Presentation Transcript

1. Year 12 Accounting

   Chapter 15 Accounting for non current assets
2. CREDIT PURCHASES OF NON-CURRENT ASSETS Given the large outlays of cash that are sometimes required to purchase non-current assets these items may be purchased using credit. Where a business purchases a non-current asset on credit, the transaction must be recorded in the General Journal before it is posted to the General Ledger. See Max’s Mart example p. 334. Rather than Creditors Control, a new account – Sundry creditor – Max’s Mart – has been used to record the purchase of the office furniture. This is because Creditors Control is used only for amounts owed for the purchase of stock.
3. Sundry Creditors A Sundry Creditor account must be created in the General Ledger. The Sundry Creditor is still a current liability, but has its own account in the General Ledger, and would be reported separately in the Balance Sheet. Payments made to these Sundry Creditors must then be recorded in the Sundries column of the Cash Payments Journal (not the Creditors column), and will be reported as Investing Outflows in the Cash Flow Statement.
4. Study Tip We now have two investing outflows in the Cash Flow Statement: Cash purchase of non-current asset, and Payment to Sundry Creditor.
5. The cost of a non current asset Where other costs exist (e.g. installation), they must be included in the cost price of the asset recorded in the General Journal. See Johnson’s Deliveries example. Note the service contract does not extend for the life of the asset, so it is not part of the cost of the delivery van. Instead, it should be recorded as a current asset – Prepaid service contract. (It may not yet be paid, but when the cash is paid to the creditor to settle the debt, $800 will be for the purchase of this current asset.)
6. Johnson’s Deliveries The full cost of the van ($21 500) is debited to Delivery van, Prepaid Service Contract is debited $800, and the total GST is debited to GST Clearing ($2230). The total invoice price ($24 530) is credited to Sundry creditor – Jane Motors to show the total owing for the van, the service contract, and the GST .
7. You! Review Questions 15.1. Q’s 2 – 6.
8. Depreciation of Non-Current Assets The process of depreciation is applied for calculating Depreciation Expense – this is the part of the cost of the non-current asset that has been consumed, or incurred, the current Reporting Period. The General Journal entries to record Depreciation Expense are: DR Depreciation Non-current Asset (E) CR Accumulated Dep. – NCA (-A) This balance day adjustment has the effect of increasing expenses in the Income Statement.
9. Depreciation of Non-Current Assets It also decreases the carrying value of the NCA in the Balance Sheet by increasing the negative asset of Accumulated Depreciation. You! Review Questions 15.2 Q1 – 4.
10. Reducing Balance Method Ch. 11 introduced only one method – the straight line method. The Reducing Balance Method is used for when assets contribute more to revenue when they are new and less as they age. Calculating Depreciation Expense using the Reducing Balance Method calculating as a percentage of the carrying value. See p. 341, 342 for the Finch Fabrics example. Note you do not need to know the formula. You just need to realise that the formula calculates each year on the carrying value (therefore the expense decreases).
11. Reducing Balance Method If the depreciation is for less that a full year, again you will need to adjust by the number of months involved (see p. 342).
12. Comparing Methods Refer to p. 343, 344. Selecting a depreciation method – simply consider the revenue earning pattern of the asset. You! Review Questions 15.5 Q’s 1 – 4.
13. RECORDING THE CASH SALE OF A NON-CURRENT ASSET As we have noted, recording a cash sale of stock in the ledger involves recording the loss of stock at one amount (the cost price), and recording the cash received at a different amount (the selling price). It is in fact two double-entries. A similar principle applies to the sale or disposal of non-current assets; we must record the value of the non-current asset that has been disposed of (in effect, its cost price), and also the revenue that has been earned from its disposal (its selling price). The difference between these two amounts will produce a profit or loss on the disposal of the asset (this is covered in detail later in this chapter).
