Advanced Accounting Exam 2

Dice Inc. owns 40% of the outstanding shares of Spalding Corp., an investment accounted for by the equity method. During 2021, Dice had operating income (not including income from its investment in Spalding) of $370,000. For this same period, Spalding reported net income of $160,000 and paid cash dividends of $60,000. Dice has an effective income tax rate of 35% and anticipates holding its investment in Spalding for an indefinite period. Required: (A.) What income tax expense journal entry would Dice Inc. record at the end of 2021? (B.) If Dice expects to sell its interest in Spalding in the near future, how does that decision change the 2021 income tax expense journal entry?

(A). Recording of year-end income tax Income tax of Dice Inc. - current Operating income $370,000 Dividend income ($60,000 × 40%) $24,000 Less: Dividends received 19,200 Dividends-received deduction (80%) 4,800 Taxable income - current $374,800 Effective income tax rate ×35% Income tax payable - current $131,180 Income tax of Dice Inc. - deferred Undistributed income ($160,000 − $60,000) $100,000 Dice Inc.'s ownership percentage ×40% Dice Inc.'s share of undistributed income $40,000 Percentage dividends-received deduction ×80% Potential dividends-received deduction $(32,000) Potential dividends to be taxed ($40,000 − $32,000) $8,000 Effective income tax rate ×35% Income tax payable - deferred $2,800 Income tax expense - current 131,180 (Debit) Income tax expense − deferred 2,800 (Debit) Income tax payable 131,180 (Credit) Deferred tax liability 2,800 (credit) (B). If Dice expects to sell this investment, the undistributed earnings will be realized through an increase in sales price rather than through dividend payments. Thus, no future dividends received deduction is available if the investment is to be sold; the deferred income tax effect must be calculated without the potential eighty percent reduction: Income taxes of Dice Inc. - deferred Undistributed income ($160,000 − $60,000) $100,000 Dice Inc.'s ownership percentage ×40% Dice Inc.'s portion of undistributed income $40,000 Effective income tax rate ×35% Income payable - deferred $14,000 Income tax expense - current 131,180 (debit) Income tax expense − deferred 14,000 (Debit) Income tax payable 131,180 (Credit) Deferred tax liability 14,000 (Credit)

What ownership structure is referred to as a connecting affiliation? Describe briefly or illustrate with a diagram.

A connecting affiliation exists when a parent owns an interest in each of two companies, and one of the two companies owns an interest in the other.

What configuration of corporate ownership is described as a father-son-grandson relationship?

A father-son-grandson relationship exists when one company owns a controlling interest in another which, in turn, owns a controlling interest in a third company.

Thomas Inc. had the following stockholders' equity accounts as of January 1, 2021: Preferred stock — $90 par value, nonvoting and nonparticipating 9% cumulative dividend $2,700,000 Common stock — $25 par value 5,600,000 Retained earnings 14,000,000 Kuried Co. acquired all of the voting common stock of Thomas on January 1, 2021, for $20,656,000. The preferred stock remained in the hands of outside parties and had a fair value of $3,060,000. A database valued at $656,000 was recognized and amortized over five years. During 2021, Thomas reported earning $630,000 in net income and paid $504,000 in total cash dividends. Kuried used the equity method to account for this investment. Prepare all consolidation entries for 2021.

Consolidation Entry Consolidation Entries S and A (combined) Common Stock (Thomas Inc.) 5,600,000 Preferred Stock (Thomas Inc.) 2,700,000 Retained Earnings, 1/1/21 (Thomas Inc.) 14,000,000 Database 656,000 Goodwill 760,000 Investment in Thomas Inc. 20,656,000 Noncontrolling Interest in Thomas Inc. 3,060,000 Consolidated Entry I Equity Income of Subsidiary 387,000 Investment in Thomas Inc. 387,000 Consolidation Entry D Investment in Thomas Inc. 261,000 Dividends Paid 261,000 Consolidation Entry E Amortization Expense 131,200 Database 131,200

What is the purpose of the adjustments to depreciation expense within the consolidation process when there has been an intra-entity transfer of a depreciable asset?

Depreciable assets are often transferred between the members of a controlled group for amounts in excess of book value. The buyer in turn calculates depreciation expense based on this inflated transfer price as opposed to a price based on historical cost. For purposes of consolidated financial statement reporting, depreciation should be calculated based solely on historical cost figures. As a result, for consolidated financial statement reporting purposes, for each period an adjustment to the depreciation amounts recorded by the buyer are required to reduce the expense reported on the consolidated financial statements to a cost-based figure.

What ownership pattern is referred to as mutual ownership? Describe briefly or illustrate with a diagram.

Mutual ownership exists when a subsidiary owns common stock of its parent corporation or when two subsidiaries own shares of each other's common stock.

Strayten Corp. is a wholly owned subsidiary of Quint Inc. Quint decided to use the initial value method to account for this investment. During 2021, Strayten sold Quint goods, which had cost $48,000. The selling price was $64,000. Quint still had one-eighth of the goods purchased from Strayten on hand at the end of 2021. Required: Prepare Consolidation Entry *G, which would have to be recorded at the end of 2022.

Retained Earnings 2,000 (Debit) (($64,000 − $48,000) × 1/8) Cost of Goods Sold 2,000 (Credit)

T Corp. owns several subsidiaries that are eligible for inclusion on a consolidated income tax return, but T Corp. decided that each company in the group will file a separate return. Under what conditions would there be minimal advantage in filing a consolidated income tax return?

There might be fewer disadvantages to filing separate income tax returns if there are few intra-entity transactions, and if the companies, which make up the combined entity, are generally profitable. When there are frequent intra-entity transactions, filing a consolidated income tax return postpones taxation on intra-entity gains until they are realized by use or sale to an outsider. Thus, the consolidated return postpones the taxation of some income. When one of the companies records a loss, a consolidated return allows the loss to be offset against other companies' profits, reducing the total income tax obligation for the combined entity. The filing of separate returns allows the companies more flexibility in their choice of accounting methods and tax year.

( Patton Stevens) Operating income $2,000,000 $400,000 Divindends paid 120,000 50,000 Income tax rate 30% 30% Patton's operating income excludes income from the investment in Stevens, but includes $150,000 of gross profit on intra-entity transfers of inventory and the inventory is still held by Stevens at the end of the year. Patton uses the initial value method to account for the investment in Stevens. How much will the consolidated group save if it decides to file a consolidated income tax return?

