FAR Review – Error Correction Adjustment Confusion

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    Topic
  • #188760
    noclue
    Member

    First-time poster; long-time reader.

    I failed FAR with a 73 last testing window (FAR is my last exam!). To add new material, I purchased Wiley Test Bank while reviewing Becker again.

    A question in the Wiley Test Bank popped up today regarding Error Correction Adjustments:

    While preparing its year 3 financial statements, Dek Corp. discovered computational errors in its year 2 and year 1 depreciation expense. These errors resulted in overstatement of each year’s income by $25,000, net of income taxes. The following amounts were reported in the previously issued financial statements:

    For Year 2:

    Retained earnings, 1/1 = $700,000

    Net income = 150,000

    Retained earnings, 12/31 = 850,000

    For Year 1

    Retained earnings, 1/1 = $500,000

    Net income = 200,000

    Retained earnings, 12/31 = 700,000

    Dek’s year 3 income is correctly reported at $180,000. Which of the following amounts should be adjusted to retained earnings and presented for net income in Dek’s year 3 and year 2 comparative financial statements?

    Year Retained Earnings Net Income

    a. Year 2 -0- $150,000

    Year 3 ($50,000) $180,000

    b. Year 2 ($50,000) $150,000

    Year 3 -0- $180,000

    c. Year 2 ($50,000) $125,000

    Year 3 -0- $180,000

    d. Year 2 -0- $125,000

    Year 3 -0- $180,000

    The correct answer is c. However, I selected b. I understand the JE stated in the explanation:

    DR: Retained Earnings $50,000

    CR: Accumulated Depreciation $50,000

    However, I do not understand why Year 2’s depreciation decreased by $25,000 (amount of one year deprecation). Retained earnings will already show the accumulated error of $50,000 ($25,000 for year 1 and year 2). It seems that if net income were to reflect a decrease in $25,000 as well, depreciation would be recorded twice for Year 2 (once in RE earnings and another time in net income).

    Could someone please help me understand why Year 2’s depreciation appears to be recorded twice? What am I missing (besides a social life)?

    FAR
    AUD
    BEC - 11/19/2011
    REG

Viewing 8 replies - 1 through 8 (of 8 total)
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  • #608744
    CPA soon
    Member

    Depreciation didn't decrease but I find this a confusing question too, since it's an error and requires restatement (Which you should restate as if the error never happened, but it seems like they're just using retrospective adjustment not restatement), I would think it would be handled like this:

    1/1/2

    DR: R/E 25K

    CR: Acc. Dep 25K

    12/31/2

    DR: Dep. Expense (correct amount including 25K missed)

    CR: Acc. Dep (Same)

    Which will reduce net income by 25K and carry over to Retained earnings at an overall impact of -50K (25 from begining adjustment and 25 from whatever expensed during the year)

    Luckily I am done with FAR lolllll

    FAR - 71, 68, 74, (8/31/14) 78 ✔
    REG - 67, 71, 71, (10/18/14) 78 ✔
    BEC - (11/29/14) 86 ✔
    AUD - 73, (4/4/15) 86 ✔

    I can't believe this is over! 2 years and 3 months..

    #608745
    M.O.D.
    Member

    At the end of year 2, the RE should be 50k lower and NI for year 2 25k lower. End of answer.

    They are asking for the ending figures only. Do not over-think this.

    BA Mathematics, UC Berkeley
    Certificates in CPA and EA preparation, College of San Mateo
    CMA I 420, II 470
    FAR 91, AUD Feb 2015 (Gleim self-study)

    #608746
    CPA soon
    Member

    M.O.D I know what you are saying and that is what I was thinking but remember your R/E adjustment is made to the opening balance of the earliest year presented so it should be 25K. I understand that ending numbers tie in to the answer and I figured that's what they are looking for but this question doesn't seem clear in any way.

    FAR - 71, 68, 74, (8/31/14) 78 ✔
    REG - 67, 71, 71, (10/18/14) 78 ✔
    BEC - (11/29/14) 86 ✔
    AUD - 73, (4/4/15) 86 ✔

    I can't believe this is over! 2 years and 3 months..

    #608747
    M.O.D.
    Member

    It is not true that the RE adjustment is made to the earliest year presented if those adjustments only cover the past 2 years.

    If the errors spanned 10 years, then yes the 7 year adjustments would be aggregated to the beginning RE of year 8, while years 8,9 and 10 are restated correctly.

    In this case they are restating 2 years, so there is no aggregated adjustment, just year to year changes.

    Year 1 NI is 25 less, ending RE is 25 less than reported (requires (25))

    Year 2 NI is 25 less, ending RE is 50 less than reported (requires just (25) more)

    Year 3 NI is correct, ending RE does not need adjustment

    BA Mathematics, UC Berkeley
    Certificates in CPA and EA preparation, College of San Mateo
    CMA I 420, II 470
    FAR 91, AUD Feb 2015 (Gleim self-study)

    #608748
    CPA soon
    Member

    So why are you adjusting 50 in the begining of year 2? It should be 25 and then the other 25 is through showing the expense in the year which reduces net income then RE. Does not make sense.

    FAR - 71, 68, 74, (8/31/14) 78 ✔
    REG - 67, 71, 71, (10/18/14) 78 ✔
    BEC - (11/29/14) 86 ✔
    AUD - 73, (4/4/15) 86 ✔

    I can't believe this is over! 2 years and 3 months..

    #608749
    rzrbkfaith
    Member

    @CPA soon – I find it helpful to actually do the journal entries to solve the problem.

    Year 2 Adjustment Journal Entry:

    CR Accumulated Depreciation $50,000

    DR Depreciation Expense (Yr 2) $25,000

    DR Retained Earnings (Yr 1) $25,000

    Remember, depreciation expense will affect net income, which then affects retained earnings, and that is why retained earnings is adjusted by $50,000 on the financials and Yr 2 net income is decreased by $25,000. Hope this helps!

    AUD - 99
    BEC - 97
    REG - 91
    FAR - 1/8/16

    #608750
    CPA soon
    Member

    I agree with everything you said all I'm saying is you don't make a 50K adjustment to the begining of year 2, it's 25K

    FAR - 71, 68, 74, (8/31/14) 78 ✔
    REG - 67, 71, 71, (10/18/14) 78 ✔
    BEC - (11/29/14) 86 ✔
    AUD - 73, (4/4/15) 86 ✔

    I can't believe this is over! 2 years and 3 months..

    #608751
    M.O.D.
    Member

    @ CPA soon,

    all adjustments are to the end of the year, not to the beginning of the year.

    The only time you make adjustments to the beginning of the year, is if you have adjustments to the prior years before the 3 years that you are required to report.

    Then you aggregate all those corrections into a beginning RE for that first reporting year, and only for that first reporting year.

    BA Mathematics, UC Berkeley
    Certificates in CPA and EA preparation, College of San Mateo
    CMA I 420, II 470
    FAR 91, AUD Feb 2015 (Gleim self-study)

Viewing 8 replies - 1 through 8 (of 8 total)
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