Accounting Chapter 9 and 10 PDF

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Professor Joseph Kerstein...

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coSellers Point of View Three accounting issues: 1.Recognizing Accounts receivable. 2.Valuing Accounts receivable. 3.Disposing Of accounts receivable. Recognizing Accounts Receivable •Service organization records a receivable when it performs service on account. •Merchandiser Records accounts receivable at the point of sale of merchandise on account. Illustration: Assume that Jordache Co. on July 1, 2017, sells merchandise on account to Polo Company for $1,000 terms 2/10, n/30. Prepare the journal entry to record this transaction on the books of Jordache Co. July 1 Accounts Receivable 1000 Sales Revenue 1000 Illustration: On July 5, Polo returns merchandise worth $100 to Jordache Co. July 5 Sales Returns and Allowances 100 (gained 100 in returns) Accounts Receivable 100 (lost 100 on account) Illustration: On July 11, Jordache receives payment from Polo Company for the balance due. ***2/10 is get 2% discount in next 10 days n/30 is have to pay full in next 30 days 1000-100 (return) = 900 on account 2 percent of 900 (since returned 100)= 18, 900-18=882 July 11 (900X.02)

Cash Sales Discount

882 18 Accounts Receivable 900

DO IT 1- Recognizing Accounts Receivable On May 1, Wilton sold merchandise on account to Bates for $50,000 terms 3/15, net 45. On May 4, Bates returns merchandise with a sales price of $2,000. On May 16, Wilton receives payment from Bates for the balance due. Prepare journal entries to record the May transactions on Wilton’s books. ***3/15 is get 3% discount in next 15 days net 45 is have to pay full in next 45 days May 1 Accounts Receivable-Bates 50000 Sale Revenue 50000 May 4 Sales and Return Allowance 2000 Accounts Receivable-Bates 2000 50000-2000 = 48000 48000X.03= 1440 48000-1440=46560 May 16 Cash 46560 Sales Discount 1440 Accounts Receivable-Bates 48000

Accurate Approach Either- Waiting for the bad event to occur and customer tells you Conservative Approach- Recognize now and take care of it

Methods of Accounting for Uncollectible Accounts

1)Direct Write-Off Theoretically undesirable: •No matching. •Receivable not stated at cash realizable value. •Not acceptable for financial reporting.

2)Allowance Method Losses are estimated: •Better matching. •Receivable stated at cash realizable value. •Required by GAAP. •We use this one

Contra Account- Contra-current asset As accumulated depreciation is to equipment, so too ADA (Allowance for doubtful account) is to accounts receivable

Accounts Receivable minus Allowance for doubtful accounts

If customer says I can’t pay you yet- write off

Now we know there’s a person who can’t pay us so there’s a face to the Doubtful Account

There’s 257 in accounts receivable and we don’t expect to collect ADA Recording Uncollectibles

Not allowedcan’t just write off

Illustration: Hampson Furniture has credit sales of $1,200,000 in 2017, of which $200,000 remains uncollected at December 31. The credit manager estimates that $12,000 of these sales will prove uncollectible. December 31 Bad Debt Expense 12000 Allowance for Doubtful Accounts 12,000

Allowance Method- It’s allowed!

Percentage of Sales- Management estimates what percentage of credit sales will be uncollectible. This percentage is based on past experience and anticipated credit policy. For

example, if a business made $100,000 worth of sales on credit and estimates bad debt to be 2 percent of credit sales, it would add $2,000 to the allowance for doubtful accounts. (Take whatever credit sales you have and multiply it by estimate historic percentage rate from your industry and adjust the balance- not actual, but expected) Illustration: Percentage-of-Sales Assume that Gonzalez Company elects to use the percentage-of-sales basis. It concludes that 1% of net credit sales will become uncollectible. If net credit sales for 2017 are $800,000, the adjusting entry is: Dec 31. Bad Debt Expense (800,000X.01)= 8,000 Allowance For Doubtful Accounts 8,000

Percentage of Receivables- Management establishes a percentage relationship between the amount of receivables and expected losses from uncollectible accounts. Aging the accounts receivable - customer balances are classified by the length of time they have been unpaid.

Calculate probability that they’ll pay back as the days pass ADA 528 ---- Bad Debt Expense 1,700 ADA 1,700 2228 Illustration: Assume the unadjusted trial balance shows Allowance for Doubtful Accounts with a

credit balance of $528. Prepare the adjusting entry assuming $2,228 is the estimate of uncollectible receivables from the aging schedule. December 31. Bad Debt Expense

1,700

Allowances For Doubtful Accounts

1,700

Ada 528 -1700 --- Bad Expense 2228

Chapter 10 Plant assets are resources that have •physical substance(a definite size and shape), •are used in the operations of a business, •are not intended for sale to customers, •are expected to be of use to the company for a number of years. Referred to as property, plant, and equipment; plant and equipment; and fixed assets. Historical Cost Principle requires that companies record plant assets at cost. Cost consists of all expenditures necessary to acquire an asset and make it ready for its intended use.

