Chapter 1 Current Liabilities

Related standards:
1. PFRS 18: Presentation and Disclosure in Financial Statements
2. PAS 32: Financial Instruments: Presentation
3. PFRS 9: Financial Instruments Liability
Liability is "a present obligation of the entity to transfer an economic resource as a result of past events." (Conceptual
Framework 4.26)
The definition of liability has the following three aspects:
a. Obligation
b. Transfer of an economic resource
c. Present obligation as a result of past events

Obligation
An obligation is "a duty or responsibility that an entity has no practical ability to avoid." (Conceptual Framework 4.29)
An obligation is either:
a. Legal obligation - an obligation that results from a contract, legislation, or other operation of law; or
b. Constructive obligation - an obligation that results from an entity's actions (e.g., past practice or published policies) that
create a valid expectation on others that the entity will accept and discharge certain responsibilities.
Transfer of an economic resource
The liability is the obligation that has the potential to require the transfer of an economic resource to another party and not the
future economic benefits that the obligation may cause to be transferred. Thus, the obligation's potential to cause a transfer of
economic benefits need not be certain, or even likely, for example, the transfer may be required only if a specified uncertain
future event occurs. What is important is that the obligation already exists and that, in at least one circumstance, it would
require the entity to transfer an economic resource.
Consequently, a liability can exist even if the probability of a transfer of an economic resource is low, although that low
probability affects decisions on whether the liability is to be recognized, how it is measured, what information is to be
provided about the liability, and how that information is provided, (Conceptual Framework 4,37 & 4.38)
An obligation to transfer an economic resource may be an obligation to:
a. pay cash, deliver goods, or render services;
b. exchange assets with another party on unfavorable terms;
c. transfer assets if a specified uncertain future event occurs; or
d. issue a financial instrument that obliges the entity to transfer an economic resource.

Present obligation as a result of past events

The obligation must be a present obligation that exists as a result of past events. A present obligation exists as a result of past
events if:
a. the entity has already obtained economic benefits or taken an action; and
b. as a consequence, the entity will or may have to transfer an economic resource that it would not otherwise have had to
transfer. (Conceptual Framework 4.43)

Executory contracts
An executory contract "is a contract that is equally unperformed - neither party has fulfilled any of its obligations, or both
parties have partially fulfilled their obligations to an equal extent."-(Conceptual Framework 4.56)
The contract ceases to be executory when one party performs its obligation. If the entity performs first, the entity's combined
right and obligation changes to an asset. If the other party performs first, the entity's combined right and obligation changes
to a liability.
Recognition Criteria
An item is recognized if:
a. it meets the definition of a liability; and
b. recognizing it would provide useful information, i.e, relevant and faithfully represented information.

Both the criteria above must be met before an item is recognized. Accordingly, items that meet the definition of a liability but
do not provide useful information are not recognized, and vice versa. However, even if a liability is not recognized,
information about it may still need to be disclosed in the notes. In such cases, the item is referred to as unrecognized liability.
Relevance
Recognition may not provide relevant information if, for example:
a. it is uncertain whether a liability exists; or
b. a liability exists, but the probability of an outflow of economic benefits is low. (Conceptual Framework 5.12)

Existence uncertainty or low probability of an outflow of economic benefits may result in, but does not automatically lead to,
the non-recognition of a liability. Other factors should be considered.
Faithful representation
A liability must be measured for it to be recognized. Often, measurement requires estimation and thus subject to measurement
uncertainty. The use of reasonable estimates is an essential part of financial reporting and does not necessarily undermine the
usefulness of information. Even a high level of measurement uncertainty does not necessarily preclude an estimate from
providing useful information if the estimate is clearly and accurately described and explained. However, an exceptionally
high measurement uncertainty can affect the faithful representation of a liability.
Financial and Non-financial liabilities
Financial liability - is any liability that is:
a. a contractual obligation to deliver cash or another financial asset to another entity;
b. a contractual obligation to exchange financial assets or financial liabilities with another entity under conditions that are
potentially unfavorable to the entity; or
c. a contract that will or may be settled in the entity's own equity instruments and is not classified as the entity's own equity
instrument.

Non-financial liability - is a liability other than a financial liability

Examples of financial liabilities:
a. Payables, such as accounts, notes, loans, bonds and accrued payables
b. Lease liabilities
c. Held for trading liabilities and derivative liabilities
d. Redeemable preference shares issued
e. Security deposits and other returnable deposits.

