22 Inventory & Depreciation Practice Questions & Answers

1. 1. Redland Manufacturing bought a machine with an invoice price of $80,000 and also paid $1,800 freight-in, $6,400 sales tax, $2,700 for installation and testing, and $1,200 for the first year's insurance on the machine while it is in operation. What amount should be capitalized as the cost of the machine?

   • A.$92,100
   • B.$80,000
   • C.$88,200
   • D.$90,900✓ Answer

   The cost of a fixed asset includes every expenditure necessary to acquire it and get it ready for its intended use: invoice price plus freight-in, sales tax, and installation and testing, or $80,000 + $1,800 + $6,400 + $2,700 = $90,900. The insurance premium covers a period after the machine is already in service, so it benefits operations rather than acquisition and is expensed.

   Source: US GAAP historical cost principle for plant assets (FASB ASC 360, initial measurement of property, plant and equipment)Report a problem with this question

2. 2. Corbin Co. paid $540,000 in a single lump sum for a parcel of land and the building on it. An independent appraisal valued the land at $180,000 and the building at $420,000. What amount should Corbin record as the cost of the land?

   • A.$378,000
   • B.$180,000
   • C.$162,000✓ Answer
   • D.$270,000

   A lump-sum or basket purchase is allocated to the individual assets in proportion to their relative fair market values, not by the appraised amounts themselves: total appraised value is $600,000, the land is 180,000/600,000 or 30% of it, and 30% of the $540,000 paid is $162,000. The total appraised value deliberately differs from the price paid, and the land portion is never depreciated.

   Source: US GAAP allocation of a lump-sum (basket) purchase by relative fair value; land is a non-depreciable assetReport a problem with this question

3. 3. Alder Corp., a calendar-year company, bought equipment on April 1, 20X1 for $92,000. The equipment has an estimated useful life of 5 years and an estimated residual value of $8,000, and Alder uses the straight-line method. How much depreciation expense should Alder record in 20X6?

   • A.$4,200✓ Answer
   • B.$12,600
   • C.$16,800
   • D.$0

   Annual straight-line depreciation is (cost minus residual) divided by life, or ($92,000 - $8,000) / 5 = $16,800. Because the asset was acquired on April 1, only 9 months fall in 20X1 ($12,600), full years run through 20X5, and the three months never taken in the first year are picked up in a sixth calendar year: $16,800 x 3/12 = $4,200. A mid-year purchase always makes a 5-year asset appear on a six-year schedule.

   Source: FASB ASC 360, straight-line depreciation with partial-year prorationReport a problem with this question

4. 4. Vance Co. bought a machine on January 1, 20X1 for $30,000. It has a 3-year useful life and a $4,000 residual value, and Vance depreciates it by the double-declining-balance method. What is depreciation expense for 20X2?

   • A.$3,333
   • B.$6,000✓ Answer
   • C.$6,667
   • D.$4,444

   The rate is twice the straight-line rate, 2 x (1/3) = 66.67%, applied to beginning book value with residual value ignored in the computation, so 20X1 depreciation is $20,000 and book value falls to $10,000. The formula amount for 20X2, $6,667, would drive book value to $3,333, below the $4,000 residual, so the year's depreciation is a plug of $10,000 - $4,000 = $6,000 and no depreciation is taken in 20X3. Declining balance ignores residual in the rate but is still floored at residual.

   Source: FASB ASC 360, declining-balance depreciation limited by residual valueReport a problem with this question

5. 5. Kessler Inc. bought equipment on January 1, 20X1 for $100,000 with a 5-year useful life and a $12,000 residual value, using the 150%-declining-balance method. Depreciation was $30,000 in 20X1, $21,000 in 20X2, $14,700 in 20X3 and $10,290 in 20X4. What is depreciation expense for 20X5, the final year?

   • A.$10,290
   • B.$12,000
   • C.$12,010✓ Answer
   • D.$7,203

   The rate is 1.5 x (1/5) = 30% of beginning book value, which leaves book value of $24,010 entering 20X5. The formula amount, 30% x $24,010 = $7,203, would stop depreciation with book value at $16,807, still above the $12,000 residual, so the last year is a plug of $24,010 - $12,000 = $12,010. Total lifetime depreciation must equal cost minus residual, $88,000, and the final-year plug can be larger or smaller than the formula amount.