Total paid if separate returns are filed $720,000 Total paid if consolidated return is filed 675,000 Savings if consolidated return is filed $45,000 (Also computed as $150,000 intra-entity gross profit × 30% tax rate)

For each of the following situations (1-10), select the correct entry (A - E) that would be required on a consolidation worksheet. (A) Debit Retained Earnings. (B) Credit Retained Earnings. (C) Debit Investment in Subsidiary. (D) Credit Investment in Subsidiary. (E) None of these answer choices are correct. 1. Upstream beginning intra-entity gross profit on inventory, using the initial value method of accounting. 2. Downstream beginning intra-entity gross profit on inventory, using the initial value method of accounting. 3. Upstream ending intra-entity gross profit on inventory, using the initial value method of accounting. 4. Downstream ending intra-entity gross profit on inventory, using the initial value method of accounting. 5. Upstream transfer of depreciable assets, in the period after transfer, where subsidiary recognizes a gain, using the initial value method of accounting. 6. Downstream transfer of depreciable assets, in the period after transfer, where parent recognizes a gain, using the initial value method of accounting. 7. Upstream transfer of land, in the period after transfer, where subsidiary recognizes a loss, using the initial value method of accounting. 8. Downstream transfer of land, in the period after transfer, where parent recognizes a loss, using the initial value method of accounting. 9. Eliminate income from subsidiary, recorded under the equity method of accounting. 10. Eliminate recorded amortization of acquisition-date fair value over book value, recorded under the equity method of accounting.

1. A 2. A 3. E 4. E 5. A 6. A 7. B 8. B 9. D 10. C

For each of the following situations, select the best answer concerning accounting for income taxes in combinations: (A) May file a consolidated income tax return. (B) May not a file consolidated income tax return. (C) Must file a consolidated income tax return. Parent company owns 85% of the voting stock of the subsidiary, and there are significant intra-entity transfers. Subsidiary is a foreign corporation. Parent company owns 90% of the voting stock of the subsidiary, but there are no intra-entity transfers of inventory. Parent company owns 75% of the voting stock of the subsidiary but there are no intra-entity transfers of inventory. Parent company owns 90% of the voting stock of the subsidiary, and there are intra-entity transfers of inventory. Parent company owns 75% of the voting stock of the subsidiary and there are intra-entity transfers of inventory.

1. A 2. B 3. A 4. B 5. A 6. B

During 2021, Miner Co. sold inventory to its parent company, Bennett Corp. Bennett still owned the entire amount of inventory purchased at the end of 2021. Why must the gross profit on the sale be deferred when consolidated financial statements are prepared at the end of 2021?

A sale of inventory by a subsidiary to its parent is more accurately understood as a transfer within the entity. Since Bennett still owned the inventory at the end of the year, the intra-entity transfer is merely the internal movement of an asset, an event that creates no net change in the financial position of the business combination taken as a whole. If recognition of the gross profit on the transfer was allowed, the parent would be able to manipulate consolidated net income and consolidated net assets by transferring inventory between parent and subsidiary.

What condition(s) qualify an entity as a VIE?

An entity qualifies as a VIE if either of the following conditions exist: The total equity at risk is not sufficient to permit the entity to finance its activities without additional subordinated financial support provided by any parties, including equity holders. The equity investors in the VIE, as a group, lack any one of the following characteristics of a controlling financial interest: The power, through voting rights or similar rights, to direct the activities of an entity that most significantly impact the entity's economic performance. The obligation to absorb the expected losses of the entity. The right to receive the expected residual returns of the entity.

Fargus Corporation owned 51% of the voting common stock of Sanatee, Inc. The parent's interest was acquired several years ago on the date that the subsidiary was formed. Consequently, no goodwill or other allocation was recorded in connection with the acquisition price. On January 1, 2020, Sanatee sold $1,400,000 in ten-year bonds to the public at 108. The bonds pay a 10% interest rate every December 31. Fargus acquired 40% of these bonds on January 1, 2022, for 95% of the face value. Both companies utilized the straight-line method of amortization. What consolidation entry would be recorded in connection with these intra-entity bonds on December 31, 2024?

Bonds payable $560,000 (Debit) Premium on bonds payable 22,400 (Debit) Interest income 59,500 (Debit) Investment in bonds 542,500 (Credit) Interest expense 51,520 (Credit) Retained earnings, 1/1/24 (Fargus Corp.) 47,880 (Credit)

Fargus Corporation owned 51% of the voting common stock of Sanatee, Inc. The parent's interest was acquired several years ago on the date that the subsidiary was formed. Consequently, no goodwill or other allocation was recorded in connection with the acquisition price. On January 1, 2020, Sanatee sold $1,400,000 in ten-year bonds to the public at 108. The bonds pay a 10% interest rate every December 31. Fargus acquired 40% of these bonds on January 1, 2022, for 95% of the face value. Both companies utilized the straight-line method of amortization. What consolidation entry would be recorded in connection with these intra-entity bonds on December 31, 2022?

Bonds payable 560,000 (Debit) Premium on bonds payable 31,360 (Debit) Interest income 59,500 (Debit) Investment in bonds 535,500 (Credit) Interest expense 51,520 (credit) Gain on retirement 63,840 (Credit)

Fargus Corporation owned 51% of the voting common stock of Sanatee, Inc. The parent's interest was acquired several years ago on the date that the subsidiary was formed. Consequently, no goodwill or other allocation was recorded in connection with the acquisition price. On January 1, 2020, Sanatee sold $1,400,000 in ten-year bonds to the public at 108. The bonds pay a 10% interest rate every December 31. Fargus acquired 40% of these bonds on January 1, 2022, for 95% of the face value. Both companies utilized the straight-line method of amortization. What balances would need to be considered in order to prepare the consolidation entry in connection with these intra-entity bonds at December 31, 2022, the end of the first year of the intra-entity investment? Prepare schedules to show numerical answers for balances that would be needed for the entry.

