[nalratoss]

This has got to be the easiest place to lose points.

In early January of Year 6, Off-Line Co. changed its method of accounting for demo costs from writing off the costs over 2 years to expensing the costs immediately. Off-Line made the change in recognition that an increasing number of demos placed with potential customers did not result in sales. Off-Line had deferred demo costs of $500,000 at December 31, Year 5, of which $300,000 were to be written off in Year 6 and the remainder in Year 7. Off-Line’s income tax rate is 30%. In its Year 6 statement of retained earnings, what amount should Off-Line report as a retrospective adjustment of its January 1, Year 6, retained earnings?
Submit $300,000
Submit $500,000
Graded Submit $210,000
Correct Submit $0

This is a question from Gleim FAR.

I can’t believe that this is a “change in an accounting estimate inseparable from (effected by) change in accounting principle”

Are you saying that the change from “write off” to “expense all immediately” is a change in the estimate of uncollectible accounts?

[Anonymous]

This is similar to change in a depreciation method from say straight line to sum of the years digits.

Depreciation is essentially an estimate of use of asset over it's economic life. But it is technically a change in accounting principle, since GAAP allows different methods.

And notice the question asked for the retained earnings balance as of Jan 1, Year 6. Your cost allocation method is an estimate, so those are done prospectively(going forward). The only times you go back and mess with retained earnings is for retrospective applications of principles such as a change in inventory methods, that affect an item on the income statement.

Hop that makes a little bit of sense.

Cheers.

[Anonymous]

I read the question and thought it was just a change in estimate. So there's no adjustment to beginning retained earnings, they just start doing it this way going forward.

The accounting principle is matching. Costs are expensed in the same period as their related revenues. That hasn't changed.

Management estimated that the cost of doing demos should pay off over the next 2 years, meaning that there should be an increase in revenues for 2 years due to the demos. But, after doing demos for a few years, management saw that it wasn't the case. The demos weren't creating more revenue at all. So, they changed their estimate from 2 years to 0 years.

There's no uncollectible accounts or accounts receivable involved. To “write off” means to record the expense. This question describes a prepaid account. They paid for the demos, but they weren't expensing it until later. It's like a prepaid advertising account.

[Author]

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