Accounting I 2600H Final Study Guide
For some of the fixed assets of a business, the balance in accumulated depreciation is equal to the cost of the asset. (a) Is it permissible to record additional depreciation on the assets if they are still useful to the business? Explain. (b) When should an entry be made to remove the cost and the accumulated depreciation from the accounts?
(a) Accumulated depreciation cannot exceed an asset's cost. It is not permissible to record additional depreciation on assets if they are still useful to the business. Accumulated depreciation is used in calculating as assets net book value, which can not be negative. (b) When an asset is sold or disposed of, an entry to remove the asset's accumulated depreciation and the cost from the balance sheet is made.
Why would a company choose each depreciation method?
(a) Straight-line The straight-line depreciation method provides the same periodic amounts of depreciation expense over the life of an asset. (b) Units of Production The units of production depreciation method provides for periodic amounts of depreciation expense that vary depending on the amount the asset is used. (c) Double Declining Balance The double declining balance depreciation method provides for a higher depreciation amount in the first year of the asset's use, followed by declining amounts in the following years.
(a) Over what period of time should the cost of a patent acquired by purchase be amortized? (b) In general, what is the required accounting treatment for research and development costs? (c) How should goodwill be amortized?
(a) The cost of a patent should be amortized during the lesser of its useful life or legal life. (b)The required accounting treatment for research and development (R&D) costs is to write it off to the profit and loss account as incurred. (c) Goodwill should not be amortized as of the FSAB in 2001.
What is a natural resource? How is its cost allocated and calculated? What is the term used to describe the cost allocation of a natural resource?
A natural resource is an asset that can only be replaced by nature. Examples of natural resources are mineral ores, timber (wood from forest lands), minerals, natural gas, oil, and stones. The process of transferring the cost of natural resources to an expense account is called depletion. The depletion rate is calculated by the cost of the resource / estimated total units of the resource. Then, take the depletion rate x the quantity extracted from the resource during the period to find the depletion amount. The depletion expense is found on the income statement.
What is a promissory note, and how do you calculate interest on a short term Note Receivable? How are interest rates stated? Calculate the interest and maturity value for a 90-day note for $50,000 with a 9% interest rate.
A promissory note is a written promise to pay the face amount, usually with interest, on demand, or at a date in the future. To calculate interest on a short term note receivable, take the face amount x interest rate x (term / 360 days). Interest rates are stated on an annual basis. For the example, $50,000 x .09 x (90/360) = $1,125 for interest. $50,000 + $1,125 = $51,125 for the maturity value.
What is a stock split? How many shares will be outstanding after a 2-for-1 stock split if there were 100,000 shares of $2 par stock outstanding before the split?
A stock split is a process by which a corporation reduces the par or stated value of its common stock and issues a proportionate number of additional shares. Corporations do this to reduce the market price per share of the stock to attract investors and broaden the type of stockholders. For the example, 100,000 x 2 = 200,000 shares of stock, and 2/2 = $1 for the price per share of stock.
Which of the two methods of estimating uncollectibles provides the most accurate estimate of the current net realizable value of the receivables?
An estimate based on an analysis of receivables by the allowance method of estimating uncollectibles of GAAP provides the most accurate estimate of the current net realizable value.
What is the difference between a Capital and a Revenue expenditure?
Capital expenditures are additions, improvements, and extraordinary repairs made to improve an asset or extend its useful life. Revenue expenditures are normal and ordinary repairs and maintenance which only benefit the current period.
What is Contingent Liability? When and how is it recorded in the books and records?
Contingent liabilities are potential obligations that may arise from past transactions only if certain events occur in the future. Some examples are product warranties, lawsuits, and environmental issues. The accounting for contingent liabilities depends on the likelihood of occurring (is it probable, reasonably possible, or remote) and measurement (estimable or not estimable). Debit expense, credit the liability account. Make a good faith estimate of the liability.
What are the primary advantages/disadvantages of the corporate form of organization versus the partnership form?
Corporations are advantageous because they have limited liability, the ability to raise large amounts of capital, and unlimited life. Though, there is double taxation of dividends at corporate and individual levels. Partnerships are advantageous because they are easy to set up and income taxes flow through to the partner's personal returns, with no taxation at the partnership level. Though, there is an unlimited liability (partners can be sued personally) and limited life.