14. Three Steps (Although non-current assets will frequently be sold, they will sometimes be traded in, so we will refer to the disposal rather than the sale of the asset.) Recording the disposal of a non-current asset thus involves three steps: Step 1 Transferring the carrying value (the cost price) Step 2 Recording the proceeds from the sale (the selling price) Step 3 Transferring the profit or loss on disposal.
15. Paris (just thought you should know)
16. Step 1: Transferring the carrying value(the cost price of the asset) When a non-current asset is disposed of, the firm loses the asset in much the same way that is loses stock or prepaid rent as it is consumed. It is in fact incurring an expense by incurring an outflow – or loss – of an economic benefit, in the form of a decrease in assets (namely the asset which has been sold), which also decreases owner’s equity. However, the business is not losing the historical cost of the asset, as it will have already consumed some of the asset’s value, via depreciation. This means that the value that is lost when the asset is sold is measured by its carrying value – i.e. its historical cost less its accumulated depreciation. This loss of the asset – valued at its carrying value – is the first thing that must be recorded when the asset is sold.
17. Drake Industries example See p. 346. The equipment is removed from the accounts by crediting the Equipment account. This entry is recorded at Historical cost ($12 000). Simultaneously, the accumulated depreciation that accompanies the equipment is also removed by debiting the Accumulated depreciation – equipment account ($10 000). Both amounts are transferred to a new account – Disposal of equipment. (Note that although this example refers to a sale of a non-current asset, the entries would be identical if the asset were traded-in.) At this stage, the Disposal of equipment account has a debit balance of $2000, representing the carrying value of – and the expense incurred for – the equipment sold.
18. Step 2: Recording the proceeds on disposal At the same time as the asset is lost, the firm will also receive some form of revenue from whoever is taking the asset. In the case of a cash sale, the proceeds from the sale of the asset is an inflow of an economic benefit (cash), in the form of an increase in assets (Bank), which increases owner’s equity. This amount ($1100 in the example) would, of course, be reported as an Investing Inflow in the Cash Flow Statement. Whereas transferring the carrying value into the Disposal of equipment account recognised the expense related to the disposal, recording the proceeds recognises the revenue earned from the disposal. With this information, the profit or loss on the disposal can be calculated.
19. Step 3: Transferring the profit or loss on disposal Only the net effect – the overall profit or loss on the disposal – will be reported in the Profit and Loss Statement. Thus the Disposal of Asset account must be closed, and its balance transferred to a separate account called either Profit on Disposal of Asset or Loss on Disposal of Asset.
20. Transferring a loss on sale Because the carrying value of the asset ($2000) is greater than the proceeds from its sale ($1100), a loss on disposal of asset, in this case equipment, (of $900) has occurred. This loss is also reflected by the balance of the Disposal of Asset account. The Disposal of Equipment account above has a debit balance (of $900), just like an expense account. This confirms that there has been a loss on disposal of equipment.
21. Transferring a loss on sale See General Journal & General Ledger entries p. 349. The Disposal of Equipment account has been emptied – it now has a zero balance – and the Loss on Disposal of Equipment account shows the overall loss incurred on the sale. This overall loss – of $900 – will be closed to the Profit and Loss Summary account at the end of the period, and reported in the Profit and Loss Statement as an Other Expense.
22. Transferring a profit on sale If the Disposal of asset account has a credit balance – like a revenue account – it would represent a profit because the carrying value would be less than the proceeds from the sale. In this case, the Disposal of asset account would be closed to Profit on disposal of asset. See pp. 350 – 351. As a revenue account, Profit on Disposal of Furniture would be closed to the Profit and Loss Summary account at the end of the reporting period with other revenues like Sales, Stock Gain and Discount Revenue. In the Profit and Loss Statement, it would be reported (with Discount revenue) as Other Revenue.
23. Note In relation to the Disposal of Asset account: A debit balance means the Disposal of Asset account will be closed to Loss on Disposal of Asset – an expense account Acredit balance means the Disposal of Asset account will be closed to Profit on Disposal of Asset – a revenue account.
