CHAPTER 22

Accounting for Changes and Error Analysis

ASSIGNMENT CLASSIFICATION TABLE (BY TOPIC)

Brief  Concepts
Topics Questions Exercises Exercises Problems for Analysis
1. Differences between change in 2, 4, 6, 7, 8, 8 3 1, 2, 3, 4
principle, change in estimate, 9, 12, 13,
errors. 15,
2. Accounting changes:
a. Comprehensive. 1, 10, 11 3, 6, 7 1, 2, 4, 5
b. Changes in estimate, 6, 8, 18 4, 5, 9 6, 7, 8, 9, 1, 2, 4, 1, 2, 3,
changes in depreciation 10, 11, 12, 6, 7 4, 5, 6
methods.
c. Changes in accounting 2, 10 1, 2, 10 1, 8, 13 3 1
for long-term construction
contracts.
d. Change from FIFO 2 10 4, 8, 14 5 1, 2, 3
to average cost.
e. Change from average cost 3 2, 3, 5, 2 4
to FIFO. 8, 14
f. Miscellaneous. 1, 3, 4, 5 9 1, 5
3. Correction of an error.
a. Comprehensive. 8, 9, 14, 8, 9, 10 8, 15, 16, 3, 6, 7, 2, 3, 4
15,17 18, 19, 8, 9, 10
20, 21
b. Depreciation. 2, 18, 20 6, 7 9, 15, 1, 6, 8
17, 18
c. Inventory. 9, 16, 19 10 7, 15,17, 2, 10 1, 2
18, 20
ASSIGNMENT CLASSIFICATION TABLE (BY LEARNING
OBJECTIVE)

Brief Concepts
Learning Objectives Exercises Exercises Problems for Analysis

1. Discuss the types of 1, 2, 3, 1, 2, 3, 4, 5, 2, 3, 5 1, 2, 3, 4

accounting changes and 9, 10 8, 13, 14
the accounting for
changes in accounting
policies.

2. Describe the accounting 4, 5, 9 6, 7, 8, 9, 1, 2, 3, 4, 1, 2, 3, 4,

and reporting for changes 10, 11, 12 6 5, 6
of estimates.

3. Describe the accounting 6, 7, 8, 10 7, 8, 9, 15, 1, 2, 3, 6, 1, 2, 3, 4

for correction of errors. 16, 17, 18, 7, 8, 9, 10
19, 20, 21

4. Analyze the effect of 8 18, 19, 20, 6, 7, 8,

errors. 21 9, 10
ASSIGNMENT CHARACTERISTICS TABLE
Level of Time
Item Description Difficulty (minutes)
E22.1 Change in policy—long-term contracts. Moderate 10–15
E22.2 Change in policy—inventory methods. Moderate 10–15
E22.3 Accounting change. Complex 25–30
E22.4 Accounting change. Complex 25–30
E22.5 Accounting change. Complex 30–35
E22.6 Accounting changes—depreciation. Complex 30–35
E22.7 Change in estimate and error; financial statements. Moderate 25–30
E22.8 Accounting for accounting changes and errors. Simple 5–10
E22.9 Error and change in estimate—depreciation. Simple 15–20
E22.10 Depreciation changes. Moderate 20–25
E22.11 Change in estimate—depreciation. Simple 10–15
E22.12 Change in estimate—depreciation. Simple 20–25
E22.13 Change in policy—long-term contracts. Simple 10–15
E22.14 Various changes in policy—inventory methods. Moderate 20–25
E22.15 Error correction entries. Simple 15–20
E22.16 Error analysis and correcting entry. Simple 10–15
E22.17 Error analysis and correcting entry. Simple 10–15
E22.18 Error analysis. Moderate 25–30
E22.19 Error analysis and correcting entries. Simple 20–25
E22.20 Error analysis. Moderate 20–25
E22.21 Error analysis. Moderate 10–15

P22.1 Change in estimate and error correction. Moderate 30–35

P22.2 Comprehensive accounting change and error analysis problem. Complex 30–40
P22.3 Error corrections and accounting changes. Complex 30–40
P22.4 Accounting changes. Moderate 40–50
P22.5 Change in policy—inventory—periodic. Moderate 30–35
P22.6 Accounting changes and error analysis. Moderate 25–30
P22.7 Error corrections. Moderate 25–30
P22.8 Comprehensive error analysis. Complex 30–35
P22.9 Error analysis. Moderate 20–25
P22.10 Error analysis and correcting entries. Complex 50–60

CA22.1 Analysis of various accounting changes and errors. Moderate 25–35

CA22.2 Analysis of various accounting changes and errors. Moderate 20–30
CA22.3 Analysis of three accounting changes and errors. Moderate 30–35
CA22.4 Analysis of various accounting changes and errors. Moderate 20–30
CA22.5 Changes in estimate. Moderate 20–30
CA22.6 Change in estimate, ethics. Moderate 20–30
 ANSWERS TO QUESTIONS

