CORRECTION OF ERRORS

Errors can arise in respect to recognition,

measurement, presentation or disclosure of
elements of the financial statements.
a. Mathematical and clerical mistake
b. Misuse or omission of certain financial data
c. Failure to apply appropriate accounting method
d. Use of accounting system not generally accepted.
⚫ Classification of Errors:

a. Intentional/Unintentional
b. Material/Immaterial
c. May be revealed by trial balance or not
d. Affects only one period or several period
e. Affects SFPosition, SFPerformance or
both
f. Counterbalancing/Non-counterbalancing
Intentional – result of deliberate
act on the part of the officer or
employee. It is committed for the
purpose of concealing fraud.

Unintentional – generally result of

carelessness, ignorance, and
misinterpretation of the
accounting standards.
a. Material Errors - errors that have a
significant effect on the presentation,
recognition of the accounts in the
financial statements.

b. Immaterial Errors – errors that unlikely

influence the judgment of users of
financial data.
⚫ Errors revealed by trial balance or not
> Errors in addition/subtraction in the ledger
accounts
> Posting to the wrong side of the accounts
> Error of transplacement or slide
> Error of transposition
> Unequal debit/credit amounts
> Account and its balance is omitted or written twice
in the trial balance
SFPosition Error – arise due to the use of
wrong account title, wrong computation
and wrong application of standards.

SFPerformance Error - arise due to the use

of wrong account title.
Books are still open – correcting entry to
the accounts
Books are closed – correct the error in
the Retained Earnings account.
Counterbalancing – self correcting error.
a. income statement for 2 successive
periods are incorrect
b. SFPosition for the 1st period is incorrect
c. SFPosition for 2nd period is correct

Example:
a. Inventory, including purchases and sales
b. Prepaid Expenses – expense method
c. Accrued Expenses
d. Deferred Income – income method
e. Accrued Income
 Error Effects of Balances Effects of Balances
at the end of the at the end of the
period 1 period 2

1. Inventory at the end of period 1 COS – overstated COS – understated

is understated Net Income – understated Net income – overstated
Retained Earnings – understated Retained Earnings – no effect
Inventory - understated Inventory – no effect
2. Sales on account of period 1 was Sales – understated Sales – overstated
erroneously recorded in period 2 Net income – understated Net income – overstated
Retained Earnings – understated Retained Earnings – no effect
Accounts receivable – understated Accounts receivable – no effect
3. Purchases on account of period 1 Purchases – understated Purchases – overstated
was recorded in period 2 COS – understated COS – overstated
Net income – overstated Net income – understated
Retained Earnings – overstated Retained Earnings – no effect
Accounts payable - understated Accounts payable – no effect
4. Accrued income as of the end of Income – understated Income – overstated
period 1 was not recorded Net income – understated Net income – overstated
Retained Earnings – understated Retained Earnings – no effect
Accrued income - understated Accrued income – no effect
5. Accrued expenses as of the end Expenses – understated Expenses – overstated
of period 1 was not recorded Net income – overstated Net income – understated
Retained Earnings – overstated Retained Earnings – no effect
Accrued Expenses - understated Accrued Expenses – no effect
 Error Effects of Balances Effects of Balances
at the end of the at the end of the
period 1 period 2

5. Unearned income as of the Income – overstated Income – understated

period was not recorded (income Net income – overstated Net income – understated
method) Retained Earnings – overstated Retained Earnings – no effect
Unearned income - understated Unearned income – no effect
6. Earned portion of the unearned Income – understated Income – no effect
income at the end of the period was Net income – understated Net income – no effect
omitted (Liability method) Retained Earnings – understated Retained Earnings – understated
Unearned income - overstated Unearned income - overstated
7. Prepaid expense at the end of Expenses – overstated Expenses – understated
period 1 was not recorded (expense Net income – understated Net income – overstated
method) Retained earnings – understated Retained earnings – no effect
Prepaid expense - understated Prepaid expense – no effect
8. Expired portion of prepaid Expenses – understated Expenses – no effect
expense at the end of period 1 was Net income – overstated Net income – no effect
omitted (asset method) Retained earnings – overstated Retained earnings – overstated
Prepaid expense - overstated Prepaid expense - overstated
 Errors Assets Liabilities Equity Income Expenses Net
(including (including Income
sales) COS)
1. Sales on account was U NE U U NE U
omitted.
2. Purchases on account NE U O NE U O
is omitted but inventory
count is correct.
3. Cash purchases was NE NE NE NE NE NE
omitted and the same
not included in the
count.
4. Goods purchased and U U NE NE NE NE
in transit, FOB shipping
point. Purchases not
taken up and not
included in the count.
5. Goods sold, FOB U NE U NE O U
destination, not included
in the count.
6. Goods sold, FOB O NE O O O O
destination, not included
in the count. Sales was
recorded.

7. Goods out on O NE O O O O
consignment at another
store company. Sales
was recorded and the
inventory was not
included in the count.
8. Goods sold to another O NE O O NE O
Beg Inv. xx
+Purchases xx U
- End Inv (xx) O
COS xx U U NE
 Errors Assets Liabilities Equity Income Expenses Net
(including (including Income
sales) COS)
9. Goods made special O NE O NE U O
order to particular
customer was
segregated for
shipment. Inventory was
still included in the
count because it was not
yet shipped.
10. Goods sold on O NE O NE U O
installment basis. The
sale was recorded but
the inventory is still
recorded in the count.
⚫ Non-counterbalancing - errors that do not correct itself for
the next accounting period. Instead, the error is carried
forward to the succeeding periods until a correcting entry is
prepared.

a. SFPerformance for the 1st period is incorrect

b. SFPerformance for the 2nd period is correct
c. SFPosition for the 1st and succeeding periods is incorrect

Example:
a. Doubtful accounts
b. Depreciation and amortization
c. Prepayments – asset method
d. Deferrals – liability method
⚫ Sample Problem:
T Company uses the calendar year accounting period. It has a net income of P131,000 for 2017 and P172,500
for 2018. The balance of Retained Earnings as of January 1, 2019 is P204,900.

Prior to preparation of the financial statements for 2019, the following errors committed in 2017, 2018 and
2019 are discovered, before the nominal accounts were closed:

a. Merchandise Inventory as of December 31, 2017 was overvalued by P36,000.

b. Merchandise Inventory as of December 31, 2018 was undervalued by P48,000.
c. Cash sales in 2017 for P50,000 was taken up in the records in 2018.
d. Sales on account in 2019 of P14,000 was taken up in 2018.
e. Purchases on account in 2018 of P40,000 was taken up in 2017.
f. Cash purchases in 2018 of P24,000 was taken up in 2019.
g. Depreciation of the building in 2017 was erroneously overstated by P30,000.
h. Depreciation of the office equipment in 2018 was erroneously understated by P12,000.
i. At the end of 2017, accrued commission income of P5,000 was taken up as P7,000.
j. At the end of 2018, accrued interest income of P2,000 was recorded as P1,500.
k. Prepaid taxes as of December 31, 2017 of P8,000 was not recognized.
l. The balance of prepaid advertising, amounting to P3,600 was fully expired as of December 31, 2018.
m. Unearned rent income of P7,500 was overlooked on December 31, 2017.
n. Earned service income in 2018 was overstated by P1,000.

Requirement: Compute the corrected net income for 2017 and 2018 and the correct amount of Retained
Earnings as of December 31, 2019.