An oil refiner books a $5 million asset retirement obligation at undiscounted cost, expenses the next year's accretion as interest, and reverses a severance accrual when one employee accepts a counteroffer. Three accruals, three different rules.
AP represents obligations for goods and services received but not yet paid. The exam issue is cutoff: a payable belongs on the balance sheet when title or control transfers, not when the invoice arrives.
KEY: FOB shipping point = buyer records payable at shipment. FOB destination = buyer records at delivery.
A December 30 shipment FOB shipping point with goods in transit on December 31 is the buyer's payable, even though the goods sit on a truck. The reverse FOB term keeps it on the seller's books.
TRAP: A January 5 invoice for December services is a December payable. The service date drives recognition, not the invoice date.
Wages earned but unpaid at period end accrue straight-line by days elapsed since the last payroll.
Common mistakes
- Recording ARO at undiscounted future cost. A $4,000,000 future settlement at 6% / 10 years = $2,233,600 PV. Crediting ARO Liability for $4,000,000 inflates the asset. Trap: the full $4 million on the balance sheet at Year 1.
- Classifying accretion as interest expense. ASC 410-20 classifies accretion as operating expense. Slotting $134,016 of accretion into interest expense distorts EBIT and times-interest-earned.
- Recognizing all severance on the communication date when service is required. If 60 employees must work through March 31 to receive severance, accrual is ratable. Booking the full $3,000,000 on October 1 overstates Q4 expense by $1,500,000. The trap treats "communication" and "service required" as the same trigger.
Bottom line
- AP and routine accruals (wages, vacation, bonuses, self-insurance) are recorded at the amount expected to be paid, with no discounting.
- AP cutoff follows transfer of control: FOB shipping point at shipment, FOB destination at delivery. Invoice date never controls.
- Compensated absences are accrued when rights vest or accumulate and payment is probable. Non-accumulating use-it-or-lose-it sick days are expensed when used.
- Self-insurance liabilities (workers' comp, IBNR) are accrued from actuarial estimates even when no specific claims have been filed.
Exam shortcut
When a problem cites both an undiscounted future ARO and a discount rate, the journal entry credit is always the present value, not the future amount. Trap answers use the undiscounted figure. For exit/disposal questions, the keyword that splits the answer is service requirement: if employees must stay to be paid, ratable accrual; if not, recognize on communication. Dividends: Declaration = Liability. Payment = Cash.
The full lesson (about 2,579 words, 17 min read) adds 2 worked examples, all 6 common mistakes, a self-check, free in the app.
Learning objectives
- II.G1
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