Chapter 11

Current Liabilities and Payroll

Review Questions

1. What do long-term liabilities mean? Give an example.

Long-term liabilities are liabilities that do not need to be paid within one year or within the entity’s
operating cycle, whichever is longer. Many Notes Payable are long-term, such as a mortgage on a
building

2. Define accounts payable.

Amounts owed for products or services purchased on account are accounts payable. Because these
are typically due in 30 days, they are current liabilities. Accounts payable occur because the business
receives the goods or services before payment has been made.

3. What is income tax withholding? Explain the allowances claimed for income-tax withholding

Income Tax Withholding is the income tax deducted from an employee’s gross pay. Each allowance
claimed lowers the amount of tax withheld.

4. Differentiate between salary and wages.

Salary is pay stated at an annual, monthly, or weekly rate, while wages are pay amounts stated at an
hourly rate.

5. Briefly explain the current portion of long-term notes payable.

The current portion of notes payable is the principal amount that will be paid within one year. The
remaining portion of the note will be classified as long-term.

6. Health, vacation and pension plans are provided by companies for the benefit of employees. Which
account would be credited if an employee takes a paid vacation?

When an employee takes a paid vacation, their company will reduce the liability, Vacation Benefits
Payable, with a debit and credit Cash.

7. Briefly discuss how companies account for bonus plans.

Bonuses are often based on meeting a specific goal, such as the employee meeting an expected sales
goal or the business achieving a target profit. Usually a company does not know the amount of the
year-end bonus at year-end; the company instead estimates the amount of the bonus based on a set
percentage. When the company makes payment, it will debit Employee Bonus Payable and credit
Cash.

© 2016 Pearson Education, Ltd. 11-1

8. What does remote contingent liability mean? Give an example.

Remote Contingent Liability is when a contingency is remote and there is little chance of the event
occurring in the future. If a contingency is remote, the company does not need to record a liability
and does not need to disclose it in the notes to the financial statements. An example would be a
frivolous lawsuit.

9. What does probable contingent liability mean?

If a contingency is probable, it means that the future event is likely to occur. Only contingencies that
are probable and can be estimated are recorded as a liability and an expense is accrued.

10. What is the purpose of times-interest-earned ratio in evaluating business performance?

Investors can use the times-interest-earned ratio to evaluate a business’s ability to pay interest
expense. This ratio measures the number of times earnings before interest and taxes (EBIT) can
cover (pay) interest expense. The times-interest-earned ratio is also called the interest-coverage ratio.
A high interest-coverage ratio indicates a business’s ease in paying interest expense; a low ratio
suggests difficulty.

11. Define warranty. Give an example.

A warranty is an agreement that guarantees a company’s product against defects. Examples may
include warranties offered by manufacturers of electronic appliances, or service providers.

12. List three columns that are typically included in the business’s payroll register.

Columns in a payroll register include employee name, beginning cumulative earnings, which is the
amount the employee has earned through the last pay period, and current period earnings, which is
the earnings for the current period (includes regular and overtime earnings, commissions, and
bonuses).

13. What is a contingent liability? Provide some examples of contingencies.

A contingent liability is a potential, rather than an actual, liability because it depends on a future
event. For a contingent liability to be paid, some event (the contingency) must happen in the future.
Some examples of contingencies are lawsuits and co-signing a note for another entity.

14. Curtis Company is facing a potential lawsuit. Curtis’s lawyers think that it is reason- ably possible
that it will lose the lawsuit. How should Curtis report this lawsuit?

Contingencies that are reasonably possible have more chance of occurring but are not likely. A
reasonably possible contingency should be described in the notes to the financial statements.

© 2016 Pearson Education, Ltd. 11-2

15. How is the times-interest-earned ratio calculated, and what does it evaluate?

The times-interest-earned ratio is calculated as earnings before interest and taxes or EBIT (Net
income + Income tax expense + Interest expense) divided by interest expense. Investors can use the
times-interest-earned ratio to evaluate a business’s ability to pay interest expense. This ratio
measures the number of times earnings before interest and taxes can cover (pay) interest expense.

Short Exercises
For all payroll calculations, use the following tax rates and round amounts to the nearest cent.

Employee: OASDI: 6.2% on first $117,000 earned; Medicare: 1.45% up to $200,000, 2.35% on
earnings above $200,000.

Employer: OASDI: 6.2% on first $117,000 earned; Medicare: 1.45%; FUTA: 0.6% on first
$7,000 earned; SUTA: 5.4% on first $7,000 earned.

S11-1 Determining current versus long-term liabilities

Learning Objective 1

Rios Raft Company had the following liabilities.

a. Accounts Payable
b. Note Payable due in 3 years
c. Salaries Payable
d. Note Payable due in 6 months
e. Sales Tax Payable
f. Unearned Revenue due in 8 months
g. Income Tax Payable

Determine whether each liability would be considered a current liability (CL) or a long-term liability
(LTL).

