Chapter 8 Terms

Question 1

expenditure

Answer 1

cash disbursement

Question 2

How do you acquire a non-current asset?

What are the various costs involved?

Answer 2

Capital expenditure results in the acquisition of a non-current asset, including any additional costs involved in preparing the asset for its intended use.
You do not need to memorize the following, just read it:

Land:
Acquire
-purchase price
- commission to real estate agent
- legal fees
Prepare
- draining
- clearing
- landscaping
- demolition
- assessments for streets and sewage system

Building:
Acquire
- purchase price
- commission to real estate agent
- legal fees
Prepare
- remodelling costs before use
- payments to tenants for premature termination of lease

Equipment:
Acquire
- invoice cost
- transportation
- insurance during transportation
Prepare
- installation including wages
- special floor foundations or supports
- wiring
- inspection
- test run costs

Question 3

Revenue expenditure vs. capital expenditure

Answer 3

capital expenditure is the cost to get PPE into operation, and is expected to have future benefit for more than one year

revenue expenditure is the cost to make revenue, and does not have a future benefit beyond one year, or has future benefit beyond the year but the cost of it is so low that it is expensed this way (rather than depreciating)

They are very similar and it comes down to a matter of judgement to categorize them, so ask these questions when deciding to expense or add to the depreciable amount:

1. Will it benefit more than one accounting period?
2. Will it enhance the service potential of the asset, or make it more valuable or more adaptable?
3. Is the dollar amount material?

If it does not meet all three criteria then it is a revenue expenditure and it is expensed.

Question 4

capitalization policy limit

Answer 4

determined by the company

the upper limit beyond which you can no longer expense something and you have to go the depreciation route

Question 5

During installation, a component broken because it was carelessly left on the floor. Does this count towards the cost of the machinery?

Answer 5

No, because this could have been prevented. This is not going to affect the accounting for the PPE. It will affect an expense account instead.

Question 6

Does depreciation continue even if the asset becomes idle or is retired from use?

Answer 6

Yes; continue to depreciate until the value of the accumulated depreciation matches so that it is zeroed out, called “fully depreciated”. This is an application of the matching principle.

Question 7

residual value

Answer 7

the estimated worth of the asset at the end of its estimated useful life

Question 8

useful life

Answer 8

The length of time that a long-lived asset is estimated to be of benefit to the CURRENT OWNER.

Question 9

productive output

Answer 9

the amount of goods or services expected to be provided (units of production could be hours used, units of output, kilometres driven)

Question 10

Units-of-Production Method and equation to find depreciation per unit

Answer 10

Also known as “Usage-Based Depreciation Method”

Used when the output of an asset varies from period to period.

Used when the earning of revenues depends on the amount of output.

(cost - residual value)/ estimated units of output = depreciation per unit

This one will feel like the straight-line method but it is just dividing by estimated units of output, and then multiplying this full thing by the amount of units used

BUT it is so much easier to think of it this way:

depreciation for that year = (cost - residual value)(proportion of units used that year compared to the useful life units)

so 19 units used / 200 units that can be used would give you that proportion

Question 11

carrying amount or net book value

Answer 11

carrying amount = cost - accumulated depreciation

(residual value is NOT used to adjust this carrying amount even if there is a better known residual amount now that a few years have passed; residual value is only used to calculate the depreciation expense and should be the same as when it was first decided in an ideal world.)

The carrying amount CANNOT be less than the residual amount. There is a maximum allowable accumulated depreciation.

Question 12

Accelerated Time-Based Depreciation Method

Answer 12

also known as Double-Declining Balance (DDB)

depreciation for that year = (carrying amount)(2) / estimated total useful life

The carrying amount does not include a subtraction of the residual value!!! Carrying amount = cost - accumulated depreciation (not cost - residual!!!!)

YOU MUST REMEMBER to subtract the accumulated depreciation from the cost to get that top number.

The estimated total useful life should be constant for each year. It is rare that this figure would change.

