Topic 4- Accounting Changes and Error Correction

Assessment

Activity 1

The four types of accounting changes, including error correction, are:

Code
a. Change in accounting principle.
b. Change in accounting estimate.
c. Change in reporting entity.
d. Error correction.

Instructions
Following are a series of situations. You are to enter a code letter to the left to
indicate the type of change.

CChange from presenting nonconsolidated to consolidated financial statements.

1.
DChange due to charging a new asset directly to an expense account.
2.
BChange from expensing to capitalizing certain costs, due to a change in periods
3. benefited.
AChange from FIFO to LIFO inventory procedures.
4.
D .5Change due to failure to recognize an accrued (uncollected) revenue.
.
B 6. Change in amortization period for an intangible asset.
C 7. Changing the companies included in combined financial statements.
B 8. Change in the loss rate on warranty costs.
D 9. Change due to failure to recognize and accrue income.
B 10. Change in residual value of a depreciable plant asset.
D 11. Change from an unacceptable to an acceptable accounting principle.
B 12. Change in both estimate and acceptable accounting principles.
D 13. Change due to failure to recognize a prepaid asset.
B 14. Change from straight-line to sum-of-the-years'-digits method of depreciation.
 B 15. Change in life of a depreciable plant asset.
A 16. Change from one acceptable principle to another acceptable principle.
D 17. Change due to understatement of inventory.
B 18. Change in expected recovery of an account receivable.

ACTIVITY 2

False 1.A change in accounting principle is a change that occurs as the result of new
information or additional experience.

True 2. Errors in financial statements result from mathematical mistakes or oversight or

misuse of facts that existed when preparing the financial statements.

False 3. Adoption of a new principle in recognition of events that have occurred for the
first time or that were previously immaterial is treated as an accounting change.

True 4. Retrospective application refers to the application of a different accounting

principle to recast previously issued financial statements—as if the new principle had
always been used.

False 5. When a company changes an accounting principle, it should report the change
by reporting the cumulative effect of the change in the current year’s income statement.

True 6. One of the disclosure requirements for a change in accounting principle is to

show the cumulative effect of the change on retained earnings as of the beginning of
the earliest period presented.

True 7. An indirect effect of an accounting change is any change to current or future

cash flows of a company that result from making a change in accounting principle that is
applied retrospectively.

True 8. Retrospective application is considered impracticable if a company cannot

determine the prior period effects using every reasonable effort to do so.

False 9. Companies report changes in accounting estimates retrospectively.

True 10.When it is impossible to determine whether a change in principle or change in

estimate has occurred, the change is considered a change in estimate.

False 11. Companies account for a change in depreciation methods as a change in

accounting principle.
False 12. When companies make changes that result in different reporting entities, the
change is reported prospectively.

True 13. Changing the cost or equity method of accounting for investments is an
example of a change in reporting entity.

False 14. Accounting errors include changes in estimates that occur because a
company acquires more experience, or as it obtains additional information.

True 15. Companies record corrections of errors from prior periods as an adjustment to
the beginning balance of retained earnings in the current period.

True 16. If an FASB standard creates a new principle, expresses preference for, or
rejects a specific accounting principle, the change is considered clearly acceptable.

False 17. Balance sheet errors affect only the presentation of an asset or liability
account.

False 18. Counterbalancing errors are those that will be offset and that take longer than
two periods to correct themselves.

True 19. For counterbalancing errors, restatement of comparative financial statements

is necessary even if a correcting entry is not required.

True 20. Companies must make correcting entries for no counterbalancing errors, even
if they have closed the prior year’s books.

ACTIVITY 3

1. Accounting changes are often made and the monetary impact is reflected in the
financial statements of a company even though, in theory, this may be a
violation of the accounting concept of

a. materiality.
b. consistency.
c. conservatism.
d. objectivity.

2. Which of the following is not treated as a change in accounting principle?

a. A change from LIFO to FIFO for inventory valuation
b. A change to a different method of depreciation for plant assets
c. A change from full-cost to successful efforts in the extractive industry
d. A change from completed-contract to percentage-of-completion

3. Which of the following is not a retrospective-type accounting change?

 a. Completed-contract method to the percentage-of-completion method for
long-term contracts
b. LIFO method to the FIFO method for inventory valuation
c. Sum-of-the-years'-digits method to the straight-line method
d. "Full cost" method to another method in the extractive industry

4. Which of the following is accounted for as a change in accounting principle?

a. A change in the estimated useful life of plant assets.
b. A change from the cash basis of accounting to the accrual basis of
accounting.
c. A change from expensing immaterial expenditures to deferring and
amortizing them as they become material.
d. A change in inventory valuation from average cost to FIFO.
5. A company changes from straight-line to an accelerated method of calculating
depreciation, which will be similar to the method used for tax purposes. The entry to
record this change should include a
a. credit to Accumulated Depreciation.

b. debit to Retained Earnings in the amount of the difference on prior

years.
c. debit to Deferred Tax Asset.
d. credit to Deferred Tax Liability.

