hello I'm James you're watching accounting stuff and today we're back with another special compilation this time I'll give you a complete guide to adjusting entries in roundabouts 40 minutes this video is split into five sections first I'll explain why we need adjusting entries and introduce you to the two main types prepayments and acrosss then we'll dive a little deeper and cover each adjusting entry individually with examples we'll go over prepaid expenses deferred revenue acred expenses and acred revenue there is a lot to cover but if you watch this right the way through then you'll be an expert in no time so what are adjusting entries adjusting entries are journal entries that we post at the end of each accounting period to bring a business's books in line with the acru method of accounting let's jump in financial accounting is the process of recording summarizing and analyzing an entity's Financial transactions and Reporting them in financial statements to its existing and potential investors lenders and creditors so ultimately as Financial accountants our job is to produce financial statements to assist our key stakeholders with their decision- making but what are financial statements you can think of them as formal reports that summarize a business's finan cial performance position and cash flow collectively they give all of the interested parties an idea of the business's Financial Health when preparing financial statements there are some rules that we need to follow the specifics differ slightly from country to country but broadly speaking we follow the generally accepted accounting principles gap for short or the international financial reporting standards IFRS now both Gap and IFRS have something in common they both require us to produce our finan statements in accordance with the acrel basis of accounting now the acrel basis of accounting is key to understanding adjusting entries so what is it in acrel accounting revenue is recognized as it's earned and expenses are recorded as they are incurred regardless of when cash or an invoice changes hands but the key takeaway here is that payments and invoices shouldn't dictate when we recognize our revenues or expenses instead we need to think about the substance behind each transaction that's the real trigger but the problem is that this doesn't just happen naturally and that's when adjusting entries come in let me explain a normal business transaction involves two parties a buyer and a seller the seller provides goods or services to the buyer and sends them an invoice and in return the buyer repays them in cash so there are three parts to this transaction we have the transfer of goods or services the invoice and and the payment keep that in mind for a moment alongside all of this the financial statements we produced are designed to cover a range of time which we call an accounting period depending on the business's reporting requirements this could be anything from a month to a quarter or even a full year if all three parts of this transaction happen in one accounting period then we're all good no adjusting entries are necessary but when they fall into different accounting periods then we've got a problem this is where adjusting entries come in there are two main types prepayments and acrs prepayments occur when goods or services have been paid for in advance whereas acrs happen when goods or services are to be invoiced in the future in a prepayment goods or services have been paid for in advance I'll show you how this works I think it's best if we think of this in terms of two accounting periods the past and the future with us being bang in the middle bingg on a tight RPP in the present in a prepayment goods or services have been paid for in advance so that means that the payment happen back in the past for goods or services that are going to be delivered or consumed in the future the problem here is that normally the invoice and payment part of the transaction naturally triggers an accounting entry that recognizes the whole transaction in the past so if we were the buyer then we would have recognized an expense in the past and if we were the seller then we would have recognized the revenue in the past but we are acrel accounting so Revenue should be recorded as it's earned and expenses should be recorded as they are incurred the goods or services are going to be provided in the future so the revenues or expenses should also be recognized in the future not the past so right now before the period closes we've still got a bit more time to make changes in the past we need to post an adjusting entry to reverse out those revenues or expenses from the income statement and hold them in the balance sheet where they don't impact our past financial performance then in the future accounting period we'll post another adjusting entry to release these from the balance sheet to the income statement so we've correctly recorded our Revenue as it was earned or our expenses as they were incurred that's how prepayments work in general but really there are two types depending on where we fit into the transaction we have prepaid expenses and prepaid Revenue which is more commonly known as unearned or deferred revenue if we're the buyer in the transaction then we're dealing with Prepaid expenses because we're the ones receiving or consuming the goods or services however if we're the seller then we're on the other side of the transaction and we're dealing with Prepaid Revenue because we're the ones providing the goods or services acrs occur when goods or services are to be invoiced in the future these are almost the opposite prepayments goods or services are delivered in a past accounting period whereas the invoice and