Student Question
“My toughest area so far is the statement of cash flows. Classifying what is in operating, investing, and financing.
For example, if i purchased a building for $100,000 (investing cash outflow) and later down the road, I sell it for $110,000. Would i put all $110,000 in investing cash inflow or would I breakout $10,000 gain into operating and $100,000 in investing.
Things like this is what are confusing me…
Thanks in advance for your help!
Best,
Chris”
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On January 1, 2016, the company purchased a building worth $100,000 for cash.
The building has an estimated useful life of 5 years and salvage value of $10,000.
On January 1, 2018, the company sold the equipment for $110,000.
| Journal Entry | DEBIT | CREDIT | Effect on the Statement of Cash Flows | |
|
1 Jan 16
|
Building | 100,000 | No effect | |
| Cash | 100,000 | Cash outflows from investing activities | ||
|
31 Dec 16
|
Depreciation Expense | 18,000 | No effect | |
| Accumulated Depreciation-Building | 18,000 | No effect | ||
|
31 Dec 17
|
Depreciation Expense | 18,000 | No effect | |
| Accumulated Depreciation-Building | 18,000 | No effect | ||
|
1 Jan 18
|
Cash | 110,000 | Cash inflows from investing activities | |
| Accumulated Depreciation-Building | 36,000 | No effect | ||
| Building | 100,000 | No effect | ||
| Gain on Sale | 46,000 | No effect | ||
Note that only cash transactions affect the statement of cash flows and nothing more. Gain from sale of fixed assets does not affect the statement of cash flows in any way.
Why depreciation and amortization expense are added back and gain on sale of land is deducted to net income under the indirect method of cash flow preparation?
We add back depreciation expense in net income under the indirect method of cash flow preparation because we have previously deducted it in net income. Depreciation and amortization expense are noncash expenses and therefore is not included in the statement of cash flows.
We need to deduct the gain on sale in net income under the indirect method of cash flow preparation because we have previously added in it net income.
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