Chapter 13 - Non Financial and Current Liabilities Flashcards
What are liabilities?
Obligations of an enterprise arising from past events or transactions, the settlement of which may result in the transfer of goods, services, or other items that yield economic benefit in the future.
What are the three characteristics of a liability?
- An obligation that arises from a past event or transaction.
- An obligation cannot be avoided.
- Settled through financial assets, goods, or services, on a determinable date or on the occurrence of a specified event.
T or F: A liability does not have to be legally enforceable.
True
When does a liability exist under IFRS?
This is the same as the characteristics of a liability
- There is an obligation that arises from a past event
- The obligation is unavoidable
- The obligation will be settled through the transference of economic resources.
What are financial liabilities? What are current liabilities often classified as?
Contractual obligations to deliver cash or other financial assets to another party or to exchange financial instruments, with another party that are potentially favourable. Current liabilities are often classified as financial
How do we record financial liabilities initially and as time progresses?
Recorded initially at the fair value when first received, and then at its amortized cost over time.
How are transactions costs treated when issuing liabilities initially at fair value and adjusting it through amortized cost overtime?
They are treated as an offsetting debit to the cost of the liability.
How are transaction costs treated when issuing liabilities if we treat the liability at fair value after initial recognition.
They are treated as an expense rather than applying it against the liability.
What are non financial liabilities? How do we measure them? How does ASPE treat these?
These are liabilities not settled with the terms of the contract. We measure them at the best estimate of the consideration paid when settling the obligation.It is not addressed.
What is a current liability under IFRS?
The amount payable within one year from the statement of financial position date or within the normal operating cycle.
What is the operating cycle?
The period that elapses between the acquisition of a good and the collection of cash from its sale.
How are liabilities held for trading and those that have no right to defer beyond one year treated?
They are treated as a current liability.
How do we measure the current liabilities / financial liabilities? How do we record it after the fact.
We measure them at the PV and will amortize the premium or discount arising between the difference in the future value and the present value by applying the effective interest rate method.
How do we measure the non financial liabilities?
We measure them at the value of the goods or services that we will provide in the future.
What are credit facilities?
Open ended lending contracts with financial institutions allowing companies to borrow funds at certain interest rates, and to pay off the amount borrowed at any time.
What is an accrued payable?
What is it supported by? What is it not supported by?
Is a payable not yet supported by an invoice but is supported by other documentation like receiving reports and purchase orders.
What are assurance type warranties?
Warranties that companies embed within the price of the product and customers pay nothing extra to receive it.
What are service type warranties?
Warranties that companies sell as a separate product.
Why do companies sell service type warranties and what services does it provide?
A separate item for additional consideration, providing more than just ensuring that the product will function properly.
How do we record service type warranties when we first receive it? How do we de-recognize it overtime? What is this method called?
Record deferred revenue when first receiving it.
Amortize the deferred revenue into warranty revenue over the term of the coverage, and expensing it when warranty coverage must actually be provided. This is called the revenue approach.
When does assurance type warranty exist?
How do we record the sales transaction? What is this approach called?
When the seller embeds warranty coverage within the price of the product and payment for that coverage is not optional.
We do not split the sales transaction into two parts of the sale of the product and the deferred revenue for the warranty. Rather we will record the entire value as a sale and ignore the warranty at this time. This is called the expense approach.
How do we use the expenses approach initially?
We will estimate the expense based on the percentage of sales covered by the warranty and record it in the same period as the related sale arose, even if the payment for the expense occurs later.
What is the journal entry created to estimate the warranty? What is the key difference between the assurance and service type warranties?
We will create an adjusting entry to set up a warranties expense (debit) and a warranties payable (Credit). The assurance type warranties has no deferred revenues and warranty revenues that will be recognized.
How do we record the reduction in the assurance warranty?
We will debit the liability brining it down in value and we will credit the cash as we had to pay to make the warranty.
How do we estimate warranty expense under IFRS vs ASPE? Is there really a difference?
Under IFRS we assess whether it is probable that it will occur.
Under ASPE we just apply an estimate.
Realistically there is no difference between IFRS and ASPE>
When is it acceptable to use a cash basis of accounting for assurance warranties?
It is acceptable for tax purposes. Typically we only use this if the difference between the cash basis and the assurance type approach are not material.
