Test Prep Test Prep Certifications FINANCIAL-ACCOUNTING-AND-REPORTING Questions & Answers

• Question 131:

  Foy Corp. failed to accrue warranty costs of $50,000 in its December 31, 1992, financial statements. In addition, a $30,000 change from straight-line to accelerated depreciation was made at the beginning of 1993. Both the $50,000 and the $30,000 are net of related income taxes. What amount should Foy report as prior period adjustments in 1993?

  A. $0

  B. $30,000

  C. $50,000

  D. $80,000

  Correct Answer: C

  Choice "c" is correct. $50,000. The cumulative effect of a change in accounting principle is now shown on the retained earnings statement as an adjustment to the beginning balance of retained earnings, assuming that the cumulative effect can be calculated. An exception is made however, for a change in depreciation method, since a change in depreciation method is no longer considered to be a change in accounting principle. A change in depreciation method is now considered to be both a change in method and a change in estimate. These changes should now be accounted for as a change in estimate and handled prospectively. The new depreciation method should be used as of the beginning of the year of change and should start with the current book value of the underlying asset. No retroactive or retrospective calculations should be made, and no adjustment should be made to retained earnings. The correction of the failure to accrue warranty costs is treated as a correction of an error and thus as a prior period adjustment. Choices "a", "b", and "d" are incorrect, per the above Explanation: .

• Question 132:

  The following question is based on the following:

  Vane Co.'s trial balance of income statement accounts for the year ended December 31, 2002, included

  the following:

  

  Vane's income tax rate is 30%.

  In Vane's 2002 multiple-step income statement, what amount should Vane report as income from

  continuing operations?

  A. $126,000

  B. $129,500

  C. $140,000

  D. $147,000

  Correct Answer: C

  Choice "c" is correct, $140,000.

  

• Question 133:

  The effect of a material transaction that is infrequent in occurrence but not unusual in nature should be presented separately as a component of income from continuing operations when the transaction results in

  a:

  A.

  Option A

  B.

  Option B

  C.

  Option C

  D.

  Option D

  

  Correct Answer: A

  Choice "a" is correct, Yes - Yes. A material transaction that is "infrequent in occurrence" but not "unusual in nature" should be presented separately as a component of "income from continuing operations" when the transaction results in a gain or loss.

• Question 134:

  An extraordinary item should be reported separately on the income statement as a component of income:

  

  A. Option A

  B. Option B

  C. Option C

  D. Option D

  Correct Answer: B

  Choice "b" is correct, Yes - No. An extraordinary item should be reported separately on the income

  statement as a component of income:

  Yes - net of income taxes.

  No - after (not before) "discontinued operations of a segment of a business."

• Question 135:

  On January 2, 20X5, to better reflect the variable use of its only machine, Holly, Inc. elected to change its method of depreciation from the straight-line method to the units of production method. The original cost of the machine on January 2, 20X3, was $50,000, and its estimated life was 10 years. Holly estimates that the machine's total life is 50,000 machine hours. Machine hours usage was 8,500 during 20X4 and 3,500 during 20X3. Holly's income tax rate is 30%. Holly should report the accounting change in its 20X5 financial statements as a(n):

  A. Cumulative effect of a change in accounting principle of $2,000 in its income statement.

  B. Adjustment to beginning retained earnings of $2,000.

  C. Cumulative effect of a change in accounting principle of $1,400 in its income statement.

  D. None of the above.

  Correct Answer: D

  Choice "d" is correct. A change in the method of depreciation is now considered to be both a change in method and a change in estimate. These changes should be accounted for as changes in estimate and handled prospectively. The new depreciation method should be used as of the beginning of the year of change and should start with the current book value of the underlying asset. No retroactive or retrospective

  calculations should be made, and no adjustment should be made to retained earnings.

  The cumulative effect treatment on the income statement was the treatment of most changes in accounting

  principle prior to SFAS No. 154. The adjustment to beginning retained earnings is the treatment now given

  to changes in accounting principle by SFAS No. 154. However a change in depreciation method is no

  longer accounted for as a change in accounting principle.

  Choices "a", "b", and "c" are incorrect, per the above Explanation: .

• Question 136:

  A material loss should be presented separately as a component of income from continuing operations when it is:

  A. An extraordinary item.

  B. A cumulative effect type change in accounting principle.

  C. Unusual in nature and infrequent in occurrence.

  D. Not unusual in nature but infrequent in occurrence.

  Correct Answer: D

  Choice "d" is correct. Gains or losses that are unusual in nature or occur infrequently but not both, are presented as a component of income from continuing operations. Choice "a" is incorrect. Extraordinary items are shown net of tax in a separate section of the income statement after income from continuing operations. Choice "b" is incorrect. Cumulative effects of changes in accounting principle are now shown net of tax as an adjustment to the opening balance of retained earnings in the retained earnings statement. This treatment is called retrospective application. There really are no longer any cumulative effect types of changes in accounting principle. The cumulative effect is merely how the amount of the change is measured. Choice "c" is incorrect. This is the definition of an extraordinary item.