eventual payment come later in the future again we have a problem the acral basis of accounting is telling us that revenues or expenses should be recognized when they're earned or incurred in this case the substance of the transaction happened in the past because that's when the goods or services were delivered or consumed however the natural accounting trigger in this situation happens in the future when the invo is raised by the seller and received by the buyer so as things currently stand the transaction is going to be recognized in the future income statement to correct this we need to post an adjusting entry into the past accounting period to ACR the revenues or expenses into the income statement and the other side of that journal will be to temporarily hold the acral as an asset or liability in the balance sheet in the future once the invoice has been raised by the seller and given to the buyer we'll need to R verse this ACR so that we aren't recognizing this transaction twice that will release the original adjusting entry from both the income statement and the balance sheet again there are two categories of acral acur expenses and acur revenue if we're the buyer in the transaction then we're dealing with acred expenses because we're the ones receiving or consuming the goods or services however if we're the seller then we're on the other side and we're dealing with acrude Revenue instead because we're the ones making the money by providing those goods or services so adjusting entries are required to bring our books in line with the acral basis of accounting which is required under both Gap and IFRS when producing financial statements adjusting entries are divided into two categories prepayments occur when goods or services have been paid for in advance whereas acrs occur when goods or services are to be invoiced in the future if you're on the buying side of the transaction then you prepay or ACR expenses depending on the timing of the payment or invoice however if you're on the selling side then you defer Revenue when you've been paid in advance and acrw revenue when you've already provided goods or services and plan to invoice the customer in the future right now that you've got a feel for why we need adjusting entries let's take a look at some examples we'll start off with Prepaid expenses before we jump in you should know that I've put together an adjusting entries cheat sheet it summarizes is all of the key points that I make in this video on one page you can find a link to that down in the description a prepaid expense is a future expense which has been paid for in advance now what does that mean it means that we made the payment in a past accounting period but we don't actually receive the underlying goods or services until a future accounting period right time for an example but first I want you to meet someone this is Betty my humble Toyota yarus she's not the biggest and she's certainly not the fastest in fact she's kind of old but she moves me around from A to B and for that privilege I have to buy car insurance unfortunately I live in Vancouver which has some of the highest auto insurance premiums in Canada poor Betty who I bought for $3,000 cost me a whopping $2,000 400 to ensure for 2019 I paid for this in advance on December 15th 2018 and I initially coded the whole payment to Insurance expenses question what monthly adjusting entries do we need to post to record this transaction in line with the acral basis of accounting we'll Begin by taking stock of the facts at the end of 2018 we'd already paid for our insurance coverage for the following year here so this was a future expense which I had paid for in advance does that sound familiar yes we are dealing with a prepaid expense I paid $2,400 in advance on December 15th 2018 which I coded to the insurance expense account now what would that journal entry look like well I paid out $2,400 so my cash balance has to decrease by 2,400 cash is an asset which is the a in dealer that makes it a normal debit account so debits increase it and credits decrease it that means that on December 15th I would have credited my cash account by $2,400 I already said that the other side of the journal went to the insurance expense account while expenses of the Ian dealer also a normal debit account so to increase them would have debited the insurance expense account by $2,400 here we have the initial journal entry when I posted it it would have hit both the cash account in the balance sheet and the insurance expense account in the income statement we can visualize the impact of this journal entry on the general ledger using te accounts in Te accounts debits always go on the left and credits always go on the right so this is the result of that initial entry back in December 2018 and it would have been fine if we were cash accounting because when we cash account we record expenses once cash is paid out but the problem is we're a Cel accounting so expenses should always be recorded as they are incurred and that means that our expenses at the end of 2018 are overstated by $2,400 time for our first adjusting entry I'm going to show you how to record a prepaid expense we're going to need to post this one into the December 2018 accounting period before it gets closed for Good our insurance expense account is overstated by $2,400 so our adjusting Journal needs to clear all of this out last time we debited the account so this time we need to credit the insurance expense account by $2,400 but where does the other side of this journal entry go we can't put this anywhere in the income statement because that will affect our profit for the year that leaves us with one option the balance sheet but where in the balance sheet