Accounting for Current Liabilities
Chapter 9
Wild, Shaw, and Chiappetta
Financial & Managerial Accounting
6th Edition
Copyright © 2016 McGraw-Hill Education. All rights reserved. No
reproduction or distribution without the prior written consent of
McGraw-Hill Education.
09-C1: Defining Liabilities
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11 - 3
Defining Liabilities
C1
3
11 - 4
Classifying Liabilities
C1
Current Liabilities
Long-Term
Liabilities
Expected to be paid
within one year or the
company’s operating
cycle, whichever is
longer.
Not expected to be
paid within one year
or the company’s
operating cycle,
whichever is longer.
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11 - 5
Current and Long-Term
Liabilities
Current Liabilities as a Percent of Total Liabilities
C1
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11 - 6
Uncertainty of Liabilities
Uncertainty in
Whom to Pay
Uncertainty in
When to Pay
Uncertainty in How
Much to Pay
C1
6
09-C2: Known Liabilities
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11 - 8
Known Liabilities
Accounts Payable
Sales Taxes Payable
Unearned Revenues
Short-Term Notes Payable
Payroll Liabilities
Multi-Period Known Liabilities
C2
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11 - 9
Sales Tax Payable
On August 31, Home Depot sold materials for
$6,000 that are subject to a 5% sales tax.
$6,000 × 5% = $300
C2
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11 - 10
Unearned Revenues
On June 30, Rihanna sells $5,000,000 in tickets for
eight concerts.
On Oct. 31, Rihanna performs a concert.
C2
$5,000,000 / 8 = $625,000
10
11 - 11
Multi-Period Known
Liabilities
Includes Unearned Revenues and Notes Payable
Unearned Revenues from
magazine subscriptions
often cover more than one
accounting period. A portion
of the earned revenue is
recognized each period and
the Unearned Revenue
account is reduced.
C2
Notes Payable often
extend over more than one
accounting period. A threeyear note would be
classified as a current
liability for one year and a
long-term liability for two
years.
11
09-P1: Short-Term Notes
Payable
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11 - 13
Short-Term Notes Payable
A written promise to pay a specified amount on a
definite future date within one year or the
company’s operating cycle, whichever is longer.
P1
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11 - 14
Note Given to Extend
Credit Period
On August 23, Brady Company asks McGraw to accept
$100 cash and a 60-day, 12% $500 note to replace its
existing $600 Account Payable.
P1
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11 - 15
Note Given to Extend
Credit Period
On October 22, Brady pays the note plus
interest to McGraw.
Interest expense = $500 × 12% × (60 ÷ 360) = $10
P1
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11 - 16
Note Given To Borrow
From Bank
P1
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11 - 17
Note Given To Borrow
From Bank
On Sept. 30, a company borrows $2,000 from a
bank at 12% interest for 60 days.
On Nov. 29, the company repays the principal of
the note plus interest.
P1
Interest expense = $2,000 × 12% × (60 ÷ 360) = $40
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11 - 18
End-of-Period Adjustment
to Notes
Note
Date
End of
Period
Maturity
Date
An adjusting entry is
required to record
Interest Expense
incurred to date.
P1
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11 - 19
End-of-Period Adjustment
to Notes
On Dec. 16, 2015, a company borrows $2,000 from a bank at 12% interest for 60
days. An adjusting entry is needed on December 31.
On Feb. 14, 2014, the company repays this principal and interest on the note.
P1
19
NEED-TO-KNOW
Part 1. A retailer sells merchandise for $500 cash on June 30 (cost of merchandise is $300). The sales tax
law requires the retailer to collect 7% sales tax on every dollar of merchandise sold. Record the entry for the
$500 sale and its applicable sales tax. Also record the entry that shows the remittance of the 7% tax on this
sale to the state government on July 15.
