Accounting

Why are adjustments important in final accounts?

Businesses rely on their accountants to report accurate information. The owners and managers use this information to make decisions on behalf of the business. The accountant records financial transactions throughout the month as they occur. They receive documentation for each transaction, such as invoices or customer deposits. Sometimes at the end of the month, they also record adjusting entries. Adjusting entries update the financial records for events that have occurred, but no document for a transaction exists.

Adjusting Entries

Adjusting entries bring the account balances current as of the last day of the month. This means that events that have not been documented yet are recorded through these entries. An example of an adjusting entry includes recording wages for the last days of the month for which employees have not been paid yet. Another example would be to record the electricity used through the end of the month even though a bill has not been received.

Matching Concept

The idea behind recording adjusting entries lies with the matching concept. The matching concept records the cost of doing business during the same business that the company earns the revenue. The financial records then communicate the activities that occurred rather than the actual money that was transferred. These include providing services for customers and billing them later for the work or receiving inventory and paying for it the following month.

Financial Reporting

Adjusting entries allow the accountant to communicate a more accurate picture of the company’s finances. The owner can read through the financial statements knowing that everything that occurred during the month is reported even if the financial part of the transaction will occur later. A financial statement prepared without considering adjusting entries would misrepresent the financial health of the company.

Meaning of Adjustments:

Adjustment entries are those entries which need to be passed at the end of the accounting period so that the true profit or loss and fair financial position of the business can be shown. Trial Balance is the base for preparing final accounts of any business enterprise. To see the arithmetical accuracy we record all balances of debits and credits extracted from ledger accounts, including cash book in this statement. There are possibilities that some such items, as were not detected at the time of preparing trial balance, could hence not be shown in the trial balance.

For example, closing stock cannot be estimated during the accounting year and is usually valued after the accounting year is over. Similarly, depreciation is charged on fixed assets at the end of the accounting year. In the same parlance, there are innumerable important items that may not find a place in the trial balance.

As per Generally Accepted Accounting Principles (GAAP), all these items are very important and critical to calculate the actual earnings and thus show assets and liabilities at their true and fair values.

From the above it is clear that these items must be shown in the final accounts of business enterprise because without showing the impact of these items we cannot say that books of accounts show true and fair view of the business enterprise. It is also true that the ultimate impact of these items must show itself in trading and Profit & Loss Account and Balance Sheet.

Now question arises as to how these items can be shown when all the ledger accounts must have been closed. The only option available is to pass adjusting entry for each and every such item in such a manner that the true and ultimate impact on Trading and Profit & Loss Account and Balance Sheet can be shown. Following the double entry system, adjustment entries are to be posted to at least two accounts.

Types Of Adjusting Entries

Adjusting entries are primarily of six types:-

ACCRUED REVENUES

These entries help a business to report all the revenues it earns during the accounting period. There might be a case when a company has already provided a service, but it has not yet got the payment for the same. So, accrual type adjusting entries are shown in the financial statements to account for such revenues.

ACCRUED EXPENSES

Just like the accrued income or revenue, a company should only record the expenses that it incurs. A business must report an expense even if it does not pay for it. Take for example; a company hires a worker from on a contract basis. The company is expecting to get an invoice on January 2nd and remit the payment on January 10th. However, the services of the worker were availed in December. Therefore, the company needs to account the expense and liability as of December 31.

DEFERRED EXPENSE

Deferred expenses are the payment made in the present for future expenses. One must refer these payments as deferred until the expenses expire or the company avails the service. For example, a company pays $10000 on December 25 towards vehicle insurance for the six-month period starting January 1. This means the insurance is prepaid for a period between December 25th and December 31.

DEPRECIATION EXPENSE

It is in relation to the use of a fixed asset in the business. Examples of fixed assets are machinery, equipment, vehicles, furniture and so on. Usually, a company depreciates an asset at a certain rate that has a useful life for more than one year. Through depreciation, the company allocates the cost of the asset as an expense in the accounting periods in which the company uses the asset. For instance, a machine costing $50000 with no salvage value and useful life of 20 years will result in a monthly depreciation expense of $50000/240 (20*12).

DEFERRED REVENUE

If the company receives any amount as advance before earning, it should mention it as a liability in the current accounting period. For instance, a company gets an advance of $5000 for offering a service that it will offer at a later date. As on December 31st, the company should determine the portion of the service that it has already delivered. This portion will come as income, and the balance will be deferred revenue.

DOUBTFUL ACCOUNTS OR BAD DEBTS

Not all debtors pay their dues. To account for this, the company makes provision for bad debts, and it needs to update the balance regularly to account for more bad debt or bad debt making payment.

Purpose of Adjusting Entries

The main purpose of adjusting entries is to update the accounts to conform with the accrual concept. At the end of the accounting period, some income and expenses may have not been recorded, taken up or updated; hence, there is a need to update the accounts.

If adjusting entries are not prepared, some income, expense, asset, and liability accounts may not reflect their true values when reported in the financial statements. For this reason, adjusting entries are necessary.