1. The major reasons why companies change accounting policies are:

(1) Desire to show better profit picture.
(2) Desire to increase cash flows through reduction in income taxes.
(3) Requirement by International Accounting Standards Board to change accounting
methods.
(4) Desire to follow industry practices.
(5) Desire to show a better measure of the company’s income.
LO: 1, Bloom: C, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

2. (a) Change in accounting policy; retrospective application to prior period financial

statements.
(b) Correction of an error and therefore prior period adjustment; adjust the beginning
balance of retained earnings.
(c) Increase income for litigation settlement.
(d) Change in accounting estimate; currently and prospectively. Part of operating
section of income statement.
(e) Reduction of accounts receivable and the allowance for doubtful accounts.
(f) Change in accounting policy; retrospective application to prior period financial
statements.
LO: 1, Bloom: AP, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

3. The three approaches suggested for reporting changes in accounting policies are:
(a) Currently—the cumulative effect of the change is reported in the current year’s
income as
a special item.
(b) Retrospectively—the cumulative effect of the change is reported as an adjustment
to retained earnings. The prior year’s statements are changed on a basis
consistent with the newly adopted policy.
(c) Prospectively—no adjustment is made for the cumulative effect of the change.
Previously reported results remain unchanged. The change shall be accounted
for in the period of the change and in subsequent periods if the change affects
future periods.
LO: 1, Bloom: C, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

4. The IASB believes that the retrospective approach provides financial statement users
the most useful information. Under this approach, the prior statements are changed on
a basis consistent with the newly adopted standard; any cumulative effect of the change
for prior periods is recorded as an adjustment to the beginning balance of retained
earnings of the earliest period reported.
LO: 1, Bloom: C, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

5. The indirect effect of a change in accounting policy reflects any changes in current or
future cash flows resulting from a change in accounting policy that is applied
retrospectively. An example is the change in payments to a profit-sharing plan that is
based on reported net income. Indirect effects are not included in the retrospective
application, but instead are reported in the period in which the accounting change
occurs (current period).
LO: 1, Bloom: K, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

6. A change in an estimate is simply a change in the way an individual perceives the

realizability of an asset or liability. Examples of changes in estimate are: (1) change in
the realizability of trade receivables, (2) revisions of estimated lives, (3) changes in
estimates of warranty costs, and
(4) change in estimate of deferred charges or credits.
LO: 2, Bloom: K, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication
Questions Chapter 22 (Continued)

7. This is an example of a situation in which it is difficult to differentiate between a change

in accounting policy and a change in estimate. In such a situation, the change should
be considered a change in estimate, and accordingly, should be handled currently and
prospectively. Thus, all costs presently capitalized and viewed as providing doubtful
future values should be expensed immediately, and costs currently incurred should
also be expensed immediately.
LO: 1,2, Bloom:AP, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

8. (a) Charge to expense—possibly separately disclosed.

(b) Change in estimate—account for currently and prospectively.
(c) Charge to expense—possibly separately disclosed.
(d) Correction of an error and reported as a prior period adjustment—adjust the
beginning balance of retained earnings.
(e) Change in accounting policy—retrospective application to all affected prior-period
financial statements.
(f) Change in accounting estimate—currently and prospectively.
LO: 1,2, Bloom: AP, Difficulty: Simple, Time: 10-15, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

9. This change is to be handled as a correction of an error. As such, the portion of the

change attributable to prior periods (CHF23,000) should be reported as an adjustment
to the beginning balance of retained earnings in the 2019 financial statements. If
statements for previous years are presented for comparative purposes, these
statements should be restated to correct for the error. The remainder of the inventory
value (CHF29,000) should be reported in the 2019 statements as a reduction of
materials cost.
LO: 3,4, Bloom: AP, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

10. Preferability is a difficult concept to apply. The problem is that there are no basic
objectives to indicate which is the most preferable method, assuming a selection between
two generally accepted practices is possible, such as cost-recovery and percentage-of-
completion. If an IASB standard creates a new policy or expresses preference for or
rejects a specific accounting policy, a change is considered clearly acceptable. A more
appropriate matching of revenues and expenses is often given as the justification for a
change in accounting policy.
LO: 3,4, Bloom: C, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

11. When a company changes to the new policy, the base-year amounts for all
subsequent calculations under the new method is the beginning balance in the year
the policy is adopted. This assumes that prior years’ income is not changed because it
would be too impractical to do so.
LO: 1,3, Bloom: C, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

12. Larger companies that are more politically visible may seek to report low income
numbers to avoid the scrutiny of regulators. The larger the company the more likely it
is to adopt income-decreasing approaches in selecting accounting methods.
LO: 1,2, Bloom: C, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

13. Some of the key reasons for changing accounting policies are: (1) political costs, (2)
capital structure, (3) bonus payments, and (4) smoothing of earnings.
LO: 1, Bloom: K, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

14. Counterbalancing errors are errors that will be offset or corrected over two periods.
Non-counterbalancing errors are errors that take longer than two periods to correct
themselves. An example of a counterbalancing error is the failure to record accrued
wages or prepaid expenses. Failure to capitalize equipment and record depreciation is
an example of a non-counterbalancing error.
LO: 3,4, Bloom: K, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication
Questions Chapter 22 (Continued)

15. A correction of an error in previously issued financial statements should be handled as

a prior-period adjustment. Thus, such an error should be reported in the year that it is
discovered as an adjustment to the beginning balance of retained earnings. And, if
comparative statements are presented, the prior periods affected by the error should
be restated. The disclosures need not be repeated in the financial statements of
subsequent periods.

