In this video, we walk through 5 FAR practice questions teaching about calculating the carrying amount of payables. These questions are from FAR content area 2 on the AICPA CPA exam blueprints: Select Balance Sheet Accounts.
The best way to use this video is to pause each time we get to a new question in the video, and then make your own attempt at the question before watching us go through it.
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Calculating the Carrying Amount of Payables
Calculating the carrying amount of payables is a critical skill for accountants, especially for CPA exam candidates. This guide covers key types of payables—accounts payable, dividends payable, sales tax payable, interest payable, and notes payable during refinancing—along with detailed examples and explanations.
1. Accounts Payable: Recognizing Obligations to Vendors
Definition: Accounts payable represent amounts a company owes to its suppliers for goods or services purchased on credit. These are typically classified as current liabilities since they are usually due within a year.
Example: Suppose on January 1, Year 1, a company has an accounts payable balance of $40,000. During the year, it purchases an additional $60,000 of inventory on account and makes cash payments of $50,000 to its suppliers. The company also returns $5,000 worth of damaged goods to a supplier. The carrying amount of accounts payable as of December 31, Year 1, would be calculated as follows:
- Starting balance: $40,000
- Add purchases on account: $60,000
- Subtract payments: $50,000
- Subtract returns: $5,000
- Ending balance of accounts payable: $45,000
The resulting $45,000 represents the remaining obligation to suppliers and would be reported as a current liability on the balance sheet.
2. Dividends Payable: Recognizing Shareholder Distributions
Definition: Dividends payable arise when a company’s board of directors declares a dividend to be paid to shareholders. The liability is recognized on the declaration date and remains until the dividend is paid.
Example: On December 5, Year 1, Sunbeam Industries declares a cash dividend of $2.00 per share for its 50,000 shares of common stock, payable on January 15, Year 2. The company also declares a $3.50 per share dividend on 10,000 shares of preferred stock, payable on February 1, Year 2.
- Common stock dividend:
50,000 shares × $2.00 per share = $100,000 - Preferred stock dividend:
10,000 shares × $3.50 per share = $35,000 - Total dividends payable as of December 31, Year 1: $100,000 + $35,000 = $135,000
The dividends declared, though payable in the next year, are recorded as liabilities as of December 31, Year 1, since the obligation was established in Year 1.
3. Sales Tax Payable: Handling State Tax Obligations
Definition: Sales tax payable reflects the amount of sales tax collected from customers that must be remitted to the state. It is considered a current liability because it is typically due within a short period after collection.
Example: Throughout Year 1, Lakeside Retail collects sales tax at a rate of 6% on $500,000 of taxable sales. Additionally, the company starts the year with a sales tax payable balance of $4,000 from sales in December of the previous year.
- Sales tax collected in Year 1:
$500,000 × 6% = $30,000 - Starting balance: $4,000
- Total sales tax obligation before remittance:
$30,000 + $4,000 = $34,000 - If the company remits $25,000 during Year 1, the remaining sales tax payable as of December 31, Year 1 is:
$34,000 – $25,000 = $9,000
This $9,000 is recorded as a current liability since it represents the amount that will be paid to the state after the year-end.
4. Interest Payable: Calculating Accrued Interest on Debt
Definition: Interest payable represents interest that has accrued on loans or notes but has not yet been paid. It is recognized as a current liability because it generally relates to interest owed for a period of less than one year.
Example: On March 1, Year 1, a company takes out a $200,000 loan with an annual interest rate of 5%. The loan requires annual interest payments on March 1 of each year. By December 31, Year 1, the company needs to recognize the interest that has accrued but not yet been paid.
- Interest for March 1 to December 31, Year 1 (10 months):
$200,000 × 5% × (10/12) = $8,333.33 - Interest payable as of December 31, Year 1: $8,333.33
This amount is reported as a current liability because the interest is due on the next interest payment date in Year 2.
5. Notes Payable During Refinancing: Classifying Short-term and Long-term Obligations
Definition: A note payable represents a formal written agreement to repay a debt. When a company plans to refinance a short-term note with a long-term loan, the portion of the debt expected to be refinanced can be classified as a long-term liability if the refinancing agreement is in place before the issuance of the financial statements.
Example: On December 31, Year 1, Horizon Corp. has a $500,000 note payable due on May 1, Year 2. On January 20, Year 2, Horizon secures a commitment for a $400,000 long-term loan to refinance part of the note. Additionally, Horizon pays $100,000 of the note from cash reserves on January 15, Year 2.
- Amount refinanced with the new loan: $400,000 (classified as long-term).
- Amount paid with cash on January 15, Year 2: $100,000 (classified as current).
- Current portion of the note payable as of December 31, Year 1: $100,000
- Long-term portion of the note payable as of December 31, Year 1: $400,000
The classification depends on the ability to refinance the debt and the payment plans in place before the balance sheet date.