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Question: (Correct Intangible Assets Account) Reichenbach Co., organized in 2016, has set up a single account for all intangible assets. The following summary discloses the debit entries that have been recorded during 2017 and 2018.

	Intangible Assets
7/1/17	8-year franchise; expiration date 6/30/25	\( 48,000
10/1/17	Advance payment on laboratory space (2-year lease)	24,000
12/31/17	Net loss for 2017 including state incorporation fee, \)1,000, and related legal fees of organizing, $5,000 (all fees incurred in 2017)	16,000
1/2/18	Patent purchased (10-year life)	84,000
3/1/18	Cost of developing a secret formula (indefinite life)	75,000
4/1/18	Goodwill purchased (indefinite life)	278,400
6/1/18	Legal fee for successful defense of patent purchased above	12,650
9/1/18	Research and development costs	160,000

Instructions

Prepare the necessary entries to clear the Intangible Assets account and to set up separate accounts for distinct types of intangibles. Make the entries as of December 31, 2018, recording any necessary amortization and reflecting all balances accurately as of that date. (Ignore income tax effects.)

Step by step solution

01

Meaning of Franchise

A franchise refers to a small business where the franchisee use license, product, and brandby paying a franchise fee to the actual owner of the business. Terms and conditions are also enforced for the franchisee to sell the product.

02

Preparing journal entries  

Date	Particular	Debit ($)	Credit ($)
Dec. 31, 2018	Franchises	48,000
	Prepaid Rent	24,000
	Retained Earnings (Net loss)	16,000
	Patents	96,650
	Research and Development Expense	235,000
	Goodwill	278,400
	Intangible Assets		698,050
Dec. 31, 2018	Amortization Expense	6,000
	Retained Earnings	3,000
	Franchises		9,000
Dec. 31, 2018	Rent Expense	12,000
	Retained Earnings	3,000
	Prepaid Rent		15,000
Dec. 31, 2018	Amortization Expense	9,170
	Patents		9,170

Working Notes:

Calculating the amount of Amortization expense

$$\begin{gathered} \text{Amortization}\text{expense}=\frac{\text{Franchise}\text{cost}}{\text{Useful}\text{life}} \\ =\frac{\$48,000}{8} \\ =\$6,000 \end{gathered}$$

Calculating the amount of Retained Earnings

$$\begin{gathered} \text{Retained} \text{earnings}=\frac{\text{Franchise}\text{cost}}{\text{Useful}\text{life}}×\text{Total} \text{month} \\ =\frac{\$48,000}{8}×\frac{6}{12} \\ =\$3,000 \end{gathered}$$

Calculating the amount of Rent expense

$$\begin{gathered} \text{Rent}\text{expense}=\frac{\text{Laboratory}\text{space}\text{advance}\text{payments}}{\text{Total}\text{years}} \\ =\frac{\$24,000}{2} \\ =\$12,000 \end{gathered}$$

Calculating the amount of Patents

$$\begin{gathered} \text{Patents}=\left(\frac{\text{Patent}\text{cost}}{\text{Useful}\text{life}}\right)+\text{Legal}\text{fee}×\text{Total}\text{month} \\ =\left(\frac{\$84,000}{10}\right)+\$12,650×\frac{7}{115} \\ =\$8,400+\$770 \\ =\$9,170 \end{gathered}$$

Showing balances on December 31, 2018

Prepaid Rent ($24,000 – $15,000)	$ 9,000
Franchises ($48,000 – 9,000)	39,000
Patents ($96,650 – 9,170)	87,480
Goodwill	278,400

Note: There will be no goodwill amortization; goodwill should be evaluated for impairment at least once a year in the future.

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