Buchanan Company recently was sued by a competitor for patent infringement. Attorneys have determined that it is probable that Buchanan will lose the case and that a reasonable estimate of damages to be paid by Buchanan is $305,090. In light of this case, Buchanan is considering establishing a $112,720 self-insurance allowance.

What entry, if any, should Buchanan record to recognize this loss contingency? (If no entry is required, select "No Entry" for the account titles and enter 0 for the amounts. Credit account titles are automatically indented when amount is entered. Do not indent manually.)

Debit Litigation Expense account $305,090 and Credit Litigation Liability Account with $305,090

Explanation:

The first thing to note is that the entry to be recognized by Buchanan is the entire estimated damages to be paid by him. This is because, he is to identify and recognize all contingencies that are part of the litigation liability. The entire litigation liability is $305,090 hence the entire amount should be recognized.

In the light of this explanation, the Journal entry to record the recognition of loss contingency is as follows:

Accounts Title and Explanation Debit Credit

Litigation Expense $305,090

Litigation Liability $305,090

Being the record of loss contingency

Note that Litigation expense is an expense account with a debit balance and Litigation liability is a liability account with a credit balance.