Teacher's Manual - Financial Acctg 2

Financial Reporting
Theory and Practice
Intermediate Financial
Accounting
Part 2
TEACHER’S MANUAL
2015
BASED ON
PHILIPPINE FINANCIAL REPORTING STANDARDS (PFRSs)
Nation’s Foremost CPA Review, Inc. (NCPAR)

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City 2600, Philippines
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Dear fellow teacher,
This “Teacher’s Manual” should be used solely by the teacher and for
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Thanks and God bless.
Sincerely,
Zeus Vernon B. Millan

TABLE OF CONTENTS
CHAPTER 17 – CURRENT AND NONCURRENT LIABILITIES ....... 1

Multiple Choice – Theory ....................................................................... 1
Multiple Choice – Computational ......................................................... 1
Exercises ................................................................................................. 9
CHAPTER 18 – PROVISIONS, CONTINGENT LIABILITIES AND
CONTINGENT ASSETS ................................................................... 14
Multiple Choice – Theory ..................................................................... 76
Multiple Choice – Computational ....................................................... 76
Exercises ............................................................................................... 78
CHAPTER 19 – EMPLOYEE BENEFITS ......................................... 84
Multiple Choice – Theory ..................................................................... 84
Multiple Choice – Computational ....................................................... 84
Exercises ............................................................................................... 87
CHAPTER 20 – LEASES ................................................................ 119
Multiple Choice – Theory ................................................................... 119
Multiple Choice – Computational ..................................................... 119
Exercises ............................................................................................. 129
CHAPTER 21 – INCOME TAXES ................................................... 149
Exercises ............................................................................................. 164
CHAPTER 22 – SHAREHOLDERS’ EQUITY ................................ 178
Exercises ............................................................................................. 187
CHAPTER 23 – SHARE-BASED PAYMENTS .............................. 201
Exercises ............................................................................................. 209
CHAPTER 24 – BOOK VALUE PER SHARE ................................ 215
Exercises ................................................... Error! Bookmark not defined.
CHAPTER 25 – EARNINGS PER SHARE ..................................... 216
Exercises ............................................................................................. 220
Chapter 22 – Current Liabilities
Multiple Choice – Theory
1. B 6. D
2. C 7. A
3. A 8. D
4. A 9. D
5. D 10. A
Multiple choice – Computational (SET A)

Answers at a glance:
1. A 6. B 11. B
2. B 7. B 12. B
3. D 8. C
4. D 9. C
5. C 10. A
Solutions:
1. A – The currently maturing notes are classified as current
liabilities.
2. B (1M x 80%) = 800,000 noncurrent; (1M – 800K) = 200,000

current
3. D
Solution:
Accounts payable-trade 750,000
Short-term borrowings 400,000
Bank loan (breach of loan covenant) 3,500,000
Other bank loan, matures June 30, 20x2 1,000,000
Total current liabilities 5,650,000
4. D
Solution:
Unearned revenue
ignored beg.
Redemptions - prior yr. ignored 250,000 Sales - 20x3
Redemptions - 20x3 175,000
Estimate of sales not to be 25,000
1
redeemed
end. 50,000
The gift certificates sold in 20x2 and their related redemptions are ignored
because they have expired during the current year. Hence, they do not affect
the year-end liability.
5. C (125,000 + 200,000 expiring in 20x4) + 140,000 expiring in 20x5 =

465,000 balance of unearned subscription revenue on Dec. 31, 20x3
6. B
Solution:
Two equal installments of real estate tax 12,000
Multiply by: No. of installments in a year 2
Annual real estate tax 24,000
Divide by: 12
Real estate tax expense per month 2,000
Accrued tax on warehouse - July and Aug. (2,000 x 2) 4,000

Accrued tax - Sept. and Oct. (2,000 x 2) 4,000
Real estate tax payable 8,000
7. B
Solution:
Advances from customers
118,000 1/1/x0
Advances applied 164,000 184,000 Advances - 20x0
Advances cancelled 50,000
12/31/x0 88,000
8. C
Solution:
Liability for escrow account
700,000 1/1/x9
Taxes paid 1,720,000 1,580,000 Escrow received
45,000 Interest, net (50K x 90%)
12/31/x0 605,000
9. C
Solution:
Subscriptions expirations: Total
20x8 125,000 200,000
2
20x9 140,000
125,000 340,000 465,000
10. A
Solution:
Accounts payable, unadjusted 360,000
Add back: Debit balance 50,000
Add back: Undelivered check 100,000
Accounts payable, adjusted 510,000
11. B
Solution:
Total sales inclusive of sales tax (total credit) 26,500
Multiply by: 6%/106%
Total sales taxes collected 1,500
Remittance of sales tax in February (600)
Sales taxes payable 900
12. B
Solution:
20x0 Room rentals Room nights
October - 1,100
November 110,000 1,200
December 150,000 1,800
Total 260,000 4,100
Multiply by: Tax 15% 2
Total 20x0 unpaid taxes 39,000 8,200
Multiple choice – Computational (SET B)

1. C 6. D 11. D 16. B 21. A
2. A 7. B 12. A 17. A 22. C
3. D 8. A 13. C 18. A 23. A
4. A 9. D 14. A 19. B 24. D
5. D 10. A 15. A 20. C 25. A
26. C
3
Solutions:
1. C
Solution:
Accounts payable 8,000
Utilities payable 28,000
Accrued interest expense 24,000
Obligation to deliver own shares worth a fixed amount of cash 40,000
Cash dividends payable 16,000
Finance lease liability 140,000
Bonds payable 480,000
Discount on bonds payable (60,000)
Security deposit 8,000
Redeemable preference shares 56,000
Total financial liabilities 740,000
2. A
Solution:
a. Trade accounts payable gross of debit balance,
unreleased check, and postdated check 1,244,000
(1.2M + 20K + 16K + 8K)
b. Advances from customers (Credit balance in customers’
accounts) 8,000
c. Financial liability designated at FVPL 200,000
d. Current portion of bonds payable 400,000
e. Interest payable on note payable (₱400,000 x 12% x 3/12) 12,000
g. Unearned rent 16,000
3. D
Solution:
a. Trade accounts payable, net of cost of goods
received on consignment (1,200,000 – 40,000) 1,160,000
b. Held for trading financial liabilities 200,000
c. Bank overdraft 40,000
d. Income tax payable 200,000
e. Accrued expenses 20,000
4. A 4,000,000 - the refinancing agreement is not at the discretion

of the entity. The currently maturing obligation is presented as
current liability. The refinancing agreement is disclosed in the
notes as a non-adjusting event after reporting period.
5. D None, the refinancing agreement is at the discretion of the

entity. The loan payable is presented as noncurrent.
4
6. D None, the refinancing is completed as of the end of reporting
period. The loan payable is presented as noncurrent.
7. B - ₱200,000 representing the accrued interest on the loan (4M x

10% x 6/12). The accrued interest is presented as current
because it is due within 12 months from the end of reporting
period. The principal of ₱4M is presented as noncurrent
because the refinancing is at the discretion of the entity.
8. A - ₱4,000,000. The loan shall be presented as current despite

the receipt of the grace period because the grace period was
received after the end of reporting period.
9. D None, the grace period was received by the end of reporting

period. The loan is presented as noncurrent.
10. A ₱4,000,000, the note is payable on demand. Only if an

enforceable promise is received by the end of the reporting
period from the creditor not to demand payment for at least 12
months from end of reporting period that the note may be
classified as noncurrent.
11. D
Solution:
Unadjusted accounts payable 4,000,000
FOB shipping point not yet recorded 200,000
FOB shipping point lost in transit, not yet recorded 80,000
FOB destination inappropriately recorded (60,000)
Unreleased and postdated checks (48K + 20K) 68,000
Purchase return (100,000)
Reimbursement for freight accommodation 12,000
Reimbursement for freight accommodation (20,000)
Adjusted accounts payable 4,180,000
12. A
Solution:
Unearned income
4,000,000 Jan. 1, 20x1
Advances earned 32,000,000 40,000,000 Advances received
Orders cancelled 1,200,000
Dec. 31, 20x1 10,800,000
13. C
Solution:
5
Unearned income – Dec. 31, 20x1 (previous problem) 10,800,000
Liability for refundable deposits (Orders cancelled) 1,200,000
Total current liability for advances received 12,000,000
14. A
Solution:
 The total receipts of ₱4,000,000 (1,000 x ₱4,000) from the sale of
contracts shall be averaged or divided by two because the
contracts are sold evenly.
 Since the contracts cover a 2-year period and are sold evenly, half
of the contracts will be earned in 20x1 and 20x2 and the other half
will be earned in 20x2 and 20x3.
 This is because the portion (first half) assumed to have been sold
on January 1, 20x1 will be earned from January 1, 20x1 to
December 31, 20x2 while the portion (second half) assumed to
have been sold on December 31, 20x1 will remain as unearned
in total in 20x1 and will be earned only from January 1, 20x2 to
December 31, 20x3. This is illustrated on the table below.
20x1 20x2 20x3 Total
Percentage earned - 1st yr. 40% 60%
Percentage earned - 2nd yr. 40% 60%
First half (4M ÷ 2) 2M 800,000 1,200,000
Second half (4M ÷ 2) 2M 800,000 1,200,000
Earned portions 800,000 2,000,000 1,200,000 4,000,000
The shaded amounts pertain to the portions earned during the year.
15. A 2,000,000 – the earned portion in 20x2.
16. B 1,200,000 – the earned portion in 20x3
17. A 2,000,000 – see table above
18. A (96,000,000 x 2/12) = 16,000,000
19. B
Solution:
Unearned revenue
Subscriptions revenue 12,000,000 Jan. 1
- 20x1 (squeeze) 92,000,000 96,000,000 Receipts during 20x1
Dec. 31 (as computed) 16,000,000
20. C
Solution:
6
The entity offers two (semiannual) publications for a subscription fee
with the following shipment dates and cut-off dates.
 Shipment dates May 1 Nov. 1
 Cut-off dates April 1 Oct. 1
 Receipts from Jan. 1 to April 1 will receive the 2 semi-annual

publications for the year. Therefore, no unearned revenue will
arise from these receipts.
 Receipts from April 1 to Oct. 1 will receive the 1 of 2 semi-annual
publications for the year. Therefore, 50% of these receipts are
unearned revenue.
 Receipts from Oct. 1 to Dec. 31 will receive none of semi-annual
publications for the year. Therefore, 100% of these receipts are
unearned revenue.
The average monthly receipts are computed as follows:

Total receipts during the year 96,000,000
Divide by: No. of months in a year 12
Average monthly collections 8,000,000
The balance of unearned revenue as of December 31, 20x1 is

computed as follows:
Receipts from April 1 to Oct. 1 [(8M x 6) x 50%] 24,000,000
Receipts from Oct. 1 to Dec. 31 [(8M x 3) x 100%] 24,000,000
Total unearned revenue - Dec. 31, 20x1 48,000,000
The beginning balance of unearned revenue is already earned during

the period. Thus, it has no effect on the ending balance of unearned
revenue.
21. A
Solution:
Unearned revenue
ignored beg. (from prior year)
Prior year gift certificates
redeemed in 20x1 ignored
Gift certificates sold and Gift certificates sold
redeemed in 20x1 2,800,000 4,000,000 during 20x1
Amount estimated not to be
redeemed (4M x 10%) 400,000
end. 800,000
7
22. C
Solution:
Liability for deposits
ignored Deposits from 20x1
Returns from 20x1 ignored 180,000 Deposits from 20x2
Returns from 20x2 100,000 360,000 Deposits in 20x3
Returns in 20x3 184,000
end. 256,000
23. A (400,000 x 0.385543) = 154,217
24. D (154,217 ‘see above’ x 110%) = 169,639
25. A
Solution:
Liability for escrow accounts
800,000 Jan. 1, 20x1
6,000,000 Escrow payments received
Interest on escrow funds net of
Taxes paid 2,000,000 360,000 10% service fee (400,000 x 90%)
Dec. 31, 20x1 5,160,000
26. C
Solution:
Utility expense for December 20x1 120,000
Advertising costs incurred in December 20x1 60,000
Rent expense from December 16 to 31, 20x1 (400K ÷ 2) 200,000
Contingent rent expense [(4.8Ma – 4M) x 5%] 40,000
Additional commission expense b 120,000
Total accrued liabilities 540,000
a
Total sales is computed as follows:
Accounts receivable
Beg. bal. 0
Total sales (cash & Total collections from
credit ) squeeze a 4,800,000 4,000,000 cash & credit sales
800,000 Net increase
b
Additional commission expense is computed as follows:
Total commission expense (4.8M total sales x 15%) 720,000
Commission expense paid (4M cash collections x 15%) (600,000)
Additional commission expense 120,000
8
Exercises
1. Solution:
Accounts payable P 4,000
Utilities payable 14,000
Accrued interest expense 12,000
Obligation to deliver own shares
worth a fixed amount of cash 20,000
Cash dividends payable 8,000
Bonds payable 240,000
Discount on bonds payable (30,000)
Redeemable preference shares 28,000
Total financial liabilities P370,000
2. Solution:
a. Trade accounts payable gross of debit balance,
unreleased check, and postdated check
(600,000 + 10,000 + 8,000 + 4,000). P622,000
b. Advances from customers (Credit balance in 4,000
customers’ accounts)
c. Financial liability designated at FVPL 100,000
d. Current portion of bonds payable 200,000
e. Interest payable on note payable 6,000
(P200,000 x 12% x 3/12)
g. Unearned rent 8,000
Total current liabilities P940,000
3. Solution:
a. Trade accounts payable, net of cost of goods
received on consignment (600,000 – 20,000) P 580,000
b. Held for trading financial liabilities 100,000
c. Bank overdraft 20,000
d. Income tax payable 100,000
e. Accrued expenses 10,000
Total current liabilities P 810,000
4. Answer: P2,000,000
5. Answer: None
6. Answer: None
7. Answer: (2M x 10% x 6/12) = 100,000
8. Answer: 2,000,000
9. Answer: None
10. Answer: 2,000,000
11. Solution:
9
Unadjusted accounts payable
P2,000,000
a. Purchases on FOB shipping point not yet recorded 100,000
b. Purchases on FOB shipping point lost in transit, not
yet recorded 40,000
e. Purchases on FOB destination inappropriately recorded ( 30,000)
f. Unreleased checks and postdated checks (12,000 + 5,000) 34,000
g. Purchase return ( 50,000)
h. Unrecorded freight on FOB SP, freight prepaid 6,000
i. Freight shouldered on behalf of the seller ( 10,000)
Adjusted accounts payable P2,090,000
12. Solutions:
Requirement (a): Advances are non-refundable
Unearned income
2,000,000 Jan. 1, 20x1
Orders cancelled 600,000
Dec. 31, 20x1 5,400,000
Answer to requirement (a): P5,400,000
Requirement (b): Advances are refundable

Unearned income
2,000,000 Jan. 1, 20x1
Orders cancelled 600,000
Dec. 31, 20x1 5,400,000
Unearned income – Dec. 31, 20x1 P5,400,000

Refundable deposits 600,000
Total current liability for advances received P6,000,000
13. Solutions:
20x1 20x2 20x3 Total
Percentage earned
- 1st yr. 40% 60%
Percentage earned
- 2nd yr. 40% 60%
First half (2M / 2) 1M 400,000 600,000
Second half
(2M / 2) 1M 400,000 600,000
Earned portions 400,000 1,000,000 600,000 2,000,000
10
Requirement (a): Current and noncurrent portions – December
31, 20x1
Current portion of deferred revenue

(earned portion in 20x2) P1,000,000
Noncurrent portion of deferred revenue
(earned portion in 20x3) 600,000
Total deferred revenue
(P1M less earned portion in 20x1 of P200,000) P1,600,000
Requirement (b): Service revenue – 20x2

Service revenue in 20x2 (600,000 + 400,000) P1,000,000
14. Solutions:
Requirement (a): Unearned revenue – Dec. 31
Receipts from Nov. 1 to Dec. 31 (4M x 2) 8,000,000

Total unearned revenue - Dec. 31 8,000,000
Requirement (b): Subscriptions revenue – 20x1

Unearned revenue
6,000,000 Jan. 1
Subscriptions revenue - Receipts during
20x1 (squeeze) 46,000,000 48,000,000 20x1
Dec. 31 (as computed) 8,000,000
15. Solution:
Receipts from April 1 to Oct. 1 [(4M x 6) x 1/2] 12,000,000

Receipts from Oct. 1 to Dec. 31 (4M x 3) 12,000,000
Total unearned revenue - Dec. 31 24,000,000
16. Solution:
a. Cash on hand 200,000
Unearned revenue – gift certificates 200,000
11
b. Unearned revenue – gift certificates 160,000
Sales 160,000
c. Unearned revenue – gift certificates 20,000
Other income – gift certificates 20,000
forfeited
d. Unearned revenue – gift certificates 4,000
Other income– gift certificates 4,000
forfeited
17. Solution:
Gift certificates sold during 20x1 P2,000,000
Gift certificates sold and redeemed in 20x1 ( 1,400,000)
Amount estimated not to be redeemed (1,000,000 x 10%) ( 200,000)
Unearned revenue – Dec. 31, 20x1 P 400,000
18. Solution:
Deposits received in 20x2 P 90,000
Deposits for containers returned in 20x3 from
deposits in 20x2 ( 50,000)
Deposits received in 20x3 180,000
Deposits for containers returned in 20x3 from
deposits in 20x3 ( 92,000)
Liability for deposits for returnable containers
– Dec. 31, 20x3 P128,000
19. Solution:
Requirement (a): Noncurrent liability – Jan. 1, 20x1
Security deposit x PV of P1 @10%, n=10 = noncurrent liability on
Jan. 1, 20x1
200,000 x 0.385543 = P77,109
Requirement (b): Noncurrent liability – Dec. 31, 20x1

77,109 + (77,109 x 10%) = P84,820
20. Solution:
Escrow accounts
400,000 Jan. 1, 20x1
3,000,000 Escrow payments received
Interest on escrow funds
net of 10% service fee
Taxes paid 1,000,000 180,000 (200,000 x 90%)
Dec. 31, 20x1 2,580,000
12
21. Solution:
Utility expense for December 20x1 P60,000
Advertising costs incurred in December 20x1 30,000
Rent expense from December 16 to 31, 20x1 (200K ÷ 2) 100,000
Contingent rent expense
[(P2.4M see T-account – P2M) x 5%] 20,000
Additional commission expense* 60,000
Total accrued liabilities P270,000
Sales on accrual basis are computed as follows:

Accounts receivable
Beg. bal. 0
Total net sales Total collections
(inclusive of cash (inclusive of cash
sales) squeezea 2,400,000 2,000,000 sales)
400,000 Net increase
a
*Total commission expense (2.4M x 15%) P 360,000
Commission expense paid (2M cash sale x 15%) ( 300,000)
Additional commission expense P 60,000
13
Chapter 23 – Noncurrent Liabilities (Part 1)
1. D
2. C
3. D
4. C
5. D

Solutions:
1. D
Solution:
Interest expense in 20x4 (10,000 x 12% x 10/12) 1,000
Interest expense in 20x5 [(10,000 + 1,000) x 12%] 1,320
Interest payable (compounded) - 12/31/x5 2,320
2. A
Solution:
Cash flow 20,000
PV of annuity due of 1 @11%, n=8 5.712
PV of note on Dec. 30, 20x6 114,240
Less: First installment on Dec. 31, 20x6 (20,000)
PV of note on Dec. 31, 20x6 94,240
3. B 418,250 – the cash price equivalent of the annuity purchased.
4. C (418,250 + 50,000 first payment made immediately) = 468,250

total contest prize expense
5. C (194,000 x 12.4% x 1/12) = 2,005

1. B 6. A 11. B 16. B 21. A 26. C 31. C
2. B 7. A 12. A 17. D 22. D 27. B 32. C
3. C 8. A 13. B 18. C 23. C 28. B 33. A
4. B 9. C 14. D 19. D 24. B 29. A 34. C
5. C 10. C 15. D 20. D 25. D 30. C 35. B
14
Solutions:
1. B [4,000,000 x (100% - 12%)] = 3,520,000
2. B (4,000,000 x 12% x 3/12) = 120,000
3. C (4,000,000 x 112% x 12%) = 537,600
4. B 4,000,000 – the cash price equivalent
5. C
Solution:
Trial and error approach
First trial: (at 10%)
Future cash flows x PV factor at x% = PV of note
 4,800,000 X PV of ₱1 @ 10%, n=3 = 4,000,000
 (4,800,000 x 0.751315) = 3,606,312 is not equal to 4,000,000
We need a substantially higher amount of present value. Therefore,
we need to decrease substantially the interest rate. Let’s try 6%.
Second trial: (at 6%)
 4,800,000 X PV factor at 6%, n=3 = 4,000,000
 (4,800,000 x 0.839619) = 4,030,171 is not equal to 4,000,000
We need a slightly lower amount of present value. Therefore, we
need to increase slightly the interest rate. Let’s try 7%.
Third trial: (at 7%)

 4,800,000 X PV factor at 7%, n=3 = 4,000,000
 (4,800,000 x 0.816298) = 3,918,230 is not equal to 4,000,000
In here, we need to perform interpolation. Looking at the values

derived above, we can reasonably expect that the effective interest
rate is a rate between 6% and 7%.
To perform the interpolation, we will use the following formula:

x% - 6%
7% - 6%
Where: x% again is the effective interest rate.
The formula is derived based on our expectation that the effective

interest rate is somewhere between 6% and 7%. Notice that the lower
rate appears in both the numerator and denominator of the formula
while x% appears in the numerator.
15
Let us substitute the amounts of present values computed earlier on
the formula.
4,000,000 - 4,030,171 (30,171)
= = 0.2695
3,918,230 - 4,030,171 (111,941)
The amount computed is added to 6% to derive the effective interest

rate. The effective interest rate is 6.2695% (6% + .2695%).
Interest expense in 20x1 = 6.2695% x 4,000,000 = 250,780
6. A (4,000,000 x 106.2695%) = 4,250,780
7. A (4,000,000 x PV of 1 @12%, n=3) = 2,847,121
8. A 2,847,121 x 12% = 341,655
9. C (2,847,121 x 112%) = 3,188,776
10. C (1,000,000 x PV of ordinary annuity @12%, n=4) = 3,037,349
11. B
Solution:
Interest Present
Date Payments expense Amortization value
Jan. 1, 20x1 3,037,349
Dec. 31, 20x1 1,000,000 364,482 635,518 2,401,831
Dec. 31, 20x2 1,000,000 288,220 711,780 1,690,051
12. A (See amortization table above)
13. B (See amortization table above)
14. D (See amortization table above)
15. D (1,000,000 x PV of an annuity due @12%, n=4) = 3,401,831
16. B
Solution:
Interest Present
Jan. 1, 20x1 3,401,831
Jan. 1, 20x1 1,000,000 - 1,000,000 2,401,831
Dec. 31, 20x1 1,000,000 288,220 711,780 1,690,051
16
18. C (4,800,000 ÷ 6 semiannual payments) = 800,000 x PV of
ordinary annuity @5%, n=6 = 4,060,554
19. D
Solution:
Interest Present
Jan. 1, 20x1 4,060,554
July 1, 20x1 800,000 203,028 596,972 3,463,581
Dec. 31, 20x2 800,000 173,179 626,821 2,836,760
(203,028 + 173,179) = 376,207
21. A
Solution:
Cash flows PV of 1 @10% PVF PV
Dec. 31, 20x1 2,400,000 n=1 0.909091 2,181,818
Dec. 31, 20x2 1,600,000 n=2 0.826446 1,322,314
Dec. 31, 20x3 800,000 n=3 0.751315 601,052
4,105,184
22. D
Solution:
Interest Present
Jan. 1, 20x1 4,105,184
Dec. 31, 20x1 2,400,000 410,518 1,989,482 2,115,702
23. C (See amortization table above)
24. B
Solution:
The note is discounted to its present value because it is long-term
and noninterest-bearing.
Future cash flow 4,000,000
Multiply by: PV of ₱1, @12%, n=3 0.71178
Present value 2,847,120
The entry to record the note is as follows:

Jan. Cash on hand 2,847,120
1,
20x1
Discount on N/P (4M – 2,847,120) 1,152,880
Note payable 4,000,000
17
25. D
Solution:
The note is discounted to its present value because it is long-term
and noninterest-bearing.
Future cash flow 4,000,000
Multiply by: PV of ₱1, @12%, n=3 0.71178
Present value 2,847,120
The entry to record the note is as follows:

1,
Discount on N/P (4M – 2,847,120) 1,152,880
20x1
Unrealized gain 1,152,880
26. C
Solution:
Present value Present
Future cash flows factors @12%, n=3 value
Principal 4,000,000 0.71178 a 2,847,120
Annual interest (4M x 3%) 120,000 2.40183 b 288,220
Total 3,135,340
a (PV of ₱1 @12%, n=3)
b
(PV of ordinary annuity of ₱1 @12%, n=3
27. B
Solution:
Payments Interest Present
Date for interests expense Amortization value
Jan. 1, 20x1 3,135,340
Jan. 1, 20x2 120,000 376,240 256,240 3,391,580
Jan. 1, 20x3 120,000 406,988 286,988 3,678,572
Jan. 1, 20x4 120,000 441,428 321,428 4,000,000
28. B (See amortization table above)
29. A
Solution:
PV factors Present
Future cash flows @ 6%, n= 6 value
Principal 4,000,000 0.70496 a 2,819,840
Semiannual interest (4M x 1.5%) 60,000 4.91732 b 295,039
Total 3,114,879
a (PV of ₱1 @6%, n=6)
b
(PV of ordinary annuity of ₱1 @6%, n=6
18
30. C
Solution:
The present value of the note is computed as follows:
Future
Principal + Interest on cash PV Present
Date outstanding balance flows factors value
12/31/x1 1.6M + (4.8M x 3%) 1,744,000 0.89286 1,557,148
12/31/x2 1.6M + (3.2M x 3%) 1,696,000 0.79719 1,352,034
12/31/x3 1.6M + (1.6M x 3%) 1,648,000 0.71178 1,173,013
Total 4,082,195
31. C (4,000,000 x 103% x 103% x 103%) x PV of 1 @12%, n=3 =

3,111,126
32. C
Solution:
Date Cash flows PV of ₱1 PV factors Present value
1/1/x4 4,000,000 PV of ₱1 @ 12%, n=3 a 0.71178 2,847,120
1/1/x5 4,000,000 PV of ₱1 @ 12%, n=4 a 0.635518 2,542,072
1/1/x6 4,000,000 PV of ₱1 @ 12%, n=5 0.567427 2,269,708
7,658,900
33. A
Solution:
Present
Date Cash flows PV of ₱1 PV factors value
1/1/x4 6,000,000 PV of ₱1 @ 12%, n=3 0.711780 4,270,680
1/1/x5 4,000,000 PV of ₱1 @ 12%, n=4 0.635518 2,542,072
1/1/x6 2,000,000 PV of ₱1 @ 12%, n=5 0.567427 1,134,854
7,947,606
34. C
Solution:
Principal amount 4,000,000
Origination fee (120,000)
Initial carrying amount of loan 3,880,000
35. B
Solution:
Discounted interest rate for a 1-year loan = Net interest expense ÷
Net loan proceeds
= [(4M x 10% x 180/360) – (200,000 x 2% x 180/360)]
÷ [4M – 200,000]
= 198,000 ÷ 3,800,000
= 5.21% (effective interest for 180 days)
= 5.21% x 2 = 10.42% (effective interest for 360 days)
19
Exercises
1. Solution:
July 1, Cash on hand (2M x 88%) 1,760,000
20x1 Discount on note payable (2M x 12%) 240,000
to record note payable discounted at a bank
Dec. Interest expense (2M x 12% x 6/12) 120,000
31, Discount on note payable 120,000
20x1 to recognize interest expense incurred
June Interest expense (2M x 12% x 6/12) 120,000
20x2 to recognize interest expense incurred
June Note payable 2,000,000
30, Cash in bank 2,000,000
20x2 to record settlement of note payable
2. Solution:
July 1, Cash on hand (2M x 88%) 1,760,000
20x1 Discount on note payable (2M x 12%) 240,000
Interest expenses to be recognized quarterly are computed as

follows:
Outstanding balance Interest
Date of note Fraction expense
Sept. 30, 20x1 2,000,000 2/5 96,000
Dec. 31, 20x1 1,500,000 1.5/5 72,000
Mar. 31, 20x2 1,000,000 1/5 48,000
June 30, 20x2 500,000 .5/5 24,000
5,000,000 5/5 240,000
Sept. Note payable 500,000

30, 20x1 Interest expense 96,000
Cash in bank 500,000
Discount on note payable 96,000
Dec. Note payable 500,000
31, 20x1 Interest expense 72,000
Mar. 31, Note payable 500,000
20x2 Interest expense 48,000
20
June 30, Note payable 500,000
3. Solution:
Oct. 1, Land 2,000,000
20x1 Note payable 2,000,000
to record note payable issued for land
31, Interest payable 60,000
20x1 to record accrued interest
Oct. 1, Interest expense (2M x 12% x 9/12) 180,000
20x2 Interest payable 60,000
to record payment of accrued interest
Oct. 1, Interest expense (2M x 12% x 9/12) 180,000
Oct. 1, Note payable 2,000,000
20x3 Cash in bank 2,000,000
to record settlement of note payable
4. Solution:
Jan. 1, Land 2,000,000
to record note payable issued for land
Dec. Interest expense (2M x 12%) 240,000
Dec. Interest expense [(2M + 240,000) x 12%] 268,800
Dec. Interest expense 301,056
31, [(2M + 240K + 268,800) x 12%]
20x3 Interest payable (240,000 + 268,800) 508,800
Dec. Note payable 2,000,000
31, Cash in bank 2,000,000
20x3 to record settlement of note payable
21
5. Solution:
PV of note = Cash price equivalent
PV of note = 2M
Jan. 1, Inventory 2,000,000

20x1 Discount on note payable 400,000
Through “trial and error with interpolation,” the effective interest rate is
6.2695%.Through “goal seek,” the effective interest rate is
6.265856927%.
Date Interest expense Discount Present value

Jan. 1, 20x1 400,000 2,000,000
Dec. 31, 20x1 125,390 274,610 2,125,390
Dec. 31, 20x2 133,251 141,359 2,258,641
Dec. 31, 20x3 141,606 (247) 2,400,247
Dec. 31, Interest expense 125,390

Dec. 31, Note payable 2,400,000
20x3 Cash 2,400,000
6. Solution:
PV of note = 2M x PV of P1 @12%, n=4
PV of note = 1,423,560
Jan. Transportation equipment 1,623,560

1, (200K + 1,423,560)
(2M – 1,423,560)
Present
Date Interest expense Discount value
Jan. 1, 20x1 576,440 1,423,560
Dec. 31, 20x1 170,827 405,613 1,594,387
Dec. 31, 20x2 191,326 214,286 1,785,714
Dec. 31, 20x3 214,286 0 2,000,000
22
Jan. 1, Note payable 2,000,000
7. Solution:
PV of note = (2M / 4) x PV of ordinary annuity of P1 @12%, n=4
PV of note = 1,518,675

1, (200K + 1,518,675)
(2M – 1,518,675)
Interest Present
Jan. 1, 20x1 1,518,675
Dec. 31, 20x1 500,000 182,241 317,759 1,200,916
Dec. 31, 20x2 500,000 144,110 355,890 845,026
Dec. 31, 20x3 500,000 101,403 398,597 446,429
Dec. 31, 20x4 500,000 53,571 446,429 -
Dec. 31, Note payable 500,000

23
8. Solution:
PV of note = (2M / 4) x PV of an annuity due of P1 @12%, n=4
PV of note = 1,700,916
Interest Present
Jan. 1, 20x1 1,700,916
Jan. 1, 20x1 500,000 - 500,000 1,200,916
Dec. 31, 20x1 500,000 144,110 355,890 845,026
Dec. 31, 20x2 500,000 101,403 398,597 446,429
Dec. 31, 20x3 500,000 53,571 446,429 -

1, (200K + 1,700,916)
(2M – 1,700,916)
to record the note payable issued
Jan. Note payable 500,000
1, Cash in bank 500,000
20x1 to record the first installment payment made
in advance
31, Interest expense 144,110
20x1 Cash in bank 500,000
9. Solution:
PV of note = (2.4M / 6) x PV of ordinary annuity of P1 @5%, n=6
PV of note = 2,030,277
Jan. 1, Machinery 2,030,277

(2.4M – 2,030,277) 2,400,000
24
Note payable
Interest Present
Jan. 1, 20x1 2,030,277
July 1, 20x1 400,000 101,514 298,486 1,731,791
Dec. 31, 20x1 400,000 86,590 313,410 1,418,380
July 1, 20x1 400,000 70,919 329,081 1,089,299
Dec. 31, 20x1 400,000 54,465 345,535 743,764
July 1, 20x1 400,000 37,188 362,812 380,953
Dec. 31, 20x1 400,000 19,048 380,952 0
July Note payable 400,000

10. Solution:
PV of P1 @10%,
Date Payments Present value
n=1, 2, and 3
Dec. 31, 20x1 1,200,000 0.90909 1,090,908
Dec. 31, 20x2 800,000 0.82645 661,160
Dec. 31, 20x3 400,000 0.75131 300,524
25
Total 2,400,000 2,052,592
Interest Present
Jan. 1, 20x1 2,052,592
Dec. 31, 20x1 1,200,000 205,259 994,741 1,057,851
Dec. 31, 20x2 800,000 105,785 694,215 363,636
Dec. 31, 20x3 400,000 36,364 363,636 -
Jan. Machinery 2,052,592

Dec. Note payable 1,200,000
11. Solution:

Jan. 1, 20x1 576,440 1,423,560
Dec. 31, 20x1 170,827 405,613 1,594,387
Dec. 31, 20x2 191,326 214,286 1,785,714
Dec. 31, 20x3 214,286 - 2,000,000

26
Cash in bank 2,000,000
12. Solution:
Jan. 1, Cash on hand 2,000,000
Unrealized gain – “Day 1” 576,440
difference

Jan. 1, 20x1 576,440 1,423,560
Dec. 31, 20x1 170,827 405,613 1,594,387
Dec. 31, 20x2 191,326 214,286 1,785,714
Dec. 31, 20x3 214,286 - 2,000,000


