INSTALLMENT SALES Installment Method Criteria 11.

The installment method of

recognizing revenue a. should be used only in cases in which no reasonable basis
exists for estimating the collectibility of receivables. b. is not a generally
accepted accounting principle under any circumstances. c. should be used for book
purposes only if it is used for tax purposes. S, S & S d. is an acceptable
alternative accounting principle for a firm that makes installment sales. 46.
Slick's Used Cars sells pre-owned cars on the installment basis and carries its own
notes because its customers typically cannot qualify for a bank loan. Default rates
tend to be high or unpredictable. However, in the event of nonpayment, Slick's can
usually repossess the cars without loss. The revenue method Slick would use is the:
A. Installment sales method. C. Cost recovery method. B. Point of sales method. D.
Completed contract method. S, S & T 21. The installment method of recognizing
profit for accounting purposes is acceptable if a. collections in the year of sale
do not exceed 30% of the total sales price. b. an unrealized profit account is
credited. c. collection of the sales price is not reasonably assured. d. the method
is consistently used for all sales of similar merchandise. K, W & W
1.

4.

To properly account for an installment sale, all of the following must be readily
determinable except A. The amount of gross profit to be deferred. B. The total cash
collected on each year's sales. C. The operating costs to be deferred. D. Costs
associated with default and repossession. CMA 1292 2-20 If sales are accounted for
using the installment method, which of the following is (are) only recognized in
proportion to the cash collected on the sales during the period? A. Sales. B. Sales
and cost of sales. C. Sales and cost of sales and selling expenses. D. Sales and
cost of sales and administrative expenses. CIA 0595 IV-11

5.

Cash collection is a critical event for income recognition in the AICPA 1193 T- 39
a. b. Cost-recovery method No Yes Installment method No Yes

Characteristics 13. When using the installment sales method, a. gross profit is
deferred until all cash is received, but revenues and costs are recognized in
proportion to the cash collected from the sale. b. gross profit is recognized only
after the amount of cash collected exceeds the cost of the item sold. c. revenue,
costs, and gross profit are recognized proportionally as the cash is received from
the sale of product. d. total revenues and costs are recognized at the point of
sale, but gross profit is deferred in proportion to the cash that is uncollected
from the sale. S, S & S Installment Receivable Balance 6. Pie Co. uses the
installment sales method to recognize revenue. Customers pay the installment notes
in 24 equal monthly amounts, which include 12% interest. What is an installment
note’s receivable balance six months after the sale? a. 75% of the original sales
price. b. Less than 75% of the original sales price. AICPA 1192T-9 c. The present
value of the remaining monthly payments discounted at 12%. d. Less than the present
value of the remaining monthly payments discounted at 12%. Deferred Revenue 65.
Alton, Inc. is a retailer of home appliances and offers a service contract on each
appliance sold. Alton sells appliances on installment contracts, but all service
contracts must be paid in full at the time of sale. Collections received for
service contracts should be recorded as an increase in a

c. No Yes

d. Yes No

2.
An acceptable method for recognizing profit when the collection of cash is in doubt
is the a. Percentage-of-completion method. c. Completed-contract method. b.
Installment method. d. Consignment method. CMA 0685 4-35 For financial statement
purposes, the installment method of accounting may be used if the a. Collection
period extends over more than 12 months. b. Installments are due in different
years. c. Ultimate amount collectible is indeterminate. d. Percentage-of-completion
method is inappropriate. AICPA 1191 T-6

3.
a. b. c. d.

deferred revenue account. sales contracts receivable valuation account.

stockholders' valuation account. service revenue account.

