Journal Entries: Test Adjustments and Reversals

How Journal Entries Change the Accounts

A journal changes account balances through debits and credits, whose effect depends on the account involved. In the examples below, a debit increases an expense or asset. A credit increases a payable or reduces the bank asset.

Consider a hypothetical company that receives $6,000 of consulting services before receiving the invoice. Assume no opening balances for this expense or liability, and ignore GST throughout the examples. It records an accrual by debiting consulting expense $6,000 and crediting accrued expenses payable $6,000.

The expense reduces profit by $6,000 and the liability rises by $6,000. Cash is unchanged. The Northern Territory Treasury’s double-entry explanation uses the same expense-and-payable mechanics for consulting services.

When the company later pays that liability, it debits the payable $6,000 and credits bank $6,000. That payment reduces both the liability and bank balance. It does not create a second consulting expense.

AASB 101’s accrual principle separates recognition of financial statement elements from cash flow information. A manual journal can recognise an unpaid expense, reverse an earlier adjustment or change an account classification. Each can alter reported balances without a corresponding bank transfer.

A journal that balances establishes arithmetic agreement between its lines. Its business explanation still needs evidence.

Preserve the Entry and Its History

Preserve the complete journal and available history before building a working chronology. Request the entry-level record with all lines, including lines outside the account where the issue first appeared.

Keep these fields together so another reviewer can identify the same entry:

• Journal identifier, batch identifier and every account code, amount and currency.
• Effective accounting period and entry date, with system creation and posting timestamps where available.
• Preparer and approver fields, approval status and the recorded approval time.
• Narration, attachments and references to the underlying invoice, contract or other source record.
• Reversal or replacement identifiers, amendment history and any recorded deletion or cancellation.

Retain the original export separately from the working schedule. Record its source, extraction time, included entities and filters. Preserve available audit logs alongside it, then use copies for sorting and annotation. Compare the target journal with its general ledger postings to locate its complete accounting effect.

Keep the effective period separate from the time the system says the journal was created or posted. An entry assigned to an earlier period may have been prepared later during the close. The printed entry date alone does not establish creation time or dishonest backdating.

If the export lacks a preparer or creation timestamp, identify that field as unavailable. A user account in a log is evidence about recorded system activity, not automatic proof of the individual operating it. Seek corroborating access records where authorship matters.

Test Purpose, Evidence and Authority

Test each journal line against the business event it claims to record and the authority for that particular adjustment. ANU’s journal guidance pairs balanced entries with a meaningful narration and supporting documentation. A narration identifies an explanation to test.

1. Describe the asserted event. For an accrual, identify the service received, its period and the basis for the estimated amount. Match the debit and credit to that event.
2. Follow the supporting record. Compare the journal with the contract, invoice or delivery evidence. Check the amount and entity as well as the service period.
3. Test the approval. Identify who could authorise this type and value of adjustment under the entity’s delegations. Confirm the approval covers these accounts and this explanation.
4. Record contradictions. A generic approval for a supplier payment might not cover a later transfer into a director’s loan account. Keep both records visible.

In the hypothetical $6,000 accrual, a later invoice for work performed entirely in the following period contradicts the original service-period explanation. Obtain evidence of when the work occurred before accepting the earlier expense. If the work occurred earlier but the invoice arrived later, the invoice timing alone does not disprove the accrual.

The Australian auditing standard ASA 240 discusses unusual journal characteristics, including poorly explained period-end entries and round amounts. It addresses financial report audits. Those characteristics can also guide investigative selection, without establishing dishonesty in an individual entry.

A round estimate can have a documented calculation. A late entry can correct a genuine omission. Test the explanation against the records and distinguish an unsupported adjustment from a proved intention.

Follow Reversals and Reclassifications

Follow the original entry through its reversal and any replacement before adding amounts to an expense or cash schedule. A reversal cancels an earlier accounting effect. A reclassification transfers an amount between accounts and changes how the event is described in the books.

Hypothetical Accrual and Reversal Sequence

Return to the hypothetical $6,000 consulting accrual. This company reverses the accrual in the next period and records the actual invoice in full. Assume the invoice equals the estimate and the payment settles only that invoice.

Event	Debit	Credit	Bank movement
J101: accrue completed work in period one	Consulting expense $6,000	Accrued expenses payable $6,000	$0
J102: reverse J101 in period two	Accrued expenses payable $6,000	Consulting expense $6,000	$0
J103: record invoice in period two	Consulting expense $6,000	Trade payables $6,000	$0
P104: pay the invoice	Trade payables $6,000	Bank $6,000	$6,000 outflow

Period one contains $6,000 of expense. In period two, the $6,000 expense credit from J102 offsets the $6,000 expense debit from J103. Across both periods, the net expense is $6,000, liabilities return to zero and bank falls by $6,000.

Incorrect: count J101 and J103 as $12,000 of expense while omitting J102. Correct: include all three journals and report $6,000 of net expense. P104 records the single cash payment.

If an invoice differs from the accrual, show the difference separately. If a reversal exists without a replacement, investigate whether the expense and liability disappeared from the later period without support.

Hypothetical Expense, Loan and Equity Reclassifications

In a separate hypothetical example, a company pays $5,000 for an owner’s personal purchase. Its initial entry debits business expense $5,000 and credits bank $5,000. A later J201 debits a director loan receivable $5,000 and credits expense $5,000.

J201 removes the expense and records an amount claimed as due from the director. Bank remains $5,000 lower. A further J202 that debits an equity distribution account and credits the receivable would remove that recorded debt and reduce equity by $5,000.

These entries assert different explanations for the same payment. Their arithmetic does not establish that a loan or distribution is the correct treatment. Examine the purchase record and the authority supporting each change. The director loan account analysis addresses the separate questions about the claimed debt.

Where a journal clears a temporary balance, test the destination account and approval in the same way. The suspense account schedule deals with identifying and resolving the underlying temporary items.

Forensic accountants can save hours on the bank-history side by using FinTrace’s statement-analysis service. FinTrace delivers a searchable transaction ledger and findings report with source PDF filenames and pages, giving you the payment evidence beside the journal chronology.

Report the Supported and Unresolved Effects

Report the balance before the journal, the journal’s two-sided change and the resulting balance. Tie each effect to its evidence, then state the unresolved classification question separately.

For the hypothetical J201 reclassification, this bridge starts immediately after the original $5,000 payment. Assume bank held $20,000 before that payment and the other shown balances began at zero.

Account	Before J201	J201 effect	After J201
Business expense	$5,000 debit	$5,000 credit	$0
Director loan receivable	$0	$5,000 debit	$5,000 debit
Bank	$15,000 debit	$0	$15,000 debit

Attach the original payment reference and J201’s complete lines to this bridge. Identify the purchase record supporting the $5,000 payment, and name the recorded approver with the relevant delegation. If approval is absent, state that no approval appears in the supplied records.

You can reproduce the $5,000 bank outflow and J201’s transfer from expense to receivable. Whether that receivable is supported remains a separate question if the alleged loan terms are missing or disputed. Identify the precise document or explanation needed to resolve it.

Before handing over the schedule, confirm each journal’s debits equal its credits and the bridge agrees with the reported balances. Trace reversal links and count each bank movement once. Give the instructed accountant the supported effects and outstanding classification issues for final accounting treatment, and leave legal liability to the responsible legal adviser.