[This is a variation of E 5–25 focusing on journal entries.]
On July 1, 2018, the Foster Company sold inventory to the Slate Corporation for $300,000. Terms of the sale called for a down payment of $75,000 and three annual installments of $75,000 due on each July 1, beginning July 1, 2019. Each installment also will include interest on the unpaid balance applying an appropriate interest rate. The inventory cost Foster $120,000. The company uses the perpetual inventory system.
Required:
1. Prepare the necessary journal entries for 2018 and 2019 assuming revenue recognition upon delivery. Ignore interest charges.
2. Repeat requirement 1 applying the installment sales method.
3. Repeat requirement 1 applying the cost recovery method.
Requirement – 1
The revenue recognition principle
The revenue recognition principle refers to the revenue that should be recognized in the time period, when the performance obligation (sales or services) of the company is completed.
Installment sales method:
Under the installment sales, the revenue and costs are recognized only when the payment of cash is received from customer. Two composed components are involved in the each payment of cash, and components of sales are as follows:
- Partial recovery of the cost from sales
- Component of gross profit
These components are determined by the percentage of gross profit.
Cost recovery method:
Under the cost recovery method, gross profit is recognized when the cost of the sales is recovered. Where there is an extremely high degree of uncertainty in the installment sales, this method can be used.
Rules of Debit and Credit:
Following rules are followed for debiting and crediting different accounts while they occur in business transactions:
- Debit, all increase in assets, expenses and dividends, all decrease in liabilities, revenues and stockholders’ equities.
- Credit, all increase in liabilities, revenues, and stockholders’ equities, all decrease in assets, expenses.
To prepare: The journal entries for 2018 and 2019 assuming revenue recognition upon delivery.
Explanation of Solution
In the year 2018 (Revenue recognition upon delivery)
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Installment receivables | $300,000 | |||
Sales revenue | $300,000 | |||
(To record installment sales) |
Table (1)
- Installment receivable is a liability. There is a decrease in asset value. Therefore, it is debited.
- Inventory and deferred gross profits are assets. There is a decrease in assets value. Therefore, it is credited.
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Cost of goods sold | $120,000 | |||
Inventory | $120,000 | |||
(To record cost of installment sales) |
Table (2)
- Cost of goods sold is an expense. There is a decrease in liability value. Therefore, it is debited.
- Inventory is an asset. There is a decrease in assets value. Therefore, it is credited.
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Cash | $75,000 | |||
Installment receivables | $75,000 | |||
(To record cash collections from installment sales) |
Table (3)
- Cash is an asset. There is an increase in asset value. Therefore, it is debited.
- Installment receivable is a liability. There is an increase in liability value. Therefore, it is credited.
In the year 2019 (Revenue recognition upon delivery)
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Cash | $75,000 | |||
Installment receivables | $75,000 | |||
(To record cash collections from installment sales) |
Table (4)
- Cash is an asset. There is an increase in asset value. Therefore, it is debited.
- Installment receivable is a liability. There is an increase in liability value. Therefore, it is credited.
Requirement – 2
To prepare: The journal entries for 2018 and 2019 assuming revenue recognized under installment sales method.
Explanation of Solution
In the year 2018 (Installment sales method)
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Installment receivables | $300,000 | |||
Inventory | $120,000 | |||
Deferred gross profit | $180,000 | |||
(To record installment sales) |
Table (5)
- Installment receivable is a liability. There is a decrease in asset value. Therefore, it is debited.
- Inventory and deferred gross profits are assets. There is a decrease in assets value. Therefore, it is credited.
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Cash | $75,000 | |||
Installment receivables | $75,000 | |||
(To record cash collections from installment sales) |
Table (6)
- Cash is an asset. There is an increase in asset value. Therefore, it is debited.
- Installment receivable is a liability. There is an increase in liability value. Therefore, it is credited.
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Deferred gross profit | $45,000 | |||
Realized gross profit | $45,000 | |||
(To record gross profit recognize from installment sales) |
Table (7)
- Deferred gross profits are assets. There is an increase in assets value. Therefore, it is debited.
