Practice Exam 7.28.23

Question 1

At the beginning of the year, the Baker Fund, a nongovernmental not-for-profit corporation, received a $125,000 contribution restricted to youth activity programs. During the year, youth activities generated revenues of $89,000 and had program expenses of $95,000. What amount should Baker report as net assets released from restrictions for the current year?

A. $0
B. $125,000
C. $95,000
D. $6,000

Answer 1

C. $95,000

At the time the contribution was made, net assets with donor restrictions increased by $125,000. The restriction stated that the funds were to be used for youth activity programs. The amount of actual program expenses for the year ($95,000) is reported under net assets released from restrictions.

Question 2

Which one of the following statements with regard to marketable securities is incorrect?

A. In the portfolio of marketable equity securities, unrealized gains and losses are recorded on the income statement.
B. The held-to-maturity portfolio consists only of debt securities.
C. Debt securities may be transferred from the held-to-maturity to the available-for-sale portfolio.
D. In the available-for-sale portfolio of marketable debt securities, unrealized gains are recorded on the income statement.

Answer 2

D. In the available-for-sale portfolio of marketable debt securities, unrealized gains are recorded on the income statement.

Assuming no impairment for credit losses, unrealized holding gains and losses on available-for-sale debt securities are reported in other comprehensive income.

Question 3

The lessee should recognize amounts probable of being owed under a residual value guarantee as a component of lease payments

A. At the conclusion of the lease.
B. On a straight-line basis during the lease.
C. At no time during the lease term.
D. On the commencement date of the lease.

Answer 3

D. On the commencement date of the lease.

At the lease commencement date, the lessee recognizes a lease liability at the present value of the lease payments to be made over the lease term. The lease payments include the amounts probable of being owed by the lessee under residual value guarantees.

Question 4

A building contractor has a fixed-price contract to construct a building on the customer’s land. The building is expected to be completed in 2 years. Progress billings will be sent to the customer at quarterly intervals. Which of the following describes the preferable point for revenue recognition for this contract if its outcome can be reasonably measured?

A. As and only to the extent of costs incurred.
B. After the contract is signed.
C. As cash is received.
D. As progress is made toward completion of the contract.

Answer 4

D. As progress is made toward completion of the contract.

An entity must recognize revenue when (or as) it satisfies each performance obligation in the contract by transferring the promised good or service to a customer. Because the customer controls the building as it is constructed, the contract meets the criteria for recognition of revenue over time. Thus, the contractor must recognize revenue as progress is made toward completion of the contract.

Question 5

In Year 4, a contract dispute between Doll Co. and Brooker Co. was submitted to binding arbitration. In Year 4, each party’s attorney indicated privately that the probable award in Doll’s favor could be reasonably estimated. In Year 5, the arbitrator decided in favor of Doll. When should Doll and Brooker recognize their respective gain and loss?

Answer 5

Doll’s Gain = Year 5
Brooker’s Loss = Year 4

A contingent loss is accrued when two conditions are met: (1) It is probable that at a balance sheet date an asset is overstated or a liability has been incurred, and (2) the amount of the loss can be reasonably estimated. Gain contingencies should not be recognized until they are realized. A gain contingency should be disclosed, but care should be taken to avoid misleading implications as to the likelihood of realization. Because the award in favor of Doll is probable and can be reasonably estimated, a loss should be recognized in Year 4 by Brooker. However, Doll should not recognize the gain until Year 5.

Question 6

On January 1, Read, a nongovernmental not-for-profit organization, received $20,000 and an unconditional pledge of $20,000 for each of the next 4 calendar years to be paid on the first day of each year. The present value of an ordinary annuity for 4 years at a constant interest rate of 8% is 3.312. What amount of net assets with donor restrictions is reported in the year the pledge was received?

A. $86,240
B. $100,000
C. $66,240
D. $80,000

Answer 6

C. $66,240

Contributions received are accounted for at fair value. The fair value of the annual $20,000 payments may be estimated using the present value of payments. The present value of the payments equals $66,240 ($20,000 × 3.312). Unconditional promises to give cash amounts in the future are reported as donor-restricted support unless the donor clearly intended support for current activities. Because unconditional promises to give amounts in future periods usually increase net assets with donor restrictions, the amount of $66,240 is reported accordingly. The $20,000 received on January 1 increases net assets without donor restrictions.

