Problem

Plug Corporation purchased 60% of Coy Company's common stock approximately 10 years ago. On January 1, 20X2, Coy sold equipment to Plug for $850,000 and recorded a $ 150,000 loss on the sale. Coy had purchased the equipment for $ 1,200,000 on January 1, 20X0 and was depreciating it on a straight-line basis over 12 years with no assumed residual value.

In preparing Plug's consolidated financial statements for 20X2 its chief accountant increased the reported amount of the equipment by $150,000 and eliminated the loss on the sale of equipment recorded by Coy. No other elimination or adjustments related to the equipment were made.

Required:

As a member of the audit firm Gotcha and Gotcha, you have been asked, after reviewing Plug's consolidated income statement, to prepare a memo to Plug's controller detailing the elimination procedures that should be followed in transferring equipment between subsidiary and parent. Include citations to or quotations from the authoritative literature to support your recommendations. Your memo should the correct eliminating entry and explain why each debit and credit is needed.