- Realized gross profit is a liability. There is an increase in liability value. Therefore, it is credited.
In the year 2019 (Installment sales method)
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Cash | $75,000 | |||
Installment receivables | $75,000 | |||
(To record cash collections from installment sales) |
Table (8)
- Cash is an asset. There is an increase in asset value. Therefore, it is debited.
- Installment receivable is a liability. There is an increase in liability value. Therefore, it is credited.
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Deferred gross profit | $45,000 | |||
Realized gross profit | $45,000 | |||
(To record gross profit recognize from installment sales) |
Table (9)
- Deferred gross profits are assets. There is an increase in assets value. Therefore, it is debited.
- Realized gross profit is a liability. There is an increase in liability value. Therefore, it is credited.
Requirement – 3
To prepare: The journal entries for 2018 and 2019 assuming revenue recognized under cost recovery method.
Explanation of Solution
In the year 2018 (Cost recovery method)
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Installment receivables | $300,000 | |||
Inventory | $120,000 | |||
Deferred gross profit | $180,000 | |||
(To record installment sales) |
Table (10)
- Installment receivable is a liability. There is a decrease in asset value. Therefore, it is debited.
- Inventory and deferred gross profits are assets. There is a decrease in assets value. Therefore, it is credited.
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Cash | $75,000 | |||
Installment receivables | $75,000 | |||
(To record cash collections from installment sales) |
Table (11)
- Cash is an asset. There is an increase in asset value. Therefore, it is debited.
- Installment receivable is a liability. There is an increase in liability value. Therefore, it is credited.
In the year 2019 (Cost recovery method)
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Cash | $75,000 | |||
Installment receivables | $75,000 | |||
(To record cash collections from installment sales) |
Table (12)
- Cash is an asset. There is an increase in asset value. Therefore, it is debited.
- Installment receivable is a liability. There is an increase in liability value. Therefore, it is credited.
Date | Account Title and Explanation | Post Ref. | Debit | Credit |
Deferred gross profit | $30,000 | |||
Realized gross profit | $30,000 | |||
(To record gross profit recognize from installment sales) |
Table (13)
- Deferred gross profits are assets. There is an increase in assets value. Therefore, it is debited.
- Realized gross profit is a liability. There is an increase in liability value. Therefore, it is credited.
Want to see more full solutions like this?
Chapter 5 Solutions
INTERMEDIATE ACCT.(LL)W/CONNECT ACCESS
- Spath Company borrows 75,000 by issuing a 4-year, noninterest-bearing note to a customer on January 1, 2019. In addition, Spath agrees to sell inventory to the customer at reduced prices over a 5-year period. Spaths incremental borrowing rate is 12%. The customer agrees to purchase an equal amount of inventory each year over the 5-year period so that a straight-line method of revenue recognition is appropriate. Required: Prepare the journal entries on Spaths books for 2019 and 2020. (Round answers to 2 decimal places.)arrow_forwardHamlet Corporation purchases computer equipment at a price of 100,000 on January 1, 2019, paying 40,000 down and agreeing to pay the balance in three 20.000 annual instalments beginning December 31, 2019. It is not possible to value either the equipment or the 60,000 note directly; how-ever, Hamlet's incremental borrowing rate is 12%. Required: 1. Prepare a schedule to compute the interest expense and discount amortization on the note. 2. Prepare all the journal entries for Hamlet to record the issuance of the note, each annual interest expense, and the three annual installment payments.arrow_forwardComprehensive Notes Receivable On January 1, 2019, Seaver Company sold land with a book value of 23,000 to Bench Company. Bench paid 15,000 down and signed a 15,000 non-interest-bearing note, payable in two 7,500 annual installments on December 31, 2019, and 2020. Neither the fair value of the land nor of the note is determinable. Benchs incremental borrowing rate is 12%. Later in the year, on July 1, 2019, Seaver sold