This is always twice the rate of depreciation using the straight-line method. So 15% would become 30% for example as the rate of depreciation. So the rate has this relationship, but the rest of the equation does not!!!

Straight line would be
depreciation for that year = cost - residual / estimated total useful life

So make sure that you understand the difference!

Question 13

How do you approximate partial years when calculating depreciation?

Answer 13

They taught two methods:

You can round to the nearest whole months where you had the asset working for you.

You can assume that you had it for 0.5 years for the partial years regardless of when it was bought or sold.

Question 14

When you revise depreciation what do you have to remember?

Answer 14

Make sure that you are using the new amount of years left, even if they give you a new amount that includes the total years. So if 3 years have passed, and they say the revised useful life will be 9 years, you would use 6 years because that is the time that has not passed yet.

however, if there is no revision, you will continue to use the 6 years every year in subsequent calculations!!! I see this as a potential chasm that you will fall into!

Also, use the new amount of value that it has instead of the original purchase price to make the calculation, even with straight-line depreciation where you would usually not look at the carrying amount!

So cost - accumulated depreciation will give you the new cost (at least that is what was done with the straight-line method)

Question 15

componentization

Answer 15

Each MAJOR component that has a different estimated useful life than the rest of an asset must be recorded and depreciated separately. This is the process that categorizes the parts by the components of the whole.

Question 16

Given this scenario how would you proceed? What is the loss going to be?

Answer 16

20000 loss is debited to make the accounts balance

Basically the original purchase price was

Question 17

What are the calculations necessary to answer this full question?

Answer 17

Wipe out the old accumulated depreciation and asset. Make sure to record the expense due to not selling it for what it was worth in your books. Record the amount of cash received.

Add assets the way you usually do.

Record depreciation the way you usually do.

Keep in mind that the first two entries in this image are usually combined together, so that is why it looks slightly different. In addition, the cash comes in, and then the accounts payable is created, instead of having those combined, so that also makes it look different. Everything is what you are used to otherwise.

Question 18

recoverable amount

Answer 18

the fair value of the asset at the time less any estimated costs to sell it

Question 19

impairment loss

Answer 19

A loss that must be recorded when the recoverable amount is lower than the carrying amount

Remember that the carrying amount is also known as the net book value, and means cost less accumulated depreciation.

Recoverable amount is what you can get for it minus what it takes to sell it.

Their examples are:
technological obsolescence
economic downturn
physical disaster

When an impairment is recorded, subsequent years’ depreciation expense must also be revised. The carrying amount will be revised!

Question 20

What are the entries to record an impairment?

Answer 20

debit Impairment loss
credit Asset (such as Equipment)

You must check this equation.

I think this would be the new cost of the asset:
= (revised carrying amount - revised residual value) / remaining useful life

Then look at the difference between that and the old values to find the impairment loss

Question 21

How do you calculate units used in a given time period if you are given depreciation amount for that time period, the cost, the residual, and the total units expected to be used over its useful life?

Answer 21

depreciation for that time period = (cost - residual)(units used in that time period / total units expected to be used in its useful life)

so if you are looking for units used, just rearrange this equation and you get:

units used in that time period = (depreciation for that time period)(total units expected over the useful life)/(cost - residual)

This is needed in section 8.5 question 1 lab, so try that to make sure you are understanding

Question 22

How do you calculate units left to use?

Answer 22

units left to use = original total of units expected to be used during its useful life - units already used

This is the second step in the 3-part equation to determine revised depreciation given past information

Question 23

How do you calculate revised depreciation with the unit-based method?

Answer 23

revised depreciation = (recoverable amount - residual value)(units used this year / units left to use)

This is almost the same as before when you didn’t have a revised amount but you were doing unit-based method of depreciation:
depreciation = (cost - residual value)(units used this year / units expected to use over the useful life)

The only change is that you have to look at what the new cost is because it lost value on the market and thus we reported an impairment loss. This means that the full equation needs to be redone to ensure that we are looking at the new amounts of units that are expected to be used from here on, rather than those original values.