The following are not financial liabilities:

a. Unearned revenues and warranty obligations that are to be settled through future delivery of goods or provision of services.
b. Taxes, SSS, Philhealth, and Pag-IBIG payables
c. Constructive obligations

Items (b) and (c) are not financial liabilities because they do not arise from contracts.
Commodity contracts that cannot be settled net in cash or other financial instrument but only through commodity exchange
(e.g, coffee beans, gold bullion, oil, and the like) are not financial instruments. Commodity contracts that can be settled net in
cash or other financial instrument are financial instruments. Such a commodity contract is a financial asset to the party to
whom conditions are potentially favorable, and a financial liability to the party to whom conditions are potentially
unfavorable.
Presentation of financial instruments
The issuer classifies a financial instrument, or its component parts, as a financial asset, a financial liability or an equity
instrument in accordance with the substance of the contract (rather than its legal form) and the definitions of a financial asset,
a financial liability and an equity instrument.
➢ Equity instrument - is "any contract that evidences a residual interest in the assets of an entity after deducting all of
its liabilities." (PAS 32.11)

This definition reflects the basic accounting equation "Assets - Liabilities = Equity."

Financial Liability Equity Instrument

➢ The entity has a contractual obligation to ➢ The entity has no obligation to pay cash or
pay cash or another financial asset or to another financial asset or to exchange
exchange financial instruments under financial instruments under potentially
potentially unfavorable condition. unfavorable condition.

A contract is not an equity instrument merely because it is to be settled in the entity's own equity instruments. The following
guidance applies when a contract requires settlement in the entity's own equity instruments:
Financial Liability Equity Instrument
➢ The contract requires the delivery of: ➢ The contract requires the delivery of a fixed
a. a variable number of entity’s own equity number of entity’s own equity instruments in
instruments in exchange for a fixed amount exchange for a fixed amount of cash or
of cash or another financial asset; or another financial asset.

example:

a contract to deliver as many shares as are

equal to P100,000

b. a fixed number of entity’s own equity

instruments in exchange for a variable
amount of cash or another financial asset.

Example:

a contract to deliver 1,000 shares in

exchange for an amount of cash equal to the
value of 100 grams of gold.

An essential feature of an equity instrument is the absence of a contractual obligation to pay cash or another financial asset.
This is true even if the holder of the instrument is entitled to pro rata share in dividends or of the net assets of the entity in
case of liquidation.
Legal form is also irrelevant when determining if a financial instrument is a financial liability or an equity instrument. Some
instruments are in the form of shares of stocks but the issuer classifies them as financial liabilities if they meet the definition
of a financial liability.
Redeemable preference shares Callable preference shares
- Are preferred stocks which the holder has the - are preferred stocks which the issuer has the
right to redeem at a set date. right to call at a set date.

- Are classified as financial liability because, - are classified as equity instrument because
when the holder exercises its right to redeem, the right to call is at the discretion of the
the issuer is mandatorily obligated to pay for issuer and therefore has no obligation to pay
redemption price. unless it chooses to call on the shares.
Illustration: Financial Liabilities
The records of an entity show the following:

Accounts payable 2,000 SSS contributions payable 6,000

Utilities payable 7,000 Cash dividends payable 4,000
Accrued interest expense 6,000 Property dividends payable 7,000
Advances from customers 1,000 Share dividends payable 3,000
Unearned rent 9,000 Lease Liability 35,000
Warranty obligations 5,000 Bonds Payable 120,000
Income taxes payable 2,000 Discounts on bonds payable (15,000)
Preference shares issued 10,000 Security deposit 2,000
Obligations to deliver a variable 10,000 Unearned interests on receivables 3,000
number of own shares worth a fixed
amount of cash

Requirement: Determine the financial liabilities to be disclosed in the notes

Solution:
Accounts payable 2,000
Utilities payable 7,000
Accrued interest expense (Interest payable) 6,000
Obligations to deliver a variable number of own shares
Worth a fixed amount of cash 10,000
Cash dividends payable 4,000
Financial lease liability 35,000
Bonds payable 120,000
Discount on bonds payable (15,000)
Security deposit 2,000
Redeemable preference shares issued 14,000
Total financial liabilities 185,000