SOLUTION

a. current liability (CL)

b. long-term liability (LTL)
c. current liability (CL)
d. current liability (CL)
e. current liability (CL)
f. current liability (CL)
g. current liability (CL)

© 2016 Pearson Education, Ltd. 11-3

S11-2 Recording sales tax
Learning Objective 1

On July 5, Brenner Company recorded sales of merchandise inventory on account, $15,000. The sales
were subject to sales tax of 7%. On August 15, Brenner Company paid $800 of sales tax to the state.

Requirements
1. Journalize the transaction to record the sale on July 5. Ignore cost of goods sold.
2. Journalize the transaction to record the payment of sales tax to the state.

SOLUTION
Requirement 1
Journalize the transaction to record the sale on July 5. Ignore cost of goods sold.

Date Accounts and Explanation Debit Credit

July 5 Accounts Receivable 16,050
Sales Revenue 15,000
Sales Tax Payable 1,050
To record sales revenue on account and
the related sales tax.

Sales Tax Payable ($15,000 × 7%) = $1,050

Accounts Receivable ($15,000 + $1,050) = $16,050

Requirement 2
Journalize the transaction to record the payment of sales tax to the state.

Date Accounts and Explanation Debit Credit

Aug. 15 Sales Tax Payable 800
Cash 800
To record cash payment for sales tax
payable.

© 2016 Pearson Education, Ltd. 11-4

S11-3 Recording unearned revenue
Learning Objective 1

On June 1, Guitar Magazine collected cash of $51,000 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.)

SOLUTION

Requirement 1

Date Accounts and Explanation Debit Credit

June 1 Cash 51,000
Unearned Revenue 51,000
Collected cash for future services.

Requirement 2

Date Accounts and Explanation Debit Credit

Dec. 31 Unearned Revenue 25,500
Subscription Revenue ($51,000 × 6/12) 25,500
To record subscription revenue earned that
was collected in advance.

© 2016 Pearson Education, Ltd. 11-5

S11-4 Accounting for a note payable
Learning Objective 1

On December 31, 2015, Franklin purchased $7,000 of merchandise inventory on a one-year, 11% note
payable. Franklin uses a perpetual inventory system.

Requirements
1. Journalize the company’s purchase of merchandise inventory on December 31, 2015.
2. Journalize the company’s accrual of interest expense on June 30, 2016, its fiscal year-end.
3. Journalize the company’s payment of the note plus interest on December 31, 2016.

SOLUTION

Requirement 1

Date Accounts and Explanation Debit Credit

2015
Dec. 31 Merchandise Inventory 7,000
Notes Payable 7,000
Purchased merchandise inventory in
exchange for one year, 11% note.

Requirement 2

Date Accounts and Explanation Debit Credit

2016
Jun. 30 Interest Expense ($7,000 × 0.11 × 6/12) 385
Interest Payable 385
Accrued interest expense at year-end.

Requirement 3

Date Accounts and Explanation Debit Credit

2016
Dec. 31 Notes Payable 7,000
Interest Expense ($7,000 × 0.11 × 6/12) 385
Interest Payable 385
Cash 7,770
Paid note and interest at maturity.

© 2016 Pearson Education, Ltd. 11-6

S11-5 Determining current portion of long-term note payable
Learning Objective 1

On January 1, Garland Company purchased equipment of $120,000 with a long-term note payable. The
debt is payable in annual installments of $24,000 due on December 31 of each year. At the date of
purchase, how will Garland Company report the note payable?

SOLUTION

Garland will report $24,000 as current portion of notes payable in the current liability section. The
remaining $96,000 will show as a notes payable in the long-term liability section.

S11-6 Computing and journalizing an employee’s total pay

Learning Objective 2

Jenna Lindsay works at College of Boston and is paid $40 per hour for a 40-hour workweek and time-
and-a-half for hours above 40.

Requirements
1. Compute Lindsay’s gross pay for working 54 hours during the first week of February.
2. Lindsay is single, and her income tax withholding is 10% of total pay. Lindsay’s only payroll
deductions are payroll taxes. Compute Lindsay’s net (take-home) pay for the week. Assume
Lindsay’s earnings to date are less than the OASDI limit.
3. Journalize the accrual of salaries and wages expense and the payments related to the employment of
Jenna Lindsay.

SOLUTION

Requirement 1

Straight-time pay for 40 hours ($40 × 40 hours) $ 1,600

Overtime pay for 14 hours: 14 × $40 × 1.5 840
Gross Pay $ 2,440

Requirement 2

Gross pay $ 2,440.00

Withholding deductions:
Employee income tax (10%) $ 244.00
Employee OASDI tax (6.2%) 151.28
Employee Medicare tax (1.45%) 35.38
Total withholdings 430.66
Net (take-home) pay $ 2,009.34

© 2016 Pearson Education, Ltd. 11-7

S11-6, cont.
Requirement 3

Date Accounts and Explanation Debit Credit

Wages Expense 2,440.00
Employee Income Taxes Payable 244.00
FICA—OASDI Taxes Payable 151.28
FICA—Medicare Taxes Payable 35.38
Wages Payable 2,009.34
To record wages expense and payroll
withholdings.

Wages Payable 2,009.34

Cash 2,009.34
To record payment of wages.

