CPA EXAM: FAR (F3)

What is classified as a cash equivalent? (M1)

Short-term, highly liquid investments that are readily convertible to cash and have an original maturity date of < 90 days

What adjustments are needed for bank reconciliations for the bank balance? (M1)

Additions:

• Deposits in Transit

  • Already added to book balance

Subtractions:

• Outstanding Checks

  • Already deducted from book balance

What adjustments are needed for bank reconciliations for the book balance? (M1)

Additions:

• Bank Collections

• Interest Income

Subtractions:

• Non-Sufficient Funds (NSF)

• Service Charges

What adjustments are made to determine the NRV of accounts receivable? (M2)

• Sales Discounts

• Current Expected Credit Losses (CECL)

• Sales Returns and Allowances

What are the two methods for accounting for sales discounts? (M2)

1. Gross Method

   1. Assumes the discount is not taken

      1. If discount is ultimately taken, debit sales discount to record the difference between full price and the discounted price

2. Net Method

   1. Assumes the discount is taken

      1. If discount is ultimately not taken, additional revenue can be recorded

How are sales returns, sales allowances, and refund liabilities accounted for? (M2)

Returns & Allowances:

• Recorded to a contra-revenue account called “Sales Returns and Allowances”

  • Reduces revenue previously recognized on sale and reduces cash paid back to customer

    • Inventory and COGS must also be adjusted

Refund Liability:

• At period end, an entity will estimate the projected future returns and create a “Refund Liability” account

  • When returns actually happen, refund liability is reduced—to the extent possible—instead of “Sales Returns and Allowances”

What are the two methods for recognizing uncollectible accounts receivable? (M2)

1. Current Expected Credit Loss (CECL) Method

   1. An entity is required to estimate expected credit losses on accounts receivable every period

      1. Credited to “Allowance for Doubtful Accounts” account

2. Direct Write-Off Method

   1. Account is written off and the credit loss expense is recognized when the account actually becomes uncollectible

      1. Not consistent with GAAP

How are accounts receivable write-offs accounted for? (M2)

• “Allowance for Doubtful Accounts” is debited to reduce the balance by the amount of the AR being written off

  • Expense was taken when estimate was made but may need to be debited if AR account is significant

What should you do if an account previously written off is collected? (M2)

1. Restore the account

   1. Increase the AR and restore the allowance account

2. Record the cash collection

   1. Decrease the AR and increase cash

What is pledging versus factoring of accounts receivable? (M2)

Pledging:

• Existing AR account is assigned as collateral for a loan

  • Entity retains title to the receivables

Factoring:

• Considered a sale of receivables by assigning it to a “factor”

  • May be done with or without recourse

What is the difference between factoring accounts receivable with versus without recourse? (M2)

With:

• Factor gets the option to sell back any uncollectible receivables to the seller

  • Treated as either a sale or as borrowing

Without:

• Sale is final and the factor assumes the risk of any losses on collection

  • AR is removed from the books of the entity as it is considered a “true sale”

• Recorded by debiting cash for amount paid at time of sale, a “Due from Factor” for amount paid later—assuming collection is successful, the loss on the sale and crediting the AR to write it off

When is factoring with recourse treated as a sale? (M2)

1. The seller’s obligation for uncollectible accounts can reasonable be estimated

2. The seller surrenders control

3. The seller cannot be required to repurchase the receivables

   1. May be required to replace them

What is securitization of accounts receivable? (M2)

• When AR are transferred to a different entity who then sells securities that are collateralized by the AR

  • As the receivables are collected, investors receive cash

What is notes receivable and how is it presented? (M2)

• Notes receivable are written promises to pay a debt

  • Also called promissory notes

• Measured at present value

  • Present Value = Face Value - Unearned Interest

What is the difference between discounting promissory notes with versus without recourse? (M2)

With:

• Holder of the note remains contingently liable for the ultimate payment of the note

  • May be reported on the balance sheet with a corresponding contra account or removed from the balance sheet with disclosure

Without:

• Risk of loss stays with the buyer of the note

  • Treated as sale and seller should remove the note from their balance sheet

How do you discount a promissory note with recourse? (M2)

