Chapter 11Current LiabilitiesWarren Reeve FessPowerPoint Presentation by Douglas Cloud Professor Emeritus of Accounting Pepperdine University

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1.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.ObjectivesAfter studying this chapter, you should be able to:

5.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.Objectives

The Nature of Current LiabilitiesLiabilities that are to be paid out of current assets and are due within a short time, usually within one year, are called current liabilities.Examples:Accounts payableNotes payableUnearned rentTaxes payableWages payableCurrent portion of long term debt

Short-Term Notes PayableAug.1Accounts PayableMurray Co.1 000 00Issued a 90-day, 12% note on account.Notes Payable 1 000 00A firm issues a 90-day, 12% note for $1,000, dated August 1, 2006 to Murray Co. for a $1,000 overdue account.

Oct.30Notes Payable1 000 00Interest Expense30 00Issued a 90-day, 12% note on account.Cash 1 030 00On October 30, when the note matures, the firm pays the $1,000 principal plus $30 interest ($1,000 x .12 x 90/360).Appears on the income statement as an Other Expense.Short-Term Notes Payable

Mdse. Inventory10,000Accounts Payable10,000Accounts Receivable10,000Sales10,000

Cost of Mdse. Sold7,500Mdse. Inventory7,500

May 31. Bowden Co. purchased merchandise on account from Coker Co., $10,000, 2/10, n/30. The merchandise cost Coker Co. $7,500.Short-Term Notes Payable

DescriptionDebitCreditAccounts Receivable10,000Sales10,000

Cost of Mdse. Sold7,500Mdse. Inventory7,500

Bowden Co. (Borrower)Coker Co. (Creditor)May 31. Bowden Co. issued a 60-day, 12% note for $10,000 to Coker on account.Accounts Payable10,000Notes Payable10,000

Notes Receivable10,000Accounts Receivable10,000

Mdse. Inventory10,000Accounts Payable10,000Accounts Receivable10,000Sales10,000

Cost of Mdse. Sold7,500Mdse. Inventory7,500

Short-Term Notes Payable

DescriptionDebitCreditMdse. Inventory10,000Accounts Payable10,000

Accounts Receivable10,000Sales10,000

Cost of Mdse. Sold7,500Mdse. Inventory7,500

Bowden Co. (Borrower)Coker Co. (Creditor)DescriptionDebitCreditJuly 30. Bowden Co. paid Coker Co. the amount due on the note of May 31. Interest: $10,000 x 12% x 60/360 = $200.Accounts Payable10,000Notes Payable10,000

Notes Receivable10,000Accounts Receivable10,000

Notes Payable10,000Interest Expense200Cash10,200

Cash10,200Interest Revenue 200Notes Receivable10,000

Short-Term Notes Payable

Discounted Notes PayableAug.10Merchandise Inventory19 250 00Interest Expense750 00Issued a 90-day, note to Rock Co. discounted at 15%.Notes Payable 20 000 00On August 10, Cary Company issues a $20,000, 90-day note to Rock Company in exchange for inventory. Rock discounts the note at 15%.Discount: $20,000 x .15 x 90/360ProceedsDiscount rate

Discounted Notes PayableNov. 8Notes Payable20 000 00Paid note due.Cash 20 000 00On November 8 the note is paid in full.

Contingent Liabilities

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 30Product Warranty Expense3 000 00Warranty expenses projected for June, 5% of $60,000.Product Warranty Liability 3 000 00

On August 16, a customer needed a defective part replaced. Cost to the company was $200 for the part. Aug.16Product Warranty Payable200 00Replaced defective part under warranty.Supplies 200 00Product Liability

Accounting Treatment of Contingent LiabilitiesLikelihood of OccurringMeasurementAccounting TreatmentContingency

Payroll and Payroll Taxes

Liability for Employee Earnings1. 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.Payroll is the amount paid to employees for services provided. Payrolls are important because--

Gross Pay CalculationJohn 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.

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.

Earnings subject to 6% social security tax ($100,000 $99,038) $962Social security tax rate x 6% Social security tax$57.72FICA Tax CalculationAssume that John T. McGraths annual earnings prior to the current period total $99,038. His current period earnings are $1,462.Earnings subject to 1.5% Medicare taxCurrent earnings$1,462Medicare tax rate x 1.5% Medicare tax 21.93Total FICA tax$79.65

Withholding Taxes, Other DeductionsEmployers are required to withhold federal income tax from each employee based on the withholding table and information provided by the employees 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.

John T. McGrath is single, has declared one withholding allowance, and had gross pay of $1,462 for the week ended December 27.Employee Net Pay Calculation

Responsibility for Tax Payments

Federal Income

Federal Outlays

Payroll RegisterWhat is the purpose of a payroll register?Its a multicolumn form used to help assemble and summarize the data needed for each payroll period.

Earnings:Regular$13,328.00Overtime574.00Total$13,902.00Deductions:Social security tax$ 643.07Medicare tax208.53Federal income tax3,332.00Retirement savings680.00United Way470.00Accounts receivable50.00Total5,383.60Net amount paid$ 8,518.40

Accounts debited:Sales Salaries Expense$11,122.00Office Salaries Expense2,780.00Total (as above)$13,902.00Payroll Register Summary

Recording Employees EarningsDec. 27Sales Salaries Expense11 122 00Office Salaries Expense2 780 00Payroll for week ended December 27.Social Security Tax Payable 643 07Medicare Tax Payable 208 53Employees Federal Inc. Tax Pay. 3 332 00Retirement Savings Ded. Payable 680 00United Way Deductions Payable 470 00Accounts ReceivableFred Elrod 50 00Salaries Payable 8 518 40

Recording Employers Payroll Taxes

Recording Employers Payroll TaxesDec. 27Payroll Tax Expense1 019 62Payroll taxes for week ended December 27.Social Security Tax Payable 643 07Medicare Tax Payable 208 53State Unemployment Tax Payable 146 34Federal Unemployment Tax Pay. 21 68

Flow of Data in a Payroll System

Employees Fringe Benefits

Benefit Dollars as a Percent of Total26%Vacation and sick pay29%Medical2%Other18%Retirement and savings plans25%Social security and Medicare

Employees Fringe BenefitsVacation pay Vacation pay becomes the employers 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.

PensionsDefined contribution plan Under this plan, a fixed amount of money is invested on the employees behalf during the employees working years. Example: 401K Defined 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.

Solvency Measures Quick RatioNoble Co.Hart Co.Quick assets:Cash$ 100,000$ 55,000Cash equivalents 47,00065,000Accounts receivable (net)84,000472,000 Total$231,000$592,000Current liabilities$220,000$740,000

Solvency Measures Quick RatioNoble Co.Hart Co.Quick assets:Cash$ 100,000$ 55,000Cash equivalents 47,00065,000Accounts receivable (net)84,000472,000 Total$231,000$592,000Current liabilities$220,000$740,000Quick assetsCurrent liabilitiesNoble Company$231,000$220,000Quick ratio = 1.05

Solvency Measures Quick RatioNoble Co.Hart Co.Quick assets:Cash$ 100,000$ 55,000Cash equivalents 47,00065,000Accounts receivable (net)84,000472,000 Total$231,000$592,000Current liabilities$220,000$740,000Quick assetsCurrent liabilitiesHart Company$592,000$740,000Quick ratio = 0.80Use:To indicate instant debt-paying ability

The EndChapter 11

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