CHAPTER 11:
PAS 8 Accounting Policies, Estimate and Errors
Categories of Accounting Change
a. Change in accounting estimate
b. Change in accounting policy
Accounting policies
Accounting policies are the specific principles, bases, conventions, rules and practices applied by an
entity in preparing and presenting financial statements.
Examples of change in accounting policy
A change in accounting policy arises when an entity adopts a generally accepted accounting principle
which is different from the one previously used by the entity.
Examples of change in accounting policy are:
a. Change in the method of inventory pricing from the FIFO to weighted average method.
b. Change in the method of accounting for long term construction contract from cost recovery
method to percentage of completion method.
c. The initial adoption of policy to carry assets at revalued amount is a change in accounting policy
to be dealt with revaluation 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.
Retrospective application
Retrospective application is applying a new accounting policy to transactions, other events and
conditions as if that policy had always been applied.
Illustration
An entity has used the FIFO method of inventory valuation since it began operations in 2018. The entity
decided to change to the weighted average method for determining inventory cost at the beginning of
2019.
December 31, 2018
December 31, 2019
FIFO inventory – January 1, 2019
Weighted average inventory – January 1, 2019
Decrease in beginning inventory
FIFO
Weighted Average
1,000,000
1,500,000
750,000
1,200,000
1,000,000
750,000
250,000
Adjustment of the decrease in beginning inventory
Retained earnings
Inventory – January 1
250,000
250,000
The computation of the cost of good sold for 2018 would then show beginning inventory at P750,000
and ending inventory at P1,200,000 to conform with the weighted average method.
The statement of changes in equity for the year ended December 31, 2019 would show the effect of the
change of P250,000 net of tax as a deduction from the beginning balance of retained earnings.
Change in Accounting Estimate
PAS 8, paragraph 5, defines a change in an accounting estimate as 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 and expected future benefit and obligation associated with the
asset and liability.
Examples of Accounting Estimate
As a result of the uncertainties in business activities, many items in financial statements cannot be
measured with reliable precision but can only be estimated.
a.
b.
c.
d.
e.
Doubtful accounts
Inventory obsolescence
Useful life, residual value, and expected pattern of consumption of benefit of depreciable asset
Warranty cost
Fair value of financial assets and financial liabilities
Changes in accounting estimate are to be handled currently and prospectively, if necessary.
Illustration
For example, 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. Thus, the asset has a remaining life of 6 years.
The procedure is not to correct past depreciation. Instead, the remaining carrying amount of P300,000
(P500,000 minus P200,000 depreciation for 2 years) is now allocated over 6 years or a subsequent
annual depreciation of P50,000.
Thus, the entry to record the annual depreciation, starting the third year is:
Depreciation
Accumulated depreciation
50,000
50,000
Change in Depreciation Method
A change in depreciation method is accounted for as a change in accounting estimate.
Illustration
An entity decided to change from the sum of years’ digit method to the straight-line method of
depreciation on January 1, 2019.
The asset originally has a cost of P1,000,000, acquired on January 1, 2017 and is estimated to have a
four-year life.
Cost – January 1, 2017
Accumulated depreciation:
2017 (4 / 10 x 1,000,000)
2018 (3 / 10 x 1,000,000)
Carrying amount – January 1, 2019
1,000,000
400,000
300,000
700,000
300,000
The procedure is simply to allocate the carrying amount of P300,000 over the remaining life of 2 years
using the new depreciation method which is the straight line. Accordingly, the depreciation for 2019 is
recorded as follows:
Depreciation (300,000 / 2)
Accumulated depreciation
150,000
150,000
Prior period errors
Prior period errors are omissions and misstatements in the financial statement for one or more periods
arising from a failure to use or misuse of reliable information.
Errors may occur as a result of mathematical mistakes, mistakes in applying accounting policies,
misinterpretations of facts, fraud or oversight.
How to treat prior period errors
Prior period errors shall be corrected retrospectively by adjusting the opening balances of retained
earnings and affected assets and liabilities.
MULTIPLE CHOICE PROBLEMS:
Problem 1
During 2018, Orca Company decided to change from the FIFO inventory valuation to the weighted
average method. The income tax rate is 30%.
FIFO
7,100,000
7,900,000
January 1 inventory
December 31 inventory
Weighted Average
7,700,000
8,200,000
What amount should be reported as the cumulative effect of this accounting change for 2018?
a. 420,000 increase
b. 420,000 decrease
c. 600,000 increase
d. 600,000 decrease
Solution: Answer A
FIFO inventory – January 1
Weighted average inventory – January 1
Cumulative effect
7,100,000
7,700,000
600,000
Cumulative effect after tax (70% x 600,000)
420,000
The change from FIFO to weighted average is a change in accounting policy. The cumulative effect of the
change accounting policy is an adjustment of retained earnings.
