Question

Over/Under: Alpha failed to record AJEs for $500 interest earned from a note receivable and $700 interest incurred from a note payable. None of the interest will be paid or received until next year. This has what effect on assets, liabilities, and net income

Answer 1

Answer:

Alpha

The effects on assets, liabilities, and net income are as follows:

Assets are understated by $500

Liabilities are understated by $700

Net income is overstated by $200

Explanation:

a) Data and Calculations:

Interest earned from a note receivable = $500

Interest incurred from a note payable = $700

Failure to record these has the following effects:

Assets are understated by $500 (<  $500)

Liabilities are understated by $700 (<  $700)

Net income is overstated by $200

b) Adjusting Journal Entries (AJEs) ensure that the accounts are up-to-date in accordance with the accrual concept of financial accounting.  The accrual concept requires that transactions affecting a financial period must be reported in the affected period.  This implies that expenses incurred must be recognized in the period they are incurred and not when cash is paid.  Similarly, revenue earned must be recognized in the period they are earned and not when cash is received.