Chapter 9, Problem 1COP

Accounting for Operating Activities (Including Depreciation) and Preparing Financial Statements (Chapters 3, 4, 8, and 9)

Grid Iron Prep Inc. (GIPI) is a service business incorporated in January of the current year to provide personal training for athletes aspiring to play college football. The following transactions occurred during the month ended January 31.

1. 1. GIPI issued stock in exchange for $ 100.000 cash on 1/01.
2. 2. GIPI purchased a gymnasium building and gym equipment on 1/02 for $50,000, 80% of which related to the gymnasium and 20% to the equipment.
3. 3. GIPI paid $260 cash on 1/03 to have the gym equipment refurbished before it could be used.
4. 4. GIPI provided $4,000 in training on 1/04 and expected collection in February.
5. 5. GIPI collected $36,000 cash in training fees on 1/10, of which $34,000 was earned in January and $2,000 would be earned in February.
6. 6. GIPI paid $23,000 of wages and $7,000 in utilities on 1/30.
7. 7. GIPI will depreciate the gymnasium building using the straight-line method over 20 years with a residual value of $2,000. Gym equipment will be depreciated using the double-declining-balance method, with an estimated residual value of $2,250 at the end of its four- year useful life. Record depreciation on l/31 equal to one-twelfth the yearly amount.
8. 8. GIPI received a bill on 1/31 for $350 for advertising done on 1/31. The bill has not been paid or recorded.
9. 9. GIPI uses the aging method for estimating doubtful accounts and. on 1/31, will record an estimated 3 percent of its under-30-day-old accounts as not collectible.
10. 10. GIPI’s income tax rate is 30%. Assume depreciation for tax is the same amount as depreciation for financial reporting purposes.

Required:

1. 1. Prepare journal entries to record the transactions and adjustments listed in (1)-(10).
2. 2. If you are completing this problem manually, post the entries from requirement 1 to T-accounts and then prepare an adjusted trial balance at December 31. Show a zero balance for Retained Earnings in the adjusted trial balance. (If you are completing this problem in Connect, this requirement will be completed automatically for you using your responses to requirement 1.)
3. 3. Prepare GIPI's annual income statement, statement of retained earnings, and classified balance sheet.

To determine

To prepare: the journal entries to record the transactions and adjustments

Answer to Problem 1COP

Prepare the journal entries to record the transactions and adjustments.

Date	Account title and Explanation	Post ref	Debit  (in $)	Credit (in $)
1	Cash		100,000
	Common Stock			100,000
	(To record the issue of the common stock)
2	Building		40,000
	Equipment		10,000
	Cash			50,000
	(To record the purchase of building and equipment )
3	Equipment		260
	Cash			260
	(To record equipment refurbished expense )
4	Accounts Receivable		4,000
	Service Revenue			4,000
	(To recordthe accounts receivables)
5	Cash		36,000
	Service Revenue			34,000
	Unearned Revenue			2,000
	(To record  the service revenue)
6	Salaries and Wages Expense		23,000
	Utilities Expense		7,000
	Cash			30,000
	(To record salaries and wages expense and utilities expenses)
7	Depreciation Expense		586
	Accumulated Depreciation-Building  (1)			158
	Accumulated Depreciation-Equipment (2)			428
	(To record depreciation expense)
8	Advertising Expense		350
	Accounts Payable			350
	(To record advertising expense)
9	Bad Debt Expense		120
	Allowance for Doubtful Accounts			120
	(To record the bad debts expense)
10	Income Tax Expense		2,083
	Income Tax Payable  (3)			2,083
	(To record the income tax expense)

Table (1)

Working notes:

Calculate the accumulated depreciation on building.

Straight-line Depreciation: Under the straight-line method of depreciation, the same amount of depreciation is allocated every year over the estimated useful life of an asset. The formula to calculate the depreciation cost of the asset using the residual value is shown as below:

$\text{Depreciation = }\frac{\left(\text{Cost of the asset}-\text{Residual value}\right)}{\text{Estimated useful life of the asset}}$

Cost of the building is $50,000; estimated life time of the building is 20 years; residual value is $2,000.

