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Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
1. The transaction does not meet the definition of a liability. A liability is defined as a present obligation, arising from past events, to make future payments of assets or services. A commitment to purchase is usually not an obligation and no past event (a purchase) has occurred since goods have not been delivered or services received.
2. (a) Notes payable differ from accounts payable in that notes have written
legal documentation that make collection easier if legal action is necessary. In addition, most notes are interest bearing. Notes also can extend for longer periods of time than accounts payable.
Accounts payable and notes payable are similar in that they are both promises to pay an amount in the future. Accounts payable and notes payable that result from purchase transactions are also known as trade payables.
(b) A note is different than an operating line of credit in that a note is for a
fixed amount and is repayable on a specific date. An operating line of credit is a pre-authorized loan from the bank that can be drawn down and repaid as required. Both lines of credit and notes payable may require collateral. Both are obligations to pay an amount in the future.
3. An operating line of credit is a pre-authorized bank loan that allows a
company to borrow up to a pre-set limit, and repay the loan, as needed. When the company borrows against its line of credit the cash account balance is increased and notes payable are increased.
A bank overdraft occurs when a bank account is overdrawn due to withdrawals and cheques in excess of deposit amounts. In this case the cash account will show a credit balance. There is no separate liability shown, as the overdraft is itself, a liability.
4. Disagree. The company only serves as a collection agent for the taxing
authority. It does not report sales taxes as revenue; it reports sales taxes as a current liability because it must forward the amount paid by the customer to the government.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
5. The property tax bill for the calendar year is usually not known until the
spring. If a company has a year-end prior to receiving the property tax bill, it would have to accrue an expense and estimated liability (for the months in the current calendar year) based on last year’s property tax bill. Otherwise, most companies would wait until they receive the property tax bill, and record property tax expense and property tax payable (a current liability) for the number of months in the year to date. When the property tax bill is paid, the liability will disappear and the company will record property tax expense for any intervening period of time and prepaid property tax (a current asset) for the remaining months in the year. As time passes, the company would record the property tax expense and credit the prepaid property tax account.
6. Laurel is not correct. Some long-term debts have portions that will be due
in the coming year. This portion is classified as a current liability since it will be paid within one year of the balance sheet date.
7. I don’t agree. Although you don’t know which specific appliances will be
returned for repair, you can estimate the cost of repairs that will be required under warranty based on past experience or industry information. If repair costs are not recorded until units are brought in, liabilities on the balance sheet will be understated and the expenses will not be properly matched with revenue on the income statement. If sales are increasing, this will probably result in an overstatement of income.
8. Estimated warranty liability is the estimated cost of servicing a product’s
warranty. Actual warranty costs incurred are costs for the repair or replacement of defective units. In most cases the estimated liability will not be the same amount as the actual expenditure incurred. The warranty liability is carried forward from year to year; each year it is increased by the amount of estimated expense and decreased by the amount of actual costs. Each year end the liability will have to be reviewed and the estimated expense will have to be increased if the actual costs have exceeded the previous estimated expense and decreased if the previous estimated expense has exceeded the actual costs. Companies will not make an adjustment to previous years’ estimates.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
QUESTIONS (Continued) 9. The company should estimate the number of vouchers that will likely be
used. It should record this estimate as a reduction to revenue (Dr. Sales Discount for Redemption Rewards Issued) in the period of the sale and as an estimated liability (Cr. Redemption Rewards Liability), to recognize the obligation the company has with respect to these coupons.
10. The cost of product warranties represents future costs for the repair or
replacement of defective units sold and therefore should be recorded as an expense of the period. Rewards are incurred in order to promote sales. When rewards result in a reduced selling price, it should be recorded as a reduction in sales or a decrease in revenues.
11. Gift cards are similar to unearned revenues in that they represent cash
received from customers for future products or services. They are classified as a liability because they are an obligation for the issuing company to provide assets or services in the future. Unearned passenger revenue usually has a determinable time at which the flight will be taken and the unearned revenue becomes earned. Gift cards however do not have a fixed date at which the obligation will be satisfied, and frequently are not used at all. This is similar to an operating line of credit in that the obligation can be satisfied in the current or long-term. In some cases, a portion or the entire amount of the gift card is not used at all. Over time, companies need to determine if a portion of this unearned revenue can be considered earned since the likelihood of redemption becomes more remote.
