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Lucubrate Magazine, Issue 35, August 3rd, 2018
Changes in Accounting Estimates and Errors. The article looks into some rules when it comes to Policies, Changes, Estimates, and Errors
- Accounting Series – article No: 16
- Accounting Theory – Advanced Part 6
By Peter Welch, Georgia, CEO GlobalCfo.LLC.
Let’s now delve into IAS 8 or Accounting Policies, Changes in Accounting Estimates and Errors.
Relative to the IASB (policies and estimates): Definitions (para 5),
Accounting Policies
The following terms are used in this Standard with the meanings specified:
Accounting policies are the specific principles, bases, conventions, rules, and practices applied by an entity in preparing and presenting financial statements.
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.
However, can you frequently change or amend accounting policies, I don’t think so! Circumstantially you can only change accounting policies when:
- IFRS requires a change
- Improves ‘faithful representation’
Sometimes transitional implementation arrangements exist, codified by other IFRSs, but ordinarily, changes in accounting policies are retrospectively implemented and in accordance with the Framework provides for comparability, a key feature. But what are accounting policies:
Illustration: PricewaterhouseCoopers 2017
Changes in Accounting Estimates
But how do we identify and distinguish a change in accounting policy? Often it can become blurred as to whether there is a change in accounting policy or an accounting estimate? As suggested last week, though IAS 8 seems to contain three codifications (policies, estimates, and errors), there is potentially the risk of a wrong classification as the concepts can overlap.
Illustration: Courtesy of IFRSbox
Changes in Accounting Estimates
-Some financial statement items can only be estimated, rather than measured precisely. These are forecasts of the future.
– Estimation involves judgments based on the latest available information. For example, estimates may be required for loan loss provisions, inventory obsolescence, fair values, useful lives and warranty obligations.
-An estimate may need revision if changes occur as a result of new information or experience.
-The revision of an estimate does not relate to prior periods and is not the correction of an error. Financial information presented for prior periods should not be restated.
-IFRS consider prior-period financial statements to have been properly prepared, even though estimates are revised in a subsequent period.
-The effect of revisions to estimates should be included in income in the period of the change, and future periods where relevant.
IFRS Workbook 2017 IAS 8
A change in accounting policy can be established by the following tests. The accounting policies chosen by an entity should reflect transactions and events through:
-recognition e.g. capitalizing or writing off certain types of expenditure);
-measurement (e.g. measuring non-current assets at cost or valuation); and
-presentation e.g. classification of costs as cost of sales or administrative expenses).
If at least one of these criteria is changed, then there is a change in accounting policy.
Illustration: Emile Woolf International Ltd, Essential IFRS 2017
Now, for ‘errors’!
Relative to the IASB (errors) para 41:
Errors can arise in respect of the recognition, measurement, presentation or disclosure of elements of financial statements. Financial statements do not comply with IFRSs if they contain either material errors or immaterial errors made intentionally to achieve a particular presentation of an entity’s financial position, financial performance or cash flows. Potential current period errors discovered in that period are corrected before the financial statements are authorized for issue.
However, material errors are sometimes not discovered until a subsequent period, and these prior period errors are corrected in the comparative information presented in the financial statements for that subsequent period
(see paragraphs 42–47).
Relative to ‘materiality’ you may recall Article 15, last week, referencing “Financial Shenanigans (How to detect accounting gimmicks and fraud in financial reports)
Materiality
The nature and materiality of the information affect its relevance, and in some cases, the nature of information alone is sufficient to determine its relevance. Information will also be material where the nature and circumstances of the transaction or event are such that users of the financial statements should be made aware of them. Determining whether the information is material or not is a matter of professional judgment. The test is whether omission or misstatement of the information could influence the decisions a user of the financial statements might make. The following items will often qualify as material, regardless of their individual size:
1 related party transactions;
2 a transaction or adjustment that changes a profit to a loss, and vice versa;
3 a transaction or adjustment that takes an undertaking from having net current assets to net current liabilities and vice versa;
4 a transaction or adjustment that affects an undertaking’s ability to meet analysts’ consensus expectations;
IFRS Workbook 2017 IAS 8
To be continued
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Acknowledgments:
- IFRS Workbook 2017 IAS 8. The set of books provides a book for every standard. Our acknowledgment to Mr. Prof. Robin Joyce.
- Thanks also to IFRSbox and Silvia for her valuable contribution as a reference source. Ms. Silvia Mahútová runs the website ifrsbox.com dedicated to helping people understand and learn IFRS in an easy way. In 2018, her website has over 130 000 visits per month and from more than 130 countries in the world.
- PricewaterhouseCoopers: This publication (VALUE IFRS Plc.) presents annual financial reports of a fictional listed company, and illustrates a model of IFRS financial reporting requirements. All tables/financial statements/notes used are shown without any modification.
- Emile Woolf International Ltd, Essential IFRS 2017. Emile Woolf International is an international global training and publishing provider. Over 100,000 people have studied with us and over 80,000 people have used our textbooks to help them pass Professional examinations.
(Illustration on top: Pixaby)
Lucubrate Magazine, Issue 35, August 3rd, 2018
Categories: Accounting, Law, Magazine
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