D104 OA 1 LQT UPDATED ACTUAL QUESTIONS AND
CORRECT ANSWERS
Question:
1. Watauga Company had the following events: Purchase of equipment on July 1, 2017 for $70,000 Sales
tax on the purchase was $700 Other costs of freight charges of $800 Insurance during shipping of $150
Repairs of $1,300 for damage during installation Installation costs of $1,050
What is the cost of the equipment?
Answer:
The cost of a piece of equipment includes all expenditures incurred in acquiring the equipment and
preparing it for use.
Therefore the cost includes the cost of $70,000, sales tax of $700, freight charges of $800, insurance of $
150, and installation costs of $1,050. The repair costs of $1,300 are expensed and not included in the
capitalized cost of the equipment.
The reasons the the repairs of damage during installation are not included in the capitalized costs include
such repairs should either be warrantied by the company performing the installation and therefore would
be reimbursable from that company or those repairs could be reimbursable by the company's or the
suppliers insurance policy.
Cost of equipment: $72,700
Question:
2. Cotton Hotel Corporation recently purchased Emporia Hotel and the land on which it is located with the
plan to tear down the Emporia Hotel and build a new luxury hotel on the site.
How should the cost of the Emporia Hotel be treated?
Answer:
If a company purchases land with an old building on it, then the cost of demolition less its salvage value is
a cost of getting the land ready for its intended use and relates to the land rather than to the new building.
Therefore, the cost of the Emporia hotel is capitalized as part of the cost of the land.
Question:
3. How are fences and parking lots reported on the balance sheet?
Answer:
Improvements with limited lives, such as driveways, walks, fences, and parking lots are classified on the
balance sheet as Land Improvements and depreciated over their estimated lives. Reported on the balance
sheet as "Land Improvements"
Question:
4. Land was purchased to be used as the site for the construction of a plant. A building on the property was
sold and removed by the buyer so that construction on the plant could begin.
'How should the proceeds from the sale of the building be treated?
Answer:
If a company purchases land with an old building on it, then the cost of demolition less its salvage value is
a cost of getting the land ready for its intended use and relates to the land rather than to the new building.
Therefore, the proceeds from the sale of the old building is deducted from the cost of the land.
So, the proceeds should be deducted from the cost of the land.
, Question:
5. Wilson Co. purchased land as a factory site for $1,350,000. Wilson paid $120,000 to tear down two
buildings on the land. Salvage was sold for $8,100. Legal fees of $5,220 were paid for title investigation
and making the purchase. Architect's fees were $46,800. Title insurance cost $3,600, and liability
insurance during construction cost $3,900. Excavation cost $15,660. The contractor was paid $4,200,000.
An assessment made by the city for pavement was $9,600. At what cost should Wilson Co record the land?
Answer:
Removal of old buildings—clearing, grading, and filling—is a land cost because this activity is necessary
to get the land in condition for its intended purpose. Architect Fees, liability insurance, and excavation are
included in the cost of the building.
Therefore, the cost of the land is calculated as: $1,350,000 + $120,000 - $8,100 + $5,220 + $3,600 +
$9,600 = $1,480,320.
The excavation cost of $15,660 is a cost related to the building, not to the acquisition of the land, as the
excavation cost is directly related to building the building on the land.
So, the Wilson Co should record the cost of land at $1,480,320
Question:
6. How does GAAP recommend accounting for interest costs incurred during construction?
Answer:
Using this approach ignores the implicit interest cost associated with the use of the cash.
GAAP requires only the actual interest costs incurred during construction be capitalized. This method
follows the historical cost principle.
So you should capitalize the actual interest cost for the period incurred during the period.
Question:
7. What assets qualify for interest cost capitalization?
Answer:
For the purposes of interest cost capitalization, qualifying assets must require a period of time to get the
asset ready for their intended purposes. Assets that do not qualify include assets that are currently in use,
assets that are ready for their intended use, or assets that are not in use due to excess capacity or
obsolescence.
So, assets that are under construction for a company's own use.
Question:
8. When computing the amount of interest cost to be capitalized, What does the concept of "avoidable
interest" refer to?
Answer:
Avoidable interest is the amount of interest cost during the period that a company could theoretically avoid
if it had not made the decision to purchase the asset in the first place.
So, avoidable interest refers to that portion of total interest cost which would not have been incurred if
expenditures for asset construction had not been made
Question:
9. What best describes the correct treatment of the interest costs capitalized during the period of
construction when a company purchases land as a site for a plant?
