Chapter 10 1 Explain How Account For Current Liabilities Current

Document Type
Test Prep
Book Title
Financial Accounting-- Binder Ready Version: Tools for Business Decision Making 8th Edition
Authors
Donald E. Kieso, Jerry J. Weygandt, Paul D. Kimmel
FOR INSTRUCTOR USE ONLY
CHAPTER 10
REPORTING AND ANALYZING LIABILITIES
SUMMARY OF QUESTIONS BY LEARNING OBJECTIVE AND BLOOM’S TAXONOMY
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Multiple Choice Questions
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Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
FOR INSTRUCTOR USE ONLY
10-2
Multiple Choice Questions (Cont.)
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Brief Exercises
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Exercises
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Completion Statements
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Short Answer Essay
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*This topic is dealt with in an Appendix to the chapter.
SUMMARY OF LEARNING OBJECTIVES BY QUESTION TYPE
Learning Objective 1
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1.
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Reporting and Analyzing Liabilities
FOR INSTRUCTOR USE ONLY
10-3
Learning Objective 2
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Learning Objective 3
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C
Learning Objective 4
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Ex
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C
Learning Objective 5
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54.
TF
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TF
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271.
Ex
156.
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Ex
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
FOR INSTRUCTOR USE ONLY
10-4
Learning Objective 6
59.
TF
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Learning Objective 7
63.
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Note: TF = True-False C = Completion
MC = Multiple Choice Ex = Exercise
Ma = Matching SA = Short Answer Essay
Be = Brief Exercise
CHAPTER LERANING OBJECTIVES
1. Explain how to account for current liabilities. A current liability is a debt that a company
can reasonably expect to pay (a) from existing current assets or through the creation of other
current liabilities, and (b) within one year or the operating cycle, whichever is longer. The
major types of current liabilities are notes payable, accounts payable, sales taxes payable,
unearned revenues, and accrued liabilities such as taxes, salaries and wages, and interest
payable.
When a promissory note is interestbearing, the amount of assets received upon the
issuance of the note is generally equal to the face value of the note, and interest expense is
accrued over the life of the note. At maturity, the amount paid is equal to the face value of
the note plus accrued interest.
Companies record sales taxes payable at the time the related sales occur. The company
serves as a collection agent for the taxing authority. Sales taxes are not an expense to the
company. Companies hold employee withholding taxes, and credit them to appropriate
liability accounts, until they remit these taxes to the governmental taxing authorities.
Unearned revenues are initially recorded in an unearned revenue account. As the company
recognizes revenue, a transfer from unearned revenue to revenue occurs. Companies report
the current maturities of long-term debt as a current liability in the balance sheet.
2. Describe the major characteristics of bonds. The following different types of bonds may
be issued: secured and unsecured bonds, and convertible and callable bonds.
3. Explain how to account for bond transactions. When companies issue bonds, they debit
Cash for the cash proceeds and credit Bonds Payable for the face value of the bonds. In
addition, they use the accounts Premium on Bonds Payable and Discount on Bonds Payable
to show the bond premium and bond discount, respectively. Bond discount and bond
premium are amortized over the life of the bond, which increases or decreases interest
expense, respectively.
When companies redeem bonds at maturity, they credit Cash and debit Bonds Payable for
the face value of the bonds. When companies redeem bonds before maturity, they (a)
eliminate the carrying value of the bonds at the redemption date, (b) record the cash paid,
Reporting and Analyzing Liabilities
FOR INSTRUCTOR USE ONLY
10-5
and (c) recognize the gain or loss on redemption.
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
10-6
4. Discuss how liabilities are reported and analyzed. Current liabilities appear first on the
balance sheet, followed by long-term liabilities. Companies should report the nature and
amount of each liability in the balance sheet or in schedules in the notes accompanying the
statements. They report inflows and outflows of cash related to the principal portion of long-
term debt in the financing section of the statement of cash flows.