1. Calculate Maturity Value

   1. Maturity Value = Face Value + Interest

2. Calculate Discount on Maturity Value

   1. Discount = Discount Rate x Maturity Value

3. Compute Amount Paid for Note

   1. Amount Paid for Note = Maturity Value - Discount

4. Determine Interest Income

   1. Interest Income = Amount Paid for Note - Face Value

When is title with the buyer versus the seller? (M3)

• FOB Shipping Point: Title is passed to buyer when seller passes goods to common carrier

• FOB Destination: Title is passed to buyer when goods are received by buyer

• Non-Conforming Goods: Title is reverted back to seller when buyer rejects

• Consigned Goods: Title remains with the consignor since they maintain risk of loss

• Public Warehouses: Title remains with owner since they maintain risk of loss

• Installment Sales: Title remains with seller as loan security

What inventory valuation method is used for LIFO, FIFO, retail, and weighted average? (M3)

• LIFO: Lower of Cost or Market

• Retail: Lower of Cost or Market

• FIFO: Lower of Cost or NRV

• Weighted Average: Lower of Cost or NRV

How is the lower of cost or market value for inventory determined?

Lower of cost or the…

• Middle Value of…

  • Replacement Cost

  • Market Floor = NRV - Normal Profit Margin

  • Market Ceiling = NRV

What is the difference between a periodic versus a perpetual inventory system? (M3)

Periodic:

• When buying inventory, entity should debit purchases and not inventory

  • Inventory and COGS is determined at the end of the period

Perpetual:

• Inventory account is updated for each purchase and sale as they occur

What happens if ending inventory is overstated? (M3)

• COGS is understated

• Profits are overstated

• Retained earnings are overstated

• Equity is overstated

What are the acceptable inventory valuation methods under GAAP? (M3)

1. Specific Identification

   1. Cost of each item is uniquely identifiable to that item

2. FIFO

   1. Sell old inventory first

3. Weighted Average

   1. Periodic system

   2. At the end of the period, the average cost of each item in inventory is calculated

4. Moving Average

   1. Perpetual system

   2. After every purchase, the average cost of each item in inventory is calculated

5. LIFO

   1. Sell new inventory first

6. Dollar-Value LIFO

   1. Requires a price index

      1. Price Index > 1 if prices are rising

   2. Inventory is measured relative to base-year dollar values and adjusted for changing price levels

How do you calculate the price index for dollar-value LIFO? (M3)

Price Index = Ending Inventory at Current Year Cost / Ending Inventory at Base Year Cost

How is the cost of purchased land calculated? (M4)

Purchase Price

+ Broker’s Commission

+ Title, Recording, and Legal Fees

+ Clearing of Trees

+ Site Development

+ Existing Obligations Assumed by the Buyer

+ Costs of Removing Old Buildings

- Proceeds from Selling Old Buildings/Natural Resources

Cost of Land

How is the cost of buildings calculated? (M4)

Purchase Price

+ Deferred Maintenance

+ Alterations and Improvements

+ Architects’ Fees

+ Digging Foundation Holes

+ Construction-Period Interest

Cost of Building

How is the cost of equipment calculated? (M4)

Invoice Price

+ Freight-In

+ Installation Charges

+ Taxes

+ Construction Period Interest

- Cash Discounts

Cost of Equipment

What equipment costs are capitalized, expensed, versus a reduction in accumulated depreciation? (M4)

Capitalized:

• Increase in Quantity of Asset due to Additions

• Increase in Usefulness of Asset due to Additions

• Increase in Usefulness due to Extraordinary Repairs

Expensed:

• Ordinary Repairs

Reduction in Accumulated Depreciation:

• Increase in Life of Asset due to Improvement/Replacement

• Increase in Life of Asset due to Extraordinary Repairs

How is the replacement of an asset recorded? (M4)

Known Carrying Value:

• Remove asset off the books at its NBV and debit a loss

• Record new asset at cost

No Known Carrying Value:

• Reduce accumulated depreciation for the cost of the replacement

How is construction period interest accounted for? (M4)

• Capitalized based on the weighted average of accumulated expenditures multiplied by the appropriate interest rate

What is the difference between component versus composite depreciation? (M5)

Component:

• Each part of an item of PP&E is depreciated separately over a single useful life

Composite:

