Glossary term
Adjusting Journal Entry
An adjusting journal entry updates accounts at period end so revenue, expenses, assets, and liabilities match the correct accounting period.
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What Is an Adjusting Journal Entry?
An adjusting journal entry is an accounting entry made at period end to update account balances before financial statements are prepared. It helps revenue, expenses, assets, and liabilities reflect the correct accounting period under accrual accounting.
Adjusting entries are not usually about cash moving that day. They are about recognizing economic activity that has already happened, deferring amounts that belong to future periods, or updating estimates so the books are not misleading.
Key Takeaways
- Adjusting journal entries are made before financial statements are prepared.
- They help apply accrual accounting and matching principles.
- Common types include accruals, deferrals, depreciation, amortization, and estimates.
- An adjusting entry often affects one income statement account and one balance sheet account.
- Missing adjustments can overstate or understate profit, assets, liabilities, or equity.
Where Adjusting Entries Fit
Adjusting entries usually happen after routine transactions have been posted and before the adjusted trial balance is finalized. Accountants review balances, invoices, prepaid items, accrued obligations, revenue timing, depreciation schedules, and estimates to determine what needs to be updated.
For example, a company may have used insurance coverage during the month even though the annual premium was paid earlier. An adjusting entry moves the used portion from prepaid insurance to insurance expense. Another company may owe wages earned by employees before month-end but not paid until the next payroll date. An adjusting entry records wage expense and a liability.
Common Types
Type | What it does |
|---|---|
Accrued expense | Records an expense incurred before cash is paid. |
Accrued revenue | Records revenue earned before cash is received. |
Deferral | Moves prepaid or unearned amounts into the correct period. |
Depreciation or amortization | Allocates asset cost across useful life. |
Estimate | Updates allowances, bad debts, warranty costs, or similar estimates. |
Example
Suppose a business pays $12,000 for a one-year insurance policy on January 1 and initially records it as prepaid insurance. At the end of January, one month of coverage has been used. The adjusting entry debits insurance expense for $1,000 and credits prepaid insurance for $1,000.
Without the adjustment, January profit would be too high and the prepaid asset would be overstated.
What Good Adjustments Protect
Adjusting entries protect both the income statement and the balance sheet. They keep revenue from being recognized too early or too late, prevent expenses from disappearing into the wrong period, and make assets and liabilities closer to economic reality.
They also make comparisons more meaningful. A month with unpaid bills should not look artificially profitable merely because invoices have not arrived. A month with annual prepayments should not absorb a full year of expense if the benefit extends across future periods.
The Bottom Line
An adjusting journal entry updates the books before financial statements are prepared. It is one of the mechanisms that turns raw transactions into accrual-basis financial reporting.