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← Unit 1: The Accounting Cycle

BAT4M · Unit 1 test review

The Accounting Cycle: Test Review

Everything for the Unit 1 test on one page: the key facts from all 6 lessons, the mistakes that cost the most marks, and a practice test that points you back to the lessons you need.

Key facts

GAAP Principles in Practice

  • Objective of financial reporting: information useful to investors, lenders and creditors deciding whether to provide resources.
  • Fundamental qualities: relevance and faithful representation (complete, neutral, free from error). Enhancing: comparability, understandability, verifiability, timeliness.
  • Assumptions: going concern, business entity, monetary unit, time period.
  • Matching drives adjusting entries; cost drives asset valuation at historical cost; revenue recognition drives Unearned and Accrued Revenue.
  • Conservatism (prudence) means caution under uncertainty, e.g. inventory at the lower of cost and net realizable value, never deliberate understatement.

Who Sets and Enforces the Rules

  • CPA Canada formed in 2013 (CICA plus CMA Canada); CGA-Canada joined in 2014. CPA Ontario regulates the profession in Ontario.
  • The AcSB sets Canadian standards: ASPE for private enterprises; IFRS (written by the IASB) for publicly accountable enterprises since 2011.
  • ASPE says amortization for capital assets; IFRS says depreciation (and amortization for intangibles).
  • The OSC enforces public-company disclosure in Ontario; the CRA administers income tax and HST; auditors give an independent opinion on fair presentation.
  • Tax rules (CCA) can differ from accounting rules (amortization), so book income and taxable income can legitimately differ.

The Accounting Cycle in a Computerized System

  • Cycle: analyze, journalize, post, unadjusted trial balance, adjust, adjusted trial balance, statements, close, post-closing trial balance, (reverse).
  • Software automates posting, the trial balance and statement preparation; the accountant analyzes transactions, records adjustments and estimates, and reviews.
  • Perpetual sale = two entries: Dr A/R, Cr Sales, Cr HST Payable; and Dr COGS, Cr Merchandise Inventory.
  • Net Sales = Sales - Sales Returns and Allowances - Sales Discounts; Gross Profit = Net Sales - COGS.
  • Periodic COGS = Beginning Inventory + Purchases - Purchases Returns and Allowances - Purchases Discounts + Freight-in - Ending Inventory.
  • HST on an Ontario sale: 13% of the selling price, credited to HST Payable.

Adjusting Entries and the Matching Principle

  • Every adjusting entry pairs one income statement account with one balance sheet account, and never involves Cash.
  • Prepaid: Dr Expense, Cr Prepaid asset. Unearned: Dr Unearned Revenue, Cr Revenue.
  • Accrued revenue: Dr Receivable, Cr Revenue. Accrued expense: Dr Expense, Cr Payable.
  • Interest , with in years (months divided by 12).
  • Straight-line amortization = (cost - residual value) / useful life; declining-balance = rate x net book value. Credit Accumulated Amortization (ASPE term; IFRS says depreciation).

Closing and Reversing Entries

  • Temporary accounts (revenue, contra-revenue, expenses including COGS, drawings) are closed; permanent accounts (assets, liabilities, capital) carry forward.
  • Closing order: revenue to Income Summary; expenses to Income Summary; Income Summary (net income) to Capital; Drawings to Capital.
  • Ending capital = beginning capital + net income - drawings.
  • The post-closing trial balance lists only permanent accounts.
  • Reversing entries are optional, dated the first day of the new period, and used mainly for accruals (and for prepayments first recorded in an expense or revenue account); final balances are the same either way.

Ethics, Fraud and Current Issues

  • Fraud triangle: pressure (incentive), opportunity, rationalization. Internal controls mainly reduce opportunity.
  • Key controls: segregation of duties, authorization, safeguards, independent checks, documentation, mandatory vacations.
  • Common manipulation: early revenue recognition, capitalizing expenses, skipping accruals, cookie-jar reserves, convenient estimate changes, off-balance-sheet debt.
  • Enron hid debt off the balance sheet; WorldCom capitalized operating costs; both led to stronger certification and auditor oversight rules.
  • IFRS is used in well over 100 jurisdictions; Canada adopted it for public companies in 2011; the US uses US GAAP.
  • Technology automates recording and enables full-population analytics, but professional judgement and accountability stay with people.

