Advantages And Disadvantages Of Installment Sales Gaap

• Advantages And Disadvantages Of Sole Proprietorship
• Advantages And Disadvantages Of Globalization
• Advantages And Disadvantages Of Oil

Real Estate & Taxes: What are Installment Sales? An installment sale refers to the method in which you receive at least one payment on your property after the end of. Both Sides Can Benefit From Installment Sale. Seller Can Defer Profit Tax Over Several Years And Buyer Doesn't Have To Worry About Bank Financing. Advantages & Disadvantages of. That form the basis of the generally accepted accounting principles. Are conservative in that they require sales.

In this post, I am going to reveal “ how to apply revenue recognition under Installment method” in step-by step. As the title says, it is typically a technical topic in “ Revenue Recognition” area. It is coming with case example in a step-by-step way, aided with screenshot to ensure that you can understand what really I am saying that impossible you can miss.

Can you go without equation and formula? You know that answer is “you cannot”, don’t worry, you will get the exact equation and formula. The following various related topic are also going to be discussed: Revenue Recognition When Collection Is Uncertain under GAAP sources, accompanied with the term and definition for jargon used in this topic will be discussed at first stage as a steady fundament. Installment payment of receivables sometimes followed with interest, so “ Interest On Installment Method Receivables” will be discussed as well, How about bad debt under installment method?

Yes It is fully loaded “ Bad Debts And Repossessions” is also on the note. Finally “ Disclosure Of Installment Sales” will close this discussion.

Advertisement Revenue Recognition When Collection Is Uncertain under GAAP Under generally accepted accounting principles, revenue recognition customarily does not depend on the collection of cash. Accrual accounting techniques normally record revenue at the point of a credit sale by establishing a receivable. When uncertainty arises surrounding the collectibility of this amount, the receivable is appropriately adjusted by establishing a valuation allowance. In some cases, however, the collection of the sales price may be so uncertain that an objective measure of ultimate collectibility cannot be established.

When such circumstances exist, the seller uses either the installment method or the cost recovery method to recognize the transaction (APB 10). Both of these methods allow for a deferral of gross profit until cash has been collected. The Accounting Principles Board specifically noted that these installment methods are “ not acceptable” if revenues and a provision for uncollectible accounts can be reasonably estimated. An installment transaction occurs when a seller delivers a product or performs a service and the buyer makes periodic payments over an extended period of time. Under the installment method, revenue recognition is deferred until the period(s) of cash collection. The seller recognizes both revenues and cost of sales at the time of the sale; however, the related gross profit is deferred to those periods in which cash is collected. Under the cost recovery method, both revenues and cost of sales are recognized at the time of the sale, but none of the related gross profit is recognized until the entire cost of sales has been recovered.

Once the seller has recovered all costs of sales, any additional cash receipts are recognized as revenue. APB 10 does not specify when one method is preferred over the other.

However, the cost recovery method is more conservative than the installment method because gross profit is deferred until all costs have been recovered; therefore, it is more appropriate for situations of extreme uncertainty. Term and Definitions Used Before you go to the main course, its is worth reviewing and understanding the term and definitions used in this topic.

Advantages And Disadvantages Of Sole Proprietorship

Read it carefully: Cost recovery method: The method of accounting for an installment basis sale whereby the gross profit is deferred until all cost of sales has been recovered. Deferred gross profit: The gross profit from an installment basis sale that will be recognized in future periods. Gross profit rate: The percentage computed by dividing gross profit by revenue from an installment sale. Installment Method: The method of accounting for a sale whereby gross profit is recognized in each period in which cash from the sale is collected. Installment sale: A sales transaction for which the sales price is collected through the receipt of periodic payments over an extended period of time. Net realizable value: The portion of the recorded amount of an asset expected to be realized in cash upon its liquidation in the ordinary course of business. Realized gross profit: The gross profit recognized in the current period.

Repossessions: Merchandise sold by a seller under an installment arrangement that the seller physically takes back after the buyer defaults on the payments. Revenue Recognition Under Installment Method The installment method was developed in response to the increasing incidence of sales contracts that allowed buyers to make payments over several years. As the payment period becomes longer, the risk of loss resulting from uncollectible accounts increases; consequently, circumstances surrounding a receivable may lead to considerable uncertainty as to whether payments will actually be received.

Under these circumstances, the uncertainty of cash collection dictates that revenue recognition be deferred until the actual receipt of cash. The installment method can be used in most sales transactions for which payment is to be made through periodic installments over an extended period of time and the collectibility of the sales price cannot be reasonably estimated. This method is applicable to the sales of real estate, heavy equipment, home furnishings, and other merchandise sold on an installment basis. Installment method revenue recognition is not in accordance with accrual accounting because revenue recognition is not normally based on cash collection; however, its use is justified in certain circumstances on the grounds that accrual accounting may result in “front end loading” (i.e., all of the revenue from a transaction being recognized at the point of sale with an improper matching of related costs). For example: the application of accrual accounting to transactions that provide for installment payments over periods of 10, 20, or 30 years may underestimate losses from contract defaults and other future contract costs. Applying The Installment Method – The Main Course When a seller uses the installment method, both revenue and cost of sales are recognized at the point of sale, but the related gross profit is deferred to those periods during which cash will be collected. As receivables are collected, a portion of the deferred gross profit equal to the gross profit rate times the cash collected is recognized as income.

