Time Value of Money. Appendix E. Learning Objectives. After studying this chapter, you should be able to:

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1 E- 1

2 Appendix E Time Value of Money E- 2 Learning Objectives After studying this chapter, you should be able to: 1. Distinguish between simple and compound interest. 2. Solve for future value of a single amount. 3. Solve for future value of an annuity. 4. Identify the variables fundamental to solving present value problems. 5. Solve for present value of a single amount. 6. Solve for present value of an annuity. 7. Compute the present value of notes and bonds. 8. Compute the present values in capital budgeting situations. 9. Use a financial calculator to solve time value of money problems.

3 Nature of Interest Interest Payment for the use of money. Excess cash received or repaid over the amount borrowed (principal). Variables involved in financing transaction: 1. Principal (p) - Amount borrowed or invested. 2. Interest Rate (i) An annual percentage. 3. Time (n) - The number of years or portion of a year that the principal is borrowed or invested. E- 3 LO 1 Distinguish between simple and compound interest.

4 Nature of Interest Simple Interest Interest computed on the principal only. Illustration: Assume you borrow $5,000 for 2 years at a simple interest of 6% annually. Calculate the annual interest cost. Illustration E-1 FULL YEAR Interest = p x i x n = $5,000 x.06 x 2 = $600 E- 4 LO 1 Distinguish between simple and compound interest.

5 Nature of Interest Compound Interest Computes interest on the principal and any interest earned that has not been paid or withdrawn. Most business situations use compound interest. E- 5 LO 1 Distinguish between simple and compound interest.

6 Compound Interest Illustration: Assume that you deposit $1,000 in Bank Two, where it will earn simple interest of 9% per year, and you deposit another $1,000 in Citizens Bank, where it will earn compound interest of 9% per year compounded annually. Also assume that in both cases you will not withdraw any interest until three years from the date of deposit. Illustration E-2 Simple versus compound interest Year 1 $1, x 9% $ $ 1, Year 2 $1, x 9% $ $ 1, Year 3 $1, x 9% $ $ 1, E- 6 LO 1 Distinguish between simple and compound interest.

7 Future Value Concepts Future Value of a Single Amount Future value of a single amount is the value at a future date of a given amount invested, assuming compound interest. FV = p x (1 + i )n Illustration E-3 Formula for future value FV = future value of a single amount p = principal (or present value; the value today) i = interest rate for one period n = number of periods E- 7 LO 2 Solve for a future value of a single amount.

8 Future Value of a Single Amount Illustration: If you want a 9% rate of return, you would compute the future value of a $1,000 investment for three years as follows: Illustration E-4 E- 8 LO 2 Solve for a future value of a single amount.

9 Future Value of a Single Amount Alternate Method Illustration: If you want a 9% rate of return, you would compute the future value of a $1,000 investment for three years as follows: Illustration E-4 What table do we use? E- 9 LO 2 Solve for a future value of a single amount.

10 Future Value of a Single Amount What factor do we use? $1,000 x = $1, Present Value Factor Future Value E- 10 LO 2 Solve for a future value of a single amount.

11 Future Value of a Single Amount Illustration: Illustration E-5 What table do we use? E- 11 LO 2 Solve for a future value of a single amount.

12 Future Value of a Single Amount E- 12 $20,000 x = $57, Present Value Factor Future Value LO 2 Solve for a future value of a single amount.

13 Future Value of an Annuity Future value of an annuity is the sum of all the payments (receipts) plus the accumulated compound interest on them. Necessary to know the 1. interest rate, 2. number of compounding periods, and 3. amount of the periodic payments or receipts. E- 13 LO 3 Solve for a future value of an annuity.

14 Future Value of an Annuity Illustration: Assume that you invest $2,000 at the end of each year for three years at 5% interest compounded annually. Illustration E-6 E- 14 LO 3 Solve for a future value of an annuity.

15 Future Value of an Annuity Illustration: Invest = $2,000 i = 5% n = 3 years Illustration E-7 E- 15 LO 3 Solve for a future value of an annuity.

16 Future Value of an Annuity When the periodic payments (receipts) are the same in each period, the future value can be computed by using a future value of an annuity of 1 table. Illustration: Illustration E-8 E- 16 LO 3 Solve for a future value of an annuity.