Question 7

An NFP’s general-purpose financial statements include

A. A statement of changes in equity.
B. A balance sheet.
C. A statement of cash flows.
D. An income statement.

Answer 7

C. A statement of cash flows.

An NFP’s general-purpose financial statements are the statement of financial position, statement of activities, and the statement of cash flows. The cash flow statement is similar to the statement reported by for-profit entities.

Question 8

Belle Co. determined after 4 years that the estimated useful life of its labeling machine should be 10 years rather than 12 years. The machine originally cost $46,000 and had an estimated salvage value of $1,000. Belle uses straight-line depreciation. What amount should Belle report as depreciation expense for the current year?

A. $3,750
B. $3,200
C. $5,000
D. $4,500

Answer 8

C. $5,000

A change in the estimated useful life of a productive asset is accounted for currently and prospectively. In each of the first 4 years, Belle recognized depreciation of $3,750 [($46,000 cost – $1,000 salvage) ÷ 12 years]. Thus, the carrying amount after 4 years was $31,000 [$46,000 – ($3,750 × 4)]. After the change in estimate, Belle should recognize depreciation for Year 5 of $5,000 [($31,000 – $1,000 salvage) ÷ (10 years – 4 years)].

Question 9

An entity declared a cash dividend on its common stock in December Year 1, payable in January Year 2. Retained earnings will

A. Increase on the date of declaration.
B. Decrease on the date of payment.
C. Not be affected on the date of declaration.
D. Not be affected on the date of payment.

Answer 9

D. Not be affected on the date of payment.

When cash dividends are declared, a liability to the shareholders is created because the dividends must be paid once they are declared. At the declaration date, retained earnings must be debited, resulting in a decrease in retained earnings. When the cash dividends are subsequently paid, the dividends payable account is debited and a cash account credited. Thus, at the payment date, the amount of retained earnings is not affected.

Question 10

In its Year 4 income statement, Cere Co. reported income before income taxes of $300,000. Cere estimated that, because of permanent differences, taxable income for Year 4 would be $280,000. During Year 4, Cere made estimated tax payments of $50,000, which were debited to income tax expense. Cere is subject to a 30% tax rate. What amount should Cere report as income tax expense?

A. $34,000
B. $84,000
C. $50,000
D. $90,000

Answer 10

B. $84,000

A permanent difference does not result in a change in a deferred tax asset or liability, that is, in a deferred tax expense or benefit. Thus, total income tax expense equals current income tax expense, which is the amount of taxes paid or payable for the year. Income taxes payable for Year 4 equal $84,000 ($280,000 taxable income × 30%).

Question 11

Howard Co. had the following first-year amounts for a $7,000,000 construction contract:

What gross profit (loss) is recognized using the input method based on costs incurred to measure progress toward completion of the contract?

A. $(1,000,000)
B. $1,750,000
C. $(200,000)
D. $800,000

Answer 11

A. $(1,000,000)

Using the cost-to-cost method, the estimated loss from the project is $1,000,000 ($7,000,000 contract price – $2,000,000 actual costs in the first year – $6,000,000 estimated remaining costs to complete the project). As soon as an estimated loss on any project becomes apparent, it must be recognized in full. Therefore, the total $1,000,000 loss must be recognized.

Question 12

Government financial reporting should provide information to assist users in which situation(s)?

A. Both I and II.
B. Neither I nor II.
C. II only.
D. I only.

Answer 12

A. Both I and II.

Financial reporting should help taxpayers assess whether future taxpayers will have to assume burdens for services already provided. Furthermore, governmental financial reporting also should assist users (e.g., the citizenry and legislative and oversight bodies) in making economic, political, and social decisions.

Question 13

Tyler Corporation purchased 10,000 shares of its own $5 par-value common stock for $25 per share. This stock originally sold for $28 per share. Tyler used the cost method to record this transaction. If the par-value method had been used rather than the cost method, which of the following accounts would show a different dollar amount?