General Journal
Jun. 30
Jun. 30
Jul. 15
P1
Cash
Sales
Sales taxes payable
Cost of goods sold
Merchandise inventory
Sales taxes payable
Cash
Debit
535
Credit
500
35
($500 x .07)
300
300
35
35
20
NEED-TO-KNOW
Part 2. A ticket agency receives $40,000 cash in advance ticket sales for a four-date tour of Haim. Record
the advance ticket sales on April 30. Record the revenue earned for the first concert date of May 15,
assuming it represents one-fourth of the advance ticket sales.
General Journal
Apr. 30
May 15
P1
Cash
Unearned ticket revenue
Unearned ticket revenue
Earned ticket revenue
Debit
40,000
Credit
40,000
$40,000 / 4 concerts
10,000
10,000
21
NEED-TO-KNOW
Part 3. On November 25 of the current year, a company borrows $8,000 cash by signing a 90-day, 5% note
payable with a face value of $8,000. (a) Compute the accrued interest payable on December 31 of the
current year, (b) prepare the journal entry to record the accrued interest expense at December 31 of the
current year, and (c) prepare the journal entry to record payment of the note at maturity.
General Journal
Nov. 25
36
days
Dec. 31
54
days
Feb. 23
P1
Cash
Notes payable
Debit
8,000
Credit
8,000
Interest expense
Interest payable
($8,000 x .05 x 36/360)
Interest expense
Interest payable
Notes payable
Cash
($8,000 x .05 x 54/360)
($8,000 x .05 x 36/360)
40
40
60
40
8,000
8,100
22
09-P2: Payroll Liabilities
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11 - 24
Payroll Liabilities
Employers incur expenses and
liabilities from having employees.
P2
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11 - 25
Employee Payroll Deductions
P2
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11 - 26
Employee FICA Taxes
Federal Insurance Contributions Act (FICA)
FICA Taxes — Soc. Sec.
2014: 6.2% of the first
$117,000 earned in the
year.
FICA Taxes — Medicare
2014: 1.45% of all
wages earned in the
year.
Employers must pay withheld taxes to
the Internal Revenue Service (IRS).
P2
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11 - 27
Employee Income Tax
Federal
Income Tax
State and Local
Income Taxes
Amounts withheld depend on the employee’s earnings,
tax rates, and number of withholding allowances.
Employers must pay the taxes withheld from employees’
gross pay to the appropriate government agency.
P2
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11 - 28
Employee Voluntary Deductions
Amounts withheld depend on the employee’s request.
Examples include union dues, savings accounts, pension
contributions, insurance premiums, and charities.
Employers owe voluntary amounts withheld from
employees’ gross pay to the designated agency.
P2
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11 - 29
Recording Employee Payroll
Deductions
An entry to record payroll expenses and
deductions for an employee might look like this.
*Amounts taken from employee’s employment records
P2
29
09-P3: Payroll Expenses
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Employer Payroll Taxes
FICA Taxes
Medicare
Taxes
Federal and State
Unemployment
Taxes
Employers pay amounts equal to that withheld
from the employee’s gross pay.
P3
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11 - 32
Federal and State
Unemployment Taxes
Federal
Unemployment Tax
(FUTA)
State
Unemployment Tax
(SUTA)
P3
2014: 6.2% on the first
$7,000 of wages paid
to each employee. A
credit up to 5.4% is
given for SUTA paid,
therefore the net rate
is 0.6%.
2014: Basic rate of
5.4% on the first
$7,000 of wages paid
to each employee.
Merit ratings may
lower SUTA rates. 32
11 - 33
Recording Employer
Payroll Taxes
An entry to record the employer payroll
taxes for January might look like this.
SUTA: $2,000 x 5.4% = $108
FUTA: $2,000 x (0.6) = 12
P3
FICA amounts are the same as that withheld
from the employee’s gross pay.
33
NEED-TO-KNOW
A company’s first weekly pay period of the year ends on January 8. On that date, the column totals in its
payroll register show that sales employees earned $30,000, and office employees earned $20,000 in
salaries. The employees are to have withheld from their salaries FICA Social Security taxes at the rate of
6.2%, FICA Medicare taxes at the rate of 1.45%, $9,000 of federal income taxes, $2,000 of medical
insurance deductions, and $1,000 of pension contributions. No employee earned more than $7,000 in the
first pay period.