S11-7 Computing payroll amounts considering FICA tax ceilings

Learning Objective 2

Lily Newton works for XYZ all year and earns a monthly salary of $12,100. There is no overtime pay.
Lily’s income tax withholding rate is 10% of gross pay. In addition to payroll taxes, Lily elects to
contribute 5% monthly to United Way. XYZ also deducts $100 monthly for co-payment of the health
insurance premium. As of September 30, Lily had $108,900 of cumulative earnings.

Requirements
1. Compute Lily’s net pay for October.
2. Journalize the accrual of salaries expense and the payments related to the employment of Lily
Newton.

© 2016 Pearson Education, Ltd. 11-8

SOLUTION

Requirement 1

Gross pay $ 12,100.00

Withholding deductions:
Employee income tax $ 1,210.00
Employee OASDI tax 502.20
Employee Medicare tax 175.45
Employee health insurance 100.00
Employee contribution to United Way 605.00
Total withholdings 2,592.65
Net (take-home) pay $ 9,507.35

Employee income tax ($12,100 × 10%) = $1,210.00

Employee OASDI tax
Employee earnings subject to tax $ 117,000
Employee earnings prior to the current month – 108,900
Current pay subject to tax $ 8,100
Tax rate × 62%
Tax to be withheld from paycheck $ 502.20*
Employee Medicare tax ($12,100 × 1.45%) = $175.45
Employee contribution to United Way ($12,100 × 5%) = $605.005

Requirement 2
Journalize the accrual of salaries expense and the payments related to the employment of Lily Newton.
Begin with the entry to accrue salaries expense and payroll withholdings for Lily Newton.

Date Accounts and Explanation Debit Credit

Salaries Expense 12,100.00
Employee Income Taxes Payable 1,210.00
FICA—OASDI Taxes Payable 502.20
FICA—Medicare Taxes Payable 175.45
Employee Health Insurance Payable 100.00
United Way Payable 605.00
Salaries Payable 9,507.35
To record salaries expense and payroll
withholdings.

Salaries Payable 9,507.35

Cash 9,507.35
To record payment of salaries.

© 2016 Pearson Education, Ltd. 11-9

S11-8 Computing and journalizing the payroll expense of an employer
Learning Objective 2

Orchard Company has monthly salaries of $10,000. Assume Orchard pays all the standard payroll taxes
and no employees have reached the payroll tax limits. Journalize the accrual and payment of employer
payroll taxes for Orchard Company.

SOLUTION

Date Accounts and Explanation Debit Credit

Payroll Tax Expense 1,365
FICA—OASDI Taxes Payable 620
(6.2% × $10,000)
FICA—Medicare Taxes Payable 145
(1.45% × $10,000)
Federal Unemployment Taxes Payable 60
(0.6% × $10,000)
State Unemployment Taxes Payable 540
(5.4% × $10,000)
To record employer's payroll tax expense.

FICA—OASDI Taxes Payable 620

FICA—Medicare Taxes Payable 145
Federal Unemployment Taxes Payable 60
State Unemployment Taxes Payable 540
Cash 1,365
Payment of payroll taxes

S11-9 Computing bonus payable

Learning Objective 3

On December 31, Peterson Company estimates that it will pay its employees a 3% bonus on $62,000 of
net income after deducting the bonus. The bonus will be paid on January 15 of the next year.

Requirements
1. Journalize the December 31 transaction for Peterson.
2. Journalize the payment of the bonus on January 15.

SOLUTION

Requirement 1

Date Accounts and Explanation Debit Credit

Dec. 31 Employee Bonus Expense 1,805.8
3
Employee Bonus Payable 1,805.83
To record employee bonus expense.
(3% × $62,000) / (1.03) = $1,805.83

© 2016 Pearson Education, Ltd. 11-10

S11-9, cont.
Requirement 2

Date Accounts and Explanation Debit Credit

Jan. 15 Employee Bonus Payable 1,805.83
Cash 1,805.83
To record payment of employee bonus.

S11-10 Journalizing vacation benefits

Learning Objective 3

Roy Industries has eight employees. Each employee earns two vacation days a month. Roy pays each
employee a weekly salary of $1,000 for a five-day workweek.

Requirements
1. Determine the amount of vacation expense for one month.
2. Journalize the entry to accrue the vacation expense for the month.

SOLUTION

Requirement 1

Employees 8 Weekly salary $1,000

× Vacation Days per month ×2 ÷ Days in the 5
week
= Total days to accrue 16 = Pay per day = $200
Total amount to accrue 16 days times $200 per day = $3,200 for one month

Requirement 2

Date Accounts and Explanation Debit Credit

Vacation Benefits Expense 3,200
Vacation Benefits Payable 3,200
To record employee vacation benefits expense.

© 2016 Pearson Education, Ltd. 11-11

S11-11 Accounting for warranty expense and warranty payable
Learning Objective 3

Hipster Corrector guarantees its snowmobiles for three years. Company experience indicates that
warranty costs will be approximately 3% of sales.

Assume that the Hipster dealer in Colorado Springs made sales totaling $350,000 during 2016. The
company received cash for 20% of the sales and notes receivable for the remainder. Warranty payments
totaled $8,000 during 2016.

