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(1) Raw Materials Accounts Payable (2) Work in process Manufacturing overhead Raw materials (3) Work in process Manufacturing overhead Salaries and wages (4) Manufacturing overhead Accounts payable (5) Manufacturing overhead Property taxes payable Prepaid insurance (6) Work in process Manufacturing overhead (7) Work in process Manufacturing overhead (8) Salaries expenses Salaries and wages payable (9) Depreciation expense Accumulated depreciation (10) Advertising expense Other selling and administrative expense Accounts payable (11) Finished goods Work in process (12) Accounts receivable Sales (13) Cost of goods sold Finished goods 118,500 118,500 225,000 225,000 158,000 158,000 Dr. Cr. 42,000 8,000 50,000 Dr Dr. Cr. 7,000 7,000 30,000 30,000 Dr. Cr. Dr. Cr. 90,000 90,000 18,000 18,000 Dr. Cr. 20,000 13,000 7,000 Dr. Cr. Cr. 40,000 40,000 Dr. Cr. 60,000 15,000 75,000 Dr. Dr. Cr. 50,000 2,000 52,000 Dr. Dr. Cr. 60,000 60,000 Dr. Cr.
T Accounts:
Accounts Receivable xx (12) 225,000 Accounts Payable (1) (4) (10) xx 60,000 40,000 50,000 Capital Stock xx
Prepaid Insurance xx (5) Raw Materials Bal. (1) Bal. 7,000 60,000 15,000 (20) 52,000 7,000
Retained Earnings xx
Cost of Goods Sold Work in Process Bal. (2) (3) (7) Bal. 30,000 50,000 60,000 90,000 72,000 (11) 158,000 Salaries expenses (8) 30,000 Depreciation expenses (9) 7,000 (13) 118500
Bal. 49,000 Accumulated Depreciation xx (6) 18,000 (9) 7,000 Manufacturing Overhead (2) 2000 (7) 90,000 (3) 15,000 (4) 40,000 (5) 20,000 (6) 18,000 Bal. 5,000 Explanation of entries:
(1) Raw materials purchased. (2) Direct and indirect materials issued into production. (8) Administrative salaries expenses incurred. (3) Direct and indirect factory labor cost incurred. (9) Depreciation recorded on office equipment. (4) Utilities and other factory costs incurred. (10) Advertising and other expenses incurred (5) Property taxes and insurance incurred on the (11) COGM transferred into finished goods. factory. (6) Depreciation recorded on the factory assets. (12) sale of job 1 recorded. (7) Overhead cost applied to work in process. (13) Cost of goods sold recorded for job 1. XX = Normal balance in the account (for example accounts receivable normally carries a debit balance).
*Overhead applied = $90,000 (15,000 Direct labor hours $6.00 Predetermined overhead rate)
Actual overhead = $95,000 Under applied overhead = $95,000 (actual) - $90,000 (applied) = $5,000 Entry to close the $5,000 of under applied to cost of goods sold would be as follows: Cost of goods sold--------------------------------- 5,000 Dr Manufacturing overhead-------------------------------- 5,000 Cr Note that the under-applied overhead is added to cost of goods sold. If overhead were overapplied, it would be deducted from cost of goods sold.
Income Statement:
Sales Les cost of goods sold ($ 118,500 + $5,000) $225,000 123,500 ----------Gross margin Less selling and administrative expenses: Salaries Depreciation Advertising expenses Other expense $30,000 7,000 42,000 8,000 ---------Net operating income 87,000 ----------$14,500 101,500
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What disposition should be made of an underapplied overhead or overapplied overhead balance remaining in the manufacturing overhead account at the end of a period? Generally any balance in the account is treated in one of the two ways.
1. 2.
Closed out to cost of goods sold. Allocated between work in process (WIP), finished goods and cost of goods sold in proportion to the overhead applied during the current period in the ending balances of these account.
The second method, which allocates the under or overapplied overhead among ending inventories and cost of goods sold is equivalent to using an "actual" overhead rate and is for that reason considered by many to be more accurate than the first method. Consequently, if the amount of underapplied or overapplied overhead is material, many accountants would insist that the second method be used.
Where the overhead is overapplied the following journal entry is made: Manufacturing overhead Cost of goods sold Dr Cr
After passing one of these journal entries, cost of goods sold is adjusted. Consequently cost of goods sold is increased by the amount of underapplied and decreased by the amount of overapplied overhead.
Example:
Cost of Goods Manufactured: Direct materials Direct labor $50,000 $60,000
$90,000* ---------
$72,000 ----------
$158,000 ========
Cost of Goods Sold: Finished goods inventory beginning $10,000 $158,000 ----------Goods available for sale Deduct: Finished goods inventory ending $168,000 $49,500 ---------Unadjusted cost of goods sold Add: Under applied overhead $118,500 $5,000* ---------Adjusted cost of goods sold $123,500 ========
*Overhead applied = $90,000 (15,000 Direct labor hours $6.00 Predetermined overhead rate)
Actual overhead = $95,000 Under applied overhead = $95,000 - $90,000 = $5,000 Entry to close the $5,000 of under applied to cost of goods sold would be as follows: Cost of goods sold-------------------------- 5,000 Dr Manufacturing overhead------------------------- 5,000 Cr
Example:
If the amount of under-applied or over-applied overhead is significant, it should be allocated among the accounts containing applied overhead: Work in Process Inventory, Finished Goods Inventory, and Cost of Goods Sold. A significant amount of under-applied or over-applied overhead means that the balances in these accounts are quite different from what they would have been if actual overhead costs had been assigned to production. Allocation restates the account balances to conform more closely to actual historical cost as required for external reporting by generally accepted accounting principles. The above figure uses assumed data for the Cutting and Mounting Department to illustrate the proration of over-applied overhead among the necessary accounts; had the amount been under-applied, the accounts debited and credited in the journal entry would be the reverse of that presented for over-applied overhead. A single overhead account is used in this illustration. Theoretically, under-applied or over-applied overhead should be allocated based on the amounts of applied overhead contained in each account rather than on
total account balances. Use of total account balances could cause distortion because they contain direct material and direct labor costs that are not related to actual or applied overhead. In spite of this potential distortion, use of total balances is more common in practice for two reasons:First, the theoretical method is complex and requires detailed account analysis. Second, overhead tends to lose its identity after leaving Work in Process Inventory, thus making more difficult the determination of the amount of overhead in Finished Goods Inventory and Cost of Goods Sold account balances