Question

The Earland Corporation purchased equipment at the beginning of 20x7 and capitalized a cost of $2,000,000. This cost included the following expenditures:

Purchase price $1,850,000

Freight charges 30,000

Installation charges 20,000

Annual maintenance charge 100,000

Total=$2,000,000

The company equipment is being depreciated at a diminishing balance rate of 15% with no residual value. In 20x9, after the 20x8 financial statements were issued, the company decided to switch to the straight-line method of depreciation to reflect a change in the expected use of the equipment. At the time, the company’s controller also noticed the error made in 20x7. The company estimates that the total useful life of the equipment is 10 years with no residual value. The company’s tax rate is 35% and the equipment belongs to a UCC class having a 30% CCA rate.

Required –

(a) Prepare the journal entry at the beginning of 20x9 to adjust for the error.

(b) What is the 20x9 depreciation expense?

Answer 1

1. Rectification Journal Entry to be passed at the beginning of the year 20x9.

The error made in the year 20x7 is with respect to capitalization of Annual Maintenance Cost which should be expense off.

So as at beginning of 20x9, component of Annual Maintenance Cost capitalized is below :-

Depreciation for 2 years has been already charged as given below and we should pass rectification entry only for remaining amount.

20x7 :-

Depreciation charged $100,000*15%= $15,000

Value at the end of 20x7= $85,000

20x8 :-

Depreciation charged $85,000*15%= $12,750

Value at the end of 20x7= $72,250

At the beginning of 20x9, following journal entry needs to be passed :-

Repair & Maintenance Expense A/c Dr.        $72,250

Equipment A/c Cr.                                              $72,250

1. Depreciation expense for 20x9

As the Company has changed the method as well as estimate of the useful life of the equipment then first we need to calculate depreciation which has been already charged till 20x8 and Depreciation which needs to be charged till 20x9 according to new method and estimate.

Depreciation already charged

20x7

Depreciation Charged: $1,900,000*15%=$285,000

Remaining Value: $1,900,000-$285,000= $1,615,000

20X8

Depreciation Charged: $1,615,000*15%=$242,250

Remaining Value: $1,615,000-$242,250= $1,372,750

Depreciation charged till 20x8:

$285,000+$242,250= $527,250

Depreciation to be charged till 20x9:-

Total Useful Life: 10 Years

Value of Equipment: $1,900,000

Years till 20x9: 3 years

Depreciation till 20x9 according to new method will be

$1,900,000/10*3= $ 570,000

So Depreciation charged for year 20x9 would be $42,750 ($570,000-$527,250)