Why I Became a CPA

Journal of Accountancy October 2005 13. No other profession offers April 16 as a paid holiday. 14. In Scrabble, Accountant (14) is worth more than either Doctor (9) or Lawyer (12). 15. The club jacket and secret handshakes are the coolest. 16. You get to answer all those quick questions. 17. You get to enjoy the great indoors. 18. You get to experience the five seasons a year: summer, fall, winter, spring and tax. 19. A new IRS form gives you the chills. 20. You can help people in what is sometimes accrual profession. 21. Otherwise, 14 identical white dress shirts would go to waste.

22. You know more about SOX than any fashion designer.
23. You get to work the standard 70-hour week. 24. Free physical fitness program for audit staff required to carry 20-pound audit bags.

CHAPTER 7
CASH AND RECEIVABLES Sommers ACCT 3311

Discussion Questions
Q 713 Explain any possible differences between accounting for an account receivable factored with recourse compared with one factored without recourse. The accounting treatment of receivables factored with recourse depends on whether certain criteria are met. If the criteria are met, the factoring is accounted for as a sale. If they are not met, the factoring is accounted for as a loan. In addition, note disclosure may be required. Accounts receivable factored without recourse are accounted for as the sale of an asset. The difference between the book value and the fair value of proceeds received is recognized as a gain or a loss.

Financing With Receivables

Companies may use their receivables to obtain immediate cash. Sale of Receivables remove receivable, record cash, difference is loss subsequent cash goes to buyer of receivable Secured Borrowing record cash, record borrowing subsequent cash used to repay borrowing

Factoring Arrangements
2. Accounts Receivable

SUPPLIER (Transferor)
1. Merchandise

RETAILER

FACTOR (Transferee) A factor is a financial institution that buys receivables for cash, handles the billing and collection of the receivables and charges a fee for the service.

Sale of Receivables
Treat as a sale if all of these conditions are met: receivables are isolated from transferor. transferee has right to pledge or exchange receivables. transferor does not have control over the receivables. Transferor cannot repurchase receivable before maturity. Transferor cannot require return of specific receivables.

Sale of Receivables
Without recourse An ordinary sale of receivables to the factor. Factor assumes all risk of uncollectibility. Control of receivable passes to the factor. Receivables are removed from the books, fair value of cash and other assets received is recorded, and a financing expense or loss is recognized. With recourse Transferor (seller) retains risk of uncollectibility. If the transaction fails to meet the three conditions necessary to be classified as a sale, it will be treated as a secured borrowing.

Deciding Whether to Account for a Transfer as a Sale or a Secured Borrowing

Discussion Questions
Q715 What is meant by the discounting of a note receivable? Describe the four- step process used to account for discounted notes. When a note is discounted, a financial institution, usually a bank, accepts the note and gives the seller cash equal to the maturity value of the note reduced by a discount. The discount is computed by applying a discount rate to the maturity value and represents the financing fee the bank charges for the transaction.

Discussion Questions
The four-step process used to account for a discounted note receivable is as follows: 1. Accrue any interest revenue earned since the last payment date (or date of the note). 2. Compute the maturity value. 3. Subtract the discount the bank requires (discount rate times maturity value times the remaining length of time from date of discounting to maturity date) from the maturity value to compute the proceeds to be received from the bank (maturity value less discount). 4. Compute the difference between the proceeds and the book value of the note and related interest receivable. The treatment of the difference will depend on whether the discounting is accounted for as a sale or as a loan. If its a sale the difference is recorded as a loss or gain on the sale; if its a loan the difference is viewed as interest expense or interest revenue.

Noninterest-Bearing Notes
Actually do bear interest. Interest is deducted (discounted) from the face value of the note.

Cash proceeds equal face value of note less discount.