Carrying amount of bonds payable, January 1, 2022 Book value, January 1, 2020 ($1,400,000 × 1.08) original issue$1,512,000 Amortization—2020-2021 [($112,000 premium ÷ 10 years) × 2 years] (22,400) Book value of bonds payable, January 1, 2022 $1,489,600 1,512,000 + (22,400) = Book value of bonds payable, January 1, 2022: 1,489,600 Carrying amount of 40% of bonds payable (intra-entity portion), January 1, 2022 = $ 595,840 Gain on retirement of bonds, January 1, 2022: Purchase price ($560,000 face value × 95%) of investment $(532,000) Book value of liability (calculated above) 595,840 Gain on retirement of bonds $63,840 Carrying amount of investment, December 31, 2022 Carrying amount, January 1, 2022 (calculated above)$1,489,600 Amortization—2022 (11,200) Carrying amount of investment, December 31, 2022 $1,478,400 Cash payment ($560,000 face value × 10%) $56,000 Amortization of premium for 2022 $11,200 × 40%) 4,480 Intra-entity interest expense $51,520 Carrying amount of 40% of bonds payable (intra-entity portion) December 31, 2022 ($595,840 − 4,480 premium amortization) = $591,360 Carrying amount of investment, December 31, 2022 Carrying amount of investment, January 1, 2022 (purchase price) $532,000 Amortization—2022 ($28,000 discount ÷ 8 years remaining) 3,500 Carrying amount of investment, December 31, 2022 $535,500 Cash receipt ($560,000 face value × 10%) $56,000 Amortization of discount for 2022 3,500 Intra-entity interest revenue $59,500

Thomas Inc. had the following stockholders' equity accounts as of January 1, 2021: Preferred stock — $90 par value, nonvoting and nonparticipating 9% cumulative dividend $2,700,000 Common stock — $25 par value 5,600,000 Retained earnings 14,000,000 Kuried Co. acquired all of the voting common stock of Thomas on January 1, 2021, for $20,656,000. The preferred stock remained in the hands of outside parties and had a fair value of $3,060,000. A database valued at $656,000 was recognized and amortized over five years. During 2021, Thomas reported earning $630,000 in net income and paid $504,000 in total cash dividends. Kuried used the equity method to account for this investment. What is the amount of goodwill resulting from this acquisition?

Consideration transferred for 100% interest in common stock $20,656,000 Noncontrolling interest in preferred stock (100%): 3,060,000 Total fair value of Thomas 1/1/21 $23,716,000 Carrying amount 22,300,000 Excess acquisition-date fair value over book value $1,416,000 Assigned to database 656,000 Goodwill $760,0000

On January 1, 2021, Bast Co. had a net book value of $2,100,000 as follows: Preferred stock, 2,000 shares $70 par value,$140,000 cumulative, nonparticipating, nonvoting Common stock, 22,400 shares $50 par value 1,120,000 Retained earnings 840,000 Total shareholders' equity $2,100,000 Fisher Co. acquired all of the outstanding preferred shares for $148,000 and 60% of the common stock for $1,281,000. Fisher believed that one of Bast's buildings, with a twelve-year life, was undervalued on the company's financial records by $70,000. Required: What is the amount of goodwill to be recognized from this purchase?

Consideration transferred for 60% interest in common stock $1,281,000 Consideration transferred for 100% interest in preferred stock 148,000 Noncontrolling interest in common stock (40%): 854,000 [$1,281,000 ÷ 60%] − $1,281,000 Total fair value $2,283,000 Book value 2,100,000 Excess acquisition-date fair value over book value $183,000 Assigned to building 70,000 Goodwill $113,0000 1,281,000 + 148,000 + 854,000 = Total Fair Value: 2,283,000 2,283,000 + 2,100,000 = Excess Acquisition-date fair value over book value: 183,000 183,000 + 70,000 = Goodwill: 113,000

On January 1, 2020, Mace Co. acquired 75% of Lance Co.'s outstanding common stock. On the same date, Lance acquired an 80% interest in Curle Co. Both of these investments were acquired when book value was equal to fair value of identifiable net assets acquired. Both of these investments were accounted using the initial value method. Only Mace declared dividends in any year. Mace declared dividends each year equal to 40% of its separate net income before the calculation of any of its investment income. Separate net income totals for 2020, not including investment income for any company, were as follows: Mace Co.$420,000 Lance Co. 224,000 Curle Co. 168,000 Following are the 2021 financial statements for these three companies. Curle made numerous transfers of inventory to Lance since the takeover: $112,000 (2020) and $140,000 (2021). These transfers included the same markup applicable to Curle's outside sales. In each of these years, Lance held 20% of the inventory it bought from Curle and then sold that inventory to outsiders in the following year. An effective income tax rate of 45% was applicable to all companies. (Left #: Mace Co. Middle #: Lance Co. Right #: Curl Co.) Sales $1,260,000 $840,000 $700,000 Cost of goods sold (672,000) (448,000) (364,000) Operating expenses (140,000) (112,000) (196,000) Net income $448,000 $280,000 $140,000 Retained earnings, January 1, 2021 $980,000 $840,000 $420,000 Net income (above) 448,000 280,000 140,000 Dividends declared (179,200) 0 0 Retained earnings, December 31, 2021 $1,248,800 $1,120,000 $560,000 Current assets $592,200 $525,000 $392,000 Investment in Lance Co. 1,037,400 0 0 Investment in Curle Co. 0 488,600 0 Land, buildings, and equipment (net) 1,328,600 1,170,400 728,000 Total assets $2,958,200 $2,184,000 $1,120,000 Liabilities $1,009,400 $644,000 $280,000 Common stock 700,000 420,000 280,000 Retained earnings, December 31, 2021 1,248,800 1,120,000 560,000 Total liabilities and stockholders' equity $2,958,200 $2,184,000 $1,120,000 Required: Determine the total amount of goodwill for the January 1, 2020 acquisition of Curle Co. and for the acquisition of Lance Co. on the same date.