12. A determinable liability has a known amount, payee and due date. An
estimated liability is an obligation that exists but whose amount and timing are uncertain. There is no uncertainty about the existence of a determinable liability and an estimated liability. Under GAAP for Private Enterprises, a contingent liability is an obligation that is uncertain with respect to existence, timing and amount. The existence of a contingent liability depends on the resolution of a future event outside of the company’s control. Under IFRS, situations where it is probable an obligation exists and the amount can be reasonably estimated are treated as estimated liabilities. Contingent liabilities are possible obligations that it is not probable that the company will have to settle, or obligations for which the amount cannot be reliably measured.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
13. Under GAAP for Private Enterprises, a contingent liability is defined as a
possible obligation that will be confirmed by the occurrence or non-occurrence of an uncertain future event. A contingent liability may be recognized as a liability if it is likely that a present obligation exists and the amount can be reliably estimated. If these criteria are not satisfied, then note disclosure is appropriate (unless it is unlikely that an obligation exists). Under IFRS, a contingent liability is a possible obligation that does not meet the criteria for recognition and does not meet the definition of a liability. This includes a possible obligation that it is not probable that the company will have to settle, or a present obligation for which the amount cannot be reliably measured.
14. Under GAAP for Private Enterprises, if a contingent liability is both likely to
occur and reasonably estimable, it is recorded in the accounts. If its likelihood is not determinable, or if it is not reasonably estimable, it is not recorded in the accounts but disclosed in a note. If it is unlikely to occur, but could have a substantial negative effect on the company’s financial position, it should be disclosed. Otherwise, contingent liabilities are neither recorded nor disclosed.
Under IFRS, a contingent liability is never recorded because it is a possible liability that does not meet the criteria for recognition, either because it is not probable or the amount cannot be reliably measured. The criteria for recognition of an estimated liability are that it is likely a present obligation exists and that the amount can be reliably estimated.
15. A debt guarantee or loan guarantee is a guarantee that a loan will be
repaid. A loan guarantee is provided by an individual or a company other than the company who has obtained a loan from a lending institution. A loan guarantee is provided as collateral or protection to the lender in case the company who borrowed is unable to repay the loan.
A debt guarantee is an example of a contingent liability because the
liability is dependent on a future event, the lender honouring or not honouring their commitment to repay the loan.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
QUESTIONS (Continued) 16. A contingent liability is an existing situation involving uncertainty as to a
possible obligation, which will be resolved when one or more future events occur or fail to occur. An example of a contingent liability is a lawsuit that a company expects to lose but cannot estimate the amount of the judgement. Under IFRS, a contingent liability is a possible liability that does not meet the criteria for recognition, either because it is not probable or the amount cannot be reliably measured.
A contingent asset is an existing situation involving uncertainly that will
only be resolved when one or more future events occur or fail to occur. This event will confirm the existence of an asset. An example of a contingent asset is a lawsuit that could favour the company.
17. Under GAAP for Private Enterprises, the accounting treatment for a
contingent liability when it is likely and can be reasonably estimated is to accrue for the liability. The accounting treatment for a contingent asset when it is likely and reasonably estimable is to disclose the asset and the related gain. The asset and related gain will be recorded only when the asset and gain have been fully realized. The rationale behind this inconsistency is conservatism, where the goal is to be sure that any negative effect on investors and creditors is fully disclosed.
Under IFRS, a contingent liability is a possible liability that does not meet the criteria for recognition, either because it is not probable or the amount cannot be reliably measured. IFRS also allows for the recognition of a contingent asset if it is virtually certain that a gain will occur.
18. Salaries are specific amounts paid to employees per week, per month or
per year. Wages are amounts paid to employees on an hourly basis or on a piece work basis. However, the terms salaries and wages are often used interchangeably.