17 Future Value of an Annuity What factor do we use? $2,500 x = $10, Payment Factor Future Value E- 17 LO 3 Solve for a future value of an annuity.

18 Present Value Concepts The present value is the value now of a given amount to be paid or received in the future, assuming compound interest. Present value variables: 1. Dollar amount to be received in the future, 2. Length of time until amount is received, and 3. Interest rate (the discount rate). E- 18 LO 4 Identify the variables fundamental to solving present value problems.

19 Present Value of a Single Amount Illustration E-9 Formula for present value Present Value = Future Value (1 + i ) n p = principal (or present value) i = interest rate for one period n = number of periods E- 19 LO 5 Solve for present value of a single amount.

20 Present Value of a Single Amount Illustration: If you want a 10% rate of return, you would compute the present value of $1,000 for one year as follows: Illustration E-10 E- 20 LO 5 Solve for present value of a single amount.

21 Present Value of a Single Amount Illustration E-10 Illustration: If you want a 10% rate of return, you can also compute the present value of $1,000 for one year by using a present value table. What table do we use? E- 21 LO 5 Solve for present value of a single amount.

22 Present Value of a Single Amount What factor do we use? $1,000 x = $ Future Value Factor Present Value E- 22 LO 5 Solve for present value of a single amount.

23 Present Value of a Single Amount Illustration E-11 Illustration: If you receive the single amount of $1,000 in two years, discounted at 10% [PV = $1,000 / ], the present value of your $1,000 is $ What table do we use? E- 23 LO 5 Solve for present value of a single amount.

24 Present Value of a Single Amount What factor do we use? $1,000 x = $ Future Value Factor Present Value E- 24 LO 5 Solve for present value of a single amount.

25 Present Value of a Single Amount Illustration: Suppose you have a winning lottery ticket and the state gives you the option of taking $10,000 three years from now or taking the present value of $10,000 now. The state uses an 8% rate in discounting. How much will you receive if you accept your winnings now? $10,000 x = $7, Future Value Factor Present Value E- 25 LO 5 Solve for present value of a single amount.

26 Present Value of a Single Amount Illustration: Determine the amount you must deposit now in a bond investment, paying 9% interest, in order to accumulate $5,000 for a down payment 4 years from now on a new Toyota Prius. $5,000 x = $3, Future Value Factor Present Value E- 26 LO 5 Solve for present value of a single amount.

27 Present Value of an Annuity The value now of a series of future receipts or payments, discounted assuming compound interest. Necessary to know 1. the discount rate, 2. The number of discount periods, and 3. the amount of the periodic receipts or payments. E- 27 LO 6 Solve for present value of an annuity.

28 Present Value of an Annuity Illustration E-14 Illustration: Assume that you will receive $1,000 cash annually for three years at a time when the discount rate is 10%. What table do we use? E- 28 LO 6 Solve for present value of an annuity.

29 Present Value of an Annuity What factor do we use? $1,000 x = $2, Future Value Factor Present Value E- 29 LO 6 Solve for present value of an annuity.

30 Present Value of an Annuity Illustration: Kildare Company has just signed a capitalizable lease contract for equipment that requires rental payments of $6,000 each, to be paid at the end of each of the next 5 years. The appropriate discount rate is 12%. What is the amount used to capitalize the leased equipment? $6,000 x = $21, E- 30 LO 6 Solve for present value of an annuity.

31 Present Value of an Annuity Illustration: Assume that the investor received $500 semiannually for three years instead of $1,000 annually when the discount rate was 10%. Calculate the present value of this annuity. $500 x = $2, E- 31 LO 6 Solve for present value of an annuity.

32 Present Value of a Long-term Note or Bond Two Cash Flows: Periodic interest payments (annuity). Principal paid at maturity (single-sum). 100,000 $5,000 5,000 5,000 5,000 5,000 5, E- 32 LO 7 Compute the present value of notes and bonds.

33 Present Value of a Long-term Note or Bond Illustration: Assume a bond issue of 10%, five-year bonds with a face value of $100,000 with interest payable semiannually on January 1 and July 1. Calculate the present value of the principal and interest payments. 100,000 $5,000 5,000 5,000 5,000 5,000 5, E- 33 LO 7 Compute the present value of notes and bonds.

