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Chapter 22: Question 3 (page 1305)
Discuss briefly the three approaches that have been suggested for reporting changes in accounting principles.
The three approaches are currently, retrospectively, and prospectively.
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Holder-Webb Company began operations on January 1, 2015, and uses the average-cost method of pricing inventory. Management is contemplating a change in inventory methods for 2018. The following information is available for the years 2015鈥�2017. Net Income Computed Using Average-Cost Method FIFO Method LIFO Method 2015 \(15,000 \)19,000 $12,000 2016 18,000 23,000 14,000 2017 20,000 25,000 17,000 Instructions (Ignore all tax effects.) (a) Prepare the journal entry necessary to record a change from the average-cost method to the FIFO method in 2018. (b) Determine net income to be reported for 2015, 2016, and 2017, after giving effect to the change in accounting principle. (c) Assume Holder-Webb Company used the LIFO method instead of the average-cost method during the years 2015鈥� 2017. In 2018, Holder-Webb changed to the FIFO method. Prepare the journal entry necessary to record the change in principle.
Equipment was purchased on January 2, 2017, for $24,000, but no portion of the cost has been charged to depreciation. The corporation wishes to use the straight-line method for these assets, which have been estimated to have a life of 10 years and no salvage value. What effect does this error have on net income in 2017? What entry is necessary to correct for this error, assuming that the books are not closed for 2017?
The before-tax income for Lonnie Holdiman Co. for 2017 was \(101,000 and \)77,400 for 2018. However, the accountant noted that the following errors had been made:
1. Sales for 2017 included amounts of \(38,200 which had been received in cash during 2017, but for which the related products were delivered in 2018. Title did not pass to the purchaser until 2018.
2. The inventory on December 31, 2017, was understated by \)8,640.
3. The bookkeeper in recording interest expense for both 2017 and 2018 on bonds payable made the following entry on an annual basis. Interest Expense 15,000 Cash 15,000
The bonds have a face value of \(250,000 and pay a stated interest rate of 6%. They were issued at a discount of \)15,000 on January 1, 2017, to yield an effective-interest rate of 7%. (Assume that the effective-yield method should be used.)
4. Ordinary repairs to equipment had been erroneously charged to the Equipment account during 2017 and 2018. Repairs in the amount of \(8,500 in 2017 and \)9,400 in 2018 were so charged. The company applies a rate of 10% to the balance in the Equipment account at the end of the year in its determination of depreciation charges.
Instructions
Prepare a schedule showing the determination of corrected income before taxes for 2017 and 2018
Identify and describe the approach the FASB requires for reporting changes in accounting principles.
Botticelli Inc. was organized in late 2015 to manufacture and sell hosiery. At the end of its fourth year of operation, the company has been fairly successful, as indicated by the following reported net incomes.
2015 \(140,000a 2017 \)205,000
2016 160,000b 2018 276,000
a Includes a \(10,000 increase because of change in bad debt experience rate.
bIncludes a gain of \)30,000.
The company has decided to expand operations and has applied for a sizable bank loan. The bank officer has indicated that the records should be audited and presented in comparative statements to facilitate analysis by the bank. Botticelli Inc. therefore hired the auditing firm of Check & Doublecheck Co. and has provided the following additional information.
1. In early 2016, Botticelli Inc. changed its estimate from 2% of sales to 1% on the amount of bad debt expense to be charged to operations. Bad debt expense for 2015, if a 1% rate had been used, would have been \(10,000. The company therefore restated its net income for 2015.
2. In 2018, the auditor discovered that the company had changed its method of inventory pricing from LIFO to FIFO. The effect on the income statements for the previous years is as follows.
2015 2016 2017 2018
Net income unadjusted鈥擫IFO basis \)140,000 \(160,000 \)205,000 \(276,000
Net income unadjusted鈥擣IFO basis 155,000 165,000 215,000 260,000
\) 15,000 \( 5,000 \) 10,000 \( (16,000)
3. In 2018, the auditor discovered that:
(a) The company incorrectly overstated the ending inventory (under both LIFO and FIFO) by \)14,000 in 2017.
(b) A dispute developed in 2016 with the Internal Revenue Service over the deductibility of entertainment expenses. In 2015, the company was not permitted these deductions, but a tax settlement was reached in 2018 that allowed these expenses. As a result of the court鈥檚 finding, tax expenses in 2018 were reduced by $60,000.
Instructions
(a) Indicate how each of these changes or corrections should be handled in the accounting records. (Ignore income tax considerations.)
(b) Present net income as reported in comparative income statements for the years 2015 to 2018
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