   Source: FASB ASC 360, 150% declining-balance depreciation; total depreciation limited to cost less residual valueReport a problem with this question

6. 6. Norwood Co. bought a machine on October 1, 20X1 for $78,000. It has a 3-year useful life and a $6,000 residual value, and Norwood, a calendar-year company, uses the sum-of-the-years'-digits method. How much depreciation expense should Norwood record for calendar year 20X2?

   • A.$24,000
   • B.$36,000
   • C.$33,000✓ Answer
   • D.$27,000

   The depreciable base is $78,000 - $6,000 = $72,000 and the denominator is 3 + 2 + 1 = 6, so the three successive 12-month amounts are $36,000, $24,000 and $12,000. Those 12-month periods must be layered across calendar years rather than simply prorating the first year: 20X2 takes the last 9 months of the first amount ($36,000 x 9/12 = $27,000) plus the first 3 months of the second ($24,000 x 3/12 = $6,000), a total of $33,000 — more than the $9,000 recorded in 20X1.

   Source: FASB ASC 360, sum-of-the-years'-digits depreciation applied to a mid-year acquisitionReport a problem with this question

7. 7. Fenmore Co. bought a machine for $95,000 with a $5,000 residual value and an estimated total of 30,000 machine hours of use, and depreciates it by the units-of-production method. The machine ran 11,000 hours in 20X1, 12,500 hours in 20X2 and 8,200 hours in 20X3. What is depreciation expense for 20X3?

   • A.$24,600
   • B.$19,500✓ Answer
   • C.$25,967
   • D.$20,583

   The rate per hour is (cost minus residual) divided by estimated hours, ($95,000 - $5,000) / 30,000 = $3.00. After 11,000 + 12,500 = 23,500 hours, only 6,500 estimated hours remain, so usage in the final year is capped at the remaining estimate: 6,500 x $3.00 = $19,500. Depreciation may never carry book value below residual value, so the hours actually run beyond the estimate are ignored.

   Source: FASB ASC 360, units-of-production depreciation limited to total estimated unitsReport a problem with this question

8. 8. Which of the following expenditures on a delivery truck that is already in service should be capitalized rather than charged to expense in the period incurred?

   • A.Replacing worn brake pads and changing the oil at the scheduled service interval
   • B.Installing a new engine that extends the truck's estimated useful life by three years✓ Answer
   • C.Repainting the truck in its original color to keep it looking presentable
   • D.Paying the annual premium on the truck's liability insurance

   A capital expenditure benefits future periods by extending the asset's useful life, increasing its capacity, or improving its efficiency, so it is added to the asset's carrying amount and depreciated over the remaining life. Routine maintenance, repainting to the original condition, and insurance premiums merely maintain the asset's existing level of service in the current period and are revenue expenditures charged to expense.

   Source: US GAAP distinction between capital expenditures and revenue expenditures (FASB ASC 360)Report a problem with this question

9. 9. Delmar Co. bought a machine for $54,000 with an 8-year useful life and a $6,000 residual value, and depreciates it straight-line. Accumulated depreciation was $24,000 at December 31, 20X4, and Delmar sold the machine for $27,500 cash on June 30, 20X5. What gain or loss should Delmar record on the sale?

   • A.A gain of $500✓ Answer
   • B.A loss of $2,500
   • C.A gain of $3,500
   • D.A gain of $27,500

   Depreciation must first be brought up to the date of disposal: annual depreciation is ($54,000 - $6,000) / 8 = $6,000, so six months adds $3,000, raising accumulated depreciation to $27,000 and lowering book value to $27,000. Proceeds of $27,500 exceed book value by $500, a gain. The entry debits Cash $27,500 and Accumulated Depreciation $27,000, credits the machine account $54,000, and credits Gain on Sale of Machine $500.

   Source: FASB ASC 360, derecognition of property, plant and equipment; gain or loss on disposalReport a problem with this question

10. 10. A small company records depreciation on its books using the same amounts it computes for its federal income tax return. Under GAAP, when must it recompute depreciation using a GAAP method for its financial statements?