K, W & W

22. The method most commonly used to report defaults and repossessions is: a.
provide no basis for the repossessed asset thereby recognizing a loss. b. record
the repossessed merchandise at fair value, recording a gain or loss if appropriate.
c. record the repossessed merchandise at book value, recording no gain or loss. d.
none of these. K, W & W Cost Recovery Method Criteria 8. Drew Co. produces
expensive equipment for sale on installment contracts. When there is doubt about
eventual collectibility, the income recognition method least likely to overstate
income is a. at the time the equipment is completed. c. the cost recovery method.
b. the installment method. d. at the time of delivery. AICPA 0591T-8

Deferred Gross Profit 23. Under the installment sales method, a. revenue, costs,
and gross profit are recognized proportionate to the cash that is received from the
sale of the product. b. gross profit is deferred proportionate to cash uncollected
from sale of the product, but total revenues and costs are recognized at the point
of sale. c. gross profit is not recognized until the amount of cash received
exceeds the cost of the item sold. d. revenues and costs are recognized
proportionate to the cash received from the sale of the product, but gross profit
is deferred until all cash is received. K, W & W Realized Gross Profit *. Income
recognized using the installment method of accounting generally equals cash
collected multiplied by the a. net operating profit percentage. b. net operating
profit percentage adjusted for expected uncollectible accounts. c. gross profit
percentage. AICPA 0592 T-45, RPCPA 1097 d. gross profit percentage adjusted for
expected uncollectible accounts.
7.

According to the installment method of accounting, gross profit on an installment

sale is recognized in income a. on the date of sale. b. on the date the final cash
collection is received. c. in proportion to the cash collection. d. after cash
collections equal to the cost of sales have been received. AICPA M0595 F-27

Repossessions 8. When assets that have been sold and accounted for by the
installment method are subsequently repossessed and returned to inventory, they
should be recorded on the books at a. Selling price. b. The amount of the
installment receivable less associated deferred gross profit. c. Net realizable
value. d. Net realizable value minus normal profit. Gleim
21. The cost recovery method a. is used only when circumstances surrounding a sale
are so uncertain that earlier recognition is impossible. b. is the most common
method of accounting for real estate sales. c. is similar to percentage-of-
completion accounting. d. is never acceptable under generally accepted accounting
principles. S, S & S
9.

33. According to the cost recovery method of accounting, the gross profit on an
installment sale is recognized in income: a. after cash collections equal to the
cost of sales are received. b. in proportion to cash collections. c. on the date
the final cash collection is received. d. on the date of sale. RPCPA 0593 *. ABC
Oil Co. is engaged in extensive exploration for oil in the Cagayan Valley. If upon
discovery of oil the company does not recognize any revenue from oil sales until
the sales exceed the costs of exploration, the basis of revenue recognition being
employed is the a. production basis. c. sales (or accrual) basis. RPCPA 1082 b.
cash (or collection) basis. d. sunk cost (or cost recovery) basis.

Wren Co. sells equipment on installment contracts. Which of the following

statements best justifies Wren’s use of the cost recovery method of revenue
recognition to account for these installment sales? a. The sales contract provides
that title to the equipment only passes to the purchaser when all payments have
been made. b. No cash payments are due until one year from the date of sale. c.
Sales are subject to a high rate of return. d. There is no reasonable basis for
estimating collectibility. AICPA 0594 F-41 FGH Machinery, Inc. is engaged in the
business of selling tractors on installment basis. Under which of the following
circumstances should you recommend to FGH the use of the cost recovery method of
revenue recognition to account for the installment sales? a. Where there is no
reasonable basis for estimating collectibility. b. Where the sales are subject to a
high rate of return. c. Where no cash payments are due until one year from date of
sale. d. Where the sale contract provides that title to the equipment only passes
to the buyer when all payments have been made. RPCPA 1096

31. A sells on the installment basis, with service contracts paid in full at the
date of sale. The collections from service contracts should be recorded as an
increase in a. Deferred revenue account. c. Valuation account of stockholders’
equity. b. Sales receivable valuation account. d. Service revenue account. RPCPA
0593 Application 26. Winser, Inc. is engaged in extensive exploration for water in
Utah. If, upon discovery of water, Winser does not recognize any revenue from water
sales until the sales exceed the costs of exploration, the basis of revenue
recognition being employed is the a. production basis. c. sales (or accrual) basis.
b. cash (or collection) basis. d. cost recovery basis. K, W & W Gross Profit 75.
According to the cost recovery method of accounting, gross profit on an installment
sale is recognized in income (E) A. After cash collections equal to the cost of
sales have been received B. In proportion to the cash collections C. On the date
the final cash collection is received D. On the date of sale CPAR Income
recognition 25. Under the cost recovery method of revenue recognition, a. income is
recognized on a proportionate basis as the cash is received on the sale of the
product. b. income is recognized when the cash received from the sale of the
product is greater than the cost of the product.

