Current Liabilities and Payroll

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Current Liabilitiesand Payroll

• Chapter 11

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Objective 1

• Account for current liabilities
• of known amount.

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Accounts Payable...

• are amounts owed to suppliers for goods or
  services purchased on account.
• Accounts payable do not bear interest expense for
  the debtor.

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Accounts Payable Example

• Suppose that on June 3, Lloyds Sporting Store
  purchased 1,000 of goods on account from Patti
  Wholesaler.
• What is the journal entry?

Inventory 1,000 Accounts
Payable 1,000 Purchase on account
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Short-Term Notes Payable...

• are promissory notes payable due within one
  year.
• In addition to recording the note payable, the
  business must also pay interest expense.
• If interest expense is accrued at the end of the
  period, interest payable must also be recorded.

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Short-Term Notes Payable Example

• On April 30, Patti purchased inventory for
  10,000 by issuing a 90-day, 10 note payable.
• What is the journal entry?

Inventory 10,000 Notes Payable 10,000 Purcha
se inventory on a 90-day, 10 note
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Short-Term Notes Payable Example

• Assume the accounting period ended May 31.
• How much interest was accrued as of May 31?
• 10,000 10 31/360 86.11
• How does Patti record the payment at maturity?

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Short-Term Notes Payable Example

• July 29
• Note Payable 10,000.00
• Interest Payable 86.11
• Interest Expense 163.89
• Cash 10,250.00

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Sales Tax Payable Example

• Most states levy a sales tax on retail sales.
• Suppose that a store sold 3,000 worth of
  merchandise on a given Saturday.
• The business collected an additional 5 in
  sales tax.
• How much is the sales tax liability?
• 150

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Accrued Expenses (Liabilities)...

• are expenses that have been incurred but not
  recorded.
• salaries
• taxes withheld
• interest
• utilities

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Payroll Liabilities
Salary Expense 10,000 Employee Income Tax
Payable 1,200 FICA Tax Payable
800 Employee Union Dues Payable
140 Salary Payable 7,860 To record
salary expense
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Unearned Revenue Example

• Assume that on June 1, Denniss Landscaping
  collected 1,500 for services to be provided
  during the months of June, July, and August.

June 1 Cash 1,500 Unearned
Revenue 1,500 Received cash in advance
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Unearned Revenue Example

• What entry does Dennis record on June 30?

June 30 Unearned Revenue 500 Service
Revenue 500 Earned service revenue that was
collected in advance
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Objective 2

• Account for Current Liabilities
• That Must be Estimated.

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Estimated Warranty Payable

• The matching principle demands that the company
  record the warranty expense in the same period
  that the business recognizes sales revenue.

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Estimated Warranty Payable Example

• Patti Wholesaler made sales of 1,000,000 subject
  to product warranties.
• In the past years, claims have averaged 2.

Warranty Expense 20,000 Estimated Warranty
Payable 20,000 To accrue warranty expense
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Estimated Warranty Payable Example

• On January 28, a customer returned a defective
  product and was given a 300 refund.

Estimated Warranty Payable 300 Cash 300
To record refund under warranty
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Estimated Vacation PayLiability Example

• Suppose Lloyds Sporting Store has a March
  payroll of 10,000 and vacation pay adds 4 (2
  weeks of annual vacation divided by 50 workweeks
  each year).
• How much vacation pay should be accrued?

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Estimated Vacation PayLiability Example
March 31 Vacation Pay Expense 400 Estimated
Vacation Pay Liability 400 To accrue vacation
expense
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Contingent Liability

• Report a contingent liability in the notes to the
  financial statement if it is reasonably possible
  that a loss or expense will occur.
• The FASB says to record an actual liability if it
  is probable that the business has suffered a loss
  and its amount can be reasonably estimated.

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Contingent vs. Current Liability

• Suppose a hospital has lost a court case for
  uninsured malpractice.
• The hospital estimates that the liability will
  fall between 1.5 and 2.5 million.

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Contingent vs. Current Liability

• The hospital must record a loss and a liability
  of 1.5 million.
• The hospital must disclose in a note the
  possibility of an additional 1.0 million loss.

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Objective 3

• Compute Payroll Amounts.

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Payroll

• Straight time is the base rate paid to employees
  for a set number of hours.
• Overtime is additional time worked by employees
  for which they received a higher rate (usually
  1.5 times the straight time rate).

