Financial Accounting and Reporting (FAR) CPA Exam Study Guide

Financial Reporting

Financial Statements & Comprehensive Income

Full Set of Financial Statements

Statement of Financial Position (Balance Sheet)
Statement of Earnings (Income Statement)
Statement of Comprehensive Income
Statement of Cash Flows
Statement of Owner's Equity

Items of Other Comprehensive Income (OCI)

These items bypass the income statement and go directly to equity:

Pension Adjustments
Unrealized Gains and Losses on Available-for-Sale (AFS) Debt Securities
Foreign Currency Translation Adjustments
Instrument-Specific Credit Risk
Effective Portion of Cash Flow Hedges

$$ \text{Net Income} + \text{Other Comprehensive Income (OCI)} = \text{Comprehensive Income} $$

Discontinued Operations

Discontinued operations are reported separately on the income statement, net of tax.

The component must be disposed of or held for sale.
The disposal must represent a strategic shift.
Once an asset is classified as held for sale, you do not depreciate or amortize the asset anymore.
You cannot reverse an impairment beyond the original amount that was impaired.

Individual Foreign Transactions

Direct Method: Domestic price of another currency ($/€)
Indirect Method: Foreign price of domestic currency (€/$)

Denominated Item	FC Rate Increases (↑)	FC Rate Decreases (↓)
Asset (Receivable)	Gain	Loss
Liability (Payable)	Loss	Gain

SEC Filing Deadlines

Filer Type	Public Float (Market Value)	Form 10-K	Form 10-Q
Large Accelerated	> $700M	60 days	40 days
Accelerated	$75M - $700M (+ >$100M Rev)	75 days	40 days
All Others	< $75M (& <$100M Rev)	90 days	45 days

Stock Issuance & Definitions

Authorized	Maximum amount of stock that may be issued.
Issued	Stock that has been sold/distributed.
Outstanding	Issued Stock − Treasury Stock

Issuance Journal Entries

Issued Above Par

Cash (Shares × Purchase Price)$XX

Common Stock (Shares × Par Value)$XX

APIC - C/S (Plug)$XX

Issued Below Par

Cash (Shares × Purchase Price)$XX

APIC - C/S (Plug)$XX

Common Stock (Shares × Par Value)$XX

Stock Subscriptions

A contractual agreement to sell a specified number of shares at an agreed-upon price on credit.

1. Record Subscription

Subscriptions Receivable$XX

Common Stock Subscribed (Par)$XX

APIC - C/S (Plug)$XX

2. Collection of Payments

Cash$XX

Subscriptions Receivable$XX

3. Issuance (Fully Paid)

Common Stock Subscribed$XX

Common Stock Issued$XX

Note: If a subscriber defaults, the company may issue shares proportionate to the amount paid, refund the partial payment, or retain the payment to increase APIC.

Retained Earnings

$$ \begin{aligned} &\text{Beginning Retained Earnings} \\ \pm \; &\text{Net Income (or Loss)} \\ - \; &\text{Dividends Declared} \\ \pm \; &\underline{\text{Prior Period Adjustments}} \\ = \; &\textbf{Ending Retained Earnings} \end{aligned} $$

Earnings Per Share (EPS)

Basic EPS

$$\frac{\text{Net Income} - \text{Preferred Dividends}}{\text{Weighted Average Common Shares Outstanding (WACSO)}}$$

Cumulative Preferred: Deduct the current year dividend, whether declared or not.
Non-Cumulative Preferred: Deduct only if declared.
Stock Splits/Dividends: Treated retroactively to the beginning of the year.

Diluted EPS

$$\frac{\text{Income Available} + \text{Interest on Dilutive Securities (Net of Tax)}}{\text{WACSO} + \text{Shares from Conversion}}$$

If-Converted Method (Bonds/Pref. Stock): Add back interest (net of tax) or preferred dividends to the numerator; add converted shares to the denominator.
Treasury Stock Method (Options/Warrants): Assumes proceeds from exercise are used to repurchase shares at the average market price. Dilutive only if Average Market Price > Strike Price.

Preferred Stock - Equity with Options

Feature	Description
Cumulative	Unpaid dividends accumulate as "Dividends in Arrears".
Non-Cumulative	Unpaid dividends do NOT accumulate.
Participating	Share with common shareholders in excess of a specific amount. Can be Fully (no limit) or Partially (to a percentage limit).
Non-Participating	Limited to the dividend provided by the preference.
Convertible	May be exchanged for common stock at a specified rate.
Callable/Redeemable	May be repurchased by the issuing corporation at a specified price.
Liquidation Preference	Must be disclosed if larger than par value.

Treasury Stock: Cost Method

The Cost Method is used 95% of the time. Treasury stock is carried at its reacquisition cost. Gains and losses are determined upon reissue or retirement. Net Income is never impacted.

1. Buy Back

Treasury Stock (Cost)$XX

Cash$XX

2a. Reissue Above Cost

Cash$XX

Treasury Stock (Cost)$XX

APIC - T/S (Gain)$XX

2b. Reissue Below Cost

Cash$XX

APIC - T/S (Deplete to zero)$XX

Retained Earnings (Plug remainder)$XX

Treasury Stock (Cost)$XX

3. Retirement

Common Stock (Par)$XX

APIC - C/S (Original issue price)$XX

Retained Earnings (Plug if loss)$XX

Treasury Stock (Cost)$XX

Dividends & Distributions

Date of Declaration

Retained Earnings$XX

Dividends Payable$XX

Date of Record

No Entry

Date of Payment

Dividends Payable$XX

Cash$XX

Dividend Type	Accounting Treatment
Property (In-Kind)	Recorded at FMV of property. Gain/Loss is recognized on the disposition.
Small Stock (<20-25%)	Reduce Retained Earnings by the FMV.
Large Stock (>20-25%)	Reduce Retained Earnings by the Par Value.
Liquidating	Distribution exceeds investor's share of retained earnings. Reduces investor's basis.

