Unit 2 - D104

Watauga Company had the following events:

Purchase of equipment on July 1, 2017 for $70,000

Sales tax on the purchase was $700

Other costs of freight charges of $800

Insurance during shipping of $ 150

Repairs of $1,300 for damage during installation

Installation costs of $1, 050

What is the cost of the equipment?

$72,700

The cost of a piece of equipment includes all expenditures incurred in acquiring the equipment and preparing it for use. Therefore the cost includes the cost of $70,000, sales tax of $700, freight charges of $800, insurance of $ 150, and installation costs of $1,050. The repair costs of $1,300 are expensed and not included in the capitalized cost of the equipment.

What is the cost of the equipment?

The cost of a piece of equipment includes all expenditures incurred in acquiring the equipment and preparing it for use

Cotton Hotel Corporation recently purchased Emporia Hotel and the land on which it is located with the plan to tear down the Emporia Hotel and build a new luxury hotel on the site.

How shoud the cost of the Emporia Hotel be treated?

Capitalized as part of the cost of the land

If a company purchases land with an old building on it, then the cost of demolition less its salvage value is a cost of getting the land ready for its intended use and relates to the land rather than to the new building.

Therefore, the cost of the Emporia hotel is capitalized as part of the cost of the land.

How are fences and parking lots reported on the balance sheet?

Land improvements

Improvements with limited lives, such as driveways, walks, fences, and parking lots are classified on the balance sheet as Land Improvements and depreciated over their estimated lives.

Land was purchased to be used as the site for the construction of a plant. A building on the property was sold and removed by the buyer so that construction on the plant could begin.

'How should the proceeds from the sale of the building be treated?

Deducted from the cost of the land

If a company purchases land with an old building on it, then the cost of demolition less its salvage value is a cost of getting the land ready for its intended use and relates to the land rather than to the new building. Therefore, the proceeds from the sale of the old building is deducted from the cost of the land.

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Wilson Co. purchased land as a factory site for $1,350,000.

Wilson paid $120,000 to tear down two buildings on the land.

Salvage was sold for $8,100.

Legal fees of $5,220 were paid for title investigation and making the purchase.

Architect's fees were $46,800. Title insurance cost $3,600, and liability insurance during construction cost $3,900.

Excavation cost $15,660.

The contractor was paid $4,200,000.

An assessment made by the city for pavement was $9,600.

At what cost should Wilson Co record the land?

1,480,320

Removal of old buildings—clearing, grading, and filling—is a land cost because this activity is necessary to get the land in condition for its intended purpose. Architect Fees, liability insurance, and excavation are included in the cost of the building.

Therefore, the cost of the land is calculated as: $1,350,000 + $120,000 - $8,100 + $5,220 + $3,600 + $9,600 = $1,480,320.

At what cost should Wilson Co record the land?

Removal of old buildings—clearing, grading, and filling—is a land cost because this activity is necessary to get the land in condition for its intended purpose.

Cost of the building

Architect Fees, liability insurance, and excavation

How does GAAP recommend accounting for interest costs incurred during construction?

Capitalize the actual interest cost for the period incurred during the period

Using this approach ignores the implicit interest cost associated with the use of the cash. GAAP requires only the actual interest costs incurred during construction be capitalized. This method follows the historical cost principle.

What assets qualify for interest cost capitalization?

Assets that are under construction for a company's own use

For the purposes of interest cost capitalization, qualifying assets must require a period of time to get the asset ready for their intended purposes. Assets that do not qualify include assets that are currently in use, assets that are ready for their intended use, or assets that are not in use due to excess capacity or obsolescence.

When computing the amount of interest cost to be capitalized, What does the concept of "avoidable interest" refer to?

That portion of total interest cost which would not have been incurred if expenditures for asset construction had not been made

Avoidable interest is the amount of interest cost during the period that a company could theoretically avoid if it had not made the decision to purchase the asset in the first place.

