TOPIC 2 MFRS108 ACCOUNTING POLICIES, CHANGES IN ACCOUNTING ESTIMATES AND ERRORS
INTRODUCTION to MFRS 108 • The objective of this Standard is to prescribe the criteria for selecting and changing accounting policies, together with the accounting treatment and disclosure of changes in accounting policies, changes in accounting estimates and corrections of errors. • The Standard is intended to enhance the relevance and reliability of an entity's financial statements, and the comparability of those financial statements over time and with the financial statements of other entities.
INTRODUCTION TO MFRS Objective of MFRS 108 • To Prescribe The Criteria, Accounting Treatment, Presentation And Disclosure Of CHANGES IN ACCOUNTING POLICIES CHANGES IN ACCOUNTING ESTIMATES ERRORS
INTRODUCTION to MFRS 108 • This Standard shall be applied in selecting and applying accounting policies, and accounting for changes in accounting policies, changes in accounting estimates and corrections of prior period errors. • Accounting policies are the specific principles, bases, conventions, rules and practices applied by an entity in preparing and presenting financial statements. A change in accounting estimate • is an adjustment of the carrying amount of an asset or a liability, or the amount of the periodic consumption of an asset, that results from the assessment of the present status of, and expected future benefits and obligations associated with, assets and liabilities. Changes in accounting estimates result from new information or new developments and, accordingly, are not corrections of errors.
INTRODUCTION to MFRS 108 • Material Omissions or misstatements of items are material if they could, individually or collectively, influence the economic decisions of users taken on the basis of the financial statements. Materiality depends on the size and nature of the omission or misstatement judged in the surrounding circumstances. The size or nature of the item, or a combination of both, could be the determining factor. • Errors include the effects of mathematical mistakes, mistakes in applying accounting policies, oversights or misinterpretations of facts, and fraud. • An entity may discover errors during current period which relates to prior period. Prior period errors are omissions from, and misstatements in, the entity's financial statements for one or more prior periods arising from a failure to use, or misuse of, reliable information that • i) was available when financial statements for those periods were authorized for issue; and • Ii) could reasonably be expected to have been obtained and taken into account in the preparation and presentation of those financial statements.
CHANGES IN ACCOUNTING POLICIES What is accounting policies? “MFRS 108 defines accounting policies as ‘specific principles, bases, conventions, rules and practices applied by an entity in preparing and presenting financial statements’. ” • Where there is a specific standard or interpretation which is applicable to a transaction, event or condition, the accounting policy applied is to be determined by applying the requirements of that standard or interpretation. • Consistency Accounting policies should be applied consistently for similar transaction, events and conditions. Principle of consistency is also applicable to categories if categorisation is permissible.
CHANGES IN ACCOUNTING POLICIES • Accounting policies selected are to be applied consistently, but there are circumtances when a changes in accounting policy is allowed. • The situation are: • 1. required by MFRS or mandatory change • 2. discretionary change or voluntary change / example MFRS 140, change cost model to fair value model for investment property.
TREATMENT OF CHANGES IN ACCOUNTING POLICY 1. apply the change retrospectively. • a. adjustment is done as if the new accounting policy has always been applied before • b. Adjustment to the openings balance of retained earnings. Extracted Statement of Changes of Equity b/f Retained Earnings xxx (+/-) prior year adjustment xxx c/f Restated Retained Earnings xxx • Retrospective application is applying a new accounting policy to transactions, other events and conditions as if that policy had always been applied.” • Retrospective restatement • is correcting the recognition, measurement and disclosure of amounts of elements of financial statements as if a prior period error had never occurred.
