Question

Cheng Corp. exchanges equipment in a transaction that has commercial substance. The original cost of the asset surrendered was 90,000, and its accumulated depreciation at the date of exchange was40,000. The asset received had a fair value of 40,000 and a book value of35,000. What journal entry should be recorded?

1) Debit equipment $35,000.
2) Debit loss on equipment $15,000.
3) Credit equipment-old $50,000.
4) Debit accumulated depreciation $40,000.
5) Debit equipment-new $40,000.
6) Debit loss on exchange $10,000.
7) Credit equipment-old $90,000.

Answer 1

The journal entry for Cheng Corp’s equipment exchange includes debiting new equipment and accumulated depreciation, recording a loss, and crediting the old equipment to reflect the fair value exchange.

Step-by-step explanation:

When Cheng Corp. exchanges equipment, the journal entry to record should reflect the removal of the old equipment's asset values and the recording of the new asset, along with any gains or losses. The original cost of the old equipment is debited against accumulated depreciation to derive the equipment's net book value. As the fair value of the asset received was $40,000 and the net book value of the asset surrendered is $50,000 ($90,000 original cost - $40,000 accumulated depreciation), a loss of $10,000 occurs on the exchange. Therefore, the loss is recorded to recognize the reduction in value from the book value to the fair value.

The correct journal entry would be:

• Debit Equipment-New $40,000
• Debit Accumulated Depreciation-Old Equipment $40,000
• Debit Loss on Exchange $10,000
• Credit Equipment-Old $90,000

By doing so, Cheng Corp. clears the old equipment's value from their books and records the new equipment at its fair value along with the loss incurred on the transaction.