Slide

10-1
 Chapter 10

Liabilities

Financial Accounting, IFRS Edition

Weygandt Kimmel Kieso
Slide
10-2
 Study
Study Objectives
Objectives
1. Explain a current liability, and identify the major types of current
liabilities.
2. Describe the accounting for notes payable.
3. Explain the accounting for other current liabilities.
4. Explain why bonds are issued, and identify the types of bonds.
5. Prepare the entries for the issuance of bonds and interest
expense.
6. Describe the entries when bonds are redeemed.
7. Describe the accounting for long-term notes payable.
8. Identify the methods for the presentation and analysis of non-
current liabilities.
Slide
10-3
 Liabilities
Liabilities

Current Liabilities Non-Current Liabilities

Notes payable Bond basics

Sales taxes payable Accounting for bond issues
Unearned revenues Accounting for bond
Current maturities of long- retirements
term debt Accounting for long-term
Statement presentation notes payable
and analysis Statement presentation and
analysis

Slide
10-4
 Section 1 Current Liabilities
What
What is
is aa Current
Current Liability?
Liability?
Current liability is debt with two key features:
1. Company expects to pay the debt from existing
current assets or through the creation of other current
liabilities.
2. Company will pay the debt within one year or the
operating cycle, whichever is longer.

Current liabilities include notes payable, accounts payable, unearned

revenues, and accrued liabilities such as taxes payable, salaries payable,
and interest payable.

Slide SO 1 Explain a current liability, and identify the

10-5 major types of current liabilities.
 What
What is
is aa Current
Current Liability?
Liability?

Question
To be classified as a current liability, a debt must be
expected to be paid:
a. out of existing current assets.
b. by creating other current liabilities.
c. within 2 years.
d. both (a) and (b).

Slide SO 1 Explain a current liability, and identify the

10-6 major types of current liabilities.
 What
What is
is aa Current
Current Liability?
Liability?

Notes Payable
Written promissory note.
Require the borrower to pay interest.
Issued for varying periods.

Slide
10-7
SO 2 Describe the accounting for notes payable.
 What
What is
is aa Current
Current Liability?
Liability?

Illustration: On March 1, 2011, Cole Williams borrows

$100,000 from First National Bank on a 4-month, 12% note.

Instructions

a) Prepare the entry on March 1.

b) Prepare the adjusting entry on June 30, assuming

monthly adjusting entries have not been made.

c) Prepare the entry at maturity (July 1).

Slide
10-8
SO 2 Describe the accounting for notes payable.
 What
What is
is aa Current
Current Liability?
Liability?

Illustration: On March 1, 2011, Cole Williams borrows

$100,000 from First National Bank on a 4-month, 12% note.
a) Prepare the entry on March 1.
Cash 100,000
Notes payable 100,000

b) Prepare the adjusting entry on June 30.

$100,000 x 12% x 4/12 = $4,000

Interest expense 4,000

Interest payable 4,000
Slide
10-9
SO 2 Describe the accounting for notes payable.
 What
What is
is aa Current
Current Liability?
Liability?

Illustration: On March 1, 2011, Cole Williams borrows

$100,000 from First National Bank on a 4-month, 12% note.
c) Prepare the entry at maturity (July 1).

Notes payable 100,000

Interest payable 4,000
Cash 104,000

Slide
10-10
SO 2 Describe the accounting for notes payable.
 What
What is
is aa Current
Current Liability?
Liability?

Sales Tax Payable

Sales taxes are expressed as a stated percentage of
the sales price.

Either rung up separately or included in total

receipts.

Retailer collects tax from the customer.

Retailer remits the collections to the state’s

department of revenue.

Slide
10-11
SO 3 Explain the accounting for other current liabilities.
 What
What is
is aa Current
Current Liability?
Liability?

Illustration: The March 25 cash register reading for Cooley

Grocery shows sales of $10,000 and sales taxes of $600 (sales
tax rate of 6%), the journal entry is:

Cash 10,600
Sales 10,000
Sales tax payable 600

Slide
10-12
SO 3 Explain the accounting for other current liabilities.
 What
What is
is aa Current
Current Liability?
Liability?

Unearned Revenue
Revenues that are received before the company delivers
goods or provides services.

1. Company debits Cash, and credits

a current liability
account (unearned revenue).
2. When the company earns the
revenue, it debits the
Unearned Revenue account,
and credits a revenue account.

Slide
10-13
SO 3 Explain the accounting for other current liabilities.
 What
What is
is aa Current
Current Liability?
Liability?