Recognition of financial liabilities

A financial liability is recognized only when the entity becomes a party to the contractual provisions of the instrument.
Classification of Financial Liabilities
All financial liabilities are classified as subsequently measured at amortized cost, except for the following:
a. Financial liabilities at fair value through profit or loss (FVPL) and derivative liabilities - subsequently measured at fair
value b. (e.g., designated or held for trading).
b. Financial liabilities that arise when a transfer of a financial asset does not qualify for derecognition - subsequently
measured on a basis that reflects the rights and obligations that the entity has retained.
c. Financial guarantee contracts and Commitments to provide a loan at a below-market interest rate - subsequently measured
at the higher of:
i. the amount of the loss allowance (12-month expected credit losses); and
ii. the amount initially recognized less, when appropriate, the cumulative amount of income recognized in accordance
with the principles of PFRS 15 Revenue from Contracts with Customers.
d. Contingent consideration recognized by an acquirer in a business combination - subsequently measured at fair value
through profit or loss.
Reclassification of financial liabilities after initial recognition is prohibited.
Measurement of Financial Liabilities
Initial measurement
Financial liabilities are initially measured at fair value minus transaction costs, except FVPL.
Financial liabilities classified as FVPL are initially measured at fair value. The transaction costs are expensed immediately.
Subsequent measurement
➢ Financial liabilities classified as amortized cost are subsequently measured at amortized cost.
 ➢ Financial liabilities classified as held for trading are subsequently measured at fair value with changes in fair values
recognized in profit or loss.
➢ Financial liabilities designated at FVPL are subsequently measured at fair value with changes in fair values
recognized as follows:
o The amount of change in the fair value of the financial liability that is attributable to changes in the credit
risk of that liability is presented in other comprehensive income, and
o The remaining amount of change in the fair value of the liability is presented in profit or loss.
Measurement of Non-financial liabilities
Non-financial liabilities are initially measured at the best estimate of the amounts needed to settle those obligations or the
measurement basis required by other applicable standard, eg, deferred tax liabilities are measured under PAS 12 Income
Taxes.
Examples of non-financial liabilities:
a. Obligations arising from statutory requirements (e.g., income tax payable)
b. Warranty obligations
c. Unearned or deferred revenues
d. Commodity contracts that either cannot be settled in cash or which are expected to be settled by commodity exchange

Subsequently, non-financial liabilities are also measured at the best estimate of the amounts needed to settle the obligations
adjusted for any changes on the expected settlement amounts. Adjustments are treated as changes in accounting estimates and
are accounted for prospectively. Some non-financial liabilities are subsequently measured in accordance with the
requirements of other standards (e.g., deferred tax liabilities are measured in accordance with PAS 12 Income Taxes).
Financial statement presentation
Liabilities are presented as either (a) current or (b) noncurrent on the face of a classified statement of financial position. A
classified statement of financial position is one that shows current and noncurrent distinctions.
When an entity presents an unclassified statement of financial position (based on liquidity) disclosures of liabilities due
within one year and due beyond one year should nevertheless be made in the notes.
Current liabilities
Current liabilities are liabilities that are:
a. Expected to be settled in the entity’s normal operating cycle*;
b. held primarily for trading;
c. Due to be settled within 12 months after the end of the reporting period; or
d. The entity does not have the right at the end of the reporting period to defer settlement of the liability for at least twelve
months after the reporting period.

All other liabilities are classified as noncurrent.

*The operating cycle of an entity is the time between the acquisition of assets for processing and their realization in cash or cash equivalents. When the
entity's normal operating cycle is not clearly identifiable, it is assumed to be 12 months." (PFRS 18.B95)

Liabilities that are settled as part of the entity's normal operating cycle (eg., trade payables and some accruals for employee and other operating costs)
are presented as current, even if they are expected to be settled beyond 12 months after the end of the reporting period.

Liabilities that do not form part of the entity's normal operating cycle (e.g., non-operating liabilities) are presented as current only when they are
expected to be settled within 12 months after the end of the reporting period.

