Watch Out! Quiz 2 Mistakes to Avoid

Chapters 3 & 4

These are mistakes that can cost you points even when you understand the big picture. See how many you can catch before revealing the explanation!

Confusing cash received with revenue earned Tap to reveal
Cash received does not automatically mean revenue earned.

Ask whether the company has actually performed the service or delivered the goods.

Cash collected before performance generally creates unearned revenue, a liability.

Waiting until cash is received to recognize revenue Tap to reveal
Under accrual accounting, revenue is recognized when earned.

If the company performs services on account, it recognizes revenue and accounts receivable even though the customer will pay later.

Recording an expense only when cash is paid Tap to reveal
Expenses are recognized when incurred.

If employees work in September but are paid in October, the expense belongs in September.

The payment date does not determine the expense recognition date.

Mixing up accrued and deferred items Tap to reveal
Accrued: Economic activity occurs before the related cash transaction.

Deferred: Cash changes hands before the related revenue is earned or expense is incurred.

Think about which happened first: the cash or the business activity.

Assuming that more cash means more profit Tap to reveal
A company can receive cash from borrowing, collecting an old receivable, or issuing stock.

Those receipts do not create new revenue.

Cash and net income measure different things.

Treating a prepaid expense as though the entire benefit has been used Tap to reveal
If a payment provides future benefits, the unused portion remains an asset.

Only the portion used or expired belongs in expense for the current period.

For calculations, identify the total coverage period and the amount of time already used.

Adjusting supplies for the amount remaining instead of the amount used Tap to reveal
The supplies expense adjustment records the amount used.

Amount used = unadjusted supplies balance - supplies remaining.

The unused portion stays in the supplies asset account.

Forgetting that unearned revenue is a liability Tap to reveal
Unearned revenue means the company still owes goods or services to its customer.

As the company earns that revenue, the liability decreases and revenue increases.

Crediting equipment instead of accumulated depreciation Tap to reveal
The usual depreciation adjustment is:

Debit depreciation expense.

Credit accumulated depreciation.

The equipment account generally continues to show its original recorded cost. Accumulated depreciation is a separate contra-asset account.

Forgetting how a missing adjustment changes net income Tap to reveal
Suppose a company forgets to recognize wages incurred but not yet paid.

Expenses are understated, liabilities are understated, and net income is overstated.

Think about what the adjusting entry should have changed. Then determine what remains wrong when that entry is omitted.

Closing permanent accounts instead of temporary accounts Tap to reveal
Temporary accounts: revenues, expenses, and dividends.

These are closed at the end of the period.

Permanent accounts: assets, liabilities, and stockholders' equity accounts, including retained earnings.

Permanent account balances carry forward into the next period.

Thinking dividends are an expense when closing accounts Tap to reveal
Dividends are not expenses.

Revenues and expenses determine net income. Dividends decrease retained earnings separately.

Retained earnings changes by net income minus dividends, not by net income alone.