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IAS 8 Accounting Policies, Changes in Estimates and Correction of Errors A Study For Success Scheme 2009-2010 College of Accounts and Finance
Imran Ahmad Khan ACA
Overview
Objectives, Scope and Definitions Selection and Application of Accounting Policies Changes in Accounting Policies Changes in Accounting Estimates Prior Period Errors Impracticability in respect of Retrospective Application and Retrospective Restatement Class Practice Questions Exam Type Questions
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Illustration 1 Multi Ltd commenced trading two years ago, on 1 January 2006, and adopted the accounting policy (then allowed by IAS 23 )of recognising all interest costs in profit or loss. Its draft statement of financial position at 31 December 2007, and its final statement of financial position for the previous year are as follows: 2007 2006 CUm CUm Property, plant and equipment 284 241 Other assets 899 900 1,183 1,141 Share capital 100 100 Retained earnings year ended 2006 41 41 year ended 2007 42 Liabilities 1,000 1,000 1,183 1,141 Borrowing costs attributable to qualifying assets of CU10 million have been recognised in P/L in each year. The revised IAS 23 requires borrowing costs attributable to qualifying assets to be recognised as part of the cost of those assets. Multi Ltd has designated 1 January 2006as the date on which the new standard should be adopted.
This change in accounting policy should be applied retrospectively as follows (the tax implications as a consequence of this change and the potential impact on depreciation have been ignored for the purposes of this illustration): Restated 2006 CUm 251 900 1,151 100 51 1,000 1,151
2007 Cum Property, plant & equip (284+10+10) / (241+10) 304 Other assets 899 1,203 Share capital 100 Retained earnings year ended 2006 (41+10) 51 year ended 2007 (42+10) 52 Liabilities 1,000 1,203
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As more up-to-date information becomes available estimates should be revised to reflect this new information. These are changes in estimates and are not changes in accounting policies or the correction of errors By its very nature the revision of an estimate to take account of more up to date information does not relate to prior periods. Instead such a revision is based on the latest information available and therefore should be recognised in the period in which that change arises. The effect of a change in an accounting estimate should therefore be recognised prospectively, i.e. by recognising the change in the current and future periods affected by the change.
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Examples of such errors are: mathematical errors; mistakes in applying an accounting policy; oversights or misinterpretation of facts; and Fraud. IAS 8 requires that these errors are adjusted in those past periods in which the error arose rather than in the current period. Adjustment in the current period would lead to a distorted result in the period in which the error was identified. Retrospective restatement corrects the FS as if the prior period error had never occurred. If it is impracticable to determine the effect on an individual period of an error, then the adjustment should be made to the opening balance of the earliest period in which it is possible to identify such information. It is important to distinguish between prior period errors and changes in accounting estimates. Accounting estimates are best described as approximations, being the result of considering what is likely to happen in the future, for example how many customers will pay their outstanding invoices and the period over which non-current assets can be used productively within the business. By their very nature estimates result from judgments made on the basis of information available at the time they are made, so they may need to be adjusted in the future, in the light of additional information becoming available. Prior period errors, on the other hand, result from discoveries which undermine the reliability of the previously published FS, for example unrecorded income and expenditure, fictitious inventory or the incorrect application of accounting policies such as classifying maintenance expenses as part of the cost of non-current assets. Prior period errors should be rare.
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Illustration 4 During 20X2, Beta Co discovered that some products that had been sold during 20X1 were incorrectly included in inventory at 31 December 20X1 at CU6,500. Betas accounting records for 20X2 show sales of CU104,000, cost of goods sold of CU86,500 (including CU6,500 for the error in opening inventory), and income taxes of CU5,250. In 20X1, Beta reported: CU Sales 73,500 Cost of goods sold (53,500) Profit before income taxes 20,000 Income taxes (6,000) Profit 14,000 20X1 opening retained earnings was CU20,000 and closing retained earnings was CU34,000. Betas income tax rate was 30 per cent for 20X2 and 20X1. It had no other income or expenses. Beta had CU5,000 of share capital throughout, and no other components of equity except for retained earnings. Its shares are not publicly traded and it does not disclose earnings per share.
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5,000
Sales Cost of goods sold Profit before income taxes 24,000 Income taxes (7,200) Profit 16,800
5,000
29,450 16,800
5,000
46,250
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Impracticability
Impracticable Applying a requirement is impracticable when the entity cannot apply it after making every reasonable effort to do so. For a particular prior period, it is impracticable to apply a change in an accounting policy retrospectively or to make a retrospective restatement to correct an error if: a) the effects of the retrospective application or retrospective restatement are not determinable; b) the retrospective application or retrospective restatement requires assumptions about what managements intent would have been in that period; or c) the retrospective application or retrospective restatement requires significant estimates of amounts and it is impossible to distinguish objectively information about those estimates that: i. provides evidence of circumstances that existed on the date(s) as at which those amounts are to be recognised, measured or disclosed; and ii. would have been available when the financial statements for that prior period were authorized for issue from other information.
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