Illustration: Assume that Superior University sells 10,000

season football tickets at $50 each for its five-game home
schedule. The university makes the following entry for the sale
of season tickets:
Aug. 6 Cash 500,000
Unearned revenue

500,000 each of the five home games, it would

As the school completes
record the revenue earned.

Sept. 7 Unearned revenue 100,000

Ticket revenue

Slide 100,000
SO 3 Explain the accounting for other current liabilities.
10-14
 What
What is
is aa Current
Current Liability?
Liability?

Unearned Revenue Illustration 10-2

Unearned and earned
revenue accounts

Slide
10-15
SO 3 Explain the accounting for other current liabilities.
 What
What is
is aa Current
Current Liability?
Liability?

Current Maturities of Long-Term Debt

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

No adjusting entry required.

Slide
10-16
SO 3 Explain the accounting for other current liabilities.
 Statement
Statement Presentation
Presentation and
and Analysis
Analysis
Illustration 10-3
Presentation Statement of financial position presentation
of current liabilities (in thousands)

Slide
10-17
SO 3 Explain the accounting for other current liabilities.
 Statement
Statement Presentation
Presentation and
and Analysis
Analysis
Analysis
Illustration 10-4
Liquidity refers to the
ability to pay maturing
obligations and meet
unexpected needs for
cash.

The current ratio permits Illustration 10-5

us to compare the liquidity
of different-sized
companies and of a single
company at different
times.

Slide
10-18
SO 3 Explain the accounting for other current liabilities.
 Statement
Statement Presentation
Presentation and
and Analysis
Analysis

Question
Working capital is calculated as:

a. current assets minus current liabilities.

b. total assets minus total liabilities.
c. non-current liabilities minus current liabilities.
d. both (b) and (c).

Slide
10-19
SO 3 Explain the accounting for other current liabilities.
 Section 2 Non-Current Liabilities

INSTALLMENT NOTES PAYABLE

Purchases of real estate and certain types of equipment often are
financed by the issuance of long-term notes that call for a series of
installment payments.
These payments (often called debt service ) may be due monthly,
quarterly, semiannually, or at any other interval.
A portion of each installment payment represents interest expense, and
the remainder of the payment reduces the principal amount of the
liability. As the amount owed is reduced by each payment, the portion of
each successive payment representing interest expense decreases, and
the portion going toward repayment of principal increases.

Slide
10-20
 Section 2 Non-Current Liabilities

 Allocating Installment Payments between

Interest and Principal
To illustrate, assume that on October 15, Year 1, King’s Inn
purchases furnishings at a total cost of $16,398. In payment,
the company issues an installment note payable for this
amount, plus interest at 12 percent per annum (or 1 percent per
month). This note will be paid in 18 monthly installments of
$1,000 each, beginning on November 15. An amortization table
for this installment note payable is shown in Exhibit 10–5
(amounts of interest expense are rounded to the nearest
dollar ).

Slide
10-21
 Using an Amortization Table,entries to record
each payment

Slide
10-22
 Preparing an Amortization Table

Slide
10-23
 Section 2 Non-Current Liabilities
Bond
Bond Basics
Basics

Bonds are a form of interest-bearing notes payable.

Three advantages over ordinary shares:

1. Stockholder control is not affected.
2. Tax savings result.
3. Earnings per share may be higher.

Slide
10-24
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Bond
Bond Basics
Basics

Effects on earnings per share—equity vs. debt.

Illustration 10-7

Slide
10-25
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Bond
Bond Basics
Basics

Question
The major disadvantages resulting from the use of bonds
are:
a. that interest is not tax deductible and the principal
must be repaid.
b. that the principal is tax deductible and interest must
be paid.
c. that neither interest nor principal is tax deductible.
d. that interest must be paid and principal repaid.

Slide
10-26
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Bond
Bond Basics
Basics

Types of Bonds
Secured and Unsecured (debenture) bonds.
Term and Serial bonds.
Registered and Bearer (or coupon) bonds.
Convertible and Callable bonds.

Slide
10-27
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Bond
Bond Basics
Basics

Issuing Procedures
Bond contract known as a bond indenture.
Represents a promise to pay:
(1) sum of money at designated maturity date, plus
(2) periodic interest at a contractual (stated) rate on the
maturity amount (face value).
Paper certificate, typically a $1,000 face value.
Interest payments usually made semiannually.
Generally issued when the amount of capital needed is too
large for one lender to supply.
Slide
10-28
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Bond
Bond Basics
Basics Issuer
Issuer of
of
Bonds
Bonds
Illustration 10-8

2013
Maturity
Maturity
Date
Date

DUE 2013 DUE 2013

Contractual
Contractual
Interest
Interest
Rate
Rate

Face
Face or
or
Slide Par
Par Value
Value SO 4
10-29
 Bond
Bond Basics
Basics

Bond Trading
Bonds traded on national securities exchanges.
Newspapers and the financial press publish bond prices and
trading activity daily.