A. Paid-in capital from treasury stock and retained earnings.
B. Additional paid-in capital and treasury stock.
Answer (B) is correct.
Under the cost method, the treasury stock account was debited for the full market price of the shares; had the par-value method been used, treasury stock would only have been debited for the par value of the shares. Under the cost method, the additional paid-in capital account was not affected; had the par-value method been used, additional paid-in capital would have been debited for the excess of the market price of the shares over par.
C. Additional paid-in capital and retained earnings.
D. Treasury stock and total shareholders’ equity.

Answer 13

B. Additional paid-in capital and treasury stock.

Under the cost method, the treasury stock account was debited for the full market price of the shares; had the par-value method been used, treasury stock would only have been debited for the par value of the shares. Under the cost method, the additional paid-in capital account was not affected; had the par-value method been used, additional paid-in capital would have been debited for the excess of the market price of the shares over par.

Question 14

Lily City uses a pay-as-you-go approach for funding postemployment benefits other than pensions. The city reports no other postemployment benefits (OPEB) liability at the beginning of the year. At the end of the year, Lily City reported the following information related to OPEB for the water enterprise fund:

What amount of expense for OPEB should Lily City’s water enterprise fund report in its fund level statements?

A. $100,000
B. $1,400,000
C. $500,000
D. $600,000

Answer 14

C. $500,000

Lily City’s water enterprise fund should report the amount of the annual required contribution (ARC) of $500,000 as an expense in its fund level statements. The ARC is the employer’s periodic required contribution to a defined benefit OPEB plan. The ARC is the sum of the normal cost and an amortization payment for the unfunded actuarial accrued liability.

Question 15

An entity declared a cash dividend on its common stock on December 15, Year 1, payable on January 12, Year 2. How would this dividend affect equity on the following dates?

Answer 15

D. December 15, Year 1 = Decrease
December 31, Year 1 = No effect
January 12, Year 2 = No effect

When cash dividends are declared, a liability to the shareholders is created because the dividends must be paid once they are declared. At the declaration date, retained earnings must be debited, resulting in a decrease in retained earnings. The effect is to decrease total equity (assets – liabilities) because liabilities are increased with no corresponding increase in assets. At the balance sheet date, no entry is made, and there is no effect on equity. When the cash dividends are subsequently paid, dividends payable is debited and cash is credited. Thus, at the payment date, equity is also not affected.

Question 16

Which of the following items is an example of imposed nonexchange revenue for a governmental entity?

A. Retail sales taxes.
B. Property taxes.
C. Personal income taxes.
D. Federal grant money.

Answer 16

B. Property taxes.

Imposed nonexchange revenues result from assessments on nongovernmental entities, including individuals, other than assessments on exchange transactions. Examples are property taxes, fines, and forfeitures.

Question 17

Ray Corp. declared a 5% stock dividend on its 10,000 issued and outstanding shares of $2 par value common stock, which had a fair value of $5 per share before the stock dividend was declared. This stock dividend was distributed 60 days after the declaration date. By what amount did Ray’s current liabilities increase as a result of the stock dividend declaration?

A. $1,000
B. $500
C. $2,500
D. $0

Answer 17

D. $0

Declaration of a stock dividend is not accounted for as a liability but as a reclassification of equity. For a stock dividend that is smaller than 20 to 25% of the shares outstanding, the entry is to debit retained earnings for the fair value of the stock (10,000 shares × $5 fair value × 5% = $2,500), credit stock dividend distributable at par (10,000 shares × $2 × 5% = $1,000), and credit additional paid-in capital for the excess of fair over par value ($2,500 – $1,000 = $1,500).

Question 18

Polk Co. acquires a forklift from Quest Co. for $30,000. The terms require Polk to pay $3,000 down and finance the remaining $27,000. On March 1, Year 1, Polk pays the $3,000 down and accepted delivery of the forklift. Polk signed a note that requires Polk to pay principal payments of $1,000 per month for 27 months beginning July 1, Year 1. What amount should Polk report as an investing activity in the statement of cash flows for the year ended December 31, Year 1?

