FAR 18 - QUESTIONS Flashcards
- ASC 250 specifies that the effects of a change in accounting principle should be recorded on a prospective basis when the change is from the
a. Cash basis of accounting for vacation pay to the accrual basis.
b. Straight-line method of depreciation for previously recorded assets to the double-declining balance method.
c. Presentation of statements of individual companies to their inclusion in consolidated statements.
d. Completed-contract method of accounting for long-term construction-type contracts to the percentage-of-completion method.
- (b) A change from the straight-line method of depreciation for previously recorded assets to the double-declining balance method is a change in accounting principle that cannot be distinguished from a change in accounting estimate. As a result, it is accounted for prospectively as a change in accounting estimate.
Answer(a) is incorrect because a change from the cash basis to the accrual basis of accounting for vacation pay is a change from an unacceptable principle to an acceptable one, which is considered a correction of an error. A correction of an error is accounted for retrospectively.
Answer (c) is incorrect because a change in the companies included in consolidated financial statements is a change in reporting entity that is accounted for retrospectively.
Answer (d) is incorrect because a change from the completed-contract method to the percentage-of-completion method for long-term construction-type contracts is a change in accounting principle and is accounted for retrospectively.
- On January 1, 20X6, Jones Construction, Inc. changed to the percentage-of-completion method of income recognition for financial statement reporting but not for income tax reporting. Jones can justify this change in accounting principle.
As of December 31, 20X5, Jones compiled data showing that income under the completed-contract method aggregated $700,000.
If the percentage-of-completion method had been used, the accumulated income through December 31, 20X5, would have been $880,000.
Assuming an income tax rate of 40% for all years, ASC 250 requires that the cumulative effect of this accounting change to be reported by Jones as
a. An increase in construction-in-progress for $180,000 in the 20X5 balance sheet.
b. A decrease in the beginning balance of retained earnings for $108,000 in 20X6.
c. A cumulative effect adjustment of $108,000 on the 20X6 income statement.
d. An increase in ending retained earnings of $180,000 in 20X5.
- (a) A change from completed-contract to percentage-of-completion is a change in accounting principle that is given retrospective application.
The carrying value of assets and liabilities are adjusted as of the beginning of the earliest period presented with an offset to retained earnings.
In this case, there would be an increase (debit) to construction in progress of $180,000.
Since the change is made for the financial statement, but not for tax, it creates a temporary difference and a deferred tax liability of ($180,000 x 40%) $72,000.
The difference would be an increase (credit) to beginning retained earnings.
Answer (b) is incorrect because the difference would be an increase (credit) to beginning retained earnings, not a decrease.
Answer (c) is incorrect because the difference, which is the cumulative effect of the change, would be an increase (credit) to beginning retained earnings, not an income statement item.
Answer (d) is incorrect because the adjustment would not be to ending retained earnings.
- In 20X6, Brighton Co. changed from the individual item approach to the aggregate approach in applying the lower of FIFO cost or market to inventories.
ASC 250 requires that the change should be reported in Brighton’s financial statements as a
a. Change in estimate on a prospective basis.
b. Cumulative effect of change in accounting principle on the current year income statement.
c. Retrospective application to the earliest period presented if practicable.
d. Prior period adjustment with a separate disclosure.
- (c)A change in the method of applying an accounting principle, such as a change from the individual item approach to the group approach for evaluating the lower of cost or market price of inventory, is accounted for through retrospective application to the extent it is practicable.
Answer (a) is incorrect because a change from the individual item approach to the group approach in evaluating the lower of cost or market price of inventory is a change in the method of applying an accounting principle, which is accounted for retrospectively as a change in accounting policy. It is not considered a change in accounting estimate.
Answer (b) is incorrect because the cumulative effect of the change is recognized as an adjustment to the beginning retained earnings of the earliest period presented. It is not reported on the income statement.
Answer (d) is incorrect because a prior period adjustment would be the accounting for a correction of an error, not a change in accounting principle.
- On January 1, 20X2, Union Co. purchased a machine for $528,000 and depreciated it by the straight-line method using an estimated useful life of eight years with no salvage value.
On January 1, 20X5, Union determined that the machine had a useful life of sixyears from the date of acquisition and will have a salvage value of $48,000.
An accounting change was made in 20X5 to reflect these additional data. The accumulated depreciation for this machine should have a balance at December 31, 20X5, of
a. $292,000
b. $308,000
c. $320,000
d. $352,00
- (a) Changes in the useful life and salvage value of a depreciable asset are changes in accounting estimates that are accounted for prospectively.
As of 1/1/X5, 3 years of the original 8 year life had elapsed and accumulated depreciation would have been ($528,000 x 3/8) $198,000 resulting in a book value of $330,000 at that date.
With a salvage value of $48,000, the remaining depreciable basis is $282,000, and depreciation will be $94,000 per year ($282,000/3) for each of the next 3 years, its remaining useful life.
At the end of 20X5, accumulated depreciation would be ($198,000 + $94,000) $292,000.
5.During 20X9, Steve Company discovered that the ending inventories reported on its financial statements were incorrect by the following amounts:
20X7 = $60,000 understated 20X8 = $75,000 overstated
Steve uses the periodic inventory system to ascertain year-end quantities that are converted to dollar amounts using the FIFO cost method.
Prior to any adjustments for these errors and ignoring income taxes, Steve’s retained earnings at January1, 20X9, would be
a. Correct.
b. $ 15,000 overstated.
c. $ 75,000 overstated.
d. $135,000 overstated.
- (c)Since one year’s ending inventory is the next year’s beginning inventory, a misstatement in one period “corrects itself” in the next period.
The understatement in 20X7 resulted in an overstatement to 20X7 cost of sales and an understatement to 20X8 cost of sales resulting in no net effect.
The overstatement of inventory at 12/31/X8 resulted in an understatement of cost of sales and an overstatement of pre-tax income by $75,000.
If taxes are ignored, this is the amount by which 1/1/X9 retained earnings is overstated.
6.How would IFRS account for a change in accounting policy/principle?
a. On a prospective basis.
b. On a retrospective basis.
c. By restating the financial statements.
d. By a cumulative adjustment on the income statement.
- (b)Like US GAAP, IFRS requires that changes in accounting principles to be reported on a retrospective basis, which involves adjusting prior period financial statements to reflect the change.
- Under IFRS, changes in accounting policies are
a. Permitted if the change will result in a more reliable and more relevant presentation of the financial statements.
b. Permitted if the entity encounters new transactions, events, or conditions that are substantively different from existing or previous transactions.
c. Required on material transactions, if the entity previously accounted for similar, though immaterial, transactions under an unacceptable accounting method.
d. Required if an alternate accounting policy gives rise to a material change in assets, liabilities, or the current-year net income
- (a)IFRS allows a change in an accountingin one of two circumstances. It is permitted if the change is required by an IFRS or if the change will result in financial statements that are reliable more relevant.
Answer (b) is incorrect because adopting an accounting policy for new transactions, events or conditions that are substantively different from existing or previous transactions is not considered a change in accounting policy as the entity previously had no policy to change from.
Answer (c) is incorrect because a change from an unacceptable accounting method to an acceptable one is not considered a change in accounting policy but a correction of an error.
Answer (d) is incorrect because the fact that the change will materially affect assets, liabilities, or net income is not sufficient to require the change be made.