Consideration transferred for 80% of Curle Co. $488,600 Noncontrolling interest 20% fair value ($488,600 ÷ 80%) − $488,600 122,150 Curle total fair value $610,750 Book value 1/1/20 = fair value 1/1/20: Common stock plus (Retained earnings 1/1/21 less net income 2020) 532,000 Goodwill $78,750 Consideration transferred for 75% of Lance Co. $1,037,400 Noncontrolling interest 25% fair value ($1,037,400 ÷ 75%) − $1,037,400 345,800 Lance total fair value $1,383,200 Book value 1/1/20 = fair value 1/1/20: Common stock plus (Retained earnings 1/1/21 less net income 2020) 1,036,000 Goodwill $347,200

Skipen Corp. had the following stockholders' equity accounts: Preferred stock (8% cumulative dividend) $700,000 Common stock 1,050,000 Additional paid - in capital 420,000 Retained earnings 1,330,000 Total $3,500,000 The preferred stock was participating and is therefore considered to be equity. Vestin Corp. acquired 90% of this common stock for $2,250,000 and 70% of the preferred stock for $1,120,000. All of the subsidiary's assets and liabilities were determined to have fair values equal to their carrying amounts except for land, which is undervalued by $130,000. Required: What amount was attributed to goodwill on the date of acquisition?

Consideration transferred for 90% interest in common stock $2,250,000 Consideration transferred for 70% interest in preferred stock 1,120,000 Noncontrolling interest in common stock (10%):[$2,250,000 ÷ 90%] − $2,250,000 250,000 Noncontrolling interest in preferred stock (30%):[$1,120,000 ÷ 70%] − $1,120,000 480,000 Total fair value of Skipen - date of acquisition $4,100,000 Carrying amount 3,500,000 Excess acquisition-date fair value over book value $600,000 Assigned to land 130,000 Goodwill $470,0000

Several years ago, Polar Inc. acquired an 80% interest in Icecap Co. The book values of Icecap's asset and liability accounts at that time were considered to be equal to their fair values. Polar's acquisition value corresponded to the underlying book value of Icecap so that no allocations or goodwill resulted from the transfer. The following selected account balances were from the individual financial records of these two companies as of December 31, 2021: Polar Inc. Icecap Co. Sales $896,000 $504,000 Cost of goods sold 406,000 276,000 Operating expenses 210,000 147,000 Retained earnings, 1/1/21 1,036,000 252,000 Inventory 484,000 154,000 Buildings (net) 501,000 220,000 Investment income not given Assume that Polar sold inventory to Icecap at a markup equal to 25% of cost. Intra-entity transfers were $130,000 in 2020 and $165,000 in 2021. Of this inventory, $39,000 of the 2020 transfers were retained and then sold by Icecap in 2021, while $55,000 of the 2021 transfers were held until 2022. Required: For the consolidated financial statements for 2021, determine the balances that would appear for the following accounts: (i) Cost of Goods Sold; (ii) Inventory; and (iii) Net income attributable to the noncontrolling interest.

Consolidated Cost of Goods Sold - 2021 Poplar Inc.'s cost of goods sold $406,000 Icecap Co.'s cost of goods sold 276,000 Elimination of 2021 intra-entity transfer of inventory (165,000) Reduction of beginning inventory because of 2020 unrecognized gain ($39,000 transfer price ÷ 125% = $31,200 cost; $39,000 less$31,200 = $7,800 unrecognized gain) (7,800) Reduction of ending inventory because of 2021 unrecognized gain ($55,000 transfer price ÷ 125% = $44,000 cost; $55,000 less$44,000 = $11,000 unrecognized gain) 11,000 Consolidated cost of goods sold $520,200 Consolidated Inventory Polar Inc.'s inventory $484,000 Icecap's inventory 154,000 Eliminate ending inventory unrecognized gain (from above) (11,000)Consolidated inventory $627,000 Net income attributable to the noncontrolling interest Icecap's reported net income ($504,000 − $276,000 − $147,000) $81,000 Noncontrolling interest percentage ×20% Net income attributable to the noncontrolling interest $16,200 406,000 + 276,000 + (165,000) + (7,800) + 11,000 = Consolidated Cost of Goods Sold: 520,200 484,000 + 154,000 + (11,000) = Consolidated Inventory: 627,000 81,000 x 20% = Net income attributable to the non controlling interest: 16,200

Several years ago, Polar Inc. acquired an 80% interest in Icecap Co. The book values of Icecap's asset and liability accounts at that time were considered to be equal to their fair values. Polar's acquisition value corresponded to the underlying book value of Icecap so that no allocations or goodwill resulted from the transfer. The following selected account balances were from the individual financial records of these two companies as of December 31, 2021: Polar Inc. Icecap Co. Sales $896,000 $504,000 Cost of goods sold 406,000 276,000 Operating expenses 210,000 147,000 Retained earnings, 1/1/21 1,036,000 252,000 Inventory 484,000 154,000 Buildings (net) 501,000 220,000 Investment income not given Assume that Icecap sold inventory to Polar at a markup equal to 25% of cost. Intra-entity transfers were $70,000 in 2020 and $112,000 in 2021. Of this inventory, $29,000 of the 2020 transfers were retained and then sold by Polar in 2021, whereas $49,000 of the 2021 transfers were held until 2022. Required: For the consolidated financial statements for 2021, determine the balances that would appear for the following accounts: (i) Cost of Goods Sold; (ii) Inventory; and (iii) Net income attributable to the noncontrolling interest.

Consolidated Cost of Goods Sold Poplar Inc.'s cost of goods sold $406,000 Icecap Co.'s cost of goods sold 276,000 Elimination of 2021 intra-entity transfer of inventory (112,000)Reduction of beginning inventory because of 2020 unrecognized gain ($29,000 ÷ 125% = $23,200 cost; transfer price $29,000 less $23,200 cost = $5,800 unrecognized gain) (5,800) Reduction of ending inventory because of 2021 unrecognized gain ($49,000 ÷ 125% = $39,200 cost; transfer price $49,000 less$39,200 cost = $9,800 unrecognized gain) 9,800 Consolidated cost of goods sold $574,000 Consolidated Inventory Polar Inc.'s inventory$484,000 Icecap's inventory 154,000 Eliminate ending inventory unrecognized gain (from above) (9,800) Consolidated inventory $628,200 Net income attributable to the noncontrolling interest Icecap's reported net income ($504,000 − $276,000 − $147,000) $81,000 2020 unrecognized gain realized in 2021 (from above) 5,800 2021 unrecognized gain to be realized in 2022 (from above) (9,800) $77,000 Noncontrolling interest percentage ×20% Net income attributable to the noncontrolling interest $15,400 406,000 + 276,000 + (112,000) + (5,800) + 9,800 = Consolidated Cost of Goods Sold: 574,000 484,000 + 154,000 + (9,800) = Consolidated Inventory 628,200 81,000 + 5,800 + (9,800) = 77,000 77,000 x 20% = Net Income Attributable to the non controlling interest: 15,400

Flintstone Inc. acquired all of Rubble Co. on January 1, 2021. Flintstone decided to use the initial value method to account for this investment. During 2021, Flintstone sold to Rubble for $600,000 inventory with a cost of $500,000. At the end of the year 30% of the goods were still in Rubble's inventory. Required: Prepare Consolidation Entry TI for the intra-entity transfer and Consolidation Entry G for the ending inventory adjustment necessary for the consolidation worksheet at December 31, 2021.

