Solution manual intermediate accounting 7th by nelson spiceland ch13

Question 13–17 A liability should be accrued if it is both probable that the confirming event will occur and the amount can be at least reasonably estimated... Under IFRS, a contingent

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AACSB assurance of learning standards in accounting and business education require

documentation of outcomes assessment Although schools, departments, and faculty may approach assessment and its documentation differently, one approach is to provide specific questions on exams that become the basis for assessment To aid faculty in this endeavor, we have labeled each

question, exercise, and problem in Intermediate Accounting, 7e, with the following AACSB learning

skills:

Questions AACSB Tag Brief Exercises AACSB Tag

13–1 Reflective thinking 13–12 Analytic

13–10 Reflective thinking Exercises

13–14 Diversity, Reflective thinking 13–4 Analytic

13–18 Diversity, Reflective thinking 13–8 Analytic

13–20 Reflective thinking 13–10 Communications

13–24 Diversity, Reflective thinking 13–14 Communications

13–25 Diversity, Reflective thinking 13–15 Analytic, Reflective thinking

13–27 Reflective thinking 13–17 Analytic, Reflective thinking

13–28 Diversity, Reflective thinking 13–18 Analytic, Communications

13–1 Analytic 13–20 Reflective thinking

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CPA/CMA cont AACSB Tags

7 Diversity, Reflective thinking

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Question 13–1

A liability involves the past, the present, and the future It is a present responsibility, to sacrifice assets in the future, caused by a transaction or other event that already has happened

Specifically, “Elements of Financial Statements,” Statement of Financial Accounting Concepts No

6, par 36, describes three essential characteristics: Liabilities–

1 are probable, future sacrifices of economic benefits

2 that arise from present obligations (to transfer goods or provide services) to other entities

3 that result from past transactions or events

In practice, liabilities ordinarily are reported at their maturity amounts if payable within one year because the relatively short time period makes the interest or time value component immaterial [FASB ASC 835–30–15–3: “Interest–Imputation of Interest–Scope and Scope Exceptions

(previously “Interest on Receivables and Payables,” Accounting Principles Board Opinion No 21,

(New York, AICPA, August 1971, Par 3))] specifically exempts from present value valuation all liabilities arising in connection with suppliers in the normal course of business and due within a year

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Answers to Questions (continued)

Question 13–4

Lines of credit permit a company to borrow cash from a bank up to a prearranged limit at a predetermined, usually floating, rate of interest The interest rate often is based on current rates of the prime London interbank borrowing, certificates of deposit, bankers’ acceptance, or other standard rates Lines of credit usually must be available to support the issuance of commercial paper

Lines of credit can be noncommitted or committed A noncommitted line of credit allows the company to borrow without having to follow formal loan procedures and paperwork at the time of the loan and is less formal, usually without a commitment fee Sometimes a compensating balance

is required to be on deposit with the bank as compensation for the service A committed line of credit is more formal It usually requires a commitment fee in the neighborhood of 1 /4 of one percent

of the unused balance during the availability period Sometimes compensating balances also are required

Question 13–5

When interest is “discounted” from the face amount of a note at the time it is written, it usually

is referred to as a “noninterest-bearing” note Noninterest-bearing notes do, of course entail interest, but the interest is deducted (or discounted) from the face amount to determine the cash proceeds made available to the borrower at the outset and included in the amount paid at maturity In fact, the effective interest rate is higher than the stated discount rate because the discount rate is applied to the face value, but the cash borrowed is less than the face value

Question 13–6

Commercial paper represents loans from other corporations It refers to unsecured notes sold

in minimum denominations of $25,000 with maturities ranging from 30 to 270 days The firm would be required to file a registration statement with the SEC if the maturity is beyond 270 days The name “commercial paper” implies that a paper certificate is issued to the lender to represent the obligation But, increasingly, no paper is created because the entire transaction is computerized Recording the issuance and payment of commercial paper is the same as for notes payable

The interest rate usually is lower than in a bank loan because commercial paper (a) typically is issued by large, sound companies (b) directly to the lender, and (c) normally is backed by a line of credit with a bank

Question 13–7

This is an example of an accrued expense—an expense incurred during the current period, but

not yet paid he expense and related liability should be recorded as follows:

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estimated

Customary practice should be considered when deciding whether an obligation exists For instance, whether the rights to paid absences have been earned by services already rendered sometimes depends on customary policy for the absence in question An example is whether compensation for upcoming sabbatical leave should be accrued Is it granted only to perform research beneficial to the employer? Or, is it customary that sabbatical leave is intended to provide unrestrained compensation for past service?

