ACCTG 241 UNIT 3
Receivables are frequently classified as:
accounts receivable, notes receivable, and other receivables
anything that a bank will accept for deposit
cash
ccounts and notes receivable are reported in the current assets section of the balance sheet at:
cash (net) realizable value
highly liquid investments
cash equivalents
Cash consists of
coins, currency (paper money), checks, money orders, and money on hand or on deposit in a bank or similar depository.
Segregation of Duties
custody of an asset should be kept separate from the record-keeping for that asset
reconciling the bank account
making the balance per books and the balance per bank agree with the correct or true amount
The principles of internal control do not include:
management responsibility
One to whom a check is payable
payee
what are the 3 accounts issues to address when dealing with receivables?
recognition, valuation, disposal
Need for Reconciliation
time lags and errors
petty cash fund
used to pay relatively small amounts
an extensive network of approvals by authorized individuals
voucher system
Kersee Company on June 15 sells merchandise on account to Eng Co. for $1,000, terms 2/10, n/30. On June 20, Eng Co. returns merchandise with a sales price of $300 to Kersee Company. On June 24, payment is received from Eng Co. for the balance due. What is the amount of cash received?
$686, Because payment is made within the discount period of 10 days, the amount received is $700 ($1,000 - $300 return) minus the discount of $14 ($700 × 2%), for a cash amount of $686, not (a) $700 or (b) $680. Choice (d) is wrong as there is a correct answer.
Establishment of Responsibility
-Control is most effective when only one person is responsible for a given task. -Establishing responsibility often requires limiting access only to authorized personnel, and then identifying those personnel.
Notes Receivable
-Written promise for amounts to be received. Normally requires the collection of interest. -Collection times are longer - 60 to 90 days
promissory note
-a written promise to pay a specified amount of money on demand or at a definite time -companies may grant credit in exchange for a promissory note
Limitations of Internal Control
-costs should not exceed benefit -human element -size of the business
Determining the Maturity Date
-on demand -at the end of a stated period of time -on a stated date -don't include the date the note was issued, but include the due date
natural resources consist of
-standing timber and underground deposits of oil, gas, and minerals -long lived, productive assets
why do companies sell receivables?
1. Receivables may be the only reasonable source of cash. 2. Billing and collection are often time-consuming and costly.
Net credit sales for the month are $800,000. The accounts receivable balance is $160,000. The allowance is calculated as 7.5% of the receivables balance using the percentage-of-receivables basis. If Allowance for Doubtful Accounts has a credit balance of $5,000 before adjustment, what is the balance after adjustment?
12,000
Average Collection Period
365/accounts receivable turnover
check
A written order for a bank to pay money
What is the normal balance for allowance for doubtful accounts?
Allowance for Doubtful Accounts is a contra account to Accounts Receivable, so the normal balance is credit.
indicates those people authorized to sign checks
Bank signature card
equipment costs
Include all costs incurred in acquiring the equipment and preparing it for use. Costs typically include: •Cash purchase price. •Sales taxes. •Freight charges. •Insurance during transit paid by the purchaser. •Expenditures required in assembling, installing, and testing the equipment. -DEPRECIATION METHOD: ANY
monitoring
Internal control systems must be monitored periodically for their adequacy. Significant deficiencies need to be reported to top management and/or the board of directors.
allowance method
Losses are estimated: •Better matching. •Receivable stated at cash realizable value. •Required by G A A P.
plant assets
Resources that have physical substance, are used in the operations of the business, are not intended for sale to customers, and are expected to be of use to the company for a number of years.
Depreciation is generally computed using one of the following methods:
Straight-line. Units-of-activity. Declining-balance.
embezzlement
The act of dishonestly withholding financial assets for the purpose of conversion of such assets by one or more individuals to who such assets have been entrusted, to be held and/or used for other purposes.
bank reconciliation
The process of comparing the bank's account balance with the company's balance, and explaining the differences to make them agree.
theft
The taking of another person's property without that person's permission or consent with the intent to deprive the rightful owner of it.
direct write-off method
Theoretically undesirable: •No matching. •Receivable not stated at cash realizable value. •Not acceptable for financial reporting.
How does petty cash fit into the control activities?
