Question

1. DEF Industries, a private company, is considering a change to the cash basis of accounting from the accrual basis of accounting. This year, DEF reported $140,000 of total accrual basis expenses on the income statement. At the beginning of the year, DEF had of $21,000 of accrued expenses and $8,000 of prepaid expenses. At the end of the year, DEF had $18,000 of accrued expenses and $4,000 of prepaid expenses. DEF also reported $12,000 of depreciation expense for the year, but paid no cash for PP&E during the year.

   What would be the difference in net income if DEF reported the current year expenses on the cash basis, instead of the accrual basis?

   		Net income would increase by 5,000 if expenses were recorded on the cash basis.
   		Net income would decrease by 19,000 if expenses were recorded on the cash basis.
   		Net income would decrease by 5,000 if expenses were recorded on the cash basis.
   		Net income would increase by 11,000 if expenses were recorded on the cash basis.
   		Net income would increase by 19,000 if expenses were recorded on the cash basis.
   		None of the other answer choices is correct.
   		Net income would decrease by 11,000 if expenses were recorded on the cash basis.
   		Net income would decrease by 13,000 if expenses were recorded on the cash basis.
   		Net income would increase by 13,000 if expenses were recorded on the cash basis.

Answer 1

If Cash basis accounting was followed

Cash paid for accrued expenses during the year = 140000+21000-18000= 143000

That means cash expense was 3000 more

Net income = -3000

Prepaid expense in begining = 8000

Prepaid expenses at the end of the year = 4000

Net income = -3000+8000-4000= +1000

Depreciation being a non cash expense will be result in increase in net income by 12000

Net income = 12000+1000= +13000

Therefore net income would increase by 13000 if company adopts cash basis