34 Present Value of a Long-term Note or Bond PV of Principal $100,000 x = $61,391 Principal Factor Present Value E- 34 LO 7 Compute the present value of notes and bonds.

35 Present Value of a Long-term Note or Bond PV of Interest $5,000 x = $38,609 Principal Factor Present Value E- 35 LO 7 Compute the present value of notes and bonds.

36 Present Value of a Long-term Note or Bond Illustration: Assume a bond issue of 10%, five-year bonds with a face value of $100,000 with interest payable semiannually on January 1 and July 1. Present value of Principal $61,391 Present value of Interest 38,609 Bond current market value $100,000 Date Account Title Debit Credit Cash 100,000 Bonds Payable 100,000 E- 36 LO 7

37 Present Value of a Long-term Note or Bond Illustration: Now assume that the investor s required rate of return is 12%, not 10%. The future amounts are again $100,000 and $5,000, respectively, but now a discount rate of 6% (12% / 2) must be used. Calculate the present value of the principal and interest payments. Illustration E-20 E- 37 LO 7 Compute the present value of notes and bonds.

38 Present Value of a Long-term Note or Bond Illustration: Now assume that the investor s required rate of return is 8%. The future amounts are again $100,000 and $5,000, respectively, but now a discount rate of 4% (8% / 2) must be used. Calculate the present value of the principal and interest payments. Illustration E-21 E- 38 LO 7 Compute the present value of notes and bonds.

39 Present Value in a Capital Budgeting Decision Illustration: Nagel-Siebert Trucking Company, a cross-country freight carrier in Montgomery, Illinois, is considering adding another truck to its fleet because of a purchasing opportunity. Navistar Inc., Nagel-Siebert s primary supplier of overland rigs, is overstocked and offers to sell its biggest rig for $154,000 cash payable upon delivery. Nagel-Siebert knows that the rig will produce a net cash flow per year of $40,000 for five years (received at the end of each year), at which time it will be sold for an estimated salvage value of $35,000. Nagel-Siebert s discount rate in evaluating capital expenditures is 10%. Should Nagel- Siebert commit to the purchase of this rig? E- 39 LO 8 Compute the present value in capital budgeting situations.

40 Present Value in a Capital Budgeting Decision The cash flows that must be discounted to present value by Nagel- Siebert are as follows. Cash payable on delivery (today): $154,000. Net cash flow from operating the rig: $40,000 for 5 years (at the end of each year). Cash received from sale of rig at the end of 5 years: $35,000. The time diagrams for the latter two cash flows are shown in Illustration E-22. E- 40 LO 8 Compute the present value in capital budgeting situations.

41 Present Value in a Capital Budgeting Decision The time diagrams for the latter two cash are as follows: Illustration E-22 E- 41 LO 8 Compute the present value in capital budgeting situations.

42 Present Value in a Capital Budgeting Decision The computation of these present values are as follows: Illustration E-23 The decision to invest should be accepted. E- 42 LO 8 Compute the present value in capital budgeting situations.

43 Present Value in a Capital Budgeting Decision Assume Nagle-Siegert uses a discount rate of 15%, not 10%. Illustration E-24 The decision to invest should be rejected. E- 43 LO 8 Compute the present value in capital budgeting situations.

44 Using Financial Calculators N = number of periods I = interest rate per period PV = present value PMT = payment FV = future value Illustration E-25 Financial calculator keys E- 44 LO 9 Use a financial calculator to solve time value of money problems.

45 Using Financial Calculators Present Value of a Single Sum Assume that you want to know the present value of $84,253 to be received in five years, discounted at 11% compounded annually. Illustration E-26 Calculator solution for present value of a single sum E- 45 LO 9 Use a financial calculator to solve time value of money problems.

46 Using Financial Calculators Present Value of an Annuity Assume that you are asked to determine the present value of rental receipts of $6,000 each to be received at the end of each of the next five years, when discounted at 12%. Illustration E-27 Calculator solution for present value of an annuity E- 46 LO 9 Use a financial calculator to solve time value of money problems.

47 Using Financial Calculators Useful Applications Auto Loan The loan has a 9.5% nominal annual interest rate, compounded monthly. The price of the car is $6,000, and you want to determine the monthly payments, assuming that the payments start one month after the purchase. Illustration E-28 E- 47 LO 9 Use a financial calculator to solve time value of money problems.