"As you just learned, better internal control over cash disbursements is possible when companies make payments by check. However, using checks to pay small amounts is both impractical and a nuisance. For instance, a company would not want to write checks to pay for postage due, working lunches, or taxi fares. A common way of handling such payments, while maintaining satisfactory control, is to use a petty cash fund"
identify the principle of internal control to each of the following cases. -cash is locked in a safe overnight -employees who receive shipments of goods do not have access to the accounting records for merchandise -shipping documents are pre-numbered -the bookkeeper does not have physical custody of assets -only the treasurer of the company can sign checks
- physical controls - segregation of duties - documentation procedures - segregation of duties - establishment of responsibility
natural resources distinguishing characteristics
- physically extracted in operations - replaceable only by an act of nature -mining, cutting, pumping oil/gas
accounts receivable are reported in the current assets section of the balance sheet at
- the gross amount less allowance for doubtful accounts -(cash realizable value)
NSF check
-A check that is not paid by a bank because of insufficient funds in a bank account -(not sufficient funds).
fraud
-A dishonest act by an employee that results in personal benefit to the employee at a cost to the employer. -Intentional deception made for personal gain or to damage another individual.
land costs
-All necessary costs incurred in making the land ready for its intended use increase (debit) the Land account. Costs typically include: 1.cash purchase price, 2.closing costs such as title and attorney fees, 3.real estate broker commissions, and 4.accrued property taxes and other liens on the land assumed by the purchaser. NOT DEPRECIATED
Accounts Receivable
-Amounts customers owe on account that result from the sale of goods and services. -Collection is expected within 30 to 60 days.
What is the role of the petty cash custodian?
-Authority to make payments -Ensure that the petty cash fund is reconciled at all times. -THE PAID RECEIPTS OR INVOICES PLUS THE CASH SHOULD ALWAYS EQUAL THE FUND BALANCE. -Ensure that the funds are kept in a secure location, such as a locked cash box or desk drawer. -The Custodian should maintain possession of the key.
How is the Allowance for Doubtful Accounts account used with Bad Debt Expense and Accounts Receivable?
-Companies estimate uncollectible accounts receivable. They match estimated expense against revenues in the same accounting period in which they record the revenues. -Companies debit Bad Debt Expense and credit Allowance for Doubtful Accounts through an adjusting entry at the end of each period. Allowance for Doubtful Accounts is a contra account to Accounts Receivable. -When companies write off a specific customer account, they debit actual uncollectibles to Allowance for Doubtful Accounts and credit that amount to Accounts Receivable.
Independent Internal Verification
-Companies should verify records periodically or on a surprise basis. -An employee who is independent of the personnel responsible for the information should make the verification. -Discrepancies and exceptions should be reported to a management level that can take appropriate corrective action.
Where is depreciation reported in the financial statements?
-Depreciation affects the balance sheet through accumulated depreciation, which companies report as a deduction from plant assets. It affects the income statement through depreciation expense.
What is the role of the Accumulated Depreciation account?
-Depreciation affects the balance sheet through accumulated depreciation, which companies report as a deduction from plant assets. It affects the income statement through depreciation expense. Recognizing depreciation on an asset does not result in an accumulation of cash for replacement of the asset. The balance in Accumulated Depreciation represents the total amount of the asset's cost that the company has charged to expense. It is not a cash fund.
Segregation of Duties
-Different individuals should be responsible for related activities. -The responsibility for recordkeeping for an asset should be separate from the physical custody of that asset. -The work of one employee should, without a duplication of effort, provide a reliable basis for evaluating the work of another employee.
6 principles of control activities
-Establishment of responsibility -Segregation of duties -Documentation procedures -Physical controls -Independent internal verification -Human resource controls
How does Cash Over and Short fit into the petty cash process?
-If there's a shortage or overage, a journal line entry is recorded to an over/short account. If the petty cash fund is over, a credit is entered to represent a gain. If the petty cash fund is short, a debit is entered to represent a loss. -The over or short account is used to force-balance the fund upon reconciliation. -When replenishing the fund, the differences are captured so the shortages and overages are captured which impact the income statement.
other receivables
-Nontrade receivables such as interest, loans to officers, advances to employees, and income taxes -These do not generally result from the operations of the business.
How are notes receivable different than accounts receivable?
-Notes receivable give the holder a stronger legal claim to assets than do accounts receivable. -Accounts receivable are amounts customers owe on account. Notes receivable are claims for which lenders issue formal instruments of credit as proof of the debt. Companies record accounts receivable when they perform a service on account or at the point of sale of merchandise on account.
cash equivalents
-Short-term, highly liquid investments that can be readily converted to a specific amount of cash and which are relatively insensitive to interest rate changes. -securities with a maturity under 90 days -Examples of cash equivalents are Treasury bills, commercial paper (short-term corporate notes), and money market funds. All typically are purchased with cash that is in excess of immediate needs
Why is interest calculated on notes receivable?