The liquidity of a company may be analyzed by computing the current ratio. The long-run
solvency of a company may be analyzed by computing the debt to assets ratio and the times
interest earned ratio. Other factors to consider are contingent liabilities and lease obligations.
*5. Apply the straight-line method of amortizing bond discount and bond premium. The
straight-line method of amortization results in a constant amount of amortization and interest
expense per period.
*6. Apply the effective-interest method of amortizing bond discount and bond premium.
The effective-interest method results in varying amounts of amortization and interest
expense per period but a constant percentage rate of interest. When the difference between
the straight-line and effective-interest method is material, GAAP requires use of the effective-
interest method.
*7. Describe the accounting for long-term notes payable. Each payment consists of (1)
interest on the unpaid balance of the loan, and (2) a reduction of loan principal. The interest
decreases each period, while the portion applied to the loan principal increases each period.
TRUE-FALSE STATEMENTS
1. A current liability must be paid out of current earnings.
2. If any portion of a long-term debt is to be paid in the next year, the entire debt should be
classified as a current liability.
3. Current liabilities are expected to be paid within one year or the operating cycle,
whichever is longer.
4. A company whose current liabilities exceed its current assets may have a liquidity
problem.
5. Interest expense is reported under Other Expenses and Losses in the income statement.
6. Notes payable usually require the borrower to pay interest.
Reporting and Analyzing Liabilities
10-7
7. Notes payable are often used instead of accounts payable.
8. A note payable must always be paid before an account payable.
9. A $20,000, 8%, 9-month note payable requires an interest payment of $1,200 at maturity.
10. Most notes are not interest bearing.
11. With an interest-bearing note, the amount of cash received upon issuance of the note
generally exceeds the note's face value.
12. Interest expense on a note payable is only recorded at maturity.
13. Current maturities of long-term debt refers to the amount of interest on a note payable that
must be paid in the current year.
14. Unearned revenues should be classified as Other Revenues and Gains on the income
statement.
15. The higher the sales tax rate, the more profit a retailer can earn.
16. When a business sells an item and collects a state sales tax on it, a current liability arises.
17. If a retailer sells goods for a total price of $200, which includes a 5% sales tax, the amount
of the sales tax is $9.52.
18. During the month, a company sells goods for a total of $106,000, which includes sales
taxes of $6,000; therefore, the company should recognize $100,000 in Sales Revenue
and $6,000 in Sales Tax Expense.
19. Payroll taxes include the employer’s share of Social Security taxes as well as state and
federal unemployment taxes.
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
FOR INSTRUCTOR USE ONLY
10-8
Reporting and Analyzing Liabilities
10-9
20. Unearned revenues are received before goods are delivered or services are rendered.
21. Metropolitan Symphony sells 200 season tickets for $40,000 that includes a five-concert
season. The amount of Unearned Ticket Revenue after the third concert is $24,000.
22. The contractual interest rate is always equal to the market rate of interest on the date that
bonds are issued.
23. Each bondholder may vote for the board of directors in proportion to the number of bonds
held.
24. Bond interest paid by a corporation is an expense, whereas dividends paid are not an
expense of the corporation.
25. Generally, convertible bonds do not pay interest.
26. An unsecured bond is one that is issued against the general credit of the borrower.
27. Bonds are a form of interest-bearing notes payable.
28. Neither corporate bond interest nor dividends are deductible for tax purposes.
29. The face value is the amount of principal and interest due at the maturity date.
30. Convertible bonds are often called callable bonds.
31. A $150,000 bond with a quoted priced of 102 ¼ is sold for $153,375.
32. If a bond has a stated value of $1,000 and a contractual interest rate of 6 percent, then
the interest paid annually will be $60.
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
10-10
33. The current market value of a bond is equal to the present value of all future cash
payments promised by the bond.
34. The board of directors may authorize more bonds than are issued.
35. The carrying value of bonds is calculated by adding the balance of the Discount on Bonds
Payable account to the balance in the Bonds Payable account.
