Liability or Contingency? Mertens, an online retailer, fulfills its online order

Question

Liability or Contingency? Mertens, an online retailer, fulfills its online orders by shipping products directly to customers in all 50 states. Mertens does not have brick-and-mortar stores, but does operate distribution centers in various states, including Texas. Consistent with its practice in all 50 states, Mertens does not collect or remit sales tax to Texas In recent court rulings, Texas argued that operating a distribution center within a state constitutes nexus and thus would subject that company to collect and remit sales tax on all sales within that state As of December 31, 2017, Mertens has operated its distribution center in Texas for five years and has never collected or remitted sales tax to Texas. Although the company considers the risk of detection to not be probable, Mertens has estimated the total amount of sales tax payable to the state for the past five years to be $50 million plus $6 million in interest and $4 million in penalties On March 15, 2018, the governor of Texas established a tax amnesty program. The program provides that any unregistered taxpayer who voluntarily registers to collect sales tax on a prospective basis will be forgiven (1) 50% of all unpaid sales tax and (2) all interest and penalties on unpaid taxes. Mertens management decides to take advantage of this program. On June 15, 2018, Mertens completes the necessary paperwork to participate in the program and pays Texas $25 million to settle its obligation through December 31, 201'7 Required 1. On December 31, 2017, Mertens is considering what amount, if any, of sales taxes due should be recognized in its financial statements? Alternative 1: Mertens should not recognize any "Sales Taxes Payable", but disclose the amount as a reasonably possible contingent liability, because it is not probable that the tax authorities will detect Mertens's liability. The first criterion in ASC 450-20-25-2 is not met. Alternative 2: Mertens should recognize the entire amount of estimated "Sales Taxes Payable", including penalties and interest, because Mertens is legally obligated to remit to Texas Choose the more appropriate alternative and justify your choice. Refer to definitions of liability and contingency

Explanation / Answer

A liability is defined as the future sacrifices of economic benefits that the entity is obliged to make to other entities as a result of past transactions or other past events,the settlement of which may result in the transfer or use of assets,provision of services or other yielding of economics benifits in the future.

Whereas,a contingency arises when there is a situation for which the outcome is uncertain,and which should be resolved in future,possibly creating a loss.The accounting for contingency is essentially to recognize only those losses that are probable and for which a loss amount can be reasonabily estimated.

In above question and according to my opinion alternative 1 is appropriate for this question which stats that Meterns should not recognize any "sales taxes payable",but disclose the amount as reasonably possible contingent liability,because it is not probable that the tax authorities will detect Metern's liability.The first criterion in ASC 450-20-25-2 is not met.

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