Accounting for Installment Sales

Question 1

When is the installment method of accounting used?

Answer 1

Only when there is no reasonable basis for estimating the degree of collectability (revenue recognized when cash is collected)

Question 2

Formulas for Installment sales

Answer 2

1. Gross profit = Sale - COGS
2. Gross profit % = Gross profit / Sales price
3. Earned gross profit = Cash collections x Gross profit %
4. Deferred gross profit = Installment receivable x Gross profit %

Question 3

What is the balance sheet presentation for installment sales?

Answer 3

Accounts Receivable
Less: Deferred gross profit
Balance

Question 4

Cost recovery method

Answer 4

No profit is recognized on sale until all costs have been recovered

Question 5

Under cost recovery method, how is expected profit on sale recorded?

Answer 5

Deferred gross profit

Question 6

Under cost recovery method, how are cash collections handled?

Answer 6

First applied to recovery of product costs, then recognized as profit

Question 7

When can the cost recovery method be used?

Answer 7

Only when receivables are collected over an extended period and there is no reasonable basis for estimating their collectibility

Question 8

Under the installment method of accounting, how is gross profit on installment sales recognized in income?

Answer 8

In proportion to the cash collection

Question 9

When would a company use the installment sales method of revenue recognition?

Answer 9

When installment sales are material and there is no reasonable basis for estimating collectability

Question 10

If collection is in doubt, which method should be used for recognizing revenue?

Answer 10

Cost recovery method