State & Local Government Concepts

Detailed governmental accounting is tested in the BAR discipline. For FAR, you only need to identify the high-level measurement focus, basis of accounting, and purpose of the funds.

Fund Category	Measurement Focus & Basis	Primary Purpose
Governmental	Current Financial Resources Modified Accrual	Core services (Police, Fire, Admin). Includes General, Special Revenue, Debt Service, Capital Projects, and Permanent funds.
Proprietary	Economic Resources Full Accrual	Business-type activities (Tolls, Utilities). Includes Enterprise and Internal Service funds.
Fiduciary	Economic Resources Full Accrual	Holding assets for others (Pensions, Investment Trusts).

NFP Financial Statements

Required statements include the Statement of Financial Position, Statement of Activities, and Statement of Cash Flows.

Statement of Activities (Expenses)

Functional: By major classes of program and support services (e.g., Program Services, Management & General, Fundraising).
Natural: By standard general ledger titles (e.g., salaries, rent, utilities).

Statement of Cash Flows Classification

Operating

Unrestricted contributions & grants
Program service fees
Charitable disbursements
Interest/dividends on operating investments

Investing

Investments in PP&E
Proceeds from the sale of art
Proceeds from assets restricted for acquiring new PP&E

Financing

Contributions restricted for acquiring long-lived assets (PP&E)
Contributions restricted for establishing an endowment fund

NFP Contribution & Revenue Recognition

Contribution Criteria

For a transfer to be considered an unconditional contribution, it must be: voluntary, nonreciprocal, unconditional, and title to the assets must pass.

Type	Recognition
Cash Contributions	Recognized as revenue/gains at FV when received.
Unconditional Pledges	Recognize revenue at FV when pledged. Multi-year pledges are recorded at NPV as donor restricted (by time).
Donated Services	Recognized if they create/enhance a nonfinancial asset OR require specialized skills otherwise needed by the organization.
Donated Collection Items	Not required to be capitalized if part of a collection for public viewing, cared for, and proceeds from sales are used to acquire other items or for the direct care of existing collections. Must be applied to all items or none of them.

Conditional Pledges

Not recognized until conditions/barriers are substantially met. Barriers include: specified service levels, specific outcomes, matching provisions, or outside events.

Early Cash Receipt (Before Conditions Met)

Cash$XX

Refundable Advance (Liability)$XX

Allowance for Uncollectible Pledges

An allowance is recorded to present pledges at Net Realizable Value (NRV), but Bad Debt Expense is not recognized. Instead, uncollectible amounts directly reduce the contribution revenue.

NFP Recipient & Beneficiary Accounting

No Variance Power & Not Interrelated

Recipient Entry

Asset$XX

Refundable Advance Liability$XX

Beneficiary Entry

Receivable$XX

Contribution Revenue$XX

With Variance Power

Recipient Entry

Asset$XX

Contribution Revenue$XX

Beneficiary Entry

No Entry

Financially Interrelated

Recipient Entry

Asset$XX

Contribution Revenue$XX

Beneficiary Entry

Interest in Recipient Net Assets$XX

Change in Interest$XX

Financial Reporting & Disclosure

The 5-Step Revenue Recognition Model (ASC 606)

Revenue is recognized based on the transfer of control of promised goods or services to customers.

Step	Description & Key Rules
1. Identify the Contract	Must have approval, identifiable rights/payment terms, commercial substance, and probable collection.
2. Identify Separate Performance Obligations (POs)	A PO is distinct if the customer benefits independently AND it is separately identifiable (not highly integrated or interdependent).
3. Determine Transaction Price	Determine expected consideration (factoring in variable consideration, time value of money, noncash consideration).
4. Allocate Price	Allocate the transaction price to each distinct PO based on relative standalone selling prices.
5. Recognize Revenue	Over Time: Customer simultaneously receives benefit, entity creates asset customer controls, or asset has no alternative use with right to payment. Point in Time: Entity has right to payment, customer has legal title, physical possession, or accepted the asset.

Contract Assets vs. Contract Liabilities

Contract Asset: Right to consideration (work performed but not yet billed).
Contract Liability: Obligation to transfer goods/services (payment received but unearned).

Long-Term Construction Projects

Accounting for long-term construction contracts depends on the ability to reasonably estimate costs.

Method	Usage Criteria	Revenue Recognition
Percentage-of-Completion	Costs can be reasonably estimated.	Recognized over time based on the ratio of costs incurred to date vs. total estimated costs.
Completed Contract	Costs cannot be reasonably estimated.	Recognized at a point in time, strictly upon the completion of the contract.

Balance Sheet Presentation

Contract Asset (Current)

$$ (\text{Cumulative Costs} + \text{Recognized Gross Profit}) > \text{Cumulative Billings} $$

Contract Liability (Current)

$$ (\text{Cumulative Costs} + \text{Recognized Gross Profit}) < \text{Cumulative Billings} $$

Fair Value Measurement

Hierarchy of Inputs

Fair value is prioritized based on the observability of inputs.

Level	Description	Observability
Level 1 (Highest)	Quoted prices in active markets for identical assets/liabilities.	Observable
Level 2	Inputs other than quoted prices (e.g., similar assets, interest rates, yield curves).	Observable
Level 3 (Lowest)	Inputs reflecting the entity's own assumptions (e.g., internal cash flow projections).	Unobservable

Valuation Techniques

Market Approach	Uses prices from market transactions involving identical or comparable assets.
Cost Approach	Uses the amount required to replace the service capacity of an asset (replacement cost).
Income Approach	Converts future amounts (e.g., cash flows) to a single discounted present value.