When is recording sales returns when it occurs acceptable?
It is only acceptable if the returns are immaterial.
How are sales returns recorded under ASPE.
- Estimating Process
- When recording the estimate sales returns process.
- When a sales returns occurs
- Accrue an estimate for sales returns in an adjusting entry at the end of the period.
- DR - Sales Returns
CR - Allowance for Sales Returns - DR - Allowance for Sales Returns
CR - Cash / Accounts Receivable.
How are sales returns recorded under IFRS?
If the right of return is material, the company will estimate the return and record the estimated return at the time of the sale.
What is the first step in estimating sales returns under IFRS? What happens when this occurs? What does this ensure?
Record a refund liability at the point of the sale equal to the price of the product estimated to be returned. When setting up this liability, it will reduce sales by the same amount. This ensures that the company does not record a sale for products that customers are likely to return.
What is the second step in estimating sales returns under IFRS. What happens when this occurs?
When we record the refund liability this is based on the price of the items that will likely be returned to us. Therefore, we will record an asset called estimated inventory returns which is based on the cost of the items and it is a contra account to the COGS ensuring that similar to sales we do not de-recognize more than we should.
What is the last step in estimating sales returns under IFRS when the customer returns the product?
- DR - Refund Liability
CR - Cash / Accounts Receivable - DR - Inventory
CR - Estimated Inventory Returns.
When are contingent losses recorded under ASPE?
- It is likely (more than 75%) that there is an issue at the date of the financial statement though available information.
- We can estimate the amount of the loss.
When do we record contingent liability notes and not a contingent loss under ASPE?
- It is likely but not measurable
- It is likely and it has been accrued but it is likely to change.
- It is not determinable as to whether it will actually occur or not.
When do we record a provision under IFRS?
- It is probable (more than 50%) that we will have to settle the obligation through outflow of resources.
- We have a present obligation that arose from a past event.
- We can make a reliable estimate of the obligation.
How do we determine if there is a present obligation? What do we do if there is? If there is not?
We look at all information that is available to us, and determine if it is more likely than not (50%) that a present obligation does exist.
If there is we record a provision if it can be measured. If there is not we put a contingent liability note. If the probability is remote then we do nothing.
What are the three situations when we disclose a contingent liability under IFRS?
- There is a present obligation that we cannot measure.
- There is no possible or present obligation, we do nothing.
- Cash outflow is remote than we do nothing.
How do we estimate and disclose contingent losses under ASPE?
Based on a range of values we will record the lowest possible value in the range as the contingent loss, and we will create a note about all the possible ranges that it could be.
How do we estimate and disclose the provision value under IFRS?
Based on the range of values, we will take a weighted average, which is often the mid point. From the mid point we will record the journal entry, but then we must disclose in the notes the difference between the average value and the highest possible number.
How do we treat changes in the contingent gains under ASPE?
For contingent gains under ASPE we will never accrue it, but if it is likely that we place it as a note to the financial statements. However once that future event occurs it can be recognized, as we record it as realized.
How do we treat changes in contingent gains under IFRS?
It follows similar principles to ASPE, except that if it is extremely probable that it will be recovered, it will be a contingent gain.
What are the three situations when a current liability would instead be classified as a long term liability?
- If the current liability is paid off with non-current assets.
- If the current liability is paid off with equity, or converts the debt to the equity.
- If the current liability is paid off with other new debt.
What must be present under the payment of debt through new debt to classify a liability as non current? When does this need to be done under ASPE vs IFRS?
There must be a non-cancellable agreement for the refinancing that extends beyond one year or operating cycle. Under ASPE it must be done in time before the board approves the financial statements. Under IFRS it must be done by the statement of financial position date.
Describe the treatment of customer loyalty programs?
A company will provide a product or service and some other material right in these situations. In this case, we must record the revenue from the sale of the product and the contract liability (IFRS) / deferred revenue (ASPE) or a specifically named liability to ensure based on the value of fulfilling it. When it is redeemed we record the revenue and the cost of the reward.
What are premiums? What is the difference between a premium and a rebate?
Incentives are offered as a reward for purchasing products in the past or as a promotion to increase future sales. A premium is a good or service, whereas a rebate is a cash payment.
What is the treatment of the premium/rebate under IFRS when recording initially?
What is the treatment when we provide the reward? Which approach is this?