is a prepaid expense an asset or a liability well there's an easy way to check this assets bring us future economic benefit whereas liabilities involve a future economic sacrifice in this situation I've already paid for the car insurance so now it's down to the insurance company to provide me with coverage for the next 12 months I'm going to receive the benefit of that coverage so this prepaid expense should be recognized as an asset in the balance sheet in fact prepaid expenses are always recognized as Assets in the balance sheet that means the other side of the journal entry is a debit of 2,400 to prepaid expenses in the balance sheet let's update our T accounts to find out what impact this journal entry had on the general ledger so at the end of 2018 we have negative cash of $2,400 no insurance expense in the income statement and a $2,400 prepaid expense which we're holding as an asset in the balance sheet this is exactly where we want to be now when it comes to 2019 we have some more adjusting entries to post 12 in total one for each month of the year so let's bring up a timeline for 2019 and break it down into 12 accounting periods from January 1st all the way through to December 30 first in acral accounting expenses are recorded as they are incurred so we need to release our prepaid expense from the balance sheet as we consume or get the benefit from our insurance policy in January 2019 I've consumed 1 12th of the insurance coverage 1 12th of $2,400 is $200 so the insurance expense that we need to recognize in our income statement is $200 for January 2019 the adjusting journal entry that we need to post looks like this we need to debit the insurance expense account by $200 to increase our expenses in the income statement and we need to credit prepaid expenses by $200 to decrease our Assets in the balance sheet so with 11 months of insurance coverage left on the policy we're carrying $2,200 of prepaid expenses as an asset in the balance sheet and we've incurred an insurance expense of $200 in the income statement this process of releasing prepayments from the balance sheet needs to continue for the rest of the year at the end of May we have consumed 5 12ths of our insurance coverage so we need to have posted this journal entry five times recognizing a $200 Insurance expense in the income statement on each occasion with 7 months of insurance coverage left on our policy we have $1,400 of prepaid expenses held in the balance sheet and $11,000 of insurance costs expensed in our income statement five months of policy consumed over a 12month period which gives us $1,000 likewise you could do the same to work out the prepaid expense in the balance sheet we have 7 months of coverage or future economic benefit left on the policy so we have prepaid expenses of $2,400 multiplied by 7 over 12 which gives us an asset of $1,400 in the balance sheet come December 31st the adjusting entry we need to post is exactly the same as the ones that we posted for the previous 11 months debit Insurance expenses by $200 in the income statement and credit prepaid expenses by $200 in the balance sheet however this time we've consumed all of our insurance policy we are no longer expecting to get any future economic benefit so so we are no longer holding any prepaid expenses in the balance sheet this asset has been reduced to zero because we have released all of it to the income statement where we have recorded an insurance expense of $2,400 for 2019 our cash account is still showing a credit for December in the prior year because that's when we paid for the policy so we've recorded our expenses as we incurred them and our books are in line with the acral basis of accounting I love it when things line up don't you now let's move on to deferred revenue also known as prepaid or unearned Revenue deferred revenue is what we call the payments that a business receives in advance for goods or services that haven't yet been delivered or provided you might have heard of prepaid revenue or even unearned Revenue well all of these are actually the same thing they're just different ways of saying deferred revenue um okay that's a bit odd three different terms that all mean the same thing let's try clear things up with a couple of examples in this first one I want you to imagine that you're the owner of a c plane random I know but bear with me I live in Vancouver and for a while now I've been wanting to visit Vancouver Island if I were to take the ferry out there this whole trip would take me 3 to 4 hours but lucky for me you own a c plane so I head downtown to the C plane terminal and boom there's a spot on your C plane and it's leaving in 20 minutes the ticket cost me $200 so I pay you the money and half an hour later we're checking out the beautiful gardens on the island in this transaction you're the seller and I'm the buyer you provided me with a service by flying me out from Vancouver all the way over to the island the question is how should you account for this transaction well as the the owner of the C plane you've received $200 in cash cash is a type of asset the A and dealer so debits increase it and credits decrease it your cash balance has gone up so you need to debit your cash account by $200 to increase your cash the other side of this transaction is going to affect Revenue in your income statement revenue is the r in dealer a normal credit account so credits increas it and debits decrease it your Revenue has gone up so you credit your revenue account by $200 to increase your income this is what your journal entry looks like and we can see how this journal entry affects your general ledger using te accounts sorry I've got a sore throat today this journal entry affects two accounts