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Chapter 11: Q12SE (page 606)

Freeman Motors, a motorcycle manufacturer, had the following contingencies.

a. Freeman estimates that it is reasonably possible but not likely that it will lose a current lawsuit. Freeman’s attorneys estimate the potential loss will be \(4,500,000.

b. Freeman received notice that it was being sued. Freeman considers this lawsuit to be frivolous.

c. Freeman is currently the defendant in a lawsuit. Freeman believes it is likely that it will lose the lawsuit and estimates the damages to be paid will be \)75,000.

Determine the appropriate accounting treatment for each of the situations Freeman is facing.

Short Answer

Expert verified

A contingency is a possibly undesirable future occurrence, such as a natural disaster, fraudulent conduct, or economic recession.

Step by step solution

01

Answer of part a.

Freeman's estimation of reasonably possible to lose a current lawsuit is $4,500,000. This possible contingency should be described in the notes to the financial statements.

02

Answer of part b.

Freeman received notice of a frivolous lawsuit. This is a remote contingency. The company does not need to record a liability and does not need to disclose it in the notes to the financial statements.

03

  Step 3: Answer of part c.

Freeman is currently the defendant in a lawsuit. If he loses estimates, the damages to be paid will be $75,000. These contingencies that are probable and can be estimated are recorded as a liability and an expense accrued.

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Most popular questions from this chapter

: On June 1, Hunting Man Magazine collected cash of $63,000 on future annual subscriptions starting on July 1. Requirements

1. Journalize the transaction to record the collection of cash on June 1.

2. Journalize the transaction required at December 31, the magazine’s year-end, assuming no revenue earned has been recorded. (Round adjustment to the nearest whole dollar.)

The general ledger of Seal-N-Ship at June 30, 2018, the end of the company’s fiscal year, includes the following account balances before payroll and adjusting entries.

Accounts Payable \( 114,000

Interest Payable 0

Salaries Payable 0

Employee Income Taxes Payable 0

FICA—OASDI Taxes Payable 0

FICA—Medicare Taxes Payable 0

Federal Unemployment Taxes Payable 0

State Unemployment Taxes Payable 0

Unearned Rent Revenue 7,200

Long-term Notes Payable 210,000

The additional data needed to develop the payroll and adjusting entries at June 30 are as follows:

a. The long-term debt is payable in annual installments of \)42,000, with the next installment due on July 31. On that date, Seal-N-Ship will also pay one year’s interest at 9%. Interest was paid on July 31 of the preceding year. Make the adjusting entry to accrue interest expense at year-end.

b. Gross unpaid salaries for the last payroll of the fiscal year were \(4,700. Assume that employee income taxes withheld are \)910 and that all earnings are subject to OASDI.

c. Record the associated employer taxes payable for the last payroll of the fiscal year, \(4,700. Assume that the earnings are not subject to unemployment compensation taxes

d. On February 1, the company collected one year’s rent of \)7,200 in advance.

Requirements

1. Using T-accounts, open the listed accounts and insert the unadjusted June 30 balances.

2. Journalize and post the June 30 payroll and adjusting entries to the accounts that you opened. Identify each adjusting entry by letter. Round to the nearest dollar.

3. Prepare the current liabilities section of the balance sheet at June 30, 2018.

How might a business use a payroll register?

What is contingent liability? Provide some examples of contingencies.

The general ledger of Prompt Ship at June 30, 2018, the end of the company’s fiscal year, includes the following account balances before payroll and adjusting entries.

Accounts Payable \( 118,000

Interest Payable 0

Salaries Payable 0

Employee Income Taxes Payable 0

FICA—OASDI Taxes Payable 0

FICA—Medicare Taxes Payable 0

Federal Unemployment Taxes Payable 0

State Unemployment Taxes Payable 0

Unearned Rent Revenue 5,400

Long-term Notes Payable 198,000

The additional data needed to develop the payroll and adjusting entries at June 30 areas follows:

a. The long-term debt is payable in annual installments of \)39,600, with the next installment due on July 31. On that date, Prompt Ship will also pay one year’s interest at 10%. Interest was paid on July 31 of the preceding year. Make the adjusting entry to accrue interest expense at year-end.

b. Gross unpaid salaries for the last payroll of the fiscal year were \(4,800. Assume that employee income taxes withheld are \)920 and that all earnings are subject to OASDI.

c. Record the associated employer taxes payable for the last payroll of the fiscal year,\(4,800. Assume that the earnings are not subject to unemployment compensation taxes

d. On February 1, the company collected one year’s rent of \)5,400 in advance.

Requirements

1. Using T-accounts, open the listed accounts and insert the unadjusted June 30balances.

2. Journalize and post the June 30 payroll and adjusting entries to the accounts thatyou opened. Identify each adjusting entry by letter. Round to the nearest dollar.

3. Prepare the current liabilities section of the balance sheet at June 30, 2018.
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