48 Using Financial Calculators Useful Applications Mortgage Loan Amount You decide that the maximum mortgage payment you can afford is $700 per month. The annual interest rate is 8.4%. If you get a mortgage that requires you to make monthly payments over a 15-year period, what is the maximum purchase price you can afford? Illustration E-29 E- 48 LO 9 Use a financial calculator to solve time value of money problems.

49 Copyright Copyright 2013 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make backup copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein. E- 49

50 Slide F 1

51 Appendix F Payroll Accounting Learning Objectives After studying this chapter, you should be able to: 1. Compute and record the payroll for a pay period. 2. Describe and record employer payroll taxes. 3. Discuss the objectives of internal control for payroll. Slide F 2

52 Accounting for Payroll Payroll pertains to both: Salaries - managerial, administrative, and sales personnel (monthly or yearly rate). Wages - store clerks, factory employees, and manual laborers (rate per hour). Determining the Payroll Involves computing three amounts: (1) gross earnings, (2) payroll deductions, and (3) net pay. Slide F 3

53 Determining the Payroll Gross Earnings Total compensation earned by an employee (wages or salaries, plus any bonuses and commissions). Illustration F-1 Slide F 4 LO 1 Compute and record the payroll for a pay period.

54 Determining the Payroll Payroll Deductions Mandatory: Voluntary: FICA tax Charity Federal income tax Insurance State and city income Union dues taxes Pension plans Slide F 5 LO 1 Compute and record the payroll for a pay period.

55 Determining the Payroll Payroll Deductions Mandatory: FICA tax Federal income tax Social Security taxes Supplemental retirement, employment disability, and medical benefits. State and city income taxes The rate is 6.2% for Social Security on the first $106,800 of gross earnings for each employee plus 1.45% for Medicare on the gross earnings for each employee, no limit. Slide F 6 LO 1

56 Determining the Payroll Payroll Deductions Mandatory: FICA tax Federal income tax State and city income taxes Employers are required to withhold income taxes from employees pay. Withholding amounts are based on gross wages and the number of allowances claimed. Slide F 7 LO 1 Compute and record the payroll for a pay period.

57 Determining the Payroll Payroll Deductions Mandatory: FICA tax Federal income tax State income tax Most states (and some cities) require employers to withhold income taxes from employees earnings. Slide F 8 LO 1 Compute and record the payroll for a pay period.

58 Determining the Payroll Net Pay Gross earnings minus payroll deductions. Illustration F-7 Slide F 9 LO 1 Compute and record the payroll for a pay period.

59 Recording the Payroll Maintaining Payroll Department Records Illustration F-8 Slide F 10 LO 1

60 Recording the Payroll Maintaining Payroll Department Records Illustration F-9 Slide F 11 LO 1

61 Recording the Payroll Recognizing Payroll Expenses and Liabilities Illustration: Prepare the entry Academy Company would make to record the payroll for the week ending January 14. Salaries and wages expense 17, FICA taxes payable 1, Federal income taxes payable 3, State income taxes payable United fund contributions payable Union dues payable Salaries and wages payable 11, Slide F 12 LO 1 Compute and record the payroll for a pay period.

62 Recording the Payroll Recording Payment of the Payroll Illustration: Prepare the entry Academy Company would make to record the payment of the payroll. Salaries and wages payable 11, Cash 11, Slide F 13 LO 1 Compute and record the payroll for a pay period.

63 Recording the Payroll Illustration F-10 Paycheck and statement of earnings Slide F 14 LO 1 Compute and record the payroll for a pay period.

64 Employer Payroll Taxes Payroll tax expense results from three taxes that governmental agencies levy on employers. These taxes are: FICA tax Same rate and maximum earnings as the employee s. Federal unemployment tax State unemployment tax The rate is 6.2% for Social Security on the first $106,800 of gross earnings for each employee plus 1.45% for Medicare on the gross earnings for each employee, no limit. Slide F 15 LO 2 Describe and record employer payroll taxes.

65 Employer Payroll Taxes Payroll tax expense results from three taxes that governmental agencies levy on employers. These taxes are: FICA tax FUTA tax rate is 6.2% of first $7,000 of taxable wages. Federal unemployment tax State unemployment tax Employers who pay the state unemployment tax on a timely basis will receive an offset credit of up to 5.4%. Therefore, the net federal tax rate is generally 0.8%. Slide F 16 LO 2 Describe and record employer payroll taxes.

