Question

When Alexander Company purchased supplies for cash of $500, it incorrectly recorded the journal entry as a credit to Supplies for $5,000 and a debit to Cash for $5,000. Before correcting this error:

a. Cash is overstated and Supplies is overstated.
b. Cash is understated and Supplies is understated.
c. Cash is understated and Supplies is overstated.
d. Cash is overstated and Supplies is understated

Answer 1

d. Cash is overstated and supplies is understated

Step-by-step explanation:

This is a journal entry question that tests understanding of the concept of journals and correction of errors.

There are two major errors in this case;

1. the amount has been recorded wrongly

2. the wrong entries have been made in the journals.

Cash is an asset having a natural Debit balance, when an asset is reducing in value, we Credit it. Thus when Cash is being paid for an item, cash reduces while the quantity or number of that item increases.

The correct entry would have been to Credit Cash for $500 as cash is being paid for office supplies, and increase office supplies by Debiting it to the tune of $500. ie.

CR cash $500

DR office Supplies $500.

By Debiting cash $5,000 and Crediting office supplies $5,000, what the journal is saying is that cash of $5,000 has been received and office supplies of $5,000 has been given or sold out.

Saying Alexander Company has received $5,000 when in actual fact it has paid $500 is overstating cash and saying Alexander Company has sold office supplies when it in fact purchased them is understating office supplies.

I trust this helps you understand the concept.