13. Solution:
Present value
Future cash flows factors @12%, n=3 Present value
Principal 2,000,000 0.71178 1,423,560
Annual interest 60,000 2.40183 144,110
Total 1,567,670
Interest Interest Present

Date payments expense Amortization value
Jan. 1, 20x1 1,567,670
Dec. 31, 20x1 60,000 188,120 128,120 1,695,790
Dec. 31, 20x2 60,000 203,495 143,495 1,839,285
Dec. 31, 20x3 60,000 220,714 160,714 1,999,999
27
31, Interest payable (P2M x 3%) 60,000
Jan. 1, Interest payable 60,000
Jan.1 Interest payable 60,000

14. Solution:
PV factors @ Present
Future cash flows 6%, n = 6 value
Principal 2,000,000 0.70496054 1,409,921
Semi-annual interest 30,000 4.917324326 147,520
Total 1,557,441
Interest Interest Amortizatio Present

Date payments expense n value
Jan. 1, 20x1 1,557,441
July 1, 20x1 30,000 93,446 63,446 1,620,887
Dec. 31, 20x1 30,000 97,253 67,253 1,688,141
July 1, 20x2 30,000 101,288 71,288 1,759,429
Dec. 31, 20x2 30,000 105,566 75,566 1,834,995
July 1, 20x3 30,000 110,100 80,100 1,915,095
Dec. 31, 20x3 30,000 114,906 84,906 2,000,000
Jan. Machinery 1,557,441

1, Discount on note payable (1M – 442,559
20x1 778,721) 2,000,000
28
Note payable
July Interest expense 93,446
15. Solution:
Principal + Interest Future
on outstanding cash Present
Date balance flows PV factors value
Dec. 31, 20x1 800K + (2.4M x 3%) 872,000 0.89286 778,574
Dec. 31, 20x2 800K + (1.6M x 3%) 848,000 0.79719 676,017
Dec. 31, 20x3 800K + (800K x 3%) 824,000 0.71178 586,507
Total 2,041,098
Interest Present
Jan. 1, 20x1 2,041,098
Dec. 31, 20x1 872,000 244,932 627,068 1,414,030
Dec. 31, 20x2 848,000 169,684 678,316 735,713
Dec. 31, 20x3 824,000 88,286 735,714 (1)

29
16. Solution:
Future cash flow = (2M x FV of P1 @ 3%, n=3) = 2M x 1.092727 =
2,185,454
PV of note = 2,185,454 x PV of P1 @12%, n=3
PV of note = 1,555,563
Jan. Machinery 1,555,563444,437

1, Discount on note payable
PV of Dis-
PV of
Interest future Interest Amor- count
Note
expense cash payable tization on note
payable
Date flows payable
Jan. 1, 20x1 1,555,563 444,437 1,555,563
Dec. 31, 20x1 186,668 1,742,231 60,000 126,668 317,769 1,682,231
Dec. 31, 20x2 209,068 1,951,298 61,800 147,268 170,502 1,829,498
Dec. 31, 20x3 234,156 2,185,454 63,654 170,502 - 2,000,000

17. Solution:
PV of ordinary annuity of P1 @12%, n=5 3.604776
PV of ordinary annuity of P1 @12%, n=2 ( 1.690051)
30
PV factor for the payment period 1.914725
Multiply by: Future cash flow (6M ÷ 3 installments) P2,000,000
PV of note payable P3,829,450
18. Solution:
Present
Date Cash flows PV of P1 PV factors value
Jan. 1, 20x4 3,000,000 PV of P1 @ 12%, n=3 0.711780 2,135,340
Jan. 1, 20x5 2,000,000 PV of P1 @ 12%, n=4 0.635518 1,271,036
Jan. 1, 20x6 1,000,000 PV of P1 @ 12%, n=5 0.567427 567,427
3,973,803
19. Solution:
20x1 Discount on loan payable 60,000
Loan payable 2,000,000
Through “trial and error with interpolation,” the effective interest rate is
11.2357%. Through “goal seek,” the effective interest rate is
11.2326088%.
Interest Interest
Date payments expense Amortization Present value
Jan. 1, 20x1 1,940,000
Dec. 31, 20x1 200,000 217,973 17,973 1,957,973
Dec. 31, 20x2 200,000 219,992 19,992 1,977,965
Dec. 31, 20x3 200,000 222,238 22,238 2,000,203

20. Solution:
Discounted interest rate for a 1-year loan = Net interest expense ÷
Net loan proceeds
= [(2M x 10% x 180/360) – (100,000 x 2% x 180/360)] ÷ [2M –
100,000]
= 99,000 ÷ 1,900,000
31
= 5.21% (effective interest for 180 days)
= 5.21% x 2 = 10.42% (effective interest for 360 days)
Chapter 24 – Noncurrent Liabilities (Part 2)

1. D 6. B 11. C
2. C 7. C 12. B
3. D 8. A 13. D
4. C 9. D 14. C
5. C 10. C 15. A

1. D 6. B 11. B 16. A
2. A 7. D 12. B 17. D
3. D 8. B 13. D 18. D
4. C 9. D 14. C 19. B
5. B 10. C 15. B 20. D
Solutions:
1. D
Solution:
9¾% registered debentures, callable in 2002, due in 2007 700,000
9½% collateral trust bonds, convertible into common stock
600,000
beginning in 2000, due in 2010
Total term bonds 1,300,000
2. A
Solution:
9.375% registered bonds (₱25,000 maturing annually
beginning in 20x4)
275,000
10.0% commodity backed bonds (₱50,000 maturing annually
beginning in 20x5)
200,000
Total Serial bonds 475,000
Unsecured
32
9.375% registered bonds (₱25,000 maturing annually
beginning in 20x4) 275,000
11.5% convertible bonds, callable beginning in 20x9, due
2010 125,000
Total Debenture bonds 400,000
3. D (20,000 + 25,000 + 200,000) = 245,000
4. C (103,288 x 10% x 6/12) = 5,164
5. B
Solution:
Interest
Date expense Payments Amortization Present value
1/2/01 469,500
6/30/01 23,475 22,500 975 470,475
6. B
Solution:
The carrying amount of the bonds on May 1, 1999 is determined as
follows:
Face amount 1,000,000
Unamortized bond premium 62,000
Carrying amount - 5/1/99 1,062,000
The carrying amount of the bonds on October 31, 1999 is determined

as follows:
Interest Present
Date expense Payments Amortization value
5/1/99 1,062,000
10/31/99 53,100 55,000 1,900 1,060,100
The unamortized bond premium on October 31, 1999 is determined

as follows:
Carrying amount - 10/31/99 1,060,100
Unamortized premium - 10/31/99 60,100
7. D
Solution:
The periodic cash flows are computed as follows:
Due date Amounts due Periodic
Principal Interest Cash flows
33
12/31/x1 40,000 16,000 56,000
12/31/x2 40,000 12,800 52,800
12/31/x3 40,000 9,600 49,600
12/31/x4 40,000 6,400 46,400
12/31/x5 40,000 3,200 43,200
The amortization table is prepared as follows:

Interest Present
Date expense Payments Amortization value
12/31/x0 190,280
12/31/x1 19,028 56,000 36,972 153,308
12/31/x2 15,331 52,800 37,469 115,839
12/31/x3 11,584 49,600 38,016 77,823
12/31/x4 7,782 46,400 38,618 39,205
12/31/x5 3,920 43,200 39,280 (75)
8. B (800,000 x 8% x 3/12) = 16,000
9. D
Solution:
Issue price of bonds (200 x 1,000 x 101%) 202,000
Accrued interest (200 x 1,000 x 9% x 5/12) 7,500
Total proceeds 209,500
10. C
Solution:
Present
Cash flows PV factors value
Principal 1,000 PV of 1 @9%, n=10 0.4224 422
Interest 60 PV ordinary annuity @9%, n=10 6.4177 385
Issue price 807
11. B
Solution:
EFFECT ON DECEMBER 31, 20X1:
Using straight line method:
Discount on bonds - 1/2/x1 150,000
Divide by: Term 6
Annual amortization of discount 25,000
34
Amortization - 20x1 (25,000)

Discount on bonds - 12/31/x1 (125,000)
Carrying amount - 12/31/x1 875,000
Using effective interest method:

Interest Present
Date expense Payments Amortization Value
1/2/x1 850,000
12/31/x1 102,000 80,000 22,000 872,000
Carrying amounts - 12/31/x1:

Straight line (erroneous) 875,000
Effective interest method 872,000
Difference - overstatement (3,000)
EFFECT ON JANUARY 2, 20X7:

On January 2, 20x7, maturity date, there will be NO EFFECT of the
error on the carrying amount of the bonds because on this date, the
discount would have been fully amortized under both the straight
line method and the effective interest method.
12. B
Solution:
Carrying amount of bonds converted 1,300,000
Par value of shares issued (50,000 x 1) (50,000)
Share premium 1,250,000
13. D – No gain or loss is recognized when convertible bonds are

converted into equity instrument.
14. C
Solution:
Fair value of bonds without the warrants 196,000
Face amount of bonds 200,000
Discount on bonds (4,000)
15. B
Solution:
Redemption price (5M x 98%) 4,900,000
35
Less: Carrying amount of bonds:
Unamortized premium 30,000
Unamortized issue costs (50,000) 4,980,000
Gain on retirement 80,000
16. A
Solution:
Redemption price (600 x 1,000 x 102%) 612,000
Less: Carrying amount of bonds:
Face amount (600 x 1,000) 600,000
Unamortized premium 65,000 665,000
Gain on retirement 53,000
17. D
Solution:
Payment for the liability:
Cash 50,000
Carrying amount of investment securities 375,000 425,000
Carrying amount of liability settled:
Principal 500,000
Accrued interest 75,000 575,000
Gain on settlement 150,000
18. D (185,000 carrying amt. of note - 85,000 carrying amt. of land) =

100,000 gain
19. B (28,000 – 25,000) = 3,000
20. D
Solution:
The modification is analyzed as follows:
Old terms New terms
Principal 1,000,000 950,000
Accrued interest 40,000 30,000
Remaining term ('n') 1 year
The present value of the modified liability is computed as follows:

Future cash flows PV of 1 @10%, n=1 Present value
Principal 950,000 0.90909 863,636
Interest 30,000 0.90909 27,273
Present value of the modified liability 890,908
36
The difference between the old liability and the new liability is tested
for substantiality.
Carrying amount of old liability
1,040,000
(1M principal + 40,000 accrued interest)
Present value of modified liability 890,908
Difference 149,092
Difference 149,092
Divide by: Carrying amount of old liability 1,040,000
14.34%
The modification is considered substantial because the modification

resulted to a present value of the new obligation different by at least
10% of the present value (carrying amount) of old obligation.
Therefore, the old liability is extinguished and the difference of
₱149,092 is recognized as gain on extinguishment.

1. D 11. A 21. C 31. A 41. C
2. B 12. A 22. B 32. B 42. B
3. C 13. B 23. C 33. D 43. C
4. C 14. A 24. D 34. A 44. D
5. B 15. C 25. C 35. A
6. A 16. D 26. A 36. A
7. C 17. A 27. B 37. D
8. D 18. B 28. A 38. B
9. D 19. D 29. B 39. D
10. B 20. A 30. A 40. A
Solution:
1. D 4,000,000 – the issue price
2. B
Solution:
Interest Interest
37
Jan. 1, 20x1 3,807,852
Dec. 31, 20x1 400,000 456,942 56,942 3,864,794
4,000,000 face amount – 3,864,794 = 135,206
3. C
Solution:
Interest Interest
Jan. 1, 20x1 4,198,948
Dec. 31, 20x1 480,000 419,894 60,106 4,138,842
4,000,000 face amount – 4,138,842 = 138,842
4. C (4,000,000 – 192,148) = 3,807,852
5. B
Solution:
Trial and error
First trial: (using 11%)
 (4M x PV of ₱1 @ 11%, n=3) + [(4M x 10%) x PV of an ordinary
annuity of ₱1 @ 11%, n=3] = 3,807,852
 (4M x 0.73119) + (400,000 x 2.44371) = 3,807,852
 (2,924,760 + 977,484) = 3,902,244 is not equal to 3,807,852
We need a lower amount. We know that discount rate and present
value have an inverse relationship. Therefore, we should increase
the rate.
Second trial: (using 12%)
annuity of ₱1 @ 12%, n=3] = 3,807,852
 (4M x 0.71178) + (400,000 x 2.40183) = 3,807,852
 (2,847,120 + 960,732) = 3,807,852 is equal to 3,807,852
Since 12% exactly discounts the future cash flows to the initial
carrying amount of the bonds, it shall be regarded as the effective
interest rate. No further interpolation is needed.
Interest Interest
Jan. 1, 20x1 3,807,852
Dec. 31, 20x1 400,000 456,942 56,942 3,864,794
4,000,000 face amount – 3,864,794 carrying amt. = 135,206
6. A (3,807,852 – 179,316) = 3,628,536
38
7. C
Solution:
Interest Interest
Jan. 1, 20x1 3,628,536
Dec. 31, 20x1 400,000 507,995 107,995 3,736,531
9. D
Solution:
The carrying amount of the bonds on initial recognition is computed
as follows:
Issue price before transaction costs 4,412,336
Transaction costs (Bond issue costs) (213,388)
Carrying amount - Jan. 1, 20x1 (net issue price) 4,198,948
Trial and error

annuity of ₱1 @ 10%, n=3) = 4,198,948
 (4M x 0.751315) + (480,000 x 2.48685) = 4,198,948
 (3,005,260 + 1,193,688) = 4,198,948 is equal to 4,198,948
Since 10% exactly discounts the future cash flows to the initial
carrying amount of the bonds, it shall be regarded as the effective
interest rate. No further interpolation is needed.
Interest
Date payments Interest expense Amortization Present value
Jan. 1, 20x1 4,198,948
Dec. 31, 20x1 480,000 419,895 60,105 4,138,843
10. B
Solution:
Erroneous amortization of discount using straight line:
The erroneous straight-line amortization of the discount on bonds
payable is computed as follows:
Face amount of bonds 4,000,000
Cash proceeds (3,807,852)
Discount on bonds payable - Jan. 1, 20x1 192,148
Divide by: Term of bonds (in years) 3
Annual amortization (straight line method) 64,049
Interest expense for 20x1 recognized under straight-line method:

Interest paid (4,000,000 x 10%) 400,000
39
Amortization of discount (see computation above) 64,049
Interest expense under straight-line method 464,049
Carrying amount of bonds on Dec. 31, 20x1 under straight-line method:

Carrying amount - Jan. 1, 20x1 3,807,852
Amortization of discount (see computation above) 64,049
Carrying amount - Dec. 31, 20x1 3,871,901
Amortization of discount under effective interest method:

Amortization table:
Jan. 1, 20x1 3,807,852
Dec. 31, 20x1 400,000 456,942 56,942 3,864,794
Effect on carrying amount of bonds as of Dec. 31, 20x1

Carrying amounts on Dec. 31, 20x1:
Straight-line 3,871,901
Effective interest rate 3,864,794
Difference - overstatement under straight-line 7,107
The carrying amount of the bonds on December 31, 20x1 under the
straight line method is overstated by ₱7,107.
11. A
Solution:
Effect on 20x1 profit
Interest expense in 20x1:
Straight-line (see computations above) 464,049
Effective interest rate (see computations above) 456,942
Difference - overstatement under straight-line 7,107
Since interest expense under straight-line is overstated, the profit

under straight-line is understated by ₱7,107.
12. A
Solution:
Cash proceeds including accrued interest (4M x 97%) 3,880,000
Accrued interest sold (4M x 12% x 3/12) (120,000)
Carrying amount of the bonds, April 1, 20x1 3,760,000
13. B Cash proceeds excluding accrued interest (4M x 97%)

3,880,000
14. A
40
Solution:
Future cash flows PV @ 10%, n=3 PV factors Present value
Principal 4M PV of ₱1 0.751315 3,005,260
Interest 480K PV of ord. annuity of ₱1 2.486852 1,193,689
4,198,949
15. C
Solution:
Interest Present
Date payment Interest expense Amortization value
Jan. 1, 20x1 4,198,949
Apr. 1, 20x1 120,000 104,974 15,026 4,183,923
Issue price pertaining to bonds only 4,183,923

Accrued interest sold (4M x 12% x 3/12) 120,000
Total issue price or cash proceeds 4,303,923
16. D
Solution:
Jan. Bonds payable – old 32,000,000
1, Loss on extinguishment of bonds (squeeze) 3,160,000
20x1
Discount on bonds payable – old 1,360,000
(32M + 1.6M call premium + 200K reacquisition costs)
17. A
Solution:
Interest Interest
Jan. 1, 20x1 4,303,264
Dec. 31, 20x1 480,000 430,328 49,672 4,253,592
Dec. 31, 20x2 480,000 425,360 54,640 4,198,948
July 1, 20x3 240,000 209,948 30,052 4,168,896
Carrying amount of bonds retired: (see table above) 4,168,896

Retirement price (Call price):
Retirement price including payment for
accrued interest (4M x 102%) 4,080,000
Accrued interest (4M x 12% x 6/12) (240,000) 3,840,000
Gain on extinguishment of bonds 328,896
18. B
Solution:
Interest on
outstanding
Principal principal Interest Total
Date payments balance payments payments
41
Dec. 31, 20x1 4,000,000 12,000,000 x 10% 1,200,000 5,200,000
Dec. 31, 20x2 4,000,000 8,000,000 x 10% 800,000 4,800,000
Dec. 31, 20x3 4,000,000 4,000,000 x 10% 400,000 4,400,000
Total Interest Present

Jan. 1, 20x1 11,601,220
Dec. 31, 20x1 5,200,000 1,392,148 3,807,852 7,793,368
19. D
Solution:
The initial carrying amount is computed as follows:
Issue price before transaction costs (12M x 105%) 12,600,000
Transaction costs (Bond issue costs) (177,096)
Carrying amount - Jan. 1, 20x1 (net issue price) 12,422,904
Interest on
outstanding
Dec. 31, 20x1 4,000,000 12,000,000 x 10% 1,200,000 5,200,000
Dec. 31, 20x2 4,000,000 8,000,000 x 10% 800,000 4,800,000
Dec. 31, 20x3 4,000,000 4,000,000 x 10% 400,000 4,400,000
Trial and error:

 (5,200,000 x PV of ₱1 @9%, n=1) + (4,800,000 x PV of ₱1 @9%,
n=2) + (4,400,000 x PV of ₱1 @9%, n=3) = 12,422,904
 (5.2M x 0.91743) + (4.8M x 0.84168) + (4.4M x 0.77218) =
12,422,904
 (4,770,636 + 4,040,064 + 3,397,592) = 12,208,292 is not equal
to 12,422,904
We need a higher amount; therefore, we should decrease the rate.
Second trial: (using 8%)
 Future cash flows x PV factor at x% = Present value
 (5,200,000 x PV of ₱1 @8%, n=1) + (4,800,000 x PV of ₱1 @8%,
n=2) + (4,400,000 x PV of ₱1 @8%, n=3) = 12,422,904
 (5.2M x 0.925926) + (4.8M x 0.857339) + (4.4M x 0.793832) =
12,422,904
 (4,814,815 + 4,115,227 + 3,492,861) = 12,422,903 is equal to
12,422,904
The effective interest rate is 8%. No further interpolation is needed.
42
Jan. 1, 20x1 12,422,904
Dec. 31, 20x1 5,200,000 993,832 4,206,168 8,216,736
20. A
Solution:
Interest on
outstanding
Dec. 31, 20x1 4,000,000 12,000,000 x 10% 1,200,000 5,200,000
Dec. 31, 20x2 4,000,000 8,000,000 x 10% 800,000 4,800,000
Dec. 31, 20x3 4,000,000 4,000,000 x 10% 400,000 4,400,000
Total Present
PV of ₱1 PVF
payments value
5,200,000 PV of ₱1 @ 12%, n=1 0.892857 4,642,856
4,800,000 PV of ₱1 @ 12%, n=2 0.797194 3,826,531
4,400,000 PV of ₱1 @ 12%, n=3 0.711780 3,131,832
11,601,219
21. C
Solution:
Jan. 1, 20x1 11,601,220
Sept. 30, 20x1 3,900,000 1,044,110 2,855,890 8,745,330
8,745,330 + (12M x 10% x 9/12) accrued interest sold = 9,645,330
22. B (12M x 110% x 110% x 110%) x PV of 1 @18%, n=3 =

9,721,052
23. C
Solution:
Issue price 4,000,000
Fair value of debt instrument without equity feature (4M x 98%) (3,920,000)
Equity component 80,000
Allocation of
Allocated amounts transaction
Component from issue price Fraction costs
Debt component 3,920,000 3,920/4,000 196,000
Equity component 80,000 80/4,000 4,000
4,000,000 4,000/4,000 200,000
80,000 – 4,000 = 76,000

43
24. D
Solution:
Future cash PV Present
flows PV @ 12%, n=3 factors value
Principal 4M PV of ₱1 0.711780 2,847,120
Interest 400K PV of ordinary annuity of ₱1 2.401831 960,732
Fair value of debt instrument without conversion
feature 3,807,852
The issue price is allocated to the liability and equity components as

follows:
Issue price (4M x 105%) 4,200,000
Fair value of debt instrument without equity feature (3,807,852)
The entry to record the issuance is as follows:

Jan. Cash in bank (4M x 105%) 4,200,000
1, 192,148
20x1
Disc. on bonds payable (4M – 3,807,852)
Bonds payable 4,000,000
Share premium – conversion feature 392,148
Amortization table:
Date payment expense Amortization value
Jan. 1, 20x1 3,807,852
Dec. 31, 20x1 400,000 456,942 56,942 3,864,794
Dec. 31, 20x2 400,000 463,775 63,775 3,928,569
The other pertinent entries prior to conversion are as follows:

31, 56,942
Discount on bonds payable
20x1
31, 63,775
20x2
The entries on to record the conversion are as follows:

Dec. Bonds payable 4,000,000
31, Disc. on bonds payable (4M – 3,928,569) 71,431
20x2
Share capital a 3,200,000
Share premium (squeeze) 728,569
to record the conversion of bonds into equity
Dec. Share premium 80,000
31, 80,000
20x2
Cash in bank
44
to record the share issuance costs
Dec. Share premium – conversion feature 392,148
31, 392,148
20x2
Share premium
to reclassify the equity component of the
compound instrument within equity
a
(4M face amount ÷ ₱4,000) x 8 shares x ₱400 par value) = 3,200,000
Net increase in equity = credit to share capital of 3,200,000 + credit

to share premium of 728,569 – debit to share premium of 80,000 =
3,848,569
25. C
Solution:
The fair value of the bonds without the conversion option is computed
as follows:
Principal 4M PV of ₱1 0.751315 3,005,260
Interest 480K PV of ordinary annuity of ₱1 2.486852 1,193,689
Fair value of debt instrument without equity
feature 4,198,949

follows:
Issue price (4M x 110%) 4,400,000
The entry to record the issuance is as follows:

Jan.Cash in bank (4M x 110%) 4,400,000
1, 4,000,000
20x1
Bonds payable
Premium on bonds payable (4,198,949 – 4M) 198,948
Amortization table:
Jan. 1, 20x1 4,198,949
Dec. 31, 20x1 480,000 419,895 60,105 4,138,844
Dec. 31, 20x2 480,000 413,884 66,116 4,072,728
The entry to update the carrying amount of the bonds prior to

conversion is as follows:
31,
20x2
Premium on bonds payable 60,105
45
The entries on to record the conversion are as follows:
Dec. Bonds payable (4M x ½) 2,000,000
31, Premium on bonds [(4,072,728 - 4M) x ½]
36,364
20x2
Sh. capital [(4M ÷1,000) x 8 x ₱400)] x ½ 1,600,000
to record the conversion of half of the bonds into
equity
31,
20x2
Cash in bank 80,000
to record the share issuance costs
31, (201,051 x ½)
100,526
20x2 Share premium
to reclassify the equity component of the
compound instrument within equity
Net increase in equity

Credit to share capital 1,600,000
Credits to share premium (436,364 + 100,526) 536,890
Debit to “share premium” for the stock issuance costs (80,000)
Debit to “share premium – conversion feature” (100,526)
Net increase in equity as a result of the conversion 1,956,364
26. A
Solution:
Credits to share premium (436,364 + 100,526) 536,890
Debit to “share premium” for the stock issuance costs (80,000)
Net increase in share premium general account 456,890
27. B
Solution:
follows:
Issue price (4M x 110%) 4,400,000
28. A
Solution:
Interest Interest
Date payment expense Amortization Present value
Jan. 1, 20x1 4,198,948
Dec. 31, 20x1 480,000 419,896 60,104 4,138,844
July 1, 20x2 240,000 206,944 33,056 4,105,784
46
The entry to update the carrying amount of the bonds on conversion
date is as follows: (The problem states that the accrued interest is settled
separately in cash.)
July 1, Interest expense 206,944
20x2 33,056
Premium on bonds payable
Cash in bank (4M x 12% x 6/12) 240,000
The compound entry to record the conversion on December 31,

20x2 is as follows:
July 1, Bonds payable 4,000,000
20x2 Premium on bonds (4,105,784 – 4M) 105,784
Share capital (8,000 x ₱400) 3,200,000
Cash in bank* 80,000
Share premium (squeeze) 1,026,836
*This pertains to the stock issuance costs (or conversion costs).
29. B
Solution:
The fair value of the bonds without the conversion feature is
Principal 4M PV of ₱1 0.711780 2,847,120
feature 3,807,852

follows:
The entry to record the issuance of the bonds is as follows:

Jan. 1, Cash in bank 4,400,000
20x1 Discount on bonds payable 192,148
Amortization table:
Interest Interest
Date payment expense Amortization Present value
Jan. 1, 20x1 3,807,852
Dec. 31, 20x1 400,000 456,942 56,942 3,864,794
Dec. 31, 20x2 400,000 463,775 63,775 3,928,570
47
The other entries prior to retirement are as follows:
20x1 56,942
20x2 63,775
The fair value of the bonds without the conversion feature on

retirement date (December 31, 20x2) is computed as follows:
Principal 4M PV of ₱1 0.900901 3,603,604
feature 3,963,964
The retirement price is allocated to the liability and equity

components as follows:
Total retirement price 4,000,000
Fair value of bonds without conversion feature – Dec. 31, 20x2 (3,963,964)
Equity component – debit to “share premium – conversion feature” 36,036
The gain or loss on extinguishment of bonds is computed as follows:

Carrying amount of bonds – Dec. 31, 20x2 3,928,570
Retirement price allocated to the bonds (3,963,964)
Loss on extinguishment of bonds (35,394)
30. A
Solution:
The simple entries on December 31, 20x2 are as follows:
31, Loss on extinguishment of bonds 35,394
20x2 (squeeze)
71,430
Discount on bonds (4M – 3,928,570) 3,963,964
Cash in bank (amt. allocated to the bonds)
to record the retirement of convertible bonds
31, 36,036
Cash in bank (amount allocated to equity)
20x2
to record the allocation of retirement price to equity
component
Dec. Share prem. - conversion feature (592,148 - 36,036) 556,112
31, Share premium
20x2 to record forfeiture of conversion feature of retired
556,112
convertible bonds
48
31. A
Solution:
Debits to “sh. prem.– conversion feature”
(36,036 + 556,112) (592,148)
Credit to share premium 556,112
Net decrease in equity (36,036)
32. B
Solution:
The fair value of the bonds without the conversion feature on
retirement date (December 31, 20x2) is computed as follows:
Principal 4M PV of ₱1 0.900901 3,603,604
feature 3,963,964
The retirement price is allocated to the liability and equity

components as follows:
Total retirement price 2,000,000
Fair value of bonds w/o conversion feature (3,963,964 x ½) (1,981,982)
Equity component – debit to “share premium – conversion feature” 18,018
The gain or loss on extinguishment of bonds is computed as follows:

Carrying amount of bonds converted (3,928,570* x ½) 1,964,285
Retirement price allocated to the bonds (1,981,982)
Loss on extinguishment of bonds (17,699)
* See amortization table in previous problem.
33. D
Solution:
The simple entries to record the retirement are as follows:
31, Loss on extinguishment of bonds (squeeze) 17,699
20x2
Discount on bonds payable 35,717
Cash in bank (amount allocated to the bonds) 1,981,982
to record the retirement of convertible bonds
31,
Cash in bank (amount allocated to equity) 18,018
20x2
to record the allocation of retirement price to equity
component
Dec. Share premium – conversion feature * 278,056
31,
49
20x2 Share premium 278,056
to record forfeiture of conversion feature of retired
convertible bonds
*(592,148 amount allocated from issue price ‘see previous problem – full
retirement’ x ½) – (18,018 amount allocated from retirement price) = 278,056
34. A
Solution:
follows:
Issue price (1,000 x ₱4,000 x 97%) 3,880,000
Fair value of debt instrument ex-warrants
(1,000 x ₱4,000 x 95%) (3,800,000)
35. A
Solution:
The entry to record the issuance of the bonds is as follows:
Jan. Cash in bank 3,880,000
1, Discount on bonds payable (4M – 3.8M) 200,000
20x1 Bonds payable 4,000,000
Share premium – warrants outs. 80,000
The entry on Sept. 21, 20x1 is as follows:

Sept. Cash in bank (1,000 x 10 x ½ x ₱480) 2,400,000
21, Share premium – warrants outstanding 40,000
20x1 (80,000 x ½)
Share capital (1,000 x10 x ½ x ₱400) 2,000,000
Share premium 440,000
36. A
Solution:
Sept. Share premium – warrants outstanding 40,000
21, (80,000 x ½)
37. D None
Solution:
Future cash flows PV factors @10%, n=3 Present value
Principal 4,000,000 0.751315 3,005,260
Interest 480,000 2.486852 1,193,689
Fair value of bonds without share warrants 4,198,949

follows:
50
Fair value of debt instrument without the warrants ( 4,198,949)
Equity component ₱ 201,051
The entry to record the issuance of the bonds is:

1, Bonds payable 4,000,000
20x1 Premium on bonds payable 49,737
Share premium – warrants outstanding 201,051
The entry to record the exercise of all of the share warrants is:
Sept. Cash in bank (4M ÷ 4,000 x 2 x 2,080) 4,160,000
21, Share premium – warrants outstanding 201,051
20x1 Share capital (4M ÷ 4,000 x 2 x 2,000) 4,000,000
38. B (See entries above)
39. D
Solution:
Jan. Loan payable 4,000,000
20x1 Accumulated depreciation 8,800,000
Discount on loan payable 80,000
Equipment 12,000,000
Gain on extinguishment of debt 1,080,000
(squeeze)
40. A
Solution:
Carrying amount of liability (4M – 80,000 + 360,000) ₱4,280,000
Fair value of securities issued (10,000 x ₱480) ( 4,800,000)
Loss on extinguishment of debt (₱ 520,000)
41. C
Solution:
The fair value of the financial liability extinguished is computed as
follows:
Principal 4,000,000 0.793832 3,175,328
Interest 480,000 2.577097 1,237,007
Fair value of financial liability extinguished 4,412,335
Carrying amount of liability (4M – 80,000 + 360,000) ₱4,280,000

Fair value of financial liability extinguished (4,412,335)
51
Loss on extinguishment of debt (₱ 132,335)
42. B
Solution:
Old terms New terms
Principal 20,000,000 16,000,000
Accrued interest 2,400,000 -
Remaining term ('n') 3 years
Nominal rate 12% 10%
Direct costs of modification 0
The present value of the future cash flows of the modified liability is
Principal 16,000,000 0.711780 11,388,480
Interest 1,600,000 2.401831 3,842,930
Present value of the modified liability 15,231,410
The difference between the old liability and the new liability is tested
for substantiality.
(20M principal + 2,400,000 accrued interest) 22,400,000
Present value of modified liability 15,231,410
Difference 7,168,590
32%
The entry is:

Dec. Loan payable – old 20,000,000
31,
Interest payable 2,400,000
20x1
Discount on loan payable – new 768,588
Loan payable – new 16,000,000
43. C
Solution:
Old terms New terms
Principal 20,000,000 16,000,000
Accrued interest - -
52
Direct costs of modification 200,000
Principal 16,000,000 0.711780 11,388,480
Interest 1,600,000 2.401831 3,842,930
The difference between the old and new liabilities is tested for
substantiality.
Carrying amount of old liability 20,000,000
23.84%
The entry is:

31, Discount on loan payable – new 768,588
20x1 Loan payable – new 16,000,000
44. D
Solution:
Old terms New terms
Principal 20,000,000 20,000,000
Accrued interest 600,000 -
Direct costs of modification 200,000
Principal 20,000,000 0.711780 14,235,600
Interest 2,000,000 2.401831 4,803,662
53
The difference between the old and new liabilities is tested for
substantiality.
Carrying amount of old liability (20M + 600,000 accrued int.) 20,600,000
7.58%
The modification is considered not substantial because the

modification did not result to a present value of the new obligation
different by at least 10% of the present value of old obligation (i.e.,
7.58% - below limit of ‘at least 10%’). Therefore, the old liability is not
extinguished and NO GAIN OR LOSS on extinguishment is
recognized.
Exercises
1. Solution:
20x1 Bonds payable (1,000 x 2,000,000
P2,000)
to record issuance of bonds at face amount
20x1 to record interest expense
to record retirement of bonds
2. Solution:
1, Discount on bonds payable 96,073

Jan. 1, 20x1 1,903,927
Dec. 31, 20x1 200,000 228,471 28,471 1,932,398
54
Dec. 31, 20x2 200,000 231,888 31,888 1,964,286
Dec. 31, 20x3 200,000 235,714 35,714 2,000,000


3. Solution:
Interest Interest
Jan. 1, 20x1 2,099,474
Dec. 31, 20x1 240,000 209,947 30,053 2,069,421
Dec. 31, 20x2 240,000 206,942 33,058 2,036,364
Dec. 31, 20x3 240,000 203,636 36,364 2,000,000

31, Premium on bonds payable 30,053

4. Solution:
Jan. 1, Cash on hand (2M – 96,073) 1,903,927
20x1 Bond issue cost 96,073
55
Through “trial and error,” the effective interest rate is 12%.
Interest Interest
Jan. 1, 20x1 1,903,927
Dec. 31, 20x1 200,000 228,471 28,471 1,932,398
Dec. 31, 20x2 200,000 231,888 31,888 1,964,286
Dec. 31, 20x3 200,000 235,714 35,714 2,000,000

31, Bond issue cost 28,471

5. Solution:
Interest Interest Amortizatio Present

Date payments expense n value
Jan. 1, 20x1 1,814,269
Dec. 31, 20x1 200,000 253,998 53,998 1,868,267
Dec. 31, 20x2 200,000 261,557 61,557 1,929,824
Dec. 31, 20x3 200,000 270,175 70,175 1,999,999

56
31, Cash in bank 2,000,000
20x1
6. Solution:
Through “trial and error,” the adjusted effective interest rate is 10%.