Examples of current liabilities:

a. Financial assets measured at FVPL (i.e., designated or held for trading)
b. Current portion of long-term notes, bonds, loans, and lease liabilities
c. Trade accounts and notes payables
d. Non-trade payables due within 12 months after the end of the reporting period
e. Unearned income expected to be earned within 12 months after the end of the reporting period
f. Bank overdrafts

Trade and non-trade payables

Trade payables are obligations arising from purchases of inventory that are sold in the ordinary course of business. Other
payables are classified as non-trade.
For a trading or manufacturing entity, trade and non-trade payables that are currently due are normally aggregated and
presented as one line item under the heading "Trade and other payables."
The reason for the trade and non-trade distinctions is the differing rules when classifying payables as current or noncurrent.
➢ Trade payables are classified as current liabilities when they are expected to be settled within the normal operating
cycle or one year, whichever is longer.
➢ On the other hand, non-trade payables are classified as current liabilities only when they are expected to be settled
within one year.
Financial institutions need not classify their payables as trade or non-trade because their statement of financial position is
presented based on liquidity, ie., no current and non-current distinction. However, payables expected to be settled within one
year and beyond one year are disclosed in the notes.
Examples of payables:
• Accounts payable - obligations not supported by formal promises to pay by the debtor.
• Notes payable - obligations supported by promissory notes by the debtor.
• Loans payable - usually used to connote bank loans.
• Bonds payable - obligations issued by the debtor supported by promises to pay made under seal.
• Liabilities under trust receipts, e.g., before the corresponding liability to the bank is paid, the goods are released to the buyer
in trust for the bank which advanced the money for the importation of the goods.
• Other payables arising from sources other than purchases and borrowings, such as dividend payables, taxes payable,
remittances payable, and accrued expenses.

Illustration: Current Liabilities

Entity A has the following account balances on December 31, 20X1:
a. Trade accounts payable, net of P5,000 debit balance in supplier’s account,
P4,000 unreleased checks drawn, and P2,000 postdated checks drawn 300,000
b. Credit balance in customers’ accounts 2,000
c. Financial liability designated at FVPL 50,000
d. Bonds Payable (maturing in 10 equal annual installments of P100,000) 1,000,000
e. 12%, 5-year note payable issued on October 1, 20X1 100,000
f. Deferred tax liability 5,000
g. Unearned rent 4,000
h. Contingent liability 10,000
i. Reserve for contingencies 25,000

Requirement: How much is the total current liabilities?

Solution:

a. Trade accounts payable gross of debit balance, unreleased check, and

postdated check (300K+5K+4K+2K) 311,000
b. Advances from customers (Credit balance in customers’ accounts) 2,000
c. Financial liability designated at FVPL 100,000
d. Current portion of bonds payable – interest payable on note in ‘e’
(P100,000 x 12% x 3/12) 3,000
g. unearned rent 4,000
Total current liabilities 470,00
Notes:
➢ Deferred tax liabilities are always presented as noncurrent when an entity presents a classified statement of financial position.
➢ Contingent liability is not recognized but rather disclosed only in the notes.
➢ Reserve for contingencies is an appropriation of retained earnings, and thus, presented in equity.

Illustration: Current liabilities

ABC Co. has the following liabilities as of December 31, 20X1 .
a. Trade accounts payable, including cost of unsold goods received
on consignment of P10,000 300,000
b. Held for trading financial liabilities 50,000
c. deferred revenue 20,000
d. Bank overdraft 10,000
e. Income tax payable 50,000
f. Accrued expenses 5,000
g. Share dividends payable 12,0000
h. Advances from affiliates payable in 15 months after year-end 23,000
i. Loan of XYZ, Inc. guaranteed by ABC – It is possible that ABC will be held
liable for the guarantee 45,000

Requirement: How much is the total current liabilities?

Solution:

a. Trade accounts payable, net of cost of unsold goods received on

consignment (300,000 – 10,000) 290,000
b. Held for trading financial liabilities 50,000
c. Bank overdraft 10,000
d. Income tax payable 50,000
e. Accrued expenses 5,000
Total current liabilities 405,000
Notes:
➢ “deferred revenue” and “unearned revenue” both refer to income already collected but not yet earned. Although
these terms are often used interchangeably, “deferred revenue” can be used to refer to the long-term portion of
unearned income.
➢ Share dividends payable is not a liability but rather an adjunct equity account (i.e., presented as addition to share
capital).
➢ The guarantee on the loan is not recognized as liability because it is not probable (i.e., it is possible only) that ABC
will be held liable for the guarantee.

Refinancing agreement
A long-term obligation that is maturing within 12 months after the reporting period is classified as current, even if a
refinancing agreement to reschedule payments on a long-term basis is completed after the reporting period and before the
financial statements are authorized for issue.

However, the obligation is classified as noncurrent if the entity has the right, at the end of the reporting period, to roll over
the obligation for at least twelve months after the reporting period under an existing loan facility. (a) Without such right, the
entity does not consider the potential to refinance the obligation and classifies the obligation as current.