    • A.When the difference between the tax amounts and the GAAP amounts is material to the financial statements✓ Answer
    • B.Only when an outside CPA has been engaged to perform an audit rather than a compilation
    • C.Whenever it owns any asset with a useful life longer than five years
    • D.Whenever it uses an accelerated method on the tax return

    Book depreciation exists to match a fixed asset's cost against the revenue it produces over its useful life, while tax depreciation follows rules written for revenue-raising purposes, so the two systems routinely differ and a company keeps both. Materiality is the trigger: only when using the tax figures would materially distort the statements must the company recompute under a GAAP method such as straight-line, declining balance, sum-of-the-years'-digits, or units of production.

    Source: US GAAP materiality; book depreciation must follow a GAAP method (FASB ASC 360) rather than income tax depreciation rulesReport a problem with this question

11. 11. Which statement correctly describes the periodic inventory system?

    • A.Merchandise bought for resale is debited to Inventory, and each sale requires a second entry debiting Cost of Goods Sold and crediting Inventory
    • B.Merchandise bought for resale is debited to Inventory, but the Inventory account is adjusted only at year end
    • C.Merchandise bought for resale is debited to Purchases, and each sale requires a second entry debiting Cost of Goods Sold and crediting Purchases
    • D.Merchandise bought for resale is debited to Purchases, and no cost-of-goods-sold entry is made when a sale occurs; cost of goods sold is computed at period end from a physical count✓ Answer

    The periodic system uses temporary accounts — Purchases, Freight-In, Purchase Returns and Allowances, and Purchase Discounts — and leaves the Inventory account untouched during the period, so a sale is recorded only at selling price and cost of goods sold is derived at period end as beginning inventory plus net purchases minus the counted ending inventory. Debiting Inventory for purchases and recording cost of goods sold at each sale describes the perpetual system instead.

    Source: FASB ASC 330, inventory; periodic versus perpetual recordkeepingReport a problem with this question

12. 12. Marsh Supply uses the perpetual inventory system. It sells 400 units on account for $30 each, and those units cost Marsh $18 each. In addition to debiting Accounts Receivable and crediting Sales Revenue for $12,000, what entry must Marsh make?

    • A.Debit Cost of Goods Sold $7,200 and credit Inventory $7,200✓ Answer
    • B.Debit Inventory $7,200 and credit Cost of Goods Sold $7,200
    • C.No further entry; under any system cost of goods sold is computed only at period end
    • D.Debit Cost of Goods Sold $12,000 and credit Inventory $12,000

    Under the perpetual system the Inventory account is kept current, so every sale requires two entries: one at selling price and one at cost. The cost entry moves 400 x $18 = $7,200 out of Inventory and into Cost of Goods Sold. Computing cost of goods sold only at period end from a physical count is the periodic system.

    Source: FASB ASC 330, perpetual inventory system; cost of goods sold recognized at the time of saleReport a problem with this question

13. 13. For the year, Tilden Co. had beginning inventory of $18,400, purchases of $96,000, purchase returns and allowances of $3,200, freight-in of $2,700, freight-out (delivery expense) of $1,500, and ending inventory of $21,900. What is cost of goods sold?

    • A.$95,200
    • B.$92,000✓ Answer
    • C.$89,300
    • D.$93,500

    Net purchases are $96,000 - $3,200 + $2,700 = $95,500; adding beginning inventory gives goods available for sale of $113,900, and subtracting ending inventory of $21,900 leaves cost of goods sold of $92,000. Freight-in is a cost of getting the goods ready for sale and is inventoriable, but freight-out is a selling expense of delivering goods to customers and never enters cost of goods sold.

    Source: FASB ASC 330, cost of goods sold computation; freight-in is inventoriable while freight-out is a selling expenseReport a problem with this question

14. 14. Larkspur Co. uses the periodic system. Beginning inventory was 500 units at $20 each; purchases were 800 units at $22 in March, 700 units at $25 in August and 600 units at $26 in November. A physical count shows 700 units on hand at year end. What is ending inventory under FIFO?

    • A.$42,600
    • B.$14,400
    • C.$18,100✓ Answer
    • D.$16,345

    FIFO charges the oldest costs to cost of goods sold and leaves the newest costs in inventory, so the 700 units on hand are priced from the most recent purchases backward: all 600 November units at $26 ($15,600) plus 100 of the August units at $25 ($2,500), a total of $18,100. FIFO produces the same ending inventory and the same cost of goods sold whether the company keeps periodic or perpetual records.

