College Accounting Heintz & Parry 20 th Edition

Chapter 21 Corporations: Taxes, Earnings, Distributions, and the Retained Earnings Statement

1 Account for corporate income taxes.

CORPORATE INCOME TAXES A disadvantage of corporations is that they must pay income taxes Corporations estimate their annual income and make quarterly payments At the end of accounting period, the actual amount of income tax is determined –If it differs from estimates, an adjusting entry is made

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT EXAMPLE: If the corporation estimates its income taxes for 20-1 will be $160,000…

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Income Tax Expense40,000 Cash40,000 …quarterly payments will be made on April 15, June 15, September 15, and December 15. ($160,000 ÷ 4 = $40,000)

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Income Tax Expense40,000 Cash The same entry is made each quarter. 40,000

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT At the end of the year, actual income taxes are calculated as $163,000, or $3,000 more than estimated. An adjusting entry is needed. Income Tax Expense3,000 Income Tax Payable3,000

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Income Tax Payable3,000 Cash3,000 An additional $3,000 is paid when a tax return is filed in the following period.

2 Explain the use of the retained earnings account.

THE RETAINED EARNINGS ACCOUNT Retained Earnings Very few transactions affect the retained earnings account.

THE RETAINED EARNINGS ACCOUNT Retained Earnings Usually the only credit is for net income. Net income

THE RETAINED EARNINGS ACCOUNT Retained Earnings There are only three types of debits. Net incomeNet loss Dividends (closing) Appropriations

CASH DIVIDENDS EXAMPLE: On February 1, the board of directors declares a dividend of $4 per share on 4,000 shares of preferred stock and a dividend of $2 per share on 10,000 shares of common stock. Both dividends are payable on February 20 to stockholders of record on February 10. DATE OF RECORD: Stockholders who own the stock on the date of record will receive the dividend, regardless of whether they owned the stock on the date of declaration or on the date of payment.

SMALL STOCK DIVIDEND EXAMPLE: Diven Corp. has 4,000 share of $5 par common stock outstanding. Diven declares a 10% stock dividend on March 5, payable on March 27 to stockholders of record on March 14. The market value of Diven’s common stock on the date of declaration is $12 per share. 4,000 shares to be distributed  10% 400

APPROPRIATIONS EXAMPLE: Chem Corp. has decided to build a new waste treatment plant. Chem Corp. has a retained earnings balance of $900,000. To finance a portion of the plant (and to inform people of its concern for the environment), the board of directors decides to appropriate $600,000 of retained earnings over a three- year period. Let’s look at the journal entry.

CLOSING ENTRIES 1.Close revenue accounts to Income Summary –The same entry as sole proprietorships and partnerships 2.Close expense accounts to Income Summary –The same entry as sole proprietorships and partnerships 3.Close Income Summary to Retained Earnings –Credit balance in Income Summary = net income –Debit balance in Income Summary = net loss 4.Close Dividends to Retained Earnings

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Income Summary 337,000 Retained Earnings Closing Entry #3 EXAMPLE: The corporation has net income of $337,000 for the period. 337,000

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Income Summary 52,000 Retained Earnings What if the corporation has a net loss of $52,000? 52,000

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Dividends 30,000 Retained Earnings Closing Entry #4 EXAMPLE: The corporation declares $30,000 in dividends. 30,000

3 Account for dividends and stock splits.

CASH DIVIDENDS A distribution of corporate assets (cash) to stockholders To be issued if corporation has: –Unrestricted retained earnings –An adequate cash balance –Declared a cash dividend Only the board of directors can declare a dividend Three key dates: –Date of declaration –Date of record –Date of payment

CASH DIVIDENDS EXAMPLE: On February 1, the board of directors declares a dividend of $4 per share on 4,000 shares of preferred stock, and a dividend of $2 per share on 10,000 shares of common stock. Both dividends are payable on February 20 to stockholders of record on February 10. DATE OF DECLARATION: 4,000shares  $4 $16,000 10,000 shares  $2 $20,000 Preferred Stock Common Stock

