Homework F1: Standard Setting, Income Statement, And Reporting Requirements Pt 5

Front 1

Conceptually, interim financial statements can be described as emphasizing which of the following enhancing qualitative characteristics?

a.

Relevance

b.

Faithful Representation

c.

Verifiability

d.

Timeliness

Back 1

Explanation

Choice "d" is correct. Interim financial statements emphasize timeliness by providing financial information based on actual performance to date and estimates prior to year end.

Choice "c" is incorrect. Interim financial statements do not emphasize verifiability. The extensive use of estimates in interim financial statements means that they are less verifiable. Interim financial statements emphasize timeliness over verifiability.

Choices "a" and "b" are incorrect. Relevance and faithful representation are primary qualitative characteristics, not enhancing qualitative characteristics.

Front 2

Interim financial reporting should be viewed primarily in which of the following ways?

a.

As useful only if activity is spread evenly throughout the year.

b.

As if the interim period were an annual accounting period.

c.

As reporting under a comprehensive basis of accounting other than GAAP/IFRS.

d.

As reporting for an integral part of an annual period.

Back 2

Explanation

Choice "d" is correct. Interim financial reporting should be viewed as reporting for an integral part of an annual period.

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

Front 3

For interim financial reporting, a company's income tax provision for the second quarter should be determined using the:

a.

Effective tax rate expected to be applicable for the second quarter.

b.

Effective tax rate expected to be applicable for the full year as estimated at the end of the first quarter.

c.

Effective tax rate expected to be applicable for the full year as estimated at the end of the second quarter.

d.

Statutory tax rate.

Back 3

Explanation

Choice "c" is correct. The best, most current estimate of the annual effective tax rate should be used to determine the income tax provision for the second quarter. This rate is the effective tax rate expected to be applicable for the full year as estimated at the end of the second quarter.

Front 4

During the first quarter of Year 2, Tech Co. had income before taxes of $200,000, and its effective income tax rate was 15%. Tech's Year 1 effective annual income tax rate was 30%, but Tech expects its Year 2 effective annual income tax rate to be 25%. In its first quarter interim income statement, what amount of income tax expense should Tech report?

a.

$60,000

b.

$50,000

c.

$30,000

d.

$0

Back 4

Explanation

Choice "b" is correct. Interim period tax expense is the estimated annual effective tax rate (25% in this case) applied to the year-to-date income before taxes minus the tax expense recognized in previous interim periods. Since this question involves the first quarter, there are no previous interim periods. 25% x $200,000 = $50,000.

Choice "d" is incorrect. Income tax expense is reported in interim income statements.

Choice "c" is incorrect. The Year 2 annual estimated tax rate, not the first quarter effective tax rate, is used to calculate income tax expense for interim statements.

Choice "a" is incorrect. The Year 2 annual estimated tax rate, not the Year 1 annual effective tax rate, is used to calculate income tax expense for interim statements.

Front 5

Due to a decline in market price in the second quarter, Petal Co. incurred an inventory loss. The market price is expected to return to previous levels by the end of the year. At the end of the year the decline had not reversed. When should the loss be reported in Petal's interim income statements?

a.

Ratably over the third and fourth quarters.

b.

Ratably over the second, third, and forth [sic] quarters.

c.

In the fourth quarter only.

d.

In the second quarter only.

Back 5

Explanation

Choice "c" is correct. When the loss is probable and estimable, the expected loss must be recorded in full. This loss becomes such at the end of the fourth quarter. Therefore, the inventory must be valued on the year-end at the lower of cost or market, recognizing the loss at that time.

Choice "b" is incorrect. Expected losses must be recorded in full when the loss is probable and estimable and not ratably over several quarters.

Choice "a" is incorrect. Expected losses must be recorded in full when the loss is probable and estimable and not ratably over several quarters.

Choice "d" is incorrect. Since the loss is not probable at the end of the second quarter, no amount should be recognized at that time.

Front 6

In general, an enterprise preparing interim financial statements should:

a.

Defer recognition of seasonal revenue.

b.

Disregard permanent decreases in the market value of its inventory.

c.

Use the same accounting principles followed in preparing its latest annual financial statements.

d.

Allocate revenues and expenses evenly over the quarters, regardless of when they actually occurred.

Back 6

Explanation

Choice "c" is correct. Generally accepted accounting principles that were used in the most recent annual report of an enterprise should be applied to interim financial statements of the current year, unless a change in accounting principle is adopted in the current year.

Choices "a", "b", and "d" are incorrect, per above.