Requirements
1. Record the sales, warranty expense, and warranty payments for the company. Ignore cost of goods
sold.
2. Post to the Estimated Warranty Payable T-account. At the end of 2016, how much in Estimated
Warranty Payable does the company owe? Assume the Estimated Warranty Payable is $0 on January
1, 2016.

SOLUTION

Requirement 1

Date Accounts and Explanation Debit Credit

2016 Cash (20% × $350,000) 70,000
Notes Receivable (80% × $350,000) 280,000
Sales Revenue 350,000
Sales for 2016.

Warranty Expense (3% × $350,000) 10,500

Estimated Warranty Payable 10,500
To accrue warranty payable.

Estimated Warranty Payable 8,000

Cash 8,000
Warranty payments.

Requirement 2

Estimated Warranty Payable

Payments 8,000 10,500 Accrual
2,500 Bal.

© 2016 Pearson Education, Ltd. 11-12

S11-12 Accounting treatment for contingencies
Learning Objective 4

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

a. Fernandez estimates that it is reasonably possible but not likely that it will lose a current lawsuit.
Fernandez’s attorneys estimate the potential loss will be $3,200,000.
b. Fernandez received notice that it was being sued. Fernandez considers this lawsuit to be frivolous.
c. Fernandez is currently the defendant in a lawsuit. Fernandez believes it is likely that it will lose the
lawsuit and estimates the damages to be paid will be $60,000.

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

SOLUTION

Situation Appropriate accounting treatment

a. Describe the situation in a note to the financial statements.
b. Do not disclose.
c. Record an expense and a liability based on estimated amounts.

S11-13 Computing times-interest-earned ratio

Learning Objective 5

Carlisle Electronics reported the following amounts on its 2016 income statement:

What is Carlisle’s times-interest-earned ratio for 2016? (Round the answer to two decimals.)

SOLUTION

Times-interest-earned ratio = (Net income + Income tax expense + Interest expense) / Interest expense =
11.00
Or,
Times-interest-earned ratio [($60,000 + $9,000 + $6,900) / $6,900] = 11.00

© 2016 Pearson Education, Ltd. 11-13

Exercises
E11-14 Recording sales tax
Learning Objective 1
Sales Tax Payable $8,500

Consider the following transactions of Moore Software:

Journalize the transactions for the company. Ignore cost of goods sold.

SOLUTION

Date Accounts and Explanation Debit Credit

Mar. 31 Cash 178,500
Sales Revenue 170,000
Sales Tax Payable ($170,000 × 0.05) 8,500
To record cash sales and the related sales tax.

Apr. 6 Sales Tax Payable 8,500

Cash 8,500
To record cash payment for sales tax payable.

E11-15 Recording note payable transactions

Learning Objective 1
May 1, 2016 Interest Expense $120

Consider the following note payable transactions of Concert Video Productions.

Journalize the transactions for the company.

© 2016 Pearson Education, Ltd. 11-14

SOLUTION

Date Accounts and Explanation Debit Credit

2015
May 1 Equipment 12,000
Notes Payable 12,000
Purchased equipment in exchange for one year,
3% note.

Dec. 31 Interest Expense ($12,000 × 0.03 × 8/12) 240

Interest Payable 240
Accrued interest expense at year-end.

2016
May 1 Notes Payable 12,000
Interest Expense ($12,000 × 0.03 × 4/12) 120
Interest Payable 240
Cash 12,360
Paid note and interest at maturity.

E11-16 Recording and reporting current liabilities

Learning Objective 1
Dec. 31 Subscription Revenue $150

Worldly Publishing completed the following transactions during 2016:

Journalize the transactions (explanations are not required).

© 2016 Pearson Education, Ltd. 11-15

SOLUTION

Date Accounts and Explanation Debit Credit

2016
Oct. 1 Cash 477
Unearned Revenue 450
Sales Tax Payable ($450 × 6%) 27
To record unearned revenue and the related
sales tax.

Nov. 15 Sales Tax Payable 27

Cash 27
To record cash payment for sales tax
payable.

Dec. 31 Unearned Revenue 150

Subscription Revenue 150
To record subscription revenue earned that
was collected in advance. $450 × 2/6.

E11-17 Journalizing current liabilities

Learning Objectives 1, 2
Salaries Expense $3,100

Erik O’Hern Associates reported short-term notes payable and salaries payable as follows:

During 2016, O’Hern paid off both current liabilities that were left over from 2015, borrowed money on
short-term notes payable, and accrued salaries expense. Journalize all four of these transactions for
O’Hern during 2016. Assume no interest on short-term notes payable of $15,200.

© 2016 Pearson Education, Ltd. 11-16

SOLUTION

Date Accounts and Explanation Debit Credit

2016
Short-Term Notes Payable 15,200
Cash 15,200
To record payment of 2015 notes.

Salaries Payable 3,900

Cash 3,900
To record payment for salaries payable.

Cash 16,800
Short-Term Notes Payable 16,800
To record money borrowed on notes
payable.

Salaries Expense 3,100

Salaries Payable 3,100
To record accrued salaries.

