Key Concepts
An expense account records every transaction affecting that expense during the financial period.
Each entry's Particulars column names the account on the other side of that double entry — the one where the matching debit or credit was posted. It tells you what each entry represents.
To interpret a ledger account:
- Identify each entry — what transaction does it represent? (Reversal, cash payment, year-end adjustment, or closing entry?)
- Check for year-end adjustments — look for entries that set up or reverse expense payable or prepaid expense balances.
- Find the expense for the period — the amount transferred to Income summary via the closing entry is the expense recognised for the year.
- Prepare financial statement extracts — any remaining balance for expense payable or prepaid expense at year end appears in the Statement of Financial Position.
Read an expense ledger account by when each entry appears:
- Start of year → reversals: a debit reverses the previous year's prepaid expense (brings the prepaid amount back into this year's expense); a credit reverses the previous year's expense payable (reduces this year's expense, since it was already recognised last year)
- At year end — adjustment (before closing) → a credit removes the unused portion from expense (recording it as prepaid expense); a debit adds the unpaid portion to expense (recording it as expense payable)
- At year end — closing → closing entry to Income summary (credit), clears the balance to nil
Expense for the period = the closing entry amount, not total cash paid.
| Date | Particulars | Dr ($) | Cr ($) | Balance ($) |
|---|---|---|---|---|
| 20X5 | ||||
| 1 Apr | Salaries expense payable | 4,000 | 4,000 Cr | |
| 30 Jun | Cash at bank | 52,000 | 48,000 Dr | |
| 20X6 | ||||
| 1 Mar | Cash at bank | 12,000 | 60,000 Dr | |
| 31 Mar | Prepaid salaries expense | 4,000 | 56,000 Dr | |
| 31 Mar | Income summary | 56,000 | — |
Interpret each entry:
(a) 1 April 20X5 — Cr $4,000 (Salaries expense payable):
On 1 April 20X5, salaries expense of $4,000 owing from the previous period is reversed out so it will not be counted again in the current period.
(b) 30 June 20X5 — Dr $52,000 (Cash at bank):
On 30 June 20X5, salaries expense of $52,000 is paid by cheque.
(c) 1 March 20X6 — Dr $12,000 (Cash at bank):
On 1 March 20X6, salaries expense of $12,000 is paid by cheque.
(d) 31 March 20X6 — Cr $4,000 (Prepaid salaries expense):
Salaries expense of $4,000 has been paid in advance but not yet incurred during the year ended 31 March 20X6, so it is recorded as a prepaid expense (current asset) and removed from this year's expense.
(e) 31 March 20X6 — Cr $56,000 (Income summary):
Salaries expense of $56,000 for the year ended 31 March 20X6 is closed to Income summary.
Verify: −$4,000 (opening payable reversed) + $52,000 + $12,000 − $4,000 (prepaid) = $56,000 ✓
Prepare an extract of the Statement of Financial Performance:
Statement of Financial Performance for the year ended 31 March 20X6 (extract):
| $ | $ | |
|---|---|---|
| Less: Other expenses | ||
| Salaries expense | 56,000 |
Prepare an extract of the Statement of Financial Position:
Statement of Financial Position as at 31 March 20X6 (extract):
| $ | |
|---|---|
| Current assets | |
| Prepaid salaries expense | 4,000 |
Why Each Step Matters
The opening credit on 1 April 20X5 is the entry students most often misread as income. It is not — it is a reversal of the previous year's expense payable. The expense for the period ($56,000) is determined by the closing entry, not by adding up cash payments. Of the $64,000 cash paid, $4,000 was already recognised as expense last year (reversed out by the opening entry) and $4,000 relates to salaries paid in advance but not yet used (set aside as prepaid salaries expense) — leaving $56,000 as this year's expense.
Misreading the opening credit as income. A credit entry at the start of the year on an expense account is a reversal of the prior year's expense payable — not income received.
Using total cash paid as the expense for the period. The correct expense figure is the closing entry amount, after all adjustments.
Confusing the direction of year-end adjustments. A year-end credit reduces the expense (recording the unused portion as prepaid expense); a year-end debit increases the expense (recording the unpaid portion as expense payable).