. We are supposed to record expense for these 12 months. If they are payments that's made before the financial year, that's your accrued brought down. Any payments that fall within the year, those are your cash or bank payments. Any payments that relate to months after the end of the financial year to the next year, those would be your prepaid carry down. All right. That would be your prepaid carry down. And any unpaid amount at the end of the period, that would be accrued carry down. So let's dig right in. What was the trick I taught you for incomes OPO? So owing brought down over year prepaid brought down over year prepaid carry down over year and owing carry down over year. Now, let's see the first payment. It says, on 1 April 2018, a payment of $800 was made for four months ending June. Okay? For four months ending June. This means this is the fourth month. This is the third month, the second month, and there's one month, one month that falls before the financial year. So what I'll do first, let's divide $800 by four so we get the monthly payment. So it's $200 per month. From that, there's $200 that relates to the previous year Okay. And $600 that relates to the current year. This means, very simple. $200 is my owing brought down, and $600 would be the bank payment. So let's begin. Owing brought down $200. There's no prepaid brought down in the question. So here we write bank $600. Right? Then in July, there was a six months payment of 1,500 ending 31st December. Now, this was made during the year. This is not a prepaid amount because the amount relates to the current financial year. So all this entire 1,500 would go to the bank balance. This was the amount received. So 1,500. Now, let's see what happened in January, meaning from year, what happened over her. There was a six month payment, 1,500. So first, let's divide it by six and calculate our monthly payment. So 1500/6 is 250. So that's 250 per month. Okay. So three months belong to the current year, and three months are beyond our financial year. So three months are our prepaid carry down and three months our bank payment because I told you the bank payments, all payments that fall within your financial year, they're your bank payments, anything beyond that, that's your prepaid carry down. So 750 is your bank payment, and the other 750 would be your prepaid carry down. Very simple. So let's write 750 in the prepaid carry down, and I'm afraid I'm a bit short of space, so I'll just add 750 in another bank payment. So 600 plus 750 so I'll just write 1,350 over a year because I'm sure of space. Right. Now we are done. Now, the difference would be the profit and loss figure, the income for the year. So let's calculate that. 1,500 plus 1352850 are your totals, all right? Over year and over year. Now, let's subtract 950. So 1,900 pounds, that's the statement of profit and loss figure. We are done. I hope you understood how to identify months. Now I'm just summing everything up. I told you guys four things. Number one, any payment that relates to a month, that's before your financial year, that's accrued brought down. Any payment that falls within your financial year, there are your bank payments. Any payment that relates to months that do not belong to your financial year rather to the next, those are your prepaid carry down. And any unpaid amounts at the end of the year, those would be your accrued carry down. So, guys, that's it. See you in the next video. Thank you very much. 25. Impact of Adjustments on Financial Statements: Hi, everyone. Welcome to the next video. Today, you would see the impact of adjustments on financial statements. Let's get started. First, we would begin with accrued expenses. I'm sure you all know the adjusting entry. The rent expense, for example, I took rent in this example. Rent expense would be debited by $1,000, and there was no cash paid. The company did not pay cash, so they booked a temporary liability known as accrued rent. $100. This is the adjusting entry. And once the company pays the cash, so cash would be credit, and this temporary liability, accrued rent would go on the debit side. I'm sure you all know that. Now, impact on the statement of profit and loss, accrued expenses increases the total expenses recognized during the period. Accrues are always added, and this would increase the. And this adjustment is very important. It helps to match expenses with the revenues they help generate. And this is in line with the matching principle. Now at the statement of financial position, you all know accrued expenses are reported as current liabilities. So this presentation could help stakeholders make investment decisions and gain insights into the company's short term financial obligations. Moving on, let's see accrued incomes. I'm sure you all know what accrued incomes. The adjusting entry, you all are aware. The accrued income in this example, I took rent receivable, that would be debited by $100 instead of cash. Why? Because there's no cash received by the company as of now, and they booked the income, rental income on the credit side by $100. This was the adjusting entry. And once the company receives the cash, that's when they would remove this temporary asset from the books. So cash debit and rent receivable credit. Now, all this is in line with the accrual basis of accounting. The income would be booked, regardless of the fact that cash had been received or not. Now, let's see the effect on the statement of prominent loss. Well, recognizing true income increases the total revenues. This would be added to the revenue. And this reflects earnings that have been realized but not yet received in cash, as I told you, the accrual basis. And this adjustment ensures that revenues are recorded when they're earned in line with the revenue recognition principle. Now, let's see the impact on the balance sheet. Well, you will know that accrued income would be reported under the current assets section. The reason is that accrued incomes refer to amounts owed to the company that are expected to be received within the year. These are also known as other receivables. Now let's move on to prepaid prepaid expenses. I'm sure you know the adjusting entry. This is the final adjusting entry, transferring the expense to the income