*.

47. Bert's Meat Market sells quarters and sides of beef on the installment basis.
Losses on receivables are very difficult to predict, and meat products cannot be
repossessed. The revenue recognition method used by Bert would be: A. Point of
sale. C. Cost recovery. B. Installment sales. D. Completed contract. S, S & T
10 .

Using the cost-recovery method of revenue recognition, profit on an installment

sale is recognized A. On the date of the installment sale. B. In proportion to the
cash collections. C. After cash collections equal to the cost of goods sold have
been received. D. On the date the final cash collection is received. CIA 0597 IV-10
c. income is recognized immediately. d. none of these.

d. Consignee when cash is received from the customer. K, W & W

13 .

CIA 0589 IV-27

24. A seller is properly using the cost recovery method for a sale. Interest will
be earned on the future payments. Which of the following statements is not correct?
a. After all costs have been recovered, any additional cash collections are
included in income. b. Interest revenue may be recognized before all costs have
been recovered. c. The deferred gross profit is offset against the related
receivable on the balance sheet. d. Subsequent income statements report the gross
profit as a separate item of revenue when it is recognized as earned. K, W & W
CONSIGNMENT ACCOUNTING Ownership of Consigned Inventories 23. Goods on consignment
should be included in the inventory of S, S & S a. the consignor but not the
consignee. c. the consignee but not the consignor. b. both the consignor and the
consignee. d. neither the consignor nor the consignee. Inventoriable Costs 11 .
Consignor Co. paid the in-transit insurance premium for consignment goods shipped
to Consignee Co. In addition, Consignor advanced part of the commissions that will
be due when Consignee sells the goods. Should Consignor include the in-transit
insurance premium, and the advanced commissions in inventory costs? AICPA 0592 T-23
a. b. c. d. Insurance Premium Yes No Yes No Advanced Commissions Yes No No Yes
Revenue/Cost Recognition 31. Revenue is recognized by the consignor when the a.
goods are shipped to the consignee. b. consignee receives the goods. c. consignor
receives an advance from the consignee. d. consignor receives an account sales from
the consignee.
12 .

DEF is the consignee for 1,000 units of product X for ABC Company. ABC should
recognize the revenue from these 1,000 units when A. The agreement between DEF and
ABC is signed. B. ABC ships the goods to DEF. C. DEF receives the goods from ABC.
D. DEF sells the goods and informs ABC of the sale. CIA 0590 IV-31

*. When goods are consigned out, profits should be recognized by the consignor when
the a. Goods are sold by the consignee. b. Goods are received by the consignee. c.
Consignee agrees to the terms of the consignment. d. Goods are shipped by the
consignor. RPCPA 0577 Prepaid Freight 14 . Jel Co., a consignee, paid the freight
costs for goods shipped from Dale Co., a consignor. These freight costs are to be
deducted from Jel’s payment to Dale when the consignment goods are sold. Until Jel
sells the goods, the freight costs should be included in Jel’s a. Cost of goods
sold. c. Selling expenses. b. Freight-out costs. d. Accounts receivable. AICPA 1192
T-12 Journal Entries 15 . ABC Manufacturing Company ships merchandise costing
$40,000 on consignment to XYZ Stores. ABC pays $3,000 of freight costs to a
transport company, and XYZ pays $2,000 for local advertising costs that are
reimbursable from ABC. By the end of the period, three fourths of the consigned
merchandise has been sold for $50,000 cash. XYZ notifies ABC of the sales, retains
a 10% commission and the paid advertising costs, and remits the cash due ABC.
Select the journal entry that appropriately records the notification of sale and
the receipt of cash by ABC. CIA 1193 IV-37 $40,000 A. Cash 2,000 Advertising
expense 5,000 Commission expense 3,000 Freight expense $50,000 Revenue from
consignment sales $43,000 B. Cash 2,000 Advertising expense 5,000 Commission
expense $50,000 Revenue from consignment sales

K, W & W

In accounting for sales on consignment, sales revenue and the related cost of goods
sold should be recognized by the a. Consignor when the goods are shipped to the
consignee. b. Consignee when the goods are shipped to the third party. c. Consignor
when notification is received that the consignee has sold the goods.
C. D.

