[runhomejack]

I just ran into this problem and I disagree with the answer. Can someone explain to me?

Firstly, Phil Yaeger was explaining the problem and said that the only way that you record the gift card sales as earned revenue is when they are redeemed or when they expire. So here is the problem:

Regal Department store sells gift certificates, redeemable for store merchandise, that expire one year after their issuance. Regal has the following information pertaining to its gift certificates sales and redemptions:

Unredeemed at 12/31/09 – $75,000

2010 Sales – $250,000

2010 Redemptions for Prior Year Sales – $25,000

2010 Redemptions of Current Year Sales – $175,000

Regal’s experience indicates that 10% of gift certificates sold will not be redeemed. In its December 31, 2010 Balance sheet, what amount should Regal report as unearned revenue?

The solution says the answer is $50,000. The explanation is that all of the 2009 unearned revenue is redeemed or expired. Then you have the ($250,000 2010 sales) minus ($175,000 2010 redemptions) minus (10% * $250,000) = $50,000

I think the answer should be $75,000 in unearned revenue. The store estimates that 10% will not be redeemed and the book takes it away from unearned revenue. That amount at the end of 2010 is still neither redeemed nor expired so it should STILL be unearned revenue. As Phil Yaeger said before, the unearned revenue is not earned until it expires or the customer redeems it. So by that logic, that amount should still be unearned revenue. Look at the 2009 sales where $25,000 is redeemed in 2010 and $50,000 expires. That $50,000 was never taken to earned income at the end of 2009 so why is it happening in 2010? That amount is still unearned revenue at the end of 2009. Where is the consistency?

BEC - Pass
FAR - Pass
REG - Pass
AUD - Pass

[Anonymous]

My understanding is this:

12/31/09 Balance – 75K is for sales made in X9 and only 25K was redeemed. As you stated, the gift cards expire after 1 year, if bought in 09 and not redeemed in 10 it has to be a least a year of issuance, so that 50K gets recognized as revenue.

As for the accrual, that could be an industry thing, much like Warranties, A/R-Credit Sales, and things like that. So it pulls a small amount of the gift card sales into current year earnings. 10% of current year sales 250K * 10% = 25K is taken out of Unearned Revenue.

Summary:

'09 Balance – 75K Outstanding – 25K Redeemed = 50K – 50K (All has to get recognized being older than 1 year) = 0 in Unearned Revenue

'10 Sales – 250K Outstanding – 175K Redeemed = 75K left – 25K (10% accrual of '10 Sales) = 50k left.

Sound good?

[Anonymous]

@Aserby87…I think you got the right explaination. I have questions to ask regarding the same question:

First, How to record this J/E for initial receive of money from selling the gift cards?

Dr: Cash $250,000

Cr: Unearned Revenue: $225,000

Cr: earned Income due to estimate(?): $25,000

Second, for year 2009, begining Unearned Revenue was $75,000?, after redeemed $25,000, $50,000 was recognized due to the 1-yr expiration date, so this $50,000 was an extra in addition to the original 10% estimate of the sale of 2009?…the question said “unredeemed”, not “unearned revenue”…guess it doesn't matter since it expires in a yr?

[Anonymous]

@CPA-Convertible – I believe the question called for, what should the company report as Unearned Revenue? But anyways to answer your question, I would do two separate entries makes a better audit trail (makes management and auditors happy) one for the recording of current sales and a second for the accrual for anticipated non-redemption.

(DR)Cash – 250K

(CR)Unearned Revenue – 250K

To record the current years sales

(DR)Unearned Revenue – 25K

(CR)Gift Card Rev/Misc. Income – 25K

Accrue anticipated non-redemption

To answer your second question, yes this is in addition to the 50K that was left unredeemed in '09.

Think of it as two separate events happening, the gift cards from 09 went bad/good (depending on perspective) and recognize. And as a company policy we anticipate that 10% of current gift cards will go unredeemed and recognize.

[Anonymous]

@Aserby87…that is it! Misc Income…I just couldn't come up with term for $25,000. Thanks. :-).

[Anonymous]

No problem.

[Nahdi]

I got stuck in this question for two hours. I couldnt agree with the answer and I still dont. Initially I had the same response as you that $75,000 should be unearned revenue for the same reason you explained. Here is what I came up with:

First: I cannot accrue income for breakerage income until I know for a fact this gift certificate has expired. Why? Because one of the 5 ingredients of identifying contract (step 1) in recognizing revenue is : collectibility being probable unless one of the two below is true:

– Entity has no remaining obligations to transfer goods/services AND all (or substantially all) of the consideration is received and is non-refundable

OR

Contract has been terminated AND consideration received is non-refundable.

Since none of these happened, there is no way I am going to accrue this as “misc income” “gift card” or whatever title one can come up with.

I would have

DR: cash 250,000
CR: Contract liability for Gift card and Breakage 250,000

As it is estimated that the customer would not redeem 10% of the gift card, it is expected that the total amount the customer would actually redeem is only $225,000 (i.e. $250,000 – 10%). When the customer redeems $175,000 of the gift card, they are redeeming 70% (i.e. $175 / $250) of the total that the customer can possibly redeem, so they will recognize that percentage of both the revenue attributed to the gift card (i.e. 70% x $225,000 = $157,500) and the revenue attributed to breakage amounts (i.e. 70% x $25,000 = $17,500). The following journal entries would be made, when the customer redeemed $175,000 of the gift card.

DR: Contract liability for Gift card and Breakerage $175,000
CR: Revenue-Gift card $ 157,500
CR Revenue- Breakage $ 17,500
(Now I can recognize Breakage as income because the collectibility of it is probable)

Thus, the unearned revenue as of Dec 31st 2010 is $75,000 ( $250,000-$175,000)

Unless, the examiner wanted to separate between unearned revenue and unearned breakage then the answer for $50,000 can be right in this scenario:

first:

DR: cash 225,000
CR: Contract liability for Gift card (unearned revenue) 225,000

DR: cash 25,000
CR: Contract liability for Breakage (liability) 25,000

then,

DR:Contract liability for Gift card (unearned revenue) 175,000
CR: Revenue-gift card 175,000

Assuming year 2011, only 20 % redemption then:

DR:Contract liability for Gift card (unearned revenue) 50,000
CR: Revenue-gift card 50,000

DR:Contract liability for Gift card (unearned revenue) 25,000
CR: Revenue- Breakage Income 25,000

If that is the case, then whoever wrote this question was definitely high that day because when you try to use this concept as your basis for other redemption questions- it will confuse you. Most questions would ask about allocating the transaction price between product A and a gift card. After allocation, then comes actual amount redemption – where you will need to further allocate the amount redeemed into the ratio to find gift card income and breakage income… Sounds confusing right? Exactly.

I have just started to read FAR.
FAR- not yet
AUD- not yet
BEC-not yet
REG-not yet

[Author]

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