6. Which of the following disclosures is required for a change from sum-of-the-years-

digits to straightline?
a. The cumulative effect on prior years, net of tax, in the current retained
earnings statement
b. Restatement of prior years’ income statements
c. Recomputation of current and future years’ depreciation
d. All of these are required.

7. A company changes from percentage-of-completion to completed-contract, which is

the method used for tax purposes. The entry to record this change should include a
a. debit to Construction in Process.

b. debit to Loss on Long-term Contracts in the amount of the

difference on prior years, net of tax.
c. debit to Retained Earnings in the amount of the difference on prior
years, net of tax.
d. d. credit to Deferred Tax Liability.

8. Which of the following disclosures is required for a change from LIFO to FIFO?
a. The cumulative effect on prior years, net of tax, in the current
retained earnings statement
 b. The justification for the change

c. Restated prior year income statements

d. All of these are required.

9. Stone Company changed its method of pricing inventories from FIFO to LIFO. What
type of accounting change does this represent?
a. A change in accounting estimate for which the financial statements for
prior periods included for comparative purposes should be presented as
previously reported.
b. A change in accounting principle for which the financial statements for
prior periods included for comparative purposes should be presented as
previously reported.
c. A change in accounting estimate for which the financial statements for
prior periods included for comparative purposes should be restated.
d. A change in accounting principle for which the financial statements for
prior periods included for comparative purposes should be restated.

10. Which type of accounting change should always be accounted for in current and
future periods?
a. Change in accounting principle

b. Change in reporting entity

c. Change in accounting estimate
d. Correction of an error

11. Which of the following is (are) the proper time period(s) to record the effects of a
change in accounting estimate?
a. Current period and prospectively
b. Current period and retrospectively
c. Retrospectively only
d. Current period only

12. When a company decides to switch from the double-declining balance method to
the straight-line method, this change should be handled as a
a. change in accounting principle.

b. change in accounting estimate.

c. prior period adjustment.
d. correction of an error.

13. The estimated life of a building that has been depreciated 30 years of an originally
estimated life of 50 years has been revised to a remaining life of 10 years. Based
on this information, the accountant should
a. continue to depreciate the building over the original 50-year life.
 b. depreciate the remaining book value over the remaining life of the asset.
c. adjust accumulated depreciation to its appropriate balance, through net
income, based on a 40-year life, and then depreciate the adjusted book
value as though the estimated life had always been 40 years.
d. adjust accumulated depreciation to its appropriate balance through
retained earnings, based on a 40-year life, and then depreciate the
adjusted book value as though the estimated life had always been 40
years.

14. Which of the following statements is correct?

a. Changes in accounting principle are always handled in the current or
prospective period.
b. Prior statements should be restated for changes in accounting
estimates.
c. A change from expensing certain costs to capitalizing these costs due to
a change in the period benefited, should be handled as a change in
accounting estimate.
d. Correction of an error related to a prior period should be considered as
an adjustment to current year net income.

15. Which of the following describes a change in reporting entity?

a. A company acquires a subsidiary that is to be accounted for as a
purchase.
b. A manufacturing company expands its market from regional to
nationwide.
c. A company divests itself of a European branch sales office.
d. Changing the companies included in combined financial statements.

16. Presenting consolidated financial statements this year when statements of

individual companies were presented last year is
a. a correction of an error.
b. an accounting change that should be reported prospectively.
c. an accounting change that should be reported by restating the financial
statements of all prior periods presented.
d. not an accounting change.

17. An example of a correction of an error in previously issued financial statements is a

change
a. from the FIFO method of inventory valuation to the LIFO method.
b. in the service life of plant assets, based on changes in the economic
environment.
c. from the cash basis of accounting to the accrual basis of accounting.
d. in the tax assessment related to a prior period.
18. Counterbalancing errors do not include
a. errors that correct themselves in two years.
b. errors that correct themselves in three years.
c. an understatement of purchases.
d. an overstatement of unearned revenue.