TREATMENT OF CHANGES IN ACCOUNTING POLICY Example: In 2020, Astana changed an accounting policy. Retained profit on 1 January 2020 before changes the accounting policy was RM 1,000,000. The cumulative effect of the change in accounting policy is decreased of RM 100,000 in Retained Earnings on 1 January 2020. Answer: Restated the beginning Retained Earning for 2020. RM Retaining Earnings 1/1/2020 1,000,000 (-) prior year adjustment (100,000) Restated Retained Earnings 1/1/2020 900,000
TREATMENT OF ERRORS: • 1. Retrospectively - prior period error – adjustment the opening balance of retained earnings • 2. Prospectively ** – current period error – adjustment to all the effected accounts during current period. ERROR
TREATMENT OF ERROR (CURRENT YEAR ERROR)- PROSPECTIVELY How to correct the ERROR ? EXAMPLE 1: The company pay rental expenses amounting RM 500 by cash. But the entry is omitted from accounting book. Answer: • Dt Rental Expenses RM 500 • Ct Cash RM 500 EXAMPLE 2: The company purchases goods on credit from AMN Sdn Bhd amounting RM 530. But the entry was recorded in purchase ledger amount of RM 550. • DT Purchases RM 550 • CT Creditor AMN Sdn Bhd RM 550 Answer: • Dt Creditor AMN Sdn Bhd RM 20 • Ct Purchases RM 20
EXAMPLE 3: The company paid repair of machine by cash RM 300 but the entry was wrongly debited into Machinery Account . • DT Machinery Account RM300 • CT Cash RM300 Answer: • Dt Repair of machinery (expenses) RM300 • Ct Machinery RM300 EXAMPLE 4: The company purchased goods on credit from Mr. William RM 1,000 but the entry was wrongly credited to Mr. Willy . • DT Purchased RM1,000 • CT Creditor Mr. Willy RM1,000 Answer: • Dt Creditor Mr.Willy RM 1,000 • Ct Creditor Mr. William RM 1,000 TREATMENT OF ERROR (CURRENT YEAR ERROR)- PROSPECTIVELY
EXERCISE : • 1. The company purchased goods on credit from ABC Bhd RM 1,500 but the entry was wrongly recorded amount of RM 1,200. • 2. General expenses amounting RM 150 was recorded into Purchases Account. • 3. Drawings goods RM 2,000 was credited to cash account. • 4. The company received cash from ABC Bhd RM 1,100 but the entry was wrongly recorded amount of RM 1,300. • 5. Cash received RM 1,000 was received from Mr.Bean was recorded as credit Cash Account and debit Mr.Bean Account Prepare the correction entries for the errors.
ANSWER OF ERROR 1.Dt Purchases RM 300 • Ct ABC Bhd RM 300 2. Dt General Expenses RM 150 • Ct Purchases RM 150 3. DT Cash RM 2,000 • Ct Purchases RM 2,000 4. DT ABC Bhd RM 200 • Ct Cash RM 200 5. DT Cash RM 2,000 • CT Mr. Bean RM2,000
TREATMENT OF ERROR (PRIOR PERIOD YEAR ERROR)- RETROPROSPECTIVELY How to correct the PRIOR PERIOD ERROR ? (RETROSPECTIVE – adjustment the opening balance of Retained Earnings) Example 1: In 2019, it was discovered that payment made to trade supplier total RM 100,000 in 2018 was accounted as employee salaries. ** Dt Employee salary(expenses) 100,000 CT Bank 100,000 Answer: • Dt Account Payable RM 100,000 • Ct Retained Earnings RM 100,000
EXAMPLE 2: On 1 January 2019, ABC Bhd bought 4 units of premises amounting RM4,000,000. The company depreciated at rate 5% per annum on cost on yearly basis. During financial year ended 31 December 2019, the company carried out some extension to the buildings amount of RM 500,000 on 1 January 2019. Its was treated as maintenance expenses (revenue expenditure). The matter was discovered on 1 June 2020. The current financial year was 31 December 2020. Opening balance of Retained Earnings on 1 January 2020 was RM 1,500,000. Error 1: in recording the cost of extentions: (year ended 31/12/2019) • Dt Maintenance Expenses RM 500,000 • CT Cash RM 500,000 Correction of the error: (On year ended 31/12/2020) • Dt Buildings RM 500,000 Ct Retained Earnings RM 500,000
• Error 2: To record the depreciation for extension buidings • Depreciation (expenses): • = 5% x 500,000 = 25,000 per year. • The unrecorded depreciation was for year 2019 was 25,000. Answer: • Dt Retained Profit b/d RM 25,000 (prior year- year 2019) • Depreciation (SOP/L) 25,000 (current year- year 2020) • Ct Accumulated Depreciation- Buildings RM 50,000 Extracted Statement of Changes Equity for Year Ended 31 December 2020: RM Bal b/f Retained Earning on 1/1/2020 1,500,000 (-) Prior year adjustment: Building cost capitalised 500,000 (-) understated depreciation –prior year (25,000) Restated balance b/f as at 1/1/2020 1,975,000