We record the liability at the point of sale, reducing the sale by the amount estimated as deferred revenue.
We allocate the deferred revenue to revenue, and record any expenses incurred through the process. This is the revenue approach.
What is the treatment of premium / rebate under ASPE? Which approach is this?
We do not create a liability at the point of sale; rather, we record the sale and related COGS. However, at the end of the period, we record an expense equal to the cost of any outstanding offers along with a liability based on the probability of redemption. This is the expense approach, as ASPE does not provide any specific details.
How do we deal with situations where the premium is given without a revenue transaction?
We treat it under the expenses approach and record it based on the cost of the outstanding offer estimated as a percentage of redemption.
Describe the treatment of the financial guarantees.
Disclosure rules and when the guarantor will record a liability
Companies will disclose the nature of the guarantee regardless of the likelihood of the lender enforcing it. The party that provides the guarantee will only record a liability if the guaranteed party fails to settle their financial obligations.
What is a commitment?
What is recorded and what is disclosed?
An agreement that requires a company to have a transaction at some point in the future. We do not record unless there is a loss under an onerous contract, as there is no obligating event.
Describe the self insurance risks?
Is estimation necessary and do we disclose this information?
This is a situation where a company will choose not to buy insurance as they believe that there is very little chance that an issue will happen. Since this is the case the estimate for any damages should not occur unless it happens. However they must disclose the self insurance risks.
What industry allows the disclosure of current assets with current liabilities? What is the most common way to present current liabilities? How are the pledged collateral treated?
The real estate industry. On the right-hand side of the statement of financial position on the top, listed in order of maturity, but reverse order is permitted under IFRS. Disclosed as notes to the financial statement.
How do we present contingencies? What is relevant information we should state regarding it?
We present contingencies into the notes to the financial statement, describing it, how we estimated it, or why we could not estimate it.
What is the current ratio? What value should the ratio be and how is it used for loans?
The measurement of liquidity is by measuring if a company has enough current assets to pay off its current liabilities, typically the ratio should be positive and used in loan covenants.
What is the right number to have for a current ratio? What happens if it is too high or too low?
It depends on the nature of the business in which it operates. If it is too high, they are not investing enough in long-term assets. If it is too low, then they may not be able to fulfill their current liabilities.
What is the current ratio formula?
Current Assets / Current Liabilities
What is the acid test ratio?
The acid test ratio is an adjustment of the current ratio. It eliminates inventory and prepaid from the numerator. Since if the company experiences a downturn in the business, there will be more inventory and higher accounts receivable thus making one assume that the business has improved when in fact it has not.
What is the acid test ratio formula?
Cash + Marketable Securities+ Net Accounts Receivable / Current Liabilities
What is the days payable outstanding ratio? What is the formula?
Measures the amount of time it takes to pay trade accounts payable. Average trade accounts payable/average daily COGS.
What are rents and royalties payable? What is an example?
Liabilities based on sales. If rent is 1% of sales, rent is accrued as soon as the sales amount is determined.
Describe the treatment of customer advances and deposits. Why are they treated as current.
We treat them as a liability when we receive the advance or deposit, and we reduce the liability when we provide the good or service or when we return the funds received for deposits. These are classified as current as they are expected to be settled within a year or one operating cycle.
Describe the treatment of the sales tax of provincial governments sales tax. How do we treat these taxes?
If there is a PST it is classified as non-refundable. They are added to the cost of the item purchased. These are current liability as they are to be settled typically within one year.
How is GST treated when we are the seller vs when we are the buyer? What happens at the end of the year.
When we are the seller, it is a liability that must be paid to the government. When we are the buyer, it is a receivable from the government not a component of the asset purchased or the expense incurred. We will net the receivable to the payable to determine if we get or pay cash.
How are income taxes recorded?
We accrue the income tax payable monthly based on estimates, and reduce the balance when making installment payments.
What are the two ways to record income taxes for small business and large businesses?
- Through instalments in the year, we will debit income tax payable and credit the cash. However, by the year-end we will record an accrual to increase the expense and increase the payable to make it balance to zero.
- Through the instalment dates, we will debit the expense and credit the cash.
What are decommissioning and restoration obligations?
When a company retires a nuclear power plant or an oil well, some costs are required to be paid and thus a liability must be created known as a decommissioning provision (IFRS) or an asset retirement obligation (ASPE). The offsetting debit is the related asset or an asset retirement cost.
