Error Correction (Sample Problem) – counterbalancing errors

kuya joseph, may tanung po ako regarding sa ERROR CORRECTION PO. anu po ang sagot nyo dito sa dalawang magkaibang tnung na ito. ung isa po kasi expense method yung gamit, yung isa naman po asset method yung gamit. nalilito lang po kasi ako kasi magkaiba po kame ng sgot ng klasmate ko. sana po matulungan nyo ako. salamat!

eto po ung tnung:

4. PREPAID EXPENSES: KENZO CO. entered into a contract with an advertising agency to provide and develop promotional ads for its products. On August 31, 2010, a total of P18,000 was paid to the agency and this was booked as expenses. The ad will run for a period of one year. No adjustment was made as of the year end.

2010 2011
Expense
Prepaid Expenses
Net income
RE before closing
RE after closing

5. PREPAID EXPENSES: On March 1, 2010, BRUCE CO., paid P36,000 for 12 months rent in advance and the entire amount was included in the Prepaid rent account and was charged to expenses only on the following year.

2010 2011
Expense
Prepaid Expenses
Net income
RE before closing
RE after closing

salamat po ulit in advance!:D

This was posted by chibi

Kenzo Co. Problem:

Base sa problem, it used the EXPENSE method. The method tells you how the orinal entry was made.  So, kung EXPENSE method ang way ng entry, ang original entry na nagawa ay charge the whole thing sa expense and cash:

Ang problema ngayon, hindi naman dapat lahat ay nai-expense dahil magbebenefit ka sa expense na ito for a total of twelve months at four months palang ang nakakalipas. Dapat yung hindi pa nau-use up na part ay irecognize as a Prepaid Advertising Expense. So ganito ang solution dyan:

Ok, since walang adjustment na ginawa, mali ang balanse ng mga accounts. Base sa solution, at the end of the year dapat 6,000 lang ang nirecognize na expense since 4 months palang naman ang nakakalipas. 18,000 * 4/12 = 6,000. Since walang adjustment na nagawa sa original entry, sobra sobra yung expense na nirecord mo ng 12,000 kaya on year 2010, OVERSTATED ang expense mo at Understated naman ang Retained Earnings mo (since sa RE mo icclose ang Net Income mo na understated dahil sa sobra sobrang expense). At the same time, since wala kang nirecognize na Prepaid Expense, UNDERSTATED naman ang asset mo at the end of 2010.

On the following year 2011, since wala kang prepaid na nirecognize, syempre, wala ka ring expense na nirecognize. So, Understated naman ang expense this year ng 12,000 at overstated ang Net Income mo. By this time however, ang net effect sa Retained Earnings mo ay zero na, meaning fairly stated na ang Retained Earnings mo. Bakit? Kasi Counterbalancing Error ang nangyari. In effect kasi, dapat by year 2011 lahat ng expense mo nasa Retained Earnings mo na which happened in 2010. So by year 2011, fairly stated na ang RE mo. Same thing with your Prepaid Expense. By year 2011, dapat zero na ang Prepaid Expense mo. Since wala ka naman talagang nirecognize na Prepaid Expense to begin with, we can say that your Total Assets by year 2011 are fairly stated.

Bruce Co. Problem

Base sa problem, ASSET METHOD ang ginamit na pagrerecord. Sa asset method, the whole payment was charged to Prepaid Expense (the asset) and Cash. So this time naman, lahat nirecord sa Prepaid Expense, yung nga lang ulit, hindi inadjust at the end of the year and then the following year, inexpense lahat. So sa orignal entry, ganito ang nangyari:

So on the first year wala kang expense na nirecognize however 10/12 of the total payment should’ve been recorded as an Expense kasi 10 months ang lumipas since the rent started. So, eto ang analysis:

Since wala kang nirecognize na expense, kulang/understated ang Expense mo ng 30,000. It was computed as: 36,000 * 10/12 = 30,000.  In effect, Overstated ang Retained Earnings mo ng 30,000. Since wala kang adjusting entry na ginawa, sobra sobra naman yung Prepaid Rent mo ng 30,000 and in effect, 30,000 Overstated ang Asset mo.

On year 2011 naman, lahat ng expense nirecognize mo. Dapat 6,000 lang ang expense mo on 2011. Since you charged the whole 36,000 to expense on year 2011, overstated ang expense mo by 30,000 and understated ang Net Income mo ng 30,000.  However, your Retained Earnings this year will be fairly stated. Bakit? Kasi by this year the whole 36,000 ng rent ay naicharge na sa expense and eventually closed to Retained Earnings. Same thing with your Prepaid Rent, by this year dapat naman talaga ay zero na ang balance nya since the rent ends this year.

If there are any further question, please post your comments at the bottom of this page. Thanks!! 🙂