Jan. 1, 20x1 2,099,474
Dec. 31, 20x1 240,000 209,947 30,053 2,069,421
Dec. 31, 20x2 240,000 206,942 33,058 2,036,364
Dec. 31, 20x3 240,000 203,636 36,364 2,000,000

7. Solution:
Interest Interest
Jan. 1, 20x1 1,903,927
Dec. 31, 20x1 200,000 228,471 28,471 1,932,398
Face amount P2,000,000

Carrying amount – Dec. 31, 20x1 ( 1,932,398)
Unamortized discount on bond payable P 67,602
8. Solution:
Erroneous amortization of discount using straight line:
Cash proceeds 1,903,927
57
Face amount of bonds (2,000,000)

Divide by: Life of bonds 3 years
Annual amortization of bonds under straight line method 32,024
Interest expense for 20x1 recognized under straight line method:

Interest paid (P2M x 10%) 200,000
Amortization of discount 32,024
Interest expense under straight line method 232,024
Carrying amount of bonds as of December 31, 20x1 under straight

line method:
Carrying amount – January 1, 20x1 1,903,927
Amortization of discount under straight line 32,024
Carrying amount – December 31, 20x1 1,935,951
Amortization of discount under effective interest method:

Jan. 1, 20x1 1,903,927
Dec. 31, 20x1 200,000 228,471 28,471 1,932,398
Requirement (a): Effect on carrying amount of bonds as of Dec.

31, 20x1
The carrying amount of the bonds as of December 31, 20x1 under the
straight line method is overstated by P3,553 (1,935,951 –
1,932,398).
Requirement (b): Effect on 20x1 profit.

Under the straight line method, interest expense in 20x1 is P232,024
while under the effective interest method, interest expense is
P228,471 - an overstatement of P3,553. Therefore, under the
straight line method, profit for the year is understated by P3,553.
9. Solution:
Cash proceeds (4M x 97%) 3,880,000
Accrued interest sold (4M x 12% x 3/12) ( 120,000)
Carrying amount of the bonds, April 1, 20x1 3,760,000
10. Solution:
Cash proceeds excluding accrued interest (4M x 97%) 3,880,000
58
11. Solution:
Future cash flows PV @ 10%, n=3 PV factors Present value
Principal 2,000,000 PV of P1 0.751315 1,502,630

PV of ordinary
Interest 240,000 annuity of P1 2.486852 596,844
2,099,474
12. Solution:
Jan. 1, 20x1 2,099,474
Apr. 1, 20x1 60,000 52,487 7,513 2,091,961
Issue price pertaining to bonds only P2,091,961

Accrued interest sold (2M x 12% x 3/12) 60,000
Total issue price or cash proceeds P2,151,961
13. Solution:
Present
Future cash flows PV @ 7%, n=6 PV factors value
Principal 2,000,000 PV of P1 0.666342 1,332,684
PV of ordinary
Interest 120,000 annuity of P1 4.766540 571,985
1,904,669
14. Solution:
Date received income Amortization value
Jan. 1, 20x1 1,904,669
July 1, 20x1 120,000 133,327 13,327 1,917,996
Sept. 30, 20x1 60,000 67,130 7,130 1,925,126
Issue price pertaining to bonds only P 1,925,126

Sold accrued interest (2M x 12% x 3/12) 60,000
Total issue price or cash proceeds P 1,985,126
15. Solution:
Sept. Bonds payable – old 16,000,000
30, Loss on extinguishment of bonds 1,580,000
20x1 (squeeze)
– old
59
16. Solution:
Interest Interest
Jan. 1, 20x1 2,151,632
Dec. 31, 20x1 240,000 215,163 24,837 2,126,795
Dec. 31, 20x2 240,000 212,680 27,320 2,099,475
July 1, 20x3 120,000 104,973.7 15,026 2,084,448
Sept. Bonds payable 2,000,000

Cash in bank (2M x 102%) 2,040,000
Gain on extinguishment of 164,448
bonds
17. Solution:
Interest on
Principal outstanding Interest Total
Date payments principal balance payments payments
Dec. 31, 20x1 2,000,000 6,000,000 x 10% 600,000 2,600,000
Dec. 31, 20x2 2,000,000 4,000,000 x 10% 400,000 2,400,000
Dec. 31, 20x3 2,000,000 2,000,000 x 10% 200,000 2,200,000

Jan. 1, 20x1 5,800,610
Dec. 31, 20x1 2,600,000 696,073 1,903,927 3,896,683
Dec. 31, 20x2 2,400,000 467,602 1,932,398 1,964,285
Dec. 31, 20x3 2,200,000 235,714 1,964,286 (1)

(squeeze)
60
(squeeze)
(squeeze)
18. Solution:
Jan. 1, Cash in bank 6,211,452
20x1 (6M x 105% – 88,548)
(6M x 105%) – 6M – 88,548
Interest on
outstanding
Dec. 31, 20x1 2,000,000 6,000,000 x 10% 600,000 2,600,000
Dec. 31, 20x2 2,000,000 4,000,000 x 10% 400,000 2,400,000
Dec. 31, 20x3 2,000,000 2,000,000 x 10% 200,000 2,200,000
Through “trial and error,” the effective interest rate is 8%.

Jan. 1, 20x1 6,211,452
Dec. 31, 20x1 2,600,000 496,916 2,103,084 4,108,368
Dec. 31, 20x2 2,400,000 328,669 2,071,331 2,037,038
Dec. 31, 20x3 2,200,000 162,963 2,037,037 1

20x1 (squeeze)
20x2 (squeeze)
61
20x3 (squeeze) 2,000,000
Bonds payable
19. Solution:
Interest on
outstanding
Dec. 31, 20x1 2,000,000 6M x 10% 600,000 2,600,000
Dec. 31, 20x2 2,000,000 4M x 10% 400,000 2,400,000
Dec. 31, 20x3 2,000,000 2M x 10% 200,000 2,200,000
Total PV of P1 PVF Total

payments payments
2,600,000 PV of P1 @ 12%, n=1 0.892857 2,321,428
2,400,000 PV of P1 @ 12%, n=2 0.797194 1,913,266
2,200,000 PV of P1 @ 12%, n=3 0.711780 1,565,916
5,800,610
20. Solution:
Interest Interest Discount Principal Present
Date payments expense amortization payments value
Jan. 1, 20x1 5,800,610
Sept. 30, 20x1 450,000 522,055 72,055 1,500,000 4,372,665
Issue price pertaining to bonds only P 4,372,665

Accrued interest sold (3,000,000 x 10% x 9/12) 450,000
Total cash proceeds P 4,822,665
21. Solution:
Face amount P6,000,000
FV of an ordinary annuity of P1 @10%, n=3 1.331
Maturity value of the bonds P7,986,000
The issue price is computed as follows:

Future cash flows P7,986,000
PV of P1 @18%, n=3 0.6086309
Present value of bonds (issue price) P4,860,526
PV of
Interest Interest PV of
Date cash Amortization
expense payable bonds
flows
Jan. 1, 20x1 4,860,526 4,860,526

Dec. 31, 20x1 874,895 5,735,421 600,000 274,895 5,135,421
62
Dec. 31, 20x2 1,032,376 6,767,796 660,000 372,376 5,507,796
Dec. 31, 20x3 1,218,203 7,986,000 726,000 492,203 6,000,000

Interest payable 600,000
Dec. 31, Interest expense 1,032,376
Dec. 31, Interest expense 1,218,203
Dec. 31, Bonds payable 6,000,000
20x3 Interest payable 1,986,000
22. Solution:
Jan. Cash on hand (2M x 98% - 27,602) 1,932,398
1, Discount on bonds payable (2M – 67,602
20x1 1,932,398)

Jan. 1, 20x1 1,932,398
Dec. 31, 20x1 200,000 231,888 31,888 1,964,286
Dec. 31, 20x2 200,000 235,714 35,714 2,000,000

Requirement (a):
Jan. 1, Bonds payable 2,000,000
20x3 Loss on redemption of bonds 20,000
(squeeze)
Cash in bank (2M x 101%) 1,020,000
Requirement (b):
63
Dec. 31, Bonds payable 2,000,000
23. Solution:
Requirement (a):
Jan. Cash in bank (1,760,000 – 34,782) 1,725,218
1, Discount on redeemable preference 274,782
20x1 shares
Redeemable preference 2,000,000
shares
Interest Present
Date expense Discount value
Jan. 1, 20x1 274,782 1,725,218
Dec. 31, 20x1 51,757 223,025 1,776,975
Dec. 31, 20x2 53,309 169,716 1,830,284
Dec. 31, 20x3 54,909 114,808 1,885,192
Dec. 31, 20x4 56,556 58,252 1,941,748
Dec. 31, 20x5 58,252 (0) 2,000,000

31,
20x1
Discount on redeemable 51,757
preference shares
Mar. Interest expense (6% x P2M) 120,000
31,
20x2
31,
20x2
preference shares
31,
20x3
preference shares
31,
20x4
preference shares
31,
20x5
preference shares
Requirement (b):
Dec. Redeemable preference shares 2,000,000
64
31, Loss on redemption of preference 100,000
20x5 shares
Cash in bank (P2M + 100,000) 2,100,000
Requirement (c):
Dec. Redeemable preference shares 2,000,000
31,
Loss on redemption of pref. shares 514,808
20x3
(squeeze)
Discount of redeemable 114,808
preference shares
Cash in bank (P2M + 400,000) 2,400,000
24. Solution:
Issue price P2,000,000
feature (2M x 98%) ( 1,960,000)
Equity component P 40,000
Allocation of
Allocated amounts transaction
Component from issue price Fraction cost
Debt component 1,960,000 1,960/2,000 98,000
Equity component 40,000 40/2,000 2,000
2,000,000 2,000/2,000 100,000
Debt Equity
component component Totals
Allocation of issue price 1,960,000 40,000 2,000,000
Allocation of transaction cost (98,000) (2,000) (100,000)
Net carrying amounts 1,862,000 38,000 1,900,000

20x1 (2M – 1,960,000)
Share premium – conversion 40,000
feature
to record issuance of convertible bonds
Jan. Bond issue costs 98,000
1, Share premium – conversion feature 2,000
to record transaction costs
25. Solution:
65
Principal 2,000,000 0.711780 1,423,560
Interest 200,000 2.401831 480,366
feature 1,903,926
Issue price (2M x 105%) P2,100,000

Fair value of debt instrument without conversion feature ( 1,903,926)
The entry to record the issuance is:

1, Discount on bonds payable (2M – 96,074
20x1 1,903,926)
feature

Jan. 1, 20x1 1,903,926
Dec. 31, 20x1 200,000 228,471 28,471 1,932,397
Dec. 31, 20x2 200,000 231,888 31,888 1,964,285
Dec. 31, 20x3 200,000 235,714 35,714 1,999,999

31, Share premium – conversion feature 196,074
(2M – 1,964,285)
Share capital [(P2M ÷ P1,000) x 8 1,600,000
shares x P100 par value)]
20x2
26. Solutions:
Requirement (a):
66
Present
Future cash flows PV factors @10%, n=3 value
Principal 2,000,000 0.751315 1,502,630
Interest 240,000 2.486852 596,844
feature 2,099,474
Issue price (2M x 110%) P2,200,000


(2,099,474 – 2M)
feature

Jan. 1, 20x1 2,099,474
Dec. 31, 20x1 240,000 209,947 30,053 2,069,421
Dec. 31, 20x2 240,000 206,942 33,058 2,036,364
Dec. 31, 20x3 240,000 203,636 36,364 2,000,000

31,
20x1
31,
20x2
31, Premium on bonds payable [(2,036,364 – 18,182
20x2
2M) x ½]
(100,526 x ½)
Share capital 800,000
[(P2M ÷ 1,000) x 8 shares x P100 par value)] x ½
31,
Cash in bank 20,000
20x2
Requirement (b):
Credit to share capital P800,000
67
Debit to “share premium – conversion feature” ( 50,263)
Debit to “share premium” for the stock issuance costs ( 20,000)
Net increase in equity as a result of the conversion P998,182
Requirement (c):
Debit to “share premium” for the stock issuance costs ( 20,000)
Net increase in share premium general account P248,445
27. Solution:
follows:
Issue price (2M x 110%) P2,200,000

Jan. 1, 20x1 2,099,474
Dec. 31, 20x1 240,000 209,947 30,053 2,069,421
July 1, 20x2 120,000 103,471 16,529 2,052,892

(2,099,474 – 2M)
feature
July Bonds payable 2,000,000
20x2 (2,052,892 – 2M)
Share capital (8,000 x P200) 1,600,000
Cash in bank 40,000
28. Solution:
68

Principal 2,000,000 0.711780 1,423,560
Interest 200,000 2.401831 480,366
feature 1,903,926

20x1 (2M – 1,903,926)
feature

Jan. 1, 20x1 1,903,926
Dec. 31, 20x1 200,000 228,471 28,471 1,932,397
Dec. 31, 20x2 200,000 231,888 31,888 1,964,285
Dec. 31, 20x3 200,000 235,714 35,714 1,999,999

Total retirement price P2,000,000

Fair value of bonds without conversion feature
– Dec. 31, 20x2 (1,981,982)
Equity component – debit to “share premium
– conversion feature” P 18,018
Present
Principal 2,000,000 0.900901 1,802,802
Interest 200,000 0.900901 180,180
Fair value of bonds without conversion feature -
12/31/20x2 1,981,982

31, Loss on extinguishment of bonds 17,697
69
20x2 (squeeze)
(2M – 1,964,285)
to record retirement of convertible bonds
20x2 to record allocation of retirement price to equity
component
31, (296,074 –18,018)
to record forfeiture of conversion feature of
retired convertible bonds
29. Solution:
PV factors @12%, Present

Future cash flows n=3 value
Principal 2,000,000 0.711780 1,423,560
Interest 200,000 2.401831 480,366
feature 1,903,926

Jan. 1, 20x1 1,903,926
Dec. 31, 20x1 200,000 228,471 28,471 1,932,397
Dec. 31, 20x2 200,000 231,888 31,888 1,964,285
Dec. 31, 20x3 200,000 235,714 35,714 1,999,999

20x1 (2M – 1,903,926)
feature
20x2
70
Present
Principal 2,000,000 0.900901 1,802,802
Interest 200,000 0.900901 180,180
Fair value of bonds without conversion feature -
12/31/20x2 1,981,982
Total retirement price P1,000,000

(1,981,982 x ½) ( 990,991)
Equity component – debit to “share premium – conversion
feature” P 9,009

31,
20x2
Loss on extinguishment of bonds 8,849
[(2M – 1,964,285) x ½ ] 990,991
Cash in bank
to record the retirement of the debt
component
31, (296,074 x ½)
20x2
Cash in bank 9,009
to transfer within equity the amount allocated
to the equity component of the compound
instrument
30. Solution:
Requirement (a):
Issue price (2,000 x P1,000 x 97%) P1,940,000
Fair value of debt instrument ex-warrants
(2,000 x P1,000 x 95%) ( 1,900,000)

20x1 (2M – 1.9M)
Share premium – warrants 40,000
outstanding
71
Sept. Cash in bank (2,000 x 10 x ½ x P120) 1,200,000
21, Share premium – warrants outstanding
20x1
20,000
(40K x ½)
Share capital (2,000 x 10 x ½ x P100) 1,000,000
Requirement (b):
Sept. Share premium – warrants 20,000
21,
20x1
outstanding (40K x ½) 20,000
Share premium
31. Solution:
follows:
Fair value of debt instrument without the warrants ( 2,099,474)

Principal 2,000,000 0.751315 1,502,630
Interest 240,000 2.486852 596,844
Fair value of bonds without share warrants* 2,099,474
The entry to record the issuance of the bonds is:

Share premium – warrants 100,526
outstanding
The entry to record the exercise of all of the share warrants is:
Sept. Cash in bank (P2M ÷ P1,000 x 2 x P520) 2,080,000
21, Share premium – warrants 100,526
20x1 outstanding
Share capital 2,000,000
(P1M ÷ P1,000 x 2 x P500)
32. Solution:
20x1 Accumulated depreciation 4,400,000
Equipment 6,000,000
72
Gain on extinguishment of debt 540,000
(squeeze)
33. Solution:
20x1 Loss on extinguishment of debt 260,000
(squeeze)
Share capital (10,000 x P200) 2,000,000
Share premium [(P240 – P200) x 400,000
10,000]
34. Solution:
Principal 2,000,000 0.793832 1,587,664
Interest 240,000 2.577097 618,503
Fair value of financial liability extinguished 2,206,167

20x1 Loss on extinguishment of debt 66,167
(squeeze)
Share capital (10,000 x P200) 2,000,000
Share premium (2,206,168 – 2M) 206,167
35. Solution:
Principal 8,000,000 0.711780 5,694,240
Interest 800,000 2.401831 1,921,465

(10M principal + 1,200,000 accrued interest) 11,200,000
Divide by: Present value of modified liability 7,615,705
47%
73
31, Interest payable 1,200,000
20x1 Discount on loan payable – new 384,295
(8M – 7,615,705)
Gain on extinguishment of 3,584,295
debt
36. Solution:
Principal 8,000,000 0.711780 5,694,240
Interest 800,000 2.401831 1,921,465
Carrying amount of old liability 10,000,000

Divide by: Present value of modified liability 7,615,705
31%

31, Discount on loan payable – new 384,295
20x1 (8M – 7,615,705)
Gain on extinguishment of 2,284,295
debt
37. Solution:
Principal 10,000,000 0.711780 7,117,800
Interest 1,000,000 2.401831 2,401,831
Carrying amount of old liability (10M + 300K accrued interest) 10,300,000

Difference 780,369
74
Difference 780,369
7.58%
Dec. 31, Interest payable 300,000

Premium on loan payable 200,000
75
Chapter 25 – Provisions, Contingent Liabilities and
Contingent Assets
1. D
2. D
3. C
4. D
5. B

1. C 6. A
2. A 7. A
3. D 8. D
4. D 9. A
5. B
Solutions:
1. C
Solution:
Liability for stamp redemptions
6,000,000 1/1/x6
Total redemption
Cost of redemptions (stamps cost of stamps
sold prior to 1/1/x6) 2,750,000 2,250,000 sold in 20x6
Cost estimate of stamps not
to be redeemed
(20% x 2,250,000) 450,000
12/31/x6 5,050,000
2. A ₱200,000 – the reasonable estimate as at year-end. The actual

settlement amount of ₱275,000 is disregarded because the
settlement occurred after the financial statements have been
issued.
3. D 500,000 – the estimated amount.
4. D
Solution:
Warranty liability
Actual warranty 2,250 9,000 Warranty expense - 20x7
76
costs - 20x7 (150K x 6%)
Actual warranty Warranty expense - 20x8
costs - 20x8 7,500 15,000 (250K x 6%)
end. 14,250
5. B
Solution:
Liability for unredeemed coupon
Amt. disbursed 40,000 48,000 Issued on 7/1/x4 (120,000 x 40%)
end. 8,000
The coupons issued on 1/1/x4 and the related disbursements are

ignored because these items have already expired during the year.
Thus, they do not affect the year-end liability.
6. A
Solution:
Liability for unredeemed coupon
Actual cost of
toys given out - 3,960 Premium expense *
3,960
The premium expense is computed as follows:

No. of packages sold 110,000
Multiply by: Estimate of redemption 60%
Total 66,000
Divide by: No. of coupons for each toy offering 5
Estimated no. of toys to be given out 13,200
Multiply by: Net cost per toy (.80 - .50) 0.30
Premium expense 3,960
7. A A contingent gain that is probable is disclosed only.
8. D The event is still considered a contingent gain with only a range

of estimated amounts as at December 31, 20x0 because the
actual award occurred on March 20x1, after the financial
statements has been issued on February 20x1.
9. A
Solution:
Litigation award 45,000
Less: Amount appealed (no estimate of outcome) (30,000)
Total 15,000
Litigation award 50,000
77
Less: Amount appealed (no estimate of outcome) (50,000)
Total -
Gain 15,000

1. B 6. C 11. B 16. A 21 D
2. A 7. D 12. A 17. A 22 B
3. B 8. A 13. A 18. A 23 A
4. A 9. B 14. A 19. D 24 E
5. C 10. D 15. B 20. B 25 D
Solution:
Best estimate
1. B 80,000,000 – the best estimate
2. A (80M x 5%) + (60M x 20%) + (40M x 35%) + (20M x 40%) =

38M
3. B (400M + 40M) ÷ 2 = 220M
4. A
Solution:
The amount of the provision is estimated as follows:
Minor repairs (40M x 3% x 10%) 120,000
Major repairs (40M x 2% x 90%) 720,000
Total 840,000
Multiply by: Present value factor (given) 0.95238
Total 800,000
Multiply by: Risk adjustment (100% + 6%) 106%
Total 848,000
Multiply by: Amount to be settled in 20x2 50%
Warranty provision – Dec. 31, 20x1 424,000
5. C
Solution:
At twenty per cent chance: (800K x 20%) 160,000
At eighty per cent chance: (400K x 80%) 320,000
Total 480,000
Multiply by: PV of P1 @10%, n=1 0.90909
Total 436,363
Multiply by: Risk adjustment (100% + 7%) 107%
Total 466,909
78
Multiply by: Probability of settlement (100% - 30%) 70%
Provision for lawsuit – Dec. 31, 20x1 326,836
6. C – same amount but the note disclosure will be modified.
7. D – the obligation is not probable, i.e., only 40% chance
8. A 200M – without deduction for reimbursement of impairment loss
9. B – disclosure only, there is no present obligation as of

December 31, 20x1 because the explosion occurred on January
1, 20x2.
10. D
11. B (3,400,000 actual settlement – 2,800,000 carrying amount of

provision) = (600,000) loss on settlement
12. A (2,400,000 actual settlement – 2,800,000 carrying amount of

provision) = 400,000 gain on settlement
13. A (0 actual settlement – 2,800,000 carrying amount of provision)

= 2,800,000 gain on settlement
14. A [15,000 guaranteed annual purchase x 2 years x (₱100 - ₱20)]

= 2,400,000
15. B (400,000 x 6 yrs.) – 800,000 deposit = 1,600,000
16. A 4,000,000 – termination benefits of employees terminated as a

result of the closure.
17. A (5,000 units sold x ₱400) = 2,000,000
18. A
Solution:
Estimated warranty liability
800,000 Jan. 1, 20x1 (given)
Actual warranty costs 1,240,000 2,000,000 Warranty expense
Dec. 31, 20x1 1,560,000
19. D
Solution:
- Jan. 1, 20x1
79
costs - 20x1 1,600,000 2,400,000 (40M x 6%)
costs - 20x2 2,000,000 2,880,000 (48M x 6%)
Dec. 31, 20x2 1,680,000
20. B
Solution:
The premium expense is computed as follows:
Sales in units 500,000
Multiply by: Estimate of wrappers to be redeemed 40%
Estimated wrappers to be presented for redemption 200,000
Divide by: Required number of wrappers for redemption 10
Estimated number of premiums to be distributed 20,000
Multiply by: Net cost of premium
(₱800 purchase cost less ₱200 cash requirement from customer) 600
Premium expense 12,000,000
21. D
Solution:
Estimated premium liability
- Jan. 1, 20x1
Actual cost of
premiums Premium expense -
distributed - 20x1 20x1 (500,000 x
(60,000 x ₱400) 24,000,000 32,000,000 80% ÷ 5 x ₱400 )
Actual cost of
(147,600 x ₱400) 59,040,000 57,600,000 80% ÷ 5 x ₱400 )
Dec. 31, 20x2 6,560,000
22. B (4,000,000 x 40%) = 1,600,000 cash sales x 10% = 160,000
23. A 4,000,000
24. E – the contingent asset is not recognized.
25. D – since the contingent asset is virtually certain, it is not a

contingent asset anymore. Therefore, recognition is appropriate.
Exercises
1. Solution:
Dec. Environmental cleanup costs 40,000,000
31, Estimated liability for 40,000,000
80
20x1 cleanup costs
2. Solution:
Repair cost Probability Expected value
(a) (b) (c) = (a) x (b)
40,000,000 5% 2,000,000
30,000,000 20% 6,000,000
20,000,000 35% 7,000,000
10,000,000 40% 4,000,000
100% 19,000,000
Dec. Repair costs 19,000,000

31,
Estimated liability for repair 19,000,000
20x1
costs
3. Answer: P110M [(20M + 200M) ÷ 2].
4. Solution:
Dec. 31, Loss on fire 100,000,000
20x1 Estimated liability on 100,000,000
casualty
Dec. 31, Insurance claims receivable 40,000,000
20x1 Gain on insurance 40,000,000
5. Solution:
Guaranteed minimum annual purchases 15,000
Multiply by: Remaining years covered by the contract
(20x2 and 20x3) 2
Total goods to be accepted in the future 30,000
Multiply by: Purchase price less salvage value
per unit (P50 – P10) P40
Loss on purchase commitment 1,200,000
Dec. Loss on purchase commitment 1,200,000

31, Estimated liability on purchase 1,200,000
20x1 commitment
6. Solution:
Rentals for the remaining lease term (200,000 x 6) P1,200,000
Deposit applied to last two years of lease ( 400,000)
Estimated liability on lease cancellation P 800,000
Dec. Probable loss on lease cancellation 1,200,000

31, Estimated liability for probable loss 800,000
81
20x1 on lease
Deferred charges – prepaid rent 400,000
7. Solution:
Dec. Employee benefits 2,000,000
31,
20x1
Estimated liability for 2,000,000
restructuring costs
8. Solutions:
Requirement (a):
Total units sold in 20x1 5,000
Estimated warranty cost per unit P200
Warranty expense – 20x1 P1,000,000
Requirement (b):
400,000 Jan. 1, 20x1 (given)
Warranty expense
Actual warranty costs 620,000 1,000,000 (5,000 x P200)
Dec. 31, 20x1 780,000
9. Solution:
- Jan. 1, 20x1
costs - 20x1 800,000 1,200,000 (20M x 6%)
costs - 20x2 1,000,000 1,440,000 (24M x 6%)
Dec. 31, 20x2 840,000
10. Solution:
Sales in units 1,000,000
Multiply by wrappers estimated to be presented
for redemption 40%
Estimated wrappers to be presented for redemption 400,000
Divide by: Required number of wrappers for redemption 10
Estimated number of premiums to be distributed 40,000
Multiply by: Net cost of premium (P200 purchase
cost less P50 cash requirement from customer) P150
Premium expense P6,000,000
11. Solution:
82
Estimated premium liability
- Jan. 1, 20x1
Actual cost of
(60,000 x P200) 12,000,000 16,000,000 80% ÷ 5 x P200 )
Actual cost of
(147,600 x P200) 29,520,000 28,800,000 80% ÷ 5 x P200 )
Dec. 31, 20x2 3,280,000
12. Solution:
20x1 Cash on hand (2M x 40%) 800,000
Accounts receivable (2M x 60%) 1,200,000
Sales 2,000,000
to record sales
20x1 Sales returns (2M x 10%) 200,000
Allowance for sales returns 120,000
(2M x 10% x 60%)
Estimated liability for refunds to 80,000
customers
(2M x 10% x 40%)
to record estimated sales returns
13. Solution:
Dec. 31, Probable loss on guarantee 2,000,000
20x1
Estimated liability for guarantee 2,000,000
14. Answer: None.
15. Solution:
Dec. 31, Claims receivable (200M x 80%) 160,000,000
20x1 160,000,000
Gain on settlement of insurance
83
Chapter 26 – Employee benefits (Part 1)
1. D 6. B 11. C 16. A
2. C 7. B 12. A 17. B
3. D 8. A 13. D 18. E
4. D 9. B 14. A 19. D
5. A 10. A 15. C 20. A

Solutions:
1. C
Solution:
Liability for accumulated vacations at 12/31/X5 35,000
Pre-20X6 accrued vacations taken from 1/1/X6 to 9/30/X6 (20,000)
Liability to be carried over to the next period 15,000
Multiply by: Increase in salary level in Oct. 20x6 10%
Additional liability due to the increase in salary level 1,500
Vacations earned in 20X6 (adjusted to current rates) 30,000
Vacation pay expense in 20x6 31,500
2. B Ryan: (800 x 2) = 1,600. None is accrued for Todd because his

vacation rights neither vest nor accumulate.
3. C
Solution:
Excess of
Sales Commission (Net Advances commission
person sales x %) (Fixed salary) over advances
A (200K x 4%) = 8,000 10,000 -
B (400K x 6%) = 24,000 14,000 10,000
C (600K x 6%) = 36,000 18,000 18,000
Commission payable 28,000
4. C
Solution:
Sick leaves taken (6 employees x 3 days x ₱100) 1,800
Vacation days earned during the yr.
(6 employees x 10 days x ₱100) 6,000
Total compensated absences expense 7,800
84
5. D
Solution:
Vacation days available at year-end 150
Multiply by: Average salary per day 100
Adjusted liability for compensated absences 15,000
No liability is recognized for the non-vesting (non-monetized) sick

days. These are expensed when actually taken.