Part 1) Compute FICA Social Security taxes payable and FICA Medicare taxes payable. Prepare the
journal entry to record the company’s January 8 (employee) payroll expenses and liabilities.
Jan. 8
P2/P 3
General Journal
Sales salaries expense
Office salaries expense
FICA - Social security taxes payable
($50,000 x .062)
FICA - Medicare taxes payable
($50,000 x .0145)
Employee federal income taxes payable
Employee medical insurance payable
Employee pensions payable
Salaries payable
Debit
30,000
20,000
Credit
3,100
725
9,000
2,000
1,000
34,175
34
NEED-TO-KNOW
Part 2) Prepare the journal entry to record the company’s (employer) payroll taxes resulting from the January
8 payroll. Its merit rating reduces its state unemployment tax rate to 3.4% of the first $7,000 paid to each
employee. The federal unemployment tax rate is 0.6%.
Jan. 8
Jan. 8
P2/P3
General Journal
Sales salaries expense
Office salaries expense
FICA - Social security taxes payable
($50,000 x .062)
FICA - Medicare taxes payable
($50,000 x .0145)
Employee federal income taxes payable
Employee medical insurance payable
Employee pensions payable
Salaries payable
Debit
30,000
20,000
Payroll taxes expense
5,825
FICA - Social security taxes payable
($50,000 x .062)
FICA - Medicare taxes payable
($50,000 x .0145)
SUTA - State unemployment taxes payable ($50,000 x .034)
FUTA - Federal unemployment taxes payable ($50,000 x .006)
Credit
3,100
725
9,000
2,000
1,000
34,175
3,100
725
1,700
300
35
09-P4: Estimated Liabilities
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11 - 37
Estimated Liabilities
An estimated liability
is a known
obligation of an
uncertain amount,
but one that can be
reasonably
estimated.
P4
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11 - 38
Health and Pension Benefits
Employer expenses for pensions or medical,
dental, life, and disability insurance
Assume an employer agrees to pay an amount
for medical insurance equal to $8,000, and
contribute an additional 10% of the employees’
$120,000 gross salary to a retirement program.
P4
38
11 - 39
Vacation Benefits
Assume an employee earns $20,800 per year
and earns two weeks of paid vacation each year.
$20,800 ÷ 50 weeks = $416
$20,800 ÷ 52 weeks = $400
Weekly vacation benefit $ 16
P4
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11 - 40
Bonus Plans
Assume that a bonus will be paid to employees
equal to 5% of the company’s annual net income
of $210,000.
B = .05 ($210,000 - B)
B = $10,500 - 0.05B
1.05B = $10,500
B = $10,500 / 1.05
*B = $10,000
P4
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Warranty Liabilities
Seller’s obligation to replace or correct a product (or
service) that fails to perform as expected within a
specified period. To comply with the full disclosure
and matching principles, the seller reports expected
warranty expense in the period when revenue from
the sale is reported.
P4
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11 - 42
Warranty Liabilities
On Dec. 1, 2015, a dealer sells a car for $16,000 with a
maximum one-year or 12,000 mile warranty covering parts.
Past experience indicates warranty expenses average 4%
of a car’s selling price.
On Jan. 9, 2016, the customer returns the car for repairs.
The dealer replaces parts costing $200.
P4
42
09-C3: Contingent Liabilities
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Accounting for
Contingent Liabilities
C3
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11 - 45
Reasonably Possible
Contingent Liabilities
Potential Legal Claims – A potential claim is
recorded if the amount can be reasonably estimated
and payment for damages is probable.
Debt Guarantees – The guarantor usually
discloses the guarantee in its financial statement
notes. If it is probable that the debtor will default, the
guarantor should record and report the guarantee as
a liability.
C3
45
NEED-TO-KNOW
A company’s salaried employees earn two weeks vacation per year. It pays $208,000 in total employee
salaries for 52 weeks but its employees work only 50 weeks. This means its total weekly expense
is $4,160 ($208,000 / 50 weeks) instead of the $4,000 cash paid weekly to the employees
($208,000 / 52 weeks). Record the company’s regular weekly vacation benefits expense.