CORRECT ANSWERS
Question:
1. Watauga Company had the following events: Purchase of equipment on July 1, 2017 for $70,000 Sales
tax on the purchase was $700 Other costs of freight charges of $800 Insurance during shipping of $150
Repairs of $1,300 for damage during installation Installation costs of $1,050
What is the cost of the equipment?
Answer:
The cost of a piece of equipment includes all expenditures incurred in acquiring the equipment and
preparing it for use.
Therefore the cost includes the cost of $70,000, sales tax of $700, freight charges of $800, insurance of $
150, and installation costs of $1,050. The repair costs of $1,300 are expensed and not included in the
capitalized cost of the equipment.
The reasons the the repairs of damage during installation are not included in the capitalized costs include
such repairs should either be warrantied by the company performing the installation and therefore would
be reimbursable from that company or those repairs could be reimbursable by the company's or the
suppliers insurance policy.
Cost of equipment: $72,700
Question:
2. Cotton Hotel Corporation recently purchased Emporia Hotel and the land on which it is located with the
plan to tear down the Emporia Hotel and build a new luxury hotel on the site.
How should the cost of the Emporia Hotel be treated?
Answer:
If a company purchases land with an old building on it, then the cost of demolition less its salvage value is
a cost of getting the land ready for its intended use and relates to the land rather than to the new building.
Therefore, the cost of the Emporia hotel is capitalized as part of the cost of the land.
Question:
3. How are fences and parking lots reported on the balance sheet?
Answer:
Improvements with limited lives, such as driveways, walks, fences, and parking lots are classified on the
balance sheet as Land Improvements and depreciated over their estimated lives. Reported on the balance
sheet as "Land Improvements"
Question:
4. Land was purchased to be used as the site for the construction of a plant. A building on the property was
sold and removed by the buyer so that construction on the plant could begin.
'How should the proceeds from the sale of the building be treated?
Answer:
If a company purchases land with an old building on it, then the cost of demolition less its salvage value is
a cost of getting the land ready for its intended use and relates to the land rather than to the new building.
Therefore, the proceeds from the sale of the old building is deducted from the cost of the land.
So, the proceeds should be deducted from the cost of the land.
, Question:
5. Wilson Co. purchased land as a factory site for $1,350,000. Wilson paid $120,000 to tear down two
buildings on the land. Salvage was sold for $8,100. Legal fees of $5,220 were paid for title investigation
and making the purchase. Architect's fees were $46,800. Title insurance cost $3,600, and liability
insurance during construction cost $3,900. Excavation cost $15,660. The contractor was paid $4,200,000.
An assessment made by the city for pavement was $9,600. At what cost should Wilson Co record the land?
Answer:
Removal of old buildings—clearing, grading, and filling—is a land cost because this activity is necessary
to get the land in condition for its intended purpose. Architect Fees, liability insurance, and excavation are
included in the cost of the building.
Therefore, the cost of the land is calculated as: $1,350,000 + $120,000 - $8,100 + $5,220 + $3,600 +
$9,600 = $1,480,320.
The excavation cost of $15,660 is a cost related to the building, not to the acquisition of the land, as the
excavation cost is directly related to building the building on the land.
So, the Wilson Co should record the cost of land at $1,480,320
Question:
6. How does GAAP recommend accounting for interest costs incurred during construction?
Answer:
Using this approach ignores the implicit interest cost associated with the use of the cash.
GAAP requires only the actual interest costs incurred during construction be capitalized. This method
follows the historical cost principle.
So you should capitalize the actual interest cost for the period incurred during the period.
Question:
7. What assets qualify for interest cost capitalization?
Answer:
For the purposes of interest cost capitalization, qualifying assets must require a period of time to get the
asset ready for their intended purposes. Assets that do not qualify include assets that are currently in use,
assets that are ready for their intended use, or assets that are not in use due to excess capacity or
obsolescence.
So, assets that are under construction for a company's own use.
Question:
8. When computing the amount of interest cost to be capitalized, What does the concept of "avoidable
interest" refer to?
Answer:
Avoidable interest is the amount of interest cost during the period that a company could theoretically avoid
if it had not made the decision to purchase the asset in the first place.
So, avoidable interest refers to that portion of total interest cost which would not have been incurred if
expenditures for asset construction had not been made
Question:
9. What best describes the correct treatment of the interest costs capitalized during the period of
construction when a company purchases land as a site for a plant?
