Chapter 12: Flashcards
what is the definition of a liability
A present obligation of entity, arising from past events, the settlement of which is expected to result in an outflow of economic benefits.
what are the characteristics of a liability
- is an expected future sacrifice of assets or services;
- constituting a present obligation;
3.and
is the result of a past transaction or event.
legal Obligations arise due to
contract or legislation
example of contract or legislation legal obligations
trade payables
borrows
constructive obligations arise due to
a pattern of past practices or established policy
example of constructive obligation
company makes a statement that will accept certain responsibilities and creating an expectation
What are the two types of liabilities
- financial liabilities
2. non-financial liabilities
what is a financial liability
a financial instrument
- a contract that gives rise to a financial asset of one party and a financial liability or equity instrument of another party
Includes: a/p and notes payable
what is a non-financial liability
any liability that is not a financial liability (ie it has no offsetting financial asset on the books of the other party)
Include: unearned revenue, warranty liabilities
provisions - liability with certain timing or amount
understand slide 12
understand slide 12
what is discounting
financial liabilities must be valued at present value of future cash flows
- discount value if liability is due beyond one year
- discounted at current market (effective) interest rate specific to risk level
- interest is recorded as time passes
when do you not discount
if it is under one year and
- if amount and timing is highly uncertain
what are trade accounts payable
obligations to suppliers arising from operations
what kind of adjustments may be necessary for trade accounts payable
adjust for
- purchase discounts
- allowances
- returns
what do you report separately with regards to trade payables
income taxes payable are reported separately
what are notes payable
written promise to pay a specified amount (or series of amounts) a t specified date (or series of dates)
Notes payable can be secured with
collateral
what are the sources of notes payable
- borrowing from lenders
- purchase agreements with suppliers
** stated interest rate may be different form market interest rate
what is stated interest rate
the interest rate STATED in the loan agreement
what is the market interest rate, or yield
the rate accepted by two parties for loans of equal amounts , identical credit risks and conditions
what is interest bearing
specify a stated rate applied to face value
what is non-interest bearing
non stated rate, but get interest thorough difference between cash lent and the higher amount of cash repaid
notes with stated rates less than market rates may be used by suppliers as sales incentives
how are notes payable initially recorded
at fair value
- stated value if short term
- stated value if stated rate = market rate
- discounted value if stated rate is different from market rate
(market rate is used for discounting)
Notes payable Example:
notes payable issued august 1, 20x4 and due July 31,x 20x6 for $700,000
- stated rate is 5% which is equal to market rate
- interest Is payable annually on July 31
company has dec 31 year end
Entries:
Aug 1, 20x4 initial entry
cash 700,000
notes payable 700,000
Dec 31, 20x4 -accrue interst
700,000 x5% x 5/12
interest exp 14,583
accrued int. payable 14583
July 31, payment of annual interest
int exp 20,417b
accrued int pay 14,583
cash 35,000