ACCT 3312 Current Liabilities

Formal Definition of Current Liabilities

Obligations whose liquidation is expected to require the use of current assets or the creation of other current liabilities within the longer of one year or the business operating cycle.

Current Assets

Cash and other assets expected to be: (1) consumed, (2) sold, or (3) converted to cash within the longer of one year or the business operating cycle.

Operating Cycle

Average time between the acquisition of materials or services and the final realization of cash from the sale of products or services. Typically, less than one year.

Working Definition of Current Assets

Obligations due to be paid or settled within the longer of one year or the business operating cycle. Excludes liabilities to be refinanced, paid with long-term assets, or paid with equity

GAAP Requirements for Current Liabilities

GAAP does not require presentation of a balance sheet where assets and liabilities are classified into current and noncurrent categories. SEC filings do require a classified balance sheet.

The vast majority of public companies report a classified balance sheet.

Accounting Objectives for Current Liabilities

Recognize (record) as liabilities

Recognize (record) as liabilities

1. Amounts owed where the amounts are known with certainty

2. Customer deposits and advance payments (unearned revenue)

3. Contingent liabilities that represent ‘probable future sacrifices’ that result from past transactions (amounts are not known with certainty)

4. Revenue earned but not recorded due to uncertainty of collection or a temporary inability to match with related expenses

Amounts owed where the amounts are known with certainty

Examples: Accounts Payable, Taxes Payable, Notes Payable

Customer deposits and advance payments (unearned revenue)

Examples: Gift Cards, Rent Collected in Advance

Contingent liabilities that represent ‘probable future sacrifices’ that result from past transactions (amounts are not known with certainty)

Examples: Warranty costs, Lawsuit judgments the company expects to pay

Revenue earned but not recorded due to uncertainty of collection or a temporary inability to match with related expenses

Example: Deferred Revenue

Recorded Value of Current Liabilities Paid Quickly (Most)

Recorded at face value or settlement value (amount to be paid) not present value or fair value. Examples include Accounts Payable, Sales Tax Payable, and Payroll Taxes Payable.

Recorded Value of Current Liabilities Not Paid Quickly

Recorded at present value when the financing component (interest) is significant. The significance of the financing component depends on:

(1) the time to payment and

(2) the appropriate discount rate.

Examples include Notes Payable and Unearned Revenue.

Recorded Value Theory of Current Liabilities 

Present value is the best way to measure all liabilities. However, for many liabilities, the difference between present value and settlement value is immaterial.

Because the additional effort needed to compute the present value cannot be justified on a cost/benefit basis, we use settlement value for most current liabilities.

Presentation of Current Liabilities

When a classified balance sheet is prepared, current liabilities should be listed in order of expected payment date starting with the liabilities that are due for payment first.

Accounts Payable (A/P)

Purchase of Asset or Service used in Revenue Generation

Accounts Payable Definition

Purchases associated with revenue generation (purchases of inventory, raw materials, supplies, services).

Accounts Payable AKA

Trade Payables

J/E - Purchase of Asset or Service used in Revenue Generation (No Discount)

• [Asset Account or Expense Account] XX

  • Accounts Payable XX

J/E - Purchase of Asset or Service used in Revenue Generation (Discount Earned) GROSS METHOD -Used by most firms

$100 purchase Terms: 2/10, n/30 FOB

Purchase Date:

• Inventory 100

  • Accounts Payable 100

Payment Date:

• Accounts Payable 100

  • Inventory 2 [Reduces asset cost basis]

  • Cash 98

J/E - Purchase of Asset or Service used in Revenue Generation (Discount Not Earned) GROSS METHOD -Used by most firms

Purchase Date:

• Inventory 100

  • Accounts Payable 100

Payment Date:

• Accounts Payable 100

  • Cash 100

Terms: 2/10, n/30 FOB

Receive a 2% discount if pay within 10 days of the invoice date. Start counting with the invoice date. So, if the invoice date is January 1, payment must be made by January 10 to receive the 2% discount. If not paid withing 10 days, the full amount is due withing 30 days

