FARS Exercise

1. Liabilities must be accrued in the books of a company for estimated losses arising from contingencies if these two conditions apply: a) Before the issuance of the financial statements, there is available information indicating that “it is probable that an asset had been impaired or a liability had been incurred at the date of the financial statements. ” The date of the financial statements pertains to the end of the applicable accounting period. Under these circumstances, it is probable that one or more future events will occur confirming the fact of the loss; thus, the accrual of the loss contingency must be done.

(ARM website) b) The amount of the loss due to the contingency “can be reasonably estimated. ” (ARM website) 2) The owner’s equity accounts for a proprietorship differ from those of a partnership in terms of the number of owners involved. Proprietorships involve one individual who stands to own the entire enterprise, while partnerships involve two or more individuals contributing to the total capital of the enterprise. Proprietorships, therefore, would have only one owner’s equity or capital account for recording the capital infusions or withdrawals of the owner.

Partnerships, on the other hand, would have one equity or capital account for each of the partners to record their respective contributions to the total capital and the withdrawals they may have made. According to FASB Concepts Statements, “investments by owners are increases in equity of a particular business enterprise resulting from transfers to it from other entities of something valuable to obtain or increase ownership interests (or equity) in it. ” (ARM website) Whether there are one or more owners, the equity is given the same accounting treatment.

3. FASB’s Emerging Issues Task Force (EITF) has covered the issue on how profits should be recognized for sales of real estate that have involved graduated payment and insured mortgages with negative load amortization. During the discussion of the EITF members, it has been agreed that “a sale involving graduated payment mortgage that does not meet the continuing investment tests in Statement 66 (because of the negative loan amortization) should not result in full immediate profit recognition. (ARM website)

As to the effect of mortgage insurance on profit recognition, it has been ruled that “mortgage insurance should not be considered the equivalent of an irrevocable letter of credit in determining whether it is appropriate to recognize profit under the full accrual method because the purchase of mortgage insurance is not deemed to demonstrate a commitment by the buyer to honor its obligation to pay for the property. ” (ARM website) Even with the insurance coverage, the buyer still might fail to issue his payment for the property and the mortgage insurance might not secure the recovery of the entire amount.

In both cases, therefore, full immediate recognition of profit should not outright be recorded in the books. References Accounting Research Manager (ARM). (2008). Standards of Financial Accounting and Reporting: Accrual of Loss Contingencies. Retrieved October 22, 2008 from http://fars. accountingresearchmanager. com/wk/rm. nsf/8d0e1fd4afe9f7278625648c005d4 40f/957d9eadf6e20d8c862564e2005a7079? OpenDocument&rnm=390700. Accounting Research Manager (ARM). (2008). Statement of Financial Accounting Concepts No. 6: Investments by and Distributions to Owners..

Retrieved October 22, 2008 from http://fars. accountingresearchmanager. com/wk/rm. nsf/0/BEEAF3608F5459B9862564E2 005BCD49? OpenDocument&rnm=999782&Highlight=2,OWNERS%20EQUITY. Accounting Research Manager (ARM). (2008). EITF Abstracts: Profit Recognition on Sales of Real Estate with Graduated Payment Mortgages or Insured Mortgages. Retrieved October 22, 2008 from http://fars. accountingresearchmanager. com/wk/rm. nsf/c2b0ddf05404e5ad072564d5007e 122b/85cabd3bde6dad16862564e2005e4253? OpenDocument&rnm=852480.

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