Inventory
Retained earnings
Increase tax payable
600,000
420,000
180,000
Problem 2
During 2018, Build Company changed from the cost recovery method to the percentage of completion
method. The tax rate is 30%. Gross profit figures are:
Cost recovery method
Percentage of completion
2016
950,000
1,600,000
2017
1,250,000
1,900,000
2018
1,400,000
2,100,000
How should this accounting change be reported in 2018?
a. 1,400,000 increase in profit or loss
b. 1,400,000 increase in retained earnings
c. 910,000 increase in profit or loss
d. 910,000 increase in retained earnings
Solution: Answer D
Cumulative gross profit for 2016 and 2017 – percentage of completion 3,500,000
Cumulative gross profit for 2016 and 2017 – cost recovery
(2,200,000)
Cumulative increase
1,300,000
Tax effect (1,300,000 x 30%)
Addition to retained earnings on January 1, 2018
(390,000)
910,000
Problem 3
ABC Company provided the following ne income and inventory:
2018
2,750,000
1,400,000
900,000
Net income using LIFO
Year-end inventory – FIFO
Year-end inventory – LIFO
2019
3,000,000
2,000,000
1,600,000
What is the net income for 2019 using the FIFO cost flow
a. 2,900,000
b. 2,600,000
c. 3,500,000
d. 3,100,000
Solution: Answer A
Net income – LIFO
Understatement inventory
2018 (1,400,000 – 900,000)
2019 (2,000,000 – 1,600,000)
Net income – FIFO
2018
2,750,000
2019
3,000,000
500,000
--
500,000
400,000
3,250,000
2,900,000
Problem 4
Extracts from the statement of financial position of Animus Company showed the following:
December 31, 2019
8,000,000
(1,800,000)
Development costs
Amortization
December 31, 2018
5,800,000
(1,200,000)
The capitalized development costs relate to a single project that commenced in 2016.
It has now been discovered that one of the criteria for capitalization has never been met.
1. What amount of pretax adjustment is required to restate retained earnings on January 1, 2019?
a. 6,200,000
b. 1,600,000
c. 4,600,000
d. -0-
2. What amount of the development costs should be expensed in 2019?
a. 5,800,000
b. 6,200,000
c. 1,600,000
Solution:
Question 1: Answer C
Development costs – December 31, 2018
Amortization
5,800,000
(1,200,000)
Carrying amount – December 31, 2018
4,600,000
d. -0-
The entity committed an error in capitalizing development costs.
Thus, the carrying amount of P4,600,000 on December 31, 2018 is treated as a prior period error in the
statement of retained earnings for 2019.
Question 2: Answer C
The remainder of the carrying amount of the development costs on December 31, 2019 should be
expensed in 2019.
Development costs – December 31, 2019
Amortization
Carrying amount – December 31, 2019
Carrying amount – December 31, 2018
Remaining carrying amount
8,000,000
(1,800,000)
6,200,000
4,600,000
1,600,000
Problem 5
Samar Company reported the following events during the year ended December 31, 2019:

A counting error relating to the inventory on December 31, 2018 was discovered. This required
reduction in the carrying amount of inventory at that date of P2,000,000.

The provision for uncollectible accounts receivable on December 31, 2018 was P500,000. During
2019, P800,000 was written off related to the December 31, 2018 accounts receivable.

The income tax rate is 30%.
What adjustment is required to restate retained earning on January 1, 2019?
a. 1,400,000
b. 2,000,000
c. 2,500,000
d. -0-
Solution: Answer A
The reduction in the carrying amount of inventory on December 31, 2018 of P2,000,000 is a prior period
error to be presented net of tax in the statement of retained earnings for 2019.
Prior period error
Income tax (30% x 2,000,000)
Net adjustment to retained earnings
2,000,000
(600,000)
1,400,000
The provision for uncollectible accounts receivable is a change in accounting estimate and therefore has
no effect on retained earnings.
The change in accounting estimate should be treated currently and prospectively.
Problem 6
After the issuance of the 2018 financial statements, Narra Company discovered a computational error of
P150,000 in the calculation of the December 31, 2018 inventory.
The error resulted in a P150,000 overstatement in the cost of goods sold for the year ended December
31, 2018.
In October 2020, the entity paid the amount of P500,000 in settlement of litigation instituted against it
during 2019.
The income tax rate is 30%.
In the financial statements for 2019, what is the adjustment of the retained earnings on January 1,
2019?
a. 150,000 credit
b. 105,000 credit
c. 350,000 debitd. 245,000 debit
Solution: Answer B
The inventory on December 31, 2018 was understated resulting to overstatement of cost of goods sold
and understatement of net income for 2018.
Thus, the retained earnings should be increased and credited directly.
Inventory – January 1, 2019
Retained earnings
Income tax payable – 30%
150,000
105,000
45,000
The settlement of the litigation in 2019 is included in the profit or loss of 2019.
Litigation loss
Cash
500,000
500,000
Problem 7
On January 1, 2015, Flax Company purchased a machine for P5,280,000 and depreciated it by the
straight-line method using an estimated useful life of eight years with no residual value.
On January 1, 2018, the entity determined that the machine had a useful life of six years from the date
of acquisition and the residual value was P480,000.
An accounting change was made in 2018 to reflect this additional information.