What best describes the correct treatment of the interest costs capitalized during the period of construction when a company purchases land as a site for a plant?

Regard as a cost of the plant

Interest costs may only be included in the cost of qualifying assets, or assets that are constructed for the company's own use and those assets intended to be sold/leased. Interest costs are not allocated to assets that are ready for their intended use already or assets that are not used in the company's earnings activities, such as land or assets otherwise not in use.

What is the cost of property acquired by the issuance of securities, which are actively traded on an organized exchange, equal to?

The market value of the securities

The market value of the securities is used to determine the fair market value of the property.

Burchell Company purchased land and a building for a lump sum cost of $420,000. The land has a fair market value of $160,000 and the building has a fair market value of $320,000.

What is the cost assigned to the land?

140,000

When a purchase is made at a lump-sum price, the company allocates the cost based on the relative fair values of the assets. The land has a fair value of $160,000/($160,000 + $320,000) or 33.333333%. The cost allocated to the land is $420,000 x 33.3333333% or $140,000.

At what value should assets acquired in a lump sum purchase be recorded?

Relative fair market values

When a purchase is made at a lump-sum price, the company allocates the cost based on the relative fair values of the assets.

Major Types of Expenditures

Additions. Increase or extension of existing assets.

Improvements and Replacements. Substitution of an improved asset for an existing one.

Rearrangement and Reinstallation. Movement of assets from one location to another.

Repairs. Expenditures that maintain assets in condition for operation.

How are expenditures that extend the useful life of a plant asset without improving its quantity or quality accounted for?

By debiting accumulated depreciation

If an expenditure increases the life of an asset, but does not increase the quality nor quantity, a debit to the accumulated deprecation account is needed as the useful life of the asset has been extended.

In accounting for plant assets, what outlay, made subsequent to acquisition, should be fully expensed in the period the expenditure is made?

Expenditures made to maintain an existing asset

Repairs, ordinary costs to maintain or return an asset to its existing level of service, however, are expensed.

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On January 2, 2020, York Corp. replaced its boiler with a more efficient one. The following information was available on that date:

Purchase price of new boiler $150,000

Carrying amount of old boiler $10,000

Fair value of old boiler $4,000

Installation cost of new boiler $20,000

The old boiler was sold for $4,000.

What amount should York capitalize as the cost of the new boiler?

$170,000

When an asset is replaced, the cost and accumulated depreciation of the old asset is removed and any gain or loss is recognized. The new piece of equipment is recorded as a new asset.

The cost of the new boiler is $150,000 + $20,000 Installation = $170,000

Delta River Company sold manufacturing equipment with a cost of $44,000 and accumulated depreciation of $32,000 for $9,000.

What should be included in the journal entry to record this transaction?

A debit to a loss account for $3,000

When an asset is sold, the asset account and the accumulated depreciation (contra-asset) account are "zeroed-out" and the resulting difference is the cost basis of the asset to determine if the asset was sold at a gain or a loss. In this example, the book basis was $44,000 (original value) less $32,000 (accumulated depreciation = $12,000. Since the asset was sold for $9,000, the journal entry must include a debit to the loss on the sale of asset account. The complete journal entry would be: Debit Cash $9,000, Debit Accumulated Depreciation $32,000, Debit Loss $3,000, Credit Equipment $44,000.

Bogle Company purchased machinery for $320,000 on January 1, 2014. Straight-line depreciation has been recorded based on a $20,000 salvage value and a 5-year useful life. The machinery was sold on May 1, 2018 at a gain of $6,000.

How much cash did Bogle receive from the sale of the machinery?