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Cash Dividends16,000 Preferred Dividends Payable Separate entries are made for each type of stock. 16,000 Feb.1 1Cash Dividends Common Dividends Payable 20,

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT ,000Preferred Dividends Payable Date of Payment 16,000 Feb.20 Common Dividends Payable 20,000 Cash 20--

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Cash Dividendsxxx Dividends Payablexxx Dividends Payable Cash xxx How do cash dividend entries affect total assets?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Cash Dividendsxxx Dividends Payablexxx Dividends Payable Cash xxx Total assets decrease

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Cash Dividendsxxx Dividends Payablexxx Dividends Payable Cash xxx How do cash dividend entries affect paid-in capital?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Cash Dividendsxxx Dividends Payablexxx Dividends Payable Cash xxx No effect

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Cash Dividendsxxx Dividends Payablexxx Dividends Payable Cash xxx How do cash dividend entries affect retained earnings?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Cash Dividendsxxx Dividends Payablexxx Dividends Payable Cash xxx Decrease (remember the Cash Dividends account is closed to Retained Earnings).

STOCK DIVIDENDS A proportionate distribution of shares of a corporation’s own stock to its stockholders Several reasons for this type of dividend: –The company may be short of cash –The company may want to increase the marketability of its shares by lowering the price per share –The corporation may want to transfer a portion of retained earnings to a paid-in capital category to indicate that it is unavailable for dividends

STOCK DIVIDENDS Typically stated as a percentage of common stock outstanding The date of declaration journal entry varies depending on the dividend percentage –Dividends for less than 20–25% (small) Stock Dividend is debited for the market value of the stock –Dividends for more than 20–25% (large) Stock Dividend is debited for the par or stated value of the stock

SMALL STOCK DIVIDEND EXAMPLE: Diven Corp. has 4,000 share of $5 par common stock outstanding. Diven declares a 10% stock dividend on March 5, payable on March 27 to stockholders of record on March 14. The market value of Diven’s common stock on the date of declaration is $12 per share. 4,000 shares to be distributed  10% 400

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividends4,800 Small stock dividends: The stock dividend account is debited for the market value of the shares to be distributed. (400 shares  $12 market value) Mar

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividends4,800 Stock Div. Distributable Stock Dividends Distributable is credited for the par value. (400 shares  $5 par value) 2,000 Mar

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividends4,800 Stock Div. Distributable The Stock Dividends Distributable account is credited for the par value and reported as an addition to common stock on the balance sheet. The Paid-in Capital in Excess of Par account is credited for the difference between market value and par value. 2,000 Mar.5 Paid-In Capital in Excess of Par—Common Stock2,

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividends4,800 Stock Div. Distributable2,000 Mar.5 Paid-In Capital in Excess of Par—Common Stock2,800 27Stock Div. Distributable 2,000 Common Stock2,000 The new shares of stock are distributed to stockholders on March

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributable Distribution of stock dividend (small) to stockholders xxx At declaration Paid-In Capital in Excess of Par—Common Stockxxx

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx At distribution Paid-In Capital in Excess of Par—Common Stockxxx Stock Div. Distributable Common Stock xxx How do small stock dividend entries affect the assets?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Paid-In Capital in Excess of Par—Common Stockxxx Stock Div. Distributable Common Stock xxx No effect

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Paid-In Capital in Excess of Par—Common Stockxxx Stock Div. Distributable Common Stock xxx How do small stock dividend entries affect total paid-in capital?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Paid-In Capital in Excess of Par—Common Stockxxx Stock Div. Distributable Common Stock xxx Total paid-in capital is increased by market value.

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Paid-In Capital in Excess of Par—Common Stockxxx Stock Div. Distributable Common Stock xxx How do small stock dividend entries affect retained earnings?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Paid-In Capital in Excess of Par—Common Stockxxx Stock Div. Distributable Common Stock xxx Retained earnings is decreased by market value (remember Stock Dividends are closed to Retained Earnings).