36. The carrying value of a bond is equal to the market price on the date of sale.
37. Total interest cost for a bond issued at a premium equals the total of the periodic interest
payments added to the premium.
38. Total interest cost for a bond issued at a premium equals the total of the periodic interest
payments minus the premium.
39. The calculation of interest to be paid each interest period in connection with a bond
payable is not influenced by any premium or discount upon issuance.
40. If $150,000 face value bonds are issued at 102, the proceeds received will be $102,000.
41. If bonds sell at a premium, the interest expense recognized each year will be greater than
the bond interest paid.
42. If the market rate of interest at the date of issuance of a bond is greater than the stated
interest rate, the bond will be issued at a premium.
43. If a corporation issued bonds at an amount less than face value, it indicates that the
corporation has a weak credit rating.
44. A corporation that issues bonds at a discount will recognize interest expense at a rate
which is greater than the market rate of interest.
Reporting and Analyzing Liabilities
FOR INSTRUCTOR USE ONLY
10-11
45. If bonds are issued at a discount, the issuing corporation will pay a principal amount less
than the face amount of the bonds on the maturity date.
46. If bonds are issued at a premium, the carrying value of the bonds will be greater than the
face value of the bonds for all periods prior to the bond maturity date.
47. If the market rate of interest is greater than the contractual rate of interest, bonds will sell
at a discount.
48. If $180,000, 6%, bonds are issued on January 1, and pay interest annually, the amount of
interest paid will be $10,800.
49. Material gains or losses on bond redemption are reported as an extraordinary item on the
income statement.
50. If $500,000 par value bonds with a carrying value of $476,000 are redeemed at 97, a loss
on redemption will be recorded.
51. The classification of a liability as current or noncurrent is important because it may affect
the evaluation of a company’s liquidity.
52. The debt to assets ratio measures the percentage of the total assets provided by
creditors.
53. The times interest earned is computed by dividing net income by interest expense.
*54. Premium on bonds payable may be amortized by the straight-line method if the results
obtained by its use do not materially differ from the results obtained by use of the
effective-interest method.
*55. Discount on bonds payable may be amortized by the straight-line method if the results
obtained by its use do not materially differ from the results obtained by use of the
effective-interest method.
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
FOR INSTRUCTOR USE ONLY
10-12
*56. If the straight-line method of amortization is used, the amount of unamortized premium on
bonds payable will increase as the bonds approach maturity.
*57. If the straight-line method of amortization is used, the amount of unamortized premium on
bonds payable will decrease as the bonds approach maturity.
*58. If the straight-line method of amortization is used, the amount of yearly interest expense
will increase as the bonds approach maturity.
*59. When the effective-interest method of amortization is used, the amount of interest
expense for a given period is calculated by multiplying the face rate of interest by the
bond’s carrying value at the beginning of the given period.
*60. Regardless of whether the straight-line method or the effective-interest method is used,
the carrying value of a bond issued at a discount will decrease continually over the bond’s
life.
*61. The effective-interest method produces a constant dollar amount of interest expense to be
reported each interest period.
*62. When there are material differences between the results of using the straight-line method
and using the effective-interest method of amortization, the effective-interest method
should be used.
*63. In a monthly mortgage payment, the same amount is recorded as interest expense as in
the previous month’s payment.
*64. When a monthly mortgage payment is made and recorded, the debit to Mortgage Payable
represents the reduction in the principal balance.
*65. An installment note calling for equal total payments each period will result in an interest
portion that decreases in each successive period.
*66. An installment note calling for equal total payments each period will result in a principal
portion that decreases in each successive period.
Reporting and Analyzing Liabilities
10-13
Answers to True-False Statements
MULTIPLE CHOICE QUESTIONS
67. Liabilities are classified on the balance sheet as current or
a. deferred.
b. unearned.
c. long-term.
d. accrued.