Illustration: Hayes Company acquires real estate at a cash cost of $100,000. The

property contains an old warehouse that is razed at a net cost of $6,000 ($7,500 in costs less $1,500 proceeds from salvaged materials). Additional expenditures are the attorney’s fee, $1,000, and the real estate broker’s commission, $8,000. Required: Determine the amount to be reported as the cost of the land.

Cash price of property ($100,000)

100,000

Net removal cost of warehouse ($7,500-$1,500)

6,000

Attorney's fees ($1,000)

1,000

Real estate broker’s commission ($8,000)

8,000

Cost of Land

LAND IMPROVEMENTS

115,000

Structural additions made to land. Cost includes all expenditures necessary to make the improvements ready for their intended use. •Examples: driveways, parking lots, fences, landscaping, and underground sprinklers. •Limited useful lives. •Expense (depreciate) the cost of land improvements over their useful lives. -Land- Asset -Land is not depreciated because it does not go down

Buildings

Includes all costs related directly to purchase or construction. Purchase costs: •Purchase price, closing costs (attorney’s fees, title insurance, etc.) and real estate

broker’s commission. •Remodeling and replacing or repairing the roof, floors, electrical wiring, and plumbing.

Construction costs: •Contract price plus payments for architects’ fees, building permits, and excavation

costs. Adjusting Journal Entries-- Depreciation Expense Accumulated Depreciation Equipment Include all costs incurred in acquiring the equipment and preparing it for use. Costs typically include: •Cash purchase price. •Sales taxes.

•Freight charges. •Insurance during transit paid by the purchaser. •Expenditures required in assembling, installing, and testing the unit.

Illustration: Lenard Company purchases a delivery truck at a cash price of $22,000. Related expenditures are sales taxes $1,320, painting and lettering $500, motor vehicle license $80, and a three-year accident insurance policy $1,600. Compute the cost of the delivery truck. Truck Cash Price

22,000

Sales Taxes

1,320

Painting and Lettering

500

(License and insurance is not part of the cost of the truck since it’s not unique to that truck specifically) Cost of Delivery Truck

23,820

Prepare the journal entry to record these costs. Equipment

23,820

License Expense

80

Prepaid Insurance

1,600

Cash

25,500

Expenditures During Useful Life Ordinary Repairs are expenditures to maintain the operating efficiency and productive life of the unit. •Debit to Maintenance and Repair Expense.

•Referred to as revenue expenditures. Additions and Improvements are costs incurred to increase the operating efficiency, productive capacity, or useful life of a plant asset. •Debit the plant asset affected. •Referred to as capital expenditures.

Do it 1 Assume that Drummond Heating and Cooling Co. purchases a delivery truck for $15,000 cash, plus sales taxes of $900 and delivery costs of $500. The buyer also pays $200 for painting and lettering, $600 for an annual insurance policy, and $80 for a motor vehicle license. Explain how each of these costs would be accounted for. Solution The first four payments ($15,000, $900, $500, and $200) are include in the cost of the truck ($16,600). The payments for insurance and the license are operating costs and therefore are expensed.

Alternative Terminology Another term sometimes used for salvage value is residual value. Helpful Hint Depreciation expense is reported on the income statement. Accumulated depreciation is reported on the balance sheet as a deduction from plant assets. We need these 3 to do depreciation

Management selects the method it believes best measures an asset’s contribution to revenue over its useful life. Examples include: 1.Straight-line method 2.Units-of-activity method 3.Declining-balance method

Illustration: Barb’s Florists purchased a small delivery truck on January 1, 2017. Cost $13,000 Expected salvage value $1,000 Estimated useful life in years 5 Estimated useful life in miles 100,000

a) Straight-Line Method •Expense is same amount for each year. •Depreciable cost = Cost less salvage value. Cost 13,000- Salvage Value 1,000 = Depreciable Cost 12,000 Depreciable Cost 12,000 / Useful Life 5 = Annual Depreciation Expense 2,400 To find rate: Divide 1 by the number of years of useful life 1/(number of years of useful life) So 1/5 = 20% 12,000 X .05 = 2,400

Rate is same every year since straight line Last Year of Book Value is after 5 years which is Salvage Value so 1,000 Depreciation Expense 2,400 Accumulated Depreciation 2,400

* Book value = Cost $13000 - Accumulated depreciation $2,400 = $10,600 Can’t depreciate Salvage Value (estimated value that an owner is paid when the item is sold at the end of its useful life and is used to determine annual depreciation)

