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Dubai

Change In Accounting Policy And Estimate

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Published in: Accounting
2,086 Views

Change in accounting policy and estimate applicable standard in UAE.

Clent M / Dubai

5 years of teaching experience

Qualification: Certified Public Accountant

Teaches: Olympiad Exam Preparation, Finance, Mathematics, Accounting, CPA

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  1. CHANGES IN ACCOUNTING POLICY Illustration: Cherokee Construction Company changed from the cost- recovery to the percentage-of-completion method of accounting for long-term construction contracts during 2015. For tax purposes, the company employs the cost-recovery method and will continue this approach in the future. (Hint: Adjust all tax consequences through the Deferred Tax Liability account.) The appropriate information related to this change is as follows. Pretax Income from 2014 2015 22-1 Percentage-of-Completion $780,000 700,000 Cost-Recovery $610,000 480,000 Difference $170,000 220,000 L03
  2. CHANGES IN ACCOUNTING POLICY Pretax Income from 2014 2015 Percentage-of-Completion $780,000 700,000 Cost-Recovery $610,000 480,000 Difference $170,000 220,000 Instructions: (assume a tax rate of 35%) (a) What entry(ies) are necessary to adjust the accounting records for the change in accounting principle? (b) What is the amount of net income and retained earnings that would be reported in 2015? Assume beginning retained earnings for 2014 to be $1 OO,OOO. 22-2 L03
  3. CHANGES IN ACCOUNTING POLICY Pre-Tax Income from Long-Term Contracts Date of-Completion 2014 $ 780,000 2015 700,000 Cost- Recovery $ 610,000 480,000 Difference 170,000 220,000 Tax Effect 59,500 77,000 170,000 Journal entry (recorded in 2015) Construction in Process Deferred Tax Liability Retained Earnings 22-3 Net of Tax $ 110,500 143,000 59,500 llO,500 L03
  4. CHANGES IN ACCOUNTING POLICY Comparative Statements 2015 Income Statement Statement of Retained Earnings 22-4 P re-tax i ncome Income tax (35%) Net income Beg. Retained earnings Accounting change Beg. R/Es restated Net income End. Retained earnings Restated 2014 $ 100,000 Previous 2014 610,ooo 213,500 396,500 I OO,OOO I OO,OOO 396,500 496,500 L03
  5. o impty 22-5
  6. CHANGES IN ACCOUNTING ESTIMATE Illustration: Arcadia HS purchased equipment for $510,000 which was estimated to have a useful life of 10 years with a salvage value of $10,000 at the end of that time. Depreciation has been recorded for 7 years on a straight-line basis. In 2015 (year 8), it is determined that the total estimated life should be 15 years with a salvage value of $5,000 at the end of that time. Required: What is the journal entry to correct prior years' depreciation expense? Calculate depreciation expense for 2015. 22-6 No Entry Required L05
  7. CHANGES IN ESTIMATE Equipment cost Residual value Depreciable base Useful life (original) Annual depreciation $510,000 10 000 500,000 10 years $ 50,000 After 7 years First, establish book value at date of change in estimate. Statement of financial position Property, Plant, and Equipment: Equipment Accumulated depreciation Book value (BV) 22-7 = $350,000 x 7 years (Dec. 31, 2014) $510,000 350,000 $160,000 L05
  8. CHANGES IN ACCOUNTING ESTIMATE Book value Residual value (if any) Depreciable base Useful life Annual depreciation Journal entry for 2015 Depreciation expense Accumulated depreciation 22-8 Second, calculate depreciation expense for 2015. 19,375 19,375 L05
  9. o impty 22-9
