Notes Payable Sales Taxes Payable Chapter 10 Liabilities Current Liability a debt with two key features Current Liabilities 1 The company reasonably expects to pay the debt from existing current assets or through the creation of other current liabilities 2 The company will pay the debt within one year or the operating cycle whichever is longer Debts that do not meet both criteria are considered long term liabilities Companies monitor relationship between current liabilities to current assets If a company has more current liabilities than current assets they may not be able to meet its current obligations when they come due Companies record obligations in the form of written notes as notes payable Often used instead of accounts payable because they give the lender formal proof of the obligation Usually require that the borrower pay interest Interest accrues over the life of the note and the company must periodically record the accrual Issued for various periods of time If they are within one year of the balance sheet date they are usually classified as current liabilities Sales taxes are expressed as a percentage of the sales price Selling company collects the tax from the customer when the sale occurs Periodically usually monthly the retailer remits the collections to the states department of revenue Selling company must enter separately on the cash register the amount of the sale and the amount of the sales tax collected When the company remits the taxes to the taxing agency it Dr Sales Taxes and Cr Cash Does not report sales taxes as an expense Simply forwards to the government the amount paid by the customers Sometimes companies do not enter sales taxes separately on the register The merchant serves only as a collection agent for the taxing authority To determine the amount of sales in such cases divide total receipts by 100 plus the sales tax percentage Payroll and Payroll Taxes Payable Every employer incurs liabilities relating to employees salaries and wages One is the amount of salaries and wages owed to employees salaries and wages payable Another is the amount required by law to be withheld from employees gross pay Until a company remits these withholding taxes federal and state income taxes and Social Security taxes to governmental taxing authorities they are credited to appropriate liability accounts WIth every payroll the employer incurs liabilities to pay various payroll taxes levied upon the employer Include employers share of Social Security taxes and the state and federal unemployment taxes Classify the payroll tax liability accounts as current liabilities because these amounts must be paid to employees or remitted to taxing authorities in the near term Unearned Revenues How do companies account for unearned revenues that are received before goods are delivered or services are provided 1 When a company receives the advance payment it debits Cash and credits current liability account identifying the source of unearned revenue 2 When the company recognizes revenue it debits an unearned revenue account and credits a revenue account Current Maturities of Long Term Debt Companies often have a portion of long term debt that comes due in the current year Considered a current liability Companies often identify current maturities of long term debt on the balance sheet as long term debt due within one year Not necessary to prepare an adjusting entry to recognize the current maturity of long term debt At the balance sheet date all obligations due within one year are classified as current and all other obligations are long term Statement Presentation and Analysis Presentation Current liabilities are first category under liabilities on the balance sheet Each principal type of current liabilities is listed separately Companies disclose the individual items in the notes to the financial statements More oftenly listed by order of magnitude Seldom listed in order of liquidity b c varying maturity dates may exist for specific obligations such as notes payable Some companies list notes payable first then accounts payable regardless of the amount Remaining current liabilities are listed by magnitude Use in homework Can express relationship between current assets to current liabilities as a dollar amount working capital and as a Liquidity refers to the ability to pay maturing obligations and meet unexpected needs for cash ratio the current ratio Formula for working capital Analysis As a dollar amount working capital offers limited informational value Formula for the current ratio Permits us to compare the liquidity of different sized companies and of a single company at different times Current ratio of 2 1 is the standard for a good credit rating Chapter 10 Part 2 Long term liabilities are obligations that are expected to be paid after one year Long Term Liabilities Bond Basics Bonds Form of interest bearing notes payable To obtain large amounts of long term capital corporate management must decide whether to issue common stock or bonds Bonds offer 3 advantages over common stock 1 Bonds do not affect stockholder control Because bondholders do not have voting rights owners can raise capital with bonds and still maintain corporate control 2 Bonds are attractive to corporations because the cost of bond interest is tax deductible Because of this bonds may result in lower cost of capital than equity financing 3 Earnings per share may be higher Although bond interest expense reduces net income earnings per share on common stock is higher under bond financing because no additional shares of common stock are issued Companies with fluctuating earnings and weak cash position may have difficulty making interest payments Disadvantage of using bonds Company must pay interest on a periodic basis when earnings are low Company must also repay the principal at the due date Types of Bonds Secured and Unsecured Bonds Secured Bonds have specific assets of the issuer pledged as collateral for the bonds have an asset as collateral Ex A bond secured by real estate is called a mortgage bond Ex A bond secured by specific assets set aside to retire the bonds is called a sinking fund bond Unsecured Bonds Debenture bonds Issued against the general credit of the borrower No asset as collateral Companies with good credit use these extensively Term and Serial Bonds Term Bonds Bonds that mature are due for payment at a single specified future date Serial Bonds Bonds that mature in installments Registered and