E11-18 Computing and recording gross and net pay

Learning Objective 2
1. Net Pay $362.44

Hubert Sollenberger manages a Dairy House drive-in. His straight-time pay is $8 per hour, with time-
and-a-half for hours in excess of 40 per week. Sollenberger’s payroll deductions include withheld
income tax of 20%, FICA tax, and a weekly deduction of $8 for a charitable contribution to United Way.
Sollenberger worked 56 hours during the week.

Requirements
1. Compute Sollenberger’s gross pay and net pay for the week. Assume earnings to date are $11,000.
2. Journalize Dairy House wages expense accrual for Sollenberger’s work. An explanation is not
required.
3. Journalize the subsequent payment of wages to Sollenberger.

© 2016 Pearson Education, Ltd. 11-17

SOLUTION

Requirement 1

Straight-time pay for 40 hours ($8 × 40 hours) $ 320.00

Overtime pay for 16 hours: (16 × $8 × 1.5) 192.00
Gross Pay $ 512.00

Gross pay $ 512.00

Withholding deductions:
Employee income tax (20%) $ 102.40
Employee OASDI tax (6.2%) 31.74
Employee Medicare tax (1.45%) 7.42
Employee contribution to United Way 8.00
Total withholdings 149.56
Net (take-home) pay $ 362.44

Requirement 2

Date Accounts and Explanation Debit Credit

Wages Expense 512.00
Employee Income Taxes Payable 102.40
FICA—OASDI Taxes Payable 31.74
FICA—Medicare Taxes Payable 7.42
United Way Payable 8.00
Wages Payable 362.44

Requirement 3

Date Accounts and Explanation Debit Credit

Wages Payable 362.44

Cash 362.44

© 2016 Pearson Education, Ltd. 11-18

E11-19 Recording employer payroll taxes and employee benefits
Learning Objective 2
Payroll Tax Expense $6,046.50

Ricardo’s Mexican Restaurant incurred salaries expense of $61,000 for 2016. The payroll expense
includes employer FICA tax, in addition to state unemployment tax and federal unemployment tax. Of
the total salaries, $23,000 is subject to unemployment tax. Also, the company provides the following
benefits for employees: health insurance (cost to the company, $2,500), life insurance (cost to the
company, $370), and retirement benefits (cost to the company, 8% of salaries expense). Journalize
Ricardo’s expenses for employee benefits and for payroll taxes. Explanations are not required.

SOLUTION

Date Accounts and Explanation Debit Credit

Payroll Tax Expense 6,046.50
FICA—OASDI Taxes Payable 3,782.00
FICA—Medicare Taxes Payable 884.50
Federal Unemployment Taxes Payable 138.00
State Unemployment Taxes Payable 1242.00
To record employer's payroll tax expense.

Employee Benefits Expense 7,750.00

Employee Health Insurance Payable 2,500.00
Employee Life Insurance Payable 370.00
Employee Retirement Benefits Payable 4,880.00
Accrual of employee benefit expenses.

FICA—OASDI Taxes Payable ($61,000 × 6.2%) = $3,782.00

FICA—Medicare Taxes Payable ($61,000 × 1.45%) = $884.50
Federal Unemployment Taxes Payable ($23,000 × 0.6%) = $138.00
State Unemployment Taxes Payable ($23,000 × 5.4%) = $1242.00
Employee Retirement Benefits Payable ($61,000 × 8%) = $4,880.00

© 2016 Pearson Education, Ltd. 11-19

E11-20 Recording employee and employer payroll taxes
Learning Objective 2
2. Salaries & Wages Payable $17,060.10

District Company had the following partially completed payroll register:

Requirements
1. Complete the payroll register.
2. Journalize District’s wages expense accrual for the current pay period.
3. Journalize District’s expenses for employer payroll taxes for the current pay period.

© 2016 Pearson Education, Ltd. 11-20

 SOLUTION

Requirement 1

Earnings Withholdings
Beginning Current Ending Salaries and
Cumulative Period Cumulative Income Health United Total Check Wages
Earnings Earnings Earnings OASDI Medicare Tax Insurance Way Withholdings Net Pay No. Expense
$ 83,000.00 $ 4,300.00 $ 87,300.00 $ 266.60 $ 62.35 $ 860.00 $ 86.00 $ 20.00 $ 1,294.95 $ 3,005.05 801 $ 4,300.00
110,900.00 7,800.00 118,700.00 378.20 113.10 1,560.00 156.00 15.00 2,222.30 5,577.70 802 7,800.00
37,000.00 2,100.00 39,100.00 130.20 30.45 420.00 42.00 0.00 622.65 1,477.35 803 2,100.00
60,500.00 4,500.00 65,000.00 279.00 65.25 900.00 90.00 35.00 1,369.25 3,130.75 804 4,500.00
0 5,500.00 5,500.00 341.00 79.75 1,100.00 110.00 0.00 1,630.75 3,869.25 805 5,500.00
$ 291,400.00 $ 24,200.00 $ 315,600.00 $ 1,395.00 $ 350.90 $ 4,840.00 $ 484.00 $ 70.00 $ 7,139.90 $ 17,060.10 $ 24,200.00

© 2016 Pearson Education, Ltd. 11-21

E11-20, cont.
Requirement 2

Date Accounts and Explanation Debit Credit

Salaries and Wages Expense 24,200.00
Employee Income Taxes Payable 4,840.00
FICA—OASDI Taxes Payable* 1,395.00
FICA—Medicare Taxes Payable 350.90
Health Insurance Payable 484.00
United Way Payable 70.00
Salaries and Wages Payable 17,060.10
To record salaries and wages expense and
payroll withholdings.