As an illustration, assume that credit sales of €40,000 were inadvertently overlooked

at the end of 2019. When the error was discovered in a subsequent period, the
appropriate entry to record the correction of the error would have been (ignoring
income tax effects):

Accounts Receivable................................................................................... 40,000

Retained Earnings...............................................................................
40,000
LO: 3,4, Bloom: AP, Difficulty: Simple, Time: 10-15, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem
Solving

16. This change represents a change from an accounting policy that is not generally
accepted to an accounting policy that is acceptable. As such, this change should be
handled as a correction of an error. Thus, in the 2019 statements, the cumulative
effect of the change should be reported as an adjustment to the beginning balance of
retained earnings. If 2018 statements are presented for comparative purposes, these
statements should be restated to correct for the accounting error.

LO: 3,4, Bloom: AP, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

17. Retained earnings is correctly stated at December 31, 2020. Failure to accrue salaries
in earlier years is a counterbalancing error that has no effect on 2020 ending retained
earnings.
LO: 3,4, Bloom: AP, Difficulty: Simple, Time: 3-5, AACSB: None, AICPA BB: None, AICPA FC: Reporting, AICPA PC: Communication

18. December 31, 2019

Equipment................................................................................................... 6,000
Accumulated Depreciation—Equipment..............................................
600
Retained Earnings...............................................................................
5,400
(To correct for the error of expensing installation costs
on equipment acquired in January, 2018)

Depreciation Expense [(£36,000 – £3,600) ÷ 20]........................................ 1,620

Accumulated Depreciation—Equipment..............................................
1,620
(To record depreciation on equipment for 2019 based
on a 20-year useful life)
LO: 2,4, Bloom: AP, Difficulty: Simple, Time: 10-15, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem
Solving

19. This error has no effect on net income because both purchases and inventory were
understated. The entry to correct for this error, assuming a periodic inventory system,
is:

Purchases................................................................................................... 130,000
Accounts Payable...............................................................................
130,000
LO: 3,4, Bloom: AP, Difficulty: Simple, Time: 5-12, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem
Solving

20. This error decreases net income by $2,400 in 2019. Depreciation should have been
charged to net income. The entry to correct for this error is as follows:

Depreciation Expense................................................................................. 2,400

Accumulated Depreciation—Equipment..............................................
2,400
LO: 3,4, Bloom: AP, Difficulty: Simple, Time: 5-12, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem
Solving
 SOLUTIONS TO BRIEF EXERCISES

BRIEF EXERCISE 22.1

Construction in Process ($120,000 – $80,000).......... 40,000

Deferred Tax Liability
 [($120,000 – $80,000) X 35%]............................
14,000
Retained Earnings ($40,000 - $14,000)...............
26,000
LO: 1, Bloom: AP, Difficulty: Simple, Time: 5-7, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem Solving

BRIEF EXERCISE 22.2

Difference in profit-sharing expense—prior years

Pre-tax income—percentage-of-completion............. $120,000
Pre-tax income—cost-recovery.................................. 80,000
$ 40,000
X 1%
Indirect effect............................................. $ 400

The indirect effect from prior years will be reported as a profit-sharing

expense for year 2019.
LO: 1, Bloom: AP, Difficulty: Simple, Time: 5-10, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem
Solving

BRIEF EXERCISE 22.3

Inventory....................................................................... 1,200,000
Deferred Tax Liability (€1,200,000 X 40%)..........
480,000
Retained Earnings (€1,200,000 - €480,000)........
720,000
LO: 1, Bloom: AP, Difficulty: Simple, Time: 5-7, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem Solving

BRIEF EXERCISE 22.4

Cost of depreciable assets..........................................

$250,000
Depreciation to date.....................................................
(90,000)
Carrying value at January 1, 2019..............................
160,000
Residual value..............................................................
(40,000)
Depreciable base..........................................................
$120,000

Depreciation in 2019 = $120,000 ÷ 8 = $15,000*.

Depreciation Expense.................................................. 15,000*

Accumulated Depreciation..................................
15,000
LO: 2, Bloom: AP, Difficulty: Simple, Time: 5-10, AACSB: Analytic, AICPA BB: Critical Thinking, AICPA FC: Reporting, AICPA PC: Problem
Solving