FAR 3A - Estimate vs Principle Flashcards
(23 cards)
When are prior-period adjustments to retained earnings required?
📅 Only when prior-year errors affect the beginning balance of retained earnings (e.g., incorrect net income).
🚫 Not required if errors do not affect net income, such as:
Improper valuation of AFS securities (impacts OCI).
Balance sheet misstatements that don’t affect prior-year profits.
What if it’s unclear whether a change is an estimate or principle?
Treat it as a change in estimate
What does FASB mandate for voluntary changes in accounting principle?
✅ Retrospective Approach:
The cumulative effect is reported as an adjustment of the beginning retained earnings of the earliest year presented.
🚨 Exception:
If a new FASB pronouncement requires the change to be included in the net income of the year of change, follow that guidance.
How are changes in accounting estimates recognized?
📅 Current & Future: Recognized prospectively in the current and future years.
What is the approach for changes in accounting principle?
🔄 Retrospective Approach:
Adjust the beginning retained earnings of the earliest year presented.
⚠️ Exception:
If a new FASB statement requires recognition in net income, follow that guidance.
How are changes in accounting principle that are inseparable from accounting estimates handled?
🔧 Treated as Estimate:
Use the prospective approach for recognition.
What are the three classifications of accounting changes?
1️⃣ Principle Change:
Adopting a new accounting principle.
2️⃣ Estimate Change:
Revising estimates based on new information.
3️⃣ Reporting Entity Change:
Altering the combination of companies in the reporting entity.
What is a change in accounting principle?
⚙️ Definition: Adopting a new principle different from the one previously used.
Give an example of a change in accounting principle.
📦 Change from FIFO to LIFO inventory method.
🏠 Change from straight-line to declining balance depreciation method.
💡 Change from cash basis to accrual basis accounting.
📑 Change from completed-contract to percentage-of-completion method for long-term contracts.
📊 Change from fair value to the equity method for investments.
💸 Change from direct write-off to allowance method for bad debts.
📝 Change from full-cost to successful-efforts method in oil and gas accounting.
🗃️ Change from expensing R&D costs to capitalizing them.
📅 Change from recognizing revenue at point of sale to recognizing it over time.
🏢 Change from cost method to revaluation method for fixed assets.
What causes changes in accounting estimates?
🌟 New Events:
Circumstances change or new events occur.
📊 Experience:
Gaining more insight or data over time.
📚 Information:
Acquiring additional or improved information.
Give examples of changes in accounting estimates.
📅 Changes in the estimated useful life of assets.
💸 Changes in the estimate of uncollectible receivables.
🏠 Changes in the depreciation method.
📊 Changes in the allowance for obsolete or slow-moving inventory.
📦 Changes in the estimated warranty liability.
🌱 Changes in estimated environmental remediation costs.
🔧 Changes in the expected rate of product returns.
🏢 Changes in the estimated lease term.
💡 Changes in the estimated salvage value.
🌟 Changes in the estimated cost of dismantling or removing assets.
What are changes in reporting entity?
🏛️ Occurs when the combination of companies making up a reporting entity changes between periods.
Give examples of changes in reporting entity.
📑 Consolidation: Switching from individual to consolidated statements.
🔗 Subsidiary Adjustment: Changing the subsidiaries included in the reporting entity.
🏢 Including a newly acquired subsidiary in consolidated financial statements.
🔄 Changing from separate financial statements to consolidated statements.
📑 Including a previously unconsolidated variable interest entity (VIE) in the consolidated financial statements.
💼 Combining financial statements of entities under common control.
🗃️ Excluding a subsidiary from consolidation after divestiture.
🌐 Changing the entities included in a combined financial statement.
🔗 Including a previously excluded joint venture in consolidated financials.
📊 Reporting a business combination using a new parent company as the reporting entity.
📝 Reorganizing the reporting structure of a group of entities under common management.
🚀 Including a newly formed entity as part of the reporting group.
What are examples of accounting errors?
📝 Math Errors: Incorrect calculations or data entry.
⚠️ Misuse of Facts: Applying incorrect information during recording.
❌ Non-GAAP to GAAP: Changing from a non-GAAP principle (e.g., cash basis) to GAAP (e.g., accrual basis).
How should corrections of accounting errors be handled?
🔄 Restate Prior Years:
Adjust the financial statements of all prior years presented.
🗃️ Update Balances:
Correct the carrying amounts of assets, liabilities, and retained earnings.
✏️ No Current Year Effect:
Adjustments don’t affect the current year income statement.
Do errors in reporting OCI affect the beginning balance of retained earnings?
❌ No Impact:
OCI errors do not change the beginning balance of retained earnings.
🔁 Accumulated OCI Impact:
They affect accumulated OCI balances instead.
How to correct an inventory error when inventory was overstated last year by 30K and this year by 20K?
🔻 Overstatement Decrease:
COGS is overstated by 10K in the current year since the error decreased.
What to do when it’s impossible to determine whether a change is an estimate or a principle?
⚖️ Treat as Estimate:
Classify the change as a change in estimate.
How should an error in a prior period be corrected?
📝 Restate All Prior Periods:
Revise the financial statements of all prior periods presented.
📈 Adjust Beginning Balances:
Modify the opening balances of retained earnings and other affected accounts.
🚫 No Effect on Current Income:
No adjustment in the current year income statement.
How to correct an error in a prior period?
🔄 Reverse the Entry:
Debit or credit the balance sheet account as needed.
💰 Adjust Retained Earnings:
Make the opposite entry to retained earnings.
Example: Overstated depreciation - Debit accumulated depreciation, credit retained earnings.
What is the approach for changes in reporting entity?
🔄 Retrospective Application:
Restate all prior period financial statements as if the new reporting entity structure had been in place throughout the entire period presented.
📑 Consistency in Presentation:
Present the financial information consistently for all periods to reflect the newly combined or reorganized entity.
📝 Disclosure Requirement:
Clearly disclose the nature and reason for the change in the notes to the financial statements, including the impact on financial positions and results.
🗃️ Adjust Beginning Balances:
Adjust beginning balances of retained earnings and other affected accounts to reflect the revised reporting entity.
📝 Revised Comparative Information:
Include comparative information for prior periods as if the new reporting entity existed in those periods.
Why might prior period financials presented in a current 10-K differ from the previously filed 10-K for that period?
🔄 Retrospective Restatement:
If there was an acquisition, prior periods are restated in the current 10-K to reflect the acquisition as if it occurred at the beginning of the earliest period presented.
📑 No Amendment:
The originally filed 10-K remains unchanged, causing a difference between the original filing and the restated figures.
How are prior period comparables presented in Q1 after an acquisition in Q4?
🔄 Restated Comparables:
The Q1 of the next year (Year 3) 10-Q will use the restated prior year Q1 (Year 2) data as shown in the Year 2 10-K, not the originally filed Q1 10-Q from the previous year.
📑 Consistency:
This ensures that the comparative data in Q1 (Year 3) matches the restated figures from the most recent 10-K.