*Calculation of tax for OASDI

Employee earnings subject to tax $ 117,000.00
Employee earnings prior to the current month – 110,900.00
Current pay subject to tax $ 6,100.00
Tax rate × 0.062
Employer tax $ 378.20
All others ($24,200 − $7,800) × 6.2% 1,016.80
$ 1,395.00
Requirement 3

Dat Accounts and Explanation Debit Credit

e
Payroll Tax Expense 2,075.90
FICA—OASDI Taxes Payable * 1,395.00
FICA—Medicare Taxes Payable 350.90
(1.45% × $24,200)
Federal Unemployment Taxes Payable 33.00
(0.6% × $5,500 (first $7,000 only))
State Unemployment Taxes Payable 297.00
(5.4% × $5,500 (first $7,000 only))
To record employer's payroll tax expense.

© 2016 Pearson Education, Ltd. 11-22

E11-21 Accounting for warranty expense and warranty payable
Learning Objective 3
1. Warranty Expense $14,000

The accounting records of Earthtone Ceramics included the following at January 1, 2016:

In the past, Earthtone’s warranty expense has been 8% of sales. During 2016, Earthtone made sales of
$175,000 and paid $9,000 to satisfy warranty claims.

Requirements
1. Journalize Earthtone’s warranty expense and warranty payments during 2016. Explanations are not
required.
2. What balance of Estimated Warranty Payable will Earthtone report on its balance sheet at December
31, 2016?

SOLUTION

Requirement 1

Date Accounts and Explanation Debit Credit

2016
Warranty Expense (8% × $175,000) 14,000
Estimated Warranty Payable 14,000

Estimated Warranty Payable 9,000

Cash 9,000

Requirement 2
Estimated Warranty Payable
4,000 Beg. Bal.
Payments 9,000 14,000 Accrual
9,000 End Bal.

© 2016 Pearson Education, Ltd. 11-23

E11-22 Accounting for warranties, vacation, and bonuses
Learning Objective 3
Dec. 31 Employee Bonus Expense $1,385

McGaffey Industries completed the following transactions during 2016:

Journalize the transactions (explanations are not required).

SOLUTION

Date Accounts and Explanation Debit Credit

2016
Nov. 1 Warranty Expense (5% × $42,000) 2,100.0
0
Estimated Warranty Payable 2,100.00

Nov. 20 Estimated Warranty Payable 1,600.0

0
Cash 1,600.00

Dec. 31 Vacation Benefits Expense 7,000.0

0
Vacation Benefits Payable 7,000.00

Dec. 31 Employee Bonus Expense 1,385.0

0
Employee Bonus Payable 1,385.00

E11-23 Accounting treatment for contingencies

Learning Objective 4

Analyze the following independent situations.

a. Sophia, Inc. is being sued by a former employee. Sophia believes that there is a remote chance that
the employee will win. The employee is suing Sophia for damages of $5,000.
b. Oro Oil Refinery had a gas explosion on one of its oil rigs. Oro believes it is likely that it will have
to pay environmental clean-up costs and damages in the future due to the gas explosion. Oro cannot
estimate the amount of the damages.
c. Lucky Enterprises estimates that it will have to pay $30,000 in warranty repairs next year.

© 2016 Pearson Education, Ltd. 11-24

Determine how each contingency should be treated.

© 2016 Pearson Education, Ltd. 11-25

SOLUTION

Situation Appropriate accounting treatment

a. Do not disclose.
b. Describe the situation in a note to the financial statements.
c. Record an expense and a liability based on estimated amounts.

E11-24 Computing times-interest-earned ratio

Learning Objective 5
1. Cash Ratio 160.00

The following financial information was obtained from the year ended 2016 income statements for Cash
Automotive and Bale Automotive:

Requirements
1. Compute the times-interest-earned ratio for each company.
2. Which company was better able to cover its interest expense?

DOLUTION

Requirement 1
Begin by showing the formula for the times-interest-earned ratio.
Times-interest-earned ratio = (Net income + Income tax expense + Interest expense) / Interest expense
Now calculate the times-interest-earned ratio for each company.

Cash ($78,390 + $24,960 + $650) / $650 = 160.00

Bale ($58,650 + $17,270 + $2,600) / $2,600 = 30.20

Requirement 2

Cash Automotive was better able to cover its interest expense.

© 2016 Pearson Education, Ltd. 11-26

Problems (Group A)
P11-25A Journalizing and posting liabilities
Learning Objectives 1, 2
1d. Rent Revenue $2,500

The general ledger of Quick Ship at June 30, 2016, the end of the company’s fiscal year, includes the
following account balances before payroll and adjusting entries.