statement. This is what adjusting entry means. Now, initially, the company would credit cash and debit prepaid rent. They would not book the expense in the income statement until then unless they don't realize the benefits earned. So the adjusting entry, once they realize the benefits, rent expense would be debited, and the temporary asset prepaid rent would be eliminated from the books, which is why prepaid rent went on the credit side. Now, let's see the impact on the profit and loss. Well, expenses are not recognized all at once. Once the benefits are consumed, then those expenses would be transferred to the statement of profit and loss. That's in line with the matching principle. Now let's have a look at the statement of financial position. These are initially recorded as current assets because they represent future economic benefits. The company prepaid an amount, and they are expecting a benefit in exchange of that in the near future. Now, let's move on to prepaid incomes. These are also known as unearned revenues. So the adjusting entry, this is the final entry passed by the company. The unearned revenue is being eliminated from the books, which is why it's on the debit side and transferred to the actual income, revenue income on the credit side. In this question, I took an example of revenue, revenue income. Now, how is a prepaid income created? I'm sure you guys remember they receive cash, and they have to provide benefits. So cash, debit, and unearned revenue or temporary liability would go on the credit side. Now, once they provide the benefit, the unearned revenue would go on the debit side and then transferred to the actual income in the profit loss state. This is the adjusting entry. We covered this in detail. Now, let's see the impact on the sale rement of provident loss. Well, revenue is recognized proportionally, not all at once. As the company provides the benefits, fulfill their obligations, that's when the revenue would be recognized. And in the balance sheet, you would find this under the current liability section because they signify obligations that have to be fulfilled by the company, promises that have to be fulfilled. See you all the next video. Thank you very much. 26. Practical Application on Financial Statements: One, welcome to the final section of this course. Let's see the impact of accruals and prepayments on financial statements. Let's get started. This was the expense account I taught you of using the PAPA Trick. So the prepaid carry down is actually a current asset, and the accrued carry down is a current liability. Always remember these things. This was the income account I told you ow. Now, in the income account, things are opposite. This owing carry down is a current asset. You guys know accrued income is a current asset, and prepaid carry down is a current liability. Now let's see the statement of financial position. Now that I taught you guys what balance is a current asset and what balance is a current liability, the statement of financial position extract. Under current assets, you would find prepaid expenses and accrued incomes. Under current liabilities, you would find accrued expenses and prepaid incomes. Now let's have a look at some adjustments in the statement of profit and loss. Always remember one thing. I'm going to teach you another very critical secret hack. If you encounter year end adjustments, you'll always add accruals, whether it's income or expense, you'll always subtract prepayments, whether that's income or expense. I prepared a small example for you all. You'll find a trial balance extract over here. So the trial balance extract shows rent expense for the year $1,000, and commission receive $1,000. We have two year end adjustments. It says, rent of $500 was accrued. Commission received of $250 was received in advance. Now, we have to record these under the income and expense category by accounting for these adjustments. Now, commission received is an income, so I put this under the other income category. However, commission received is $1,000. And commission received in advance or prepayment was $250. So we would subtract $1,000 from $250. We got $750. Now, we would subtract expenses, okay? So rent expense is $1,000, and rent of $500 was accrued, what you did not pay yet. So now we would add $1,000 plus $500. We got $500. So that's how you deal with adjustments. Always remember, add accruals subtract prepayments. See you all the next video. Thank 27. How to Identify Accruals & Prepayments Swiftly?: Everyone. Welcome to the next video. Today, I prepared a very interesting and engaging video in which I would share tips and tricks how to identify accruals and prepayments swiftly. Let's get started. Well, the first thing is to look at the timing. For accrued expenses, you know, these occur when expenses or revenues have been incurred or earned but not yet paid or received. When I talk about prepaid expenses, these happen when payments are made in advance for expenses or revenues before they're actually incurred. In a nutshell, for accrued and sorry, for accrued expenses, payments are not yet made, and for prepaid expenses, the payments are made well in advance. Secondly, try to analyze the flow of benefits for accrued expenses. The company has received a benefit like service or goods, but hasn't yet paid for it. For prepaid expenses, the company pays for a benefit before receiving it. Moving on, have a look at the impact on financial statements. You know, accrued expenses are liabilities, prepaid expenses, are assets, accrued incomes are assets, and finally, prepaid incomes are liabilities. This is very interesting. Try to figure out the owed versus paid framework. Accruals are basically amounts owed. The company has incurred an expense or earned revenue, but hasn't yet exchanged cash. For prepayments, consider these as amounts paid in advance. Cash has been exchanged for future expenses or revenues. And finally, have a look at the benefit received test. Accruals, answer the question. Has the company received the benefit but not yet paid, then that's an accrued expense. For prepayments, has the company paid for benefit in advance and will receive it later? If yes, that's a prepaid expense. See you all in the next video. Thank you very much.