Accounting adjustments definition
/What are Accounting Adjustments?
An accounting adjustment is a business transaction that has not yet been included in the accounting records of a business as of a specific date. Most transactions are eventually recorded through the recordation of (for example) a supplier invoice, a customer billing, or the receipt of cash. Such transactions are usually entered in a module of the accounting software that is specifically designed for it, and which generates an accounting entry on behalf of the user.
However, if such transactions have not yet been recorded as of the end of an accounting period, or if the entry incorrectly states the impact of the transaction, the accounting staff makes accounting adjustments in the form of adjusting entries. These adjustments are designed to bring the company's reported financial results into compliance with the dictates of the relevant accounting framework, such as Generally Accepted Accounting Principles or International Financial Reporting Standards. The adjustments are primarily used under the accrual basis of accounting.
Accounting adjustments can also apply to prior periods when the company has adopted a change in accounting principle. When there is such a change, it is carried back through earlier accounting periods, so that the financial results for multiple periods will be comparable.
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Examples of Accounting Adjustments
Examples of accounting adjustments are as follows:
Altering the amount in a reserve account, such as the allowance for doubtful accounts or the inventory obsolescence reserve.
Recognizing revenue that has not yet been billed.
Deferring the recognition of revenue that has been billed but has not yet been earned.
Recognizing expenses for supplier invoices that have not yet been received.
Deferring the recognition of expenses that have been billed to the company, but for which the company has not yet expended the asset.
Recognizing prepaid expenses as expenses.
Accounting Adjustment Best Practices
It can be time-consuming to formulate and record an accounting adjustment, and there is also a risk that the adjustment will be incorrect. Given these concerns, it makes sense to minimize the use of accounting adjustments. This can be accomplished by establishing a threshold level below which no adjustments will be made. Any proposed transactions below this threshold level are ignored, because they will have an immaterial impact on the resulting financial statements. This best practice can also reduce the amount of time required to close the books at the end of a reporting period and produce financial statements.
How Adjusting Entries are Made
Adjusting entries are made with a journal entry. Every journal entry contains a minimum of one debit entry and one credit entry, and may contain many more (which is known as a compound entry). The totals of all debits and credits entered into a journal entry must equal the same amount; otherwise, your accounting software will not accept the entry. Ideally, these journal entries should be set up as templates, which are standardized forms that already have the correct account numbers entered into them. Templates save time and also reduce the number of journal entry errors.
Reversing Entries
Some of these accounting adjustments are intended to be reversing entries - that is, they are to be reversed as of the beginning of the next accounting period. In particular, accrued revenue and accrued expenses should be reversed. Otherwise, inattention by the accounting staff may leave these adjustments on the books in perpetuity, which may cause future financial statements to be incorrect. Reversing entries can be set to automatically reverse in a future period, thereby eliminating this risk.
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Accrual-Type Adjusting Entries