Warranty expenses TEACHER: We're going to talk about warranty expense here. Safe Locks Security Door corporation introduced a new line of commercial security doors in 2011 that carry a four year warranty against manufacturer's defects. Based on their experience of previous product introductions, warranty costs are expected to approximate 4% of sales and, actually, warranty expenditures for the first year at selling the product for sales of $7,500,000 and actual warranty expenditures of $124,800. Does this situation represent loss contingency, and how should we be accounted for how? We want to prepare the journal entries that summarize sales and security doors, and in the aspects of the warranty that should be recorded. And then what amount should we report as a liability on December 31, 2011. So this is going to be a loss contingency. There may be a future sacrifice of economic benefits because of the costs of doing that warranty due to an existing circumstance, and that depends on an uncertain future events. The liability is probable because product warranties inevitably entail cost. So a reasonable accurate estimate of the total liability for a period as possible is based on prior experience. So again, it's not-- there's no industry standard or anything like that. It's based on prior experience. The contingent liability for the warranty is going to be accrued because we can estimate it and we can-- it's reasonably likely it happened. Estimated warranty liability is credited and warranty expense going to be debited which we're going to do here. So our entry for the sales are we're going to debit our accounts receivable for $7,500,000. And we are going to credit our sales for $7,500,000. Our liability expense for our warranty is going to be equal to our credit sale, so $7,500,000 times our 4% rate is going to give us our warranty expensive of $300,000. And then of course we're going to debit the warranty liability of $300,000. Now that's our estimate based on those sales. So we're trying to-- using the matching principle, we're trying to match our warranty expense with the sales that occurred, and that's what we did in the previous example. So we had that $7,500,000 worth of sales of which we expected 4% costs on warranty, which is our $300,000. Our actual amount that we spent was $124,800. OK, so we are going to debit our liability and credit our $124,800. Which is going to be for our supplies, and our wages payable, all those other different expenses because we've already taken care of that part. So that is our liability is going to be our $300,000 minus $124,800 gives us $175,200 balance in our warranty liability account.