Market & Measurement Principles

Principal Market: The market with the greatest volume and activity level.
Most Advantageous Market: Used only if no principal market exists; maximizes price received (or minimizes price paid) after transaction costs.
Highest and Best Use: Valuation premise for non-financial assets considering optimal use to maximize value.

Notes to the Financial Statements

Note Category	Disclosures Included
Summary of Sig. Acct. Policies	First or second footnote. Describes measurement bases and specific principles used.
Risks & Uncertainties	Describes major operations, use of estimates, and significant concentrations. A concentration is disclosed if it exists at the B/S date, causes near-term vulnerability, and the impact is reasonably possible.
Other Notes	Contingencies, pension plans, segment disclosures, FV estimates, changes in SE, and material asset/liability info.

Accounting Changes & Error Corrections

Type of Change	Treatment	Description & Action
Change in Principle	Retrospective	Change from one GAAP method to another (e.g., FIFO to Weighted Average). For comparative F/S, restate prior years. Adjust beginning RE, net of tax. Exception: Change to LIFO is prospective.
Change in Estimate	Prospective	Not an error. Apply in current and future periods (e.g., changing depreciation method or useful life).
Change in Entity	Retrospective	Restate all presented F/S to reflect the new reporting entity.
Error Correction	Prior Period Adjustment	Correction of mathematical mistakes or non-GAAP to GAAP. If prior year F/S are not presented, adjust the opening balance of RE of the earliest period presented, net of tax.

Subsequent Events

Event after B/S date but before F/S are issued/available.

Types of Subsequent Events

graph TD A["Subsequent Event Identified (Between B/S Date & Report Date)"] --> B{"Did the condition
exist at the
Balance Sheet date?"} B -->|Yes| C["Type 1 Event"] B -->|No| D["Type 2 Event"] C --> E["Recognize Journal Entry & Disclose"] D --> F["Disclosure Only (No Adjustment)"]

Public firms evaluate until F/S are issued. Private firms evaluate until F/S are available to be issued.

Other Bases of Accounting (OCBOA)

OCBOA Guidelines: Titles should be different, equivalents of B/S and I/S are required, equity changes explained, and disclosures similar to GAAP. A Statement of Cash Flows is not required.

Basis	Revenue/Expense Recognition	Common F/S Titles
Cash Basis	Rev when cash received; Exp when cash paid.	Statement of Cash and Equity Statement of Cash Receipts and Disbursements
Modified Cash Basis	Hybrid (e.g., capitalizing fixed assets/inventory, accruing taxes).	Statement of Assets and Liab (Modified Cash Basis) Statement of Revs Collected and Expenses Paid
Income Tax Basis	Based on rules used to prepare tax returns.	Statement of Assets, Liabs, Equity (Income Tax Basis) Statement of Income (Income Tax Basis)

Cash to Accrual Basis Conversion

Core Logic: Adjust cash flows for changes in related balance sheet accounts.

$$ \text{Accrual Income} = \text{Cash Flow} + \Delta\text{Current Assets} - \Delta\text{Current Liabilities} $$

	Revenue	Purchases → COGS	Operating Expenses
Cash Basis Amount	Cash Received	Cash Paid for Purchases	Cash Paid for OpEx
A/R & A/P	+ End A/R, - Beg A/R	+ End A/P, - Beg A/P
Unearned/Prepaid	- End Unearned, + Beg Unearned		- End Prepaid, + Beg Prepaid
Inventory		- End Inv, + Beg Inv
Accrued Liab.			+ End Accrued, - Beg Accrued
Accrual Basis Amount	Accrual Revenue	COGS	Accrual OpEx

Financial Statement Ratios & Performance Metrics

Liquidity & Solvency Ratios

Current Ratio	$$\frac{\text{Current Assets}}{\text{Current Liabilities}}$$
Quick Ratio	$$\frac{\text{Cash} + \text{Equivalents} + \text{Marketable Securities} + \text{Net Receivables}}{\text{Current Liabilities}}$$
A/R Turnover	$$\frac{\text{Net Sales}}{\text{Average Net A/R}}$$
Days Sales in A/R	$$\frac{\text{Ending Net A/R}}{\text{Net Sales} / 365}$$
Inventory Turnover	$$\frac{\text{COGS}}{\text{Average Inventory}}$$
Days in Inventory	$$\frac{\text{Ending Inventory}}{\text{COGS} / 365}$$
Debt-to-Equity	$$\frac{\text{Total Liabilities}}{\text{Total Equity}}$$
Times Interest Earned	$$\frac{\text{EBIT}}{\text{Interest Expense}}$$

Profitability Ratios & Metrics

Gross Profit Margin	$$\frac{\text{Net Sales} - \text{COGS}}{\text{Net Sales}}$$
Profit Margin	$$\frac{\text{Net Income}}{\text{Net Sales}}$$
Return on Assets (ROA)	$$\frac{\text{Net Income}}{\text{Avg. Total Assets}}$$
Return on Equity (ROE)	$$\frac{\text{Net Income}}{\text{Avg. Total Equity}}$$
DuPont ROA	$$\text{Profit Margin} \times \text{Asset Turnover}$$
Price/Earnings (P/E)	$$\frac{\text{Price Per Share}}{\text{Basic EPS}}$$
Dividend Payout	$$\frac{\text{Cash Dividends}}{\text{Net Income}}$$
EBITDA (Top-Down)	$$\text{Sales} - \text{COGS} - \text{OpEx}$$

Assets

Discounts: Gross vs. Net Method

Discounts (e.g., 2/10, n/30) incentivize early payment. The accounting logic applies symmetrically whether you are the seller (A/R) or the buyer (A/P).