Where marks get lost

  • Recording a customer's deposit as revenue the day the cash arrives. Cash received is not the trigger; performance is. (GAAP Principles in Practice)
  • Writing capital assets up to an appraised value under ASPE because the appraisal is "more accurate." The cost principle keeps them at historical cost. (GAAP Principles in Practice)
  • Leaving delivery or installation charges in an expense account instead of adding them to the cost of the asset. (GAAP Principles in Practice)
  • Treating conservatism as permission to understate profit on purpose. Deliberate understatement violates neutrality. (GAAP Principles in Practice)
  • Calling a change in amortization method "just a choice" and not disclosing it. Consistency requires the change to be justified and disclosed. (GAAP Principles in Practice)
  • Thinking CPA Canada writes the standards itself. The AcSB (an independent board) sets Canadian standards; CPA Canada publishes them in the Handbook. (Who Sets and Enforces the Rules)
  • Assuming every Canadian business uses IFRS. Private enterprises usually use ASPE; IFRS is required only for publicly accountable enterprises. (Who Sets and Enforces the Rules)
  • Believing the CRA enforces GAAP. The CRA enforces tax law, which can treat items differently from accounting standards. (Who Sets and Enforces the Rules)
  • Using "depreciation" in an ASPE answer. ASPE calls it amortization; IFRS calls it depreciation. (Who Sets and Enforces the Rules)
  • Saying an audit guarantees the statements are error-free. It gives reasonable assurance about material misstatement. (Who Sets and Enforces the Rules)
  • Forgetting the second entry for a perpetual sale (Dr COGS, Cr Merchandise Inventory), so inventory and gross profit are both overstated. (The Accounting Cycle in a Computerized System)
  • Debiting Sales directly for a return instead of using Sales Returns and Allowances. (The Accounting Cycle in a Computerized System)
  • Calculating the sales discount on the HST-inclusive total instead of the price of the goods. (The Accounting Cycle in a Computerized System)
  • Treating Freight-in as a delivery (selling) expense. Freight-in is part of inventory cost; only freight-out is Delivery Expense. (The Accounting Cycle in a Computerized System)
  • Assuming a trial balance printed by software must be correct because it balances. (The Accounting Cycle in a Computerized System)
  • Putting Cash in an adjusting entry. If cash moved, it is a regular transaction, not an adjustment. (Adjusting Entries and the Matching Principle)
  • Recording the amount remaining instead of the amount used, e.g. debiting Supplies Expense $380 (on hand) instead of $1,070 (used). (Adjusting Entries and the Matching Principle)
  • Crediting Equipment instead of Accumulated Amortization, which erases the asset's original cost from the records. (Adjusting Entries and the Matching Principle)
  • Using the annual interest rate without multiplying by the fraction of the year ( = months / 12). (Adjusting Entries and the Matching Principle)
  • Forgetting that wages earned after the last payday must be accrued even though nobody has been paid yet. (Adjusting Entries and the Matching Principle)
  • Closing Drawings into Income Summary, which wrongly reduces net income. Drawings goes straight to Capital. (Closing and Reversing Entries)
  • Closing a permanent account such as Unearned Revenue or Accumulated Amortization. (Closing and Reversing Entries)
  • Forgetting that Cost of Goods Sold and the contra-revenue accounts are temporary and must be closed. (Closing and Reversing Entries)
  • Reversing amortization or a prepaid adjustment, which reinstates an expense or asset that no later transaction will correct. (Closing and Reversing Entries)
  • Dating a reversing entry December 31 instead of the first day of the new period, which cancels the adjustment before the statements are prepared. (Closing and Reversing Entries)
  • Thinking manipulation means inventing fake transactions. Most schemes exploit timing and estimates within real transactions. (Ethics, Fraud and Current Issues)
  • Assuming an off-balance-sheet item is automatically illegal. Many are legitimate; the problem is failing to disclose them. (Ethics, Fraud and Current Issues)
  • Calculating the effect of a capitalized expense as the full amount, forgetting that one year of amortization was still expensed. (Ethics, Fraud and Current Issues)
  • Believing automation or AI removes the need for controls. Automated errors repeat on every transaction until someone reviews them. (Ethics, Fraud and Current Issues)
  • Saying the US uses IFRS. US public companies use US GAAP; foreign companies listed in the US may file under IFRS. (Ethics, Fraud and Current Issues)

Practice test

24 questions from across the unit. Each one shows the lesson it comes from.