$66,000

Typically a company will record depreciation for the period of time in the current year prior the date of sale.The depreciable basis of the asset is $320,000 less the $20,000 salvage value, or $300,000. Annual depreciation expense is $300,000 / 5 years = $60,000 / year. Accumulated Depreciation = $60,000 (2014) + $60,000 (2015) + $60,000 (2016) + $60,000 (2017) + $20,000 [60,000 x (4 month / 12 month)] = $260,000 Book Value = $320,000 (original cost) - $260,000 (accumulated depreciation) = $60,000. Sales Price - Book Value = Gain/Loss Sales Price - $60,000 = $6,000; Sales Price = $66,000"

Which term is used to describe the termination of an asset's service due to theft, fire, etc.?

Involuntary conversion

The term involuntary conversion is used to describe the loss of an asset due to theft, fire, natural disaster, etc.

Which method should be used to handle the interest incurred during financing the construction of property, plant, and equipment?

Capitalize the lower of the amount of actual interest incurred or the avoidable interest during construction

Which statement describes an involuntary conversion?

It may result from destruction caused by fire.

Company X purchased the assets of Company Y at an auction for $5,600,000. An independent appraisal of the fair value of the assets is listed below:

Land: $1,900,000Building: 2,800,000Equipment: 2,100,000Trucks: 3,400,000

Company X allocates the purchase price on the basis of the relative fair values.

Which amount will be allocated to the land?

$1,043,137

The relative fair value of the land is $1,043,137. The relative fair value is found by dividing the appraised fair value of the land divided by the sum of all of the appraised values of all the assets multiplied by the lump sum purchase price at the auction. (($1,900,000/$10,200,000) x $5,600,000)) = $1,043,137

Which item is considered a research and development (R&D) activity?

Laboratory research aimed at discovery of new knowledge

Research and development are expensed because it is required by GAAP.

Which approach should be used to treat interest costs that are incurred before construction is completed?

Capitalize the lower of the actual or avoidable interest during construction.

The interest cost will be capitalized during construction at the lower actual or avoidable interest.

Which costs should be expensed for plant assets?

Expenses that are used to maintain the asset

Expenses for maintenance are expensed in the period in which they occur.

Company X sold manufacturing equipment with a cost of $44,000 and accumulated depreciation of $32,000 for $9,000.

Which part of the journal entry should record the sale of the equipment?

Debit Accumulated Depreciation - Equipment for $32,000

The accumulated depreciation - equipment account would need to be reduced by $32,000 because the equipment had been sold.

On September 10, Year 5, Company X incurred the following costs for one of its printing presses:

Purchase of attachment: $55,000Installation of attachment: $5,000Replacement parts for renovation of press: $18,000Labor and overhead in connection with renovation of press: $7,000Training costs for operators to learn how to use new attachment: $2,000

Neither the attachment nor the renovation increased the estimated useful life of the press. However, the renovation resulted in significantly increased productivity.

Which amount of costs should be expensed in the month of September, exclusing any changes in depreciation or amortization?

$2,000

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A company began constructing an asset at the beginning of Year 1, and it is being entirely financed with specific new borrowing. Construction expenditures were made in Years 1, 2, and 3.

What is the basis for calculating the interest cost to be capitalized for Year 3?

The weighted-average accumulated expenditures for all three years

The weighted average accumulated expenditures for all three years will be used to determine the interest cost to capitalize.

Which cost should be capitalized for constructing a building?

Interest cost during construction

A company recently constructed a building that cost $8,000,000. Weighted average accumulated expenditures were $2,500,000; actual interest was $300,000; and avoidable interest was $150,000. The salvage value is $600,000, and the useful life is 25 years. The company is using the straight-line method.

What is the depreciation expense for the first full year?

$302,000

The depreciable base is the cost + avoidable interest less salvage value. ($8,000,000 - $600,000 + $150,000)/25 = $302,000

On January 1, a company began construction on a new building. The company made a payment of $8,000,000 on January 1 and another payment for $14,000,000 on August 1. Construction was finished on December 31. The company had an outstanding loan with a 6% interest rate.

What were the weighted-average accumulated expenditures for the year?

$13,833,333

(5/12 x $14,000,000) + ($8,000,000)