What do we do when we acquire an asset that has applicable ARO?
We need to perform a PV calculation of the asset retirement obligation or the expected future cost to clean up.
How does the calculations change if the ARO increases due to the usage of an asset rather than acquisition under IFRS and ASPE?
Under IFRS, we record an increase in production costs only under IFRS by debiting the inventory and/or COGS depending on what is sold or in inventory and credit the decommissioning provision.
Under ASPE we record an increase in production costs by debiting the asset and crediting the asset retirement obligation.
What is the difference in costs included in the ARO under IFRS vs ASPE.
Under IFRS it includes both the constructive obligation costs and the legally binding costs.
Under ASPE we only care about the legally binding costs.
What do we do with the ARO overtime?
We will record amortization or depreciation on the asset over time. We will debit the interest expense (IFRS) or accretion (ASPE) and credit the asset retirement obligation.
What happens if we need to revalue the ARO?
We apply a prospective basis, making the changes moving forward,
Is an ARO short or long-term?
What can happen when we settle it?
What does year-end disclosure notes require?
It is long-term in nature.
When we settle it, it can have a gain or loss.
Assumptions made to value the obligation and movements in its value. In addition too if any creditors restricted the use of the assets for the settlement of a liability.
What event triggers the recognition of a dividend payable? What is the classification for dividends payable?
Declaration by the board of directors. Current liabilities as it falls between the date of the declaration and actual date of payment which is quite short.
What are arrears?
Dividends on preferred shares that have a cumulative dividend feature. The shareholders will receive a stated dividend even if the board does not declare a dividend. The difference between the stated dividend and the dividend decleared is the dividend in arrears.
Are dividends in arrears an obligating event.
No they are not an obligating event as they have not been declared, thus they are disclosed only
How do we record declared stock dividends not yet distributed?
They are treated as equity and not a liability as they are not an obligation settled with cash or a financial resource.
When are property taxes typically paid? What happens prior to the receiving of the assessment?
They are typically paid annually, in the middle of the year, when the property tax assessment arrives. There will be a monthly accrual of income taxes based on an estimate.
How do we record a property tax accrual up to the point of the tax assessment?
How do we record the entry for property taxes on the date of the assessment?
How do we record the entry for property taxes after the date of the assessment?
How do changes in property taxes play out?
We will debit property tax expense and credit property tax payable based on the estimate we made for the amount that will need to be paid.
Based on the accrual we will de-recognize the payable accrued up to the point, set up a prepaid property tax debit, and credit the cash.
Based on the prepaid amount set up, it will be de-recognized over the remaining time
Tthey are adjusted on a prospective basis.
What must employers do under payroll deductions for the CPP and EI.
They must match the CPP contributions of the employee. In addition, they must provide 1.4 times the contribution for EI. Both employers and employees must fund these.
What other items must be deducted from a payroll?
Income tax withholdings, union dues, health care costs, group insurance, and social club dues.
What are short-term compensated absences?
These are liabilities that are recorded when paid leave for employees occurs and they have a vested right. These can be accumulated over time like vacation pay or at a specific point in time like maternity leave.
What is an accumulated right? When are these recorded?
Vested right carries over into the subsequent accounting periods and often increases overtime. They are recorded when they have the right to receive this compensation even if we pay out the compensation later.
What is the typically the last entry recorded in an accounting period for employee benefits and why. Why are these classified as current liabilities?
Bonuses and profit sharing as they are a percentage of income before the bonus. They are classified as such for income tax purposes, as they will typically be paid out within a 6 month following year end.
What is the exception to the IFRS refinancing criteria regarding the need to have a non-cancellable agreement by the statement of financial position date?
If the company expects to refinance it or roll it over under another existing agreement for at least 12 months and at tthe discretion of the firm.
Describe notes payable
Describe the term and the stated interest rate
They can be long-term or short-term. They can bear interest (having a stated rate market rate different) or not bear interest (having no stated rate) creating a discount
What is a common way to record purchase discounts?
Typically firms use the gross method but the net method is also acceptable
What is a contingency?
It ia an existing condition or situation involving g uncertainty as to possible gains or losses to an enterprise that will ultimately arise when one or more future events occur or fail to occur.
