PAS 8

Accounting Policies, Changes in

Accounting Estimates and Errors

Presented by:
Remark M. Montalban, CPA
Accountancy Department
Holy Name University

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Change in Accounting
Estimate

Learning Objectives:
1. To understand the categories of
accounting change.
2. To understand the concepts of
change in accounting estimate
and change in accounting
policy.
3. To know the recognition and
reporting of the accounting
changes.

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Categories of accounting change
Two Categories of Accounting Change
 Change in accounting policy
 Change in accounting estimate

Why is it important to know what kind of change?

1) It will have an impact on the company’s valuation of assets,
liabilities and equity
2) It will have an impact on the companies earnings.
3) It will tell us what adjustments are to be made to the accounts
4) To let users understand the effect of the accounting changes to the
bottom line
5) Not to violate the principle of comparability

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Definitions and Concepts
 A change in accounting estimate is an adjustment of the carrying
amount of an asset or a liability, or the amount of the periodic
consumption of an asset, that results from the assessment of the
present status of, and expected future benefits and obligations
associated with, assets and liabilities. Changes in accounting
estimates result from new information or new developments and,
accordingly, are not corrections of errors.
 Accounting policies are the specific principles, bases, conventions,
rules and practices applied by an entity in preparing and presenting
financial statements.
 If it is difficult to distinguish a change in accounting estimate and
change in accounting policy, the change is treated as a change in
accounting estimate.

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Change in accounting estimate
 Normal recurring correction or adjustment of an asset or liability
which is a result of the use of estimate.
 Prior period errors and correction of errors are not change in
accounting estimate.
 A change in measurement basis is not a change in accounting
estimate.
 Estimation involves judgment based on the latest available and
reliable information.
 Examples:
 Doubtful accounts
 Inventory obsolescence
 Useful life, residual value, expected pattern of consumption of benefit
of depreciable assets
 Warranty costs
 Fair value of financial assets and financial liabilities 5
How to report change in accounting estimate
 The effect of change in accounting estimate shall be recognized
currently and prospectively by including it in income 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.

 To the extent that a change in accounting estimate gives rise to

changes in assets and liabilities or relates to item of equity, it
shall be recognized by adjusting the carrying amount of the
related asset, liability and equity in the period of change.

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Illustration 1 – Change in useful life
 A depreciable asset costing P500,000 is estimated to have a life
of 5 years. At the beginning of the third year, the original life is
changed to 8 years.

 The entry to record the annual depreciation, starting the third

year is:
Depreciation 50,000
Accumulated Depreciation 50,000

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Illustration 2 – Change in depreciation method
 An entity decided to change from the sum of years’ digit
method to the straight line method of depreciation on January
1, 2020.
 The asset has a cost of P1,000,000, acquired on January 1, 2018
and is estimated to have a four-year life.

 The journal entry on December 31, 2020 is:

Depreciation 150,000
Accumulated Depreciation 150,000

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Change in Accounting
Policy

Learning Objectives:
1. To understand the concepts of
change in accounting policy.
2. To know the recognition and
reporting of the change in
accounting policy.

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The need to know what kind of change…

1) It will have an impact on the company’s valuation of assets,

liabilities and equity
2) It will have an impact on the companies earnings.
3) It will tell us what adjustments are to be made to the accounts
4) To let users understand the effect of the accounting changes to the
bottom line
5) Not to violate the principle of comparability

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Definition and concepts
 Accounting policies are the specific principles, bases,
conventions, rules and practices applied by an entity
in preparing and presenting financial statements.
 An entity is required to outline all significant
accounting policies applied in preparing the financial
statements.
 Alternative treatments, however, are available or
possible in the Standard.
 Accounting policies should be applied on a consistent
basis in each period.

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When change in accounting policy be made?

1. Required by an accounting standard or an

interpretation of the standard
2. The change will result in more relevant and faithfully
represented information about the financial position,
financial performance and cash flows of an entity.

A change in accounting policy arises when an entity

adopts a GAAP which is different from the one
previously used by the entity.

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Examples
a. Change in the method of inventory pricing from FIFO
to weighted average method.
b. Change in the method of accounting long-term
construction contract from cost recovery method to
percentage of completion.
c. The initial adoption of policy to carry assets at
revalued amount in accordance with PAS 16.
d. Change from cost model to fair value model in
measuring investment property.
e. Change to a new policy resulting from the
requirement of a new PFRS.
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Not a change in accounting policy when…

a. The application of an accounting policy for events or

transactions that differ in substance from previously
occurring events or transactions.
b. The application of a new accounting policy for events
or transactions which did not occur previously or
that were immaterial.

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How to report a change in accounting policy?

a. If the change is required by the standard or

interpretation, apply the transitional provisions
therein.
b. If the standard or interpretation does not have
transitional provision or the change is adopted
voluntarily, the change shall be applied
restrospectively or retroactively.

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Retrospective application
 Retrospective application is applying a new accounting policy
to transactions, other events and conditions as if that policy
had always been applied.

 PAS 8, par. 22, provides that:

 an entity shall adjust the opening balance of each affected component
of equity for the earliest period presented
 the comparative amounts disclosed for each prior period as if the new
policy has always been there.

 The impact of the new policy to retained earnings prior to the

earliest period presented shall be adjusted against the opening
balance of retained earnings.
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Example
 An entity has used the FIFO method of inventory valuation
since it began operations in 2019. The entity decided to change
to weighted average method for determining inventory cost at
the beginning of 2020:
FIFO Weighted Average
December 31, 2019 1,000,000 750,000
December 31, 2020 1,500,000 1,200,000

 The journal entry to restate the books:

Retained earnings 250,000
Inventory, January 1 250,000

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Limitations of retrospective application
 Retrospective application is not required if it is impracticable
to determine the cumulative effect of the change.

