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Summary CHANGE IN ACCOUNTING ESTIMATES AND ERRORS
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the document will basically explain how to account for a change in accounting estimates and how to correct errors.
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CHANGE IN ACCOUNTING ESTIMATES• Accounting estimates are defined as monetary amounts in financial statements that are
subject to measurement UNCERTAINTY.
• Accounting policies require an element to be measured in amount that can be observed or it's
an amount that cannot be observed
• in amount that can directly be observed for an example is the measurement of PPE we can
see the amount in the purchase contract.
• an amount that cannot be directly observed is the depreciated amount which requires us to
estimate the depreciation.
• If an amount cannot be directly observed, we see that there is measurement uncertainty
• So, in this regard in order to achieve accounting policy objective we are often required to
make estimates.
• Almost as estimates are made we will also be able to type identify if the estimates that we've
made in the previous year was overstated or understated. these are notes errors as estimates
on their nature needs to be adjusted when new information comes into play.
• for an example consider in assets of PPE we do useful life of 10 years is depreciated at 10%
per annum when a straight-line method. after five years into play we find that the useful life
has changed to 8 years since its inception so it would be incorrect to continue to depreciate
the asset for 10 years because after eight years it will have no value. This 3-year difference is
not an error it's simple a change in estimates.
• If we encounter a situation where we are not able to identify with that this is a change in
estimate or a change in accounting policy, we should account that transition as a change in
estimate as it is simpler to account for a change in estimates rather than a change in
accounting policies.
,how to adjust for a change in accounting estimates
• In changing accounting estimates is applied prospectively
• this means that a change in estimates will affect the current. Current and future. As well.
• Consider these two examples.
• a change in the credit loss allowances people who owed us money will only affect the current
year's profit where is it changing the useful life of an asset will affect the current year's profit
as well as the future is profit.
• this is what is meant by prospectively because there is a chance that that estimate will only
affect the current or will affect the current as well as the future yes profit.
• There are two main doors that you can use to make a change in estimates.
• it's the reallocation method as well as the cumulative catch-up method.
• The cumulative catch up method ensures that the balances on the statements are of latest
value. it takes into affect the adjustments that have occurred in the previous year and
therefore distort the current year profit.
• the reallocation method ensures that there is no adjustment in the current year's balances for
once his work it in the previous year. they simply take the opening balance in reallocated to
the remaining yes. this however means that the states means are not updated to their latest
figures.
• consider an example we bought a vehicle in 2020, for 500,000 with the useful life of 10 years.
the depreciation is on a straight line method. this means that in 2020 we would record a
depreciation of 50,000, 2021 record 50,000 as well. but if in 2022 we are made away of the
faith that the useful life of an asset has now decreased too eight years how are we going to
account for this.
1. cumulative method (we start from the beginning)
The accumulative method start from the beginning in calculates depreciation using the new
useful life. the difference between last year's closing balance in these years carrying amount
will be our depreciation for the current year.
2. reallocation method (si re allocate from the date I useful life eshintshe ngayo)
The reallocation method will simply take the carrying amount and divided by the remaining
useful life. two years have passed by, so it is going to be 8 - 2 which gives us six years. the
carrying amount would have at that point been 400,000. they will simply say 400,000 divided
by 6m, therefore, the depreciation will be 66,667.
, EXAMPLE:
SOLUTIONS:
1. Check which method is used reallocation or cumulative
2. draw a table
3. check if by the time of the estimate depreciation was already
processed or not.
Reallocation calculations was is difference
method
Cost 500 000
Acc (200 000)
depreciation
before a change
Carrying 300 000
amount before
a change
Remaining 5-2 4-2
useful life =3 years left =2 years left
Depreciation Carrying amount/ 300 000/3 300 000/2 (50 000)
for the year it remaining useful =100 000 =150 000 (more
life
changed depreciation)
Carrying 200 000 150 000 (50 000)
amount for the
year it changed
Depreciation (200 000) (150 000) 50 000
for the future
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