Read as: Outstanding 5.125%, $1,000 bonds that mature in 2014.

Currently yield a 5.747% return. On this day, $33,965,000 of these
bonds were traded. Closing price was 96.595% of face value, or
$965.95.
Slide
10-30
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Bond
Bond Basics
Basics

Determining the Market Value of Bonds

Market value is a function of the three factors that determine
present value:

1. dollar amounts to be received,

2. length of time until the amounts are received, and

3. market rate of interest.

The features of a bond (callable, convertible, and so on) affect the

market rate of the bond.

Slide
10-31
SO 4 Explain why bonds are issued, and identify the types of bonds.
Slide
10-32 SO 4 Explain why bonds are issued, and identify the types of bonds.
 Accounting
Accounting for
for Bond
Bond Issues
Issues

Question
The rate of interest investors demand for loaning funds
to a corporation is the:
a. contractual interest rate.
b. face value rate.
c. market interest rate.
d. stated interest rate.

Slide
10-33
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Accounting
Accounting for
for Bond
Bond Issues
Issues

Question
Karson Inc. issues 10-year bonds with a maturity value of
$200,000. If the bonds are issued at a premium, this
indicates that:
a. the contractual interest rate exceeds the market
interest rate.
b. the market interest rate exceeds the contractual
interest rate.
c. the contractual interest rate and the market interest
rate are the same.
d. no relationship exists between the two rates.

Slide
10-34
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Accounting
Accounting for
for Bond
Bond Issues
Issues

Issuing Bonds at Face Value

Illustration: On January 1, 2011, Candlestick

Corporation issues $100,000, five-year, 10% bonds at 100
(100% of face value). The entry to record the sale is:

Jan. 1 Cash 100,000

Bonds payable 100,000

Slide
10-35
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Issuing
Issuing Bonds
Bonds at
at Face
Face Value
Value

Illustration: On January 1, 2011, Candlestick

Corporation issues $100,000, five-year, 10% bonds at 100
(100% of face value). Assume that interest is
payable semiannually on January 1 and July 1. Prepare
the entry to record the payment of interest on July 1, 2011,
assume no previous accrual.

July 1 Bond interest expense 5,000

Cash 5,000

Slide
10-36
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Issuing
Issuing Bonds
Bonds at
at Face
Face Value
Value
Illustration: On January 1, 2011, Candlestick
Corporation issues $100,000, five-year, 10% bonds at 100
(100% of face value). Assume that interest is
payable semiannually on January 1 and July 1. Prepare
the entry to record the accrual of interest on December 31,
2011, assume no previous accrual.

Dec. 31 Bond interest expense 5,000

Bond interest payable 5,000

Slide
10-37
SO 4 Explain why bonds are issued, and identify the types of bonds.
 Issuing Bonds at Face Value
Journal entry to record interest expense

Jan 1 2012 Bond interest payable 5000

cash 5000

Interest expense has been paid that is previously recorded as payable in

Dec, 2011

Slide
10-38
 Bonds Issued between Interest Dates
 The semiannual interest dates (such as January 1
and July 1, or April 1 and October 1) are printed on
the bond certificates.
 However, bonds are often issued between the
specified interest dates.
 The investor is then required to pay the interest
accrued to the date of issuance in addition to the
stated price of the bond.
 The accrued interest collected from investors who
purchase bonds between interest payment dates is
thus returned to them on the next interest payment
date.

Slide
10-39
 Bonds Issued between Interest Dates
 To illustrate, let us modify our illustration to assume that Wells
Corporation issues $1 million of 12 percent bonds at par value
on May 1 —two months after the March interest date printed on
the bonds. The amount received from the bond purchasers
now will
 include two months’ accrued interest, as follows:

Slide
10-40
 Bonds Issued between Interest Dates
 Four months later on the regular September 1
semiannual interest payment date, a full six months’
interest ($60 per $1,000 bond) will be paid to all
bondholders, regardless of when they purchased
their bonds. The entry for the semiannual interest
payment is illustrated below:

Slide
10-41
 Bonds Issued between Interest Dates
Example:
ABC Corporation issues $10 million of 12 percent
bonds at par value on March 1st .
However, the Interest payment dates are: Jan 1st.
and July 1 st
.
Bonds Issued between Interest
The amount
Datesreceived from the bond purchasers
now will include bond price plus two months’
accrued interest, as follows:

Slide
10-42
 Bonds Issued between Interest Dates

At the time f issuing of Bond at Par value.

