Question

CORRECT ANSWER NEEDED ASAP

The Ciccollini Corporation sells a product for a stand-alone price of $2,000. The company also sells a three year extended warranty for a stand-alone price of $800. The extended warranty starts at the end of the regular warranty (included in the price) and ends at the end of the fourth year after the product was purchased. Customers have until the end of the first year to purchase the extended warranty. If a customer purchases the extended warranty at the same time as they purchase the product, they can purchase both for $2,600. Ciccollini estimates that the expenses incurred on servicing the extended warranty will be incurred evenly over the extended warranty period. Assume a customer purchases a unit of product with the extended warranty on January 2, 20x6. Write the journal entries related to this purchase for the period January 2, 20x6 to December 31, 20x8.

4

Answer 1

In order to qualify an asset as a Property, plant and equipment (PPE)- tangible asset, the asset must be:

1. held for use in production/supply of goods or services or for rental/administrative purpose, and

2. expected to be used for more than one period.

If both above conditions are met, then an asset is called tangible asset.

In our question, it is being assumed that the asset purchased (product) will be used in production and since there is an option for extended warranty available that means it is expected to be used for more than 1 period. Hence it is a tangible asset.

As per IAS 16 Property, Plant and equipment, those expenses will be capitalized which increases the performance/output/productivity of the asset.

Extended warranty option doesn't increase either performance or output or productivity. Hence, it will be treated as a revenue expenditure.

Please find attached Screenshot of Journals

Date Particulars Debit Credit January 2, 20x6 PPE Dr. Prepaid expenses To Cash 2,000 600 2,600 Dec 31, 20x6 500 Depreciation Dr. TO PPE 500 Dec 31, 20x7 500 Depreciation Dr. To PPE 500 Dec 31, 20x7 200 Warranty expense Dr. To Prepaid expenses 200 Dec 31, 20x8 500 Depreciation Dr. To PPE 500 Dec 31, 20x8 200 Warranty expense Dr. To Prepaid expenses 200 Assuming the life of PPE is 4 years and depreciation is based on Straight line method Extended warranty payment shall be regarded as prepaid expense at the time of purchase, and when the regular warranty expires (i.e. after 1 year of sale), the extended warranty will come into picture and be recognized as even expense when it is accrued.