-The lender uses the note to make the loan legal and enforceable. Such notes typically bear interest charges. -A note receivable generally includes a predetermined interest rate; the maker of the note is obligated to pay the interest amount due, in addition to the principal amount, at the same time that they pay the principal amount. Timeframe: The length of time during which the note is to be repaid
What is the benefit of using a bank account?
-The use of a bank contributes significantly to good internal control over cash. -Minimizes the amount of cash on hand. -Creates a double record of bank transactions. -Bank reconciliation
How are doubtful accounts written off?
-When companies write off a specific customer account, they debit actual uncollectibles to Allowance for Doubtful Accounts and credit that amount to Accounts Receivable. -Under the allowance method, companies debit every specific customer write-off to Allowance for Doubtful Accounts rather than to Bad Debt Expense -A write-off affects only balance sheet accounts—not income statement accounts. The write-off of the account reduces both Accounts Receivable and Allowance for Doubtful Accounts. Cash realizable value in the balance sheet, therefore, remains the same.
bank deposits
-a claim on a bank that obliges the bank to give the depositor his or her cash when demanded -every deposit the bank receives is an increase to the bank's liabilities
declining balance method
-a depreciation method that applies a constant rate to the declining book value of the asset and produces a decreasing annual depreciation expense over the asset's useful life
bank statements
-a monthly statement from the bank that shows the depositor's bank transactions and balances -prepared from the bank's perspective -lists in numerical sequence all paid checks along with the date the check was paid and its amount -bank includes with the bank statement a memoranda explaining explaining other debits and credits it made to the depositor's account.
internal control
-a process designed to provide reasonable assurance regarding the achievement of company objectives related to operations, reporting, and compliance. -In more detail, the purposes of internal control are to safeguard assets, enhance the reliability of accounting records, increase efficiency of operations, and ensure compliance with laws and regulations.
restricted cash
-cash that is not available for general use but rather is restricted for a special purpose -For example, landfill companies are often required to maintain a fund of restricted cash to ensure they will have adequate resources to cover closing and clean-up costs at the end of a landfill site's useful life.
Documentation Procedures
-companies should use prenumbered documents, and all documents should be accounted for. -employees should promptly forward source documents for accounting entries to the accounting department. This control measure helps to ensure timely recording of the transaction
What is Allowance for Doubtful Accounts?
-contra-asset account containing the estimated uncollectible accounts receivable -Allowance for Doubtful Accounts shows the estimated amount of claims on customers that the company expects will become uncollectible in the future.
Net Book Value (NBV)
-cost - accumulated depreciation -Net book value is the historical cost of an asset, less any amounts recorded for depreciation, amortization, or depletion. It is a product of fair value reporting that requires assets be reported at their market value
electronic funds transfer system
-enables banks to transfer funds from the account of one depositor to the account of another quickly and accurately without the immediate exchange of checks -results in better control since no cash or checks are handled by company employees
Asset Turnover
-net sales/average total assets - net sales / ((beg. assets + end. assets)/2)
Historical Cost Principle
-requires that companies record plant assets at cost. -cost consists of all expenditures necessary to acquire an asset and make it ready for its intended use.
depletion
-the allocation of the cost to the expense in a rational and systematic manner over the resource's useful life -companies generally use units-of-activity method -depletion generally is a function of the units extracted during the year.
Depreciation
-the process of allocating to expense the cost of a plant asset over its useful (service) life in a rational and systematic manner. -Such cost allocation enables companies to properly record expenses (efforts) with associated revenues (results) in accordance with the expense recognition principle
when does a promissory note get used?
-when individuals and companies lend or borrow money -when amount of transaction and credit period exceed normal limits -in settlement of accounts receivable
Hughes Company has a credit balance of $5,000 in its Allowance for Doubtful Accounts before any adjustments are made at the end of the year. Based on review and aging of its accounts receivable at the end of the year, Hughes estimates that $60,000 of its receivables are uncollectible. The amount of bad debt expense which should be reported for the year is:
55,000 - By crediting Allowance for Doubtful Accounts for $55,000, the new balance will be the required balance of $60,000. This adjusting entry debits Bad Debt Expense for $55,000 and credits Allowance for Doubtful Accounts for $55,000, not (a) $5,000, (c) $60,000, or (d) $65,000.
Hughes Company has a debit balance of $5,000 in its Allowance for Doubtful Accounts before any adjustments are made at the end of the year. Based on review and aging of its accounts receivable at the end of the year, Hughes estimates that $60,000 of its receivables are uncollectible. In this situation, the amount of bad debt expense that should be reported for the year is:
65,000
What are the control features of bank accounts?