1st march, 2020
Cash 10,200,000
Bonds payable 10,000,000
Bond interest payable 200,000

Bond issued on March 1st 2020. bond interest payment

dates are Jan 1st and July 1st of every year.

Slide
10-43
 Bonds Issued between Interest Dates
At the time of payment of interest expense

July 1st,2020
Interest payable 200,000
Interest expense 400,000
cash 600,000

Interest payments after 6 months.

Slide
10-44
 Bonds Issued between Interest Dates
Now consider these interest transactions from
the standpoint of the investors. They paid for
two months’ accrued interest at the time of
purchasing the bonds and then received
checks for six months’ interest after holding
the bonds for only four months. They have,
therefore, been reimbursed properly for the
use of their money for four months.

Slide
10-45
 Accounting
Accounting for
for Bond
Bond Issues
Issues
Assume Contractual Rate of 8%

Market Interest Bonds Sold At

6% Premium

8% Face Value

10% Discount

Slide
10-46
SO 5 Prepare the entries for the issuance of bonds and interest expense.
 Accounting
Accounting for
for Bond
Bond Issues
Issues At
At discount
discount

Issuing Bonds at a Discount

Illustration: Assume that on March 1, 2011, Wells
Corporation sells $1 million of 12 percent, 20-year bonds
payable to an underwriter at a price of 97 (meaning that the
bonds were sold to the underwriter at 97 percent of their face
value).
Jan. 1 Cash 970,000
Discount on Bond Payable 30,000

Bond payable 1,000,000

Issued 20-year bonds with $1,000,000 face value to an underwriter at
a price of 97.
Slide
10-47
SO 5 Prepare the entries for the issuance of bonds and interest expense.
 Accounting for Bond Issues At discount

 On March 1, 2011, Wells Corporation receives $970,000 cash from

the underwriter and records a net liability of this amount. When
these bonds mature in 20 years, however, Wells will owe its
bondholders the full $1 million face value of the bond issue.

Records in Balance sheet of Wells Corporation

 Wells Corporation’s liability at the date of issuance appears in the
balance sheet as follows:

Slide
10-48
 Accounting for Bond Issues At discount
Amortization of the Discount

Slide
10-49
 Issuing
Issuing Bonds
Bonds at
at aa Discount
Discount

Question
Discount on Bonds Payable:
a. has a credit balance.
b. is a contra account.
c. is added to bonds payable on the statement of
financial position.
d. increases over the term of the bonds.

Slide
10-50
SO 5 Prepare the entries for the issuance of bonds and interest expense.
 Issuing
Issuing Bonds
Bonds at
at aa Premium
Premium
Issuing Bonds at a Premium
Illustration: Assume that on March 1, 2011, Wells Corporation
sells $1 million of 12 percent, 20-year bonds payable to an
underwriter at a price of 103 (meaning that the bonds were sold
to the underwriter at 103 percent of their face value).

Slide
10-51
SO 5 Prepare the entries for the issuance of bonds and interest expense.
 Issuing Bonds at a Premium
 On March 1, 2011, Wells Corporation receives $1,030,000 cash
from the underwriter and records a liability equal to this amount.
When these bonds mature in 20 years, however, Wells will owe its
bondholders only the $1 million face value of the bond issue. Thus,
the company’s initial liability must somehow be reduced by $30,000
over the 20 years that the bonds are outstanding.

Slide
10-52
 Issuing Bonds at a Premium
 Amortization of the Premium

Slide
10-53
 Accounting
Accounting for
for Bond
Bond Retirements
Retirements

Redeeming Bonds at Maturity

Assuming that the company pays and records separately
the interest for the last interest period, well corp. records
the redemption of its bonds at maturity as follows:

Bond payable 1000,000

Cash 1000,000

Slide
10-54
SO 6 Describe the entries when bonds are redeemed.
 Accounting
Accounting for
for Bond
Bond Retirements
Retirements

Redeeming Bonds before Maturity

When retiring bonds before maturity, it is necessary to:
1. eliminate the carrying value of the bonds at the redemption
date;
2. record the cash paid; and
3. recognize the gain or loss on redemption.