Cash Revenue from consignment sales Cash Commission expense Revenue from
consignment sales

$50,000 $50,000 $45,000 5,000 $50,000

2.

Answers (A), (C), and (D) are incorrect because cash collections are critical to
both the costrecovery and the installment method. REQUIRED: the method of
recognizing profit. DISCUSSION: (B) Revenue is to be recognized when it is realized
or realizable and earned. If no reasonable basis exists for estimating the degree
of collectibility of assts to be received for products, services, or other assets,
revenues and gains may be recognized on the basis of cash received. Thus, the
installment method or the cost recovery method may be used (APB 10). Answers (A),
(C), and (D) are incorrect because they are not acceptable methods for recognizing
profit when the collection of cash is in doubt. REQUIRED: The use of the
installment method. DISCUSSION: APB 10, Omnibus Opinion – 1966, reaffirms that
profits from sales in the ordinary course of business should usually be recognized
at the time of sale unless collection of the sales price is not reasonably assured.
When receivables are collected over an extended period and, because of the terms of
the transaction or other conditions, no reasonable basis exists for estimating the
degree of collectibility, the installment method or the cost-recovery method of
accounting may be used. Answers (A) and (B) are incorrect because, regardless of
the length of the collection period, sales in the ordinary course of business
should usually be recognized at the time of sale unless collectibility is not
reasonably assured. Answer (D) is incorrect because the installment method, which
is ordinarily used to account for long-term construction contracts. Answer (C) is
correct. The accounting treatment of installment sales recognizes gross profit as
cash is received. Gross profit is deferred at the time of sale and recognized as
income in the accounting periods in which cash is received. Thus, the accountant
must know the amount of gross profit to be deferred, the cash collected each year,
and perhaps the costs associated with default and repossession. When goods are
repossessed, they are returned to inventory at net realizable value (selling price
- costs of completion, reconditioning, and selling) minus normal profit. The
interest costs on the funds tied up in receivables are also a consideration.
However, no operating costs are deferred as a result of installment sales. Answer
(A) is incorrect because the amount of gross profit to be deferred must be known to
allocate it over future periods. Answer (B) is incorrect because the amount of cash
collected each year is used to allocate gross profit to the proper periods. Answer
(D) is incorrect because default and repossession often occur as a result of
installment sales. Answer (B) is correct. Under the installment method, the gross
profit on sales (sales - cost of sales) is not recognized until cash is collected.
The proportion of cash collected on the sales

FINANCIAL STATEMENT PRESENTATION & REQUIRED DISCLOSURES Financial Statement

Presentation Deferred Gross Profit 16 . Deb Co. records all sales using the
installment method of accounting. Installment sales contracts call for 36 equal
monthly cash payments. The amount of deferred gross profit relating to collections
12 months beyond the balance sheet date should be reported in the a. Current
liability section as a deferred revenue. b. Noncurrent liability section as a
deferred revenue. c. Current asset section as a contra account. d. Noncurrent asset
section as a contra account. AICPA, Adapted *. The Deferred Gross Profit account is
a a. Liability account. b. Contra asset account. c. Contra liability account. d.
Either a or b.

3.

RPCPA 0592
20. Deferred gross profit on installment sales is generally treated as a(n) a.
deduction from installment accounts receivable. b. deduction from installment
sales. c. unearned revenue and classified as a current liability. d. deduction from
gross profit on sales.

K, W & W

4.

1.

REQUIRED: The method(s), if any, under which cash collection is important for
recognizing income. DISCUSSION: (B) When receivables are collected over an extended
period and no reasonable basis exists for estimating the degree of collectibility,
the installment method or the cost-recovery method of accounting may be used. Under
the installment method, gross profit recognized during each period of the term of
an installment receivable is equal to the gross profit ratio on the installment
sales for the period in which the receivable is recognized multiplied by the amount
of cash collected on that receivable during the period. The costrecovery method
recognizes profit only after collections exceed the cost of the item sold, that is,
when the full cost has been recovered. Subsequent amounts collected are treated
entirely as realized gross profit.