Weekly
P4/C3
General Journal
Vacation benefits expense
($4,160 - $4,000)
Vacation benefits payable
Debit
160
Credit
160
46
NEED-TO-KNOW
For the current year ended December 31, a company has implemented an employee bonus program equal
to 5% of its net income, which employees will share equally. Its net income (pre-bonus) is expected to be
$840,000, and bonus expense is deducted in computing net income. (a) Compute the bonus payable to the
employees at year-end using the method described in the chapter and round to the nearest dollar; then,
prepare the journal entry at December 31 of the current year to record the bonus due. (b) Prepare the journal
entry at January 20 of the following year to record payment of that bonus to employees.
B = .05($840,000 - B)
B = $42,000 - .05B
1.05 B = $42,000
B = $40,000
Dec. 31
Jan. 20
P4/C3
General Journal
Employee bonus expense
Bonus payable
Debit
40,000
Bonus payable
Cash
40,000
Credit
40,000
40,000
47
NEED-TO-KNOW
On June 11 of the current year, a retailer sells a trimmer for $400 with a one-year warranty that covers parts.
Warranty expense is estimated at 5% of sales. On March 24 of the next year, the trimmer is brought in for
repairs covered under the warranty requiring $15 in materials taken from the Repair Parts Inventory. Prepare
the (a) June 11 entry to record the trimmer sale, and (b) March 24 entry to record warranty repairs.
General Journal
Jun. 11
Jun. 11
Mar. 24
P4/C3
Cash
Sales
Warranty expense
Estimated warranty liability
Estimated warranty liability
Repair parts inventory
Debit
400
Credit
400
($400 x .05)
20
20
15
15
48
NEED-TO-KNOW
The following legal claims exist for a company. Identify the accounting treatment for each claim
as either (i) a liability that is recorded or (ii) an item described in notes to its financial statements. If an
item is to be recorded, prepare the entry.
a. The company (defendant) estimates that a pending lawsuit could result in damages of $500,000; it is
reasonably possible that the plaintiff will win the case. (ii) Is reasonably estimated but not a probable loss.
b. The company faces a probable loss on a pending lawsuit; the amount is not reasonably estimable.
(ii) Probable loss but cannot be reasonably estimated.
c. The company estimates environmental damages in a pending case at $900,000 with a high probability of
losing the case.
(i)
P4/C3
General Journal
Environmental contingent expense
Environmental contingent liability
Debit
900,000
Credit
900,000
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Global View
Characteristics of Liabilities
Accounting definitions and characteristics of current liabilities are
similar for U.S. GAAP and IFRS. Sometimes IFRS will use the
word “provision” to refer to a “liability.”
Known (Determinable) Liabilities
Both U.S. GAAP and IFRS require companies to treat known (or
determinable) liabilities in a similar manner. Examples would be
accounts payable, unearned revenues, and payroll liabilities.
Estimated Liabilities
Regarding estimated liabilities, when a known current obligation
that involves an uncertain amount, but one that can be reasonably
estimated, both U.S. GAAP and IFRS require similar treatment.
50
09-A1: Times Interest Earned
Ratio
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11 - 52
Times Interest Earned
Times interest
=
earned
Income before interest
and income taxes
Interest expense
If income before interest and taxes varies greatly from
year to year, fixed interest charges can increase the
risk that an owner will not earn a positive return and
be unable to pay interest charges.
A1
52
09-P5: Payroll Reports,
Records, and Procedures
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Appendix 9A: Payroll
Reports, Records, and Procedures
Payroll Reports
IRS Form 941
IRS Form 940
Payroll Records
Payroll Register
Payroll Checks
Employee
Earnings Report
W-2
Payroll Procedures
Withholding Tables
P5
W-4
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Appendix 9B:
Corporate Income Taxes
Corporations must pay taxes on income.
Deferred Income Tax Liabilities
55
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End of Chapter 9
56