FOB Shipping Point

Title passes when goods shipped

Record liability when goods shipped

FOB Destination

Title passes when goods received

Record liability when goods received

J/E - Purchase of Asset or Service used in Revenue Generation (Discount Earned) NET METHOD -Used by few firms

$100 purchase Terms: 2/10, n/30 FOB

Purchase Date:

• Inventory 98

  • Accounts Payable 98

Payment Date:

• Accounts Payable 98

  • Cash 98

J/E - Purchase of Asset or Service used in Revenue Generation (Discount Not Earned) NET METHOD -Used by few firms

$100 purchase Terms: 2/10, n/30 FOB

Purchase Date:

• Inventory 98

  • Accounts Payable 98

Payment Date:

• Accounts Payable 98

• Purchase Discount Lost 2 [Other expense]

  • Cash 100

Sales Tax Payable

Taxes which a governmental unit assesses on purchases by customers

Sales Tax Payable - Tax Recorded on each Individual Sale at Sale Date

Sale #1 is for $100 and $5 of sales tax is collected

Sale #2 is for $200 and $10 of sales tax is collected

Sale #1 Recorded (Sales Journal):

• Cash or A/R 105

  • Sales Tax Payable 5

  • Sales Revenue 100

Sale #2 Recorded (Sales Journal):

• Cash or A/R 210

  • Sales Tax Payable 10

  • Sales Revenue 200

Tax Sent to Taxing Authority (Disbursement Journal or Check Register):

• Sales Tax Payable 15

  • Cash 15

Sales Tax Payable - Tax Recorded for Groups of Sales After Sale Date via AJE

Sale #1 is for $100 and $5 of sales tax is collected

Sale #2 is for $200 and $10 of sales tax is collected

Sale #1 Recorded (Sales Journal):

• Cash or A/R 105

  • Sales Revenue 105 [overstated]

Sale #2 Recorded (Sales Journal):

• Cash or A?R 210

  • Sales Revenue 210 [overstated]

AJE Made to Record Sales Tax (General Journal):

• Sales Revenue 15 [reversing]

  • Sales Tax Payable 15

Tax Sent to Taxing Authority (Disbursement Journal or Check Register):

• Sales Tax Payable 15

  • Cash 15

Payroll Related Payables

Various taxes on payroll paid by employee and employer plus nontax amounts (health care + retirement) due to other organizations

Payroll Related Payables - Employee Obligations

• Various amounts withheld from employee paychecks

1. Income tax owed by the employee (federal and state)

2. Employee Old Age & Survivors Benefits (OASDI) Ta

3. Employee Medicare Tax

4. Employee health care premiums

5. Employee retirement savings (401K & 403b)

Payroll Related Payables - Employer Obligations

• Employers are typically required to pay the follow amounts

1. Payroll Tax Expense:

   1. Employer matching portion of OASDI and Medicare taxes. Sometimes known as: Social Security or FICA tax.

   2. Employer unemployment tax (federal and state)

2. Health Care Expense

   1. Employer portion of health care premiums

3. Pension Expense

   1. Employer matching portion of retirement savings (401k & 403b)

J/E for Payroll Taxes - Employee

Employee withholdings are recorded as liabilities and included as part of salaries and/or wage expense.

J/E for Payroll Taxes - Employer

Employer amounts are recorded as liabilities and related expenses.

J/E Employee Payroll Expense Recorded

• Salaries & Wage Expense XX

  • Withholding Tax Payable XX [Employee income tax]

  • FICA Tax Payable XX [OASDI + Medicare]

  • Health Care Premium Payable XX [Employee portion, if any]

  • Retirement Contribution Payable XX [401k & 403b]

  • Salaries & Wages Payable XX [Net pay to employee]

J/E Employer Payroll Expense Recorded

Payroll Tax Expense XX

FICA Tax Payable XX [Employer matching portion]

FUTA Tax Payable XX [Federal unemployment]

SUTA Tax Payable XX [State unemployment]