10
Current Liabilities
and Payroll
1
Current Liabilities
Liabilities that are to be paid out of
current assets and are due within a
short time, usually within one year,
are called current liabilities.
• Accounts payable
• Current portion of long-term debt
• Notes payable
10-2
1
Current Liabilities
Accounts payable arise from
purchasing goods or services for use
in a company’s operations or for
purchasing merchandise for resale.
10-3
1
Exhibit 1
10-4
Accounts Payable as a Percent
of Total Current Liabilities
1
Current Portion of Long-Term Debt
Long-term liabilities are often paid
back in periodic payments, called
installments. Installments that are
due within the coming year must be
classified as a current liability.
10-5
1
Long-Term Liabilities
The total amount of the
installments due after the
coming year is classified as
a long-term liability.
10-6
1
Short-Term Notes Payable
A firm issues a 90-day, 12% note for $1,000,
dated August 1, 2008 to Murray Co. for a
$1,000 overdue account.
10-7
1
Short-Term Notes Payable
On October 30, when the note matures, the
firm pays the $1,000 principal plus $30
interest ($1,000 × 12% × 90/360).
Interest Expense appears
on the income statement
as an “Other Expense.”
10-8
1
Short-Term Notes Payable
On May 1, Bowden Co. (borrower)
purchased merchandise on account
from Coker Co. (creditor), $10,000,
2/10, n/30. The merchandise cost
Coker Co. $7,500.
10-9
1
Bowden Co. (Borrower)
Description
Debit Credit
Mdse. Inventory
10,000
Accounts Payable
10,000
Coker Co. (Creditor)
Description
Accounts Receivable
Sales
Cost of Mdse. Sold
Mdse. Inventory
10-10
Debit Credit
10,000
10,000
7,500
7,500
1
Bowden Co. (Borrower)
Description
Accounts Payable
Notes Payable
Debit
Credit
10,000
10,000
Coker Co. (Creditor)
On May 31, Bowden
Co. issued a 60-day,
12% note for $10,000
to Coker Co. on
account.
10-11
Description
Debit Credit
Notes Receivable
10,000
Accounts Receivable
10,000
1
Bowden Co. (Borrower)
Description
Debit
Notes Payable
Interest Expense
Cash
10,000
200
On July 30, Bowden Co.
paid Coker Co. the
amount due on the note
of May 31. Interest:
$10,000 × 12% × 60/360.
10-12
Credit
10,200
Coker Co. (Creditor)
Description
Debit
Credit
Cash
10,200
Interest Revenue
200
Notes Receivable
10,000
1
Short-Term Notes Payable
On September 19, Iceburg Company issues a
$4,000, 90-day, 15% note to First National Bank.
10-13
1
Short-Term Notes Payable
On the due date of the note (December
18), Iceburg Company owes $4,000 plus
interest of $150 ($4,000 × 15% ×
90/360).
10-14
2
Payroll refers to the amount paid to employees for the
services they provide during a period. A company’s
payroll is important for the following reasons:
1. Employees are sensitive to payroll errors and
irregularities.
2. Good employee morale requires payroll to be paid
timely and accurately.
3. Payroll is subject to various federal and state
regulations.
4. Payroll and related payroll taxes significantly affect
the net income of most companies.
10-15
2
Payroll and Payroll Taxes
Salary usually refers to
payment for managerial and
administrative services. Salary
is normally expressed in terms
of a month or a year.
10-16
2
Payroll and Payroll Taxes
Wages usually refers to payment
for employee manual labor. The
rate of wages is normally stated
on an hourly or weekly basis.
10-17
2
Computing Employee’s Earnings
John T. McGrath is employed by McDermott
Supply Co. at the rate of $34 per hour, plus 1.5
times the normal hourly rate for hours over 40
per week. For the week ended December 27,
McGrath worked 42 hours.
Earnings at regular rate (40 × $34)
Earnings at overtime rate (2 × $51)
Total earnings
10-18
$1,360
102
$1,462
2
Payroll and Payroll Taxes
The total earnings of an employee
for a payroll period are called gross
pay. From this is subtracted one or
more deductions to arrive at the net
pay. Net pay is the amount that the
employer must pay the employee.
10-19
2
FICA Tax
The amount of FICA tax withheld is
the employees’ contribution to two
federal programs. The first program,
called social security, is for old age,
survivors, and disability insurance
(OASDI). The second program, called
Medicare, provides health insurance
for senior citizens.
10-20
2
John T. McGrath’s FICA Tax
John T. McGrath’s annual earnings prior to the payroll
period ending on December 27 total $99,038.