cash and revenue remember when using te accounts debits always go on the left and credits always go on the right so we debit your cash te account by $200 to increase cash in your balance sheet and recredit the revenue te account by $200 to increase Revenue in your income statement nice one that's the first example finished it wasn't so bad was it you're probably thinking well yes because there weren't any adjusting entries in this one you are spot on this transaction didn't include any deferred revenue or adjusting entries of any kind because both the payment and services happened on the same day in the same accounting period for deferred revenue to get involved in all of this we would need a special set of circumstances I would need to have paid you in advance in a past accounting period and you would need to be providing me with a service in the future accounting period I'll show you how this works in this second example this time no more C plan I want you to picture yourself as a commercial pilot on a passenger jet it's June and I'm getting homesick I want to buy a return flight from Vancouver to the UK to see all of my friends and family it's been ages since my last visit so this time I decide to go there for a whole month I buy a return flight for $800 in June on your airline my outbound flight is going to be the next month in July and the return leg is going to happen the following month in August this is our timeline we have three accounting periods June July and August to account for this transaction you're going to need to post three adjusting entries one in each month so let's do the first one in June I paid for my tickets but from your point of view at the airline you received $800 in cash you need to post a journal to debit your cash account by $800 to increase your cash right up to this point this journal is looking very familiar it's basically the same as the one from the first example you just need to post another $800 credit to revenue and we're got this is embarrassing let me think you're a commercial pilot of an International Airline large businesses like that use the acral basis of accounting but if we were to recognize this income right now then we will be cash accounting because in cash accounting you record Revenue as you receive keep the cash whoops so I wasn't meant to credit Revenue this time round because we are a cruel accounting okay I think I've got this now this time we don't credit Revenue in the income statement because we are acru Accounting in acrel accounting revenue is recognized as it's earned not when cash changes hands you haven't provided me with a service yet so you can't recognize any of this Revenue so this entry can't go anywhere that affects the income statement so so that leaves us with one option the balance sheet but is deferred revenue an asset or liability let's work it out assets bring us future economic benefit whereas liabilities involve a future economic sacrifice in this situation I've already paid for a plane ticket so now it's down to you to fly me out to the UK and back you've got work to do so you are going to make a future economic sacrifice so you need to recognize this deferred revenue as a liability in the balance sheet in fact deferred revenue is always recognized as a liability in the balance sheet so the other side of this journal entry is going to need to increase our deferred revenue in the balance sheet deferred revenue is a liability the L in dealer so it's a normal credit account credits increase it and debits decrease it so you need to credit your deferred revenue in the balance sheet to increase it by $800 let's see how this journal affects your general ledger now you've got three T accounts cash and deferred revenue in the balance sheet and revenue normal Revenue in the income statement your cash account has a debit balance of $800 from my initial payment and your unearned or prepaid revenue account holds a liability of $800 the normal revenue account is empty because we can't recognize any Revenue at this point let's fast forward to the end of July you've flown me out to London so half of my my return trip is complete if revenue is recorded as it's earned then you've earned half of your income the problem is as things currently stand you're holding $800 as a liability in the balance sheet this deferred revenue is not the same thing as normal Revenue that flows through your income statement you're going to need to post an adjusting entry to fix this situation let's do it we'll start off by debiting deferred revenue by $400 because we want to reduce this liability in the balance sheet and release half of it to the income statement but where does the other side of this adjusting journal entry go we need to credit to the revenue account by $400 to increase our Revenue in the income statement let's jot down how this adjusting entry is going to affect your te accounts we need to debit the left hand side of the deferred revenue te account by $400 and credit the right hand side of the revenue te account by $400 so as things currently stand you have cash of $800 from that initial payment and you are holding deferred revenue of $400 as a liability in your balance sheet we've released the other $400 which we now recognize as Revenue in the income statement in August you fly me back to Vancouver so the second leg of our round trip is complete you have one more adjusting entry to post this adjusting entry is going to be exactly the same as the one that we posted previously we need to debit deferred revenue by $400 to decrease it in the balance sheet and credit the normal revenue account by $400 to increase that in the income statement you post this adjusting journal entry and it hits your general