A bank account contributes to good internal control by providing physical controls for the storage of cash.
Units-of-activity method
A depreciation method in which useful life is expressed in terms of the total units of production or use expected from the asset.
What happens when a note receivable is dishonored?
A dishonored (defaulted) note is a note that is not paid in full at maturity. A dishonored note receivable is no longer negotiable. However, the payee still has a claim against the maker of the note for both the note and the interest. Therefore, the note holder usually transfers the customer's debt from the Notes Receivable account to an Accounts Receivable account.
What does a non-normal balance mean?
A non normal balance means that is where the account decreases, whereas in a normal balance you are increasing.
Revising Periodic Depreciation
Accounted for in the period of change and future periods (Change in Estimate). Not handled retrospectively. Not considered error.
Salvage Value (Residual Value)
An estimate of an asset's value at the end of its useful life.
How does the fraud triangle become the fraud diamond?
Becomes a diamond when there is capability
Which of the following statements correctly describes the reporting of cash?
Cash cannot be combined with cash equivalents. Restricted cash funds may be combined with cash. Cash is listed first in the current assets section. Restricted cash funds cannot be reported as a current asset.
Which of the following was not a result of the Sarbanes-Oxley Act?
Companies must file financial statements with the Internal Revenue Service. All publicly traded companies must maintain adequate internal controls. The Public Company Accounting Oversight Board was created to establish auditing standards and regulate auditor activity. Corporate executives and board of directors must ensure that controls are reliable and effective, and they can be fined or imprisoned for failure to do so.
risk assessment
Companies must identify and analyze the various factors that create risk for the business and must determine how to manage these risks.
What are the components of a two-column bank reconciliation?
Creating two columns - one that begins with the bank information and adjusts for the things the bank doesn't know. The second column begins with the cash record information and adjusts for the things the business didn't know until they received the bank statement.
outstanding checks
Deduct from bank balance
How is Accumulated Depreciation different than Depreciation Expense?
Depreciation expense is the amount that a company's assets are depreciated for a single period (e.g,, quarter or the year). Accumulated depreciation, on the other hand, is the total amount that a company has depreciated its assets to date.
How does changing the cost, useful life or salvage value of an asset change the depreciation computation?
If there is a significant change in an asset's estimated salvage value and/or the asset's estimated useful life, the change in the estimate will result in a new amount of depreciation expense in the current accounting year and in the remaining years of the asset's useful life.
What must be considered when disposing of an asset through a sale?
In a disposal by sale, the company compares the book value of the asset with the proceeds received from the sale. If the proceeds of the sale exceed the book value of the plant asset, a gain on disposal occurs. If the proceeds of the sale are less than the book value of the plant asset sold, a loss on disposal occurs
buildings cost
Includes all costs related directly to purchase or construction. Purchase costs: •Purchase price, closing costs (attorney's fees, title insurance, etc.) and real estate broker's commission. •Remodeling and replacing or repairing the roof, floors, electrical wiring, and plumbing. Construction costs: •Contract price plus payments for architects' fees, building permits, and excavation costs. DEPRECIATION METHOD: ANY
a control environment
It is the responsibility of top management to make it clear that the organization values integrity and that unethical activity will not be tolerated. This component is often referred to as the "tone at the top."
Checks which have been returned by the maker's bank for lack of funds.
NSF checks
What is depreciable cost? How is it used in depreciation calculations?
No matter what method is used, the total amount depreciated over the useful life of the asset is its depreciable cost. Depreciable cost is equal to the cost of the asset less its salvage value. it represents the total amount subject to depreciation
depreciated cost
No matter what method is used, the total amount depreciated over the useful life of the asset is its depreciable cost. Depreciable cost is equal to the cost of the asset less its salvage value.
Land Improvements
Structural additions with limited lives made to land. Cost includes all expenditures necessary to make the improvements ready for their intended use. -Examples: driveways, parking lots, fences, landscaping, and underground sprinklers. -Limited useful lives. -Expense (depreciate) the cost of land improvements over their useful lives. -DEPRECIATION METHOD: ANY
What are the adjusting entries related to interest?
The adjusting entry for accrued interest consists of an interest income and a receivable account from the lender's side, or an interest expense and a payable account from the borrower's side
Why are journal entries needed at the end of the bank reconciliation process?
The depositor (that is, the company) next must record each reconciling item used to determine the adjusted cash balance per books. If the company does not journalize and post these items, the Cash account will not show the correct balance.
