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Change in Accounting Policy

This document discusses accounting policies, estimates, and errors. It defines a change in accounting policy and explains that policies can change if required by a standard or to provide more relevant information. A change is applied retrospectively or retroactively with prior years restated. It also defines a change in estimate as a revision due to new circumstances and explains it is recognized prospectively. Finally, it defines a prior period error as a failure to use reliable information and explains errors are corrected by restating prior periods.

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Sandia Espejo
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147 views

Change in Accounting Policy

This document discusses accounting policies, estimates, and errors. It defines a change in accounting policy and explains that policies can change if required by a standard or to provide more relevant information. A change is applied retrospectively or retroactively with prior years restated. It also defines a change in estimate as a revision due to new circumstances and explains it is recognized prospectively. Finally, it defines a prior period error as a failure to use reliable information and explains errors are corrected by restating prior periods.

Uploaded by

Sandia Espejo
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PDF, TXT or read online on Scribd
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CONCEPTUAL FRAMEWORK AND ACCOUNTING STANDARDS (AE 14)

LEARNING MATERIAL

UNIT NUMBER/ HEADING: MODULE 3/ PAS 8: ACCOUNTING POLICIES


ESTIMATES AND ERRORS

Topic 1: CHANGE IN ACCOUNTING POLICY,


ACCOUNTING ESTIMATE AND PRIOR PERIOD ERRORS

Learning Objectives:
At the end of the topic, the students will be able to:
a. Recognize and describe the effect of change in accounting policy
and accounting estimate
b. Apply the concept in change of accounting policy and accounting
estimate
c. Recognize and describe the effect of accounting errors
d. Apply the concept in prior period accounting errors

Presentation of Content

CHANGE IN ACCOUNTING POLICIES


Accounting policies are the specific, principles, bases, conventions, rules
and practices. The entity shall select and apply the same accounting policies each
period in order to achieve comparability of financial statements or to identify
trends in the financial statements

It is very important to note that an accounting policy has been selected; it


must be applied consistently for similar transactions and events. However a change
in accounting policy shall be allowed for change when the following justifications
arise:
a. Required by an accounting standard
b. The change will result in more relevant and faithfully represented
information about the financial statements

Examples of changes in accounting policy are:


a. Change in the method of inventory pricing (e.g. FIFO to Weighted average
method)
b. Change in the accounting recognition for long term construction contract
(e.g. cost recovery method to percentage of completion method)

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c. Change from cost model to fair value model in measuring investment
property
d. The initial adoption of policy to carry over assets at revalued amount is
change in accounting policy to be dealt with as revaluation
e. Change to new reporting policy resulting from the requirement of a new
PFRS

How to report a change in accounting policy?

A change in accounting policy required by a standard or an interpretation shall be


applied in accordance with the transitional provision

If the standard or interpretation contains no transitional provisions or an


accounting policy is changed voluntarily, the change shall be applied
retrospectively or retroactively

Retrospective application

The comparative financial statements of all prior years presented shall be restated
as if the new policy had always been applied. The cumulative effect of change in
accounting policy, net of applicable income tax, shall be treated as an adjustment
to the beginning balance of retained earnings in the earliest prior period presented.

Limitation of Retrospective application

Retrospective application of the change in accounting policy need not be made, if it


is IMPRACTICABLE to do so. A procedure is considered impracticable if:
1. The effects of the retrospective application are not determinable;
2. The retrospective application requires assumptions about what
management’s intentions would have been at the time;
3. The retrospective application requires significant estimates of amounts, and
it is impossible to distinguish objectively, from other information,
information about those estimates that provides evidence of circumstances
that existed at that time and would have been available at that time
When it is impracticable to make retrospective application, the entity applies the
change to the earliest period to which it is possible to apply the change, which
normally is the beginning of the current period

If comparative information is presented, the financial statements of the prior period


presented shall be restated to conform with the new accounting policy

Illustration:
An entity has used weighted average method in valuation of its inventory since
2019.
The entity decided to change the weighted average method to FIFO method for
determining inventory cost at the beginning of 2020

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Weighted FIFO
Average
December 31, 2019 1,000,000 750,000
December 31, 2020 1,500,000 1,200,000

Inventory January 1, 2020


Weighted average inventory 1,000,000
FIFO 750,000
Increase/Decrease 250,000

Adjustment of the decrease in beginning inventory


Retained earnings 250,000
Inventory 250,000

The computation of the cost of goods sold for 2020 would then show beginning
inventory at P750,000 and ending inventory at P1,200,000 to confirm with the
FIFO method.

