Chapter 20, Problem 20.12P

To determine

Accounting changes:

Accounting changes are the alterations made to the accounting methods, accounting estimates, accounting principles (or) the reporting entity.

To identify: Accounting changes or an error.

Answer to Problem 20.12P

(a) This is a correction of an error:

Account title and Explanation	Debit ($)	Credit ($)
Prepaid insurance (1)	21,000
Retained earnings (2)		21,000
(To record the correction of an error).
Insurance expense (3)	7,000
Prepaid insurance		7,000
(To record 2016 adjusting entry).

Table (1)

Explanation of Solution

Prepaid insurance is an asset. There is an increase in asset value. Therefore, it is debited.

• Retained earnings are liability. There is an increase in liability value. Therefore, it is credited.
• Insurance expense is an expense. There is an increase in liability value. Therefore, it is debited.
• Prepaid insurance is an asset. There is a decrease in assets value. Therefore, it is credited.

Working notes:

Calculate prepaid insurance:

$\begin{array}{l}\text{Prepaid insurance = }\frac{\text{Amount }\times \text{ Number of years unexpired}}{\text{Total number of years}}\\ =\frac{\$3\text{5,000 }\times \text{ 3 (2018}-2020)}{5}\\ \text{ Prepaid expense }=\$21,000\end{array}$

                                                                                                                                  (1)

Calculate retained earnings:

$\begin{array}{l}\text{Retained earnings = Amount }-\frac{\text{Amount }\times \text{ Numder of years unexpired}}{\text{ Total number of years}}\\ =\$35,000-\frac{\left[\$35,000\times \text{ 2(2016}-2017)\right]}{5}\\ \text{ Retained earnings }=\$21,000\end{array}$

                                                                                                                                 (2)

Calculate insurance expense:

$\begin{array}{l}\text{Insurance expense = }\frac{\text{Amount}}{\text{Total number of years}}\\ =\frac{\$35,000}{5}\\ \text{ Insurance expense}=\$7,000\end{array}$

                                                                                                                                   (3)

1. (a) This is a change in estimate:

Account title and explanations	Debit ($)	Credit ($)
Depreciation expense (1)	15,000
Accumulated depreciation		15,000
(To record depreciation adjusting entry for 2016).

Table (2)

• Depreciation expense is an expense. There is a decrease in liability value. Therefore, it is debited.
• Accumulated depreciation is a contra asset. There is a decrease in asset value.

Working notes:

Calculate annual depreciation after the estimate change:

Particulars	Amount ($)
Cost	600,000
Less: Depreciation to date $\text{(\$12,500 }\times \text{ 10Years)}$	(125,000)
Un depreciated cost	475,000
Less: New estimated salvage value	(25,000)
To be depreciated	450,000
New annual depreciation $\left(\frac{\text{\$450,000 }}{30\text{ (40 }-\text{10)}}\right)$	15,000

Table (3)

(c) This is a correction of an error:

Account title and Explanation	Debit ($)	Credit ($)
Retained earnings	25,000
Inventory		25,000
(To record the correction of an error in inventory).

Table (4)

• Retained earnings are liability. There is a decrease in liability value. Therefore, it is debited.
• Inventory is an asset. There is a decrease in asset value. Therefore, it is credited

1. (d) This is a change in accounting principle and is reported retrospectively:

Account title and Explanation	Debit ($)	Credit ($)
Inventory	960,000
Retained earnings		960,000
(To record a change in accounting principles in inventory).

Table (5)

• Inventory is an asset. There is an increase in asset value. Therefore, it is debited.
• Retained earnings are liability. There is an increase in liability value. Therefore, it is credited.

1. (e) This is a correction of an error:

Account title and Explanation	Debit ($)	Credit ($)
Retained earnings	15,500
Compensation expense		15,500
(To record the compensation expense).

Table (6)

• Retained earnings are liability. There is a decrease in liability value. Therefore, it is debited.
• Compensation expense is a liability. There is an increase in liability value. Therefore, it is credited.

1. (f) This is a change in estimate resulting from a change in accounting principle and is accounted for prospectively.

Account title and Explanation	Debit ($)	Credit ($)
Depreciation expense (1)	57,600
Accumulated depreciation		57,600
(To record depreciation).

Table (7)

• Depreciation expense is an expense. There is a decrease in liability value. Therefore, it is debited.
• Accumulated depreciation is a contra asset. There is a decrease in asset value.

Working notes:

Particulars	Amount ($)
Undepreciated cost	460,800
Less: Residual value	(0)
	460,800
Depreciated over remaining 8 years
Annual straight line depreciation 2016-2023 $\left(\frac{\text{\$460,000}}{8}\right)$	57,600

Table (8)

1. (g) This is a change in estimate:

Account title and Explanation	Debit ($)	Credit ($)
Warranty expense $\text{(75\% }\times \text{ \$4,000,000)}$	30,000
Warranty liability		30,000
(To record the change in estimate).

Table (9)

• Warranty expense is an expense. There is an increase in liability value. Therefore, it is debited.
• Estimated warranty liability is a liability. There is an increase in liability value. Therefore, it is credited.