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Chapter 7: Q3Q (page 362)

Define a “compensating balance.” How should a compensating balance be reported?

Short Answer

Expert verified

The minimum balance required by the customers of financial institutions in their respective accounts is called compensatory balance. It is reported as cash and cash equivalents under the current assets side for short-term borrowings and as investments or other assets under the non-current assets side for long-term borrowings.

Step by step solution

01

Meaning of Compensating Balance

The SEC (Security and Exchange Commission) has stated in its guidelines that customers of financial institutions are required to maintain minimum balances in their accounts to help the institutions avoid misleading investors or customers.

02

Recording of compensating balance

A company can record the compensating balance in two different ways, such as short-term borrowings and long-term borrowings, depending on the duration of the period. Short-term borrowings are reported as part of current assets, whereas long-term borrowings are reported as part of non-current under the head of assets on the balance sheet.

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Most popular questions from this chapter

Corrs Wholesalers Co. sells industrial equipment for a standard 3-year note receivable. Revenue is recognized at time of sale. Each note is secured by a lien on the equipment and has a face amount equal to the equipment’s list price. Each note’s stated interest rate is below the customer’s market rate at date of sale. All notes are to be collected in three equal annual installments beginning one year after sale. Some of the notes are subsequently sold to a bank with recourse, some are subsequently sold without recourse, and some are retained by Corrs. At year end, Corrs evaluates all outstanding notes receivable and provides for estimated losses arising from defaults.

Instructions

What is the appropriate valuation basis for Corrs’s notes receivable at the date it sells equipment?

On October 1, 2017, Chung, Inc. assigns \(1,000,000 of its accounts receivable to Seneca National Bank as collateral for a \)750,000 note. The bank assesses a finance charge of 2% of the receivables assigned and interest on the note of 9%. Prepare the October 1 journal entries for both Chung and Seneca.

Indicate how the percentage-of-receivables method, based on an aging schedule, accomplishes the objectives of the allowance method of accounting for bad debts. What other methods, besides an aging analysis, can be used for estimating uncollectible accounts?

(Bad-Debt Reporting) The chief accountant for Dickinson Corporation provides you with the following list of accounts receivable written off in the current year.

Date

Customer

Amount \(

March 31

E.L Masters Company

\)7,800

June 30

Stephen Crane Associates

6,700

September 30

Amy Lowell’s Dress Shop

7,000

December 31

R. Frost. Inc

9,830

Dickinson follows the policy of debiting Bad Debt Expense as accounts are written off. The chief accountant maintains that this procedure is appropriate for financial statement purposes because the Internal Revenue Service will not accept other methods for recognizing bad debts.

All of Dickinson’s sales are on a 30-day credit basis. Sales for the current year total \(2,200,000. The balance in Accounts Receivable at year-end is \)77,000 and an analysis of customer risk and charge-off experience indicates that 12% of receivables will be uncollectible (assume a zero balance in the allowance).

Instructions

(a) Do you agree or disagree with Dickinson’s policy concerning recognition of bad debt expense? Why or why not?

(b) By what amount would net income differ if bad debt expense was computed using the percentage-of-receivables approach?

Horton Corporation is preparing a bank reconciliation and has identified the following potential reconciling items. For each item, indicate if it is (1) added to balance per bank statement, (2) deducted from balance per bank statement, (3) added to balance per books, or (4) deducted from balance per books.

(a) Deposit in transit \(5,500.

(d) Outstanding checks \)7,422.

(b) Bank service charges \(25.

(e) NSF check returned \)377.

(c) Interest credited to Horton’s account $31.
See all solutions

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