24. You! Review questions 15.2. All q’s.
25. Thursday
26. RECORDING THE TRADE-IN OF A NON-CURRENT ASSET In some situations a firm will not sell an asset for cash, but rather use that asset as a trade-in on a newer model. This would mean that rather than receiving cash for the sale of the asset, the firm would instead receive a reduction in the amount payable for the purchase of a new asset. See Lexis Midnight Runners example p. 295. In the General Journal, the entries to transfer the carrying cost of the asset (the blue entries) and transfer the loss on the sale (the red entries) are exactly the same for a trade-in as they would be if the asset had been sold for cash. The only difference is that for a trade-in, the proceeds from the disposal (the green entries) are recorded as a decrease in a liability (Sundry Creditor), rather than as an increase to an asset (Bank) as would be the case for a cash sale. As a consequence, the proceeds from a trade-in will be recorded in the General Journal (rather than the Cash Receipts Journal).
27. Trade ins The trade-in is still revenue – a saving of an outflow of economic benefits (less cash must be paid to the creditor), in the form of a reduction in a liability (Sundry creditor – Irene Motors), which increases owner’s equity. However, because there is no cash flow to speak of, the proceeds – the trade-in – is not reported in the Cash Flow Statement. The only remaining step is to record the purchase of the new van, which is shown in the General Journal entry. See General Ledger p. 297. The accounts show that the old vehicle is gone, and the new vehicle – valued at $30 000 – is recorded in the Van account. The Sundry creditor – Irene Motors shows a credit balance of $32 300: $30 000 for the new van (plus $3 000 GST), less the $700 trade in on the old one. The disposal of van account has been closed, and the $500 loss has been transferred to the Loss on disposal of van account, which itself has been closed to the Profit and Loss Summary account.
28. Study Tip This example assumes that the new asset is purchased on credit. If the new asset is purchased using cash, the entry to record the proceeds on the sale (the green entries) would debit the asset account directly, rather than Sundry creditor. The credit entry would still be Disposal of asset.
29. You! Review Questions 15.3. Q’s 1 & 2.
30. REPORTING IN THEPROFIT AND LOSS STATEMENT Only the overall profit or loss on the disposal of a non-current asset is reported in the Profit and Loss Statement. Because Loss on disposal of equipment is an expense, it must be closed to the Profit and Loss Summary account at the end of the Reporting period along with all the other expenses to help in the determination of Net profit. A Loss on sale of asset decreases profit just like Cost of sales, Wages, or Rent. (See Chapter 9 for closing revenue and expense accounts.)
31. REPORTING IN THEPROFIT AND LOSS STATEMENT In the Profit and Loss Statement, a Loss on disposal of asset will be reported as an Other Expense, as is shown in Figure 15.8. Obviously the opposite is true for Profit on disposal of asset: it would be closed to the Profit and Loss Summary account with the other revenue accounts, such as Sales and Discount revenue, and reported in the Profit and Loss Statement as Other revenue. This is shown in Figure 15.9.
32. REASONS FOR PROFIT OR LOSS ON DISPOSAL Given that depreciation is an attempt to calculate the value of a non-current asset that has been consumed over its life, the carrying value of that asset is also an attempt to gauge the asset’s value at any point in time. A profit or loss on the disposal of that asset indicates that the carrying value – and the depreciation that leads to this carrying value – was in some way incorrect. If the carrying value of the asset is overstated, it is because it has been under-depreciated; we have not written off enough depreciation over the asset’s life.
33. REASONS FOR PROFIT OR LOSS ON DISPOSAL Note ‘poor estimates’ is a poor explanation, as it does not distinguish between over depreciation and under depreciation. Under-depreciation of a non-current asset means that: the estimated scrap value was too high (or overstated) and/or the estimated useful life was too high (overstated). Over-depreciation of a non-current asset means that: the estimated scrap value was understated and/or the estimated useful life was understated. See text for greater detail. Note factors like damage and demand.
34. You! Read Summary. Do at least five end of chapter exercises. Read Chapter 16 Where are We Headed.