During the period, when the firm makes a commitment for goods or services, encumbrances are debits and reserve for encumbrances are credited. During the period, when goods, that have been ordered (and encumbered), are received or contracted services are performed, two entries are prepared. a. Expenditures are debited against a decrease in assets or an increase in liabilities. This may or may not equal the amount of the original encumbrance. b. When the expenditure is recorded, the entry to record the encumbrance is reversed. Therefore, the amount remaining in the reserve for encumbrance represents the amount of funds that have been committed in the current period, but that are expected to be paid in the next period. Purchases of capital assets are recorded in the same manner as any expenditure. An expenditure is debited and either cash or a liability is credited. Gross proceeds from the sale of capital assets are recorded as revenues. O. Summary of closing entries for expendable funds Revenues are closed against estimated revenues. The difference is recorded in unreserved fund balance. Recall that appropriations are approved expenditures for the year. Appropriations are closed against expenditures (actual) and encumbrances (current year commitments). Any difference is reported in unreserved fund balance. Transfers to and from other funds are closed against unreserved fund balance.
Chapter 17 V. REPORTING INVENTORY AND PREPAYMENTS IN THE FINANCIAL STATEMENTS A. Inventory There are two acceptable methods, the consumption method and the purchases method , of accounting for and reporting inventory in the financial statements of expendable fund entities. Under the consumption method, inventory is considered to be a financial resource (asset), and expenditures for inventory are reported on the operating statement in the period in which the inventory is used. Under the purchases method, inventory is not considered to be a financial resource (asset) and expenditures are recognized in the period the inventory is purchased whether it is used or not. B. Reserve for inventory Purchases Method : Material amounts of inventory should be disclosed in the financial statements either by footnote or by reporting an asset in the balance sheet with a contra account, “Reserve for Inventory,” reported as part of the total fund balance. Consumption Method : In some cases it is considered desirable to both (1) use the consumption method and (2) report a reserve for inventory. If the consumption method is used, the reserve for inventory is created and adjusted by debiting or crediting the “unreserved fund balance.” C. Prepayments Prepayments for items such as insurance or rent that cover more than one accounting period may also be reported using the consumption or purchase methods. Under the purchase method the cost is reported as an expenditure in the period when the insurance premium or rent is paid without regard to the period benefited .Under the consumption method, a prepaid asset would be recorded and expenditures reduced to the extent that the premium or rent payment is for a subsequent period.