The carrying value of the bonds is the face value of the bonds less
unamortized bond discount or plus unamortized bond premium at the
redemption date.
Slide
10-55
SO 6 Describe the entries when bonds are redeemed.
  Cronan, Inc., sells $1,000,000 general obligation bonds for 98. The
interest rate on the bonds, paid quarterly, is 6 percent. Calculate (a)
the amount that the company will actually receive from the sale of
the bonds, and (b) the amount of both the quarterly and the total
annual cash interest that the company will be required to pay.

a) Cash 980,000
Discount on B/P 20,000
Bond payable 1,000,000
b) Interest expense 60,000
cash 60,000
c) Interest expense 15000
cash 15000

Slide
10-56
  Pearl Company sells $1,000,000 general obligation bonds for 101.
The interest rate on the bonds, paid quarterly, is 5 percent.
Calculate (a) the amount that the company will actually receive from
the sale of the bonds, and (b) the amount of both the quarterly and
the total annual cash interest that the company will be required to
pay.
a) Cash 10,10,000
premium on B/P 10,000
Bond Payable 1000,000
b) Interest expense 50,000
cash 50,000
c) Interest expense 12500
cash 12500

Slide
10-57
 Practice questions

 Brief Ex 10.3-10.6
 Exercise 10.6,10.8, 10.9,10.10
 Problem Set-A 10.3,10.4,10.5, 10.6

Slide
10-58
 Accounting
Accounting for
for Bond
Bond Retirements
Retirements

Question
When bonds are redeemed before maturity, the gain or
loss on redemption is the difference between the cash
paid and the:
a. carrying value of the bonds.
b. face value of the bonds.
c. original selling price of the bonds.
d. maturity value of the bonds.

Slide
10-59
SO 6 Describe the entries when bonds are redeemed.
 Accounting
Accounting for
for Bond
Bond Retirements
Retirements
Illustration: Assume Candlestick, Inc. has sold its bonds at a
premium. At the end of the eighth period, Candlestick retires
these bonds at 103 after paying the semiannual interest. The
carrying value of the bonds at the redemption date is $101,623.
Candlestick makes the following entry to record the redemption
at the end of the eighth interest period (January 1, 2015):

Bonds payable 101,623

Loss on redemption 1,377
Cash 103,000

Slide
10-60
SO 6 Describe the entries when bonds are redeemed.
 Accounting
Accounting for
for Long-Term
Long-Term Notes
Notes Payable
Payable

Long-Term Notes Payable

May be secured by a mortgage that pledges title to
specific assets as security for a loan.

Typically, terms require the borrower to make installment

payments over the term of the loan. Payment consists of
1. interest on the unpaid balance of the loan and
2. a reduction of loan principal.

Companies initially record mortgage notes payable at

face value.

Slide
10-61
SO 7 Describe the accounting for long-term notes payable.
 Accounting
Accounting for
for Long-Term
Long-Term Notes
Notes Payable
Payable
Illustration: Porter Technology Inc. issues a $500,000, 12%, 20-
year mortgage note on December 31, 2011. The terms provide for
semiannual installment payments of $33,231 (not including real
estate taxes and insurance). The installment payment schedule for
the first two years is as follows.
Illustration 10-17

Slide
10-62
SO 7 Describe the accounting for long-term notes payable.
 Accounting
Accounting for
for Long-Term
Long-Term Notes
Notes Payable
Payable
Illustration: Porter Technology Inc. issues a $500,000, 12%, 20-
year mortgage note on December 31, 2011. The terms provide for
semiannual installment payments of $33,231 (not including real
estate taxes and insurance). The installment payment schedule for
the first two years is as follows.

Dec. 31 Cash 500,000

Mortgage notes payable 500,000

Jun. 30 Interest expense 30,000

Mortgage notes payable 3,231
Cash 33,231

Slide
10-63
SO 7 Describe the accounting for long-term notes payable.
 Accounting
Accounting for
for Long-Term
Long-Term Notes
Notes Payable
Payable

Question
Each payment on a mortgage note payable consists of:
a. interest on the original balance of the loan.
b. reduction of loan principal only.
c. interest on the original balance of the loan and
reduction of loan principal.
d. interest on the unpaid balance of the loan and
reduction of loan principal.

