E-Z Loan Company makes loans to high-risk borrowers. E-Z borrows from its banks

Question

E-Z Loan Company makes loans to high-risk borrowers. E-Z borrows from its banks and then lends money to people with bad credit. The bank requires E-Z Loan to submit quarterly financial statements in order to keep its line of credit. E-Z's main asset is Notes Receivable. Therefore, Uncollectible Note Expense and Allowance for Uncollectible Notes are important accounts.

Slade McQueen, the owner of E-Z Loan Company, wants net income to increase in a smooth pattern, rather than increase in some periods and decrease in others. To report smoothly increasing net income. McQueen overestimates the expense. He reasons that over time the income overstatements roughly offset the income understatements.

Is McQueen's practice of smoothing income ethical? Why or Why not? Answer between 300-400 words

Explanation / Answer

No Mc Queen's practice of smoothing income is not at all ethical because understatement of income deleberately by overstating the expenses does not portray a real picture.

Altough in long run, the understatement of income will roughly offset the income overstatements but at any particular point of time or for any particular period the financial statements would not reflect true picture of the performance of E-Z loan company.

Please note that accounting principles lays down policies to provide for expenses which company is expecting to incurr in future. however this shoould be confused with overstatement of expenses. Oversatement is misleading concept and it results in showing unfair picture of financial results.

In our present case E-Z 's main assets is notes receivables and the two major heads of expense are uncollectble note expense and allowance for uncollectible notes. So if the company overstates the expenses the income would go down unneccasarily and therby leading to false financial statements which is also required to be submitted to bank. it may be noted that bank needs quarterly statments so the bank may get false impression of stablity of income which is being created falsely by E-Z loan company by overstating expense in one period and understating it in the other.

Moreover to remain ethical the E-Z loan company should follow accounting rules/policies for depicting true and fair view of financial statments. Also the bank may stop giving loans to E-Z in case it comes to know about the practice being follwed by E-Z. Bank may at any time conduct enquires and audit since it already have the quarterly financial statments. So the continuity aspects of E-Z company also is at stake for not being ethical in reporting the financial statments.

To sum up we can say that the practice being follwed by E-Z loan company is not ethical and it should consider revising its policies.

Related Questions

Navigate

• Browse (All)
• Browse E
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.