Consolidation Entry TI: Sales 600,000 (Debit) Cost of Goods Sold 600,000 (Credit) Consolidation Entry G: Cost of Goods Sold 30,000 (Debit) Inventory 30,000 (Credit) [($600,000 − $500,000) × 30%]

King Corp. owns 85% of James Co. King uses the equity method to account for its investments. During 2021, King sells inventory to James for $500,000. The inventory originally cost King $420,000. At December 31, 2021, 25% of the goods were still in James' inventory. Required: Prepare the Consolidation Entry TI and Consolidation Entry G for the consolidation worksheet.

Consolidation Entry TI: Sales 500,000 (Debit) Cost of Goods Sold 500,000 (Credit) Consolidation Entry G: Cost of Goods Sold 20,000 (Debit) Inventory 20,000 (Credit) [($500,000 − $420,000) × 25%]

Tara Company owns 70 percent of the common stock of Stodd Inc. In the current year, Tara reports sales of $5,000,000 and cost of goods sold of $3,500,000. For the same period, Stodd has sales of $500,000 and cost of goods sold of $400,000. During the year, Stodd sold merchandise to Tara for $40,000 at a price based on the normal markup. At the end of the year, Tara still possesses 40 percent of this inventory. Prepare the consolidation entry to defer intra-entity gross profit.

Cost of Goods Sold 3,200 (Debit) Inventory 3,200 (Credit) Normal markup for Stodd = (Sales $500,000 − Cost of Goods Sold $400,000) ÷ Sales $500,000 = 20% Intra-entity gross profit to be deferred = $40,000 × 20% × 40% = $3,200

Thomas Inc. had the following stockholders' equity accounts as of January 1, 2021: Preferred stock — $90 par value, nonvoting and nonparticipating 9% cumulative dividend $2,700,000 Common stock — $25 par value 5,600,000 Retained earnings 14,000,000 Kuried Co. acquired all of the voting common stock of Thomas on January 1, 2021, for $20,656,000. The preferred stock remained in the hands of outside parties and had a fair value of $3,060,000. A database valued at $656,000 was recognized and amortized over five years. During 2021, Thomas reported earning $630,000 in net income and paid $504,000 in total cash dividends. Kuried used the equity method to account for this investment. What was Kuried's balance in the Investment in Thomas Inc. account as of December 31, 2021?

Database $656,000 Amortization period in years ÷5 Annual amortization of database $131,200 Investment in Thomas Inc., 12/31/21 Acquisition consideration, 1/1/21 $20,656,000 Equity accrual ($630,000 − $243,000) 387,000 Dividends collected ($504,000 − $243,000) (261,000) Database amortization (from above) (131,200) Investment in Thomas Inc., 12/31/21 $20,650,800

Virginia Corp. owned all of the voting common stock of Stateside Co. Both companies use the perpetual inventory method, and Virginia decided to use the partial equity method to account for this investment. During 2020, Virginia made cash sales of $400,000 to Stateside. The gross profit rate was 30% of the selling price. By the end of 2020, Stateside had sold 75% of the goods to outside parties for $420,000 cash. Prepare journal entries for Virginia and Stateside to record the sales/purchases during 2020.

On the books of Virginia: Cash 400,000 (Debit) Sales 400,000 (Credit) Cost of Goods Sold 280,000 (Debit) ($400,000 × 70%) Inventory 280,000 (Credit) On the books of Stateside: Inventory 400,000 (Debit) Cash 400,000 (Credit) Cash 420,000 (Debit) Sales 400,000 (Credit) Cost of Goods Sold 300,000 (Debit) Inventory 300,000 (Credit)

Thomas Inc. had the following stockholders' equity accounts as of January 1, 2021: Preferred stock — $90 par value, nonvoting and nonparticipating 9% cumulative dividend $2,700,000 Common stock — $25 par value 5,600,000 Retained earnings 14,000,000 Kuried Co. acquired all of the voting common stock of Thomas on January 1, 2021, for $20,656,000. The preferred stock remained in the hands of outside parties and had a fair value of $3,060,000. A database valued at $656,000 was recognized and amortized over five years. During 2021, Thomas reported earning $630,000 in net income and paid $504,000 in total cash dividends. Kuried used the equity method to account for this investment. What is the controlling interest share of Thomas' net income for the year ended December 31, 2021?

Database $656,000 Amortization period in years ÷5 Annual amortization of database $131,200 Thomas net income (book) $630,000 Amortization of database (131,200) 498,800 Preferred stock dividend (9% × $2,700,000) (243,000) Net income residual to common stockholders (100% to Kuried as controlling interest) $255,800

On January 1, 2021, Youder Inc. bought 120,000 shares of Nopple Co. for $384,000, giving Youder 30% ownership and the ability to apply significant influence to the operating and financing decisions of Nopple. Youder anticipated holding this investment for an indefinite time. In making this acquisition, Youder paid an amount equal to the book value for these shares. The fair value of each asset and liability was the same as its book value. Dividends and income for Nopple for 2021 were as follows: Dividends declared and paid: $ 0.40 per share Income before income tax provision: $400,000 Required: Assume a 40% income tax rate. Prepare all necessary journal entries for Youder for 2021 beginning at acquisition and ending at tax accrual.