Similar concerns also influence whether unused rights to the paid absences can be carried forward or expire Although holiday time, military leave, maternity leave, and jury time typically do not accumulate if unused, if it is customary practice that one can be carried forward, a liability is accrued if it’s probable employees will be compensated in a future year Similarly, sick pay is specifically excluded from mandatory accrual, according to GAAP regarding compensated absences, because future absence depends on future illness, which usually is not a certainty But, if company policy or custom is that employees are paid “sick pay” even when their absence is not due to illness,

a liability for unused sick pay should be recorded

Question 13–9

When a company collects cash from a customer as a refundable deposit or as an advance payment for products or services, a liability is created obligating the firm to return the deposit or to supply the products or services When the amount is to be returned to the customer in cash, it is a refundable deposit When the amount will be applied to the purchase price when goods are delivered or services provided (gift certificates, magazine subscriptions, layaway deposits, special order deposits, and airline tickets), it is a customer advance

Question 13–10

Gift cards are a particular form of advance collection of revenues When the payment is received, the seller debits cash and credits an unearned revenue liability Later, unearned revenue is reduced and revenue recognized either when the customer redeems the gift card or when the probability of redemption is viewed as remote, based on an expiration date or the company’s

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Answers to Questions (continued)

Short-term obligations can be reported as noncurrent liabilities if the company (a) intends to

refinance on a long-term basis and (b) demonstrates the ability to do so by a refinancing agreement

or by actual financing

Under U.S GAAP, ability to finance must be demonstrated by securing financing prior to the date the balance sheet is issued; under IFRS, ability to finance must be demonstrated by securing financing prior to the balance sheet date (which typically is a couple of months earlier than the date

of issuance)

A loss contingency is an existing situation or set of circumstances involving potential loss that

will be resolved when some future event occurs or doesn’t occur Examples: (1) a possible repair to

a product under warranty, (2) a possible uncollectible receivable, (3) being the defendant in a lawsuit

The likelihood that the future event(s) will confirm the incurrence of the liability must be categorized as:

P ROBABLE—the confirming event is likely to occur

R EASONABLY P OSSIBLE—the chance the confirming event will occur is more than remote but less than likely

R EMOTE—the chance the confirming event will occur is slight

A liability should be accrued if it is both probable that the confirming event will occur and the amount can be at least reasonably estimated

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Under U.S GAAP, the term “contingent liability” is used to refer generally to contingent losses, regardless of probability Under IFRS, a contingent liability refers only to those contingencies that are not recognized in the financial statements; the term “provision” is used to refer to those that are accrued as liabilities because they are probable and reasonably estimable

If one or both of the accrual criteria is not met, but there is at least a reasonable possibility that

an obligation exists (the loss will occur), a disclosure note should describe the contingency The note also should provide an estimate of the possible loss or range of loss, if possible If an estimate cannot be made, a statement to that effect should be included

1 Manufacturers’ product warranties—these inevitably involve expenditures, and reasonably accurate estimates of the total liability for a period usually are possible, based on prior experience

2 Cash rebates and other premium offers—these inevitably involve expenditures, and reasonably accurate estimates of the total liability for a period usually are possible, based on prior experience

The contingent liability for warranties and guarantees usually is accrued The estimated warranty (guarantee) liability is credited and warranty (guarantee) expense is debited in the reporting period in which the product under warranty is sold An extended warranty provides warranty protection beyond the manufacturer’s original warranty A manufacturer’s warranty is offered as an integral part of the product package By contrast, an extended warranty is priced and sold separately from the warranted product It essentially constitutes a separate sales transaction and is recorded as such

Several weeks usually pass between the end of a company’s fiscal year and the date the financial statements for that year actually are issued Any enlightening events occurring during this period should be used to assess the nature of a loss contingency existing at the report date Since a

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Answers to Questions (concluded)

