In January 2013, Mitzu Co Paid 2,650,000 For A Tract Of Land

In January 2013 Mitzu Co Pays 2650000 For A Tract of Land With Tw

In January 2013, Mitzu Co. pays $2,650,000 for a tract of land with two buildings on it. It plans to demolish Building 1 and build a new store in its place. Building 2 will be a company office; it is appraised at $826,000, with a useful life of 20 years and a $90,000 salvage value. A lighted parking lot near Building 1 has improvements (Land Improvements 1) valued at $324,500 that are expected to last another 11 years with no salvage value. Without the buildings and improvements, the tract of land is valued at $1,799,500. The company also incurs the following additional costs: Prepare a single journal entry to record all the incurred costs assuming they are paid in cash on January 1, 2013.

Paper For Above instruction

The acquisition of land and related improvements involves multiple components that need to be properly valued and recorded in the accounting records. When a company purchases land and associated land improvements, it must allocate the purchase price appropriately among the various assets based on their fair values. Additionally, costs associated with demolishing structures, constructing new buildings, or improving land are capitalized and included in the cost basis of the assets involved. This process ensures accurate depiction of the company's assets and future depreciation or amortization expenses.

In this scenario, Mitzu Co. paid $2,650,000 for a tract of land containing two buildings, a parking lot with improvements, and other costs. To determine the proper accounting treatment, the company must allocate the purchase price among the land, buildings, and land improvements based on their relative fair values. The following steps outline the calculation and journal entry preparation:

Step 1: Determine the fair value of the land

The fair value of the land without the buildings and improvements is provided as $1,799,500. This value is used as a basis for allocation since it represents the standalone value of the land excluding other structures or improvements.

Step 2: Determine the fair value of the buildings

Building 2, which will become the company office, is appraised at $826,000. Since Building 1 will be demolished, its current fair value is irrelevant for the allocation calculation as it will not be part of the company's assets post-demolition.

Step 3: Determine the fair value of the land improvements

The parking lot improvements are valued at $324,500, with a lifespan of 11 years and no salvage value. These improvements are capitalized as Land Improvements.

Step 4: Calculate total fair value and allocate the purchase price

  • Sum of fair values: $1,799,500 (land) + $826,000 (building 2) + $324,500 (improvements) = $2,950,000
  • Allocation ratio for land: $1,799,500 / $2,950,000 ≈ 0.6085
  • Allocation ratio for building 2: $826,000 / $2,950,000 ≈ 0.28
  • Allocation ratio for improvements: $324,500 / $2,950,000 ≈ 0.11

Applying these ratios to the total purchase price of $2,650,000:

  • Land: $2,650,000 * 0.6085 ≈ $1,614,025
  • Building 2: $2,650,000 * 0.28 ≈ $742,000
  • Land improvements: $2,650,000 * 0.11 ≈ $291,500

The costs related to demolishing Building 1 are considered a new cost and are capitalized if they result in future economic benefits; otherwise, they are expensed. Since no details are provided about demolition costs, the assumption is that the cost relates to future demolition or clearing, and if applicable, will be treated accordingly in future journal entries.

Step 5: Record the journal entry

The journal entry on January 1, 2013, to record the purchase and associated costs is as follows:

Debit Land          $1,614,025


Debit Building (Building 2)     $742,000


Debit Land Improvements    $291,500


Credit Cash             $2,650,000

If demolition costs or other additional costs are incurred, they should be added to the respective asset accounts based on their nature and future benefit. If demolition costs are substantial and involve site clearance or building removal, they are capitalized as part of land costs or as separate land improvement costs depending on the circumstances.

In conclusion, accurate allocation of the purchase price based on fair values ensures proper accounting treatment of the assets acquired. The journal entry consolidates the costs and assets into the company's books, reflecting the initial investment and setting the stage for subsequent depreciation or amortization of the buildings and land improvements over their useful lives.

References

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  • American Institute of CPAs. (2020). Accounting standards updates. AICPA.
  • Financial Accounting Standards Board (FASB). (2019). ASC Topic 360: Property, Plant, and Equipment.
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