What is the difference between Current and Long Term Liabilities? Examples?
Current liabilities are debts that will be paid out of current assets and are due within one year. Some examples are accounts payable, the current portion of long term liabilities, short term notes payable, etc. Long term liabilities are debts due beyond one year. Some examples are mortgages, bonds, and other long term leases or loans.
What is the accounting definition of depreciation?
Depreciation is a cost allocation concept of recording the cost of fixed assets as an expense, for fixed assets lose their ability to provide services over time. Capitalize the asset on the balance sheet and then expense the cost over the asset's useful life.
What are dividends? Define Declaration Date, Date of Record, and Date of Payment of dividends.
Dividends are distributions of a corporation's earnings to shareholders. The declaration date is the date the board of directors votes and formally authorizes the payment of the dividends. The date of record is the date the corporation uses to determine which stockholders will receive the dividend. The date of payment is the date the corporation will pay the dividends to the stockholders who owned the stock on the date of record.
What is EPS? How is it calculated?
Earnings per share (EPS) is the dollar amount of earnings attributed to each share of common stock. It is quoted extensively by analysts and is normally the primary driver of stock price. It is calculated by net income - preferred dividends / average number of common shares outstanding.
What is FICA and which FICA deduction has a cap? Which doesn't?
FICA is the Federal Insurance Contributions Act which requires employers to withhold a portion of the earnings of each employee. Regarding the two FICA deductions, social security is a pension for senior citizens that has a cap of 6.2% at 4142,800, but medicare, the health insurance plan for senior citizens does not, with its 1.45% no cap, 9% surcharge income > $200,000.
What are the terms used for cost allocation of fixed assets, natural resources, and intangible assets? Which ones use contra accounts and which don't?
Fixed assets Cost allocation term - Depreciation expense Contra asset account - Yes Natural resources Cost allocation term - Depletion expense Contra asset account - Yes Intangible assets Patents and Copyrights Cost allocation term - Amortization expense Contra asset account - No Trademarks and Goodwill Cost allocation term - None Contra asset account - No
What are the characteristics of Fixed Assets? What are some examples?
Fixed assets are long term or relatively permanent assets such as equipment, machinery, buildings, and land. Other descriptive titles for fixed assets are plant assets, or property, plant, and equipment. Fixed assets exist physically and are tangible assets, are owned and used by the company in its normal operations, and are not offered for sale as part of normal operations.
How are fixed and intangible assets presented on the balance sheet?
Fixed assets are presented at their book value (cost - accumulated depreciation). Intangible assets are presented in a separate section following fixed assets, where they are disclosed net of any amortization.
What is Goodwill? When is it recorded on a company's books? How is it calculated? Is it amortized? If not, is it ever reduced in value?
Goodwill is an intangible asset of a business that is created from such favorable factors as location, product quality, reputation, and managerial skill. These factors are difficult to quantify in dollar terms in the accounting records. Goodwill is known as the most intangible asset. GAAP permits goodwill to be recorded in the books only if it is objectively determined to be a business transaction of one business purchasing another business to trigger goodwill. Goodwill equals the excess of the purchase price over the fair market value of its net assets (net assets is aka equity). There is no amortization of goodwill.
What is the entry required to reclassify an Account Receivable to a Note Receivable? Why would this be necessary?
If a customer cannot pay an invoice on time, perhaps due to a cash shortage, they may give the company a note to pay with interest. The borrower is the maker, the lender is the payee, the term is the issue date to the maturity date, and the maturity date is when the payment is due in full.
What is the difference between a defined benefit plan and a defined contribution plan?
In a defined or traditional benefits plan, the company pays the employee a fixed monthly pension based on a formula, guaranteeing the amount no matter what. The company is liable for all future payments in a defined benefit plan, and the employer is obligated to pay for the employee's future pension benefits. The amount is based on actuarial estimates of age, life expectancy, and number of years worked at the firm. In a defined contribution plan, the company invests contributions on behalf of the employee during the employee's working years. The employee's pension plan depends on the total contributions and investment returns earned. There is no amount is guaranteed. Received as a lump sum at retirement. Example of this is a 401K.
What is an intangible asset? What are some examples? What is the term used to describe the cost allocation of an intangible asset?
