Question

Presented below are ten independent scenarios describing possible errors. In each, the time is early 2020
and fiscal year 2019 adjusting entries have already been recorded before the described facts come to light.
However, the fiscal year 2019 books have not yet been closed.

5. At the fiscal 2018 year-end, Five Co. owned equipment with a $15,000 book value and an original cost
of $70,000. Due to technological advances, Five had judged it to be obsolete at that date but had
overlooked this fact when preparing the fiscal 2018 financial statements. In early 2019. Five was able
to sell the machine as scrap for $1,000, recording a $14,000 loss.

6. Near the end of fiscal 2018, Six Co. had swapped a car having a $6,000 book value and an original
cost of $20,000 for a similar car determined to have a fair value of $7,000, recording a $1,000 gain on
the exchange. However, the car acquired is not expected to have any significant impact on the
company’s financial position, Six having made the swap mainly because Six’s owner liked the car’s
styling and more comfortable seating. Six began depreciating the acquired car in fiscal 2019 using the
straight-line method with an estimated five-year life and an expected $500 salvage value.

7. Seven Co. uses the double-declining balance method for all depreciable assets. At the start of fiscal
2018, Seven Co. paid $45,000 for a truck having an estimated useful life of five years and an expected
salvage value of $5,000. Seven has been deducting this salvage in calculating the truck’s depreciation.

8. Eight Co. had received $51,600 in loan proceeds on January 1, 2018 by issuing a 3-year, $65,000
non-interest-bearing note reflecting implicit interest (return to the lender) of 8%. Eight recorded the loan
at the net proceeds amount but has not made any note-related journal entries since obtaining it.

9. On January 2, 2013, Nine Co. issued $100,000 of 5%, 10-year bonds at 95. Interest is payable
semiannually, and the bonds are callable at 101 on any interest payment date. In addition, each $1,000
bond is convertible into 20 shares of Nine’s $10 par value common stock. Nine called all the bonds on
December 31, 2018 and recorded the difference between the bonds’ call price and their book value at
that date as a reduction of additional paid-in capital. Nine had been using straight-line amortization,
having judged its results as not differing materially from those under the effective-interest method.

10. In fiscal 2018, Ten Co. began selling a product with a three-year warranty. Sales in fiscal 2018 totaled
$500,000 and in fiscal 2019 grew to $800,000. Ten had estimated that its total warranty costs over
every three-year warranty period would approximate 2% of each year’s sales, and its actual warranty
costs amounted to $3,000 in fiscal 2018 and $14,000 in fiscal 2019. Ten has not been accruing warranty
costs but has instead been expensing the actual warranty costs incurred.

Required—For each of the ten independent scenarios above, identify any errors indicated by the facts and
prepare, if needed, the fiscal 2019 journal entry(s) to correct those errors, assuming that any corrections
related to income taxes will be calculated and recorded separately (i.e., prepare correcting entries ignoring
income tax effects).

Answer 1

5. Correction Entry in 2019 books as below in chronological order: -

a) Recognizing an asset write-off of $15,000 on the Balance Sheet to make the Book Value of the Machine reduced to 0 (Zero) and simultaneously recognizing a loss of $ 15,000 on the income statement.

b) On the sale of the machine for $1,000, recognize an entry of $1,000 under "Cash" on the Balance Sheet and simultaneously recognize a "Gain on fixed asset disposal" of $1,000 on the income statement.

6. Correction Entry in 2019 books as below in chronological order: -

a) Recognizing an asset write-off of $1,000 on the Balance Sheet to make the Book Value of the Car reduced to $6,000 and simultaneously recognizing a loss of $ 1,000 on the income statement.

7. No correction entry is required. It is a correct practice to deduct the salvage value from the Original value while calculating the depreciation amount in all the methods of depreciation (straight line or double declining).

8. Eight Co. should not have recorded the loan proceeds at a net amount in 2018. After deleting the old entries at a net amount, below correction Entry in 2019 to be booked in chronological order: -

a) For loan origination, book a cash entry of $51,600 as loan proceeds on the balance sheet. Simultaneously, book 2 entries under the liability section on Balance Sheet: - (i) Entry for "Nominal Amount of Loan" as $65,000. and (ii) Entry for "Unamortized Loan Discount" as $13,400. Netting the entries (i) and (ii) will give the Book Value of Loan at $51,600.

Book Value of the Loan at the end of year = Nominal Amount of Loan (equivalent to the face value of a bond) - Unamortized Loan Discount at end of the year.

Unamortized Loan Discount at the end of the Year = Unamortized Loan Discount at beginning of the year - Amortization of loan discount during that year

Amortization of Loan amount during the year = interest expense on the loan during the year = 8% of the Book Value of the loan at the beginning of the year.

b) For 1st year of the loan in 2018, recognize an interest expense in the income statement for the year of 2018 as 8% of Book Value of Loan ($51,600), which is $4,128 and simultaneously reduce the Entry for "Unamortized Loan Discount" as $13,400 by $4,128 to make it $9,272. Hence, at the beginning of the year 2019, the Book Value of Loan = $65,000 (Nominal Amount of Loan) - $9,272 (Unamortized Loan Discount at the end of the year) = $55,728.

c) For 2nd year of the loan in 2019, recognize an interest expense in the income statement for the year of 2019 as 8% of Book Value of Loan ($55,728), which is $4,458 and simultaneously reduce the Entry for "Unamortized Loan Discount" as $9,272 by $4,458 to make it $4,814. Hence, at the beginning of the year 2020, the Book Value of Loan = $65,000 (Nominal Amount of Loan) - $4,814 (Unamortized Loan Discount at the end of the year) = $60,186.

d) For 3rd & final year of the loan in 2020, recognize an interest expense in the income statement for the year of 2020 as 8% of Book Value of Loan ($60,186), which is $4,814 and simultaneously reduce the Entry for "Unamortized Loan Discount" as $4,814 by $4,814 to make it $0. Hence, at the beginning of the year 2020, the Book Value of Loan = $65,000 (Nominal Amount of Loan) - 0 (Unamortized Loan Discount at the end of the year) = $65,000.

e) Now at the end of 3rd & final year of the loan, pay the nominal amount of $65,000 to creditors. And reduce the entry of Cash on the balance sheet by $65,000 and simultaneously, reducing the book value of $65,000 loan to zero.

9.