Information and Communication
The internal control system must capture and communicate all pertinent information both down and up the organization, as well as communicate information to appropriate external parties.
Who should complete the bank reconciliation process?
To obtain maximum benefit from a bank reconciliation, an employee who has no other responsibilities related to cash should prepare the reconciliation.
control activities
To reduce the occurrence of fraud, management must design policies and procedures to address the specific risks faced by the company
canceled check
a paid check
how do we reports and analyze receivables in the financial statements?
accounts receivable turnover ratio and average collection period
EFT collections and other deposits
added to book balance
deposits in transit
added to the bank balance
straight-line depreciation method
allocates the depreciable cost of an asset in equal periodic amounts over its useful life
how does a petty cash fund work within the control environment?
authority and restrictions
The reconciling item in a bank reconciliation that will result in an adjusting entry by the depositor is:
bank service charges
insurance protection against misappropriation of assets
bonding employees
Checks which have been paid by the depositor's bank.
canceled checks
how is cash reported in the classified balance sheet?
cash and cash equivalents and restricted cash
mechanical and electronic control devices
cash registers, garment sensors and burglar alarms are examples
Two or more employees circumventing prescribed procedures.
collusion
what internal controls apply to cash discounts?
controls for receipts and controls for disbursements
book value
cost - accumulated depreciation
A company writes a check to replenish a $100 petty cash fund when the fund contains receipts of $94 and $4 in cash. In recording the replenishment, the company should
debit Cash Over and Short for $2.
NSF checks
deducted from book balance
service charges and other payments
deducted from book balance
How to do bank reconciliations help control cash?
detects and computes true cash balance
what are the methods for valuing receivables?
direct method and allowance method
what are the two methods of accounting for uncollectible accounts?
direct write off and allowance method.
bank errors
either added or deducted from bank balance
company errors
either added or deducted to book balance
the operation of a petty cash fund, called an imprest system, involves what?
establishing the fun, making payments from the fund, and replenishing the fund.
Permitting only designated personnel to handle cash receipts is an application of the principle of:
establishment of responsibility
useful life
estimate of the expected life based on need for repair, service life, and vulnerability to obsolescence
Interest Formula
face value of note x annual interest rate x time in terms of one year
Cash and cash equivalents are comprised of coins, currency (paper money), money orders, and NSF checks.
false. NSF checks should be reported as receivables
The control features of a bank account do not include:
having bank auditors verify the correctness of the bank balance per books. minimizing the amount of cash that must be kept on hand. providing a double record of all bank transactions. safeguarding cash by using a bank as a depository
Physical controls do not include:
independent bank reconciliations
Depreciation applies to three classes of plant assets:
land improvements, buildings, and equipment.
Sarbanes-Oxley Act (SOX)
law that requires publicly traded companies to maintain adequate systems of internal control
one who issues a check
maker
internal controls are NOT designed to safeguard assets from
natural disasters
Accounts Receivable Turnover
net credit sales/average net accounts receivable
A receivable that is evidenced by a formal instrument and that normally requires the payment of interest is a(n):
notes receivable
the most important element of the fraud triangle is
opportunity
the 3 main factors that contribute to fraudulent activity are...
opportunity, financial pressure, and rationalization
Issued checks that have not been paid by the bank.
outstanding checks
document indicating the purpose of a petty cash expenditure
petty cash receipt
Prevent a transaction from being recorded more than once.
prenumbered documents
cost is the
price needed to acquire the resource AND prepare it for its intended use.
what are plant assets referred to as?
property, plant, and equipment; plant and equipment; and fixed assets
An organization uses internal control to enhance the accuracy and reliability of accounting records and to:
safeguard assets
internal controls are concerned with
safeguarding assets
Having one person post entries to accounts receivable subsidiary ledger and a different person post to the Accounts Receivable Control account in the general ledger is an example of
segregation of duties
Which of the following is not an element of the fraud triangle?
segregation of duties
time lags
time lags prevent one of the parties from recording the transaction in the same period. EX: deposits in transit, outstanding checks, bank memorandum, errors. happens often.
Goal of internal control system?
to provide reasonable assurance that there are no material misstatements in the accounting system
Restricted cash is classified as either a current asset or noncurrent asset, depending on the circumstances.
true
human resource controls
•Bond employees who handle cash. •Rotate employees' duties and require vacations. •Conduct background checks.
physical controls
•Limit opportunities for theft, misuse, or damage of all assets. Applies to physical assets and electronic assets.