5.
during the accounting period determines the proportion of the gross profit on those
sales that is recognized during the period. Hence, both sales and cost of sales are
deferred. Answer (A) is incorrect because sales and cost of sales are recognized in
proportion to cash collections. Answer (C) is incorrect because only the gross
profit (sales - cost of sales) is deferred on sales for which cash has not yet been
collected. Answer (D) is incorrect because only the gross profit (sales - cost of
sales) is deferred on sales for which cash has not yet been collected.
6.

Answer (A) is incorrect because, if repossessed goods are recorded at selling

price, a loss would occur upon resale if reconditioning or selling costs were
incurred. Answer (B) is incorrect because the installment receivable minus the
associated deferred gross profit is usually not equal to the net realizable value
of the asset. Answer (C) is incorrect because recording at net realizable value
precludes recognition of profit upon resale.
9.

REQUIRED: The balance of an installment note 6 month after sale. DISCUSSION: (C)
The balance of an installment note receivable equals the unpaid principal. The
difference between the gross receivable and the unpaid principal equals interest.
Thus, the balance of the note is equal to the present value of the remaining
payments discounted at the contract interest rate. Answers (A) and (B) are
incorrect because the balance will be greater than 75% of the price. Because early
payments contain a greater interest component than later payments, the sum of the
principal components of the first six payments will be less than 25% of the price.
Answer (D) is incorrect because the principal balance equals the present value of
the remaining payments. REQUIRED: The timing of recognition of gross profit on an
installment sale. DISCUSSION: (C) When receivables are collected over an extended
period and no reasonable basis exists for estimating the degree of collectibility,
the installment method may be used. Under the installment method, gross profit
recognized during each period of the term of an installment receivable is equal to
the gross profit ratio on the installment sales for the period in which the
receivable was recognized, multiplied by the cash collected on that receivable
during the period. Hence, gross profit is recognized in proportion to the cash
collections received. Answers (A) and (B) are incorrect because gross profit on
installment sales should be recognized in proportion to the cash collections
received. Answer (D) is incorrect because the cost-recovery method recognizes
income after cash collections equal to the cost of sales have been received.
REQUIRED: The recorded amount of repossessed assets accounted for by the
installment method. DISCUSSION: (C) Repossessed assets returned to inventory should
usually be recorded at their net realizable value minus normal profit. Net
realizable value is the selling price minus costs of completion, reconditioning,
and reselling. Sales profit should be recognized upon resale.

REQUIRED: The best justification for the cost-recovery method. DISCUSSION: (D) APB
10 states that revenues ordinarily should be accounted for when a transaction is
completed, with appropriate provision for uncollectible accounts. However, when
“there is no reasonable basis for estimating the degree of uncollectibility,”
either the installment method or the cost-recovery method may be used. The cost-
recovery method recognizes profit only after collections exceed the cost of the
item sold. Answer (A) is incorrect because passage of title is not a recognition
criterion. Answers (B) and (C) is incorrect because neither a delayed due date nor
a high rate of return necessarily indicates that collectibility cannot be
reasonably estimated. Answer (C) is correct. Under the cost-recovery method, no
revenue is recognized until cash payments by the buyer exceed the seller's cost of
the merchandise sold. This method is appropriate when collection of the revenue is
very uncertain. Answer (A) is incorrect because the accrual basis recognizes
revenue on the date of the installment sale. Answer (B) is incorrect because the
installment basis recognizes revenue in proportion to the cash collections. Answer
(D) is incorrect because, after the cash collections equal the cost of sales,
revenue is to be recognized for any further collections. REQUIRED: The item(s)
included in a consignor’s inventory costs. DISCUSSION: (C) Inventoriable costs
include all costs of making the inventory ready for sale. Costs incurred by a
consignor on the transfer of goods to a consignee are costs necessary to make the
inventory ready for sale. Consequently, they are inventoriable. Thus, the in-
transit insurance premium is inventoried. The advanced commissions constitute a
receivable or prepaid expense, not an element of inventory cost. Answer (A) is
incorrect because the advanced commissions constitute a receivable, not an element
of inventory cost. Answer (B) is incorrect because the in-transit insurance premium
is inventoried. Answer (D) is incorrect because the in-transit insurance premium is
inventoried, but the advanced commissions constitute a receivable, not an element
of inventory cost. REQUIRED: The basis for recognition of sales revenue and related
costs of goods sold for goods on consignment. DISCUSSION: (C) Under a consignment
sales arrangement, the consignor ships merchandise to the consignee who acts as
agent for the consignor in selling the goods. The

10.

