Topic 10: Current Liabilities

Question 1

Characteristics of liabilities?

Answer 1

Present obligation

Arises from past events

Results in an outflow of resources

Question 2

An entity shall classify a liability as current when?

Answer 2

it expects to settle the liability in its normal operating cycle

the liability is due to be settled within 12 months after the reporting period

it holds the liability primarly for the purpose of trading

Question 3

Account Payable

Answer 3

• Amounts owed to other entities for products and services purchased on account.
• Time lag between the receipt of services or acquisition of title to assets and the payment for them
• Terms of the sale state the period of extended credit, commonly

Question 4

Notes payable

Answer 4

-Common form of financing
-Written promises to pay a certain sum of money on a specified future date.
-Arise from purchases, financing or other transactions
-Can be classified as:
short term or long term
interest-bearing or zero-interest bearing

Question 5

Journal entries for current maturities of long-term debts?

Answer 5

1) Note recorded as long-term

2) Reclassification: Record the portion that is current

Question 6

Dividends payable

Answer 6

Amount owed by a corporation to its stockholders as a result of board of director’s authorization

Paid generally within 3 months

Undeclared dividends on cumulative preference shares not recognized as liability

Dividends payable in the form of additional shares are not recognized as a liability but reported in equity

Question 7

Taxes Payable

Answer 7

Sales Tax:
-States assess sales tax on retail sales
-Retailers:
Collect the price of the item sold+sales tax
Pay Sales Tey Payable in less than a year

Income Tax:

• Businesses must prepare an income tax return and compute the income tax payable
• Taxes payable are a current liability

Question 8

Journal Record for Sales Tax

Smart Touch
① December’s taxable sales totaled $ 10,000.
② Smart Touch collected an additional 6% sales tax ($10,000*0.06=$600 )

Answer 8

DEC 2013: Record cash sales and the related sales tax

CASH (A+) 10’600
Sales Revenue (R+) 10’000
Sales Tax payable (L+) 600

JAN 2014: Payment of Tax Payable

Sales Tax payable (L-) 600
Cash (A-) 600

Question 9

Employed-Related Liabilities

Answer 9

Amount owed to employees for salaries or wages are reported as current liability:

• Salary
• Wages
• Commission
• Bonus
• Benefits

Question 10

When to record revenue?

Answer 10

• When service is provided
• When the product is delivered
• When the earnings process is complete

NO WHEN CASH IS RECEIVED!

Question 11

Accrual Accounting:Expense Recognition Matching Principle

Answer 11

Measure all expenses incured during the period and match the expenses against the revenues earned during the same period.

Matching means expenses are in the same period that the related revenue is recorded. The goal is to properly measure net income (loss)

Question 12

Prepaid

Answer 12

Prepaid Expenses: Advance payments of expenses
Ex: Rent, Insurance, Supplies
=> recorded as asset
=>adjusting entry: records amount used as an expense

Unearned Revenue: Cash is collected before revenue is earned (also called deferred revenue)
=> recorded as liability
=>adjusting entry: records amount used as revenue

Question 13

Accruals

Answer 13

Accrued Expenses: Expenses incurred before payment is made
Ex: Salaries, Interest
=>Opposite of a prepaid expense
=>Results in a liability

Accrued Revenues: Revenues earned before cash is received

=> Results in a receivable

Question 14

Unearned Revenues

Answer 14

Cash received in advance of performing work

Obligation to provide goods or services to the customer in the future

Question 15

Journal entry for unearned revenues

Smart Touch
Receive $600 in advance on May 21 for a month’s and the work is performed for 1/3

Answer 15

1) Receive cash in advance and record liability (Unearned Service Revenue)
2) Perform the service and adjust the entry ( Earned Service Revenue)

Smart Touch

§ Receive $600 in advance on May 21 for a month’s work

CASH (A+) 600
Unearned Service Revenue (L+) 600

§ As the work is performed for 1/3:

Unearned Service Revenue (L-)                        200
                        Service Revenue  (R+)                           200

Question 16

Accrued Liabilities

Journal Entry of a $20,000 note payable signed on May, 2013 paid over four years

Answer 16

Accrued Expenses:

• Expenses that have been incurred, but have not yet been paid
• Have a related unpaid bill (accrued liability)

DEC 2013  
Interest Expense (20000*6%*7/12) (E+)          700
                  Interest Payable  (L+)                               700

Question 17

Provisions

Answer 17

Liability of uncertain timing or amount
=>reported as current or non-current liability
=>Common types: Obligations related to litigation
o Warranty or product guarantees
o Business restructurings: termination of a
line of business, closure or relocation of
business
o Environmental damage:
Decommissioning nuclear facilities;
Dismantling, restoring, and reclamation
of oil and gas properties

Question 18

Contingent

Answer 18

Potential Liability : may or may not become actual liability, depends on a future event

=> NOT RECOGNIZED IN THE FINANCIAL STATEMENTS!

Question 19

When are provisions recognized?

Answer 19

When all of the following criteria are met:

(a) An entity has a present obligation (legal or constructive) as a result of a past event.
(b) It is probable that an outflow of resources embodying economic benefits willbe required to settle the obligation and
(c) A reliable estimate can be made of the amount of the obligation.

Question 20

Disclosures for Provisions

Answer 20

§ A company must provide a reconciliation of its beginning to ending balance for each major class of provisions, identifying what caused the change during the period.
§ Provision must be described and the expected timing of any outflows disclosed.
§ Disclosure about uncertainties related to expected outflows as well as expected reimbursements should be provided.

Question 21

Warranty Payable

Answer 21

Warranty claims expected to pay in the future based on estimates

Matching principle: Warranty expense recorded in the same time period of the sale NOT when the company pays the warranty claims.

Question 22

Smart Touch
§ on June 10, 2013 made sales on account of $ 50,000 subject to product warranties.
§ (on June 10, 2013) estimates that 3% of its products may require warranty repairs [$ 50,000 * 0.03 = $ 1’500$]
JOURNAL ENTRIES:

Answer 22

Account Receivable   (A+)                         50'000
                Sales Revenue  (R+)                                 50'000

COGS (E+) 21’000
Inventoy (A-) 21’000

Warranty Expense (E+)                                1'500
                Estimated Warranty payable (L+)             1'500