➢ Refinancing refers to the replacement of an existing debt with a new one but with different terms, e.g., an extended
maturity date or a revised payment schedule. A refinancing wherein the debtor is under financial distress is called
"troubled debt restructuring."
➢ Loan facility refers to a credit line.

Liabilities payable on demand

A liability that is payable upon the demand of the lender is classified as current even if the lender agreed after the end of the
reporting period but before the financial statements are authorized for issue not to demand repayment. This is because the
entity does not have the right at the end of the reporting period to defer settlement of the liability.

However, a liability that is payable on demand is classified as noncurrent if the lender provides the entity by the end of the
reporting period (e.g., on or before December 31) a grace period ending at least twelve months after the reporting period
within which the entity can rectify a breach of loan covenant and during which the lender cannot demand immediate
repayment.

Non-adjusting events
The occurrence of the following after the reporting period, but before the financial statements are authorized for. issue, are
disclosed only as non-adjusting events (meaning, the classification of the liability as at the reporting date is not affected):
a. Refinancing on a long-term basis of a liability classified as current.
b. Rectification of a breach of a long-term loan arrangement classified as current.
c. The granting by the lender of a period of grace to rectify a breach of a long-term loan arrangement classified as current.
d. Settlement of a liability classified as non-current.

Trade accounts payable

Accounts payable arising from the purchase of inventory is recognized when ownership over the goods is transferred to the
buyer. The amount recognized excludes trade discounts. Cash discounts are included if the entity uses the gross method of
recording purchases; they are excluded if the entity uses the net method.

Illustration 1: Accounts payable

On December 31, 20x1, ABC Co. has accounts payable of P1,000,000 before possible adjustment for the following:
a. Goods in transit from a vendor to ABC on December 31, 20x1 with an invoice cost of P50,000 purchased FOB shipping
point were not yet recorded.
b. Goods shipped FOB shipping point from a vendor to ABC were lost in transit. The invoice cost of ₽20,000 was not yet
recorded.
c. Goods shipped FOB shipping point from a vendor to ABC on December 31, 20x1 amounting to P8,000 were recorded and
included in the year-end inventory count as "goods in transit."
d. Goods in transit from a vendor to ABC on December 31, 20x1 with an invoice cost of P10,000 purchased FOB destination
were not yet recorded. The goods were received in January 20x2.
e. Goods with invoice cost of P15,000 were recorded and included in the year-end inventory count as "goods in transit." It
was found out that the goods were shipped from a vendor under FOB destination.

Requirement: Compute for the adjusted accounts payable on December 31, 20x1.

Solution:
Unadjusted accounts payable 1,000,000
a. FOB shipping point not yet recorded 50,000
b. FOB shipping point lost in transit, not yet recorded 20,000
e. FOB destination inappropriately recorded (15,000)
Adjusted accounts payable 1,055,000
Notes:
➢ The goods in transit in "b" are properly included in accounts payable because the goods are purchased FOB
shipping point. Title to the goods is transferred to ABC upon shipment. Therefore, ABC is liable to pay for the goods
even if they are lost in transit.
➢ The goods in transit in "d" are properly excluded from accounts payable because the goods are purchased FOB
destination. Accounts payable will be recorded only when the goods are received.

Illustration 2: Accounts payable

On December 31, 20x1, ABC Co. has accounts payable of P1,000,000 before possible adjustment for the following:
a. Checks drawn for 12,000 were not yet released to payees; checks drawn for 15,000 were released to payees but were
postdated.
b. On December 28, 20x1, a vendor authorized ABC Co. to return for full credit goods costing P25,000. ABC Co. returned
the goods on December. 31, 20x1 but recorded the related credit memo only on January 3, 20X2.
c. Goods shipped FOB shipping point, freight prepaid from a vendor on December 28, 20x1 was recorded at the invoice cost
of P14,000 on the shipment date. The related freight of P3,000 was not recorded.
d. Goods shipped FOB destination, freight collect from a vendor were received and recorded on December 29, 20x1 at the
invoice cost of P40,000. The related freight of P5,000 was recorded as an expense.

Requirement: Compute for the adjusted accounts payable on December 31, 20x1.

Solution:
Unadjusted accounts payable 1,000,000
a. Unreleased checks and postdated checks (12K+5K) 17,000
b. Purchase return (25,000)
c. Freight shouldered by the seller on behalf of ABC Co. 3,000
d. Freight shouldered by ABC Co. on behalf of the seller (5,000)
Adjusted accounts payable 990,000
Notes:
➢ the freight in "c" is included in accounts payable because ABC Ca has to reimburse the seller for the freight
accommodation.
➢ The freight in "d" is excluded from accounts payable because the seller has to reimburse ABC Co. for the freight
accommodation.

