Question

Halifax Manufacturing allows its customers to return merchandise for any reason up to 90 days after delivery and receive a credit to their accounts. All of Halifax’s sales are for credit (no cash is collected at the time of sale). The company began 2021 with a refund liability of $300,000. During 2021, Halifax sold merchandise on account for $11,500,000. Halifax's merchandise costs is 65% of merchandise selling price. Also during the year, customers returned $450,000 in sales for credit, with $250,000 of those being returns of merchandise sold prior to 2021, and the rest being merchandise sold during 2021. Sales returns, estimated to be 4% of sales, are recorded as an adjusting entry at the end of the year.

Required:
1. Prepare entries to (a) record actual returns in 2021 of merchandise that was sold prior to 2021; (b) record actual returns in 2021 of merchandise that was sold during 2021; and (c) adjust the refund liability to its appropriate balance at year end.
2. What is the amount of the year-end refund liability after the adjusting entry is recorded?

Answer 1

Estimated returns for the year = $11500000 x 4% = $460000
Refund liability balance for last year = $300000-250000 = $50000
Adjustment = $460000 - 50000 = $410000

1.

	Account Titles	Debit	Credit
a	Allowance for Refund Liability	$       2,50,000
	Accounts Receivable		$      2,50,000
	Inventory	$       1,62,500
	Cost of Goods Sold		$      1,62,500
b	Sales returns and allowances	$       2,00,000
	Accounts Receivable		$      2,00,000
	Inventory	$       1,30,000
	Cost of Goods Sold		$      1,30,000
c	Sales returns and allowances	$       4,10,000
	Allowance for Refund Liability		$      4,10,000
	Inventory	$       2,66,500
	Cost of Goods Sold		$      2,66,500

2. Year end refund liability = $460000