Question

Rex loves to work with his hands and is very good at making small figurines. Three years ago, Rex opened Bronze Age Miniatures (BAM) for business as a sole proprietorship. BAM produces miniature characters ranging from sci-fi characters (his favorite) to historical characters like George Washington (the most popular). Business has been going very well for him, and he has provided the following information relating to his business. Rex received approval from the IRS to switch from the cash method of accounting to the accrual method of accounting effective January 1 of this year. At the end of last year, BAM reported accounts receivable that had not been included in income under the accrual method of $20,500 and accounts payable that had not been deducted under the accrual method of $9,750. In March, BAM sold 9,550 miniature historical figures to History R Us Inc. (HRU), a retailer of historical artifacts and figurines, for $152,800. HRU was so impressed with the figurines that it purchased in March that it wanted to contract with BAM to continue to produce the figurines for it for the next three years. HRU paid BAM $241,020 ($13 per figurine) on October 30 of this year, to produce 515 figurines per month for 36 months beginning on November 1 of this year. BAM delivered 515 figurines on November 30 and again on December 30. Rex elects to use the deferral method to account for the transaction. Though the sci-fi figurines were not quite as popular, BAM sold 446 figurines at a sci-fi convention in April. Rex accepted cash only and received $12,488 for these sales. In January, BAM determined that it would not be able to collect on $2,700 of its beginning-of-the-year receivables, so it wrote off $2,700 of specific receivables. BAM sold 143,000 other figurines on credit for $185,900. BAM estimates that it will be unable to collect 5 percent of the sales revenue from these sales but it has not been able to specifically identify any accounts to write off. Assume that BAM correctly determined that its cost of goods sold this year is $91,520. The sci-fi convention in April was held in Chicago, Illinois. Rex attended the convention because he felt it was a good opportunity to gain new customers and to get new ideas for figurines. He paid $1,130 round-trip airfare, $198 for entrance to the convention, $308 for lodging, $125 for cab fare, and $130 for meals during the trip. He was busy with business activities the entire trip. On August 1, BAM purchased a 12-month insurance policy that covers its business property for accidents and casualties through July 31 of next year. The policy cost BAM $8,040. BAM reported depreciation expense of $9,750 for this year. Rex had previously operated his business out of his garage, but in January he decided to rent a larger space. He entered into a lease agreement on February 1 and paid $15,000 ($1,250 per month) to possess the space for the next 12 months (February of this year through January of next year). Before he opened his doors for business, Rex spent $31,500 investigating and otherwise getting ready to do business. He expensed $5,000 immediately and is amortizing the remainder using the straight-line method over 180 months. In December, BAM agreed to a 12-month, $11,000 contract with Advertise-With-Us (AWU) to produce a radio ad campaign. BAM paid $5,100 up front (in December of this year) and AWU agreed that BAM would owe the remaining $5,900 only if BAM’s sales increased by 15 percent over the 9-month period after the contract was signed. In November of this year, BAM paid $3,000 in business property taxes (based on asset values) covering the period December 1 of this year through November 30 of next year. In November of last year, BAM paid $2,000 for business property taxes (based on asset values) covering the period December 1 of last year through November 30 of this year. What amount will increase taxable income (positive) or reduce taxable income (negative) for each of the above scenarios? (Enter the write-off of the receivable under e-1 and the sales under e-2. Negative amounts should be indicated by a minus sign. Do not round intermediate calculations. Round your final answers to the nearest dollar amount.)

Answer 1

Here's the answer in tabular format.

	Amount
a	$2100 16000 AR – 7600 AP = 8400; 8400 × 25% = $2100 A positive adjustment is included over 4 years (25% a year)
b	$182,400 Sale to HRU.
c	16192 Using the deferral method for accrual, only amount earned is recognized (2 mos. × $16 per unit × 506 units).
d	$14,632 Sales at Sci-Fi convertion.
e-1	(3,300) Can only deduct amounts actually written off as uncollectible. Other expense for Schedule C.
e- 2	$195,200 Under the accrual method included income at time of sale.
f	($114,680) Cost of goods sold.
g	(1,881) $1200 airfare + $191 convention fee + $253 lodging + $143 cab fare + $94 meals [0.5 of $188].
h	(4,740) This prepayment qualifies under the 12-month rule and it is a payment liability so it meets the economic performance test when it pays to the insurance company in August.
i	(9,950) Depreciation.
j	(18,700) Economic performance for rent expense occurs over the rental period. Because no expenditure is accrued, the 12 month rule is inapplicable. Rex may only deduct rent for 11 months it was renting the property (11 mos. × $1,700).
k	(1,800) 32,000 – 5,000 expensed immediately = 27,000; 27,000 / 180 mos. = 150; 150 × 12 mos. = $1800 Other expense for Schedule C.
l	(250) $9650 is not deductible because the liability is not fixed. Economic performance for the $3000 occurs as AWU provides services. Thus, BAM may only deduct the portion of this expense that relates to December (3000 / 12)
m	(5100) Taxes are payment liabilities so economic performance and the deduction occurs when BAM pays the taxes.