Final answer:
Adjusting entries are required to ensure the accounting records comply with the accrual basis of accounting by updating the accounts at the end of an accounting period. They impact both the balance sheet and income statement accounts to reflect a company's correct financial position. The concept of a balance sheet structured as a T-account helps to understand why both types of accounts are involved in adjusting entries.
Step-by-step explanation:
Adjusting entries always include both balance sheet and income statement accounts because they are made to update the accounts at the end of an accounting period. These entries ensure that all revenues and expenses are recorded in the period they occur, adhering to the accrual basis of accounting, which matches revenues with the expenses incurred to earn them. For instance, an adjusting entry may record an expense that has been incurred but not yet paid, affecting both the expense account on the income statement and a liability account on the balance sheet. Similarly, an entry may recognize revenue earned but not yet received, impacting an asset account on the balance sheet and a revenue account on the income statement.
Adjusting entries are vital for maintaining the integrity of financial statements. They ensure that the balance sheet (often represented as a T-account) accurately reflects a company's financial position at a specific point in time. A balance sheet's T-account structure, with assets on the left and liabilities plus net worth on the right, ensures that a company's total assets always equal its liabilities plus net worth.
A bank's balance sheet, for example, will illustrate this principle. For a bank, assets include reserves, loans made, and government securities held. Liabilities represent deposits owed to customers. The bank's net worth is derived from total assets minus total liabilities and is included on the liabilities side to balance the equation. Therefore, a bank's T-account must reflect accurate details of assets, liabilities, and net worth after adjusting entries are made.