ledger so in your August balance sheet you are still carrying that $800 of cash from the initial transaction but you no longer have any deferred revenue why because it has all been released to the income statement $400 in July when you performed half of the service and the other $400 in August where you completed the round trip you have successfully recorded your revenues as they were earned so your books are in line with the acral basis of accounting great success next up we have acred expenses an accured expense is a past expense that hasn't been recorded or paid for yet let's pause for a moment and think about what this means an acred expense is a p expense that hasn't been recorded or paid for yet so this expense will be recorded or paid out in the future but right now in the present we're still waiting for that to happen got it this will all become clearer with the example that we'll get into shortly but first let's think about how a typical business transaction Works imagine that we're the buyer and we want to buy something from someone the seller they send us the goods or provide us with a service and in addition to that that they hand us an invoice in return we pay them in cash voila transaction complete with ACR expenses the seller provides us with the goods or services sometime in the past but we don't receive the invoice from them or make the payment to them until later in the future why why why does all of this matter because as Financial accountants we like to use the acrel basis of accounting and in AC all accounting expenses are recorded as they are incurred not when cash changes hands I like to think of payments as accounting triggers when we pay money out of our bank account to A supplier we code the payment to the relevant account in the general ledger receiving an invoice is also an accounting trigger when using accounting software like QuickBooks Online you are required to enter the details from the invoice into your account's payable Ledger once you've received it I'll explain how this works later in the example okay why does all of this matter my point is that we have two accounting triggers the invoice and the payment if both of these are going to happen later in the future then right now in the present we've got a problem we have no accounting triggers to record the goods or services when we received them in the past that's when the substance of the transaction took place that's when the EXP expense was incurred and acral accounting is telling us that we need to record the transaction here but how do we go about inuring an expense in the past I'll show you right now let's imagine that we own a business and there are some basic overhead costs associated with running our office things like electricity Heating and water we call these utility expenses and for now let's focus on water in our office we are built for our water use on a quarterly basis four times a year and on each occasion the bill covers our water consumption for the previous 3 months today is November 1st the first day of a new billing cycle that means that 3 months from now on the 31st of January will'll receive a water bill covering three months November December and January three accounting periods and to keep things simple let's assume that water normally cost us about $50 per month let's jump forward now to November 30th 1 month has passed and it's the end of an accounting period do we have any adjusting entries to post yes we do we've been using water for a whole month but we haven't received a bill or paid for any of that consumption yet so we need to acrw an expense into our general ledger and how do we do that we post a journal entry we need to recognize a utilities expense in our income statement water normally costs us $50 per month so we need to increase our utility expenses by $50 expenses are the first e in dealer normal debit accounts so debits increase them and credits decrease them our utility expenses need to go up so we debit our utilities expense account by $50 but where does the other side of this transaction go we are double entry accounting so there is another side to this adjusting journal entry we've already hit expenses in our income statement so we need to temporarily hold the other side of this journal entry somewhere in our balance sheet in our ACR expenses account but are ACR expenses an asset or a liability let's work it out assets bring us future economic benefit whereas liabilities involve a future economic sacrifice we've already received economic benefit from this transaction because we've been using water for the past month but we haven't paid for it yet at the present moment we are committed to making a future economic sacrifice so we have to recognize an acred expense as a liability in the balance sheet acur expenses are always recorded as liabilities in the balance sheet and liabilities are the L in dealer normal credit accounts so credits increase acred expenses and debits decrease them so we need to credit our aced expenses to increase them by $50 in the balance sheet great let's see how this adjusting journal entry affects our general ledger using te accounts we have two te accounts the utilities expense account in the income statement and crude expenses in the balance sheet remember when using te accounts debits always go on the left and credits always go on the right we debit the left hand side of the utilities expense account by $50 and we credit the right hand side of acred expenses in the balance sheet by $50 so we have accured a utilities expense of $50 in our income statement for November now let's jump forward to the end of December another month has flown by do we have any more adjusting entries to post yes we do we've