$\begin{array}{c}\text{Depreciation for January month = }\frac{\left(\text{Cost of the asset}-\text{Residual value}\right)}{\text{Estimated useful life of the asset}}\times \frac{1}{12\text{months}}\\ =\frac{\left(\$40,000-\$2,000\right)}{20\text{years}}\times \frac{1}{12\text{months}}\\ =\frac{\$38,000}{20}\times \frac{1}{12\text{months}}\\ =\$158\end{array}$ (1)

Hence, depreciation on building for the month of January is $158.

Calculate the accumulated depreciation on equipment.

Double-declining balance method (Accelerated method): In this method of depreciation, the diminishing value of the asset is taken into consideration for determining the depreciation for the succeeding years.

$\text{Double-declining-balance = }\left(\text{Cost }-\text{Accumulated Depreciation}\right)\times \frac{2}{\text{Useful Life}}$

Cost of the equipment is $10,260 $\left(\$10,000+\$260\right)$. Residual value is $2,250. Estimated life of the equipment is 4 years.

$\begin{array}{c}\text{Double-declining-balance = }\left(\begin{array}{l}\text{Cost }-\text{Accumulated }\\ \text{Depreciation}\end{array}\right)\times \frac{2}{\text{Useful Life}}\times \frac{1}{12\text{months}}\\ =\left(\$10,260-\$0\right)\times \frac{2}{4\text{years}}\times \frac{1}{12\text{months}}\\ =\$428\end{array}$ (2)

Hence, depreciation on equipment for the month of January is $428.

Explanation of Solution

Journal: Journal is the method of recording monetary business transactions in chronological order. It records the debit and credit aspects of each transaction to abide by the double-entry system.

Debit: A debit, in an accounting term refers to the left side of an account. The term debit can be denoted by (Dr). The amounts which are recorded on the left side of the account are known as debiting.

Credit: A credit, in an accounting term refers to the right side of an account. The term credit can be denoted as (Cr). The amounts which are recorded on the right side of the account are known as crediting.

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.

Adjusting entries:

Adjusting entries are those entries which are made at the end of the accounting period, to record the revenues in the period of which they have been earned and to record the expenses in the period of which have been incurred, as well as to update all the balances of assets and liabilities accounts on the balance sheet, and to ascertain accurate amount of net income (loss) on the income statement to maintain the records according to the accrual basis principle.

Accounting rules for journal entries:

• To record increase balance of account: Debit assets, expenses, losses and credit liabilities, capital, revenue and gains.
• To record decrease balance of account: Credit assets, expenses, losses and debit liabilities, capital, revenue and gains.

To determine

To prepare: T accounts by posting the journal entries from requirement 1 and prepare adjusted trial balance at December 31.

Answer to Problem 1COP

Prepare T accounts by posting the journal entries from requirement 1.

Cash  (A)
Balance	0
1	100,000	2	50,000
5	36,000	3	260
		6	30,000
55,740

Accounts Receivable (A)
Balance	0
4	4,000
4,000

Allowance for Doubtful Accounts  (XA)
		Balance	0
		9	120
		120

Building (A)
Balance	0
2	40,000
40,000

Accumulated Depreciation–Building (XA)
		Balance	0
		7	158
		158

Accumulated Depreciation–Equipment  (XA)
				Balance		0
				7		428
				428
Unearned Revenue  (L)
			Balance		0
			5		2000
			2,000

Income Tax Payable  (L)
		Balance	0
		10	2,083
		2,083

Common Stock (SE)
		Balance	0
		1	100,000
		100,000

Service Revenue (R)
		Balance	0
		4	4,000
		5	34,000
		38,000

Salaries and Wages Expense (E)
Balance	0
6	23,000
23,000

Utilities Expense  (E)
Balance	0
6	7,000
7,000

Advertising Expense (E)
Balance	0
8	350
350

Depreciation Expense (E)
Balance	0
7	586
586

Bad Debt Expense (E)
Balance	0
9	120
120

Income Tax  Expense (E)
Balance	0     2,083
10
2,083

Equipment (A)
Balance	0
2	10,000
3	260
10,260

Accounts Payable  (L)
		Balance	0
		8	350
		350

Prepare the adjusted trial balance.

