2 Some of the action has been automated, so click the mouse when you see this lightning bolt in the lower right-hand corner of the screen. You can point and click anywhere on the screen.
3 After studying this chapter, you should be able to: Objectives1. Define and give examples of current liabilities.2. Prepare journal entries for short-term notes payable and disclosure for the current portion of long-term debt.3. Describe the accounting treatment for contingent liabilities and journalize entries for product warranties.4. Determine employer liabilities for payroll, including liabilities arising from employee earnings and deductions from earnings.After studying this chapter, you should be able to:
4 Objectives5. Describe payroll accounting systems that use a payroll register, employee earnings record, and a general journal.6. Journalize entries for employee fringe benefits, including vacation pay and pensions.7. Use the quick ratio to analyze the ability of a business to pay its current liabilities.
5 The Nature of Current Liabilities 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 payableNotes payableUnearned rentTaxes payableWages payableCurrent portion of long term debtExamples:
6 Short-Term Notes Payable A firm issues a 90-day, 12% note for $1,000, dated August 1, 2006 to Murray Co. for a $1,000 overdue account.Aug. 1 Accounts Payable—Murray CoNotes PayableIssued a 90-day, 12% note on account.
7 Short-Term Notes Payable 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 PayableInterest Expense 30 00Appears on the income statement as an “Other Expense.”CashIssued a 90-day, 12% note on account.
8 Short-Term Notes Payable Description Debit CreditBowden Co. (Borrower)Coker Co. (Creditor)Description Debit CreditMdse. Inventory 10,000Accounts Payable 10,000Accounts Receivable 10,000Sales 10,000Cost of Mdse. Sold 7,500Mdse. Inventory 7,500May 31. Bowden Co. purchased merchandise on account from Coker Co., $10,000, 2/10, n/30. The merchandise cost Coker Co. $7,500.
9 Short-Term Notes Payable Bowden Co. (Borrower)Coker Co. (Creditor)Description Debit CreditCoker Co. (Creditor)Description Debit CreditMdse. Inventory 10,000Accounts Payable 10,000Accounts Receivable 10,000Sales 10,000Cost of Mdse. Sold 7,500Mdse. Inventory 7,500Accounts Receivable 10,000Sales 10,000Cost of Mdse. Sold 7,500Mdse. Inventory 7,500Accounts Payable 10,000Notes Payable 10,000Notes Receivable 10,000Accounts Receivable 10,000May 31. Bowden Co. issued a 60-day, 12% note for $10,000 to Coker on account.
10 Short-Term Notes Payable Bowden Co. (Borrower)Coker Co. (Creditor)Description Debit CreditDescription Debit CreditJuly 30. Bowden Co. paid Coker Co. the amount due on the note of May 31. Interest: $10,000 x 12% x 60/360 = $200.Mdse. Inventory 10,000Accounts Payable 10,000Accounts Receivable 10,000Sales 10,000Cost of Mdse. Sold 7,500Mdse. Inventory 7,500Accounts Payable 10,000Notes Payable 10,000Notes Receivable 10,000Accounts Receivable 10,000Notes Payable 10,000Interest Expense 200Cash 10,200Cash 10,200Interest Revenue 200Notes Receivable 10,000
11 Discounted Notes Payable On August 10, Cary Company issues a $20,000, 90-day note to Rock Company in exchange for inventory. Rock discounts the note at 15%.Aug. 10 Merchandise InventoryInterest ExpenseProceedsDiscount: $20,000 x .15 x 90/360Notes PayableIssued a 90-day, note to Rock Co. discounted at 15%.Discount rate
12 Discounted Notes Payable On November 8 the note is paid in full.Nov. 8 Notes PayableCashPaid note due.
14 Product LiabilityOn June 30, a company sells a product for $60,000 on which there is a 36-month warranty. Past experience indicates that repairs of defects cost 5% of the sales price over the warranty period.June 30 Product Warranty ExpenseProduct Warranty LiabilityWarranty expenses projected for June, 5% of $60,000.
15 Product LiabilityOn August 16, a customer needed a defective part replaced. Cost to the company was $200 for the part.Aug. 16 Product Warranty PayableSuppliesReplaced defective part under warranty.
16 Accounting Treatment of Contingent Liabilities Likelihood of OccurringAccounting TreatmentMeasurementEstimableRecord LiabilityProbableNot EstimableContingencyDisclose LiabilityPossibleDisclose Liability
18 Liability for Employee Earnings Payroll is the amount paid to employees for services provided. Payrolls are important because--1. Good employee relations demand that payrolls be calculated accurately and paid as scheduled.2. Payroll expenditures are subject to a variety of federal, state, and local taxes.3. Total payroll expense (gross payroll plus payroll taxes) has a major impact on net income.
19 Gross Pay Calculation Earnings at base rate (40 x $34) $1,360 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) $1,360Earnings at overtime rate (2 x $51)Total earnings $1,462
20 FICA TaxEmployers are required to withhold a portion of the earnings of each of the employees. The amount is matched by the employer and serves to provide the employee with social security and Medicare benefits upon retirement.
21 FICA Tax CalculationAssume that John T. McGrath’s annual earnings prior to the current period total $99,038. His current period earnings are $1,462.Earnings subject to 6% social security tax($100,000 – $99,038) $962Social security tax rate x 6%Social security tax $57.72Earnings subject to 1.5% Medicare taxCurrent earnings $1,462Medicare tax rate x 1.5%Medicare taxTotal FICA tax $79.65
22 Withholding Taxes, Other Deductions Employers are required to withhold federal income tax from each employee based on the withholding table and information provided by the employee’s W-4 form.Federal income tax and FICA tax must be withheld from the pay of each employee.Deductions for other purposes may be withheld by mutual agreement.
23 Employee Net Pay Calculation Gross earnings for the week $1,462.00Deductions:Social security tax tax $Medicare tax 21.93Federal income taxRetirement savings 20.00United WayTotal deductionsNet pay $1,077.84John T. McGrath is single, has declared one withholding allowance, and had gross pay of $1,462 for the week ended December 27.
32 Flow of Data in a Payroll System Wage and TaxStatementsW-2EMPLOYEES’EARNINGSRECORDSUpdated Variables(cumulativeearnings, taxes)Constant Data(rates of pay,tax, etc.)Current Period’sVariables(hours worked)Payroll TaxReturnsPAYROLLREGISTERPayroll Checksand StatementsGENERALLEDGERFinancialStatements
34 Retirement and savings plans Social security and Medicare Benefit Dollars as a Percent of TotalOther2%Retirement and savings plans18%Vacation and sick pay29%25%Social security and Medicare26%Medical
35 Employees’ Fringe Benefits Vacation pay Vacation pay becomes the employer’s liability as the employee earns vacation rights.Pensions Cash payment to retired employees. Could be a defined contribution plan or a defined benefit planPostretirement Benefits In addition to pension benefits, employees may earn rights to other postretirement benefits such as dental care, eye care, life insurance, etc. Amount is recorded by debiting Postretirement Benefits Expense and crediting cash.
36 PensionsDefined contribution plan Under this plan, a fixed amount of money is invested on the employee’s behalf during the employee’s working years. Example: 401KDefined benefit plan Under this plan, the pension benefits are based on a formula and the employer bears the investment risk in funding a future retirement income benefit.