consumed another month's worth of water and we still haven't received a bill or PID for any of it yet we need to acrw some more utility expenses the journal entry looks like this it's exactly the same as the one we posted last month why because we estimated that water costs us roughly $50 per month so we need to recognize another $50 of utility expenses in December and on the flip side we need to increase our acred expenses in the balance sheet by another $50 and how does this impact our books like this our utility expenses now come to $100 50 of which was expensed in November and another 50 in December in our balance sheet we are now carrying aced expenses of $100 this liability keeps getting bigger because we've now gone 2 months without an accounting trigger to settle this once and for all we haven't received a bill or a payment in November or December so we are making our best estimate of what the bill might be at this stage okay now we'll jump forward to the end of January the final month of our quarterly billing cycle the water company has sent us an invoice covering the past 3 months and it comes to $153 so it's not bang on the $150 that we expected but that's okay we used our best estimate and we actually came in pretty close like I mentioned before I like to think of invoices as accounting triggers here's what I meant by that when we enter this invoice into quit books online or whatever accounting software you're using we need to categorize the transaction and when we do this it automatically triggers a journal entry that gets posted behind the scenes in our general ledger if you run a business and receive lots of invoices then this automatic posting can become a huge timesaver and it's one of the many benefits of using accounting software I'll pop a link down in the description to a free trial of QuickBooks online so you can test it for yourself it's an affiliate link so by signing up you will have the opportunity to support me making more accounting tutorials just like this one the automatic journal entry looks like this it debits our utilities expense account by $150 $3 to increase our expenses the other side of this journal entry is going to credit our accounts payable account by $153 in the balance sheet I just want to point out at this moment that we haven't actually paid our water bill yet we have only received the bill and now we have 30 days in order to make the payment we owe money to the water supplier so we have a liability in our balance sheet how does this affect our general ledger we need to credit our new account accounts payable in the balance sheet by $153 that's the final balance of what we owe to the supplier and we debit the utilities expense account in the income statement by $153 but hang on our utility expenses are now $253 that's quite High our final bill was only $153 how does any of this make sense we acred $50 of utility expenses in November and another $50 in December when we add the $153 that was automatically journaled in January we get $253 both our expenses in the income statement and our liabilities in the balance sheet are overstated by $100 that's because we have one more adjusting journal entry to post we need to release our acur expenses from the balance sheet so let's do that the journal entry looks like this we need to reduce our acur expenses in the balance sheet acred expenses are liabilities so we reduce them by debiting the account by $100 our utilities expense account and income statement is also overstated this is a normal debit account so to decrease it we credit the utilities expense account by $100 we post this journal entry into the January accounting period debiting the left hand side of acude expenses in the balance sheet by $100 and crediting the right hand side of the utilities expense account in the income statement by $100 when we close off the quarter we have incurred utility expenses of $153 in our income statement $50 which we acred in November another 50 in December and then in January we took up a further $53 there are no more acur expenses in our balance sheet because we released our $100 acral in January and we now owe $153 to our water supplier which we recognize as a liability in accounts payable we've recorded all of our expenses in the correct periods as we incurred them so our books are in line with the acrel basis of accounting well done on making it this far we have one more adjusting entry to go and it's called acred revenue or unbuild Revenue you've got this ACR revenue is revenue that has been earned but not invoiced yet sometimes you'll hear it's called unbuild Revenue but acrude revenue is what it's more commonly known as that was the definition but what does it really mean ACR revenue is revenue that we've earned in the past that we haven't built the client for yet so as of now in the present we haven't raised an invoice yet that'll happen later in the future I think it's easiest if we think of this in terms of a buyer and a seller if we're the seller then we provide goods or services to the buyer once we've done that once the work is done we send them an invoice and in return they send us the cash transaction complete we acrew Revenue whenever we have provided goods or services in the past that we haven't built the client for yet at some point in the future we intend to raise an invoice and after we've done that we'll receive the payment you might be wondering why do we do this why do we even bother it all comes down to the acrel basis of accounting because in acral accounting revenue is recognized when it's earned not when cash changes hands the issue with this scenario is that we provided the goods or services in the past that's when we did the work that's when we earned