Expense Warranty Approach

Expense Warranty Approach

According to matching principle, it is being provided that, all the expenses, related to sales are to be recorded in the same year in which the revenue is being recorded. Therefore, it is going to be essential to record the warranty expense also in the same period as the sale of the products. The organization would be in the position to make an estimation of the current level of estimation with the help of warranty expense being taken into consideration by it at a particular point in time.

Warranties as Current Liabilities:

When the organization provides the warranty of a particular item, it is being provided that the organization would be in the position wherein, it makes the commitment towards replacement or repair of the item. The commitment is the obligation of the organization and it has to fulfill the same.  The organization has the obligation to ensure that, it makes the payment towards the same. 

Accounting for Warranty Expense

In case of cost and obligation regarding warranty expense, there are three things which are required to be taken into consideration. 

a.       No of units being sold and the time during which recording of units is to be made.

b.      Percentage of items sold which would require repair or substitution in the near future.

c.       The normal cost of repair or substation regarding warranty 

Steps for Calculation of Warranty Expense

·         Determine the historical percentage of warranty expense to sales for the same kinds of goods for which warranty expense is being incurred. 

·         Application of the percentage to sales for finding out the level of warranty expense which is likely to be incurred. 

·         Now it is essential to debit the warranty expense to warranty expense account and credited to the account of warranty liability 

·         When there is receipt of actual warranty claims warranty liability account is to be debited and inventory control account is to be credited This is to be done for the purpose of accounting towards the cost of replacement parts and the products being sent to the customers. 

The actual warranty claim should exactly match with historical warranty percentage though; it is not always the case. There is a requirement to have certain adjustments to be made in the warranty liability account for ensuring that, actual results are being justified from time to time. 

            The costs are not likely to be recognized till various months by the people being involved. This would be the case wherein, these expenses are not being recorded at a particular point in time. In the course of usage of this approach, it is going to be a scenario that, there would be initial huge profits and this would be followed up by the lower level of profits in the later stages. This would take place till the time, the warranty period continues to exist. 

Question: what is the effect of warranty expense on the income statement? 

Answer: The income statement is being affected by various things such as warranty cost, at the time when sales are being recorded among other things. This occurs irrespective of the fact that whether warranty expenses are being considered or not. The main effect of this particular thing is going to be on warranty risks and stock records other than the other things

What is Warranty Claim?

            The client is being involved in documenting a claim at the time when the client is demanding a repair or substitution under warranty. The organization should ensure that it is recording its claim. Once the organization satisfies a claim, part of warranty risk is being satisfied. Each time when the claim is being satisfied, the organization is going to reduce a part of the claim by way of satisfaction of the cost in the course of the claim being taken into consideration at a particular point of time. 

            There are various ways by which an organization can satisfy a claim. An item can be replaced from an item in the stock. The organization is also likely to have repair of an item for utilization of the same from stock. It is essential to ensure that, continuous maintenance of stock is being taken into consideration for doing the tasks. Retail estimation of item or parts is not going to make an influence on the organization. 

Provision Regarding Warranty Accounting Treatment

            In case of a particular guarantee, it is being provided that, guarantee can be given by a particular person wherein, he would say that the product being sold by the person is a particular product which is not going to have any defects and in case, there are defects then, changes would be made in the product. The guarantee could be given for ensuring that the product is being repaired within a period of 1 year. 

            The company will identify the historical rates for mobile phones and it will find out what is the cost is incurred in the course of ensuring repair of the mobile phones. Therefore, the company will work towards working up to warranty provision. In the case of warranty provision, profit and loss account will be debited and warranty provision account will be credited. The situation will be reviewed by the organization every year and the provisions will be increased or decreased accordingly. For increasing the provision, profit and loss account is debited and provision account is being credited. 

Question: How does ASPE record warranty provision? 

Answer: Warranty rights could be legal or constructive. It should be ensured that estimation of the amount is being carried out. The estimation of the amount should be made on the basis of expected value and recording of provision should be made for each of the reporting periods. The recognition of constructive liabilities is not made under ASPE and term in the name provision is not being used. ASPE refers to all these kinds of obligations as liabilities. 

Sales Warranty Approach

This is a particular technique which is being used for the representation of extended warranty being sold with an item which has producer guarantee. The dealer perceives the offer independently and not being linked up with the product being provided. Income is being conceded by on the sale of extended warranty and its recording is being made on straight line premises over the life of the agreement. 

Accounting for extended warranties has variation from the representation of standard guarantees being depicted earlier. At the time when the organization works towards extending the warranties, it is being required by businesses to have a measurement of deferred and recorded income. Here, the extended warranty makes a representation of deferred revenue. It is a liability just as the case of warranty reserves, but over the time, these extended warranties become effective and fully recognized as revenues at the time of expiry of the extended warranty is taken into account. 

            The costs being specified with the help of acquisition of agreement which is being taken into consideration for obtaining the agreement could be deferred and charged to cost in the extent of the income being taken into consideration. The costs which are being taken into account would include the costs such as expenses for administration, general and managerial costs, publicizing costs, and expenses which are being related to the arrangement which are not being consummated. These items are required to be charged to cost as being incurred.