Gross Method

Records the invoice at the full amount. The discount is only recognized if taken.

1. Initial Transaction

A/R (or Inventory)$XX

Sales (or A/P)$XX

2. Payment (Within Discount Period)

Cash (or A/P)$XX

Sales Discount$XX

A/R (or Cash + Purchase Disc.)$XX

Net Method

Records the invoice assuming the discount is taken. Adjusts if the discount is forfeited.

1. Initial Transaction

A/R (or Inventory)$XX

Sales (or A/P)$XX

2. Payment (After Discount Period)

Cash (or A/P)$XX

Purchase Disc. Lost$XX

A/R + Sales Disc. Forfeited$XX

Cash$XX

Inventory

Ownership & Title

Scenario	Ownership / Title Transfer
FOB Shipping Point	Title transfers when goods leave seller's dock (buyer owns in transit).
FOB Destination	Title transfers when goods arrive at buyer's dock (seller owns in transit).
Consigned Goods	Remain in consignor's (seller's) inventory until sold by consignee to a third party.
Installment Sales	Include in seller's inventory if uncollectible debts cannot be estimated. Include in buyer's if they can.

Valuation Rules

FIFO / Weighted Average: Lower of Cost and Net Realizable Value (NRV).

$$ \text{NRV} = \text{Selling Price} - \text{Costs to Complete and Dispose} $$

LIFO / Retail: Lower of Cost or Market.

$$ \text{Market} = \text{Median}(\text{Ceiling}, \text{Replacement Cost}, \text{Floor}) $$

Ceiling: Net Realizable Value (NRV)
Replacement Cost: Current cost to purchase/reproduce
Floor: NRV − Normal Profit Margin

Precious Metals & Farm Products: Valued strictly at NRV.
Write-Down Reversals: Prohibited under U.S. GAAP.

Costing Methods

Method	Description / Calculation
Specific Identification	Cost is unique to each item.
Weighted Average (Periodic)	Used for homogeneous products. Cost per unit = Total Inventory Costs Available / Total # of units available.
Moving Average (Perpetual)	Computes a new weighted average after each purchase.
Gross Profit Method	Used for interim financial statements as part of a periodic system when the GP% is known.

Dollar-Value LIFO

Inventory is measured in dollars and adjusted for changing price levels using a Price Index. If prices are rising, the PI is greater than 1.

$$ \text{Price Index} = \frac{\text{Ending Inventory at Current Year Cost}}{\text{Ending Inventory at Base Year Cost}} $$

Calculation Steps:

Remove the price increase to find how much Ending Inventory would be using base year prices.
Determine the new inventory layer to see how much inventory increased using base year prices.
Increase the new layer back to current prices by multiplying by the Price Index.
Calculate total inventory under Dollar Value LIFO by adding the new layer to the base layer.

Inventory Systems

Periodic: Physical count determines End Inv. & COGS. Purchases debited to "Purchases" account.
Perpetual: Records updated for each item sold. Purchases debited directly to "Inventory".

Error Impact: If Ending Inventory is Overstated → COGS is understated → Profit is overstated → RE is overstated.

Cash & Bank Reconciliation

Cash Equivalents: Short-term, highly liquid investments readily convertible to cash with an original maturity of 90 days or less.

Restricted vs. Unrestricted Cash

Unrestricted: Used for all current operations.
Restricted: Set aside by management for a specific purpose. If the restriction is associated with a current asset/liability, classify as a Current Asset. If associated with a non-current asset/liability, classify as a Non-Current Asset.

Bank Reconciliation

Bank Balance Adjustments

$$ \text{Bank} + \text{Dep. in Transit} - \text{Out. Checks} \pm \text{Errors} $$

Book Balance Adjustments

$$ \text{Book} + \text{Collections} - \text{NSF/Fees} \pm \text{Errors} $$

Adjusted Bank Balance MUST EQUAL Adjusted Book Balance

Trade Receivables: CECL & Financing

Under the Current Expected Credit Loss (CECL) model, entities must estimate the percentage of uncollectibles to match expenses to the period of the sale. The direct write-off method is not GAAP.

CECL Journal Entries

1. Estimate & Record Credit Loss

Credit Loss Expense$XX

Allowance for Expected Credit Losses$XX

2. Write-off Uncollectible Account

Allowance for Expected Credit Losses$XX

Accounts Receivable$XX

3. Subsequent Collection (Restore & Collect)

Accounts Receivable$XX

Allowance for Expected Credit Losses$XX

Cash$XX

Accounts Receivable$XX

Receivables Financing

Pledging: A/R used as collateral. Company retains title. Requires footnote disclosure only.
Factoring w/o Recourse (True Sale): Risk of uncollectibility is transferred to the buyer (factor).

Factoring w/o Recourse

Cash$XX$XX

Due from Factor (Security Deposit)$XX

Loss on Sale of Receivables$XX

Accounts Receivable$XX

PP&E Capitalized Costs

Asset Type	Capitalized Costs Included
Land	Purchase price, commissions, legal fees, site prep, draining swamps, clearing trees, removing old buildings (net of salvage), and existing obligations (back taxes).
Plant / Building	Purchase price, architect fees, deferred maintenance, digging foundation, construction period interest.
Equipment	All expenditures related to acquisition or construction. Capitalize improvements that increase quantity/quality.

Equipment Substitutions

When substituting a new, similar asset for an old one:

If old asset's CV is known: Remove old asset (Cost & Accum. Depr.) and capitalize the new asset.
If old CV is not known and it extends useful life: Debit Accumulated Depreciation and credit Cash.
If old CV is not known and it increases efficiency/productivity: Debit the Asset account and credit Cash.