When does application be impracticable?

1. The effect of the retrospective application are not
determinable.
2. The application requires assumptions on the managements
intention at that time.
3. The application requires significant estimate, and it is
impossible to distinguish objectively about the estimate that:
a) Provides evidence of circumstances that existed at that
time.
b) Would have been available at that time. 18
Prospective Application
 If limitations in applying changes retrospectively exist, then
changes shall be applied prospectively from the earliest period
practicable.
 Prospective application means that the new accounting policy
is applied to events and transactions occurring after the date
at which the policy is changed.
 In other words, no adjustments relating to prior period are
made either the opening balances to retained earnings or
other component of equity because existing balances are not
recalculated.

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Change in reporting entity
 A change in reporting entity is a change whereby
entities change their nature and report their
operations in such a way that the financial statements
are in effect those of a different reporting entity.
 A change in reporting entity is a change in accounting
policy.
 In other words, the financial statements of all prior
periods presented shall be restated to show financial
information for the new reporting entity.

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Absence of Accounting Standard
 PAS 8, par. 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 an
accounting policy that results in information that is relevant to
the economic decision making needs of users and faithfully
represented.

Hierarchy guidance in selecting an accounting policy:

1. Current standards dealing with similar matters
2. Conceptual framework for financial reporting
3. Most recent pronouncements, accounting literature and
accepted industry practice

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Errors

Learning Objectives:
1. To know the definition of
errors.
2. To understand the accounting
treatment of errors.
3. To be able to distinguish
counterbalancing and
noncounterbalancing errors.
4. To be able to prepare the
necessary correcting entries for
errors.

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What are prior period errors?
 Omissions or misstatements in the company’s financial
statements in the company’s financial statements for one or
more periods arising from failure to use reliable information
that was available when financial statements are authorized for
issue and could be expected to have been obtained and taken
into account in the preparation and presentation of those
financial statements.
 Example of Errors:
1) Mathematical mistakes
2) Mistakes in applying an accounting policy
3) Oversights or misinterpretation of facts
4) Fraud
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Accounting Treatment of Errors
 An entity shall correct material prior period errors
retrospectively in the first set of financial statements
authorized for issue after their discovery.
 If comparative statements are presented, the prior
year statements are restated to correct the error.
 The correction of error is an adjustment of the
beginning balance of retained earnings of the earliest
period presented.

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Types of Errors
Type Description
Errors in the • Errors of the real accounts only.
Statement of Financial • Misclassification of accounts of asset, liabilities
Position and equity

Errors in the Income • Errors of the nominal accounts only

Statement • Misclassification of accounts of a revenue and
expenses

Errors to both SFP and • Usually are results of recording or non-

IS recording of adjusting entries
• Misstatements in the bottom line of the
comprehensive income (e.g. profit or loss)

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How to rectify?
Type Procedure
Errors in the
Statement of Financial • Simply a reclassification of accounts
Position

Errors in the Income • If books are not yet closed, simply reclassify the
Statement accounts.
• If books are closed, no reclassification
necessary

Errors to both SFP and Errors are corrected according to whether the
IS (Combined/Mixed) error is:
(1) Counterbalancing error
(2) Noncounterbalancing error

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Combined Errors
Counterbalancing Non-counterbalancing
Nature Errors, if not detected, are Errors, not detected, are not
automatically corrected in the automatically corrected in the
next accounting period. next accounting period.
Effects The income statement of the The income statement of the
two consecutive periods are period in which the error is
incorrect. committed is incorrect but the
succeeding income statement
The SFP at the end of the first is not affected.
period is incorrect, but at the
end of the second period is The SFP of the year of error
correct. and succeeding are incorrect
until the error is corrected.
Examples Misstatements on: 1) Error in depreciation
1) Accruals 2) Others with similar effect
2) Deferrals on depreciation error
3) Inventory, purchases and
sales 27
Determine the effects of these errors to the Net Income
(Counterbalancing Errors)

Errors discovered/committed in 2019, the current year

2018 2019 2020
Overstatement of BI, 10,000

Understatement of BI, 20,000

Understatement of EI, 15,000

Overstatement of EI, 25,000

Purchases in PY, recorded in CY, 30,000

Purchases in CY, recorded in PY, 40,000

Sales of PY, recorded in CY, 50,000
Overstatement of Beginning Inventory, 30,000
Sales in CY, recorded in PY, 60,000
Understatement of Beginning Inventory, 45,000
Failure to record prepaid expense, 70,000

Failure to record accrued expense, 80,000

Failure to record deferred/unearned income, 25,000

Failure to record accrued income, 30,000

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Determine the effects of these errors to the Net Income
(Non-Counterbalancing Errors)

Nature of Error Prior Current

year Year
Failure to record depreciation in PY and CY, 6,000
Failure to record impairment loss in PY and CY, 1,000
Erroneous charging of PPE to R&M in PY, 100,000
Understatement of Depreciation in PY, 18,000
Overstatement of Depreciation in PY, 20,000
Understatement of Depreciation in CY, 22,000
Overstatement of Depreciation in CY, 24,000

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Disclosure of Prior Period Errors
An entity shall disclose the following:
a. The nature of the prior period errors.
b. The amount of correction for each prior period presented, to
the extent practicable:
i. For each financial statement line item affected.
ii. For basic and diluted earnings per share.
c. The amount of correction at the beginning of the earliest
period presented.
d. If retrospective restatement is impracticable for a particular
prior period, the circumstances that led to the existence of
that condition and a description of how and from when the
error has been corrected.
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 PAS 8
Accounting Policies, Changes in
Accounting Estimates and Errors

Presented by:
Remark M. Montalban, CPA
Accountancy Department
Holy Name University

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