66 Employer Payroll Taxes Payroll tax expense results from three taxes that governmental agencies levy on employers. These taxes are: FICA tax Federal unemployment tax State unemployment tax SUTA basic rate is usually 5.4% on the first $7,000 of wages paid. Slide F 17 LO 2 Describe and record employer payroll taxes.

67 Employer Payroll Taxes Illustration: Academy records the payroll tax expense associated with the January 14 payroll with the following entry. Use the following rates: FICA 8%, state unemployment 5.4%, federal unemployment 0.8%. Payroll tax expense 2, FICA tax payable 1, State unemployment taxes payable Federal unemployment taxes payable * ** *** * $ 17, x 7.65% = $1, ** $17, x 5.4% = $ *** $17,210 x.8% = $ Slide F 18 LO 2 Describe and record employer payroll taxes.

68 Employer Payroll Taxes Question Employer payroll taxes do not include: a. Federal unemployment taxes. b. State unemployment taxes. c. Federal income taxes. d. FICA taxes. Slide F 19 LO 2 Describe and record employer payroll taxes.

69 Filing and Remitting Payroll Taxes Companies must report FICA taxes and federal income taxes withheld no later than one month following the close of each quarter. Companies generally file and remit federal unemployment taxes annually on or before January 31 of the subsequent year. Companies usually file and pay state unemployment taxes by the end of the month following each quarter. Employers must provide each employee with a Wage and Tax Statement (Form W-2) by January 31. Slide F 20 LO 2 Describe and record employer payroll taxes.

70 Slide F 21 Filing and Remitting Payroll Taxes APPENDIX Illustration F-12

71 Internal Control for Payroll As applied to payroll, the objectives of internal control are 1. to safeguard company assets against unauthorized payments of payrolls, and 2. to ensure the accuracy and reliability of the accounting records pertaining to payrolls. Slide F 22 LO 3 Discuss the objectives of internal control for payroll.

72 Filing and Remitting Payroll Taxes APPENDIX Illustration F-13 Slide F 23

73 Copyright Copyright 2013 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make back-up copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein. Slide F 24

74 G-1

75 Appendix G Subsidiary Ledgers and Special Journals Learning Objectives After studying this chapter, you should be able to: 1. Describe the nature and purpose of a subsidiary ledger. 2. Explain how companies use special journals in journalizing. 3. Indicate how companies post a multi-column journal. G-2

76 Expanding the Ledger-Subsidiary Ledgers Used to keep track of individual balances. Two common subsidiary ledgers are: 1. Accounts receivable (customers) 2. Accounts payable (creditors) Each general ledger control account balance must equal the composite balance of the individual accounts in the related subsidiary ledger. G-3 LO 1 Describe the nature and purpose of a subsidiary ledger.

77 Expanding the Ledger-Subsidiary Ledgers Subsidiary Ledger Example Illustration G-1 Relationship of general ledger and subsidiary ledgers G-4 LO 1 Describe the nature and purpose of a subsidiary ledger.

78 Expanding the Ledger-Subsidiary Ledgers Subsidiary Ledger Example Illustration G-3 Relationship between general and subsidiary ledgers G-5 LO 1 Describe the nature and purpose of a subsidiary ledger.

79 Expanding the Ledger-Subsidiary Ledgers Advantages of Subsidiary Ledgers 1. Show in a single account transactions affecting one customer or one creditor. 2. Free the general ledger of excessive details. 3. Help locate errors in individual accounts. 4. Make possible a division of labor in posting. G-6 LO 1 Describe the nature and purpose of a subsidiary ledger.

80 Expanding the Ledger-Special Journals Used to record similar types of transactions. Illustration G-4 If a transaction cannot be recorded in a special journal, the company records it in the general journal. G-7 LO 2 Explain how companies use special journals in journalizing.

81 Expanding the Ledger-Special Journals Review Question Each of the following is a subsidiary ledger except the: a. accounts receivable ledger. b. accounts payable ledger. c. customers ledger. d. general ledger. G-8 LO 2 Explain how companies use special journals in journalizing.

