Question

You must label each answer with the number of question. Each question must have at least three sentence answers. There is no maximum sentence, use as many as you wish to thoroughly answer the question. All answers must be complete sentences using proper grammar and spelling

Josh, the manager of Boo, Inc bought 50 trucks for the business use.

In Year 2 , he doubled the estimated life of the trucks.

In Year 3, he increased the residual value.

Requirements

Explain an ethical reason why he doubled the estimated life .

Explain and unethical reason why he doubled the estimated life.

Explain an ethical reasons why he increased the residual value.

Explain an unethical reasons why he increased the residual value.

Discuss the GAAP issues of each of the above.

Answer 1

1) The assets may have been valued by an independent valuer as a part of annual audit procedures wherein the company was suggested to increase the useful life of the assets.

It is also possible the company determines that, due to advances in machine maintenance, the trucks will now last for a greater period of time.

The depreciated value of trucks can also be determined by the number of miles a truck travelled.It can be possible that the company did not use the trucks much in the first 2 years and hence decided to increase the useful life.

2) An increase in useful life may be done unethically inorder to decrease the depreciation per annum and thus result in greater profits of the companies. Since depcreciation via straight line method is the cost of asset divided by the useful life, this increase in life will decrease the per annum depreciation and hence yield greater profits for the company. This "window dressing" can also be justified as the company will record assets on the balance sheet that dont' really exist making the company seem like an attractive investment.

3) The residual value of an asset is determined by considering the estimated amount that an asset's owner would earn by disposing of the asset, less any disposal cost. The company may have increased it's residual value because it genuinely has found a scrap buyer that is ready to pay more than the depreciated value of the trucks inorder to purchase them. This may be the case because the buyer feels he can sell off individual parts of the truck for a greater price than what he has purchased it for from Boo Inc.

4) If a company increases the salvage value of an asset, and it exceeds the written down value no depreciation has to be charged.

For eg. A written down value of 100,000 and the salvage value is increased to 120,000 then in that case , the company need not charge any depreciation till the salvage value drops to an amount that is lesser than the written down value. So only when the asset will be revalued to something lesser than 100,000 then depreciation can be chareged.

Thus,An unethical reason for the company to increase the residual value may be that it does not want to charge depreciation for the current year because maybe it was not a good year financially and it wants to show good profitability in its books.

5)Under GAAP, a change in estimated life will be reflected in the depreciation. Thus if it leads to impairment gains or losses, it will be reflected in current years journal entries as depreciation adjustments.

With the GAAP revaluation model, a fixed asset is originally recorded at cost, but the carrying value of the fixed asset can then be increased or decreased

depending on the fair market value of the fixed asset, normally once a year.

If an asset reduces in value, it is said to be written down.

And the assets that are written down remain impaired and cannot be reversed.