Do It 2 On January 1, 2017, Iron Mountain Ski Corporation purchased a new snow-grooming machine for $50,000. The machine is estimated to have a 10-year life with a $2,000 salvage value. What journal entry would Iron Mountain Ski Corporation make at December 31, 2017, if it uses the straight-line method of depreciation? 50,000 -2,000 = 48,000 1/10 = .1 48,000X.1 = 4800 Depreciation Expense 4800 Accumulated Depreciation 4800

UNITS-OF-ACTIVITY METHOD

Illustration: Barb’s Florists purchased a small delivery truck on January 1, 2017. Cost $13,000 Expected salvage value $1,000 Estimated useful life in years 5 Estimated useful life in miles 100,000 •Companies estimate total units of activity to calculate depreciation cost per unit. •Expense varies based on units of activity. •Depreciable cost is cost less salvage value. Alternative Terminology Another term often used is the units-of-production method.

Depreciation Expense 1,800 Accumulated Depreciation 1,800 Depreciable Cost is Cost 13000 - Salvage Cost 1000 = 12000 Start with depreciable cost and divide by the number of units So 12,000 Depreciable Cost / 100,000 Total Units of Activity = .12 Depreciable Cost Per Unit .12 Depreciable Cost Per Unit X Units of Activity During the Year 15,000 = 1,800

DECLINING-BALANCE METHOD •Accelerated method. •Decreasing annual depreciation expense over the asset’s useful life. •Twice the straight-line rate with Double-Declining-Balance. •Rate applied to book value. (Book Value-the value of a security or asset as entered in a company's books.)

Take a Straight Rate and Use twice that rate Beginning Book Value X Straight Line Rate X 2

Won’t actually ever fully depreciate

Illustration: Barb’s Florists purchased a small delivery truck on January 1, 2017. Cost $13,000 Expected salvage value $1,000 Estimated useful life in years 5 Estimated useful life in miles 100,000

Beginning Book Value 13,000 X 1/5 X 2 = 13,000 X .4 = 5200 Depreciation Expense

5,200

Accumulated Depreciation

5,200

* Computation of $674 ($1,685 x 40%) is adjusted to $685. Since last year had 1,685 so write off whatever is left since assume the guy retired. So 1685-1000 = 685 Can’t go below salvage value so if theoretically had Annual Depreciation Expense of 800 then book value would be 1685-800= 885 so not possible Here the issue though was guy reiting so just end it off

Depreciation and Income Taxes

IRS does not require taxpayer to use the same depreciation method on the tax return that is used in preparing financial statements. Taxpayers must use the straight-line method or a special accelerated-depreciation method called the Modified Accelerated Cost Recovery System(MACRS). MACRS is NOT acceptable under GAAP.

How do you get rid of a Accumulated Depreciation-Credit Balance? Debit Balance Asset is left. Asset is a debit so to get rid of it Credit. Book Value- What it is worth on your account Market Value- What you actually get for it Equipment Cost 8,000 I had 6,000 Accumulated Depreciation (Book Value of 2000) It sold for 3000--- Gained 1,000 Sold for 1000--- loss 1000

Accumulated Depreciation 6000 Cash 1000 ***Loss on Disposal of Plant Assets 1000 Equipment 8000 Illustration: Hobart Enterprises retires its computer printers, which cost $32,000. The accumulated depreciation on these printers is $32,000. Prepare the entry to record this retirement. Accumulated Depreciation

32,000

(Debit it to get rid of a credit balance account)

Equipment

32,000

(Equipment is a debit so credit to balance)

Question: What happens if a fully depreciated plant asset is still useful to the company? Company continues to use the asset with no additional depreciation being recorded as the asset is fully depreciated.

Illustration: Sunset Company discards delivery equipment that cost $18,000 and has accumulated depreciation of $14,000. The journal entry is? Accumulated Depreciation

14,000

(Missing $4000)

Loss on Disposal of Plant Assets

4,000

(Plugging the gap of 4000) (Plug is like an expense and is a loss since no return)

Equipment

18,000

Companies report a loss on disposal in the “Other expenses and losses”section of the income statement. If the gap is on the right side, it’s a gain Illustration: On July 1, 2017, Wright Company sells office furniture for $16,000 cash. The office furniture originally cost $60,000. As of January 1, 2017,it had accumulated depreciation of $41,000. Depreciation for the first six months of 2017 is $8,000.

Prepare the journal entry to record depreciation expense up to the date of sale. January to July is 6 months July 1 Depreciation Expense 8,000 Accumulated Expense

8,000

41000+8000=49000 Accumulated Depreciation 60000 Original Cost - 49000 Accumulated Depreciation = 11000 What it's worth So 16000 sold for minus 1100 is a gain of 5000 July 1 Cash Accumulated Depreciation

16,000 49,000 Equipment 60000 Gain on Disposal of Plant Assets 5,000

If Cash received = 10000 Cash 10000 Accumulated Depreciation 49000 Loss on Disposal of Plant Assets 1000 Equipment

60000...