Capitalizing Interest

Applies to self-constructed assets. Capitalize the lower of actual interest cost incurred or computed capitalized interest (avoidable interest).

Key Rule: Only capitalize interest on money actually spent (weighted-average accumulated expenditures), not on the total amount borrowed.

Capitalization Period

The period begins when all three of the following conditions are met:

Expenditures for the asset are being made.
Activities necessary to get the asset ready for use are in progress.
Interest cost is being incurred.

Note: Capitalization stops if these conditions cease. Brief or intentional interruptions do not stop capitalization, but unintentional interruptions do.

Disposal of Assets

Sale with Gain

Cash$XX

Accumulated Depreciation$XX

Asset (Cost)$XX

Gain on Sale$XX

Sale with Loss

Cash$XX

Accumulated Depreciation$XX

Loss on Sale$XX

Asset (Cost)$XX

Nonmonetary Exchanges

Accounting for the exchange of one nonmonetary asset for another depends on whether the transaction has "commercial substance."

Commercial Substance

A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. This change can be in the areas of risk, timing, or amount of cash flows.

Gain/Loss Recognition Flow

graph TD Start["Nonmonetary Exchange"] --> CommSub{"Has Commercial Substance?"} CommSub -->|Yes| AllGL["Recognize at FV
Recognize ALL Gains and Losses"] CommSub -->|No| IsLoss{"Is there a Loss?"} IsLoss -->|Yes| RecLoss["Recognize Loss Immediately"] IsLoss -->|No| Boot{"Is Boot Received?"} Boot -->|No| Defer["Defer Entire Gain"] Boot -->|Yes| BootSize{"Is Boot >= 25% of total consideration?"} BootSize -->|Yes| AllGain["Monetary Exchange
Recognize ALL Gain"] BootSize -->|No| PropGain["Recognize Proportional Gain:
(Boot / Total) x Realized Gain"]

Basis of Acquired Asset

For fair value transactions (with commercial substance): The basis of the new asset is its fair value (or the FV of the asset given up plus any cash paid).
For transactions lacking commercial substance: The basis of the new asset is the book value of the asset given up. This is adjusted for any boot paid (increases basis) or boot received (decreases basis) and any gain recognized.

Depreciation & Depletion Methods

Straight-Line

$$\frac{\text{Cost} - \text{Salvage Value}}{\text{Estimated Useful Life}}$$

Double-Declining Balance

$$\frac{2}{\text{Useful Life}} \times (\text{Cost} - \text{Accumulated Depreciation})$$

Sum-of-the-Years'-Digits (SYD)

$$(\text{Cost} - \text{Salvage Value}) \times \frac{\text{Remaining Life}}{\text{SYD}}$$

Units-of-Production

$$\left(\frac{\text{Cost} - \text{Salvage Value}}{\text{Est. Total Units}}\right) \times \text{\# of Units Produced}$$

Composite Depreciation

Averages the economic lives of a group of assets. No gain or loss is recognized upon the retirement of a single asset within the group.

Sale/ Retirement of Composite Asset

Cash$XX

Accumulated Depreciation (Plug)$XX

Asset (Cost)$XX

Depletion (Natural Resources)

Cost depletion is allowed by GAAP (percentage depletion is not). The depletion base includes cost of land, development costs, and restoration costs, minus residual value.

Unit Depletion Rate

$$ \frac{\text{Depletion Base}}{\text{Estimated Recoverable Units}} $$

Yearly Depletion (COGS)

$$ \text{Unit Rate} \times \text{Units Extracted \& Sold} $$

Asset Impairment (Long-Lived Assets)

graph TD A["Step 1: Recoverability Test"] --> B{"Undiscounted Future Cash Flows
< Carrying Value?"} B -->|No| C["No Impairment"] B -->|Yes| D["Step 2: Calculate Loss"] D --> E{"Asset's Intended Use?"} E -->|Held for Use| F["Loss = Carrying Value - Fair Value
(Depreciate new basis. No reversals.)"] E -->|Held for Disposal| G["Loss = Carrying Value - (Fair Value - Costs to Sell)
(No depreciation. Reversals permitted.)"]

Long-Lived Assets Held for Sale

An asset is classified as held for sale only when all six of the following criteria are met:

Management commits to a plan to sell the asset.
The asset is available for immediate sale in its present condition.
There is an active program to locate a buyer.
The sale is probable and the transfer is expected within one year.
The asset is being actively marketed at a reasonable price.
Significant changes to the plan to sell are not expected.

Measurement & Presentation

Measured at the lower of carrying value OR fair value minus costs to sell.
No depreciation is taken when an asset is classified as held for sale.
Must be presented separately on the face of the balance sheet for the current period.

Intangible Assets

Type	Accounting Treatment
Purchased Intangibles	Recorded as an asset at cost. Legal and registration fees should be capitalized.
Internally Developed	Expensed when incurred (R&D). Only specific, identifiable costs can be capitalized.
Patents (Finite Life)	Amortize over the shorter of the estimated useful life or legal/contractual life.
Start-up & Org Costs	Expensed as incurred.
Franchise Costs	Capitalize initial franchise costs; expense ongoing/continuing costs as incurred.

Cloud Computing Arrangements

Phase 1 (Preliminary): Expense all costs (e.g., determining system requirements).
Phase 2 (Application Dev): Capitalize implementation costs (coding, testing). Expense training, manual data conversion, and maintenance.
Phase 3 (Post Implementation): Expense costs once placed in service.

Liabilities

Debt Modification & Extinguishment

When a debtor and creditor agree to change the terms of an existing debt, it must be classified as either a modification, an extinguishment, or a Troubled Debt Restructuring (TDR).