the revenue but we haven't raised the invoice yet and invoices prompt us to record transactions in our general leg so under normal circumstances we wouldn't be recognizing this Revenue until the invoice is raised which in this situation would be sometime later in the future so right now in the present we need to post an adjusting entry into our general ledger to recognize the revenue in the past when we earned it sound confusing it's all good things will become a lot clearer with this example I want you to imagine that you're a web developer and I'm a small business owner who's desperately in need of a website I've checked out some of your work and I have to say I'm impressed so I hire you to design my website for $500 it's June 1st and you immediately get started come the end of the month you finished up your work and the website's live I'm happy with the finished product and I'm ready to pay but the thing is you're busy with another job so you don't get around to raising the invoice until mid July let's work through the adjusting entries in this problem from your point of view on June June 1st do you have any adjusting entries to post no you haven't done any work yet so you haven't earned any Revenue what about June 30th yes now you need to post an adjusting entry over the previous 30 days you the seller provided me with a service by designing my website you earned this Revenue but you haven't raised the invoice yet so you need to ACR this Revenue into your BS how do you do that by posting a j entry you need to recognize Revenue in your income statement revenue is the r in dealer a normal credit account so credits increase revenue and debits decrease Revenue your Revenue needs to go up so you credit your revenue account in your income statement by $500 but where does the other side of this transaction go we're Double Entry accounting so there's another side to this adjusting journal entry you've already recorded Revenue in your income statement so we need to temporarily hold the other side of this transaction somewhere in your balance sheet in your acude revenue account but is AC crude Revenue an asset or liability let's find out shall we assets bring us future economic benefit whereas liabilities involve a future economic sacrifice you've already made an economic Sacrifice by providing me with a service in June but you haven't been paid for this service yet you're going to see that economic benefit later in the future so you need to recognize acred Revenue as an asset in the balance sheet acred revenue is always recorded as an asset in the balance sheet and assets are the A and dealer normal debit accounts so debits increase acur revenue and credits decrease acred Revenue so you need to debit your acred revenue account to increase it by $500 in the balance sheet nice one let's see how this adjusting entry affects your general ledger using te accounts you have two t accounts a normal revenue account in your income statement and an acur revenue account in your balance sheet remember when using te accounts debits always go on the left and credit always go on the right you guessed it so you credit the right hand side of your normal revenue account by $500 in your income statement and you debit the left hand side of AC cruded Revenue in your balance sheet by $500 this adjusting entry has allowed you to recognize $500 of Revenue in your income statement in June when you earned it okay let's fast forward to July what happens when you raise the invoice you need to post another journal entry in this transaction you're the seller so you have raised a sales invoice sales invoices are recorded in accounts receivable accounts receivable is a subledger that tracks all of the amounts owed to you by your customers it's a type of asset the a in dealer a normal debit account so to record your sales invoice you need to debit accounts receivable by $500 to increase it in your balance sheet what's the other side of this journal entry you've debited something so now you need to credit something else to keep your books in balance last month you took up $500 of acred Revenue in your balance sheet and now you're about to take up $500 more of accounts receivable you don't want to overstate your assets so we can release that acred revenue from your balance sheet now acred revenue is a normal debit account so you decrease it by crediting $500 from the account how does this journal entry affect your general ledger well now you've got three T accounts normal Revenue in the income statement acur Revenue in the balance sheet and accounts receivable which is also a balance sheet account when you raised the invoice in July you debited accounts receivable by $500 and credited acrw Revenue by $500 you'll notice that your income statement hasn't been touched you have still recognized $500 of Revenue in June when you earned it but you no longer have any accured Revenue in your balance sheet why because you raised a sales invoice so this asset these amounts owed to you have been transferred to accounts receivable in the balance sheet when I make the payment a few days later you'll receive cash for your services you'll need to debit your cash account by $500 because cash is an asset and credit accounts receivable by $500 to close the invoice this $500 asset which you initially held as AC crude Revenue has jumped from account to account in your balance sheet to accounts receivable when you raised the invoice and then to cash once you received the payment for your services there you go here's my adjusting entries cheat sheet it summarizes all of the key points that I made in this video and are you thirsty to learn more about accounting if so why not watch this video next and I'll see you there