Incorporation GIP
Adjusted trial balance
as of December 31
Account Titles	Debit (In $)	Credit (In $)
Cash	$ 55,740
Accounts Receivable	$ 4,000
Allowance for Doubtful Accounts		$ 120
Building	$ 40,000
Accumulated Depreciation–Building		$ 158
Equipment	$ 10,260
Accumulated Depreciation–Equipment		$ 428
Accounts Payable		$ 350
Unearned Revenue		$ 2,000
Income Tax Payable		$ 2,083
Common Stock		$ 100,000
Retained Earnings		$ 0
Service Revenue		$ 38,000
Salaries and Wages Expense	$ 23,000
Utilities Expense	$ 7,000
Depreciation Expense	$ 586
Advertising Expense	$ 350
Bad Debt Expense	$ 120
Income Tax Expense	2,083
Totals	$ 143,139	$ 143,139

Table (2)

Explanation of Solution

T-account:

T-account is the form of the ledger account, where the journal entries are posted to this account. It is referred to as the T-account, because the alignment of the components of the account resembles the capital letter ‘T’.

The components of the T-account are as follows:

a)      The title of the account

b)      The left or debit side

c)      The right or credit side

Adjusted trial balance:

Adjusted trial balance is that statement which contains complete list of accounts with their adjusted balances, after all relevant adjustments have been made. This statement is prepared at the end of every financial period.

To determine

To prepare: the annual income statement, statement of retained earnings and classified balance sheet.

Answer to Problem 1COP

Prepare the annual income statement of Incorporation GIP for the year ended 2015.

INCORPORATION GIP
Income Statement
For the Year Ended December 31
	Amount (in $)	Amount (in $)
Service Revenue		$ 38,000
Expenses:
Salaries and Wages Expense	23,000
Utilities Expense	7,000
Depreciation Expense	586
Advertising Expense	350
Bad Debt Expense	120
Total Operating Expenses		(31,056)
Income before Income Tax Expense		6,944
Income Tax Expense (3)		(2,083)
Net Income		$ 4,861

Table (3)

Net income for the year ended December 31^st is $4,861.

Prepare the statement of retained earnings for the year ended December 31^st.

Incorporation GIP
Statement of retained earnings
For the Year Ended December 31
	Amount (in $)
Balance, January 1st	0
Net Income	4,861
Dividends	0
Balance, December 31	$ 4,861

Table (4)

Prepare the classified balance sheet of Incorporation GIP as of December 31^st.

GRID IRON PREP, INC.
Balance Sheet
As of December 31
	Amount (in $)
Current assets:
Cash	$  55,740
Accounts Receivable	4,000
Less: Allowance for Doubtful Accounts	(120)
Total Current Assets	59,620
Property and Equipment, at cost	50,260
Less: Accumulated Depreciation	(586)
Total Assets	$ 109,294
Current Liabilities:
Accounts Payable	$ 350
Unearned Revenue	2,000
Income Tax Payable	2,083
Total Liabilities	4,433
Stockholders’ Equity:
Common Stock	100,000
Retained Earnings	4,861
Total Stockholders’ Equity	104,861
Total Liabilities and Stockholders’ Equity	$ 109,294

Table (5)

Explanation of Solution

Compute the income tax expense.

Income before income tax expense is $6,944. Income tax rate is 30%

$\begin{array}{c}\text{Income tax Expense}\text{=}\left(\begin{array}{l}\text{Income before}\\ \text{ Income tax Expense}\end{array}\right)\times \left(\text{Income tax Rate}\right)\\ =\$6,944\times 30\%\\ =\$2,083\end{array}$ (3)

Income statement:

The financial statement which reports revenues and expenses from business operations and the result of those operations as net income or net loss for a particular time period is referred to as income statement.

Statement of Retained Earnings:

Statement of retained earnings shows, the changes in the retained earnings, and the income left in the company after payment of the dividends, for the accounting period.

Balance Sheet:

Balance Sheet summarizes the assets, the liabilities, and the Shareholder’s equity of a company at a given date. It is also known as the statement of financial status of the business.

Classified balance sheet:

This is the financial statement of a company which shows the grouping of similar assets and liabilities under subheadings.