    Source: FASB ASC 330, FIFO cost flow assumptionReport a problem with this question

15. 15. Larkspur Co. uses the periodic system. Beginning inventory was 500 units at $20 each; purchases were 800 units at $22 in March, 700 units at $25 in August and 600 units at $26 in November. A physical count shows 700 units on hand at year end. What is cost of goods sold under LIFO?

    • A.$14,400
    • B.$46,300✓ Answer
    • C.$44,355
    • D.$42,600

    Goods available for sale are $10,000 + $17,600 + $17,500 + $15,600 = $60,700 for 2,600 units. Under periodic LIFO the newest costs go to cost of goods sold and the oldest costs stay in inventory, so the 700 units on hand are priced at 500 at $20 ($10,000) plus 200 at $22 ($4,400) = $14,400, leaving cost of goods sold of $60,700 - $14,400 = $46,300. Unlike FIFO, LIFO results differ between the periodic and perpetual systems.

    Source: FASB ASC 330, LIFO cost flow assumptionReport a problem with this question

16. 16. Ardmore Co. uses the perpetual system with moving-average costing. It began the period with 200 units costing $10 each, then bought 300 units at $15 each, then sold 400 units. What is the cost of goods sold recorded on that sale?

    • A.$5,000
    • B.$5,500
    • C.$5,200✓ Answer
    • D.$6,000

    Moving average is the average method that pairs with the perpetual system: a new average unit cost is computed after each purchase and applied to every sale until the next purchase. After the purchase there are 500 units costing $6,500, an average of $13.00, so 400 x $13.00 = $5,200. Weighted average, by contrast, pairs with the periodic system and uses a single average for the entire period.

    Source: FASB ASC 330, moving-average cost under a perpetual systemReport a problem with this question

17. 17. During a period of steadily rising purchase costs, and assuming the same purchases and sales, how do FIFO and LIFO results compare?

    • A.LIFO reports the higher ending inventory and the higher net income, while FIFO reports the higher cost of goods sold
    • B.Both methods report the same cost of goods sold, but FIFO reports the higher ending inventory
    • C.FIFO reports the higher cost of goods sold and the lower ending inventory
    • D.FIFO reports the higher ending inventory and the higher net income, while LIFO reports the higher cost of goods sold✓ Answer

    FIFO charges the oldest and therefore lowest costs to cost of goods sold and leaves the newest and highest costs in ending inventory, so gross profit and net income are higher; LIFO does the reverse, charging the newest and highest costs to cost of goods sold. The relationship is permanent but it reverses when costs are falling.

    Source: FASB ASC 330, effects of cost flow assumptions in periods of changing pricesReport a problem with this question

18. 18. Because of a counting mistake, Hollis Co. understated its December 31, 20X1 ending inventory by $8,000. Purchases and sales were recorded correctly. What is the effect on net income?

    • A.Net income for both 20X1 and 20X2 is understated by $8,000
    • B.20X1 net income is overstated by $8,000 and 20X2 net income is understated by $8,000
    • C.20X1 net income is understated by $8,000 and 20X2 net income is unaffected
    • D.20X1 net income is understated by $8,000 and 20X2 net income is overstated by $8,000✓ Answer

    Ending inventory is subtracted from goods available for sale to get cost of goods sold, so understating it overstates 20X1 cost of goods sold and understates 20X1 net income. That same figure becomes 20X2 beginning inventory; an understated beginning inventory understates 20X2 cost of goods sold and overstates 20X2 net income. The error is counterbalancing, so the two years' combined income is correct and retained earnings is right by the end of 20X2.

    Source: US GAAP inventory and cost of goods sold relationship; counterbalancing inventory errorsReport a problem with this question

19. 19. Baxter Co.'s December 31 physical count totaled $214,000. Not included in that count are goods costing $9,000 that a supplier shipped FOB shipping point on December 28 and that arrived January 4, and goods costing $6,500 that Baxter shipped to a customer FOB destination on December 30 and that arrived January 3. What amount should Baxter report as inventory at December 31?

