Intermediate Accounting, 11th ed.
Kieso, Weygandt, and Warfield
Chapter 13: Current
Liabilities and
Contingencies
Prepared by
Jep Robertson and Renae Clark
New Mexico State University
Chapter 13: Current
Liabilities and
Contingencies
After studying this chapter, you
should be able to:
1. Describe the nature, type, and valuation
of current liabilities.
2. Explain the classification issues of short-
term debt expected to be refinanced.
3. Identify types of employee-related
liabilities.
4. Identify the criteria used to account for
and disclose gain and loss contingencies.
Chapter 13: Current
Liabilities and
Contingencies
5. Explain the accounting for different
types of loss contingencies.
6. Indicate how current liabilities and
contingencies are presented and
analyzed.
Liabilities in General
What is a liability?
Probable future sacrifices of
economic benefits arising from
present obligations to transfer
assets or to provide services in the
future as a result of past
transactions or events.
Current Liabilities
Current liabilities are:
• Obligations whose liquidation is
reasonably expected to require the
use of current assets or the
creation of other current
liabilities.
Current Liabilities
Typical current liabilities:
Accounts payable Returnable deposits
Notes payable Unearned revenues
Current maturities of Sales taxes payable
long-term debt
Income taxes
Short-term obligations payable
expected to be
Employee-related
refinanced
liabilities
Dividends
Accounts Payable
Accounts payable, also referred
to as trade accounts payable are:
1. Balances owed for goods,
supplies, or services purchased
on open account.
2. Valuation is based on invoice
amount.
3. Recorded on either net or gross
basis.
Notes Payable
• Notes payable may be interest-bearing
or non-interest-bearing.
• For non-interest-bearing notes, the
difference between the present value of
the note and the face value of the note
represents the discount on the note
payable.
• The discount is the interest expense
allocated over the term of the note.
Current Maturities of
Long-Term Debt
The portion of long-term debt
maturing within the next fiscal year
is reported as a current liability.
Long-term debts should not be
reported as current liabilities if:
1. they are retired by assets not classified
as current assets
2. they are refinanced by new issues of debt
3. they are converted into capital stock.
Short-Term Obligations
Expected to be Refinanced
Short-term debt must be excluded
from current liabilities if:
1. it is to be refinanced on a long-term basis, and
2. the entity demonstrates the ability to complete
the refinancing.
The entity has the ability to refinance
if:
1. the debt is actually refinanced before issue of
the financial statements, or
2. the entity enters into a refinancing agreement.
Dividends Payable and
Returnable Deposits
A cash dividend payable is:
1. Payable to shareholders.
2. Declared by the board of directors.
3. Stock dividends are NOT liabilities.
Returnable deposits:
1. May have been received from customers or
employees.
2. Usually retained to guarantee performance.
3. May be current or noncurrent liabilities.
Unearned Revenues
Unearned revenues represent receipts
before goods or services are delivered.
• Upon receipt:
Cash
Unearned Revenues
• Upon delivery:
Unearned Revenues
Revenues
Sales Taxes and Income
Taxes Payable
Sales taxes payable are:
• Payable to governmental agencies.
• May or may not be separately
recognized at time of sale.
Income taxes payable are:
• Payable to governmental agencies.
• Based on taxable income.
• Not levied on partnerships or sole-
proprietorships.
Employee-Related
Liabilities
Employee-related liabilities are the
following:
• Salaries or wages owed to employees at
end of the accounting period
• Payroll deductions
• Compensated absences
• Bonuses
Payroll Deductions
Payroll deductions are taxes and
miscellaneous deductions and
include:Pays
Employee Employer Pays
Income tax w/h FICA taxes (1/2)
FICA taxes (1/2) Fed.
Union dues Unemployment
Other (e.g., State
medical Unemployment
insurance) Other (e.g.,
medical
Employee-Compensated
Absences
Compensated absences are absences from
employment for which employees are paid
A liability for such absences must be
accrued if:
1. Relates to services already rendered by
employees,
2. Relates to employee’s vested or
accumulated rights of employee,
3. Payment of the compensation is probable,
and the amount can be reasonably
estimated.
The liability is recognized in the year earned
by employees
Bonus Agreements
• Bonuses may be given in addition
to regular salaries to all or select
group of employees
• Typically tied to performance
measures (e.g., net income)
• In most cases are current
liabilities
Contingency: Defined
An existing condition, situation, or
set of circumstances involving
uncertainty as to possible gain
(gain contingency) or loss (loss
contingency) that will ultimately
be resolved when one or more
future events occur or when such
event or events fail to occur.
Gain Contingencies
Gain contingencies are claims or
rights to receive assets, which may
become valid eventually.
Examples are:
• Pending litigation whose probable
outcome is favorable
• Possible tax refunds in tax disputes
Gain contingencies are not
accrued!
Loss Contingencies:
General
Loss contingencies involve
situations of possible loss that are
dependent on some future
event(s).
The likelihood of occurrence of the
event may be:
1. Remote (slight)
2. Reasonably possible (more than
remote but less than likely)
3. Probable (likely)
Loss Contingencies:
Accrual
Estimated losses from loss
contingencies are accrued as
liabilities if:
1. It is probable that a liability has been
incurred, and
2. The amount of loss can be reasonably
estimated.
The interpretation of these terms is
often based on lawyers’ opinions.
Litigation, Claims and
Assessments
To determine whether a liability should
be recorded, evaluate:
1. The time period in which the underlying cause
of action occurred
2. The probability of an unfavorable outcome
3. The ability to make a reasonable estimate of
loss
To determine the probability of
outcome, evaluate:
1. Nature of litigation and progress of case
2. Opinion of legal counsel
3. Response by management
Guarantee and Warranty
Costs
A warranty is a promise (future cost) made by
a seller to a buyer to make good on a
deficiency.
Under the cash basis method, warranty costs
are charged to the period in which the costs
are paid.
Under the accrual basis method:
1. warranty costs (for warranties sold with the
product) are estimated and matched with
revenue.
2. extended warranty revenues are deferred
and recognized over the life of the
warranty contract.
Manufacturers’
Warranties: Example
Estimated warranty costs:
3% of 10,000 units at $15 each = $4,500
Adjusting journal entry:
Warranty Expense $4,500
Estimated Liability (warranties)
$4,500
Entry in 2004: (170 units repaired at $15 each)
Estimated Liability (warranties) $ 2,550
Parts Inventory $ 850
Wages Payable $1,700
Analysis of Current
Liabilities
Two ratios often used are:
Current = Current assets
Current liabilities
Acid-test = Cash + Mkt. Sec + Net Recbls.
Current liabilities
Both are measurements of a firm’s
liquidity.
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