In an accounting period, the accountants may create some reversing entries. These are the journal entries that will reverse certain entries they have made in the last period. Usually, the reversing entries will appear when a new accounting period starts. The accountants will use them when they have accrued some revenues or expenses in the last period, and they do not want to keep those accruals in the accounting system in the next accounting period.
There is a risk that the accountants will forget to reverse the entries manually in the next period. To avoid such a situation from happening, most of the accountants in the accounting firm Johor Bahru will set the original entries as reversing entries when they create them. They can do so by clicking on the flag for reversing entry in the accounting software. Then, the software will create the reversing entry automatically in the next accounting period.
As an instance, imagine that your company has an accrued expense of RM40,000 in March since you have not received the supplier’s invoice. Hence, the journal entries that you should make are:
– Debit RM40,000 to the expense account
– Credit RM40,000 to the accrued expense account
So, when the accounting period for April starts, you should create the revering entries as follows:
– Debit RM40,000 to the accrued expense account
– Credit RM40,000 to the expense account
This means that you have created the expense of RM40,000 in your March income statement, but in April, you have created a negative expense of RM40,000 in the income statement.
After that, you have received the supplier’s invoice in late April. Then, you should record the following entries that offset the negative RM40,000. If you do not do so, this amount will appear in your April income statement.
– Debit RM40,000 to the expense account
– Credit RM40,000 to the accounts payable account
As a result, the RM40,000 expense will appear in the income statement in March, and this complies with the accrual basis of accounting. In April, there is no net expense recognition at all. Thus, the example above shows that by using the reversing entries, we will be able to record an expense in the period that it has incurred but not when we receive the supplier’s invoice for that transaction in a later accounting period.
Listed below are two more examples for reversing entries:
In May, you accrued revenue of RM25,000 as you have earned it, but you have not billed the invoice to your client. You plan to bill the invoice in June, so, at the beginning of June, you create reversing entries to reverse the RM25,000 that you have accrued. Later, in the same month, you bill your client the invoice, and the final billing is RM30,000. Thus, the net result is that you have recognised revenue of RM25,000 in May, and an extra RM5,000 of revenue in June.
In July, you accrued an expense of RM10,000 for a supplier invoice that you have not received when you close your books for July. You predict that your supplier will send you the invoice a week after you close the books. Therefore, in early August, you create reversing entries for RM10,000. After that, you received the invoice, and you record it in August. Hence, the net result is that you have recognised an expense of RM10,000 in July, whereas in August, there is no net expense recognition.
What will happen if you forget to make the reversing entries?
By using the examples above, if you forget to make reversing entries in the first situation, the accounting record will show revenue of RM25,000 that you have recorded in May, and there will be an extra revenue of RM30,000 in June. This means that you have overstated your revenue by RM25,000 in the two months. To spot this problem, you may see an accrued accounts receivable of RM25,000 in your accounting records if you have been checking your asset accounts regularly.
In the second case, if you forget to reverse the expense, the records of the RM10,000 expense will appear twice in the accounting records, once in July and another time in August. The amount in August is incorrect. To spot this problem, you may see an accrued liability of RM10,000 in your accounting records if you have been checking your liability accounts regularly.
If there is an expectation that you will be keeping the accrual for a long time before reversing it, you need to note the accrual in the journal entries. Every month when you are closing the books, you should review it and treat it as a part of the closing process until you reverse it. Besides, conducting regular account reconciliations for every balance sheet account is also an effective way of detecting unreversed entries.