68. Most companies pay current liabilities
a. out of current assets.
b. by issuing interest-bearing notes payable.
c. by issuing stock.
d. by creating long-term liabilities.
69. A current liability is a debt that can reasonably be expected to be paid
a. within one year, or the operating cycle, whichever is longer.
b. between 6 months and 18 months.
c. out of currently recognized revenues.
d. out of cash currently on hand.
70. Which of the following most likely would be classified as a current liability?
a. Dividends payable
b. Bonds payable in 5 years
c. Three-year notes payable
d. Mortgage payable as a single payment in 10 years
71. Failure to record a liability will probably
a. result in an overstated net income.
b. result in overstated total liabilities and owner’s equity.
c. have no effect on net income.
d. result in understated total assets.
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
10-14
72. Very often, failure to record a liability means failure to record a(n)
a. revenue.
b. asset conversion.
c. footnote.
d. expense.
73. Current liabilities are due
a. but not receivable for more than one year.
b. but not payable for more than one year.
c. and receivable within one year.
d. and payable within one year.
74. Liabilities are classified as current or long-term based on their
a. description.
b. payment terms.
c. due date.
d. amount.
75. Which of the following is not a current liability on December 31, 2017?
a. A Note Payable due December 31, 2018
b. An Accounts Payable due January 31, 2018
c. A lawsuit judgment to be decided on January 10, 2018
d. Accrued salaries payable from 2017
76. With an interest-bearing note, the amount of assets received upon issuance of the note is
generally
a. equal to the note's face value.
b. greater than the note's face value.
c. less than the note's face value.
d. equal to the note's maturity value.
Reporting and Analyzing Liabilities
10-15
77. Moss County Bank agrees to lend the Sadowski Brick Company $500,000 on January 1.
Sadowski Brick Company signs a $500,000, 6%, 9-month note. The entry made by
Sadowski Brick Company on January 1 to record the proceeds and issuance of the note is
a. Interest Expense ............................................................ 22,500
Cash. ......................................................................... 477,500
Notes Payable ............................................................... 500,000
b. Cash ......................................................................... 500,000
Notes Payable ............................................................... 500,000
c. Cash ......................................................................... 500,000
Interest Expense ........................................................... 22,500
Notes Payable .............................................................. 522,500
d. Cash ......................................................................... 500,000
Interest Expense ............................................................ 22,500
Notes Payable ............................................................... 500,000
Interest Payable ............................................................ 22,500
78. Moss County Bank agrees to lend the Sadowski Brick Company $500,000 on January 1.
Sadowski Brick Company signs a $500,000, 6%, 9-month note. What is the adjusting
entry required if Sadowski Brick Company prepares financial statements on June 30?
a. Interest Expense ............................................................ 15,000
Interest Payable ............................................................ 15,000
b. Interest Expense ............................................................ 15,000
Cash ............................................................................. 15,000
c. Interest Payable ............................................................. 15,000
Cash ............................................................................. 15,000
d. Interest Payable ............................................................. 15,000
Interest Expense ........................................................... 15,000
79. Moss County Bank agrees to lend the Sadowski Brick Company $500,000 on January 1.
Sadowski Brick Company signs a $500,000, 6%, 9-month note. What entry will Sadowski
Brick Company make to pay off the note and interest at maturity assuming that interest
has been accrued to September 30?