You’ll be able to do these questions much more easily if you write the equations on paper rather than trying to input them into one box, since they get complicated and they are hard to memorize all together.

Recognize that you have an impairment loss and realize that this will change your depreciation calculation, then follow these steps:
Step 1: calculate the units used that year
Step 2: calculate the units left to use
Step 3: calculate the revised depreciation

Question 24

derecognition of property, plant, and equipment

Answer 24

Any related accumulated depreciation as well as the original cost are removed from the accounting records after accounting for any last depreciation expense that has occurred. The depreciation expense will then still be visible, but the asset will no longer be seen on the balance sheet (asset and accumulated depreciation) since those accounts will have been zeroed out (assuming no other assets are in that category).

Debit depreciation expense
credit accumulated depreciation

Then….

Debit cash
Debit accumulated depreciation
Debit loss on disposal OR
Credit gain on disposal
Credit the asset

So that you remove accumulated depreciation and the asset, while recording cash received, and showing the difference through a loss or gain on disposal.

Question 25

How do you know if you have a loss or gain on disposal or loss or gain on sale?

Answer 25

Compare the carrying amount to what you are being paid for it. If carrying amount > cash received then you have a loss on disposal and thus must debit loss on disposal for the difference If carrying amount < cash received (or proceeds received) then you have a gain on disposal and thus must credit gain on disposal for the difference loss on disposal works like an expense gain on disposal works like revenue So to report loss on disposal you will debit, just like you debit other expense accounts to show their expense occurring And to report gain on disposal you will credit, just like you would a revenue account

Question 26

trade-in

Answer 26

the process of exchanging a used PPE asset for a new one; also the name of the old PPE asset that is given to the people providing the new PPE asset

Question 27

trade-in allowance

Answer 27

the value of the trade-in agreed by the purchaser and seller Do not use this to determine the cost of the new asset. Use this only when determining the loss or gain on disposal. in the rare case that the trade-in allowance is equal to the fair trade value of the asset traded, you can sub that into the equation below: Cost of new asset - fair value of asset traded in = cash paid This is used to help pay for the new asset and is removed from the purchase price of the new asset. In some cases, the trade-in allowance is not the same as the fair value of the asset traded!!!! The fair value is what determines the cost of the new asset, and not the trade-in allowance!!! So if you get a large trade-in allowance compared to the fair value, you will use gain on disposal. To find the cost of the new asset, make sure to use the fair value of the asset traded and not the trade-in allowance, unless they are the same as each other. Then calculate the loss or gain on disposal by using the difference between trade-in allowance and the fair value.

Question 28

How do you determine the cash needed to pay for an asset given you are trading in an old asset? (use the two other equations you have memorized to develop this)

Answer 28

cash paid = cost of new asset - fair value of old asset fair value of old asset does not always equal trade allowance. Make sure to use the fair value of the old asset to determine what the value of the new asset should be in your books also known as "cost of new asset". The trade-in allowance, if different from the fair value of old asset, will end up being accounted for by a loss or gain on disposal (expense or revenue) rather than on the asset itself. An equation you already have memorized is this: cash + carrying amount = loss + cost And you also know this: loss = carrying amount - fair trade amount So to get an equation that has these three variables: cost, fair, and cash, you can try to get the loss and carrying amount out of the other equations: So rearrange the second equation to get: fair trade = carrying amount - loss And rearrange the first equation to get: carrying amount - loss = cost - cash And then sub the two into each other: fair trade = cost - cash Then rearrange for cash and you get the proper equation: cash = cost - fair trade

Question 29

How do you calculate the cost of the new asset given the old carrying amount of a trade-in, the cash paid for the new equipment, and the loss suffered because of the difference of trade-in allowance vs. fair value of the old asset? First state how to calculate the loss suffered, then do the calculation of the new asset cost (not the same as the cash paid for it!)