When a contingency comes into existence only after the year-end, a liability cannot be accrued because none existed at the end of the year Yet, if the loss is probable and can be reasonably estimated, the contingency should be described in a disclosure note The note should include the effect of the loss on key accounting numbers affected Furthermore, even events other than contingencies that occur after the year-end but before the financial statements are issued must be disclosed in a “subsequent events” disclosure note if they have a material effect on the company’s financial position (i.e., an issuance of debt or equity securities, a business combination, or discontinued operations)

In U.S GAAP, the low end of the range is accrued as a liability, and the rest of the range is disclosed In IFRS, the mid-point of the range is accrued

In IFRS, present values must be used to measure a liability whenever the time value of money

is material That requirement does not exist for U.S GAAP

When an assessment is probable, reporting the possible obligation would be warranted if an unfavorable settlement is at least reasonably possible This means an estimated loss and contingent liability would be accrued if (a) an unfavorable outcome is probable and (b) the amount can be reasonably estimated Otherwise, note disclosure would be appropriate So, when the assessment is unasserted as yet, a two-step process is involved in deciding how it should be reported:

1 Is the assessment probable? If it is not, no disclosure is warranted

2 If the assessment is probable, evaluate (a) the likelihood of an unfavorable outcome and (b) whether the dollar amount can be estimated to determine whether it should be accrued, disclosed only, or neither

You should not accrue your gain A gain contingency should not be accrued This conservative treatment is consistent with the general inclination of accounting practice to anticipate losses, but to recognize gains only at their realization Though gain contingencies are not recorded

in the accounts, they should be disclosed in notes to the financial statements Attention should be paid that the disclosure note not give "misleading implications as to the likelihood of realization."

You should accrue your gain Under IFRS, a gain contingency is accrued if it is virtually certain to occur, as is the case with respect to this gain

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Discount on notes payable ($60,000,000 x 12% x 9/12 ) 5,400,000

Notes payable (face amount) 60,000,000

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Brief Exercise 13–4

Cash (difference) 11,190,000

Discount on notes payable ($12,000,000 x 9% x 9/12 ) 810,000

Interest expense 810,000

Discount on notes payable 810,000

Cash 12,000,000

Cash (difference) 9,550,000

Effective interest rate:

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$500 in February) or because they are viewed as expired

1 Current liability—The requirement to classify currently maturing debt as a current liability

includes debt that is callable, or due on demand, by the creditor in the upcoming year even if the debt is not expected to be called

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Under U.S GAAP, the debt would be classified as long-term for both completion dates, as what is key is that the refinancing be completed before the financial statements are issued

Under IFRS, the debt would be classified as long-term if the refinancing was completed by December 15, 2013, but not if completed by January 15, 2014, because for IFRS what is key is that the refinancing be completed by the balance sheet date

This is a loss contingency and the estimated warranty liability is credited and warranty expense is debited in the period in which the products under warranty are sold Right will report a liability of $130,000:

estimated Goo Goo should report a $5.5 million loss in its income statement and

a $5.5 million liability in its balance sheet

Loss—product recall 5,500,000

Liability—product recall 5,500,000

A disclosure note also is appropriate

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This is a gain contingency Gain contingencies are not accrued even if the gain is probable and reasonably estimable The gain should be recognized only when realized A carefully worded disclosure note is appropriate

This is a loss contingency A liability should be accrued if it is both probable that the confirming event will occur and the amount can be at least reasonably estimated If one or both of these criteria is not met (as in this case), but there is at least a reasonable possibility that the loss will occur, a disclosure note should describe the contingency That’s what Bell should do here

Only the third situation’s costs should be accrued A liability should be accrued

for a loss contingency if it is both probable that the confirming event will occur and the amount can be at least reasonably estimated If one or both of these criteria is not met, but there is at least a reasonable possibility that the loss will occur, a disclosure note should describe the contingency Both criteria are met only for the warranty costs

Under U.S GAAP, no liability would be recognized, because a 51% chance is less than the level of probability typically associated with “probable” in the United States A liability would be accrued under IFRS, as 51% is clearly “more likely than not.” If a liability were accrued under U.S GAAP, it would be for $10 million, the low end of the range, but under IFRS it would be for $15 million, the midpoint of the range

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Interest payable (from adjusting entry) 320,000

