Revised Accrual accounting parable-January

Revised Accrual accounting parable-January - An accrual...

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An accrual accounting parable Once upon a time there was a family named the Williams. The father’s name was Shelly, the mother was Janell, the daughter was Rebecca, and the son was Greg. When we join the Williams, the parents are considering starting a business where they can make an esthetic contribution to their community, be environmentally-friendly, support themselves, and leave a means of support for their two children (and potential grandchildren), while still allowing the children to continue their careers as artists. After much research and soul-searching, the parents decided to enter into an option to buy an existing landscape architecture practice in Northwest Arkansas. Under the terms of the option, the family would rent the existing assets of the practice for three years. The monthly rental would be $2,000, for which the family would get the use of the practice’s land and buildings, and miscellaneous landscaping and office equipment. From an accounting standpoint, the lease will be treated as an operating lease, which, in essence, is just renting the assets, similar to other rental transactions, such as office rental, that we have seen in the past. Because they are leasing all of the assets, the assets will not show up on their business’s balance sheet. The assets will continue to be the property of the party who is leasing them to the family. If they decide to exercise the option in the future, the family will pay the existing owner $125,000. For the $125,000 payment the family would receive all of the assets that they will be currently leasing. If they buy, then the assets will be recorded on the practice’s balance sheet at an acquisition price to be determined at the time. However, the entire amount to be allocated to all of the assets will be the $125,000 purchase price. The only asset that their company will own is a pick-up. They will pay $28,000 for the truck, it will have an economic life of three years, a $10,000 salvage value at the end of thirty-six months, and they will depreciate it over the thirty-six month period, assuming straight-line depreciation. Please refer to the separate depreciation handout that I have already provided to you for a demonstration of how this asset ownership would be recorded at the purchase and at the end of each month to record the necessary depreciation. In discussing the future operations of the practice, the children, Rebecca and Greg, told their parents that while they were highly appreciative of the opportunities that the practice presented, neither of them wanted to work for it on a full-time basis. Rebecca had a thriving career as a sculptor, and Greg was equally successful as a painter. Yet both realized the advantages of having a dependable supplement to their artistic incomes, since they had both observed talented, creative friends struggle financially at times.
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