Front 7

During the first quarter of the calendar year, Worth Co. had income before taxes of $100,000, and its effective income tax rate was 15%. Worth's effective annual income tax rate for the previous year was 30%. Worth expects that its effective annual income tax rate for the current year will be 25%. The statutory tax rate for the current year is 35%. In its first quarter interim income statement, what amount of income tax expense should Worth report?

a.

$25,000

b.

$30,000

c.

$35,000

d.

$15,000

Back 7

Explanation

Choice "a" is correct. When preparing interim financial statements, income tax expense is estimated each quarter using the effective tax rate expected to apply to the entire year.

Choice "d" is incorrect. Worth should use the effective annual tax rate, not the effective tax rate for the quarter only.

Choice "b" is incorrect. Worth should use the effective annual tax rate expected to apply to the current year, not the prior year's effective tax rate.

Choice "c" is incorrect. Worth should use the effective annual tax rate, not the statutory tax rate.

Front 8

A corporation issues quarterly interim financial statements and uses the lower cost or market method to value its inventory in its annual financial statements. Which of the following statements is correct regarding how the corporation should value its inventory in its interim financial statements?

a.

Gains from valuations in previous interim periods should be fully recognized.

b.

Temporary market declines should be recognized in the interim statements.

c.

Inventory losses generally should be recognized in the interim statements.

d.

Only the cost method of valuation should be used.

Back 8

Explanation

Choice "c" is correct. Permanent declines in inventory market value should be reflected in interim financial statements in the period incurred.

Choice "b" is incorrect. Temporary declines in market value that are expected to reverse by the end of the annual period are not recognized in the interim statements. Only permanent declines are recognized.

Choice "d" is incorrect. The lower of cost or market method should be applied to interim periods.

Choice "a" is incorrect. Temporary declines in market value, and subsequent reversals of those declines, are not recognized in interim statements.

Front 9

On January 16, Tree Co. paid $60,000 in property taxes on its factory for the current calendar year. On April 2, Tree paid $240,000 for unanticipated major repairs to its factory equipment. The repairs will benefit operations for the remainder of the calendar year. What amount of these expenses should Tree include in its third quarter interim financial statements for the three months ended September 30?

a.

$15,000

b.

$95,000

c.

$75,000

d.

$0

Back 9

Explanation

Choice "b" is correct. For interim reporting purposes, costs that benefit multiple periods should be allocated equally to those periods. The $60,000 in property taxes will benefit the entire calendar year and therefore must be allocated equally to each calendar quarter:

$60,000 / 4 quarters = $15,000 per quarter

The $240,000 in equipment repairs will benefit the company from April - December and therefore should be allocated equally to each the three quarters contained in that period:

$240,000 / 3 quarters = $80,000 per quarter

Therefore, the total of these expenses to be recognized in the quarter ended September 30 is $95,000 ($15,000 allocated property taxes + $80,000 allocated equipment repairs).

Front 10

Bard Co., a calendar-year corporation, reported income before income tax expense of $10,000 and income tax expense of $1,500 in its interim income statement for the first quarter of the year. Bard had income before income tax expense of $20,000 for the second quarter and an estimated effective annual rate of 25%. What amount should Bard report as income tax expense in its interim income statement for the second quarter?

a.

$7,500

b.

$6,000

c.

$5,000

d.

$3,500

Back 10

Explanation

Choice "b" is correct. In order to calculate income tax expense on an interim statement, the appropriate methodology is to multiply year to date income by the effective tax rate and subtract from that the income tax expense recorded in the previous quarter. The total income for both quarters is $30,000 and the effective tax rate estimated as of the second quarter is 25%. Total tax expense is then estimated as $7,500 for both quarters, and with $1,500 already booked in the first quarter, that will leave $6,000 for the second quarter.

Choice "d" is incorrect. This choice incorrectly calculates second quarter income tax expense of $5,000 ($20,000 x 25%) and then subtracts income tax expense from the first quarter.

Choice "c" is incorrect. This choice does not account for the change in the tax rate that will need to be applied in the second quarter to first quarter income.

Choice "a" is incorrect. This choice does not subtract the $1,500 recorded in the first quarter.

Front 11

How are discontinued operations and extraordinary items that occur at midyear initially reported?

a.

Disclosed only in the notes to the year-end financial statements.

b.

Disclosed only in the notes to interim financial statements.

c.

Included in net income and disclosed in the notes to interim financial statements.

d.

Included in net income and disclosed in the notes to the year-end financial statements.

Back 11

Explanation

Choice "c" is correct. To adequately capture the impact of discountinued operations and extraordinary items, both should be included (prorated) in net income and disclosed in the interim financial statement notes.