82 Sales Journal Journalizing Credit Sales Illustration G-5 Under a perpetual inventory system, one entry at selling price in Sales Journal results in a debit to Accounts Receivable and a credit to Sales. Another entry at cost results in a debit to Cost of Goods Sold and a credit to Inventory. G-9 LO 2 Explain how companies use special journals in journalizing.

83 Sales Journal Posting Illustration G-6 Companies make daily postings from the sales journal to the individual accounts receivable in the subsidiary ledger. G-10 LO 2 Explain how companies use special journals in journalizing.

84 Sales Journal Posting Illustration G-6 Posting to the general ledger is done monthly. G-11 LO 2 Explain how companies use special journals in journalizing.

85 Sales Journal Advantages of Sales Journal One-line entry for each sales transaction saves time. Only totals, rather than individual entries, are posted to the general ledger. A division of labor results. G-12 LO 2 Explain how companies use special journals in journalizing.

86 Cash Receipts Journal In the cash receipts journal, companies record all receipts of cash. The posting of the cash receipts journal is similar to the posting of the sale journal. G-13 LO 2 Explain how companies use special journals in journalizing.

87 Cash Receipts Journal Illustration: May transactions of Karns Wholesale Supply. Collections from customers relate to the entries recorded in the sales journal in Illustration G-5. The entries in the cash receipts journal are based on the following cash receipts. May 1 Shareholders invested $5,000 in the business. 7 Cash sales of merchandise total $1,900 (cost, $1,240). 10 Received a check for $10,388 from Abbot Sisters in payment of invoice No. 101 for $10,600 less a 2% discount. 12 Cash sales of merchandise total $2,600 (cost, $1,690). 17 Received a check for $11,123 from Babson Co. in payment of invoice No. 102 for $11,350 less a 2% discount. 22 Received cash by signing a note for $6, Received a check for $7,644 from Carson Bros. in full for invoice No. 103 for $7,800 less a 2% discount. 28 Received a check for $9,114 from Deli Co. in full for invoice No. 104 for $9,300 less a 2% discount. G-14 LO 2 Explain how companies use special journals in journalizing.

88 Cash Receipts Journal Illustration G G-15 LO 2 Explain how companies use special journals in journalizing.

89 2014 Cash Receipts Journal Posting Illustration G-8 G-16 G-16 LO 2

90 Cash Receipts Journal Illustration G-10 Proving the ledgers G-17 LO 2 Explain how companies use special journals in journalizing.

91 Cash Receipts Journal Review Question Cash sales of merchandise are recorded in the: a. cash payments journal. b. cash receipts journal. c. general journal. d. sales journal. G-18 LO 2 Explain how companies use special journals in journalizing.

92 Cash Receipts Journal Review Question Which of the following is not one of the credit columns in the cash receipts journal? a. Other accounts. b. Accounts payable. c. Accounts receivable. d. Sales. G-19 LO 2 Explain how companies use special journals in journalizing.

93 Purchases Journal Illustration G-12 In the purchases journal, companies record all purchases of merchandise on account. G-20 LO 3 Indicate how companies post a multi-column journal.

94 Purchases Journal Illustration G-12 In the purchases journal, companies record all purchases of merchandise on account. G-21 LO 3 Indicate how companies post a multi-column journal.

95 Purchases Journal Review Question All of the following are advantages of using subsidiary ledgers except they: a. show transactions affecting one customer or one creditor in a single account. b. free the general ledger of excessive details. c. eliminate errors in individual accounts. d. make possible a division of labor. G-22 LO 3 Indicate how companies post a multi-column journal.

96 Cash Payments Journal Illustration G-15 In a cash payments journal, companies record all disbursements of cash. G-23 LO 3 Indicate how companies post a multi-column journal.

97 Cash Payments Journal Illustration G-15 In a cash payments journal, companies record all disbursements of cash. G-24 LO 3 Indicate how companies post a multi-column journal.

98 Cash Payments Journal Review Question Credit purchases of equipment or supplies other than merchandise are recorded in the: a. cash payments journal. b. cash receipts journal. c. general journal. d. purchases journal. G-25 LO 3 Indicate how companies post a multi-column journal.

99 Cash Payments Journal Review Question Cash payments for merchandise are recorded in the: a. cash payments journal. b. cash receipts journal. c. general journal. d. purchases journal. G-26 LO 3 Indicate how companies post a multi-column journal.