19. Gross pay is the amount an employee actually earns. Net pay, the amount
an employee is paid, is gross pay reduced by both mandatory and voluntary deductions, such as income tax, union dues, etc. Gross pay should be recorded as wages or salaries expense. The deductions are recorded as a liability and paid to the appropriate party rather than to the employee.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
20. Employee payroll deductions are the amount of payroll deductions
deducted from an employee’s gross pay. Mandatory employee payroll deductions include federal and provincial income taxes, Canada Pension Plan and Employment Insurance. When an employer withholds these amounts from an employee pay cheque, the employer is merely acting as a collection agent for the taxing body. Since the employer holds employees' funds, these withholdings are a liability for the employer until they are remitted to the government. Employee payroll deductions also include voluntary deductions for things such as insurance, pensions, union dues and donations to charities.
Employer payroll deductions are amounts the employer is expected to pay
that are charged on certain payroll deductions. These include CPP where the employer is expected to pay the same amount as the employee and EI where the employer is expected to pay 1.4 times the amount the employee has paid. These are expenses for the employer over and above gross pay.
21. The employee earnings record is used in (1) determining when an
employee has earned the maximum earnings subject to CPP and EI deductions, (2) filing information returns with the CRA, and (3) providing each employee with a statement of gross earnings and tax withholdings for the year on the T4 form.
The payroll register accumulates gross earnings, deductions, and net pay
for all employees for each pay period. It provides the documentation to support the preparation of the paycheque for each employee.
22. Income tax, CPP and EI deductions are remitted to the CRA, usually on a
monthly basis. Workplace, Health, Safety, and Compensation is remitted quarterly (or monthly depending on the province) to the Workplace, Health, Safety and Compensation Commission (or similar body depending on the province). Other deductions are paid to different organizations, such as the United Way, and would normally be made on a monthly basis.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
23. Paid absences refer to compensation paid by employers to employees for
vacations, sickness, and holidays. When the payment of such compensation is probable and the amount can be reasonably estimated, a liability should be accrued for paid future absences, which employees have earned. When this amount cannot be reasonably estimated, the potential liability should be disclosed. Other employee benefits include workplace health, safety and compensation, as well as health and dental insurance which are expensed on a monthly basis. Employers also occasionally pay for post-employment benefits such as pensions and supplemental health and dental care and life insurance. These post-employment benefits are accounted for using the accrual basis.
24. Current liabilities are usually listed in order of their liquidity, by maturity
date. They are also often listed in order of magnitude with the largest items listed first.
25. If companies have used their line of credit and are overdrawn or show a
negative cash balance, the amount is included in current liabilities and called bank indebtedness, bank overdraft or bank advances. Note disclosure will include security or collateral that was required by the bank, the maximum amount that can be withdrawn, as well as the interest rate charged on the bank overdraft.
26. Employee payroll deductions should be reported as a current liability.
Employer payroll costs should be reported on the income statement as an operating expense.
27. A company can determine if its current liabilities are too high by
monitoring the relationship of current assets to current liabilities and calculating the current ratio (current assets ÷ current liabilities). This relationship is critical in evaluating a company’s short term ability to pay debt.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition
QUESTIONS (Continued) *28. Contribution rates for CPP are set by the federal government and are
adjusted every January if there are increases in the cost of living. Employee contributions under the Canada Pension Plan Act are set at a percentage of pensionable earnings (currently 4.95%). Pensionable earnings are gross earnings less a basic yearly exemption (currently $3,500). A maximum ceiling or limit is imposed on pensionable earnings (currently $46,300). The exemption and ceiling are prorated to the relevant pay period (e.g. weekly, biweekly, semimonthly, monthly).
Contribution rates for EI are currently based upon a percentage (currently
1.73%) of insurable earnings, to a maximum earnings ceiling (currently $42,300). In most cases, insured earnings are gross earnings plus any taxable benefits.
*29. The amount deducted from an employee’s wages for income tax is
determined by using payroll accounting programs, CRA payroll deduction tables, tables on diskette, or payroll deductions online calculator. The income tax that should be withheld from gross wages is based on the number of personal tax credits claimed by an employee.
Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition