Question

On August 1, 2021, XYZ purchased a 2 year fire insurance policy from HIJ Company for $24,000. Copy the entire question(1, 2 and 3) along with the tables below to answer in the same format. I 1.) Prepare the adjusting entry for HIJ on 12/31/21 if the original entry was recorded to a temporary account and no additional entries have been made for the year associated with this transaction. (3 pts) 2.) Prepare the adjusting entry for HIJ on 12/31/21 if the original entry was recorded to a permanent account and no additional entries have been made for the year associated with this transaction. (3 pts) 3.) Prepare the adjusting entry if the unadjusted trial balance for XYZ as of 12/31/21 shows a balance of $17,000 in prepaid insurance. If no adjusting entry is required, write no entry required. (4 pts)

Answer 1

Temporary Account

Temporary account are the accounts which are not carried over to the next accounting period. This accounts are closed in the same accounting year. The examples of temporary accounts are Income and Expenses account. The balance of this accounts are transferred to the Permanent Account.

Permanant Account

Permanant Accounts are the accounts the balance of which are transferred to the Balance Sheet. The instances of Permanant accounts are Assets account and Liabilities accounts.

1)

If the original entry for the amount paid for insureance is recorded in a temporary acount then the amount will be recorded in the Insureance Account and the Original entry for the insureance paid will be -

Augast 1, 2021

Insurance Expense Account ............................Debit 24000

To Cash Account 24000

The Adjustment Entry at the year end will be -

December 31st, 2021

Prepaid Insureance Account........................Debit 18000

To Insureance Expense Account 18000

Working Note  

The unexpired insureance is for 18 months and the amount of unexpired insureance will be-

Unexpired Insureance = ( 24000 X 18/24) = $ 18000

2)

If the payment for the Insureance is entered in a Permanant Account then the Original Entry will be-

Augest 1, 2021

Prepaid Insureance Account...........................Debit $24000

To Cash Account $24000

From the above amount the expense for this year must have to be transferred to the Insureance Expense Account. The Adjusting Entry at the Year end will be -

December 31, 2021

Insureance Expense Account..........................Debit $ 6000

To Prepaid Insureance Account $ 6000

Working Notes

Expenses for this year is 6 months from 1st augest 2021 to 31st December 2021.

Insureance Expense = 24000 X 6/12 = $ 6000

3)

The Insureance Expense for the year ending 31st december 2021 = ( 24000 X 6/12 ) = $6000

The Prepaid Insureance which will be carried forward to the next period = ( 24000 X 18/24) = $ 18000

In the question it is said that the Prepaid Insureance balance showing in the unadjusted trial balance is $17000. That means the insureance account is showing (24000 -  17000) = $ 7000 balance in unadjusted trial balance. But the expense for the year is $6000. So, an adjustment entry of ( 7000 - 6000) = $ 1000 must have to be made and the Insureance Expense account has to reduce and Prepaid insureance account has to increase by this amount.

The Adjustment Entry will be -

Prepaid Insureance Account.............................Debit $ 1000

To Insureance Expense Account $ 1000