INTERMEDIATE ACCOUNTING 3

WARRANTY
LIABILITY
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JUNIOR PHILIPPINE INSTITUTE OF ACCOUNTANTS

WARRANTY LIABILITY
INTERMEDIATE ACCOUNTING 3
PREPARED BY: Salut, Mary Rose R.

DISCLAIMER: This paper is prepared by bonafide NUJPIANS for A.Y. 2021-2022.

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WARRANTY
• An offer to provide free repair service or replacement during a specified period if the
products are defective.

RECOGNITION OF WARRANTY PROVISION

PAS 37, paragraph 14, provides that a provision shall be recognized as a liability in the
financial statements under the following conditions:
1. The entity has a present obligation, legal or constructive, as a result of past event
2. It is probable than an outflow of resources embodying economic benefits would be
required to settle the obligation
3. The amount of obligation can be measured reliably
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JUNIOR PHILIPPINE INSTITUTE OF ACCOUNTANTS

Accounting for Warranty

1. Accrual Approach
• To record the estimated warranty cost
Warranty expense xxx
Estimated warranty liability xxx
• To record the actual warranty cost when incurred and paid
Estimated warranty liability xxx
Cash xxx
Note: Any difference between estimate and actual cost is a change in estimate and
therefore, treated currently or prospectively.
• To record the difference when the actual cost exceeds the estimate
Warranty Expense xxx
Estimated warranty liability xxx

• To record the difference when the actual cost is less than the estimate
Estimated warranty liability xxx
Warranty expense xxx
2. Expense as incurred Approach
• Expensing the warranty cost only when actually incurred
• To record warranty cost
Warranty expense xxx
Cash xxx

Example:
An entity sells 1,000 units of television sets at P9,000 each for cash. Each television set is
under warranty for one year. The entity has estimated from past experience that warranty cost
will probably average P500 per unit and that only 60% of the units sold will be returned for
repair. The entity incurs P180,000 for repairs during the year.
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JUNIOR PHILIPPINE INSTITUTE OF ACCOUNTANTS

Journal entries

Sales made evenly

• An assumption that half of the sales were made on January 1 and the other half on
July 1
Example:
An entity sells refrigerators that carry a 2-year warranty against the defects. The sales and
warranty repairs are made evenly throughout the year. Based on past experience, the entity
projects an estimated warranty cost as a percentage of sales as follows:
First year of warranty 4%
Second year of warranty 10%

2020 2021
Sales 5,000,000 6,000,000
Actual warranty repairs 140,000 300,000

Warranty expense related to 2020 sales

2020
First contract year of January 1, 2020 sales (2,500,000 x 4%) 100,000
First contract year of July 1, 2020 sales (2,500,000 x 4% x 6/12) 50,000

2021
First contract year of July 1, 2020 sales (2,500,000 x 4% x 6/12) 50,000
Second contract year of January 1, 2020 sales (2,500,000 x 10%) 250,000
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JUNIOR PHILIPPINE INSTITUTE OF ACCOUNTANTS

Second contract year of July 1, 2020 sales (2,500,000 x 10% x 6/12) 125,000

2022
Second contract year of July 1, 2020 sales (2,500,000 x 10% x 6/12) 125,000
Total warranty expense 700,000

Warranty expense related to 2021 sales

2021
First contract year of January 1, 2021 sales (3,000,000 x 4%) 120,000
First contract year of July 1, 2021 sales (3,000,000 x 4% x 6/12) 60,000

2022
First contract year of July 1, 2021 sales (3,000,000 x 4% x 6/12) 60,000
Second contract year of January 1, 2021 sales (3,000,000 x 10%) 300,000
Second contract year of July 1, 2021 sales (3,000,000 x 10% x 6/12) 150,000

2023
Second contract year of July 1, 2021 sales (3,000,000 x 10% x 6/12) 150,000

Total warranty expense 840,000

Sale of warranty
- Warranty are sold separately from the product
- Usually for “extended warranty”
- Initially recognized as deferred revenue and subsequently amortized using straight line
over the life of the warranty contract.
- If costs are expected to be incurred in performing services, the revenue recognized in
proportion to the costs to be incurred annually.

SOURCES:
Valix et. al. (2019). Intermediate Accounting 2019 Volume 2