Extracted Statement Of Financial Position for year ended 31 December 2020: RM NON CURRENT ASSETS Buildings (4,000,000+500,000) 4,500,000 (-) Accumulated depreciation (4,000,000x5% x 2)+(500,000X 5%x 2) (450,000) Carrying value 4,050,000
CHANGES IN ACCOUNTING ESTIMATES Due to the uncertainties inherent in business activities, many financial statement items cannot be measured with precision but can be only estimated. The estimation process involves judgement based on the latest information that is reliable. Example: i. Revised useful life of non current assets ii. % rate of depreciation iii. Increased or decreased the rate of allowance for impairment of trade receivable. A change in accounting estimate is an adjustment of the carrying amount of an asset or liability, or related expense, resulting from reassessing the expected future benefits and obligations associated with that asset or liability. a. The effect of a change in an accounting estimate shall be recognized prospectively by including it in profit or loss in: i. the period of the change, if the change affects that period only. example: changes in allowance for impairment of trade receivable ii. the period of the change and future periods, if the change affects both. example: change in estimated useful life of an assets.
CHANGES IN ACCOUNTING ESTIMATES b. Prospective application i. applying the new accounting estimate to transactions to events occurring after the date the estimates is charged. ii. Recognizing the effect of the change in the current and future periods affected by the change. Example: On 1 January 2016, XYZ Bhd bought a machine for RM 150,000 by cash. The machine is expected to have useful life of 10 years with no scrap value. However, in January 2020, due to frequent usage which exceeded the recommended guideline, the company decided to change the estimated useful life from 10 years to 8 years. Answer: *** changes in useful life.. ( Prospective) - its change the current period and future period.
TREATMENT OF CHANGES IN ESTIMATES In 2016 On the date of purchase COST OF MACHINE = RM 150,000 Useful life : 10 years. Depreciation = RM 150,000/10 years = RM 15,000 per year. Carrying value on 2019 = Cost – Accumulated Depreciation = 150,000 – (15,000 x 4) = 90,000 On 2020, useful life 10 years change to 8 years. so balance useful life = 4 years ( 8-4 years) Depreciation on 2020 = RM 90,000/ 4 = RM 22,500 Adjustment on 2020: • Dt Depreciation RM 22,500 • Ct Accumulated Depreciation RM 22,500
EXERCISE: • 1. The company purchased a plant costing RM 400,000 on 1 July 2019. and depreciated the plant on straight line basis over 10 years. On 1 July 2021, due to heavy usage, the estimated useful life of plant was revised to 5 years. • 2. Payment to trade payable amounted to RM 150,000 in April 2019 was wrongly recorded as repair and maintenance. • 3. A sum of RM 500,000 collected from trade receivables was misappropriated by one of the account clerks in May 2019. This was discovered in June 2020 and no adjustment has been made to rectify the losses due to fraud. • 4. A machinery costing RM 60,000 and residual value of RM 3,000 was acquired on 1 July 2016 and depreciated on straight line basis over 15 years. As at 1 July 2019, the remaining useful life of the machinery was revised to 10 years with no residual value.
EXERCISE • 5. On 1 July 2018, LALA Bhd bought a buildings amounting RM 1,000,000. The company depreciated at rate 7% per annum on cost on yearly basis. • During financial year ended 30 June 2020, the company carried out some extension to the buildings amount of RM 200,000. Its was treated as expenses (revenue expenditure). The matter was discovered on 1 June 2021. The current financial year was 30 June 2021. • Opening balance of Retained Earnings on 1 July 2020 was RM 850,000. • You are required to: • 1. Prepare the adjusting entries for all transaction above. • 2. Compute the Restated Beginning Balance for Retained Earnings on 1 July 2020..