Various Types of Transactions – Collection from Other Source of Revenue and Income, Rental Income (Part 4c)

Rental income is earned by business entities for allowing another party to “use” the resources (assets) of the business entities. For example, letting of property, machinery, equipment & etc. An agreement is usually drafted and agreed by both parties. The terms agreed upon usually include the details or specifications of the assets, date of agreement, period, amount of rental e.g. per month. Many small businesses record rental income on cash basis, i.e. upon receipt. The double entry for recording rental income on cash basis is:-

Balance Sheet

Income Statement

DR

CR

DR

CR

Cash at bank

XXXX

Rental income

XXXX

Example

The financial period of ABC Co. Ltd. is from 1 January to 31 December. On 10 January 2006, XYZ Co. Ltd. agreed to rent Level 1 of a 3 levels shop owned by ABC Co. Ltd for 3 years commencing 1 March 2006 at $1,500 per month. 2 months rental and $500 utility deposit are collected by ABC Co. Ltd as security deposits. The following schedule shows the details of the money collected by ABC Co. Ltd. from XYZ Co. Ltd.:-

Date Details

$

10-Jan-06 2 months rental as deposit 3,000
Utility deposit 500
25-Mar-06 March ’06 rental 1,500
03-May-06 April ’06 rental 1,500
20-Jun-06 May ’06 rental 1,500
30-Aug-06 June ’06 rental 1,500
July ’06 rental 1,500
30-Nov-06 August ’06 rental 1,500
September ’06 rental 1,500
05-Dec-06 October ’06 rental 1,500
05-Jan-07 November ’06 rental 1,500
December ’06 rental 1,500
January ’07 rental 1,500
03-Apr-07 February ’07 rental 1,500
17-Jun-07 March ’07 rental 1,500
April ’07 rental 1,500
May ’07 rental 1,500
23-Aug-07 June ’07 rental 1,500
July ’07 rental 1,500
August ’07 rental 1,500
12-Sep-07 September ’07 rental 1,500
11-Oct-07 October ’07 rental 1,500
03-Nov-07 November ’07 rental 1,500
December ’07 rental 1,500
January ’08 rental 1,500

In the books of ABC Co. Ltd.

The rental recorded in the accounts for the year ended 31 December 006 under cash basis of accounting comprised the following:-

Date Details

$

25-Mar-06 March ’06 rental 1,500
03-May-06 April ’06 rental 1,500
20-Jun-06 May ’06 rental 1,500
30-Aug-06 June ’06 rental 1,500
July ’06 rental 1,500
30-Nov-06 August ’06 rental 1,500
September ’06 rental 1,500
05-Dec-06 October ’06 rental 1,500
TOTAL COLLECTED 12,000

The double entries for the recording of the rental deposit, utility deposit and the 8 months rental collected (March ’06 to October ’06) during the year ended 31 December 2006 are:-

1. Rental deposit and security deposits

Balance Sheet

Income Statement

DR

CR

DR

CR

Cash at bank

3,500

Refundable deposits:
– Rentals

3,000

– Utility

500

2. 8 months rental (March ’06 to October ’06)

Balance Sheet

Income Statement

DR

CR

DR

CR

Cash at bank

12,000

Rental income

12,000

3. Recognition November ’06 and December ’06 rental

The following adjustment is required to recognise the 2 months rental receivable (November ’06 and December ’06):-

Balance Sheet

Income Statement

DR

CR

DR

CR

Rental receivable

3,000

Rental income

3,000

The income statement and balance sheet of ABC Co. Ltd. before and after this adjustment for the recognition of 2 months rental are shown below to illustrate the impact of this adjustment:-

Example of Income Statement and Balance Sheet of ABC Co. Ltd.
Income Statement for the year ended 31 December 2006

BEFORE

Adjustment

AFTER

DR

CR

$

$

Sales

109,270

109,270

Cost of Sales

– 40,875

– 40,875

Gross profit

68,395

68,395

Other income: –
Rental income

12,000

3,000

15,000

Operating expenses: –
Accountancy fee

– 800

– 800

Depreciation of property, plant and equipment

– 2,500

– 2,500

Donation

– 500

– 500

Electricity & water

– 3,340

– 3,340

Insurance premium

– 200

– 200

Printing & stationery

– 1,697

– 1,697

Rental of premises

– 12,000

– 12,000

Salaries

– 27,865

– 27,865

Upkeep of office

– 3,547

– 3,547

Telephone charges

– 1,285

– 1,285

Travelling, petrol & toll charges

– 2,648

– 2,648

– 56,382

– 56,382

Net profit for the year

24,013

27,013

Retained profits B/F

27,654

27,654

Retained profits C/F

51,667

54,667

Balance Sheet as at 31 December 2006

$

$

Non-current assets
Property, plant and equipment

102,500

102,500

Current assets
Inventories

5,000

5,000

Trade receivables

32,807

32,807

Other receivables, deposits & prepayments:

