Question

For the financial year ending 30 June 2020, Malkin Ltd has some liability issues for which it seeks your help:

1. The company sells widgets and provides a one-year warranty. 100,000 widgets were sold for the year ended 30 June 2020, and 150,000 are expected to be sold next year. 2% of units sold are estimated to require warranty work, at an average cost of $3 per unit. Actual repairs incurred for units sold in the year just ended were $1,800. In the unadjusted trial balance, the Warranty Provision account has a $1,200 debit balance.
   1. Prepare the AJE required to update the Warranty Provision.
   2. What balance should be shown for Warranty Provision on the 30 June 2020 Balance Sheet?
2. Employees are paid $2,980 cash in hand every two weeks (wages and salaries), representing 10 days of work. At the same time, $1,200 of PAYE is withheld by Malkin Ltd, which it will pay to the IRD on the employees’ behalf. 30 June was on a Tuesday, and the last payroll run was the previous Friday (26 June). Employees do not work weekends. Prepare the AJE required on 30 June.
3. Malkin Ltd’s management is having trouble distinguishing provisions, contingent liabilities, and liabilities such as accounts or notes payable. Explain to Malkin Ltd’s management the key differences between these three categories, including their reporting implications, e.g., recognition or not; if not, what then?

Answer 1

Answer:

Liabilities are current obligation recognized by the Company arising from previous transactions that the Company expects a future cash outflow.

Contingent liabilities are liabilities that needs to be recognized in the financial statements through estimation.

Provision are liabilities that need to be recognized in the financial statements arising from legal obligation.