Chapter 11
CURRENT LIABILITIES AND PAYROLL ACCOUNTING
1. A liability is a probable future payment of assets or services that a company is presently
obligated to make as a result of past transactions or events.
2. Obligations not due within one year or the company’s operating cycle, whichever is longer,
are reported as current liabilities.
3. All expected future payments are liabilities.
4. A single liability can be divided between current and noncurrent liabilities.
5. A company can have a liability even if the amount of the obligation is unknown.
6. A liability does not exist if there is any uncertainty about whom to pay, when to pay, or
how much to pay.
7. Trade accounts payable are amounts owed to suppliers for products or services purchased
on credit.
8. Unearned revenues are liabilities.
9. Sales taxes payable is credited and cash is debited when companies send sales taxes
collected from customers to the government.
10. Known liabilities are obligations set by agreements, contracts, or laws, and are measurable
and definitely determinable.
11. A contingent liability is a potential obligation that depends on a future event arising from
a future transaction or event.
12. A lawsuit is an example of a contingent liability for the defendant.
13. The full disclosure principle requires the reporting of contingent liabilities that are
reasonably possible.
14. Uncertainties from the development of new competing products are contingent liabilities.
15. Debt guarantees are not usually disclosed as a contingent liability.
16. Accounting for contingent liabilities covers three possibilities: (1) The future event is
probable and the amount cannot be reasonably estimated; (2) The future event is remote or
unlikely to recur; (3) The likelihood of the liability to occur is impossible.
17. A potential lawsuit claim is recorded when the claim can be reasonably estimated and it is
reasonably possible.
18. A high value for the times interest earned ratio means that a company is a higher risk
borrower.
19. The times interest earned ratio is calculated by dividing income before interest expense
and income taxes by interest expense.
20. Experience shows that when times interest earned falls below 1.5 to 2.0 and remains at
that level or lower for several time periods, the default rate on liabilities increases sharply.
21. A company’s income before interest expense and taxes is $250,000 and its interest
expense is $100,000. Its times interest earned ratio is .4.
22. A short-term note payable is a written promise to pay a specified amount on a definite
future date within one year or the operating cycle, whichever is longer.
23. Promissory notes are nonnegotiable meaning that they cannot be transferred from party to
party.
24. A note payable can be used to extend the payment due on an account payable.
25. The matching principle requires that interest expense not be accrued on a note payable
until the note is paid, even if the end of an accounting period occurs between the signing of a
note payable and its maturity date.
26. Required payroll deductions result from laws and include income taxes, Social Security
taxes, pension and health contributions, union dues, and charitable giving.
27. The amount of federal income tax withheld depends on the employee’s annual earnings
rate and the number of withholding allowances claimed by the employee.
28. Employers must pay FICA taxes equal in amount to the FICA taxes withheld from their
employees.
29. The state unemployment tax rates applied to an employer are adjusted according to an
employer’s merit rating.
30. A high merit rating means that an employer has high employee turnover or seasonal
hiring.
31. Employers must keep certain payroll records, including individual earnings reports for
each employee.
32. Federal depository banks are authorized to accept deposits of amounts payable to the
federal government.
33. FUTA requires employers to pay a federal unemployment tax on the first $7,000 in salary
or wages paid to each employee.
34. The Form W-2 must be given to employees before January 31 following the year covered
by the Form W-2.
35. Payments of FUTA are made quarterly to a federal depository bank if the total amount due
exceeds $500.
36. An estimated liability is a known obligation of an uncertain amount that can at least be
reasonably estimated.
37. Accrued vacation benefits are a form of estimated liability for an employer.
38. Since income tax expense is created by earning income, a liability is incurred when
income is earned.
39. A corporation has a $42,000 credit balance in the Income Tax Payable account. Period
end information shows that the actual liability is $50,000. The company should record an
entry to debit Income Tax Expense for $8,000 and credit Income Taxes Payable for $8,000.
40. Employers can use a wage bracket withholding table to compute federal income taxes
withheld from each employee’s gross pay.
41. Each employee records the number of withholding allowances claimed on form W-4,
which is the withholding allowance certificate that is filed with the employer.
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42. Companies with many employees often use a special payroll bank account to pay
employees.
43. A payroll register usually shows the pay period dates, hours worked, gross pay,
deductions, and net pay of each employee for every pay period.
44. A payroll register is a cumulative record of an employee’s hours worked, gross earnings,
deductions, and net pay.