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2013

Jan 13 No entry is made for a line of credit until a loan actually is made It

would be described in a disclosure note

Dec 31

The effective interest rate is 9.6515% ($675,000 ÷ $9,325,000) x 12/9 So,

properly, interest should be recorded at that rate times the outstanding balance times one-twelfth of a year:

Interest expense ($9,325,000 x 9.6515% x 1/12 ) 75,000

However the same results are achieved if interest is recorded at the discount

rate times the maturity amount times one-twelfth of a year:

Interest expense ($10,000,000 x 9% x 1/12 ) 75,000

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Exercise 13–3 (concluded)

2014

Sept 1

Interest expense ($10,000,000 x 9% x 8/12 )* 600,000

Notes payable (balance) 10,000,000

Cash (maturity amount) 10,000,000

* or, ($9,325,000 x 9.6515% x 8/12 ) = $600,000

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Wages expense (increases wages expense to $410,000) 6,000

Liability—compensated future absences 6,000*

* ($404,000 – 4,000] = $400,000 non-vacation wages

x 1/40 = $10,000 vacation pay earned

(4,000) vacation pay taken

= $ 6,000 vacation pay carried over

Liability—compensated future absences 630,000

Wages expense ($31 million + [5% x $630,000]) 31,031,500

Cash (or wages payable) (total) 31,661,500

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Gift certificatesredeemed (1,300)

Liability to be reported at December 31 $3,900

Estimated current liability $4,160

Gift certificatesredeemed (1,300)

Current liability at December 31 $2,860

Noncurrent liability at December 31 ($5,200 x 20%) 1,040

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Requirement 1

The entire $10,000 sold in January will be recognized as revenue during

2011 $6,000 because of gift card redemption; $4,000 because of gift card breakage

Requirement 2

January Gift Card Sales

Cash 10,000

Liability—unearned gift card revenue 10,000

Redemption of January Gift Cards

Revenue—gift cards 6,000

Expiration of January Gift Cards

Revenue—gift cards 4,000

Requirement 3

Of the $16,000 sold in March, $10,000 will be recognized as revenue:

$4,000 because of gift card redemption; $6,000 of the remaining $12,000 because of gift card expiration To calculate the amount of gift card

breakage, consider that, if March sales all occurred on the first day of the month, all would have been outstanding for 10 months during 2013 and

therefore all $12,000 of nonredeemed gift cards would be viewed as

expired On the other hand, if March sales all occurred on the last day of the month, none would have been outstanding for 10 months during 2013 and therefore none of the $12,000 of nonredeemed gift cards would be

viewed as expired Assuming that sales of gift cards occur on average on

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Exercise 13–10

The FASB Accounting Standards Codification represents the single source of

authoritative U.S generally accepted accounting principles The specific citation for each of the following items is:

1 If it is only reasonably possible that a contingent loss will occur, the

contingent loss should be disclosed:

FASB ACS 450–20–50–3: “Contingencies–Loss Contingencies–Disclosure– Unrecognized Contingencies.”

2 Criteria allowing short-term liabilities expected to be refinanced to be

classified as long-term liabilities:

FASB ACS 470–10–45–14: “Debt–Overall–Other Presentation Matters–Intent and Ability to Refinance on a Long-Term Basis.”

3 Accounting for separately priced extended warranty contracts:

FASB ACS 605–20–25–3: “Revenue Recognition–Services–Recognition–

Separately Priced Extended Warranty and Product Maintenance Contracts.”

4 The criteria to determine if an employer must accrue a liability for vacation pay

FASB ASC 710–10–25–1:“Compensation–General–Overall–Recognition.”