What are adjusting entries? Why are they necessary for preparing final accounts?

Entries which are given outside the trial balance are called adjustment entries, to record those entries a proper treatment is required according to the double entry system. Here it is to be remembered that all adjustments given outside the Trial Balance are posted at two places. Adjustment is generally done for those items which are omitted or entered with the wrong amount and/or recorded under wrong heads.

The following are reasons for recording or incorporating these adjustment entries in preparation of final account.

• Through these adjustment entries we come to know the actual figure of profit or loss
• Because of these adjusting entries we can assess the true financial position of an organisation based on accrual basis of accounting
• These adjustment entries enable us to records the omitted entries and help in rectifying all those errors.
• These adjusting entries help in providing depreciation and making different provisions, such as Bad Debts and Depreciation.

Can your tax preparer get your stimulus check?

Where are stimulus checks going?

A tax preparation consultant in the Washington, D.C., area, has been inundated with calls and emails from clients wondering what happened to their payout.

“I had to investigate,”

We discovered that the unrecognized digits people found listed on the portal were linked to refund transfers accounts, often created on behalf of taxpayers who want preparation fees taken out of refunds so they don’t have to pay preparers upfront.

“Those last four digits on the Get My Payment portal match the transfer provider’s information that has been submitted to the IRS,”

After you file your taxes with a tax professional, transfer banks such as MetaBank, Republic Bank and Santa Barbara Tax Product Group set up temporary accounts for taxpayers who want a refund advance or to deduct tax preparation fees from a refund.

That account number and the bank’s routing number are sent off with the tax return to the IRS.

The IRS deposited some stimulus checks into these temporary accounts, according to MetaBank. “The IRS has not explained to us why this error occurred,” MetaBanks said in a statement.

How Will I Get My CARES Stimulus Payment if my Preparer Paid My Refund?

The IRS also noted that a due to a reporting error the “Where’s My Payment” app sometimes stated that rejected payments were going to the same account a second time. According to the IRS, these payments were in fact to be mailed as checks  and not re-sent to the closed account.

If you experienced this issue and were not aware that your refund was paid through your preparer, you may reconsider your choice of preparers in the future. IRS and banking rules require clear disclosure of the use of these products and any associated fees. For many taxpayers, IRS FreeFile, available through the IRS website allows you to file without the fees associated with commercial preparers.

As most Americans know by now, the CARES Act instructs the IRS to send every non-dependent with a social security number a payment of $1,200 for an individual ($2,400 for a married couple), with an additional $500 for each child. The payments phase out for people with income over $75,000 for an individual or $150,000 for a married couple.

In order to get the money to you as soon as possible, the IRS will direct deposit the stimulus payment if the IRS knows your bank account. The IRS will rely on the bank account information reported on a taxpayer’s 2018 or 2019 income tax return in order to quickly deliver the checks to intended recipients.  For taxpayers who have not yet filed an income tax return for 2019 or for whom the filed 2019 return has not yet been processed, the IRS will use the information from the 2018 tax return, if filed.

The IRS is rolling out a “Get My Payment” application for taxpayers to enter direct deposit information if it’s not already on file, but reportedly this app cannot be used to update existing bank account information. The IRS’s description of Get Your Payment states that it will allow taxpayers who have not provided direct deposit information to provide bank information, but does not indicate that it will allow taxpayers to change information the IRS already has on file.

Consumers beware

“The IRS has not announced how it will send the stimulus payment to taxpayers who selected [refund] bank products during their most recent tax filing,”. “We are directing clients to Get My Payment to find their payment status, type and whether the IRS needs more information, including bank account information.”

A spokeswoman for Online service  has all the bank account information for its customers who received tax refunds electronically.

“They have created confusion by not always using clients’ final destination bank account information for stimulus payments,”, a spokeswoman for the company. “We share our clients’ frustration that many of them have not yet received these much-needed payments due to IRS decisions, and we are actively working with the IRS to get stimulus payments sent directly to client accounts.”

The issue does highlight the need for more consumer awareness before taking these refund deals, which can come with fees as high as $35 to $45 as well as a $200 to $300 tax preparation fee.

While some tax preparers explicitly point out that the fees are bank products and how much they cost, others don’t, Wu said. Consequently, many people may not even realize they  have been charged.

Do I Get a Stimulus Check?

The first checks started going out the week of April 13, 2020. The Department of Treasury’s new portal, Get My Payment, opened on April 15 and announced significant enhancements April 26 to deliver an “improved and smoother experience.” Use it to track the following information, according to the IRS :

• Your payment status
• Your payment type
• Your expected payment date
• Whether the IRS needs more information from you, including bank account information.

Myths About the Stimulus Payment

Rumors are flying fast and furious, as are scammers. Keep the following myths in mind as you prepare to receive your payment—or examine your account once it arrives.

Myth #1: I will have to declare my payment as income for 2020.

