1. After studying this chapter, you should be able to:
Current Liabilities and Payroll
After studying this chapter, you should be able to:
Describe and illustrate current liabilities related to accounts payable, current portion of long-term debt, and notes payable.
Determine employer liabilities for payroll, including liabilities arising from employee earnings and deductions from earnings.
Describe the payroll accounting systems that use a payroll register, employee earnings records, and a general journal.
Describe the accounting treatment for contingent liabilities and journalize entries for product warranties.

2. Objective 1
11-1
Describe and illustrate current liabilities related to accounts payable, current portion of long-term debt, and notes payable.
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

3. Accounts payable arise from purchasing goods or services for use in a company’s operations or for purchasing merchandise for resale.
11-1
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.
The total amount of the installments due after the coming year is classified as a long-term liability.

4. Short-Term Notes Payable
11-1
A firm issues a 90-day, 12% note for $1,000, dated August 1, 2008 to Murray Co. for a $1,000 overdue account.
Aug. 1 Accounts Payable—Murray Co
Notes Payable
Issued a 90-day, 12% note on account.

5. 11-1
On October 30, when the note matures, the firm pays the $1,000 principal plus $30 interest ($1,000 x 12% x 90/360).
Oct. 30 Notes Payable
Interest Expense 30 00
Paid principal and interest on note.
Cash

6. 11-1
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.

7. 11-1 Bowden Co. (Borrower) Mdse. Inventory 10,000
11-1
Description Debit Credit
Bowden Co. (Borrower)
Mdse. Inventory 10,000
Accounts Payable 10,000
Coker Co. (Creditor)
Description Debit Credit
Accounts Receivable 10,000
Sales 10,000
Cost of Mdse. Sold 7,500
Mdse. Inventory 7,500

8. 11-1
Accounts Payable 10,000
Notes Payable 10,000
Description Debit Credit
Bowden Co. (Borrower)
Notes Receivable 10,000
Accounts Receivable 10,000
Coker Co. (Creditor)
Description Debit Credit
On May 3, Bowden Co. issued a 60-day, 12% note for $10,000 to Coker Co. on account.

9. 11-1
Notes Payable 10,000
Interest Expense 200
Cash 10,200
Description Debit Credit
Bowden Co. (Borrower)
Cash 10,200
Interest Revenue 200
Notes Receivable 10,000
Coker Co. (Creditor)
Description Debit Credit
On July 30, Bowden Co. paid Coker Co. the amount due on the note of May 31. Interest: $10,000 x 12% x 60/360.

10. 11-1
On September 19, a firm borrows $4,000 from First National Bank by giving the bank a 90-day, 15% note.
Sept. 19 Cash
Notes Payable
Issued a 90-day, 15% note to the bank.

11. 11-1
On the due date of the note (December 18), the borrower owes $4,000 plus interest of $150 ($4,000 x 15% x 90/360).
Dec. 18 Notes Payable
Interest Expense
Cash
Paid principal and interest due on note.

12. Objective 2
11-2
Determine employer liabilities for payroll, including liabilities arising from employee earnings and deductions from earnings.
11-2
Payroll refers to the amount paid to employees for the services they provide during a period. It is usually significant for several reasons.
Employees are sensitive to payroll errors and irregularities.
The payroll is subject to various federal and state regulations.
The payroll and related payroll taxes have a significant effect on the net income of most businesses.

13. Wages usually refers to payment for manual labor, both skilled and unskilled. The rate of wages is normally stated on an hourly or weekly basis.
11-2
Salary usually refers to payment for managerial, administrative, or similar services, normally expressed in terms of a month or a year.
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.

14. Earnings at base rate (40 x $34) $1,360
McGrath Illustration
11-2
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 base rate (40 x $34) $1,360
Earnings at overtime rate (2 x $51)
Total earnings $1,462

15. 11-2
McGrath made $1,462 for the week ending December 27. Since McGrath’s W-4 claims one withholding allowance, $67 (the assumed standard withholding allowance) is deducted from his gross pay to arrive at $1,395 ($1,462 – $67).
*The actual IRS standard withholding allowance changes every year.

