Liabilities and Stockholders’ Equity: Current Liabilities, Long-Term Debt, and Corporate Equity

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Chapter 11: Current Liabilities and Payroll

Current Liabilities: Definition and Types

Current liabilities are obligations due within one year or the operating cycle, whichever is longer. They are settled by paying cash, transferring assets, or providing services.

Accounts Payable: Amounts owed to suppliers for goods or services purchased on credit.
Short-Term Notes Payable: Written promises to pay a specific amount, usually with interest, within one year.
Sales Tax Payable: Taxes collected from customers on sales, to be remitted to the government.
Current Portion of Long-Term Notes Payable: The part of long-term debt due within the next year.
Accrued Liabilities: Expenses incurred but not yet paid (e.g., interest payable, wages payable).
Unearned Revenues: Cash received before services are performed or goods delivered.
Estimated Warranty Payable: Liabilities for future warranty claims, estimated based on past experience.
Contingent Liabilities: Potential obligations dependent on future events (e.g., lawsuits).

Accounting for Contingent Liabilities

Contingent liabilities are recorded based on the likelihood of occurrence:

Probable and Estimable: Record a liability and disclose in notes.
Reasonably Possible: Disclose in notes only.
Remote: No action required.

Example: If a company is likely to lose a lawsuit and can estimate the loss, it records the liability.

Payroll Accounting and Internal Controls

Payroll involves calculating and recording employee compensation, deductions, and employer taxes.

Gross Pay: Total earnings before deductions.
Net Pay: Amount paid to employees after deductions.
Payroll Taxes: Employer's share of Social Security, Medicare, and unemployment taxes.
Benefits: Additional compensation (e.g., health insurance, retirement contributions).

Internal Controls: Segregation of duties, authorization of payroll, and reconciliation of payroll records help prevent fraud and errors.

Journalizing Payroll Transactions

Record employee payroll expense and withholdings.
Record employer payroll taxes.
Record payment of payroll liabilities.

Example Journal Entry:

To record payroll: Debit Salaries Expense, credit Withholding Payables and Cash.
To record employer taxes: Debit Payroll Tax Expense, credit Tax Payables.

Chapter 12: Long-Term Liabilities

Long-Term Notes Payable and Mortgages Payable

Long-term notes payable are written promises to pay a specific amount plus interest over more than one year. Mortgages payable are secured by real estate.

Journalizing: Record issuance, periodic payments (interest and principal), and final payment.

Bonds Payable: Features and Accounting

Bonds are long-term debt instruments issued to multiple lenders. They may be issued at face value, a discount, or a premium.

Face Value: Amount repaid at maturity.
Discount: Bonds sold below face value; increases interest expense.
Premium: Bonds sold above face value; decreases interest expense.

Journalizing Bonds: Record issuance, interest payments, and amortization of discount or premium.

Amortization of Bond Discount or Premium (Straight-Line Method)

The straight-line method allocates equal amounts of discount or premium to interest expense over the bond's life.

Formula:

Reporting Liabilities on the Balance Sheet

Current Liabilities: Obligations due within one year (e.g., current portion of long-term debt).
Long-Term Liabilities: Obligations due after one year (e.g., bonds payable, mortgages payable, long-term notes payable).
Bonds: Reported at carrying value (face value plus unamortized premium or minus unamortized discount).

Chapter 13: Stockholders’ Equity

Corporation Characteristics: Advantages and Disadvantages

A corporation is a legal entity separate from its owners, offering limited liability but subject to more regulation.

Advantages: Limited liability, easy transfer of ownership, ability to raise capital.
Disadvantages: Double taxation, regulatory requirements, more paperwork.

Stockholders’ Equity: Sources and Classes

Paid-in Capital: Amounts invested by shareholders (common and preferred stock, additional paid-in capital).
Retained Earnings: Cumulative net income retained in the business.
Common Stock: Basic ownership; voting rights.
Preferred Stock: Priority in dividends and assets, usually no voting rights.

Issuance of Shares: Journal Entries

Record issuance of stock for cash or other assets.
Debit Cash or asset received, credit Common/Preferred Stock and Additional Paid-in Capital if issued above par value.

Dividends: Cash, Stock, and Stock Splits

Cash Dividends: Declared and paid to shareholders; reduce retained earnings.
Stock Dividends: Additional shares distributed; do not affect total equity.
Stock Splits: Increase number of shares, reduce par value per share; no journal entry required.
Large vs. Small Stock Dividends: Large (>20-25%) recorded at par value; small at market value.

Treasury Stock

Treasury stock is a corporation’s own stock that has been reacquired. It reduces total equity and may be reissued or retired.

Purpose: To increase earnings per share, provide shares for employee plans, or prevent hostile takeovers.
Journalizing: Debit Treasury Stock at cost when purchased; credit when reissued.

Retained Earnings: Purpose and Transactions

Increased by net income, decreased by net loss and dividends.
All dividend and some stock transactions affect retained earnings.

Summary Table: Stockholders’ Equity Components

Component	Description	Effect on Equity
Common Stock	Basic ownership, voting rights	Increases
Preferred Stock	Priority in dividends/assets	Increases
Additional Paid-in Capital	Amounts above par value	Increases
Retained Earnings	Cumulative net income retained	Increases/Decreases
Treasury Stock	Reacquired shares	Decreases