7.

11.

8.

12.
goods are in the physical possession of the consignee but remain the property of
the consignor and are included in the consignor’s inventory count. Sales revenue
and the related cost of goods sold from these consigned goods should be recognized
by the consignor only when the merchandise is sold and delivered to the ultimate
borrower. Accordingly, recognition occurs when notification is received that the
consignee has sold the goods. Answer (A) is incorrect because, at the date of
shipment, the goods are still the property of the consignor. Answers (B) and (D)
are incorrect because the consignee does not recognize sales revenue or cost of
goods sold for these goods. The consignee recognizes commission revenue only when
the goods are sold and delivered to the third party.
13.

commission and the advertising costs are ignored in this answer. Answer (D) is
incorrect because the reimbursable advertising costs are ignored in this answer.
16.

Answer (D) is correct. Under a consignment sales arrangement, the consignor ships
merchandise to the consignee who acts as agent for the consignor in selling the
goods. The goods are in the physical possession of the consignee but remain the
property of the consignor and are included in the consignor's inventory count.
Sales revenue and the related cost of goods sold from these consigned goods should
only be recognized by the consignor when the merchandise is sold and delivered to
the final customer. Accordingly, recognition occurs when notification is received
that the consignee has sold the goods. Answer (A) is incorrect because the revenue
has not been realized or earned at this time and should not be recognized. Answer
(B) is incorrect because the revenue has not been realized or earned at this time
and should not be recognized. Answer (C) is incorrect because the revenue has not
been realized or earned at this time and should not be recognized. REQUIRED: The
consignee’s classification of freight costs paid by the consignee on behalf of the
consignor. DISCUSSION: The consignee should debit consignment-in for the freight
costs. Consignment-in is a receivable-payable account used by consignees. It
represents the amount payable to the consignor if it has a credit balance. If it
has a debit balance, it reflects the amount receivable from the consignor. Before
consigned goods are sold, expenditures chargeable to the consignor are recorded in
the consignment-in account as receivable. After the consigned goods are sold, the
consignee’s net liability to the consignor is reflected in the account. Answers
(A), (B), and (C) are incorrect because the freight costs constitute a receivable.
Answer (B) is correct. ABC debits the cash received $43,000 [$50,000 sales - $2,000
advertising - (.10 x $50,000) sales commission]. The advertising and commission
expenses are debited for $2,000 and $5,000, respectively. Finally, $50,000 of gross
revenue is credited. Answer (A) is incorrect because the freight was paid earlier
in the period and would have been recorded then by a credit to cash and a debit to
inventory. Thus, the freight costs will be released to income via cost of goods
sold. Answer (C) is incorrect because the 10%

REQUIRED: The reporting of deferred gross profit relating to collections beyond

that balance sheet date. DISCUSSION: (C) Under the installment method, a credit
sale is recorded by debiting a receivable and crediting inventory and deferred
gross profit. Revenue is recognized only when cash is collected. Because the
essence of an installment sale is an equal change in receivables and inventory, the
deferred gross profit account serves to reduce the asset valuation to the
unrecovered cost of goods sold. Accordingly, deferred gross profit account serves
to reduce the asset valuation to the unrecovered cost of goods sold. Accordingly,
deferred gross profit functions as an asset valuation (contra account). The
installment receivables (and related valuation accounts) should be classified in
the current asset section of the balance sheet if they are collectible within the
operating cycle. All of Deb Co.’s installment contracts are for 36 months. They are
apparently related to normal operations and should be classified as current.
Answers (A) and (B) are incorrect because deferred gross profit is not a liability.
It does not entail a probable future sacrifice of economic benefits. Answer (D) is
incorrect because the installment receivables are current assets.

14.

15.