Zeibart Company purchases equipment for $225,000 on July 1, 2016, with an estimated useful life of 10 years and expected salvage value of $25,000. Straight-line depreciation is used. On July 1, 2020, economic factors cause the market value of the equipment to decline to $90,000. On this date, Zeibart examines the equipment for impairment and estimates $125,000 in future cash inflows related to use of this equipment. Required:
a. Is the equipment impaired at July 1, 2020?
b. If the equipment is impaired on July I, 2020, compute the impairment loss and prepare a journal entry to record the loss.

a. Yes, the equipment is impaired at July 1, 2020.

b. Impairment loss is $20,000. And the journal entries are as follows:

Debit Impairment loss for $20,000

Debit Accumulated depreciation for $80,000

Credit Equipment for $100,000

Explanation:

a. Is the equipment impaired at July 1, 2020?

This can be determined as follows:

Annual depreciation = (Cost - Salvage value) / Estimated useful life = ($225,000 - $25,000) / 10 = $20,000

Accumulated depreciation till July 1, 2020 = Annual depreciation * Number of years from July 1, 2016 to July 1, 2000 = $20,000 * 4 = $80,000

Net book value at July 1, 2020 = Cost - Accumulated depreciation till July 1, 2020 = $225,000 - $80,000 = $145,000

Equipment recoverable amount = Estimated future cash inflows related to use of the equipment = $125,000

Since the net book value of $145,000 is greater than the recoverable amount of the equipment of $125,000, this implies that the equipment is impaired at July 1, 2020.

b. If the equipment is impaired on July I, 2020, compute the impairment loss and prepare a journal entry to record the loss.

Accumulated depreciation till July 1, 2020 = $80,000

Estimated future cash inflows related to use of the equipment = $125,000

Fair market value = $90,000

Recoverable amount = Higher of estimated future cash inflows related to use of the equipment or Fair market value = $125,000

Net book value at July 1, 2020 = $145,000

Impairment loss = Net book value at July 1, 2020 - Recoverable amount = $145,000 - $125,000 = $20,000

The journal entries will then look as follows:

Date                  Details                                     Debit ($)         Credit ($)      

01 Jul 2020      Impairment loss                       20,000

                         Accumulated depreciation     80,000

                             Equipment                                                 100,000

                         (To record impairment loss.)                                                

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