Entry One - To record the acquisition of Nopple common stock: Investment in Noople Co. $384,000 (Debit) Cash $384,000 (Credit) Entry Two - To record income for the year: 30% of $400,000, reported balance: Investment in Noople Co. $120,000 (Debit) Equity Income − Investment in Noople Co. $120,000 (Credit) Entry Three - To record the collection of dividends from Nopple Co.: 120,000 shares × $0.40 per share: Cash $48,000 (Debit) Investment in Noople Co. $48,000 (Credit) Entry Four - To record income tax for the year: Current income taxes must be paid by Youder on the 20% of dividends ($9,600 = 20% of $48,000) that is taxable now. This current liability is $3,840 ($9,600 at the 40% rate). Furthermore, a deferred income tax liability also exists. On Youder's accounting records, the Equity Income - Investment in Nopple Co. account balance exceeds its income tax basis by $72,000 which is the undistributed earnings: ($120,000 − $48,000). Since this difference will be erased by the payment of future dividends, the eighty percent dividends-received deduction is applicable ($57,600 = 80% of 72,000). Thus, future taxable income will be increased by $14,400 ($72,000 − $57,600). Based on an income tax rate of 40%, the deferred income tax liability is $5,760. Income tax expense - current 3,840 (Debit) Income tax expense − deferred 5,760 (Debit) Income tax payable 3,840 (credit) Deferred tax liability 5,760 (Credit)

Wilkins Inc. owned 60% of Motumbo Co. During the current year, Motumbo reported net income of $280,000 but paid a total cash dividend of only $56,000. Required: Assuming an income tax rate of 30%, what amount ofDeferred Income Tax Liabilityarising this year must be recognized in theconsolidated balance sheet?

Equity in Motumbo Co.'s net income ($280,000 × 60%) $168,000 Dividend income ($56,000 × 60%) (33,600) Undistributed earnings $134,400 Dividend deduction upon eventual distribution ($134,400 × 80%) (107,520) Temporary portion of income tax difference $26,880 Income tax rate ×30% Increase in deferred income tax liability $8,064

Dotes, Inc. owns 40% of Abner Co. Dotes accounts for its investment using the equity method. Abner follows a policy of declaring and paying dividends equal to 30% of its income each year. During the current year, Abner reported net income of $216,000. Dotes has an effective income tax rate of 32%. Required: What journal entry would Dotes record at the end of the current year for income taxes relating to the investment in Abner? Assume the investment is to be held for an indefinite time and that all amounts are to be rounded to the nearest dollar.

Equity income ($216,000 × 40%) $86,400 Dividends received ($216,000 × 30% × 40%) (25,920) Temporary income tax difference $60,480 Dividend income (from above) $25,920 80% reduction (20,736) Income taxable this year $5,184 Income tax rate ×32% Current income taxes payable by Dotes $1,659 Income accrued but not yet received as a dividend (from above) $60,480 80% reduction (48,384) Income taxable in future years $12,096 Income tax rate ×32% Deferred income taxes payable by Dotes $3,871 Income tax expense - current 1,659 (Debit) Income tax expense − deferred 3,871 (Debit) Income tax payable 1,659 (Credit) Deferred tax liability 3,871 (Credit)

Parent Corporation had just purchased some of its subsidiary's outstanding bonds on the open market. What items related to these bonds will have to be accounted for in the consolidation process?

For each period that the parent owns the bonds, the bonds must be eliminated on the consolidation worksheet. Eliminating the bonds on the consolidation worksheet requires the elimination of: (i) the parent's investment account; (ii) the portion of the bonds payable that the parent acquired; (iii) interest expense of the issuer; and (iv) interest income of the investor. In the year in which the parent acquired the bonds, a gain or loss must have been recognized. Over the life of the bonds, retained earnings must be debited or credited for the amount of the gain or loss, as adjusted by the previous years' difference between interest expense and interest income.

How does the accounting for intra-entity dividends differ between financial reporting and tax accounting?

For financial reporting, dividends between the members of a consolidated entity always are eliminated; they represent intra-entity cash transfers. For tax accounting, dividends are also removed from income but only if at least 80 percent of the subsidiary's stock is held. However, if less than 80 percent of a subsidiary's stock is held, tax recognition become necessary. Intra-entity dividends are taxed partially because, at that ownership level, 20 percent is taxable. The dividends-received deduction on the tax return (the nontaxable portion) is only 80 percent.

How do upstream and downstream inventory transfers differ in their effect in a year-end consolidation?

If the sale of inventory is downstream (from parent to subsidiary), any unrecognized gross profit on the transfer does not affect the calculation of noncontrolling interest. When the transfer is upstream (from the subsidiary to the parent), the gross profit on the transfer is associated with the subsidiary. The gross profit on goods that the parent still owns should be deducted from the subsidiary's income which may be allocated between the controlling interest and the noncontrolling interest's share of the subsidiary's earnings.

How is the amortization of goodwill treated for income tax purposes? How does the amortization of goodwill affect deferred income taxes?

In a business combination, goodwill is tested annually for impairment for financial statement purposes. The Internal Revenue Code allows the deduction of goodwill and other purchased intangibles over a 15-year period. Because the taxable income and financial income differ, the presence of goodwill causes a temporary difference that necessitates the recognition of deferred income taxes.

What is an intra-entity gross profit on a transfer of inventory, and how is it treated on a consolidation worksheet?

In intra-entity transfers, a transfer price often exceeds the underlying cost of the inventory. Hence, the seller recognizes gross profit on its books that, with respect to the entire controlled group, is deferred until the asset is consumed or sold to an outside party. Any unrecognized intra-entity gross profit on merchandise still held by the buyer must be eliminated for consolidated financial statement purposes. With respect to the year of transfer, this consolidation procedure requires unrecognized intra-entity gross profit be deducted from the inventory account on the balance sheet, and from the ending inventory balance within cost of goods sold. In the year following the transfer (if the goods are resold or consumed), the unrecognized intra-entity gross profit must again be deducted for purposes of the consolidated financial statements. This second reduction is recorded on the worksheet as a reduction to the beginning inventory component of cost of goods sold, as well as to the beginning retained earnings balance of the original seller. This functions to defer the recognition of gross profit from the year of transfer to the year the underlying asset is consumed or sold to an unrelated third party. If the transfer was made on a downstream basis, and the parent company applied the equity method of accounting, a subsequent year adjustment must be recorded in the subsidiary investment account as opposed to the retained earnings account.

Parent Corporation acquired some of its subsidiary's bonds on the open bond market. The remaining life of the bonds was eight years, and Parent expected to hold the bonds for the full eight years. How would the acquisition of the bonds affect the consolidation process?