1. D 6. B 11. A
2. B 7. D
3. A 8. B
4. C 9. C
5. C 10. A
Solutions:
1. D
Solution:
Working days after last salary payment (Dec. 29, 30, and 31)* 3
Multiply by: Number of employees 100
Multiply by: Average pay per day 4,000
Accrued salaries – December 31, 20x1 1,200,000
*December 27 and 28 fall on weekend
2. B
Solution:
Total sick leave entitlement of employees in 20x2
(100 employees x 5 days each) 500
Sick leave expected to be taken in 20x2
(92 employees x 5 days each) (460)
Sick leave expected to be taken by the remaining 8
employees in 20x2 (8 x 6½ days each) (52)
Excess sick leave carried over from 20x1 (12)
12 x ₱4,000 = 48,000
3. A
Solution:
Total vacation leaves entitlement of employees in 20x1
6,000
(500 employees x 12 days each)
85
Vacation leaves taken in 20x1 (5,400)
Unused vacation leave carried over indefinitely 600
Multiply by: Expected pay rate in 20x2 (₱4,000 x 105%*) 4,200
Liability for unused vacation leaves 2,520,000
*100% + Average annual pay increase is 5%.
4. C
Solution:
(500 x 12) 6,000
Vacation leaves taken in 20x1 (5,400)
Unused vacation leave carried over 600
Multiply by: 90%
Estimated vacation leaves to be taken in 20x2 540
Multiply by: Pay rate in 20x2 (₱4,000 x 105%) 4,200
5. C
Solution:
B = P x Br
B = 4,000,000 x 10%
B = 400,000
6. B
Solution:
P
B = P -
1 + Br
4,000,000
B = 4,000,000 -
1 + 10%
B = 4,000,000 - 3,636,364
B = 363,636
7. D
Solution:
1 - Tr
B = P x
1/Br - Tr
1 - 30%
B = 4,000,000 x
1/10% - 30%
70%
B = 4,000,000 x
10 - 30%
70%
B = 4,000,000 x
9.7
B = 288,660
86
8. B
Solution:
1 – Tr
B = P X
1/Br - Tr + 1
70%
B = 4,000,000 x
10 - 30% + 1
70%
B = 4,000,000 x
10.7
B = 261,682
9. C
Solution:
Squeeze
upwards
Profit before bonus and before tax 4,000,000
Bonus before tax but after bonus
(3,636,366 x 10%) (363,636)
Profit before tax but after bonus
(2,545,456 ÷ 70%) 3,636,366
Income tax (2,545,456 ÷ 70%) x 30% (1,090,909)
Profit after tax and after bonus 2,545,456 Start
10. A
11. A
Exercises
1. Solution:
Working days after last salary payment
(December 29, 30, and 31)* 3
Multiply by: Number of employees 100
Multiply by: Average pay per day P2,000
Accrued salaries – December 31, 20x1 P600,000
*December 27 and 28 fall on weekend
2. Solution:
Total sick leave entitlement of employees in 20x2
(100 employees x 5 days each) 500
Sick leave expected to be taken in 20x2
(92 employees x 5 days each) (460)
Sick leave expected to be taken by the remaining
8 employees in 20x2 (8 x 6½ days each) ( 52)
Excess sick leave carried over from 20x1 ( 12)
87
Accrued salaries – Dec. 31, 20x1 = (12 days x P2,000) = 24,000
3. Solutions:
Case #1:
Total vacation leaves entitlement of employees
in 20x1 (500 x 12) 6,000
Vacation leaves taken in 20x1 ( 5,400)
Multiply by: Pay rate in 20x2 (P2,000 x 105%*) 2,100
*100% + Average annual pay increase is 5%.
Case #2:
(500 x 12) 6,000
Vacation leaves taken in 20x1 ( 5,400)
Multiply by: 90%
Estimated vacation leaves to be taken in 20x2 540
Multiply by: Pay rate in 20x2 (P2,000 x 105%) 2,100
4. Solutions:
Requirement (a):
B = P x Br
B = 2,000,000 x 10%
B = 200,000
Requirement (b):
P
B = P -
1 + Br
2,000,000
B = 2,000,000 -
1 + 10%
B = 2,000,000 - 1,818,181
B = 181,818
Requirement (c):
1 - Tr
B = P x
1/Br - Tr
1 - 30%
B = 2,000,000 x
1/10% - 30%
70%
B = 2,000,000 x
10 - 30%
88
70%
B = 2,000,000 x
9.7
B = 144,330
Requirement (d):
1 - Tr
B = P X
1/Br - Tr + 1
70%
B = 2,000,000 x
10 - 30% + 1
70%
B = 2,000,000 x
10.7
B = 130,841
5. Solution:
Profit after tax and after bonus P1,272,728
Divide by: (1 – tax rate) 70%
Profit before tax and after bonus 1,818,183
Bonus rate 10%
Bonus after bonus and before tax P 181,818
6. Solutions:
Requirement (a):
Dec. Retirement benefits expense 400,000
20x1 Accrued retirement contributions
payable 240,000
31, Accrued retirement contributions 240,000
20x2 payable
Prepaid retirement contributions 260,000
Jan. No entry
12,
20x3
Requirement (b):
31, Accrued retirement benefits 400,000
20x1 payable
to recognize retirement benefits
expense
Dec. Retirement fund 160,000
20x1 to record contributions to the fund
89
maintained internally
20x2 payable
expense
Dec. Retirement fund 900,000
20x2 to record contributions to the fund
maintained internally
Jan. Accrued retirement benefits payable 30,000
12, Retirement fund 30,000
20x3 to record payment of retirement
benefits of retiring employee
Requirement (c):
20x1 payable
expense
20x2 payable
expense
Jan. Accrued retirement benefits payable 30,000
20x3 to record payment of retirement
benefits of retiring employee
Chapter 27 – Employee benefits (Part 2)

1. B 6. D 11. A 16. C
2. B 7. D 12. A 17. D
3. A 8. D 13. A 18. D
4. B 9. D 14. D 19. C
5. A 10. D 15. D 20. C
90
1. D 11. A 21. A 31. A 41. C
2. A 12. C 22. A 32. A 42. B
3. C 13. D 23. A 33. A 43. C
4. D 14. C 24. C 34. B 44. C
5. B 15. B 25. A 35. A 45. D
6. A 16. C 26. D 36. C
7. A 17. B 27. C 37. D
8. C 18. C 28. A 38. C
9. C 19. A 29. A 39. B
10. D 20. C 30. D 40. A
Solutions:
1. D
Solution: PV of defined benefit obligation
480,000 Jan. 1
Benefits paid 200,000 120,000 Current service cost
Actuarial gain - decrease 48,000 Interest cost (480K x 10%)
in PV of DBO 40,000
Dec. 31 408,000
2. A
Solution:
PV of defined benefit obligation
480,000 Jan. 1
Benefits paid 200,000 120,000 Current service cost (squeeze)
48,000 Interest cost (480,000 x 10%)
40,000 Actuarial loss - increase in PV of PBO
Dec. 31 488,000
3. C
Solution:
Final salary level (12M x 103% x 103% x 103% x 103%) 13,506,106
Multiply by: Percentage of benefit per year 6%
Benefit per year of service 810,366
Multiply by: No. of service years 5
Lump sum retirement benefit 4,051,832
4. D (13,506,106 x 6%) = 810,366 benefit entitlement per year;

(810,366 x PV of 1 @10%, n=3) = 608,840 current service cost in
20x2 *(n=3 is from December 31, 20x2 to December 31, 20x5)
91
5. B
Solution:
(13,506,106 x 6%) = 810,366 benefit entitlement per year;
(810,366 x PV of 1 @10%, n=3) = 553,491 current service cost in
20x1 *(n=4 is from December 31, 20x1 to December 31, 20x5)
PBO PBO
- 1/1/x1 553,491 1/1/x2
Bene- Current Bene- Current
fits service fits service
paid - 553,491 cost paid - 608,840 cost
Interest Interest
- cost 55,349 cost
12/31/x1 553,491 12/31/x2 1,217,680
6. A – the annual benefit entitlement per year.
7. A (40,000 x 0.683013) = 27,321
8. C (40,000 x 3 x 0.826446) = 99,174
9. C 120,000 x 2% x 12 = 28,800
10. D
11. A (4M ÷ 10 years) = 400,000
12. C (8M ÷ 20 years) = 400,000
13. D
14. C (8M ÷ 10 years) = 800,000
15. B
16. C
Solution:
Fair value of plan assets
Jan. 1 480,000
Return on plan assets (10% x 480K) 48,000 200,000 Benefits paid
Contributions to the fund 800,000
1,128,000 Dec. 31
17. B
Solution:
Fair value of plan assets, Jan. 1 4,000,000
Present value of defined benefit obligation, Jan. 1 4,800,000
92
Net defined benefit liability, Jan. 1 - deficit
(excess of obligation over plan assets) (800,000)
18. C
Solution:
4,800,000 Jan. 1
Benefits paid 200,000 1,200,000 Current service cost
480,000 Interest cost (4.8M x 10%)
Dec. 31 6,280,000

Jan. 1 4,000,000
Return on plan assets 480,000 200,000 Benefits paid
4,400,000 Dec. 31
Fair value of plan assets, Dec. 31 4,400,000

Present value of defined benefit obligation, Dec. 31 6,280,000
Net defined benefit liability, Dec. 31 - deficit
(excess of obligation over plan assets) (1,880,000)
19. A
Solution:
Surplus - Excess of plan assets over obligation 800,000

Asset ceiling - PV of refunds and reductions in future
contributions 1,000,000
Net defined benefit asset - Lower amount 800,000
20. C
Solution:

contributions 600,000
93
21. A (4M – 6M) = 2M
22. A
Solution:
Service cost:
(a) Current service cost 2,400,000
(b) Past service cost (200,000 + 300,000) 2,000,000
(c) (Gain) or loss on settlement 200,000
4,600,000
Net interest on the net defined benefit liability (asset):
(a) Interest income on plan assets (7,200,000 x 10%) (720,000)
(b) Interest cost on the defined benefit obligation (8M x 10%) 800,000
(c) Interest on the effect of the asset ceiling -
80,000
Defined benefit cost recognized in profit or loss 4,680,000
Remeasurements of the net defined benefit liability (asset):

(a) Actuarial (gains) and losses (80,000)
(b) Difference between return on plan assets and interest
income on plan assets (720,000 - 480,000) 240,000
(c) Difference between the change in the effect of the
asset ceiling and interest on the effect of the asset ceiling -
Defined benefit cost recognized in OCI 160,000
Total defined benefit cost 4,840,000
23. A
Solution:
Service cost:
(a) Current service cost 2,400,000
(b) Past service cost -
(c) (Gain) or loss on settlement (160,000)
2,240,000
(b) Interest cost on the defined benefit obligation (6M x 10%) 600,000
(c) Interest on the effect of the asset ceiling -
100,000
Gain on change in the fair value of reimbursement asset (120,000)

(a) Actuarial gains and losses 80,000
(b) Difference between return on plan assets and interest (100,000)
94
income on plan assets b
(c) Difference between the change in the effect of the asset
ceiling and interest on the effect of the asset ceiling -
Defined benefit cost recognized in OCI (20,000)
b
The difference between the return on plan assets and interest
income on plan assets is computed as follows:
Return on plan assets (actual income) – (5M x 12%) 600,000
Interest income on plan assets (expected income) - (5M x 10%) (500,000)
Gain 100,000
24. C
Solution:
Interest income on the beginning balance of FVPA 24,000
(480,000 x 5% x 12/12)
Interest income on the contributions made on July 1, 20x1 20,000
(800,000 x 5% x 6/12)
Reduction in interest income due to the benefits paid out of
(2,500)
the plan assets on Sept. 30, 20x1 (200,000 x 5% x 3/12)
Interest income on plan assets 41,500
25. A
Solution:
Jan. 1 480,000
Return on plan assets (squeeze) 48,000 200,000 Benefits paid
1,128,000 Dec. 31
26. D
Solution:
Return on plan assets 48,000
Interest income on plan assets (41,500)
Gain 6,500
27. C
Solution:
Interest income (actual) 800,000
Unrealized gains from fair value changes (actual) 400,000
Gross return on plan assets 1,200,000
Less: Costs of managing plan assets (80,000)
Taxes (1.2M x 10%) (120,000)
Return on plan assets 1,000,000
95
28. A
Solution:
Jan. 1 4,000,000
Return on plan assets 1,000,000 - Benefits paid
Contributions to the fund -
5,000,000 Dec. 31
29. A
Solution:
Multiply by: 12%
Interest income on plan assets - Profit or loss 480,000

Gain - Other Comprehensive Income 520,000
30. D
Solution:
PV of defined benefit obligation, Jan. 1 4,000,000
Net defined benefit liability, Jan. 1 (deficit) (2,800,000)
There is a deficit as of the beginning of the period. Therefore, there is

no effect of the asset ceiling on the beginning balance of the net
defined benefit liability (asset).
The interest on the effect of the asset ceiling is computed as follows:

Effect of the asset ceiling - Jan. 1 -
Multiply by: Discount rate 10%
Interest on the effect of the asset ceiling -
31. A
Solution:
PV of defined benefit obligation, Dec. 31 3,000,000
Surplus – Dec. 31 1,000,000
Surplus – Dec. 31 1,000,000

Asset ceiling - PV of refunds from the fund 800,000
Net defined benefit asset, Dec. 31 - Lower amount 800,000
96
Surplus – Dec. 31 1,000,000
Effect of the asset ceiling - Dec. 31 200,000

Total change in the effect of the asset ceiling 200,000

Less: Interest on the effect of the asset ceiling -
Remeasurement recognized in OCI 200,000
32. A
Solution:
Surplus - Jan. 1 600,000

Asset ceiling - PV of refunds from the fund, Jan. 1 400,000
Net defined benefit asset, Jan. 1 - Lower amount 400,000

Effect of the asset ceiling - Jan. 1 200,000

Interest on the effect of the asset ceiling 20,000
33. A
Solution:
Surplus - Dec. 31 1,600,000
Surplus - Dec. 31 1,600,000

Net defined benefit asset, Dec. 31 - Lower
amount 800,000
Surplus - Dec. 31 1,600,000
97


Interest on the effect of the asset ceiling (20,000)
34. B
Solution:
Net defined benefit liability - Jan. 1 (deficit) (800,000)
35. A
Solution:
4,800,000 Jan. 1
Benefits paid 1,000,000 1,200,000 Current service cost
120,000 Actuarial losses during the period
Dec. 31 5,600,000

Jan. 1 4,000,000
Return on plan assets 320,000 1,000,000 Benefits paid
4,200,000 Dec. 31
Net defined benefit liability - Dec. 31 (deficit) (1,400,000)
36. C
Solution:
Current service cost 1,200,000
Past service cost -
Net loss on settlement of plan during the year -
a
Net interest on the net defined benefit liability (asset) 80,000
Actuarial (gain) loss 120,000
98
Difference between return and interest income on plan
80,000
asset b
Difference between change and interest on effect of
-
asset ceiling
a
The net interest on the net defined benefit liability (asset) is
Net defined benefit liability, Jan. 1 800,000
Net interest on the net defined benefit liability 80,000
b
The difference between return on plan assets and interest income
on plan assets is computed as follows:
Return on plan assets (actual income) 320,000
Interest income on plan assets (expected income) 400,000
Loss (80,000)
37. D
Solution:

38. C
Solution:
2,200,000 Jan. 1
240,000 Actuarial loss
Dec. 31 3,200,000

Jan. 1 2,800,000
Contributions to the fund 1,820,000
4,800,000 Dec. 31
99
Surplus - Dec. 31 1,600,000
Surplus - Dec. 31 1,600,000

39. B
Solution:
Service cost:
(a) Current service cost 960,000
(b) Past service cost 600,000
(c) (Gain) or loss on settlement -
1,560,000
(b) Interest cost on the defined benefit obligation (2.2M x 10%) 220,000
(c) Interest on the effect of the asset ceiling a 20,000
(40,000)

(a) Actuarial (gains) and losses 240,000
(b) Difference between return on plan assets and interest
(320,000)
income on plan assets (600K actual – 280K expected)
(c) Difference between the change in the effect of the asset
580,000
ceiling and interest on the effect of the asset ceiling b
a
Asset ceiling (PV of refunds from the fund) – Jan. 1 400,000
b
The difference between the change in the effect of the asset ceiling and
interest on the effect of the asset ceiling is computed as follows:
100
Surplus - Dec. 31 1,600,000
Surplus - Dec. 31 1,600,000

Asset ceiling (PV of refunds from the fund) – Dec. 31 800,000
Effect of the asset ceiling - Jan. 1 (see previous solution) 200,000

Change in the effect of asset ceiling – increase 600,000
Change in effect of the asset ceiling 600,000

Interest on the effect of the asset ceiling (see previous solution) (20,000)
40. A – see solution in the preceding problem
41. C
Solution:
8,000,000 Jan. 1
Benefits paid 200,000 1,200,000 Current service cost
Actuarial gain a 640,000 720,000 Interest cost (8M x 9%)
Increase due to plan
1,600,000 amendment
Dec. 31 10,680,000
a
The actuarial gain pertains to the decrease in the obligation due to
changes in actuarial assumptions.

Jan. 1 7,200,000
Return on plan assets b 1,040,000 200,000 Benefits paid
8,040,000 Dec. 31
b
The adjusted return on plan assets is computed as follows:
Realized gains 1,120,000
Unrealized loss due to changes in fair values (80,000)

42. B
101
Solution:
Past service cost (increase in obligation due to the amendment) 1,600,000
Net interest on the net defined benefit liability (asset) c 72,000
Actuarial (gain) loss (640,000)
Difference between return and interest income on plan asset (392,000)
-
asset ceiling
Defined benefit cost recognized in OCI (1,032,000)
c
Fair value of plan assets, Jan. 1, 20x1 7,200,000
Present value of defined benefit obligation, Jan. 1, 20x1 8,000,000
Net defined benefit liability - Jan. 1 (deficit) 800,000
43. C – see solution in preceding problem
44. C
Solution:
Net defined benefit liability
- Jan. 1, 20x3
Contribution - 20x3 40,000 100,000 Defined benefit cost - 20x3
Contribution - 20x4
(squeeze) 200,000 160,000 Defined benefit cost - 20x4
Dec. 31, 20x4
(desired balance) 20,000
45. D
Solution:
Number of employees 20
Termination benefit per employee 160,000
Liability for termination benefits 3,200,000
102
Exercises
1. Solution: PV of defined benefit obligation
240,000 Jan. 1
Actuarial gain - decrease 24,000 Interest cost (240K x 10%)
in PV of DBO 20,000
Dec. 31 204,000
2. Solution:
240,000 Jan. 1
Benefits paid 100,000 60,000 Current service cost (squeeze)
24,000 Interest cost (240,000 x 10%)
20,000 Actuarial loss - increase in PV of PBO

Dec. 31 244,000
3. Solutions:
Requirement (a): Ultimate cost of the defined benefit plan
The future salary level on date of eligibility for retirement is
Current salary level as of January 1, 20x1 P6,000,000
Multiply by: Future value of P1 @ 3%, n= 4* 1.125509
Future salary level P6,753,054
*20x2 through 20x5, excluding 20x1 since salary increase starts in 20x2.
The retirement benefit entitlement of the employee for each year of

service he renders is computed as follows:
Future salary level 6,753,054
Multiply by: Retirement benefit as percentage of final
6%
salary
Retirement benefit entitlement for each year of
service 405,183
The total lump sum benefit to be received by the employee on

retirement date is computed as follows:
Retirement benefit entitlement for each year of service 405,183
Multiply by: Number of service years 5
Total lump sum retirement benefit 2,025,915
103
Requirement (b): Current service cost
The current service cost is simply the present value of the
retirement benefit entitlement for each year of service. The
current services costs are computed as follows:
Retirement Present
value of P1
benefit @ 10%, "n =
entitlement per 4, 3, 2, 1, 0" Current
Date year of service service cost
a b c=axb
Jan. 1, 20x1
Dec. 31, 20x1 405,183 0.683013 276,745
Dec. 31, 20x2 405,183 0.751315 304,420
Dec. 31, 20x3 405,183 0.826446 334,862
Dec. 31, 20x4 405,183 0.909091 368,348
Dec. 31, 20x5 405,183 1 405,183
2,025,915
Requirement (c): Present value of defined benefit obligation

An amortization table is prepared in order to determine the following:
(a) current service cost, (b) interest cost, and (c) year-end balances of
projected benefit obligation.
Undis-
counted
retire- Accumu-
ment lated
benefit undis- Present
entitle- counted value of PV of
ment retirement P1 @ defined
per year benefit 10%, "n Current Inte- benefit
of entitle- = 4, 3, 2, service rest obliga-
Date service ment 1, 0" cost cost tion
b= e = f,
cumulative beg.
balance of bal. x
a (a) c d=axc 10% f=bxc
1/1/x1 - - - - - -
12/31/x1 405,183 405,183 0.683013 276,745 - 276,745
12/31/x2 405,183 810,366 0.751315 304,420 27,675 608,840
12/31/x3 405,183 1,215,549 0.826446 334,862 60,884 1,004,586
12/31/x4 405,183 1,620,732 0.909091 368,348 100,459 1,473,393
12/31/x5 405,183 2,025,915 1 405,183 147,339 2,025,915
The present value of the benefit obligation (PV of DBO) is disclosed

as follows:
104
20x1 20x2 20x3 20x4 20x5
PV of DBO, beg. - 276,745 608,840 1,004,586 1,473,393
Current service
276,745 304,420 334,862 368,348 405,183
cost
Interest cost - 27,675 60,884 100,459 147,339
Benefits paid ( - ) ( - ) ( - ) ( - ) ( - )
PV of DBO, end. 276,745 608,840 1,004,586 1,473,392 2,025,915
The ending balances of PBO may also be computed using T-

accounts as shown below:
PBO PBO
- 1/1/x1 276,745 1/1/x2
Bene- Current Bene
fits service -fits Current
paid - 276,745 cost paid - 304,420 service cost
Interest
- cost 27,675 Interest cost
12/31 12/31
/x1 276,745 /x2 608,840
PBO PBO
608,840 1/1/x3 1,004,586 1/1/x4
Ben Curren
e- t Bene Current
fits service -fits service
paid - 334,862 cost paid - 368,348 cost
Interes Interest
60,884 t cost 100,459 cost
12/3 12/31
1/x3 1,004,586 /x4 1,473,392
PBO
1,473,392 1/1/x5
Benefits Current
paid - 405,183 service cost
147,339 Interest cost
12/31/x5 2,025,915
PBO
2,025,915 12/31/x5
105
Benefits paid 2,025,915 - Current service cost
- Interest cost
12/31/x6 -
4. Solutions:
Case #1: Answer: 20,000 – amount determined using the plan’s
formula.
Case #2: Answer: 13,660.26 (20,000 x 0.683013)
Case #3: Answer: 49,586.76 [(20,000 x 3 years) x 0.826446]
5. Answer: 14,400 (60,000 per month x 2% x 12 months in a year) –

amount determined using the plan’s formula.
6. Answer: None – No benefit is attributed before the age of 25

because service before that does not lead to benefits (conditional
or unconditional). There is no obligating event. A benefit of
P20,000 shall be attributed from age 25 and subsequent years.
7. Answer: 200,000 (2M ÷ 10 years).
8. Answers:
Answer: Case #1
The attribution period is during the years where Mr. Juan is aged 35
to 55 – the period where Mr. Juan reaches the retirement age of 55
and renders 20 years of service. A benefit of P200,000 (4M ÷ 20
years) is attributed in each of those years.
No benefit is attributed to the periods before Mr. Juan reaches age 35

and after he reaches age 55. Mr. Juan’s retirement benefits do not
accrue until he reaches the age of 35.
Answer: Case #2
The attribution period is during the years where Ms. Jane is aged 45
to 65 – the period where Ms. Jane gets past the retirement age of 55
and renders 20 years of service. A benefit of P200,000 (4M ÷ 20
In this case, Ms. Jane’s retirement benefits starts to accrue

immediately in the year of employment.
Similar case shall apply to other employees employed between the

ages of 35 to 45.
106
Answer: Case #3
The attribution period is during the years where Mr. Lakay is aged 55
to 65. This is because service beyond the age of 65 does not lead to
material amount of further benefits. A benefit of P400,000 (4M ÷ 10
9. Solution:
Jan. 1 240,000
Return on plan assets
(10% x 240,000) 24,000 100,000 Benefits paid

564,000 Dec. 31
10. Solutions:
Requirement (a): Net defined benefit liability (asset) – Jan. 1
Net defined benefit liability, Jan. 1 - deficit
Requirement (b): Net defined benefit liability (asset) – Dec. 31

2,400,000 Jan. 1
Dec. 31 3,140,000

Jan. 1 2,000,000
2,200,000 Dec. 31

Net defined benefit liability, Dec. 31 - deficit
11. Solutions:
107
Case #1:

500,000
contributions
Case #2:

300,000
contributions
12. Solution:
PV of defined benefit obligation, before amendment P 2,000,000
PV of defined benefit obligation, after amendment 3,000,000
Past service cost (Positive) – increase in obligation P 1,000,000
13. Solution:
(1) Service cost:
Past service cost (400K + 600K) 1,000,000
Loss on settlement 100,000
(2) Net interest on the net defined benefit liability 40,000
Remeasurements of the net defined benefit
(3)
liability (asset):
Actuarial gain (40,000)
Difference between return on plan assets and
120,000
interest income on plan assets (360K - 240K)
Difference between the change in the effect of
the asset ceiling and interest on the effect of -
the asset ceiling
Defined benefit cost recognized in other
80,000
comprehensive income
108
 The net interest on the defined benefit liability (asset) is

Net defined benefit liability, Jan. 1 (deficit) - excess of
400,000
obligation over plan assets
Alternatively, the net interest on the defined benefit liability (asset)

may also be computed as follows:
Interest income on plan assets (3.6M x 10%) - credit (360,000)
Interest cost on the defined benefit obligation
400,000
(4M x 10%) - debit
Net interest on the net defined benefit liability -
40,000
debit
14. Solutions:
Requirement (a): Interest income on plan assets
Interest income on the beginning balance of FVPA
(240K x 5% x 12/12) 12,000
Interest income on the contributions made on July 1, 20x1
(400K x 5% x 6/12) 10,000
Reduction in interest income due to the benefits paid out of
the plan assets on Sept. 1, 20x1 (100K x 5% x 3/12) (1,250)
Requirement (b): Return on plan assets

Jan. 1 240,000
Return on plan assets
(squeeze) 24,000 100,000 Benefits paid
564,000 Dec. 31
Requirement (c): Remeasurement to the net defined benefit

obligation (asset)
Interest income on plan assets (20,750)
109
Gain 3,250
15. Solutions:
Requirement (a): Return on plan assets
Interest income (actual) 400,000
Unrealized gains from fair value changes (actual) 200,000
Gross return on plan assets 600,000
Less: Costs of managing plan assets (40,000)
Taxes (600K x 10%) (60,000)
Requirement (b): Fair value of plan assets – ending balance

Jan. 1 2,000,000
Return on plan assets 500,000 - Benefits paid
2,500,000 Dec. 31
Requirement (c): Amounts recognized in P/L and OCI

Multiply by: 12%

Gain (loss) - Other comprehensive income 260,000
16. Solutions:
Requirement (a): Interest on the effect of the asset ceiling
Fair value of plan assets, Jan. 1 600,000
Net defined benefit liability, Jan. 1 (deficit) (1,400,000)
There is a deficit as of the beginning of the period. Therefore, there is

no effect of the asset ceiling on the beginning balance of the net
defined benefit liability (asset).

110
Requirement (b): Remeasurement – effect of asset ceiling
Surplus – Dec. 31 500,000
Surplus – Dec. 31 500,000

Surplus 500,000


Less: Interest on the effect of the asset ceiling -
Remeasurement recognized in other comprehensive
100,000
income
Reconciliation:
Interest on the effect of the asset ceiling - profit or loss -
Remeasurement - other comprehensive income 100,000
17. Solutions:
Requirement (a): Interest on the effect of the asset ceiling


111

Requirement (b): Remeasurement – effect of asset ceiling

Surplus - Dec. 31 800,000




Remeasurement recognized in other comprehensive
290,000
income
Reconciliation:
Interest on the effect of the asset ceiling - profit or loss 10,000
Remeasurement - other comprehensive income 290,000
18. Solutions:
Net defined benefit liability - Jan. 1 (deficit) (400,000)
112
2,400,000 Jan. 1
Actuarial losses during the
60,000 period
Dec. 31 2,800,000

Jan. 1 2,000,000
2,100,000 Dec. 31

Net defined benefit liability - Dec. 31 (deficit) (700,000)
Requirement (c): Defined benefit cost

Current service cost 600,000
Past service cost -
Net interest on the net defined benefit liability (asset) a 40,000
Defined benefit cost recognized in profit or loss 640,000
40,000
asset b
-
asset ceiling
Defined benefit cost recognized in other comprehensive
100,000
income
Total defined benefit cost 740,000
a
Net defined benefit liability, Jan. 1 400,000
Alternatively the net interest on the net defined benefit liability (asset)
Interest income on plan assets (2M x 10%) - credit (200,000)
113
240,000
(2.4M x 10%) – debit
Interest on the effect of the asset ceiling - debit -
Net interest on the defined benefit liability - debit 40,000
b
Interest income on plan assets (expected income) 200,000
Gain (loss) (40,000)
19. Solutions:


1,100,000 Jan. 1
120,000 Actuarial loss
Dec. 31 1,600,000

Jan. 1 1,400,000
2,400,000 Dec. 31


114
Requirement (c): Defined benefit cost

Past service cost 300,000
Loss (gain) on settlement -
Net interest on the net defined benefit liability (asset) a (20,000)
Defined benefit cost recognized in profit or loss 760,000
(160,000)
assets - (gain) loss b
asset 290,000
ceiling – increase c
Defined benefit cost recognized in other comprehensive
250,000
income
a
Net interest on the net defined benefit asset 20,000
Alternatively the net interest on the net defined benefit liability (asset)
Interest income on plan assets (1.4M x 10%) – credit 140,000
(110,000)
(1.1M x 10%) – debit
Interest on the effect of the asset ceiling – debit * (10,000)
Net interest on the net defined benefit asset –
20,000
credit
*The interest on the effect of the asset ceiling is computed as follows:

Asset ceiling - PV of refunds from the fund - Jan. 1 200,000

115
b
Interest income on plan assets (expected income) (140,000)
Gain (loss) 160,000
c
The difference between change in effect of asset limit and interest
on effect of asset ceiling is computed as follows:
Effect of the asset ceiling - Dec. 31 – increase 400,000

Total change in the effect of the asset ceiling –
300,000
increase

Remeasurement recognized in other
290,000
20. Solutions:
Requirement (a): Net defined benefit liability (asset) – Dec. 31

4,000,000 Jan. 1
Actuarial gain 320,000 360,000 Interest cost (4M x 9%)
Increase due to plan
800,000 amendment
Dec. 31 5,340,000

Jan. 1 3,600,000
Return on plan assets b 520,000 100,000 Benefits paid
4,020,000 Dec. 31
116
b
The adjusted return on plan assets is computed as follows:
Return on plan assets, unadjusted 560,000
Unrealized loss on changes in fair values (40,000)
Return on plan assets, adjusted 520,000

Requirement (b): Defined benefit cost

Past service cost 800,000
Net interest on the net defined benefit liability (asset) c 36,000
Actuarial (gain) loss (320,000)
(196,000)
asset
-
asset ceiling – increase
Defined benefit cost recognized in other
(516,000)
Total defined benefit cost 920,000
c
Fair value of plan assets, Jan. 1, 20x1 3,600,000
Present value of defined benefit obligation, Jan. 1, 20x1 4,000,000
Net defined benefit liability - Jan. 1 (deficit) 400,000
21. Solution:
Net defined benefit liability
- Jan. 1, 20x3
Contribution -
20x3 20,000 50,000 Defined benefit cost - 20x3
Contribution -
20x4 (squeeze) 100,000 80,000 Defined benefit cost - 20x4
Dec. 31, 20x4
(desired balance) 10,000
117
22. Solution:
The termination benefit is P80,000. This is the amount that
ENVISAGE Co. has no other recourse but pay for terminating
employment regardless of whether the employees stay and render
service until the closure of the branch or they leave before closure.
The excess of P180,000 (260,000 – 80,000) is short-term employee
benefits because this is paid in exchange for employee service, rather
than for termination of employment.
Accordingly, ENVISAGE Co. shall recognize the following liability for

termination at the earlier of when the plan of termination is
announced and when the entity recognizes the restructuring costs
associated with the closure of the branch:
Number of employees 20
Termination benefit per employee 80,000
Liability for termination benefits 1,600,000
118
Chapter 28 – Leases (Part 1)
1. A 6. D 11. B
2. E 7. C 12. E
3. C 8. A 13. C
4. C 9. B 14. B
5. A 10. C 15. B

1. B 6. A 11. D 16. C
2. B 7. B 12. B 17. D
3. A 8. B 13. B 18. A
4. C 9. B 14. D 19. B
5. A 10. B 15. A 20. B
Solutions:
1. B
Solution:
Annual rent 100,000
PV of ordinary annuity of 1 @10%, n=10 6.15
PV of minimum lease payments 615,000
Fair value 700,000
Finance lease liability - Lower amount 615,000
2. B (100,000 x PV of ordinary annuity of 1 @10%, n=10) = 614,500
3. A
Solution:
Annual rent including executory costs 52,000
Real estate taxes (2,000)
Annual rent excluding executory costs 50,000
Multiply by: PV of annuity due @9%, n=9 6.5348
Finance lease liability before 1st payment 326,740
First payment due in advance (50,000)
Finance lease liability after 1st payment 276,740
*Answer choice is rounded-off
4. C
119
Solution:
Cash flows PV factors PV
Annual rent 10,000 PV annuity due @12%, n=10 6.3282 63,282
BPO 10,000 PV of 1 @12%, n=10 0.3220 3,220
66,502
5. A
Solution:
Cash flows PV factors PV
Annual rent 13,000 PV annuity due @9%, n=5 4.2397 55,116
Guaranteed RV 10,000 PV of 1 @9%, n=5 0.6499 6,499
Lease liability before 1st payment 61,615
First payment due immediately (13,000)
Lease liability after 1st payment 48,615
6. A (100,000 x PV ord. annuity @10%, n=5) = 379,000 (rounded-

off)
(379,000 x 10%) = 37,900
7. B
Solution:
Present
Date Payments Int. expense Amortization value
1/1/x7 112,500
12/31/x7 10,000 9,000 1,000 111,500
8. B (10,000 x PV ordinary annuity @10%, n=10) = 61,446. The

residual value is ignored because it is unguaranteed, (i.e.,
guaranteed by a third party rather than by the lessee or a party
related to the lessee)
9. B
Solution:
Date Payments Int. expense Amortization Present value
12/31/x8 135,000
12/31/x8 20,000 - 20,000 115,000
12/31/x9 20,000 11,500 8,500
10. B (108,000 ÷ 12) = 9,000
11. D
Solution:
Cost 240,000
Residual value (fair value) (20,000)
120
Depreciable amount 220,000
Useful life 8
Depreciation expense 27,500
12. B
Solution:
First step: Place the given information on the amortization table.
12/31/x9
1/1/x10 9,000 75,000
This is the finance lease
obligation as of Dec. 31,
20x9, net of current portion.
Second step: “Squeeze” for the requirement.