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Normally, short-term debt (payable within a year) is classified as current liabilities However, when such debt is to be refinanced on a long-term basis, it may be included with long-term liabilities The narrative indicates that Sprint has both (1) the intent and (2) the ability ("existing long-term credit facilities") to refinance on a long-term basis Thus, Sprint reported the debt as long-term liabilities

Requirement 1

Normally, IFRS requires that short-term debt (payable within a year) be classified

as current liabilities However, when such debt is to be refinanced on a long-term basis, it may be included with long-term liabilities The narrative indicates that Sprint has both (1) the intent and (2) the ability ("existing long-term credit facilities") to refinance on a long-term basis Thus, Sprint reported the debt as long-term liabilities

Requirement 2

IFRS requires that the refinancing capability be in place as of the balance sheet date Therefore, given that the refinancing was not arranged until after year-end, IFRS would require that the debt be classified as a current liability

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1 Current liability: $10 million

The requirement to classify currently maturing debt as a current liability includes debt that is callable by the creditor in the upcoming year—even if the debt is not expected to be called

2 Noncurrent liability: $14 million

The current liability classification includes (a) situations in which the creditor has the right to demand payment because an existing violation of a provision of the debt agreement makes it callable and (b) situations in which debt is not yet callable, but will be callable within the year if an existing violation is not corrected within a specified grace period—unless it's probable the violation will be corrected within the grace period In this case, the existing violation is expected to be corrected within six months

3 Current liability: $7 million

The debt should be reported as a current liability because it is payable in the upcoming year, will not be refinanced with long-term obligations, and will not

be paid with a bond sinking fund

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Requirement 1

The specific citation that specifies the guidelines for accruing loss contingencies is FASB ACS 450–20–25–2: “Contingencies–Loss Contingencies–Recognition–General Rule.”

Requirement 2

Specifically, the guidelines are that an estimated loss from a loss contingency be

accrued by a charge to income if both of the following conditions are met:

a Information available prior to issuance of the financial statements indicates that

it is probable that an asset had been impaired or a liability had been incurred at the date of the financial statements

b The amount of loss can be reasonably estimated

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Requirement 1

This is a loss contingency There may be a future sacrifice of economic benefits (cost of satisfying the warranty) due to an existing circumstance (the warranted awnings have been sold) that depends on an uncertain future event (customer claims)

The liability is probable because product warranties inevitably entail costs A reasonably accurate estimate of the total liability for a period is possible based

on prior experience So, the contingent liability for the warranty is accrued The estimated warranty liability is credited and warranty expense is debited in

2013, the period in which the products under warranty are sold

Estimated warranty liability 37,500

Cash, wages payable, parts and supplies, etc 37,500

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Requirement 1

This is not a loss contingency An extended warranty is priced and sold separately from the warranted product and therefore essentially constitutes a separate sales transaction Since the earning process for an extended warranty continues during the contract period, revenue should be recognized over the same period Revenue from separately priced extended warranty contracts are deferred as a liability at the time of sale, and recognized over the contract period on a straight-line basis

Requirement 2

During the year

Accounts receivable 412,000

Unearned revenue—extended warranties 412,000

December 31 (adjusting entry)

Unearned revenue—extended warranties 57,937.50

Revenue—extended warranties* 57,937.50

* If warranties don't earn any revenue for 90 days (after the free

warranty expires), then only sales up until 9/30 can earn any revenue,

with sales on 1/1 earning nine months worth of revenue, and sales on

9/30 earning one day of revenue If sales proceed smoothly during the year, we can assume that, as of 9/30, they have made $412,000(.75) =

$309,000 of sales So, during that nine-month period, the $309,000 is

outstanding an average of 4.5 months, and so should earn 4.5 ÷ 24 x

$309,000 of revenue, or $57,937.50.

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Requirement 1

This is a loss contingency A liability is accrued if it is both probable that the confirming event will occur and the amount can be at least reasonably estimated If one or both of these criteria is not met, but there is at least a reasonable possibility that the loss will occur, a disclosure note should describe the contingency In this case, a liability is accrued since both of these criteria are met

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Requirement 1

This is a loss contingency Some loss contingencies don’t involve liabilities at all Some contingencies when resolved cause a noncash asset to be impaired, so accruing it means reducing the related asset rather than recording a liability. The most common loss contingency of this type is an uncollectible receivable, as described in this situation

Requirement 2

Bad debt expense: 3% x $2,400,000 = $72,000

Requirement 3

Bad debt expense (3% x $2,400,000) 72,000

Allowance for uncollectible accounts 72,000

Requirement 4

Allowance for uncollectible accounts :

Write off of bad debts* 73,000

Credit balance before accrual 2,000

Year-end accrual (Req 3) 72,000

Less: Allowance for uncollectible accounts (74,000)

