Chapter 22 – Group Work
1) XYZ Co. has depreciated its equipment for 3 years using Double-Declining Balance Method. In 2014,
they chose to change depreciation methods to Straight-Line. No changes were made in estimates of
useful life or salvage value. Prepare a journal entry to record depreciation for 2014 under the new
method.
Purchased January 1, 2011
Equipment Cost
$360,000
Salvage Value
$60,000
Useful Life
8 years
Double-Declining Balance Method
2011
360,000 * .25 = $90,000
2012
(360,000 – 90,000) * .25 = $67,500
2013
(360,000 – 90,000 – 67,500) * .25 = 50,625
360,000
(208,125)
151,875
Cost
Accumulated Depreciation
Book Value in 2014 – New Cost Basis
8
(3)
5
Estimated Useful Life at Date of Purchase
Years of Use as of 2014
Years of Life Remaining
(151,875 – 60,000)
5
=
$18,375
Depreciation Expense for 2014
using Straight-Line
2014
Depreciation Expense
Accumulated Depreciation
DR
18,375
CR
18,375
2) Assume XYZ Co. changed from Completed Contract to Percentage of Completion for long-term
construction contracts at the end of 2014. The Tax Rate is 40%. Assume XYZ Co. continues to use
Completed Contract for Tax Purposes. Accounting records for the current year 2014 have not yet been
closed to Retained Earnings.
The following information is reported as the difference in Pretax Income between the two accounting
methods:
2013
2014
To
% of Completion
$480,000
$312,000
Pretax Income
From
Completed Contract
$340,000
$200,000
Difference
$140,000
$112,000
a) Prepare a journal entry to adjust for the effects of a Change in Accounting Principle on the prior
year.
2013 Income Statement Accounts & Retained Earnings
Income, Retained Earnings Understated - $140,000
Tax Expense Understated/ Retained Earnings Overstated - $56,000
Balance Sheet Accounts
Deferred Tax Liability – Understated $56,000
Construction in Progress – Understated $140,000
DR
Construction In Progress
Deferred Tax Liability
Retained Earnings
CR
140,000
56,000
84,000
b) Assume XYZ Co. had a January 1, 2014 balance in Retained Earnings of $820,000, Net Income of
$267,200, and Dividends of $100,000. Prepare a Statement of Retained Earnings for 2014.
Statement of Retained Earnings 2014
Retained Earnings Balance January 1, 2014
Prior Period Adjustment
Adjusted Retained Earnings Balance January 1, 2014
Net Income
Dividends
Retained Earnings Balance December 31, 2014
820,000
84,000
904,000
267,200
(100,000)
1,071,200
3) XYZ Co. started reporting under IFRS and is required to change their inventory system from a LIFO to a
FIFO cost flow assumption [assume inflation has taken place in prior years]. The cumulative effect of
all prior years’ Pretax Income under the new FIFO method is an increase of $360,000. The Tax Rate is
35%. What would be the required entry to adjust affected accounts in prior periods for this Change
in Accounting Principle?
Prior Years Income Statement Accounts & Retained Earnings
Income, Retained Earnings Understated - $360,000
Tax Expense Understated/ Retained Earnings Overstated - $126,000
Balance Sheet Accounts
Deferred Tax Liability – Understated $126,000
Inventory – Understated $360,000
DR
Inventory
Deferred Tax Liability
Retained Earnings
CR
360,000
126,000
234,000
4) You have been assigned to examine financial statements of XYZ Co. for the year ended December 31,
2014. You discover the following errors. Assume the books for fiscal year 2014 have not yet been
closed. Disregard Tax effects. Prepare an adjusting journal entry to correct errors for the prior years
and the current year.
a. The physical count of Inventory on December 31, 2013 improperly counted $50,000 of inventory
twice – overstating the final count by $50,000. XYZ Co. uses a Periodic Inventory system.