12/31/x9
1/1/x10 9,000 75,000
1/1/x11 9,000 7,500 a 1,500 73,500
a
(75,000 x 10%)
13. B
Solution:
12/31/x8 316,500
12/31/x8 50,000 - 50,000 266,500
12/31/x9 50,000 26,650 23,350 243,150
14. D (758,000 x 10%) = 75,800
15. A
Solution:
Fair value (deemed equal to PV of MLP) 323,400
Divide by: PV annuity due @8%, n=5 4.3121
Annual lease payments 74,998
Multiply by: No. of payments in the lease 5
Gross investment in the lease 374,991
Less: Net investment in the lease (323,400)
Unearned interest income 51,591
*Answer choice is rounded-off
16. C (135,000 – 20,000) x 10% x 6/12 = 5,750
121
17. D
Solution:
PV = Cash flows x PV factor
7,596 = 2,000 x PV annuity due @ x%, n=5
First trial @ 12%:

(2,000 x PV annuity due @ 12%, n=5) = 7,596
(2,000 x 4.0373) = 7,596
8,075 is not equal to 7,596
We need a lower amount. Therefore, we will increase the rate. Let

us try 16%.
Second trial @ 16%:

(2,000 x PV annuity due @ 16%, n=5) = 7,596
(2,000 x 3.7982) = 7,596
7,596 is equal to 7,596. Therefore, the implicit interest rate is 16%.
18. A
Solution:
Sales 77,000
Cost of sales (60,000)
Gross profit 17,000
The finance lease is treated as a sales-type lease because the

problem states that the “collectibility of the remaining lease payments
is reasonably assured” and there are “no material cost uncertainties.”
Accordingly, profit from sale is recognized on initial recognition.
Furthermore, no interest income is recognized because there is no
passage of time yet. The lease commencement is on December 31,
20x6.
19. B
Solution:
Sales (PV of MLP) 3,300,000
Cost of sales (2,800,000)
Gross profit 500,000
20. B
Solution:
Sales 3,520,000
Cost of sales (2,800,000)
Gross profit 720,000
122
Interest revenue = (600,000 x PV of annuity due @10%, n=5) =
3,521,040 – 600,000 first payment = 2,921,040 x 10% x 6/12 =
146,052

1. B 11. A 21. C 31. D
2. A 12. D 22. B 32. A
3. D 13. D 23. A 33. B
4. B 14. A 24. B 34. A
5. B 15. A 25. C 35. D
6. A 16. A 26. A 36. C
7. C 17. C 27. B 37. A
8. C 18. C 28. D 38. A
9. A 19. B 29. B 39. B
10. D 20. D 30. A 40. C
Solution:
1. B (160,000 - 12,000) x PV of ordinary annuity @14%, n=10) =
771,985
2. A (771,985 + 80,000 initial direct cost) = 851,985
3. D (400,000 x PV of annuity due @10%, n=4) + (200,000 x PV of

1 @10%, n=4) = 1,531,343
4. B (1,531,343 – 400,000) x 10% = 113,134
5. B (800,000 x PV ordinary annuity @10%, n=5) + (80,000 x PV of

1 @10%, n=5) = 3,082,303
6. A
Solution:
Date Payments Interest expense Amortization Present value
Jan. 1, 20x1 3,082,303
Dec. 31, 20x1 800,000 308,230 491,770 2,590,533
7. C (3,082,303 – 200,000 residual value*) ÷ 5 years = 576,461

*This represents the fair value of machine at the end of the lease
term.
8. C
123
Solution:
Jan. 1, 20x1 3,082,303
Dec. 31, 20x1 800,000 308,230 491,770 2,590,533
Dec. 31, 20x2 800,000 259,053 540,947 2,049,586
The entry to record the purchase of the leased asset is as follows:

Jan. Machinery (balancing figure) 1,879,795
1, Finance lease liability 2,049,586
20x3 Accum. depreciation (576,461* x 2) 1,152,922
Machinery – leased asset 3,082,303
* This represents the annual depreciation (see computation in previous problem)
9. A
Solution:
The present value of minimum lease payment allocated to the
building is computed as follows:
Annual rental 4,000,000
Multiply by: Fraction based on relative fair values 4/6
Portion of annual rental pertaining to building element 2,666,667
PV of ordinary annuity of ₱1 @10%, n=10 6.14457
Present value of minimum lease payments 16,385,520
Fair value of building element on inception of the lease 16,000,000
Initial cost of building – Lower amount 16,000,000
10. D None of the choices. If there is no reliable allocation basis, the

entire lease is classified as finance lease and both the land and
building are depreciated as a single asset.
11. A (400,000 x PV annuity due @10%, n=4) + (80,000 guaranteed

residual value x PV of 1 @10%, n=4) = 1,449,382
12. D
Solution:
Jan. 1, 20x1 1,449,382
Jan. 1, 20x1 400,000 - 400,000 1,049,382
Jan. 1, 20x2 400,000 104,938 295,062 754,320
13. D
Solution:
Jan. Finance lease liability 80,000
124
1, Accumulated dep. (1,449,382 – 80K) 1,369,382
20x5 1,449,382
Building
14. A
Solution:
1,
Accumulated dep. (1,449,382 – 80K) 1,369,382
20x5
Building 1,449,382
Jan. Loss on finance lease (80K – 20K) 60,000
1,
Cash in bank 60,000
20x5
15. A
Solution:
Annual rent 400,000
Multiply by: Lease term 4
Gross investment - 1/1/20x1 (before first collection) 1,600,000
16. A
Solution:
Annual rent 400,000
Multiply by: PV of annuity due of ₱1 @10%, n=4 3.486852
Net investment in the lease - 1/1/20x1 (before first collection) 1,394,741
17. C
Solution:
Gross investment before first collection on the lease 1,600,000
Net investment before first collection on the lease (1,394,741)
Unearned interest income - 1/1/20x1 (before first collection) 205,259
18. C
Solution:
Gross investment in the lease is computed as follows:
Annual rent excluding executory costs (440,000 – 36,196) 403,804
Gross investment in the lease – Jan. 1, 20x1 1,615,216
19. B (403,804 x PV of ordinary annuity @10%, n=4) = 1,280,000
20. D (1,615,216 – 1,280,000) = 335,212
21. C
Solution:
A finance lease is generally classified as a direct financing lease
unless it is clear that it should be classified as a sales-type lease. The
125
information in the problem does not clearly state that the lease shall
be classified as a sales-type lease. Therefore, we will treat the lease
as a direct financing lease.
Under a direct financing lease, the net investment is equal to the

cost of the equipment plus any initial direct costs.
The net investment is computed as follows:

Cost of equipment 1,200,000
Initial direct cost 80,000
Net investment in the lease – Jan. 1, 20x1 1,280,000
The net investment computed above is also equal to the PV of

minimum lease payments discounted at the implicit interest rate.
We will be computing for the implicit interest rate using the “trial and
error” approach, with interpolation if needed.
The formula for the trial and error approach is:

Future cash flows x PV factor at x% = Present value
Where: x% = implicit interest rate
The implicit rate before adjustment for executory costs and initial
direct costs is 17.30%. This rate would result to a present value of
approximately ₱1,200,000. We need a present value of ₱1,280,000.
Therefore, the adjusted implicit rate should be less than 17.30%.
Also, initial direct costs reduce interest income recognized by the
lessor over the lease term. This means that the adjusted implicit rate
should be less than the unadjusted rate of 17.30%. With those
concepts in mind, we will first try a randomly selected rate less than
the unadjusted rate, say 10%, and adjust that rate depending on the
result.

 Future cash flows x PV factor at x% = Present value
 403,804* x PV of ordinary annuity @10%, n=4 = 1,280,000
 (403,804 x 3.169865) = 1,280,004 approximates 1,280,000
The amount derived using 10% approximates the net investment.

Therefore, 10% is the implicit rate in the lease.
22. B
Solution:
We will “squeeze” for the amount of annual rental from the formula of
net investment.
126
Annual rent excluding executory costs xx
Multiply by: PV of ordinary annuity of ₱1 xx
Net investment in the lease xx
The finance lease is assumed to be a direct financing lease.

Therefore, net investment is equal to the cost of the equipment plus
any initial direct costs.
Cost of equipment 1,200,000
Net investment in the lease – Jan. 1, 20x1 1,280,000
Annual rent excluding executory costs 403,803 (squeeze)

Multiply by: PV of ord. annuity of ₱1 @10%, n=4 3.169865
Net investment in the lease 1,280,000 (start)
Annual rent excluding executory costs 403,803

Add back: Annual executory costs charged to lessee 36,196
Annual rent including executory costs 439,999*
* Answer choice is rounded-off
23. A
(440,000 – 36,196) = 403,804 x PV ordinary annuity @10%, n=4 =
1,280,000
Amortization table:
Interest Present
Date Collections Amortization
income value
Jan. 1, 20x1 1,280,000
Dec. 31, 20x1 403,804 128,000 275,804 1,004,196
Dec. 31, 20x2 403,804 100,420 303,384 700,812
Jan. Cash on hand 600,000

1,
Loss on sale (squeeze) 100,812
20x3
Finance lease receivable - net 700,812
24. B (400,000 x 4 years) = 1,600,000
25. C (400,000 x PV annuity due @10%, n=4) = 1,394,741
26. A (1,600,000 – 1,394,741) = 205,259
27. B (1,394,741 – 1,200,000 = 194,741
28. D (194,741 – 80,000 initial direct costs) = 114,741

127
29. B (400,000 x 4) + 80,000 = 1,680,000
30. A (400,000 x PV ordinary annuity @10%, n=4) + (80,000 X PV of

1 @10%, n=4) = (1,267,946 + 54,641) = 1,322,587
31. D (1,680,000 - 1,322,587) = 357,413
32. A
Solution:
We will “squeeze” for the amount of annual rental from the formula of
net investment.
(Annual rental x PV (Residual value x

Net investment = +
ordinary annuity of 1 PV of 1
Since the lease is classified as direct financing lease, the net

investment must be equal to the cost of the equipment plus initial
direct costs, if any.
Net investment (equal to cost of equipment) 1,322,588
(Annual rental x PV ordinary (80,000 x PV of 1
1,322,588 = +
annuity of 1 @10%, n=4) @ 10%, n=4)
(Annual rental x
1,322,588 = + (80,000 x 0.683013)
3.169865)
1,322,588 = (Annual rental x 3.169865) + 54,641
= 1,322,588 - 54,641
Annual rental
3.169865
Annual rental = 400,000
33. B (400,000 x 4 years) + 80,000 = 1,680,000
34. A (400,000 x PV ordinary annuity @10%, n=4) + (80,000 x PV of

1 @10%, n=4) = (1,267,946 + 54,641) = 1,322,587
35. D (1,680,000 - 1,322,587) = 357,413
36. C
Solution:
Guaranteed residual value Unguaranteed residual value
Sales (PV of annual rentals) 1,267,946 Sales (PV of annual rentals) 1,267,946
Add: PV of guaranteed Cost of sales 1,200,000
128
residual value 54,641 Less: PV of unguaranteed
Adjusted sales 1,322,587 residual value ( 54,641)
Cost of sales (1,200,000) Adjusted cost of sales (1,145,359)
Gross profit 122,587 Gross profit 122,587
37. A (See solution above)
38. A (See solution above)
39. B (400,000 x PV ordinary annuity @10%, n=4) = 1,267,946
40. C (400,000 x PV ordinary annuity @10%, n=4) = 1,267,946 vs.

1,240,000 fair value; sales = 1,240,000 the lower amount
Exercises
1. Solution:
Rental payments excluding executory costs (80,000 – 6,000) 74,000
Multiply by: PV of an ordinary annuity of P1 @14%, n=10 5.216116
Present value of minimum lease payments 385,993
The initial cost of the leased asset is determined as follows:

Present value of minimum lease payments
(see computation above) 385,993
Fair value of leased property on inception of the lease 440,000
Present value of minimum lease payments - Lower 385,993

Initial direct costs 40,000
Initial cost of leased property 425,993
The entry to record the finance lease at the commencement of the

lease is:
Jan. Machinery 425,993
1, Finance lease liability 385,993
(or accrued payable if not yet paid)
2. Solution:
The present value of minimum lease payments is computed as
follows:
PV of
Minimum lease payments PV factors @10%, n=4 MLP
PV of an annuity due
Annual rent 200,000 of P1 3.486852 697,370
Bargain purchase option 100,000 PV of P1 0.683013 68,301

765,672
129
Amortization table:
Interest Present
Date Payments Amortization
expense value
Jan. 1, 20x1 765,672
Jan. 1, 20x1 200,000 0 200,000 565,672
Jan. 1, 20x2 200,000 56,567 143,433 422,239
Jan. 1, 20x3 200,000 42,224 157,776 264,463
Jan. 1, 20x4 200,000 26,446 173,554 90,909
Jan. 1, 20x5 100,000 9,091 90,909 0
The pertinent entries in 20x1 and 20x2 are as follows:

Jan. 1, Equipment 765,672
20x1 Finance lease liability 765,672
Jan. 1, Finance lease liability 200,000
to accrue interest incurred during
the year
Dec. 31, Depreciation expense 143,134
20x1 [(765,672 – 50,000) ÷ 5 yrs.]
Accumulated depreciation 143,134
to recognize depreciation
expense
20x2 Accumulated depreciation 143,134
The entry on January 1, 20x5 to record the exercise of the BPO is:
3. Solution:
The present value of minimum lease payments is computed as
follows:
Minimum lease
payments PV factors @10%, n=5 PV of MLP
PV of ordinary annuity
Annual rent 400,000 of P1 3.790787 1,516,315
130
Bargain
purchase option 40,000 PV of P1 0.620921 24,837
1,514,152
Interest Present
expense value
Jan. 1, 20x1 1,541,152
Dec. 31, 20x1 400,000 154,115 245,885 1,295,267
Dec. 31, 20x2 400,000 129,527 270,473 1,024,793
Dec. 31, 20x3 400,000 102,479 297,521 727,273
Dec. 31, 20x4 400,000 72,727 327,273 400,000
Dec. 31, 20x5 400,000 40,000 360,000 40,000

20x1 Finance lease liability 1,541,152
Dec. Depreciation expense 288,230
31, [(1,541,152 – 100,000) ÷ 5 yrs.]
The entry on December 31, 20x5 to record final lease payment and
exercise of BPO are:
to record final lease payment
Dec. 31, Finance lease liability 40,000
to record exercise of BPO
4. Solution:
Interest Present
expense value
Jan. 1, 20x1 1,541,152
Dec. 31, 20x1 400,000 154,115 245,885 1,295,267
Dec. 31, 20x2 400,000 129,527 270,473 1,024,793
Dec. 31, 20x3 400,000 102,479 297,521 727,273
Dec. 31, 20x4 400,000 72,727 327,273 400,000
Dec. 31, 20x5 400,000 40,000 360,000 40,000
131
Jan. Machinery (balancing figure) 939,899
1, Finance lease liability 1,024,793
(P288,230 x 2)
Machinery – leased asset 1,541,152
5. Solution:
The present value of minimum lease payment allocated to the
building is computed as follows:
Multiply by: Fraction based on relative fair values 8/12
Portion of annual rental pertaining to building element 1,333,333
Fair value of building element on inception of the lease 8,000,000
Initial cost of building – Lower amount 8,000,000
The entry to record the lease is:

Jan. 1, Building 8,000,000
20x1 Finance lease liability 8,000,000
6. Solution:
Jan. 1, Land and building 12,289,140

20x1
Finance lease liability 12,289,140
7. Solution:
PV of
Minimum lease payments PV factors @10%, n=4 MLP
PV of an
annuity due of
Annual rent 200,000 P1 3.486852 697,370
Guaranteed residual
value 40,000 PV of P1 0.683013 27,321
724,691
Interest Present
expense value
Jan. 1, 20x1 724,691
Jan. 1, 20x1 200,000 0 200,000 524,691
Jan. 1, 20x2 200,000 52,469 147,531 377,160
132
Jan. 1, 20x3 200,000 37,716 162,284 214,876
Jan. 1, 20x4 200,000 21,488 178,512 36,364
Jan. 1, 20x5 40,000 3,636 36,364 0
The entries in 20x1 are:

Jan. 1, Building 724,691
20x1
to record accrued interest
20x1 [(724,691 – 40,000) ÷ 4 yrs.]
Accumulated depreciation 171,173
Requirement (a):
The entry on December 31, 20x4 to record interest is:
The entry on January 1, 20x5 to record the return of the leased asset
to the lessor is:
(724,691 – 40,000)
Building 724,691
Requirement (b):
The entry on December 31, 20x4 to record interest is:
20x4
The entries on January 1, 20x5 to record the return of the leased

asset to the lessor is:
1, Accumulated depreciation 684,691
20x5 (724,691 – 40,000)
Building 724,691
Jan. 1, Loss on finance lease (40,000 – 10,000) 30,000
20x5
Cash in bank 30,000
8. Solutions:
Requirement (a):
Annual rent P 200,000
133
Multiply by lease term 4
Gross investment in the lease – Jan. 1, 20x1
(before first collection) P 800,000
Requirement (b):
Multiply by: PV of annuity due of P1 @10%, n=4 3.486852
Net investment in the lease – Jan. 1, 20x1
Requirement (c):
Gross investment before first collection on the lease P 800,000
Net investment before first collection on the lease ( 697370)
Unearned interest income – Jan. 1, 20x1 P 102,630
9. Solutions:
Requirement (a) – Gross investment on Jan. 1, 20x1
Gross investment in the lease is computed as follows:
Annual rent excluding executory costs (220,000 – 18,098) P 201,902
Gross investment in the lease – Jan. 1, 20x1 P 807,608
Requirement (b) – Net investment on Jan. 1, 20x1

Net investment in the lease is computed as follows:
Annual rent excluding executory costs (220,000 – 18,098) P 201,902
Net investment in the lease – Jan. 1, 20x1 P 640,000
Net investment in the lease may also be computed as follows:

Cost of equipment P 600,000
Requirement (c) – Unearned interest income on Jan. 1, 20x1

Unearned interest income is computed as follows:
Gross investment in the lease P807,608
Net investment in the lease ( 640,000)
Unearned interest income – Jan. 1, 20x1 P167,608
10. Solution:
Net investment in the lease – Jan. 1, 20x1 P640,000
134
Using the “trial and error” approach, the implicit rate in the lease is
10%.
11. Solution:
Net investment in the lease P 640,000

Divide by: PV of ordinary annuity of P1 @10%, n=4 3.169865
Annual rent excluding executory costs P 201,901
Annual rent excluding executory costs P 201,901

Annual executory costs charged to lessee 18,098
Annual rent including executory costs P 220,000*
*rounded-off to nearest ten-thousandths
12. Solution:
The amortization table is prepared as follows:
Interest Present
income value
Jan. 1, 20x1 640,000
Dec. 31, 20x1 201,902 64,001 137,901 502,099
Dec. 31, 20x2 201,902 50,211 151,691 350,408
Dec. 31, 20x3 201,902 35,041 166,861 183,547
Dec. 31, 20x4 201,902 18,355 183,547 0
The entry to record the sale on January 1, 20x3 is:

1, Unearned interest (403,804 – 350,408) 53,396
20x3 Loss on sale of leased equipment 50,408
(squeeze)
Finance lease receivable 403,804
(201,902 x 2)
13. Solutions:
Requirement (a) – Gross investment on Jan. 1, 20x1
Gross investment in the lease – Jan. 1, 20x1
Requirement (b) – Net investment on Jan. 1, 20x1

135
Multiply by: PV of an annuity due of P1 @10%, n=4 3.486852
Net investment in the lease – Jan. 1, 20x1
Requirement (c) – Total interest income to be recognized over

lease term
Gross investment P 800,000
Net investment ( 697,370)
Unearned interest income – Jan. 1, 20x1
Requirement (d) – Gross profit from sale

Sales (equal to net investment) P 697,370
Cost of sales (cost of equipment) ( 600,000)
Gross profit P 97,370
Initial direct costs charged as expense ( 40,000)
Net profit from sale P 57,370
14. Solution:
Requirement (a) – Gross investment
Total rentals (200K x 4) 800,000 Total rentals (200K x 4)
Guaranteed residual value 40,000 (Total undiscounted MLP) 800,000
Gross investment in the Unguaranteed residual
lease 840,000 value 40,000
(Total undiscounted MLP) Gross investment in the
lease P840,000
(MLP + Unguaranteed Residual
Value)
Requirement (b) – Net investment

Net investment if residual value is guaranteed is computed as
follows:
PV factors @10%, PV of
Minimum lease payments n=4 MLP
Annual rent 200,000 3.169865 633,973
Guaranteed residual value 40,000 0.683013 27,321
Net investment in the lease (PV of gross investment) 661,294
Net investment if residual value is unguaranteed is computed as

follows:
Net
PV factors @10%, investment
Minimum lease payments n=4 in the lease
Annual rent (MLP) 200,000 3.169865 633,973
Unguaranteed residual value 40,000 0.683013 27,321
136
Requirement (c) – Unearned interest income

Total interest income recognized over the lease term is computed as
follows:
Gross investment in the Gross investment in the
lease 840,000 lease 840,000
Net investment in the Net investment in the
lease (661,294) lease (661,294)
Unearned interest income P178,706 Unearned interest income P178,706
Amortization table is prepared to provide basis for subsequent

entries.
Interest Present
income value
Jan. 1, 20x1 661,294
Dec. 31, 20x1 200,000 66,129 133,871 527,423
Dec. 31, 20x2 200,000 52,742 147,258 380,166
Dec. 31, 20x3 200,000 38,017 161,983 218,182
Dec. 31, 20x4 200,000 21,818 178,182 40,000
Requirement (d):
Case A:
Dec. 31, 20x4 Dec. 31, 20x4
Cash on hand 200,000 Cash on hand 200,000
Equipment 40,000 Equipment 40,000
Unearned interest Unearned interest
income 21,818 income 21,818
Finance lease Finance lease
receivable 240,000 receivable 240,000
Interest income 21,818 Interest income 21,818
Case B:
Dec. 31, 20x4 Dec. 31, 20x4
Cash on hand Cash on hand 200,000
(200K + 30K) 230,000 Equipment 10,000
Equipment 10,000 Impairment loss 30,000
137
Interest income 21,818 Interest income 21,818
15. Solution:
Cost of equipment - net investment (a) 661,294
Guaranteed residual value 40,000

Multiply by: PV of P1 @10%, n=4 0.683013
PV of guaranteed residual value (b) 27,320
Amount recovered by lessor through lease payments

(a - b) 633,974
Divide by: PV of ordinary annuity of P1 @10%, n=4 3.169865
Annual rent 200,000
16. Solutions:
Requirement (a) – Gross investment
Total rentals (200K x 4) 800,000 Total rentals (200K x 4)
Guaranteed residual (Total undiscounted MLP) 800,000
value 40,000 Unguaranteed residual
Gross investment in the value 40,000
lease 840,000 Gross investment in the
(Total undiscounted MLP) lease 840,000
(MLP + Unguaranteed Residual
Value)
Requirement (b) – Net investment

Net investment if residual value is guaranteed is computed as
follows:
PV factors @10%,
Minimum lease payments n=4 PV of MLP
Annual rent 200,000 3.169865 633,974
Guaranteed residual value 40,000 0.683013 27,320
Net investment if residual value is unguaranteed is computed as

follows:
Net
PV factors @10%, investment in
n=4 the lease
Annual rent (MLP) 200,000 3.169865 633,974
Unguaranteed residual
value 20,000 0.683013 27,320
138
Requirement (c):
Total interest income recognized over the lease term is computed as
follows:
Gross investment in the Gross investment in the
lease 840,000 lease 420,000
Net investment in the lease(661,294) Net investment in the lease (330,647)
Unearned interest income 178,706 Unearned interest income 178,706
Requirement (d):
Sales Sales
(PV of annual rentals) 633,974 (PV of annual rentals) 633,974
Add: PV of guaranteed Cost of sales 600,000
residual value 27,320 Less: PV of unguaranteed
Adjusted sales 661,294
Cost of sales ( 600,000)
residual value ( 27,320)
Gross profit 61,294 Adjusted cost of sales (572,680)
Gross profit 61,294
Requirement (e):
The entry to record the sales-type lease on January 1, 20x1 is:
Jan. 1, 20x1 Jan. 1, 20x1
Cost of sales 600,000 Cost of sales 572,680
Sales 661,294 Sales 633,974
Inventory 600,000 Inventory 600,000
17. Solution:
PV of ordinary annuity of P1 @ 10%, n=4 3.169865
Net investment P 633,973
18. Solution:
PV of ordinary annuity of P1 @ 10%, n=4 3.169865
Net investment P 633,973
Fair value of equipment P 620,000
Answer: Sales is recognized at P3
139
Chapter 29 – Leases (Part 2)
1. A 6. B 11. B
2. B 7. D 12. D
3. C 8. D 13. C
4. B 9. A 14. C
5. B 10. C 15. C

1. B 6. A
2. C 7. C
3. B 8. B
4. C 9. A
5. C 10. A
Solutions:
1. B {10,000 + [(30,000 ÷ 5 years) x 1/12]} = 10,500
2. C [90,000 + (50,000 ÷ 5 years)] = 100,000
3. B
Solution:
Straight line rent income per year = 36,000 ÷ 3 = 12,000
Rent income per year 12,000

Multiply by: 2
Total rent income to date (July 1, 20x6 to June 30, 20x8) 24,000
Less: Total rent collections to date (6,000 + 9,000) (15,000)
Rent receivable as of June 30, 20x8 9,000
4. C
Solution:
Annual rent 96,000
Contingent rent [(600,000 - 500,000) x 5%] 5,000
Amortization of lease bonus (24,000 ÷ 10) 2,400
Rent expense 103,400
5. C
140
Solution:
Rent for the first year (8,000 x 6/12) 4,000
Rent for the subsequent years (12,500 x 4) 50,000
Total collection on rentals 54,000
Divide by: 5
Annual rent income 10,800
6. A
Solution:
Lease term in years 5
Multiply by: No. of months in a year 12
Lease term in months 60
Nine months free rent (9)
Total 51
Multiply by: Monthly rental 1,000
Total rental payments on the lease 51,000
Divide by: Lease term in years 5
Annual rent expense (July 1 to June 30) 10,200
7. C
Solution:
Useful life of leasehold improvements 8 yrs.
Remaining lease term (Jan. 20x9 to Dec. 31, 2x14) 6 yrs.
Shorter 6 yrs.
Carrying amount of leasehold improvement = 48,000 x 5.5/6 = 44,000
8. B
Solution:
Sale price 150,000
Carrying amount (100,000)
Deferred gain - 1/1/x7 50,000
Multiply by: 9/10
Deferred gain - 12/31/x7 45,000
9. A
Solution:
The leaseback is an operating lease and the sale was established at
fair value. Accordingly, any gain or loss is recognized immediately.
10. A (See explanation in the previous problem)
141
1. B 6. D 11. C 16. A
2. B 7. C 12. A 17. B
3. B 8. D 13. A
4. B 9. D 14. A
5. C 10. B 15. B
Solutions:
1. B (400,000 – 20,000) + (80,000 ÷ 5 years) = 396,000
2. B (400,000 – 20,000) + (80,000 ÷ 5 years) = 396,000
3. B (60,000 x PV of 1 @10%, n=5) = 37,255 x 110% = 40,981
Unequal rental payments

Use the following information for the next three questions:
On January 1, 20x1, FLAGITOUS Co. leased an office space from
VICIOUS, Inc. Payments on the lease will be made as follows:
Year Rental payment
Dec. 31, 20x1 400,000
Dec. 31, 20x2 480,000
Dec. 31, 20x3 520,000
1,400,000
 As an inducement to enter to the lease, VICIOUS granted

FLAGITOUS the first six months of the lease rent-free.
 Additional rent (contingent rent) of 10% is to be paid for any
excess of sales of FLAGITOUS over ₱4,000,000. FLAGITOUS’s
sales for 20x1, 20x2, and 20x3 are ₱1,800,000, ₱4,000,000, and
₱6,000,000, respectively.
4. B (400,000 x 6/12) + 480,000 + 520,000 = 1,200,000 ÷ 3 years =

400,000 annual rent income/expense – (400,000 x 6/12 collection
in 20x1) = 200,000
5. C (400,000 annual rent expense x 2 years) – (400,000 x 6/12

collection in 20x1 + 480,000 collection in 20x2) = 120,000
6. D (400,000 annual rent expense) + [(6M – 4M) x 10%] = 600,000
7. C
Solution:
Rent income on straight line – July to Dec. 20x1 (800K x 6/12) 400,000
142
Depreciation expense on equipment [(4M – 480K) ÷ 10 years] (352,000)
Amortization of initial direct cost [(80,000 ÷ 5 years) x 6/12] (8,000)
Insurance expense (4,000)
Rent income net of expenses – 20x1 36,000
8. D (4,000,000 historical cost of equipment – 352,000 accumulated

depreciation) + (80,000 initial direct cost – 8,000 accumulated
amortization) = 3,720,000
9. D
10. B [1,267,948 sale price – (2M – 960K)] = 227,948 deferred gain
11. C [1,720,000 sale price – (4M – 2.2M)] = -80,000 outright loss
12. A (1,280,000 sale price – 1,040,000* carrying amount) = 240,000

outright gain
*(2,000,000 cost – 960,000 accumulated depreciation) = 1,040,000
13. A (1,280,000 sale price – 1,040,000 carrying amount) = 240,000

outright gain
14. A (1,280,000 sale price – 1,600,000 carrying amount) = -320,000

outright loss
15. B (1,280,000 sale price – 1,600,000 carrying amount) = -320,000

deferred temporary loss
16. A (1,280,000 sale price – 1,200,000 fair value) = 80,000 deferred

gain; (1,200,000 fair value – 1,040,000) = 160,000 outright gain
17. B (1,280,000 sale price – 960,000 fair value) = 320,000 deferred

gain; (960,000 fair value – 1,040,000) = -80,000 outright loss
Exercises
1. Solutions:
Annual rent expense (rent income) is computed using the straight line
method as follows:
Annual rent excluding executory costs (200,000 – 10,000) 190,000
Multiplied by: Lease term 5
Total rentals excluding executory costs 950,000
Lease bonus 40,000
Total payments on lease excluding executory costs 990,000
Divide by: Lease term 5
Annual rent expense (rent income) 198,000
143
The security deposit is discounted as follows:
PV of P1 @10%, n=5 0.620921
Present value of security deposit 18,628
The entries in the books of the lessee and lessor are as follows:
Books of REMNANT Co. – Books of REMAINDER Co. -
Lessee Lessor
Jan. 1, 20x1 Jan. 1, 20x1
Prepaid rent 40,000 Cash on hand 40,000
Cash in bank 40,000 Unearned rent 40,000
to record payment of lease to record receipt of lease
bonus bonus
Jan. 1, 20x1 Jan. 1, 20x1

Security deposit Cash on hand 30,000
receivable 30,000 Discount on security
Unrealized loss – deposit payable 11,372
“Day 1” difference 11,372 Security deposit
Cash in bank 15,000 payable 30,000
Unearned interest Unrealized gain
income 11,372 – “Day 1” difference 11,372
to record payment for to record receipt of security
security deposit deposit
Dec. 31, 20x1 Dec. 31, 20x1

Rent expense 198,000 Cash on hand 200,000
Insurance expense 10,000 Unearned rent 8,000
(executory cost) (amortization of lease bonus)
Cash in bank 200,000 Rent income 198,000
Prepaid rent 8,000 Insurance expense 10,000
(amortization of lease bonus) to record collection of rent
(40,000 ÷ 5 years) including reimbursement for
to record payment of rent executory costs
including executory costs
Dec. 31, 20x1 Dec. 31, 20x1

Unearned interest Interest expense
income 1,862.80 (18,628 x 10%) 1,862.80
Interest income 1,862.80 Discount on security
(18,628 x 10%) deposit payable 1,862.80
to record amortization of to record amortization of
discount on security deposit discount on security deposit
2. Solutions:
144
Annual rent expense (and rent income) is computed using the straight
line method as follows:
Total rentals P 700,000
First six-month rent-free (100,000 x 6/12) ( 100,000)
Adjusted total rentals 600,000
Divide by: Lease term 3
Annual rent expense (income) P200,000
The entries are:

Books of lessee – DEMENTED Books of lessor – INSANE, Inc.
Co.
Jan. 1, 20x1 Jan. 1, 20x1
No entry No entry
Dec. 31, 20x1 Dec. 31, 20x1
Cash in bank 100,000 Rent receivable 100,000
Rent payable 100,000 Rent income 200,000
Dec. 31, 20x2 Dec. 31, 20x2

Dec. 31, 20x3 Dec. 31, 20x3

Dec. 31, 20x3 Dec. 31, 20x3

Rent expense 100,000 Rent receivable 100,000
[10% x (3M – 2M)] Rent income 100,000
Rent payable 100,000 [10% x (3M – 2M)]
to record contingent rent to record contingent rent receivable
payable
3. Solutions:
Requirement (a): Net rental income in 20x1
Rent income on straight line – July to Dec. 20x1 (400K x 6/12) P200,000
Depreciation expense on equipment [(2M – 240K) ÷ 10 years] (176,000)
Amortization of initial direct cost [(20,000 ÷ 5 years) x 6/12] ( 4,000)
Insurance expense ( 2,000)
Rent income net of expenses – 20x1 P 18,000
Requirement (b): Carrying amount of leased asset as of Dec. 31,

20x1
Cost of equipment P2,000,000
145
Accumulated depreciation – equipment ( 176,000)
Total 1,824,000
Deferred initial direct cost (40,000 x 4.5/5) or (40,000 – 4,000) 36,000
Carrying amount of equipment – Dec. 31, 20x1 P1,860,000
4. Solutions:
The leaseback is treated as finance lease since the “major part of
economic life or ‘75%’” criterion is met (i.e., 4/5 = 80%).
The gain or loss on sale is computed as follows:

Sales price (usually equal to present value of rentals) 633,974
Carrying amount of equipment (1M – 480,000) (520,000)
Gain on sale 113,974
Finance lease liability and finance lease receivable are computed as

follows:
RUSTIC Co. – Seller/ Lessee RURAL Inc. - Buyer/Lessor
Annual rent 200,000 Gross investment
PV of ordinary annuity of (200K x 4) 800,000
P1 @10%, n=4 3.169865
PV of Minimum lease Annual rent 200,000
payments 633,973 PV of ordinary annuity of
P1 @10%, n=4 3.16987
Net investment 633,974
Gross investment 800,000

Net investment (633,974)
Unearned interest
income 166,026
The entries are:

Books of seller/lessee Books of buyer/lessor
(RUSTIC Co.) (RURAL, Inc.)
Dec. 31, 20x1 Dec. 31, 20x1
Cash on hand 633,974 Equipment 633,974
Accumulated Cash in bank 633,974
depreciation 480,000 to record the purchase of
Equipment 1,000,000 equipment
Deferred gain 113,974
to record the sale of equipment
Dec. 31, 20x1 Dec. 31, 20x1
Equipment 633,974 Finance lease
Finance lease liability 633,974 receivable 800,000
to record the finance leaseback Equipment 633,974
Unearned interest
income 166,026
146
to record the finance
leaseback
Dec. 31, 20x2 Dec. 31, 20x2

Interest expense 63,397 Cash on hand 200,000
(633,974 x 10%) Unearned interest
Finance lease liability 136,603 income 63,397
Cash in bank 200,000 Finance lease
to record first rental payment receivable 200,000
Interest income 63,397
(633,974 x 10%)
to record first rental collection
Dec. 31, 20x2

Deferred gain
(113,974 ÷ 4) 28,494 No entry
Gain on sale and
leaseback 28,494
to record amortization of deferred
gain
5. Solution:
The leaseback is treated as finance lease since the “major part of
economic life or ‘75%’” criterion is met (i.e., 10/11 = 90.90%).
The entry in INORDINATE’s books on January 1, 20x1 to record the

sale is:
1, Accumulated depreciation 1,100,000
20x1 Loss on sale 40,000
Equipment 2,000,000
to record sale of equipment
Jan. Equipment 930,000
20x1 to record finance leaseback
6. Solutions:
Requirement (a):
Sale price 640,000
Gain on sale recognized immediately 120,000
Requirement (b):
Sale price 640,000
Carrying amount of equipment (500,000 – 240,000) (520,000)
Gain on sale recognized immediately 120,000
Requirement (c):
147
Sale price 640,000
Carrying amount of equipment (800,000)
Loss on sale recognized immediately (160,000)
Requirement (d):
Sale price 640,000
Carrying amount of equipment (800,000)
(Temporary) Loss on sale – deferred (160,000)
Requirement (e):
Sale price 640,000
Fair value of equipment (600,000)
Gain on sale to be deferred and amortized over 40,000
lease term
Fair value of equipment 600,000
Gain on sale to be recognized immediately 80,000
Requirement (f):
Sale price 640,000
Fair value of equipment (600,000)
Gain on sale to be deferred and amortized over 40,000
lease term
Fair value of equipment 480,000
Impairment loss to be recognized immediately (40,000)
148
Chapter 30 – Income Taxes
1. B 6. D
2. B 7. D
3. A 8. C
4. D 9. A
5. C 10. B