E7-21
Weldon Corporations fiscal year ends December 31. The following is a list of transactions involving receivables that occurred during 2011: 3/17 Accounts receivable of $1,700 were written off as uncollectible. The company uses the allowance method. 3/30 Loaned an officer of the company $20,000 and received a note requiring principal and interest at 7% to be paid on March 30, 2012. 5/30 Discounted the $20,000 note at a local bank. The banks discount rate is 8%. The note was discounted without recourse and the sale criteria are met. 6/30 Sold merchandise to the Blankenship Company for $12,000. Terms of the sale are 2/10, n/30. Weldon uses the gross method to account for cash discounts. 7/8 The Blankenship Company paid its account in full. 8/31 Sold stock in a nonpublic company with a book value of $5,000 and accepted a $6,000 non-interest-bearing note with a discount rate of 8%. The $6,000 payment is due on February 28, 2012. The stock has no ready market value. 12/31 Bad debt expense is estimated to be 2% of credit sales for the year. Credit sales for 2011 were $700,000. Prepare all journal entries.

E7-21
3/17 Accounts receivable of $1,700 were written off as uncollectible. The company uses the allowance method. Allowance for uncollectible accounts 1,700 Accounts receivable 1,700 3/30 Loaned an officer of the company $20,000 and received a note requiring principal and interest at 7% to be paid on March 30, 2012. Note receivable 20,000 Cash 20,000

E7-21
5/30 Discounted the $20,000 note at a local bank. The banks discount rate is 8%. The note was discounted without recourse and the sale criteria are met. Step 1: To accrue interest earned for two months on note receivable Interest receivable 233 Interest revenue ($20,000 x 7% x 2/12) 233 Step 2: Add interest to maturity to calculate maturity value. $20,000 Face amount 1,400 Interest to maturity ($20,000 x 7%) 21,400 Maturity value

E7-21
5/30 Discounted the $20,000 note at a local bank. The banks discount rate is 8%. The note was discounted without recourse and the sale criteria are met. Step 3: Deduct discount to calculate cash proceeds. 21,400 Maturity value (1,427) Discount ($21,400 x 8% x 10/12) $19,973 Cash proceeds Step 4: To record a loss for the difference between the cash proceeds and the notes book value. Cash (proceeds determined above) 19,973 Loss on sale of note receivable (difference) 260 Interest receivable (from adjusting entry) 233 Note receivable (face amount) 20,000

E7-21
6/30 Sold merchandise to the Blankenship Company for $12,000. Terms of the sale are 2/10, n/30. Weldon uses the gross method to account for cash discounts. Accounts receivable 12,000 Sales revenue 12,000 7/8 The Blankenship Company paid its account in full. Cash ($12,000 x 98%) 11,760 Sales discounts ($12,000 x 2%) 240 Accounts receivable 12,000

E7-21
8/31 Sold stock in a nonpublic company with a book value of $5,000 and accepted a $6,000 non-interest-bearing note with a discount rate of 8%. The $6,000 payment is due on February 28, 2012. The stock has no ready market value. Notes receivable (face amount) 6,000 Discount on note receivable (PV=5,769) 231 Investments (book value) 5,000 Gain on sale of investments (difference) 769 12/31 Bad debt expense is estimated to be 2% of credit sales for the year. Credit sales for 2011 were $700,000. Bad debt expense ($700,000 x 2%) 14,000 Allowance for uncollectible accounts 14,000

E7-21
Adjusting Entries:

To accrue interest earned on note receivable. Discount on note receivable Interest revenue ($5,769 x 8% x 4/12)

154 154

E7-13
On June 30, 2011, the Esquire Company sold some merchandise to a customer for $30,000 and agreed to accept as payment a noninterest- bearing note with an 8% discount rate requiring the payment of $30,000 on March 31, 2012. The 8% rate is appropriate in this situation. Prepare all journal entries (omit any entry that might be required for the cost of the goods sold). June 30, 2011 Note receivable (face amount) 30,000 Discount on N/R ($30,000 x 8% x 9/12) 1,800 Sales revenue (difference) 28,200 December 31, 2011 Discount on note receivable 1,200 Interest revenue ($30,000 x 8% x 6/12) 1,200 March 31, 2012 Discount on note receivable 600 Interest revenue ($30,000 x 8% x 3/12) 600 Cash 30,000 Note receivable (face amount) 30,000