Stimulus checks are not taxable. They are considered refundable tax credits and therefore not subject to income tax.2

Myth #2: If my 2020 income is higher than in 2019, I will have to pay money back.

While it’s true that your stimulus check is calculated based on your 2018 or 2019 tax return and is intended as a refundable tax credit for 2020, if your 2020 income is higher than in the year used to calculate your stimulus payment, you do not have to pay back the difference.2

Myth #3: If my 2020 income is lower than in 2019, I won’t get the difference.

If your 2020 income is lower than in 2019 in a way that means you would have qualified for a larger stimulus check than you received, you can apply for the difference when you file your 2020 taxes in 2021.2

Myth #4: Any refund I receive in 2020 will be reduced by the amount of this stimulus payment.

The stimulus is a refundable tax credit, not a regular refund. Your refund for tax year 2020 will not be affected by the stimulus payment.2

Myth #5: If my dependent child turns 17 in 2020, I have to give that money back.

The rules state that the dependent child must be under the age of 17 at the end of 2019. So long as that is true, it doesn’t matter that your child turns 17 in 2020.3

Myth #6: If I did not claim my under-17 child as a dependent in 2019, I will not get the $500 payment for that child.

While you will probably not receive the dependent payment now, any child or children, including a baby born this year, you claim on your 2020 taxes will be eligible for the $500 payment when you file your 2020 taxes in 2021.

How to Pay Less Taxes

The idea of tax planning is to arrange your financial affairs so you ultimately end up owing as little in taxes as possible. You can do this in three basic ways: You can reduce your income, increase your deductions, and take advantage of tax credits.

How to Reduce Taxable Income

Your adjusted gross income (AGI) is the key element in determining your taxes. It’s the starting number for calculations, and your tax rate and various tax credits depend upon it. You won’t be able to qualify for certain tax credits if it’s too high. The more money you make, the higher your AGI will be and the more you’ll pay in taxes. Conversely, you’ll pay less in taxes if you earn less.That’s the way the American tax system is set up. And it all begins with that magic number—your AGI.

Feed the IRA, lower your taxes

One reason that financial advisers consistently recommend contributions to a retirement plan as the best way to reduce a tax bill is that most of those contributions—depending on the type of plan—are essentially tax write-offs that don’t require itemization.

Because the money you contribute to a traditional IRA is a pre-tax contribution, it lowers your total taxable income. This means you will owe less in income taxes, regardless of whether you itemize or take the standard deduction. And because in recent years contributions made until the tax deadline have been applied to the return for the previous year, they have been popular among people who scramble to soften the blow of a large tax bill.

Invest in Municipal Bonds

Buying a municipal bond essentially means lending money to a state or local entity for a set number of interest payments over a predetermined period. Once the bond reaches its maturity date, the full amount of the original investment is repaid to the buyer.

Municipal bonds are exempt from federal taxes, and may be tax exempt at the state and local level as well, depending on where you live. Tax-free interest payments are what make municipal bonds attractive to investors.

Municipal bonds historically have lower default rates than their corporate bond counterparts (for investment grade securities, the default rate is 0.1% for municipal bonds versus 2.28% for corporate).However, municipals typically pay lower interest rates. Because of the tax benefits, bondholders must understand their tax equivalent yield. The higher your tax bracket, the higher your tax equivalent yield.

Deduct Half Your Self-Employment Taxes

The government assesses a 15.3% Federal Insurance Contributions Act tax on all earnings to pay for the Social Security and Medicare programs.

While employers split the cost with their workers, self-employed individuals are responsible for paying the entire amount themselves. To compensate for the extra expense, the government will let you deduct 50% of the amount paid from your income taxes. You don’t even need to itemize to claim this tax deduction.

Itemize State Sales Tax

Taxpayers who itemize their deductions can include either their state income tax or state sales tax on their Schedule A form. The state sales tax break is a great option if you live in a state without income taxes.While taxpayers can use a table provided by the IRS to easily claim their sales tax deduction,  remember to add on the sales tax from any major purchase such as a car or boat.

The federal tax deduction for state and local taxes is capped at $10,000 from all sources.

Make a charitable donation

Making donations to charity is tax-free. Either yourself or the charity can claim the tax back through Gift Aid. If you pay higher or additional-rate tax, you can also claim back the difference to the basic-rate on any Gift Aid donations.  To do this, you need to claim on your self-assessment tax return or ask HMRC to adjust your tax code. As a basic rate taxpayer, a £1.25 donation will cost you a pound. For higher rate taxpayers, you’ll pay just 75p. Keep records showing the date and amount you have donated.

Maximise your personal savings allowance

In 2020-21, you can earn £1,000 of interest on savings tax-free if you’re a basic-rate taxpayer. If you’re a higher-rate taxpayer, your tax-free allowance is £500.  You’ll only pay tax on savings income that exceeds this threshold. This will no longer be deducted automatically by the savings provider. If tax is due, you’ll need to pay it via self-assessment or have it deducted via PAYE. Keep in mind that you won’t have a savings allowance as an additional-rate (45%) taxpayer.