100 Effects of Special Journals on the General Journal Special journals substantially reduce the number of entries that companies make in the general journal. Only transactions that cannot be entered in a special journal are recorded in the general journal. Correcting, adjusting, and closing entries are made in the general journal. G-27 LO 3 Indicate how companies post a multi-column journal.

101 Copyright Copyright 2013 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make back-up copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein. G-28

102 H-1

103 Appendix H Other Significant Liabilities Learning Objectives After studying this chapter, you should be able to: 1. Describe the accounting and disclosure requirements for provisions and contingent liabilities. 2. Contrast the accounting for operating and finance leases. 3. Identify additional fringe benefits associated with employee compensation. H-2

104 Provisions and Contingent Liabilities IFRS Guidelines: Provision if a loss is probable (> 50% chance) and if a reasonable estimate can be made of the amount, then a liability should be recorded. Contingent Liability if a loss is not probable a liability should not be recorded and the details of situation should be disclosed in the notes to the financial statements. Remote Possibility (< 10%) no disclosure. H-3 LO 1 Describe the accounting and disclosure requirements for provisions and contingent liabilities.

105 Provisions and Contingent Liabilities Probability Accounting Probable Accrue Reasonably Possible Footnote Remote Need not record or disclose H-4 LO 1 Describe the accounting and disclosure requirements for provisions and contingent liabilities.

106 Provisions and Contingent Liabilities Question A provision should be recorded in the accounts when: a. it is probable an outflow of assets will happen but the amount cannot be reasonably estimated. b. it is reasonably possible an outflow of assets will happen and the amount can be reasonably estimated. c. it is reasonably possible an outflow of assets will happen but the amount cannot be reasonably estimated. d. it is probable an outflow of assets will happen and the amount can be reasonably estimated. H-5 LO 1 Describe the accounting and disclosure requirements for provisions and contingent liabilities.

107 Provisions and Contingent Liabilities Recording a Provision Product Warranties Future costs that companies may incur in replacing defective units or repairing malfunctioning units. Estimated cost of honoring product warranty contracts should be recognized as an expense in the period in which the sale occurs. H-6 LO 1 Describe the accounting and disclosure requirements for provisions and contingent liabilities.

108 Provisions and Contingent Liabilities Illustration: In 2014, Denson Manufacturing Company sells 10,000 washers and dryers at an average price of $600 each. The selling price includes a one-year warranty on parts. Denson expects that 500 units (5%) will be defective and that warranty repair costs will average $80 per unit. In 2014, the company honors warranty contracts on 300 units, at a total cost of $24,000. At December 31, compute the estimated warranty liability. Illustration H-1 Computation of estimated product warranty liability H-7 LO 1

109 Provisions and Contingent Liabilities Illustration: In 2014, Denson Manufacturing Company sells 10,000 washers and dryers at an average price of $600 each. The selling price includes a one-year warranty on parts. Denson expects that 500 units (5%) will be defective and that warranty repair costs will average $80 per unit. In 2014, the company honors warranty contracts on 300 units, at a total cost of $24,000. At December 31, compute the estimated warranty liability. Make the required adjusting entry. Warranty expense 40,000 Warranty liability 40,000 H-8 LO 1 Describe the accounting and disclosure requirements for provisions and contingent liabilities.

110 Provisions and Contingent Liabilities Illustration: Prepare the entry to record the repair costs incurred in 2014 to honor warranty contracts on 2014 sales. Warranty liability 24,000 Repair parts 24,000 Assume that the company replaces 20 defective units in January 2015, at an average cost of $80 in parts and labor. Warranty liability 1,600 Repair parts 1,600 H-9 LO 1 Describe the accounting and disclosure requirements for provisions and contingent liabilities.

111 Provisions and Contingent Liabilities Disclosure of Contingent Liabilities Disclosure should identify the: Nature of the item. Amount of the contingency, if known. Expected outcome of the future event. H-10 LO 1 Describe the accounting and disclosure requirements for provisions and contingent liabilities.

112 Lease Liabilities A lease is a contractual arrangement between a lessor (owner of the property) and a lessee (renter of the property). Illustration H-3 Types of leases H-11 LO 2 Contrast the accounting for operating and finance leases.