Answer 29

Loss on disposal comes from looking at the original cost of the old asset, subtracting its accumulated depreciation, and subtracting its fair value. loss on disposal = carrying amount of old asset - fair value Fair value is what is getting offered for the asset so it could be 2000 Carrying amount of old asset could be 5000 So loss on disposal would be 3000. So Fair value is really unfair! (previously you calculated loss on disposal by looking at the cash instead, so that meant that you just had to balance out the entry in the picture because they told you what cash was given to you, but now they are teaching you to calculate the loss on disposal by looking at the fair value instead of by looking at the cash coming in) Then use the loss on disposal as a debit since it is an expense. Then proceed to calculate the cost of the new asset (this is not the same as the cash given in for the asset!). You will already be given the cash paid for the new asset in the problem. carrying amount of old asset + cash paid for the new asset - loss on disposal = cost of the new asset Just make sure that if you see retail value in a question not to use it. You need to use the fair value of the asset in this equation if you see fair value listed: loss on disposal = carrying amount of old asset - fair value Then use that to make any calculations necessary to fill in the rest of the accounts. You may find that the new asset coming in will have a relationship to the retail value, but that the loss or gain on disposal changes this new asset's cost in the books. So compute loss or gain on disposal if they give you fair value in the question.

Question 30

How do you calculate the cost of the new asset given the old carrying amount of a trade-in, the cash paid for the new equipment, and the GAIN because of the difference of trade-in allowance vs. fair value of the old asset? First state how to calculate the loss suffered, then do the calculation of the new asset cost (not the same as the cash paid for it!)

Answer 30

loss on disposal = carrying amount - fair value Gain on disposal comes from trying to find a loss on disposal but getting a negative answer. Look at the original cost of the old asset, subtract its accumulated depreciation, and subtract its fair value, then noticing that this is a negative value...you will see this is revenue instead of an expense. So the fair value was more than what it looked like in your books! So you have a gain because the carrying amount was less than the fair value! Then use the gain on disposal as a credit since it is revenue. Then proceed to calculate the cost of the new asset (this is not the same as the cash given in for the asset!). You will already be given the cash paid for the new asset in the problem. carrying amount of old asset + cash paid for the new asset - loss on disposal = cost of the new asset Which is from the following equation which you have memorized: cash + carrying amount = loss + cost (CA CA = loss cost) Or add the gain on disposal instead if you have a gain

Question 31

What are the account names required for this entry? How do you perform the calculations and in what order?

Answer 31

First calculate loss on disposal. loss = carrying amount - fair value Carrying amount and fair value are both supplied in the question. Then calculate the cost of the new asset (not the cash paid, as that is given in the question and they are not the same thing) using the following equation, subbing in values for carrying amount, cost of new asset, and loss as calculated earlier. If it is a gain, then just use a negative value or place it on the other side. You will not use the retail value at all in any of your calculations. cash + carrying amount = cost of new asset + loss (THINK CA CA = LOST COST) where cash is the amount of money being handed over in that transaction for the new asset, and the cost is for the new asset. If you forget this equation don't worry since it is just to calculate the last account on the entry so you can just balance debits and credits and you don't even need to use this equation. Remember that you may have a loss or a gain, and that is determined by a positive or negative value in your calculations. The important thing here is to compare the carrying value to the fair value to logically determine if it is a loss or a gain. If the fair value is less than the carrying value, it would of course be a loss because it is not actually worth as much as our accounting records state. In this case we got a negative answer, so it became a positive gain on disposal It is interesting to note the "retail value" what this really is. The 12500 retail value can be calculated in two different ways and it works out. Here is one way: retail value = new equipment asset amount to be recorded in the books + gain on disposal or retail value = cost of new asset + gain on disposal So be careful to not use the retail value as the cost of new asset (known here as new equipment cost) because they are not the same; they differ by the loss or gain on disposal, and that is important to note.

