16 Financial Accounting & Reporting (FAR) Practice Questions & Answers

1. 1. Under the FASB Conceptual Framework, which two are the fundamental qualitative characteristics that make financial information useful for decision-making?

   • A.Materiality and prudence
   • B.Comparability and timeliness
   • C.Reliability and consistency
   • D.Relevance and faithful representation✓ Answer

   Per FASB Concepts Statement No. 8, the two fundamental qualitative characteristics are relevance (capable of making a difference in decisions) and faithful representation (complete, neutral, and free from error). Comparability, verifiability, timeliness, and understandability are enhancing characteristics, not fundamental ones.

   Source: FASB Concepts Statement No. 8, Chapter 3 (Qualitative Characteristics)Report a problem with this question

2. 2. The revenue recognition standard (ASC 606) prescribes a five-step model. What is the FIRST step in recognizing revenue from a contract with a customer?

   • A.Determine the transaction price
   • B.Identify the contract with the customer✓ Answer
   • C.Recognize revenue when a performance obligation is satisfied
   • D.Allocate the transaction price to performance obligations

   The five-step model begins with identifying the contract with the customer. The remaining steps follow in order: identify the performance obligations, determine the transaction price, allocate that price to the obligations, and recognize revenue as each obligation is satisfied. The contract must exist before any pricing or allocation occurs.

   Source: ASC 606-10-05-4 (Five-Step Revenue Recognition Model)Report a problem with this question

3. 3. Which equation represents the fundamental accounting equation on which the double-entry system and the balance sheet are built?

   • A.Revenue = Expenses + Equity
   • B.Assets = Liabilities + Equity✓ Answer
   • C.Assets + Liabilities = Equity
   • D.Assets = Liabilities - Equity

   The fundamental accounting equation is Assets = Liabilities + Equity. It reflects that a company's resources (assets) are financed by either creditors (liabilities) or owners (equity), and it must always remain in balance, which is why every transaction has equal debits and credits.

   Source: FASB Concepts Statement No. 8, Chapter 4 (Elements); Double-Entry AccountingReport a problem with this question

4. 4. A company sells goods and delivers them in December but does not receive cash until January. Under the accrual basis of accounting, in which period is the revenue recognized?

   • A.December, when the goods are delivered✓ Answer
   • B.January, when cash is received
   • C.Whenever management chooses to record it
   • D.Split evenly between December and January

   Under the accrual basis, revenue is recognized when it is earned (the performance obligation is satisfied by delivering the goods), regardless of when cash changes hands. Because delivery occurred in December, the revenue belongs in December. The cash basis, by contrast, would record it in January.

   Source: ASC 606; FASB Concepts Statement No. 8 (Accrual Accounting)Report a problem with this question

5. 5. During a period of rising inventory costs, which cost-flow assumption generally results in the LOWEST reported cost of goods sold and therefore the HIGHEST net income?

   • A.Weighted-average
   • B.FIFO (first-in, first-out)✓ Answer
   • C.LIFO (last-in, first-out)
   • D.Specific identification always yields the lowest

   When costs are rising, FIFO expenses the oldest (cheapest) units as cost of goods sold, leaving the newest (most expensive) units in ending inventory. This produces the lowest COGS and the highest net income. LIFO does the opposite, expensing the newest, highest costs and lowering net income.

   Source: ASC 330 (Inventory); Cost-Flow AssumptionsReport a problem with this question

6. 6. A bond is issued when its stated (coupon) rate is LOWER than the market (effective) rate of interest. The bond will be issued at:

   • A.A premium if callable, otherwise par
   • B.Face value (par)
   • C.A premium (above face value)
   • D.A discount (below face value)✓ Answer

   When the stated rate is below the market rate, investors will not pay full face value for below-market interest payments, so they pay less, creating a discount. The discount is amortized over the bond's life, increasing interest expense above the cash coupon paid. A premium arises only when the stated rate exceeds the market rate.

   Source: ASC 470 / ASC 835-30 (Bonds Payable; Discount and Premium)Report a problem with this question

7. 7. Which depreciation method allocates a larger portion of an asset's cost to expense in the early years of its useful life and less in later years?

   • A.Units-of-production based on actual usage
   • B.Composite method
   • C.Double-declining-balance (an accelerated method)✓ Answer
   • D.Straight-line

   The double-declining-balance method is an accelerated method that applies a constant rate to a declining book value, producing higher depreciation expense in early years and lower expense later. Straight-line spreads cost evenly, while units-of-production ties expense to actual usage rather than the passage of time.

   Source: ASC 360 (Property, Plant, and Equipment); Depreciation MethodsReport a problem with this question

8. 8. Under ASC 842, when a lessee classifies a lease as a FINANCE lease rather than an operating lease, how is the total lease expense pattern generally recognized in the income statement?

   • A.Evenly, as a single straight-line lease expense
   • B.Front-loaded, as separate interest and amortization expense✓ Answer
   • C.Only when lease payments are made in cash
   • D.Entirely at the end of the lease term

   In a finance lease, the lessee recognizes interest expense on the lease liability separately from amortization of the right-of-use asset. Because interest is higher when the liability balance is larger early on, total expense is front-loaded. An operating lease instead recognizes a single, generally straight-line lease expense.

   Source: ASC 842-20 (Leases; Lessee Finance vs. Operating)Report a problem with this question

9. 9. Which of the four basic financial statements links the beginning and ending balances of the balance sheet by reporting how a company generated and used cash across operating, investing, and financing activities?

