Question

On July 1, 2018 a full year’s insurance premium of $2,400, covering the period July 1, 2018,to June 30, 2019 was paid and debited to insurance expense. Assume the following:



The company has a calendar fiscal year.



January 1, 2018, retained earnings balance is $20,000.



2018 reported net income (assuming the error is not discovered)is $22,800.



2019 net income (assuming the error is not discovered) is $30,000.



2020 net income is $40,000. Ignore taxes

REQUIRED:

a.

List the effects of the error on affected accounts and on net income in 2018 and 2019,assuming no adjusting entry is made on December 31, 2018.

b.

Prepare the entry to record the error if discovered in 2018.

c.

Prepare the entry to record the error if discovered in 2019, and the 2018 and 2019 retained earnings sections of the statement of stockholders’ equity.

d.

Prepare the entry (if needed) to record the error if discovered in 2020, and the 2019 and 2020 retained earnings sections of the statement of stockholders’ equity.

Answer 1

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a.
	Year 2018			Year 2019
Insurance Expense	overstated	$2,400/12*6	$     1,200	understated		$    1,200
Prepaid Expense	understated		$     1,200	No affect
Net Income	understated		$     1,200	overstated		$    1,200
Retained Earning, Ending of 2018	understated		$     1,200	No affect
b.
Accounts	Debit	Credit
Prepaid Insurance	$         1,200
Insurance Expense		$          1,200
$2,400/12*6
c.
Accounts	Debit	Credit
Insurance Expense	$         1,200
Retained Earning		$          1,200
		Year 2018	Year 2019
Beginning Retained Earning		$        20,000	$   42,800
Add: Net Income		$        22,800	$   30,000
Less: Insurance Expense			$    -1,200
Add: Retained Earning			$     1,200
Ending Retained Earning		$        42,800	$   72,800
d.
NO Entry
		Year 2018	Year 2019	Year 2020
Beginning Retained Earning		$        20,000	$   42,800	$    72,800
Add: Net Income		$        22,800	$   30,000	$    40,000
Ending Retained Earning		$        42,800	$   72,800	$ 112,800