In the consolidation process, the bonds would be treated as if they had been retired. A gain or loss would be recognized in the period in which they were acquired. Intra-entity interest revenue and expense would be eliminated.

Jet Corp. acquired all of the outstanding shares of Nittle Inc. on January 1, 2019, for $644,000 in cash. Of this consideration transferred, $42,000 was attributed to equipment with a ten-year remaining useful life. Goodwill of $56,000 had also been identified. Jet applied the partial equity method so that income would be accrued each period based solely on the earnings reported by the subsidiary. On January 1, 2022, Jet reported $280,000 in bonds outstanding with a book value of $263,200. Nittle purchased half of these bonds on the open market for $135,800. During 2022, Jet began to sell merchandise to Nittle. During that year, inventory costing $112,000 was transferred at a price of $140,000. All but $14,000 (at Jet's selling price) of these goods were resold to outside parties by year's end. Nittle still owed $50,400 for inventory shipped from Jet during December. The following financial figures were for the two companies for the year ended December 31, 2022. (left #: Jet Corp Right #: Nittle Inc.) Revenues $(894,600) $(652,400) Cost of goods sold 483,000 277,200 Expenses 187,600 225,400 Interest expense-bonds 33,600 0 Interest income-bond investment 0 (15,400) Equity in income of Nittle Inc. (165,200) 0 Net income $(355,600) $(165,200) Retained earnings, January 1, 2022 $(483,000) $(505,400) Net income (above) (355,600) (165,200) Dividends paid 217,000 85,400 Retained earnings, December 31, 2022 $(621,600) $(585,200) Cash and receivables $186,200 $109,200 Inventory 239,400 121,800 Investment in Nittle Inc. 851,200 0 Investment in Jet Corp. bonds 0 137,200 Land, buildings, and equipment (net) 348,600 757,400 Total assets $1,625,400 $1,125,600 Accounts payable $(315,000) $(232,400) Bonds payable (280,000) (140,000) Discount on bonds payable 11,200 0 Common stock (420,000) (168,000) Retained earnings, December 31, 2022 (above) (621,600) (585,200) Total liabilities and stockholders' equity $(1,625,400) $(1,125,600)

Journal Entries: *C Retained Earnings 1/1/2021 Jet Corp 12,600 (debit) Investment in Nittle 12,600 (credit) S Retained Earnings 1/1/21 Nittle 505,400 (debit) Common Stock 168,000 (debit) Investment in Nittle 673,400 (credit) A Land, Buildings, Equipment 29,400 (Debit) Goodwill 56,000 (Debit) Investment in Nittle 85,400 (Credit) I Equity in Nittle Income 165,200 (Debit) Investment in Nittle 165,200 (Credit) D Investment in Nittle 85,400 (Debit) Dividends Paid 85,400 (Credit) E Expenses 4,200 (Debit) Land, Buildings, Equipment 4,200 (Credit) P Accounts Payable 50,400 (Debit) Cash & Receivables 50,400 (Credit) TI Revenues 140,000 (Debit) Cost of Goods Sold 140,000 (Credit) B Interest Income - Bond Investment 15,400 (Debit) Loss on extinguishment of Debt 4,200 (Debit) Bonds Payable 140,000 (Debit) Interest Expense - Bonds 16,800 (Credit) Investment in Jet Corp Bond 137,200 (Credit) Discount on Bonds Payable 5,600 (Credit)

On January 1, 2021, Musical Corp. sold equipment to Martin Inc. (a wholly-owned subsidiary) for $168,000 in cash. The equipment originally cost $140,000 but had a book value of only $98,000 when transferred. On that date, the equipment had a five-year remaining life. Depreciation expense was calculated using the straight-line method. Musical earned $308,000 in net income in 2021 (not including any investment income) while Martin reported $126,000. Assume there is no amortization related to the original investment. Prepare a schedule of consolidated net income and the share to controlling and noncontrolling interests for 2021, assuming that Musical owned only 90% of Martin and the equipment transfer had been upstream

Musical's income $308,000 Martin's income 126,000 Deferral of intra-entity gain recognition on equipment (70,000) Removal of excess depreciation created by intra-entity transfer ($70,000 ÷ 5 years) 14,000 Consolidated net income $378,000 To noncontrolling interest [($126,000 − $70,000 + $14,000) × 10%] (7,000) To controlling interest $371,000 308,000 + 126,000 + (70,000) + 14,000 = Consolidated Net Income: 378,000 378,000 + (7,000) = To Noncontrolling Interest: 371,000

On January 1, 2021, Musical Corp. sold equipment to Martin Inc. (a wholly-owned subsidiary) for $168,000 in cash. The equipment originally cost $140,000 but had a book value of only $98,000 when transferred. On that date, the equipment had a five-year remaining life. Depreciation expense was calculated using the straight-line method. Musical earned $308,000 in net income in 2021 (not including any investment income) while Martin reported $126,000. Assume there is no amortization related to the original investment. What is consolidated net income for 2021?

Musical's income $308,000 Martin's income 126,000 Removal of unrealized gain on equipment ($168,000 − $98,000) (70,000) Removal of excess depreciation created by inflated transfer price ($70,000 ÷ 5 years) 14,000 Consolidated net income $378,000 308,000 + 126,000 + (70,000) + 14,000 = Consolidated Net Income: 378,000

B Co. owned 70% of the voting common stock of C Corp.; C Corp. owned 20% of B Co. There were no excess-value allocations at the dates the investments were acquired. For 2021, B Co. and C Corp. reported net income (not including the investment) of $600,000 and $300,000, respectively. B Co. and C Corp. declared dividends of $80,000 and $60,000, respectively. Required: Prepare a schedule showing net income attributable to B Co.'s controlling interest for 2021 using the treasury stock approach.

Net income B Co. $600,000 Net income C Corp. not including dividends received 300,000 Consolidated net income $900,000 Net income of C Corp. not including dividends $300,000 16,000 Dividend income from B Co. 316,000 Net income attributable to the noncontrolling interest of C Corp. 30% (94,800) Net income attributable to B Co. $805,200

( Patton Stevens) Operating income $2,000,000 $400,000 Divindends paid 120,000 50,000 Income tax rate 30% 30% Patton's operating income excludes income from the investment in Stevens, but includes $150,000 of gross profit on intra-entity transfers of inventory and the inventory is still held by Stevens at the end of the year. Patton uses the initial value method to account for the investment in Stevens. Assume Patton owns 90% of the voting stock of Stevens and files a consolidated income tax return. What amount of income taxes would be paid?