16. 2 Exhibit 3 Wage Bracket Withholding Table
Table for Percentage Method of Withholding WEEKLY Payroll Period
Source: Publication 15, Employer’s Tax Guide, Internal Revenue Service, 2008

17. McGrath Example (continued)2
McGrath Example (continued)
Initial withholding $
Plus [25% × ($1,395 – $653)]
Total federal income taxes withheld $268.45

18. 11-2
Example Exercise 11-2
Karen Dunn’s weekly gross earnings for the present week were $2,250. Dunn has two exemptions. Using the wage bracket withholding table in Exhibit 3 (Slide 16) with a $67 standard withholding allowance for each exemption, what is Dunn’s federal income tax withholding?

19. 2 Follow My Example 11-2 Total wage payment $2,250
Example Exercise 11-2 (continued) 2
Follow My Example 11-2
Total wage payment $2,250
One allowance (provided by IRS) $67
Multiplied by allowances claimed on W-4 ×
Amount subject to withholding $2,116
Initial withholding from wage bracket in Exh. 3 $302.96
Plus additional withholding: 28% of excess over $1, *
Federal income tax withholding $466.20
*28% × ($2,116 – $1,533)
For Practice: PE 11-2A, PE 11-2B

20. FICA Tax
11-2
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, is health insurance for senior citizens.

21. John T. McGrath’s FICA Tax2
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) $ 962
Social security tax rate × 6%
Social security tax $57.72
Earnings subject to 1.5% Medicare tax $1,462
Medicare tax rate × 1.5% Medicare tax
Total FICA tax $79.65

22. John T. McGrath’s Net Pay2
John T. McGrath’s Net Pay
Gross earnings for the week $1, Deductions:
Social security tax (Slide 21) $
Medicare tax (Slide 21) 21.93
Federal income tax (Slide 17)
Retirement savings 20.00
United Way
Total deductions
Net pay $1,088.90

23. 2
Example Exercise 11-3
Employee Net Pay
Karen Dunn’s weekly gross earnings for the week ending Dec. 3rd were $2,250, and her federal income tax withholding was $ Prior to this week Dunn had earned $98,000 for the year. Assuming the social security rate is 6% on the first $100,000 of annual earnings and Medicare is 1.5% of all earnings, what is Dunn’s net pay?

24. 2 Follow My Example 11-3 Total wage payment $2,250.00
Example Exercise 11-3 (continued) 2
Follow My Example 11-3
Total wage payment $2,250.00
Less: Federal income tax withholding
Earnings subject to social security tax ($100,000 – $98,000) $2,000
Social security tax rate × 6%
Social security tax
Medicare tax ($2,250 × 1.5%)
Net pay $1,630.06
For Practice: PE 11-3A, PE 11-3B

25. Employer’s Federal Payroll Taxes
11-2
11-2
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.

26. A Federal Unemployment 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.
11-2
11-2
Employers in most states also must pay a state unemployment tax for unemployed workers. A few states require employee contributions. The state plan is designed to reward firms with stable employment, so the tax rate varies from state to state and employer to employer.

27. Objective 3
11-3
The payroll register is a multicolumn report used for summarizing the data for each payroll period. The last two columns of the payroll register are used to accumulate the total wages or salaries to be debited to various expense accounts. The process is usually called payroll distribution.
Describe payroll accounting systems that use a payroll register, employee earnings records, and a general journal.

28. 3
Exhibit 5
Payroll Register (left side)

29. 3 3
Exhibit 5
Payroll Register (right side)

30. Recording Employees’ Earnings 11-3
Recording Employees’ Earnings
11-3
Dec. 27 Sales Salaries Expense
Office Salaries Expense
Social Security Tax Payable
Medicare Tax Payable
Employees’ Federal Inc. Tax Pay
Retirement Savings Ded. Payable
United Way Deductions Payable
Accounts Receivable—Fred Elrod
Salaries Payable
Payroll for week ended December 27.

31. Provide the journal entry for the period’s payroll.
11-3
Example Exercise 11-4
The payroll register of Chen Engineering Services indicates $900 of social security withheld and $225 of Medicare tax withheld on total salaries of $15,000 for the period. Federal withholding for the period totaled $2,925.
Provide the journal entry for the period’s payroll.