When this method is used, the seller must compute each year’s gross profit rate and also must maintain records of installment accounts receivable and deferred revenue that are separately identified by the year of sale. All general and administrative expenses are normally expensed in the period incurred.

The steps to use in accounting for sales under the installment method are as follows: 1. During the current year, record sales and cost of sales in the regular manner. Record installment sales transactions separately from other sales.

Set up installment accounts receivable identified by the year of sale (e.g., Installment Accounts Receivable—2007). Record cash collections from installment accounts receivable. Care must be taken so that the cash receipts are properly identified as to the year in which the receivable arose. At the end of the current year, transfer installment sales revenue and installment cost of sales to deferred gross profit properly identified by the year of sale.

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Compute the current year’s gross profit rate on installment sales as follows: Gross profit rate = 1 - Cost of installment sales : Installment sales revenue Alternatively, the gross profit rate can be computed as follows: Gross profit rate = Installment sales revenue – Cost of installment sales : Installment sales revenue 4. Apply the current year’s gross profit rate to the cash collections from the current year’s installment sales to compute the realized gross profit from the current year’s installment sales.

Realized gross profit = Cash collections from the current year’s installment sales x Current year’s gross profit rate 5. Separately apply each of the previous year’s gross profit rates to cash collections from those year’s installment sales to compute the realized gross profit from each of the previous years’ installment sales. Realized gross profit = Cash collections from the previous years’ installment sales x Previous years’ gross profit rate 6. Defer the current year’s unrealized gross profit to future years.

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The deferred gross profit to carry forward to future years is computed as follows: Deferred gross profit (2007) = Ending balance installment account receivable (2007) x Gross profit rate (2007) Example of the Installment Method of Accounting Accounting entries are made for steps 1 and 2 above using this data; the following computations are required for steps 3 through 6 Step 3: Compute the current year’s gross profit rate. Step 4: Apply the current year’s gross profit rate to cash collections from current year’s sales. Step 5: Separately apply each of the previous years’ gross profit rates to cash collections from that year’s installment sales. Step 6: Defer the current year’s unrealized gross profit to future years.

DEAR BOB: I own some land purchased in 1943 for $50,000. It is now worth about $600,000. How can I sell it and keep federal and state taxes to a minimum? I have three adult children and two grandchildren.

DEAR SABENA: There is only one way to fully avoid tax on the sale of property held for investment, such as your land. That method is an Internal Revenue Code 1031 tax-deferred exchange for another investment or business property of equal or greater cost and equity. Purchase Bob Bruss online. For example, you could trade for one or more rental houses, office building, apartment building, warehouse, shopping center or land. But you cannot make an IRC 1031 trade for a personal residence. Another alternative would be to make an installment sale to spread out your capital gain tax over as many years as you wish.

That means you would receive a cash down payment from the buyer, perhaps 10 percent to 25 percent, and carry back an installment-sale mortgage for the balance of the sales price. There are many installment-sale advantages, such as creating retirement income for you.

Part of each principal payment will be taxed as long-term capital gain and, of course, the interest income is taxed as ordinary income. If you want to provide for your children and grandchildren, you can specify in your will or living trust they are to receive the installment-sale mortgage after you die. Every time they receive a monthly payment from the land buyer they will silently say “thank you.” For details on tax-deferred-exchange and installment-sale benefits, please consult your tax adviser. DOES MORTGAGE LENDER GET THE HOUSE WHEN BORROWER DIES?

DEAR BOB: If a homeowner dies before the mortgage is paid off and if there is no insurance money to pay off the mortgage, does the house go to the mortgage company? What happens to the equity? DEAR PAULA: When a homeowner dies, the property title passes according to the terms of the deceased’s written will or revocable living trust. That heir then usually either takes over the existing mortgage payments or sells the property and pays the mortgage in full.

In other words, the heir benefits from the remaining equity. The mortgage lender does not own the house after the owner dies.

The lender is entitled only to the amount of the mortgage balance. Of course, if the mortgage payments are not kept current by the estate or the heir, then the lender could foreclose for nonpayment. For further details, please consult a local real estate attorney. NO NEED TO UPDATE OWNER’S TITLE INSURANCE POLICY DEAR BOB: I am confused about our original owner’s title insurance policy. Visual Boy Advance. We paid off our home mortgage in full after owning the house for about 18 years. Do we need to have a new updated title insurance policy issued to us to be sure there are no title clouds after we purchased the property?

What if the original title insurance company is no longer in business? DEAR DON: There is usually no need to update your owner’s title insurance policy after paying off your mortgage in full. However, as a courtesy to you as a customer, many title insurance companies will check your title to be certain the mortgage lender properly recorded either a satisfaction of mortgage or a deed of reconveyance.

If your original title insurance company has gone out of business, chances are it merged with another title insurer. Your state insurance commissioner’s office can usually tell you the title insurer that is now responsible for your owner’s title policy, which will be in effect as long as you or your heirs own the property. A second resource is the American Land Title Association in Washington, D.C.

They can usually refer you to the title insurer that took over the insurance obligation on your existing owner’s title insurance policy. The new Robert Bruss special report, “Everything You Need to Know About Reverse Mortgage Pros and Cons for Senior Citizen Homeowners,” is now available for $5 from Robert Bruss, 251 Park Road, Burlingame, Calif., 94010, or by credit card at 1-800-736-1736 or instant Internet delivery. Questions for this column are welcome at either address. (For more information on Bob Bruss publications, visit his ).