  10. Example of Error Correction Illustration: In 2016 the book keeper for Selectro Company discovered an error. In 2015 the company failed to record 220,000 of depreciation expense on a newly constructed building. This building is the only depreciable asset Selectro owns. The company correctly included the depreciation expense in its tax return and correctly reported its income taxes payable. 22-10 L06
  11. Example of Error Correction Selectro's income statement for 2015 with and without the error. SELECTRO COMPANY INCOME STATEMENT FOR THE YEAR ENDED, DECEMBER 31, 2015 ILLUSTRATION 22-17 Income before depreciation expense Depreciation expense Income before income tax Current Deferred Net income 232,000 Without Error 21 oo,ooo 20,000 80,000 32,000 c 48,000 C32,ooo 8,000 With Error El OO,OOO 1 oo,ooo 40,000 c 60,000 What are the entries that Selectro should have made and did make for recording depreciation expense and income taxes? 22-11 L06
  12. Example of Error Correction SELECTRO COMPANY INCOME STATEMENT FOR THE YEAR ENDED, DECEMBER 31 , 2015 ILLUSTRATION 22-17 With Error El OO,OOO Income before depreciation expense Depreciation expense Income before income tax Current Deferred Net income Entries Company Should Have Made (Without Error) 232,000 —0_ Without Error 21 oo,ooo 20,000 80,000 32,000 48,000 C32,ooo 8,000 1 oo,ooo 40,000 c 60,000 Entries Company Did Make (With Error) No entry made for depreciation Depreciation Expense Accumulated Depreciation — Buildings Income Tax Expense Income Taxes Payable 20,000 20,000 32,000 32,000 Income Tax Expense Deferred Tax Liability Income Taxes Payable 22-12 ILLUSTRATION 22-18 40,000 8,000 32,000 L06
  13. Example of Error Correction Entries Company Should Have Made (Without Error) ILLUSTRATION 22-18 Entries Company Did Make (With Error) No entry made for depreciation Depreciation Expense Accumulated Depreciation — Buildings Income Tax Expense Income Taxes Payable 20,000 20,000 32,000 32,000 Income Tax Expense Deferred Tax Liability Income Taxes Payable Income Statement Effects Depreciation expense (2015) is Income tax expense (2015) is Net income (2015) is Statement of Financial Position Effects Accumulated depreciation—buildings is Deferred tax liability is 22-13 40,000 8,000 32,000 L06
  14. Example of Error Correction Prepare the proper correcting entry in 2016, that should be made by Selectro. Entries Company Should Have Made (Without Error) ILLUSTRATION 22-18 Entries Company Did Make (With Error) No entry made for depreciation Depreciation Expense Accumulated Depreciation — Buildings 20,000 20,0 32,000 3 Income Tax Expense Income Taxes Payable Correcting Entry in 2016 22-14 Inco Tax Expense Deferre Liability e Taxes able Retained Earnings 40,000 8,000 32,000 12,000 L06
  15. Example of Error Correction Prepare the proper correcting entry in 2016, that should be made by Selectro. Entries Company Should Have Made (Without Error) ILLUSTRATION 22-18 Entries Company Did Make (With Error) No entry made for depreciation Depreciation Expense Accumulated Depreciation — Buildings 20,000 20,000 32,000 32,000 Income Tax Expense Income Taxes Payable Correcting Entry in 2016 22-15 Income Tax Expense Deferred Tax Liability Income Taxes Payable Retained Earnings Deferred Tax Liability 40,000 8,000 Reversal 12,000 8,000 L06
  16. Example of Error Correction Prepare the proper correcting entry in 2016, that should be made by Selectro. Entries Company Should Have Made (Without Error) ILLUSTRATION 22-18 Entries Company Did Make (With Error) No entry made for depreciation Depreciation Expense Accumulated Depreciation — Buildings 20,000 20,000 32,000 32,000 Income Tax Expense Income Taxes Payable Correcting Entry in 2016 22-16 me Tax Expense d Tax Liability Income s Payable 40,000 Retained Earnings 12,000 Deferred Tax Liability Accumulated Depreciation—BuiIdings 8,000 32,000 20,000 L06

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