Rule: Under the installment method, revenue is reported over the period in which the cash payments are received. The amount of cash received is multiplied by the gross profit percentage on the sale to determine the revenue (which retains its character as capital gain or ordinary income, depending on the transaction). Choice "C" is correct. The gross profit percentage is calculated as follows:
Sales Price |
| $600,000 |
Original Cost | $500,000 |
|
Accumulated Depreciation | (80,000) |
|
Adjusted Basis |
| (420,000) |
Realized Gain on Sale |
| $180,000 |
|
Gross Profit Percentage$180,000 ÷ $600,000 = 30% |
Gain Recognized in Year of Sale:$120,000 [cash received] × 30%=$36,000 |
Choice "a" is incorrect. The answer option recognizes as income the total realized gain ($180,000) on the sale. As indicated in the rule above, under the installment method, revenue is reported over the period in which the cash payments are received. The amount of cash received is multiplied by the gross profit percentage on the sale to determine the revenue.
Choice "d" is incorrect. This answer option is the total amount of cash received in the year of sale ($120,000). The gross profit percentage must be applied before the amount of revenue is determined. As indicated in the rule above, under the installment method, revenue is reported over the period in which the cash payments are received. The amount of cash received is multiplied by the gross profit percentage on the sale to determine the revenue.
Choice "b" is incorrect. This assumes a gross profit percentage of 45%. The actual gross profit percentage is 30%, as per the above calculation.