What is the accumulated depreciation for the machine on December 31, 2018?
a. 2,920,000
b. 3,080,000
c. 3,200,000
d. 3,520,000
Acquisition cost – January 1, 2015
Accumulated depreciation for 2015, 2016 and 2017 (5,280,000 / 8 x 3)
5,280,000
1,980,000
Carrying amount – January 1, 2018
3,300,000
Accumulated depreciation – January 1, 2018
Depreciation for 2018 (2,820,000 / 3 years)
1,980,000
940,000
Accumulated depreciation – December 31, 2018
2,920,000
Carrying amount – January 1, 2018
Residual value
3,300,000
(480,000)
Depreciable amount
2,820,000
Revised life
Years expired
6 years
3_____
Remaining revised life
3 years
Problem 8
Acute Company was incorporated on January 1, 2015. In preparing the financial statements for the year
ended December 31, 2017, the entity used the following original cost and useful life for the property,
plant and equipment:
Original cost
15,000,000
10,500,000
3,500,000
Building
Machinery
Furniture
Useful life
15 years
10 years
7 years
On January 1, 2018, the entity determined that the remaining useful life is 10 years for the building, 7
years for the machinery and 5 years for the furniture.
The entity used the straight-line method of depreciation with no residual value.
What is the total depreciation for 2018?
a. 2,650,000
b. 3,700,000
c. 2,550,000
d. 3,500,000
Solution: Answer A
Cost – January 1, 2015
Accumulated depreciation:
(15,000,000 / 15 x 3)
(10,500,000 / 10 x 3)
(3,500,000 / 7 x 3)
Building
15,000,000
Machinery
10,500,000
Furniture
3,500,000
3,000,000
3,150,000
1,500,000
Carrying amount – January 1, 2018
12,000,000
Depreciation for 2017
Building
(12,000,000 / 10)
Machinery
(7,350,000 / 7)
Furniture
(2,000,000 / 5)
1,200,000
1,050,000
400,000
Total depreciation for 2018
2,650,000
7,350,000
2,000,000
Problem 9
On January 1, 2016, Brazilia Company purchased for P4,800,000 a machine with a useful life of ten years
and a residual value of P200,000.
The machine was depreciated by the double declining balance and the carrying amount of the machine
was P3,072,000 on December 31, 2017.
The entity changed to the straight-line method of January 1, 2018. The residual value did not change.
What is the depreciation expense on this machine for 2018?
a. 287,200
b. 384,000
c. 460,000
d. 359,000
Solution: Answer D
Depreciation for 2018 (2,872,000 / 8 years remaining)
359,000
Carrying amount – January 1, 2018
Residual value
3,072,000
(200,000)
Depreciable amount
2,872,000
Straight-line rate (100% /10)
Double declining rate (10% x 2)
10%
20%
Acquisition cost – January 1, 2016
Accumulated depreciation – January 1, 2018
2016 (20% x 4,800,000)
960,000
2017 (20% x 3,840,000)
768,000
4,800,000
Carrying amount – January 1, 2018
3,072,000
1,728,000
Under PAS 16, paragraph 61, a change in depreciation method is accounted for as a change in
accounting estimate.
Problem 10
On January 1, 2017, Miller Company purchased a machine for P2,750,000. The machine was depreciated
using the sum of the years’ digits method based on a useful life of 10 years with no residual value.
On January 1, 2018, the entity changed to the straight-line method of depreciation. The entity can justify
the change.
1. What is the carrying amount of the machine on January 1, 2018?
a. 2,750,000
b. 2,250,000
c. 2,475,000
d. 1,800,000
c. 250,000
d. 275,000
2. What is the depreciation for 2018?
a. 180,000
b. 220,000
Solution:
Question 1: Answer B
SYD
( 1 + 2 + 3 + 4 + 5 + 6 + 7 + 8 + 9 + 10 )
55
Cost – January 1, 2017
Accumulated depreciation – January 1, 2018 (10 / 55 x 2,750,000)
Carrying amount – January 1, 2018
Question 2: Answer C
2,750,000
(500,000)
2,250,000
Straight-line depreciation for 2018 (2,250,000 / 9 years remaining)
250,000
Problem 11
Xavier Company purchased a machinery on January 1, 2015 for P7,200,000.
The machinery had a useful life of 10 years with no residual value and was depreciated using the
straight-line method.
In 2018, a decision was made to change the depreciation method from straight-line to sum of years’
digits method. The useful life and residual value remained unchanged.
1. What is the carrying amount of the machinery on January 1, 2018?
a. 7,200,000
b. 5,040,000
c. 5,760,000
d. 6,480,000
c. 916,360
d. 720,000
2. What is the depreciation for 2018?
a. 1,260,000
b. 1,440,000
Solution:
Question 1: Answer B
Cost – January 1, 2015
Accumulated depreciation – January 1, 2018 (7,200,000 / 10 x 3)
Carrying amount – January 1, 2018
7,200,000
2,160,000
5,040,000
Question 2: Answer A
SYD for the remaining life of 7 years ( 1 + 2 + 3 + 4 + 5 + 6 + 7 )
28
Depreciation for 2018 (5,040,000 x 7/28)
1,260,000