Chapter 13: Current Liabilities and Contingencies

Question 1

Self-Insurance

Answer 1

Not actually insurance. Risk assumption

Not GAAP to record in the financial statements, rather just record in notes

May incur liability risk of loss resulting from PAST injury but not for expected future

Question 2

Accounting recognition of asset requirement obligations

Answer 2

Must recognize Asset Requirement Obligations (ARO) if they exist and can be reasonably estimated (report at fair value - may use discounted rate)

ARO = costs associated with retirement of the asset

Includes cost of ARO in carrying amount of asset and record a liability for that amount

Question 3

Consideration payable

Answer 3

Payments to customers as part of revenue agreements

• discounts
• volume rebates
• free products or services
• coupons, cash rebates

when a material right is promised to a customer an obligation must be recorded

Question 4

Recording Considerations Payable

Answer 4

Must estimate any premium liability outstanding at the end of the period

Adjusting entry:
Debit Premium Expense (for matching)
Credit Premium Liability

Question 5

Recording a Service Type Warranty

Answer 5

(extended warranty - purchased

Recorded as a separate obligation:
Debit Cash or AP
Credit Unearned Warranty Revenue
Credit Sales Revenue

Adjust warranty on straight line basis over the length of the contract

Question 6

Warranty

Answer 6

Should be recognized as is a performance obligation of the company

Question 7

Service-type warranty

Answer 7

Not included in sales price

provides for additional service

recorded as separate performance obligation

Question 8

Assurance-type warranty

Answer 8

Included in product sales price

warranty that the product meets agreed upon specifications in the contract at the time the product is sold

No separate performance obligation is recorded - expensed in period goods are provided and service performed

Adjusting entry to record warranty/ liability

Question 9

Liabilities related to litigation, claims and assessments

Answer 9

• time period when underlying cause of action accrued must be on or before the date on financial statements (even if company is not aware yet)
• probability of unfavorable outcome
• ability to make reasonable estimate of amount of loss

Question 10

When to accrue estimated loss from contingency

Answer 10

Only accrued if both of the following are true:

• information available prior to the issuance of the financial statements indicates that it is PROBABLE that a liability has been incurred at the date of financial statements
• the amount of the loss can be reasonably estimated

NOT liabilities that are simply the risks of being in business

Question 11

Contingency Liability

Answer 11

Liability incurred as a result of a loss contingency

• depends on one or more future events to confirm amount, payable, payee, date payables, existance of liability

Split into:

• probable
• reasonably possible
• remote

Question 12

IFRS “Provisions”

Answer 12

Provisions = estimated liability

Question 13

Short-term debt expected to be refinanced

Answer 13

Classified as non-current only if one or both of the following are true:

• liability is contractually due to be settled more more than one year (or ops cycle, if longer) after the balance sheet date
• entity has a contractual right to defer settlement of the liability for at least one year (or operating cycle) after balance sheet date

Question 14

Treatment of refinancing on balancing

Answer 14

Depends on contractual agreement at balance sheet date (report date)

Question 15

Gain contingencies

Answer 15

Claims or rights to receive assets (or have a liability reduced) whose existence is uncertain but may become valid eventually
- follow conservative policy: only disclose when high probability of realizing gains

Question 16

Liabilities

Answer 16

Probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities in the future as a result of past transactions

• resulting from events that have already occurred
• Unavoidable obligations

Question 17

Current liabilities

Answer 17

Obligations whose liquidation is reasonably expected to require the use of existing resources properly classified as current assets or the creation of other liabilities

Question 18

Operating Cycle

Answer 18

Period of time elapsing between the acquisition of goods and services involved in the manufacturing process and final cash realization resulting from sales/ subsequent collections

Question 19

Typical Current Liabilities

Answer 19

Accounts Payable
Notes Payable
Dividends payable
customer advances & deposits
unearned revenues
sales tax payable
income taxes payable
employee-related liabilities
Current maturities of long term debt

Question 20

Types of employee related liabilities

Answer 20

Salaries/wages owed
payroll deductions
compensated absences
bonuses

Question 21

Vested Rights

Answer 21

When an employer has an obligation to make payment to an employee even after termination of employment

Question 22

Accumulated Rights

Answer 22

Rights carried forward into future periods if not used in the period earned

Question 23

Recording accounts payable

Answer 23

Debit inventory / accounts receivable
Credit accounts payable

Purchase discounts are recorded the same way as accounts receivable

Question 24

Recording a zero-interest bearing note

Answer 24

Debit Cash
Debit Discount on notes payable
Credit notes payable

Discount decreases value of the notes payable on balance sheet

Question 25

Interest Bearing Notes Payable

Answer 25

Debit Cash Credit notes payable to accrue interest Debit Interest Expense Credit Interest Payable

Question 26

Recording cash dividends payable

Answer 26

Becomes a liability on the date of declaration because usually paid within one year they are classified as a current liability accumulated dividends on preferred stock NOT a liability until a dividend is declared Stock dividends are not a liability