Classification	Criteria & Accounting Treatment
Extinguishment of Debt	Occurs if the terms are substantially different (the present value of the new cash flows changes by at least 10% from the old cash flows). Treatment: The old debt is removed, the new debt is recorded at Fair Value, and a Gain/Loss on Extinguishment is recognized.
Modification of Terms	Occurs if the cash flows change by less than 10%. Treatment: The debt is NOT removed. A new effective interest rate is calculated prospectively. No gain or loss is recognized.
Troubled Debt Restructuring (TDR)	Occurs when the creditor grants a concession to a debtor experiencing financial difficulties (e.g., reducing interest rates, forgiving principal). Treatment: For modifications, a gain is recognized only if the total undiscounted future cash flows are now less than the carrying value of the debt.

Classification

Criteria & Accounting Treatment

Extinguishment of Debt

Occurs if the terms are substantially different (the present value of the new cash flows changes by at least 10% from the old cash flows).

Treatment: The old debt is removed, the new debt is recorded at Fair Value, and a Gain/Loss on Extinguishment is recognized.

Modification of Terms

Occurs if the cash flows change by less than 10%.

Treatment: The debt is NOT removed. A new effective interest rate is calculated prospectively. No gain or loss is recognized.

Troubled Debt Restructuring (TDR)

Occurs when the creditor grants a concession to a debtor experiencing financial difficulties (e.g., reducing interest rates, forgiving principal).

Treatment: For modifications, a gain is recognized only if the total undiscounted future cash flows are now less than the carrying value of the debt.

Carrying Value of Debt

The net amount at which a bond or other debt instrument is reported on the balance sheet.

$$ \begin{aligned} &\text{Face Value of Debt} \\ - \; &\text{Unamortized Discount} \\ + \; &\text{Unamortized Premium} \\ - \; &\underline{\text{Bond Issue Costs}} \\ = \; &\textbf{Carrying Value of Debt} \end{aligned} $$

Notes Payable & Annuities

Notes Payable are written promises to pay money at a fixed rate and are measured at present value.

Gross Notes Payable: Periodic payment × number of payments.
Present Value (PV): Gross amount discounted to PV. The difference is the discount.

Principal Reduction Calculation

Interest Expense: Beginning carrying value × effective market rate.
Principal Reduction: Periodic cash payment − calculated interest expense.

Annuity Definitions

Ordinary Annuity	Payments occur at the end of each period.
Annuity Due	Payments occur at the beginning of each period.

Debt Covenants

Creditors use debt covenants in lending agreements to protect their interests. A breach results in a technical default.

Type	Description & Examples
Affirmative	Activities the debtor must do (e.g., maintain minimum ratios, provide financial statements).
Negative	Activities the debtor must not do (e.g., issue additional debt, pay dividends above a threshold).

Common Current Liabilities

Liability Type	Description / Treatment
Trade A/P & N/P	For inventory, raw materials, etc.
Sales Tax Payable	Liability created when collecting tax on behalf of the government (company has a payable, no expense).
Employee-Related	Employer Expense: FICA, FUTA, SUTA Deductions (Not Exp): Employee Income Tax, Employee FICA
Accrued Vacation	Accrue in year earned if services rendered, rights accumulate, payment is probable, and amount is estimable.
Product Warranties	A seller's promise to correct product defects. Must be accrued in the year of the sale if reasonably estimable (Matching Principle).

Estimating Premiums Liability

To estimate the liability for outstanding promotional claims at year-end:

Total Estimated Redemptions = Coupons Issued × Estimated Redemption Rate.
Coupons to be Redeemed = Total Estimated Redemptions − Coupons Already Redeemed.
Outstanding Claims = Coupons to be Redeemed / Coupons Required Per Premium.
Estimated Liability = Outstanding Claims × Cost Per Premium.

Loss Contingencies

graph TD A["Evaluate likelihood of Loss Contingencies"] --> B{"Likelihood?"} B -->|Probable & Estimable| C["Accrue (JE) & Disclose"] B -->|Probable but NOT Estimable| D["Disclose Only"] B -->|Reasonably Possible| D B -->|Remote| E["Ignore (Unless specific guarantee)"]

Gain Contingencies: Do not accrue. Disclose if not remote.

Remote Contingencies Requiring Disclosure

Disclose remote contingencies if they involve guarantees, such as:

Debt of others guaranteed
Obligations of commercial banks
Guarantees of repurchase A/R sold

Exit or Disposal Activities

A liability is recognized for costs associated with an exit or disposal plan (e.g., severance, contract termination costs, facility consolidation).

Recognition Criteria

A liability is measured at fair value and recognized only when all of the following occur:

An obligating event has occurred.
The event results in a present obligation to transfer assets in the future.
The entity has little or no discretion to avoid the obligation.

Liability Journal Entry

Record Exit/ Disposal Liability

Exit/Disposal Expense$XX

Exit/Disposal Liability$XX

Asset Retirement Obligation (ARO)

An ARO is a legal obligation associated with the retirement of a tangible, long-lived asset. The 2026 Blueprint only requires recalling the recognition and measurement rules.

Recognition & Measurement Rules

Initial Measurement: Recorded at Fair Value (Present Value) when the liability is incurred, providing a reasonable estimate can be made.
Asset Treatment: The ARO cost is capitalized by increasing the carrying amount of the related long-lived asset (Asset Retirement Cost).
Subsequent Measurement: The liability is increased annually via Accretion Expense. The capitalized asset is decreased annually via Depreciation Expense.
Revisions to Cash Flows: Upward revisions are discounted at the current rate. Downward revisions are discounted at the historical rate.

