Fiduciary had an investment in Portfolio A that had a market value of $7 million accounted for as available for sale. It had originally charged $3 million when Portfolio A was marked-to-market in the equity account on Fiduciary’s balance sheet. Now, it has been determined that $1 million of the $3 million charge has been permanently impaired. Fiduciary should: A) reclassify $1 million by charging it against the income statement while recognizing an increase (credit) to the equity section of the balance sheet. B) reclassify $1 million by charging it against the income statement while recognizing a decrease (debit) to the equity section of the balance sheet. C) charge an additional $1 million against the income statement while recognizing an additional charge (debit) to the equity section of the balance sheet. Your answer: B was incorrect. The correct answer was A) reclassify $1 million by charging it against the income statement while recognizing an increase (credit) to the equity section of the balance sheet. When there is an impairment of a previously realized charge that only affected the equity section of the balance sheet, a reclassification charge must be made to transfer the permanent impairment charge to the income statement. This accounting entry is a charge against the income statement with a corresponding credit or increase to the equity section. Can someone explain to me how a permanent impairment causes an increase in equity. Here is my thought process for an impairment on an available for sale security: For the decrease in security value of an available for sale investment, you decrease the asset amount and you decrease equity (other comprehensive income). What is the reasoning behind increasing equity when an asset is impaired?
this is a question where originally a loss was taken against the item and moved directly to the Equity section on the Balance sheet as it is a “AFS” security. due to the mark to market of AFS security. This is an unrealized loss. Subsequently since the security is permanently impaired to the tune of 1 mill. - the 1 mill needs to be reversed out from the equity (since it is now a realized loss) - so equity increases 1 Mill. The 1 Mill loss is charged to the income statement (and then flows back to equity).
agree wid cpk
Thanks