A. $9,000
B. $12,000
C. $30,000
D. $3,000

Answer 18

D. $3,000

Investing activities include acquiring property, plant, and equipment. Polk has a cash outflow of $3,000 for the equipment and finances the remaining amount. The monthly payments made by Polk are repayments of a debt obligation. Thus, they are financing cash flows.

Question 19

Garland Corporation, a public company, has declared a property dividend of one share of its investment in Marlowe, Inc., for every 10 shares of its common stock outstanding. The Marlowe shares were originally purchased by Garland for $50 per share; on the date the dividend was declared, the market value was $75 per share. As a result of this declaration, Garland should recognize

A. An appropriate gain or loss based on the market value on the date of distribution.
B. A gain of $25 per share to be distributed.
C. A loss of $25 per share to be distributed.
D. No gain or loss.

Answer 19

B. A gain of $25 per share to be distributed.

When a property dividend is declared, the property is remeasured at its fair value as of the declaration date ($75 – $50 = $25).

Question 20

Cash flows from operating activities

A. Should be presented using the direct method, but use of the indirect method of disclosure is allowed.
B. Can be presented in any logical format if cash flow per share of common stock is clearly disclosed.
C. Must be presented using the direct method of disclosure.
D. Must be presented using the indirect method of disclosure.

Answer 20

A. Should be presented using the direct method, but use of the indirect method of disclosure is allowed.

The FASB has expressed a preference for the direct method. However, if the direct method is used, a separate reconciliation based on the indirect method must be provided in a separate schedule. For this reason, most entities use the indirect method. The same net operating cash flow is reported under both methods.

Question 21

Last year, Katt Co. reduced the carrying amount of its long-lived assets used in operations from $120,000 to $100,000, in connection with its annual impairment review. During the current year, Katt determined that the fair value of the same assets had increased to $130,000. What amount should Katt record as restoration of previously recognized impairment loss in the current year’s financial statements?

A. $20,000
B. $30,000
C. $10,000
D. $0

Answer 21

D. $0

A previously recognized impairment loss may not be reversed under U.S. GAAP.

Question 22

Alta Co. spent $400,000 during the current year developing a new idea for a product that was patented during the year. The legal cost of applying for a patent license was $40,000. Also, $50,000 was spent to successfully defend the rights of the patent against a competitor. The patent has a life of 20 years. What amount should Alta capitalize related to the patent?

A. $50,000
B. $490,000
C. $90,000
D. $40,000

Answer 22

C. $90,000

Research and development’s cost of internally developed patents must be expensed when incurred. Only relatively minor related costs, such as patent registration fees and legal fees, can be capitalized. Subsequent to the grant of a patent, its owner may need to defend a suit for patent infringement. The unrecovered costs of successful litigation are capitalized because they will benefit future periods. Thus, the amount that should be capitalized is $90,000 ($40,000 + $50,000).

Question 23

The fair value of the leased asset differs from its carrying amount. What are the components of the lease receivable for a lessor involved in a sales-type lease?

A. The lease payments less initial direct costs.
B. The lease payments less guaranteed residual value.
C. The lease payments plus guaranteed residual value.
D. The lease payments plus unguaranteed residual value.

Answer 23

C. The lease payments plus guaranteed residual value.

In a sales-type lease, the lease receivable recognized by the lessor at the commencement of the lease is measured at the present value of the lease payments plus the present value of residual value guaranteed by the lessee or any other third party. In sales-type leases, initial direct costs are expensed when the fair value of the leased asset differs from its carrying amount.

Question 24

Bonds with detachable stock warrants were issued by Flack Co. Immediately after issue, the aggregate market value of the bonds and the warrants exceeds the proceeds. Is the portion of the proceeds allocated to the warrants less than their market value, and is that amount recorded as contributed capital?

Answer 24

B. Less Than Warrants’ Market Value = Yes
Contributed Capital = Yes

The proceeds from debt securities issued with detachable warrants must be allocated between the debt securities and the warrants based on their relative fair values at the time of issuance. The portion allocated to the warrants should be accounted for as paid-in capital.