Appendix B: Sample Financial Accounting and Reporting Testlet Released by AICPA

1. For $50 a month, Rawl Co. visits its customers’ premises and performs insect control services. If customers experience problems between regularly scheduled visits, Rawl makes service calls at no additional charge. Instead of paying monthly, customers may pay an annual fee of $540 in advance. For a customer who pays the annual fee in advance, Rawl should recognize the related revenue

a. Evenly over the contract year as the services are performed.

b. At the end of the contract year after all of the services have been performed.

c. When the cash is collected.

d. At the end of the fiscal year.

1. (a) Revenue is generally recognized when realized or realizable and earned. Revenues are considered earned when the entity has substantially accomplished what it must do to be entitled to the benefits represented by the revenues. Therefore, service revenue generally is earned as the work is performed, and it should be recognized evenly over the contract year as the monthly services are performed. Answer (c) is incorrect because accrual basis accounting is preferable; SFAC 6 explains that cash method provides little information about the results of operations. Answer (d) is incorrect because revenue should be recognized when earned. Answer (b) is incorrect because the completed-contract method should only be used when reasonable estimates of contract costs, revenues, and the extent of progress toward completion ...

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