2013
Cost of Goods Sold – Understated $50,000
Income and Retained Earnings – Overstated $50,000
2014
Cost of Goods Sold – Overstated $50,000
DR
Retained Earnings
Cost of Goods Sold
CR
50,000
50,000
b. In 2014, XYZ Co. sold equipment for $6,000. The equipment was fully depreciated at the time of
sale and had no salvage value. The original cost of the equipment was $30,000. To record the
collection of proceeds from the sale, the company debited cash and incorrectly credited
Accumulated Depreciation.
Equipment
Current
Balance
30,000
30,000
Target
Balance
0
Adjustment
Accumulated
Depreciation
36,000
36,000
Adjustment
0
Current Balance
Target Balance
Gain on Sale
6,000
Adjustment
6,000
Target Balance
DR
Accumulated Depreciation
Equipment
Gain on Sale
CR
36,000
30,000
6,000
c. At the beginning of 2011, XYZ Co. purchased equipment for $380,000. Management estimated the
equipment would have a useful life of 10 years and a salvage value of $80,000. The bookkeeper
used Straight-Line depreciation but failed to deduct the salvage value in computing the
depreciation base for the years 2011, 2012, 2013, and the current year 2014.
Straight-Line Error
380,000
10
=
38,000 Depreciation Expense each year
38,000 * 3 = 114,000 Accumulated Depreciation
Straight-Line Correct Calculation
380,000-80,000
10
=
30,000 Depreciation Expense each year
30,000 * 3 = 90,000 Accumulated Depreciation
114,000
(90,000)
24,000
Accumulated Depreciation current balance
Accumulated Depreciation correct balance
Overstatement of Accumulated Depreciation and
Prior Year Depreciation Expense
2011-2013
Depreciation Expense – Overstated $24,000
Income and Retained Earnings – Understated $24,000
Accumulated Depreciation – Overstated $24,000
2014
Depreciation Expense - Overstated $8,000
Accumulated Depreciation – Overstated $8,000
DR
Accumulated Depreciation
Retained Earnings
Depreciation Expense
CR
32,000
24,000
8,000
d. At the end of 2013, XYZ failed to accrue Salaries of $40,000.
2013
Salaries Expense – Understated $40,000
Income and Retained Earnings – Overstated $40,000
2014
Salaries Expense – Overstated $40,000
DR
Retained Earnings
Salaries Expense
CR
40,000
40,000
e. XYZ Co. purchased a Patent from another company in early 2011 for $180,000. XYZ Co. had not
amortized the Patent since that date. On the date the Patent was purchased, the expected useful
life and legal life were 15 years.
Patent Amortization
180,000 = 12,000 * 3 = 36,000 Correct Accumulated Amortization for the prior 3 years
15
2011-2013
Amortization Expense – Understated $36,000
Income and Retained Earnings – Overstated $36,000
Accumulated Amortization – Understated $36,000
2014
Amortization Expense - Understated $12,000
Accumulated Amortization – Understated $12,000
DR
Retained Earnings
36,000
Amortization Expense
12,000
Accumulated Amortization*
CR
48,000
*That may also be a credit to Patent if the company chooses not to use a contra asset
account for the Patent to accrue amortization.
f. A $12,000 Insurance premium paid on July 1, 2013 for a policy that expires on June 30, 2016 (3 year
policy) was charged to Insurance Expense on the date of purchase. Adjusting entry is made on
December 31, 2014.
7/1/2013-----------------12/2013-----------------12/2014---------------12/2015-----------------6/30/2016
3 year Insurance Policy
6 Six-month Periods over life of Policy
$12,000/6 periods = $2,000 Risk Coverage for each 6-month period
2013
Insurance Expense – Overstated $10,000
Income and Retained Earnings – Understated $10,000
2014
Insurance Expense – Understated $4,000
Prepaid Insurance – Understated $6,000
DR
Insurance Expense
Prepaid Insurance
Retained Earnings
CR
4,000
6,000
10,000