a. Notes Payable ............................................................. 522,500
Cash ............................................................................. 522,500
b. Notes Payable ............................................................. 500,000
Interest Payable ............................................................. 22,500
Cash ............................................................................. 522,500
c. Interest Expense ............................................................ 22,500
Notes Payable ............................................................. 500,000
Cash ............................................................................. 522,500
d. Interest Payable ............................................................. 15,000
Notes Payable ............................................................. 500,000
Interest Expense .............................................................. 7,500
Cash ............................................................................. 522,500
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
10-16
80. West County Bank agrees to lend Drake Builders Company $400,000 on January 1.
Drake Builders Company signs a $400,000, 6%, 6-month note. The entry made by Drake
Builders Company on January 1 to record the proceeds and issuance of the note is
a. Interest Expense .............................................................. 6,000
Cash. ......................................................................... 194,000
Notes Payable ............................................................... 400,000
b. Cash ......................................................................... 400,000
Notes Payable ............................................................... 400,000
c. Cash ......................................................................... 400,000
Interest Expense ............................................................ 12,000
Notes Payable ............................................................... 412,000
d. Cash ......................................................................... 400,000
Interest Expense ............................................................ 12,000
Notes Payable ............................................................... 400,000
Interest Payable ............................................................ 12,000
81. West County Bank agrees to lend Drake Builders Company $400,000 on January 1.
Drake Builders Company signs a $400,000, 6%, 6-month note. What is the adjusting entry
required if Drake Builders Company prepares financial statements on March 30?
a. Interest Expense ............................................................ 12,000
Interest Payable ............................................................ 12,000
b. Interest Expense ............................................................ 12,000
Cash .............................................................................. 12,000
c. Interest Expense .............................................................. 6,000
Interest Payable ............................................................ 6,000
d. Interest Payable ............................................................... 6,000
Interest Expense ........................................................... 6,000
82. West County Bank agrees to lend Drake Builders Company $400,000 on January 1.
Drake Builders Company signs a $400,000, 6%, 6-month note. What entry will Drake
Builders Company make to pay off the note and interest at maturity assuming that interest
has been accrued to June 30?
a. Notes Payable.............................................................. 412,000
Cash .............................................................................. 412,000
b. Notes Payable.............................................................. 400,000
Interest Payable ............................................................. 12,000
Cash .............................................................................. 412,000
c. Interest Expense ............................................................ 12,000
Notes Payable.............................................................. 400,000
Cash .............................................................................. 412,000
d. Interest Payable ............................................................... 6,000
Notes Payable.............................................................. 400,000
Interest Expense .............................................................. 6,000
Cash .............................................................................. 412,000
Reporting and Analyzing Liabilities
10-17
83. As interest is recorded on an interest-bearing note, the Interest Expense account is
a. increased; the Notes Payable account is increased.
b. increased; the Notes Payable account is decreased.
c. increased; the Interest Payable account is increased.
d. decreased; the Interest Payable account is increased.
84. On October 1, Sam's Painting Service borrows $150,000 from National Bank on a 3-
month, $150,000, 4% note. What entry must Sam's Painting Service make on December
31 before financial statements are prepared?
a. Interest Payable ............................................................... 1,500
Interest Expense .................................................. 1,500
b. Interest Expense .............................................................. 6,000
Interest Payable ................................................... 6,000
c. Interest Expense .............................................................. 1,500
Interest Payable ................................................... 1,500
d. Interest Expense .............................................................. 1,500
Notes Payable ...................................................... 1,500
85. On October 1, Sam's Painting Service borrows $150,000 from National Bank on a 3-
month, $150,000, 4% note. The entry by Sam's Painting Service to record payment of the
note and accrued interest on January 1 is
a. Notes Payable ............................................................. 151,500
Cash ................................................................ 151,500
b. Notes Payable ............................................................. 150,000
Interest Payable ............................................................... 1,500
Cash ................................................................ 151,500
c. Notes Payable ............................................................. 150,000
Interest Payable ............................................................... 6,000
Cash ................................................................ 156,000
d. Notes Payable ............................................................. 150,000
Interest Expense .............................................................. 1,500
Cash ................................................................ 151,500
86. The interest charged on a $300,000 note payable, at the rate of 6%, on a 90-day note
would be
a. $18,000.
b. $9,000.
c. $4,500.
d. $1,500.
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
10-18
87. The interest charged on a $350,000 note payable, at the rate of 6%, on a 60-day note
would be
a. $21,000.
b. $10,500.
c. $5,250.
d. $3,500.
