Buchanan Company recently was sued by a competitor for patent infringement. Attorneys have determined that it is probable that Buchanan will lose the case and that a reasonable estimate of damages to be paid by Buchanan is $305,090. In light of this case, Buchanan is considering establishing a $112,720 self-insurance allowance.

What entry, if any, should Buchanan record to recognize this loss contingency? (If no entry is required, select "No Entry" for the account titles and enter 0 for the amounts. Credit account titles are automatically indented when amount is entered. Do not indent manually.)

Debit Litigation Expense account $305,090 and Credit Litigation Liability Account with $305,090

Explanation:

The first thing to note is that the entry to be recognized by Buchanan is the entire estimated damages to be paid by him . This is because, he is to identify and recognize all contingencies that are part of the litigation liability. The entire litigation liability is $305,090 hence the entire amount should be recognized.

In the light of this explanation, the Journal entry to record the recognition of loss contingency is as follows:

Accounts Title and Explanation                   Debit               Credit

Litigation Expense                                   $305,090

Litigation Liability                                                              $305,090

Being the record of loss contingency

Note that Litigation expense is an expense account with a debit balance and Litigation liability is a liability account with a credit balance.

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