Intangible assets are long lived valuable assets that are used in the operations of the business and not held for sale. They are called intangible assets because they do not exist physically. Some examples of intangible assets are intellectual property, such as patents, copyrights, trademarks, and goodwill. The term used to describe the cost allocation of intangible assets is amortization.
What is the difference between issued, authorized, and outstanding stock?
Issued stock refers to shares sold to public stockholders. Authorized stock refers to the number of shares of stock that a corporation can issue, which is stated in its corporate charter. Outstanding stock refers to the stock remaining in the hands of stockholders after the company reacquires it. If no stock is reacquired, issued and outstanding stock are the same.
Is it necessary for a business to use the same method of computing depreciation for all classes of its depreciable assets?
No, it is not necessary for a business to use the same method of computing depreciation for all classes of its depreciable assets.
What is a Note Payable, and how do you calculate interest on a short term Note Payable? How are interest rates stated? Example: a company issued a 60 day, 5% note for $5,000. What is the interest and maturity value of the note? Round to the nearest dollar.
Notes payable are long-term liabilities that indicate the money a company owes which are enforceable in a court of law. To calculate interest on a short term note payable, take the face amount x interest rate x (term / 360 days). Interest rates are stated on an annual basis. For the example, $5,000 x .05 x 60/360 = $42 for the interest. $5,000 + $42 = $5,042 for the maturity value.
O'Neil Office Supplies has a fleet of automobiles and trucks for use by salespersons and for delivery of office supplies and equipment. Collins Auto Sales Company has automobiles and trucks for sale. Under what caption would the automobiles and trucks be reported in the balance sheet of (a) O'Neil Office Supplies and (b) Collins Auto Sales Company?
O'Neil Office Supplies reports the automobiles and trucks as fixed assets in the property, plant, and equipment section on the balance sheet. Collins Auto Sales Company reports the automobiles and trucks as current assets (inventory) section on the balance sheet.
Which intangible assets are amortized and which are not?
Patents - Amortized over shorter of useful or legal life Copyrights - Amortized over the life of creator + 70 years Trademarks - Not amortized Goodwill - Not amortized
What is the Quick Ratio, how is it calculated, and what constitutes a desirable Quick Ratio?
Quick ratio is an indicator ratio of a company's very short term liquidity. It is calculated by quick assets / current liabilities. A desirable quick ratio is constituted by if it is higher than 1.0 or not, for the higher the better.
How is the current portion of Long Term Debt reported?
Reclassified as a current liability and deducted from long term debt. Long term liabilities are often paid back in periodic payments called installments. Installments are due within the coming year and are reported as current liabilities on the balance sheet.
How are research and development (R&D) costs accounted for?
Research and development costs are expensed as incurred, they are current operating expenses, benefiting the current period only.
What is included in Retained Earnings? Example: Beginning Balance of R/E $2,000,000, Net Income is $450,000, Dividends Declared is $25,000. What is the ending balance of R/E?
Retained earnings are a corporation's cumulative net income that has not been distributed as dividends. For the example, $2,000,000 + $450,000 - $25,000 = $2,425,000 for retained earnings.
Neptune Company issued a note receivable to Sailfish Company. Who is the payee? What is the title of the account used by Sailfish Company in recording the note?
Sailfish Company is the payee. The title of the account used by Sailfish Company in recording the note is notes receivable.
How is the Allowance for Doubtful Accounts shown on the balance sheet? What is its normal balance, and what type of account is it?
The allowance for doubtful accounts account is listed on the asset side of the balance sheet, and deducted from gross account receivables. It has a normal credit balance and is a contra asset account.
What are the 2 methods used to account for Uncollectible Accounts? Which one is GAAP? Which one isn't GAAP and why?
The allowance method is GAAP and makes an estimate of future uncollectibles (bad debt expense) at the time of sale. Matches revenues and expenses. Uses allowance for doubtful accounts for estimates and write offs.
When is the company's liability for dividends recorded?
The company's liability for dividends is recorded on the date of declaration.
What costs are included in the acquisition cost of a fixed asset?
The costs included in the acquisition of fixed assets are all amounts spent getting the asset in place and ready for use. For example, freight costs, costs of installing and testing equipment, permits, sales tax, insurance, architect/engineer/design fees, etc., are part of the asset's cost.
