Plain definition
An adjusting entry changes ledger balances at close so the accounts reflect information about the reporting period that ordinary transaction processing has not yet captured. Common adjustments record an accrual, release a prepayment, calculate depreciation, recognise an allowance, or correct a cut-off amount. The entry must follow evidence and an accounting policy; it is not a tool for moving profit toward a target.
The key question is what existed or was consumed by the reporting date. A recurring adjustment is not automatically right merely because it appeared last month: contracts, usage, estimates, and the applicable reporting requirements can change.
Illustrative example
Monetary examples use Saudi riyals (SAR). The same principles apply in other currencies.
A company pays for insurance covering 1 April to 31 March. Payment processing initially records the whole amount as a prepaid asset. At the 30 April close, finance records an adjusting entry for one month of coverage: insurance expense and a reduction of the prepaid balance. remains as the asset for the eleven months of coverage still available after April.
| Annual prepayment | |
|---|---|
| Coverage months | |
| April insurance expense |
This illustration assumes the coverage runs evenly by month. A cancellation clause, different coverage pattern, or a policy-specific materiality threshold can change the treatment.
Why it matters
Without the adjustment, April profit is too high and the balance sheet claims an insurance benefit that April has already used. Posting the full payment to expense on 1 April creates the opposite distortion: April looks weak and the following months look artificially strong.
Practical consequence
Maintain an adjustment schedule that shows the contract, original posting, calculation, period covered, supporting document, preparer, reviewer, and reversal instruction if one is needed. Compare recurring adjustments to invoices and operational data each month. Investigate unusual manual entries separately from the routine schedule, and never approve an adjustment solely because it improves a forecast.