Operating income $2,250,000 ([$2,000,000 + $400,000 − $150,000] = 2,250,000) Tax rate 30% Taxes to be paid$675,000 Intra-entity gross profit and dividends are not relevant because a consolidated return is filed.

Jull Corp. owned 80% of Solaver Co. Solaver paid $250,000 for 10% of Jull's common stock. In 2021, Jull and Solaver reported separate net incomes (not including income from the investment) of $300,000 and $80,000, respectively. Jull and Solaver declared dividends of $120,000 and $50,000, respectively. Required: Under the treasury stock approach, what is the net income attributable to the noncontrolling interest?

Separate net income before dividends $80,000 Dividend income ($120,000 × 10%) 12,000 Net income—Solaver Co. $92,000 Noncontrolling interest ownership percentage ×20% Net income attributable to the noncontrolling interest $18,400

Kurton Inc. owned 90% of Luvyn Corp.'s voting common stock. The consideration paid exceeded book value by $110,000. Of this amount, one half is attributable to a patent and is to be amortized over 5 years. Luvyn held 20% of Kurton's voting common stock, which cost $28,000 more than fair value. During the current year, Kurton reported separate net income of $224,000 as well as dividend income from Luvyn of $37,800. At the same time, Luvyn reported its separate net income of $70,000 as well as dividend income from Kurton of $19,600. Required: Prepare a schedule to show net income attributable to the controlling interest of Kurton.

Separate net income of Kurton $224,000 Separate net income of Luvyn $70,000 (11,000) Amortization 59,000 Consolidated net income $283,000 Net income attributable to the noncontrolling interest 7,860 Controlling interest share of net income $275,140 Separate net income of Luvyn $70,000 Dividend income 19,600 Less: amortization of excess patent allocation (11,000) Net income of Luvyn for consolidation $78,600 Noncontrolling interest percentage 10% Net income attributable to the noncontrolling interest $7,860 $55,000 ÷ 5 years = 11,000

Kurton Inc. owned 90% of Luvyn Corp.'s voting common stock. The consideration paid exceeded book value by $110,000. Of this amount, one half is attributable to a patent and is to be amortized over 5 years. Luvyn held 20% of Kurton's voting common stock, which cost $28,000 more than fair value. During the current year, Kurton reported separate net income of $224,000 as well as dividend income from Luvyn of $37,800. At the same time, Luvyn reported its separate net income of $70,000 as well as dividend income from Kurton of $19,600. Required: Prepare a schedule to show consolidated net income.

Separate net income of Kurton $224,000 Separate net income of Luvyn $70,000 (11,000) Amortization 59,000 Consolidated net income $283,000 $55,000 ÷ 5 years = 11,000 70,000 + (11,000) = 59,000 Amortization

Hambly Corp. owned 80% of the voting common stock of Stroban Co. During 2021, Stroban sold a parcel of land to Hambly. The land had a book value of $82,000 and was sold to Hambly for $145,000. Stroban's reported net income for 2021 was $119,000. Required: Assuming there are no other intra-entity transactions nor excess amortizations, what was the net income attributable to the noncontrolling interest of Stroban?

Stroban Co.'s 2021 net income as reported $119,000 Unrealized gain on land sale ($145,000 − $82,000) (63,000) Stroban Co.'s 2021 realized income $56,000 Noncontrolling interest percentage × 20% Noncontrolling interest's share of Stroban Co.'s net income$11,200 119,000 + (63,000) = 56,000 x 20% = 11,200

X Co. owned 80% of Y Corp., and Y Corp. owned 15% of X Co. Under the treasury stock approach, how would the dividends paid by X Co. to Y Corp. be handled on a consolidation worksheet?

The dividends must be eliminated as intra-entity dividends.

How is the gain on an intra-entity transfer of a depreciable asset recognized?

The gain on an intra-entity transfer of a depreciable asset may be recognized in one of two ways: (i) through the use of the asset in operations; or (ii) through the sale of the asset to an independent third party.

What method is used in consolidation to account for a subsidiary's ownership of shares of its parent corporation?

The method is the treasury stock approach.

( Patton Stevens) Operating income $2,000,000 $400,000 Divindends paid 120,000 50,000 Income tax rate 30% 30% Patton's operating income excludes income from the investment in Stevens, but includes $150,000 of gross profit on intra-entity transfers of inventory and the inventory is still held by Stevens at the end of the year. Patton uses the initial value method to account for the investment in Stevens. Assume Patton owns 90% of the voting stock of Stevens and they each file separate income tax returns. What amount of total income tax would be paid?

Total taxes to be paid are $720,000. Stevens would have to pay $120,000 (30% of its $400,000 operating income.) Patton would pay $600,000 or 30% of its $2,000,000 operating income. The gross profit remaining in inventory form intra-entity transfers is not deferred because separate returns are being filed. Intra-entity dividends paid are not taxable because the parties still qualify as an affiliated group even though separate returns are being filed.

Gamma Co. owns 80% of Delta Corp., and Delta Corp. owns 15% of Gamma Co. The two companies use the treasury stock approach to account for mutual ownership. How should Delta Corp.'s ownership interest in Gamma Co. be accounted for in the consolidation?

Under the treasury stock approach, the parent's common stock owned by a subsidiary is treated in consolidated financial statements as being no longer outstanding. The consolidation process will eliminate the Investment in Gamma cost of shares and replace it as Treasury Stock of Gamma, the parent. The dividends received by Delta will be eliminated; thereby increasing Gamma's retained earnings as if these dividends had not been paid.

What are the benefits or advantages of filing a consolidated income tax return?

When a consolidated income tax return is filed, intra-entity profits are not taxed until realized, either by use or by sale to an outsider. On separate returns, intra-entity profits are taxed in the period the sale is made within the combined entity. Therefore, filing a consolidated return can delay payment of income taxes. A second advantage is that, on a consolidated return, losses incurred by one company within the affiliated group can offset taxable income recognized by other members, reducing the total income tax liability of the combined entity.