   • A.The balance sheet
   • B.The statement of changes in equity
   • C.The statement of cash flows✓ Answer
   • D.The income statement

   The statement of cash flows explains the change in cash between two balance sheet dates by classifying cash movements into operating, investing, and financing activities. This articulation is a key example of how the statements interrelate. The income statement reports profitability, not cash flows directly.

   Source: ASC 230 (Statement of Cash Flows); Financial Statement ArticulationReport a problem with this question

10. 10. Under the allowance method for uncollectible accounts receivable, what is the effect on the financial statements when a specific customer account is written off as uncollectible?

    • A.An increase in bad debt expense equal to the write-off
    • B.A decrease in net income equal to the write-off
    • C.An increase in total assets
    • D.No effect on net accounts receivable or net income✓ Answer

    Under the allowance method, a write-off debits the allowance for doubtful accounts and credits accounts receivable. Both gross receivables and the allowance decrease by the same amount, so net receivables are unchanged, and no expense is recorded at write-off because bad debt expense was already recognized when the allowance was established.

    Source: ASC 310 / ASC 326 (Receivables; Allowance Method)Report a problem with this question

11. 11. In governmental fund accounting, the General Fund and other governmental funds use which measurement focus and basis of accounting?

    • A.Current financial resources focus and modified accrual basis✓ Answer
    • B.Cash resources focus and cash basis
    • C.Total economic resources focus and modified cash basis
    • D.Economic resources focus and full accrual basis

    Governmental funds (such as the General Fund) use the current financial resources measurement focus and the modified accrual basis of accounting, under which revenues are recognized when measurable and available and expenditures when the related liability is incurred. Government-wide statements, by contrast, use the economic resources focus and full accrual basis.

    Source: GASB Standards; Governmental Fund Measurement Focus and Basis of AccountingReport a problem with this question

12. 12. Under current GAAP for not-for-profit organizations, into how many classes of net assets must a nonprofit report its net assets on the statement of financial position?

    • A.Four, mirroring the governmental fund categories
    • B.Two: with donor restrictions and without donor restrictions✓ Answer
    • C.Three: unrestricted, temporarily restricted, and permanently restricted
    • D.One combined net asset total

    Under ASU 2016-14, not-for-profits report net assets in two classes: net assets with donor restrictions and net assets without donor restrictions. This replaced the former three-category model (unrestricted, temporarily restricted, permanently restricted) to simplify presentation and improve comparability.

    Source: ASC 958 / ASU 2016-14 (Not-for-Profit Entities; Net Asset Classes)Report a problem with this question

13. 13. Which financial statement reports a company's financial position at a single point in time, rather than over a period of time?

    • A.The income statement
    • B.The statement of retained earnings
    • C.The statement of cash flows
    • D.The balance sheet (statement of financial position)✓ Answer

    The balance sheet reports assets, liabilities, and equity as of a specific date, presenting a snapshot of financial position at a single point in time. The income statement, statement of cash flows, and statement of retained earnings all cover activity over a period of time (a 'flow' rather than a 'stock').

    Source: FASB Concepts Statement No. 8, Chapter 7; ASC 210 (Balance Sheet)Report a problem with this question

14. 14. The lower of cost or net realizable value (LCNRV) rule for inventory is a specific application of which accounting concept or constraint?

    • A.The going concern assumption
    • B.Conservatism (prudence) — assets should not be overstated✓ Answer
    • C.The revenue recognition principle
    • D.The full disclosure principle

    LCNRV requires writing inventory down when its net realizable value falls below cost, reflecting the conservatism concept that assets and income should not be overstated and that expected losses should be recognized promptly. It does not permit writing inventory up above cost, which would violate conservatism.

    Source: ASC 330-10-35 (Inventory; Lower of Cost or Net Realizable Value)Report a problem with this question

15. 15. Under U.S. GAAP, in which section of the statement of cash flows are cash dividends PAID to the company's own shareholders reported?

    • A.Financing activities✓ Answer
    • B.Investing activities
    • C.Noncash supplemental disclosure only
    • D.Operating activities

    Dividends paid to a company's own shareholders are a return of capital to the providers of equity financing, so ASC 230 classifies them as a financing activity. (Note that dividends and interest RECEIVED, and interest PAID, are classified as operating under U.S. GAAP.)

    Source: FASB ASC 230-10-45-15 (Statement of Cash Flows — classification of financing activities)Report a problem with this question

16. 16. A company revises the estimated useful life of a machine based on new information. How should this change in accounting estimate be recognized under U.S. GAAP?

    • A.By a prior-period adjustment to beginning retained earnings
    • B.Only through footnote disclosure, with no change to reported amounts
    • C.Retrospectively, by restating all prior-period financial statements
    • D.Prospectively, in the period of change and future periods✓ Answer

    Under ASC 250, a change in accounting estimate is accounted for prospectively — the new estimate affects the period of change and future periods, and prior periods are not restated. This is because a new estimate reflects new information, not a correction of a past error.

    Source: FASB ASC 250-10-45-17 (Accounting Changes and Error Corrections — changes in estimate accounted for prospectively)Report a problem with this question

Concept-focused practice questions based on the AICPA CPA Exam Blueprints. Not affiliated with the AICPA or NASBA, and not accounting, tax, or legal advice. Specific dollar thresholds change yearly — confirm current figures with authoritative sources. About the CPA Exam →