What is the difference between "capitalizing" and "expensing"? How does the debit side of the entry differ?
The difference between capitalizing and expensing costs is that you record capitalized costs on a balance sheet, and you record expensed costs on an income statement. Both entries are debits. Capitalizing increases the useful life or productivity of an asset. Expensing does not increase the usefulness of an asset, for it benefits the current period only.
What is the entry to reclassify an Account Payable to a Note Payable? Why would this be necessary?
The entry to reclassify an account payable to a note payable would be necessary to give the company more time to pay an invoice if they are short on cash.
What is the Net Realizable Value of Accounts Receivable? Example: At year end the Accounts Receivable is $250,000 and the balance in the Allowance Account (after adjustment) is $25,000. What is the Net Realizable Value of the Accounts Receivable?
The net realizable value of accounts receivable is the amount of receivables a company estimates that it will collect. It is the amount of accounts receivable minus the allowance for doubtful accounts. For the example, the net realizable value of accounts receivable is $225,000.
What is included in Stockholders' Equity? Example: A company has $5,000,000 in Additional Paid-In Capital, $1,000,000 in par value of its common stock, and has purchased $250,000 in Treasury Stock. What is Total Stockholders' Equity (use the ending balance of retained earnings calculated in #38 above)?
The owner's equity in a corporation is called stockholders' equity. For the example, $1,000,000 + $5,000,000 - $250,000 + $2,425,000 = $8,175,000 for the total stockholders' equity.
What are the 2 methods for estimating Uncollectible Accounts under the Allowance Method?
The percent of sales method estimates the percentage of this year's sales that will be uncollectible. Add that to the amount already in the allowance account. The percent of receivables or aging method determines how old current receivables are, apply a percentage that will be uncollectible depending on the overdue period, then adjust the amount in the allowance account to arrive at the dollar amount of uncollectible receivables.
What are the principal reasons for using a special payroll bank account?
The principal reasons for using a separate payroll bank account are that reconciling the bank statements is simplified, and in addition, a payroll bank account establishes control over payroll checks and, therefore, prevents theft or misuse.
Which taxes are deducted from employees' pay? Which are matched by the employer? Which are paid only by the employer? What type of accounts are they, and where are they shown on the financial statements?
The taxes deducted from employees' pay are federal income taxes, social security, and medicare. The deductions from employees' earnings are classified as amounts owed (liabilities) to others/the government for items such as federal taxes, state and local income taxes, and contributions to pension plans. Federal/state/local withholding - Employees only Medicare tax - Both employees and employers Social security tax - Both employees and employers Federal unemployment compensation tax (FUTA) - Employers only State unemployment compensation tax (SUTA) - Employers only
What are the three classifications of receivables?
The term receivables includes all money claims against other entities, including people, companies, and other organizations. Receivables are usually a significant portion of the total current assets. They are classified as accounts receivable, notes receivable, or other receivables.
What are the two key metrics used to determine the efficiency of a company's collection of Accounts Receivable? How are they calculated? What do they tell us?
The two key metrics used to determine the efficiency of a company's collection of accounts receivable are accounts receivable turnover and days' sales in receivables. The accounts receivable turnover is calculated by sales / average accounts receivable. The days' sales in receivables is calculated by average accounts receivable / average daily sales.
What is Treasury Stock?
Treasury stock, or a buyback, is stock that a corporation has issued and then reacquired. Corporations do this to provide shares for resale to employees, to reissue as bonuses to employees, to buy at a low price to hold for employee distribution, to not issue additional shares, and to boost the market price of the stock.
To match revenues and expenses properly, should the expense for employee vacation pay be recorded in the period during which the vacation privilege is earned or during the period in which the vacation is taken?
Vacation pay should be recorded in the period during which the vacation privilege is earned. Under the accrual basis of accounting, vacation pay should be recorded in the period during which the vacation privilege is earned. This is consistent with the matching principle of accounting, which requires the recording of expenses to be matched with the related revenues in the same period.
Are indefinite life intangibles ever reduced in value?
Yes, indefinite life tangibles are reduced in value if they are impaired and not worth what they are on the books for. Debit intangible loss, credit intangible asset.