1. A 6. C 11. D 16. C
2. A 7. B 12. C 17. D
3. B 8. C 13. C 18. D
4. C 9. A 14. A 19. A
5. C 10. C 15. D 20. D
Solutions:
1. A
Solution:
Multiply by
Description of items Tax rate
Description of items
Pretax income 800,000
Permanent differences:
Less: Non-taxable income
Gain on involuntary conv. (350,000)
Accounting profit Income tax
subject to tax 450,000 30% expense 135,000
Temporary differences:
Less:  Taxable temporary Less:  Deferred
difference (TTD) 'FI>TI': tax liability (DTL):
Excess depreciation (50,000) 30% (15,000)
Current tax
Taxable profit 400,000 30% expense 120,000
Current tax expense 120,000

Estimated tax payments during 20x1 (70,000)
Income tax payable - Dec. 31, 20x1 50,000
2. A
Solution:
149
Multiply by
Income from exempt bonds (60,000)
Proceeds from life
insurance (100,000)
Current tax
3. B
Solution:
Analysis:
 The higher depreciation recognized in financial reporting
compared to taxation makes financial income less than taxable
income (FI<TI). Therefore, the ₱8,000 difference represents a
deductible temporary difference – an addition in the formula.
 Income under financial reporting (equity method) 35,000
Dividends received 25,000
Tax deduction (80% x 25K) (20,000)
Taxable income 5,000
Taxable temporary difference (FI>TI) – deduction 30,000
Multiply by
Permanent differences: -
Income (equity method) (30,000) 30% (9,000)
Add:  Deductible
temporary difference Add:  Deferred
(DTD) 'FI<TI': tax asset (DTA):
Excess depreciation 8,000 30% 2,400
150
Current tax
4. C (650,000 taxable income x 30%) = 195,000 current tax

expense
5. C
Solution:
Multiply by
Pretax income before depn. 100,000
Depreciation expense * (12,000)
Pretax income after depn. 88,000
Permanent differences: -
Acctg. profit subj. to tax 88,000 30% ITE 26,000
Less: Excess depreciation
in taxation over financial
reporting (FI>TI)
(20,000 – 12,000*) (8,000) 30% Less:  DTL (2,000)
Taxable profit - 20x2 80,000 30% CTE 24,000
*(70,000 – 10,000) ÷ 5 = 12,000
6. C (12,000 x 25%) = 3,000
7. B
Solution:
Rent income - Financial reporting (36,000 x 6/12) 18,000
Rent income - Taxation 36,000
Deductible temporary difference (FI < TI) 18,000
Multiply by: Future tax rate 40%
Deferred tax asset 7,200
8. C
Solution:
Year Accrual method Installment method Difference
20x8 800,000 300,000
20x9 1,300,000 700,000
Totals 2,100,000 1,000,000 1,100,000
Multiply by: Tax rate 25%
Deferred tax liability - Dec. 31, 20x9 275,000
9. A (25,000 taxable temporary difference x 35%) = 8,750
10. C (300,000 taxable income x 30%) = 90,000

151
11. D
Solution:
Year Reversals* Tax rate Deferred tax
20x1 50,000 30% 15,000
20x2 50,000 25% 12,500
20x3 50,000 25% 12,500
40,000
*Lower depreciation per financial statements 150,000

Divide by: 3
Equal amounts of reversals 50,000
12. C
Solution:
Decrease in DTA (the beginning balance) 9,000
Increase in DTL (70K TTD x 30%) 21,000
Deferred tax expense 30,000
13. C
Solution:
DTA, Dec. 31, 20x1 before adjustment 20,000
Allowance (20,000 x 10%) (2,000)
DTA, Dec. 31, 20x1 after adjustment 18,000
DTA, Dec. 31, 20x0 15,000
Increase in DTA during 20x1 3,000
Income tax expense 10,000 (squeeze)

Add: Increase in DTA during 20x1 3,000
Current tax expense (equal to income tax payable) 13,000 (start)
14. A
Solution:
Share in associate’s profit 180,000
Dividends received (30,000)
Share in undistributed earnings 150,000
Multiply by: Percentage subject to taxation (100% - 80%) 20%
Taxable temporary difference 30,000
Multiply by: Substantially enacted tax rate for future periods 30%
Deferred tax liability – year-end 9,000
152
15. D (300,000 pretax income x 40%) = 120,000. The reversal of
deferred tax asset affects only the current tax expense but not
income tax expense.
16. C (1,000 taxable income x 30%) = 300
17. D
Solution:
Depreciation (FI>TI); TTD; DTL
(800 x 25% rate in 20x4, the yr. of reversal*) (200)
Warranty costs (FI<TI); DTD; DTA
(100 x 30% rate in 20x3) + (300 x 25% rate in 20x4) 105
Deferred tax expense (95)
* Depreciation reverses in 20x4 because it is on this year that the ‘minus’
function becomes an ‘addition’.
18. D
Solution:
Year of reversal Amounts Tax rate Deferred tax asset
20x1 100,000 30% 30,000
20x2 50,000 30% 15,000
20x3 50,000 30% 15,000
20x4 100,000 35% 35,000
95,000
19. A
Solution:
Concept: If the carrying amount (CA) of an asset exceeds its tax
base (TB), the difference is a taxable temporary difference which, if
multiplied by the tax rate, results to a deferred tax liability.
“For an asset: CA > TB = difference is TTD; TTD x Tax rate = DTL”
Consequently:
“For a liability: CA < TB = = difference is TTD; TTD x Tax rate = DTL”
In all of the items in the problem, the carrying amounts of the assets
(i.e., equipment and installment receivables) as of December 31,
20x1 exceed their tax bases (CA>TB). Therefore, the differences are
taxable temporary differences which give rise to deferred tax liability
and not deferred tax asset.
Also, the carrying amounts of the liabilities (i.e., warranty and deferred
compensation) as of December 31, 20x1 are less than their tax
153
bases. Therefore, the differences are taxable temporary differences
which give rise to deferred tax liability and not deferred tax asset.
Conclusion: No deferred tax asset is recognized on December 31,

20x1.
20. D
Solution:
Concept: If the carrying amount (CA) of an asset exceeds its tax
base (TB), the difference is a taxable temporary difference which, if
multiplied by the tax rate, results to a deferred tax liability.
“For an asset: CA > TB = difference is TTD; TTD x Tax rate = DTL”
Excess of CA over TB of asset (Taxable temp. difference) 250,000

Multiply by: Enacted future tax rate 40%
Deferred tax liability 100,000

1. C 11. D 21. A 31. C 41. C 51. A
2. D 12. B 22. C 32. D 42. A 52. C
3. A 13. B 23. A 33. C 43. A 53. B
4. A 14. C 24. B 34. C 44. D 54. B
5. A 15. C 25. A 35. B 45. C
6. D 16. B 26. D 36. A 46. D
7. D 17. B 27. C 37. D 47. D
8. A 18. C 28. D 38. A 48. A
9. A 19. B 29. C 39. C 49. C
10. A 20. C 30. D 40. B 50. D
Solution:
1. C (4,000 – 2,400) = 1,600
2. D Nil
3. A 4,000
4. A 4,000
5. A 4,000
6. D Nil
154
7. D Nil
8. A 4,000
9. A 4,000
10. A 4,000
11. D
Solution:
Multiply by
Add: Non-deductible
expenses:
Loss on expropriation 140,000
Premium on life
insurance 24,000
Non-taxable interest
income (20,000)
Add:  Deductible
temporary difference Add:  Deferred
(DTD) 'FI<TI' tax asset (DTA):
Warranty expense 60,000 30% 18,000
Rent received in advance 32,000 30% 9,600
Current tax
12. B (See solution above)
13. B (-12,000 change in DTL) + (18,000 + 9,600 change in DTA) =

15,600 deferred tax benefit
14. C 178,800 current tax expense – 80,000 tax payments = 98,800
15. C
155
How much is the deferred tax liability to be presented in the year-
end statement of financial position?
a. 24,600 b. 28,400 c. 26,400 d. 24,800
16. B
How much is the deferred tax asset to be presented in the year-
end statement of financial position?
a. 34,600 b. 38,400 c. 36,400 d. 34,800
Comprehensive problem
17. B
BELLICOSE WARLIKE Co. is determining the amount of its
pretax accounting income for the year by making adjustment to
taxable income from the company's year-end income tax return.
The tax return indicates taxable income of ₱400,000, on which a
tax liability of ₱120,000 has been recognized (₱400,000 x 30% =
₱120,000). Additional information is shown below:
Goodwill impairment loss not included as a deduction in
the tax return but may be deducted for financial 140,000
reporting.
Interest income on savings and time deposits with
private banks 24,000
Revenues from installment sales are recognized as
goods are sold but are taxed only when installment
payments are collected. 160,000
Excess of depreciation recognized for financial reporting
over depreciation recognized for taxation purposes due
to shorter depreciation period used for financial 40,000
reporting
Bad debt expense recognized using the allowance
method 60,000
How much is the pretax income?

a. 460,000 b. 344,000 c. 576,000 d. 480,000
Comprehensive problem – Asset-liability method

Use the following information for the next five questions:
Taken from the records of SCHOLIAST ANNOTATOR Co. as of
December 31, 20x1 is the following information:
Carrying Tax Differenc
amount base e
Computer software cost 2,000,000 - 2,000,000
2,400,00
Machinery 4,000,000 0 1,600,000
Accrued liability - health 800,000 - 800,000
156
care
Additional information:
 Development costs of software after technological feasibility was
established were capitalized for financial reporting. Such costs
were recognized as outright deductions for tax purposes.
 Straight line method is used in depreciating the machinery while
sum-of-the-years’ digits method is used for tax purposes.
 Health care benefits are accrued as incurred but are tax deductible
only when cash is actually paid.
 Pretax profit for 20x1 is ₱4,000,000. Income tax rate is 30%.
 There were no temporary differences as of January 1, 20x1.
18. C
How much is the deferred tax liability as of December 31, 20x1?
a. 1,800,000 b. 1,240,000 c. 1,080,000 d.
1,420,000
19. B
How much is the deferred tax asset as of December 31, 20x1?
a. 180,000 b. 240,000 c. 108,000 d. 142,000
20. C
How much is the income tax expense for the year?
a. 1,360,000 b. 1,240,000 c. 1,200,000 d.
1,420,000
21. How much is the current tax expense for the year?
a. 360,000 b. 240,000 c. 200,000 d. 420,000
22. How much is the deferred tax expense (benefit) for the year?
a. 480,000 b. (480,000) c. 840,000 d. (840,000)
Comprehensive problem
Use the following information for the next five questions:
PERNICOUS DEADLY Co. has the following information from its
comparative financial statements.
20x2 20x1
Trade account receivable from service
revenues 6,000,000 4,800,000
Prepaid insurance 480,000 400,000
36,000,00 38,000,00
Building - net of accumulated depreciation 0 0
Estimated liability for warranty obligation 1,200,000 1,120,000
157
Additional information:
 PERNICOUS recognizes revenues from service fees as services
are rendered but are taxed only when cash is collected. Total
collections in 20x2 amounted to ₱3,200,000.
 The prepaid insurance account pertains to the unexpired portion of
life insurance premiums taken on the life of key personnel.
PERNICOUS is the irrevocable beneficiary of the insurance policy.
Total premiums paid in 20x2 were ₱200,000.
 The building was acquired on January 1, 20x1 and is depreciated
over an estimated useful life of 20 years with no residual value.
The straight line method of depreciation is used for financial
reporting while the double declining balance method is used for
taxation.
 Warranty expense is recognized at the time goods are sold but are
tax deductible only when actually paid. Tax deductible warranty
expense for 20x2 amounted to ₱160,000.
 Pretax income in 20x2 is ₱4,000,000. Income tax rate is 30%.
23. How much is the deferred tax asset as of December 31, 20x1?
a. 336,000 b. 284,000 c. 341,000 d. 893,000
24. How much is the deferred tax liability as of December 31, 20x1?
a. 1,480,000 b. 2,040,000 c. 1,490,000 d.
1,520,000
25. How much is the deferred tax asset as of December 31, 20x2?
a. 360,000 b. 480,000 c. 479,000 d. 240,000
26. How much is the deferred tax liability as of December 31, 20x2?
a. 3,000,000 b. 1,800,000 c. 1,080,000 d.
2,880,000
27. How much is the income tax expense for 20x2?

a. 1,880,000 b. 1,479,000 c. 1,236,000 d.
1,420,000
28. How much is the current tax expense for 20x2?
a. 880,000 b. 479,000 c. 236,000 d. 420,000
Reversal of deferred tax asset and liability

Use the following information for the next four questions:
INFIRM SICK Co. started its operations on January 1, 20x1.
Information on temporary differences during the first two years of
operations is shown below.
Dec. 31, 20x2 Dec. 31, 20x1
Carryin Tax Diffe- Carryin Tax Diffe-
158
g base rence g base rence
amoun amoun
t t
Asset 400,0 360,00 480,0 400,00
s 00 0 40,000 00 0 80,000
Liabiliti 200,0 172,00 240,0 180,00
es 00 0 28,000 00 0 60,000
Pretax income were ₱1,600,000 and ₱2,000,000 in 20x2 and 20x1,

respectively. Income tax rate is 30%.
29. How much is the income tax expense in 20x1?

a. 480,000 b. 620,000 c. 600,000 d. 594,000
30. How much is the current tax expense in 20x1?

a. 549,000 b. 476,400 c. 600,000 d. 594,000
31. How much is the income tax expense in 20x2?

a. 600,000 b. 420,000 c. 480,000 d. 449,000
32. How much is the current tax expense in 20x2?

a. 476,400 b. 484,200 c. 594,000 d. 482,400
Revaluation surplus
Use the following information for the next six questions:
On January 1, 20x1, COPIOUS RICH purchased machinery for
₱4,000,000. The equipment is depreciated using the straight line
method over an estimated useful life of 10 years with no residual
value. On January 1, 20x3, the equipment was revalued at a
replacement cost of ₱6,000,000 with no change in useful life. The
pretax income before deduction for depreciation expense in 20x3 is
₱4,000,000. Income tax rate is 30%.
33. How much is the revaluation surplus as of January 1, 20x3?

a. 1,600,000 b. 1,220,000 c. 1,120,000 d.
1,200,000
34. How much is the related deferred tax liability as of January 1,

20x3?
a. 0 b. 380,000 c. 480,000 d. 400,000
35. How much is the revaluation surplus as of December 31, 20x3?

a. 4,200,000 b. 980,000 c. 870,000 d.
924,000
159
36. How much is the related deferred tax liability as of December 31,
20x3?
a. 420,000 b. 98,000 c. 87,000 d. 424,000
37. How much is the income tax expense for 20x3?

a. 1,200,000 b. 1,220,000 c. 1,380,000 d.
1,020,000
38. How much is the current tax expense for 20x3?
a. 1,080,000 b. 1,980,000 c. 1,870,000 d.
960,000
Compound instruments
39. On January 1, 20x1, SQUELCH SILENCE Co. issued a
convertible bond with face amount of ₱4M for ₱4.8M. The bond
matures in seven years and can be converted into ordinary
shares at any time. At the time of issuance, the bond is selling at
110 without the conversion feature. Income tax rate is 30%. How
much is the deferred tax liability arising from the issuance of the
compound financial instrument on January 1, 20x1?
a. 400,000 b. 280,000 c. 120,000 d. 0
Limitation on recognition of deferred tax asset

LEEWAY TOLERANCE Co. has the following information:
 Deductible temporary differences on December 31, 20x1 is
₱4,000,000.
 There are no temporary differences as of the beginning of the
year.
 Pretax income in 20x1 is ₱5,200,000 on which income tax
expense of ₱1,560,000 was recognized. Income tax rate is 30%.
 Taxable income in 20x1 is ₱9,200,000 on which current tax
expense of ₱2,760,000 was recognized.
LEEWAY’s results of operations have been declining. This has raised

doubt on whether deferred tax assets will be realized in the future.
LEEWAY then reassessed its deferred tax asset and concluded that it
is more likely than not that only half of the deferred tax asset will be
realized in the future.
40. How much is the adjusted deferred tax asset?

a. 1,200,000 b. 600,000 c. 800,000 d. 0
41. How much is the adjusted income tax expense?

a. 1,560,000 b. 1,200,000 c. 2,160,000 c.
960,000
160
42. How much is the adjusted deferred tax expense (benefit)?
a. (600,000) b. 600,000 c. (1,200,000) d. 1,200,000
43. How much is the adjusted current tax expense?

a. 2,760,000 b. 2,160,000 c. 3,360,000 d.
960,000
Deferred tax asset from loss carry forward

44. Information on COLTISH UNDISCIPLINED Co.’s operations
during the year is shown below.
 Revenues are recognized for financial reporting at point of sale
while revenues are taxed on cash basis. Gross profit recognized
for financial reporting amounted to ₱4,000,000 while taxable gross
profit is ₱3,200,000.
 Retirement benefit costs are deducted for financial reporting as
services are rendered by employees but are tax deductible only
when actually paid to retiring employees. Current service cost
recognized during the year is ₱400,000 while benefits paid to
retiring employees amounted to ₱600,000.
 Research costs amounting to ₱360,000 are expensed immediately
during the year for financial reporting. For taxation purposes,
research costs are amortized over a three-year period.
Amortization of research cost deducted for taxation purposes is
₱120,000.
 Unrealized losses of ₱40,000 was recognized during the year in
profit or loss on an investment in held for trading equity securities.
No equivalent adjustment was made for taxation purposes. Any
gain or loss on actual disposal of such securities is taxable (tax
deductible).
 Payments during the year for fines, surcharges, and penalties
arising from violation of law amounted to ₱160,000.
 COLTISH reported pretax income of ₱400,000. Income tax rate is
30%.
 Any operating loss can be carried over to the next period.
COLTISH expects to realize the economic benefit of any operating
loss carry forward.
How much are the deferred tax liability and deferred tax asset,
respectively?
Deferred tax asset Deferred tax liability
a. 300,000 132,000
b. 84,000 300,000
c. 300,000 84,000
d. 132,000 300,000
161
Investment in subsidiary
45. SURLY BAD TEMPERED Co. purchased goods with selling price
of ₱2,000,000 from an 80% owned subsidiary. The cost of the
goods to the subsidiary is ₱1,200,000. SURLY and its subsidiary
operate in different tax jurisdictions but have similar tax rates of
30%. The entire inventory is held by SURLY at year-end. How
much is the deferred tax asset arising from the transaction?
a. 600,000 b. 360,000 c. 240,000 d. 0
Investment in associate – deferred tax liability

46. PRENTICE Corporation uses the equity method to account for its
25% investment in LEARNER, Inc. During the year, LEARNER
reported profits of ₱4,000,000 and declared dividends of
₱800,000. Additional information is shown below:
 PRENTICE does not control the dividend policy of LEARNER. It is
probable that all undistributed earnings of LEARNER will be
distributed in future periods.
 In the jurisdiction where PRENTICE operates, dividends received
are eligible for 80% deductions.
 There are no other temporary differences.
 Income tax rate during the year is 30%. Income tax rate in
subsequent years based on a substantially enacted tax law by
year-end is 35%.
How much is the deferred tax liability as of year-end?

a. 48,000 b. 280,000 c. 240,000 d. 56,000
Investment in associate – income tax payable

47. On January 1, 20x1, HACK Corporation acquired 25% interest in
CHOP, Inc.. During the year, CHOP reported profits of
₱4,000,000 and declared and paid dividends of ₱800,000.
HACK’s pretax income is ₱1,400,000 in 20x1. The only temporary
difference arises from HACK’s investment in associate. Under the
jurisdiction where HACK operates, dividends received are eligible
for 80% dividends received deduction. Income tax rate is 30%.
How much is the current tax expense for the year?
a. 960,000 b. 288,000 c. 420,000 d. 132,000
Measurement of income tax expense – change in tax rate

48. SUPPLICATE BEG Co. has the following information relating to
its income tax as of December 31, 20x1:
 Provision for probable loss on litigation of ₱4,800,000 is
recognized for financial reporting. This amount is tax deductible
only when actually paid. SUPPLICATE expects to pay for the
accrued loss in 20x2.
162
 Revenue for financial reporting is recognized based on percentage
of completion while revenue for taxation purposes is recognized
based on collections on progress billings. Total revenue
recognized for financial reporting is ₱16,000,000 while revenue
recognized for taxation purposes is ₱12,800,000.
 Pretax income for the year is ₱16,000,000. Income tax rate for
20x1 is 30%. However, an enacted tax law that will take effect
starting January 1, 20x2 requires a tax rate of 32%.
 There were no temporary differences as of January 1, 20x1.
How much is the income tax expense?

a. 4,768,000 b. 5,120,000 c. 1,280,000 d. 1,192,000
Measurement of current tax liability and deferred tax liability

Use the following information for the next three questions:
WASHY PALE Co. follows a fiscal year that ends in June 30. On
January 1, 20x1, there has been a change in the tax rate in the
jurisdiction where WASHY Co. operates. The tax rate prior to January
1, 20x1 is 30% while the newly enacted tax rate that will apply from
January 1, 20x1 onwards is 35%. WASHY reported pretax profit of
₱1,280,000 for the fiscal year ended June 30, 20x1. The only
temporary difference pertains to a ₱16,000, one-year fire insurance
premium taken by WASHY on its building on January 1, 20x1. The
premium paid is tax deductible in full upon payment. There were no
temporary differences as of July 1, 20x0. There were also no
payments for income tax during the year.
49. How much is the deferred tax liability as of June 30, 20x1?
a. 28,000 b. 8,000 c. 2,800
d. 0
50. How much is the current tax liability as of June 30, 20x1?
a. 381,600 b. 450,800 c. 384,000 d. 413,400
51. How much is the income tax expense for the fiscal year ended
June 30, 20x1?
a. 416,200 b. 413,400 c. 448,000 d. 410,600
Measurement of deferred tax asset
52. On January 1, 20x1, CALLOW IMMATURE Co. does not have
any temporary differences. However, during the year, CALLOW
identified that temporary difference may result from a warranty
expense of ₱480,000 that was recognized for financial reporting
during 20x1. For taxation purposes, warranty expense is tax
deductible only when paid. Warranty costs paid during the year
totaled ₱200,000. It is expected that the remaining accrued
163
warranty costs will be paid as follows: ₱160,000 in 20x2 and
₱120,000 in 20x3. Income tax rate for 20x1 is 30%. However, as
of December 31, 20x1, a new tax law was enacted. Under the
new law, tax rate for 20x2 is 32% and tax rate in 20x3 and years
thereafter is 35%. How much is the deferred tax asset as of
December 31, 20x1?
a. 86,400 b. 51,200 c. 93,200
d. 42,000
Different tax rates apply to different levels of taxable income

53. On December 31, 20x1, an entity has an asset of ₱16,000 for
interest receivable that will be taxed when the cash is received in
20x2. Tax is payable at 20 per cent on the first ₱2,000,000 of
taxable profit earned and 30 per cent on any remainder (i.e.,
excess above ₱2,000,000). In 20x1 the entity earned taxable
profit of ₱1,800,000. In 20x2 the entity expects to earn taxable
profit of ₱2,200,000. What amount should the entity recognize for
the deferred tax liability relating to the interest receivable?
a. 360,000 b. 3,345 c. 3,200 d. 0
Revaluation of non-depreciable asset

54. On December 31, 20x1, the land of GUILE DECEITFULNESS Co.
with a historical cost of ₱80,000,000 has been appraised at
₱140,000,000. Income tax rate applicable to profits is 30% and
the tax rate applicable to profits made on the sale of property is
6%. How much is the deferred tax arising from the transaction?
a. 56,400,000 b. 3,600,000 c. 18,000,000 d. 0
Exercises
1. Answer: P800 (P2,000 – P1,200)

2. Answer: Nil or zero
3. Answer: P2,000
4. Answer: P2,000
5. Answer: P2,000
8. Answer: P2,000
9. Answer: P2,000
10. Answer: P2,000
11. Solutions:
Requirements (a) and (b) – Income tax expense and Current tax
expense
164
Mul-
tiply
Description of
Description of items by
Tax items
rate
Add: Non-deductible
expense:
Loss on expropriation 70,000
Premium on life
insurance 12,000
Non-taxable interest
income (10,000)
Less: Taxable temporary Deferred tax
difference (TTD) 'FI>TI': liability (DTL):
Add: Deductible
temporary difference Deferred tax asset
(DTD) 'FI<TI' (DTA):
Warranty expense 30,000 30% 9,000
Rent received in advance 16,000 30% 4,800
Current tax
Answers:
Requirement (a): 81,600
Requirement (b): 89,400
Requirement (c) – Deferred tax expense/benefit

Increase in DTL (6,000)
Increase in DTA (9,000 + 4,800) 13,800
Deferred tax benefit 7,800
Requirement (d) – Current tax payable

Current tax expense 89,400
Quarterly income taxes paid ( 40,000)
Income tax payable 49,400
Requirements (e) and (f) – DTL and DTA in the statement of

financial position
Ending balance of DTL = Ending balance of TTD x Tax rate

DTL, end. = (TTD beginning + increase during the year) x Tax rate
165
DTL, end. = (24,000 + 20,000) x 30%
Ending balance of DTL = 13,200
Ending balance of DTA = Ending balance of DTD x Tax rate

DTA, end. = (DTD beginning + increase during the year) x Tax rate
DTA, end. = [18,000 + (30,000 + 16,000)] x 30%
Ending balance of DTA = 19,200
12. Solution:
Pretax income (squeeze) 172,000
Add: Non-deductible expense:
Goodwill impairment loss not tax deductible 70,000
Less: Interest income subject to final tax (12,000)
Accounting profit subject to tax 230,000
Less: Taxable temporary difference (TTD) 'FI>TI':
Revenues accrued but taxed on cash basis (80,000)
Add: Deductible temporary difference (DTD) 'FI<TI'
Excess of depreciation 20,000
Bad debts recognized under allowance method 30,000
Taxable profit (start) 200,000
13. Solutions:
Requirement (a) – DTL and DTA
Assets:
Excess of carrying amount of software over its tax base 1,000,000
Excess of carrying amount of machinery over its tax base 800,000
Taxable temporary difference (TTD) 1,800,000
Deferred tax liability – Dec. 31, 20x1 540,000
Liability:
Excess of carrying amount of accrued liability over its
tax base 400,000
Deductible temporary difference (DTD) 400,000
Deferred tax asset – Dec. 31, 20x1 120,000
Requirement (b) – Income tax expense and Current tax expense

for the year
Mul-
tiply
Description of
Tax items
rate
Pretax income 2,000,000
166
Add/Less: Permanent
differences -
subject to tax 2,000,000 30% expense 600,000
Less: Taxable
temporary difference Deferred tax
(TTD) (1,800,000) 30% liability (DTL): (540,000)
Add: Deductible
(DTD) 400,000 30% asset (DTA): 120,000
Current tax
Taxable profit – 20x1 600,000 30% expense 180,000
Answer to Requirement (b): P600,000 income tax expense and

P180,000 current tax expense
Requirement (c) – Deferred tax expense/benefit

Increase in DTL (540,000)
Increase in DTA 120,000
Deferred tax expense ( 420,000)
14. Solutions:
Requirement (a) – DTL and DTA in statement of financial position
in 20x1 and 20x2
20x1
Trade account receivable – December 31, 20x1:
Tax base 0
Taxable temporary difference 2,400,000
Multiply by tax rate 30%
Deferred tax liability – December 31, 20x1 720,000
Building – December 31, 20x1

Tax base* (18,000,000)
*Tax base of the building as of December 31, 20x1 is computed as

follows:
Divide by: Unexpired life (straight line)a 19/20
Historical cost 20,000,000
167
Accumulated depreciation – December 31, 20x1
(20M x 10%) b ( 2,000,000)
Tax base – December 31, 20x1 18,000,000
a
The building is 1-year old as of December 31, 20x1 because the
acquisition date is January 1, 20x1.
b
Double declining rate is 10% (2 ÷ 20 years).
Estimated liability for warranty obligation – December 31, 20x1:

Carrying amount – December 31, 20x1 560,000
Tax base 0
Deductible temporary difference 560,000
Deferred tax asset – December 31, 20x1 168,000

Deferred tax liability – December 31, 20x1
(720,000 + 300,000) 1,020,000
20x2
Trade account receivable – December 31, 20x2:
Tax base 0
Building – December 31, 20x2:

Tax base* (16,200,000)
*Tax base of the building as of December 31, 20x2 is computed as

follows:
Historical cost (see previous computation) 20,000,000
Accumulated depreciation – December 31, 20x2
[2M + (18M x 10%)] ( 3,800,000)
Tax base – December 31, 20x2 16,200,000
Estimated liability for warranty obligation – December 31, 20x1:

Carrying amount – December 31, 20x1 600,000
Tax base 0
168
Deferred tax liability – December 31, 20x2

(900,000 + 540,000) 1,440,000
Requirement (b) - Income tax expense and Current tax expense

for 20x2
Mul-
tiply Description
Description of items by of items
Tax
rate
Add: Non-deductible
expense:
Premium on life
insurance* 60,000
Increase in
Less: Increase in TTD DTL: (1.440M
[(3M + .18M) - (2.4M + 1M)] (1,400,000) 30% – 1.020M) (420,000)
Increase in
Add: Increase in DTD DTA: (180K –
[(600,000) - (560,000)] 40,000 30% 168K) 12,000
Current tax
Taxable profit - 20x2 700,000 30% expense 210,000
*Prepaid insurance
Jan. 1, 20x2 200,000
Premiums paid 100,000 60,000 Insurance expense (squeeze)
240,000 Dec. 31, 20x2
15. Solutions:
20x1
Mul- Description of
Description of items tiply by items
Tax
rate
Add/less: Permanent
differences -
Accounting profit subject Income tax
to tax 1,000,000 30% expense 300,000
169
Less: Increase in TTD
(CA of asset > TB 
FI>TI  TTD  DTL) (40,000) 30% Increase in DTL (12,000)
Add: Increase in DTD 30,000 30% Increase in DTA 9,000

Current tax
20x2
Mul-
tiply
Description of
items
Tax
rate
Add/less: Permanent
differences -
Accounting profit subj. Income tax
to tax 800,000 30% expense 240,000
Add: Decrease in
TTD (40,000 - 20,000) 20,000 30% Decrease in DTL 6,000
Less: Decrease in
DTD (30K – 14K) (16,000) 30% Decrease in DTA (4,800)
Current tax
Answers:
Income tax expense – 20x1: 300,000
Current tax expense – 20x1: 297,000
Income tax expense – 20x2: 240,000
Current tax expense – 20x2: 241,200
16. Solutions:
Requirement (a) – Revaluation surplus and DTL as of January 1,
20x3
Multiply by: Unexpired life as of January 1, 20x3 8/10
Carrying amount as of January 1, 20x3 before revaluation 1,600,000
Replacement cost 3,000,000

Multiply by: Observed depreciation rate 8/10
Depreciated replacement cost 2,400,000
Revaluation surplus before tax = Depreciated replacement cost –

Carrying amount
170
Carrying amount - January 1, 20x3 (1,600,000)
Revaluation surplus before tax – Jan. 1, 20x3 800,000
The revaluation surplus before tax is allocated as follows:

Revaluation surplus after tax – Jan. 1, 20x3
(800,000 x 70%) = 560,000
Deferred tax liability – Jan. 1, 20x3 (800,000 x 30%) = 240,000
Requirement (b) – Revaluation surplus and DTL as of December

31, 20x3
Multiply by: Unexpired life as of December 31, 20x3 7/10
Carrying amount as of December 31, 20x3
ignoring revaluation 1,400,000
Replacement cost 3,000,000

Multiply by: Observed depreciation rate 7/10
Revaluation surplus before tax = Depreciated replacement cost –

Carrying amount

Carrying amount as of December 31, 20x3
ignoring revaluation (1,400,000)
Revaluation surplus before tax – ending balance 12/31/x1 700,000
Revaluation surplus after tax – Dec. 31, 20x3

(700,000 x 70%) = 490,000
Deferred tax liability – Dec. 31, 20x3 (700,000 x 30%) = 210,000
Requirement (c) - Income tax and Current tax expenses for 20x2
Mul-
tiply Description of
items
Tax
rate
Pretax income before
depreciation 2,000,000
Less: Depreciation
expense (2.4M ÷ 8 years) (300,000)
Pretax income after
depreciation 1,700,000
Add/ Less: Permanent
differences -
171
Add: Decrease in TTD:
excess of depreciation
recognized for financial
reporting over taxation Decrease in
purposes 'FI<TI' DTL
(300,000 - 200,000) 100,000 30% (240K – 210K) 30,000
Current tax
Taxable profit - 20x3 1,800,000 30% expense 540,000
17. Solution:
Net proceeds from issuance 2,400,000
(P2M x 110%) (2,200,000)
18. Solutions:
Requirement (a):
Deductible temporary difference - Dec. 31, 20x1 2,000,000
Tax rate 30%
Deferred tax asset before adjustment 600,000
Adjustment 50%
Deferred tax asset after adjustment 300,000
Requirement (b):
Income tax expense before adjustment in
realizable value of DTA 390,000
Adjustment to the realizable value of DTA 150,000
Income tax expense as adjusted 540,000
Since the deferred tax asset computed above represents the change
during the year, such amount is also the deferred tax benefit during
the year. The adjusted deferred tax benefit is 300,000 (P600K before
adjustment minus P300K adjustment).
Current tax expense for the year remains at P1,380,000. Current tax
expense is affected only upon reversal of deferred tax asset.
19. Solution:
Excess of gross profit recognized for financial reporting
over taxable gross profit (2M – 1,600,000) – ‘FI>TI’ 400,000
Excess of retirement benefits expense recognized for
taxation over retirement benefits expense recognized
for financial reporting (300,000 – 200,000) – ‘FI>TI’ 100,000
172
Taxable temporary differences 500,000
Excess of research cost expensed for financial reporting 120,000

over tax deductible research expense
(180,000 – 60,000) – ‘FI<TI’
Excess of loss recognized for financial reporting over tax
deductible loss – ‘FI<TI’ 20,000
Deductible temporary differences before operating loss
carry forward 140,000
Operating loss carry forward* 80,000
Deductible temporary differences – adjusted 220,000
*Operating loss carry forward is computed as follows:

Add: Non-deductible losses on fines, penalties, and
surcharges 80,000
Accounting profit subject to tax 280,000
Less: Taxable temporary difference (TTD) 'FI>TI': (500,000)
Add: Deductible temporary difference before NOLCO
(DTD) 'FI<TI' 140,000
Operating loss carry forward (80,000)
20. Solution:
Carrying amount of inventory in consolidated
financial statements (unrealized profit is eliminated) 600,000
Tax base (transaction price) (1,000,000)
21. Solution:
Associate’s profit for the year 2,000,000
Dividends declared by associate ( 400,000)
Associate’s undistributed earnings probable to be
distributed in the future 1,600,000
Multiply by ownership interest 25%
Share in associate’s undistributed earnings 400,000
Multiply by percentage subject to taxation (100% - 80%) 20%
Taxable temporary difference 80,000
173
Multiply by substantially enacted tax rate for future
periods 35%
Deferred tax liability – year-end 28,000
22. Solution:
The temporary difference and the related deferred tax are computed
as follows:
Associate’s profit for the year 2,000,000
Share in the profit of the associate – recognized in
profit or loss using the Equity method under PAS 28 500,000
Dividends declared by associate 400,000
Share in dividends – recognized as return of capital 100,000
Multiply by percentage subject to taxation (100% - 80%) 20%
Share in dividends subject to taxation 20,000
Taxable temporary difference (500,000 – 20,000) 480,000

Multiply by substantially enacted tax rate for future
periods 30%
Current tax expense is computed as follows:

Mul-
tiply Description of
items
Tax
rate
Add/ Less: Permanent
differences -
Less: Taxable
(TTD) ‘FI>TI’ 30% liability (DTL):
Excess of share in profit
of associate over
dividend received subject
to income tax [(2M x
25%) – (400K x 25% x
20%)] (480,000) (144,000)
Current tax
23. Solution:
Description of Tax
items rate
174
Pretax income START 2M
Permanent differences -
Acctg. profit subj. to SQUEEZE
2M N/A ITE 596K
tax
Revenue (FI>TI) (400K) 32% DTL (128K)
Provision (FI<TI) 600K 32% DTA 192K
Taxable profit 2.2M 30% CTE 660K
24. Solution:
Dec. Income tax expense (2.4M x 32%) 768,000
31, Deferred tax liability 128,000
20x1 Deferred tax asset 192,000
Income tax payable
[(2.4M + 400K – 600K) x 32%] 704,000
The amounts “400K” and “600K” pertain to the temporary differences

that have reversed. Decrease in TTD of 400K is added while
decrease in DTD of 600K is deducted from pretax profit in computing
for taxable profit, from which income tax payable is computed.
25. Solution:
Description of Tax
items rate
Pretax income START 640K
Permanent
-
differences
Acctg. profit subj. to SQUEEZE
640K N/A ITE 208,100
tax
Insurance
(FI>TI)a (4K) 35% DTL (1,400)
N/A
Taxable profit 636K b CTE 206,700
aInsurance expense recognized for financial reporting

(P8K x 6/12) 4,000
Insurance expense recognized for taxation (8,000)
Taxable temporary difference, TTD (FI>TI) (4,000)
bCurrent tax expense is computed as follows:
Taxable profit – July 1 to Dec. 31, 20x0 (636,000 x 6/12) 318,000
Tax rate applicable during the period - 20x0 30%
Current tax expense - 1st half of fiscal year 95,400
Taxable profit – Jan. 1 to June 30, 20x1 (636,000 x 6/12) 318,000
Tax rate applicable during the period - 20x1 35%
Current tax expense - 2nd half of fiscal year 111,300
175
Current tax expense for the fiscal year 206,700
Answers to requirement:
Deferred tax liability: 1,400
Current tax liability: 206,700
Income tax expense: 208,100
26. Solution:
Warranty cost Applicable tax Deferred tax
Year expected to be paid rate asset
20x2 80,000 32% 25,600
20x3 60,000 35% 21,000
Total 140,000 46,600
27. Solution:
Tax on first P1,000,000 of profit (1M x 20%) 200,000
Tax on excess profit over P1,000,000 (100K x 30%) 30,000
Tax on expected profit of P550K in 20x2 230,000
Divide by: Expected profit in 20x2 1,100,000
Average rate expected to apply on reversal date 20.91%
Multiply by: Temporary difference 8,000
Deferred tax liability 1,672.73
28. Solutions:
Appraised value 70,000,000
Carrying amount (40,000,000)
Revaluation surplus before tax 30,000,000
Requirement (a):
The entry on December 31, 20x1 is:
Dec. Land 30,000,000
31,
20x1
Deferred tax liability (30M x 6%) 1,800,000
Revaluation surplus (30M x 94%) 28,200,000
Requirement (b):
Pertinent entries for the sale are:
20x3 Cash 60,000,000
Loss on sale 10,000,000
Land 70,000,000
to record the sale of land
20x3 Revaluation surplus 28,200,000
Retained earnings 28,200,000
to transfer directly to retained
earnings the related revaluation on the land
sold
176
20x3 Deferred tax liability 1,800,000
Income tax payable* 1,800,000
to record the reversal of the
deferred tax liability related to the
revaluation surplus
*The effect of the reversal of deferred tax liability is analyzed as

follows:
Taxable gain based on historical cost
(60M selling price – 40M historical cost) 20,000,000
Non-tax deductible loss recognized for financial
reporting but not tax deductible – FI<TI (added back) 10,000,000
Excess of taxable profit over accounting profit (FI<TI) 30,000,000
Reversal of deferred tax liability – increase in
income tax payable 1,800,000
The reversal of deferred tax liability is further analyzed as follows:

Increase in income tax payable arising from the taxable gain
on the sale of the land
(60M selling price – 40M historical cost) x 6% 1,200,000
Increase in income tax payable arising from adding back
to pretax income the “loss on sale” recognized for
financial reporting but not tax deductible
(10M x 6%) – FI<TI 600,000
Reversal of deferred tax liability – increase in income
tax payable 1,800,000
177
Chapter 31 – Shareholders’ Equity (Part 1)
1. B 6. A
2. B 7. A
3. A 8. D
4. B 9. C
5. A 10. A

1. A 6. B
2. A 7. D
3. C 8. A
4. D 9. C
5. D 10. D
Solutions:
1. A
Solution:
Ordinary shares, ₱3 par 600,000
Treasury stock, at cost (50,000)
Accumulated other comprehensive income (Debit) (20,000)
Retained earnings appropriated for uninsured
earthquake losses 150,000
Retained earnings unappropriated 200,000
Total shareholders' equity 1,680,000
2. A
Solution:
Ordinary Preference
Total issue price 600,000 300,000
Par value 20,000 60,000
Share premium 580,000 240,000 820,000
3. C
Solution:
No. of sh. Fair value Totals Allocation
Ordinary sh. 1,000 36.00 36,000 32,000
178
Preference sh. 2,000 27.00 54,000 48,000
90,000 80,000
4. D
Solution:
Jan. Share capital (100,000 x ₱10) 1,000,000
2, Sh. premium – orig. issuance (2.7M x 100K/900K) 300,000
20x3
Retained earnings 500,000
Cash 1,800,000
Share premium Retained earnings

Dec. 31, 20x2 2,700,000 1,300,000
Debit (300,000) (500,000)
Jan. 2, 20x3 2,400,000 800,000
5. D
Solution:
Jan. Cash (20,000 x 15) 300,000
5,
20x1
Ordinary share (20,000 x 10) 200,000
July Treasury shares (5,000 x 17) 85,000
14,
Cash 85,000
20x1
Dec. Cash (5,000 x 20) 100,000
27,
20x1
Treasury shares (5,000 x 17) 85,000
Share premium – Treasury shares 15,000
6. B
Solution:
Dec. Cash (3,000 x 25) 75,000
27,
Treasury shares (3,000 x 18) 54,000
20x1
Share premium – Treasury shares 21,000
7. D
8. A
9. C (120,000 rights x ₱0.10) = 12,000 debit to share premium
10. D
Solutions:
Cash 675,000
Accounts receivable (net) [2.695M - 1M + (125K x 4)] 2,195,000
Inventory 2,185,000
Total current assets 5,055,000
179
Net sales and other revenues 13,360,000
Costs and expenses (11,180,000)
Profit before tax 2,180,000
Income tax expense 654,000
Income tax payments during the year (475,000)
Adjusted income tax payable 179,000
Accounts payable and accrued liabilities 1,801,000

Income tax payable 179,000
Working capital = Current assets – Current liabilities

Working capital = (5,055,000 – 1,980,000) = 3,075,000
Net sales and other revenues 13,360,000

Costs and expenses (11,180,000)
Profit before tax 2,180,000
Income tax expense (30% x 2,180,000) (654,000)
Profit after tax 1,526,000
Retained earnings, Jan. 1 3,350,000
Retained earnings, Dec. 31 4,876,000
Ordinary shares 2,300,000

Retained earnings, Dec. 31, 20x1 4,876,000
Shareholders' Equity 10,856,000

1. D 11. D 21. C 31. C
2. A 12. A 22. B 32. C
3. B 13. B 23. D 33. C
4. C 14. C 24. C 34. D
5. D 15. C 25. B 35. D
6. D 16. D 26. D 36. A
7. C 17. A 27. C
8. A 18. C 28. C
180
9. C 19. C 29. B
10. D 20. A 30. C
Solution:
Exercises
1. Solutions:
Requirement (a):
Jan. 1, 20x1
Memorandum method Journal entry method
Memo entry – Authorized capitalization Unissued share capital 2M
is P2,000,000 divided into 20,000 Authorized share capital 2M
shares with par value per share of
P100.
Cash on hand 125K Cash on hand 125K

(2M x 25% x 25%) (2M x 25% x 25%)
Subscription receivable 375K Subscription receivable 375K
Subscribed share capital 500K Subscribed share capital 500K
(2M x 25%) (2M x 25%)
Feb. 1, 20x1
Cash on hand 300K* Cash on hand 300,000*
Subscription receivable 300K Subscription receivable 300,000
Subscribed share capital 400K Subscribed share capital 400K
Share capital 400K Unissued share capital 400K
*Subscription price of 2,000 shares (2,000 x P200) 400,000

Portion already paid (400,000 x 25%) (100,000)
Balance collected 300,000
Feb. 28, 20x1

Cash on hand 200K Cash on hand 200K
(1,000 x P200) (1,000 x P200)
Share capital 200K Unissued share capital 200K
Requirement (b):
Share capital 600,000 Authorized share capital 2,000,000
Subscribed share capital 100,000 Unissued share capital (1,400,000)
Subscription receivable* (75,000) Issued share capital 600,000
Subscribed share capital 100,000
Subscription receivable* (75,000)
Total Share capital 625,000 Total Share capital 625,000
181
2. Solution:
Jan. Cash on hand (5,000 x P120) 600,000
1,
20x1
Share capital (5,000 x P100) 500,000
Share premium [5,000 x (P120 – P100)] 100,000
Jan. Subscription receivable (2,000 x P160) 320,000
31,
Subscribed share capital (2,000 x P100) 200,000
20x1
3. Solutions:
Requirement (a):
6% Preference share capital, P100 par value 400,000
Ordinary share capital, P50 par value 1,600,000
Subscribed share capital – ordinary, P50 par value 200,000
Legal capital 2,200,000
Requirement (b):
Case #2 – No-par value shares
6% Preference share capital, P100 par 400,000
Ordinary share capital, P50 stated value 1,600,000
Share premium – ordinary share capital 600,000
Subscribed share capital – ordinary, P50 stated value 200,000
Legal capital 2,800,000
4. Solution:
Jan. Cash on hand (1,000 x P240) 240,000
1,
Share capital (1,000 x P200) 200,000
20x1
Jan. 1, Share premium (1,000 x P10) 10,000
20x1
Cash on hand 10,000
5. Solution:
Date Cash on hand (1,000 x P160) 160,000
Discount on share capital 40,000
6. Solution:
Date Land 160,000
Discount on share capital 40,000
7. Solutions:
July 1, Treasury shares (1,000 x P90) 90,000
July 1, Retained earnings – unrestricted 90,000
182
20x1 Retained earnings – appropriated 90,000
Requirement (a):
Sept. 1, Cash on hand (1,000 x P90) 90,000
20x1 Treasury shares (1,000 x P90) 90,000
Sept. 1, Retained earnings – appropriated 90,000
20x1 Retained earnings – unrestricted 90,000
Requirement (b):
20x1 Treasury shares (1,000 x P90) 90,000
Share premium – treasury shares 50,000
20x1 Retained earnings – unrestricted 90,000
Requirement (c):
Sept. Cash on hand (1,000 x P60) 60,000
1, 20x1 (a) Share premium – treasury shares -
(b) Retained earnings 30,000
Treasury shares (1,000 x P90) 90,000
Sept. Retained earnings – appropriated 90,000
1, 20x1 Retained earnings – unrestricted 90,000
8. Solution:
Requirement (a):
July 1, Treasury shares (1,000 x P80) 80,000
July 1, Retained earnings – unrestricted 80,000
Sept. Share capital (1,000 x P100) 100,000

1, 20x1 Share premium – original issuance 20,000
[1,000 x (P320K/16K sh.)]
Share premium - retirement 40,000
Sept. Retained earnings – appropriated 80,000
1, 20x1
Retained earnings – unrestricted 80,000
Requirement (b):
July Share capital (1,000 x P100) 100,000
1, Share premium – original issuance 20,000
20x1 (1,000 x P20)
(a) Share premium – treasury shares 5,000
(b) Retained earnings (balancing figure) 15,000
Cash in bank (1,000 x P140) 140,000
183
9. Solution:
July Treasury shares (1,000 x P100 par value) 100,000
1, Share premium – original issuance (1,000 x P20) 20,000
20x1
Cash in bank (1,000 x P80) 80,000
July Retained earnings – unrestricted 80,000
1,

20x1
20x1
Retained earnings – unrestricted 80,000
10. Solution:
Date Cash on hand 200,000
Land 1,000,000
Share premium – donated capital 1,200,000
11. Solution:
The receipt of the shares is recorded through memo entry as follows:
“Received 1,000 shares with par value of P100 from shareholder as
donation.”
The subsequent reissuance of the donated shares is recorded as

follows:
Date Cash on hand (1,000 x P260) 260,000
Share premium – donated capital 260,000
Chapter 32 – Shareholders’ Equity (Part 2)

1. C 6. D 11. B
2. A 7. B 12. A
3. D 8. C 13. A
4. C 9. A 14. E
5. A 10. C 15. C

1. A 6. B 11. A
184
2. A 7. C 12. C
3. A 8. A 13. B
4. A 9. C 14. C
5. B 10. B
Solutions:
1. A (300,000 + 60,000 profit) = 360,000. The reissuance of the
treasury shares did not affect retained earnings because the
reissuance price exceeds the cost.
2. A
Solution:
Total profit since incorporation 420,000
Total cash dividends paid (130,000)
Total value of property dividends distributed (30,000)
Retained earnings to date 260,000
The excess proceeds on the sale of treasury shares are credited to

share premium.
3. A
Solution:
Issued Outstanding
Issued as of Dec. 31, 20x1 100,000 100,000
Treasury shares as of Dec. 31, 20x1 (5,000)
20x2 transactions:
May 3 - reissuance of treasury shares 1,000
Aug. 6 - issuance of new shares 10,000 10,000
Totals 110,000 106,000
Nov. 18 - 2-for-1 share split 2 2
Ending balances 220,000 212,000
4. A
Solution:
Outstanding shares - Dec. 31, 20x1 300,000
Jan. 31 - 10% stock dividend (300,000 x 10%) 30,000
June 30 - treasury stock acquisition (100,000)
Aug. 1 - reissuance of treasury stock 50,000
Total 280,000
Nov. 30 - 2-for-1 stock split 2
Outstanding shares - Dec. 31, 20x2 560,000
185
5. B (100,000 x 2) x .50 = 100,000
6. B
Solution:
Total cash dividends declared 44,000
Dividends to preference sh. [(4,000 x 100 x 6%) + 12,000] (36,000)
Dividends to ordinary sh. 8,000
7. C
Solution:
Total dividends declared 100,000
Allocation:
Basic allocation to preference shares: (30,000 x 10 x 5%) 15,000
Basic allocation to ordinary shares: (200,000 x 1 x 5%) 10,000
Excess subject to participation (100,000 – 15,000 – 10,000) 75,000
Participation of preference sh. (75,000 x 3/5) 45,000
Participation of ordinary sh. (75,000 x 2/5) 30,000
Balance -
Total dividends to ordinary shareholders = 10,000 + 30,000 = 40,000
8. A Although property dividends are accounted for at fair value,

their net effect on retained earnings is a decrease equal to the
carrying amount of the property dividends as at the declaration
date.
9. C (2.50 – 2) x 100,000 = 50,000
10. B
Solution:
10% ('small' dividend) - at fair value 15,000
28% ('large' dividend) - at par value 30,800
Total debit to retained earnings 45,800
11. A stock dividend payable is not a liability.
12. C
Share splits do not affect total shareholders’ equity. The aggregate
par value of outstanding shares remains the same after a share split.
The entry to record the share split is as follows:
Apr. Common stock (old) (50,000 sh. x ₱20) 1,000,000
27,
Common stock (new) (100,000 sh. x ₱10) 1,000,000
20x1
13. B Share premium is not affected by share splits.
186
14. C
Solution:
The entries to record the quasi-reorganization are as follows:
Jan. Share capital [(₱30 – ₱5) x 10,000 sh.] 250,000
2,
20x2
to record the reduction of par value
Jan. Share premium 210,000
2,
Retained earnings
20x2
to wipe out the deficit 210,000
Share premium - Dec. 31, 20x1 150,000

Credit (see journal entries above) 250,000
Debit (see journal entries above) (210,000)
Share premium after quasi-reorganization 190,000

1. A 11. B 21. D
2. A 12. C 22. A
3. C 13. B 23. D
4. B 14. B 24. D
5. C 15. A 25. A
6. A 16. A 26. C
7. B 17. B 27. D
8. B 18. A 28. A
9. D 19. C 29. C
10. C 20. B 30. C
Exercises
1. Solution:
Cash dividends payable is computed as follows:
Shares issued (P1,600,000 ÷ P100 par) 16,000
Shares subscribed (P440,000 ÷ P100 par) 4,400
Treasury shares (P288,000 ÷ P120 cost) ( 2,400)
Outstanding shares 18,000
Multiply by: Dividends per share 50
Total cash dividends declared 900,000
The pertinent entries are:

187
April 1, 20x1 Retained earnings or 900,000
(Date of Dividends*
declaration) Cash dividends payable** 900,000
April 15, 20x1
(Date of No entry
record)
May 1, 20x1 Cash dividends payable 900,000
(Date of Cash in bank 900,000
distribution)
2. Solution:
Scrip dividends payable is computed as follows:
Multiply by: Par value per share 100
Aggregate par value of outstanding shares 1,800,000
Multiply by: Dividends as percentage of par value 50%
Total scrip dividends declared 900,000
Pertinent entries are:

April 1, 20x1 Retained earnings or 900,000
(Date of Dividends
declaration) Scrip dividends payable 900,000
April 15, 20x1
(Date of record) No entry
Sept 30, 20x1 Scrip dividends payable 900,000

(Date of Interest expense 45,000
distribution) (900,000 x 10% x 6/12)
3. Solutions:
The entries on July 1, 20x1 are as follows:
July Retained earnings 1,600,000
1,
Property dividends payable 1,600,000
20x1
to record declaration of property
dividends
July Non-current asset held for distribution
1,
20x1
to owners 1,600,000
Impairment loss 400,000
Investment in associate 2,000,000
to record reclassification of
investment in shares declared as property
dividends
188
The entries on Dec. 31, 20x1 are as follows:
Dec. Retained earnings 600,000
31,
Property dividends payable 600,000
20x1
(2.2M – 1.6M)
to record adjustment of dividend
payable for change in fair value of non-
cash assets
Dec. Non-current asset held for distribution to 400,000
31,
owners
20x1
Gain on impairment recovery 400,000
to recognize gain on impairment
recovery
The entries on Feb. 1, 20x2 are as follows:

Feb. Property dividends payable 300,000
1,
Retained earnings (2.2M – 1.9M) 300,000
20x2
to adjust dividends payable for fair
value change as of settlement date
Feb. Property dividends payable 1,900,000
1,
Loss on distribution of property 100,000
20x2
dividend
Non-current asset held for 2,000,000
distribution to owners
to record distribution of property
dividends
4. Solution:
1, Property dividends payable 1,600,000
20x1 to record declaration of property
dividends
July Impairment loss 400,000
1, Inventory 400,000
20x1 to record write-down of inventory to
NRV

July Retained earnings (2.2M – 1.6M) 600,000
31, Property dividends payable 600,000
20x1 to adjust dividends payable for
fair value change as of settlement date
July Property dividends payable 2,200,000
31, Inventory 1,600,000
20x1 Gain on distribution of property 600,000
dividend
189
dividends
5. Solution:
20x1 to record declaration of property
dividends

July Retained earnings (2.4M – 2.2M) 200,000
31, Property dividends payable 200,000
20x1 to adjust dividends payable for fair
value change as of settlement date
July Property dividends payable 2,400,000
31, Inventory 2,000,000
20x1 Gain on distribution of property 400,000
dividend
dividends
6. Solution:
The fair values of each alternative adjusted for associated probability
is computed as follows:
Alternatives Fair value Probability Dividends payable
Cash dividends 2,000,000 60% 1,200,000
Property dividends 1,600,000 40% 640,000
100% 1,840,000
The entries on April 1, 20x1:

April Retained earnings 1,840,000
1, Cash dividends payable 1,200,000
20x1 Property dividends payable 640,000
to record declaration of dividends
April Unrealized loss on fair value change 400,000
1, – P/L
20x1 Held for trading securities 400,000
to recognize change in fair value of
investment
The fair values of each alternative are again adjusted on April 30,
20x1 as follows:
Alternatives Fair value Settlement Dividends payable
Cash dividends 2,000,000 30% 600,000
Property dividends 2,200,000 70% 1,540,000
190
100% 2,140,000
The entries on April 30, 20x1:

April Retained earnings 300,000
30, Cash dividends payable (1.2M – 600K) 600,000
20x1 Property dividends payable 900,000
(1.540M – 640K)
to adjust dividends payable for fair
value changes as of settlement date
April Cash dividends payable 600,000
Held for trading securities 1,120,000
(800K x 70%)
Gain on distribution of property 420,000
dividends
to record settlement of dividends
7. Solution:
The share dividends declared is determined as “small” or “large” as
follows:
Share dividends declared – “1 sh. for every 10 shares held” 1/10
Percentage of share dividends declared 10%
The share dividends declared is considered “small” because it is less

than 20%.Thus, fair value accounting is appropriate.
Share dividends distributable is computed as follows:

Multiply by: Dividends declared 1/10
Number of shares declared as dividends 1,800
Total share dividends distributable 180,000

April 1, 20x1 Retained earnings 216,000
(Date of (1,800 sh. x P120)
declaration) Share dividends 180,000
distributable
April 15,
20x1 No entry
(Date of
191
record)
May 1, 20x1 Share dividends distributable 180,000
(Date of Share capital 180,000
distribution)
8. Solution:
The share dividends declared is determined as “small” or “large” as
follows:
Share dividends declared – “1 sh. for every 5 shares held” 1/5
Percentage of share dividends declared 20%
The share dividends declared is considered “large” because it meets

the threshold of “20% or more.” Thus, fair value accounting is not
appropriate.

Number of dividends declared 3,600

April 1, 20x1 Retained earnings (3,600 x P100) 360,000
(Date of Share dividends distributable 360,000
declaration)
April 15, 20x1
(Date of No entry
record)
(Date of Share capital 360,000
distribution)
9. Solutions:
April 1, Retained earnings (2M x 20%) 400,000
20x1 Share dividends distributable 400,000
(Date of
declaration)
April 15,
20x1
(Date of
No entry
record)
May 1, Share dividends distributable 400,000
20x1 Share capital (3,400 x P100) 340,000
(Date of Share premium – warrants 60,000
distribution) outstanding (600 x P100)
192
June 1, Share premium – warrants outstanding 50,000
20x1 Share capital (500 x P100) 50,000
to record the issuance of the 500 full
shares
June 1, Share premium – warrants outstanding 10,000
20x1 Share premium (100 x P100) 10,000
to transfer directly within equity the share
premium arising from expired warrants
10. Solution:
Shares issued (P1.6M ÷ P100 par) 16,000
Number of treasury shares declared as dividends 1,800
Multiply by: Cost per share 120

April 1, 20x1 Retained earnings (1,800 x P120) 216,000
(Date of Share dividends 216,000
declaration) distributable
April 15,
20x1
(Date of
No entry
record)
(Date of Treasury shares 216,000
distribution)
May 1, 20x1 Treasury shares – appropriated 216,000
Treasury shares – 216,000
unrestricted
to reverse appropriation on
treasury shares issued as dividends
11. Solutions:
Requirement (a) – Preference share is noncumulative
Total dividends declared 3,600,000
Allocation:
Allocation to preference shares: (4M par x 10% x 1 yr.) 400,000
Excess allocated to ordinary shares: (1.8M - 200,000) 3,200,000
Balance -
Requirement (b) – Preference share is cumulative
193
Allocation:
Allocation to preference shares: (4M par x 10% x 3 yrs.) 1,200,000
Excess allocated to ordinary shares: (1.8M - 200,000) 2,400,000
Balance -
Requirement (c) – Preference share is noncumulative and fully

participating
Allocation:
Basic allocation to preference shares:
(4M par x 10% x 1 yr.) 400,000
Basic allocation to ordinary shares:
(16M par x 10% x 1 yr.) 1,600,000
Excess subject to participation (3.6M - .4 - 1.6) 1,600,000
Participation of preference shares
(1,600,000 x 4M par/ 20M par) 320,000
Participation of ordinary shares
(1,600,000 x 16M par/ 20M par) 1,280,000
Balance -
The allocated amounts are reconciled with the total dividends

declared as follows:
Total dividends allocated as:
Allocation to preference shares:
(400K basic + 320K participation) 720,000
Allocation to ordinary shares:
(1.6M basic + 1.28M participation) 2,880,000
As allocated 3,600,000
Requirement (d) – Preference share is cumulative and fully

participating
Allocation:
(4M par x 10% x 3 yrs.) 1,200,000
(16M par x 10% x 1 yr.) 1,600,000
Excess subject to participation 800,000
Participation of preference shares (800,000 x 4M/20M) 160,000
Participation of ordinary shares (800,000 x 16M/20M) 640,000
194
Balance -

(1.2M basic + 160K participation) 1,360,000
Requirement (e) – Preference share is cumulative and

participating up to 16%
Allocation:
(4M par x 10% x 3 yrs.) 1,200,000
(16M par x 10% x 1 yr.) 1,600,000
Excess subject to participation 800,000
Participation of preference shares [4M par x (16% - 10%)*] 240,000
Excess allocated to ordinary shares (800,000 - 240,000) 560,000
Balance -

12. Solution:
Allocation:
Basic allocation to 10% preference shares:
(4M par x 10% x 3 yrs.) 1,200,000
Basic allocation to 12% preference shares:
(12M par x 12% x 1 yr.) 1,440,000
Basic allocation to ordinary shares: 1,600,000
195
(16M par x 10% x 1 yr.)*
Excess subject to participation 3,760,000
Participation of 10% preference shares
(3,760,000 x 2M/16M) 470,000
Participation of 12% preference shares
(3,760,000 x 6M/16M) 1,410,000
Participation of ordinary shares (3,760,000 x 8M/16M) 1,880,000
Balance -

Allocation to 10% preference shares: (1.2M + 470K) 1,670,000
Allocation to 12% preference shares: (1.440M +1.410M) 2,850,000
Allocation to ordinary shares: (1.6M + 1.880M) 3,480,000
13. Solution:
Date Share capital 2,000,000
Share capital (20,000 x P80) 1,600,000
Share premium – recapitalization 800,000
14. Solution:
1 Building (P3M – P1.6M) 1,400,000
Revaluation surplus 1,400,000
to record revaluation of building
2 Retained earnings 1,200,000
Receivables (4,000,000 x 30%) 1,200,000
to record write-off of receivables
3 Retained earnings 1,100,000
Inventory (3.1M – 2M) 1,100,000
to record write-down of inventory
4 Retained earnings 100,000
Goodwill 100,000
to record write-down of goodwill
5 Retained earnings 60,000
Estimated liability on pending 60,000
lawsuit
to recognize provision for
probable loss on pending lawsuit
6 Share capital 5,000,000
to record recapitalization effected
196
through reduction of share capital
7 Revaluation surplus 1,400,000
to wipe out deficit
15. Solutions:
Requirement (a): Shareholders’ equity on July 1, 20x1
The recapitalization on July 1, 20x1 are recorded as follows:
July Ordinary share capital – old 4,000,000
1, Ordinary share capital – new 2,000,000
20x1 (40,000 ÷ 2) x P100
to record recapitalization
July Retained earnings (20,000 x ½ x P100) 1,000,000
1, Ordinary share capital – new 1,000,000
20x1 to record ordinary share
dividends issued to preference
shareholders
July Share premium 2,000,000
1, Retained earnings 2,000,000
20x1 to wipe out deficit
The number of outstanding ordinary shares after the recapitalization

is computed as follows:
New shares issued to replace old shares recalled
[40,000 old shares x (1 new share / 2 old shares)] 20,000
New shares issued as share dividend to preference
shareholders (20,000 preference shares outstanding
x ½ new ordinary share) 10,000
Outstanding ordinary shares – July 1, 20x1 30,000
The shareholders’ equity of ABC on July 1, 20x1 would appear as

follows:
10% Preference shares, P100 par, cumulative, 20,000 shares
issued and outstanding 2,000,000
Ordinary shares, P100 par, 30,000 shares issued and
outstanding 3,000,000
Share premium -
Retained earnings -
Notice that the total of shareholders’ equity is not affected by the

recapitalization.
Requirement (b): Shareholders’ equity on December 31, 20x1
197
The transactions for the remainder of the year are recorded as
follows:
Sept Preference shares 1,000,000
30, (10,000 x P100 par value)
20x1
Retained earnings 100,000
[10,000 x (P100 + P10 premium)]
to record the recall and retirement
of 5,000 preference shares
Sept Retained earnings 25,000
30,
20x1
Cash in bank 25,000
(10,000 x P100 x 10% x 3/12)
to record 3-month dividends paid
on preference shares retired
Oct. Cash on hand (6,000 x P150) 900,000
31,
Ordinary share capital – new 600,000
20x1
(6,000 x P100)
to record issuance of ordinary
shares
Dec. Income summary 2,200,000
31,
20x1
to close profit to retained
earnings
Dec. Retained earnings 2,000,000
31,
20x1
Retained earnings – 2,000,000
appropriated*
to restrict retained earnings for the
deficit wiped out during quasi-
reorganization
Dec. Retained earnings** 68,000
31,
20x1
Dividends payable – preference 50,000
shares
Dividends payable – ordinary 18,000
shares
to record dividend declaration
*Retained earnings after quasi-reorganization is restricted to the

extent of the deficit wiped out during quasi-reorganization (P1M deficit
+ P1M liquidation of dividend in arrears). See journal entry on July 1,
20x1.
**The dividends are computed as follows:

Number of preference shares outstanding as of July 1, 20x1 20,000
Number of preference shares recalled on
September 30, 20x1 (10,000)
Number of preference shares outstanding as of
198
December 31, 20x1 10,000
Aggregate par value of outstanding preference shares 1,000,000
Multiply by: Preference dividend rate 10%
Annual preference dividend 100,000
Multiply by: 6/12
Semi-annual preference share dividend 50,000
Number of ordinary shares outstanding after recapitalization

on July 1, 20x1 (see previous computation) 30,000
Number of ordinary shares issued on October 31, 20x1 6,000
Number of ordinary shares outstanding as of
December 31, 20x1 36,000
Multiply by: Declared cash dividends per share 0.50
Ordinary share dividend 18,000
The shareholders’ equity on December 31, 20x1 would appear as

follows:
10% Preference shares, P100 par, cumulative, 10,000 shares
issued and outstanding 1,000,000
Ordinary shares, P100 par, 15,000 shares issued and
outstanding 3,600,000
Retained earnings - appropriated 2,000,000
Retained earnings - unrestricted 7,000
199
200
Chapter 33 – Share-based Payments (Part 1)
1. C 6. B
2. C 7. C
3. A 8. C
4. B 9. C
5. C 10. B

Solutions:
1. A (140 – 5) x 1,000 = 135,000; The ₱160 per hour billing price is
not deemed the fair value of the legal services received.
2. D (1,000 x 7) = 7,000. In the absence of evidence to the contrary,

it shall be presumed that share options vest immediately.
3. B (3,000 shares x ₱8 fair value per option x ½) = 12,000
4. A (12,000 x 70%) = 8,400
5. C (350,000 employee withholdings x 2) = 700,000 employer’s

contribution
6. C (40,000 x 10 x 96% x 1/2) = 192,000
7. A 45,000 cash contribution + (3,000 x 18) fair value of stock

contribution = 99,000

1. A 11. A 21. A 31. D 41. A 51. A
2. C 12. B 22. C 32. B 42. C 52. A
3. D 13. D 23. A 33. C 43. C 53. B
4. C 14. A 24. C 34. C 44. C 54. C
5. B 15. C 25. A 35. C 45. C 55. B
6. C 16. B 26. A 36. A 46. C
7. A 17. B 27. B 37. A 47. C
8. C 18. B 28. D 38. C 48. B
9. A 19. D 29. B 39. C 49. B
10. B 20. C 30. C 40. C 50. C
201
Exercises
1. Solution:
Dec. Building 3,000,000
31,
20x1
Subscribed share capital 2,000,000
(10,000 x P200)
Share premium (squeeze) 1,000,000
Jan. Subscribed share capital 12000,000
31,
20x1
Share capital 2,000,000
2. Solutions:
Salaries expense is computed as follows:
Fair value of share options at grant date:
Jan. (10,000 share options x P30 per sh. option) 300,000
1, Multiply by: Vesting period passed over Total vesting
20x1 period N/A
Salaries expense for current year - 20x1 300,000
The entry to record the share options on grant date is:

Jan. Salaries expense – share options 300,000
1, (10,000 x P30)
20x1
Share premium – share options 300,000
outstanding
The entry to record the exercise of the share options is:

July Cash on hand (10,000 x P220) 2,200,000
1,
20x1
Share capital (10,000 x P200) 2,000,000
July Share premium – share options 300,000
1,
outstanding
20x1
3. Solutions:
Salaries expenses are computed as follows:
Dec. Number of share options granted per employee 1,000
31, Multiply by: # of employees expected to remain in
20x service 100
1
Total share options expected to vest 100,000
Multiply by: Fair value per share option at grant date 30
Fair value of share options at grant date 3,000,000
Multiply by: Vesting period passed over Total vesting 1 yr. /3
period yrs.
Cumulative salaries expense to date 1,000,000
Salaries expense recognized in previous periods -
202
Salaries expense for current year - 20x1 1,000,000
Dec. Fair value of share options at grant date

31, (100 x 1,000 x 30) 3,000,000
20x2 Multiply by: Vesting period passed over Total vesting
period 2 yrs. /3 yrs.
Salaries expense recognized in previous periods
(1M in 20x1) (1,000,000)

31, (100 x 1,000 x 30) 3,000,000
period 3 yrs. /3 yrs.
(1M + 1M) (2,000,000)
Salaries expense for current year - 20x3 1, 000,000

Memo entry
Jan. (“Granted 1,000 share options to 100 key -
1, employees on Jan. 1, 20x1. Fair value per -
20x1 share option on Jan. 1, 20x1 is P30.”)
Dec. Salaries expense – share options 1,000,000

31, [(100 x 1,000 x P30 x 1/3)
20x1 Share premium – share options 1,000,000
outstanding
31, [(100 x 1,000 x 30 x 2/3) – 1M]
outstanding
31, [(10 x 1,000 x 30 x 3/3) – 2M]
outstanding
4. Solutions:
31, (100 employees - 20) x 1,000 sh. options x P30 per sh. option) 2,400,000
20x Multiply by: Vesting period passed over Total vesting
1 period 1 yr. /3 yrs.
Cumulative salaries expense to date 800,000
203

31, [(100 – 20) x 1,000 x 30] 2,400,000
2 period 2 yrs. /3 yrs.
Salaries expense recognized in previous periods (800,000)

31, [(100 – 20) x 1,000 x 30] 2,400,000
20x
3 Multiply by: Vesting period passed over Total vesting
period 3yrs. /3yrs.
(800K + 800K) (1,600,000)

Jan.
1, Memo entry
20x1
Dec. Salaries expense – share options 800,000
31, [(100 – 20) x 1,000 x P30 x 1/3]
20x1 Share premium – share options 800,000
outstanding
31, [(100 – 20) x 1,000 x P30 x 2/3] – 800,000
outstanding
31, [(100 – 20) x 1,000 x P30 x 3/3] – 1,600,000
outstanding
5. Solutions:
31,
20x (100 employees - 15) x 1,000 sh. options x P30 per option) 2,550,000
1 Multiply by: Vesting period passed over Total vesting
period 1/3
204
31, [(100-12) x 1,000 x 30] 2,640,000
2
period 2/3
Dec Fair value of share options at grant date

. 31, [(100-10) x 1,000 x 30] 2,700,000
3 period 3/3
Salaries expense recognized in previous periods (1,760,000)

Jan.
1, Memo entry
20x1
31, [(100 – 15) x 1,000 x P30 x 1/3]
outstanding
31, [(100 – 12) x 1,000 x P30 x 2/3] – 850,000
outstanding
31, [(100 – 10) x 1,000 x P30 x 3/3] – 1,760,000
outstanding
6. Solution:

31, [(100 employees - 20) x 1,000 x P30 per sh. option] 2,400,000
period 1/3

31, [(100 - 20) x 1,000 x 30] 2,400,000
20x2
Multiply by: Vesting period passed over Total vesting 2/3
205
period

31, [100 x 1,000 x 30] 3,000,000
period 3/3
Salaries expense recognized in previous periods (1,600,000)

Jan.
1, Memo entry
20x1
31, [(100 – 20) x 1,000 x P30 x 1/3]
outstanding
31, [(100 – 20) x 1,000 x P30 x 1/3] – 800,000
outstanding
31, (100 x 1,000 x P30 x 3/3) – 1,600,000
outstanding
7. Solution:
Before vesting
Dec. Market price per share on Dec. 31, 20x1 110
31, Exercise price per share (100)
20x1
Intrinsic value per share - Dec. 31, 20x1 10
Multiply by: Number of share options expected to vest
(10 x 100 x 70%) 700
Intrinsic value of share options granted 7,000
Multiply by: Vesting pd. passed over Total vesting pd. 1/2
206
Dec. Market price per share on Dec. 31, 20x2 120
31,
20x2 Exercise price (100)
Intrinsic value per share - Dec. 31, 20x2 20
Multiply by: Number of share options that have
actually vested 600
Intrinsic value of share option granted 12,000
After vesting
Dec Change in intrinsic value of vested share options that were exercised
. 31, during the yr.:
20x
3 [300 x (P150 – P120)] 9,000
Change in intrinsic value of vested share options that are not yet
exercised:
[300 x (P150 – P120)] 9,000
. during the yr.:
31,
20x [100 x (P124 – P150)] (2,600)
4
Change in intrinsic value of vested share options that are not yet
exercised:
[200 x (P124 – P150)] (5,200)
Salaries expense for current year - 20x4 (7,800)
. during the yr.:
31,
20x
[200 x (P160–P124)] 7,200
5 Salaries expense for current year - 20x5 7,200

Jan. 1,
20x1
Memo entry
31, [(100 x 10 x 70%) x (P110 – P100) x 1/2)]
outstanding
31, [600 x (P120 – P100) x 2/2)] – 1,750
outstanding
207
31, [300 x (P150 – P120)] + [300 x (P150 – P120)]
outstanding
Dec. Share premium – share options outstanding 7,800
31, Gain on decline of intrinsic value 7,800
20x4 [100 x (P124 – P150)] + [200 x (P124 –
P150)]
31, [200 x (P160 – P124)]
outstanding
208
Chapter 34 – Share-based Payments (Part 2)
1. B
2. B
3. C
4. D
5. D

Solutions:
1. D (20,000 x 16 x1/2) = 160,000
2. B (20,000 x 18 x 2/2) = 360,000
3. C [20,000 x (₱45 - ₱30)] = 300,000
4. A 10,000 x (28 – 20) = 80,000

1. B 6. C 11. A 16. D 21. A 26. A
2. C 7. B 12. C 17. C 22. D 27. A
3. C 8. C 13. A 18. B 23. A 28. A
4. D 9. A 14. C 19. C 24. B 29. C
5. D 10. A 15. B 20. A 25. C 30. A
31. B
Exercises
1. Solutions:
Dec. Fair value of SARs at year end (900 x 24) 21,600
31,
20x1 Multiply by: Vesting pd. passed over Total vesting pd. 1/3
Cumulative balance of accrued liability to date 7,200

31,
209
20x2 Cumulative balance of accrued liability to date 16,000

31,
20x3 Multiply by: Vesting pd. passed over Total vesting pd. 3/3

Memo entry
(“Granted 1,000 cash share appreciation rights -
Jan. 1,
20x1 ‘SARs’ to employees with the condition that -
the employees remain in service for the next 3
years.”)
Dec. Salaries expense – SARs [900 x 24 x 1/3] 7,200
31, Accrued salaries payable 7,200
20x1
Dec. Salaries expense – SARs 8,800
31, [800 x 30 x 2/3] – 7,200 8,800
20x2 Accrued salaries payable
31, [750 x 32 x 3/3] – 16,000 8,000
20x3 Accrued salaries payable
Dec. Accrued salaries payable 24,000
31, Cash in bank (750 x 32) 24,000
20x3
2. Solution:
Dec. Fair value of SARs at year end (300 - 21 - 36) x 100 x 14.40 349,920
31,
20x1
Dec. Fair value of SARs at year end

31, (300 - 21 - 24- 15) x 100 x 15.50 372,000
20x Multiply by: Vesting pd. passed over Total vesting pd. 2/3
2 Cumulative balance of accrued liability to date 248,000
Cumulative balance of accrued liability as of Dec. 31, (116,640
20x1 )
210
Dec Salaries expense from SARs vested but not yet

. 31, exercised:
20x Fair value of SARs at year end (excluding SARs that were
3
exercised)
(300 - 21 - 24 - 13 - 90) x 100 x 18.20 276,640
Cumulative balance of accrued liability as of Dec. 31,
20x2 (248,000)
Salaries expense for current year - 20x3 - SARs
unexercised 28,640
Salaries expense from SARs exercised:

Intrinsic value of SARs exercised (90 x 100 x 15) 135,000
exercised 135,000
Total salaries expense for current year - 20x3 163,640

. 31, exercised:
4
exercised)
[(300 – 21 – 24 – 13 – 90 - 84) x 100 x 21.40 145,520
(276,64
Cumulative balance of accrued liability as of Dec. 31, 20x3 0)
Salaries expense for current year - 20x4 - SARs (131,12
unexercised 0)

exercised 168,000

. 31, exercised:
5
exercised)
[(300 – 21 – 24 – 13 – 90 - 84 - 68) x 100 x 0
211
-
Cumulative balance of accrued liability to date -

(145,52
Cumulative balance of accrued liability as of Dec. 31, 20x4 0)
Salaries expense for current year - 20x5 - SARs (145,52
unexercised 0)

exercised 170,000

Jan.
1, Memo entry
20x1
31, [(300 – 21 – 36) x 100 x 14.40 x 1/3]
20x1 Accrued salaries payable 116,640
31, [(300 – 21 – 24 - 15) x 100 x 15.50 x 2/3] –
20x2 116,640
Accrued salaries payable 131,360
Salaries expense – SARs 28,640
Dec. [(300 - 21 - 24 - 13 - 90) x 100 x 18.20 x 3/3] -
31, 248,000
20x3 Accrued salaries payable 28,640
Salaries expense - SARs 135,000
Cash in bank (90 x 100 x 15) 135,000
31, [(300 – 21 – 24 – 13 – 90 - 84) x 100 x
20x4 21.40] – 276,640
Cash in bank (84 x 100 x 20) 168,000
Dec. (116,640 + 131,360 + 28,640 – 131,120)
31, Salaries expense – SARs 145,520
20x5
Cash in bank (68 x 100 x 25) 170,000
3. Solution:
The fair value of the equity component is computed as follows:
Fair value of equipment received P240,000
212
Fair value of debt component on Jan. 1, 20x1
(10,000 sh. x P22) ( 220,000)
Fair value of equity component P 20,000
The entry to record the asset received is:

Jan. 1, Equipment (fair value of asset received) 240,000
20x1 Accounts payable 220,000
Share premium – share options 20,000
outstanding
4. Solution:
The liability component is remeasured to fair value as of settlement
date as follows:
Fair value of debt component, Dec. 31, 20x1
(10,000 sh. x P28) 280,000
Fair value of debt component, Jan. 1, 20x1
(10,000 sh. x P22) (220,000)
Loss on remeasurement of liability
(increase in liability) 60,000

Dec. Loss on remeasurement of liability 60,000
31, Accounts payable 60,000
20x1 to record remeasurement of liability
to its fair value on settlement date
Dec. Accounts payable (220,000 + 60,000) 280,000
31, Share capital (10,000 x P20 par value) 200,000
20x1
to record issuance of equity
instrument
Dec. Share premium – share options 10,000
31, outstanding
20x1
to transfer share premium from
share options directly within equity.
5. Solution:
Fair value of debt component, Dec. 31, 20x1
(10,000 sh. x P28) 280,000
Fair value of debt component, Jan. 1, 20x1
(10,000 sh. x P22) (220,000)
Loss on remeasurement of liability
(increase in liability) 60,000

Dec. Loss on remeasurement of liability 60,000
31,
213
20x1 Accounts payable 60,000
to record remeasurement of
liability to its fair value on settlement date
Dec. Accounts payable (220,000 + 60,000) 280,000
31, Cash in bank (10,000 x 28) 280,000
20x1 to record settlement of account
Dec. Share premium – share options 20,000
31, outstanding
20x1
to transfer share premium from
share options directly within equity.
214
Chapter 35 – Book Value Per Share
Solutions:
1. B
Solution:
Total shareholders' equity 160,000
Preference shareholders' equity:
Par value 50,000
Dividends in arrears (50,000 x 8%) 4,000 (54,000)
Ordinary shareholders' equity 106,000
Divide by: Ordinary shares outstanding* 8,900
Book value per share (Ordinary shares) 11.91
* (₱90,000 ÷ ₱10 par) – 100 treasury shares = 8,900 shares
2. D
Solution:
Liquidation value (250K par x 50K premium) 300,000
Dividends in arrears 25,000 (325,000)
Ordinary shareholders' equity 700,000
Divide by: Ordinary shares outstanding (350K ÷ ₱3.50) 100,000
3. A
Solution:
Liquidation value (50,000 x ₱110) 5,500,000
Dividends in arrears (5,000,000 x 6%) 300,000 (5,800,000)
Ordinary shareholders' equity 2,200,000
Divide by: Ordinary shares outstanding (350K ÷ ₱3.50) 400,000

1. A 6. D 11. C
2. A 7. B
3. B 8. D
4. D 9. B
5. B 10. A
215
Chapter 36 – Earnings Per Share
1. B 6. C 11. D
2. A 7. C 12. C
3. B 8. B 13. B
4. C 9. D 14. B
5. B 10. B 15. A
Solutions:
1. B
Solution:
Basic Profit or loss less Preferred dividends
=
EPS Weighted average number of outstanding ordinary shares
Basic 1,000,000 – (10,000 x 5% x ₱100)
=
EPS 100,000
Basic EPS = (1,000,000 – 50,000) ÷ 100,000 = 9.50
2. A
Solution:
=
Basic 960,000 – 100,000
=
EPS (200,000 x 110%)
Basic EPS = 860,000 ÷ 220,000 = 3.91
3. B
Date No. of shares Months outstanding Weighted average
(a) (b) (c) = (a) x (b)
Jan. 1 20,000 + 20,000 12/12 40,000
Apr. 1 N/A (effect is on Jan. 1) - -
July 1 10,000 6/12 5,000
Weighted average number of ordinary shares 45,000
4. C
Solution:
1/1/x8 Shares outstanding (30,000 + 3,000) x 12/12 33,000
2/1/x8 10% share dividend see effect on Jan. 1
3/1/x8 Business combination (9,000 x 10/12) 7,500
7/1/x8 Issued for cash (8,000 x 6/12) 4,000
216
Weighted average shares 44,500
5. B
Solution:
The weighted average outstanding shares are computed as follows:
Outstanding Months
shares outstanding Weighted average
Jan. 1, 20x3 20,000.00 12/12 20,000
May 1, 20x3 10,500.00 8/12 7,000
27,000

=
Basic 96,700 – (10,000 x ₱4)
=
EPS 27,000
Basic EPS = 56,700 ÷ 27,000 = 2.10
6. C
Solution:
Profit or loss plus After tax interest expense on
convertible bonds
Diluted Weighted average number of outstanding ordinary
EPS
=
shares plus Incremental shares arising from the
assumed conversion or exercise of dilutive potential
ordinary shares
Numerator on Diluted EPS = 900,000 + 0 = 900,000
7. C
Solution:
Jan. 1, 20x3 Outstanding shares (600,000 x 12/12) 600,000
Apr. 1, 20x3 Additional shares issued (180,000 x 9/12) 135,000
Incremental shares from conv. bonds (150,000 x 12/12) 150,000
Weighted average outstanding shares 885,000
8. B
Solution:
convertible bonds
EPS
=
ordinary shares
Diluted = 840,000 + 0
217
EPS 200,000 + (20,000 x 5)
Diluted EPS = 840,000 ÷ 300,000 = 2.80
9. D
Solution:
convertible bonds
EPS
=
ordinary shares
Diluted 1,000 + (10,000 x 4% x 50%)
EPS
=
1,000 + 1,000
Diluted EPS = 1,200 ÷ 2,000 = 0.60
10. B
Solution:
convertible bonds
EPS
=
ordinary shares
Diluted 35,000 + (7,000 x 70%)
EPS
=
10,000 + (20 x 200)
Diluted EPS = 39,900 ÷ 14,000 = 2.85
11. D
Solution:
Option shares 9,000
Multiply by: Total exercise price 7
Proceeds from assumed exercise of options 63,000
Divide by: Average market price 9
Treasury shares assumed to have been purchased 7,000
Option shares 9,000

Treasury shares assumed to have been purchased (7,000)
Incremental shares 2,000
Add: Actual shares outstanding 50,000
Total weighted average shares outstanding 52,000
12. C
Solution:
218
Option shares 10,000
Multiply by: Total exercise price 10
Proceeds from assumed exercise of options 100,000
Treasury shares assumed to have been purchased 4,000

Treasury shares assumed to have been purchased (4,000)
Add: Actual shares outstanding 100,000
Total weighted average shares outstanding 106,000
13. B
Solution:
The multiple potential ordinary shares are ranked in accordance with
their dilutive effect as follows:
Incremental Incremental Incremental
Potential ordinary shares
earnings shares EPS Rank
a b c=a÷b
a. Convertible PS 30,000 20,000 1.50 1st
(₱3 x 10,000); (20,000)
b. Convertible bonds 56,000 30,000 1.87 2nd
(1,000,000 x 8% x 70%);
(30,000)
Diluted EPS is calculated by gradually considering the potential

ordinary shares starting with the first in rank as shown below:
Ordinary
Profit shares EPS
a b c=a÷b
Basic EPS from
continuing operations 820,000* 110,000 7.45
Convertible PS - (1st) 30,000 20,000
Diluted EPS #1 850,000 130,000 6.54 Dilutive
Convertible Bonds - (2nd) 56,000 30,000
* Numerator for basic EPS, net of preferred dividends: (850,000 – 30,000) =

820,000.
14. B
Solution:
The multiple potential ordinary shares are ranked in accordance with
their dilutive effect as follows:
Incremental Incremental Incremental
Potential ordinary shares
earnings shares EPS Rank
219
a b c=a÷b
a. Convertible PS 60,000 10,000 6.00 2nd
(₱6.00 x 10,000); (10,000)
b. Convertible bonds 45,000 30,000 1.50 1st
(1,000,000 x 9% x 50%);
(30,000)
Diluted EPS is calculated by gradually considering the potential

ordinary shares starting with the first in rank as shown below:
Ordinary
Profit shares EPS
a b c=a÷b
Basic EPS from
continuing operations 425,000* 90,000 4.83
Convertible Bonds - (1st) 45,000 30,000
Convertible PS - (2nd) 60,000 10,000
Anti-
Diluted EPS #2 530,000 130,000 4.08 dilutive
* Numerator for basic EPS, net of preferred dividends: (485,000 – 60,000) =

425,000.
15. A The contingent shares are ignored because the condition is

not met.

1. B 11. D 21. A 31. B 41. B 51. B
2. A 12. A 22. A 32. C 42. B 52. A
3. D 13. A 23. B 33. B 43. B 53. B
4. A 14. C 24. D 34. B 44. B 54. C
5. B 15. B 25. B 35. A 45. B 55. D
6. A 16. C 26. C 36. D 46. A 56. D
7. A 17. B 27. D 37. A 47. A 57. A
8. C 18. D 28. C 38. D 48. C 58. D
9. D 19. A 29. A 39. D 49. D
10. B 20. A 30. B 40. D 50. D
Exercises
1. Solution:
The adjusted profit for Basic EPS computation is determined as
follows:
Profit after tax before adjustment for preferred dividends 2,400,000
220
One-year cumulative preferred dividends (P1M x 6%) ( 60,000)
Adjusted profit 2,340,000
Basic EPS is computed as follows:

Basic EPS = 2,340,000 ÷ 200,000
Basic EPS = 11.70
2. Solution:
Profit after tax before adjustment for preferred dividends 2,000,000
Dividend on cumulative preference shares
(current year only) - (10,000 x P200 x 10%) (200,000)
Dividend on non-cumulative preference shares
(declared for the year only) (50,000)
Profit or loss for basic EPS computation 1,750,000

Basic EPS = 1,750,000 ÷ 11,000
Basic EPS = 159.09
3. Solution:
Profit for the year 2,400,000
Allocation of basic dividends:
Basic allocation to preference shares: (P1M par x 10%) 100,000
Basic allocation to ordinary shares: (P2M par x 10%) 200,000
Excess subject to participation 2,100,000
Participation of preference shares (2.1M x 1M/3M) 700,000
Participation of ordinary shares (2.1M x 2M/3M) 1,400,000
Balance -
Basic earnings per share is computed as follows:

Preference shares Ordinary shares
Allocation of profit:
(100,000 + 700,000) 800,000
(200,000 + 1,400,000) 1,600,000
Total allocated earnings 800,000 1,600,000
Outstanding shares 50,000 100,000
Basic EPS 16.00 16.00
4. Solutions:
The weighted average number of outstanding shares is computed as
follows:
Date No. of shares Months outstanding Weighted average
221
(a) (b) (c) = (a) x (b)
Jan. 1 400,000 x 110% x 2 12/12 880,000
May 1 (24,000) x 2 8/12 (32,000)
June 1 120,000 x 2 7/12 140,000
Aug. 1 60,000 x 2 5/12 50,000
Dec. 1 12,000 1/12 1,000
Weighted average number of ordinary shares 1,039,000
The basic EPS is computed as follows:

Basic EPS = Profit or loss less Preferred dividends ÷ Weighted
average outstanding ordinary shares
Basic EPS = 11,429,000 ÷ 519,500
Basic EPS = 22
5. Solution:
The weighted average number of outstanding shares are computed
as follows:
Mos. Weighted
Date No. of shares outstanding average
(a) (b) (c) = (a) x (b)
Jan. 1, 20x1 200,000 x 110% x 2 12/12 440,000
Weighted average number of ordinary shares

- 20x1 440,000
Mos. Weighted
Date No. of shares outstanding average
(a) (b) (c) = (a) x (b)
Jan. 1, 20x2 12/12
200,000 x 110% x 2 440,000
July 1, 20x2 20,000 x 2 6/12 20,000
Weighted average number of ordinary
shares - 20x2 460,000
The basic EPS to be presented in the comparative income

statements are computed as follows:
20x2 20x1
Profit after tax 18,500,000 14,400,000
Adjusted weighted ave. no. of
outstanding shares 230,000 220,000
Basic EPS 80.43 65.45
6. Solutions:
222
The adjustment factor to be used in calculating the weighted
average number of shares outstanding is computed as follows:
Fair value of share right-on - Subscription

Value of 1 price
=
right
Number of rights to purchase one share + 1
Value of 1 right = (220 – 100) ÷ (5 + 1)
Value of 1 right = 20
Fair value of shares selling right-on 220

Value of 1 right ( 20)
Theoretical ex-rights fair value per share 200
Adjustment factor = 220/200
Basic earnings per share are computed as follows:

Year 20x0
Divide by: Weighted average # of outstanding shares
(100,000 x 220/200) 110,000
Basic earnings per share – 20x0 16.36
Year 20x1
The weighted average number of ordinary shares for basic earnings
per share computation in 20x1 is determined as follows:
January 1 Ordinary shares outstanding
(100K x 220/200 x 3/12) 27,500
April 1 Outstanding shares after exercise of rights
(120K* x 9/12) 90,000
Weighted average # of outstanding ordinary shares 117,500
*The outstanding shares after the exercise of rights are computed as

follows:
Ordinary shares before exercise of rights 100,000
Ordinary shares issued on the exercise of rights
(100,000 rights ÷ 5 rights to purchase one share) 20,000
Outstanding shares after exercise of rights 120,000

(27,500 + 90,000) 117,500
Year 20x2
223
(100,000 + 20,000) 120,000
7. Solutions:
Requirement (a): Basic earnings per share
The adjusted profit for Basic EPS computation is determined as
follows:
Profit after tax before adjustment for preferred
dividends 2,400,000
One-year cumulative preferred dividends
(P1,000,000 x 6%) ( 60,000)
Adjusted profit 2,340,000

Basic EPS = 2,340,000 ÷ 200,000
Basic EPS = 11.70
Requirement (b): Diluted earnings per share

The denominator on the diluted EPS formula is computed as follows:
Weighted average number of outstanding ordinary
Shares 200,000
Incremental shares (50,000 x 2) 100,000
Denominator for diluted EPS computation 300,000
Diluted EPS is computed as follows:

Diluted EPS = 2,400,000 ÷ 300,000
Diluted EPS = 8.00
8. Solutions:
Basic EPS = 2,400,000 ÷ 200,000
Basic EPS = 12.00

The after tax interest expense is computed as follows:
Interest expense (P8M x 10%) 800,000
Income tax benefit of the interest expense (800,000 x 30%) (240,000)
After tax interest expense 560,000
The denominator on the diluted EPS formula is computed as follows:

Weighted average number of outstanding ordinary shares 200,000
Incremental shares
(P8M bonds ÷ P1,000 bonds) x 30 ordinary shares 240,000
Denominator for diluted EPS computation 440,000
224
Diluted EPS = (2,400,000 + 560,000) ÷ (440,000)
Diluted EPS = 6.73
9. Solutions:
The weighted average number of outstanding ordinary shares is
January 1, 20x1 (200,000 x 12/12) 200,000
October 1, 20x1 (100,000 x 3/12) 25,000
Weighted ave. number of outstanding ordinary shares 225,000
Basic EPS = 2,400,000 ÷ 225,000

Basic EPS = 10.67

After tax interest expense is computed as follows:
Bonds payable (10,000 x P1,000) 10,000,000
Multiply by: Interest rate 10%
Total 1,000,000
Multiply by: Months outstanding 9/12
Interest expense before income tax 750,000
Multiply by: (100% less 30% tax rate) 70%
Interest expense net of tax 525,000
Diluted EPS = (2,400,000 + 525,000) ÷ (200,000 + 100,000)

Diluted EPS = 9.75
10. Solutions:
Basic EPS = 2,400,000 ÷ 400,000
Basic EPS = 6.00

Bonds payable (10,000 x P1,000) 10,000,000
Multiply by: Interest rate 10%
Total 1,000,000
Multiply by: Months outstanding 6/12
The weighted average number of outstanding ordinary shares for

diluted EPS computation is computed as follows:
January 1, 20x1 (400,000 x 12/12) 400,000
225
July 1, 20x1 (100,000 incremental shares x 6/12) 50,000
Total weighted average number of outstanding
ordinary shares 450,000
Diluted EPS = (2,400,000 + 350,000) ÷ (450,000)

Diluted EPS = 6.11
11. Solutions:
Basic EPS = 2,400,000 ÷ 400,000
Basic EPS = 6.00

The debt component of the convertible bond is computed as follows:
Present
Principal 2,000,000 0.711780 1,423,560
Interest 200,000 2.401831 480,366
feature 1,903,926

Bonds payable (Present value) 1,903,926
Multiply by: Effective interest rate 12%
Diluted EPS = (2,400,000 + 159,930) ÷ (400,000 + 100,000)

Diluted EPS = 5.12
12. Solutions:
Basic EPS = 2M ÷ 200,000
Basic EPS = 10.00

The treasury shares assumed to have been purchased under the
“treasury share method” is computed as follows:
Multiply by: Total exercise price* 300
Proceeds from assumed exercise of options 6,000,000
Assumed treasury shares purchased 15,000
*Total exercise price is computed as follows:

226
Exercise price 280
Fair value of each share option 20
Total exercise price 300
The incremental shares from the assumed exercise of the options are
Assumed treasury shares purchased ( 15,000)
Diluted EPS = 2M ÷ (200,000 + 5,000)

Basic EPS = 9.76
13. Solution:
Written put option shares 20,000
Multiply by: Repurchase price 100
Needed amount to satisfy the contract 2,000,000
Shares assumed issued to raise finance to
satisfy contract 25,000
The incremental shares from the assumed exercise of the options are
Shares assumed issued to raise finance to
satisfy contract 25,000
Written put option shares ( 20,000)
Incremental shares for diluted EPS computation 5,000
14. Solutions:
Basic EPS = P4M ÷ 100,000
Basic EPS = 40.00

The debt and equity components of the compound instrument are
determined as follows:
Proceeds received from issuance 2,200,000
(P2M x PV of P1 @10%, n=3) + (P240K x PV of an ordinary
annuity @10%, n=3) = (P2M x 0.751315) + (P240K x 2.486852) (2,099,474)
The after tax interest expense on the bonds is computed as follows:

Carrying amount of the bonds – January 1, 20x1 2,099,474
Multiply by: Effective interest rate 10%
Interest expense before tax 209,947
227
Multiply by: 1 minus tax rate 70%
Interest expense after tax 146,963
Diluted EPS = (P4M + 146,963) ÷ (100,000 + 100,000)

Diluted EPS = 20.73
15. Solutions:
Requirement (a): Basic loss per share
Loss for the period (2,400,000)
Preferred dividend (P1M x 6%) ( 60,000)
Total loss to ordinary shareholders (2,460,000)
Divide by: Ordinary shares outstanding 200,000
Basic loss per share ( 12.30)
Requirement (b): Diluted loss per share

Loss for the period (2,400,000)
Divide by: Ordinary shares outstanding + incremental
shares [200,000 + (50,000 x 2)] 300,000
Diluted loss per share ( 8.00)
Since the computed diluted loss per share decreased the loss per
share, only the basic loss per share shall be presented in the
financial statements.
16. Solutions:
Requirement (a): Basic loss per share
Basic earnings per share is computed as follows:
Basic EPS = (Profit or loss less Preferred dividends) ÷ Weighted Ave.
# of Outs. Ord. Sh.
Profit for the period 2,000,000
Divide by: Ordinary shares outstanding
[100,000 + (50,000 x 50%)] 125,000
Basic earnings per share 16.00
Requirement (b): Diluted loss per share

The incremental shares from the partly paid shares are computed as
follows:
Subscribed shares not fully paid up (50,000 x 50%) 25,000
Multiply by: Subscription price 300
Subscription proceeds assumed received 7,500,000
Assumed treasury shares purchased 18,750
The incremental shares from the partly paid shares are computed as
follows:
Subscribed shares not fully paid up 25,000
228
Assumed treasury shares purchased ( 18,750)
Incremental shares for diluted EPS computation 6,250

Profit for the period 2,000,000
Divide by: Ordinary shares outstanding plus
Incremental shares [100,000 + (50,000 x 50%)] + 6,250 131,250
Diluted earnings per share 15.23
229

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Financial Reporting

Theory and Practice

Nation’s Foremost CPA Review, Inc. (NCPAR)

If you have comments, queries or suggestions, please do not hesitate

Thanks and God bless.

Zeus Vernon B. Millan

CHAPTER 17 – CURRENT AND NONCURRENT LIABILITIES ....... 1

Multiple choice – Computational (SET A)

2. B (1M x 80%) = 800,000 noncurrent; (1M – 800K) = 200,000

5. C (125,000 + 200,000 expiring in 20x4) + 140,000 expiring in 20x5 =

Accrued tax on warehouse - July and Aug. (2,000 x 2) 4,000

Multiple choice – Computational (SET B)

4. A 4,000,000 - the refinancing agreement is not at the discretion

5. D None, the refinancing agreement is at the discretion of the

7. B - ₱200,000 representing the accrued interest on the loan (4M x

8. A - ₱4,000,000. The loan shall be presented as current despite

9. D None, the grace period was received by the end of reporting

10. A ₱4,000,000, the note is payable on demand. Only if an

15. A 2,000,000 – the earned portion in 20x2.

16. B 1,200,000 – the earned portion in 20x3

17. A 2,000,000 – see table above

18. A (96,000,000 x 2/12) = 16,000,000

 Receipts from Jan. 1 to April 1 will receive the 2 semi-annual

The average monthly receipts are computed as follows:

The balance of unearned revenue as of December 31, 20x1 is

The beginning balance of unearned revenue is already earned during

23. A (400,000 x 0.385543) = 154,217

24. D (154,217 ‘see above’ x 110%) = 169,639

Answer to requirement (a): P5,400,000

Requirement (b): Advances are refundable

Unearned income – Dec. 31, 20x1 P5,400,000

Current portion of deferred revenue

Requirement (b): Service revenue – 20x2

Receipts from Nov. 1 to Dec. 31 (4M x 2) 8,000,000

Requirement (b): Subscriptions revenue – 20x1

Receipts from April 1 to Oct. 1 [(4M x 6) x 1/2] 12,000,000

Requirement (b): Noncurrent liability – Dec. 31, 20x1

Sales on accrual basis are computed as follows:

Multiple choice – Computational (SET A)

3. B 418,250 – the cash price equivalent of the annuity purchased.

4. C (418,250 + 50,000 first payment made immediately) = 468,250

5. C (194,000 x 12.4% x 1/12) = 2,005

Multiple choice – Computational (SET B)

2. B (4,000,000 x 12% x 3/12) = 120,000

3. C (4,000,000 x 112% x 12%) = 537,600

4. B 4,000,000 – the cash price equivalent

Third trial: (at 7%)

In here, we need to perform interpolation. Looking at the values

To perform the interpolation, we will use the following formula:

Where: x% again is the effective interest rate.

The formula is derived based on our expectation that the effective

The amount computed is added to 6% to derive the effective interest

Interest expense in 20x1 = 6.2695% x 4,000,000 = 250,780

6. A (4,000,000 x 106.2695%) = 4,250,780

7. A (4,000,000 x PV of 1 @12%, n=3) = 2,847,121

8. A 2,847,121 x 12% = 341,655

9. C (2,847,121 x 112%) = 3,188,776

10. C (1,000,000 x PV of ordinary annuity @12%, n=4) = 3,037,349

12. A (See amortization table above)

13. B (See amortization table above)

14. D (See amortization table above)

15. D (1,000,000 x PV of an annuity due @12%, n=4) = 3,401,831

17. D (See amortization table above)