113 Lease Liabilities Operating Lease Finance Lease Journal Entry: Journal Entry: Rent Expense xxx Leased Equipment xxx Cash xxx Lease Liability xxx A lease that transfers substantially all of the benefits and risks of property ownership should be capitalized. H-12 LO 2 Contrast the accounting for operating and finance leases.

114 Lease Liabilities IFRS does not prescribe criteria for determining classification, however if any one of the following conditions exists, the lessee should record a lease as a finance lease: 1. The lease transfers ownership of the property to the lessee. 2. The lease contains a bargain purchase option. 3. The lease term is a major portion of the economic life of the leased property. 4. The present value of the lease payments represents substantially all of the fair value of the leased property. H-13 LO 2 Contrast the accounting for operating and finance leases.

115 Lease Liabilities Illustration: Gonzalez Company decides to lease new equipment. The lease period is four years; the economic life of the leased equipment is estimated to be five years. The present value of the lease payments is $190,000, which is equal to the fair market value of the equipment. There is no transfer of ownership during the lease term, nor is there any bargain purchase option. Instructions (a) What type of lease is this? Explain. (b) Prepare the journal entry to record the lease. H-14 LO 2 Contrast the accounting for operating and finance leases.

116 Lease Liabilities Illustration: (a) What type of lease is this? Explain. Capitalization Conditions: 1. Transfer of ownership 2. Bargain purchase option 3. Lease term major portion of economic life of leased property 4. Present value is substantially the FMV of the leased property Finance Lease? NO NO Lease term 4 yrs. Economic life 5 yrs. YES 80% YES - PV and FMV are the same. H-15 LO 2 Contrast the accounting for operating and finance leases.

117 Lease Liabilities Illustration: (b) Prepare the journal entry to record the lease. Leased Asset - Equipment 190,000 Lease Liability 190,000 The portion of the lease liability expected to be paid in the next year is a current liability. The remainder is classified as a non-current liability. H-16 LO 2 Contrast the accounting for operating and finance leases.

118 Employee Fringe Benefits Paid Absences Paid absences for vacation, illness, and holidays. Accrue a liability if: Payment of the compensation is probable. The amount can be reasonably estimated. H-17 LO 3 Identify additional fringe benefits associated with employee compensation.

119 Employee Fringe Benefits Illustration: Academy Company employees are entitled to one day s vacation for each month worked. If 30 employees earn an average of $110 per day in a given month. Vacation benefits expense 3,300 Vacation benefits liability 3,300 Academy pays vacation benefits for 10 employees. Vacation benefits liability 1,100 Cash 1,100 H-18 LO 3 Identify additional fringe benefits associated with employee compensation.

120 Employee Fringe Benefits Postretirement Benefits Post-retirement benefits are benefits that employers provide to retired employees for 1. health care and life insurance 2. pensions. Companies account for post-retirement benefits on the accrual basis. H-19 LO 3 Identify additional fringe benefits associated with employee compensation.

121 Employee Fringe Benefits Postretirement Health-Care and Life Insurance Benefits Companies estimate and expense postretirement costs during the working years of the employee. Companies rarely sets up funds to meet the cost of the future benefits. Pay-as-you-go basis for these costs. Major reason is that the company does not receive a tax deduction until it actually pays the medical bill. H-20 LO 3 Identify additional fringe benefits associated with employee compensation.

122 Employee Fringe Benefits Pension Plans An arrangement whereby an employer provides benefits to employees after they retire for services they provided while they were working. Pension Plan Administrator Employer Retired Employees Benefit Payments Assets & Liabilities H-21 LO 3 Identify additional fringe benefits associated with employee compensation.

123 Employee Fringe Benefits Pension Plans Defined-Contribution Plan Employer contribution determined by plan (fixed) Risk borne by employees Benefits based on plan value Defined-Benefit Plan Benefit determined by plan Employer contribution varies (determined by Actuaries) Risk borne by employer Companies record pension costs as an expense. Actuaries estimate the employer contribution by considering mortality rates, employee turnover, interest and earning rates, early retirement frequency, future salaries, etc. H-22 LO 3 Identify additional fringe benefits associated with employee compensation.

124 Copyright Copyright 2013 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make backup copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein. H-23

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