• Question 137:

  Lore Co. changed from the cash basis of accounting to the accrual basis of accounting during 1994. The cumulative effect of this change should be reported in Lore's 1994 financial statements as a:

  A. Prior period adjustment resulting from the correction of an error.

  B. Prior period adjustment resulting from the change in accounting principle.

  C. Component of income before extraordinary item.

  D. Component of income after extraordinary item.

  Correct Answer: A

  Choice "a" is correct. The cash basis for financial reporting is not a generally accepted accounting basis of accounting (GAAP); therefore, it is an error. Correction of an error from a prior period is a reported as prior period adjustment to retained earnings. Choice "b" is incorrect. Cash basis reporting is not an accounting principle under accrual accounting principles. Thus, the change from cash basis is not reported as a change in accounting principle. In addition, changes in accounting principle are not prior period adjustments; instead, they are treated retrospectively. Choices "c" and "d" are incorrect. Correction of prior period errors has no effect on the current year's income statement.

• Question 138:

  In open market transactions, Gold Corp. simultaneously sold its long-term investment in Iron Corp. bonds and purchased its own outstanding bonds. The broker remitted the net cash from the two transactions. Gold's gain on the purchase of its own bonds exceeded its loss on the sale of the Iron bonds. Assume the transaction to purchase its own outstanding bonds is unusual in nature and has occurred infrequently. Gold should report the:

  A. Net effect of the two transactions as an extraordinary gain.

  B. Net effect of the two transactions in income before extraordinary items.

  C. Effect of its own bond transaction gain in income before extraordinary items, and report the Iron bond transaction as an extraordinary loss.

  D. Effect of its own bond transaction as an extraordinary gain, and report the Iron bond transaction loss in income before extraordinary items.

  Correct Answer: D

  Choice "d" is correct, these are two separate transactions because Gold Corp. (1) sold Iron Corp. bonds (an investment) for a loss, and, (2) bought back its own (Gold) Corp. bonds (a debt) for a gain. This is not a "refinancing" (where one would sell new bond debt to buy back old bond debt outstanding). The gain from the purchase of its own bonds is an "extraordinary gain" because it is both unusual in nature and infrequently occurring (per APB Opinion No. 30 and SFAS No. 145). The Iron Corp. transaction is a loss in "income before extraordinary items." Choices "a" and "b" are incorrect. The two transactions are separate and cannot be netted. Choice "c" is incorrect. Just the opposite. The sale of the investment is a loss in "income before extraordinary items," while the purchase of its bond debt is an "extraordinary gain" according to the provisions of APB Opinion No. 30.

• Question 139:

  In September 1996, Koff Co.'s operating plant was destroyed by an earthquake. Earthquakes are rare in the area in which the plant was located. The portion of the resultant loss not covered by insurance was $700,000. Koff's income tax rate for 1996 was 40%. In its 1996 income statement, what amount should Koff report as extraordinary loss?

  A. $0

  B. $280,000

  C. $420,000

  D. $700,000

  Correct Answer: C

  Choice "c" is correct. For a loss to be reported as an extraordinary loss, the event causing the loss must be both unusual in nature and infrequent in occurrence. The earthquake in this case does meet these criteria so the loss is reported net of income tax effect as an extraordinary loss of $420,000 (60% of the total $700,000 loss). APB 30.11, .19-.26 Choice "a" is incorrect. Review the criteria for reporting an extraordinary loss. Choice "b" is incorrect. This is the tax effect of the loss. Review your calculations. Choice "d" is incorrect. It is not appropriate to report the full loss as an extraordinary loss.

• Question 140:

  In April 30, 20X4, Deer Corp. approved a plan to dispose of a component of its business. For the period January 1 through April 30, 20X4, the component had revenues of $500,000 and expenses of $800,000. The assets of the component were sold on October 15, 20X4 at a loss. In its income statement for the year ended December 31, 20X4, how should Deer report the component's operations from January 1 to April 30, 20X4?

  A. $500,000 and $800,000 should be included with revenues and expenses, respectively, as part of continuing operations.

  B. $300,000 should be reported as part of the loss on disposal of a component and included as part of continuing operations.

  C. $300,000 should be reported as an extraordinary loss.

  D. $300,000 should be reported as a loss from operations of a component and included in loss from discontinued operations.

  Correct Answer: D

  Choice "d" is correct. Once the decision has been made to dispose of a component of a business and that

  component meets the criteria to be classified as held for sale, the operating results of the component for

  the period reported on, and any gain or loss from the disposal, should be reported separately from

  continuing operations, net of tax. In this question, the component was classified as held for sale and was

  sold in the same year.

  Thus, in 20X4, the results of operations, the $300,000 ($500,000-$800,000) loss, are reported as a loss

  from discontinued operations. The loss on disposal would be reported as part of that loss from

  discontinued operations also.

  Choice "a" is incorrect. The results of operations prior to the decision date, and also after the decision date,

  are reported separately from the results of continuing operations as a part of discontinued operations.

  Choice "b" is incorrect. The results of operations prior to the decision date, and also after the decision date,

  are reported separately from the results of continuing operations as a loss from operations of a component

  and included in loss from discontinued operations.

  Choice "c" is incorrect. The results of discontinued operations are not reported as an extraordinary item.