45. When the number of withholding allowances claimed on Form W-4 increases, the amount
of income tax withheld increases.
46. All of the following statements regarding liabilities are true except:
A. A liability is a probable future payment of assets or services.
B. Unearned future wages to be paid to employees should be recorded as liabilities.
C. For a liability to be reported, it must be a present obligation that results from a past
transaction or event, and requires a future payment of assets or services.
D. Information about liabilities is more useful when the balance sheet identifies them as either
current or long term.
E. All of the responses are correct.
47. Obligations due to be paid within one year or the company’s operating cycle, whichever is
longer, are:
A. Current assets.
B. Current liabilities.
C. Earned revenues.
D. Operating cycle liabilities.
E. Bills.
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48. Obligations not expected to be paid within the longer of one year or the company’s
operating cycle are reported as:
A. Current assets.
B. Current liabilities.
C. Long-term liabilities.
D. Operating cycle liabilities.
E. Bills.
49. All of the following statements regarding uncertainty in liabilities are true except:
A. Liabilities can involve uncertainty in whom to pay.
B. A company can create a known amount when issuing a note even though the holder of the
not may not be known until the maturity date.
C. A company can have an obligation of a known amount to a known creditor but not know
when it must be paid.
D. A company only records liabilities when it knows whom to pay, when to pay, and how
much to pay.
E. A company can be aware of an obligation but not know how much will be required to settle
it.
50. Liabilities:
A. Must be certain.
B. Must sometimes be estimated.
C. Must be for a specific amount.
D. Must always have a definite date for payment.
E. Must involve an outflow of cash.
51. Known liabilities:
A. Include accounts payable, notes payable, and payroll.
B. Are obligations set by agreements, contracts, or laws.
C. Are measurable.
D. Are definitely determinable.
E. All of the choices are correct.
52. Accounts payable:
A. Are amounts owed to suppliers for products and/or services purchased on credit.
B. Are long-term liabilities.
C. Are estimated liabilities.
D. Do not include specific due dates.
E. Must be paid within 30 days.
53. Amounts received in advance from customers for future products or services:
A. Are revenues.
B. Increase income.
C. Are liabilities.
D. Are not allowed under GAAP.
E. Require an outlay of cash in the future.
54. Sales taxes payable:
A. Is an estimated liability.
B. Is a contingent liability.
C. Is a current liability for retailers.
D. Is a business expense.
E. Is a long-term liability.
55. Unearned revenues are:
A. Also called deferred revenues.
B. Amounts received in advance from customers for future delivery of products or services.
C. Also called collections in advance.
D. Also called prepayments.
E. All of the choices are correct.
56. Advance ticket sales totaling $6,000,000 cash would be recognized as follows:
A. Debit Sales, credit Unearned Revenue.
B. Debit Unearned Revenue, credit Sales.
C. Debit Cash, credit Unearned Revenue.
D. Debit Unearned Revenue, credit Cash.
E. Debit Cash, credit Revenue.
57. A contingent liability:
A. Is always of a specific amount.
B. Is a potential obligation that depends on a future event arising from a past transaction or
event.
C. Is an obligation not requiring future payment.
D. Is an obligation arising from the purchase of goods or services on credit.
E. Is an obligation arising from a future event.
58. Contingent liabilities can be:
A. Probable.
B. Remote.
C. Reasonably possible.
D. Estimable.
E. All of the choices are correct.
59. Contingent liabilities must be recorded if:
A. The future event is probable and the amount owed can be reasonably estimated.
B. The future event is remote.
C. The future event is reasonably possible.
D. The amount owed cannot be reasonably estimated.
E. All of the choices are correct.
60. Debt guarantees:
A. Are never disclosed in the financial statements.
B. Are considered to be a contingent liability.
C. Are a bad business practice.
D. Are recorded as a liability even though it is highly unlikely that the original debtor will
default.
E. All of the choices are correct.
61. In the accounting records of a defendant, lawsuits:
A. Are estimated liabilities.
B. Should always be recorded.
C. Should always be disclosed.
D. Should be recorded if payment for damages is probable and the amount can be reasonably
estimated.
E. Should never be recorded.
62. Uncertainties such as natural disasters:
A. Are not contingent liabilities because they are future events not arising from past
transactions or events.
B. Are contingent liabilities because they are future events arising from past transactions or
events.
C. Should be disclosed because of their usefulness to financial statements.
D. Are estimated liabilities because the amounts are uncertain.
E. Arise out of transactions such as debt guarantees.