Rental receivable

3,000

3,000

Rental deposit

3,000

3,000

Utility deposit

500

500

Cash and bank balances

29,023

29,023

70,330

73,330

Current liabilities
Trade payables

– 3,588

– 3,588

Other payables and accruals

– 102,575

– 102,575

– 106,163

– 106,163

Net current assets

– 35,833

– 32,833

66,667

69,667

Financed by: –
Share capital

15,000

15,000

Retained profits

51,667

54,667

66,667

69,667

For the financial year ended 31 December 2007, ABC Co. Ltd. would have recorded the following rental collected during the year ended 31 December 2007: –

Date Details

$

05-Jan-07 November ’06 rental 1,500
December ’06 rental 1,500
January ’07 rental 1,500
03-Apr-07 February ’07 rental 1,500
17-Jun-07 March ’07 rental 1,500
April ’07 rental 1,500
May ’07 rental 1,500
23-Aug-07 June ’07 rental 1,500
July ’07 rental 1,500
August ’07 rental 1,500
12-Sep-07 September ’07 rental 1,500
11-Oct-07 October ’07 rental 1,500
03-Nov-07 November ’07 rental 1,500
December ’07 rental 1,500
January ’08 rental 1,500
TOTAL COLLECTED 22,500

The double entry for the recording of these rentals received during the year ended 31 December 2007 is as follows:-

Balance Sheet

Income Statement

DR

CR

DR

CR

Cash at bank

22,500

Rental income

22,500

As the November 2006 and December 2006 rental collected should be recognised in the financial year ended 31 December 2006 and not 31 December 2007, the following correction journal adjustments are required:-

1. Correction of rentals incorrectly recognised during the financial year ended 31 December 2007

Balance Sheet

Income Statement

DR

CR

DR

CR

Rental receivable

3,000

Retained profits

3,000

This journal entry is actually the same as the journal entry shown earlier to recognise the rental income in the financial year ended 31 December 2006. In the context of the financial statements of ABC Co. Ltd. for the year ended 31 December 2007, any adjustments made that affect the profit in earlier years, are now required to be adjusted to the retained profits brought forward.

2. Reversal of rental income incorrectly recognised in the income statement of ABC Co. Ltd. for the year ended 31 December 2007 and rental receivable

Balance Sheet

Income Statement

DR

CR

DR

CR

Rental income

3,000

Rental receivable

3,000

3. In addition, the rental of January 2008 collected on 3 November 2007 should only be recognised as rental income in the financial statements for the year ended 31 December 2008. The following correction journal adjustment is required:-

Reversal of January 2008 rental collected incorrectly recognised in the income statement of ABC Co. Ltd. for the year ended 31 December 2007

Balance Sheet

Income Statement

DR

CR

DR

CR

Rental income

1,500

Advance rental collected

1,500

The income statement and balance sheet of ABC Co. Ltd. before and after adjustment No. 1, 2 & 3 are shown below to illustrate the impact of these adjustments: –

Example of Income Statement and Balance Sheet of ABC Co. Ltd.
Income Statement for the year ended 31 December 2007
BEFORE Adjustment AFTER
No. DR No. CR

$

$

Sales

159,270

159,270

Cost of Sales

– 90,875

– 90,875

Gross profit

68,395

68,395

Other income: –
Rental income

22,500

2 3,000

18,000

3 1,500
Operating expenses: –
Accountancy fee

– 800

– 800

Depreciation of property, plant andequipment

– 2,500

– 2,500

Donation

– 500

– 500

Electricity & water

– 3,340

– 3,340

Insurance premium

– 200

– 200

Printing & stationery

– 1,697

– 1,697

Rental of premises

– 12,000

– 12,000

Salaries

– 35,579

– 35,579

Upkeep of office

– 3,547

– 3,547

Telephone charges

– 1,285

– 1,285

Travelling, petrol & toll charges

– 2,648

– 2,648

– 64,096

– 64,096

Net profit for the year

26,799

22,299

Retained profits B/F

51,667

1 3,000

54,667

Retained profits C/F

78,466

76,966

Balance Sheet as at 31 December 2007

$

$

Non-current assets
Property, plant and equipment

100,000

100,000

Current assets
Inventories

5,200

5,200

Trade receivables

6,000

6,000

Other receivables, deposits & prepayments:

Rental receivable

1 3,000 2 3,000

Rental deposit

3,000

3,000

Utility deposit

500

500

Cash and bank balances

52,652

52,652

67,352

67,352

Current liabilities
Trade payables

– 3,588

– 3,588

Other payables and accruals:

Other payables

– 70,298

– 70,298

Advance rental collected

3 1,500

– 1,500

– 73,886

– 75,386

Net current assets

– 6,534

– 8,034

93,466

91,966

Financed by: –
Share capital

15,000

15,000

Retained profits

78,466

2 3,000 1 3,000

76,966

Note 1
3 1,500

93,466

91,966

Note 1:

All adjustments affecting the income statements have to be repeated again and shown as adjustments to the retained profits account in the balance sheet. This is because all adjustments affecting any income statement items and the retained profits brought forward will eventually be included in the retained profits carried forward to the next financial year.

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