a building to Hane Company, accepting a 2-year, 100,000 non-interest-bearing note due July 1, 2021. The fair value of the building was 82,644.00 on the date of the sale. The building had been purchased at a cost of 90,000 on January 1, 2014, and had a book value of 67,500 on December 31, 2018. It was being depreciated on a straight-line basis (no residual value) over a 20-year life. Required: 1. Prepare all the journal entries on Seavers books for January 1, 2019, through December 31, 2020, in regard to the Bench note. 2. Prepare all the journal entries on Seavers books for July 1, 2019, through July 1, 2021, in regard to the Hane note. 3. Prepare the notes receivable portion of Seavers balance sheet on December 31, 2019 and 2020.arrow_forward
- Notes Receivable and Income On January 1, 2019, Pitt Company sold a patent to Chatham Inc. which had a carrying value on Pitts books of 10,000. Chatham gave Pitt a 60,000, non-interest-bearing note payable in five equal annual installments of 12,000 with the first payment due and paid on January 1, 2020. There was no established price for the patent, and the note has no ready market value. The prevailing rate of interest for a note of this type at January 1, 2019, is 12%. Required: 1. Prepare a schedule showing the income or loss before income taxes that Pitt should record for the years ended December 31, 2019 and 2020. Show supporting computations in good form. 2. Next Level If Pitt inadvertently failed to discount the note and instead recorded it at its gross value, what would be the effect on income or loss before income taxes for the year ended December 31, 2019?arrow_forwardDiscounting of Notes Payable On October 30, 2019, Sanchez Company acquired a piece of machinery and signed a 12-month note for 24,000. The lace value of the note includes the price of the machinery and interest. The note is to be paid in four 6,000 quarterly installments. The value of the machinery is the present value of the four quarterly payments discounted at an annual interest rate of 16%. Required: 1. Prepare all the journal entries required to record the preceding information including the year-end adjusting entry and any payments. Present value techniques should be used. 2. Show how the preceding items would be reported on the December 31, 2019, balance sheet.arrow_forwardAnderson Air is a customer of Handler Cleaning Operations. For Anderson Airs latest purchase on January 1, 2018, Handler Cleaning Operations issues a note with a principal amount of $1,255,000, 6% annual interest rate, and a 24-month maturity date on December 31, 2019. Record the journal entries for Handler Cleaning Operations for the following transactions. A. Entry for note issuance B. Subsequent interest entry on December 31, 2018 C. Honored note entry at maturity on December 31, 2019arrow_forward
- On January 1, 2019, Boater Company issues a 20,000 non-interest-bearing, 5-year note for equipment. Neither the fair value of the note nor the equipment is determinable. Boaters incremental borrowing rate is 9%. The asset has a useful life of 7 years. Prepare the journal entry for Boater to record the issuance of the note on January 1.arrow_forwardDani Corporation signed a binding commitment on December 2 to purchase inventory for 300,000 cash on January 2. By December 31, the market price (replacement cost) of the inventory had declined to 280,000. Prepare Danis journal entries at year-end and at the date of purchase.arrow_forwardOn January 1, 2019, Park Company accepted a 36,000, non-interest-bearing, 3-year note from a major customer in exchange for used equipment. The equipment had originally cost Park 200,000 and had a book value of 20,000 on the date of the sale. At the 12% imputed interest rate for this type of loan, the present value of the note is 25,500 on January 1, 2019. Park uses the effective interest rate. What is the carrying value of the note receivable on Parks December 31, 2019, balance sheet? a. 28,560 b. 29,000 c. 32,500 d. 36,000arrow_forward
- Intermediate Accounting: Reporting And AnalysisAccountingISBN:9781337788281Author:James M. Wahlen, Jefferson P. Jones, Donald PagachPublisher:Cengage LearningCornerstones of Financial AccountingAccountingISBN:9781337690881Author:Jay Rich, Jeff JonesPublisher:Cengage Learning
- Principles of Accounting Volume 1AccountingISBN:9781947172685Author:OpenStaxPublisher:OpenStax College