Bonds Payable

Types of Bonds

Debentures: Unsecured bonds; typically represent higher risk and require a higher yield.
Convertible: Can be exchanged for common stock (Detachable vs. Nondetachable warrants).
Term vs. Serial: Term matures on a single date; Serial matures in installments.
Zero-Coupon: Deep discount, no stated interest rate.

Pricing & Carrying Value

Issuance	Rate Environment	Price vs. Face Value
Discount	Market > Coupon	Price < Face Value
Par	Market = Coupon	Price = Face Value
Premium	Market < Coupon	Price > Face Value

$$\text{Bond Price} = \text{PV of Principal} + \text{PV of Periodic Interest Payments}$$

Journal Entries (Issuer)

Issuance at Discount

Cash$XX

Discount on B/P$XX

Bonds Payable$XX

Extinguishment (Early Retirement)

Bonds Payable (Face Value)$XX

Premium on B/P$XX

Loss on Extinguishment (Plug)$XX

Discount on B/P$XX

Cash (Reacquisition Price)$XX

Gain on Extinguishment (Plug)$XX

Note: Gains or losses on early extinguishment are calculated as the Reacquisition Price minus the Net Carrying Amount. Bond issuance costs are initially subtracted from face value and amortized as interest expense.

Lease Accounting (Lessee)

Lease Commencement Date

The date on which the lessor makes the underlying asset available for use by the lessee.

Lease Options

Option to Extend: Included in the lease term if the lessee is reasonably certain to exercise it.
Option to Terminate: The lease term ends on the date the option becomes exercisable if the lessee is reasonably certain to exercise it.
Options controlled by Lessor: Only the lessor's actions are considered when determining the lease term.

Lease Classification Flow

graph TD Start["Evaluate Contract"] --> Q0{"1. Depends on identifiable asset?
2. Conveys right to control?"} Q0 -->|No| NotLease["Not a Lease"] Q0 -->|Yes| Q1{"Meets ANY of the 5 Finance Criteria?"} Q1 -->|Yes| Finance["Lessee: Finance Lease
Lessor: Sales-Type Lease"] Q1 -->|No| Operating["Lessor/Lessee: Operating Lease (Unless specialized Lessor criteria met)"]

5 Finance Lease Criteria

Ownership of asset transfers to lessee by end of term
Lessee has written option to buy asset with reasonably certain exercise
NPV of all lease payments + residual value exceeds 90% of FV
Term of lease represents major part of the economic life remaining
Asset is specialized so there is not expected alternative use

Lease Payment Components

Included in Lease Payments

Fixed payments
Reasonably certain exercise options
Purchase price at end of lease
Variable payments based on an index/rate
Residual guarantees
Termination penalties

Excluded from Payments

Guarantees of lessor debt
Variable payments not based on an index or rate

Accounting Treatment

Initial Entry (Both Lease Types)

Right-of-Use (ROU) Asset$XX

Lease Liability$XX

Finance Lease (Subsequent)

Interest & Payment

Interest Expense$XX

Lease Liability$XX

Cash$XX

Amortization

Amortization Expense$XX

Accumulated Amortization (ROU)$XX

Operating Lease (Subsequent)

Single Lease Expense

Lease Expense (Straight-Line)$XX

Cash (or Lease Liability)$XX

Amortization of Right-of-Use (ROU) Asset

For Finance Leases, the ROU asset is amortized on a straight-line basis. The period used depends on the classification criteria met:

Ownership transfers or Written option exists: Amortize over the asset's useful life.
Net Present Value, Economic life, or Specialized asset criteria met: Amortize over the shorter of the lease term or the asset's useful life.

Advanced Topics: Investments, CFs, & Taxes

Investment Accounting Summary

Type	Ownership	Method	Interest / Dividend Income (I/S)	Unrealized G/L (I/S)	SCF (Purchase/Sale)	SCF (Income Received)
Debt - Trading	Any	Fair Value	Net Income	Net Income	Operating	Operating
Debt - AFS	Any	Fair Value	Net Income	OCI	Investing	Operating
Debt - HTM	Any	Amortized Cost	Net Income	N/A	Investing	Operating
Equity (no sig. influence)	0-20%	Fair Value	Net Income	Net Income	Operating	Operating
Equity (sig. influence)	20-50%	Equity Method	Share of NI (not div.)	N/A	Investing	Investing
Equity (control)	>50%	Consolidation	N/A	N/A	N/A	N/A

Fair Value Option (FVO)

On certain election dates, companies can make an irrevocable choice to measure specific financial instruments at Fair Value (FV).

FVO applies to individual financial instruments in their entirety, not to specific risks.
Follows trading security rules: unrealized gains and losses are reported in earnings.

Eligibility

Eligible	NOT Eligible
AFS debt securities, Equity investments with significant influence (normally equity method)	Consolidated investments, Pension benefit assets/liabilities, Leases

Instrument-Specific Credit Risk

For a financial liability designated under the FVO, the portion of the fair value change attributable to the entity's own instrument-specific credit risk is recognized directly in Other Comprehensive Income (OCI).

Equity Securities (<20% Ownership)

Used when the investor has no significant influence. Securities are reported at Fair Value Through Net Income (FVTNI).

Scenario	Accounting Treatment
Readily Determinable Fair Value	Measure at Fair Value. Unrealized holding gains and losses are included in earnings as they occur.
No Readily Determinable FV (Practicability Exception)	Measure at Cost, less impairment, ± observable price changes of identical or similar investments from the same issuer.

Equity Method (20-50%)

Used when the investor has significant influence over the investee. The investment is originally recorded at cost and adjusted thereafter.