Net realizable value $416,000

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Scenario 3

A disclosure note is required because an EPA claim is as yet unasserted, but an assessment is probable Since an unfavorable outcome is not thought to be probable in the event of an assessment, no accrual is needed, but since an unfavorable outcome is thought to be reasonably possible in the event of an assessment, disclosure in a footnote is required Keep in mind, though, that in practice, disclosure of an unasserted claim is rare Such disclosure would alert the other party, the EPA in this case, of a potential point of contention that may otherwise not surface The outcome of litigation and any resulting loss are highly uncertain, making difficult the determination of their possibility of occurrence

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Bad debt expense (2% x $2,000,000) 40,000

Allowance for uncollectible accounts 40,000

Requirement 3

This is a loss contingency Classical can use the information occurring after the end of the year and before the financial statements are issued to determine appropriate disclosure

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Requirement 1

Erismus would recognize a liability of $1,000,000, as IFRS defines

“probable” as “more likely than not” (> 50%), and they are more likely than not to lose in court

Requirement 2

Erismus would recognize a liability of $3,000,000, as they are more likely than not to lose in court, and IFRS requires that they take the midpoint of the range of equally likely outcomes

Requirement 3

Erismus would recognize a liability of $3,500,000, as they are more likely than not to lose in court, and IFRS requires that they take the present value of future outcomes if time-value-of-money effects are material

Requirement 4

This is a gain contingency Gain contingencies are not accrued under IFRS when the gain is probable and reasonably estimable The gain should be recognized only when realized A disclosure note is appropriate

Requirement 5

This is a gain contingency Gain contingencies are accrued under IFRS when the gain is virtually certain and reasonably estimable Erismus would recognize a gain of $500,000, recorded at present value if the time value of money is material

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Item Reporting Method

C_ 1 Commercial paper N Not reported

D_ 2 Noncommitted line of credit C Current liability

C_ 3 Customer advances L Long-term liability C_ 4 Estimated warranty cost D Disclosure note only C_ 5 Accounts payable A Asset

C_ 6 Long-term bonds that will be callable by the creditor in the upcoming

year unless an existing violation is not corrected (there is a reasonable possibility the violation will be corrected within the grace period)

C_ 7 Note due March 3, 2014

C_ 8 Interest accrued on note, Dec 31, 2013

L_ 9 Short-term bank loan to be paid with proceeds of sale of common stock D_ 10 A determinable gain that is contingent on a future event that appears extremely likely to occur in three months

C_ 11 Unasserted assessment of back taxes that probably will be asserted, in

which case there would probably be a loss in six months

N_ 12 Unasserted assessment of back taxes with a reasonable possibility of

being asserted, in which case there would probably be a loss in 13 months

C_ 13 A determinable loss from a past event that is contingent on a future event

that appears extremely likely to occur in three months

A_ 14 Bond sinking fund

C_ 15 Long-term bonds callable by the creditor in the upcoming year that are

not expected to be called

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Requirement 1

Accrued liability and expense

Warranty expense (3% x $3,600,000) 108,000

Actual expenditures (summary entry)

Cash, wages payable, parts and supplies, etc 88,000

Requirement 2

Actual expenditures (summary entry)

Estimated warranty liability ($50,000 – 23,000) 27,000

Loss on product warranty (3% – 2%] x $2,500,000) 25,000

Cash, wages payable, parts and supplies, etc 52,000*

*(3% x $2,500,000) – $23,000 = $52,000

1 This is a change in estimate

To revise the liability on the basis of the new estimate:

Liability—litigation ($1,000,000 – 600,000) 400,000

Gain—litigation 400,000

2 A disclosure note should describe the effect of a change in estimate on income before extraordinary items, net income, and related per-share amounts for the current period

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The note describes a loss contingency Dow anticipates a future sacrifice of economic benefits (cost of remediation and restoration) due to an existing circumstance (environmental violations) that depends on an uncertain future event (requirement to pay claim)

Dow considers the liability probable and the amount is reasonably estimable

As a result, the company accrued the liability:

($ in millions)

Loss provision from environmental claims 607

Liability for settlement of environmental claims 607

In practice this liability would be accrued in multiple entries, increasing when Dow recognized additional liability and decreasing either when Dow paid off parts of the liability or revised downward their estimate of remediation and restoration costs

