Question

Briefly describe the proper accounting (financial reporting) for each of the following items:

a. Change in Accounting Principle

B. change in accounting estimate

c. errors (mistakes or oversights) uncovered in previously issued financial statements

Answer 1

(A). Mening: An accounting change is a change in accounting principles, accounting estimates, or the reporting entity. A change in an accounting principle is a change in a method used, such as using a different depreciation method or switching between LIFO to FIFO inventory valuation methods. An example of an accounting estimate change could be the recalculation of machine's estimated life due to wear and tear. The reporting entity could change due to a merger or a break up of a company.
Accounting changes require full disclosure in the footnotes of the financial statements to describe the justification and financial effects of the change. This allows readers of the statements to analyze the changes appropriately, ideally to help them make more informed decisions about a business's operations.

(B).then accounting for business transactions, there will be times when an estimate must be used. In some cases, those estimates prove to be incorrect, in which case a change in accounting estimate is warranted. A change in estimate is needed when there is a change that:

• Affects the carrying amount of an existing asset or liability, or
• Alters the subsequent accounting for existing or future assets or liabilities.

Changes in estimate are a normal and expected part of the ongoing process of reviewing the current status and future benefits and obligations related to assets and liabilities. A change in estimate arises from the appearance of new information that alters the existing situation. Conversely, there can be no change in estimate in the absence of new information.

Examples of Changes in Accounting Estimate

All of the following are situations where there is likely to be a change in accounting estimate:

• Allowance for doubtful accounts
• Reserve for obsolete inventory
• Changes in the useful life of depreciable assets
• Changes in the salvage values of depreciable assets
• Changes in the amount of expected warranty obligations

When there is a change in estimate, account for it in the period of change. If the change affects future periods, then the change will likely have an accounting impact in those periods, as well. A change in accounting estimate does not require the restatement of earlier financial statements, nor the retrospective adjustment of account balances.

If the effect of a change in estimate is immaterial (as is usually the case for changes in reserves and allowances), do not disclose the alteration. However, disclose the change in estimate if the amount is material. Also, if the change affects several future periods, note the effect on income from (continuing operations, net income, and per share amounts.

(C). Not infrequently, a determination is made that previously issued financial statements contain an error. Stated simply, the “error” is typically an unintentional misstatement in the financial statements of either amounts or disclosures.

  accounting guidance related to error corrections can be foundand Error Corrections. That guidance clearly distinguishes between error corrections and changes to the financial statements made as a result of a change in accounting principle or accounting estimate. in FASB Accounting Standards Codification

  An auditor needs to discern whether any identified misstatement is a result of an unintentional error or of fraudulent activity. When there are material misstatements identified due to fraud in an audit, the auditor looks to AU-C Section 240,Consideration of Fraud in a Financial Statement Audit, for additional guidance.