Sela sold a machine for $140,000.The machine originally cost $90,000 and $10,000 of MACRS depreciation had been allowable.The buyer assumed an existing loan of $40,000,paid $20,000 cash down and agreed to pay $10,000 per year for eight years plus interest.Selling expenses are $10,000.The total gross profit for installment sale recognition purposes is
A)$30,000.
B)$40,000.
C)$50,000.
D)$60,000.

Question

Quizplus · Accepted Answer

The formula for calculating gross profit for installment sale recognition purposes is:

Gross Profit = Total Selling Price - Cost Basis - Selling Expenses - Installment Sales Income

Total Selling Price = $140,000
Cost Basis = $90,000 - $10,000 = $80,000
Selling Expenses = $10,000
Installment Sales Income = ($10,000 x 8) = $80,000

Plugging in the numbers, we get:

Gross Profit = $140,000 - $80,000 - $10,000 - $80,000 = $-30,000

However, since the question is asking for the total gross profit, we need to take into account the interest payments that will be made over the next 8 years. The total amount of interest that will be paid is:

Interest = ($10,000 x 8) - $40,000 - $20,000 = $20,000

Therefore, the net present value of the installment sales income is:

Net Present Value = ($80,000 - $20,000) / (1 + i)^8 + ($10,000 x 8) - $20,000

Assuming an interest rate of 10%, the net present value is:

Net Present Value = ($80,000 - $20,000) / (1 + 0.1)^8 + ($10,000 x 8) - $20,000
Net Present Value = $42,343.16

Finally, adding the net present value to the calculation of gross profit, we get:

Gross Profit = $140,000 - $80,000 - $10,000 - $42,343.16 = $7,656.84

Therefore, the total gross profit for installment sale recognition purposes is $7,656.84, which is closest to choice letter B ($40,000).

Sela Sold a Machine for $140,000