32. Social Security Tax Payable 900 Medicare Tax Payable 225
11-3
Follow My Example 11-4
Salaries Expense 15,000
Social Security Tax Payable 900
Medicare Tax Payable 225
Federal Withholding Tax Payable 2,925
Salaries Payable 10,950
For Practice: PE 11-4A, PE 11-4B

33. Recording and Paying Payroll Taxes
11-3
Assume that in Exhibit 5 the earnings subject to state and federal unemployment compensation taxes are $2,710. In addition, assume a SUTA rate of 5.4% and a FUTA rate of 0.8%. What is the rate for each of the following?

34. Data for McDermott Supply Co. payroll for the week ending December 27:
11-3
Data for McDermott Supply Co. payroll for the week ending December 27:
Social security tax $
Medicare tax
State unemployment compensation tax (5.4% x $2,710)
Federal unemployment compensation tax (0.8% x $2,710)
Total payroll tax expense $1,019.62

35. 11-3
McDermott Supply Co.’s payroll entry on December 27 is recorded as follows:
Dec. 27 Payroll Tax Expense
Social Security Tax Payable
Medicare Tax Payable
State Unemployment Tax Payable
Federal Unemployment Tax Pay
Payroll taxes for week ended December 27.

36. 3 Example Exercise 11-5 Journalize Payroll Taxes
The payroll register of Chen Engineering Services indicates $900 of social security withheld and $225 of Medicare tax withheld on total salaries of $15,000 for the period. Assume earnings subject to state and federal unemployment compensation taxes are $5,250, at the federal rate of 0.8% and state tax of 5.4%.
Provide the journal entry to record the payroll tax expense for the period.

37. 3 Follow My Example 11-5 Payroll Tax Expense………………………….. 1,450.50
Example Exercise 11-5 (continued) 3
Follow My Example 11-5
Payroll Tax Expense………………………….. 1,450.50
Social Security Tax Payable……………
Medicare Tax Payable……………………
State Unemployment Tax Payable
($5,250 × 5.4%)…………………………
Federal Unemployment Tax Payable
($5,250 × 0.8%)…………………………
For Practice: PE 11-5A, PE11-5B

38. 11-3
A detailed payroll record is maintained for each employee. This record is called an employee’s earnings record.
At the end of each pay period, payroll checks are prepared. Each check includes a detachable statement showing the details of how the net pay was computed.

39. Employee’s Earnings Record
11-3
(Continued)

40. (Coluded)
11-3
(Concluded)

41. Payroll Check
11-3

42. Objective 5
11-5
Describe the accounting treatment for contingent liabilities and journalize entries for product warranties.
Some past transactions will result in liabilities if certain events occur in the future. These potential obligations are called contingent liabilities.

43. Contingent Liabilities
11-5
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 price.
June 30 Product Warranty Expense
Product Warranty Payable
Warranty expenses projected for June, 5% of $60,000.

44. 11-5
If a customer required a $200 part replacement on August 16, the entry would be:
Aug. 16 Product Warranty Payable
Supplies
Replaced defective part under warranty.

45. Quick assets Current liabilities Quick Ratio =
Quick Ratio
11-5
Noble Co. Hart Co.
Quick assets:
Cash $147,000 $120,000
Accounts receivable (net) 84, ,000
Total $231,000 $592,000
Current liabilities $220,000 $740,000
Quick assets
Current liabilities
Quick Ratio =
The quick ratio or acid-test ratio can be used to evaluate a firm’s ability to pay its current liabilities within a short period of time.

46. Quick assets Current liabilities Quick Ratio = $231,000 $220,000
Quick Ratio
11-5
Noble Co. Hart Co.
Quick assets:
Cash $147,000 $120,000
Accounts receivable (net) 84, ,000
Total $231,000 $592,000
Current liabilities $220,000 $740,000
Quick assets
Current liabilities
Quick Ratio =
Noble Company =
$231,000
$220,000
= 1.05

47. Quick assets Current liabilities Quick Ratio = $592,000 $740,000
11-5
Noble Co. Hart Co.
Quick assets:
Cash $147,000 $120,000
Accounts receivable (net) 84, ,000
Total $231,000 $592,000
Current liabilities $220,000 $740,000
Quick assets
Current liabilities
Quick Ratio =
Hart Company =
$592,000
$740,000
= 0.80

48. Interpretation
11-5
Noble Company is in a better quick ratio position than Hart Company. By having a quick ratio in excess of 1, Noble Company has quick assets sufficient to cover the company’s current liabilities. This is not true for Hart Company.