Let's break down the problem and summarize the required steps and answers. --- ### **Step-by-Step Explanation** #### **Background:** - Subsidiary sells equipment to Parent for $88,000. - Original cost of equipment: $120,000. - Purchased by subsidiary on Jan 1, 2016 (so 4 years of depreciation until Jan 1, 2020). - Useful life: 12 years, straight-line, no salvage value. - Parent uses equity method, and depreciates over remaining useful life (8 years). --- #### **a. Compute Annual Depreciation Expense** **Subsidiary's Pre-Sale Depreciation:** - Annual Depreciation = Cost / Useful Life = $120,000 / 12 = **$10,000 per year** - 4 years depreciation (2016, 2017, 2018, 2019): $10,000 x 4 = $40,000 - Book value at Jan 1, 2020: $120,000 - $40,000 = **$80,000** **Parent's Post-Sale Depreciation:** - Parent bought at $88,000, depreciates over remaining 8 years. - Annual Depreciation = $88,000 / 8 = **$11,000 per year** --- #### **b. Compute Pre-Consolidation Gain on Sale** - Sale price: $88,000 - Book value at sale: $80,000 - **Gain = $88,000 - $80,000 = $8,000** --- #### **c. Prepare [I] Consolidation Entry for 2020 (Year of Sale)** **Purpose:** To eliminate intercompany gain and adjust equipment and depreciation to original cost basis. | Description | Debit | Credit | |---------------|-----------|----------| | [Igain] | Gain on Sale | $8,000 | | | Equipment | $8,000 | | [Idep] | Accumulated Depreciation | $1,000 | | | Depreciation Expense | $1,000 | **Explanation:** - Reverse gain on sale. - Adjust equipment back to original carrying amount. - Adjust depreciation expense (Parent's depreciation is $1,000 more than subsidiary’s would have been: $11,000 - $10,000 = $1,000). --- #### **d. Year-End Consolidation Entries at Dec 31, 2022** **For subsequent years, continue to:** - Eliminate unrealized gain from sale. - Adjust depreciation difference. | Description | Debit | Credit | |---------------|-----------|----------| | [Igain] | Investment in Subsidiary | $8,000 | | | Equipment | $8,000 | | [Idep] | Accumulated Depreciation | $3,000 | | | Depreciation Expense | $3,000 | **Explanation:** - Each year for 3 years, the depreciation difference is $1,000 per year, so $3,000 by end of 2022. - Equipment and investment balances are adjusted to remove intercompany effects. --- ### **Final Summary** This exercise requires you to: 1. Calculate annual depreciation for both the subsidiary (pre-sale) and parent (post-sale). 2. Calculate the gain on the intercompany sale. 3. Prepare elimination entries for the year of sale to: - Remove the intercompany gain. - Reset equipment to original carrying amount. - Adjust depreciation to what it would have been without the sale. 4. For subsequent years, continue to reverse the gain and adjust cumulative excess depreciation. **Key concept:** In consolidated financial statements, intercompany sales of depreciable assets are eliminated, and depreciation expenses are adjusted so that consolidated figures reflect as if the sale never happened between related parties.