Unearned income
Unearned income represents advanced collection of income that is not yet earned. Prior to earning, unearned income is
classified as liability. Example: advances received from customers for the future delivery of goods or rendering of services.

Illustration 1: Unearned revenue

The records of an entity show the following:
• Unearned revenue, January 1, 20x1 1,000,000
• Advances received during 20x1 10,000,000
• Advances applied to orders shipped in 20x1 8,000,000
• Advances pertaining to orders cancelled in 20x1 300,000
Requirements: Compute for the current liability assuming:
a. the advance payments received are non-refundable and
b. the advance payments received are refundable.

Solutions:
Requirement (a): Advances are non-refundable

Unearned income
1,000,000 Jan. 1, 20X1
10,000,000 Advances received
Advances earned 8,000,000
Orders cancelled 300,000
Dec. 31, 20X1 2,700,000

Requirement (b): Advances are refundable

Unearned income – Dec. 31, 20X1 (see prev. solution) 2,700,000
Liability for refundable deposits (Orders cancelled) 300,000
Total current liability for advances received 3,000,000

Illustration 2: Deferred revenue

ABC Co. sells service contracts that cover a 2-year period. The sale price of each contract is P1,000. ABC sold 1,000
contracts evenly throughout 20x1. ABC's past experience shows that, of the total pesos spent for repairs on service contracts,
40% is incurred evenly in the first year of the contract and 60% in the second year.

Requirements: Compute for approximations of the following:

a. Current and noncurrent portions of the deferred revenue as of Dec. 31, 20x1.
b. Revenue in 20x2.

Solution:
Because the contracts are sold evenly, the total receipts of P1M (1,000 x P1,000) are averaged or simply divided by two (1M
÷ 2 = 500K).

a. The first half (i.e., P500K) is assumed to have been sold at the beginning of 20x1. This will be earned from Jan. 1 20x1 to
Dec 31, 20x2 because the contract covers a two-year period.
b. The second half is assumed to have been sold at the end of 20x1. This will be earned from Jan. 1, 20x2 to Dec. 31, 20x3.

20x1 20x2 20x3 Total

Percentages earned 40% 60%
40% 60%
First half (1M ÷ 2) 500,000 200,000 300,000
Second half (1M ÷ 2) 500,000 200,000 300,000
Earned portions 200,000 500,000 300,000 1,00,000
The shaded amounts pertain to the portions earned during the year i.e., (500k x 40%) = 200K earned in 1st year of contract)
and (500K x 60% = 300K earned in the 2nd year of contract).

Requirement (a): current and noncurrent portions – Dec. 31, 20X1

Current portion (earned portion in 20x2) = (300K + 200K) 500,000
Noncurrent portion (earned portion in 20x3) 300,000
Total (P1M less earned portion in 20x1 of P200,000) 800,000

Requirement (b): Service revenue – 20x2

Service revenue in 20x2 (300K + 200K) 500,000

Illustration 3: Unearned subscription

An entity sells monthly issues for a magazine. Subscriptions received after the November 1 cut-off date are held for
publication in the following year. Information on subscriptions is as follows:
Unearned revenue - January 1, 20x1 3,000,000
Receipts from subscriptions during 20x1 (made evenly) 24,000,000

Requirements:
a. How much is the unearned revenue balance on Dec. 31, 20x1?
b. How much is the revenue from subscriptions during 20x1?
Requirement (a): Unearned revenue - Dec. 31
Subscribers after the Nov. 1 cutoff date will not receive any magazine during the year. Accordingly, the related receipts
represent the unearned revenue balance as of December 31, 20x1:

• Unearned revenue, Dec. 31, 20x1 = (24M x 2/12) = 4,000,000

Requirement (b): Subscriptions revenue – 20x1

• Subscriptions revenue, 20x1 = 3M + (24M x 10/12) = 23,000,000

OR

Unearned Revenue
3,000,000 Jan. 1
Subscription revenue – 23,000,000 24,000,000 Receipts during 20x1
20x1 (squeeze)
Dec. 1 (as computed) 4,000,000