LARGE STOCK DIVIDEND Recorded similarly to the small stock dividend, except: –The stock dividend account is debited for the par value instead of the market value –Stock dividends distributable are recorded at par value –Since both the debit and credit are the same (par value), there is no need for the paid-in capital in excess of par— common stock account

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributable Distribution of stock dividend (large) to stockholders xxx At declaration

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx At distribution Stock Div. Distributable Common Stock xxx How do large stock dividend entries affect the assets?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Stock Div. Distributable Common Stock xxx No effect

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Stock Div. Distributable Common Stock xxx How do large stock dividend entries affect paid-in capital?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Stock Div. Distributable Common Stock xxx Increase by par value

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Stock Div. Distributable Common Stock xxx How do large stock dividend entries affect retained earnings?

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Stock Dividendsxxx Stock Div. Distributablexxx Stock Div. Distributable Common Stock xxx Decrease by par value

STOCK SPLITS The exchange of one share of an old issue of stock for multiple shares of a new issue with a reduced par or stated value –Example: Splice Corp. has 10,000 shares of $10 par common stock outstanding. Splice declares a two-for-one stock split Why?—To improve marketability of the shares by reducing par value, leading to wider ownership of the stock Each shareholder will receive two shares of the new $5 par value stock in return for each share of the old $10 par value stock

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Memo notation Stock split: The exchange of old stock for multiple shares of new stock No journal entry; just a memo in the journal

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Memo notation Because there is no entry, there is no effect on assets, paid-in capital, or retained earnings.

4 Account for appropriations of retained earnings.

APPROPRIATIONS A restriction of retained earnings by the board of directors for a specific purpose Used primarily to limit the availability of retained earnings for paying dividends Does not affect total retained earnings –Just separates it into “appropriated” and “unappropriated” Does not affect cash or other assets

APPROPRIATIONS EXAMPLE: Chem Corp. has decided to build a new waste treatment plant. Chem Corp. has a retained earnings balance of $900,000. To finance a portion of the plant (and to inform people of its concern for the environment), the board of directors decides to appropriate $600,000 of retained earnings over a three- year period. Let’s look at the journal entry.

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Retained Earnings $600,000 ÷ 3 years The same entry is made at the end of each of the three years. Retained Earnings Approp. for Treatment Plant 200,000

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Retained Earnings Section of the Balance Sheet Retained earnings: Appropriated for treatment plant $200,000 Unappropriated 700,000 Total retained earnings $900,000

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. GENERAL JOURNAL DATEDESCRIPTIONPRDEBITCREDIT Retained Earnings Approp. for Treatment Plant After the treatment plant is completed, the appropriation is no longer needed. Retained Earnings 600,000

5 Prepare a retained earnings statement.

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. $1,100,000Retained earnings, January 1 $30,000 Add net income for the year 280,000 Less: Cash dividends Stock dividends20,00050,000 Retained earnings, December 31 $1,380,000 $1,330,000 Similar to the statement of owner’s equity Sample Corporation Retained Earnings Statement For Year Ended December 31, 20--

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. $200,000 Appropriated: $700,000 Appropriated for treatment plant, Jan ,000 Retained earnings appropriated, Dec. 31 Unappropriated: 280, ,000 Balance, January 1 $ 400,000 Current year appropriation (see below) Add net income for the year Less: Cash dividends$ 30,000 $980,000 Stock dividends 20,000 Transfer to approp. for treatment plant 250,000 Ret. earnings unappropriated, Dec ,000 Total retained earnings, December 31 $1,130,000 Chem Corporation Retained Earnings Statement For Year Ended December 31, 20-2 Appropriated retained earnings are presented first, followed by unappropriated.

©2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. $200,000 Appropriated: $700,000 Appropriated for treatment plant, Jan ,000 Retained earnings appropriated, Dec. 31 Unappropriated: 280, ,000 Balance, January 1 $ 400,000 Current year appropriation (see below) Add net income for the year Less: Cash dividends$ 30,000 $980,000 Stock dividends 20,000 Trans. to approp. for treatment plant 250,000 Ret. earnings unappropriated, Dec ,000 Total retained earnings, December 31 $1,130,000 Chem Corporation Retained Earnings Statement For Year Ended December 31, 20-2 Current year appropriations are shown twice.