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Unformatted text preview: Solutions to Questions and Multiple Choice Questions: 1 2 3 4 5 6 7 Interest is the cost of borrowing money. It is calculated as follows: Interest = Principal x Rate x Time 8 9 10 11 12 13 The permanent accounts (assets, liabilities, and equities) will appear on a post-closing trial balance. 14 Accrual basis accounting means that revenues are recorded when earned regardless of when the cash is received, and expenses are recorded when incurred (used to earn the revenue to which it will be matched) regardless of when the cash outlay takes place. A deferral is a type of timing difference in which the cash is exchanged before the revenue is earned or the expense is incurred. An example of a deferred revenue is when a 12-month magazine subscription is sold and the customer pays the magazine publisher in advance. The magazine publisher receives the cash payment before any magazines are sent. The firm will earn the revenue over time as the magazines are published and mailed over the following 12 months. An example of a deferred (or prepaid) expense is when a 12-month insurance policy is purchased and paid for in advance. The firm records the cash outlay but will defer, or put off, recognizing the expense as the insurance expires. An accrual is a type of timing difference in which the revenue has been earned or the expense has been incurred, but no cash has been exchanged. An example of accrued revenue is when a company performs a service and bills the customer, but payment has not yet been received. An example of an accrued expense is when a company has received its utility bill, but has not yet paid the bill. Revenues are recognized, or recorded, when earned. Revenues are realized when the cash is collected. Revenues may be recognized in one accounting period and realized in another. The matching principle states that expenses should be matched with the revenues they help generate. That means they will be on the same income statement. Adjusting entries are entries prepared at the end of the accounting period to update account balances. The journal entries are needed (1) to recognize revenue or expenses that have been earned or incurred but were recorded as deferrals at the time the cash was received or paid and (2) to accrue revenue that has been earned but not yet recorded or expenses that have been incurred but not yet recorded to be sure they are recognized in the correct accounting period. An expense that has been incurred but not paid is recorded as an expense and a liability (payable). Revenue that has been earned but not received is recorded as a revenue and an asset (receivable). Depreciation is the process of allocating the cost of a long-term asset to each of the periods it is used....
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