    • A.$220,500
    • B.$229,500✓ Answer
    • C.$223,000
    • D.$214,000

    Inventory follows title. Under FOB shipping point, title passes to the buyer when the carrier takes possession, so the $9,000 shipped December 28 already belongs to Baxter at year end. Under FOB destination, title stays with the seller until the goods are delivered, so the $6,500 Baxter shipped is still Baxter's inventory at December 31. The correct amount is $214,000 + $9,000 + $6,500 = $229,500.

    Source: US GAAP passage of title for goods in transit; FOB shipping point versus FOB destinationReport a problem with this question

20. 20. Which of these items should be included in Baxter Co.'s year-end inventory?

    • A.Merchandise Baxter sold and shipped FOB shipping point on December 29 that reached the customer on January 3
    • B.Merchandise Baxter holds on consignment for Marlow Co. and has not sold
    • C.Merchandise Baxter ordered FOB destination that a supplier shipped December 30 and that arrived January 5
    • D.Merchandise Baxter shipped to a dealer that the dealer still holds unsold on consignment✓ Answer

    Consigned goods stay in the consignor's inventory because the consignor keeps title until the consignee sells them; the consignee, holding goods it does not own, reports nothing. Goods sold FOB shipping point passed to the customer at the shipping date, and goods bought FOB destination do not belong to the buyer until they are delivered, so neither belongs in Baxter's year-end inventory.

    Source: FASB ASC 330, consigned goods remain in the consignor's inventoryReport a problem with this question

21. 21. Vernon Co.'s entire inventory was destroyed by fire. Its records show beginning inventory of $80,000, purchases of $310,000 and net sales of $500,000 for the period, and its gross profit has consistently been 40% of net sales. Using the gross profit method, what is the estimated cost of the inventory lost?

    • A.$190,000
    • B.$300,000
    • C.$90,000✓ Answer
    • D.$200,000

    If gross profit is 40% of net sales, cost of goods sold is the other 60%: 0.60 x $500,000 = $300,000. Goods available for sale are $80,000 + $310,000 = $390,000, so estimated ending inventory is $390,000 - $300,000 = $90,000. The gross profit method works because a stable gross profit percentage lets cost of goods sold be estimated so ending inventory can be derived without a physical count.

    Source: FASB ASC 330, gross profit method of estimating inventoryReport a problem with this question

22. 22. An item in Quarry Co.'s inventory is carried at a cost of $50,000. Its estimated selling price is $46,000 and the estimated costs to complete and sell it are $3,000. The amount involved is immaterial, and Quarry records write-downs in an allowance account. What entry should Quarry make?

    • A.Debit Cost of Goods Sold $4,000 and credit Allowance to Reduce Inventory to Net Realizable Value $4,000
    • B.Debit Allowance to Reduce Inventory to Net Realizable Value $7,000 and credit Cost of Goods Sold $7,000
    • C.Debit Cost of Goods Sold $7,000 and credit Allowance to Reduce Inventory to Net Realizable Value $7,000✓ Answer
    • D.No entry is made; the decline in value is recognized only when the item is sold

    Net realizable value is the estimated selling price minus the estimated costs of completion, disposal and transportation, or $46,000 - $3,000 = $43,000; comparing that with the $50,000 cost gives a $7,000 write-down, which is charged to Cost of Goods Sold when the amount is immaterial (a material loss is reported on its own line). Candidates who compare cost with the gross selling price get $4,000 and are wrong. Crediting an allowance rather than Inventory directly is what makes a later recovery, limited to the amount previously written down, recordable.

    Source: FASB ASC 330, measurement of inventory write-downs to net realizable valueReport a problem with this question

Practice questions based on the subject areas of the AIPB Certified Bookkeeper designation, US GAAP, and federal payroll practice. Tax rates, wage bases, contribution limits and withholding tables are reset annually and unemployment and wage-and-hour rules differ by state, so no such figure is used as an answer here — where a calculation needs one, the question supplies it. Confirm the rates in effect for your payroll period and your state's requirements before applying anything here to real books. AIPB and Certified Bookkeeper are marks of the American Institute of Professional Bookkeepers; this site is not affiliated with or endorsed by the AIPB. About the Certified Bookkeeper exam →