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Gross Pay and Net Pay
Gross Pay
Deductions
Net Pay
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FICA Tax

• The FICA tax has two components
• Old age, survivors, and disability insurance
  (6.2 applied to the first 87,000 of employee
  earnings in a year)
• Health insurance
  (1.45 applied to all employee earnings)

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Employer Payroll Taxes

• Social Security (FICA) tax
• State unemployment compensation tax
• Federal unemployment compensation tax

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Unemployment Compensation Taxes

• Employers paid 5.4 to the states and 0.8 to the
  federal government on the first 7,000 of each
  employees annual earnings.
• The state government uses the money to pay
  unemployment benefits to people who are out of
  work.

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Breakdown of Payroll Costs
Employer payroll taxes to government 110
Employer cost of health care to insurance co. 90
Employer disburses 1,200
Net pay to employee 750
Employee payroll taxes to government 230
Employee union dues 20
Employee Gross Pay 1,000
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Objective 4

• Record Basic Payroll Transactions.

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Salary Expense

• Salary expense to the employer is the gross
  salary of all employees.
• Employees pay their own income and FICA taxes as
  well as union dues.
• The employer serves as a collecting agent and
  sends these amounts to the government and union.

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To Record Salaries Expense

• Salary Expense
• Employee Income Tax Payable
• FICA Tax Payable
• Employees Union Dues Payable
• Salary Payable to Employees (take-home pay)

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To Record Salaries Expense

• Payroll Tax Expense
• FICA Tax Payable
• State Unemployment Tax Payable
• Federal Unemployment Tax Payable

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To Record Salaries Expense

• Health Insurance Expense for Employees
• Life Insurance Expense for Employees
• Pension Expense
• Employee Benefits Payable

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Objective 5

• Use a Payroll System.

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Payroll System Components

• payroll record
• special payroll bank account
• payroll checks
• earnings record for each employee

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Payroll Record...

• is also referred to as the payroll journal.
• It lists payroll data for each employee.
• It serves as a check register.
• It provides information for recording payroll
  expenses and related withholdings.

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Payroll Bank Account

• When companies use a payroll bank account, the
  company draws a check for the net amount of
  salary payable to employees on its regular bank
  account.
• The company deposits this check in the special
  payroll bank account.

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Payroll Bank Account

• The company writes paychecks to employees out of
  the payroll account.
• When the paychecks clear the bank, the payroll
  account has a zero balance.
• Disbursing paychecks from a separate bank account
  isolates net pay for analysis and control.

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Recording Cash Disbursements

• When the employer pays the employees, the
  company debits Salary Payable to Employees and
  credits Cash.
• The liabilities to the government, unions, and
  other parties is also debited when cash is paid.

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Recording Cash Disbursements

• Assume the following journal entry was made at
  the end of an accounting period

Salary Expense 180,000 Employee Income Tax
Payable 45,000 FICA Tax Payable
11,160 Employee Union Dues Payable
840 Salary Payable to Employees 123,000
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Recording Cash Disbursements

• What is the journal entry when the employer pays
  these liabilities?

Employee Income Tax Payable 45,000 FICA Tax
Payable 11,160 Employee Union Dues
Payable 840 Salary Payable to
Employees 123,000 Cash 180,000
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Internal Control over Payrolls

• controls for efficiency
• controls for safeguarding payroll disbursements

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Controls for Efficiency

• making payroll disbursements from one payroll
  account in one month and from another the next
• following established policies for hiring and
  firing employees
• complying with government regulations
• testing employees for their interest in the job
  and their skills to perform the job

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Controls for SafeguardingPayroll Disbursements

• Large organizations must establish controls to
  ensure that payroll disbursements are made only
  to legitimate employees.
• Duties of hiring and firing should be separated
  from the duties of accounting for payroll and
  distributing paychecks.

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Controls for SafeguardingPayroll Disbursements

• Requiring an identification badge bearing an
  employees photograph also helps internal
  control.
• A formal time-keeping system helps ensure that
  employees have actually worked.

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Objective 6

• Report Current Liabilities
• on the Balance Sheet.

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Report Current Liabilities

• Companies report current liabilities on the
  balance sheet.
• Current liabilities of known amount (payroll)
• Current liabilities that must be estimated
  (warranties)

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Report Current Liabilities

• At the end of the year, companies report the
  amount of payroll liabilities owed to all
  parties.
• The liability at year end is the amount of the
  payroll expense that is still unpaid.

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Liabilities KnownWhen Recorded

• accounts payable
• short-term notes payable
• sales tax payable
• current portion of long-term debt
• accrued expenses payable
• unearned revenues

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Liabilities EstimatedWhen Recorded

• warranty payable
• income tax payable
• vacation pay liability

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End of Chapter 11