Question 32

intangible assets

Answer 32

long-lived asset that arises from legal rights and does not have physical substance

Question 33

patent

Answer 33

intangible asset granted when a company has an exclusive legal privilege to produce and sell a product or use a process for a specified period

Question 34

copyright

Answer 34

intangible assets that confers on the holder an exclusive legal privilege to publish a literary or artistic work (for the life of the copyright holder, often the original artist as well as for a specified period afterward). this controls the reproduction, sale, or other use of the copyrighted material

Question 35

trademark

Answer 35

a symbol or word used by a company to identify itself or one of its products in the marketplace To protect your right to use your trademark you can register it. A circle around and R denotes that a trademark is registered. ®

Question 36

franchise

Answer 36

legal right granted by one company (the franchisor) to another company (the franchisee) to sell particular products or to provide certain services in a given region using a specific trademark or trade name. In return the franchisee pays a fee to the franchisor. There is a payment of an initial franchise fee (which is a capital expenditure, so it is "capitalized"), but there are usually annual payments (and those are considered operating expenses.) McDonalds® is an example of a franchised fast-food chain. But there are other examples such as one granted by the government for the provision of certain services within a geographical location such as telephone services, or garbage collection.

Question 37

Is computer software categorized as PPE equipment or an intangible asset?

Answer 37

It depends on what it is used for. Microsoft Office® is productivity software and is recorded as an intangible asset. But computer software that is integral to machinery is included as the cost of the equipment and classified as PPE.

Question 38

What is the expected duration of an intangible asset?

Answer 38

They can have both finite life and indefinite life. In this course we are assuming that they all have finite life.

Question 39

amortization

Answer 39

When intangible assets lose value we record this as amortization. Systematic process of allocating the cost of intangible assets over their estimated useful lives using the straight-line, double-declining-balance, units-of-production or other method deemed appropriate. This is instead of recording it as depreciation (that term is only used with plant and equipment assets).

Question 40

Entry to record the purchase of a patent

Answer 40

Debit patent Credit cash To record the purchase of a patent, an intangible asset.

Question 41

Year-end Journal Entry to record a patent amortization worth $20,000 that will last 40 years with no residual value

Answer 41

Debit amortization expense - patent 500 from (20000-0)/40 assuming you had the patent the whole year, multiply by the proportion of months otherwise to get partial years. For example 4/12 would get you the last four months in the year's amortization. Credit Accumulated Amortization - Patent 500 You may also need to account for impairment loss, gains, loss on disposal of intangible assets and these are calculated and recorded in the same manner as for property, plant, and equipment. Image is a different one, but just to show that you need to account for 10 months in that one.

Question 42

Journal entry to record purchase and amortization expense of a trademark

Answer 42

debit trademark credit cash When year-end comes debit amortization expense - trademark credit accumulated amortization - trademark Notice that you need to pay attention to how long they intend to use the trademark and not its legal life. In the picture they are using 63 not 75 years.

Question 43

goodwill

Answer 43

the excess paid over the fair value of the net assets when one company buys another It is the combination of the company's assets which cannot be separately identified, such as a well-trained workforce, better retail locations, superior products, or excellent senior managers, the value of which is recognized only when a significant portion of the business is purchased by another company.

Question 44

When long-lived assets are presented on the balance sheet, the notes to the financial statements need to disclose what?

Answer 44

details of each class of assets (e.g., land; equipment including separate parts; patents; goodwill) measurement basis (usually historical cost) type of depreciation and amortization methods used, including estimated useful lives cost and accumulated depreciation at the beginning and end of the period, including additions, disposals, and impairment losses whether the assets are constructed by the company for its own use (if PPE) or internally developed (if intangible assets).

Question 45

This is a trade-in question

Answer 45

First do the calculations in blue, then balance the two sides to get the calculation in black You need to memorize that loss on disposal = carrying amount - fair value Here that calculation was positive, so you have a loss. Keep in mind that sometimes this will be a negative result and thus you will have a gain. Instead of balancing out debits and credits you can also use this equation you already have memorized: carrying amount + cash = loss + cost