Basic Mechanics

Initial Purchase	Share of Net Income	Dividends Received
Investment = Purchase Price	Investment ↑ Equity Income ↑	Cash ↑ Investment ↓

Purchase Price Allocation

Asset FV Premium: (FV of Equity - BV). Amortize over useful life → Reduces both the Investment account and Equity Income.
Goodwill: (Purchase Price - FV of Equity). Ignored in the equity method; it is neither amortized nor separately impaired.

Impairment

Recognized on the I/S if FV drops below carrying value AND the decline is other than temporary. Reversals are strictly prohibited.

Exceptions (Do Not Use If...)

Subsidiary is in bankruptcy/reorganization.
Investment is strictly temporary.
"Standstill" agreement exists (investor surrenders significant rights).
Cannot obtain necessary financial info or board representation.

Investment Reclassification & Sale

Reclassification

Transfers between categories are accounted for at fair value on the date of transfer.

To Trading: Unrealized G/L recognized in current earnings.
From HTM to AFS: Unrealized G/L recorded in OCI.
From AFS to HTM: Unrealized G/L from OCI is amortized over the remaining life of the security.

Sale of Trading Security

The realized gain or loss is the difference between the selling price and the carrying value at the time of sale.

Sale with Gain

Cash (Selling Price)$XX

Trading Security (CV)$XX

Realized Gain on Trading Security$XX

Sale with Loss

Cash (Selling Price)$XX

Realized Loss on Trading Security$XX

Trading Security (CV)$XX

Sale of Available-for-Sale (AFS) Security

A realized gain or loss is recognized in earnings, calculated as the difference between the selling price and the original cost of the security. Any unrealized gains or losses in Accumulated Other Comprehensive Income (OCI) must be reversed upon sale.

Sale of AFS Security

Cash (Selling Price)$XX

Unrealized G/L (OCI) (To reverse existing AOCI balance)$XX

AFS Security (Original Cost)$XX

Realized Gain/Loss on Sale (Plug to Net Income)$XX

Impairment of Debt Securities

$$ \text{Expected Credit Loss (ECL)} = \text{PV of Future CFs} - \text{Amortized Cost} $$

Trading: Not applicable (already at FV through NI).
AFS: ECL recognized on I/S. Any excess loss (FV drop > ECL) goes to OCI.
HTM: ECL recognized on I/S. Asset is written down.

Record Expected Credit Loss

Credit Loss Expense$XX

Allowance for Credit Losses$XX

Consolidation (>50%) Adjustments

At acquisition, 100% of the subsidiary's net assets acquired are reported at fair value. All intercompany balances and transactions must be eliminated.

Acquisition Elimination Entry

Consolidation at Date of Acquisition

Common Stock (Subsidiary)$XX

APIC (Subsidiary)$XX

Retained Earnings (Subsidiary)$XX

Identifiable Intangibles (Fair Value)$XX

Balance Sheet Adjustments (Fair Value)$XX

Goodwill (Excess Fair Value)$XX

Investment in Subsidiary (Parent's CV)$XX

Noncontrolling Interest (FV of portion not owned)$XX

Eliminating Intercompany Transactions

Inventory Sale Elimination

Intercompany Sales$XX

Intercompany COGS$XX

COGS (Reduce to third-party amount)$XX

Ending Inventory (Write down to cost)$XX

Bond Elimination

Bonds Payable$XX

Premium on Bonds (If applicable)$XX

Investment in Bonds$XX

Gain on Extinguishment (Plug)$XX

Fixed Asset / Land Elimination

Intercompany Gain on Sale$XX

Asset (Restore to original cost)$XX

Accumulated Depreciation (If applicable)$XX

Statement of Cash Flows

Operating: Indirect Method

$$ \begin{aligned} &\text{Net Income} \\ + \; &\text{Non-cash Expenses (Depr, Amort)} \\ - \; &\text{Non-cash Income (Gains)} \\ \pm \; &\text{Changes in Op. Assets \& Liabs} \end{aligned} $$

Operating: Direct Method

Cash receipts from customers
Cash paid to suppliers & employees
Interest paid
Taxes paid

Investing and Financing sections remain identical under both methods.

Investing: Non-current assets (e.g., sale/purchase of PP&E, investments).

Financing: Debt and Equity (e.g., issuing stock/bonds, paying dividends, repaying principal).

Accounting for Income Taxes

Deferred tax assets (DTAs) and liabilities (DTLs) arise from temporary differences between GAAP financial income and taxable income. All deferred taxes are classified as non-current on the balance sheet.

Temporary Differences Framework

graph TD A["Temporary Timing Difference"] --> B{"When is tax paid?"} B -->|"Paid Now
(Taxable Income > Book Income)"| C["Deferred Tax Asset"] B -->|"Paid Later
(Book Income > Taxable Income)"| D["Deferred Tax Liability"] C --> E["Examples:
Bad Debt Expense,
Warranty Expense,
Prepaid Rent/Royalties"] D --> F["Examples:
Accelerated Tax Depreciation,
Installment Sales"]

Valuation & Rates

Enacted Tax Rate: DTAs and DTLs must be measured using the enacted tax rate expected to apply in the future year the difference reverses. Do not use anticipated or proposed rates.
Valuation Allowance: A DTA must be reduced by a valuation allowance if it is "more likely than not" (>50%) that some or all of the deferred tax asset will not be realized.

Permanent Differences

Do not reverse and do not create deferred taxes. Examples: Municipal bond interest, life insurance proceeds, and the dividends-received deduction (DRD).

Intraperiod Tax Allocation

Certain items must be presented net of tax to properly match tax expense with the corresponding item. These include:

Income from continuing operations
Discontinued operations
Prior period adjustments (Retained Earnings)
Items of Other Comprehensive Income (OCI)