Gift Certificates
The accounting for gift certificates is addressed under PFRS 15 Revenue from Contracts with Customers (par. B44 to B47).
The accounting procedures are summarized below:
a. A contract liability is recognized when gift certificates are sold.
b. The contract liability is derecognized and revenue is recognized when the gift certificates are redeemed (used).
c. As to the gift certificates sold that are not exercised (referred to as ‘breakage’), PFRS 15 provides the following:
i. Proportionate method: If the entity expects that a portion of the gift certificates sold will not be redeemed, the
entity recognizes the expected breakage amount as revenue in proportion to the pattern of rights exercised by the customer.
ii. Remote method: If the entity does not expect that a portion of the gift certificates sold will not be redeemed, the
entity recognized the expected breakage amount as revenue when the likelihood of redemption becomes remote.
Illustration: Gift Certificates
An entity sells gift certificates as part of its sales promotion. During the year, the entity sells gift certificate worth P100,000,
of which P72,000 were redeemed.

Case 1: proportionate method

Based on the entity’s past experience, 10% of gift certificates sold are never redeemed.

Requirement: Provide the journal entries:

Solution:
Date Cash 100,000
Gift card liability(a) 100,000
to record the sale of gift certificates
Date Gift card liability 72,000
Revenue(b) 72,000
to record the redemption of gift certificates
(a)
Alternatively, “unearned revenue” or “Contract liability” account may be used in lieu of the “Gift card liability”
(b)
Alternatively, the “Gift Card Revenue” or similar account may be used.

❖ Proportionate recognition of breakage revenue

Breakage revenue is recognized on a pro-rata basis in proportion to the value of actual redemptions.

Gift certificates sold 100,000

Multiply by: 10%
Total expected breakage 10,000

Gift certificates sold 100,000

Less: total expected breakage (10,000)
Gift certificates sold net of expected breakage 90,000

Gift certificates redeemed 72,000

Divide by: Gift certificates sold net of breakage 90,000
Percentage of actual redemptions 80%

Total expected breakage 10,000

Multiply by: percentage of actual redemptions 80%
 Amount of expected breakage recognized as revenue 8,000

Date Gift card liability 8,000

Revenue(a) 8,000
to record the revenue from expected breakage
(a)
Alternatively, the “Breakage revenue” account may be used.
Case 2: Remote method
The entity expects that all the gift certificates sold will be redeemed.
Accounting:
The entity makes the first two entries above. As to the breakage, the entity recognizes revenue only when the likelihood of
redemption becomes remote, for example, when the certificates are not redeemed after a long period of time.
Illustration 1: Deposits for returnable containers
ABC Co. requires deposits from customers for the containers of goods sold. The customers are refunded for the deposits
received when the containers are returned within two years from the date of sale of the related goods. Deposits for containers
not returned within the time limit are regarded as proceeds from retirement of the containers. Information for 20x3 is as
follows:

Deposits for containers on December 31, 20x2 from deliveries in:

20x1 20,000
20x2 45,000 65,000
Deposits for containers delivered in 20x3: 90,000
Deposits for containers returned in 20x3 from deliveries in:
20x1 9,000
20x2 25,000
20x3 46,000 80,000
Requirement: Compute for the liability for deposits on returnable containers as of December 31, 20x3.
Liability for deposits
ignored Deposits from 20x1
Returns from 20x1 ignored 45,000 Deposits from 20x2
Advances earned 25,000 90,000 Deposits in 20x3
Orders cancelled 46,000
Dec. 31, 20X1 64,000

The 20x1 deposits (and returns) are ignored because they have already expired; and hence, do not affect the balance of the liability on Dec. 31, 20x3. The unredeemed 20x1
deposits are regarded as proceeds from the retirement of the unreturned containers. The difference between this amount and the carrying amount of the unreturned
containers is recognized as gain or loss on asset retirement.

Accrued expenses
Accrued expenses are liabilities for expenses already incurred but not yet paid (e.g., salaries payable, utilities payable, and
the like):
Illustration:
An entity is preparing its December 31, 20x1 year-end financial statements and has gathered the following information:

• The bill for December's utility costs of P30,000 was received and paid on January 10, 20x2.
• A P20,000 advertising bill was received on January 2, 20x2. Of the total billing, P15,000 pertain to advertisements in
December 20x1 and P5,000 pertain to advertisements in January 20x2.
• A lease, effective December 16, 20x0, requires monthly rental of P100,000, payable one month after the
commencement of the lease and every month thereafter. In addition, rent equal to 5% of net sales over P1,000,000
per year is payable on January 31 of the following year.
• Total cash sales and collections on accounts amounted to P1,000,000. Accounts receivable has a net increase of
₽200,000. Commissions of 15% of sales are paid on the same day cash is received from customers. Requirement:
Compute for the accrued liabilities on Dec. 31, 20x1.
Requirement: Compute for the accrued liabilities on Dec. 31, 20x1.
Solution:
Utility expense for December 20x1 30,000
Advertising costs incurred in December 20x1 15,000
Rent expense from December 16 to 31, 20x1 (100K ÷ 2) 50,000
Contingent rent expense [(1.2Ma – 1M) x 5%] 10,000
Additional commission expenseb 30,000
Total accrued liabilities 135,000
a
Total sales is computed as follows:
Accounts receivables
Beg. Balance 0
Total sales (cash & credit) 1,200,000 45,000 Total collection from cash
squeeze and credit sales
200,000 Net increase

b
Additional commission expense is computed as follows:
Total commission expense (1.2M total sales x 15%) 180,000
Commission expense paid (1M cash collections x 15%) (150,000)
Additional commission expense 30,000

Illustration: Warranty
ABC Co. provides 3-year warranty for its products. The estimated warranty cost is P100 per unit. As of January 1, 20x1, the
warranty obligation has a balance of P200,00 for units sold in 20x0. In 20x1, 5,000 units were sold and actual warranty costs
of P310,000 were incurred.

Requirements: Compute the following:

a. Warranty expense in 20x1
b. Balance of the warranty obligation as of December 31, 20x1

Solutions:
Requirement (a):
Total units sold in 20x1 5,000
Multiply by: Estimated warranty cost per unit 100
Warranty expense in 20x1 500,000

Journal entries:
20x1 Warranty expense (5,000 x P100) 500,000
Estimated warranty liability 500,000
to record the provisions for warranty costs
20x2 Estimated warranty liability 310,000
Cash (or cost replacement part) 310,000
to record the actual warranty costs

Requirement (b):

Estimated Warranty Liability

Actual warranty costs 1,200,000 200,000 Jan. 1, 20x1

500,000 Warranty expense
Dec. 31, 20x1 390,000

Illustration: Premiums
ABC Co. has an ongoing sales promotion. For every ten product wrappers returned to ABC Co. plus P50, customers will
receive a set of kitchen knives. ABC Co. estimates that 40% of products sold will be redeemed. Information in 20x1 is as
follows:
Units Amount
Estimated liability for premiums – Jan. 90,000
1, 20x1
Sales in 20x1 500,00 750,000
Set of kitchen knives purchased (P200 300,000
per set)
Numb or wrappers redeemed in 20x1 45,000

Requirements: Compute for the following:

a. Premium expense in 20x1
b. Balance of provision for premiums as of December 31, 20x1
Solutions:
Requirement a:

Sales in units 500,000

Multiply by: 40%
Estimated number of wrappers to be redeemed 200,000
Divide by: No. of wrappers per set of kitchen knives 10
Estimated number of sets od kitchen knives to be distributed 20,000
Multiply by: Net cost (P200 purchase cost – P50 customer’s payment) 150
Premium Expense 3,000,000

Requirement b:
Estimated Liability for Premiums

Actual premiums 675,000 90,000 Jan. 1, 20x1

3,000,000 Premium expense
Dec. 31, 20x1 2,415,000

Dividends payable
The liability to pay dividend is recognized when the dividend is appropriately authorized and is no longer at the discretion of
the entity, which is:
a. the date when the declaration of the dividend (e.g., by the board of directors) is approved by a relevant authority (eg, by the
shareholders) if such approval is required; or
b. the date when the dividend is declared (e.g., by the board of directors) if further approval is not required. (IFRIC 17)

Dividends declared by banks are subject to the approval of the Bangko Sentral ng Pilipinas (BSP).

Only cash and property dividends are recognized. as liabilities. Stock dividends are not liabilities; 'share dividends
distributable' ('stock dividends payable) is presented in equity as an addition to share capital.

Liability for remittable collections

Liabilities may also arise from amounts collected on behalf of third parties.
Examples:
a. Taxes withheld
b. SSS premiums, Philhealth, Pag-IBIG and similar contributions
c. Output value added taxes (VAT)
d. Collections made by an agent or broker on behalf of a principal

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Reference: Intermediate Accounting 2, 2025 ed., Zeus Vernon B. Millan