The statement of changes in in equity for the year ended December 31, 2020 would
show the effect of the change of P250,000 net of tax as a deduction from beginning
balance of retained earnings.

Absence of accounting Standard


PAS 8, paragraph 10, provides that in the absence of an accounting
standard that specifically applies to a transaction or event, management shall use
judgment in selecting and applying accounting policy that results in information
that is relevant to the economic decision making needs of users and faithfully
represented.

In the absence of accounting standards, the following hierarchy of guidance


may use by management when selecting accounting policies.
1. Requirements of current standards dealing with similar matters
2. Definition, recognition criteria and measurement concepts for assets,
liabilities, income and expenses in the conceptual framework for financial
reporting
3. Most recent pronouncement of other standard-setting bodies that use a
similar Conceptual Framework, other accounting literature and accepted
industry practices

CHANGE IN ACCOUNTING ESTIMATE

A change in accounting estimate is a normal recurring correction or


adjustment of an asset or liability which is the natural result of the use of an
estimate.

An estimate may need revision if changes occur regarding the circumstances


on which the estimate was based or as a result of new information, more

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experience or subsequent or subsequent development. The revision of the estimate
does not relate to prior period error and is not a correction of an error

If it is difficult to distinguish a change in accounting estimate and


accounting policy, the change is treated as a change in accounting estimate and is
supported by appropriate disclosure.

Examples of accounting estimates

As a result of the uncertainties in business activities, many items in financial


statements cannot be measured with precision but can only be estimated.
Estimates also involved judgment based on the latest available and reliable
information. Estimates may be required for the following:
1. Doubtful accounts
2. Inventory obsolescence
3. Useful life, residual value and expected pattern of depreciation of
depreciable asset
4. Provisions liability
5. Fair value of assets and liability

How to report change in accounting estimate?


The effect of a change in accounting estimate shall be recognized currently and
prospectively by including it in profit or loss of:
a. The period of change if the change affects that period only
b. The period of change and future periods if the change affects both

A change in accounting estimate shall not be accounted for restating amounts


reported in financial statements of prior period. Changes in accounting estimates
are treated currently and prospectively, if necessary. Prospective recognition of the
effect of change in accounting estimates means that the change is applies to
transactions or other events and condition from the date of change in estimate.

To illustrate, let us take this as an example:


A depreciable asset costing P800,000 is estimated to have a life of 5 years. At the
beginning of the third year, the original life is changed to 8 years. Thus the asset
has a remaining life of 6 years. In this case, the procedure is not to correct past
transaction but to allocate the remaining carrying amount of the asset to its
remaining useful life.
Carrying amount (P800,000 -320,000) 480,000
Divide: New remaining useful life 6________
Subsequent annual depreciation 80,000

The entry to record the annual depreciation, starting in the third year is:
Depreciation 50,000
Accumulated Depreciation 50,000

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CORRECTING PRIORR ERRORS

Prior period errors are omissions and misstatement in the financial


statements for one or more period arising from a failure to use or misuse of reliable
information. Errors make arise as a result of mathematical mistakes, mistakes in
applying accounting policies, misinterpretation of facts, fraud or oversight

How to treat prior period error?


An entity shall correct material prior period errors respectively in the first set
of financial statements authorised for issue after their discovery by:
(a) Restating the comparative amounts for prior period(s) in which error
occurred, or
(b) If the error occurred before that date – restating the opening balance of
assets, liabilities and equity for earliest prior period presented.

If comparative statements are presented, the financial statements of the


prior period error shall be restated, so as to reflect the retroactive application of the
prior period error as a retroactive restatement

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