Question

Halifax Manufacturing allows its customers to return merchandise for any reason up to 90 days after delivery and receive a credit to their accounts. All of Halifax's sales are for credit (no cash is collected at the time of sale). The company began 2021 with a refund liability of $360,000. During 2021, Halifax sold merchandise on account for $12,100,000. Halifax's merchandise costs is 70% of merchandise selling price. Also during the year, customers returned $594,000 in sales for credit, with $328,000 of those being returns of merchandise sold prior to 2021, and the rest being merchandise sold during 2021. Sales returns, estimated to be 5% of sales, are recorded as an adjusting entry at the end of the year.

Required:

1. Prepare entries to (a) record actual returns in 2021 of merchandise that was sold prior to 2021; (b) record actual returns in 2021 of merchandise that was sold during 2021; and (c) adjust the refund liability to its appropriate balance at year end.
2. What is the amount of the year-end refund liability after the adjusting entry is recorded?

1	2021	Refund liabilityselected answer correct	328,000selected answer correct	not attempted
		Accounts receivableselected answer correct	not attempted	328,000selected answer correct
2	2021	Inventoryselected answer correct	229,600selected answer correct	not attempted
		Inventory—estimated returnsselected answer correct	not attempted	229,600selected answer correct
3	2021	Sales returnsselected answer correct	266,000selected answer correct	not attempted
		Accounts receivableselected answer correct	not attempted	266,000selected answer correct
4	2021	Inventoryselected answer correct	186,200selected answer correct	not attempted
		Cost of goods soldselected answer correct	not attempted	186,200selected answer correct
5	2021	Sales returnsselected answer correct	339,000 selected answer incorrect	not attempted
		Refund liabilityselected answer correct	not attempted	339,000 incorrect

Answer 1

Solution

Halifax Manufacturing

1. Entry to record actual returns in 2021 of merchandise that was sold prior to 2021:

Transaction	Account Titles and Explanation	Ref. No.	Debit	Credit
a	Allowance for Refund Liability		$328,000
	Accounts Receivable			$328,000
	(to record actual return of goods sold prior to 2021)

2. Entry to record actual returns in 2021 of merchandise that was sold during 2021:

Transaction	Account Titles and Explanation	Ref. No.	Debit	Credit
b	Inventory		$229,600
	Estimated Returns			$229,600
	(to record cost of inventory returned; 328,000 x 70% = 229,600)

3. Entry to adjust the refund liability to its appropriate balance at year end:

Transaction	Account Titles and Explanation	Ref. No.	Debit	Credit
b	Sales Returns		$266,000
	Accounts Receivable			$266,000
	(to record current year sales return; 594,000 – 328,000 = 266,000)

4. Entry to record the cost of returns:

Transaction	Account Titles and Explanation	Ref. No.	Debit	Credit
b	Inventory		$266,000
	Cost of Goods Sold			$266,000
	(to record cost of inventory returned; 266,000 x 70% = 186,200)

Transaction	Account Titles and Explanation	Ref. No.	Debit	Credit
b	Sales Returns		$307,000
	Refund Liability			$307,000
	(to record cost of refund liability)

Computations:

Estimated sales returns = 5% x sales

= 5% x 12,100,000 = 605,000

Less: liability balance of previous year (360,000 – 328,000) = 32,000

Adjusted refund liability = 573,000

Less: current year sales returns = $266,000

refund liability = $307,000

Cost of refund liability = 307,000 x 70% = 214,900