Adjust 2025 expense: Debit Prepaid Insurance $40,000, Credit Insurance Expense $40,000. Adjust 2026: Record machinery sale, reversing depreciation, and recognizing gain.
To correct the errors made in 2025 and 2026, adjustments need to be made to reflect the accurate financial information. Let's address each error separately:
Error 1: Insurance Premium Prepaid in 2025
In 2025, the entire insurance premium of $60,000 was prepaid, but it was charged to expense in the same year. To correct this error, an adjusting entry is needed to recognize the portion that relates to future years (2026 and 2027).
Adjusting Entry at the end of 2025:
Debit Prepaid Insurance: Recognize the portion of the insurance premium that applies to future years.
Credit Insurance Expense: Adjust the expense for the correct amount.
Debit: Prepaid Insurance $40,000
Credit: Insurance Expense $40,000
This entry reflects that $40,000 of the prepaid insurance relates to future periods and should not be expensed in 2025.
Error 2: Sale of Fully Depreciated Machinery in 2026
The sale of fully depreciated machinery for $14,400 in cash was not recorded until 2027. To correct this error, an adjusting entry is needed to recognize the gain on the sale.
Adjusting Entry at the end of 2026:
Debit Accumulated Depreciation: Reverse the accumulated depreciation related to the machinery.
Debit Cash: Record the cash received from the sale.
Credit Machinery: Remove the machinery from the books.
Credit Gain on Sale of Machinery: Recognize the gain on the sale.
Debit: Accumulated Depreciation $XX
Debit: Cash $14,400
Credit: Machinery $XX
Credit: Gain on Sale of Machinery $XX
Replace "$XX" with the specific accumulated depreciation amount related to the machinery.
These adjusting entries correct the errors made in 2025 and 2026, ensuring the financial statements accurately reflect the company's financial position and performance.