Question 27

Recording customer advances and deposits

Answer 27

Current or long term liability depending on time between date of deposit and termination of the relationship that required the deposit

Question 28

Recording Unearned revenues

Answer 28

Debit Cash Credit unearned revenue then need to do an adjusting entry when revenue is earned: Debit Unearned revenue Credit Sales revenue

Question 29

Recording Sales Tax payable

Answer 29

Recorded with every sale where applicable Debit Cash Credit Sales Revenue Credit Sales tax payable Sometimes may need to do an adjustment - if math is off, or if it is not recorded at time of sale

Question 30

Recording income taxes payable

Answer 30

Corporate tax rate is currently a flat percent Different for partnerships or proprietorships, which are not taxable entities (partners/ proprietor is liable for the taxes on their portion of the business on their income tax) Corporations make periodic estimated payments estimates changing causes the payments to change

Question 31

Recording employee related liabilities - payroll deductions

Answer 31

Any amounts not yet remitted should be recognized as a current liability - social security tax (OASDI)/ FICA+ medicare: employee and employer make equal contributions - unemployment taxes (FUTA + SUTA): employers responsibility - possible to reduce contribution with "ment" rating - paid quarterly, considered operating expenses

Question 32

salaries and wages journal entry

Answer 32

Debit Salaries and wages expense (tota) Credit witholding tax payable Credit FICA tax payable (employee contribution) Credit other deductions (insurance contributions, union dues) Credit cash

Question 33

Recording employer payroll taxes

Answer 33

Debit Payroll tax expense Credit FICA taxes payable (employer contribution) Credit FUTA taxes payable Credit SUTA taxes payable

Question 34

Recording Employee related liabilities - income tax witholding

Answer 34

Income tax withheld shown as liability until it is remitted to government

Question 35

Recording salaries and wage expense - manufacturing

Answer 35

May have multiple accounts - direct labor - indirect labor - sales salaries - executive salaries - administrative salaries, etc...

Question 36

Recording employee-related liabilities: compensated absences

Answer 36

Vacation, illness, holidays Should accrue a liability for compensation of future absences if all the following are true: - obligation is attributable to services already rendered by the employee - obligation relates to rights that vest or accumulate - payment of the compensation is probable - the amount of the payment can reasonably be estimated if all four are true then the liability is a legit expense for the period if all four conditions are not met then obligation should be disclosed in notes

Question 37

Recording sick pay

Answer 37

If sick pay benefits vest then a company MUST accrue them. if they do not vest the company can choose whether or not to accrue them. Depends on if sick pay can be used as PTO of if it is limited to illness if it can be used as PTO then must accrue recognize the expense/ liability in the period it is earned by the employee, not the period used

Question 38

Recording if a compensated absence is accrued at a lower rate then held when taken

Answer 38

Original journal entry: Debit Salaries and Wages Expenses Credit Salaries and Wages Payable When taken: Debit Salaries and Wages Payable Debit Salaries and Wages Expense (for difference) Credit cash

Question 39

Recording employee compensation liabilities - bonuses

Answer 39

Considered wages = deducted from net income also conditional expenses - agreements with the employees to pay expenses will be accrued based on the standing agreement

Question 40

Recording current maturities on long term debt

Answer 40

- long term liabilities due in next fiscal year, except if: - being retired by assets accumulated for the purpose, not shown in current assets - being refinanced - being converted to capital stock (aka no current asset used or new current liability created (include note to financial statements)

Question 41

Recording liabilities due on demand

Answer 41

aka callable liabilities Classify as current liabilities that become callable in certain circumstances are recorded as current if circumstances occur (unless can show probable circumstance will pass within specified period)

Question 42

Acid test ratio

Answer 42

A liquidity ratio removes show moving inventory from current ratio = (cash + short term investments + net accounts receivable) / current liabiltiies

Question 43

Current ratio

Answer 43

Liquidity ratio (aka working capital ratio) = current assets / current liabilities

Question 44

Contingencies on financial reports

Answer 44

Loss contingency: - record if liability is probable AND can be reliably estimated - if only one or the other then include in notes: reasonable probability, nature of contingency, estimate Some disclosures are required even when probability remote - guarantees of indebtedness to others - obligations of commercial banks under "stand by letters of credit" - guarantees to repurchase receivables

Question 45

Refinancing on financial statements

Answer 45

- if short term obligation excluded from current liabilities because of refinancing should note: financing agreement description, terms, equity security If refinancing by issuing equity DO NOT include liability in equity section

Question 46

Currently maturing obligations paid with long-term assets on financial statements

Answer 46

Reported in long term liabilities if paying with long term assets

Question 47

Current liabilities on balance sheet

Answer 47

Recorded and reported at maturity vale - because short term present value not very different/ immaterial always the 1st classification of liabilities presented - identify any secured/ pledged liabilities - do not offset against assets - current maturities of long term liabilities are listed as current

Question 48

to get sales tax from total sales revenue

Answer 48

Total revenue / 1 + tax % = sales revenue Total revenue - sales revenue = tax amount Tax % x sales revenue should = total revenue - sales revenue