Managing Warranty Costs in Company Sales
How does a company account for warranty costs in its sales?
The account that should be debited for the $4,000 in labor is the Warranty Expense account. The estimated warranty expense for June is $31,500. If the Estimated Warranty Liability account had a $10,000 credit balance on May 31, the account balance on June 30 Balance Sheet would be $29,500 credit.
Understanding Warranty Costs in Company Sales
Warranty costs are an important aspect of a company's financial management, especially for products that come with a warranty. Companies need to account for these costs accurately to ensure proper financial reporting and planning.When a company sells a product with a warranty, it incurs costs related to parts and labor for repairs covered under the warranty. In the given scenario, the company estimates that warranty costs amount to 3.5% of sales for parts and 2.5% of sales for labor.
During the month of June, the company performed warranty work and incurred $8,000 in parts costs and $4,000 in labor costs. To account for these expenses, the company debited the Warranty Expense account for the $4,000 in labor. The journal entry for this transaction would be: Debit Warranty Expense $4,000, Credit Cash $4,000.
Additionally, the company needs to calculate the estimated warranty expense for June. This can be done by multiplying the total sales for June by the sum of the estimated warranty cost percentages for parts and labor. In this case, the estimated warranty expense for June would be $450,000 × (3.5% + 2.5%) = $31,500.
To accrue the warranty expense for June, the company must recognize this amount as a liability on the balance sheet. The journal entry for this transaction would be: Debit Warranty Expense $31,500, Credit Estimated Warranty Liability $31,500.
If the Estimated Warranty Liability account had a $10,000 credit balance on May 31, the account balance on the June 30 Balance Sheet would be calculated as follows: $10,000 + $31,500 - ($8,000 + $4,000) = $29,500 credit.
It is crucial for companies to accurately track and manage their warranty costs to ensure financial stability and transparency in their operations.