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 $60,000, with the next installment due on
July 31. On that date, Quick 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 $4,500. Assume that employee
income taxes withheld are $900 and that all earnings are subject to OASDI.
c. Record the associated employer taxes payable for the last payroll of the fiscal year, $4,500. Assume
that the earnings are not subject to unemployment.
d. On February 1, the company collected one year’s rent of $6,000 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.
3. Prepare the current liabilities section of the balance sheet at June 30, 2016.

© 2016 Pearson Education, Ltd. 11-27

SOLUTION

Requirements 1 and 2

Date Accounts and Explanation Debit Credit

2016
June 30
a. Interest Expense 27,500.0
0
Interest Payable ($300,000 × 10% × 11/12) 27,500.00

a. No journal entry needed to reclassify the

current portion of long-term debt.

b. Salary Expense 4,500.00

Employee Income Taxes Payable 900.00
FICA—OASDI Taxes Payable (6.2% × $4,500) 279.00
FICA—Medicare Taxes Payable (1.45% × $4,500) 65.25
Salaries Payable 3,255.75

c. Payroll Tax Expense 344.25

FICA—OASDI Taxes Payable (6.2% × $4,500) 279.00
FICA—Medicare Taxes Payable (1.45% × $4,500) 65.25

d. Unearned Rent Revenue 2,500.00

Rent Revenue ($6,000 × 5/12) 2,500.00

© 2016 Pearson Education, Ltd. 11-28

P11-25A, cont.
Requirements 1 and 2, cont.

Accounts Payable
114,000 Beg. Bal.

114,000 End Bal.

Interest Payable
0 Beg. Bal.
27,500 a.
27,500 End Bal.

Salaries Payable
0 Beg. Bal.
3,255.75 b.
3,255.75 End Bal.

Employee Income Taxes Payable

0 Beg. Bal.
900 b.
900 End Bal.

FICA—OASDI Taxes Payable

0 Beg. Bal.
279 b.
279 c.
558 End Bal.

FICA—Medicare Taxes Payable

0 Beg. Bal.
65.25 b.
65.25 c.
130.50 End Bal.

Unearned Rent Revenue

6,000 Beg. Bal.
d. 2,500
3,500 End Bal.

Long-Term Notes Payable

300,000 Beg. Bal.

300,000 End Bal.

© 2016 Pearson Education, Ltd. 11-29

P11-25A, cont.
Requirement 3

QUICK SHIP
Balance Sheet (Partial)
June 30, 2016
Liabilities
Current Liabilities:
Accounts Payable $
114,000.00
Current Portion of Notes Payable 60,000.00
Interest Payable 27,500.00
Salaries Payable 3,255.75
Employee Income Taxes Payable 900.00
FICA—OASDI Taxes Payable 558.00
FICA—Medicare Taxes Payable 130.50
Unearned Rent Revenue 3,500.00
Total Current Liabilities $
209,844.25

P11-26A Computing and journalizing payroll amounts

Learning Objective 2
1. Net Pay $164,641

Lee Werner is general manager of Stoneybrook Salons. During 2016, Werner worked for the company
all year at a $14,000 monthly salary. He also earned a year-end bonus equal to 15% of his annual salary.
Werner’s federal income tax withheld during 2016 was $980 per month, plus $1,700 on his bonus
check. State income tax withheld came to $60 per month, plus $40 on the bonus. FICA tax was withheld
on the annual earnings. Werner authorized the following payroll deductions: Charity Fund contribution
of 2% of total earnings and life insurance of $35 per month.
Stoneybrook incurred payroll tax expense on Werner for FICA tax. The company also paid state
unemployment tax and federal unemployment tax.

Requirements
1. Compute Werner’s gross pay, payroll deductions, and net pay for the full year 2016. Round all
amounts to the nearest dollar.
2. Compute Stoneybrook’s total 2016 payroll tax expense for Werner.
3. Make the journal entry to record Stoneybrook’s expense for Werner’s total earnings for the year, his
payroll deductions, and net pay. Debit Salaries Expense and Bonus Expense as appropriate. Credit
liability accounts for the payroll deductions and Cash for net pay. An explanation is not required.
4. Make the journal entry to record the accrual of Stoneybrook’s payroll tax expense for Werner’s total
earnings.

© 2016 Pearson Education, Ltd. 11-30

SOLUTION

Requirement 1

Lee Werner
Payroll for the year ended December 31, 2016
Calculation Annual
Gross Pay:
Salary $14,000 × 12 $ 168,000
Bonus $168,000 × 15% 25,200
Total Gross Pay $ 193,200

Deductions:
Federal Income Tax ($980 × 12) + $1,700 $ 13,460
State Income Tax ($60 × 12) + $40 760
FICA—OASDI 6.2% first $117,000 7,254
FICA—Medicare 1.45% × $193,200 2,801
Charity Fund 2% × $193,200 3,864
Life Insurance $35 × 12 420
Total Deductions 28,559
Net Pay $ 164,641

Requirement 2

Lee Werner
Employer Payroll Expense for the year ended December 31, 2016
Calculation Annual

Total Gross Pay $ 193,200

Employer Payroll Taxes:

FICA—OASDI 6.2% first 117,000 7,254
FICA—Medicare 1.45% × $193,200 2,801
FUTA 0.6% × $7,000 42
SUTA 5.4% × $7,000 378
Total Employer Payroll Tax $ 10,475

© 2016 Pearson Education, Ltd. 11-31

P11-26A, cont.
Requirement 3

Date Accounts and Explanation Debit Credit

2016
Dec. 31 Salaries Expense 168,000
Bonus Expense 25,200
Employee Federal Income Taxes Payable 13,460
Employee State Income Taxes Payable 760
FICA—OASDI Taxes Payable 7,254
FICA—Medicare Taxes Payable 2,801
Charity Fund Payable 3,864
Life Insurance Payable 420
Cash 164,641

Requirement 4

Date Accounts and Explanation Debit Credit

2016
Dec. 31 Payroll Tax Expense 10,475
FICA—OASDI Taxes Payable 7,254
FICA—Medicare Taxes Payable 2,801
Federal Unemployment Taxes Payable 42
State Unemployment Taxes Payable 378

P11-27A Journalizing liability transactions

Learning Objectives 1, 3
Jan. 29 Cash $17,490

The following transactions of Houston Pharmacies occurred during 2015 and 2016:

Journalize the transactions in Houston’s general journal. Explanations are not required.

© 2016 Pearson Education, Ltd. 11-32

SOLUTION

Date Accounts and Explanation Debit Credit

2015
Jan. 9 Computer Equipment 13,000
Short-term Notes Payable 13,000

29 Cash ($66,000 × ¼) + ($16,500 × 6%) 17,490

Accounts Receivable ($66,000 × ¾) + (49,500 × 6%) 52,470
Sales 66,000
Sales Tax Payable 3,960

Feb. 5 Sales Tax Payable 3,960

Cash 3,960

Jul. 9 Short-term Notes Payable 13,000

Interest Expense ($13,000 × 9% × 6/12) 585
Cash 13,585

Aug. 31 Merchandise Inventory 6,000

Short-term Notes Payable 6,000

Dec. 31 Warranty Expense (3% × $601,000) 18,030

Estimated Warranty Payable 18,030

31 Interest Expense ($6,000 × 10% × 4/12) 200

Interest Payable 200

2016
Feb. 29 Short-term Notes Payable 6,000
Interest Payable 200
Interest Expense ($6,000 × 10% × 2/12) 100
Cash 6,300

© 2016 Pearson Education, Ltd. 11-33

P11-28A Journalizing liability transactions
Learning Objectives 3, 4
1. June 30 Warranty Expense $8,400

The following transactions of Oscar Landing occurred during 2016:

Requirements
1. Journalize required transactions, if any, in Landing’s general journal. Explanations are not required.
2. What is the balance in Estimated Warranty Payable assuming a beginning balance of $0?

SOLUTION

Requirement 1

Date Accounts and Explanation Debit Credit

2016
Apr. 30 No entry required

Jun. 30 Warranty Expense (2% × $420,000) 8,400

Estimated Warranty Payable 8,400

Jul. 28 Estimated Warranty Payable 5,800

Cash 5,800

Sep. 30 Estimated Loss from Lawsuit 110,000

Estimated Lawsuit Payable 110,000

Dec. 31 Warranty Expense (2% × $460,000) 9,200

Estimated Warranty Payable 9,200

Requirement 2

Estimated Warranty Payable

8,400 Jun. 30
Jul. 28 5,800 9,200 Dec. 31
11,800 End Bal.

© 2016 Pearson Education, Ltd. 11-34

P11-29A Computing times-interest-earned ratio
Learning Objective 5
1. Net Income $10,950

The income statement for Utah Communications follows. Assume Utah Communications signed a 120-
day, 12%, $4,000 note on June 1, 2016, and that this was the only note payable for the company.

Requirements
1. Fill in the missing information for Utah’s year ended July 31, 2016, income statement.
2. Compute the times-interest-earned ratio for the company.

© 2016 Pearson Education, Ltd. 11-35

SOLUTION

Requirement 1

UTAH COMMUNICATIONS
Income Statement
Year Ended July 31, 2016

Sales Revenue $ 33,000

Less: Sales Returns and Allowances (5,100)
Sales Discounts (2,900)
Net Sales Revenue $ 25,000
Cost of Goods Sold (9,000)
Gross Profit 16,000
Operating Expenses:
Selling Expenses 730
Administrative Expenses 1,500
Total Operating Expenses (2,230)
Operating Income 13,770
Other Revenues and (Expenses):
Interest Expense (80)
Total Other Revenues and (Expenses) (80)
Net Income before Income Tax Expense 13,690
Income Tax Expense (2,740)
Net Income $ 10,950

Interest Expense = $4,000 × 12% × 60/360 = $80

Requirement 2

Times-interest-earned ratio
Net Income $ 10,950
+ Income Tax Expense + 2,740
+ Interest Expense + 80
Total $ 13,770
÷ Interest Expense ÷ 80
Ratio for 2016 172.13

© 2016 Pearson Education, Ltd. 11-36