Question

The CHS Company paid $48,000 cash to its landlord on November 1, 2016 for rent covering the six-month period from November 1, 2016 through April 30, 2017. The books are adjusted only at year-end. Which of the following does not correctly describe the effect on CHS Company's financial statements of the December 31, 2016 adjusting entry?a. Net income decreases $16,000.b. Prepaid rent decreases $16,000.c. Rent expense increases $16,000.d. Stockholders' equity increases $16,000.

Answer 1

Answer:

d. Shareholders equity increases $ 16,000

Explanation:

Two months rent needs to be adjusted. The total payment made was for $ 48,000 for a six month period.  The monthly rent is $ 48,000/6 = $ 8,000

The adjustment amount is thus $ 8,000 * 2 months = $ 16,000

The adjusting entry is:

Rent expense                   Debit              $ 16,000

Prepaid rent                      Credit                                   $ 16,000

So this results in decrease in prepayment and an increase in rent expense. \Due to an increase in expenses, the net income decreases by the same amount.

The only option of increase in shareholders equity, is not valid as a reduction in net income shall result in a decrease in shareholders equity.