19. A company using a perpetual inventory system neglected to record a purchase of

merchandise on account at year end. This merchandise was omitted from the year-
end physical count. How will these errors affect assets, liabilities, and stockholders'
equity at year end and net income for the year?
Assets Liabilities Stockholders' Equity
Net Income
a. No effect Understate Overstate Overstate.
b. No effect Overstate Understate Understate.
c. Understate Understate No effect No effect.
d. Understate No effect Understate Understate.

20. If, at the end of a period, a company erroneously excluded some goods from its
ending inventory and also erroneously did not record the purchase of these goods
in its accounting records, these errors would cause
a. the ending inventory and retained earnings to be understated.
b. the ending inventory, cost of goods sold, and retained earnings to be
understated.
c. no effect on net income, working capital, and retained earnings.
d. cost of goods sold and net income to be understated.

21. According to PAS 8, these are those adopted by an entity in preparing and
presenting its financial statements which shall be applied consistently.
b. Accounting estimates
c. Accounting policies
d. PFRSs
e. Debit credit

22. Early application of a PFRS is

b. a voluntary change in accounting policy.
c. not a voluntary change in accounting policy.
d. an involuntary change in accounting policy.
e. a prior period error

23. If an asset-related account (e.g., prepaid insurance) is understated,

b. profit for the year is overstated
c. cost of sales for the year is also understated
 d. working capital is overstated
e. profit for the year is also understated

24. Which of the following correctly relate to the effects of failure to recognize
adjustments?
Failure to Recognize Effect on profit Effect on statement of financial position

I. Consumption of the Understates profit Overstates assets Overstates retained

benefits of an asset earnings
II. Earning of previously Understates profit Overstates liabilities Understates
unearned revenues retained earnings
III. Accrual of assets Understates profit Understates assets Overstates retained
earnings
IV. Accrual of liabilities Overstates profit Overstates liabilities Overstates retained
earnings
a. IV b. I and III c. II d. II and III

For problems 25 and 26:

On January 10, 20x2, prior to the authorization of LIBERTINE IMMORAL Co.’s

December 31, 20x1 financial statements for issue, the accountant of LIBERTINE
Co. received a bill for an advertisement made in the month of December 20x1
amounting to ₱1,600,000. This expense was not accrued as of December 31,
20x1.

25. The correcting entry, if the books are still open, includes
b. a debit to advertising expense for ₱1,600,000
c. a credit to advertising income for ₱1,600,000
d. a debit to retained earnings for ₱1,600,000
e. a credit to retained earnings for ₱1,600,000

26. The correcting entry, if the books are already closed, includes
b. a debit to advertising expense for ₱1,600,000
 c. a credit to advertising income for ₱1,600,000
d. a debit to retained earnings for ₱1,600,000
e. a credit to retained earnings for ₱1,600,000

27. On January 15, 20x3 while finalizing its 20x2 financial statements,
DIAPHANOUS TRANSPARENT Co.
discovered that depreciation expense recognized in 20x1 is overstated by
₱1,600,000. Ignoring income tax, the entry to correct the prior period error
includes
b. a debit to depreciation expense for ₱1,600,000
c. a debit to retained earnings for ₱1,600,000
d. a credit to depreciation expense for ₱1,600,000
e. a debit to accumulated depreciation for ₱1,600,000

Use the following information for the next two questions:

On January 10, 20x2, prior to the authorization of LIBERTINE IMMORAL Co.’s
December 31, 20x1 financial statements for issue, the accountant of LIBERTINE
Co. received a bill for an advertisement made in the month of December 20x1
amounting to ₱1,600,000. This expense was not accrued as of December 31,
20x1.

28. The correcting entry, if the books are still open, includes
e. a debit to advertising expense for ₱1,600,000
f. a credit to advertising income for ₱1,600,000
g. a debit to retained earnings for ₱1,600,000
h. a credit to retained earnings for ₱1,600,000

29. The correcting entry, if the books are already closed, includes
e. a debit to advertising expense for ₱1,600,000
f. a credit to advertising income for ₱1,600,000
g. a debit to retained earnings for ₱1,600,000
h. a credit to retained earnings for ₱1,600,000

30. Which method is the best explanation why accounting changes are
classified into different categories?
a. A survey of managers and their need to provide a favorable profit
picture.
b. Each category involves different method of recognizing changes in the
financial statements.
c. The materiality of the changes involved.
d. The fact that some treatments are considered GAAP and some are not.