  1. GAAP Principles in Practice
    1
    Land cost $400,000. It is now appraised at $650,000. Under ASPE, the balance sheet reports:
  2. GAAP Principles in Practice
    2
    On October 1 a customer prepays $9,000 for 12 months of service. The fiscal year ends December 31. How much revenue is earned in this fiscal year? Answer to the nearest dollar.
    $
  3. GAAP Principles in Practice
    3
    Inventory cost $30,000. Because of a style change it can now be sold for only $26,000 after selling costs. What amount is reported?
  4. GAAP Principles in Practice
    4
    A company switches amortization methods every year, always to whichever gives the highest profit. Which characteristic is damaged most directly?
  5. Who Sets and Enforces the Rules
    5
    A company's shares trade on a Canadian stock exchange. Which framework must it use?
  6. Who Sets and Enforces the Rules
    6
    What does the abbreviation ASPE stand for?
  7. Who Sets and Enforces the Rules
    7
    An auditor's unmodified opinion means the auditor has obtained:
  8. Who Sets and Enforces the Rules
    8
    A private corporation that plans to list its shares on a stock exchange in a few years should consider:
  9. The Accounting Cycle in a Computerized System
    9
    Goods are sold on account for $3,500 plus 13% HST. What is the total debited to Accounts Receivable? Answer to the nearest cent.
    $
  10. The Accounting Cycle in a Computerized System
    10
    Net sales are $81,500 and cost of goods sold is $49,700. Calculate gross profit to the nearest dollar.
    $
  11. The Accounting Cycle in a Computerized System
    11
    Periodic system: beginning inventory $12,000; purchases $58,000; purchases returns $1,500; purchases discounts $900; freight-in $1,400; ending inventory $14,000. Calculate COGS to the nearest dollar.
    $
  12. The Accounting Cycle in a Computerized System
    12
    Which error would a computerized trial balance NOT reveal?
  13. Adjusting Entries and the Matching Principle
    13
    A 12-month insurance policy costing $7,200 is bought September 1 and debited to Prepaid Insurance. What is the December 31 adjusting entry amount? Answer to the nearest dollar.
    $
  14. Adjusting Entries and the Matching Principle
    14
    Accrued wages of $2,250 are not recorded at year end. The effect is:
  15. Adjusting Entries and the Matching Principle
    15
    Match each adjustment to the principle that requires it.
    Accrued wages
    Unearned revenue now earned
    Recording equipment at original cost with a separate accumulated amortization account
    Dividing the business's life into fiscal years
  16. Adjusting Entries and the Matching Principle
    16
    The Supplies account shows $1,900. A count finds $650 of supplies on hand. What is the amount of the adjusting entry? Answer to the nearest dollar.
    $
  17. Closing and Reversing Entries
    17
    Which account is closed at the end of the period?
  18. Closing and Reversing Entries
    18
    Reversing entries are appropriate for:
  19. Closing and Reversing Entries
    19
    Put these closing entries in the usual order.
    1. 1Close expense accounts to Income Summary
    2. 2Close Drawings to Capital
    3. 3Close Income Summary to Capital
    4. 4Close revenue accounts to Income Summary
  20. Closing and Reversing Entries
    20
    Name the temporary account used during closing to collect all revenue and expense balances.
  21. Ethics, Fraud and Current Issues
    21
    Match each fraud triangle element to an example.
    Pressure
    Opportunity
    Rationalization
  22. Ethics, Fraud and Current Issues
    22
    Enron's collapse is most closely associated with:
  23. Ethics, Fraud and Current Issues
    23
    Under IFRS 16, a company that leases a building for 10 years generally:
  24. Ethics, Fraud and Current Issues
    24
    An $80,000 sale with a $50,000 cost is recorded in December, but the goods ship on January 3. By how much is December's net income overstated? Answer to the nearest dollar.
    $

Endless drill

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