Accounting Ch. 11.1/11.2

What Is a Current Liability?

A debt that a company, 1) expects to pay within one year or 2) the operating cycle, whichever is longer.

Current liabilities include:

notes payable, accounts payable, unearned revenues

Accrued liabilities include:

taxes payable, salaries and wages payable, and interest payable

Notes Payable

• Written promissory note.

• Frequently issued to meet short-term financing needs

• Requires the borrower to pay interest.

• Issued for varying periods.

Notes Payable Steps/Journal Entries

1. Prepare initial entry when money is loaned

   • Dr. Cash, Cr. Notes Payable

2. Prepare adjusting entry for interest accrual

   • Dr. Interest Expense, Cr. Interest Payable

3. Prepare the entry at maturity

   • Dr. Notes Payable, Dr. Interest Payable, Cr. Cash

Sales Taxes Payable

are expressed as a stated % of the sales price

• tax is collected not as a revenue to the company, but a liability to be paid to the government later

• is either included seperately (use normal formula) or included within the total sales (use the 100% * percentage for that)

Sales Tax Payable Journal Entry

Dr. Cash, Cr. Sales Revenue, Cr. Sales Tax Payable

Unearned Revenue

Revenues (i.e. cash paid upfront) received before the company that delivers goods or provides services

• Ex. Unearned Ticked/Rent/Subscription Revenue

Unearned Rent Revenue Steps/Journal Entries

1. When the company receives the advance payment

   • Dr. Cash, Cr. Unearned ___ Revenue

2. When the company recognizes the revenue

   • Dr. Unearned ____ Revenue, Cr. ___ Revenue

Current Maturities of Long-Term Debt

Portion of long-term debt that comes due in the current year.

• No adjusting entry required —> only affects if it should be reported as current or long-term liability on the balance sheet

If cash is borrowed on a $50,000, 6-month, 12% note on September 1, how much interest expense would be incurred by December 31?

$50,000 x 12% x 4/12 = $2,000

How is the sales tax amount determined when the cash register total includes sales taxes?

1. divide the total cash register receipts by 100% plus the sales tax % to find the sales revenue amount. (i.e. tax rate is 6.0%, divide cash register receipts by 1.06)

2. subtract the sales revenue amount from the total cash register receipts to determine the sales taxes.

If $15,000 is collected in advance on November 1 for 3 months’ rent, what amount of rent revenue should be recognized by December 31?

$15,000 x 2/3 = $10,000

Contingent liability

Potential liability that may become an actual liability in the future.

3 levels of probability for contingent liabilities

1. Probable (likely to occur)

2. Reasonably possible (it could happen)

3. Remote (unlikely to occur)

A contingent liability should be recorded in the accounts when

it is probable the contingency will happen, and the amount can be reasonably estimated.

Product Warranties

Promise made by a seller to a buyer to make good on a deficiency of quantity, quality, or performance in a product.

• recognized as an expense

Estimated product warranty formula

number of units sold * estimated rate (%) of defective units * average warranty repair cost

Adjusting Entry for estimated warranty liability

Dr. Warranty Expense, Cr. Warranty Liability (use the computed estimated product warranty in the entry)

Repair Costs to honor warranty contracts journal entry AND Replacing Defective Units journal entry

Dr. Warranty Liability, Cr. Repair Parts

Order of Current Liabilities on Balance Sheet

Notes Payable (only due within the year), Accounts Payable, Unearned Revenue, Salaries and Wages Payable, Warranty Liability, etc.

Working capital formula

current assets - current liabilities

Current Ratio Formula

Current Assets / Current Liabilities (should be a decimal : 1, ex 1.39:1)