Slide
10-64
SO 7 Describe the accounting for long-term notes payable.
Slide
10-65
 Statement
Statement Presentation
Presentation and
and Analysis
Analysis

Presentation
Illustration 10-18

Slide SO 8 Identify the methods for the presentation and

10-66 analysis of non-current liabilities.
 Statement
Statement Presentation
Presentation and
and Analysis
Analysis

Analysis
Two ratios that provide information about debt-paying
ability and long-run solvency are:

1. Debt to total Total debt

=
assets
Total assets

The higher the percentage of debt to total assets, the

greater the risk that the company may be unable to meet
its maturing obligations.

Slide SO 8 Identify the methods for the presentation and

10-67 analysis of non-current liabilities.
 Statement
Statement Presentation
Presentation and
and Analysis
Analysis

Analysis

Income before income taxes

2. Times
and interest expense
Interest =
Earned Interest expense

Indicates the company’s ability to meet interest payments

as they come due.

Slide SO 8 Identify the methods for the presentation and

10-68 analysis of non-current liabilities.
 Statement
Statement Presentation
Presentation and
and Analysis
Analysis

Analysis
Illustrate: LG’s (KOR) had total liabilities of W39,048
billion, total assets of W64,782 billion, interest expense of
W778 billion, income taxes of W1,092 billion, and net
income of W2,967 billion.
Illustration 10-19

Slide SO 8 Identify the methods for the presentation and

10-69 analysis of non-current liabilities.
Slide
10-70
 Understanding
Understanding U.S.
U.S. GAAP
GAAP

Key Differences Liabilities

IFRS reserves the use of the term contingent liability to refer
only to possible obligations that are not recognized in the
financial statements but may be disclosed if certain criteria are
met. Under GAAP, contingent liabilities are recorded in the
financial statements if they are both probable and can be
reasonably estimated. If only one of these criteria is met, then
the item is disclosed in the notes.

IFRS uses the term provisions to refer to liabilities of uncertain

timing or amount. Examples of provisions would be provisions
for warranties, employee vacation pay, or anticipated losses.
Under GAAP, these are considered recordable contingent
Slide liabilities.
10-71
 Understanding
Understanding U.S.
U.S. GAAP
GAAP

Key Differences Liabilities

Both GAAP and IFRS classify liabilities industries where a
presentation based on liquidity would be considered to provide
more useful information (such as financial institutions) can use
that format instead.

Under IFRS, companies sometimes show liabilities before

assets. Also, they will sometimes show non-current liabilities
before current liabilities. Neither of these presentations is used
under GAAP.

Under IFRS, companies sometimes will net current liabilities

against current assets to show working capital on the face of
the statement of financial position. This practice is not used
Slide
10-72
under GAAP.
 Understanding
Understanding U.S.
U.S. GAAP
GAAP

Key Differences Liabilities

IFRS requires the effective-interest method for amortization of
bond discounts and premiums. GAAP allows use of the
straight-line method where the difference is not material.

GAAP often uses a separate Discount or Premium account to

account for bonds payable. IFRS records discounts or
premiums as direct increases or decreases to Bonds Payable.

The GAAP accounting for leases is much more “rules-based,”

with specific bright-line criteria (such as the “90% of fair value”
test) to determine if a lease arrangement transfers the risks and
rewards of ownership; IFRS is more conceptual in its
provisions.
Slide
10-73
 Understanding
Understanding U.S.
U.S. GAAP
GAAP

Looking to the Future Liabilities

The FASB and IASB are currently involved in two projects that
have implications for the accounting for liabilities. The FASB
and IASB have identified leasing as one of the most
problematic areas of accounting. The joint project will initially
focus primarily on lessee accounting. One of the first areas to
be studied is, “What are the assets and liabilities to be
recognized related to a lease contract?” The main issue is
whether the focus should remain on the leased item or should
instead focus on the right to use the leased item. Finally, the
two standard-setting bodies are involved in a far-reaching
project to significantly change the approach used to account
for pensions.
Slide
10-74
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Face Value Appendix 10A

To illustrate present value concepts, assume that you are

willing to invest a sum of money that will yield $1,000 at the
end of one year, and you can earn 10% on your money.
What is the $1,000 worth today?

To compute the answer,

 divide the future amount by 1 plus the interest rate
($1,000/1.10 = $909.09 OR
 use a Present Value of 1 table. ($1,000 X .90909) =
$909.09 (10% per period, one period from now).

