The auditor for Universal Tools,Inc.discovered in 2017 that the warranty liability account showed a $25,000 debit balance.She investigated and discovered that the 2% estimate for warranty expense was recorded and understated,and it was more likely 3.5%.Sales for 2017 were $5,500,000.She should make which one of the following entries?
A) Warranty Expense 25,000
B) Warranty Liability 82,500
C) Warranty Expense 82,500
D) Warranty Liability 192,500

Question

The auditor for Universal Tools,Inc.discovered in 2017 that the warranty liability account showed a $25,000 debit balance.She investigated and discovered that the 2% estimate for warranty expense was recorded and understated,and it was more likely 3.5%.Sales for 2017 were $5,500,000.She should make which one of the following entries?
A) Warranty Expense 25,000 
B) Warranty Liability 82,500 
C) Warranty Expense 82,500 
D) Warranty Liability 192,500

Quizplus · Accepted Answer

To adjust the understated warranty expense account, an entry needs to be made to increase the amount based on the more accurate estimated percentage of 3.5%. This means that the amount needs to increase by 1.5% of sales, which is $82,500 ($5,500,000 x 0.015). The entry to increase warranty expense is:
Warranty Expense (increase)     82,500
Warranty Liability (adjustment) 82,500
Option A is incorrect because it only records the current balance of the warranty expense account, but does not adjust it. Option B is incorrect because it only adjusts the account to the correct amount, but does not record the increase to the warranty expense account. Option D is incorrect because it adjusts the warranty liability account to an incorrect amount that is higher than the total sales revenue.

The Auditor for Universal Tools,Inc