Salaries and wages expense (total amount earned) 500,000

Withholding taxes payable (federal income tax) 100,000 Social security taxes payable ($500,000 x 6.2%) 31,000 Medicare taxes payable ($500,000 x 1.45%) 7,250 Salaries and wages payable (net pay) 361,750

Payroll tax expense (total) 68,250

Social security taxes payable (employer’s matching amount) 31,000 Medicare taxes payable (employer’s matching amount) 7,250 Federal unemployment tax payable ($500,000 x 0.6%) 3,000 State unemployment taxpayable ($500,000 x 5.4%) 27,000

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CPA Exam Questions

1 d The accrued interest at end of the first year, February 28, 2013, is $1,200

($10,000 x 12% = $1,200) The interest for the remaining ten months is compounded based on the carrying amount of the total liability at February

28, 2011, $11,200 ($10,000 principal plus the $1,200 accrued interest) Therefore, the interest is $11,200 x 12% x 10/12 = $1,120 for the last ten months The accrued interest liability at December 31, 2013, would be the total interest for the two time periods, $1,200 + 1,120 = $2,320

2 a The liability for compensated absences at December 31, 2013, is $15,000

for the 150 vacation days times $100 per day The key word in dealing with sick pay is the word “required.” The problem asks what is the liability

required at December 31, 2013 Since the accrual of sick pay is optional,

North Corp would not be required to accrue a liability for sick pay

3 a The amount excluded from current liabilities through refinancing cannot

exceed the amount actually refinanced Therefore, Largo should consider the $500,000 paid by the refinancing to be a long-term liability and the

$250,000 a current liability on the December 31, 2013, balance sheet The refinancing was completed before the issuance of the financial statements and meets both criteria (intent and financial ability) for the classification of the $500,000 as a long-term liability

4 a Gain contingencies should not be recognized in the financial statements

until realized Adequate disclosure should be made in the notes but care should be taken to avoid misleading implications as to the likelihood of realization of the contingent gain

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CPA Exam Questions (concluded)

5 a

Times expected redemption rate × 60 %

Equals protected coupons returned 66,000

Divided by coupons required for each toy 5 coupons

Equals expected toys to be mailed = 13,200

Times net cost per toy ($.80 – 50) × 30

Liability on balance sheet at December 31, 2013 $3,960

7 a Under IFRS, contingent liabilities (called “provisions”) are accrued if the

probability of payment is more likely than not, defined as a probability of greater than 50%

8 a Under IFRS, contingent assets are accrued if they are virtually certain to

occur

9 c Under IFRS, contingent liabilities (called “provisions”) are accrued equal to

the expected value of a range of equally likely amounts In this case, $15 million is the expected value of the range of $10 million to $20 million

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1 b If an enterprise intends to refinance short-term obligations on a long-term

basis and demonstrates an ability to consummate the refinancing, the obligations should be excluded from current liabilities and classified as noncurrent Under U.S GAAP the ability to consummate the refinancing may be demonstrated by a post-balance-sheet-date issuance of a long-term obligation or equity securities, or by entering into a financing agreement

2 d There are four requirements that must be met before a liability is accrued for

future compensated absences These requirements are that the obligation must arise for past services, the employee rights must vest or accumulate, payment is probable, and the amount can be reasonably estimated If the amount cannot be reasonably estimated, no liability should be recorded However, the obligation should be disclosed

3 c GAAP requires a contingent liability to be recorded, along with the related

loss, when it is probable that an asset has been impaired or a liability has been incurred, and the amount of the loss can be reasonably estimated The

key words are “probable” and “reasonably estimated.”

4 c The likelihood of contingencies is divided into three categories: probable

(likely to occur), reasonably possible, and remote When contingent losses are probable and the amount can be reasonably estimated, the amount of the loss should be charged against income If the amount cannot be reasonably estimated but the loss is at least reasonably possible, full disclosure should

be made, including a statement that an estimate cannot be made

Trang 40

Interest payable (from adjusting entry) 420,000

Cash (total) 14,560,000

L & T Bank

Cash (total) 14,560,000

Interest revenue ($14,000,000 x 12% x 1/12 ) 140,000 Interest receivable (from adjusting entry) 420,000 Notes receivable (face amount) 14,000,000

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