Slide
10-75 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Face Value

To compute the answer,

 divide the future amount by 1 plus the interest rate
($1,000/1.10 = $909.09.
Illustration 10A-1

Slide
10-76 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Face Value

To compute the answer,
 use a Present Value of 1 table. ($1,000 X .90909) =
$909.09 (10% per period, one period from now).
TABLE 10A-1

Slide
10-77 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Face Value

The future amount ($1,000), the interest rate (10%), and the
number of periods (1) are known
Illustration 10A-2

Slide
10-78 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Face Value

If you are to receive the single future amount of $1,000 in

two years, discounted at 10%, its present value is $826.45
[($1,000 1.10) 1.10].
Illustration 10A-3

Slide
10-79 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Face Value

To compute the answer using a Present Value of 1 table.
($1,000 X .82645) = $826.45 (10% per period, two periods
from now).
TABLE 10A-1

Slide
10-80 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Interest Payments (Annuities)

In addition to receiving the face value of a bond at maturity,
an investor also receives periodic interest payments
(annuities) over the life of the bonds.

To compute the present value of an annuity, we need to

know:

1) interest rate,
2) number of interest periods, and

3) amount of the periodic receipts or payments.

Slide
10-81 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Interest Payments (Annuities)

Assume that you will receive $1,000 cash annually for three
years and the interest rate is 10%.
Illustration 10A-5

Slide
10-82 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Interest Payments (Annuities)

Assume that you will receive $1,000 cash annually for three
years and the interest rate is 10%.
Illustration 10A-6

Slide
10-83 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Present Value of Interest Payments (Annuities)

Assume that you will receive $1,000 cash annually for three
years and the interest rate is 10%.

TABLE 10A-2

$1,000 annual payment x 2.48685 = $2,486.85

Slide
10-84 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Computing the Present Value of a Bond

The selling price of a bond is equal to the sum of:

1) The present value of the face value of the bond
discounted at the investor’s required rate of return
PLUS
2) The present value of the periodic interest payments
discounted at the investor’s required rate of return

Slide
10-85 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Assume a bond issue of 10%, five-year bonds with a face

value of $100,000 with interest payable semiannually on
January 1 and July 1.
Illustration 10A-8

Slide
10-86 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Assume a bond issue of 10%, five-year bonds with a face

value of $100,000 with interest payable semiannually on
January 1 and July 1.
Illustration 10A-9

Contractual Rate = Discount Rate Issued at Face Value

Slide
10-87 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Assume a bond issue of 10%, five-year bonds with a face

value of $100,000 with interest payable semiannually on
January 1 and July 1.
Illustration 10A-10

Contractual Rate < Discount Rate Issued at a Discount

Slide
10-88 SO 9 Compute the market price of a bond.
 Present
Present Value
Value Concepts
Concepts Related
Related to
to Bond
Bond Pricing
Pricing

Assume a bond issue of 10%, five-year bonds with a face

value of $100,000 with interest payable semiannually on
January 1 and July 1.
Illustration 10A-11

Contractual Rate > Discount Rate Issued at a Premium

Slide
10-89 SO 9 Compute the market price of a bond.
 Effective-Interest
Effective-Interest Method
Method of
of Bond
Bond Amortization
Amortization
Appendix 10B

Under the effective-interest method, the amortization of

bond discount or bond premium results in period interest
expense equal to a constant percentage of the carrying value
of the bonds.

Required steps:

1. Compute the bond interest expense.

2. Compute the bond interest paid or accrued.

3. Compute the amortization amount.

Slide SO 10 Apply the effective-interest method of amortizing

10-90 bond discount and bond premium.
 Effective-Interest
Effective-Interest Method
Method of
of Bond
Bond Amortization
Amortization

Amortizing Bond Discount

Assume Candlestick, Inc. issues $100,000 of 10%, five-year bonds
on January 1, 2011, for $92,639, with interest payable each July 1
and January 1. Illustration 10B-2

Slide
10-91 SO 10
 Effective-Interest
Effective-Interest Method
Method of
of Bond
Bond Amortization
Amortization

Amortizing Bond Discount

Assume Candlestick, Inc. issues $100,000 of 10%, five-year bonds
on January 1, 2011, for $92,639, with interest payable each July 1
and January 1.