• Economic lives of multiple PP&E units are averaged and then depreciated over a single life

  • Useful Life = Total Depreciable Cost / Annual Depreciation Cost

How do you calculate straight-line depreciation? (M5)

• (Cost - Salvage Value) / Estimated Useful Life

  • Depreciation expenses is equivalent every period

How do you calculate sum-of-the-years’-digits depreciation? (M5)

• (Cost - Salvage Value) x (Remaining Life of Asset x Sum-of-the-Years’-Digits)

  • Sum-of-the-Years’-Digits = [Useful Life x (Useful Life +1)] / 2

  • Provides higher depreciation expense in early years

How do you calculate units-of-production depreciation? (M5)

1. (Cost - Salvage Value) / Estimated Units or Hours = Rate/Unit

2. Rate/Unit x Number of Units Produced = Depreciation

   1. Relates annual depreciation to the estimated production capability of an asset

How do you calculate declining balance depreciation? (M5)

• [(% / 100) / Useful Life] x (Cost - Accumulated Depreciation)

  • Does not take into account salvage value in formula

What is the journal entry when disposing of an asset? (M5)

Not Fully Depreciated:

• DR. Cash Received from Sale

• DR. Accumulated Depreciation

  • CR. Asset at Cost

  • CR/DR. Gain/Loss

Fully Depreciated:

• DR. Accumulated Depreciation

  • CR. Asset at Cost

Impairment:

• DR. Accumulated Depreciation

• DR. Loss

  • CR. Asset at Cost

How do you calculate depletion under the cost method? (M5)

1. Calculate Depletion Base

   1. Depletion Base = Total Cost - Residual Value

2. Calculate Depletion Rate by Unit

   1. Unit Depletion = Depletion Base / Recoverable Units

3. Calculate Depletion for Period

   1. Depletion = Unit Depletion x Units Extracted

4. Calculate Depletion included in COGS

   1. COGS = Unit Depletion x Units Sold

How do you determine impairment of PP&E? (M5)

1. Test for Recoverability

   1. Asset is impaired if the undiscounted future cash flows is less than the carrying value

2. Calculate Loss Amount

   1. Impairment Loss = Carrying Value - Fair Value

      1. Includes cost of disposal for HFS assets

What value are HFS assets reported at? (M5)

• Lower of…

  • Carrying Value

  • Fair Value - Selling Costs

What are the two manners of acquisition of intangible assets and how are they accounted for? (M6)

Purchased:

• Recorded as an asset and capitalized at cost

  • Legal and registration fees incurred to obtain the intangible asset are also capitalized

Internally Developed:

• Expensed as incurred

  • Specifically identifiable costs such as legal and registration fees may be capitalized

How are finite-life versus indefinite-life intangible assets reported? (M6)

Finite-Life:

• Reported at cost less amortization and impairment

Indefinite-Life:

• Reported at cost less impairment

  • Crypto assets are measured at fair value with remeasurement occurring in each period

How do you determine impairment of an intangible asset? (M6)

1. Test for Recoverability

   1. Asset is impaired if the undiscounted future cash flows is less than the carrying value

      1. Carrying value is compared to fair value if it is an indefinite-lived intangible

2. Calculate Loss Amount

   1. Impairment Loss = Carrying Value - Fair Value

      1. Present value of future cash flows may be used if fair value of the intangible is not available

What is a cloud computing agreement (CCA)? What are the three phases and how are the costs accounted for? (M6)

Involves paying a fee in exchange for the right to use software hosted by a vendor

1. Preliminary Project Phase

   1. Costs to determine the system requirements

   2. Expensed as incurred

2. Application Development Phase

   1. Costs to customize or change infrastructure

   2. Capitalize: Implementation costs, software licensing, development fees, coding fees, etc.

   3. Expense: Training, manual data conversion, maintenance, etc.

3. Post Implementation Phase

   1. Costs after the software is placed into service

   2. Expensed as incurred

How are franchise costs accounted for? (M6)

Initial Franchise Costs:

• Recorded as an intangible asset on the balance sheet and amortized over the expected useful life

Continuing Franchise Fees:

• Expensed as incurred

• EX. Management training, promotion, legal assitance, etc.

How are start-up costs accounted for? (M6)

Expensed when incurred