88. The interest charged on a $350,000 note payable, at the rate of 6%, for a year would be
a. $21,000.
b. $10,500.
c. $5,250.
d. $1,750.
89. The interest charged on a $90,000 note payable, at the rate of 6%, on a 90-day note
would be
a. $5,400.
b. $2,700.
c. $1,350.
d. $900.
90. The interest charged on a $90,000 note payable, at the rate of 6%, on a 60-day note
would be
a. $5,400.
b. $2,700.
c. $1,350.
d. $900.
91. Interest expense on an interest-bearing note is
a. always equal to zero.
b. accrued over the life of the note.
c. only recorded at the time the note is issued.
d. only recorded at maturity when the note is paid.
Reporting and Analyzing Liabilities
10-19
92. Sales taxes collected by a retailer are recorded by
a. crediting Sales Tax Revenue.
b. debiting Sales Tax Expense.
c. crediting Sales Taxes Payable.
d. debiting Sales Taxes Payable.
93. Unearned Rent Revenue is
a. a contra account to Rent Revenue.
b. a revenue account.
c. reported as a current liability.
d. debited when rent is received in advance.
94. The amount of sales tax collected by a retail store when making sales is
a. a miscellaneous revenue for the store.
b. a current liability.
c. not recorded because it is a tax paid by the customer.
d. recorded as an operating expense.
95. A company receives $264, of which $24 is for sales tax. The journal entry to record the
sale would include a
a. debit to Sales Taxes Expense for $24.
b. credit to Sales Taxes Payable for $24.
c. debit to Sales Revenue for $264.
d. debit to Cash for $240.
96. A company receives $348, of which $28 is for sales tax. The journal entry to record the
sale would include a
a debit to Sales Taxes Expense for $28.
b. debit to Sales Taxes Payable for $28.
c. debit to Sales Revenue for $348.
d. debit to Cash for $348.
97. A retail store credited the Sales Revenue account for the sales price and the amount of
sales tax on sales. If the sales tax rate is 5% and the balance in the Sales Revenue
account amounted to $294,000, what is the amount of the sales taxes owed to the taxing
agency?
a. $280,000
b. $294,000
c. $14,700
d. $14,000
Test Bank for Financial Accounting: Tools for Business Decision Making, Eighth Edition
10-20
98. A retail store credited the Sales Revenue account for the sales price and the amount of
sales tax on sales. If the sales tax rate is 5% and the balance in the Sales Revenue
account amounted to $630,000, what is the amount of the sales taxes owed to the taxing
agency?
a. $600,000
b. $630,000
c. $31,500
d. $30,000
99. The current portion of long-term debt should
a. be paid immediately.
b. be reclassified as a current liability.
c. be classified as a long-term liability.
d. not be separated from the long-term portion of debt.
100. On January 1, 2017, Ermler Company, a calendar-year company, issued $2,000,000 of
notes payable, of which $500,000 is due on January 1 for each of the next four years. The
proper balance sheet presentation on December 31, 2017, is
a. Current liabilities, $2,000,000.
b. Long-term debt , $2,000,000.
c. Current liabilities, $500,000; Long-term Debt, $1,000,000.
d. Current liabilities, $500,000; Long-term Debt, $1,500,000.
101. On January 1, 2017, Keisler Company, a calendar-year company, issued $900,000 of
notes payable, of which $225,000 is due on January 1 for each of the next four years. The
proper balance sheet presentation on December 31, 2017, is
a. Current liabilities, $900,000.
b. Long-term debt, $900,000.
c. Current liabilities, $225,000; Long-term Debt, $675,000.
d. Current liabilities, $675,000; Long-term Debt, $225,000.
102. Sales taxes collected by a retailer from a customer are expenses
a. of the retailer.
b. of the customers.
c. of the government.
d. that are not recognized by the retailer until they are submitted to the government.

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