Journal entry on July 1, 2011, to record the interest payment and

amortization of discount is as follows:

July 1 Interest Expense 5,558

Cash 5,000
Bonds Payable 558

Slide SO 10 Apply the effective-interest method of amortizing

10-92 bond discount and bond premium.
 Effective-Interest
Effective-Interest Method
Method of
of Bond
Bond Amortization
Amortization

Amortizing Bond Premium

Assume Candlestick, Inc. issues $100,000 of 10%, five-year bonds
on January 1, 2011, for $108,111, with interest payable each July 1
and January 1. Illustration 10B-4

Slide
10-93 SO 10
 Effective-Interest
Effective-Interest Method
Method of
of Bond
Bond Amortization
Amortization

Amortizing Bond Premium

Assume Candlestick, Inc. issues $100,000 of 10%, five-year bonds
on January 1, 2011, for $108,111, with interest payable each July 1
and January 1.
Journal entry on July 1, 2011, to record the interest payment and
amortization of premium is as follows:

July 1 Interest Expense 4,324

Bonds Payable 676
Cash 5,000

Slide SO 10 Apply the effective-interest method of amortizing

10-94 bond discount and bond premium.
 Straight-Line
Straight-Line Amortization
Amortization
Appendix 10C
Amortizing Bond Discount
Candlestick, Inc., sold $100,000, five-year, 10% bonds on January
1, 2011, for $92,639 (discount of $7,361). Interest is payable on
July 1 and January 1. Illustration 10C-2

Slide
10-95
SO 11
 Straight-Line
Straight-Line Amortization
Amortization
Amortizing Bond Discount
Candlestick, Inc., sold $100,000, five-year, 10% bonds on January
1, 2011, for $92,639 (discount of $7,361). Interest is payable on
July 1 and January 1. The bond discount amortization for each
interest period is $736 ($7,361/10).

Journal entry on July 1, 2011, to record the interest payment and

amortization of discount is as follows:

July 1 Interest Expense 5,736

Bonds Payable 736
Cash 5,000

Slide SO 11 Apply the straight-line method of amortizing

10-96 bond discount and bond premium.
 Straight-Line
Straight-Line Amortization
Amortization
Amortizing Bond Premium
Candlestick, Inc., sold $100,000, five-year, 10% bonds on January
1, 2011, for $108,111. Interest is payable on July 1 and January 1.
Illustration 10C-4

Slide
10-97
SO 11
 Straight-Line
Straight-Line Amortization
Amortization
Amortizing Bond Premium
Candlestick, Inc., sold $100,000, five-year, 10% bonds on January
1, 2011, for $108,111 (premium of $8,111). Interest is payable on
July 1 and January 1. The bond discount amortization for each
interest period is $811 ($8,111/10).

Journal entry on July 1, 2011, to record the interest payment and

amortization of discount is as follows:

July 1 Interest Expense 4,189

Bonds Payable 811
Cash 5,000

Slide SO 11 Apply the straight-line method of amortizing

10-98 bond discount and bond premium.
 Payroll-Related
Payroll-Related Liabilities
Liabilities
Appendix 10D
Payroll and Payroll Taxes Payable

The term “payroll” pertains to both:

Salaries - managerial, administrative, and sales personnel
(monthly or yearly rate).
Wages - store clerks, factory employees, and manual
laborers (rate per hour).

Determining the payroll involves computing three amounts:

(1) gross earnings, (2) payroll deductions, and (3) net pay.

Slide
10-99 SO 12 Prepare entries for payroll and payroll taxes under U.S. law.
 Payroll-Related
Payroll-Related Liabilities
Liabilities

Illustration: Assume a corporation records its payroll for the

week of March 7 as follows:

Mar. 7 Salaries and wages expense 100,000

FICA tax payable 7,650
Federal income tax payable 21,864
State income tax payable 2,922
Salaries and wages payable 67,564

Record the payment of this payroll on March 11.

Mar. 11 Salaries and wages payable 67,564
Cash 67,564
Slide
10- SO 12 Prepare entries for payroll and payroll taxes under U.S. law.
 Payroll-Related
Payroll-Related Liabilities
Liabilities

Payroll tax expense results from three taxes that

governmental agencies levy on employers.

These taxes are:

FICA tax
Federal unemployment tax
State unemployment tax

Slide
10- SO 12 Prepare entries for payroll and payroll taxes under U.S. law.
 Payroll-Related
Payroll-Related Liabilities
Liabilities

Illustration: Based on the corporation’s $100,000 payroll,

the company would record the employer’s expense and
liability for these payroll taxes as follows.

Payroll tax expense 13,850

FICA tax payable 7,650
Federal unemployment tax payable 800
State unemployment tax payable 5,400

Slide
10- SO 12 Prepare entries for payroll and payroll taxes under U.S. law.
 Payroll-Related
Payroll-Related Liabilities
Liabilities

Question
Employer payroll taxes do not include:

a. Federal unemployment taxes.

b. State unemployment taxes.
c. Federal income taxes.
d. FICA taxes.

Slide
10- SO 12 Prepare entries for payroll and payroll taxes under U.S. law.
 Copyright
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Slide
10-