Earnings subject to 6% social
security tax ($100,000 – $99,038)
Social security tax rate
Social security tax
Earnings subject to 1.5%
Medicare tax
Medicare tax rate
Medicare tax
Total FICA tax
10-21
$ 962
× 6%
$57.72
$1,462
× 1.5%
21.93
$79.65
2
John T. McGrath’s Net Pay
Gross earnings for the week
Deductions:
Social security tax (Slide 35)
Medicare tax (Slide 35)
Federal income tax (Slide 31)
Retirement savings
United Way
Total deductions
Net pay
10-22
$1,462.00
$ 57.72
21.93
268.45
20.00
5.00
373.10
$1,088.90
2
Liability for Employer’s
Payroll Taxes
Employers are subject to the following payroll
taxes for amounts paid their employees:
1. FICA tax
2. Federal Unemployment Compensation
Tax (FUTA)
3. State Unemployment Compensation Tax
(SUTA)
10-23
2
Employer’s Federal Payroll Taxes
Employers are required to
contribute to the social security
and Medicare programs for each
employee. The employer must
match the employee’s
contribution to each program.
10-24
2
Employer’s Federal
Unemployment Taxes
A FUTA tax of 6.2% is levied on
employers only to provide for temporary
unemployment to those who become
unemployed as a result of layoffs due to
economic causes beyond their control.
This tax applies to only the first $7,000 of
the earnings of each covered employee
during a calendar year.
10-25
2
Employer’s State
Unemployment Taxes
This employer tax also provides temporary
payments to those who become
unemployed. The FUTA and SUTA
programs are closely coordinated, with the
states distributing the unemployment
checks. SUTA tax rates and earnings
subject to tax vary by state.
10-26
2
Exhibit 4
10-27
Responsibility for Tax Payments
3
Internal Controls for Payroll Systems
1. If a check-signing machine is used, blank
payroll checks and access to the machine
should be restricted to prevent their theft.
2. The hiring and firing of employees should
be properly authorized and approved in
writing.
3. All changes in pay rates should be properly
authorized and approved in writing.
10-28
(continued)
3
4. Employees should be observed when
arriving for work to verify they are
“checking in” for work only once and only
for themselves.
5. Payroll checks should be distributed by
someone other than employee supervisors.
6. A special payroll bank account should be
used.
10-29
4
Employees’ Fringe Benefits
Many companies provide their
employees a variety of benefits
in addition to salary and wages
earned. Such fringe benefits
may take many forms, including
vacations, medical, and
retirement benefits.
10-30
4
Exhibit 9
10-31
Benefit Dollars as a Percent of Payroll Costs
4
Vacation Pay
Most employers grant vacation rights,
sometimes called compensated absences, to
their employees. The estimated vacation pay
for the year ending December 31 is $325,000.
325,000
325,000
10-32
4
Pension
A pension represents a cash payment
to retired employees. Rights to
pension payments are earned by
employees during their working
years, based on the pension plan
established by the employer.
10-33
4
Defined Contribution Plan
In a defined contribution plan,
a fixed amount of money is
invested on the employee’s
behalf during the employee’s
working years.
10-34
4
Heaven Scent Perfumes Co.
The pension plan of Heaven Scent
Perfumes Company requires an
employer contribution of 10% of
employee monthly salaries to an
employee 401k plan. December
salaries totaled $500,000, so
$50,000 was sent to the employees’
plan administrator.
10-35
4
Heaven Scent Perfumes Co.
The entry to record the payment to the plan
administrator is shown below:
10-36
4
Defined Benefit Plan
In a defined benefit plan,
employers promise employees a
fixed annual pension benefit at
retirement, based on years of
service and compensation levels.
10-37
4
Postretirement Benefits
Other Than Pensions
Employees may earn rights to other
postretirement benefits, such as
dental care, eye care, medical care,
life insurance, tuition assistance, tax
services, and legal services.
10-38
5
Contingent Liabilities
Some liabilities may arise from past
transactions if certain events occur
in the future. These potential
obligations are called contingent
liabilities.
10-39
5
Contingent Liabilities
The accounting for contingent
liabilities depends on the following two
factors:
1. Likelihood of occurring: Probable,
reasonably possible, or remote.
2. Measurement: Estimable or not
estimable.
10-40
5
Recording Contingent Liabilities
During June, a company sells a product for
$60,000 on which there is a 36-month
warranty. Past experience indicates that the
average cost to repair defects is 5% of the
sales price over the warranty period.
10-41
5
Recording Contingent Liabilities
If a customer required a $200 part
replacement on August 16, the entry would
be:
10-42
5
Exhibit 10
10-43
Accounting Treatment of Contingent Liabilities